ETFs and LICs

Written August 2022

Recently I received an email from a young reader investor who had a small portfolio of shares. He wanted to know what I thought of ETF’s as a long-term investment for a younger person and how they compared to investing in individual companies.

What are ETF’s and LIC’s?

ETF is short for Exchange Traded Fund.

LIC is short for Listed Investment Company.

Similarities:

Both are managed investments so their investments are managed by an investment team.
Both are listed on the ASX so they can be traded in the same way as all listed shares using the ASX trading facility.
Both charge management fees.

Differences:

ETFs have a fund of money contributed by investors and the money is invested in such a way as to track some index or commodity like the ASX 200 index or gold. For example if the ASX 200 index increases 10% in a year, the ETF tracking this index should also increase in value by about 10% in that year.
LICs are a company but they don’t have a product as such but invest their funds in other companies according to their investing guidelines. For example one LIC may invest in blue chip Australian stocks whereas another may invest in speculative ones. Another may invest overseas in USA or Asia and so on.
ETFs are a fund so the size of the fund depends only on the amount of money invested. As more and more investors get on board, the size of the fund increases. This is expressed as FUM –funds under management.
LICs are listed companies and their size can be measured by their market cap. It depends on the number of shares and the share price. They can’t increase the number of shares willy nilly but have to abide by listing rules so the market cap depends mainly on the share price.

Which one is best?

Both are very similar types of investments so you don’t really need to agonise over which is better. Just choose one which best suits your needs. For example if you want to get a slice of the action in the USA you could invest in a fund that tracks a USA index or a LIC that primarily invests in USA companies. If you want to stick to Australian companies, an LIC that invests only in Australian companies would fit the bill. If you are prepared to take more risk in the hope of higher returns, you can choose a fund that invests in small or developing companies.

Should you include managed investments in your portfolio?

When I first started investing in shares I couldn’t see the point of paying management fees and bought all my shares outright. In recent years I have gradually changed my stance and I now hold a number of ETFs and LICs. One significant development that has swayed me toward them is that over the past 20 years or so their fees have reduced considerably. When they first appeared management fees of anywhere up to 5% were common but nowadays fees can be as low as 1% or even less and this makes them much more attractive. I don’t mind paying a 1% fee if I’m getting a return of 10% or so.

I’ve always wanted to have control over my own financial destiny which is another reason I’ve baulked at managed investments in the past. There are many types of managed investments that aren’t listed but I avoid these and invest only in those listed with the ASX. These allow me to manage my investment and conveniently trade the fund in the same way as any other listed shares.

The great advantage of a managed investment is that it’s possible to get wide diversification with just one stock, so for a new investor setting up a portfolio they’re ideal. For example buying just one listed stock allows you to have a stake in ten or more other companies. Also you can conveniently get a slice of the action in areas where direct investment may be complicated and difficult – for example in Asian or US companies.

In summary I now recommend managed investments for inclusion in a share portfolio whether it is small or large. They won’t help to you to get rich quickly but they’re also a very good way of helping you to avoid getting poor quickly. This is because of the inbuilt diversification which spreads the risk. In the long run a well-run managed investment is likely to prove a worthwhile addition to your portfolio.

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