Exchange Traded Funds (ETF) and is it worth your money?
Today, let’s take a look at Exchange Traded Funds (ETF).
ETFs are quite matured in the US market, but somehow getting a lot of marketing in Malaysia only recently. The marketing efforts are mainly driven by our exchange, Bursa Malaysia, with various webinars being organised.
There are around 20 ETFs in Malaysia currently. In contrast, the number of ETFs in US goes into the thousands.
Did you know? The earliest (and first) ETF in Malaysia dates all the way back to July 2005 and is a bond ETF launched by AmInvest.
What are ETFs?
An exchange traded fund (ETF) is a type of security that involves a collection of securitiesโsuch as stocksโthat often tracks an underlying index, although they can invest in any number of industry sectors or use various strategies.
Investopedia
Or… think of it as your unit trust / mutual fund, but traded on the stock market rather than having the need of going through an agent.
They contain a basket of assets that matches the objective of the ETFs.
For example: the KLCI ETF is comprised of stocks that represent KLCI (an index representing the 30 largest companies by market capitalisation in Bursa Malaysia). It allows investors to invest in the KLCI without having to acquire all 30 stocks by themselves. You should also take note that the goal of any ETF is to track the said index / underlying and is not intended to outperform the them.
Bursa Malaysia has done a good job and prepared an ETF 101 video to increase awareness of ETFs to the general public, which you can watch here.
How to access ETFs
ETFs trade like stocks on stock exchanges.
Hence, to buy / sell ETFs, you will have to go through the same process as if you are buying / selling individual stocks.
This means going through your brokerage platforms or brokers.
What is the cost of investing in ETFs?
Just like trading shares, you would incur brokerage fees, clearing fees, stamp duties.
On top of that, you would incur a yearly management fee.
This management fee is generally less than 1% and can vary according to which ETF you choose to invest. What I saw based on sampling is that quite a few of them charge around 0.6%, with the lowest being only 0.8%.
What are the types of ETFs available?
Globally, ETFs are very diverse. They allow for income generation, speculation, hedging, diversification, etc.
ETFs can be grouped into the following 6 types:
- Equity ETFs
- Fixed Income ETFs
- Commodity ETFs
- Industry ETFs
- Currency ETFs
- Inverse & Leveraged ETFs
For Malaysians, we can refer to the list of available ETFs in Bursa Malaysia’s website here.
How about the risk?
The selling point of ETFs is that it is gives diversification and costs lower than your typical unit trusts / mutual funds.
If you make a comparison between stock picking and ETF investment, then of course ETFs will provide the diversification which would make it less risky.
The exception to this is the leveraged ETFs. They multiply the effect of your investment. If it’s a 2x Leveraged ETF, you will double your profits / losses. This also means that you are multiplying the risk you take when you invest in these ETFs.
Whilst it is of lower risk than individual stock picking, you should not view ETFs as low risk investments (except maybe for fixed income ETFs).
By investing in ETFs, we are exposed to the market fluctuations of the basket of stocks or assets that they hold. Most of these still carry all kinds of risks such as industry, market, political, company risks.
How is the popularity of ETFs in Malaysia?
The most straightforward way of looking at this will be to take a look at the trade volumes daily.
This was taken on Friday from my RakutenTrade watchlist:
You’ll be able to see that the ETF with top volume is the Gold ETF. The second most active is FANG Inverse ETF, which speculates that the FANG+ index will be coming down. FYI – FANG+ index represents Facebook, Apple, Amazon, Netflix, Google, Alibaba, Baidu, Nvidia, Tesla and Twitter.
3 key observations here:
- Top volume of 1.7mil vs 2nd top volume of only 50k shows that ETF is still very nascent in Malaysia and not widely traded by Malaysians
- ETFs are more commonly used by Malaysians to gain exposure to Gold
- Malaysians trading in ETFs are mainly speculators with more volumes in inverse and leveraged ETFs
Why I don’t talk about ETFs returns?
Returns from investing in ETFs are not based on performance of the fund manager. Hence, it is not meaningful to discuss about returns.
The more important question is: How are the performances of the index or underlying that the ETFs are tracking?
And for that, my friend, you will need to do your own research, be it the KLCI or Gold prices.
Why I don’t invest in ETFs, but it may be suitable for you?
The only reason I don’t invest in ETFs (as could be seen in my portfolio) is because I actively manage my portfolio and I enjoy doing so. I am also opined that investing appropriately into stock picking can reap higher returns.
I am in the business of understanding businesses, valuing companies and performing due diligence. Hence, assessing the fundamentals of companies is an enjoyable process for me.
However, most retail investors are not. Even more so, there are a lot of investors who do not want to spend the time to study companies.
This is where ETFs come into play.
- Index ETF will not require you to study the companies but to understand the potential growth of a country and the business landscape
- Industry ETF will only require you to study and have a feel of where a specific industry is heading (growth or ruin)
- Gold ETF will be to diversify your portfolio holding into commodities
Generally ETFs are better suited for passive investors who wants to adopt a more relaxed investment process. You will not need to worry about the prospects of specific companies or assets as ETFs will encompass a broad range. So, the decline of a single stock / asset will most likely be offset by the rise of another stock / asset. Dollar cost averaging works pretty well with ETFs and passive investing.
Depending on the ETFs, this could also be an alternative to get higher returns compared to your savings but you need to know what you are doing.
The exception to this of course would be ETFs for speculation purposes (e.g. inverse & leveraged ETFs), which are more suited to active investors to take very opportunistic trades. Stay off this if you don’t know what you are doing!
BONUS: Something else to consider in current markets
In current markets, it is important that you take into consideration the components of the ETFs.
Normal circumstances: It is considered diversified when we invest into an index ETF due to the wide range of stocks in the basket.
Current COVID circumstances: It is observed that a few selected stocks are moving the indexes in ways that are unprecedented. For example, the S&P500 in the US is majorly dependent on tech stocks that are making the big swings. In Malaysia’s FBM KLCI, the glove stocks are championing the move of the index. I remember just recently where majority of the KLCI stocks were in the red, but the KLCI ended the day in the green due to the rise of the glove stocks.
This is due to the speculative nature of the market currently where retail investors are trading based on trends, news and momentum. You should take note that a company with big market capitalisation combined with a large upswing / downswing will take control and move the index easily.
Final words… Know what you are trading at all times and happy investing!
