So What Type of ETF Investor Are You?

There's an ever-increasing smorgasbord of exchange-traded funds out there, which means it's crucial to determine what kind of investor you are before you load up your ETF plate.
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With so many new products flooding into the exchange-traded fund universe, it can be difficult to select the ETFs that best suit your investment goals.

That's why it's important to determine what type of ETF investor you are.

By locating yourself within one of the three broad categories below you'll be able to better select funds that match your investment strategy.

The Professional Trader

The type of trader uses ETFs on a daily basis to manage exposure, hedge positions and augment existing holdings. Because the professional trader is well versed in some of the more complex financial instruments, such as derivatives and swaps, this active trader has a broad range of ETFs at his or her disposal.

Professional traders will often use leveraged ETFs, like the

Direxion Daily Financial Bull

(FAS) - Get Report


Direxion Daily Financial Bear

(FAZ) - Get Report

, to manage existing exposure on a daily basis. They will not will not hold on to funds like FAS or FAZ over an extended period and, more often than not, will trade in and out of leveraged funds within a single session.

Complex futures and swaps-tracking commodity funds, like

United States Natural Gas

(UNG) - Get Report

, may also be appropriate for the professional trader who understands the methodology and risks. Professional traders may be able to exploit the inefficiencies in these funds to gain attractive returns.

Most important to the professional trader are


and timing. These traders have to quickly get in and out of positions and often hedge or sell positions at the end of each trading day.

The Active Trader

The active trader is an investors who uses ETFs to gain high-touch access to the market. Although this kind of trader's ETF portfolio may not be a stand-alone portfolio of funds, he or she may select ETFs to underscore existing positions, to trade short-term trends or to gain access to specific sectors of the market.

The active trader may hold a position for just a few days, but he or she is more to target a trend than to hedge a broader portfolio actively. Popular ETFs like

SPDR Gold Shares

(GLD) - Get Report


iShares TIPS

(TIP) - Get Report

allow the active trader to gain exposure to asset classes that may not already be included in his or her broader portfolio.

Like the professional trader, the active trader places importance on liquidity. ETFs with high daily trading volume allow the active trader to move easily in and out of funds, without concerns about premiums and discounts. Another primary concern is the potential for overlap. As active traders add ETFs to a broader portfolio, they should check existing holdings to avoid unintended pockets of concentration.

The Hands-Off Trader

This type of trader doesn't want to interact with the market on a daily basis. Hands-off traders often build small, tax-efficient portfolios anchored by core holdings like

PowerShares QQQ



SPDR S&P 500

(SPY) - Get Report



(DIA) - Get Report

. (Remember, however, that


ETF portfolios should be monitored on at least a quarterly basis.)

Core holdings help to keep these portfolios "on the highway," while additional sector, bond or commodities positions round out a more diversified investment picture.

It is also appropriate for the hands-off trader to consider some "smart index" or even actively managed strategies. Since the hands-off Trader plans on holding these funds for the longer term, seeking alpha from different indexing strategies can be key.

PowerShares has several "dynamic" ETFs that use advanced indexing to try to outperform. Although active ETFs are still in the early stages, the

PIMCO Enhanced Short Maturity Strategy Fund

(MINT) - Get Report


PIMCO Intermediate Municipal Bond Strategy Fund

(MUNI) - Get Report

are good alternatives for passive investors seeking fixed income exposure.

The ETF industry is expanding rapidly, and problems arise when investors purchase funds that are inappropriate for their strategies. One way to avoid investment pitfalls is to loosely identify your "investor type" and then explore the funds that fit within your comfort level.

At the time of publication, Dion Money Management owned TIP.

Don Dion is president and founder of

Dion Money Management

, a fee-based investment advisory firm to affluent individuals, families and nonprofit organizations, where he is responsible for setting investment policy, creating custom portfolios and overseeing the performance of client accounts. Founded in 1996 and based in Williamstown, Mass., Dion Money Management manages assets for clients in 49 states and 11 countries. Dion is a licensed attorney in Massachusetts and Maine and has more than 25 years' experience working in the financial markets, having founded and run two publicly traded companies before establishing Dion Money Management.

Dion also is publisher of the Fidelity Independent Adviser family of newsletters, which provides to a broad range of investors his commentary on the financial markets, with a specific emphasis on mutual funds and exchange-traded funds. With more than 100,000 subscribers in the U.S. and 29 other countries, Fidelity Independent Adviser publishes six monthly newsletters and three weekly newsletters. Its flagship publication, Fidelity Independent Adviser, has been published monthly for 11 years and reaches 40,000 subscribers.