ETFs, or Exchange-Traded Funds, offer investors the diversification they need to mitigate risk while providing an easy way to track or gain exposure to indexes, sectors, currencies or entire countries.

An ETF is simply a basket of securities that provides you with a slice of ownership in each component within the basket. Want to invest in technology? Try iShares U.S. Technology ETF. Maybe you're seeking exposure to Japanese yen. Take a look at Currency SharesJapanese Yen Trust. ETFs are similar to mutual funds but trade readily like a stock so they provide excellent liquidity for investors.

You could comprise your entire portfolio using ETFs if you so decided. Some ETFs also offer dividends so for those who like to receive regular income from their investments, these may offer a good option.

Below are some of the pros and cons of owning ETFs:

Pros:

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  • Offers diversification
  • Easy to trade
  • Low expense ratios
  • Tax efficient
  • Offers exposure to equities, currencies and other assets at different levels like sector or country
  • Dividend yields
  • Some ETFs offer options and shorting

Cons:

  • Commissions can erode returns, depending on broker
  • Some ETFs have smaller volume which creates higher bid-ask spreads
  • Some ETFs are taxed higher (e.g. ETFs that hold precious metals)

Smart investors can make good use of ETFs in their portfolio. It's important, as with all investments, to weigh selections carefully.

This article is commentary by an independent contributor. At the time of publication, the author held no positions in the stocks mentioned.