News & Commentary

Exchange Traded Funds: dispelling the myths and misconceptions 08 Jun 10

Melbourne, 8 June 2010: Exchange Traded Funds (ETFs) offer investors a simple, transparent and diversified investment solution. But Vanguard Investments Australia (Vanguard) believes education is important to provide clarity on the workings of this relatively new investment vehicle.

This comes as global uptake in ETFs continues apace: in December 2009 global ETF assets surpassed $1 trillion worldwide, with 1,939 ETFs on offer from 109 providers on 40 exchanges around the world.

“The basic elements of ETFs are that they combine all the benefits of indexing with the simplicity of trading a share,” said Robyn Laidlaw, Vanguard ETF Product Manager.

“However, as Australian investor appetite for ETFs grows we may see much more diversity, and complexity, in the types of products available to investors.”

At present in Australia, investors have access to 36 ETFs quoted for trading on the ASX including domestic-domiciled ETFs, international ETFs, sector-specific ETFs and Exchange Traded Commodities (ETCs).

“The benefits and uses for these securities has been widely discussed, however the structure and the mechanics of ETFs requires some further clarity for many investors.”

“Vanguard ETFs are really simple to understand,” said Ms Laidlaw. “When investors purchase a Vanguard ETF security they are buying a share in a broadly diversified portfolio of listed securities, indexed by Vanguard”.

It has long been a philosophy of Vanguard that investors should do their research and really understand what they are investing in and where the potential risks and pitfalls might be and Vanguard is passionate about providing the right education so that investors can make informed decisions.

Vanguard offers low cost ETFs available across each of its range of three ETFs: the Vanguard® Australian Shares Index ETF (VAS); the Vanguard® All-World ex-US Shares Index ETF (VEU); and the Vanguard® US Total Market Shares Index ETF (VTS). Each are broad market capitalisation ETFs – which aim to mirror the return captured by an identified index or benchmark as with its range of traditional managed index funds.

To help advisers and their clients better understand the nuts and bolts of one of the world’s most popular investment vehicles, Vanguard has released a ‘Comprehensive Guide to ETFs’.

“Given the rising popularity of ETFs, Vanguard is committed to fully educating advisers and investors on the facts about ETFs,” said Ms Laidlaw. “This guide and our suite of educational material is our way of helping investors to get a clear understanding of ETFs, starting with the simple question: ‘What is an ETF?’”

Popular ETF myths

Vanguard sheds light on some of the myths about ETFs:

Myth 1: All ETFs are the same: Some view ETFs (and index funds in general) as commodity-like products with no material differences. However, even ETFs supposedly tracking the same market segment can deliver very different results because of factors such as the construction methodology of their target indexes and their day-to-day portfolio management.

Myth 2: ETFs are illiquid: There are two levels of liquidity to think about with ETFs. Primary sources of liquidity are defined by the composition of the ETF itself and trading volume of the individual underlying securities that make up the index it is tracking. Secondary sources of liquidity exist in the volume of trading of the ETF itself and the investment environment it is trading in.

Myth 3: ETF are complex: Vanguard ETFs are very simple to understand. Just like Vanguard’s range of managed funds, Vanguard ETFs provide exposure to broad market indices. There is NO leverage and NO derivative structure involved with these products.

Myth 4: ETFs are tax inefficient: Vanguard ETFs offer investors potential tax efficiencies due to their buy and hold approach and are potentially more tax-efficient than traditional managed funds. As index portfolios, Vanguard ETFs tend to realise fewer capital gains than actively managed funds. This is due to a low turnover in the underlying securities in the fund.

Myth 5: ETFs are only for market-timers: Some think ETFs are appropriate only for speculators, market-timers, or other investors with short time horizons. However, ETFs may benefit long-term investors even more because ETFs' low expense ratios can more than offset commissions and brokerage costs over time.

For a copy of Vanguard’s Comprehensive Guide to ETFs and further educational resources on visit www.vanguard.com.au/etf