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Risk Adjusted ETF Portfolios - A balanced approach to investing in the stock market

01 August 2010 Lance Solms, itransact

The use of Exchange Traded Funds(ETFs) may be further enhanced with the introduction of pre-packaged ETF portfolios.

What are ETFs?

Most Exchange Traded Funds (ETFs) are regulated CIS funds that are listed on the Johannesburg Stock Exchange. ETFs track the returns of indices such as the FTSE/JSE Top 40 Index on a passive basis, thereby consistently receiving the return of the index or market.

New approach

Itransact, the new financial advisor only ETF investment platform due to launch in August 2010, aims to provide a suite of risk adjusted, balanced ETF portfolios which will also conform to Regulation 28 guidelines. This move telegraphs itransact’s desires to not only expand its current ETF product range into the discretionary market, but also into the retirement savings market.

The anticipated suite of balanced ETF portfolios will, most importantly, enable financial advisors to offer their clients a stable approach to investing directly in the South African stock market.

Three portfolios

It is anticipated that the portfolio suite will consist of three risk adjusted ETF portfolios.

The first portfolio will suit investors who are risk adverse and seek returns available from the domestic bond market, whilst having medium exposure to domestic property and little exposure to domestic equities. The second portfolio will offer investors a higher return by including more domestic equity and some offshore equity exposure. The third portfolio will offer investors a larger percentage of the domestic equity market as well as domestic property, with little exposure to domestic bonds.

Portfolio construction

Only listed, CIS regulated ETFs from each of the major asset classes (equity, property, bonds and offshore equity), that have been shown to be the least correlated with each other, will be used in the portfolio construction, thus obtaining the optimal diversifying, risk reducing effect. Careful analysis of each selected ETF will be employed to weigh up the best overall blend in order to provide return performance at the lowest possible risk after also taking into account the costs of each ETF. The final blend of ETFs will also be checked for compliance with Regulation 28.

Benefits

The key benefit of owning a balanced ETF portfolio (as opposed to single ETFs) is that the analysis of which ETFs would be optimal to provide a balanced approach has already been performed for the investor. All investors need to do is to decide on their individual appetite for risk by choosing one of the pre-packaged portfolios after having received the appropriate investment advice from their financial advisor.

Alternative to unit trusts

ETFs are a natural diversifier of risk since they track well established and diversified indices. ETFs, are also transparent, highly liquid and have low costs associated to them which are directly attributable to their passive nature and low portfolio turnover, making ETFs an attractive alternative investment to unit trusts.

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