For example, Gandalf's name from the Lord of the Rings means 'wand elf' in Germanic. Although Gandalf is not an elf in the book, he seems to have certain traits of one due to his lore and wisdom regarding Middle Earth
He used a lot of Germanic and Brythonic etymology - Dunharrow, Dol Amroth, Westfold, Shire, Rivendell, Mordor (to name but a few) all have roots which you can see on a modern map of the UK.
This would imply that a fictional language might be necessarily in order to make the fantasy setting more believable to readers. Am I mistaken?
Good news - you're massively mistaken. Creating Elven languages was what JRRT did for a hobby. So, unless you are an Oxford linguistics don, don't go there. At best, it'll sound like pastiche and at worst, like a particularly bad RPG adventure.
Even better news - with the Graham Universal Fantasy Name Generator (pat pending), you can save yourself a massive amount of bother. Here's how it works:-
1. Are you naming the good guys? If so, go to 2. If not, use two or more of the following component parts for each personal name:-
Dark
Black
Lord
Mort
Vile
Blood
Death
Bane
Night
Anything where the letters k,z,r and g are repeated to the detriment of passing vowels
Apostrophes in odd places
This gives you exciting names such as Lord Deathbane or Mort G'rx'xkk
2. Good guys are more complex. Remember the Golden Rule - WWTD (What would Tolkien Do?).
For Elves, favour soft pairs of letters (th and sh) and use "in" or "dar" at least once in every name.
For Dwarves, use harsh, four letter names like Grud and Thob.
For hero humans, use very long names which denote their beauty, strength or other admirable attributes - Lady Tressarmoire Pertbreast or Sir Cleavebone Mightily.
For all other humans, use Gareth, Thomas or Molly.
Regards,
Peter