Little funds, big investments

Despite great strides to make the market more friendly to those with lesser funds, it is frequently stacked against the little player. Before I was in debt, I had a paltry sum money to invest. Wanting to avoid the hassle of reporting tax gains and losses from stock trades, I decided to open a Roth IRA. There was only about $1,000 in my initial deposit.

The commissions from my initial broker made trading cost-prohibitive. Every trade was about 1% of my total account value (~$10). If I wanted to realize gains on one share of a $100 stock, I needed to wait for it to climb 20 points (ten for purchase and ten for sale). With $1,000, it becomes very difficult to invest diversely and smartly. This was a recipe for disaster, until I found commission-free ETFs.

The advantages of commission-free ETFs

For me, as a small player in the market with scarce time for research in individual stocks, it’s important to save money in trading fees and pick more diverse index funds. Mutual funds are great as a diversification strategy, but often require a sizeable sum to start. That’s where commission-free ETFs come into the picture. 

In 2008, ETFs became a popular way to purchase managed (someone controls what the index is invested in) funds on the open market with live pricing; unlike mutual funds, which NAV prices update only once a day. They’re easy to trade right on the traditional exchanges, and instantly diversify your portfolio, while giving you the choice in a variety of broad-market sectors.

As the popularity rose, brokers took a keen interest in attracting new customers by offering free trades in certain ETFs. There are serious considerations to make before investing in any of these commission-free ETFs. Despite the diversification, these investments still have sizable risk and still require some research. That being said, commission-free ETFs can be a tremendous way to begin investing, diversifying your holdings, and saving money.

The Top 3 Commission-Free ETF Brokers

1. TD Ameritrade

TD Ameritrade offers 101 options and some of the biggest names are included: iShares, PowerShares, SPDR, and Vanguard. The list is a collection of Morningstar reviewed and recommended ETFs and most of them have small expense ratios (especially Vanguard ETFs). Account minimums and flexible investment options make TD Ameritrade a solid trading platform. Accounts include free CNBC TV, as well.

2. Vanguard

Expense ratios at Vanguard have always been notoriously low. They pride themselves on being affordable and smart for the average investor. This fairness easily makes Vanguard a great option for commission-free ETFs. Their group of about 45 ETFs are all free to trade within a Vanguard account. The only reason this doesn’t rank higher on the broker list is because TD Ameritrade accounts already have access to most of these funds.

3. E*Trade

E*Trade is the stalwart of online brokers. They’ve been around since the beginning. This broker offers about 90 commission-free ETFs from DB-X, Global-X, and WisdomTree. The largest concern with E*Trade is that these funds tend to have larger expense ratios. E*Trade offers an incredible mobile trade platform and terrific customer service. Opening a new account is easy to do.

Important considerations before you invest

Despite this great convenience and ease, here are three concerns to watch out for:

1. Some ETFs are traded sparingly. This liquidity problem may lead to great differences between bid/ask prices, and a trade that isn’t in your favor. Consider the volume traded each day in the ETF you hope to invest in.
2. Commission-free ETFs aren’t a good way to daytrade, as some companies (i.e., TD Ameritrade and E*Trade) charge an exit fee for ETFs held less than 30 days.
3. Beware of exploitative expense ratios. ETFs, like any other fund, charge a commission for the privilege of diversification and sometimes  active management. These fees may add up over the long-term (See E*Trade as an example).

Have you ever invested in commission-free ETFs? What’s been your experience? Need some help further understanding ETFs? Read this book.