- The number of exchange traded funds available
for you to buy is absolutely bananas.
As of 2020, there were over 7,600 different ETFs
out there to be traded on the stock market.
And every year more and more new ETFs get launched
while others get closed and liquidated.
Yes, you heard me right, ETFs can be shut down
because they're poor performers.
It's a dirty little secret of the ETF industry
that we'll cover later in this video.
Since there's over 7,600 of these things,
how are you supposed to know which one is right for you?
My vote would be to just throw darts
at a dart board to decide.
But if we did that then we'd probably be putting
all of our money into things like GameStop,
AMC, Dogecoin and Miley Cyrus NFTs,
not your worst idea but definitely not your best.
So in this video, I'm gonna go through
my preferred process of how to evaluate
and pick an ETF that works best for you.
Think of this like a little checklist
for you to go through when evaluating
and analyzing one ETF among the thousands
that are out there so that you're not just closing
your eyes and playing I don't know,
pin the tail on the donkey.
Now keep in mind that
there's different investing strategies
where you invest in individual stocks
as well as ETFs which is perfectly fine.
I'm personally not someone who prefers to put my money
into single stocks.
So I'm not your guy for that type of thing,
but I can't help you with the ETF portion of your portfolio.
Hey, I'm Jarrad with two A's and two R's.
Over here, we like to talk about investing
and financial independence.
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Not all ETFs are created equally,
now you'll generally hear advice to invest in ETFs
as opposed to stocks but that advice
while good isn't specific enough.
There's a lot of trash ETFs out there
so I'm gonna to help you distinguish
between the good, the bad, the ones that fit your style
and the ones that don't,
all in exchange traded fund
is a type of investment fund that holds a basket of stocks.
There is no set minimum or maximum amount of stocks
that will be held within a specific ETF.
It's going to vary from ETF to ETF.
ETFs are kind of like mutual funds
in the fact that it holds a group of stocks within it.
But unlike mutual funds,
ETFs can be traded throughout the day
when the stock market is open,
just like individual stocks can be.
For example, Vanguard offers
the Vanguard total stock market index fund Admiral shares
which is a mutual fund that goes
by the ticker symbol VTSAX
but they also offer the Vanguard total stock market ETF VTI
which is the ETF version of VTSAX.
VTI the ETF holds the same exact basket
of stocks except VTSX has a little bit higher expense ratio,
there's a minimum of $3,000 to invest,
it's only traded at the end of the day
after the stock market closes
and you can only purchase it
through the Vanguard investing platform.
A good way to start this whole process is by using
an ETF screener website like ETF.com or ETFdb.com
either one will work for you.
The thing you wanna figure out is the type of asset class
that's held within that ETF.
Some ETFs are made up of stocks or sometimes
referred to as equities, some are bonds
and then we also have commodities like a gold or silver ETF.
If you're young and looking to maximize your growth,
you might not wanna do anything with the bonds or gold
so you can ignore those types of ETFs right off the rip.
At this point, I would decide if I'm looking
for an ETF or most of its holdings
are in a particular country.
For me, I prefer the United States for most of my ETFs
but sometimes it's good to have a little bit of exposure
to those international investments as well.
Next, you'll need to pick a sector
so that you can drill down a little bit more
into what exactly we're looking for.
Now there's about 11 different sectors to choose from.
This are things like energy, consumer staples,
information technology, financials and a few more.
You can also choose ETFs that are specifically large,
mid small, micro cap specific or even total stock market
where you can own a little bit of everything.
The reason that you might wanna pick a specific ETF sector
is to gain a little bit more exposure in an area
that you might be a little underweight in
within your overall investment portfolio
or as a way to kind of take advantage of a growing sector,
you might see a bright future for like the work
from home stocks.
For example, if your portfolio was broken up
into larger cap IT and consumer staple ETFs,
you might be thinking to yourself
that you want some more money invested
into financials and healthcare as well.
In that case, you'd go find these two types of ETFs
and add those ETFs to your portfolio.
ETFs are a great way to fill some gaps
within your overall pie
so that all of your money isn't concentrated
into only a few different areas.
On top of that, by picking an ETF,
it's saving yourself time from having to go
through and evaluate potentially hundreds
of individual stocks within that financial
and healthcare sector to decide which ones
you feel confident buying.
To be honest with you,
there's an ETF for just about everything
that you're looking for.
