Exchange-traded funds (ETFs) share traits with both mutual funds and individual stocks. Like mutual funds, they’re made up of a number of different securities, but like individual stocks, they’re traded in shares on stock exchanges throughout the trading day.
Whether you’re seeking a passive investing approach or an active one, these affordable and flexible investment vehicles offer strategy options to suit most investors.
Last updated: Jun. 7, 2021
8 ETF Investment Strategies
Smart investors keep up to date on investing strategies to improve returns and reduce risk. Here are some ETF investing strategies you might want to try in 2021 to freshen up your portfolio and adapt to changing times.
1. Passive Strategy
Because ETFs hold a basket of stocks, it’s easy to put together a diversified portfolio — including one that mirrors the entire world market without any active management. You can pick a few ETFs that, when combined, cover the basic asset allocation categories of small, medium and large-cap, growth and value, international and emerging markets, and bonds. Or you could select just two funds, like the Vanguard Total World Stock ETF (VT) and the Vanguard Total Bond Market ETF (BND), which mirror the global stock market and the U.S. bond market, respectively, including all asset classes.
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2. Dollar-Cost Averaging
Dollar-cost averaging is a long-term strategy that can be used with all kinds of investments, including ETFs. The key is consistency. The premise is that you invest the same amount of money on the same date every week or month, purchasing shares at whatever the current price is.
When the price is low, you’ll get more shares for your money. When it’s higher, you’ll get fewer shares. It’s a strategy that, over time, will help you buy more of something when it’s cheap and less when it’s expensive, which is the entire point of investing in the first place.
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3. Low-Volatility Investing
Even when the market is on a generally upward trajectory, some investors just cannot stomach the daily ups and downs of the markets. Investments with low volatility tend not to have the same price swings as the overall market. Some ETFs feature stocks that are specifically selected to be low in volatility, such as iShares Edge MSCI Min Vol USA (USMV) ETF, whereas other ETFs use a hedging strategy to minimize volatility, holding stocks that tend to hold steady in both up and down markets.
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4. Trading Strategies
Like stocks, ETFs can be traded throughout the day on the major exchanges in an attempt to beat market returns. Day trading involves a high volume of very quick trades in a single day. Swing traders, on the other hand, take a slightly longer position, from a couple of days to a week or more. Traders use technical analysis, looking at past prices and trends and charts, or they might use fundamental analysis, such as stock news or the use of economic and financial data to determine the investment’s intrinsic value. Always consider transaction costs when making short-term trades and understand the many associated risks before diving in.
5. Sector Strategy
One of the great things about ETFs is their unique ability to invest in entire sectors of the economy that show potential. The risk in a sector strategy is that some companies in the sector can perform better than others. ETFs can help you hedge your bets, however, by allowing you to invest in many companies in the same sector. For example, you could choose an ETF that includes only healthcare stocks or one that invests only in financial services companies. Sector investors might also engage in short selling when they think a particular sector is about to decline.
6. Bond ETFs for Income Generation
Investors nearing retirement often look for a strategy that will produce income without a lot of risk. Bond ETFs can serve this purpose well. You can buy several ETFs that each include a different type of bond, like long- or short-term Treasurys, corporate bonds or municipal bonds. Or you could choose a single ETF that includes all of these types of bonds. Add in a high-yield stock dividend fund and you’ll create a diversified portfolio of income-producing ETFs. Just stay away from riskier, so-called junk bonds that have high levels of volatility.
7. Leveraged Trading Strategy
Leveraged and inverse ETFs offer the opportunity for enormous returns via financial derivatives and debt securities, but, as with any speculative strategy, they can also deliver huge losses. The ProShares Ultra Standard & Poor’s 500 index ETF, for example, provides twice the daily return of the S&P 500. That’s great if the index goes up, but the negative returns are also doubled, so a 1 percent slide in the index translates into a 2 percent slide for your investment. Combine this risk with typically high management fees and commissions, and these volatile investments are not for the faint of heart.
8. Robo-Advisor Strategy
This set-it-and-forget-it approach to investing works well for some investors. A robo-advisor is a program that manages your money based on computer algorithms that are modified according to your goals and risk tolerance. Most robo-advisors use a portfolio made up of a diversified pool of ETFs, reinvesting your dividends and rebalancing your portfolio so it stays in line with the recommended ratios.
Fees are typically low because everything is automated. Schwab Intelligent Portfolios, for example, charges no management fees but does require a minimum investment of $5,000. WiseBanyan’s basic offering is free with a minimum investment requirement of just $1.
Whichever ETF investment strategy you choose, be sure you understand the risks as well as any fees or commissions you will pay. Not every ETF strategy is right for everyone — especially if you’re interested in investing for beginners — so only employ strategies that you feel comfortable using.
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Andrew Lisa contributed to the reporting for this article.