Register For Our Mailing List

Register to receive our free weekly newsletter including editorials.

Home / 143

Ten rules for more effective ETF investing

A number of exchange-traded funds (ETFs) traded at substantial discounts to net asset values (NAVs) during bouts of substantial volatility in late 2015 in the United States and Chinese share markets. While funds' prices quickly snapped back and came into alignment with their underlying NAVs and the trading anomalies were short-lived, it was a reminder of the need for caution in ETF trading in tumultuous markets.

We haven’t seen anything like those disparities in Australian-listed ETFs, but it is worth revisiting some rules of thumb for transacting in ETFs which, if followed, should reduce the chances of local investors being impacted by such events.

1. Use limit orders rather than market orders

Market orders (ie an order to fill the trade at the best available price) tend to be used when time is of the essence and price is of secondary importance. Investors using market orders want to execute their entire order as soon as possible. For very large, very liquid ETFs that trade contemporaneously with their underlying securities, market orders will likely result in fast execution at a good price.

But there are smaller or less liquid ETFs, and there are also ETFs that trade out of sync with their constituent securities (such as U.S. equity ETFs where there’s no overlap between Australian and U.S. trading hours). Limit orders (ie an order to fill with a specific price limit) will ensure favourable execution from a price perspective. A buy limit order will fetch the buyer a price less than or equal to the limit price, while a sell limit order will transact at a price greater than or equal to the limit price.

2. Avoid trading at open, close, or in the auction period

For ASX-listed ETFs, this means at the very least, avoiding trading earlier than 10:15am or later than 3:45pm. At these times, market-makers may not be watching the market as closely, and some underlying stocks may not be trading, making it more difficult for the market-maker to calculate an accurate price.

3. Be wary of transacting when the underlying securities are not open for trading

With transparent pricing of the underlying stocks, trading volumes should be substantially higher, and bid/ask spreads will typically be lower. For example, trade Asian ETFs in the afternoon, once the Hong Kong, Singapore, and Shanghai exchanges are open.

4. Check the bid/ask spread

If the bid/ask spread is wide, it may indicate that something is amiss, and it might pay to delay your trade or dig further.

5. Check trading volumes and ETF size

An ETF’s on-screen trading volume doesn’t tell the whole story. The liquidity of the underlying assets is arguably more important, because the market-maker can create or redeem ETF shares to balance supply and demand, as long as the underlying market is liquid. However, the size of an ETF and on-screen volume are worth monitoring, particularly for ETFs where the underlying assets trade outside Australian hours.

6. Use the available tools

ETF providers offer tools such as the intraday NAV (iNAV) which can help gauge whether an ETF is trading near its net asset value (NAV). Although there’s no guarantee the iNAV will be an exact representation of the NAV, it’s a useful indicator. Check the iNAV before trading.

7. Apply a common sense check

Ask yourself: is there anything unusual here? Is the ETF price substantially different from the previous day, or even from a few minutes ago? Is the ETF price stable while underlying markets are rising or falling? Are markets going through extraordinary volatility? If so, further research or patience may be required before placing a trade.

8. Be careful about using stop-loss strategies

Stop-loss strategies caused serious problems for some U.S. investors in the recent market turmoil. The U.S. sharemarket gapped downward because of a lack of liquidity at that moment, which triggered stop-loss orders. Because some of these stop-losses were market orders, they were filled at any price available, and with limited liquidity at the time, may have caused an even bigger drop in prices. We advise caution using stop-loss strategies, especially if they’re triggered automatically, or use market orders.

9. If in doubt, contact the ETF provider or market-maker

The ETF provider (or for large investors, the market-maker) can answer questions about trading an ETF and explain anomalies. If in doubt, contact the ETF provider or market-maker before trading.

10. Remember – it’s all about your investment strategy

Investors investing for the long term may have fewer worries when transacting ETFs. If a volatile market causes bid/ask spreads to widen, a long-term investor can be patient, waiting to execute their trade when volatility has subsided. In contrast, a short-term trader may be forced to exit a trade quickly, no matter what the cost. Nevertheless, if an ETF doesn’t help you achieve your investment goals and strategy, or fit with your tolerance for risk and investment time horizon, then it’s unlikely to be the best fit for you, no matter how attractive an investment proposition it seems.

