ETF vs index tracker funds

Reestit_Mutton

Hi,

I'm currently mulling a subscription to a stocks and shares ISA next year. The plan is to keep it simple so a monthly drip-feed into an index tracker via a cheap sharebuilder service is my preferred option for now.

However, even with such a clear aim there are still a lot of choices that can be made - either I choose one of a wide range of index tracking funds, each of which perform slightly differently and charge differing amounts in their spread and annual management fees or I plump for the relevant iShares ETF (exchange traded fund).

Can anyone tell me if there are any downsides to purchasing ETFs when compared with equivalent traditional index tracking funds?

RM

purch

Other than the fact that an ETF is Passive rather than Actively managed, (and that could be either an upside or downside depending on your opinions) therefore you should not get any over-performance against the index from an ETF, which is possible from an actively managed tracker, then I can't think of any downside from using an ETF to track an index

The ETF costs less to be managed
The ETF always trades close to NAV and has tight spreads
The ETF is easy to deal in, and has transparant pricing

Reestit_Mutton

Thanks Purch.

wrt passive vs. active management my view is that if I want an actively managed fund then I wouldn't be choosing an index tracker which, by definition, ought not to require active intervention in any case...or am I missing something here?

RM

dunstonh

Investments always need reviewing whether you are using managed or tracker.

The FTSE100 trackers have had 14 years of bottom half performance. If you ignored it for 14 years you would have got returns lower than most managed funds in the same sector. So, choice of managed/tracker doesnt make any difference. Whatever you choose, if you go down the invest and forget route and pick a single sector (which you also appear to be looking at) then you will end up with lower returns over the long run.

You need to keep an eye on it even if its just once a year to rebalance the portfolio.

purch

or am I missing something here?

No I agree 100%

If you want to track a specific index then the least amount of 'active (mis)management' should be the aim.

Reestit_Mutton

Hi Dunston,

I fully understand and agree with your reasoning.

Maybe I should have explained a little more about what I had hoped to achieve through this investment to explain why I was leaning towards a rather simplistic investment strategy.

I've been managing my mum's finances ever since my dad died and I've now reached the point where I have to find ever more ways to keep a lid on my mum's taxable income in order to prevent it from breaching the higher rate threshold.

She is currently maxed out on cash ISAs, premium bonds and NS&I index-linked certs and she's (currently, at least) unwilling to gift any of her substantial cashpile to her kids.

I suppose the question is first and foremost one of "are there any other non-equity-linked tax-free shelters with good returns that I've missed?"

Assuming that an S&S ISA is the only remaining tax-free option of any significance left open to me at present, what would be the most appropriate low-risk investment strategy requiring minimal intervention given that all I want to do is swap the savings income on that money for an equivalent tax-free return (anything better than that would be considered a bonus).

Whether this return is in the form of income or capital gain is irrelevant for my mother's purpose (assuming that it's within a tax-free ISA wrapper, that is) as she spends nowhere near her income level and thus doesn't actually need the income from the money to be invested.

I have also considered investing some of the money in an index-linked gilt ETF although I certainly don't wish to hold any other types of bonds given the recent credit crunch as I feel that this would be taking too much risk with my mum's money.

The sums to be invested aren't ever expected to represent more than 10% of her cash holding.

RM

dunstonh

You have investment bonds which could be used. They have no impact on age allowance or income tax on a year by year basis. They do pay Corporation tax at upto 20% on the capital gains but benefit from the same tax credits on income.

There are also low/no yield unit trusts and investment trusts (ZDPs).

cheerfulcat

Reestit_Mutton wrote: »

Assuming that an S&S ISA is the only remaining tax-free option of any significance left open to me at present, what would be the most appropriate low-risk investment strategy requiring minimal intervention given that all I want to do is swap the savings income on that money for an equivalent tax-free return (anything better than that would be considered a bonus).

Have you considered directly held gilts in an S&S ISA? They are yielding ~ 4.5% currently. You need to look for ones that have more than 5 years to run, and preferably trading at or close to par ( to avoid capital loss if held to maturity ). You can get prices and yield information here.

Reestit_Mutton

dunstonh wrote: »

You have investment bonds which could be used. They have no impact on age allowance or income tax on a year by year basis. They do pay Corporation tax at upto 20% on the capital gains but benefit from the same tax credits on income.

Ah yes....I'd forgotten about these.

I was considering that option when I was trying to persuade my mother to set up a loan trust for inheritance tax purposes a couple of years ago when Gordon Brown threw a spanner in the works with his changes to trust tax rules. I've not yet had the time to actually sit down and look at the fine details to work out whether a loan trust would still be worthwhile.

However, now that my mum's level of income is becoming a problem (no doubt the type of problem that many would love to have!) I may well have another look at this issue as it does rather neatly solve two problems at once assuming I can separate my mum and her money in the first place.

Thanks for reminding me, Dunston.

RM