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How to invest in ETFs
What you need to know about ETFs to start investing in South Africa.
An exchange-traded fund (ETF) is where you own a bundle of shares or options in a single trade that is listed on a stock exchange such as the Johannesburg Stock Exchange (JSE), the New York Stock Exchange (NYSE), or the NASDAQ. It is a pooled investment security that typically tracks a market index, a theme, commodity or other assets. Investors in an ETF own a small percentage of each company based on market weighting.
Each ETF can be bought and sold by investors the same way that you would buy and sell shares. By investing in ETFs, you can easily create a diversified portfolio and spread your investment across a wide range of asset classes, including South African shares, global shares, fixed income, debt, foreign currencies, commodities and metals.
The main difference between an ETF and a mutual fund is an ETF is listed on an exchange such as the Johannesburg Stock Exchange (JSE).
How to buy ETFs in South Africa
To start investing in ETFs you buy ETF units, which are similar to company shares. ETF units can be ought the same way that you do shares, through a broker or online share trading platform.
After you’ve signed up to a brokerage and decided which ETF to buy, you can search for the name or ticker code of the ETF. You’ll soon notice that each ETF has a price. This is called the unit price.
- Compare online share trading platform
- Sign up for a trading account. You’ll need to provide personal details and proof of ID
- Transfer money into your trading account
- Search for the name or ticker code of the ETF you want and place an order
- Check the ETF unit price and make sure you’re happy with it
- Track the performance of your ETF
We update our data regularly, but information can change between updates. Confirm details with the provider you're interested in before making a decision.
Example: Buying an ETF
Say you want to invest 1,000 ZAR into your ETF of choice and the ETF unit price is 1 ZAR . The brokerage service you use also charges 10 ZAR each time you place a trade (leaving you with 990 ZAR to invest). Excluding the brokerage fee, you would buy 990 ETF units at 1 ZAR each.
Before you buy, it’s a good idea to compare the ETF unit price with its iNAV price (available from the ETF issuer). The iNAV price tells you how much the price of the ETF should be relative to the assets it holds. When there’s a lot of volatility in the market, sometimes these 2 prices can be very different. If the ETF unit price is higher than the iNAV price, then you’re probably paying more than what the ETF’s true value is.
For this reason, it’s a good idea to set a “limit order” based on the iNAV price when you’re buying ETF units. A limit order allows you to select the price that you’d like to buy the ETF at. Once the ETF falls to that price, your order will go through.
Pro and cons of ETFs
- Index fund investing. Index funds have become a popular way to invest relatively safely in the stock market. Most (not all) ETFs are types of index funds.
- Diversify your portfolio. Buying units in just 1 ETF allows you to invest in many shares and asset classes at once.
- Dividend income. If the underlying assets held by an ETF pay dividends, those dividends and franking credits (if applicable) will be passed on to you.
- Relatively inexpensive. Creating a diversified portfolio of shares and other investment options usually requires a lot of money in South Africa. But if you invest in ETFs, you can get started with much lower minimums.
- Easy exit. Unlike some other types of investments that lock you into a contract for a fixed term, ETFs are open-ended meaning they are easy to transact with.
- Tax-effective investment. Because most ETFs attempt to track the performance of a specific index, there is usually a low turnover of investments compared to actively managed funds. This results in fewer capital gains tax liabilities for investors.
- Losing money. If the underlying assets owned by an ETF don’t perform as hoped, the value of an ETF will fall – and the value of ETF units you own will fall along with it.
- Tracking errors. As we mentioned above, ETFs don’t always exactly mimic the performance of the index they’re designed to track, with fees, taxes and other factors potentially resulting in lower-than-expected returns.
- Risks associated with individual ETFs. The underlying assets held by your ETF also come with their own risks, depending on what they are tracking.
- International taxes. If you buy units in an ETF that is listed in a foreign country, you may need to pay foreign taxes. Make sure you’re aware of all tax implications of an ETF before you commit any funds.
- Currency risks. If you invest in an ETF that tracks the performance of overseas assets, fluctuations in the value of the currencies involved have an impact on the value of your investment.
Types of ETFs
The humble ETF has evolved starting out as a simple passive investing index. Nowadays you can get an ETF for pretty much anything ranging from your more traditional passive approach to an active strategy, thematic strategy and everything in between.
Here are the different ETF types in South Africa you might want to trade:
Also known as indexed ETFs or index funds, these funds aim to replicate the returns of a specific index or benchmark. For example, you may want to invest in a fund that tracks the performance of the S&P 500 (US stock market).
