Invast's Review Of Exchange Traded Funds On The ASX

Invast Insights

Week Commencing October 8, 2013

www.invast.com.au | 1800 468 278

This week we look at the following topics:

1.0 Exchange traded products on the ASX

1.1 International exposure & opportunity

1.2 Caution and research is important

2.0 A closer look at the DAX

2.1 Germany the growth engine of Europe

3.0 Introduction to Fibonacci

4.0 Invast Gold Seminar

4.1 About our guest speaker

4.2 Gold interview worth watching


1.0 Exchange traded products on the ASX

We’ve had some feedback this week from clients wanting to know more

about exchange traded products and so we start this week’s publication by

outlining these investment tools. One of the best innovations in markets over

the past decade has been the emergence of exchange traded products,

sometimes called exchange traded funds (ETFs). These are basically funds of

money which invest in a certain basket of stocks but with units listed on the

exchange so holders can trade them freely, like they would trade BHP or CBA

shares for example.

Think about investing in a mutual fund twenty or thirty years ago, you would

literally have to write a cheque and send it to the fund manager who will then

use your funds to say, buy the ASX200 index. If you wanted to redeem your

investment you would have typically had to fill out a form and wait until the

fund manager releases your units with an accompanying cheque.


Today the whole process can literally take two minutes. You could

hypothetically buy the ASX200 index through a security called the STW then

if you change your mind immediately sell and have the money taken care of

through your online stock broking account. Invast does not issue any ETF

products in Australia and we have no other vested interest in them besides

making our clients aware that they do exist and can be one of the ways to

add diversity to your portfolio.

Our Wealth Preservation Portfolio which was reviewed last week contains two

ETF products – the STW and IJP which we included as part of a well diversified

portfolio. The STW is issued by a company called State Street Global Advisors,

it tracks the ASX200 index which basically means you can replicate the whole

market by owning the top 200 stocks through a single trade in ticker STW. The

fund itself holds around $2.184bn of assets in these top 200 companies and

the management fee State Street Global Advisors charges to undertake the

whole exercise is around 0.29%.


So let’s say you want exposure to the market but don’t have the time or

resources to go out and buy 200 individual companies, yet alone measure the

weighting of each to achieve a performance that replicates the ASX200 index.

The STW does the whole task for you with a management fee of 0.29%

annually. If the market goes up by around 10% a year, you could expect the

value of the STW to rise by 10% less 0.29%. Our $10,000 investment in the

STW in early September generated a return net of fees of around $450 for the

month, as per our report last week.

1.1 International exposure & opportunity

What really makes ETF products interesting for local investors is the ability to

start investing in offshore markets. We also added the IJP to Wealth

Preservation portfolio last month and while the STW adds exposure to the

top 200 companies in Australia, the IJP provides exposure to the top 300

companies in Japan.


Local investors can either go out and buy individual stocks in Japan or use the

IJP – the latter obviously much easier to administer. There is a cost, the issuer

of the IJP is iShares backed by Blackrock and they charge around 0.53%

annually. Blackrock is one of the largest funds management companies

globally and again has no affiliation with Invast. We are purely stating the

facts here.


Image: Snapshot of the IJP in terms of top 10 holdings and sector exposure via iShares website


The image above shows the type of exposure the IJP gives you – companies

like Toyota, Mitsubishi and Softbank. The Australian stock market has no listed

car manufacturers or multinationals of this size outside of mining companies.

While the top 10 companies in Australia represent around 45% of the market,

in Japan the concentration is around half that. It’s not just Japan either, the

growth of ETF products means the type of international exposure available to

Australian investors is now growing on a daily basis. Below is a snapshot of

international ETFs available to local investors via the ASX.


Table: List of international ETFs listed on the Australia market via ASX website


1.2 Caution and research is important

Like all things in life, there are risks. Firstly, the funds are managed on behalf

of the unit holders by the custodians of the funds like Blackrock or State

Street and so you need to take that into consideration. When you purchase

BHP or Telstra shares you are entrusting the board and management of each

company to invest your funds wisely and so the same principal needs to be

taken into consideration. We have had some investors recently ask about

counterparty risk in ETFs and this is a very sensible question, so please do

your homework and read the product disclosure statement of each issued

product if you want more information.

