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

Two boys lie in the grass arm wrestling.
Investing Strategies

‘Cult following’: Expert names 2 ASX shares worth buying in August

There are plenty of catalysts to choose from during reporting season. Here's a pair of stocks that might move upward.

Read more »

A man thinks very carefully about his money and investments.
Investing Strategies

$20,000 invested in these ASX shares 10 years ago is worth how much now?

These ASX shares have generated strong returns over the last 10 years...

Read more »

Workers wearing COVID protections mask bump elbows,indicating business still goes on
Broker Notes

3 ASX 200 shares to buy for a post-COVID resurgence: experts

The coronavirus is still going strong, which means many post-pandemic recovery stocks have yet to reach their full potential.

Read more »

a group of five people lie on the floor with their heads touching, each wearing hi tech goggles over their eyes as if in a metaverse workplace collaboration.
ETFs

How to buy ASX shares exposed to the metaverse

A new product launched Thursday that collectively invests in a basket of stocks around the world contributing to a new…

Read more »

woman about to eat a burger
Investing Strategies

‘Free lunch’: Forget growth or value, Wilsons is hunting these ASX shares

Quality ASX shares are the next craze. Here's how to spot them, according to head of investment strategy David Cassidy.

Read more »

Two boys in business suits holding handfuls of money
Investing Strategies

‘Forgotten gem’: 2 mid-cap ASX shares this fundie loves

When interest rates are rising steeply, cash flow is paramount. Here's a pair of stocks that are self-sufficient this way.

Read more »

A discussion between colleagues using a laptop.
Investing Strategies

5 things to do during ASX results season

August and February can be hazardous for unseasoned investors. Here's a survival guide.

Read more »

Woman puts heads back and fists in the air as she cheers at laptop
Investing Strategies

ASX shares are back, baby!

Stock markets plunged in the first half of this year out of various economic fears, but now there's a massive…

Read more »