The business of Wall Street is to make money using other people’s money. Like other consumer industries, they continually introduce new products.
Some of those products, derivatives for example, are too complicated for even their inventors to understand and should be avoided like land mines. Others, like the mortgage-backed securities that led to the disastrous financial crisis of recent memory, have become corrupted by greed.
And every now and then, somebody comes up with a good idea. One such product is the ETF — the Exchange Traded Fund.
Once upon a time, if you wanted to invest in the stock market, you were faced with the problem of deciding which companies to invest in, and who knew how to do that? Manipulators ran companies’ stock prices up and down like flags at sunrise and sunset.
You had to be a skeptical CPA to dissect the financial state of a company. If you believed the stock market was going to go up, there was no way you could “buy the market.”
In the 1920s an investment company in Massachusetts came up with a way for the average investor to buy “a piece of the market,” leaving the picking of individual stocks to a “manager.” They called it a mutual fund. It enabled millions of small investors to benefit by the growth of the economy.
Like most good ideas, it attracted competition, and soon there were hundreds of such funds competing for the public’s money, and the average person was faced with the dilemma of choosing the best management. Some managers did very well for their investors, but most were about or below average.
Mutual Funds were sold through brokers or fund distributors. High commissions, or “loads,” to buy the shares plus the managers’ fees often took a big bite out of any profits.
Then, about 40 years ago, John Bogle founded a mutual fund management group called Vanguard, and created a way to truly buy the market: an index fund that mirrors the Standard & Poor’s 500-stock index, which includes the 502 largest (in value) public companies traded on U.S. stock exchanges — about 75 percent of the total market, with no active manager responsible for picking individual winners.
It was the precursor of today’s ETF — the exchange traded fund.
As always, the denizens of Wall Street have taken a good idea and complicated it by slicing and dicing it into thousands of variations.
You can now “buy the market” — all the way from owning a piece of every publicly owned company in the world in one basket down to small and specialized baskets from gold to potash, China to Africa, health care to software.
ETFs are bought and sold like individual stocks at minimal — sometimes no — commission and with minute management fees.
Whatever your objective, whatever your risk tolerance level, a suitable ETF is your best vehicle for a worry-free, decision-free investment future.