How to Start Investing in ETFs in 2024: A Beginner's Guide

Step one: define your risk tolerance, objectives, and time horizon

The first step in building your ETF portfolio is a crucial one: defining your risk tolerance, investment objectives, and time horizon. This begins with an honest self-assessment, where you'll need to ask yourself three fundamental questions:

1. Understanding Your Risk Tolerance: How comfortable are you with seeing your investments fluctuate, sometimes significantly, in value? Can you withstand seeing your portfolio's value go down for an extended period without feeling the urge to sell in a panic? Your emotional response to market volatility is a key indicator of your risk tolerance.
2. Clarifying Your Investment Objectives: What are you investing for? Is it for long-term goals like retirement, or shorter-term objectives like saving for a down payment on a house? Also, consider the type of account you are using – is it a taxable account, a Roth IRA, a Health Savings Account (HSA), or something else? Your investment goals will influence the types of ETFs you choose.
3. Determining Your Time Horizon: How long do you plan to keep your money invested before you need to withdraw it? This is closely related to your investment objectives and will affect your investment strategy.

Understanding these factors is vital because they collectively determine your asset allocation – the mix of stocks, bonds, and cash in your portfolio.

For instance, someone with a low-risk tolerance who is already retired might prefer a conservative portfolio focused on income generation. Conversely, a younger investor with a long-time horizon until retirement can afford to take on more risk by focusing on equities for growth.

Take your time with this step and be truthful in your self-assessment. The goal is to establish an investment strategy that you can comfortably maintain over the long term, rather than attempting to over-optimize based on short-term market conditions or predictions.

Step two: build the core of your portfolio

After you've established your asset allocation, the next important step is building the core of your portfolio. Using the ETF Central Screener, you can easily begin with your stock allocation.

By selecting 'stocks' as the asset class, 'global' for the geographic zone, and opting for 'passive ETFs only' in the ETF characteristic filters, you'll be presented with a comprehensive list of globally diversified ETFs. This selection process currently results in 151 options.

You can then sort these ETFs by assets under management (AUM) to gauge their popularity and size, or by expense ratios to identify the most cost-efficient choices. You can also sort them by their historical performance, but remember, picking the best performing ETF of the past isn't a reliable way!

Among these, I think a standout option for beginners is the Vanguard Total World Stock ETF (VT). This ETF encapsulates the global stock market in a single investment vehicle, offering exposure to over 9,700 stocks from diverse regions including the U.S., Europe, Asia, the Middle East, and Africa.

With an expense ratio of only 0.07%, it's a remarkably affordable way to invest in a wide array of global stocks. For example, if you invest $10,000 in VT, your annual fees would be a mere $7. That being said, if you want some alternatives to VT, scrolling down on its page will present some similar ETFs.

Following this, you can also apply the same method to choose bonds for your portfolio, if that's what your asset allocation calls for. Adjust your search in the ETF Central Screener to focus on bond ETFs, aligning their ratio in your portfolio with your overall investment strategy and goals.

Step three: build the satellite of your portfolio

Building a satellite portion of your portfolio allows for a bit more speculation. However, it's generally advisable to allocate a modest portion of your portfolio, say 5-10%, to these more speculative investments. Rather than single stocks, consider exploring thematic ETFs.

Thematic ETFs are designed to capture growth-oriented investment opportunities in specific trends or sectors. These ETFs provide exposure to a range of forward-looking themes like cybersecurity, defense, artificial intelligence, electric vehicles, biotechnology, and more.

This type of investment can be particularly appealing as it aligns with emerging trends and industries, potentially offering higher growth prospects.

To find thematic ETFs that align with your interests, the ETF Central screener is an excellent tool. For instance, if you select 'stocks' as the asset class and then filter by themes like 'artificial intelligence' and 'big data,' the screener will present a list of ETFs that provide exposure to these specific areas.

For a broader exploration of the current thematic niches available, resources like Trackinsight's thematic taxonomy can be incredibly helpful. They offer an overview of various themes, helping you find one that resonates with your beliefs or interests.

However, it’s important to keep in mind that thematic ETFs often come with higher expense ratios compared to broad-market ETFs. They also tend to be less diversified, as they focus on a specific theme or sector. Finally, they can be somewhat volatile.

Due to these factors, it’s wise to keep the allocation to these ETFs smaller compared to your core portfolio. This approach helps limit the overall risk to your portfolio while still allowing you to pursue potentially higher growth opportunities in specific areas of interest.

In summary, the satellite portion of your portfolio is where you can take calculated risks with thematic ETFs, exploring areas you believe have growth potential. Just remember to balance this with the overall risk and diversification of your entire investment portfolio.

Please note this article is for information purposes only and does not in any way constitute investment advice. It is essential that you seek advice from a registered financial professional prior to making any investment decision.