Buying exchange traded funds

By Bob Moeller
WEAC Member Benefits

February 2008

Financial Planning Seminars
Achieving Financial Independence

By Bob Moeller

This article walks you through the process of opening a discount brokerage account and also gives a couple of examples of the Exchange Traded Funds (ETF) phenomena. To buy an ETF, you must deal with a brokerage house and pay commissions. In simple terms, there are full-charge brokers (theoretically more “full” service) and discount brokers. I recently transferred my only full-charge but inactive brokerage account after I had a need to sell 200 shares of a holding and the broker indicated he could “let me” sell it for a commission of only $150. At one of my discount brokers I would have paid between $5 and $15.

I use several discount brokers including Fidelity, Bank of America, and Muriel Siebert. There are others such as Ameritrade and Scottrade which would also be just fine. I trade strictly over the Internet, do my own research through these accounts, and earn 4.2% or so on any extra cash I have in the accounts. I almost never talk to brokers, although they are available if I have a problem.

All discount brokers have toll-free numbers. When opening an account you should ask a few key questions:

1. Assuming I have a balance of about $xxx in the account, what is my commission schedule? (You are looking for less than $20 per trade, hopefully closer to $10).

2. Are there any inactivity fees? (You want “NO.”)

3. What do you use as an account for my cash (referred to as a sweep account) and what interest rate was paid last month? (You do not want a “bank” type savings account; you want a money market mutual fund paying normal rates of around 4.2% or more as this is written).
Assuming the answers are suitable, ask them to send you papers to open an account, fill them out, and send in a check. Your money should automatically be placed in your sweep account. Don’t want to do all this research? Call Muriel Siebert at 1-800-872-0711.

Now go to the brokerage house Web site and set up access to your account. Click tabs to explore what else there is you can do. Go to “Research” and research an ETF or stock or mutual fund. Eventually you will place an order and see how easy it is. Any problems? Call the broker. The broker will be glad to help you, but if he or she makes the trade you will pay more.

ETFs have revolutionized the investment world over the past few years. At first they were an inexpensive way to invest in index funds. Lately some are becoming very specialized. They are excellent for index investing. As just one example, Vanguard has a Total Stock Market ETF (VTI), which essentially invests in every stock in the U.S. If you just want to be investing “in the market” this is a good way to do it. Total fee is .07% per year. That means if you had $10,000 invested here, your total costs would be $7 per year. ETFs are also an excellent way of doing some specialized investing that you would find difficult or expensive to do on your own.

For example, after doing some research, I recently bought a small amount of the Powershares G10 Currency Harvest ETF, (symbol DBV).

I chose this fund because it was a clear diversification of my investments, allowed me to invest in something I could never do on my own, and had possible high yields. However, it also has possible high risk, so I am not recommending this to you; it is just an example. The Powershares G10 Currency Harvest ETF essentially (putting it very short and simple) borrows money in countries with low interest rates (for example, Japan has interest rates of less than 1% a year) and then buys higher yielding investments in countries with high interest rates. They make use of futures contracts and other complicated methods and charge ETF holders a total fee of 0.6%. You could never do this on your own, and no mutual fund (to my knowledge) does it. All it took was a simple Internet order with a $15 commission and I owned a little of it. The fund’s 2007 performance was +5.9%.

Posted February 27, 2008