Exchange traded funds or ETFs have become one of the most popular investment vehicles, particularly in the equity space, thanks to their unique combination of features that address certain challenges associated with traditional investment products. By blending characteristics of mutual funds and closed-end investment companies, ETFs offer a flexible and cost efficient way to invest. To understand ETFs, let's first look at mutual funds. Mutual funds are open-ended investment vehicles, meaning they can continuously accept new money from investors, allowing them to grow as large as they like. The key benefit of mutual funds is that the price paid by investors to buy shares matches the net asset value or NAV. The NAV is calculated by dividing the total market value of the fund's assets by the number of shares issued. However, mutual funds have some operational constraints. The value of the shares is only calculated once per day, and investments into or out of the funds can also only be made at this single daily price.

Now, let's consider close-ended investment companies. These companies issue a fixed number of shares, much like any regular company. Their shares can be listed and traded on an exchange allowing investors to buy or sell shares at any time during the trading day. However, a key distinction is that the share price of a closed ended investment company may not match the NAV of the fund. The price fluctuates based on supply and demand for the shares in the market. For example, if there is strong investor demand for the fund, but no mechanism to issue new shares, the share price might trade at a premium to NAV. Conversely, if demand is weak, the share price may trade at a discount.

ETFs combine the best of both worlds like mutual funds. ETFs are open-ended, meaning they can grow as more investors wish to invest in them. But like closed-ended investment companies, their shares are listed on an exchange and investors can trade them throughout the day at variable prices. However, unlike closed ended funds, ETFs use a unique in kind creation and redemption process to ensure that the value of the shares closely matches the NAV.

ETFs offer additional benefits beyond these structural features, which we can summarize as cost asset class availability and flexibility starting with cost, most ETFs adopt a passive investment style resulting in significantly lower fees as compared to actively managed funds.

This makes them particularly attractive for cost conscious investors seeking broad market exposure. Next is asset class availability.

ETFs provide exposure to a wide range of asset classes, including equities, fixed income, commodities, and even emerging alternatives like Bitcoin. This breadth makes them a versatile tool for building diversified portfolios. Finally, flexibility ETFs combine the trading ease of an individual security with a diversification benefits of an open-ended or closed-ended fund. Investors can buy or sell shares of an ETF at any point during market hours, offering liquidity and ease of access.