Exchange Traded Funds or ETFs are basically mutual funds that trade just like stocks which makes them much more liquid than your run of the mill mutual fund. ETFs primarily come in three flavors: country based, sector based or index based although this past year there has been an influx of commodity and specialty ETFs introduced to the investing community, but these new funds are in the minority. In addition, actively managed ETFs are starting to make their way into ther market. Besides the liquidity factor, a low expense ratio has made ETFs a very popular way to invest your money the past five years. Personally, I prefer to be a stock picker, but sometimes circumstances dictate a change in strategy which is why I've utilized ETFs for the past six months.
I'm currently in leveraged ETFs to the short side and as a retail investor, this can be a boon or bust to your portfolio. Until last year this would have been almost unheard of for a small retail investor because leveraged index funds to both the long and short side had high minimums for investing. For example, ProFunds (the parent company of ProShares) required a $15,000 minimum for each of their leveraged funds and Rydex required a whopping minimum of $25,000 for each leveraged mutual fund. Now all you have to do is pay a commission for the trade (which is nominal at a discount broker) and whatever the cost of the shares you purchase at the market's going rate. The major players in leveraged ETFs are ProShares, Rydex and Direxion. To find out what products they offer, just go to their respective Web sites and download the prospectus that is applicable to your needs.
Now you may be wondering why I use leveraged ETFs as opposed to just playing the options game or shorting indivisual stocks. The answer is that it's safe and easy (if you consider being leveraged 300% safe). Only professional traders should use options and I don't care what the pundits on CNBC and Bloomberg tell you. Statistics show only 15% of retail options traders make a profit. Not only do you have to pay capital gains at ordinary income rates for your derivative trades, but you also have to be glued to your computer to try and beat the market. If you short individual stocks (yes, you can short ETFs, too), you have to have a margin account and can have the shares called in at any time by your broker.
With leveraged ETFs, and this is for both long and short positions, you let the issuing ETF company do the heavy lifting by not only shorting the shares, but also playing all of the derivatives games. No muss, no fuss, no wear and tear. Leveraged ETFs let you take very risky bets without the hassle. On a tax basis note, one of the ETFs I am currently invested in, the ProShares Ultra Short S&P 500 (SDS) pays a yearly dividend, so you will have to pay attention to the dividend date to reinvest your shares if this is an option for you. I do not recommend using the dividend reinvestment option with your broker because it a nightmare at tax time when you sell with all of the fractional shares. If you have an IRA, then that's a different story.