Strategies

Every ETF strategy comes with its own purpose and risk profile, but some considerations cut across all strategies. Keep in mind that ETFs have certain costs that mutual funds typically don't have. These include brokerage commissions, bid-ask spreads, and the possibility of a deviation between an ETF's market price and its net asset value. Investors can benefit from a cost-benefit analysis to see whether their investment is large enough and their investment period is long enough to offset these costs.

Investors should also be realistic about their own temperament and tolerance for risk. Some of the ETF strategies described here entail taking concentrated investment positions, so it's important to weigh the extra risks involved against the potential rewards.

Here's an overview of the ways investors can use ETFs:

 

Strategic uses

Asset allocation	You can build a portfolio entirely of broadly diversified ETFs to achieve diversification across asset classes.
Sub-asset allocation	ETFs can be used to target specific market segments within the broad asset classes.
Active and passive combinations	Combining index ETFs with low-cost active funds and/or active ETFs may offer diversification and the opportunity for outperformance.

 

Tactical uses

Portfolio completion	ETFs can be used to fill gaps in a portfolio or to build customized portfolios.
Cash equitization	ETFs are an option for an investor with a large temporary cash position or when transitioning between asset managers.
Risk management	Investors can short sell ETFs to offset potential losses in their long positions.
Market rotation	Often considered a contrarian approach, market rotation involves knowingly overweighting or underweighting certain market segments or industry sectors.

 

Before moving forward with a strategy, consider the five "Ts"

Whether you're contemplating short-term or long-term solutions or looking to adjust risk exposure, consider the five "Ts" before you implement an ETF strategy.

• Transaction amounts
• Time period
• Trading costs
• Temperament of investor
• Trade-off between risk and return