DAVID CASE: Exchange-traded funds ensure diversification — often at a pittance

The recent unrest in SA has caused many South Africans to assess their options. Apparent concerns over personal safety have led to an increase in the number of inquiries through our channels, the burning question being: “What are my options if I want to move my assets offshore?”

While the given answer to everyone may differ slightly depending on their situation, the underlying message remains the same: there is always a compelling reason to invest offshore. One does not get an appropriate level of diversification in any portfolio just by focusing on local investment opportunities. The JSE punches well above its weight category, with several dual-listed companies ensuring the market capitalisation of the JSE is roughly 1.15% of total global market capitalisation (the 18th-largest stock market in the world). 

This is impressive when one considers that the SA economy contributes about 0.3% to global GDP, with that share continuing to shrink. However, while the JSE is impressively large for our country, it still misses out on 98.85% of all listed equities in the world. Another way of looking at it is that the JSE is smaller than Apple, Microsoft, Alphabet, Saudi Aramco and Amazon — five mega companies that are larger than our entire stock market.

What jumps out is that four of the five largest companies are businesses firmly rooted in technology. It is a sector that is lacking on the JSE, with any local investor wishing to “invest into tech” having to buy a stake in a publishing company whose origins date back to 1915. That Naspers has become so dominant is due to an investment made in the early start-stage of Chinese technology giant Tencent. Naspers’s position of dominance has certainly not arisen as a result of the publishing and media businesses.

Technology has always been the leading driver of change, and with that, the leading driver of new investment ideas. Even our local mining industry was changed with the implementation of technology, albeit over a century ago. The development of the cyanidation process in the extraction of gold changed Johannesburg from a dusty mining community with low yields to the city full of skyscrapers that it is today, literally Egoli — the city of gold.  Throughout history, the people who have the vision to create products for a future market are the ones who tend to succeed. Ideally you want to invest in those ideas, but the lack of innovation on the JSE has had a negative effect on returns over the last decade. 

While most emerging markets have struggled over the past decade, investing in SA has delivered one of the worst returns. Over the period we saw many years where it was possible to generate higher returns with money in the bank than it was to invest on the JSE. Given that it makes sense to diversify with investments into the rest of the world, the next question to answer would be how.

The most popular way to invest globally is through exchange traded funds (ETFs), which offer a simple and easy way to invest in a portfolio of international shares. ETFs are managed funds that are traded on a stock exchange, such as individual shares. Each ETF typically invests in a basket of shares that track an index, such as the S&P 500, which represents the 500 largest companies listed on stock exchanges in the US. An investment into an ETF tracking the S&P 500 will give the investor exposure to every share in that index.

Over the last decade the ETF structure has become the default investment structure for international investments. In the US, the rapid growth of the ETF market has come from investors withdrawing investments from mutual funds and moving into ETFs. The ETF market has had net inflows every calendar year for the past decade.

Investors select ETFs because of the many benefits inherent in their structure. Some of these benefits are lower costs, trading flexibility, portfolio management and transparency. People are generally aware of the low-cost benefits of ETFs but perhaps don’t know just how low costs can go. In the US, a “race to zero” is happening. Some of the better known indices, such as the S&P 500, have a number of ETFs tracking them and flows tend to go to whoever charges the least. At the moment it is not uncommon to find low single-digit fees, with the Vanguard S&P 500 ETF (“VOO”) charging just 0.03% per annum — a fee for asset management that is unheard of in SA.

There are a number of different indices tracked by ETFs, from broad-based indices to specific thematic indices. If an investor wants to focus on environmental, social & governance issues, there are ETFs for that. If an investor wants emerging market fixed income, there are ETFs for that. Looking for US health care would lead to any number of ETFs. There is an ETF for everyone. We can even get our exposure to technology.

• Case is director of Magwitch Offshore, which provides global balanced ETF portfolios in all major currencies.