ETFs vs Shares vs Unlisted Funds: Which is Right for You?

Growing your wealth isn’t about picking the best investment - it’s about choosing an investment that’s right for you.

Three common options investors consider are

• Exchange-traded funds (ETFs)

• Individual shares

• Unlisted funds

All of which are available via the Kernel platform. These can all be great investments in their own way, but which one is right for you?

Direct ownership of a single company listed on a stock exchange, e.g, the New York Stock Exchange (NYSE).

• Allows you to buy into a single company in a given industry or market

• Potential for high returns (if you choose well)

• It can include dividends, profit paid by the business that you can keep or reinvest

• No fund management fees

• Trading costs for buying and for selling, including brokerage, foreign exchange, and platform fees

• Not as diversified. All your eggs could be in one basket

• Potential for significant losses (if you choose poorly)

• Requires time & effort to research and analyse individual companies

• Tax compliance can be complex and administratively burdensome, especially for overseas shares, due to New Zealand's Foreign Investment Fund (FIF) rules

Individual shares can be a great investment, and if you choose well, you may achieve returns that outperform the market.

That said, they can also be very volatile, meaning they can go up and down in value rapidly.

Equally, outperforming the market over the long term is difficult, and when compared to an appropriate benchmark, most investors do badly.

If you’re only buying individual shares, you’re also not automatically diversified - if too much of your portfolio is made up of shares in one company, you may be vulnerable to events that affect that company’s performance, its sector and/or its home country.

One way to limit your exposure to this volatility is to diversify and make individual shares just a part of your portfolio.

Following the core-satellite investing strategy is one such option, as this limits your exposure to shares to 10-20% of your portfolio. This tilts your overall performance toward the success of those companies, without losing the benefits of diversification.

Kernel’s platform also offers a solution to these limitations. Kernel Shares & ETFs are designed for long-term investing, and a longer investment horizon can help smooth out short-term volatility and “noise”.

Like all other Kernel products, Shares & ETFs features some of the lowest fees on the market. For more details, you can see our fee calculator.

Kernel’s platform features over 500 companies to choose from, so that you can diversify your portfolio and build your core-satellite investment portfolio with just a few clicks.

Funds that are listed and traded on a stock exchange, typically tracking an index or a specific sector, but can also be actively managed. ETFs allow investors to buy a basket of assets (like shares or bonds) in a single transaction, and they can be bought or sold while the share market is open from other holders.

• Instant diversification, similar to unlisted funds

• Greater access to individual countries, themes and sectors (eg, India, Water, or Technology)

• Flexibility of trading, you can buy and sell while the markets are open at a price you choose.

• Trading costs for buying and for selling, including brokerage, foreign exchange, and platform fees.

• The range of options can be daunting for those new to investing

• Potential for over-diversification, as some investors may hold too many overlapping ETFs

• Tax compliance can be complex and administratively burdensome, especially for overseas shares, due to New Zealand's Foreign Investment Fund (FIF) rules.

ETFs are often confused with index funds, but they’re not the same thing.

While most ETFs do track an index, many can also be actively managed. The key difference is that you can buy ETFs on the share market (hence, exchange-traded) as against transacting directly with the fund manager. There are a few benefits to this, but also a few drawbacks.

One benefit is that there are typically a huge choice of ETFs. With these, you can gain exposure to almost any market or sector - whether it’s China or healthcare.

Another benefit is that ETFs do generally track an index, which means they’re typically low-cost and offer instant diversification (since they include a selection of different shares).

The main drawback is that ETFs may not be as cost effective as unlisted funds, because investors usually need to pay brokerage and foreign exchange fees.

Kernel Shares & ETFs minimises these drawbacks by offering some of the lowest fees in New Zealand.

Investment funds that are not traded on a public exchange. These are typically referred to as managed funds and are offered directly by fund managers (like Kernel). Investors buy or sell units in the fund at the fund’s net asset value (NAV), usually processed once per day at the end of the day.