Back to my recent example, there is a work from home ETF
which adds a bunch of stocks that will most likely benefit
from the work from home movement
that we've been seeing recently.
If you're not sure where one might fall within these sectors
and then just do a quick Google search for that sector
and the letters ETF right after.
So if I wanna find a video gaming, gambling
or even spec specific ETFs
then I'd search for that and start diving
into each one that pops up
which I'll show you how to do in just a second.
Now that you've picked out the specific sector of ETF
you're looking for,
it's time to start looking through them individually.
This might seem like a daunting task
but I promise you it's a lot easier
than trying to sift through the financials
of individual stocks.
That's because every ETF has a specific goal or objective
that makes it unique from the rest
which means that they've already done all the work picking
the individual stocks that fall within those guidelines.
By understanding the goal of an ETF is going to help you
narrow down the search
based on what exactly you're looking for.
If you're looking for a United States IT specific ETF,
then we get started out on ETF.com to a list
or search for it in the investing platform
that you plan on using to make sure
that it's available there.
In this case, you'll go to ETF.com
and drill down to the it specific options.
Here's a list that they've sorted
from highest to lowest assets under management.
And since those top two are the biggest by a long shot,
we'll start the process by evaluating both of them.
One quick step that I'd like to add in right here
is to check to make sure that these ETFs
are offered on the investing platform
that I would plan on using
or you would plan on using,
you wanna check that out because if they're not,
then there's no reason for you or me
to continue with this search.
In this case M1 Finance is my platform of choice,
we'll do a quick search right there.
And as you can see, both of these ETFs
are offered through M1 Finance.
If you wanna check them out as well
the news my link down in the description of this video
to open up an account.
If you use that link,
you'll receive a free $30 when you deposit
at least $100 into a taxable investment account
or $500 into an IRA.
Now that we have that done, let's check out the description.
It looks like VGT tracks a market cap weighted index
of it companies and XLK tracks and index
of S&P 500 tech stocks.
Reading a little bit more
about the analytics insight for each one,
gives us a better understanding of what the deal is
with each of them.
The next thing that's extremely important
to understand is the expense ratio for an ETF
that you were looking at.
This is of course going to be the fee that you pay
for owning that specific ETF.
One thing to always know it know is there is no free lunches
in the ETF game which is perfectly fine,
there's no issue with that
but we want to try to avoid getting
all of our lunch money essentially taken from us.
The higher fees are usually associated
with actively managed ETFs.
The passively managed ETFs are about as dirt cheap
as it gets.
An ETF like VOO is a passive ETF
because it tracks the exact same holdings
that are a part of the S&P 500.
The fund manager isn't trying to actively pick
which stocks to hold within that ETF
because the S&P 500 is already determining
that for them automatically, it's a lot less work
which is going to make it a lot cheaper to own.
On the other hand, an Ark ETF like ARKK
is an actively managed ETF because they're actively
buying and selling their holdings on a regular basis.
The actively managed funds usually cost more than passive
because there's a lot more work going on
behind the scenes to pick those individual stocks.
Kathy Wood from ARK has employees
who are out there doing research on different companies,
different sectors and trying to gather
as much intelligence as possible
so that they can predict where they shouldn't,
where they should be investing money
for that specific fund so that they can hopefully
be a passive index like VOO.
This is why the expense ratio for an ETF
is 0.75% versus the 0.03% that's charged for VOO.
I know that 0.75% doesn't sound like a lot on the surface
but an arc ETF is basically 25 times more expensive
than a passive ETF like VOO.
There's nothing wrong with this
if you were looking for an ETF that invests like ARK does
but you better hope that their returns be a VOO ETF
over a long period of time.
To give you some context on how much these fees
actually cost you.
NerdWallet run a scenario a couple of years ago
on how much a 1% fee would cost someone
over a 40 year time period.
They found that paying a 1% fee would cost about $590,000
in sacrificed returns.
Now, I didn't do this specific math
but at a 0.75% expense ratio
that would be around 300 to $400,000 lost in returns.
I don't know about where you're from
but here in the Midwest, that's equal
to about four or five cash flowing rental properties.
Expense ratios matter in the long-term.
Even if they look really, really small on the surface.
Now I personally try to stay under 0.20% if at all possible
but as with everything,
there's usually exceptions to the rule.
The next thing you want to take a look at
is the overall number of holdings
and how much of those overall holdings is concentrated
within the top 10.
