Regular readers of DollarsandSense.sg will be very familiar of our advocation for low-cost, long-term passive investing approach towards wealth building. We typically encourage using ETFs, noting that its diversified nature makes it a very good alternative for those who are not keen on actively managed funds.
There are always questions and doubts over how a passive investment strategy can be utilized by retail investors, whose knowledge on the stock market may not be as indepth as professional fund managers.
We will take a look into ETFs and high quality blue-chip stocks in this article, and explore how you can consider adding them into your investment portfolio.
STI ETFs
The components within the STI are based on the companies’ market capitalization, and they broadly represent the outlook of Singapore Stocks.
To be eligible in the STI requires strict supervision prior to joining, and stable and fundamentally strong earnings observable to all. A large number of companies in the STI are also either directly or indirectly backed by the Singapore Government.
The STI is also constantly reviewed on an annual basis, whereby stocks that do not meet the requirements would be dropped. Thus, on a confidence level, these stocks, which represent the broad stock index, are said to be the most fundamentally strong companies in the exchange.
Differences Between ETFs & Unit Trusts
The main difference between an ETF and a common unit trust is the level of active involvement put in. An ETF is a passively manageed investment product, whereby the fund manager only seeks to track the market movements of the index.
On the other hand, a fund manager of a unit trust would be actively buying and selling shares based on the own investment approach, experience and research. Consequently, an ETF will have a much lower expense fee, allowing overall return to be higher for investors.
Higher Returns
It is worth reminding that no investment is able to guarantee a high return. Nonetheless, in light of the current paltry interest rate environment, it is important not to allow our savings to simply sit idling in our saving accounts.
For example, current account savings is at an interest rate of 0.05%. Compare this to annual inflation rate that we are experiencing and it is obvious that an individual who do not invest will simply see his or her savings falls victim to a reduction in purchasing power.
Given the very low interest rate environment, we have to constantly look for ways to increase our returns. Dividend income generating between 6-7% is one way to beat inflation. Choosing fundamentally strong companies that maintain a regular dividend policy is a very good strategy to consider.
To illustrate:
SPH’s dividend history 2009-2013
Source: SPH
SPH is a constituent in the STI index and has been stable in terms of dividend payout. 2013 is an exception due to divestments. From 2009-2013, the average payout is 28cents per share. If one were to own 2 lots of SPH’s shares at a price of $3.97, he will be able to receive dividend payments of $560 ($0.28 X 2000shares) in dividend payment.
An investor will be achieving a dividend yield of 7% ($560/(2000 X $3.97), as compared to an interest rate of 0.05% from saving accounts. This simple illustration shows the importance of dividend income, excluding any changes in potential gain or losses arising from stock prices.
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