Explore the opportunities of ETF trading

Thought Starters 4 minutes to read

Saxo Group

Summary:  With an exchange-traded fund (ETF), you can get a broad exposure to a basket of financial assets through a single instrument. And, with ETFs offering short-selling and leverage opportunities, you can stay competitive in both bear and low volatility environments. In this article, we analyse three different ETF types and how you can use them in your investment strategy.


What is an ETF?
An ETF is an investment fund that’s traded on a stock exchange, much like a common stock. ETFs are generally designed to track the performance of an underlying benchmark index, such as the S&P 500. They track the underlying by holding a basket of related securities, which will closely match the holdings of the benchmark index. For example, an ETF tracking the S&P 500, could invest in the 500 companies constituting the index, in similar weightings. This is known as physical replication, which means that the ETF provider owns the underlying physical assets. However, some newer ETFs also track derivative products such as VIX index derivatives or futures contracts, and some ETFs even apply leveraging and inverse payoffs of the underlying benchmark.

What ETFs can you trade in SaxoTraderGO?
In SaxoTraderGO, you can trade traditional, leveraged and inverse ETFs tracking a diverse range of instruments, including equity indices, equities, commodities and bonds. 

Traditional ETFs
The traditional ETF is the most common of the three different ETF types, and tracks an underlying index on a one-to-one basis, just like a direct equity position. The world´s largest and most liquid traditional ETF is SPDR S&P 500 ETF Trust (SPY), which is designed to track the S&P500 index (SPX). The chart below illustrates how the returns for both the S&P500 (orange line) and the SPY ETF (blue line) developed in the last five years.

Source: Saxo Group. Chart: 5Y – 11/06/2020

Leveraged ETFs
Whereas traditional ETFs track an underlying benchmark on a one-to-one basis, leveraged ETFs use debt and/or derivatives to give returns in a specified multiple of the daily one-to-one return, commonly two or three times. This generally makes leveraged ETFs much more volatile than a traditional ETF. The most-traded leveraged stock ETF is the ProShares UltraPRO QQQ ETF (TQQQ), which offers three times daily long leverage to the daily performance of the Nasdaq-100 Index. The chart below illustrates how the returns for both the Nasdaq (orange line) and the leveraged ETF (blue line) developed in the last five years.

Source: Saxo Group. Chart: 5Y – 11/06/2020

Inverse ETFs
Inverse ETFs use derivatives to benefit from a value decrease in an underlying. The inverse ETF enables you to exploit short selling without having a margin account, as you´re not shorting any instrument yourself. ProShares Short S&P500 (SH) is one of the most traded inverse ETFs, which offers the daily short performance of the S&P 500 Index. The chart below illustrates how the returns of the S&P500 (orange line) and its inverse ETF (blue line) developed in the last five years.

Source: Saxo Group. Chart: 5Y – 11/06/2020

ETF characteristics
ETFs offer diversified industry exposure at low expense ratios and save you time on research and analysis. More specifically, the large variety of ETFs available in SaxoTraderGO can enable you to cheaply tailor your portfolio according to your investment strategy and risk appetite, in any market environment. 

However, like any investment product, trading ETFs does involve risk. This is especially true of leveraged ETFs. While they use derivative products to try and amplify your potential returns on a benchmark index, conversely they will amplify your losses if the market moves against you.

Another important risk factor to bear in mind is tracking error, which refers to how much an ETF’s returns deviate from its underlying benchmark. In some instances, a high tracking error can be a good thing, if the fund is outperforming its benchmark. But if the fund is lagging the benchmark index by a wide margin, your returns will be negatively impacted – or you may even lose money on your initial investment.

Before you start trading ETFs, please make sure you understand the underlying mechanisms – especially if you want to trade derivative-tracking ETFs. You can find more information in this article. The table below also highlights some of the key similarities and differences between the three ETF types.

Try trading ETFs today 
If your portfolio lacks exposure to a specific industry or you want to explore the benefits of leverage and short selling, consider trading ETFs in SaxoTraderGO. We offer more than 3,000 ETFs that you can filter on several criteria, including sustainability score and Morningstar rating. Try out filtering ETFs based on your investment strategy.

Disclaimer

The Saxo Bank Group entities each provide execution-only service and access to Analysis permitting a person to view and/or use content available on or via the website. This content is not intended to and does not change or expand on the execution-only service. Such access and use are at all times subject to (i) The Terms of Use; (ii) Full Disclaimer; (iii) The Risk Warning; (iv) the Rules of Engagement and (v) Notices applying to Saxo News & Research and/or its content in addition (where relevant) to the terms governing the use of hyperlinks on the website of a member of the Saxo Bank Group by which access to Saxo News & Research is gained. Such content is therefore provided as no more than information. In particular no advice is intended to be provided or to be relied on as provided nor endorsed by any Saxo Bank Group entity; nor is it to be construed as solicitation or an incentive provided to subscribe for or sell or purchase any financial instrument. All trading or investments you make must be pursuant to your own unprompted and informed self-directed decision. As such no Saxo Bank Group entity will have or be liable for any losses that you may sustain as a result of any investment decision made in reliance on information which is available on Saxo News & Research or as a result of the use of the Saxo News & Research. Orders given and trades effected are deemed intended to be given or effected for the account of the customer with the Saxo Bank Group entity operating in the jurisdiction in which the customer resides and/or with whom the customer opened and maintains his/her trading account. Saxo News & Research does not contain (and should not be construed as containing) financial, investment, tax or trading advice or advice of any sort offered, recommended or endorsed by Saxo Bank Group and should not be construed as a record of our trading prices, or as an offer, incentive or solicitation for the subscription, sale or purchase in any financial instrument. To the extent that any content is construed as investment research, you must note and accept that the content was not intended to and has not been prepared in accordance with legal requirements designed to promote the independence of investment research and as such, would be considered as a marketing communication under relevant laws.

Please read our disclaimers:
- Notification on Non-Independent Investment Research (https://www.home.saxo/legal/niird/notification)
- Full disclaimer (https://www.home.saxo/en-gb/legal/disclaimer/saxo-disclaimer)

Trade Responsibly
All trading carries risk. To help you understand the risks involved we have put together a series of Key Information Documents (KIDs) highlighting the risks and rewards related to each product. Read more
Additional Key Information Documents are available in our trading platform.

Saxo Markets is a registered Trading Name of Saxo Capital Markets Ltd (‘SCML’). SCML is authorised and regulated by the Financial Conduct Authority, Firm Reference Number 551422. Registered address: 26th Floor, 40 Bank Street, Canary Wharf, London E14 5DA. Company number 7413871.

This website, including the information and materials contained in it, are not directed at, or intended for distribution to or use by, any person or entity who is a citizen or resident of or located in the United States, Belgium or any other jurisdiction where such distribution, publication, availability or use would be contrary to applicable law or regulation.

It is important that you understand that with investments, your capital is at risk. Past performance is not a guide to future performance. It is your responsibility to ensure that you make an informed decision about whether or not to invest with us. If you are still unsure if investing is right for you, please seek independent advice. Saxo Markets assumes no liability for any loss sustained from trading in accordance with a recommendation.

Apple, iPad and iPhone are trademarks of Apple Inc., registered in the U.S. and other countries. App Store is a service mark of Apple Inc. Android is a trademark of Google Inc.