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A Complete Guide To Exchange Traded Funds (ETFs)

Updated: Oct 28, 2022

exchange traded funds guide

If you’re already an investor, or you’ve been thinking about starting to build a portfolio, then you’ve probably run into a discussion about how to invest in ETFs (Exchange-Traded Funds). They’ve become an increasingly popular option for investors who are looking to diversify their portfolios while minimising risk and guaranteeing better returns.

But what exactly are they? What are the best ETFs to invest in? Are they a sound investment? Today, we’ll take a look at some of the key considerations for anyone who’s looking to invest in ETFs, how they can benefit you and how you can get started if you think they’re a good fit for your investment goals.

ETFs — a compact investment bundle

So, what is an ETF? ETFs are essentially mini-investment portfolios that are bought, sold and traded on the stock market. They’re usually composed of a mix of bonds, stocks, cash and assets, curated to maximise the likelihood of good returns on your investment. These are then overseen by a fund manager (or in many cases, a collective of fund managers) who makes decisions about how the fund is invested to maximise returns to ETF holders.

ETF’s are often seen as a great way to start investing. They’re considered to offer relatively good returns while at the same time offering a level of protection through diversification. They can be a great way to experiment with the stock market without the volatility that accompanies many stocks. If you’ve been considering investing, ETFs can serve as an excellent gateway.

Additionally, many existing investors also see them as a straightforward way to diversify their portfolio without branching out into entirely new territory. Though they utilise a number of different asset classes, they’re still bought and sold the same way as stocks, which means that there’s no need to learn a whole new process for buying and selling.

How to buy ETFs in Australia for beginners

However — as with many things in investing — it’s important to do more than a surface level investigation before opting to purchase ETFs yourself. Arguably the most important thing to know is that there are several distinct types of ETF. In fact, “ETF” has become something of an umbrella term for several different styles of investment product within the investor community, and it’s important to be aware of which one you’re planning to invest in. We’ve outlined the most common types below:

  • Passive ETFs As the name suggests, Passive ETFs are designed to require minimal intervention from the investor from a day-to-day perspective. They’re designed to mimic or follow the outcomes of a specific index or benchmark, and in turn, offer comparable returns. For example, you might purchase a Passive ETF that is intended to mimic the performance of the world gold market or the Australian stock market. This doesn’t necessarily mean that they’re “easy” or “safe”, though — it’s important to consider the market that they’re pegged to prior to purchasing.

  • Active ETFs Active ETFs are specifically designed to equal or outperform a given market. These are typically seen as more aggressive investments and come with more attendant risk; they’re more prone to fluctuations as they’re following the market more tightly. They’re less popular in Australia than Passive ETFs, but do attract attention from investors due to their typically larger potential for returns.

  • Smart Beta ETFs Using a combination of passive and active strategies, Smart Beta ETFs are geared towards outperforming the market. They’re arguably the most volatile option of the three as they can offer higher returns but also come with greater risk as they tend to use unorthodox strategies and are more beholden to trends.

Physical versus synthetic ETFs

Another key consideration for when you’re investing in ETFs in Australia is whether it’s physical or synthetic. A physical ETF is when the creator of the ETF owns the underlying assets that are being invested against — for example, the ETF creator may own considerable property, gold, foreign cash reserves or bonds. However, this isn’t always the case, and it may not necessarily be practical either. Gold needs to be stored somewhere, after all!

This is where synthetic ETFs come into play — these are essentially intended to mimic the performance of a physical asset, but the creators of the ETF do not own the physical asset themselves. They’re essentially providing a promissory note against the performance of a given asset within the marketplace.

Physical and synthetic assets alike can fall into any of the three categories above — Passive, Active and Smart Beta. Some investors prefer physical ETFs as they feel that there’s a greater tangibility to the investment itself. However, synthetic investments can yield impressive short-term returns, so there isn’t necessarily a right or wrong decision. In Australia, ETFs are required to disclose whether they’re physical or synthetic, so you can always make an informed decision when you’re purchasing.

ETFs — How to get started with investing

Investing in ETFs in Australia is a pretty straightforward process. It’s rather akin to buying stocks; you register with a broker (online or otherwise) and then can easily set up a trading account. Purchasing and trading occur during the usual trading hours for the stock exchange, so it’s easy to get the hang of making transactions.

However, it’s always worth seeking the advice of experts and experienced traders before starting your investment journey. Though ETFs are broadly less volatile than stocks, it’s still crucial to do your research and make sure that you’re comfortable with your level of investment.

How to buy ETFs in Australia

If you’ve been wondering about how to invest in ETF, why not make an appointment with the team at Acton Wealth? We can show you how to trade and invest in ETFs, making informed decisions about building and creating wealth in the process. Get in touch with us today — we look forward to helping you start on your investment journey.

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