With an SMSF, you can select the fund’s investments, so it can be wise to know there are ways you can manage risk and volatility.
This is investing for your retirement and it’s important to consider what sort of lifestyle you want and what you can do to put your SMSF on the most likely path to reach your financial goals.
Exchange traded funds (ETFs) are one tool you can use to give your SMSF diversity, access to other markets you might not otherwise be able to invest in easily, and provide strategy options.
ETFs are investment funds that trade just like shares, with good liquidity and high transparency. Prices and holdings are reported online from various providers on a daily basis.
ETFs can be a cost-effective way of diversifying your SMSF portfolio.
Every investment portfolio can benefit from thoughtful asset allocation, but sometimes making a decision regarding individual stocks or bonds can be difficult. The amount of choice can be overwhelming and when you are doing it on your own, you have to do your research.
By using an ETF, you can diversify your portfolio across shares in Australia and globally and the same applies for fixed income. You also have opportunities to invest in commodities and currencies.
From a $2.2tn pool of retirement assets, Jon Howie, director at iShares, estimates only 1%-2% of the total is using ETFs, while penetration in the US is around 10% and in Europe it sits at around 5%.
However, ETFs are becoming a core part of a portfolio, he said, with around 135 ETFs to choose from in Australia.
“Investors can be active in their investment decisions, and have access across the world,” he says.
ETFs can track global markets to provide diversification across economies, which spreads the risk you need to manage.
There’s no single point of risk, so there’s more balance across the portfolio to give a buffer if any one sector or country is underperforming.
ETFs have a broad spectrum of coverage, tracking markets locally and around the world, across different asset classes, share sectors, currencies and commodities.
Traditionally, Australians have been under-invested in fixed income, finding shares the easier option compared with trying to understand yield, price and maturity. Buying corporate bonds is easier now that access is available simply through trade on the Australian Securities Exchange with XTBs, but to gain global diversity, an ETF can provide a solution.
Synthetic ETFs give investors the chance to buy commodities that would be difficult to hold if the physical material had to be stored.
While you could purchase and store an ounce of gold quite easily, doing the same with a tonne of iron ore would be more problematic.
An ETF can give you access to bulk commodities including agriculture products, oil, industrial metals and precious metals and can manage the currency movements of the Australian dollar against the US dollar in the same investment.
ETFs can provide a simple way to gain exposure to foreign currency, avoiding costs of foreign exchange trading platforms and the purchase and sale of the asset is as simple as trading an individual company share.
Interest earned and dividends paid on the various assets can be returned to the benefit of the ETF.
“ETFs combine the diversity of a managed fund with the tradability of a share,” BetaShares managing director Alex Vynokur says.
ETFs can diversify your SMSF across a variety of investing strategies such as growth, income or defensive aims.
Some can target shares with regular franked dividend income, to specifically address the needs of SMSF and retiree investors, while others invest in high-interest bank deposit accounts.
So-called ‘bear funds’ look to gain from market movements both in Australia and overseas to capitalise on daily volatility and sentiment, with no margin calls on investors. Losses are therefore limited to the initial investment and currency risks are hedged.
Tax administration costs of overseas earnings can be reduced with the use of ETFs and costs and fees can be less than those for managed funds.
For short-term cash management, investors can switch between other investments and use ETFs as a temporary placeholder while deciding any next particular focus.
When your SMSF needs to move from accumulation of funds to providing an income stream, rebalancing your SMSF portfolio can be managed more simply if you are invested in ETFs because of the choice of different strategies available among the different ETF products.