The other thing to consider about Australian listed international ETFs is that

most of them are unhedged. You are effectively paying an Australian dollar

dominated price but for a pool of investments that are dominated in another

currency. So if the Australian dollar rises against the Japanese yen for

example, the IJP will see adverse movements all other things being equal.


There is an opportunity to hedge out your currency risk with Invast’s other

foreign exchange trading products and so this risk can be minimised. The time

might also be ripe for expanding offshore exposure given the strength of the

Australian dollar in recent years. If you are of the view that the Australian

dollar will fall back to say 80 US cents in three of five years, the option is there

to exchange those Australian dollars into other currencies via ETF products

where appropriate.

One of the worst innovations we think over the past few years is the

emergence of ETF products that are based on a synthetic agreement. We have

complete risk aversion towards these types of products. To find out more it

would be wise to visit the website of each ETF product or contact the

representatives of the following two issuers which Invast’s analyst team have

met both in recent months. Nathan Ide from State Street Global Advisors on

02 9240 7675 or [email protected], Paula Boon from Russell Investments

02 9229 5131 or [email protected].

mailto:[email protected]







2.0 A closer look at the DAX

One of the most attractive markets among traders is Germany’s DAX index,

particularly for Asian time zone clients, as the DAX opens in the afternoon

and trades into the night. The DAX is an index based on the top 30 companies

in Germany – the growth engine of the European economy. Like the Dow

Jones Industrial Average, constituents are usually some of the largest global

multinationals. Germany’s GDP is currently trending at around US$3.5bn

which is around three times Australia. Germany is currently the world’s fourth

largest economy behind the USA, China and Japan respectively. It represents

around 22% of the total GDP within the European Union.

Below is a chart summarising the top 10 constituents of the DAX index,

ranking in order of market capitalisation:


Image: DAX top 10 constituents, share price as of 30 September and index weighting


Bayer is the largest constituent and specialises in healthcare, agriculture

products and polymers. If you have had a virus over the winter season and

taken anti-biotics, there is a strong chance that they could have been

manufactured by Bayer. The stock is currently trading on a historical price to

earnings ratio of around 25x, but the market sees improvement in earnings

this year with the price to earnings ratio expected to fall to around 15x. The

stock is currently trading at around EUR88 which is not too far from its 52

week high of EUR91. We focus on the largest stocks in an index because they

usually set the tone for direction. BHP Billiton (BHP) is a great example of how

the largest stock in the market can drag down the rest of the index, as was

the case for the ASX200 index for most of 2012.

The second largest stock on the DAX is Siemens – a specialist in engineering

and manufacturing. The stock is trading on a more reasonable historical price

to earnings ratio of 16.8x at the time of writing but the market isn’t expecting

too much growth over the year and so this is unlikely to change. Siemens has

delivered 13% net growth in dividends over the past five years and so it has


a reasonable sense of stability but isn’t the type of stock to shoot the lights out. If we compare Siemens to 3M listed in the United States, we see the latter trading on a price to earnings ratio of around 18.7x historically and this is expected to trend to 17.8x by the end of the year – so both companies are within similar valuations of each other. 3M has delivered net growth in dividends over the past five years of around 4.7% and so Siemens has somewhat of an edge. Ironically, 3M is trading just shy of its 52 week high of US$122 while Siemens is exactly at its high point for the year at EUR92.

Most of these businesses listed on the DAX though were impacted by the slowdown of the global economy and more importantly, the sovereign debt crisis which gripped Europe last year. While 2013 has been a slightly better year, with the DAX up around 19% over the past year. The index is very much a “real economy” composition with Chemicals, Automobiles & Parts and Industrial Goods and Services combined representing around 54% of total weighting. Banks combined represent around 5.8%, which is in stark contrast to the Australian market where the ASX200 index has around 22% exposure to the top four banks alone. Insurance is also a reasonably large component of the DAX representing around 10.4% as of the end of September this year.


The DAX is currently trading on a price to earnings ratio of around 14.9x on

this year’s earnings and around 12.9x next year’s earnings. The market is

forecasting earnings growth of around 15% which is not completely out of

the question but very dependent on how Europe overall performs. The

average price to earnings ratio over the past decade has been somewhere

around 15-16x with an extreme high of around 18x in mid-2008 and a low of

around 9.5x in late 2011.

