Lesson 1.4 · 4 of 5 · First steps
What is an ETF and how does it work? A lesson with examples
An ETF is a fund that holds many shares at once and is bought on the stock exchange just like a share. One unit of an S&P 500 ETF gives you a small piece of more than 500 US companies. The largest of these funds cost less than 0.1% a year.
Terms in this lesson
- ETF
- A fund listed on the stock exchange that buys dozens or hundreds of companies at once.
- Index fund
- A fund that buys every company in an index, in the same proportions.
- TER
- What an ETF or fund costs you each year, as a percentage of the money invested.
- UCITS
- The European label for funds that follow EU investor protection rules.
Opening question
You buy one unit of an S&P 500 ETF. What do you actually own?
The fund owns the shares of the companies in the index, and your unit is part of the fund. Nothing is guaranteed: if the shares fall, the ETF falls too.
It does not matter if you get it wrong: trying first helps you remember.
What is an ETF?
Definition
What is an ETF?
A basket of many shares that you buy and sell on the stock exchange.
ETF stands for exchange-traded fund. The fund pools money from many people and uses it to buy the shares in an stock market index. You buy units in the fund, just as you would buy a share.
- You buy units in the ETFthrough a broker, while the market is open
- The ETF holds the sharesfor example, every company in the S&P 500
- Its value follows the indexif the index rises 1%, the ETF rises by almost the same
If one company goes bust, you only lose its small slice of the fund.
Most ETFs copy an index, so their yearly costs are low.
If the whole market falls, so does the ETF. There is no guarantee.
Myth or fact?
“An S&P 500 ETF can’t fall much, because it holds 500 companies.”
Myth. Diversification protects you from a problem at one company, not from a fall in the whole market. In 2008 the S&P 500 fell 38%, and the ETFs that track it fell by almost as much.
What does an S&P 500 ETF hold?
The S&P 500 contains 500 large US companies. Each one has a weight based on its market capitalisation: the more a company is worth on the stock market, the bigger its share of the fund.
Example
Which companies carry the most weight?
The top 10 companies make up about 38% of the fund.
On 28 October 2026 the oldest S&P 500 ETF, launched in 1993, held more than 500 shares. The top 10 made up about 38% of the money, and the information technology sector about 39%. You own a piece of 500 companies, but some weigh far more than others.
Weights in the SPY ETF on 28 October 2026.
Match the terms
Match each term with its meaning.
Tap a term, then its definition.
An ETF copies an index, each company has a weight within it, and the TER is the cost you pay the fund every year.
Check yourself
On 28 October 2026 Apple had a 7.5% weight in an S&P 500 ETF. You put $1,000 into the ETF. Roughly how much of your money ends up in Apple shares?
This exercise is in the free account, where we also save your progress.
Create a free accountHow do you buy an ETF?
Definition
Where do you buy an ETF?
Through a broker, just like a share.
You search for the ETF by name, by its ticker symbol or by its ISIN code, then place a buy order. Some brokers also sell fractions of a unit, so you can start with small amounts.
For the same index you will usually find two versions: accumulating or distributing.
AccumulatingAcc
- Reinvests dividends inside the fund automatically
- Suits you if you do not need income now
- No cash is paid into your account
DistributingDist
- Pays dividends into your account, usually a few times a year
- If you do not reinvest them, that money stops compounding
How much does an ETF cost?
| Cost | Who receives it | Typical size |
|---|---|---|
| TER (yearly cost) | the fund | under 0.1% a year for the largest S&P 500 ETFs |
| Commission | the broker | zero or a fixed fee per order, depending on the broker |
| Spread | the market | small for large ETFs |
| Currency conversion | the broker or bank | matters if the ETF trades in dollars and you hold pounds or euros |
Example TERs on 28 October 2026: 0.0945% for SPY, the oldest S&P 500 ETF, and 0.07% for a large UCITS ETF on the same index.
Work it out
You hold $20,000 in an ETF with a TER of 0.07%. How much do you pay each year for running the fund, in dollars?
This exercise is in the free account, where we also save your progress.
Create a free accountWhat would you do?
You want to start with $100 a month. What do you choose?
This exercise is in the free account, where we also save your progress.
Create a free accountWhat you learned
- An ETF is a fund holding many shares, bought on the stock exchange just like a share.
- An S&P 500 ETF holds more than 500 companies, but the top 10 account for about 38% of the money.
- The yearly cost (TER) of the largest S&P 500 ETFs is under 0.1%, plus whatever your broker charges.
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Save your progress with a free accountLessons are educational. They are not a recommendation to buy or sell. Investing involves risk and you can lose money. Sources: SPY (launched 22 January 1993, TER 0.0945%, holdings and sectors as of 28 October 2026), State Street Global Advisors; iShares Core S&P 500 UCITS ETF (TER 0.07%, domiciled in Ireland), BlackRock iShares; the S&P 500’s 2008 fall, annual index data (price only); access to US ETFs in the EU, the PRIIPs regulation and justETF. The cost example uses a constant illustrative return.