A Guide To Index Fund Investing In Malaysia

Index funds are a passive form of investing, which means they are not actively managed by fund managers. Instead, they mirror the performance of a particular market index, like the S&P 500 or the KLCI. This makes them a good option for people who don't have the time to pick and value stocks individually.

Index funds are also a good way to diversify your portfolio. They invest in all the assets of an index, which means you get exposure to a wide range of companies and sectors. This reduces your risk because even if one company performs badly, it won't affect the overall performance of the fund.

There are a few different ways to invest in index funds in Malaysia. You can use an international broker like TD Ameritrade or Interactive Brokers (IBKR), a robo-advisor like Akru Now, or a local broker like Rakuten Trade. Each option has its own pros and cons, so be sure to do your research before deciding which one is right for you.

How to choose the right index funds

Index funds are a passive form of investing that mirrors a particular index, such as the S&P 500 or Nasdaq 100. They are a good option for those who lack the time to pick and value stocks individually. Here are some things to consider when choosing the right index funds:

• Strategy and Objective: Be clear about the fund's strategy and objective, and ensure they align with your personal investment goals. For example, you may want to focus on low-cost index funds that aim to replicate market index performance.
• Sectors and Geography: Consider the specific sector (e.g., technology, green energy) or geographical area (e.g., US, Greater China) that the fund focuses on. Choose funds that fit your overall portfolio allocation plan.
• Domiciliation and Taxation: Understand the tax implications of where the fund is domiciled. Consult a tax professional to get advice on this, as the tax treatment may differ depending on your tax residency and the fund's location.
• Currency Denomination: Consider the currency used for the fund. While this may not have a significant impact, it can affect the number of currency exchanges needed.
• Expense Ratio: Look for funds with lower expense ratios, as these will directly affect the amount of fee you have to pay annually. Low-cost index funds typically have expense ratios ranging from 0.15% to 0.50%.
• Dividend Model: Some companies distribute dividends periodically. Consider whether you need the cash, as this will determine whether you choose an accumulating or distributing dividend model. Accumulating funds can help avoid incurring additional transaction fees.
• Fund Size and Liquidity: Larger fund sizes can lead to lower expense ratios and better liquidity, making it easier to buy or sell the fund at a fair value. However, if you don't plan to trade often, fund size may not be a high priority.
• Tracking Accuracy: Choose an index fund that accurately traces the desired index. For example, if you want to invest in the S&P 500, ensure the fund closely tracks this index.

The pros and cons of using a robo-advisor

Robo-advisors are digital investment platforms that provide automated, algorithm-driven financial planning services with little to no human supervision. They are a relatively new concept in Malaysia, having first been introduced in 2018. While they can be a convenient and accessible way to invest, there are some potential drawbacks to consider. Here are some of the pros and cons of using a robo-advisor:

Pros:

• Lower fees: Robo-advisors typically charge significantly lower annual management fees than traditional financial advisors. This can result in higher overall returns for investors.
• Low account minimums: Many robo-advisors have low or no minimum balance requirements, making them accessible to investors with a small net worth.
• Easy to use: Robo-advisors often have user-friendly mobile apps that make it easy to sign up, track investments, and withdraw money.
• Hands-off and low-maintenance: Robo-advisors automate investment portfolios and rebalancing, so investors don't need to actively manage their investments.
• Wider market exposure: Robo-advisors generally give investors more exposure to various markets, providing diversified portfolios that include stocks, bonds, and gold.
• High-quality research: Many robo-advisors use Nobel Prize-winning investment theories, such as Modern Portfolio Theory, to drive their models.

Cons:

• Limited personalisation: Robo-advisors may not be able to tailor investment plans to specific needs and concerns, as they are based on algorithms that use a limited set of data.
• Lack of human connection: Robo-advisors do not offer the same level of relationship-building and personal touch as traditional financial advisors.
• Fees can add up: While robo-advisor fees are generally lower than those of traditional advisors, there may be additional fees, such as expense ratios, exchange rates, and withholding taxes, which can add up over time.
• Over-diversification: Some robo-advisor portfolios may include overlapping stock holdings, leading to over-diversification, which can increase investment costs and reduce risk-adjusted returns.
• Limited investment options: Robo-advisors typically have a predetermined investment strategy and may not offer the flexibility to choose specific securities or allocations.
• Lack of holistic financial advice: Robo-advisors focus primarily on investment management and may not provide advice on other financial areas such as taxes, estate planning, or insurance.