• Can be one of the lowest-cost investments available

• Designed to be tax-efficient for most NZ investors

• Instant diversification

• Tax is handled by the fund manager and automatically reported and paid to Inland Revenue

• May not offer as many choices as ETFs

• Orders are not processed instantly but batched and accepted at a published cutoff (for Kernel just after 12 pm business days); then an investor receives the end of day valuation of the fund when buying or selling. This can often be to the benefit of the investor, depending on the unknown future direction of the relevant markets. However, some people may find that it feels ‘slower’ compared to Shares & ETFs.

Unlisted funds via Kernel offer some of the lowest fees in the NZ market. Similar to ETFs, if you buy an unlisted index or managed fund, it’ll be instantly diversified as it holds a selection of up to 1000+ companies.

Last, but not least, these funds may be one of the most tax-efficient options for many Kiwi investors with a maximum tax rate of 28%.

That’s why, for the vast majority of investors, unlisted index and managed funds are a great option for the core portion of your investment.

View Kernel’s unlisted index and managed funds.

Tax can make a real difference to your investment returns, especially if you’re investing in US shares or ETFs. Here’s what you generally need to know about how different types of investments are taxed in New Zealand:

If you invest in overseas shares or ETFs (like those listed in the US), New Zealand’s Foreign Investment Fund (FIF) rules may apply. The way you’re taxed depends on the total amount of New Zealand dollars you actually invested to buy all your overseas shares and ETFs (not what they’re worth now):

• If the total amount you invested to buy all your overseas shares and ETFs is $50,000 or less: You’re exempt from the FIF rules. This means you only pay tax on any dividends you actually receive from these investments, at your normal income tax rate (RWT) up to 39%. You don’t need to calculate or pay tax on any unrealised gains or realised gains when selling, as New Zealand has no Capital Gains Tax.

• If the total amount you spent to buy all your overseas shares and ETFs is over $50,000: The FIF rules apply and Tax is paid at your normal income tax rate (RWT) up to 39%.

• Most investors will use the “Fair Dividend Rate” (FDR) method, which means you’re taxed on 5% of the value of your overseas shares and ETFs, regardless of how much income they actually produced. This can mean paying tax even if your investments didn’t go up in value or pay much income. In low performance (<5%) or negative years, an investor (or their accountant) can go to the effort of filing under the CV method to try to reduce this tax amount, but that will take time and/or cost.

Most unlisted funds offered by NZ providers (like Kernel) are also structured as Portfolio Investment Entities (PIEs). This means that:

• It must apply the FIF regime regardless of your personal $50,000 threshold.

• You’re taxed at your Prescribed Investor Rate (PIR) at a maximum of 28%

• The fund takes care of the tax for you

• This structure is generally the most tax-efficient for most Kiwi investors, especially for those with personal income over $53,500 p.a. from where the 28% PIR starts.

Unlisted funds, ETFs, and shares all have their benefits and drawbacks as investment options, but which is right for you?

Possibly all three! Every one of these can be a part of a diversified portfolio.

The key to getting the mix right is following a well-thought-out investment strategy (such as core-satellite) and thinking about your investment horizon.

The longer you have to invest, the more risk of fluctuation you may be able to afford to take. If you’ve only got a few years until you need to spend this money, you may want to shy away from volatile investments like shares, in case of ending up with less than you need. Instead, consider sticking to more stable investments like Cash Funds or savings accounts.

Read more about investment horizons.

If you’re keen to build a diversified portfolio including ETFs and shares, Kernel is a great place to start. You can buy, monitor and sell unlisted funds, ETFs and shares, all in the same intuitive platform.

Disclosure: Past performance does not indicate future returns. The example provided is hypothetical and for illustrative purposes only. This article is not intended to be taken as personalised financial advice.

The investment strategy and allocations described are based on general principles and may not be suitable for every individual. Readers who are unsure may wish to consult with a licensed financial advisor to determine the best investment strategy for their specific circumstances.