This is Finance 103, Part 2: ,Index fund to invest in – Here you can find out what to consider when buying index funds. Finally you’ll know which index fund you should invest in and why.
Buy stocks, take sleeping pills and stop looking at the shares. After many years, you will see: you’ll be rich. – André Kostolany
André Kostolany has learned over the course of his career that passive investments perform better than active investments where you constantly buy and sell stocks in an attempt to beat the market. With index funds / ETFs we follow exactly this passive strategy. So we can sit back and watch our investment achieve solid growth rates. And take the above quote seriously: This means you should not constantly look at the value of your investments! Because this way you are more inclined to do something stupid out of an emotional reaction (often: greed or fear). Let us now take a look at ETFs:
Meaning of ETF Names and ETF Abbreviation
Index funds or ETFs have various abbreviations in their names to identify them, so that investors know what they are investing their money in. We have the name as an example:
iShares | Core MSCI World | UCITS ETF | USD | (Acc)
- IShares stands for the provider of the ETF, i.e. which company has issued and manages the ETF. You will often find the same ETF from different providers. There is no significant difference between the asset manager you buy the ETF from.
- Core MSCI World stands for the selected index, in this case the MSCI World, which combines 1600 global companies in 23 different countries in one portfolio.
- UCITS ETFS corresponds to a regulatory notice, i.e. certain standards that the ETF meets – similar to a quality seal.
- USD stands for the currency of the ETF. To avoid currency risks, it is best to buy an ETF in your own currency. Most index funds are traded in USD or EUR which are both stable currencies.
- ACC stands for a characteristic of the ETF, in this case „accumulating“. This means that the profit is reinvested in the companies. This way the value of your ETF increases instead of paying out the profit to your account. If you want to invest in the long term, the accumulating ETF is the better option. However, if you prefer an annual dividend payout, you can choose ETFs with the „Dis“ or „Dist“ mark for Distributing.
Index Fund to Invest in: ETF Physical vs. Synthetic
A further differentiation can be found in the replication of the ETF. A physical replication of the ETF means that all shares of the ETF are actually bought by the provider. Imagine that the bank buys gold and keeps it in its own safe. This gives you increased security in the event of insolvency of the ETF provider, who actually owns the gold and can pay it out to you. In the case of synthetic replication (sampling via a swap transaction), the assets are not purchased directly. For example: your provider does not buy the gold directly but only has the right of ownership. This leads to slightly lower costs, but also to an increased risk. Most financial experts therefore recommend the physical replication of ETFs.
If you are looking for a particular Index fund, you should check the international securities identification number (ISIN). This way you are actually trading the right ETF and don’t get confused with the name abbreviations.
Index Fund to Invest in: ETF Provider
ETF providers are the companies (asset managers) that actually manage the ETF. So we are not talking about the custodian provider, i.e. the intermediary where you buy the ETFs.
The best known ETF providers are:
- IShares (Company: Blackrock)
- Amundi (Company: Crédit Agricole and Société Générale)
- Comstage (Company: Commerzbank)
- db x-trackers (Company: Deutsche Bank)
- Lyxor (Company: Société Générale)
- Vanguard (Company: Vanguard)
Basically, it doesn’t matter which provider you buy the ETF from as you are getting the same product. At most, your custodian bank may only support one or a few of these providers or may charge higher fees for certain providers. In the case of Trade Republic you can purchase free ETF savings plans, but only from IShares. Personally, I simply choose the ETF provider with the lowest TER. Personally, I simply choose the ETF provider with the lowest TER.
Index Fund to Invest in: Asset Classes
Getting back to the question: Which Index Fund to buy? First of all, it depends on the asset class of the index fund, i.e. in which assets you personally want to invest. These include, for example:
- ETF Stocks
- ETF Bonds
- ETF Real Estate
- ETF Gold
- ETF Commodities
- ETF Renewable Energies
In this article, I will mainly describe equity ETFs (Stocks), as these have always generated the best returns so far.
Index Fund Stocks
Equity ETFs follow an index or strategy. Here there is a large selection of countries and regions, small and large companies, technology or classic companies, sustainable/social companies, companies conforming to Islam or companies with certain key figures (Quality Index). I do not want to make things too complicated with this article, because each of the above strategies is based on certain expectations for the future. We do not know, for example, whether technology shares will outperform traditional company shares. It is therefore advisable to include a very broadly diversified index in the portfolio.
By far the most bought Index Fund is the Core MSCI World Index, which should not be missing in any ETF savings plan. The fund comprises over 1,600 large to medium-sized companies in 23 different industrialised countries, which means a very high level of diversification. The companies are from a wide range of industries: IT, healthcare, banking, industrial, consumer goods, communications, energy, real estate and others. Over the past 40 years, the MSCI World has generated a return of approximately 8.2% per annum, in the last 5 years (2014 to 2019) even 10.5%.
As you can see from the diagram, the fluctuations of the MSCI World are within limits. This is due to the fact that only stocks from industrialized countries are represented. This does not always have to be an advantage, as emerging markets have a higher growth potential. Nevertheless, the industrialized countries have generated higher returns overall in the last 5. In my ETF Savings Plan the Core MSCI World is the largest position. If you are just starting out in ETFs yourself, I would invest at least 70% of the savings plan budget in the MSCI World.