Sticking with the two IT ETFs that we've been talking about,
VGT holds about 359 stocks and XLK holds 76,
right there that tells us that VGT
is a little bit more diversified than XLK.
We can dig a little bit deeper to understand
how each of those holdings are broken down
from a large, mid and small cap perspective.
In the case of VGT, we can see that the majority of it
is in large cap companies which are a bit more stable
but it also has some exposure
to mid and small cap companies as well.
With XLK 99% of it is large cap
so basically the whole thing.
Generally speaking, a good rule of thumb
is that large cap stocks come with lower risk
and potentially lower returns,
mid cap stocks come with high risk, high reward,
small cap come with higher risk, higher reward
and micro caps are the highest risk with the highest reward.
When we look at the top 10 breakdown of sectors,
we can see that the majority of the 100% pie for both ETFs
is going into software and IT,
computers, phones and semiconductors.
Since these are both technology ETFs,
this makes complete sense
and doesn't really throw up any red flags for us.
Now if we saw either of them allocating
their percentage to the financials
or consumer staple sector
then we might want to question why
because those don't directly have much to do
with the technology space.
Looking at how much of the portfolio
is concentrated into the top 10, we'll give you
a good idea of what's going to be making this ETF move
in either direction.
In the case of these two examples,
we're looking at the top 10 accounting
for about 57% and 66% which is quite a bit.
To give you an idea of how I personally gauge this,
I'd say that if the top 10 makes up 30% or less
of the whole overall holdings,
then that's a pretty conservative amount.
Of course, beyond that,
you have to look at how that percentage is broken down
among each of the top 10 companies.
If it was spread evenly among all of them,
then that's even more conservative.
If you look at VGT and XLK,
more than half of the money that's allocated
to the top 10 is going into apple and Microsoft.
With that much of the overall pie
going towards these companies,
they're going to play a big part
in the price going up and down.
So essentially for every $100 that you invest into VGT,
$20 of it is going to go into apple
and $16 of it is going to go into Microsoft.
Now there's nothing wrong with that.
I'm not saying that it's a good or bad thing,
it's just something to be aware of when investing
in this ETF or any other ETF,
it's good to pay attention to this sort of thing.
If you were someone who didn't see
a bright future for Apple or Microsoft,
then you might want to think twice before picking up
one of these ETFs because the majority of your money
is going to be put into both of those companies.
As you look at more and more ETFs,
you might start to notice that most of the ones
that have been around for a long enough
have all performed fairly well.
There's a reason for this.
If an ETF isn't performing well for long enough,
then the company managing that investment
or that ETF is able to completely shut it down altogether.
This happens to one that you own
that there's really nothing to worry about
because they won't go running off with your money.
You'll still own those specific shares until the fund closes
on the date that they announced to you.
You'll probably be down some money
but it's not just going to disappear one day.
This isn't super common with some of the larger ETFs
but some of the smaller and sector specific ones,
you gotta be careful
because they are a little bit more risky
if they're not performing very well
that managing company could decide to just cut it off
one day and shut it down.
After they announced a closure you'll usually
have between 30 to 60 days to liquidate your holdings.
Now, if you don't do it by that point,
then they'll usually do it for you automatically
and the cash will show up in your brokerage account.
To be honest, we could go deeper
with our analysis when picking an ETF that's right for you.
But what we've touched on in this video
is a really good place to start with the whole process.
If you want me to make a deeper dive video
then let me know in the comments down below.
Now that we've covered the things you need to think about
in detail when picking an ETF,
let's just do a quick recap so that you can create
a little checklist for yourself.
Number one, choose an asset class.
Number two, choose a location.
Number three, chooses sector.
Number four, pick one or two ETFs to look at and compare.
Now make sure to double check
to make sure that it's offered
through your investing platform of choice.
Like I said, I'll have a link in the description
to get a free $30 from M1 Finance if you're interested.
Number five, review the objective of that ETF.
Number six, understand the expense ratio,
is it an active or passively managed ETF.
Number seven, look at the number of holdings.
How does it break down at a large, mid, small
and micro cap level?
What's the percentage breakdown of the top 10 sectors,
the top 10 holdings?
If you have any ETFs that you want me to look at
break down and give you my thoughts on,
then leave those down in the comments below
and I'll do my best to get to them.
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I'll see you in the next one, friends.
Done.