Returns on equity for DAX constituents have been disappointing over the

past five years, barely rising above 10% which is really the key level many

fund managers look at when deciding if something is worthwhile investing in

or not. Perhaps the lower returns on equity are a function of record low

interest rates both in Europe and globally, there is scope for upside towards

15% which was the level experienced between 2005-2008.


2.1 Germany the growth engine of Europe

As we stated above, Germany is the world’s fourth largest economy with quarterly GDP growth of around 0.7% and inflation under control at 1.4%. There has been a rift between Germany and the rest of the Eurozone members in recent years around how to address the sovereign debt crisis, mainly because Germany is the largest contributor of capital towards the European Central Bank. Quarterly growth of around 0.7% is broadly in line with trend but it has been languishing between 0-0.5% for most of the past two years.

With the DAX trading close to its historical average price to earnings ratio, we think the real upside needs to come from persistent Germany quarterly GDP growth in the order of 1% for at least the next two to three quarters. It’s almost two and a half years since Germany booked a quarterly GDP print above 1%. The unemployment rate is sitting nicely at 6.8% which compares very favourably to the 9% plus levels running into the middle of 2007. With the election now out of the way and the incumbent returning with a solid


majority, the next six months are crucial in

1. The DAX achieving the 15% earnings growth estimates expected by the market and

2. The Germany economy resuming its economic growth trajectory.

Invast sees support on the chart for the DAX at 8452 through to the end of October, from 8629 as at the time of writing. If that level breaks, the index could slip back towards the 8109 where it should be met with solid support and trade on a price to earnings ratio of around 13.9. Even if earnings are to be revised down by 5% across the board, this level would still see the price to earnings ratio sit at 14.6x which is slightly below the recent historical average.

3.0 Introduction to Fibonacci Analysis

Fibonacci analysis is one of the more popular technical analysis methods amongst traders. Fibonacci analysis is unique as it is predominantly used to determine key levels that market participants deem to be important.


To understand why this is the case, we first need to look back on the history

of Fibonacci and its importance in our world, not being limited to the

financial markets.

Origins of Fibonacci Ratio

Leonardo Pisano Bigollo – later known as Leonardo Fibonacci, introduced the

western world to the hindu- arabicnumerals and with it the Fibonacci

sequence. Leonardo, contrary to most beliefs out there, did not invent

Fibonacci sequence. Indians in the 6th Century detailed the sequence and

interestingly, Egyptians and Ancient Greeks employed some of the Fibonacci

ratios in their architecture long before it was detailed in the 6th century.

Whether or not Ancient civilisations derived the ratio from the Fibonacci

sequence or from other sources remains a mystery, as there was no recorded

history of Fibonacci from such eras.


Fibonacci sequence is derived by adding a previous number to obtain the

next number. Resulting in a sequence of numbers like this:

0,1,1,2,3,5,8,13,21,34,55,89,144…

Out of this sequence, a ratio can be determined and these ratios form what is

called the ‘’golden rectangle”.


Connecting the corners of these rectangles results in the formation of a spiral, often called the “golden spiral” or the “perfect spiral”. These are found all around us in nature. Ferns, eggs, nautilus shell and even the shape of your ears are all formed according to these measurements. Leonardo Davinci’s“Vitruvian Man” is based on the “golden ratio”, and as weird as it may sound the ratio of a human’s fore arm is approximately the same ratio as the golden ratio.

Golden Ratio

So what is the golden ratio? The golden ratio is 61.8% or 0.618; and it is derived by dividing a number in the Fibonacci sequence with the number that comes after it in the sequence (the ratio becomes constant after the number 13). For example 13 divided by 21, 55 divided by 89 will give an approximate to 0.618 or 61.8%. There is also another ratio as important as the golden ratio; it’s 161.8% and is called the “golden ratio conjugate”. This ratio is derived by dividing a number in a sequence with the number that comes before it, such as 34 divided by 21 or 89 divided by 55.


Other Fibonacci Ratios

Apart from these golden ratios other sequences can also be derived by skipping numbers in the divisions.

