So, you’ve given up the dream of home ownership – for the moment, at least.
What do you do now with that pitifully inadequate deposit you have sitting in the bank earning one-point-diddly-squat per cent interest?
Are we set to see the next ‘taper tantrum’?
In a week where traders will focus on Janet Yellenâ€™s congressional testimony and core CPI, there are signs we could be set to see bond markets drive higher financial market volatility and equity weakness. (This video was produced in commercial partnership between Fairfax Media and IG Markets).
It’s unlikely to be your best strategy to quit your job and become a day trader on the sharemarket.
Nor should you necessarily go ploughing your money into an actively managed investment fund with historic returns that do not justify their high management fees.
But there might be a better way.
A revolution is happening in the way small investors can put their money into the sharemarket.
A decade or so ago, the only option was to go to a financial adviser, who would put you into a managed fund, who would buy and sell shares on your behalf. Costs were typically high – going to fund not only the commissions paid to financial advisers, but also the Maseratis and champagne-fuelled exploits of a typical fund manager lifestyle.
Get the latest news and updates emailed straight to your inbox.
But the abolition of commissions and the advent of new technologies have demolished the old model of managed funds.
Frustrated millennials can get a taste of the sharemarket. Photo: Chris Hopkins
A new breed of investments called Exchange Traded Funds (ETFs) are growing rapidly.
All up, Australians have invested nearly $30 billion in the sector.
David Bassanese says ETFs offer a useful option. Photo: Supplied
That represents only about 1.5 per cent of the local sharemarket’s capitalisation, versus around 5 per cent in Canada and Europe, and 10 per cent in the United States. But ETFs are growing fast, roughly tripling during the past four years.
What are ETFs?
So what are ETFs and how can you buy them?
The Reserve Bank has been keeping a watchful eye on the astronomical rise of ETFs.
Essentially, an ETF is a passively managed index fund, which means it aims to deliver a return that tracks a particular market index, most commonly sharemarket indices such as the ASX200 or FTSE.
It’s all done by buying units in the ETF exactly as you would buy shares on the sharemarket.
You might think the only thing you can do on the sharemarket is buy shares in companies. But the ASX has also become a platform for buying into bundled products, such as Real Estate Investment Trusts, Listed Investment Companies, and now ETFs.
These are not companies, as such, but more like investment vehicles. You buy a share in one of these vehicles – the have their own tickers on the ASX – and you get units in the underlying assets they own, be it property (REITs), a managed fund (LICs) or any number of indexed funds (ETFs).
The ETF issuer takes your money and goes off to buy a bundle of assets that matches the weighting of the index. If it’s Australian equities, say the ASX200, then they go off and buy those shares in the correct weighting to replicate the average return of that index. Your ETF units go up and down in line with the market.
ETFs are the perfect investment option for frustrated Millennials to consider, according to David Bassanese, the chief economist of Betashares, the fourth biggest issuer of ETFs in Australia.
“The key advantage to this approach is that it’s formula or rule-based, so ETF providers do not need to pay a team of highly paid investment gurus to pick stocks, with the cost saving passed onto investors in the form of quite low investment fees.”
Other advantages include transparency of holdings, no minimum investment and the ability to diversify investments across a range of assets, including fixed interest, commodities and currencies.
‘You need self-control’
Twenty-two-year-old Damian Worsdell was drawn to ETFs as he lacked the confidence to invest in the market on his own.
The Qantas customer service officer at Perth airport, who is studying for a Bachelor of Commerce at Curtin University, puts $100 a week into robo-adviser and automated investment organisation Six Park. He uses the web app on his mobile phone to spread his portfolio across several ETFs.
“You need self control,” says Worsdell, an only child who lives with his widowed mother. “I make a coffee or eat lunch at home. I don’t go out for coffee or lunches. To have play money is more important.”
Half his net pay goes into a savings account, paying 2.4 per cent a year, which he never touches. With the proceeds from the sale of some inherited Telstra shares and his weekly deposits, he now has $25,000 in the pool.
“My goal is to first of all make the best use of my money, make it work for me and not the bank. I want to get the best deal out of it,” Worsdell says. “Initially I was saving up for a home loan. That’s not where I am now. I want to travel. Travel is the driver for investing.”
Investing in an ETF is a relatively simple matter of opening a trading account with a stockbroker like CommSec, Bell Direct or IG – whichever suits you – and putting in an order. You pay around $20 brokerage fee for each purchase or sale.
Young savers should be wary about buying ETFs in too small bunches, as they get pinged with the brokerage fee every transaction.
They’ll also incur an annual percentage fee from the ETF issuer each year.
But unlike active funds, which typically charge 1 or 2 per cent or much higher management fees, some ETFs have fees as low as 0.2 per cent – with some as low as 0.05 per cent a year. Which on $10,000 invested, is just $5 a year (plus brokerage).
ETFs have the benefit of being diversified – for one transaction you get exposure to often thousands of shares, versus buying one share for the same brokerage fee.
And unlike managed funds, there is a high degree of transparency in what is actually owned by the fund.
In addition to higher historic returns, there are also significant tax advantages of investing in shares versus cash.
For ETFs that track an equities index, they harvest for you all the dividends paid by the companies in the index and distribute them, plus any tax credits, to you.
In addition to franking credits, you get the benefit of the 50 per cent discount on any capital gains on units held for more than a year.
If you keep your money in the bank, by contrast, you pay your full marginal tax rate on any gains.
But the Reserve Bank has been keeping a watchful eye on the astronomical rise of ETFs.
In a recent paper, RBA economist Michelle Cunningham identified “a number of concerns and potential risks” with ETFs, including concerns about liquidity – how quickly investors can get their money out – at a time of market stress, concerns about counter party risk on a small subclass of “synthetic ETFs” and concerns about more exotic “leveraged” and “inverse” ETFs, or those invested in obscure benchmarks.
“Some investors may not fully appreciate the risks of investing in these instruments,” the paper warns.
“Looking forward, the risks associated with ETFs may increase, especially as the market continues to expand to more novel instruments.”
However, the RBA notes that regulators have already been stricter on ETFs here, imposing more stringent admission requirements on exotic products than in other countries.
And the vast bulk of money invested in ETFs in Australia is invested in domestic equities (44 per cent of funds under management), international equities (39 per cent) and domestic fixed-income and cash (11 per cent), with less going into exotic benchmarks.
Of course, the opportunity for more diverse investments is there, with Betashares offering ETFs that track technology shares (the Nasdaq 100), ethical investment companies and cyber security companies.
A diversified share portfolio for the price of a smashed avo ($20 brokerage plus $5 annual fee)?
That does seem worth considering.
with Carol Saffer