Why invest directly in shares when there are ETFs for everything now?

Asian tech, hydrogen and even cryptocurrencies. Every investment theme is covered by ASX ETFs now, so why bother picking individual stocks?

A girl looks through a microscope at money.

Image source: Getty Images

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More

Exchange-traded funds (ETFs) have exploded in popularity over the last few years.

The last couple of years, especially, has seen new all-time highs on a monthly basis for incoming flows for the Australian ETF industry.

September saw $2.9 billion added to local ETFs, according to BetaShares, which was yet another record.

"The industry ended September 2021 at a fresh all-time high of $125.3 billion total market cap, with total industry growth of $200m for the month," said BetaShares co-founder Ilan Israelstam.

"Industry growth over the last 12 months has been 75.5%, for a total of $53.9 billion net growth over this period."

Retail investors are favouring these products for the instant diversification, and sometimes active management, they provide. 

There are now thematic ETFs that provide many different investment angles.

Some provide access to investments that are not readily available to the typical Australian retail investor, like overseas markets or unlisted assets.

The ASX on Thursday will even welcome its first-ever cryptocurrency themed ETF.

This is all fantastic. So why would any investor want to buy individual shares these days?

Nucleus Wealth spokesperson Jayden Stent had a go at explaining why Australians will still want to invest directly into shares.

Not all ETFs are passive

One potential trap is the volatility of some ETFs.

"You don't want to be lulled into thinking that because some ETFs offer low volatility that all ETFs are the same," Stent wrote on a Nucleus blog.

ETFs initially built up their reputation as index-followers that allow "passive" investing. But now there are so many thematic funds out there, that stereotype doesn't necessarily hold.

"The potential for large swings will mainly depend on the type of the fund. For instance an ETF that tracks a specific industry such as oil or gas services," said Stent.

"The viability of an ETF can be dependent on the economic and social stability of a particular country. Investors [need] to take note of what the ETF is tracking and what are the underlying risks associated with it."

Expenses and liquidity

Investors need to be wary of the expenses charged by the ETF operator — something that you never have to encounter when buying shares directly.

"It's important for investors to be aware that ETFs have what's known as an expense ratio," said Stent.

"This is a measure of what percentage of a fund's total assets are required to cover various operating expenses each year. This has an effect on total returns — i.e. the higher the expense ratio, the lower the total returns will be for investors."

Stent warned that liquidity is "one of the biggest detractors" for ETFs.

"That is, when you buy something, is there enough trading interest that you will be able to get out of it relatively quickly without moving the price?

"If an ETF is thinly traded there can be problems getting out of the investment, depending on the size of your investment in relation to the average trading volume."

Control of your investments

The most obvious disadvantage of ETFs is the inability to pick and choose the companies invested.

"This means that an investor looking to avoid a particular company or industry for a reason — such as moral conflict — does not have the same level of control as an investor with direct individual share holdings."

Because ETFs are a basket of different shares, tax treatment of capital gains and dividends can become complicated, as The Motley Fool has previously reported.

"Because different ETFs treat capital gains distributions in various ways, it can be a challenge for investors to have the control they need and would get from direct share holdings," said Stent.

Motley Fool contributor Tony Yoo has no position in any of the stocks mentioned. The Motley Fool Australia's parent company Motley Fool Holdings Inc. has no position in any of the stocks mentioned. The Motley Fool Australia has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.

More on Investing Strategies

A mature-aged couple high-five each other as they celebrate a financial win and early retirement
Dividend Investing

5 top ASX dividend shares to buy right now

Analysts think income investors should be loading up on these shares.

Read more »

Two adults and a child look happy as they walk through airport with child sitting on suitcase.
Dividend Investing

Will Qantas shares pay a dividend in 2024?

Will the dividends return this year? Let's find out.

Read more »

A woman sits at her computer with her chin resting on her hand as she contemplates her next potential investment.
Dividend Investing

2 market-leading ASX dividend stocks to buy in April

Analysts have put buy ratings on these market-leaders.

Read more »

Father in the ocean with his daughters, symbolising passive income.
Dividend Investing

I'd spend $8k on these ASX 200 shares today to target a $6,102 annual passive income

I believe these ASX 200 shares will continue rewarding passive income investors for years to come.

Read more »

Man holding Australian dollar notes, symbolising dividends.
ETFs

Want the latest dividend from the Vanguard Australia Shares ETF (VAS)? Here's what you have to do

If you want to bag the latest VAS dividend, here's what you need to do.

Read more »

A smiling businessman in the city looks at his phone and punches the air in celebration of good news.
Dividend Investing

Investing for passive income? Keep any eye out for that boosted Telstra dividend today!

If you own Telstra shares, keep an eye out for that juicy dividend payout today.

Read more »

Couple at an airport waiting for their flight.
Cheap Shares

Is Qantas a bargain ASX 200 stock today?

Analysts at Goldman Sachs think the Flying Kangaroo could be dirt cheap.

Read more »

Person holding a blue chip.
Blue Chip Shares

2 ASX blue-chip shares I'd buy with $3,000 right now

These are large businesses with compelling futures.

Read more »