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ETFs: the whole table in one bet.

An exchange-traded fund lets you buy hundreds or thousands of companies, or bonds, or gold, in a single trade, as easily as buying one stock. It has become the default way many people invest. Here is how the basket works, and the one number that matters most once you know what you want to own.

Concepts in this lesson
ETF
A fund whose shares trade on a stock exchange throughout the day, like a company's shares.
Index fund
A fund that copies an index instead of picking stocks, usually by holding its members in the index's proportions.
Expense ratio
A fund's yearly running costs as a percentage of its assets, taken out of the fund's value rather than billed.
NAV
Net asset value per share: a fund's assets minus liabilities, divided by its shares, set once a day.
Every term in Table Talk

01A basket you can trade

First, the letters ETF tell you how you buy something, not what you own. An ETF is a wrapper, and what's inside decides your risk: one holds 500 companies, another a single commodity, another a three-times bet on one index's daily move. Read the basket before the fee.

Picking one winning stock is hard. Owning all of them is easy: buy an ETF that holds every company in the S&P 500, in proportion to each company's size, and one share gives you a sliver of all 500. You get the market's result, good or bad, without having to guess which company will do best.

Most ETFs are index funds: they copy a published list of holdings and change only when the index changes. Some are actively managed, with a manager choosing what to hold. Most ETFs publish their full holdings every day, so you can see the whole basket.

Our ETF reports cover the most widely held ones, from VOO (the S&P 500) to all-in-one portfolios like XEQT.

02How the price stays honest

An ETF trades on an exchange all day, like a stock, at whatever buyers and sellers agree. Its holdings have their own value, worked out once a day as the net asset value (NAV) per share. What stops the two from drifting apart?

Large trading firms can swap baskets of the underlying stocks for new ETF shares with the fund, or hand ETF shares back for the stocks. If the ETF trades above the value of its holdings, they buy the stocks, swap them for ETF shares and sell those at the higher price; if it trades below, they do the reverse. That trade, called creation and redemption, keeps the price of a large ETF close to its NAV.

04What it costs, and why it matters

Every fund charges a yearly fee, the expense ratio (in Canada, the MER), as a percentage of what you hold. You never see a bill: it comes out of the fund's value a little each day. There is also the bid-ask spread each time you trade, tiny on large funds.

The fee looks small because it is quoted per year. But it is taken every year, on everything you hold, including all your past gains.

Worked example: $10,000 for 30 years, markets return 7% a year

At a 0.03% fee, the kind large index ETFs charge: $75,485. At 0.75%: $61,641. At 2%, a level many actively managed mutual funds charge: $43,219.

Same market, same 30 years. The 0.75% fund costs you $13,844, about a fifth of the cheaper fund's gain. The 2% fund costs you nearly half of it.

Try it: what a fee costs over time

With JavaScript on, this box grows the same amount at two fee levels so you can see what the difference costs over the years.

Fund AFund B
At the table

The fee is the rake. A card room takes a small cut of every pot, and a player who plays all night pays it on every hand, win or lose. A good player can beat the rake; nobody beats it by ignoring it. Among tables playing the same game, the cheapest one usually wins, simply by taking less off the top.

05The main kinds

  • Broad stock market: the S&P 500, the total US market, the world. The building block of most portfolios.
  • Bonds: a whole bond market in one fund, such as BND.
  • Sectors and themes: technology, energy, semiconductors. Narrower, so more concentrated.
  • All-in-one portfolios: stocks and bonds from around the world in fixed proportions, rebalanced for you.
  • Commodities and crypto: gold, silver, bitcoin. Some funds hold the metal or coin itself; others hold futures contracts on it.
  • Leveraged and inverse: funds that aim for two or three times the index's daily move, such as TQQQ, or the opposite of it. They reset every day, so over weeks and months their result can drift far from a simple multiple of the index.

06What can go wrong

  • The basket falls. An ETF is exactly as risky as what it holds: a broad one spreads the risk of single companies, not the risk of the market, and a narrow one spreads very little.
  • Concentration. A sector or theme fund can be as volatile as a handful of stocks; some broad indexes are heavily weighted toward a few giants.
  • Leveraged funds can lose heavily in choppy markets even when the index ends flat.
  • Thinly traded funds can have wide spreads and drift from their NAV.
  • Fees compound against you, as above.
The fine print, lesson edition. This page explains how ETFs work. It is education, not advice to buy or sell any fund. The returns and fees in the examples are round numbers for the arithmetic, not forecasts or any fund's actual figures; each fund's own documents set out its fees and risks.