Exchange-traded Fund

How does a retail investor typically buy shares of an exchange-traded fund, compared with an open-end mutual fund?

1. A.At net asset value plus a front-end sales charge set by the ETF distributorETFs are not sold with a front-end load. The investor cost is commission and spread.
2. B.Directly from the ETF sponsor at the next computed net asset value, exactly like a mutual fundThat is mutual fund mechanics. Retail ETF buyers transact in the secondary market.
3. C.Only in large creation units, which is why ETFs are limited to institutionsCreation units describe how authorized participants deal with the fund, not how individuals buy shares.
4. D.Through a broker on an exchange at a market price that may differ from NAV, paying a commission and the spread, while mutual fund shares are bought from the fund at the next computed priceCorrect. Secondary market pricing for the ETF, forward pricing from the fund for the mutual fund.

Why: ETF shares trade on an exchange like a stock. A retail investor buys them through a broker at a market price that can sit slightly above or below net asset value, paying any commission plus the bid-ask spread. Open-end mutual fund shares are bought from the fund itself at the next computed price after the order is received. Clue in the stem: exchange-traded describes where the transaction happens, and that changes everything about pricing.

A retail customer buys shares of an exchange-traded fund through her brokerage account during the trading day. Which statement about that purchase is correct?

1. A.The fund receives her money and issues her newly created shares in return.Wrong. New shares are created only through large transactions with authorized participants, never through retail orders.
2. B.She has bought at the net asset value calculated at the end of that day.Wrong. Exchange-traded shares change hands at market prices all day, which need not equal net asset value.
3. C.The purchase is a primary market transaction, just as with an open-end fund.Wrong. That describes an open-end fund purchase, where the fund itself issues the shares to the buyer.
4. D.She bought existing shares from another investor in the secondary market.Correct. Retail ETF trades match buyers with sellers on an exchange, exactly like trades in a listed stock.

Why: Exchange-traded funds trade on two levels. Ordinary investors buy and sell shares on an exchange at prices set by supply and demand throughout the day, which is secondary market activity that sends nothing to the fund. Separately, large institutions create or redeem shares directly with the fund in substantial blocks, and that is where new shares originate. This arrangement is why an ETF's market price tracks its net asset value closely without ever being defined as equal to it.

All of the following are characteristics of exchange-traded funds EXCEPT:

1. A.Shares trade throughout the day at market pricesIntraday trading is a genuine ETF characteristic.
2. B.Expense ratios are typically lower than those of comparable actively managed fundsLow expenses are a real and commonly cited ETF characteristic.
3. C.Shares are priced once per day at the next computed net asset valueCorrect. That is the open-end mutual fund model, so it is the exception here.
4. D.Shares may be purchased on margin and sold shortBecause ETFs trade like stock, these secondary-market techniques do apply.

Why: ETFs trade intraday on an exchange at market prices, can be bought on margin, and typically carry low expense ratios. Pricing only once a day at a forward NAV describes an open-end mutual fund, not an ETF.

A cost-conscious investor wants intraday tradability and broad index exposure. Which product best fits?

1. A.An exchange-traded fundCorrect — an ETF trades intraday, tracks an index, and carries low expenses.
2. B.A unit investment trustA UIT holds a fixed portfolio and is not designed for active intraday trading.
3. C.A direct participation programA DPP is an illiquid partnership, the opposite of an intraday-tradable index vehicle.
4. D.A load open-end mutual fundA load fund adds sales charges and prices only once a day at NAV.

Why: An exchange-traded fund (ETF) trades intraday on an exchange, commonly tracks an index, and typically carries low expenses — matching all three preferences.