What Are ETFs and How Do You Invest in Them?
5 Min Read | Last updated: March 15, 2026
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ETFs are investment funds that give investors a simple way to diversify their holdings, often for lower fees than mutual funds. Learn the pros and cons of ETF investing.
At-A-Glance
- ETFs can help ordinary investors diversify their investment portfolios.
- The costs and taxes associated with ETFs are generally quite low, and the funds are typically easy to buy and sell.
- Most ETFs offer modest returns, but some riskier and more expensive ETFs can provide more profit potential
People who don’t want to put all their financial eggs in one basket can consider investing in ETFs.
Short for exchange-traded funds, these investments may target particular financial markets, like U.S. treasury bonds or the stock shares of high-tech companies, by purchasing a broad array of securities within that market segment.1
This gives people who buy shares in the ETF a simple way to diversify their holdings (the contents of their investment portfolio).1 Because an ETF pools funds from many thousands of investors, it can afford to purchase a variety of assets within its category – far more than most individual investors could.2
Many ETFs also specialize in smaller subsets of larger markets, like utility stocks or municipal bonds, giving buyers more ways to broaden their market exposure.1
How ETFs Work
ETFs trade like stocks and are listed on exchanges like the New York Stock Exchange (NYSE) and NASDAQ.1,3 They are bought and sold through brokers at market prices that may be somewhat higher or lower than the net asset value (NAV) of all the cash and securities held by the ETF.4 This is similar to shares of stock that may sell above or below the company’s “book value,” or the total amount a company would be worth if it paid all its debts and sold all its assets.5
Because they can be traded so easily and provide diversification, ETFs have become very popular in recent years. There are over 13,000 different ETFs worldwide.6 ETFs in the U.S. have about $10 trillion in assets.6
Passive vs Active ETFs
Many ETFs are passively managed investments, so the securities in them aren’t traded often.7 Instead, they’re generally bought and held for long periods of time. Passive investments typically seek to match the performance of a particular market index.8
Since these funds tend to require less attention from the fund’s manager, management fees may amount to more than 0.05% of the shareholder’s investment per year.9 Less trading may also mean lower taxes, since a fund only pays taxes when it sells some of its holdings and realizes a gain.4
Some ETFs, however, are actively managed, meaning that a portfolio manager (often supported by a team of analysts) actively trades securities to take advantage of price fluctuations and hopefully outperform the market index on which the fund is based.10 This is commonly known as “beating the market.”
Successful, actively managed ETFs may generate greater returns than their passively managed ETF counterparts; but when they fall short, their losses also can be greater. And win or lose, they charge their shareholders higher fees – 0.45% on average in 2024 for some ETFs.9
The Pros and Cons of Investing in an ETF
Like any type of investment, there’s an upside and a downside to investing in ETFs. Here are some of the biggest pros:
- Diversification. ETFs allow investors to diversify their holdings by buying stakes in many more securities – and many different types of securities – than they could on their own.1
- Liquidity. Because the ETF market is huge and the funds can be bought and sold so easily, most of these holdings are considered highly liquid.1 Usually, investors can readily sell their ETF shares and rarely get caught short holding a fund they don’t want.
- No minimum investment. Unlike some mutual funds, ETFs generally have a low minimum investment, with individual shares being priced at relatively low dollar amounts.2 This may make them a good investment tool for someone with relatively small amounts to invest. For more on mutual funds, read “How to Invest in Mutual Funds.”
- Advanced trading strategies. Since ETFs trade just like stocks, investors can take advantage of trading techniques like short selling.1 This is especially beneficial for more experienced investors.
- Lower fees. ETFs generally have lower fees and taxes than other types of funds, and that helps boost their net returns.9 Online brokers may even allow investors with very small accounts to buy and sell ETFs commission-free.1
On the other hand, ETFs also have certain disadvantages, including:
- Limited control. Individual investors exercise little over their investments, since they have no direct say over which securities are included in a fund’s portfolio.12 Someone who wants to buy or sell shares of a particular stock, for instance, would have to do this outside the ETF.
- Passive means lower returns. Passive investment isn’t guaranteed to beat the market. Although they tend to be less risky, their returns tend to be more modest.13
- Active means more risk. While they might beat the market and achieve outsized returns, active ETFs may also fall short and experience greater losses. They also tend to have higher management fees and greater tax liability.13
The Takeaway
ETFs are investments that can help investors diversify their holdings. These popular funds trade like stocks and allow even the smallest of investors to participate in a broad range of market segments at a low cost. Their returns, however, are generally modest and investors who buy into them must surrender a degree of control.
1 “Exchange-Traded Funds and Products,” Financial Industry Regulatory Authority
2 “Exchange-Traded Funds (ETFs),” U.S. Securities and Exchange Commission
3 “Stock exchanges Definition,” Nasdaq
4 “Updated Investor Bulletin: Exchange-Traded Funds (ETFs),” U.S. Securities and Exchange Commission
5 “Book Value Per Share (BVPS) - Overview, Formula, Example,” CFI
6 “Morningstar’s Guide to ETF Trends in 2025,” Morningstar
7 “ETF vs. Mutual Fund: What’s the Difference?,” Experian
8 “Active vs. Passive Funds: Performance, Fund Flows, Fees,” Morningstar
9 “Trends in the Expenses and Fees of Funds, 2024,” Investment Company Institute
10 “Rise of active ETFs: hype, hurdles and road ahead,” EY Luxembourg
11 “Exchange-Traded Funds (ETFs),” U.S. Securities and Exchange Commission Glossary
12 “ETF Basics and Structure: FAQs,” Investment Company Institute
13 “Active vs. Passive Investing,” Financial Industry Regulatory Authority
Elliot Kass is a journalist who has covered global business and technology from New York, London, and San Francisco for more than 30 years.
All Credit Intel content is written by freelance authors and commissioned and paid for by American Express.
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