Investing in Market Index with ETF

Exchange-traded funds, or ETFs, are similar to mutual funds but can be traded like stocks on exchanges, providing investors exposure to various markets, sectors, and asset classes.

You may come across many Youtubers recommending ETFs that follow a major market index, citing their simplicity and safety as key benefits for retail investors.

But if ETFs are such a great investment option, why do many investors still suffer losses? Was it possibly due to their choice or the timing of their trades?

In this lesson, we'll explore two key factors that can influence your ETF investment decisions: the underlying asset and the timing of your trades.

First things first, let's talk about how you might choose a suitable underlying asset.

The first step to trading an index ETF is identifying the index it tracks.

The S&P 500 is a typical market index, which investors use as the benchmark for the US stock market.

Other US market indexes include the Nasdaq Composite, the Dow Jones Industrial Average and the Russell 2000 Index.

Aside from the S&P 500, there are a number of other market indexes that reflect the development of securities markets in various countries and regions. For instance, there's the FTSE 100 index in the UK, the Nikkei 225 index in Japan, the CSI 300 index in mainland China, the Hang Seng Index in Hong Kong, and the Straits Times Index in Singapore. Each of these indexes serves as an economic barometer for its corresponding country or region.

If you find yourself struggling to decide which index to choose, there are a few key questions you can ask yourself: Will the index continue to rise? Is the market experiencing healthy and fair development? Will the region's economy maintain a positive growth trend?

It's worth noting that past performance does not indicate future trends, conditions could change substantially and even reverse themselves. Therefore, we should consider other factors when evaluating indexes.

For instance, when analyzing a US market index, investors might want to pay attention to its constituents as they can have a significant impact on overall performance.

If you're looking to invest in the US stock market as a whole, S&P 500 index-linked products may be a fitting choice. This is because the S&P 500 covers a diverse range of companies from various industries.

On the other hand, if you're interested in investing in the technology sector specifically, an ETF related to the NASDAQ index may be more appropriate for you.

Finally, if you'd like to include small and mid-cap stocks in your portfolio, the Dow Jones Industrial Average - also known as a blue-chip index - may not be the best option. Instead, you might consider the Russell 2000 Index, which focuses on smaller companies.

Once the index is decided, the next step is to choose a specific ETF.

But the question is, several ETFs may be tracking the same index. Which may be more appropriate given your individual situation?

We can compare some critical factors, including the ETFs' size, trading volume and management fees.

Suppose you are bullish on the US stock market and plan to buy an ETF, how to use moomoo?

1. Open moomoo. Tap on markets - US - ETFs.

2. Choose an index in "Equity Indices", for example, "S&P 500 ETF".

You can view tradable ETFs that track the S&P 500 index. Those containing "×2", "×3" labels in their names indicate they will increase in value by 2% or 3% if the underlying index rises 1%, while inverse ETFs suggest they will fall 1% if the underlying is up 1%. However, it should be noted that these leveraged or inverse ETFs generally only track the S&P 500's performance for a single day using derivatives like futures contracts and are not designed for long-term investing. Instead, many experienced traders typically use them as a hedging tool.

Next, we can sort the ETFs by their market capitalization. Generally, the larger the cap, the more liquid the ETF, and the smaller the bid-ask spreads.

To compare ETFs in detail, tap their symbols.

If you want to manage your transaction costs, you can review their management fees.

If you want to receive more dividends, you can compare their dividend payout ratio.

If you're a frequent trader, you can monitor their trading volume. Generally, the higher the volume, the smaller the bid-ask spreads.

By comparing the different characteristics of various ETFs, you can potentially find an appropriate ETF for yourself.

Then, let's consider the timing.

Here are two factors to consider: trading time and investment horizon.

Since ETFs can be traded just like stocks, if you're interested in short-term trading, you may use technical analysis indicators and chart patterns to help identify the highs and lows of the underlying index on a candlestick chart.

However, for investors with little experience or knowledge, it might be better to focus on the investment horizon.

Let's take S&P 500 as an example. If we look at the historical data of the index over the past ten years (as of May 25, 2023), we can see an overall uptrend with a rise of 165.69%, despite some fluctuations.

This indicates that holding onto a S&P 500 ETF for a long time can potentially yield significant returns. Suppose someone invested $10,000 in a S&P 500 ETF in May 2013 and never checked their securities account until May 2023, they would find its value had increased to $26,569.

*This hypothetical figure is not accounting for sales charges or taxes. It also assumes the reinvestment of dividends and capital gains. If these factors were included, then the quoted performance would likely be lower.

Therefore, a long-time horizon can generally help smooth the impact of price corrections if the index follows a general upward trend.

While investing for the long term can be a prudent strategy, it does not guarantee profits.

In the previous example, the remarkably high return was achieved under the premise of holding onto the ETF for ten years without making any additional trades. If the investor had attempted to trade the ETF shares in order to enhance potential returns, they may have incurred losses or even lost their principal investment.

In fact, market trends are difficult to anticipate and no one can know for certain what will happen.

So, how can we determine a more optimal timing to potentially increase returns? One option is to use an automatic investment plan or regular savings plan (RSP) which involves committing to invest a fixed amount of money at regular intervals over a longer period of time.

Let's say someone invests $10,000 in an S&P 500 ETF and also sets up an RSP to invest $300 at the beginning of each month. They could potentially earn a total return of $86,374.70, assuming the index maintains a 10% annual return for ten years.

*For demonstration purposes only. It does not take into account any potential fees and costs associated with this investment. The annual return for S&P 500 index actual performance may be different.

RSP is set up for regular investments over time at a fixed dollar amount, it helps the dollar cost average.

A recap of what we've learned today.

When investing in ETFs, choosing a long-term bullish index that is appropriate for your needs is generally an effective strategy.

Selecting an ETF based on factors such as market capitalization, management fee, dividend payout ratio, and trading volume can potentially improve your results.

Stretching your investment horizon as much as possible can give you more time to weather ups and downs in the market.