ETFs Roadtest: IOZ vs STW

With more than 200 exchange-traded funds (ETFs) listed on the Australian equity market, it's inevitable that some will be similar. So how do you choose when there are two ETFs that are almost identical?

This scenario plays out with two Australian ETFs: the iShares Core S&P/ASX 200 ETF (ASX: IOZ) and the SPDR S&P/ASX 200 (ASX:STW), which both track the S&P/ASX 200 index. 

Blackrock versus State Street

The two ETFs are managed by rivals Blackrock and State Street Global Advisors, two of the heavyweights in the industry.

New York-based Blackrock is the world's largest asset manager with $5.1 trillion of assets under management, and Boston-based State Street Global Advisors has $2.45 trillion of assets under management.

The iShares Core S&P/ASX 200 ETF was launched by Blackrock in 2010 and is a low-cost, broad-based fund that invests in the 200 largest companies in Australia. Its benchmark is the S&P/ASX 200 index, which covers approximately 80 per cent of the market capitalisation of the Australian equity market.

The SPDR S&P/ASX 200 Fund was launched by State Street Global Advisors in August 2001, and was one of the first two ETFs listed on the ASX. It also tracks that S&P/ASX 200.

So, which ETF is best?

Source: AltaVista Research. * Share prices at March 2, 2017

The similarities

As can be seen from Table 1, there are many similarities between the two ETFs. Both ETFs track the same index, and are weighted in the same proportions to that of the S&P/ASX200. This means that if the Commonwealth Bank is 9.5 per cent of the S&P/ASX 200, it will also be 9.5 per cent of the ETF.

In Table 2, the top 10 holdings of each ETF are listed, which shows that the composition of each ETF is almost identical.

Due to the ETF weightings, the big four banks make up around 28 per cent of each ETF, with the top 10 holdings comprising around 48 per cent, which is almost half the fund. Due to the high concentration of stocks in the top 10, any large movements in these stocks will have a similar effect on the price of each ETF.

The 2017 expected earnings per share (EPS) for each unit of the ETF is calculated by adding up the expected earnings from all the holdings in the ETF. Given both ETFs hold the same shares in the same proportions, they also have the same price earnings multiple of 16.3.

The ETFs will continually collect the dividends from the underlying stocks and pass them periodically through to the ETF shareholder. As expected, both ETFs also have the same dividend yield of 4.4 per cent.

Dividends on both ETFs are paid quarterly, which will suit those who like a regular flow of dividends. The move to pay a quarterly distribution is a recent change for the STW ETF, as it previously paid dividends bi-annually.

The differences

The most noticeable difference between the two ETFs is the expense ratio. The iShares Core S&P/ASX 200 ETF has an expense ratio of 0.15 per cent, whereby the SPDR S&P/ASX 200 fund has an expense ratio of 0.19 per cent. Though a difference of 0.04 per cent is not a huge differentiator, a lower fee will mean the ETF will track closer to the index and ultimately provide better performance.

Blackrock has aggressively been slashing its ETF fees, both here and globally, as it aims to be the market leader in low-cost ETFs. In the US, a price war on ETF fees continues among major providers.

One of the big areas of difference between the two ETFs is the market capitalisation. This is where the SPDR S&P/ASX 200 Fund has an advantage. It is more than five times larger, which gives it more liquidity and has its bid/ask spreads (difference between buy and sell price) closer together.

The difference is not huge, but if you are buying or selling units in the ETF, a closer spread may mean you get a slightly better price. As the iShares Core S&P/ASX 200 ETF increases in size, this issue will diminish over time.

Performance

Chart 1 shows the performance over six years of each ETF. The graph looks like it has just the one line, but it is actually two lines that follow the same path. This highlights the similarity of the performance.

Chart 1: Performance comparison

 
Source: AltaVista Research

Valuation

Valuing an ETF is quite different to valuing a stock, as the price of an ETF will closely follow the value of its underlying stocks.

The way to think about ETF valuation is whether the index itself is overvalued or undervalued. As with anything, it's always best to buy an ETF as cheap as possible, but determining the best time to do this is often the challenge.

The aim of an ETF is not to outperform the index, but to follow it. So when an index rises or falls, the ETF will simply follow it.

Conclusion

When comparing the ETFs side by side, there is not a lot of material differences. The iShares Core S&P/ASX 200 ETF has the lower management fee, but the SPDR S&P/ASX 200 fund has the better liquidity and closer buy and sell spreads. If we had to choose one, it would be iShares Core S&P/ASX 200 ETF, due to its slightly lower fees.

What we like about both ETFs is that they are broad based and are managed by top quality global investment managers.

Each ETF offers diversity in Australian equities, and can be used as a core holding in an investment portfolio.

Disclosure: InvestSMART holds the iShares Core S&P/ASX 200 ETF in several of its portfolios.