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What is an ETF? Definition, examples and risks for beginners

An ETF is a fund listed on the stock exchange that copies an index: in a single holding, you buy a small piece of dozens or hundreds of companies. It is often the first product people learn about, because it is simple to understand. Simple does not mean risk-free: here is how it works and what to check.

BULLSAGE Trader by MyBotIA · Published on · Educational content prepared with AI assistance, calculations checked. No personalised financial advice.

A one-sentence definition

ETF stands for “exchange-traded fund”, a fund traded on a stock exchange. It is also called a listed index fund, or a “tracker”. It follows an index (the Nasdaq 100, the S&P 500, the CAC 40…) and is bought like a share, during market hours.

How an ETF copies an index

  • Physical replication: the fund buys the shares in the index, in the same proportions (or a sample of them).
  • Synthetic replication: the fund holds other securities and enters into an exchange contract (a swap) with a bank, which pays it the index’s performance. In France, this is what makes it possible to hold ETFs that track US indices such as the Nasdaq 100 in a PEA, a French tax-advantaged share account (see Nasdaq 100 ETFs and the PEA, in French). The contract adds a counterparty risk (the risk that the bank fails to pay), which is regulated.

What an ETF costs

Every ETF charges annual fees, called ongoing charges (TER, total expense ratio), taken directly from the fund’s value. On top of that come the broker’s fees for buying and selling, and the spread (the difference between the buying price and the selling price).

Fictitious example

  • You put €1,000 into an ETF with ongoing charges of 0.20% a year.
  • If the index does not move for a year, the fund is worth about €998: the €2 of fees have been deducted over the year.
  • If the index rises by 10%, the fund rises by about 9.8%, before brokerage fees.

The risks to know

  • Market risk: if the index falls by 20%, the ETF falls by about 20%. Diversified does not mean protected.
  • Currency risk: an ETF on a US index follows shares priced in dollars; in euros, the result also depends on the euro-dollar exchange rate.
  • Concentration: some indices are dominated by a few giants. In the Nasdaq 100, the largest companies carry a lot of weight (see how the Nasdaq 100 is calculated).
  • Leveraged ETFs (“2x”): they aim for twice the daily change in the index. Over several days, their result can differ sharply from twice the index, especially when the market swings back and forth. They are not suitable for beginners.

ETFs and cryptocurrencies

In the United States, the SEC approved the first listed funds that directly hold bitcoins on 10 January 2024. In Europe, exposure to cryptocurrencies generally goes through other listed products (ETPs or ETNs), with different rules and risks. See what is Bitcoin.

ETFs for beginners: investing or trading?

Many savers use ETFs to invest for the long term. You can also trade them over a few hours or a few days, like a share, with the same rules: a stop defined before entry, a calculated size, a realistic target. Before risking money, practise with paper trading and follow the learn trading from A to Z path.

This article is educational: it does not recommend any product and is not investment advice. Read a fund’s key information document (KID) before any purchase.

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