Advantage: ETFs: investment benefits of exchange traded funds.

• Author: Pinsky, Barry L.
• Position: Financialplanning

The investment community is perennially abuzz with innovative products and services. And while many eventually fade, exchange traded funds (ETFs) have thrived thanks to beneficial tax and diversification characteristics. As these attributes accrue to the advantage of their clients through widespread ownership of ETFs, tax professionals can profit from an understanding of the features of these securities.

ETFs afford a convenient gateway to the most aggressive investment instruments (think emerging foreign equity markets and commodities) and the most conservative, such as Treasury Bills. Like conventional mutual funds, dividends and income are distributed to investors on a monthly, quarterly or annual basis.

[ILLUSTRATION OMITTED]

Perhaps the best way to understand the utility of ETFs is to review the advantages they offer to investors namely diversification, reduced expenses, trading flexibility, transparency and tax efficiency.

Diversification

Firms underwriting ETFs have introduced a dazzling array of investment offerings since the 1993 introduction of the first ETF. Standard and Poor's Depository Receipts. ETFs may represent the equity markets of individual countries (Italy, Brazil) or regions (Latin America, Europe); industry sectors (Financials, health care, semiconductors); or size and style designations (Russell 2000 Small Cap Growth stocks). Recent innovations have provided access to fixed income instruments (Aggregate Bond Index, Treasury Inflationprotected Securities), commodities (gold, petroleum) and REITs.

Most ETFs afford diversification within a classification, holding a range of individual securities within the specific category. Each ETF represents an immediately diversified sampling within the defined class. An intelligent selection of ETFs permits an extraordinarily diversified portfolio of stocks, corporate and government bonds, commodities, etc. This broad diversity and the specific focus of each security permit asset allocations to match almost any client profile.

Nonetheless, it's important to understand that portfolio construction for every individual investor still requires diligence and deliberation. ETFs in one narrow sector would provide little expected mitigation in volatility. Careful evaluation of each security' and issuer is key.

Reduced Expenses

ETFs are frequently passively managed collections of securities, with low turnover. Consequently, the management fees are generally quite low. However, fees can vary...