Suppose you have been thinking about investing in ETFs, and you are unsure if you should start investing now. I looked over the internet and gathered the most frequently asked questions about ETFs. Here is everything you need to know about ETFs.
ETF or Exchange Traded Fund is a type of investment fund that track a basket of companies. ETF tracks the top-performing companies in a specific market passively. ETFs are flexible, low cost and low maintenance, which can be purchased and traded just like individual stocks. The S&P 500 is the most common and widely known ETF that track the top 500 performing companies in the US.
Are ETFs a good way to invest?
Investing in market tracking ETFs are the most accessible type of investments vehicles. When you buy an ETF, you immediately diversity your investment portfolio by purchasing a small slice of all the companies tracked by that index; this gives you great exposure into the stock market without the need to buy individual stocks.
ETFs have low-cost management fees. The S&P 500 is the most common and widely known ETF that is tracked by both Vanguard and iShare with low annual management fees, as shown below:
| S&P 500 ETF | Annual Management Fees |
|---|---|
| VOO – Vanguard S&P 500 ETF | 0.03% |
| iShares S&P 500 ETF | IVV | 0.04% |
In addition, investing in an ETF can make a significant return in the long term. If you invest $5,000 a year for the next 20 years in an ETF that average around 9% annual return, in 20 years, you would have invested $100,000 but made $278,822.65 in total compound interest earned on your investment. That means that in 20 years, you have doubled your money by almost 1.8 times.
| Year | Deposit | Current Balance | Interest | Total |
|---|---|---|---|---|
| 1 | 5,000 | 5,000 | 450 | 5,450.00 |
| 2 | 5,000 | 5,450.00 | 940.50 | 11,390.50 |
| 3 | 5,000 | 11,390.50 | 1,475.15 | 17,865.65 |
| 4 | 5,000 | 17,865.65 | 2,057.91 | 24,923.55 |
| 5 | 5,000 | 24,923.55 | 2,693.12 | 32,616.67 |
| 6 | 5,000 | 32,616.67 | 3,385.50 | 41,002.17 |
| 7 | 5,000 | 41,002.17 | 4,140.20 | 50,142.37 |
| 8 | 5,000 | 50,142.37 | 4,962.81 | 60,105.18 |
| 9 | 5,000 | 60,105.18 | 5,859.47 | 70,964.65 |
| 10 | 5,000 | 70,964.65 | 6,836.82 | 82,801.47 |
| 11 | 5,000 | 82,801.47 | 7,902.13 | 95,703.60 |
| 12 | 5,000 | 95,703.60 | 9,063.32 | 109,766.92 |
| 13 | 5,000 | 109,766.92 | 10,329.02 | 125,095.95 |
| 14 | 5,000 | 125,095.95 | 11,708.64 | 141,804.58 |
| 15 | 5,000 | 141,804.58 | 13,212.41 | 160,016.99 |
| 16 | 5,000 | 160,016.99 | 14,851.53 | 179,868.52 |
| 17 | 5,000 | 179,868.52 | 16,638.17 | 201,506.69 |
| 18 | 5,000 | 201,506.69 | 18,585.60 | 225,092.29 |
| 19 | 5,000 | 225,092.29 | 20,708.31 | 250,800.60 |
| 20 | 5,000 | 250,800.60 | 23,022.05 | 278,822.65 |
| Sum | $100,000 |
How to Invest in ETFs?
There are few strategies to invest in ETFs. The most effective way to invest is to implement a Dollar Cost Averaging strategy or DCA. DCA is investing a specific amount at regular intervals. Instead of depositing a huge amount of money once a year, you deposit that amount in small deposits throughout the year.
This strategy can give the average of the market, which makes your investing completely passive. By investing this way, you capture the average of the market, which means you do not have to worry about the market being overpriced because if you break up your annual lump sum into small investments throughout the year, it will give you the average of the market in the long term.
