BU Invests is committed to promoting financial literacy among the students of Bishop’s University by providing fact-based and unbiased information on financial tools and markets. 

By Kai Luginbuhl, Owen Grand & Jack Best – Contributors

In this article, we explore the fundamentals of three popular investment tools: exchange-traded funds (ETFs), bonds and active management, with the goal of providing an informative introductory description of each tool.

Exchange-traded funds

Exchange-traded funds (ETFs) are one kind of financial investment tool. Created in 1990, they are an exchange-tradable product that pools an underlying amount of securities and sells partial ownership of that pool to an investor. They operate much like an individual stock. These securities can be bonds, stocks, gold, debt, futures, commodities and cryptocurrencies. ETFs can be specific to a type of asset class, industry or economy.

This tool can offer investors opportunities for trading flexibility, portfolio diversification and risk management. ETFs usually demand significantly lower fees than actively managed funds, making them an interesting option for people who aren’t investing large sums of money. There are drawbacks to ETFs, namely, giving up specific choices of stock possession and tax exposure.

There are two main types of ETFs. First, there are passive ETFs that aim to replicate the performance of a broader index such as the S&P 500. Actively managed ETFs have a portfolio manager that actively decides what securities to add to the ETF asset pool. 

Bonds

Like ETFs, a bond is a form of investment. A bond represents money that an investor has loaned to a business. Imagine you have a friend who wants to start a carwash business for Bishop’s students but needs money to buy supplies. Instead of going to the bank for a loan, your friend asks you and others to invest in their business. Let’s say you loan $100 (the principal) to your friend, and they promise to pay you a little money every month (the interest). They also promise to pay back the $100 when their business grows (the term). When a company raises money by issuing bonds, it promises to pay interest periodically (annually or at some other interval), also known as a coupon, which is a percentage of the bond’s face value or principal.

Before buying a bond, it’s important to consider the term length or maturity period, which can range from a few months to several decades, and the rate of interest. In the case of your friend’s car wash business, you might agree to terms where they’ll pay back your initial investment in six months at a set rate of interest. When the term is finished, the bond matures. The company is expected to pay back the money they borrowed from you when you bought the bond, plus interest, thus closing the loan. 

Active management

Active management is an investment tool that involves giving funds directly to a fund manager or management company, which they then invest at their discretion or follow a set plan. Fund managers’ portfolios should be tailored to their clients’ risk tolerance and asset preferences. Actively managed funds aim to provide higher returns while also mitigating risk by relying on their professional expertise and level of supervision. However, by no means are managed funds always successful or the right choice for an investor. Expertise can come at a significant cost because of management fees drawn from investment returns or capital. Many high-earning individuals make investments through active management; they are essentially paying a professional to make and summarize investment decisions based on the investor’s risk tolerance. 

Disclaimer: This article is for informational purposes only and is not intended to be personal financial advice. BU Invests members are not certified, authorized or trained in regard to managing funds, giving investment advice or providing commentary on the financial markets. Readers must do their own research before making investment decisions and seek professional guidance as needed.