5 reasons to have ETF's in your stock portfolio.

It’s written daily in the financial presses that Exchange Traded Funds (ETF) are challenging the traditional managed funds business for investor dollars. An ETF is a basket of securities which may comprise stocks, bonds and other assets like commodities eg gold that are listed on the stock exchange, which can be bought and sold directly, much like a stock. While managed investment funds are still the dominant players in the industry, ETF’s are catching up quickly for a number of reasons.

Liquidity

Since an investor can quickly exit when there is a market correction, liquid securities with high trading volume are preferable over illiquid stocks with little volume. A very strong selling point for ETF’s is that it is very simple to get in and out. ETF’s can trade like any stock on the Australian Securities Exchange (ASX) which gives investors a lot more flexibility and control over the price they would like to buy and sell at, as opposed to a managed investment fund which usually has its prices set after the close of trading. 

Diversification

Similar to managed funds, the major benefit to ETF is that you’re not just invested in any one company or asset. ETF allow an investor to create a fully diversified portfolio in any type of asset class where the exposure and risk can easily be managed.

Transparency

Ever since the Global Financial Crisis (GFC), investors have been demanding more transparency within their portfolio. They want to know exactly what assets they hold and the indicative price of the ETF which is represented by the intraday Net Asset Value (NAV). Unlike unlisted managed funds, this is an important advantage of ETF.

Lower Expenses

ETF’s have become so popular in recent years because they don’t try and beat the market. For an ETF or index fund you don’t need to pay research analysts to travel around the world and have them scouring through Profit & Loss statements to find undervalued assets. The Market Vectors ETF only charge 0.28% management fee which is considerably lower than trying to get the exposure through an unlisted managed investment fund.

Tax Effective

ETF are generally promoted as more tax effective than actively managed funds but this will depend on many factors and as the industry is fast growing, with new products introduced to the market, some of the original benefits may no longer apply. Some ETF’s have lower portfolio transaction volumes.

Key tax facts to consider are:

• In which investment vehicle is the purchase made?
• Will franking credits apply?
• Does the ETF benefit from lower portfolio transaction volumes?
• If unsure, get professional tax advice

Due to the benefits of liquidity, diversification, transparency, low costs and tax efficiency, ETF can become an important component to an investor portfolio. It’s unsurprising then that ETF have had such tremendous growth in Australia having reached 10 billion in assets under management in 2013. As new ETF continue to be introduced into the Australian market it’s important that retail investors or Trustees of Self Managed Superannuation Funds (SMSF) do their homework and make sure they understand if and how these funds fit into their long term investment goals.