In 2016 alone, around 200 new ETFs of all shapes and sizes were launched for UK investors – so it is understandable if you find the choice a little overwhelming. With so many competing products it is becoming more difficult to select the right funds for your portfolio.
To help, Morningstar has recently launched analyst ratings for ETFs. This qualitative and forward looking rating harnesses the same "five pillars" methodology used to evaluate traditional actively managed mutual funds. Funds – and now ETFs – are scored on their process, performance, price, people and parent company. As analysts, this gives us the flexibility to direct investors to the funds we hold in the highest regard, irrespective of the vehicle, within a given market.
It is well recognised by professional investors that passive investing is a no brainer in particular markets but deemed less attractive as an investment in others. Below we highlight three markets in which investors may be best served by going passive, and a Gold Rated ETF tracking in each of those markets.
Vanguard S&P 500 ETF (VUSD)
Morningstar Category: US Large-Cap Blend Equity
This highly popular ETF physically tracks the S&P 500 index, the most oft-cited proxy for the US equity market.
The fund has all the of the strengths we would associate with the very best trackers. The ultra-low annual fee of 0.07% means this fund is one of the cheapest of all S&P 500 index funds and ETFs.
The US large-cap equity market is widely considered to be one of the most efficient and liquid markets on earth. This belief is supported by a landslide of academic research, which questions the value of active managers in the space. Currently, no active funds have received our Gold analyst rating in the US large-cap market.
It is therefore unsurprising that this fund has performed strongly against its peers on a risk-adjusted basis since inception.
In addition to its low fee and strong performance, what sets this fund apart from the other S&P 500 trackers is our positive view of Vanguard. The source of Vanguard's competitive advantage and the foundation of its culture is its mutual ownership structure. Fund shareholders own Vanguard through their funds, which compels the firm to operate at cost rather than for profit and to put investors' interests first.
iShares Core MSCI Japan IMI (IJPA)
Morningstar Category: Japan Large-Cap Equity
The MSCI Japan IMI index, as tracked by this ETF, includes around 1200 Japanese companies, including large-, mid-, and small- caps, which combined represent 99% of the total Japanese equity market.
With an ongoing charge of just 0.20%, the fund is one of the cheapest in the category. The yawning fee gap between this fund and that charged by the average fund in the category (1.64%) has proved to be a formidable hurdle for active managers. The fund has outshone its surviving category peers over three and five years on a risk-adjusted basis.
We also have a favourable view of the seasoned iShares passive management team, which is befitting of the dominant ETF provider in Europe. The team can leverage market-leading technology and a well-oiled securities lending program while managing their funds.
Lyxor EuroMTS All-Maturity Investment Grade (DR) UCITS ETF (MTXX)
Morningstar Category: EUR Government Bond
This physically replicated ETF tracks an index that spans the full spectrum of investment-grade Eurozone government debt. The breadth of exposure, which covers both core and peripheral issuers, means the fund is suitable as a core building block within an investor’s portfolio.
With an ongoing charge of just 0.165%, the fund holds a considerable cost advantage over its actively managed peers in the Euro-denominated government bond market.
Its low fee has helped propel the fund into the top quartile when ranked against its peers on a risk-adjusted basis over short and multi-year periods. Furthermore, no active peer has been awarded the Gold analyst rating. This clearly reflects the limited opportunities to add value over a standard benchmark in this particular-market.
A version of this article appeared in Money Observer magazine
