Exchange traded funds (ETFs) are rising rapidly in popularity amongst savvy investors but not everyone is yet familiar with their benefits.
What is an exchange traded fund (ETF)?
An investment that can be traded on the stock exchange that tracks an index or a basket of assets.
What investments will I get exposure to?
In Australia, you can purchase a broad range of ETF’s with a number of providers. You can buy an ETF that tracks the top 200 Australian shares (ASX200), a basket of high dividend paying shares, the Australian property market, Australian government bonds and much more.
ETFs are also available for assets such as international shares, foreign currencies, commodities, bonds and more.
Click here for a full list of ETF’s you buy through the Australian Stock Exchange (ASX).
How can I buy an ETF?
You can purchase an ETF the same way you purchase a single share in one simple transaction. All ETF’s have a three (sometimes four) letter code that’s known as a ticker code which can be used to make the transaction.
Why are they so popular?
There are two key reasons by investors are now holding approximately $25 billion in ETF’s in Australia and $3 trillion globally:
Diversification: ETFs provide a diversified investment across entire markets or within an index. Through one ETF, you can have investments across different geographies, sectors and stocks. Having a diversified investment across these areas means you won’t be overly reliant upon the performance of one stock (ie: CBA), one sector (ie: Financials) or one market (ie: ASX200).
Example: If you purchased (IOO) iShares Global 100 ETF you will have an investment in 100 of the largest stocks globally including Apple, Google, GE, Nestle, Pfizer, Proctor and Gamble, Toyota, Volkswagen, Nike and Microsoft.
Low costs: ETFs generally have lower fees than managed funds because they are not actively managed. They adopt a ‘passive’ approach which is an investing strategy designed to track an index or basket of investments. Taking a passive approach through ETFs means that you’re not paying large management fees to fund managers to try and beat the market. It’s become a lesser known secret that the very few fund managers (less than 20%) actually beat the market consistently over the medium too long-term. CNN recently reported that 86% of actively managed funds underperformed that market in 2014 after fees and costs.
What’s the downside?
If you’re purchasing international ETFs it’s important to understand currency risk.
Currency risk is the risk that your investment value may change due to changes in exchange rates. A rise in the Australian dollar will reduce returns for international investors when assets are converted back to our local currency. For example, if the Australian dollar rises 10 per cent, the value your might fall by 10 per cent. Conversely, a fall in the Australian dollar can help investors to magnify returns and seize opportunities.
Can you show me a few examples?
Here's seven of the most popular ETF's traded in Australia. You can click on any of the ETF's to view details on on the fund:
Who should be using them?
Almost every investor who wants a well-diversified portfolio that can be run at a low cost. Don't just take our word for it though. Here's a recent quote from the great Warren Buffet when asked how about how he'd like his estate to be invested when his remarkable life comes to an end. Maybe Warren knows something that many investors are just starting to realise...