Investors warned to not ‘take a punt’ on trendy ETFs

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Exchange-traded funds (ETFs) with catchy investment themes, particularly those centred on emerging technology such as artificial intelligence, should be approached with caution, investors are warned.

ETFs have exploded in popularity over the past decade, with providers looking to offer varied themes for people to invest in. Many invest in listed companies involved in a “disruptive” tech, such as cybersecurity, AI, cloud computing, virtual reality and gaming and clean energy.

Investors have to approach exchange-traded funds (ETFs) that invest with a theme with eyes wide open. Credit: AFR

Jonathan Philpot, wealth management partner at HLB Mann Judd, says while there can definitely be a place for such investments, themed ETFs are usually launched just after they have had a good run. That means the best returns for those companies may have just past, at least for now, he says.

“It is when there are peak noise levels for the theme that the ETF is launched, you are probably buying into the underlying stocks at or near record levels,” Philpot says.

ETFs started out as “passive” investments that simply tracked the performance of a major index, such as the leading benchmark for Australian shares, the S&P/ASX 200.

Units in ETFs are bought and sold on the Australian Securities Exchange and on Australia’s second-largest sharemarket, Cboe Australia, similar to shares in listed companies. The unit price rises or falls in line with the market the ETF tracks, minus a management fee.

‘I cannot … say that they are not good investments, but they are quite different to buying an ETF that tracks the Australian sharemarket.’

The appetite of retail investors for ETFs appears to be insatiable with the market capitalisation of ETFs listed in Australia sitting at more $153 billion, from about $42 billion five years ago.

The newer breed of themed ETFs are still index-tracking funds; however, they aim to capture the performance of a particular trend, often in very narrow parts of global markets.

“I cannot sit here and say that they are not good investments, but they are quite different to buying an ETF that tracks the Australian sharemarket or a US sharemarket index,” Philpot says.

ETFs with environmental, social and governance (ESG) themes are also popular, particularly among younger investors.

John Winters, the chief executive of Superhero, a share-trading platform, says interest in ETFs with an ESG theme by the platform’s users has increased markedly over the past year.

“This movement has been led by our younger investors, while our older investors have continued to have their eye on blue chips and energy stocks,” he said in June.

Philpot says investors who are interested in investing in an ETF with a theme should wait until some of the heat comes out of the theme.

“But you really are taking a bit of a punt with these themed ETFs,” he says.

Andrew Heaven, an AMP financial planner with WealthPartners Financial Solutions, says ETFs are a good way for investors to get exposure to high-conviction areas of markets.

However, investors should be careful not to be unintentionally exposed to a higher level of investment risk than they intend, Heaven says.

“When you are looking at these ETFs, drill down to the actual portfolio holdings and get an understanding of exactly what stocks you are investing in,” he says.

Maybe you already invest, including directly, in US-listed tech stocks that could be included in the tech index that is tracked by the ETF, increasing your exposure to the stocks, Heaven says.

• Advice given in this article is general in nature and is not intended to influence readers’ decisions about investing or financial products. They should always seek their own professional advice that takes into account their own personal circumstances before making any financial decisions.

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