MR MONEY MAKER: Active vs Passive: Which Way With Your Money?

Active vs Passive: Which Way With Your Money? MR MONEY MAKER’S Guide to ETF Trackers


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A history

In 1995, Barclays bought a loss-making fund management company called Wells Fargo Nikko.

Based in California, it had developed a simple investment idea that would eventually come to dominate the investment management world.

Exchange Traded Funds - which target a particular index - actually trade like common stocks rather than a fund.  This means they are easy, fast and cheap to trade

Exchange Traded Funds – which target a particular index – actually trade like common stocks rather than a fund. This means they are easy, fast and cheap to trade

It had only considered that by simply buying and holding the same companies in the same proportion as the S&P500 index (the leading US stock index of 500 companies), it would probably beat most of the much more expensive fund managers on Wall Street.

There have always been “tracker” funds, which, as the name implies, track a particular index, but these were different. They were called Exchange Traded Funds (ETFs), which basically traded like common stock rather than a fund.

This meant that they were easy, fast and cheap to trade, rather than the rather tedious process with old funds and mutual funds. Barclays paid more than $440 million for this company, which at the time was seen as huge for an unproven unprofitable investment company.

This gave Barclays approximately $200 billion in new assets. The last figure I saw last year showed that there were now about $7.7 trillion worth of ETFs.

What can I learn from this?

ETFs have now spread all over the world and cover many asset classes and have many variations, but the core is a very cheap way to invest very broadly around the world and in those asset classes.

So from major markets to emerging markets, access is easy. Competition has been fierce and therefore competitive rates have fallen and become extremely cost effective (there was even one ETF that paid investors to own it for a while).

And a warning?

Be wary, though, as an ETF simply reflects the index it tracks, and that index can often be biased by a particular sector, such as technology in the Nasdaq, or miners and oil companies in the FTSE 100.

While some ETFs hold the stocks of that index directly, others will only “reflect” them and not be direct owners. They are called “synthetic” ETFs and are not as transparent as the direct ones.

What can I do?

Warren Buffett, the highly successful US investor, has previously recommended that for most retail investors, just buying ETFs is a very efficient way to develop their investments, and I certainly agree.

In recent years, an ETF in the major US indices would have outperformed most professional investors — and at a lower cost.

They are not the solution to all our portfolio problems, but they will be a very valuable, flexible and inexpensive tool that we can all use.

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