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Why there’s more to tracker funds than just following the FTSE
Thursday 16 Aug 2018 Author: Holly Black

Investors may think of tracker funds as simply a cheap way
to track the stock market but they offer many other opportunities too.

Exchange-traded funds, or ETFs, can also tap into specific themes. It can be a useful way to gain exposure to trends such as renewable energy or robotics.

While there are active funds with a manager at the helm which specialise in particular areas such as these, an ETF can allow you to be more targeted, and is often cheaper too.

Chris Mellor, head of ETFs at Invesco, says: ‘ETFs can let you focus your investments in a much more specific way, whether that’s singling out a sector or focusing on a particular theme that you find interesting. It can be a good way to get the exposure you want at a very reasonable price.’

RISE OF THE ROBOTS

One trend capturing the imaginations of many technology investors, for example, is the use of robotics and automation. This can be in environments from car manufacturing lines or warehouses and logistics centres to use in surgery.

Investors may well be able to access the trend through a regular technology fund, which may have a small proportion of its portfolio in robotics companies, but a specific focus on the theme is harder to come by. Traditional fund Pictet Robotics (BDB6DB9) specialises in these investments but has a relatively high ongoing charge of 1.22%. Meanwhile, the iShares Automation and Robotics (ROBO) ETF charges just 0.4%.

The tracker, which has £1.8bn of assets under management, invests in 104 different companies across the globe, with 31% of its investments in the US and 27% in Japan. Largest holdings include big names such as Apple and engineering firm Renishaw (RSW) and it also backs lesser-known outfits such as big data group Splunk. It returned an impressive 22.3% in the year to 30 June.

But it’s important to understand the risks involved in these investments too. Those considering a thematic ETF need to be sure they fully believe that the trend is a long-term investment proposition and not  a short-term fad.

IS IT JUST A FAD?

Mellor adds: ‘You should ask yourself: does this theme make sense to me, are the valuations sensible, and does the story add up?’

Investors should also consider how the tracker fits in with the rest of their portfolio and their investment objectives. It’s important to look under the bonnet at how many stocks the tracker invests in and what
they are.

Other ETFs focus on specific technology trends such as cyber security, batteries and e-commerce.

Meanwhile, iShares Clean Energy (ICLN) invests in companies such as Verbund, an Austrian firm which is the largest producer of hydropower in Europe, and US-based Covanta, which specialises in waste management and reducing the amount sent to landfill. The ETF is up 2.2% over the past year.

You can also find more specific options within this theme, such as Lyxor World Water (WATL). The World Water Index comprises the largest 20 water companies, including those involved in utilities, infrastructure and water treatment. With so few firms in the index, it’s a niche area, which should not account for more than a small proportion of your investment portfolio. It has returned just 1.1% over the past year.

DIVERSIFIED EXPOSURE TO DIVERSITY

Another interesting theme is gender diversity and there are ETFs which back companies with good gender balance policies, such as those where at least 30% of the company’s board is made up of women and those with equal pay policies. SPDR SGGA Gender Diversity Index (SHE), for example, invests in businesses including Johnson & Johnson, Coca-Cola and Mastercard. It has returned 16.8% over the past year.

But Peter Sleep, fund manager at Seven Investment Management, is concerned that the narrow themes these ETFs tap into makes them a risky investment proposition. He says: ‘I think mainstream passive investments, such as a FTSE tracker, are great as they allow you invest relatively small amounts in a widely diversified portfolio of stocks.

‘I am less enthused about thematic ETFs as they are very narrow and almost by definition, not very well diversified, so can be quite risky. The robotics ones are even more risky and the tech sector tends to be more volatile anyway.’

INVESTOR WARNING

He says investors interested in particular themes may be better off choosing an active fund that can offer a lower level of exposure. The benefit with this is that the manager will decide where the best opportunities are and has the freedom to avoid areas which look too risky or don’t seem to be good value.

Sleep adds: ‘Thematic ETFs tend to be faddish. When commodities were hot 10 years ago we got coal mining, nuclear and even shipbuilding ETFs. But these all no longer exist since commodity prices fell and I fear the same could happen again.’ (HB)

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