How to open a brokerage account

Opening a brokerage account is the first step to investing in an index fund in Malaysia. Here's a step-by-step guide on how to do it:

• Choose a Brokerage Platform: Select a reputable brokerage platform that suits your needs. Popular options include TD Ameritrade, Interactive Brokers (IBKR), and local platforms like Rakuten Trade and MPlus. Consider factors such as fees, ease of use, and the availability of fractional shares.
• Sign Up: Visit the website of your chosen brokerage platform and look for an option to sign up or create an account. You will typically need to provide personal information such as your name, contact details, and sometimes proof of identification.
• Fund Your Account: To start investing, you will need to deposit money into your brokerage account. Each platform will have its own instructions for funding your account, which may include bank transfers, credit or debit card payments, or other payment methods. Be sure to review any applicable fees and transfer charges.
• Explore the Platform: Familiarize yourself with the brokerage platform's interface and features. This includes locating essential tools like placing buy and sell orders, viewing your portfolio, and accessing research and analysis tools to help you make informed investment decisions.
• Start Investing: Once your account is funded and you feel comfortable with the platform, you can begin investing in index funds. Remember to consider your financial goals, risk tolerance, and the specific index funds or ETFs you want to invest in.

By following these steps, you'll be on your way to opening a brokerage account and starting your investment journey in index funds. Always remember to do your own research, understand the risks involved, and seek professional advice if needed.

The difference between a mutual fund and an exchange-traded fund (ETF)

Mutual funds and exchange-traded funds (ETFs) are two popular ways for investors to diversify their portfolios rather than betting on the success of individual companies. Here are the key differences between the two:

Trading Mechanisms

Mutual funds can only be sold once a day after the market closes, whereas ETFs can be traded throughout the day just like an ordinary stock. ETFs trade more like stocks, as you can buy and sell shares in an ETF on the open market with other investors.

Management

Mutual funds are usually actively managed, meaning fund managers make decisions about how to allocate assets to beat the market and help investors profit. On the other hand, ETFs are usually passively managed, tracking a market index or sector sub-index. However, a growing range of actively managed ETFs is now available to investors.

Investment Requirements

Mutual funds typically have minimum investment requirements of hundreds or thousands of dollars. In contrast, you can invest in an ETF if you have enough money to buy a single share.

Costs

Actively managed funds tend to have higher fees and expense ratios due to their higher operations and trading costs. ETFs are often cheaper to invest in, and some mutual funds have more active management, so ETF expense ratios are usually lower.

Tax Efficiency

ETFs are generally considered more tax-efficient than mutual funds. As passively managed portfolios, ETFs tend to realise fewer capital gains than actively managed mutual funds.

Creation and Redemption

The creation and redemption process of ETFs is another distinguishing factor. Creation involves buying all the underlying securities constituting the ETF and bundling them into the ETF structure. Redemption involves unbundling the ETF back into its individual securities. This process occurs in the primary market between the ETF sponsor and authorised participants (APs).

Suitability

The choice between a mutual fund and an ETF depends on an investor's financial goals. ETFs are often a better option due to their tax advantages, low commissions, and easy tradability. However, mutual funds can be a cheaper option for stock index funds, and if they are held in a tax-advantaged account, their tax implications become irrelevant.

How to decide between bond and equity index funds

When deciding between bond and equity index funds, there are several factors to consider. Both types of funds have their own advantages and disadvantages, and the right choice depends on your investment goals, risk tolerance, and financial situation. Here are some key points to help you decide between bond and equity index funds:

Bond Index Funds:

• Risk and Return: Bond funds are considered less risky than stocks due to their diversified, fixed-income nature. They are suitable for investors seeking regular income with lower volatility. However, it's important to note that bond funds are still subject to market risk, including interest rate changes and credit risk.
• Management: Bond index funds are typically passively managed, tracking a bond index to match its returns. They have lower expense ratios than actively managed funds, making them more cost-efficient.
• Transparency: Bond index funds may provide better transparency by disclosing their holdings daily, allowing investors to see the exact composition of the fund.
• Minimum Investment: Bond index funds usually don't have minimum investment requirements, making them accessible to a wide range of investors.
• Suitability: Bond index funds are ideal for investors seeking diversified exposure to various types of bonds, such as government, municipal, and corporate bonds. They offer the flexibility and liquidity of stocks combined with the diversified exposure of bond funds.

Equity Index Funds:

• Risk and Return: Equity index funds provide exposure to a broad range of stocks, reducing the overall risk by diversification. They can be more volatile than bond funds but offer the potential for higher returns during bull markets.
• Management: Equity index funds are passively managed, aiming to replicate the performance of a specific stock market index. They have lower fees than actively managed funds.
• Transparency: The holdings of equity index funds are generally well-known and easily accessible through investing platforms, providing transparency to investors.
• Minimum Investment: Some equity index funds may have minimum investment requirements, while others allow investors to buy a single share, making them accessible to those with limited capital.
• Suitability: Equity index funds are suitable for investors seeking long-term growth and broad market exposure. They are ideal for buy-and-hold investors who want to track the performance of a specific market index.

In conclusion, the decision between bond and equity index funds depends on your investment objectives and risk tolerance. Bond index funds offer diversified exposure to the bond market, regular income, and lower volatility. On the other hand, equity index funds provide exposure to a broad range of stocks, potential for higher returns during bullish markets, and long-term growth opportunities. It's important to consider your financial goals, risk tolerance, and investment horizon when making your decision.

Frequently asked questions