What Are ETFs and How Do We Use Them?

What Are ETFs?

Exchange-Traded Funds (ETFs) have become one of the most popular ways to invest because they simplify the process. With a single purchase, you can own a basket of different stocks, bonds, or other assets. ETFs are similar to mutual funds, but instead of buying them through a mutual fund company, they trade on stock exchanges like individual stocks. You can buy or sell them throughout the trading day, which is why they’re called “exchange-traded” funds.

ETFs often (though not always!) have lower fees than mutual funds, but lower fees don’t automatically make them better. Like any investment, they should be evaluated on their merits.

In recent years, ETF net assets have experienced significant growth, rising from $90 billion in 2015 to $518 billion in 2024. This upward trend highlights the increasing popularity and adoption of ETFs among investors.

Types of ETFs

• Equity
  • Index ETFs – Track a market index, like the S&P 500, to provide broad exposure.
  • Sector & Industry ETFs – Focus on specific sectors such as technology or healthcare.
  • Thematic ETFs – Focus on trends like green energy, artificial intelligence (AI), or social responsibility (ESG).
  • Leveraged & Inverse ETFs – If based on equity indices.

• Bonds
  • Bond ETFs – Invest in government or corporate bonds to provide steady income.
  • Leveraged & Inverse ETFs – If based on bond indices.
• Speciality
  • Commodity ETFs – Invest in physical assets like gold, oil, or agricultural products.
• Balanced
  • Asset Allocation ETFs – Combine both equity and bond holdings
• Money Market
  • Cash-equivalent ETFs – Invest in treasury bills, short-term debt

Why Do Investors Use ETFs?

ETFs offer several key advantages:

• Diversification – One purchase spreads your investment across many assets, reducing risk.
• Lower Costs – Management Expense Ratios (MERs) are generally lower than mutual funds.
• Liquidity – ETFs trade throughout the day, making them easy to buy and sell.
• Transparency – You can see exactly what the ETF holds at any time.

Over the past decade, ETF net sales have consistently increased, reflecting growing investor confidence in their cost-efficiency, transparency, and flexibility. In 2024 alone, ETF net sales reached $75 billion, more than doubling the figures from just a few years prior!

Meanwhile, mutual fund net sales have seen a notable decline, with significant outflows in 2022 and 2023 totalling nearly $100 billion in withdrawals. This stark contrast highlights a broader shift in investor behaviour, as more individuals and institutions move away from traditional mutual funds in favour of ETFs.

How Are ETFs Used in an Investment Strategy?

For many investors, ETFs form the foundation of their portfolios. Beginners often start by choosing a diversified mix of ETFs that track the broader markets. This is a solid starting point—and certainly better than having no plan at all. However, ETFs can also be used in a more calculated, structured investment strategy.

At SciVest, we incorporate ETFs into our Asset Allocation Portfolios to build long-term (10+ year) wealth while managing volatility. Our approach is based on scientific research and our core investment principles: long-term compounding, volatility reduction, high diversification, and value investing.

What to Consider When Selecting ETFs

Choosing the right mix of ETFs is essential. Some key factors to consider:

• Cost Efficiency – Selecting ETFs with low expense ratios matters over the long term. Very similar ETFs can have different expense ratios, so it’s worth digging deeper.
• Performance & Tracking Accuracy – Confirm the ETF consistently tracks its index. Even if an ETF claims to “closely follow” an index, it doesn’t always deliver.
• Tax Efficiency – The home base of the ETF (Canadian vs. US) and its payout methods affect taxation. Placing the right funds in the right accounts improves tax efficiency.

Conclusion

ETFs are a versatile and cost-effective way to participate in the market, whether you’re seeking long-term growth, passive income, or risk management. Carefully evaluating ETFs and incorporating them into a well-rounded investment strategy can help you achieve financial goals while avoiding common pitfalls.