How to choose an ETF: key metrics and practical tips

With thousands of ETFs available on global exchanges, selecting the right ones for your portfolio can feel overwhelming. Here are some key considerations to keep in mind when evaluating ETFs.

The ETF selection checklist

1. Expense ratio: the fee factor

The expense ratio represents the annual cost of owning an ETF, expressed as a percentage of your investment. This ongoing fee directly impacts your returns over time.

Practical tip: For broad market index ETFs, look for expense ratios below 0.20%. More specialized ETFs typically have higher expense ratios, but compare similar funds to ensure you're not overpaying. A difference of just 0.30% on a EUR 100,000 investment equals EUR 300 annually—money that could otherwise compound in your portfolio.

2. Tracking error: precision matters

Tracking error measures how closely an ETF follows its benchmark index. A lower tracking error indicates the fund is effectively replicating its target index.

Practical tip: Compare the ETF's performance chart against its benchmark over 1-3 years. Consistent underperformance beyond what the expense ratio would explain may indicate poor fund management or structural issues.

3. Liquidity: can you exit when needed?

Liquidity affects how easily you can buy or sell an ETF at a fair price. Higher liquidity generally means tighter bid-ask spreads and less price impact when trading.

Practical tip: Check the ETF's average daily trading volume and assets under management (AUM). For Saxo Bank clients making regular investments, ETFs with at least EUR 100 million in assets and average daily volume of 50,000+ shares typically provide adequate liquidity.

4. Fund size: bigger can be better

Larger ETFs (measured by assets under management) often benefit from economies of scale, potentially offering lower expense ratios and better liquidity. They also face less risk of closure.

Practical tip: Be cautious with ETFs under EUR 50 million in assets, especially for core portfolio holdings. Smaller funds may have higher trading costs and greater risk of being liquidated if they don't attract sufficient investor interest.

5. The KID (key information document): your essential guide

European regulations require all ETFs to provide a standardized key information document (KID) that outlines risks, costs, and potential performance scenarios.

Practical tip: Always review the KID before investing. Pay special attention to the risk indicator (rated 1-7), performance scenarios, and the breakdown of costs. This document helps you compare ETFs on a standardized basis.

Beyond the numbers: additional considerations

Multiple exchange listings

Many ETFs are listed on several exchanges in different currencies. This can affect your returns through trading costs and currency exposure.

Practical tip: When possible, choose ETFs listed in your base currency to avoid unnecessary currency conversion costs. If investing in a USD-denominated ETF from a euro account, consider whether the currency exposure is desired or if a euro-hedged version might be more appropriate.

Underlying assets

Understanding what your ETF actually holds is crucial, especially for sector or thematic ETFs where composition can vary significantly between seemingly similar funds.

Practical tip: Review the ETF's top 10 holdings and sector allocations. A technology ETF might be heavily weighted toward a few large companies or more evenly distributed across subsectors—a distinction that could significantly impact performance.

By systematically evaluating these key metrics and considerations, Saxo Bank clients can select ETFs that align with their investment goals while avoiding common pitfalls.