WTF Are ETFs and Why Do I Care?

Everyone’s out there talking about low-cost investing this, and robo-advisor that, so you’ve likely heard of ETFs – but if you know more about E.T. than ETFs, it’s time to phone home … I mean, listen up.

ETFs are the building block of a huge number of low-cost investing approaches, and, in case you missed the memo, low-cost investing is exactly the kind of investing you want. When you compare the teeny fees associated with a low-cost portfolio, which run anywhere from 0.1 percent to one percent, to the ultra-high-cost mutual funds of the past, lowering your investment fees will save you thousands of dollars over your lifetime.

So what are ETFs, exactly?

Exchange traded funds (ETFs) are kind of like the best things about mutual funds, index funds and stocks – all rolled into one.

Just like mutual funds, ETFs are a single product you can buy, that’s made up of an underlying bundle of stocks. Depending on which one you buy, you might be investing in 20 stocks, 200 stocks or more! This makes sure you’re not betting your life savings on the performance of a single stock, and it’s a quick way to diversify your investments.

Similar to index funds, ETFs are usually designed to track – not beat! – the performance of a specific stock index. (Quick explainer time: A stock index is something like the DOW Jones, or the S&P500, which aims to represent the market as a whole for a specific geographic area.) By aiming to match the market, they can keep their costs way down, and pass those savings onto you with lower fees.

"So, basically ETFs give you a diversified stock portfolio, at a low cost, and they’re easy to buy and sell."

Last but not least, ETFs also have a lot in common with individual stocks, since they trade like individual stocks. They’re easy to buy and sell throughout the day, and their prices fluctuate based on demand. So, basically ETFs give you a diversified stock portfolio, at a low cost, and they’re easy to buy and sell. Best of all three worlds, amirite?

Plus, since ETFs have become so widely available, you can find ETFs that track just about anything, not just the major indexes. Want an ETF that tracks the American defense industry, or the retail industry? You can find both of those, and many more, for ultra-low fees.

How did this all start?

There’s a bit of debate over which ETF was truly “first”, but the first one that was widely successful – and still around today! – was the S&P Depository Receipt (called SPDR, or “spider,” for short). It came around in 1993, and offered people the opportunity to track the performance of the S&P 500 for a shockingly low fee.

It took a bit of time for the ETF trend to catch on, but catch on it did. Today, you can buy ETFs that track just about anything, and range from super-simple to “better leave that to the experts.”

How many ETFs are out there?

There are thousands of ETFs available today, built to mirror just about any stock index or specific market performance of a bundle of stocks. You can find ETFs built to invest in almost any sector if you look hard enough.

So while ETFs are the foundation of a lot of set-it-and-forget-it investing approaches, they can also play a part in a more hands-on, tailored investment portfolio if you’re about that life.

How do I buy and sell ETFs?

If you want to DIY your investment portfolio, you’ll need an online brokerage to buy and sell ETFs – and you’ll need to be ready to rebalance and monitor your portfolio yourself.

If you’d rather be all “Look ma, no hands!” with your investments, almost every robo-advisor uses ETFs as a major component of their portfolios, and chooses them for you. They do all of the dirty work, you get to sit back and know your money is invested in ways that make sense for you.

(P.S. For more on robo-advisors, check out our in-depth feature – and if you want to dive in, we’ve also taken closer looks at Betterment, Wealthfront and WiseBanyan.)

Do I need a lot of money to invest in ETFs?

How much money you need to invest in ETFs depends on your investment approach.

Many robo-advisors will get you up and running with as little as $10, but some online brokerages have minimum investments that range from a few hundred to a few thousand dollars. You’ll need to choose a platform that fits with how much you have to invest, but luckily, there are so many that you’re bound to find at least a few that meet your needs.

 

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*This piece is meant only to expand awareness of available financial tools and products and should not be considered an official endorsement of the product or its outcomes by GenFKD.


What Is a Fiduciary and Why Do I Need One?

When you’re just getting started investing your money in the stock market, there’s a good chance that you’ll be working with a person or a company to help you invest. If you are, there’s one word you need to know: fiduciary.

