Investing can be scary stuff. I remember when I first decided to get into the world of investing and get my feet wet, I didn’t exactly know what to do. I mean, there are tonnes of stocks out there. I’m not an expert in this field, neither do I have time learn about all these! How can I be expected to do what the professionals do for a living?

At first glance, Index Investing seemed like the magic pill that I was looking for. Ah! Finally we have something that is simple, and guaranteed to work.

I believe the magic words used were “instant diversification”. A single purchase and I get 30 stocks at one go? Yippee!

The most efficient way to diversify a stock portfolio is with a low-fee index fund. Statistically, a broadly based stock index fund will outperform most actively managed equity portfolios.
Paul Sameulson, Nobel Laureate

As I dug further beneath the surface, I began to uncover more information that the average investors might miss out on. Now, don’t get me wrong. Index Investing is an efficient way to diversify a stock portfolio. All I’m saying is that it might not be as ideal as you think it is.

Weightage of 30 STI Component Stocks

I’m here in sunny Singapore, so let’s assume that we invested into Straits Times Index (STI) Exchange Traded Fund (ETF) via Nikko AM STI ETF. In case you’re interested, I’m holding on to 1,200 units of Nikko AM STI ETF (G3B) as of this blog post.

If you go to the Nikko AM official website and look at the factsheet, you can easily see the components of the full holdings.

Let’s take a look at the top five –

  1. DBS Group Holdings Ltd 10.5%
  2. Oversea-Chinese Banking Corp 10.5%
  3. Singapore Telecom 10.2%
  4. United Overseas Bank Ltd 9.1%
  5. Jardine Matheson Hldgs Ltd 6.0%

And also the bottom five –

  1. Golden Agri-Resources Ltd 1.3%
  2. Capitamalls Asia Ltd 1.0%
  3. Starhub Ltd 0.9%
  4. Olam Intl 0.8%
  5. SIA Engineering Co 0.4%

Oops, looks like we’re severely overweight on the financials, in particular the banking sector with DBS, OCBC and UOB taking three of the top five spots. The top five shares alone already make up 46% of the index. What’s SIA Engineering (0.4%) compared to the DBS juggernaut (10.5%) when prices start to fluctuate?

With STI ETF, what we do get is a decent mix of various sectors such as Banking (30%), Real Estate (13%), Engg & Construction (4%), Agriculture (4%) and Telecommunications (11%) etc.

Index Investing with 30 Unrelated Companies?

STI ETFs invests in 30 separate companies that are the component stocks of Straits Times Index. As Ser Jing Chong from The Motley Fool (SG) discusses in this article, by no means are the companies totally unrelated.

Companies that are linked include

  1. Jardine Matheson Holdings, Jardine Strategic Holdings, Jardine Cycle & Carriage and Hongkong Land Holdings
  2. CapitaLand, CapitaMalls Asia and CapitaMall Trust
  3. SembCorp Industries and Sembcorp Marine.
  4. SIA Engineering and Singapore Airlines

Geographical Diversification

Investing in Straits Times Index grants exposure to the Singapore stock market only.

For true global diversification, consider a low cost (0.19% expense ratio) index fund such as Vanguard Total World Stock Fund with a whopping 5,129 holdings spread across Emerging Markets, Europe, Pacific, Middle East and North America regions.

Like what we have mentioned in the previous section, it is susceptible to the same problem. The top ten holdings (out of 5,129) alone constitute 7.3% of the total net assets.

Make a quick guess for the largest holding? Apple.

Make no mistake, Index Investing indeed offers a quick and easy way to “instant diversification”. The important thing to take note of is what it really entails. While Index Investing may not be the magic pill to all my investing troubles, I’m quite sure it is an excellent start.

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