So what are the factors we should look at in choosing our core. Heres my list;
Does the ETF meet the criteria for the asset class you want to invest in?
Lowest Cost - and not just management expenses but operational costs and spreads
Diverseness - not sure that's a word but it's important to have a spread of asset within the ETF ,
Volatility - generally, everything else parri passu I would like less risk.
Portfolios for Australian investors generally include a mix of the following asset classes;
Growth Assets
Australian Shares
International Shares
Defensive Assets
Australian Fixed Income
Cash
They may also include other asset classes such as;
Property
Infrastructure
Commodities
Currency
Alternatives (like hedge funds)
It is possible to buy a ready made portfolio ETF on the ASX. In Accument search for Mixed Asset funds to get a list. These funds themselves invest in a portfolio of ETF's to create portfolios to suit risk profiles such as Conservative or Balanced. So if you only have a small amount to invest they are a great way to get started. But if you are stating with more than about $5000 then it's simple to build your own. We can build a great diversified "core" portfolio with 3 ETF's.
So we need to choose an ETF to be the Australian Shares portion of our portfolio another to be the International Shares portion and then an ETF to be our Defensive portion. Lets look at Australian Shares first.
Here's the top 10 diversified Australian Share ETF's ranked by total costs (Management expenses + Spread + Operational costs).
I think these costs are very important but they are not everything, These portfolios are constructed differently and some may suit your core better than others. Let's have a closer look at the contenders.
There is a pretty fundamental decision that needs to be made up front. Do I want to constrain my portfolio to only invest in socially responsible assets? This is a really big question to think about, and what does socially responsible even mean? It's can be the subject of another article but for now, I think the jury is still out on whether or not investing in so called socially responsible or ESG (Environment Social Governance) ETF's will have a long term cost to your portfolio. So I am going to build a core portfolio without taking ESG into consideration, we may want to look at ESG funds in the satellite part of the portfolio. You might want to make a different decision.
So leaving aside the ESG funds above we have a choice between funds that invest in the top 200 companies in Australia, another the top 300 companies and then some funds that use different criteria from just the largest companies such as equal weigh or factors such as quality or value.
We want in our core to get a representation of the Australian Equity Market and for that reason I think the largest companies is an appropriate strategy. That leaves us with 4 ETF's to choose from;
STW - ASX 200 Fund
IOZ - ASX 200 Fund
A200 - ASX 200 Fund
VAS - ASX 300 Fund
So top 200 or top 300? Referring to my original list I want the lowest cost but I also want diversity. The volatility or risk of these funds is very similar.
I think VAS, the top 300 fund, represents the market best and is very low cost.
Now to the International Shares portion of our portfolio. I have narrowed the list down to the following 11 ETF's.
The big decisions to be made up front here are firstly the ESG one, same as above for Australian Shares, do we want to restrain the portfolio to ethically responsible investments. My decision is not to, but you will need to decide.
The other decision is to hedge or not to hedge. Thats about currency risk. Obviously all these ETF's have assets which are priced in currencies other than A$ so if the Aussie moves up or down dramatically your portfolio may be impacted even if the underlying assets havent moved.
Again this is a decision you need to make for your self. Most institutional investors seem to not hedge. They argue that the currency risk is part of the return that you are looking for in investing in international assets. I tend to agree so I will choose an unhedged ETF.
Most (not all) of the funds above exclude Australian assets from the fund so you are not adding extra exposure which you already have.
Once I have decided not to hedge and not to restrain to ESG then it comes down to cost. VGS comes out the best in that regard so thats my global exposure locked in.
Now for defensive assets. This is a tough one at the moment because for the first time since Ive been involved in markets I can't justify a pure fixed income fund in my portfolio. The yields are so low that they add very little to the returns of the fund and the capital value of these funds is very likely to fall as yields rise. So I don't want traditional fixed income funds but I do want defensive assets in the portfolio. See this article for more on this.
My choice for defensive assets is XARO for reasons outlined in the article liniked above.
So that's my core portfolio set;
Australian Shares - VAS
International Shares - VGS
Defensive Assets - XARO
3 ETF's that will give me a sound core. The weightings of those 3 ETF's will depend on the risk exposure that you want. A growth portfolio might look like 40% VAS, 40% VGS and 20% XARO. See other articles on Accument for Asset allocation.
This is not advice. I have not considered your circumstances. You should carefully consider your own circumstances before investing and read the PDS (available on Accument) of each ETF you invest in.