Also referred to as exchange-traded managed funds (ETMFs), active ETFs aim to outperform the market or a particular index. These sometimes come with a higher level of risk and usually have higher management fees.
Factor and Smart Beta ETFs
These combine both active and passive strategies. They typically track an index but factor in additional variables, such as a higher weighting of smaller companies. Smart Beta ETFs track non-traditional indices designed to invest in a selection of company stocks based on their own set of rules. The idea is to outperform the market.
Structured and synthetic ETFs
Synthetic ETFs are where this starts getting a little bit more complex.
ETFs access investment assets in 2 ways: physically or synthetically. ETF issuers of a physical (or standard) ETF have purchased the underlying assets on the index it aims to replicate.
On the other hand, structured or synthetic ETFs try to replicate the performance of their underlying assets through the use of derivatives. This is because it’s not always practical to hold physical assets. For example, gold or commodity ETFs are often synthetic due to storing large amounts of gold is often difficult. Instead of investing in an actual lump of gold in South Africa, you’re investing in a contract that promises returns based on the commodity’s price movements.
What is a derivative?Derivatives are products that derive their value from underlying assets like commodities or shares. Instead of purchasing a physical asset, it is a contract with an agreed-upon return based on the price of the movements of the underlying asset.
Warning: Because structured products may use complex investment strategies, they can be much riskier than a standard index ETF.
Commodity ETFs, or exchange-traded commodities (ETCs), track the performance of an underlying physical commodity, such as gold, natural resources or agricultural products.
What are the costs of investing in ETFs?
When you invest in an ETF, the first cost you’ll be aware of is the ETF unit price. However, there are other less obvious costs you need to be aware of. While ETFs typically charge lower fees than unlisted managed funds in South Africa, this isn’t always the case.
You should always read the PDS provided by the ETF issuer for full details of any fees that apply and how they will affect your investments. Here are the main costs to take note of:
- Management fees. Just like any other managed fund, ETFs have management fees, which are sometimes referred to as the management expense ratio (MER). This fee is charged by the ETF issuer and is usually included in the unit price.
- Brokerage fees. You’ll need to pay brokerage fees whenever you buy or sell ETF units.
- The buy/sell spread. This is the difference between the highest price you’re willing to pay for an ETF unit and the lowest price at which a seller is happy to sell. The wider the spread, the more it can cost you.
Do ETFs pay dividends?
Some ETFs in South Africa pay dividends if the underlying company stocks pay dividends. However, it also depends on whether the fund manager chooses to pass this on, so check this first if this is a priority. This information should be available in the ETFs product disclosure statement.
Most of the time, ETFs will pay their dividends on a quarterly basis, though this isn’t a rule. If you’re interested in ETF dividends, check the yield, how often it’s paid and whether you can reinvest the payments back into the ETF if you choose or if it’s paid into your account.
How do I compare ETFs?
Like share prices in South Africa, the price of ETF units can fluctuate from day to day. However, many ETFs move up and down in line with the index they are tracking, so there are a few simple tips to keep in mind to help you get more out of your ETF investments:
- Compare the price. ETF issuers regularly provide net asset value (NAV) information, often in real-time. This is commonly referred to as the indicative NAV (or iNAV). By comparing it with the buy and sell (unit) prices quoted by your ETF broker, you can determine whether you will get value for money.
- Keep an eye out for tracking errors. While many standard ETFs are designed to mimic the performance of a specific market index, they won’t exactly replicate what the index does. This is known as a tracking error and it occurs because fees, taxes and a range of other factors can influence the value of an ETF.
- Consider limit orders. The iNAV can change quite quickly throughout the day as volatility in underlying markets drives it up or down. If you’re investing in a volatile ETF, such as ETC, it may be safer to place limit orders rather than market orders when buying or selling, which will ensure that you get the price you want.
- Management fees. All ETFs charge management (MER) fees that are calculated as a percentage of your returns. The average fee is around 0.8% of your funds – make sure the fees match your returns.
- Markets and sectors. ETFs have different themes. Some ETFs track large stocks from the US while others track small-cap stocks from South Africa or specific sectors such as health, tech or renewables.
- Choose carefully. ETFs come in all shapes and sizes, and carry different levels of risks depending on the type of assets they track. For example, while an ETF focused on resource stocks might offer the potential for higher returns, it also comes with a higher risk attached than an index that tracks the top 200 stocks.
Frequently asked questions
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