Exchange-traded funds (ETFs) have become one of the most talked-about financial tools in modern investing. Whether you're saving for retirement, testing out investment strategies, or just looking for an easy way to enter the stock market, ETFs are a flexible and increasingly common option for everyone from college students to professional investors.

ETF Basics

ETFs are investment funds that hold a collection of assets, like stocks, bonds, or commodities, and trade on public exchanges, much like individual stocks. When you buy a share of an ETF, you're getting a small piece of everything that fund holds. This allows investors to diversify their portfolios without buying dozens or even hundreds of individual securities. Most ETFs are designed to track specific indexes like the S&P500 or economic sectors such as technology, utilities or consumer products. Since the first ETF was created in 1993, the number of ETFs has exploded, with over 4,000 now available to investors.

ETFs are popular for several reasons. They are relatively easy to access, with investors able to buy and sell shares throughout the trading day using a standard brokerage account. This is different from mutual funds, which only trade once per day after the markets close.

Another major advantage is cost. Many ETFs charge lower annual fees than mutual funds, especially those that passively track indexes. These low fees have made them especially attractive for new investors just starting out. ETFs are generally more tax-efficient than mutual funds because when you buy a mutual fund, you will be responsible for any capital gain that is realized when a security is sold. This is not true for ETFs.

However, not all ETFs are low risk. Some ETFs use leverage (borrowed money) to increase the size of the fund. This can magnify daily gains as long as the return on the portfolio is greater than the interest rate on the borrowed money. Leverage works both ways, and it can also magnify losses. These leveraged ETFs are meant for short-term trading and are generally not recommended for long-term investors. For instance, funds that aim to triple the daily performance of the Nasdaq 100 can behave unpredictably over time. These leveraged products can be appealing to risk-tolerant traders, but they are often criticized for being too complex.

A Shift from Mutual Funds to ETFs

Mutual funds were once the default choice for long-term investors, but that is changing fast. Over the past few years, investors have pulled more than a trillion dollars out of mutual funds and shifted that money into ETFs. In fact, 2025 is on pace to become a record-breaking year for ETF inflows, with more than $437 billion invested in U.S. ETFs during the first half of the year alone. The reasons include lower costs, greater flexibility, and better tax treatment.

Some of the most popular ETFs include low-cost index trackers like Vanguard’s S&P 500 ETF (VOO), which recently became the largest ETF in the world by assets. During market downturns, many investors saw these dips as buying opportunities and used ETFs to quickly deploy cash into the market.

Active ETFs

While ETFs began as passive tools meant to track indexes, actively managed ETFs have become increasingly common. In fact, more than half of the new ETF launches in 2025 have been actively managed. These funds are run by portfolio managers who pick and choose assets based on a specific strategy, rather than simply following a preset index. Active ETFs now account for a growing share of the market, with assets rising from $171 billion in 2020 to more than $860 billion in 2024. These funds are especially appealing to investors seeking strategies that adjust with market conditions, and they’ve gained popularity among retirees looking for income and stability.

New Developments

One of the biggest recent developments in the ETF world is how far the funds have expanded beyond traditional stocks and bonds. Today, there are ETFs that offer exposure to Bitcoin, Ethereum, and other cryptocurrencies.

Other ETFs provide access to private credit markets and venture-backed companies, which used to be reserved only for wealthy investors. Themed ETFs are also growing rapidly. Some focus on pet care, artificial intelligence, or even political trends. High-profile investors and analysts have created branded ETFs that reflect their market outlooks. One fund that tracks 30 artificial intelligence companies was created by Dan Ives of Wedbush Securities, a wealth management, brokerage, and advisory firm. Its ticker symbol is IVES.

The Future of ETFs

One of the most important changes coming to the ETF world involves regulation. Historically, mutual funds and ETFs were kept separate under SEC rules. That divide may soon disappear. Vanguard had long held a patent allowing mutual funds to create ETF share classes, but that patent expired in 2023. Now, dozens of other firms have applied to do the same, and the SEC is considering granting relief that would allow mutual fund managers to offer ETF versions of their existing strategies.

If approved, this shift could change how trillions of dollars are managed. Investors could soon have the choice between mutual fund and ETF formats for the same investment strategy, depending on their preferences for trading flexibility, tax treatment, or account type.

For most new investors, the best approach is to build a simple, diversified portfolio using low-cost ETFs. As with any investment, it’s important to understand what you’re buying. Research the fund’s holdings, its strategy, the cost, and how it fits into your broader financial goals. While the ETF market is filled with exciting new options, not every new launch is a winner.

In the Classroom

This article can be used to discuss exchange-traded funds (Chapter 15: Money and the Financial System).

Discussion Questions

  1. What are some of the key reasons ETFs have become more popular than mutual funds in recent years?
  2. How do actively managed ETFs differ from traditional index-tracking ETFs, and why have they grown in popularity?
  3. What are the potential risks associated with leveraged ETFs, and why are they generally not recommended for long-term investors?

This article was developed with the support of Kelsey Reddick for and under the direction of O.C. Ferrell, Linda Ferrell, and Geoff Hirt.