When it comes to investing in the stock market, there are many options. It may be challenging to decide which investment to consider at a particular time. But it doesn’t have to be difficult, thanks to technology that gives you access to all the information you may need.
In this guide, you will learn about ETFs and stocks and which option best suits you. Let’s begin by understanding what exactly they are.
Definition of Stocks and ETFs
A stock is a share or portion of a company traded on an exchange market or stock market. There are many stock markets, but the first that comes to mind is usually the New York Stock Exchange, one of the most popular.
As an investor, the shares you own will determine the dividends you will receive from a company’s earnings, as well as your ability to claim residual assets. It also determines whether, as a shareholder, you have the right to vote on decisions affecting the company, although the ability to vote on decisions is largely trivial for retail investors (individuals who invest non-professionally).
An Exchange-traded Fund, or ETF, is a diverse basket of securities. This basket of securities can comprise bonds, stocks, commodities, and many other securities. ETFs, like individual company stocks, are bought and sold on a stock exchange market.
ETFs can be categorized into passive or active, depending on whether they track an index like the S&P 500, or are actively managed by an investment manager. Among the various types of ETFs available are sector, inverse, currency, and leveraged ETFs.
Stocks and ETF’s have some similarities, but they also have very distinct differences.
Differences Between Stocks and ETFs
Individual versus bundle: The primary difference is that stocks are shares from an individual company, while ETFs contain shares from multiple companies, packaged in a single bundle.
Risk: Investing in individual stocks is riskier than investing in ETFs. One company’s poor performance will lower its stock’s value, but because ETFs are diverse, poor performance on a single ETF security may not lower the value of the entire fund.
Liquidity: ETFs are slightly less liquid than individual stocks. Both are affected by the quality of the investments involved (for example, high quality stocks are easier to liquidate than penny stocks) while ETF’s are subject to other factors such as the composition of the ETF.
Cost: The transaction costs or fees for buying ETFs is higher than the cost of purchasing individual stocks. However, brokerage fees and operating expense ratios for ETFs are lower than those of stocks.
Management: Most ETFs are professionally managed. Trading individual stocks, on the other hand, may not require a professional’s help in monitoring the stock market. On the other hand, a professional’s assistance may be useful in determining when to sell or buy individual stocks.
Similarities Between Stocks and ETFs
Categorized broadly, stocks and ETFs are similar in the following aspects:
- Both stocks and ETFs are subject to taxation.
- Both are traded in the stock exchange market, and their particular price index differs from time to time.
- They offer many options and can act as a stream of income for investors.
- Both can be bought on a margin or sold short.
How to Choose Between Stocks and ETFs
Some industry experts equate buying stocks with gambling. Even professionals find it difficult to make decisions that beat the market. Individual stocks are affected by many unpredictable factors, including time, industry news, lack of adequate information, economic and environmental factors, and market sentiments.
On the other hand, investing in ETFs is considered a safer investment option. If you invest in an ETF, the diversity of securities that are part of your index fund will reduce the risk of your investment. Further, as an investor, you can choose ETFs that align with your objectives: companies can be grouped by size, industry specifics, or exchanges.
Therefore, investors without the ability to research and analyze specific company stocks may find it easier to choose ETFs due to their relative diversity, lower risk, and longer-term investment nature.
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