Characteristics of ETFs
An ETF is passively managed since the investor can gain exposure to a particular index or commodity, without the need of using the services of a fund manager, providing that investor with the same returns as the underlying market.
In this sense it means that there is no active fund management involved and hence whatever direction the market takes, the ETF will just follow. Basically if the market plummets the value of the ETF follow instantly as there is no control on the investment since the fund's mandate is just to follow the particular index it is tracking.
An ETF is traded on a major stock exchange like the New York Stock Exchange or Nasdaq. If you've ever traded an individual stock, then buying and selling an ETF will feel familiar because it's traded the same way. With ETFs you will have real time pricing (like a stock) and these can be bought and sold very quickly on the market and thus considered very liquid.
Fund & diversification aspect
An ETF is a collection (or "basket") of tens, hundreds, or sometimes thousands of stocks or bonds or other assets in a single fund.
So, in the context of diversification, an ETF will feel similar to a mutual fund since by holding one vehicle you will actually be having exposures to various underlying instruments.
Therefore, an ETF will hold a collection of investments and if one particular stock/bond is doing badly, there is a very good change that the others are doing well and this will therefore minimize your losses.
On the other hand, when you buy individual stocks and bonds, if one goes south, your savings could take a much bigger hit in a short period.
ETFs generally have lower management expense ratios (annual operating costs as a percentage of average net assets) than actively managed mutual funds since no active management is involved. Lower costs mean more of a fund's returns go to the investor.
You can buy an ETF for the price of 1 share. That price could be as little as $50 or as much as a few hundred dollars, depending on the ETF. For a Mutual Fund, the minimum investment requirement normally starts from around $3,000 and can go up to $1 million for institutional investments depending on the fund and the class involved.
Since ETFs trade like stocks, the investor can have more control over the price as one will be able to place limit orders, market orders or stop orders something which cannot be done with a mutual fund.
Also if for instance the investor would like to take a macro approach on a particular geographical region, sector or asset class, an ETF is very convenient as this can be done very easy due to the vast range of ETFs available. For example, if a manager wants to increase exposure into Gold, he can just invest in a GOLD ETF (e.g. SPDR GLD) to gain that exposure in a very short time span.
Diverse array of investments
ETFs can provide access to a wide variety of sectors and indices, while helping investors avoid “single stock risk”. The level of diversification is related to the breadth of the underlying index which the ETF tracks.
Ability to invest in an entire market segment
ETF fund managers may replicate the index by having the fund tracking it by “owning” every security in the index according to its set weighting, or “optimizing” the portfolio by selecting those securities that will track the index as closely as possible without having to own each individual security