The MSCI World ETF can be found at the brokerage firm Trade Republic under the title: iShares Core MSCI World UCITS ETF USD (Acc), ISIN: IE00B4L5Y983
MSCI Emerging Markets
Another very popular index that finds its way into most ETF savings plans is the MSCI Emerging Markets. This represents over 830 companies from 24 different emerging markets. This makes the fund a suitable addition to the MSCI World to further diversify your ETF portfolio. You can also benefit from the growth opportunities of the emerging markets. Although this growth has been rather modest over the last 5 years, you can expect a higher return in the long term. Over the last 30 years, it has been around 8.7% per annum, and over the last 5 years 6.7%.
The higher volatility is clearly visible on the chart. I would therefore not overweight the fund in the ETF savings plan. A ratio of 30% MSCI Emerging Market and 70% MSCI World is recommended by most financial experts. I personally have replaced the MSCI Emerging Market with the MSCI Asia Emerging Markets. This is because I give Asian companies better future prospects – and therefore want to give them a higher weighting.
You can find the MSCI Emerging Market ETF from the broker Trade Republic under the title: iShares Core MSCI EM IMI UCITS ETF USD (Acc), ISIN: IE00BKM4GZ66
The MSCI Asia Emerging Market ETF can be found under the title
iShares MSCI EM Asia UCITS ETF (Acc), ISIN: IE00B5L8K969
MSCI All Country World
Simply put, the MSCI All Country World is the combination of the MSCI World and MSCI Emerging Markets in one ETF. This ETF is therefore the actual „world portfolio“ and offers maximum diversification. A small disadvantage: The ETF fees (TER) are slightly higher for the All Country World index (0.6 %) than for a separate purchase of the MSCI World (0.2 %) and MSCI Emerging Markets (0.18 %) – based on the provider IShares. The performance before costs is comparable to a portfolio consisting of 90 % MSCI World and 10 % Emerging Markets.
Trade Republic offers the All Country World Index under the title: iShares MSCI ACWI UCITS ETF (Acc), ISIN: IE00B6R52259
Index fund for S&P 500
The S&P 500 comprises the 500 largest listed companies in the USA. The United States has performed magnificently in recent years despite the Asian growth markets. Companies such as Amazon, Facebook, Google, Apple, Microsoft, Netflix have established themselves as global brands and have reached the top of the highest rated companies. Accordingly, in the past, a stronger weighting of an ETF portfolio on US stocks has also generated higher returns. For the S&P, data is available up to 1945, in which an average price return of 7.5% before distributions was achieved. If dividends are included, the return increases to an estimated 8.5 – 9 % per year. In the last 5 years, the price yield has even been 9.4 %.
The S&P 500 ETF can be found at the broker Trade Republic under the title: iShares Core S&P 500 UCITS ETF (Acc), ISIN: IE00B5BMR087
The MDAX contains the 50 largest listed companies, which follow the 30 largest companies in Germany, i.e. the classic DAX 30. This means that German medium-sized companies are represented here, such as Zalando, Puma and Lieferheld. But why buy the MDAX instead of the DAX? Germany is known for the strength of its medium-sized companies. Over the last 30 years, the shares of the MDAX have generated an average return of 10.7 %, while the DAX „only“ achieved about 8.8 %. However, an investment in the MDAX is also worthwhile for further diversification of your portfolio due to the higher returns, namely as a diversification into medium-sized companies.
The MDAX ETF is available from the BrokerTrade Republic under the title: iShares MDAX UCITS ETF (DE), ISIN: DE0005933923
MSCI Quality World
An insiders‘ tip among ETF investors – I myself also have this in the ETF Savings Plan – is the MSCI Quality World Index. Basically, it is the above MSCI World, which is filtered according to certain quality indicators. These include stable annual profits, a high return on equity and a low debt ratio. Thanks to this strategy, the Quality Index has achieved a much higher return of 11.7% over the last 5 years than the classic MSCI World Index (10.5%).
The MSCI World Quality ETF can be found at the Broker Trade Republic under the title: iShares Edge MSCI World Quality Factor UCITS ETF (Acc), ISIN: IE00BP3QZ601
Automation and Robotics Index
Finally, I present a somewhat riskier ETF, which I have in my savings plan – probably due to my start-up / venture capital past. The Automation & Robotics ETF is invested in various companies from industrial and emerging markets that are active in the automation and robotics sector. This is a strongly growing future industry, which could possibly benefit even more from the experiences of the Corona crisis. I myself have seen how volatile the index has been in recent years. At certain times it was the worst ETF and later again the best ETF in my savings plan. You should definitely not overweight this index because of the higher risk.
The Automation and Robotics ETF can be found at the broker Trade Republic under the title: iShares Automation & Robotics UCITS ETF, ISIN: IE00BYZK4552
Index Fund to Invest in: ETF Savings Plan
Now you make the decision how you want to design your ETF savings plan. As a final incentive, I will give you the setup of my own ETF portfolio and a recommendation for a savings plan which, according to financial experts, is well suited for beginners.
The ETF savings plan for beginners is slim, has low management fees (TER) and a manageable risk. It invests 70% in safe developed countries and 30% in slightly riskier emerging markets. So you won’t go wrong with this portfolio.
My personal ETF savings plan is a bit more complex. But I am also prepared to take risks and partly higher administration costs – e.g. with the Automation and Robotics ETF, MDAX ETF and Asia EM ETF.