What is an ETF?
You have likely heard the term Exchange-Traded Fund if you have been looking into investing for any amount of time. A lot of times just ETF. It is just an acronym of Exchange-Traded Fund.
Often when starting to invest, the general advice is to stick to ETFs for a little bit until your knowledge increases.
An Exchange-Traded Fund or ETF is basically a basket of stocks or companies all grouped together. They are traded on their respective stock exchange as if they were one stock.
Although there are many more specific types of ETF. When starting to invest it is common wisdom to start with a broad market ETF. Stick to the likes of an index tracking ETF such as the S&P 500.
The most common types of Exchange-Traded Fund are ETFs that track an index. Such as the FTSE 100 (UK) or the S&P500 (USA). These are the type of ETFs that most investors should look to when starting to invest.
There exist many types of ETF such as.
- Bond ETF
- Industry-specific such as an Oil ETF
- Currency ETF
S&P 500 Exchange-Traded Fund
Perhaps the most popular ETF among investors and one that I hold is the S&P 500 ETF. Vanguard S&P500 ETF -VUSA.
The benefit of an ETF like VUSA is that because it contains so many companies ( the top 500 by market cap) it has built-in diversity. When some stocks are down other are up.
Also, the fee is so low it is not worth worrying about. Known as the Ongoing charge or OGC it is just 0.07%. You do not get charged so to speak, it is all handled within the ETF its self.
You could invest £100 now with Trading 212 for example and you would never need to deposit anymore more to cover fees. If you held the ETF directly through Vanguard. You would pay account fees that would be charged to your bank or stock would be sold to cover the fee.
Bear in mind the account fees are also extremely low. They are an extra fee nonetheless. Versus Trading 212 ( the broker I use) having no fee.
Remarkably, over the last 100 years, it has achieved an annualized return of around 10%. 7% if you account for inflation. Much better than would get putting your money in the bank!
Vanguard vs Trading 212
You could open an account direct with Vanguard but they currently do not offer fractional shares. Meaning you will not be able to reinvest your dividend until it becomes large enough to buy a full share. Trading 212 allows you to buy fractional shares of the very same ETF.
With the ability to buy fractional shares. You can invest the likely smaller dividends you will get when just starting out.
The dividend yield in the S&P500 is pretty low currently at 1.9% – However, it is more about the growth with the S&P500 rather than the dividend as outlined above.
Another good option is a UK focused ETF.
FTSE 100 Exchange-Traded Fund
A prime example of a FTSE 100 ETF and one that I also hold is Vanguard FTSE 100 VUKE. Very similar indeed to the S&P 500 VUSA ETF this one tracks the UK FTSE 100 or the largest 100 companies in the UK by market capitalisation.
VUKE also has extremely low and practically insignificant fees of just 0.09%. As before it is all handled for you. No fees are charged separately, aside from Vanguard account fees.
Vanguard funds are popular because they are some of the most cost-effective funds out there.
Not seeing as much growth as the US market the FTSE 100 has over the last 100 years seen around 7.5% or after we take inflation into account around 5%.
Still impressive and in owning both VUKE and VUSA we give our portfolios even more diversity not only in different sectors but in different economies.
This is not the whole story though. The Dividend Yield of VUKE is 5.95% currently. Meaning not much growth is happening at the moment, but we can rely on that nice dividend coming in each and every quarter.
All of the returns stated above are WITH dividends reinvested. You must reinvest each and every dividend to give you maximum returns when you actually need the money.
Just by reinvesting the dividend, you will increase your annual returns by around 2% going off the data from the last 25 years or so.
2% does not sound all that much but its a lot when compounded over 30 years.
Dividend Investing
After a while of investing in Exchange-Traded Funds, you may, like me want a little more control. That is is where dividend investing comes in. You must research each individual company you choose to invest in.
This not only gives you full control of exactly where your money goes, it means you will be getting much more dividends. As an example, my portfolio is currently getting around a 4% yield in dividends alone.
Dividend investing is not for everyone – it is more for people who are really into it and interested in gaining the knowledge needed to do your own research.
On the other hand, an Exchange-Traded Fund is pretty much totally passive – just keep consistently putting money into the ETFs if the market is up or down. Over time it will pay off. Dividend Investing requires you to keep track of the companies within your portfolio to see if anything needs to be changed.
That may be simply an adjustment to sector allocation or something a little more serious like a company cutting its dividend. You must decide what to do in this situation then.
However with an Exchange-Traded Fund, if a company cuts its dividend, it will not make all that much of a difference – especially if say 3 other companies raise theirs. This is why diversification is very important in a dividend growth portfolio.
Dividend Portfolio Example
Now in April alone, I have had about £45 in total, a nice improvement on March.
As mentioned both Ford and Boeing have cut their dividend. Not a huge concern as they are only very small positions. I shall likely keep both and just see what happens rather than crystalize the loss on them now.
After all, you only lose money when you actually sell! Long term they may bounce back.
Trading 212 Free Share
Importantly, if you have not started your journey yet but are reading this article, you are in the right place.
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None of the above should be used as financial advice, I am not a professional. Always do your own research.
Thanks,
Sean
