There is an ETF for Almost Everything!

Hi there,

Welcome back to Finance Friday! Last week, we discussed what Exchange Traded Funds (ETFs) are. This week, let's examine the many different types of ETFs available.

There is an ETF for Almost Everything!

There are many different types of ETF which can be broadly broken down as follows.

1. Asset Class:

These days, there are very few financial assets that you cannot buy an ETF for.

• Equity ETFs: These track stock market indices, providing exposure to a specific sector (e.g., healthcare) or the broader market (e.g., S&P 500).

• Bond ETFs: These invest in a collection of bonds, offering income generation and potentially lower volatility compared to stocks.

• Commodity ETFs: These track the price movement of a physical commodity or a basket of commodities, such as oil, gold, or agricultural products

• Real estate ETFs: These invest in real estate investment trusts (REITs) or other real estate-related assets.

• Cryptocurrency ETFs: Bitcoin ETFs were approved in the USA in January 2024 and Bitcoin and Ethereum ETFs were approved in Hong Kong last month (April 2024). (I will leave aside the debate about whether these cryptocurrencies are commodities or currencies). Please note that a Bitcoin ETF does not in itself offer diversification because, unlike an equity or bond ETF, there is only one asset. They do, though, provide an easier way into the market for some investors and institutional investors. Diversification could be achieved by keeping the allocation to a small percentage of an overall portfolio.

As a general rule, bond ETFs offer lower volatility and lower returns than equity ETFs. That said, sudden moves in interest rates can very quickly reflect the value of bond ETFs, as happened in 2022.

Another generalisation is that investors often move a bigger proportion of their portfolio into bond ETFs (or directly into bonds also known as ‘fixed income’) as they approach retirement.

2. Management Style:

• Passive ETFs: These passively track a market index, aiming to replicate its performance with lower fees.

• Active ETFs: These are managed by professional fund managers who actively select investments within the ETF, aiming to outperform the market (often come with higher fees).

For a "set and forget" strategy, consider passive ETFs. Over time, their lower fees often make them perform as well as active ones. Plus, you don't need to worry about an asset manager's ongoing performance. Very few asset managers continually outperform the market. Some have excellent years followed by terrible years.

3. Distribution Policy:

This refers to how dividends or interest from ETF holdings are handled:

• Accumulating ETFs: Reinvest dividends back into the fund, automatically compounding your returns over time.

• Distributing ETFs: Pay out dividends to investors regularly, offering a potential income stream.

This decision isn't just about receiving income; it also depends on tax advantages or disadvantages in your country of residence.

The All-Important Fees:

Fees can significantly impact your returns over time, so ETF fees deserve attention:

• Expense Ratio: This annual fee covers the ETF's operating costs. Lower ratios translate to higher returns for you. Passive ETFs typically have lower fees than actively managed ones.

• Trading Fees: Some brokers charge additional fees for buying and selling ETFs. Some brokers have commission-free ETF trading options.

Exploring Resources:

JustETF (https://www.justetf.com/en/) is a valuable resource for researching different ETFs. It allows you to compare various options based on asset class, fees, and historical performance. Remember, this is just a starting point, and consulting with a financial advisor is recommended before making any investment decisions.

Next Week:

We will look at an example of a passive World ETF in more detail, including fees.

Word of the Day: Fees

Fee - an amount of money paid for a particular piece of work or for a particular right or service.

e.g. tuition fees, lawyers fees, parking fees, university fees, entrance fees etc

“I prefer to shop at out-of-town shopping centres due to the high parking fees in the town centre”

We use ‘fees’ for parking but ‘tolls’ for access to ‘toll roads’ such as motorways.

Do you have any Business English questions?

Please reply and I will do my best to answer them in future newsletters.

Until Monday - have a great weekend!

Iain.

www.communicateenglish.com

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