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ETFs 101: Exchange-Traded Funds

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1.
Compared to mutual funds, exchange-traded funds are ______ to make capital-gains distributions.
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Less likely. However, at times they must, in order to adjust for changes to their underlying indexes.
2.
How do investors buy and sell most exchange-traded funds?
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Through a broker. Because these shares trade on an exchange, investors have to go through a broker to buy and sell shares. Only the very wealthy can sell shares back to the sponsoring fund family. And when they do, they won't get cash back, but shares of the ETF's underlying holdings.
3.
Exchange-traded funds typically are _______.
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Passively managed, or indexed. For the arbitrage mechanism to work, potential arbitragers must have full, timely knowledge of the ETF's holdings. Active managers rarely disclose this information more than twice per year, though, which is why indexing has been the strategy of choice for ETFs thus far.
4.
Which statement is false about exchange-traded funds?
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ETFs are always the cheaper choice for all investors. Although the annual expenses of ETFs are below those of mutual funds, you must pay a commission each time you buy an ETF. As a result, ETFs may not be cheaper choices for investors who invest a little bit at a time, or those who trade actively.
5.
In general, exchange-traded funds are cheaper to buy than index mutual funds if you want to trade regularly.
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False. Because of their commissions, regular trading will likely cost you more with exchange-traded funds.