Reader's Questions Answered: What is an ETF? How much do I need to start Investing?
Updated: May 21, 2019
Every now and then I receive questions from readers regarding all things investing. I received a couple of questions last year from someone who is very new to investing and wanted to find out a bit more about investing in ETF’s specifically.
I have decided to share these questions and answers to the blog for any investment newcomers to refer to as some starter points.
1) What is an ETF?
An Exchange Traded Fund (ETF) is an investment fund which provides investors with access to a basket of shares traded on a stock exchange. This means you are able to buy one product which consists of multiple shares.
This is quite similar to a unit trust which is just a group of shares selected by a fund manager into a basket or fund which you can invest in. An ETF is however more cost effective than a unit trust as you do not have to pay high fees for the fund managers to research and select stocks. ETF’s also have a better track record of investment performance over the long-term than a unit trust – for more information on this please see this article.
ETF’s generally track an index or a part of an index. A well-known ETF for example would be the Satrix 40, this ETF consists of the top 40 shares on the JSE. If you have bought the Satrix 40 you have invested parts of your money into each of the biggest 40 shares on the JSE, and you therefore own a stake in all 40 companies.
For a complete list of ETF's available to invest in visit ETFSA here.
2) How much do I need start investing?
Surprisingly not much at all. This will depend on the online platform (stockbroker) you make use of. As an example when I started investing I used Standard Bank Online Share Trading where there were minimum transaction fees and monthly administration fees. This meant that if I was only investing a few hundred rand at a time the fees were really eating into my investment capital. This really put me on the back foot at the beginning of my investment journey. I subsequently moved all my investments to a much lower cost platform (Easy Equities) which charge a small fixed percentage in transaction fees and this meant I could invest with as little money as I wanted. With a platform such as this you can buy an ETF with R10 at a time if you wanted to.
3) How complex are ETF’s?
There are some complexities in the background but those are complexities that you have many years over your investment lifetime to learn. Things such as marker makers and spread are things that you will learn as you get into the market and you notice that what you thought you were paying for the ETF and what is currently in your portfolio are slightly different.
There are of course things that you should have some understanding, I encourage you to start by writing down a basic investment plan for yourself. This will help you to understand what ETF’s to invest in. You should also learn a bit about the fees that each ETF charges (total expense ratio’s or TER’s), and the indexes that the different ETF’s track (this will tell you what type of shares you are investing in).
For beginners I chat with I normally keep things simple and suggest they just start with one global ETF such as the Satrix World ETF and they get familiar with the fact sheet. I think that if this was all you ever invested in you would do great and create significant wealth for yourself over time.
4) How soon can we start and can I save and invest in shares simultaneously?
I suggest you spend some time deciding what platform or stockbroker you want to share this journey with. Some of these platforms offer demo accounts which you can open and try-out before committing any money to them. You will be able to change/transfer your portfolio if in the future you change your mind however this decision is important because transferring takes time and costs money.
Once you have decided on this you can fund your account and start investing. Since investing in ETF’s should be a long-term investment over decades you do not want to be in a situation where you need to sell and withdraw your investments in order to fund a personal emergency. In order to protect yourself from this situation I encourage you to channel most of your savings into setting up an emergency fund first. This means you can still start investing now as you will gain valuable practical experience, but if you still need to put together an emergency fund then start with very small amounts or decide on a percentage split between saving and investing (15% towards investing and 85% toward saving for my emergency fund for example).
See this post about steps to financial freedom for detail on some steps needed before you can start investing 100% of your savings every month. My thinking has evolved slightly on this topic in that I don’t think you need to pay off your car and have a full emergency fund before you start investing. I do feel you need to think about these things and they should have priority over your investing at this stage but you can still start as the practical experience will teach you important lessons as early as possible.
An important lesson in this game is not to rush anything, taking your time to research and talk to people before making a decision is a valuable habit. However I am sure many of us have seen a colleague interested in something, say they are going to do it, but nothing ever happens. So starting even without the knowledge or confidence is crucial but we need to find the balance.
Please feel free to ask me any questions in the “Ask a Question” tab on this blog, even if you would just like to bounce some thoughts off me or get specific input on something. I am always happy to chat.