Retail investors who want to make their money work harder for them are
finding exchange-traded funds (ETFs) a viable option. The main
attraction is their low cost compared with traditional instruments such
as unit trusts.
Listed on a stock exchange, ETFs are baskets of stocks that
typically aim to track the performance of a stock market index. ETFs
can also be theme-driven, focusing on certain asset classes or
commodities such as gold and agriculture.
How do they work?
Owning
units in an equity index ETF gives you exposure to its entire basket of
stocks for just a small outlay. For instance, if you invest in the
StreetTRACKS Straits Times Index (STI) Fund, you gain exposure to all
the 30 stocks, such as Singapore Press Holdings, SingTel and Singapore
Airlines, that make up the STI.
The ETF invests in the STI component stocks in proportion to their
respective index weights. This means investors can diversify their
portfolios without having to buy each of the stocks directly.
Investors buy ETFs in exactly the same way they buy shares
from their brokers. The Singapore Stock Exchange (SGX) now offers a
total of 18 ETFs that provide exposure to commodities such as gold, and
major Asian markets including Singapore, China, South Korea, Japan and
India.
For the quarter ended March, the trading value of ETFs more
than trebled to a record $727.4 million, from $211.2 million in the
previous quarter.
SGX senior vice-president of development Andrew Ler told The
Sunday Times that total trading value and volume increased by up to 40
times last year compared with 2005.
Why invest in ETFs?
Low cost
ETFs generally carry lower costs - zero sales charges and lower
management fees - than, say, unit trusts, because they are passively
managed.
Said Mr Ben Fok, the chief executive (CEO) of Grandtag
Consultancy Financial: 'If you do not like paying management fees to a
portfolio manager, then ETFs are for you.'
He added that the average fee for an ETF is about 0.5 per cent a year while that for a unit trust is around 1.8 per cent.
As ETFs are traded on an exchange, the cost an investor incurs would be the brokerage commissions whenever he buys or sells.
'There is no sales charge, and management fees tend to be lower,' said IPP Financial Advisers investment director Albert Lam.
Investors can buy the ETFs listed on the SGX in board lots of
10, 100 or 1,000. For instance, if the current price of the STI-ETF is
$3.12, then one lot would cost $3,120, or 1,000 multipled by 3.12, as
this ETF is traded in lots of 1,000.
Trading flexibility
ETFs trade like stocks on the bourse so you can buy and sell them at
current market prices throughout the day and as often as you wish. This
makes them more flexible than unit trusts, which can be traded only at
the closing price each day.
Alpha Financial Advisers CEO Arthur Lim notes that like
shares, ETFs can be bought on margin or borrowed money. Investors can
also deploy hedging strategies and sell ETFs short. If they believe the
market will fall, they can sell ETFs they do not own and buy them at
lower prices later. Transparency
While unit trusts typically disclose only their top 10 holdings, the
portfolio holdings of ETFs are transparent. This means that buyers of
ETFs know exactly what underlying assets or stocks they are holding. Market exposure
ETFs provide exposure to a diverse variety of markets. For instance,
you can invest in commodities such as gold without taking delivery of
them, said Mr Fok.
You can buy shares in the StreetTRACKS Gold ETF if you wish to
ride on gold's renaissance, using cash or your Central Provident Fund
(CPF) savings. Since November last year, CPF members have been allowed
to invest up to 10 per cent of their retirement monies in the gold ETF.
Diversification
ETFs can offer greater diversification than shares do. A stock portfolio might be overweighted in certain sectors.
Through ETFs, investors can choose to be exposed to a range of
geographical regions and sectors - from precious metals and commodities
to equity market indexes and bonds.
For instance, most ETFs track an index such as the STI, thus
providing exposure to a diverse array of securities across the index.
By doing so, ETFs help to spread out the risk and reduce the
danger of a fallout if a particular stock plunges. At the same time,
investors stand to benefit from the upside growth potential of many of
the stocks in the ETF, added Mr Fok. Dividends
Most of the equity index ETFs listed in Singapore pay dividends, just like stocks do, highlighted Mr Ler.
Relevance
A market's key index - for example, the STI for Singapore and the
Dow Jones Index for the United States - aims to reflect the economic
composition and market structure of that particular economy. Over time,
index providers adjust their indexes by changing the composition of
stocks included, so as to maintain this relevance.
This characteristic gives ETFs some element of 'active
management' without the corresponding higher fees charged by active
managers, added Mr Ler.
What are the risks?
Investors should refrain from putting all their savings into ETFs,
say experts. It is not prudent to do so because like all investments,
ETFs carry certain risks. Market movements
The performance of the ETF is directly affected by the performance of its constituent securities.
Tracking flaws
An ETF might not be able to fully replicate the performance of the
underlying index because of factors such as timing differences or
management fees. Foreign exchange movements
You are exposed to forex translation fluctuations if the ETFs you invest in are denominated in a foreign currency.
Higher transaction costs
If an investor actively trades in ETFs like shares, he might face higher transaction costs over the long run.
Unremarkable market returns
ETFs track the index closely so they will not underperform the index but are unlikely to outperform either.
Is this the right time?
According to AmFraser Securities senior vice-president of research
Najeeb Jarhom, there is a case for buying ETFs now as the market is
likely to make a more sustained recovery in the third quarter after
another minor pull-back in the May to June period.
The STI might test the 2,950-3,000 level again but is unlikely
to fall below the 2,750-2,800 support level, and in the July-September
period, it could breach its current 3,250-3,300 resistance level and
head towards 3,400-3,500 points, he said.
He added that emerging markets such as China and India should
follow a similar pattern, so buying their ETFs now should pay off in a
few months' time.
For ETFs listed on the SGX for the whole of last year, the
returns ranged from 3.9 per cent to 68.7 per cent, according to
Bloomberg.
Mr Lim holds the view that, in a well-diversified portfolio, ETFs should co-exist with unit trusts, direct equities and cash.
How much weight they should take would depend on the investor's risk appetite and the portfolio's asset allocation.
What to look out for?
The ETF market looks rosy, with more types expected to be rolled out.
However, Mr Lam cautioned investors to take note of the
following before investing: the ETF's investment objectives, the
underlying index that it is tracking, whether it has a dividend policy,
the costs involved and the background of the investment management
company. |
|
Post Reply
1-1 of 1