Is now a good time to buy ETFs?
In 2021, everyone thinks that the stock market is currently overpriced, and we are in a bubble. Although that might be true, it does not matter much if you invest in the long term because the market seems to grow exponentially in the long term. If you look at the last two recessions, the “.com” bubble in 2000 and the housing market crash in 2008, people at that time thought it was a bubble. If you invested during any or both of those bubbles, you would have seen a crash. However, if you look at the stock market now, it had grown way more since the last stock crash.
Therefore, if we are in a bubble now, it simply does not make any difference for the long term investor because the market seems always give its fair value in the long term.
Why should you invest early in ETFs?
Investing early in your life give you the benefit of time. If you let your money compounds itself for 30 years, the returns are much higher than only investing for 20 years. In addition, if you invest heavily at the beginning, your money can grow exponentially.
The following examples show why investing early in your life can give you high returns.
Example 1: Investing $150,000 for 20 years
Let us take a hypothetical example of consistently investing for 20 years in an ETF that gives you a 10% annual return on your investment. For the first 10 years, you only invest $5000, and after the first ten years, you invest $10,000 until the end of the 20 years. In 20 years, you would have invested $150,000 and made a total of $402,668.33, which is 1.7 times more than what you initially invested.
| Year | Deposit | Current Balance | Interest | Total |
|---|---|---|---|---|
| 1 | 5,000 | 5,000 | 500.00 | 5,500.00 |
| 2 | 5,000 | 5,500.00 | 1,050.00 | 11,550.00 |
| 3 | 5,000 | 11,550.00 | 1,655.00 | 18,205.00 |
| 4 | 5,000 | 18,205.00 | 2,320.50 | 25,525.50 |
| 5 | 5,000 | 25,525.50 | 3,052.55 | 33,578.05 |
| 6 | 5,000 | 33,578.05 | 3,857.81 | 42,435.86 |
| 7 | 5,000 | 42,435.86 | 4,743.59 | 52,179.44 |
| 8 | 5,000 | 52,179.44 | 5,717.94 | 62,897.38 |
| 9 | 5,000 | 62,897.38 | 6,789.74 | 74,687.12 |
| 10 | 5,000 | 74,687.12 | 7,968.71 | 87,655.84 |
| 11 | 10,000 | 87,655.84 | 9,765.58 | 107,421.42 |
| 12 | 10,000 | 107,421.42 | 11,742.14 | 129,163.56 |
| 13 | 10,000 | 129,163.56 | 13,916.36 | 153,079.92 |
| 14 | 10,000 | 153,079.92 | 16,307.99 | 179,387.91 |
| 15 | 10,000 | 179,387.91 | 18,938.79 | 208,326.70 |
| 16 | 10,000 | 208,326.70 | 21,832.67 | 240,159.37 |
| 17 | 10,000 | 240,159.37 | 25,015.94 | 275,175.31 |
| 18 | 10,000 | 275,175.31 | 28,517.53 | 313,692.84 |
| 19 | 10,000 | 313,692.84 | 32,369.28 | 356,062.12 |
| 20 | 10,000 | 356,062.12 | 36,606.21 | 402,668.33 |
| Sum | $150,000 |
Example 2: Investing $100,000 for 20 years
You can make a higher return on your investment if you invest heavily at the beginning. Suppose you invest $10,000 every year for the next 10 years on an ETF, which gives you a 10% annual return on your investment. In 20 years, you would have invested $100,000 but made a total of $454,713.32, which means you have doubled your money 3.5 times.
