Are you searching for passive investment options? Do you want an instrument that matches the market index returns? Then you may consider placing your funds in Exchange-Traded Funds. They work like Index Funds that track an index, commodity, and sector. However, they are listed and traded on stock exchanges like the National Stock Exchange and the Bombay Stock Exchange.
You may have noticed that investors focus on Index Funds more as actively managed Large-Cap Mutual Fund sometimes struggle to beat their benchmarks. So, can ETFs be considered an ideal option for long-term wealth creation?
What are ETFs?
They are a basket of securities that track a specific index and trade on stock exchanges like NSE and BSE. You may buy ETFs like stocks across the trading day. For instance, invest in ETF that tracks the Nifty50 index. It offers returns that match the market index over time. ETFs are gaining popularity as actively managed Mutual Funds sometimes cannot outperform their benchmarks.
How do ETFs help with wealth creation?
- You may diversify your primary portfolio with ETFs to build wealth gradually. It forms about 60% to 70% of the investment portfolio and provides stability with long-term capital appreciation. Moreover, ETFs are passive investments with low expense ratios than Equity Funds.
- Studies suggest that ETFs that track market index eventually beat actively managed Mutual Funds. Mutual Fund managers struggle to generate alpha, meaning they cannot generate higher returns than the benchmark index whose performance they aim to beat. It helps if you stick to low-cost instruments like an ETF that considers the long-time view of the Stock Market to achieve its goals.
- You could also consider ETFs if you want inflating-beating returns. It replicates the market index and offers returns matching indexes like Nifty50 and BSE Sensex. Moreover, Equity Investments can outperform in the long run than Bank Fixed Deposits, which struggle to provide inflation-beating returns with interest rates declining in the economy.
- You also have Equity-Linked ETFs like Equity Funds that primarily invest in Equity class. The Long-Term Capital Gains above Rs. 1 lakh every financial year get taxed at 10%. Invest in ETFs to earn tax-efficient returns than Bank FDs if you come under a higher income tax bracket. It lets you accumulate wealth as you save taxes.
- If you want appropriate portfolio diversification, ETFs are the ideal solution. They are best for first-time investors in the Stock Market. ETF Investments are possible through Systematic Investment Plan mode too. It lets you invest a fixed amount periodically in the scheme. But before that, determine your investment objective and risk tolerance.
How to select the right ETFs?
Invest in ETFs with a lower expense ratio, which is the total Mutual Fund management cost. You should not incur a higher expense ratio if you want to increase your returns. Consider those ETFs that replicate the market index it tracks. In this case, opt for an ETF with low tracking error. Select ETFs that trade on stock exchanges daily with high trading volumes as this ensures liquidity, and you can exit the investment when you need the money.
Keywords: Exchange-Traded Funds, ETF, invest in ETF, Mutual Fund