ETF: Businesses are the heart of ETFs

Kristia van HeerdenETF Blog, Latest

Financial news, financial products, pyramid schemes, hot tips and bad financial advice from family and experts make for an investment world that often seems too overwhelming for ordinary people. If you’ve been ready to take the next step financially but unable to commit to a course of action, you should be commended for your sanity. It’s wild out there.

You might not know the right jargon to have a conversation about share investing, but all of us understand how businesses work from a very early age. Remember playing shop when you were little? You understood the basic principle back then.

Listed companies are companies that decided to sell some of their ownership to the public in exchange for money. Companies do this to raise funds to expand their operations. These companies come to a marketplace where people like us are looking for investments. This is called a stock exchange. When we talk about “the market” we mean all of the companies that are offering partial ownership to raise money. That partial ownership is called a share.

When we buy a share in a company, we do so because we believe in the potential for that company to earn money. That’s why it’s important to understand how a company makes money when you are thinking about buying a share. Figuring this out can be as simple as asking, “Who pays the company for what?” With certain shares, like Shoprite, it’s easy. Other businesses, like the JSE, is harder to understand because that company doesn’t sell products to the public.

ETFs are a way for us to become co-owners of a lot of different companies in a single transaction. Different ETFs invest in a collection of different companies. We can make a decision about the types of companies we want to invest in. A Top 40 ETF, for example, buys the 40 biggest shares in the market. That simply means you are investing in 40 different companies at a time.

ETFs are great, because you know exactly which companies you are invested in at any point. ETF issuers have to disclose this information and a simple Google search (or our excellent blog) will tell you exactly which companies you are invested in.

While investing might seem complicated, at the heart of the entire investment world is a bunch of businesses that you can easily understand. When you feel overwhelmed, remember that if you can understand how businesses make money, you can be an investor. 

Finally, it helps to remember that share price movements are often unrelated to what is going on in the day-to-day operations of a business. Share price movements are influenced by the number of people who are trading these shares with other shareholders. The motivations for these transactions aren’t necessarily related to business operations.

When you hear that a share price has risen or fallen a lot in a short period of time, it might be worthwhile to find out first whether that actually has anything to do with the business in the real world.

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At Just One Lap, we are big fans of passive investment using ETFs. In this weekly blog, we discuss ETFs on the local market and the factors you need to consider when choosing an ETF. If you have wondered how one ETF differs from another, this is where you can find out. We explain which index each ETF tracks, what type of portfolio could benefit from holding each ETF, and how the costs will affect your bottom line.

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