Exchange Traded Funds (ETF's) – an alternative to shares

Exchange Traded Fund investments are gaining popularity but do we really understand them? While they can be low-cost and relatively simple, there are a few other things you should know before hopping on board.

The Australian ETF market grew 49.81% over 2014 and has roughly tripled in size since 2010, with total assets now exceeding $15 billion.

What do these investors know that you don’t?

In a nutshell, ETFs are a type of investment that behave like shares, meaning that they can be bought and sold on the stock exchange, while offering the flexibility and liquidity of a managed fund.

ETFs are index funds which generally track the performance of a specific index or benchmark such as the S&P/ASX 200, but they are listed on the stock market and traded through a broker. Therefore, these funds have good liquidity and can be bought and sold easily.

There are ETFs for listed property and physical commodities such as silver and gold, or a combination of both, as well as ETFs for financial products such as foreign currencies and derivatives (futures and options contracts).

As a result, investors can achieve low-cost diversification of their investments without high management fees.

ETFs are tax-efficient due to their passive investment approach. They can be a useful tool for investors looking for a balance between active and passive investment styles. 

The upsides and downsides

If you’re still wondering why ETFs are so popular, one of the main reasons is that for a relatively low cost, you can access portfolios of domestic shares and direct property not normally available to individual investors.

Some ETFs track the movement of a single market sector; others track broader markets with hundreds of holdings. Such trading capability provides huge potential for diversity across international assets and markets.

Subsequently, investment in ETFs carries greater risk when compared with managed funds as their performance is designed to track a specific index or investment. As already mentioned, owing to their complexity, synthetic ETFs are riskier than physical ones.

Trading prices are readily available but you should be aware that brokers may quote a higher price after factoring in brokerage fees. Further, it’s advisable to check management fees before investing – not all ETFs are the same.

ETFs seem particularly well-suited to SMSFs and pension funds seeking low-cost portfolio diversification, but as with any investment, professional advice is vital.

If this article has piqued your interest and you’d like to learn more about ETFs, contact us to see how they might fit into your investment portfolio.