What Is an ETF? How ETFs Work and How to Buy Them in Canada

ETF stands for exchange-traded fund. It is a fund that pools many investors’ money into a basket of investments, such as stocks or bonds, run by a professional manager, and its units trade on a stock exchange like shares. Most ETFs follow an index, and their price moves through the trading day. This page explains how ETFs work, the kinds there are, what they cost, the risks and how to buy one in Canada, then lists the site’s ETF pages.

Jump to: How to buy an ETF · Leveraged ETFs · ETF directory

What is an ETF?

When you buy an ETF, you own units of the fund, not the stocks or bonds it holds. One unit gives you a slice of a portfolio that can hold many different stocks or other investments. Some ETFs aren’t broad, though: they hold one commodity, one cryptocurrency or a single company’s shares.

Most ETFs are designed to track an index, which the regulator’s investor site calls passive investing. Actively managed ETFs don’t track an index; a manager picks the holdings to meet the fund’s objective.

Three things draw people to them. You can see what an ETF holds and how much of each holding it has. The Ontario Securities Commission’s investor site says passive investing tends to cost less than active investing. And you can buy as little as one unit, since there is no minimum investment amount.

How does an ETF trade, and why does its price stay close to what it holds?

An ETF has two prices. The market price is what buyers and sellers agree on during the trading day. The net asset value (NAV) is what the holdings are worth per unit, worked out after the market closes each day. During the day the two usually differ a little, and by the close they should be near each other. When a fund trades above or below its NAV, it is at a premium or a discount.

What keeps them close is that the number of units can grow or shrink. One fund company explains that when demand rises, a designated broker or market maker hands the fund a basket of securities in exchange for new units, then sells those units on the exchange; when supply outruns demand, the process runs in reverse. Ordinary investors buy and sell units from each other on the exchange, without the fund’s involvement. A wide gap between the market price and the NAV at the close can be a sign that a fund is hard to trade.

Trading also has a bid-ask spread, the gap between what buyers will pay and what sellers will accept. A narrower spread generally means a fund trades more easily, which lowers the cost of buying and selling it. An index ETF’s return can also drift from its index; how index funds track their index explains why.

What kinds of ETFs are there?

An ETF that holds only a few investments, or one type, can swing more over short periods than a broad one. The regulator singles out commodity ETFs as higher risk for that reason.

What does an ETF cost?

The main yearly cost is the management expense ratio (MER): the fund pays its management fee and operating costs out of its assets, stated as a yearly percentage. You don’t pay it directly, but it comes out of your return. Actively managed and leveraged ETFs charge higher MERs than index ETFs.

Buying and selling can add a trading commission, which depends on the firm and the account. Some firms offer a list of ETFs they trade with no commission and charge their usual rate on the rest, one fund company notes. The spread is a cost too (see above). The MER calculator shows what fees cost over time, and ETF vs mutual fund compares the two on fees.

Do ETFs pay you anything?

Some ETFs pass on what their holdings earn as distributions: interest from bonds, dividends from stocks that pay them, and capital gains when the fund sells something for more than it paid. The CRA lists return of capital among the kinds of distribution a fund can pay. Distributions aren’t guaranteed.

The cash lands in your account; unlike many mutual funds, an ETF doesn’t reinvest it for you, though your firm may run a plan that buys more units with it. DRIP investing explains how reinvestment works, and the dividend and covered-call pages cover funds bought for income.

How are ETFs taxed?

In a TFSA or RRSP: Interest, dividends and capital gains earned in a TFSA are generally tax-free, even when you withdraw them. Income earned in an RRSP is usually exempt from tax as long as the funds remain in the plan, and you generally pay tax when you receive payments from it. (how investment income is taxed). In a taxable account you pay tax on the distributions and on any capital gain when you sell. A fund set up as a trust sends a T3 slip that breaks the distributions down by kind; how ETFs are taxed explains each kind, return of capital and the year-end distributions that change your cost base, and the T3 slip guide walks through the slip. ETFs listed outside Canada are taxed differently from Canadian-listed ones: see US-listed vs Canadian-listed ETFs. Which fund to hold in which account is covered in asset location.

Are ETFs safe? Can you lose money?

An ETF’s value rises and falls with what it holds. No ETF guarantees its performance, and you may get back less than you put in. Each fund’s ETF Facts document gives a risk rating, which the manager sets mainly from how much the fund’s returns swing.

An ETF isn’t a deposit: CDIC lists ETFs among the products it doesn’t insure (CDIC deposit insurance). CIPF protects property a member investment firm holds for you if that firm goes insolvent, and it doesn’t cover a drop in your investments’ value (broker safety and CIPF).

Some risks belong to the fund. A fund that holds a narrow slice of the market may be more volatile (see the kinds), and leveraged funds add risks of their own (below). A listed ETF still needs buyers: if no active market develops, you may not be able to sell when you want to.