It sounds jargon-y, which can be off-putting, but understanding what a fiduciary is (and how to figure out if you’re working with one) can save you tens of thousands of dollars over your investing “career.”

And, in my humble opinion, anything that saves me tens of thousands of dollars is worth a few minutes of my time.

What does “fiduciary” mean?

In the most basic terms, a “fiduciary” is someone who is legally obligated to act in your best interests when they’re giving you advice, or acting on your behalf. When it comes to someone who’s managing your money, that sounds like a good thing, right?

Well, it turns out, not everyone who manages your investments is required to meet that standard. Instead, the current status quo is that money managers need to recommend “suitable” options for you – not “the best” options for you.

That distinction seems small, but that small difference is where commission fees and conflicts of interest sneak in to snipe your savings.

Here’s an example: You tell your bank’s investment advisor everything they need to know about your risk tolerance, your goals and your investment timeline. Now it’s time for them to recommend some investments for you, and they have two options.

Option number one is a low-cost index fund that suits your goals and your risk tolerance, and costs a paltry 0.3 percent of your invested assets per year.

Option number two is a mutual fund that is just as suitable for your goals and your risk tolerance, but costs a whopping 2.5 percent of your invested assets per year. And if you go with this option, your advisor gets a pretty sweet kickback from the mutual fund company.

If you’re working with a fiduciary, it’s clear that the lowest-cost option is in your best interest, because they’re basically the same product. But if your advisor isn’t held to a fiduciary standard, they’re well within their rights to advise you to take the high-cost mutual fund, since it’s still suitable for your situation.

Yikes.

So … why is this still a thing?!

Well, a bunch of people are trying to make sure that it’s not.

The Department of Labor passed a rule in 2016 to make sure that anyone who manages money in registered retirement account like a 401K or an IRA would have to be a fiduciary. They’re trying to make sure that people’s life savings don’t get eaten up by high fees and advisor commissions.

If that seems like a bit of an overreaction, a government report pegged the cost of those fees and commissions at $17 billion. Every year. So yeah, there’s some savings-eating going on.

This rule is intended to protect your retirement dollars that live in registered accounts, so it doesn’t apply to taxable accounts. Basically, if your investments aren’t in an account that has a fancy government acronym, it’s not protected under this rule, so for those accounts your advisors only have to meet the suitability standard.

So when does this all go down?

The general applicability for the fiduciary standard for your retirement accounts happens on April 10, 2017, but as with any kind of broad legislation, there are conditions about who needs to comply by then – some firms and companies are being given a longer timeline to adjust.

There have also been questions raised about whether this rule will actually happen. Republicans have opposed the fiduciary standard from Day One, on the grounds that it would make financial planning more expensive for people, and be tough on small businesses that rely on the commission business model.

But luckily, even if the rule is rolled back, there’s an easy way to find out whether or not your money managers are acting in your best interest.

Talk to the people who manage your money

The easiest way to find out if your advisor is acting as a fiduciary is to just ask them. I know, simple, right?

"If you get any answer other than 'Yes, I am acting as a fiduciary,' they’re not."

If you get any answer other than “Yes, I am acting as a fiduciary,” they’re not. If they say yes, however, you should ask to see documentation – aka, get it in writing. If they’re really acting to a fiduciary standard, they’ll have no problem with that.

But if they’re not acting as a fiduciary? They won’t give you paper copies of something that says they are, because it’s a legal standard. You could sue them if they confirmed they were a fiduciary and then, you know, weren’t.

If all else fails, get active

Listen, you might be in a situation where your advisor isn’t a fiduciary (yet!), and you’re stuck paying ultra-high-fees on your investments. That’s the worst case, but thanks to technology, you’ve got options. You can check out robo-advisors, which charge low fees to manage your money, and you can even look into buying ETFs and index funds yourself when you’re ready.

There’s no reason to stay locked in with a non-fiduciary advisor these days, even if you aren’t willing to pay up in cash for unbiased advice just yet.

For more on the difference between financial advisors and fiduciaries, check out GenFKD’s interview with Elliot Weissbluth.

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