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How To Pick ETFs Like A Pro

How To Pick ETFs And Assemble A Portfolio Like A Pro

profileKenneth Fong

If you’re an ardent fan of Seedly, then you’ll know that we’ve talked at length about what is an Exchange Traded Fund (ETF) and how investors should consider having low-cost ETFs, even Global ETFs as well, in their portfolio.

We’ve even got our community actively discussing the ins and outs of ETF investing in our Seedly Q&A.

Whether you’re a novice or a seasoned investor, an ETF is arguably one of the best ways to achieve portfolio diversification at a relatively low cost.

There are many ways to choose an ETF to invest in and we’ve covered some of them before. But in order to give you more perspectives on this matter, we decided to talk to the experts at FSMOne to share with us how they put together their ETF Focus List and how to create a sample portfolio of ETFs.

Disclaimer: This is not a sponsored post. Opinions expressed in the article should not be taken as investment advice. Please do your own due diligence.

TL;DR: How To Choose An Exchange-Traded Fund (ETF)

When picking ETFs, here are a couple of things to take note:

  • Quantitative
    • Assets under management
    • Expense ratio
    • Liquidity
    • Tracking difference
  • Qualitative
    • Is the index tracked a good representation of the broader market?
    • Concentration or default risk of underlying holdings
    • Physical vs Synthetic

FSMOne At Seedly Personal Festival 2019

If you’re going, “FSMOne? Sounds familiar…”

Yep, these are the friendly people from FSMOne at our most recent Seedly Personal Finance Festival 2019!

Remember how they were sharing that ETFs are a low-cost, diversified approach to gain exposure to almost any market around the world?

If you managed to speak to them, good for you!

But if you missed them… Relax. We got them to spill the beans on how to choose and assemble a portfolio of ETFs.

FSMOne ETF Focus List

Some of you may know FSMOne – or Fundsupermart for the more seasoned investors amongst you – as an investment platform that offers a permanent 0% sales charge on all funds and managed portfolios.

But guess what?

They also have a wide selection of ETFs available on the platform in the form of an ETF Focus List.

And here’s what it looks like:

Source: FSMOne.com

The ETF Focus List is pretty much a reference list openly available (read: FREE) for any investor seeking a low-cost method to gain diversified exposure to various international markets.

As of our last count, there are a total of 40 ETFs listed under six categories:

ETF Focus List CategoriesConsists Of
Core EquityETFs tracking the major economies of the world, e.g. US, Europe, Japan, Asia (excluding Japan), etc.
Regional EquityA subset of Core Equity, that tracks Greater China (under Asia excl Japan) and Latin America (under Global Emerging Markets)
Country EquityA subset of Regional Equity, mainly ETFs tracking specific countries, such as the SPDR Straits Times Index ETF (tracks Singapore market)
Fixed IncomeETFs tracking different bond markets
CommodityETFs tracking commodity prices
Tactical PlaysETFs in sectors which the FSMOne research team favours and can be used for an investors’ Supplementary Portfolio

FSMOne also shared that they review the list once a year to ensure that the selections remain current and relevant for all investors. However, you SHOULD still do your own due diligence before choosing to invest your money in any of the ETFs listed.

You might be wondering, “The experts choose already what, why can’t I just follow the list…”

Well, it’s because the ETF Focus List is not tailored to your specific risk appetite or investment style. Also, most of the ETFs listed are denominated in USD, so you’ll have to consider the currency risk that you’re taking on.

Unless you’re swimming in money and don’t really care about foreign exchange rates…

Source: SpongeBob SquarePants | giphy

Then why are you reading this article in the first place. ?

Note: If you’re wondering why the ETFs are in USD, it’s because almost 40% of global ETFs are based in the US. Naturally, it makes sense for the respective ETF managers to cater the currency to the Americans.

So How Do These ETFs Get Chosen?

The folks at FSMOne shared that the ETFs are selected based on quantitative and qualitative factors. They assign a scoring system for each category and will ultimately choose one with the most optimal blend of factors.

They added that as a rule of thumb, they prefer physical ETFs which track an index that is a good representative of the market they’re looking at.

Quantitative Criteria

1. Assets Under Management (AUM)

AUM is the total market value of assets which an ETF holds.

A larger AUM means:

  • Lower expense ratio as operating expenses are spread over a larger asset base
  • Higher liquidity as they are traded more regularly
  • Lower risk of closure as they are usually backed by larger issuers such as BlackRock, State Street, and Vanguard (read: more unlikely to go bust)

2. Expense Ratio

The expense ratio is what an investor pays to cover the operating expenses and management of an ETF, and it’s usually expressed as a percentage of an ETF’s average net assets.

Simply put: the lower the expense ratio, the higher your total return.

Here’s an illustration of the impact expense ratios have on your returns using a hypothetical investment of USD$10,000 compounded at 10% annually, over a course of five years.

