By Kevin Johnston on March 30, 2022Reading Time: 5 minutes
An ETF portfolio is easy to understand once you understand the idea of pooling stocks. A single ETF is a group of stocks gathered together in a single investment. For example, the ETF known as SPY contains all the stocks of the S&P 500. So buying a single share of SPY means you technically own all the stocks in the S&P 500 index.
ETFs exist for many different indexes, such as the Dow Jones Index, gold index, the oil index, or the small-cap index, to give some examples. That means you can create an ETF portfolio that contains several different ETFs.
Do you know all the asset classes you could own?
Which are the core ETFs you should hold
Put together your own ETF portfolio
While most people think of ETFs as holding stocks, there are many classes of assets you can consider.
When assembling an ETF portfolio, be watchful. You can end up owning the same stocks in several exchange-traded funds (ETFs). For example, if you own SPY–all the stocks in the S&P 500, and you own an ETF that specializes in dividend-paying stocks, you could own stocks that are in both funds.
It is vital that you review the actual holdings of each ETF you are interested in. The idea of buying ETFs is to spread your risk so that the rise in one stock may counter the failure of another one. If you own one stock in several ETFs, you have increased the risk in that stock. You own more of it than you originally intended.
As you begin to look for ETFs to include in your stock portfolio, start by looking at broad ones, meaning those containing hundreds of stocks across various industries. This can include ETFs that cover an entire country or region, such as India, the Middle East, Asian Pacific, and the U.K., to give some examples. You can also buy “world” ETFs that invest in stocks in multiple countries and regions.
Consider whether you want ETFs that specialize in technology, oil, metals, and so forth. Note that the more you invest in a sector, the greater the risk that your ETF may suffer if economic trends threaten that sector. Oil, for example, is notorious for ups and downs based on world events. It would be rare for an oil ETF to do well if the entire sector declines.
You can buy ETFs that seek dividends, growth, value stocks, and the like. Dividends paid by companies go into your ETF account where you hold dividend stocks. Growth stocks in an ETF accumulate in value but do not provide income. Value stocks may have the ability to grow quickly because they are currently considered “undervalued.”
You should always check to see if an ETF is leveraged. Most are not, but some are. This means they borrow money to buy stocks, and if the stock prices turn against them, they can be forced to pay the borrowed money back quickly. That will drive the fund’s share price down dramatically–much faster than the market itself may drop.
You can find smaller ETFs in areas like gaming, green initiatives, socially responsible companies, and emerging markets. These are the types of ETFs you would consider only after you own some broader ones.
Some ETFs own ETFs. This is called a fund of funds. You do not have to “beware” in the sense of them being ultra risky; they seldom are. But you do need to know if an ETF you own is also in a fund of funds you are considering.
A fund with less than $50 million in assets is more likely to fail than large funds. An ETF with a lot of assets can afford to cover redemptions (shareholders selling) and temporary downturns. The fund simply sells some assets to cover the cost, or it may have cash on hand. A small fund, however, may not be able to cover unexpected expenses.
All ETFs have an expense ratio. That is the percentage they charge you based on the amount of money you have in the fund. This figure should not be more than 0.5%. Some highly specialized funds might charge more, but when putting together your first ETF portfolio, stay under the 0.5% figure.
Did you know? In the U.K., there is no stamp duty on ETFs. This is essentially a tax charged to you, but it is waived in the U.K.
A portfolio of 5 to 10 ETFs is a good start. This size makes it easier to understand and track what you own.
Consider having 1 to 3 core ETFs that cover broad market segments. Then diversity by adding 2 to 3 ETFs that cover specific asset classes. Add 1 or 2 niche ETFs. Review your total selections for AUM and costs. If you are considering a leveraged ETF, one is plenty in a portfolio this size.
Weight your ETF portfolio. This means determining the percentage of your investment account that will go into each type of ETF.
Your solid, broad ETFs can have the most money in them. You might put 50% of your cash into these.
Consider putting 30%-40% into your asset-class ETFs.
Then put 10%-20% into niche ETFs.
Don’t put more than 1%-2% into a leveraged ETF.
Remember: an ETF may fit into more than one asset class. Make sure you don’t buy it twice.
Apps can help you create your ETF portfolio. You enter your risk tolerance and other factors, and the app suggests portfolio options. Remember that your personal preferences may not always match the recommended Robo advisor portfolio mix, so make your own decisions even if you follow the app’s general guidelines.
ETFs offer you an easy and inexpensive way to diversify your investments. You get a large basket of assets without having to buy each one. And a portfolio of ETFs multiplies your exposure to assets.
ETFs can be safer than individual stocks, but the risk is not zero, so give yourself a margin of safety. Choose your ETFs according to the world economic situation. If an ETF goes the wrong direction, set a loss amount you are willing to tolerate and discipline yourself to sell at that level. That said, ETF portfolios are best for the long term. Do not buy and sell frequently. Think in terms of years, not months or weeks.
Do your due diligence and only buy ETFs you understand. Stay away from “hot” trends based on tips or investment guru suggestions. Each fund has its own portfolio managers, so you already have a broad group of investment professionals working on your behalf when you buy anETF portfolio.