Too much of a good thing
There’s an exchange traded fund for all occasions, but it pays to ignore the hype and keep it simple
One of the bright spots of 2021 has been the number of questions I’m getting about exchange traded funds. The message, it seems, is getting through. Most investors can benefit from ETFs, and they are a wonderful way to get started, offering low-cost, immediate diversification and avoiding the paralysis of “which company’s shares do I buy first”.
Except that, as the old Castrol ad reminded us, “Oils ain’t oils, Sol.”
ETF was once synonymous with “index fund”, a way of getting hold of a super low-cost managed fund that just tracked a given index (say the S&P/AS;X 300 or S&P 500). But rather than sending the index fund manager a cheque, you could buy and sell directly on the ASX. Simples, as the meerkat would say.
Of course, the finance industry can smell a buck a mile away. And once this cat was out of the bag, the so-called “product manufacturers” came running. No longer just the province of the low-cost index guys and girls, there are now ETFs for almost everything. And so appealing is the prospect - read: there’s so much money to be made - there are now apparently more ETFs than individual companies trading on the US stockmarket! (The same companies can be in three dozen ETFs, in different combinations, from different fund managers).
You can still buy the cheap, diversified ETFs, but you can also buy ETFs for almost anything (and the marketing machines will do their level best to convince you to do so). Gold? Sure. Shorting the market? Knock yourself out. Robotics? Cybersecurity? Climate change? Batteries and lithium? Of course. Notice a theme? New ETFs follow the trends. If investors are excited about a theme, you can almost bet there’s an ETF for it!
You might, possibly, be detecting a little cynicism at this point. Like all good things taken to excess, the proliferation of ETFs is not my favourite thing. Too many investors can be convinced to see them as shortcuts to thinking: “Electric vehicles are the future, therefore I should buy the ETF” or “There seems to be more hacking these days … I’ll buy the ETF”.
Now, those observations might be true and be good places to begin your research. But the immediate and direct assumption that you should buy the related ETF is very possibly a mistake.
First, increased activity doesn’t mean a company will be profitable. Just ask the airlines. Second, even the right idea doesn’t necessarily make a great investment. For reference, think of those who lost 80% during the dot.com bust, even though many (most?) of those ideas are commonplace 21 years later. Third, even if you have the right theme and the right companies, they might be wildly overpriced. Or not.
But that’s the challenge: if you’re going to buy a “thematic” ETF, you need to have at least answered those questions for yourself. In short, just because you can, doesn’t mean you (necessarily) should.