There are more than 2,000 companies listed on the ASX – so how do you choose which one is right for you?
Imagine you have never bought a chocolate bar before. Snickers, Cherry Ripe, Mars, Milky Way – the list goes on. They are all similar, but all different too. How would you pick just one? You might instead choose a box of Favourites, so you get a taste of the whole variety in a single purchase, without having to choose between them.
The share market has an equivalent of the box of Favourites: the Exchange Traded Fund, or ETF.
What is an ETF?
An ETF is a single investment that holds a basket of other investments – often dozens or hundreds of companies at once. It is listed on the ASX and bought and sold exactly like a share: same trading hours, same settlement, same way of holding it. One purchase gives you a slice of everything inside the basket, which is why ETFs have become a popular starting point for new investors and a portfolio building block for experienced ones.
The main types
Index ETFs aim to track a benchmark – for example, the largest 200 or 300 companies on the ASX, or a major international index. Rather than trying to beat the market, they aim to deliver the market’s return at low cost.
Sector and thematic ETFs concentrate on one part of the market – a single industry such as banking or technology, a commodity, or an investment theme. They offer targeted exposure, with correspondingly less diversification.
International ETFs hold overseas markets through an ASX-listed vehicle, which is often the simplest way for Australian investors to add global exposure – noting that currency movements then affect returns too.
Income-focused ETFs hold baskets selected for dividend yield, and fixed-income ETFs hold bonds rather than shares.
How the practical side works
Buying, selling and receiving distributions works the same way as for an individual share. ETFs pay distributions (their version of dividends – our guide to how dividends work in Australia covers the mechanics), which can pass through franking credits from the Australian companies they hold – our franking credits explainer covers how that works. Most ETFs also offer distribution reinvestment plans.
What to look at before buying
The management fee (MER). ETFs charge an annual percentage, deducted from the fund. Broad index funds tend to sit at the cheap end; specialised and actively managed ETFs cost more. Over long holding periods, fees compound – small differences matter.
What is actually inside. Two ETFs with similar names can hold very different baskets. The fund’s website lists every holding and its weight – worth a look before you buy, not after.
Concentration. A broad index fund spreads risk across the whole market; a single-sector or thematic fund concentrates it. Neither is wrong – they are different tools – but know which one you are holding.
What ETFs do not do
Diversification reduces the impact of any single company failing, but it does not remove market risk: when the whole market falls, a market-tracking ETF falls with it. Index ETFs are also never designed to beat the market – by construction they deliver roughly the benchmark’s return, less fees. And a narrow thematic ETF can be just as volatile as picking individual stocks in that theme.
ETFs and individual shares work together
For many investors it is not either-or: an index ETF can provide the diversified core of a portfolio, with individual shares held around it for targeted ideas, franking or income. What the right mix looks like depends entirely on individual circumstances – which is a conversation for an adviser, not a blog post. For where that portfolio fits in the bigger picture, see our guide to planning for retirement.
Watch: our desk on ETFs
From our Options Playbook video series – the desk walks through ETFs in practice.
This video contains general advice only, prepared without taking into account your objectives, financial situation or needs. Consider its appropriateness for your circumstances, and read the relevant disclosure documents, before acting. Any securities mentioned are for illustration and are not recommendations to you. iInvest Trading & Advisory is a Corporate Authorised Representative (CAR 431611) of Zodiac Securities Pty Ltd (AFSL 398350).
Want to talk ETFs through with a broker?
Send us an enquiry and we will take it from there – or call our Burleigh Heads office on 07 5520 8788.
The information in this article is general information only and does not take into account your objectives, financial situation or needs. You should consider whether it is appropriate for your circumstances before acting on it. iInvest Trading & Advisory is a Corporate Authorised Representative (CAR 431611) of Zodiac Securities Pty Ltd (AFSL 398350).
