25 Aug 2014

The rise of the ETF

We love simple and efficient investment solutions. That’s why we love exchange traded funds – or ETFs. They are the investment building blocks within the Stylo portfolios.  An ETF is an investment fund traded on a stock exchange; so with a single trade you get exposure to the investment fund.

Global ETF assets


Source: ETFGI.com

Globally, there has been an explosion of ETFs both in number of funds and assets; the total global ETF assets have grown from around $100bn in 2000 to $2,500bn at end of June 2014.

Why such explosive growth?
Investors are coming round to the benefits that these ETFs offer as simple, liquid and low-cost investment building blocks. The Economist published its article on the rise of low-cost investing in May 2014 that highlights how damaging costs are to a long-term investor.

Even large institutional investors have embraced low-cost index tracking strategies within their investment policy; including the USA’s largest public pension fund, California Public Employees Retirement System (Calpers) – which manages $290bn (as at April 2014) – that’s about double the entire South African unit trust industry!  (see Calpers investment beliefs).

Why are costs so important?
In the long-term real returns (i.e. after-inflation return before costs) for a balanced portfolio across many different countries has typically only been around 4%-6% pa, see 2014 report.

The average total expense ratio (TER) for international balanced mutual funds is around 1.5%; i.e. $1.50 annual cost for every $100 invested. This excludes the cost for advice, the cost for flexibility (either via a fund of funds or a platform with fund choices) and the trading costs. We estimate that total annual investment expenses could be closer to 2%-3% or more, i.e. half of the real return or more.

Compounded overtime, costs are extremely punitive. Click here for more info.