Expense Ratio0%0.5%1%1.5%2%
Year 0$10,000$10,000$10,000$10,000$10,000
Year 1$11,000$10,950$10,900$10,850$10,800
Year 2$12,100$11,990$11,881$11,722$11,664
Year 3$13,310$13,129$12,950$12,773$12,597
Year 4$14,641$14,377$14,116$13,859$13,605
Year 5$16,105$15,742$15,386$15,037$14,693
Impact on Return ($)-$0-$363-$719-$1,069-$1,412
Impact on Return s (%)-0%-2.25%-4.46%-6.64%-8.77%

Source: FSMOne

It’s clear that a small difference in expense ratio can REALLY eat into your returns over the long run.

3. Liquidity

Liquidity is how easy or difficult it is to buy or sell an ETF without affecting its price.

ETFs with high liquidity means that investors like you and me can react quickly to market conditions. However, this liquidity that is between buyers and sellers is merely that of a secondary market.

There exists a primary market which is where ETF shares are created or redeemed to match supply or demand in the secondary market. This creation and redemption process adds another layer of liquidity to an ETF and is determined by the liquidity of its underlying securities.

4. Tracking Difference

The tracking difference is the difference between an ETF’s performance as compared to the index it is tracking.

Naturally, the smaller the tracking difference, the closer the exposure to the respective market it is tracking.

It’s important to take note that the tracking difference for many ETFs is often negative. But it doesn’t immediately mean that it is underperforming the index, rather it could be due to a variety of reasons like:

  • Expense ratio
  • Currency hedging
  • Representative sampling
  • Securities lending

Qualitative Criteria

In addition to the above-mentioned quantitative factors, FSMOne also considers qualitative criteria like:

  • Choice of index – whether the index is a good representation of the broader market
  • Concentration or default risk of underlying holdings (for fixed income ETFs)
  • Physical vs. synthetic ETFs

Which means that even if an ETF scores 100% on the quantitative assessment, it may not necessarily be included in the ETF Focus List if it doesn’t pass the set qualitative criteria.

An Actual Example Of How An ETF Is Selected

Here’s how FSMOne decided to include SPDR Straits Times Index ETF into their ETF Focus List:

Source: FSMOne.com

Pretty comprehensive, huh?

How Do I Build A Portfolio Of ETFs?

Just as there are many types of ETFs on the various markets, there are also many ways to build a portfolio with ETFs.

If you’re wondering how to build a portfolio of ETFs, well, FSMOne has this method called the Core-Supplementary Portfolio. Which is essentially allocating your ETF investments into two sub-portfolios.

Core Portfolio

Think of this as the bulk of your ETF portfolio. A good gauge would be about 80%.

Choose from the following categories under the ETF Focus List:

  • Core Equity
  • Regional Equity
  • Fixed Income

The Core Portfolio should generally be invested in ETFs that give a diversified exposure to major global economies and markets like the United States, Europe, and Asia (excluding Japan).

Note: Japan is excluded because it’s the only fully developed economy in Asia – apart from Singapore, but comparatively, we’re too small to make an impact. If we look at Asia as a whole including Japan, it might create a misrepresentation of Asia’s market as Japan’s market share might overshadow other Asian markets. However, it exists as a category of its own in the ETF Focus List.

By choosing ETFs from Core Equity and Fixed Income, you’ll be able to achieve such exposure.

The allocation to Fixed Income ETFs will provide stable cash flow and help cushion the portfolio when markets are bearish.

These assets are:

  • Broad-based
  • Not too risky
  • Long term investments (10-year horizon given how each economic cycle lasts approximately that amount of time)

and will form the foundation of your ETF portfolio.

Supplementary Portfolio

The assets in this portfolio will be invested in higher risk assets or geographical markets and should ideally be capped at a maximum of 20% of your asset allocation for ETFs.

Choose from the following categories under the ETF Focus List:

  • Country Equity
  • Commodity
  • Tactical Plays

Think of this sub-portfolio as where you can capitalise on opportunities in the market and ultimately aim to earn greater returns than that generated by the Core Portfolio.

Here’s What A Sample Core-Supplementary Portfolio Looks Like

This is merely an example of a portfolio constructed using the core-supplementary portfolio that was described earlier and is NOT MEANT to be interpreted as a recommended portfolio.

ETFWeight (%)
Core Portfolio
Supplementary Portfolio

What If I Still Have Questions About Investing In ETFs?

You’ve read everything you can about ETFs (including this article) and you’ve still got questions.

Well… Why not get your questions answered during the upcoming FSM ETFestival 2019?

You can:

  • Listen to experts as they talk about how ETFs can help you in building a profitable portfolio
  • Speak to experts one-on-one to gain insights and tips
  • Pose your questions to analysts during the Q&A session and get answers immediately

Best of all, admission is FREE.

So if you’d like to learn more about ETFs and get started on your investment journey, why not check out The FSM ETFestival 2019 that’s happening on 4 May 2019 (Saturday), 10am to 5pm at The Capitol Theatre?

It certainly beats squeezing with the rest of Singapore at Jewel Changi Airport.

About Kenneth Fong
I threw all of my money into the longkang once... because I wanted to see my cash flow.
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