•38.2% is derived by skipping one sequence in the division

•Example: 34/89 , 55/144 = 0.382 = 38.2%

•23.6% is derived by skipping two sequence in the division

•Example: 21/89, 34/144 = 0.236 = 23.6%

Or by multiplying and dividing the golden ratios themselves:

•Square root of 0.618 = 0.786 = 78.6%

•Square root of 1.618 = 1.272 = 127.2%

•0.618/1.168 = 0.382 = 38.2%

•0.618 X 0.618 = 0.382 = 38.2%

•1.618/0.618 = 2.618 = 261.8%

•1.618 x 1.618 = 2.618 = 261.8%


Uses in Technical Analysis

These Fibonacci sequences are used as a method to predict support and

resistance levels in the market. Considering that Fibonacci ratios are found in

nature and the physical world, it also seems to affect the psychology and

sentiment in the market. What is more interesting is how these ratios are

often lined up at key psychological levels or past support/resistance levels.

There are various ways to use Fibonacci as part of technical analysis, but in

this article I will go through 2 of the more commonly used Fibonacci analysis

methods:

• Fibonacci retracement

• Fibonacci extension


Fibonacci Retracement - Retracement is a common occurrence in the market

and typically happens following a rally or a drop in the market. Some traders

refer to the phenomena as consolidation, correction, pullback or simply

retracement. Fibonacci retracement is a method to predict how far the

pullback or consolidation in the market is going to be. Even though these

levels are used as an approximation, often it can be uncannily precise. This is

partly attributed to the notion of “self-fulfilling prophecy” in technical analysis

where there are a lot of traders focusing on the same level it becomes a real

support or resistance. This is how Fibonacci analysis works in a collective

conscious market.

A healthy retracement or a retracement that does not disrupt the momentum

of the prevailing trend, has to fall around 38.2%, 50% and 61.8% retracement

ratios; in a nutshell it is simply any retracement level between 0% - 100%.

Once the market has retraced to said ratios; the retracement is considered

complete and market participants looking to get into the market focus on

such completion. The illustration below explains how a market typically

moves, from point A to point D.


Figure 1 Normal Retracement Range


There are 2 ratios that are still considered within a Fibonacci retracement but

are not as well-known as the 3 above. These are the 23.6% and 78.6%

Fibonacci retracement.These ratios are used to measure momentum following

a correction in the market. A market that retraced to 78.6% often find it hard

to push itself to a new high/low(sometimes just barely), and likewise a 23.6%

correction implies a very strong momentum in the prevailing trend and a

higher probability of the market continuing to push harder.


Figure 2 Important Fibonacci Range


Note that 50% is not a Fibonacci sequence, but often used as a retracement level due to psychological reason. We can easily relate to equal division or a perfectly round number.

Fibonacci Extension

Fibonacci Extension is a method to project how far a rally or a drop can reach. In essence, attempting to pinpoint the moment a correction is likely to occur. As such Fibonacci extension is a powerful tool to project future resistances or supports in the market. Fibonacci retracement and Fibonacci extension comes hand in hand as these are simply Fibonacci retracement levels that go beyond 100%.

In the picture above the movement from B to C is a retracement while C to D is the extension following the correction in the market. 127.2% and the golden ratio conjugate 161.8% are the two commonly used extension levels. It is not very often that price move beyond 161.8%, but most traders would employ 200% and 261.8% as a precaution to such possibility.


Fibonacci retracements and extens ions are normally drawn from left to right.

There is an instance in Elliot Wave analysis where it is drawn from r ight to left

to project wave 3 and 5; but other than that, normal Fibonacci retracements

and extensions are dr awn from left to right from the latest swing high/low.


Figure 3, Example of how precise a Fibonacci extension can be, projecting support at

127.2% long before mark et gets there


Figure 4, Combination of Fibonacci Retrace ment and Extension as commonly used by

traders in the market


4.0 Invast Gold Seminar

The US fiscal situation remains a mess, Europe is in a tight spot and the

Japanese continue to inject huge amounts of cash into their economy. Traders

are all left asking, where the gold price will continue to trend? The yellow

metal has seen huge price volatility over the past twelve months , but has also

recently developed a solid bottom on the charts, prompting many to ask - is

now the time to buy?

Join Invast's analyst team Peter Esho and Vito Henjoto as they run through

their views on the gold market, both the fundamentals and technical outlook.

Invast will also be joined by special guest presenter Garry Lewis, Managing

Director of AS X listed Robust Resources (ROL) which specialises in previous

and base metals exploration and development. Lewis will provide his views

on the cur rent state of the mining industry, the challenges and opportunities

in bringing on more production into the market.


