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How financial planners use ETFs to build portfolios

Photo of Sam Henderson, Henderson Maxwell By Sam Henderson, Henderson Maxwell

min read

Investors benefit from lower costs, better returns and more transparent structures.

Active fund managers have given up a consistent flow of funds to passive fund managers, including index-managed funds and exchange-traded funds (ETFs).  The greatest beneficiary of the growth in passive fund managers has been experienced by ETFs, which have grown to well over $20 billion with more than 140 funds available to be traded via the ASX.

An exchange-traded fund is simply a basket of shares, like a managed fund, that can be bought and sold on the stock exchange like a share.

The beauty of the maturing Australian ETF market on ASX is the diversity of funds.  You can now get access to the American S&P500 index (ASX Code: IVV) for just 4 basis points or 0.04% cost ratio. Some popular active fund managers may charge up to 1.54% for their US equity funds.

Warren Buffet says: “Price is what you pay. Value is what you get.” These words couldn’t be more accurate with respect to the performance and price pressures being placed on the big active fund managers around the country because of the growth of ETFs.

The key beneficiaries are direct investors such as Self-Managed Superannuation Funds (SMSF) trustees and independent financial advisers who benefit from lower costs, better returns and more transparent cost structures by using ETFs.

Henderson Maxwell was one of the earlier adopters of the Blackrock iShares (and a host of ETFs) and piled millions of dollars of client funds into the ETFs from managed funds to provide direct exposure to international stocks at a reasonably low cost across a host of global markets.

While we’re not currently invested in emerging markets, we did benefit from the rise in the Chinese economy and have regularly benefited from the fluctuations in the Aussie dollar because of our ETF use.

We use a core-satellite strategy with clients by employing ETFs providing the core holdings in their portfolio to replicate the sharemarket indices. Then, we invest directly to provide our conservative clients with tax-effective dividends and cash flow through direct shares that make up the satellite portion of the fund.

For example, if a client with a balanced risk profile requires an asset allocation of 60% growth assets and 40% capital-stable assets then we could essentially use a 100% ETF portfolio to create this by using some of the Vanguard bond funds to create the capital stable portion and the iShares, Vanguard, Beta Shares or other providers to expand into the growth portion of the portfolio to match a client’s risk profile and SMSF investment strategy document to remain compliant.

Right now, with a spike in US bond yields we are lower in bond-based ETFs but we have used them extensively in the past.

We remain overweight in actual cash right now.  So, too, with the falling Aussie dollar and appreciation of the US market and the US dollar owing to interest rates rising, iShares S&P 500 ETF has performed well, although heading into “full value” territory.

We have previously had exposure to:

  • China via the iShares China Large-cap ETF (IZZ);
  • Gold via Betashares’ Gold Bullion ETF (QAU);
  • The Australia top 300 via Vanguard (VAS);
  • Or the ASX top 200 by State Street Global’s SPDR S&P/ASX 200 Fund (STW).

There are many other providers, including Magellan, ANZ, Van Eck and Schroders.

The beauty of it is we can trade in and out of these positions relatively quickly and inexpensively when we choose to provide greater liquidity for clients at a reasonable cost.  Managed funds by comparison are expensive, clunky and lack transparency.

Some caution should be given to retail traders attempting to trade some of the less liquid ETFs as the buy/sell spread can be costly. We recommend sticking to the more liquid and more popular ETFs to keep your costs down.

Also, remember that unless you buy a currency-hedged ETF, the currency will be set in the stock market you are using so currency can be an important influence in your decision making and, frankly, currency direction can be very difficult to get right all the time.

Finally, when markets are volatile, ETFs can be a good “blunt instrument” to gain general market exposure to a potentially oversold situation.

For example, when Brexit occurred in June 2016 and markets became oversold, we were able to buy VAS (ASX top 300 stocks) to give us total market exposure in one trade rather than trying to pick off single oversold stocks.  For those people who oscillate what to buy or what to sell, ETFs may be a great way to provide diversity and reduce your risk.

I think the maturation of the ETF market in Australia provides a huge opportunity for direct investors to not only get a better fee deal but take greater control over their money while providing greater diversity for their portfolios.

It’s perfectly suited to the style of many Self-Managed Superannuation Fund (SMSF) trustees and I can only see the ETF market continuing to grow over the next few years as more product providers come to market.

About the author

Sam Henderson is CEO of Henderson Maxwell, a boutique wealth-management firm specialising in SMSFs.  Sam is host of the Sky News Business Your Money, Your Call retirement program live every Thursday night at 8pm and he writes for Money Magazine and the Australian Financial Review.

From ASX

Learn about the features, benefits and risk of ETFs with the free ASX online course, Exchange-Traded Funds and Exchange-Traded Products.

The views, opinions or recommendations of the author in this article are solely those of the author and do not in any way reflect the views, opinions, recommendations, of ASX Limited ABN 98 008 624 691 and its related bodies corporate ("ASX"). ASX makes no representation or warranty with respect to the accuracy, completeness or currency of the content. The content is for educational purposes only and does not constitute financial advice. Independent advice should be obtained from an Australian financial services licensee before making investment decisions. To the extent permitted by law, ASX excludes all liability for any loss or damage arising in any way including by way of negligence.

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