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ETFs

Understanding underlying ETF assets critical

ETF assets

Retail investors have been urged to learn about the true nature of underlying assets or indices of a particular ETF before making a portfolio allocation.

A senior executive of a research house has warned individuals looking to invest in exchange-traded funds (ETF) to get a proper understanding of the underlying assets of the offering to ensure they are making a portfolio allocation to the asset class intended.

Zenith Investment Partners head of real assets and listed strategies Dugald Higgins noted the risk associated with ETF investing is greater than most people think as the majority of these funds trading on the market are not mirroring conventional indices.

“Just about 90 per cent of the ETFs on the ASX (Australian Securities Exchange) at the moment, that aren’t those core index funds, are pursuing extremely niche strategies a lot of the time. Now that sort of stuff is fine if you know what you’re dealing with,” Higgins said.

“But we know that inevitably that these strategies are more volatile, they have greater drawdown [and] they have greater dispersions of returns.

“Given the very big push that we’ve seen over the last few years, where a lot more retail investors are taking investing into their own hands for the first time, this sort of stuff can be dangerous.”

He noted his point had been clearly illustrated by market commentary he had recently read.

“I saw a report earlier this week and it was very much a mechanical piece saying ‘here [are] the best-performing cash ETFs this year’ and ‘the best-performing cash ETF is one that generated 26 per cent [return]’. That was because it leveraged currency ETF,” he shared.

“But to call that cash is just ridiculous.”

According to Higgins, the report highlights the real danger as retail investors, who read the same commentary, would think they can invest in a cash ETF and achieve a 26 per cent return annually.

Further, he suggested more significant action was required than just having investors improve their knowledge about these products if the situation is to be addressed properly.

“I think it’s probably an area that regulators need to keep a watch on a little bit because it’s a classic case of a lot of these ETFs [being deceptive because] the label on the tin does not match what’s underneath,” he said.

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