What is an ETF Investment? A Beginner’s Guide for Australian Investors

Exchange-traded funds (ETFs) have become an increasingly popular investment vehicle for Australians looking to gain exposure to a wide variety of assets in a simple, low-cost way. But what exactly are ETFs, and how do they work? This beginner’s guide will explain everything you need to know about ETF investments from an Australian perspective.

What is an ETF Investment?

An ETF or exchange-traded fund is a collection of securities like stocks or bonds that tracks an underlying index, sector, commodity or other assets. ETFs are listed on a stock exchange, so they can be easily bought and sold like stocks during the trading day. It differs from managed funds, which only trade once a day after market close.

Some key features of ETFs:

• Diversification: A single ETF can contain hundreds or thousands of individual assets, providing instant diversification. It reduces risk compared to investing in just a few stocks.
• Low Cost: ETFs have lower management fees than actively managed funds, often less than 0.5% p.a. This saves money over time.
• Transparency: ETF holdings are published daily, so you always know exactly what you own.
• Liquidity: ETFs trade throughout the day, so you can buy and sell quickly. Liquidity is often higher than the underlying holdings.
• Flexibility: ETFs allow exposure to assets like commodities or international stocks that are otherwise difficult to access.
• Tax Efficiency: ETFs tend to distribute less capital gains than managed funds, making them more tax-effective for investors.

Types of ETFs available in Australia

Australia has a mature ETF industry with over 240 ETFs and over $60 billion in funds under management. Here are some of the main types of ETFs available:

• Index ETFs – Track major indexes like the ASX 200 or S&P 500. Great for getting broad market exposure at a low cost. Examples include STW and VAS.
• Sector/Industry ETFs – Invest in specific sectors like healthcare or financials. Allows targeting areas expected to outperform. Examples include IHH and MVA.
• Thematic ETFs – Focus on investments related to a theme like robotics or ethical investing. Allows accessing niche segments. Examples include RBTZ and ETHI.
• Commodity ETFs – Track the price of commodities like gold or oil. Useful for diversification or hedging portfolios. Examples include GOLD and OOIL.
• Bond ETFs – Hold portfolios of government or corporate bonds. Provide income and diversification from equities. Examples include IAF and VAF.
• International ETFs – Track indexes or sectors in overseas markets. Useful for global diversification. Examples include IWLD and EEU.
• Active ETFs – A small but growing segment where the manager actively selects stocks rather than tracking an index. Provides potential outperformance but higher fees, such as RARI.

Benefits of ETF Investing

There are many good reasons why ETFs have become a popular investment choice for Australians:

• Low Cost – ETFs have lower management fees than actively managed funds, often less than 0.5% p.a. compared to over 1% for active funds. This compounds over time.
• Diversification – A single ETF can expose hundreds of different securities across a market segment. It reduces portfolio risk.
• Liquidity – ETFs trade throughout the day like stocks, so entering or exiting a position is easy. Managed funds only trade once a day.
• Transparency – ETF holdings are published daily, so you always know exactly what assets you own.
• Flexibility – The wide range of ETFs available allows investors to target specific markets, sectors or themes.
• Tax Effective – ETFs tend to distribute fewer capital gains than actively managed funds, making them more tax effective.
• Hands-Off Investing – Passive ETFs track an index, so there is no need to pick individual stocks or pay for active management.