Top of main content

What is an ETF?

An Exchange Traded Fund (ETF) is an investment fund that aims to match the performance of a specific index like the FTSE 100.

ETFs contain a set of investments you can buy and sell as a single package, making them a convenient way to invest in multiple shares or bonds at once. 

They‘re listed on a stock exchange and you can trade them like individual stocks through a share dealing account.

So, if you want to diversify your portfolio and get access to a wide range of assets, investing in ETFs could be a good option. 

Here, we look at:

How do ETFs work? 

Examples of ETFs

Do ETFs pay dividends? 

How do you invest in ETFs?

How do ETFs work?

ETFs are made up of the constituent parts of a particular index. So, if you invest in a FTSE 100 ETF, you’ll essentially be getting a very small stake in all the companies within the FTSE 100. The value of your investment will rise or fall in line with the performance of the index.

You can trade ETFs on the stock market at any time. They’re liquid assets, meaning you can buy and sell them without delays or price fluctuations. This differs from other types of funds, where trades are placed at the end of the day. 

ETFs have 2 prices at any given moment:

  • ‘Ask' – the amount someone is willing to sell at
  • ‘Bid’ – the amount someone is willing to buy at

The difference between the 2 is known as the ‘bid/ask’ spread. 

ETFs are treated the same way as traditional investments for tax purposes, which means you may need to pay capital gains tax if you earn a profit. 

However, you can hold most ETFs within a stocks and shares ISA – a tax-efficient account that shields any returns you make from UK income tax and capital gains tax.

Keep in mind, tax rules can change and any benefits will depend on your individual circumstances.

Examples of ETFs

There’s a wide variety of ETFs available, covering different asset types, including shares, bonds, property, and commodities. Investing in ETFs can help you spread risk and build a diversified portfolio with different types of assets from all over the world.  

On the UK stock market alone, there are ETFs tracking many different indices. 

There are also ETFs listed on the London Stock Exchange that track the performance of non-UK companies. 

If you want access to companies in the US, you can invest in ETFs which track the performance of companies listed on US stock exchanges.

Do ETFs pay dividends?

When you invest in an ETF, you may receive dividends if companies within the fund pay them. Dividend payments vary in frequency and amount, depending on the specific strategy of the fund and the stocks within it.

Dividends received from ETFs are considered taxable income. The tax you pay depends on the dividend amount and your personal circumstances. 

You won’t have to pay tax if your total dividend amount is below the dividend allowance

And if you hold an ETF in a stocks and shares ISA, you won’t have any tax to pay on the dividends you receive. 

How do you invest in ETFs?

Before you invest, aim to build an emergency fund of 3 to 6 months' worth of living expenses to help prevent you from having to sell your investments too early.

To buy ETFs, you first need to open a share dealing account. If you open an online share dealing account with us, once your account has been opened, you can explore the ETFs we offer by selecting ‘Exchange Traded Funds’ from the ‘Market Data’ section in the top navigation. 

Remember, the value of investments can go up and down, and you may not get back what you invest.

Investing should be seen as a medium to long-term commitment, which means you should be prepared to invest for at least 5 years to give your money a chance to grow. 

Eligibility criteria and fees apply.