Exchange Traded Funds: A Simple Way to Diversify

An Exchange Traded Fund, or ETF, is an investment fund that trades on a stock exchange, similar to individual shares. ETFs typically hold a collection of assets such as shares, bonds, property securities or commodities, allowing investors to gain exposure to many investments through a single transaction.

How ETFs Work

When you invest in an ETF, you are buying units in a fund that tracks a specific index, sector, asset class or strategy. For example, an ETF might track the ASX 200, a global shares index, or a basket of government bonds.

Because ETFs trade on an exchange, they can be bought and sold throughout the trading day at market prices.

Diversification

One of the key advantages of ETFs is diversification. Instead of purchasing individual shares one by one, an investor can gain exposure to dozens or even hundreds of companies through a single ETF.

Diversification can reduce the impact of any single company’s poor performance on the overall portfolio.

Cost Efficiency

Many ETFs are passively managed, meaning they aim to replicate the performance of an index rather than outperform it. This structure often results in lower management fees compared to actively managed funds.

Lower costs can help improve long term net returns, particularly for long term investors.

Transparency and Accessibility

Most ETFs disclose their holdings regularly, allowing investors to see what assets they own. They are also accessible through standard brokerage accounts, making them straightforward to buy and sell.

Risks to Consider

Although ETFs provide diversification, they are not risk free. The value of an ETF will rise and fall with the underlying assets it holds. A share market ETF, for example, will generally decline if the broader share market falls.

Other risks may include:

• Market risk
• Currency risk for international ETFs
• Sector concentration risk
• Liquidity risk in niche or specialised ETFs

It is also important to understand what the ETF is tracking. Not all ETFs are broad and diversified. Some focus on narrow sectors, specific themes or higher risk strategies.

ETFs can be an effective building block within a diversified portfolio. The appropriate allocation depends on individual objectives, risk tolerance and investment timeframe. Understanding what you are investing in, how it behaves and how it fits within your broader strategy is essential before proceeding.