Jack Kouzi from Vertical Financi al Solutions will be chairing the event, putting you r questions to the expert panel. The event is due to take place on Friday October 25th from 12-2pm at In vast's brand new Sydney offices located on L37 Gateway Building Circular Quay. Seats are strictly limited, so to secure your place call 1800 468 278.

4.1 About our guest speaker

Invast will be joined by Robust Resources Managing Director Gary Lewis. Mr. Lewis is the founding director of Robust Resources and holds a Bachelor of Commerce and Masters of Business & Technology (MBT) from the University of NSW and is a member of the Australian Institute of Company Directors. He has more than 25 years experience in capital markets and business and strategy development in Australia and Asia, having worked in senior management positions in both private and public enterprises in industries as diverse as mining / exploration and pharmaceuticals. In addition to sitting on the Robust Board, Gary is also Chairman of Toronto Stock Exchange (TSX) - listed Reliance Resources Limited.


Robust Resources (ROL) is an interesting business in itself, based in Australia

but working hard at drilling its Indonesia prospect located on Romang Island.

Robust has two projects on the island, North Romang and Lakuwahi which

has a JORC mineral resource of 1.18 million ounces of gold equivalent. Robust

also recently completed the acquisition of Andash Mining which holds an

80% interest in the Andash Copper and Gold project in the Kyrgyz Republic.

The seminar will give Invast guests an opportunity to hear straight from a

respected industry CEO about the challenges and opportunities in developing

mines around the region. The seminar fits in well with our gold analysis

published in Invast Insights on 30 September.


4.2 Gold interview worth watching

We also recently came across a very interesting interview published on Kitco

News with Adrian Ash – head of research at a firm called Bullion Vault which is

part-owned by the World Gold Council and is the world's largest online

investment gold service. It manages $2 billion for more than 48,000 users. The

interview was held at the Precious Metals Conference in Rome this week and

Ash presents what we think is a very balanced argument around gold

sentiment at the moment. He discusses movements in speculative money that

was perhaps riding the gold price and the strong demand of physical demand

still in the market – basically reaffirming the view we recently published.

Watch the interview here: http://www.youtube.com/watch?v=eDLpCUgZbD0


Image: Kitco News speaks to bullionvault.com analyst Adrian Ash.

To watch more informative trading videos, visit our site.

http://www.invast.com.au/resources/video-centre.aspx




5.0 Disclaimer

Please note that you are receiving this report complimentary from Invast

Financial Services Pty Ltd (AFSL 438 283). Invast staff members may from time

to time purchase securities which are included in this or future reports. The

authors of this report may or may not be holding a position in the securities

mentioned. Please note that the information contained in this report and

Invast's website is of a general nature only, and does not take into account

your personal circumstances, financial situation or needs. You are strongly

recommended to seek professional advice before opening an account with us.

General Disclaimer: This newsletter contains confidential information and is

intended only for the person who downloaded it. You should not disseminate,

distribute or copy this newsletter. Invast does not accept liability for any

errors or omissions in the contents of this newsletter which arise as a result of

downloading this newsletter. This newsletter is provided for informational

purposes and should not be construed as a solicitation or offer to buy or sell


any financial product. Invast Financial Services Pty Ltd is regulated by ASIC (AFSL 438 283 | ABN 48 162 400 035).

Risk Warning: It's important for you to read and consider the relevant Product Disclosure Statement, and any other relevant Invast Financial Services Pty Ltd documents before you decide whether or not to acquire any financial products listed in this email. Our Financial Services Guide contains details of our fees and charges. All these documents are available here on our website, or you can call us on +612 8036 7555. CFDs and Foreign Exchange are leveraged products and carry a high level of risk and you can lose more than your initial deposit so you should ensure CFD and Foreign Exchange trading meets your personal circumstances.

General Advice Warning: Being general advice, this newsletter does not take account of your objectives, financial situation or needs. Before acting on this general advice you should therefore consider the appropriateness of the advice having regard to your situation. We recommend you obtain financial, legal and taxation advice before making any financial investment decision.

*Distributed with the permission of Invast.com.au

Invast's Review Of Exchange Traded Funds On The ASX

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Transcript of Invast's Review Of Exchange Traded Funds On The ASX