While exchange traded funds (ETFs) and individual shares have plenty of common characteristics, there are important differences between the two investment vehicles.
Learning more about how ETFs and shares compare can help you tailor your portfolio to your investment goals.
An exchange traded fund (ETF) is a basket of individual securities that can be bought and sold in a single trade on a stock exchange. The individual securities within an ETF can be shares, bonds, currencies, commodities, or other investments.
When you buy shares of an ETF, you own a fraction of the underlying pool of investments, much like you do when buying shares of a managed fund. The net asset value (NAV) of an ETF represents the per-share value of the fund’s assets less any liabilities.
ETFs have grown exponentially since 1993 when State Street Global Advisors launched the first US-listed ETF. Today, investors can choose from thousands of ETFs to meet their individual portfolio needs, from gaining broad market exposure and generating income to accessing difficult-to-reach markets.
A share is a security that represents part ownership of the specific issuing company. Publicly traded shares trade on exchanges, like the Australian Securities Exchange (ASX).
The holdings of most ETFs are fully transparent and available daily. This means investors know what they own at any moment, allowing them to make informed investment decisions with greater accuracy. Similarly, when investors hold individual shares, they know what they own.
Both ETFs and shares can be used to gain exposure to a variety of market segments, covering different geographic locations, market capitalisations, styles, sectors, and industries.
Because ETFs and individual shares are bought and sold on an exchange, they are both generally subject to a brokerage fee. Note that some online brokers offer commission-free trading of shares and ETFs.
Investors can buy and sell ETF shares and individual shares on an exchange continuously throughout the trading day. Because shares and ETFs trade throughout the day on an exchange, they offer favorable liquidity and allow investors to make timely investment decisions and quickly execute based on shifting market conditions.
Exchange trading also means the trading prices of both ETFs and shares represent the current market price. With an ETF, the unit price may be slightly more or less than the net asset value (NAV).
Exchange trading also means investors can employ a wide range of trading techniques — from buying on margin to placing limit orders.
Many companies periodically pay out a portion of their profits to shareholders in the form of dividends. Similarly, ETFs may receive dividends from companies they hold, which are in turn paid to investors who own shares of the ETF.
Passive, or index, ETFs generally track a benchmark index. They provide access to many companies or investments in one trade, whereas individual shares provide exposure to a single firm. As such, ETFs remove single-stock risk, or the risk inherent in being exposed to just one company.
The diversification of index funds across many securities can dilute the potential negative impact of poor performance of any one security.
ETFs are professionally managed funds backed by a team of experts working to meet the goals outlined in the fund’s product disclosure statement. Fund managers are tasked with buying and selling individual holdings in return for a fee.
ETFs have an expense ratio, which includes management fees and the fund’s total annual operating expenses.
Turnover in an ETF’s holdings — due, for example, to changes in an ETF’s underlying index — could trigger the sale of securities. This may trigger transaction costs and capital gains distributions. In this scenario, any realised gains or losses are passed on to ETF unit holders. To ensure tax efficiency, ETF managers attempt to limit these types of transactions as much as possible. ETFs’ tax-efficient in-kind redemption process used to meet shareholder redemptions limits capital gains distributions.
Shares vs. ETFs: Similarities and Differences
|Transparency||Fund holdings generally made available each day||Investors know what they own|
|Range of Asset Classes||Offer exposure to a variety of market segments||Offer exposure to a variety of market segments|
|Brokerage Fee or Commission||Generally subject to a brokerage fee||Generally subject to a brokerage fee|
|Pricing and Trading||Exchange traded; investors can buy and sell shares continuously throughout the trading day at market prices||Exchange traded; investors can buy and sell shares continuously throughout the trading day at market prices|
|Dividends||Yes, where applicable||Yes, where applicable|
|Diversification||High; provide access to many companies or investments in one single trade||Low; provide exposure to a single firm|
|Research and Management||Professionally managed||Investors handle research and trading on their own|
When choosing whether to add individual shares or ETFs to a portfolio, it’s important to consider your risk tolerance and overall investment objectives. In many instances, ETFs provide a solid foundation for a diversified investing strategy, offering an easy way to gain exposure to a breadth of asset classes, sectors, and regions.
For their part, individual shares allow investors to express specific bets on companies, but lack of diversification may increase overall portfolio risk. Ultimately, the optimal portfolio may contain a blend of shares, ETFs, and other investment products.
The degree to which an asset or security can be bought or sold in the market without affecting the asset’s price. Liquidity is characterized by a high level of trading activity.
The current price at which an asset is bought or sold in the marketplace.
Net Asset Value (NAV)
The price of a share determined by the total value of the securities in the underlying portfolio, less any liabilities. The price of a share determined by the total value of the securities in the underlying portfolio, less any liabilities.
Important Risk Information
Frequent trading of ETFs could significantly increase commissions and other costs, such that they may offset any savings from low fees or costs.
These investments may have difficulty in liquidating an investment position without taking a significant discount from current market value, which can be a significant problem with certain lightly traded securities.
Investing involves risk, including the risk of loss of principal.
The whole or any part of this work may not be reproduced, copied or transmitted or any of its contents disclosed to third parties without State Street Global Advisors’ express written consent.
The information provided does not constitute investment advice and it should not be relied on as such. It should not be considered a solicitation to buy or an offer to sell a security. It does not take into account any investor's particular investment objectives, strategies, tax status or investment horizon. You should consult your tax and financial advisor. All information is from State Street Global Advisors unless otherwise noted and has been obtained from sources believed to be reliable, but its accuracy is not guaranteed. There is no representation or warranty as to the current accuracy, reliability or completeness of, nor liability for, decisions based on such information, and it should not be relied on as such.
Diversification does not ensure a profit or guarantee against loss.
There can be no assurance that a liquid market will be maintained for ETF shares.