That means you have invested $50,000 less than Example 1 but made $52,044 more than example 1.
| Year | Deposit | Current Balance | Interest | Total |
|---|---|---|---|---|
| 1 | 10,000 | 10,000 | 1,000 | 11,000.00 |
| 2 | 10,000 | 11,000.00 | 2,100.00 | 23,100.00 |
| 3 | 10,000 | 23,100.00 | 3,310.00 | 36,410.00 |
| 4 | 10,000 | 36,410.00 | 4,641.00 | 51,051.00 |
| 5 | 10,000 | 51,051.00 | 6,105.10 | 67,156.10 |
| 6 | 10,000 | 67,156.10 | 7,715.61 | 84,871.71 |
| 7 | 10,000 | 84,871.71 | 9,487.17 | 104,358.88 |
| 8 | 10,000 | 104,358.88 | 11,435.89 | 125,794.77 |
| 9 | 10,000 | 125,794.77 | 13,579.48 | 149,374.25 |
| 10 | 10,000 | 149,374.25 | 15,937.42 | 175,311.67 |
| 11 | – | 175,311.67 | 17,531.17 | 192,842.84 |
| 12 | – | 192,842.84 | 19,284.28 | 212,127.12 |
| 13 | – | 212,127.12 | 21,212.71 | 233,339.83 |
| 14 | – | 233,339.83 | 23,333.98 | 256,673.82 |
| 15 | – | 256,673.82 | 25,667.38 | 282,341.20 |
| 16 | – | 282,341.20 | 28,234.12 | 310,575.32 |
| 17 | – | 310,575.32 | 31,057.53 | 341,632.85 |
| 18 | – | 341,632.85 | 34,163.29 | 375,796.14 |
| 19 | – | 375,796.14 | 37,579.61 | 413,375.75 |
| 20 | – | 413,375.75 | 41,337.57 | 454,713.32 |
| Sum | $100,000 |
Example 3: Investing $150,000 for 30 years
Suppose we keep investing $10,000 in Example 1 every year for the next 30 years with the same 10% return on investment or ROI. In 30 years, you will invest $250,000 and make a $1,219,729.62 return.
| Year | Deposit | Current Balance | Interest | Total |
|---|---|---|---|---|
| 1 | 5,000 | 5,000 | 500.00 | 5,500.00 |
| 2 | 5,000 | 5,500.00 | 1,050.00 | 11,550.00 |
| 3 | 5,000 | 11,550.00 | 1,655.00 | 18,205.00 |
| 4 | 5,000 | 18,205.00 | 2,320.50 | 25,525.50 |
| 5 | 5,000 | 25,525.50 | 3,052.55 | 33,578.05 |
| 6 | 5,000 | 33,578.05 | 3,857.81 | 42,435.86 |
| 7 | 5,000 | 42,435.86 | 4,743.59 | 52,179.44 |
| 8 | 5,000 | 52,179.44 | 5,717.94 | 62,897.38 |
| 9 | 5,000 | 62,897.38 | 6,789.74 | 74,687.12 |
| 10 | 5,000 | 74,687.12 | 7,968.71 | 87,655.84 |
| 11 | 10,000 | 87,655.84 | 9,765.58 | 107,421.42 |
| 12 | 10,000 | 107,421.42 | 11,742.14 | 129,163.56 |
| 13 | 10,000 | 129,163.56 | 13,916.36 | 153,079.92 |
| 14 | 10,000 | 153,079.92 | 16,307.99 | 179,387.91 |
| 15 | 10,000 | 179,387.91 | 18,938.79 | 208,326.70 |
| 16 | 10,000 | 208,326.70 | 21,832.67 | 240,159.37 |
| 17 | 10,000 | 240,159.37 | 25,015.94 | 275,175.31 |
| 18 | 10,000 | 275,175.31 | 28,517.53 | 313,692.84 |
| 19 | 10,000 | 313,692.84 | 32,369.28 | 356,062.12 |
| 20 | 10,000 | 356,062.12 | 36,606.21 | 402,668.33 |
| 21 | 10,000 | 402,668.33 | 41,266.83 | 453,935.17 |
| 22 | 10,000 | 453,935.17 | 46,393.52 | 510,328.68 |
| 23 | 10,000 | 510,328.68 | 52,032.87 | 572,361.55 |
| 24 | 10,000 | 572,361.55 | 58,236.16 | 640,597.71 |
| 25 | 10,000 | 640,597.71 | 65,059.77 | 715,657.48 |
| 26 | 10,000 | 715,657.48 | 72,565.75 | 798,223.22 |
| 27 | 10,000 | 798,223.22 | 80,822.32 | 889,045.55 |
| 28 | 10,000 | 889,045.55 | 89,904.55 | 988,950.10 |
| 29 | 10,000 | 988,950.10 | 99,895.01 | 1,098,845.11 |
| 30 | 10,000 | 1,098,845.11 | 110,884.51 | 1,219,729.62 |
| Sum | $250,000 |
Example 4: Investing $100,000 for 30 years
In Example 2, if the same amount was left in that ETF for the next 30 years and assuming you are still making a 10% annual return, that $100,000 will grow to $1,179,409.26, almost 11 times more than what you have initially invested. You have invested $150,000 less and only made $40,320 less than example 3.
