Demystifying ETFs: A Comprehensive Guide for Beginners

Kiplagat Seroney
6 min readNov 26, 2023

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Photo by Tyler Prahm on Unsplash

Outline

  1. Introduction to ETFs: What Are They?
  2. Types of ETFs: Exploring the Variety
  3. Industry and Sector ETFs: Understanding the Basics
  4. Deep Dive: The SPY ETF and Its Sector Holdings
  5. Case Studies: iShares Global Healthcare ETF (IXJ) and CORN
  6. The Benefits of ETFs: Why Consider Them for Your Portfolio
  7. Conclusion: Embracing ETFs in Your Investment Journey

My Brief History

Greetings dear friends, I miss writing. So today I bring you a new finance series fuelled by the 3AM random motivation one gets.

I am a Finance graduate and currently pursuing my Master of Business Analytics. I love Football; playing and watching thus the genesis of this medium page (check my first article).

Over the years, I have acquired a tendency to be data oriented in my endeavors. This led me to start this blog using soccer data to tell stories. Unfortunately I have not told as much stories as I would wish however, I will be sharing everything I find interesting. I will strive to do it regularly.

Photo by Gilly on Unsplash

1. Introduction to ETFs: What Are They?

It can be an overwhelming task trying to wrap your mind into the world of financial instruments. There are lots of financial instruments across the markets and Countries that one can engage in pursuit of returns/interest.

I am sure most of us are familiar with the concept of stocks. A stock/equity is a security that represents the ownership of a fraction of the issuing corporation. (Investopedia). However today I want us to take a look at a broader instrument the ETF.

An ETF is a basket of securities that you can buy or sell through a brokerage firm on a stock exchange. (CME)

It provides the flexibility of trading a diversified portfolio with the simplicity of trading stocks.

2. Types of ETFs: Exploring the Variety

There is are over 5000 ETFs globally with $ 3 Trillion Assets Under Management. The main types are demonstrated in the figure below.

3. Industry and Sector ETFs: Understanding the Basics

From a macroeconomics standpoint, a group of companies comprises of an industry. Below is an overview of industry vs sectors

4. Deep Dive: The SPY ETF and Its Sector Holdings

They (I don’t know who is they) say a master of all is a master of none. Having understanding in a sector should be the main goal first before investing your money into the ETF tracking the sector.

The SPY ETF aims to track the Standard & Poor’s (S&P) 500 Index, which comprises 500 large-cap U.S. stocks. It is weighted by the following sectors.

I will be using OpenBB platform to generate the charts illustrated in this article.

Sector Holdings of SPY generated from the OpenBB Platform

Now, lets track the SPY for the last 5 years and see how the ETF performed

5. Case Studies: iShares Global Healthcare ETF (IXJ) and CORN

Now that we have a rough idea of how things work, let us take a closer look into other sector specific ETFs.

Suppose I want exposure to the healthcare industry, the first question that comes to mind is, what ETF tracks the healthcare industry ? A simple google search provides you the answer. The iShares Global Healthcare ETF (IXJ). The index is designed to measure the performance of global biotechnology, healthcare, medical equipment and pharmaceuticals companies and may include large-, mid- or small-capitalisation stocks.

Lets take a closer look of its composition weights and performance in the last 5 years just like what we did in with SPY.

The bottom-line is, ETFs provides a passive investment strategy with a diversified exposure to the markets.

COMMODITIES

From Investopedia, Commodity ETFs enable investors to gain exposure to individual commodities or baskets of commodities in a simple, relatively low-risk, and cost-effective manner. Numerous ETFs track commodities, including base metals, precious metals, energy, and agricultural goods, with which investors can design their ideal commodity exposure.

Lets take a random example of corn. It is tracked by the ETF CORN. Lets go through the drill.

6. The Benefits of ETFs: Why Consider Them for Your Portfolio

Exchange Traded Funds (ETFs) offers a unique blend of benefits that cater to various investment strategies and goals. Here’s a closer look at why ETFs might be a valuable addition to your investment portfolio:

  1. Diversification: One of the primary advantages of ETFs is diversification. By investing in an ETF, you are essentially buying a basket of stocks or bonds. This spreads out your risk across multiple securities, reducing the impact of any single stock’s performance on your overall portfolio.
  2. Cost-Effectiveness: ETFs are known for their lower expense ratios compared to traditional mutual funds. This is because most ETFs are passively managed and track a specific index, leading to lower administrative and management costs.
  3. Liquidity: ETFs are traded on major stock exchanges, just like individual stocks. This means they can be bought and sold throughout the trading day at market price, offering greater liquidity compared to mutual funds, which are only traded at the end of the trading day at their net asset value.
  4. Flexibility and Accessibility: Investors can buy and sell ETFs through any brokerage account, making them highly accessible. This flexibility extends to the variety of ETFs available — from broad-market ETFs to those focused on specific sectors, regions, or investment strategies.
  5. Suitable for Various Investment Strategies: Whether you are a long-term investor looking to build a diversified portfolio or a trader seeking to capitalize on short-term market movements, ETFs can fit into various investment strategies. They are also useful for implementing more sophisticated strategies like hedging.
  6. Targeted Investment Opportunities: Specialized ETFs allow investors to target specific industries, sectors, geographic regions, or investment themes (like ESG investing). This enables investors to easily align their portfolios with their specific interests or beliefs.

CONCLUSION

It is easy to find yourself chasing the return based on FOMO rather than doing your own research and managing risk. Understanding your sector and knowing what drives the industry provides an edge to understanding what you are doing and how to implement your strategies passively. I welcome feedback and discussions. Thanks for tuning in and let me know what you feel about this new articles. Cheers 🍻

DISCLAIMER: THIS IS NOT FINANCIAL ADVICE

This article is for informational purposes only and should not be taken as financial advice. Always conduct your own research and consult with a financial professional before making any investment decisions. The author is not responsible for any financial losses or decisions made based on this content. Investing involves risks, including the potential loss of principal.

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Kiplagat Seroney
Kiplagat Seroney

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