ETF ANALYSIS
Suitability: Some investors today are investing not only with their heads but also with their hearts: not only for monetary return but also to promote concepts or ideals about which they feel strongly. Socially responsible investing has grown in popularity but is still a small part of the overall market. In SA such opportunities are limited. The JSE offers three ETFs that follow a social investment strategy: NewFunds Shari’ah Top40, NewFunds NewSA and Nedbank BettaGreen ETFs (now called CoreShares Green ETF).
Our focus this week is on the NewFunds Shari’ah Top40, an investment instrument created to comply with Islamic ethical investing principles. The ETF will suit investors wanting to add equity exposure to their tax-free savings account while complying with the investment principles of Islamic law. This does not necessarily mean you are forgoing returns because ethical investments may, in the long run, also be the best performing investments. However this and other ethically based investment strategies do exclude investments that could be good performers.
What it does: The NewFunds Shari’ah Top 40 Index ETF tracks the performance of FTSE/JSE Shari’ah Top 40 Index, which is jointly established by FTSE International Limited (FTSE) and JSE Limited (JSE). The FTSE/JSE Shari’ah Top 40 Index is designed to reflect the Shari’ah compliant companies identified from the FTSE/JSE Africa Top 40 Index by Yasaar Ltd, which provides independent Shari’ah compliance solutions in terms of stringent Shari’ah standards and principles.
Top holdings: As at 31 March only 15 of SA’s top 40 companies were compliant with the Sharia’ah standards as required by this fund. This screened out SA’s six largest companies, leaving the fund with a bias towards BHP, Sasol, Steinhoff and MTN. Resource stocks (mining, oil and gas) make up about 40% of the fund, which is in sharp contrast to most other top 40 funds that have much smaller exposure to resources.
Disadvantage: One major weakness with socially responsible investing is the limited choices with regard to portfolio diversification. This is quite evident in this ETF which, after qualitative screens, ended up being concentrated in resources. It lacks in sector diversification.
Fees: For the year to end-March, 0.31% of the average net asset value of the portfolio was incurred as charges, levies and fees related to the management of the portfolio, which is below the average cost for ETFs.
Historical performance: This fund ranks as one of the worst performers on the JSE. Since its inception in 2009 it has returned an average of 3.25% a year. Given that inflation averaged 6% over the same period it means if you had invested in this fund at inception, your investment would be worth less than what it was in 2009. The table below reflects the fund’s historical annualised returns. Please note that fund’s performance depends on how you invest – through a single lump-sum payment or regular payments. In this case we assumed a lump-sum investment.
Sectoral holdings:
Fundamental view: Historically, this fund has had a strong bias towards resource stocks. There is no doubt about the cyclicality of such stocks. When commodity prices are rising this fund can fly but once there is a downturn in commodity prices it is bound to suffer. That means when investing in this fund you should be comfortable with high volatility. The resources sector has been going through a rough patch since the end of 2013 as commodity prices have plummeted, but they have shown signs of life this year. However, NewFunds Shari’ah Top 40 is trading at levels last seen in 2011, which might present an opportunity for investors bullish on commodity prices.
We think investors are better off in investing in Shari’ah compliant unit trusts, which are more flexible in their portfolio construction. The ideal strategy when investing in cyclical stocks is to buy during the downturn and sell towards the peak of the boom. Such a strategy can, however, only be applied in actively manged or smart beta funds. NewFunds is a passively managed capped fund and tends to do the opposite. It increases its shareholding in mining stocks during boom times and reduces its exposure during a downturn, which we think is its major drawback.
Alternatives:
There are no direct peers.
BACKGROUND: Exchange traded funds (ETFs)
Exchange traded funds (ETFs) are passively managed investment funds that track the performance of a basket of pre-determined assets (in this case, JSE companies meeting threshold BBBE ratings). They are traded the same way as shares and the main difference is that whereas one share gives exposure to one company, an ETF gives exposure to more than one company in a single transaction. ETFs can be traded through your broker the same way as shares, say, on the EasyEquities platform. In addition, it qualifies for the tax-free savings account, where both capital and income gains accumulate tax free.
Benefits of ETFs
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