How to Gain Market Exposure, Amplify Results and Profit from a Downturn in Markets with the Power of ETFs?

If you wish to have a meaningful exposure of your capital to the Malaysian stock market, what are the viable channels that you can choose to invest in? 

Option A: Invest in the 30 Largest Stocks in Malaysia

You may log into your stock brokerage account and purchase shares of every 30 biggest companies listed on Bursa Malaysia. How much do you think it would cost? 

Based on a minimum transaction of 100 shares and online stock brokerage fees of RM 12 a transaction, the minimum amount of investment capital required to enjoy such market exposure is RM40,828, based on 18 Oct 2019 closing price.

The calculation is as follows:

Total Investment Costs for 100 Shares in Each 30 Largest Stocks in Malaysia: RM40,828

Option B: Invest in FBM KLCI ETF 

Alternatively, you may purchase units of FBM KLCI ETF at RM 1.67 per unit from your stock brokerage account. If you are buying 1,000 units of FBM KLCI ETF for a total of RM 1,682 (inclusive of RM 12 in brokerage fees), you will gain yourself a decent investment exposure in all of the 30 shares stated above. 

Question: How does it work? 

First, in general, ETFs are designed to track the performance of their underlying assets / indices. For FBM KLCI ETF, it aims to track similar performances, in terms of both price and yield, of the KLCI for the long-term by investing in shares in each of the 30 biggest stocks listed on Bursa Malaysia. As such, you would emerge as an indirect owner of all of the 30 stocks by just investing in FBM KLCI ETF. 

Question: Can I buy 100 units of FBM KLCI ETF instead of 1,000? 

Yes, you may, but it is not cost-efficient. For instance, if you buy 100 units of the ETF, it would cost RM 179. It works out to be RM 1.79 a unit in investment cost, more expensive than RM 1.682 a unit if you are to invest 1,000 units. 

Option C: What about Unit Trust Funds?

Yes, you may invest in unit trust funds with exposure to local equities. For some instances, ETFs are likened to unit trust funds for both vehicles enable investors to gain instant market access to a basket of investment securities. 

With that being said, there are differences between the two, which includes: 

Choices of ETFs on Bursa Malaysia

Apart from the FBM KLCI ETF, there are ten other ETFs listed on Bursa Malaysia. Each of them is designed to track the market performance of either a specific geographical location or a particular class of an investment vehicle. They include: 

Soon, in November 2019, Bursa Malaysia will be introducing two new strategies for investors to either boost their investment returns into ETFs without needing to invest additional capital into them or to profit from a possible downtrend of an index or market. The two strategies are as follows: 

Strategy 1: Amplifying Results with 2x Leveraged ETF

For a start, an ETF is designed to track the performance of a specific index. Let’s call it – Index A. 

A 2x Leveraged ETF on Index A is a fund which aims to provide 2x the return of Index A on a daily basis. For instance, if Index A gained 2% in return in a day, the 2x Leveraged ETF would provide a return of 4% to its investors. But, if Index A losses 2% in value, the 2x Leveraged ETF would return 4% in losses to its investors. 

Therefore, if you believe that Index A is on a bullish trend, you can invest in a 2x Leveraged ETF which shall enhance your return as Index A goes up. 

Strategy 2: Profit from a Downtrend with an Inverse ETF 

However, let’s say, you are pessimistic of the prospects of Index A. So, what can you do to profit from it? 

The answer is to invest in an Inverse ETF. 

An Inverse ETF on Index A is a fund which aims to provide the opposite return of Index A on a daily basis. In this case, if Index A lost 2% in value, you would make a 2% profit from your holdings onto an Inverse ETF. Likewise, if Index A made 2% in returns, you would witness a 2% loss in your investments into the Inverse ETF. 

Daily Rebalancing & Compounding Effects on 2x Leveraged & Inverse ETFs

The calculation of returns for both 2x Leveraged ETF and Inverse ETF is mostly dependent on the concept of daily rebalancing. Let me explain. 

For both ETFs, their issuers aim to deliver multiples (be it, double or reverse) of the daily performance of the underlying index. Thus, after one trading day, both ETFs will reset their exposures which lead to compounding returns daily to their investors. The returns are best illustrated as follows: 

Therefore, in the event that Index A gain 10% on the first and second day, Index A’s cumulative gain may be 21% in two days, but it does not mean that: 

1. Double of Index A return should be 42% (21% x 2 days). Instead, the 2x Leveraged ETF on Index A ETF makes 44% returns over the two days. 

2. The opposite return of Index A in 2 days should be a loss of 21%. Instead, the Inverse ETF on Index A has reported a loss of 19% in the two-day period. 

When the market is trending, either bullish or bearish, the compounding effect tends to be favourable to both 2x Leveraged and Inverse ETFs. However, the compounding effect tends to have a negative impact on the 2x Leveraged and Inverse ETF returns when market is volatile and moving sideways. 

What about Trading Futures Contracts by Myself? 

Good question. Here is my take: 

I believe, if you wish to further leverage on your exposure to an asset class, you may opt for futures contracts as a preferred vehicle. For instance, today, I found that the FBM KLCI is trading at 1,571 points. Based on the contract specification given by FTSE Bursa Malaysia KLCI Futures, you may begin by placing a ‘deposit’ known as initial margin of around RM 4,000 to control of RM 78,550 in contract size, which is a leverage of nearly 20x. 

This may lead to a more significant profit if the futures contract increases in value. But, it would cause a big hole to one’s capital if the value decreases. 

The leverage offered by the futures contract has an expiry date. If the contracts are not being ‘rolled over’ in its stipulated time, you might risk burning your capital in futures trading. This is different from ETFs as they do not possess any date of expiry. Investors can hold onto them for as long as they wish. 

As such, if you are not a sophisticated futures trader, it is best to use ETFs. 

Conclusion: 4 New ETFs on Bursa Malaysia

ETFs provides investors with a quick, simple, convenient, and a cost-efficient method to have access to a market, asset class, or a basket of securities both locally and overseas. It is an ideal investment vehicle for passive investors who wish to be invested, without having to spend loads of time to do their own stock picking. 

Personally, I think the launch of the two new strategies stated above will allow investors to manage their portfolios with greater flexibility. But, with that being said, it is best to learn more and gain more insights on how to use them first.                 

On 27 November 2019, Bursa Malaysia would be launching four new ETFs. They include: 

1. The Hang Seng China Enterprises Index (Available in 2x and Inverse ETFs) 

It tracks stock price movements of the 50 biggest companies in Mainland China which are listed on the Hong Kong Stock Exchange. They include key companies such as Ping An Insurance, Tencent, China Construction Bank, China Mobile Ltd, and Industrial and Commercial Bank of China. 

Therefore, if you are optimistic about the prospects of China, you may consider leveraging your returns by opting for its 2x ETF. Whereas, if you are pessimistic about its prospects, you may profit from its downturn by having a position in its Inverse ETF. 

2. The NYSE® FANG+™ Index (Available in 2x and Inverse ETFs) 

FANG refers to U.S. stocks namely, Facebook, Amazon, Netflix, and Google (now known as Alphabet). The four companies were the initial companies included in the index. Presently, it has expanded to include six additional technologically advanced companies such as Apple, Alibaba, Baidu, Tesla, NVIDIA, and Twitter. 

Similarly, if you are optimistic about the outlook of these companies, you may take up a position in its 2x ETF to boost your returns from this sector. Whereas, if you are pessimistic, you may profit from its downturn by having a position in its Inverse ETF. 

For more information, please go to www.bursamarketplace.com/lnietf