Low fees, easy access, diverse exposures. What’s not to like about ETFs?
Ten years ago if you mentioned an ETF most people would have thought you were confused about the acronym for an Electronic Funds Transfer. Since then, the market for Exchange Traded Funds has exploded, with predictions that it will grow to exceed the size of the market for traditional managed funds. In 2006 funds invested in Australian-listed ETFs were around $1 billion with fewer than five products available, all domestic shares. Now there are over 170 funds totalling more than $36 billion and the proliferation of products includes global shares, global and domestic bonds, sector exposures, commodities, currencies, smart beta and multi-asset products.
The largest proportion of the ETFs on offer are indexed ETFs, which is to say that they aim to track the performance of a benchmark (S&P/ASX 200, MSCI World ex Australia, Bloomberg AusBond Composite 0+ Yr Index) and achieve this objective by buying all or most of the shares or bonds in that benchmark. They’re effectively the same as an index fund, except for the method by which an investor can access the product. Some ETFs don’t buy the actual shares or bonds but attain exposure to them with derivatives. It can be argued that these types of derivative-based ETFs carry additional risks as compared to ETFs that use physical securities. For this discussion we’ll focus on physical ETFs.
So one the one hand you have traditional investment funds and the other you have ETFs. The major difference, as mentioned, is the method by which these funds are bought and sold by investors. With traditional managed funds you complete some paperwork and receive units in an investment trust at the end-of-day net asset value of the fund. With ETFs you trade them directly on the stock market just as you would regular shares in BHP or CBA. ETFs, then, are listed assets, and their prices move continually throughout the day. You can pick up your mobile phone and trade an ETF any time the market is open for the price at which it’s currently trading.
The largest ETFs in Australia track broad-market indices. So when you buy an ETF you can get exposure to around 200 domestic shares or 2,000 global shares with one transaction; with bonds the number of securities is even larger. You can also narrow your focus to sectors, commodities, currencies or multi-asset diversified funds.
Whatever type of investment you’d like to make there’s probably an ETF that will suit your needs. Innovation and product development continue apace in this sector and new exposures are being released regularly.
What could be easier than buying or selling any time you desire from your mobile phone or the internet? ETFs, being listed on the ASX, can be bought or sold whenever the stock market is open. With just a few clicks you can trade pretty much all the largest companies in the developed world, and at a time that’s convenient to you with no paperwork.
Access also means that it’s easy to buy and sell from a liquidity point of view. Liquidity means being able to trade any number of shares without greatly affecting their price. ETFs have a built-in source of liquidity due to the way they are structured in arrangements between the ETF provider and specialised brokers who will stand in the market and quote prices for any value of the ETF you want to trade. If you’re wanting to trade in very large amounts a phone call to the ETF provider (iShares, Vanguard, Beta Shares, for example) is all it takes for them to arrange a transaction for you.
Fund managers like to offer ETFs because the administration side of operations is outsourced by them to a share registry such as Computershare. The managers don’t have to maintain a database with every holder of their ETF and don’t have to send them statements and other correspondence. Therefore, ETFs save costs. These savings are passed on to investors in lower fees. In fact, fund managers who offer both a traditional managed fund and an equivalent ETF all charge a lower fee for the ETF. As a major contributor to your eventual return on investment who doesn’t want lower fees?
So given these three benefits — broadly diversified exposures, easy access and liquidity and lower fees — what’s not to like about ETFs?