ETF vs LIC – Stay on target

There’s a reason the company Vanguard is called vanguard.

A vanguard is something that leads the way, but, like everything cutting edge eventually it dulls and potentially could be replaced.

This is especially true in the investing world where everyone is always looking for the highest return on their money for the lowest amount of risk.

A while ago there were discussions among the Australian FIRE community comparing Listed Investment Companies (LIC’s) and Exchange Traded Funds (ETF’s). Perhaps the current investment world’s darling child, ETF’s, are not as great as they are cracked up to be. Perhaps LIC’s are actually where you should be putting your hard earned?

The figures all seemed to add up and other prominent Australian FIRE bloggers were jumping on the band wagon.

Except I didn’t.

I did a comparison for myself and thought perhaps I had missed something and this was a better investment path.

Ultimately I ignored the noise but I certainly can not take any credit for it. It was out of sheer laziness and stubbornness that I refused to alter my course. To be clear, it was not prescient investment insight on my behalf.

The supposed benefits of these LIC’s simply didn’t attract me enough that I was going to give up on years of my own research, deliberations and inertia. This may seem like the opposite of the paragraph above but based on the information being presented at this time LIC’s really did seem like a more compelling investment. It was where the smart money was headed and I was losing out by not joining them.

Then I recently read this blog post by The FI Explorer who expertly dissects some of the prominent disadvantages a LIC has compared to an ETF.

If I could distill the thing that made the whole thing ‘click’ for me in my head from that post it would be this:

You have to purchase the LIC at a discount or equal to the cost of the underlying assets every time.

For years, every single time you purchase your chosen LIC if it is not at a discount or equal to the cost of the underlying assets you are losing return.

Now I don’t know about you but I can’t guarantee that I will be able to accomplish that feat.

An ETF that tracks an index never attempts to deviate from the underlying assets, its sole purpose is to replicate them as close as possible and for decades they have been shown to be pretty good at it.

There are of course a fair few other reasons in FI Explorer’s post about why LIC’s don’t have as great an advantage as they were once touted but this is certainly one that stuck in my mind and will be wheeled out when I have discussions about it in future with people who try to sell LIC’s to me.

The whole LIC vs ETF debate has diminished quite a lot, I am about a year late to the party on the whole deal. For those not keeping track, ETF’s won (in my book at least!).

This is a timely reminder though that we should always be open to a different way of investing and then crunch the numbers to see if it stacks up. LIC’s remain a good way to invest your money and you probably won’t end up poor by investing in them over the long term but my view now is that they are only better than ETF’s in specific circumstances where the tax benefits or timing (like they are at a significant discount) make it worthwhile.

And yes while it is true that some LIC’s have outperformed the index it is also true that many actively managed funds have too. Can you pick the outperforming LIC’s for the next 10 years though? I sure can’t.

For the most passive and no-thought investment, ETF’s are still number one in my books.

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