So, you have decided to buy an Exchange Traded Fund (ETF)? Excellent idea! Let’s get started.
As you may already know, mutual funds have a single price that is calculated by the fund manager at 4 p.m. each trading day. ETFs, like mutual funds, are also a basket of securities (stocks, bonds, commodities, or physical assets) that trade like stocks on a public exchange. Therefore, the price of ETFs varies continuously throughout the trading day just like common stocks.
ETFs are listed on exchanges, typically BATS, also NYSE and NASDAQ.
ETFs can be bought or sold continuously throughout the trading day in a brokerage account.
ETFs are also like mutual funds, dividing ownership of the basket of securities into shares that can be purchased providing fractional ownership of all the securities.
Prerequisites to buying an ETF:
1. You must have a brokerage account approved to trade stocks and ETFs. This can be either an after-tax account to save for college, buying a house, etc. or a tax-deferred account such as an IRA, Roth IRA, etc.
See Alpha Investors FAQ on selecting a Brokerage if you do not have one
2. You must have capital (money) deposited in your account
3. Do you have a subscription to Alpha?
See Alpha Investors ETF recommendations (subscription required)
Decisions an Investor must make:
2. What ETF are you going to buy (Symbol)?
Every ETF has a unique three or four-letter symbol. You need to know the name of the ETF or its ticker symbol.
3. How many shares are you going to purchase (Quantity)?
Generally speaking, you can buy as many or as few shares as you want.
ETFs can only be bought in integer numbers starting with 1 or more, 2, 3, 5, 10, 24, 50, 100, 203, 500, etc.
Take the desired investment amount and divide by the current ETF share price and round down to the nearest integer ($2500/$259.54/share = 9 shares).
4. Type of order you are going to place (Price Type):
Market Order – investors concerned with speed of execution will enter a market order. Market orders can result in an unknowable price at execution. For example, if there was another flash crash.
Limit Order – The only guarantee with a limit order is that you will get the price you specify or possibly a better one. The caveat being an investor’s trades may not execute at all and they do net get shares they wanted to purchase.
Marketable Limit Order – A limit order where you specify a price above the best offer/ask price. Investors are very likely to get the shares they want within the price range they entered. Marketable Limit Orders are the preferred type of order.
Good for Day – The order will last until it is filled at the specified price, or it will expire at the end of the trading day, 4 p.m.
Orders that go unfilled, can be entered again the next trading day.
Other options, depending on broker, can include Good Until Canceled, Good for 60 Days, etc.
Alpha Investors prefers the Good for Day option.
Placing an order at an on-line brokerage is shown below:
The following figure explains the additional information investors will encounter while placing their trade.