Being easy to trade and easy to understand, Exchange Traded Funds (ETFs) are perfect for speculation, or hedging a portfolio. You can even mix and match different ETF’s to achieve short term gains from difficult market conditions, and take a view on a wider global basis.
Trading an Index in a Single Shot
An Index ETF allows you to gain exposure to the market of your choice with a single trade. You can execute such a transaction at any time of the trading day, there are minimum on-going commissions, and you can move in and out of the ETF at will.
There are index ETF’s that aim to give a multiple of the daily performance of an index, meaning that if you believe, for example, that an index will perform positively this year you can get extra bang for your buck.
And if you believe an index will fall, then there are ETFs designed to make money in a bear market.
In fact, you can trade an Index just like a stock, and gain exposure to a diversified basket of index components in a fraction of the time, and with a fraction of the expense, that buying the stocks of the individual components would take. All reasons why many experienced traders use ETFs to enhance their profits from international markets.
But let’s first look a little closer to home, and see how an ETF can be used to aid your domestic portfolio performance.
Going long or short the TSX 60 has never been so easy
Let’s say that you believe the Canadian market is going to move better. You could buy an index call option, or go long of the futures, to satisfy your view. Or you could buy an ETF that would give you the exposure you need.
For example, the Horizons BetaPro S&P/TSX Index ETF aims to replicate the performance of the TSX 60 Index. It’s listed on the Canadian TSX exchange under the symbol HXT. Buying shares in this ETF will give you immediate exposure to the index as a whole. Here’s a one year chart of this ETF showing its performance against the index itself:
On the other hand, if you believe the market is going to fall then buying an ETF that has the aim of profiting when the market is moving down can help you profit from your view, or hedge against your current holdings.
One such ETF is the Horizons S&P/ TSX 60 Inverse ETF, traded on the TSX exchange under the symbol HIX. This ETF aims to give an opposite, but equal, return to the movement of the TSX 60. In other words, when the market goes down, this ETF will go up by the same amount.
On this chart, you can see how this compares to the one year performance of the TSX and the Horizons BetaPro S&P/ TSX Index ETF:
Increase your investment options using ETFs
So you can use an Index ETF to speculate on an upward or downward shift in the market, or to hedge an existing portfolio. But there’s a whole lot more you can do using combinations of ETFs.
For example, let’s say that you feel the political structure of the Middle East is about explode, and that this will send the oil price rocketing. You think that this could be harmful to equities in general, but good for energy companies.
What you could do in this scenario is to buy shares in the Horizons S&P/ TSX 60 Inverse ETF and at the same time buy shares in the iShares CDN Energy Sector Index Fund, which seeks to replicate the performance of the S&P/ TSX Capped Energy Index (comprised of the securities of Canadian energy companies). If your reasoning is right, then you’ll profit from the downside in the broad market, whilst also profiting from the upswing in energy stock prices.
However, ETFs are not limited to enhancing your domestic portfolio. For those investors wanting to look further afield, ETFs are perfect for taking a position in international markets.
Take the Global View
Markets move at different paces, even different directions at different times. Though the world economy is more interconnected than it ever has been the equity markets of different regions or countries move at different paces.
ETFs based on international markets allow you to gain immediate exposure to those markets, and trade in and out on an almost continuous basis at a fraction of the cost of mutual fund investment. You could change your view, and replicate that view across a dynamic ETF portfolio in just a few moments.
It used to be that to make a play on the fortunes of the emerging markets, for example, you needed to either find a broker that would trade international shares, at a commission cost that often negated much of any gain made, or invest in an expensive mutual fund. Often, with markets moving rapidly, when you decided to sell your specialist fund, the price had changed dramatically, and never for the better. Now, however, positioning yourself for an upswing, or downturn, in the emerging markets, as well as other markets around the world, is easy to achieve through an ETF investment.
The Horizons BetaPro MSCI Emerging Markets Bull Plus ETF (trading under the symbol HJU) is an investment for those who are very bullish of the prospects for the emerging markets in the short term. Aiming to give a return of twice the daily performance of the MSCI Emerging Markets Index, this ETF will give you fast and easy access to a long position that might otherwise have been impossible. And if you are short term bearish of the emerging markets, then the Horizons BetaPro MSCI Emerging Markets Bear Plus ETF (trading under the symbol HJD) aims to achieve the equal and opposite result of the Bull Plus ETF.
For a longer term bull of emerging markets, the iShares CDN MSCI Emerging Markets Index Fund (trading under the symbol XEM) seeks to provide long trem capital growth by replicating the performance of the MSCI Emerging Markets Index.
You may have the view that Canadian equities might stagnate, while the equities of emerging markets will strengthen. You might feel that the heavily tech stock weighted US Nasdaq market might outperform energy stocks. With ETFs you can take the view you want around the world, across different sectors, and even asset classes. Using a combination of Index ETFs, you can gain exposure to the world’s markets and take advantage of booming economies and sectors as quickly as you can say ‘buy’.
ETFs: giving your portfolio the edge
With such a diversity of ETFs available and growing almost daily, an investor now has the world at his fingertips. You can take a diversified or focused view in the time it takes to phone your broker or key in an order to your trading system. You can go long on one continent or market, and short on another. You can easily alter view, or hedge an existing portfolio.
Of course, you could do all of this using stocks, futures, or options, too. But using individual stocks increases time and expense to gain the same exposure. And with futures and options, you’ll have minimum trade sizes and possibly margins to support.
Adding ETFs to your investment toolbox will give you a market advantage that just wasn’t available when our parents were investing in their mutual funds.
Jules Verne once wrote about travelling the world in 80 days. Now you can trade the world in 80 seconds using Index ETFs.