Whether it’s for passive income or capital appreciation, investors are turning increasingly towards exchange-traded funds (ETFs). In fact, demand for these financial instruments is rocketing right now.
During the three months to June, total assets under management (AUMs) in European ETFs soared past $2trn for the first time. According to Invesco, funds in the region raised $59bn in the second quarter, up a whopping 88% year on year.
ETFs can play an important role in an investor’s portfolio. Indeed, I own several in my own Self-Invested Personal Pension (SIPP). And I think now’s a great time to consider investing in one or two for a healthy passive income.
Attractive investments
These financial instruments carry several big advantages for investors. Firstly, they help investors manage risk by spreading their capital across dozens (or in some cases hundreds) of different asset classes. These can include stocks, bonds, commodities, or even other ETFs.
I can achieve this diversification much more cost effectively than they would by buying lots of separate individual assets. And because ETFs provide exposure to many different asset classes, sectors, and geographic regions, investors can effectively tailor their portfolios according to their objectives and risk tolerance.
On the downside, I may be able to make a greater return by buying individual stocks rather than a basket of assets. However, history shows us that funds still have the potential to deliver huge profits.
Let’s say I put £20,000 in a FTSE 250-tracking ETF back in 1992. Based on an average annual return of 11%, I’d have turned that into £664,940 today.
So which funds would I buy for passive income? Here are two of my favourites.
Euro star
The iShares Euro Dividend UCITS ETF (LSE:IDVY) — which has been going since 2005 — provides exposure to 30 of the highest-yielding companies in the eurozone.
Some of its largest holdings include ABN Amro, ING Groep and Bankinter. In fact, just over half (57%) of the fund’s invested in financial services stocks. As a consequence, it could provide disappointing returns during economic downturns.
Yet the fund’s exceptional value still makes it worth a close look. Its 12-month trailing dividend yield stands at an enormous 6%. It also trades on a price-to-earnings (P/E) ratio of 8.4 times, while its price-to-book (P/B) ratio is 0.9.
A reading below 1 indicates that the fund’s trading at a discount to the value of the assets in its portfolio.
Cool Britannia
It’s a bit of a mouthful. But the L&G Quality Equity Dividends ESG Exclusions UK UCITS ETF (LSE:LDUK) also looks like it could be a great source of dividend income.
With 100% of its money locked into British equities, the fund holds some of the FTSE 100 and FTSE 250’s biggest names including Lloyds, BAE Systems and Games Workshop. Today, its trailing dividend yield is 4.6%, more than a percentage point higher than the Footsie average.
Its portfolio currently holds 41 different shares, which — like the other fund I describe — provides decent diversification. And its ongoing annual charge of 0.25% is one of the lowest in the business.
The fund might be vulnerable to a UK-specific economic downturn. But, on balance, I think it could still prove a top fund to consider for investors seeking exposure to London stocks.
