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sA exchange-traded fund (ETF) is a security that mimics the performance of the actual digital currency. The underlying asset in the case of a ETF is the digital currency. There are exchanges, which are just networks of computers, where and ETFs are traded. However, the Securities and Exchange Commission (SEC) has not approved a ETF for trading on U.S. exchanges. Consider working with a financial advisor before you decide to invest in cryptocurrencies.

How ETFs Work

An ETF is a basket of securities in which you can invest and diversify your portfolio. Let’s say you would like exposure to the entire stock market. There are several market indexes that reflect the stock market. Perhaps the most well-known is the Standard and Poor’s 500 (S&P 500) market index. Very few investors would have the funds available to buy stock in all 500 companies. Instead, they can invest in an ETF that holds equity securities traded on the S&P 500. It tracks the price of the S&P 500. The ETF gives the investors exposure to the securities in the S&P 500 since that market index is the underlying asset.

ETFs are set up like mutual funds, although ETFs are usually cheaper. They have passive management and the management fees are lower. They are traded on the exchanges just like stock. More importantly, they give investors access to types of financial assets to which investors would usually not have access as well as some diversification.

How ETFs Work 

Man touches a digital crytocurrency price board ETFs work exactly the same as other ETFs, but is the underlying asset instead of stocks or bonds. Investing in a ETF gives you exposure to the market. By purchasing a ETF, you are indirectly investing in , but you hold a position in an investment portfolio without having to deal with the security and storage issues of holding the currency. If you invest in a ETF, your risk is lower but still very significant.

Keep in mind that is subject to extreme price volatility. As a result, ETFs have more risk than many other ETFs because of the price volatility of the underlying asset.

The beauty of investing in a ETF instead of in the digital currency itself is that ETFs are investment vehicles that are subject to regulation, which makes them safer for private investors. Even though there is no ETF approved for trading on U.S. exchanges, speculators or investors can use the Canadian exchanges.

Recently, several EFTs have been approved in Canada. financial assets can also be traded on several exchanges in Europe. Some of those are exchange-traded notes. There is an over-the-counter Trust available for investors to invest in. Here’s what you need to know about this type of security.

Pros and Cons of ETFs

There are several potential benefits of ETFs over digital currency:

  • ETFs are safer and easier for cryptocurrency investors to invest in. By contrast, buying currency raises the issues of security and storage.
  • is a new investment asset. Since it is not related to stocks or bonds or other traditional investment assets in any way, it does provide a degree of diversification to your portfolio although it also increases the risk. ETFs provide a little less risk.
  • If you invest in ETFs instead of the underlying digital currency, then you can trade through traditional exchanges. You won’t have to deal with a cryptocurrency exchange.
  • If investors think the price of is going to go down, they can short-sell ETFs, but not currency outside an ETF.

While there are potential advantages to ETFs, there are several reasons to be cautious:

  • ETFs have management fees. The more shares you own of the ETF, the higher your management fees.
  • You cannot trade housed in an ETF for other cryptocurrencies.
  • ETFs may be inaccurate. Due primarily to price volatility, a ETF may not accurately track its market index.

Special Considerations for Investors

Woman checking her  ETFThere are special considerations investors should make before investing in ETFs. The industry is rife with fraud. Unscrupulous individuals may try to sell you false . Keep in mind that your key is the same thing as your PIN for your debit or credit cards and that key is subject to theft. There are also computer glitches that might allow in hackers, malware or computer viruses. The cryptocurrency market has almost no uniform rules and regulations.

As ETFs are developed in various countries, governmental regulations that are imposed could devalue any cryptocurrency, including . The lack of regulation could cause a lack of liquidity in the market as well as a question about the legitimacy of and all cryptocurrencies.

The Bottom Line

ETFs are more convenient ways to invest in the currency than the underlying digital version. The SEC is being cautious before it approves ETFs for the U.S. due to the inherent riskiness of this new type of currency. Due to the lack of regulation in the cryptocurrency market and its Wild West reputation, the SEC fears manipulation and is concerned that one rogue investor could move the market.

Tips on Investing

  • and all cryptocurrencies are risky and not meant for beginning investors. If you think you might want to invest in EFTs, it would be best to talk with a financial advisor. Finding one doesn’t have to be hard. If you use SmartAsset’s financial advisor matching tool, you can find a financial advisor to your liking. If you’re ready, get started now.
  • It may be inevitable that ETFs come to U.S. exchanges. If you are interested in buying shares in an ETF, even if it is not a U.S. EFT, use  SmartAsset’s asset allocation calculator to get an idea of how it would fit in your portfolio.

Photo credit: ©iStock.com/Nature, ©iStock.com/Funtap, ©iStock.com/DisobeyArt

Rosemary Carlson
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