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Trading ETFs? You Better Understand About This!

September 1st, 2015 at 10:46 am

ETF (exchange traded mutual funds) have been a great boon to the average investor. Generally they are low cost, and allow you to buy a fund during the day without waiting for the close. You also don't have to worry about hidden fees.

But there is a downside to ETFs and we saw it last Monday. A number of ETFs gapped down at the open. The market as a whole was down 5%, but some of the ETFs dropped 30%!!!

Why? Because the investors selling them did not understand the difference between a market and a limit order. For standard mutual funds, that's completely unimportant. You acquire the fund at the closing price at the end of the day. But ETFs trade like stocks, and so it's important for investors to understand about the difference between limit and market orders.

A market order says "Sell now at the going price". Which is usually fine. Except when you have a huge drop in the market like last week. In those instances, you want to use a limit order. A limit order says "Sell now, but at a price no lower than X".

Example: You want to sell the XYZ etf, which last traded at $20 a share. Instead of placing a limit order (sell at the going price) place a limit order, at say $19. That means "Sell at the best price possible, but no lower than $19". This will give you some insurance against a crazy day like last Monday.

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