Investing: What are ETFs?

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Investing: What are ETFs?

An ETF (Exchange Traded Fund) is one of a number of financial products or “instruments” which are better described as ETPs – Exchange Traded Products. In very simple terms, it is an investment that can be traded in pretty much the same way on any world stock market. They are relatively new (beginning life in 1993) but are growing in popularity.

Low cost and transparent

The main advantage of an ETP is that they are often very low-cost and transparent, particularly as the total cost of ownership is very clear. As we know, there are very few things that we can control in the investment world – but cost is one that we can exercise some degree of control over. We cannot control markets (at least not legally!) and whilst use strategies to take account of what is going on in the world, I believe that attempting to time investments to produce superior returns is pretty much beyond everyone. Admittedly it looks very easy in hindsight, but the truth is rather different and knowing when to get out is easier than knowing when to get back in…. and both decisions need to be made. Low cost is not the same as “cheap and nasty” and more than high cost is the same as quality. Cost of ownership is one of many aspects that we consider for our clients.

Focus which enables diversity

So an ETP offers a low-cost approach to accessing markets. In addition they can also provide tremendous focus. If you really want to invest in something specific an ETP will invariably have a solution. Arguably an ETP “democratizes” investing, making is just as cost-effective to invest £100 as £1m. However there are some snags.

Evolving market – teething troubles

Firstly, an ETP doesn’t have the advantage of the FSCS (compensation scheme) behind it. Frankly that may not bother you as one can make the argument that the such protection is paper-thin in the event of a serious global meltdown. Secondly as a “security” an ETP is traded, often via a stockbroker, which means dealing costs. If the amount is large enough, then this can be an insignificant sum, but clearly it’s not for those that invest modest amounts each month or trade frequently with small sums. Many ETPs are priced in non-sterling currencies, such as the dollar, thus exposing you to increased currency risk. Finally accessibility is still limited, of course I can find the best way for you to access ETFs and resolve these snags, but the choice of providers that genuinely offer trading facilities and best execution practice is fairly small – this is an evolving market. Once these costs are included, often an ETP can be more expensive than a good low-cost Unit Trust or OEIC – which have more “protection”. So I would argue that for all but a few, the main appeal at present remains the ability to use highly specific investment strategies to add value to your portfolio. Essentially this comes down to your investment experience and requirements – which ought to serve your goals, not simply a different investment experience.

However, I want to make it very clear that ETPs can make a lot of sense for the right investor and something that we are able and willing to use appropriately, after all this is part of being independent and being able to access the entire market for solutions.

Dominic Thomas
Solomons IFA

You can read more articles about Pensions, Wealth Management, Retirement, Investments, Financial Planning and Estate Planning on my blog which gets updated every week. If you would like to talk to me about your personal wealth planning and how we can make you stay wealthier for longer then please get in touch by calling 08000 736 273 or email [email protected]

Is Financial Services like gun crime?

Here in the UK we have some gun crime, its horrible, but it is still thankfully rare. In North America the obession with guns is perplexing, the rising death toll and increasing militarisation of police forces is alarming. We have seen further mishandling and stereotyping lead to deaths in police custody and now further riots in some American cities. I’m not anti-police, I am anti-stupidity and I don’t think I’m telling you anything you don’t already know. America has almost no gun control, you can wander into a gun store or general department store (heck, sometimes they even give them away for opening a bank account -see Bowling for Columbine) and buy a firearm and ammunition. No real checks. We tend to think this is insane.

Yet here in the UK we have an equally perplexing situation which has collectively blind-sided most people. Its in the form of pension advice. Yes that rather dull topic (believe me I know how dull). Anyway it seems that your neighbour – the one that’s tempted by all those offers of too good to be true (because it isn’t true) high investment returns is wreaking havoc with the rest of us, like a loaded gun.

Garbage in, garbage out..

Despite warnings from the regulator, or there being a regulator, believe it or not, there are some “advisers” out there peddling all sorts of… well…”junk”. These always promise high returns, but actually pay high commission (something that is meant to be banned). So I can only assume that the person that does this is greedy, gullable or vulnerable. If the latter, then they have my sympathy and support, but those that are gullable, well it may sound harsh, but at some point in life you have to take some responsibility for your actions. As for the greedy… why should the rest of us pay for your gambling habit? eh?

Back to the gun analogy. Say I am a shop keeper, I don’t sell guns, in fact I sell books, but the guy nextdoor does. Guess what? his customer went on a rampage in the mall and shot 60 people. Being a shopkeeper I am sent a bill for compensation because I am a shop keeper.

What do I mean? Well pensions are regulated products and in theory should be arranged by regulated advisers. However in some products (SIPPs – Self Invested Personal Pensions) you can hold “uncoventional” funds… or what I might call “stuff you shouldn’t ever touch”. The regulator (FCA) would call this “non-mainstream funds” and in fact categorise them as “unregulated” in other words not regulated and therefore not actually protected by compensation. However because they were bought through a SIPP (regulated) and arranged by an adviser (regulated) therefore when it predictably goes wrong (it will) anyone that is an adviser gets to pay for the compensation. Now I don’t know about you, but I thought being an adult involved taking responsibility for your actions, so being one, I don’t sue people every time decisions I take don’t work out right.

Yes inflation is 0% but fees increase 75%

I tell you this because on top of a £20million levy a few days ago in March, the new annual levy has been set, increased from last years £57million to £100million for those that arrange pensions (shop keepers). This levy always comes with 30 days to pay (thanks). This is only a fraction of the full regulatory fees that I and other adviser firms have to pay.

Nobody to blame… but the good guys can pay up right?

The pension companies that allowed these investments in their pensions claim “not guilty – the adviser did it”, the regulator claims “We can’t use our product intervention powers on unregulated investments”… so cannot stop the funds being sold (or bought).

Those that sold these things have scuttled off elsewhere, probably to re-emerge in a different guise, leaving the dwindling number of firms (now about 5,300) and advisers (now around 24,000 from about 250,000 20 years ago) to pay the bill. The bill is paid by the firm and is enough to wipeout some firms, meaning that next year….the numbers reduce, so the share of the bill increases. There is only so much “cost” that a small firm can manage before needing to pass this on to their clients. I therefore predict that as a consequence, many advisers will be “forced” to put up their fees… which means you are also coughing up for the greed of your neighbour, because they cannot be bothered to take any responsibility for believing in fairytales…

Sorry to moan, but seriously… this isn’t fair is it? Of course people that have been ripped off need compensating, but seriously, you didnt think investing in a timeshare via your pension was normal did you? Your comments would be very welcome…. perhaps I am missing something, perhaps my entire profession is… in which case I’d like to know so that I have a snowballs chance of improving it.

Dominic Thomas