What happens if an ETF closes? In one fund company’s recent closure notice, investors got at least 60 days’ notice, could keep trading the units until they were delisted, and were then paid their share of the fund’s net assets based on its net asset value per unit. In a taxable account, that payout counts as selling your units, so it can lead to a capital gain or loss.

What are leveraged and inverse ETFs?

A leveraged ETF uses borrowing or derivatives to aim for two or three times an index’s return for a single day, and it rebalances every day to keep that ratio. An inverse ETF aims for the opposite: if the index falls 10%, the fund is meant to rise 10%. Because each day starts fresh, results over longer periods can drift from the multiple, and when returns swing widely from day to day you can lose money even if the index ends where it began.

The Ontario Securities Commission calls leveraged ETFs “highly speculative short-term investments” that are “not appropriate for investors who are planning to hold their investment for longer than a day”. You can’t lose more than you invested, but you can lose all of it.

How do you buy an ETF in Canada?

ETFs are sold through investment dealers, either a full-service firm or an online trading platform. The steps:

1. Pick where to buy. A self-directed (online) brokerage account lets you place your own trades; an advisor at a full-service firm can place them for you. A robo-advisor manages and rebalances a portfolio for you, in most cases built from ETFs or low-cost mutual funds (robo-advisors). Choosing a firm is covered in the brokers hub.
2. Pick the account. Open a TFSA, RRSP, FHSA, RESP or a taxable (non-registered) account at that firm; the type of account changes how the ETF is taxed (see tax).
3. Add money to the account from your bank.
4. Find the fund and read its ETF Facts. Its ETF Facts document, updated at least once a year, shows the exchange it trades on, what it holds, its risk rating and its costs. For funds listed in the US, see US-listed vs Canadian-listed.
5. Place the order. A market order buys at the latest price; a limit order sets the most you’ll pay, and it expires at the end of the day unless you set a longer time. One fund company suggests limit orders as protection against price swings, especially in volatile markets. It also notes that North American markets open at 9:30 in the morning and close at 4 in the afternoon, Eastern time, and that the first 10 minutes and last 20 minutes tend to be volatile, with slightly higher trading costs. More on order types is in how to buy stocks, and holidays and hours are in TSX trading hours.
6. Set up regular buys if you like. Some firms let you buy part of a unit by entering a dollar amount; the regulator notes such fractional orders may be bundled and sent to market once a day, and the fractions can’t be moved to another firm. Your firm may also offer a plan that buys more units automatically.

How does an ETF compare with a stock, a GIC or a mutual fund?

ETF vs a stock. A share of a company ties your money to that one business. An ETF unit trades the same way, during market hours at the market price, but it can spread your money across many holdings. How to buy stocks covers buying single shares.

ETF vs a GIC. A GIC is a deposit: you get back the money you put in at the end of the term, and most pay a fixed rate. CDIC can insure GICs but not ETFs, whose value moves with markets. Bond and cash ETFs sit between the two; GIC vs bond ETF vs savings account and the GICs hub compare them.

ETF vs a mutual fund. Both pool money into a portfolio, but mutual funds are priced once a day while ETFs trade all day; ETF vs mutual fund compares them in full. An index fund can come as either; index funds explains the difference.

How do you build a portfolio from ETFs?

How to build an ETF portfolio compares the approaches, and all-in-one ETFs lists the one-fund options.

ETF directory

Start here

• Index funds in Canada: what an index fund is and how to invest in one
• Mutual funds in Canada: how mutual funds work and how to compare them
• ETF vs mutual fund: the two side by side
• MER calculator: what fund fees cost over time

Building a portfolio

• How to build an ETF portfolio: one fund, couch potato or three funds
• ETFs for retirement income
• Asset location: which account for which fund
• Robo-advisor vs a do-it-yourself ETF portfolio

Tax and US-listed funds

• How ETFs are taxed in Canada
• US-listed vs Canadian-listed ETFs: withholding tax, currency and hedging
• The T3 slip and superficial loss rules

Funds by category

• ETFs by category: index ETFs, international and emerging-market ETFs, bank ETFs
• All-in-one ETFs and XEQT
• S&P 500 and Nasdaq-100 ETFs and VFV
• Dividend ETFs
• Covered-call and option-income ETFs
• Bond ETFs
• Cash and money market ETFs
• Gold and commodity ETFs
• ESG ETFs

Sector ETFs

• Energy ETFs and clean energy ETFs
• Utility ETFs and infrastructure ETFs
• Healthcare ETFs
• Tech ETFs and AI ETFs
• REIT ETFs

Bonds, DRIPs and crypto

• Government of Canada bonds and T-bills
• Canada’s five-year and ten-year bond yields
• DRIP investing
• Crypto ETFs