 

Alex Prineas is a Research Analysts at Morningstar. This article is general information and does not consider the investment needs of any individual.

 

  •   18 February 2016
  • 2
  •      
  •   

RELATED ARTICLES

Is Magellan's listed fund a game changer?

Will ETF liquidity be there when I need it?

Four options for an income investor’s next dollar

banner

Most viewed in recent weeks

It’s time for LICs to die

A high-profile dividend cut and a prominent fund manager’s apology have reignited a long-running debate. If investors can access similar exposures more cheaply and efficiently elsewhere, what exactly is keeping LICs alive?

Testamentary trusts survived the trust tax. The drafting battle has just begun.

The fight over testamentary trusts looked settled. Then the draft legislation arrived. Hidden in a technical detail is a question that could force many families to rethink wills they thought were already future-proof.

The new capital gains tax trap for your portfolio

Investors have long accepted one portfolio rule without much question. A major tax shift could change that calculation entirely, forcing difficult trade-offs between risk, discipline and an overlooked cost lurking beneath.

The retirement scorecard: how many of these questions can you answer?

From the maths of retirement, estimating spending and picking the right asset allocation to survive a poor decade, here are the questions every retiree – current or future – should be able to answer for themselves.

How the typical Australian Family could save $844,350 in taxes

The value of a testamentary trust is not determined by wealth alone. Depending on circumstances, it can reduce the tax burden on inherited income, create efficiencies and help build intergenerational wealth.

The housing slide could become a crash

House prices are sliding across Australia, yet the most dangerous ingredient for a housing crash is still missing. If job losses surge amid growing economic risks, today's correction could become a historic property downturn.

Latest Updates

Testamentary trusts: Treasury has picked the wrong reading

A decades-old estate planning tool has survived one tax crackdown only to be caught by another. The surprise isn't who the reform is targeting, but who could end up paying the price for drafting choices made years ago.

Latest from Morningstar

Does an American retirement rule work for Australians?

The 4% rule has survived decades of scrutiny, but Australia's retirement system changes the equation in ways most overlook. Before accepting or rejecting this rule of thumb, it pays to understand what really drives retirement outcomes.

Shares

Glencore lands on the ASX. Should BHP and Rio shareholders switch?

A coal-heavy miner with governance concerns isn't the obvious choice for investors. Yet, Glencore's ASX listing may offer something BHP and Rio can't. The challenge is working out whether the opportunity outweighs the risks.

Why does the system treat capital gains and losses differently?

Investors are often told not to let tax policy drive their investment decisions. Yet, under the new CGT rules, portfolio construction, volatility and even how assets are owned may have an outsized impact on their final outcome.

Economy

Three common sense reforms that Australia needs

What do frozen bank accounts, mortgage traps and pension penalties have in common? They're all symptoms of a system that makes life much harder. Yet the obvious solutions seem to have escaped the attention of Canberra.

Shares

The hidden cost of government debt for investors

Some of the important effects of rising public debt never make the headlines. Research shows the immediate effects may already be unfolding, influencing corporate behaviour in ways that many investors would never suspect.

Investment strategies

When do fundamentals matter?

Is fundamental investing losing its grip on markets? Investors continue to search for valuation-based explanations for every price move, but the dominant force behind short-term returns may be something else altogether.

Sponsors

Alliances

  • ASA-Logo-RGB-ActiveGreen-web.png

© 2026 Morningstar, Inc. All rights reserved.

Disclaimer
The data, research and opinions provided here are for information purposes; are not an offer to buy or sell a security; and are not warranted to be correct, complete or accurate. Morningstar, its affiliates, and third-party content providers are not responsible for any investment decisions, damages or losses resulting from, or related to, the data and analyses or their use. To the extent any content is general advice, it has been prepared for clients of Morningstar Australasia Pty Ltd (ABN: 95 090 665 544, AFSL: 240892), without reference to your financial objectives, situation or needs. For more information refer to our Financial Services Guide. You should consider the advice in light of these matters and if applicable, the relevant Product Disclosure Statement before making any decision to invest. Past performance does not necessarily indicate a financial product’s future performance. To obtain advice tailored to your situation, contact a professional financial adviser. Articles are current as at date of publication.
This website contains information and opinions provided by third parties. Inclusion of this information does not necessarily represent Morningstar’s positions, strategies or opinions and should not be considered an endorsement by Morningstar.