| Year | Deposit | Current Balance | Interest | Total |
|---|---|---|---|---|
| 1 | 10,000 | 10,000 | 1,000 | 11,000.00 |
| 2 | 10,000 | 11,000.00 | 2,100.00 | 23,100.00 |
| 3 | 10,000 | 23,100.00 | 3,310.00 | 36,410.00 |
| 4 | 10,000 | 36,410.00 | 4,641.00 | 51,051.00 |
| 5 | 10,000 | 51,051.00 | 6,105.10 | 67,156.10 |
| 6 | 10,000 | 67,156.10 | 7,715.61 | 84,871.71 |
| 7 | 10,000 | 84,871.71 | 9,487.17 | 104,358.88 |
| 8 | 10,000 | 104,358.88 | 11,435.89 | 125,794.77 |
| 9 | 10,000 | 125,794.77 | 13,579.48 | 149,374.25 |
| 10 | 10,000 | 149,374.25 | 15,937.42 | 175,311.67 |
| 11 | – | 175,311.67 | 17,531.17 | 192,842.84 |
| 12 | – | 192,842.84 | 19,284.28 | 212,127.12 |
| 13 | – | 212,127.12 | 21,212.71 | 233,339.83 |
| 14 | – | 233,339.83 | 23,333.98 | 256,673.82 |
| 15 | – | 256,673.82 | 25,667.38 | 282,341.20 |
| 16 | – | 282,341.20 | 28,234.12 | 310,575.32 |
| 17 | – | 310,575.32 | 31,057.53 | 341,632.85 |
| 18 | – | 341,632.85 | 34,163.29 | 375,796.14 |
| 19 | – | 375,796.14 | 37,579.61 | 413,375.75 |
| 20 | – | 413,375.75 | 41,337.57 | 454,713.32 |
| 21 | – | 454,713.32 | 45,471.33 | 500,184.66 |
| 22 | – | 500,184.66 | 50,018.47 | 550,203.12 |
| 23 | – | 550,203.12 | 55,020.31 | 605,223.43 |
| 24 | – | 605,223.43 | 60,522.34 | 665,745.78 |
| 25 | – | 665,745.78 | 66,574.58 | 732,320.36 |
| 26 | – | 732,320.36 | 73,232.04 | 805,552.39 |
| 27 | – | 805,552.39 | 80,555.24 | 886,107.63 |
| 28 | – | 886,107.63 | 88,610.76 | 974,718.39 |
| 29 | – | 974,718.39 | 97,471.84 | 1,072,190.23 |
| 30 | – | 1,072,190.23 | 107,219.02 | 1,179,409.26 |
| Sum | $100,000 |
The Bottom Line
The examples above show the benefit of investing in Market tracking ETFs. Investing early in your life can give you a high return if you keep your money invested for the long term. The important thing is that you have to invest consistently and keep your emotions in check regardless of the current market.
