Buying a low-cost index tracker fund is a great way for beginners to start investing. Indeed, buying a tracker fund for an index such as the FTSE 100gives you a ready-made, well-diversified portfolio at a low cost and minimal effort. Whats more, buying a trackerfund eliminates the need to spend hours researching active fund managers.
Still, one of the biggest problems with the FTSE 100 is the fact that its not reflective of UK economic strength. More than three-quarters of the indexs profits come from outside of the UK.
In comparison, the FTSE 250 is an index consisting of the 101st to the 350th largest companies listed on the London Stock Exchange and, as a barometer of UK economic performance, is more accurate than the FTSE 100.
Moreover, almost all of the FTSE 100s largest constituents, the likes ofHSBC,Shell,BP,BHP BillitonandRio Tinto, are highly exposed to the global economy. Based on my figures, according to index weightings, around a fifth of the FTSE 100 is exposed to the mining, oil and banking sectors.
So, if China and other emerging markets are really about to enter a recession,the FTSE 100 will suffer.
While around 20% of the FTSE 100 is weighted towards the banking, mining and oil sectors, according to current weightings, just 2.6% of the FTSE 250 isexposed to mining andhydrocarbon production.The biggest sector weighting is investment instruments.
Overall, the FTSE 250 is more of a defensive play compared to the FTSE 100, which has a cyclical slant.
And all you need to do is study the performance of the two indexes over the past three months to see that the FTSE 250 is a more defensive play than its larger peer.
Indeed, over the past three months the FTSE 250 has fallen 7.6%, which disappointing but better than the FTSE 100. Since the beginning of June, the FTSE 100 has clocked up a double-digit decline of 12.9%. Furthermore, over the past 12 months the FTSE 250 has outperformed the UKs leading index by an eye-catching 17.2% thats the kind of performance that can make or break a portfolios long-term returns.
Income seekers may prefer the FTSE 100, as it currently supports an average dividend yield of 3.9%. The FTSE 250s average yield currently stands at 2.5%, which isnt overly impressive. Nevertheless, the HSBC FTSE 250 Index tracker, widely considered to be one of the best FTSE 250 trackers out there, currently yields 2.7% and charges a management fee of 0.17% per annum.
Furthermore, during the past ten years the FTSE 250s capital growth has more than made up for the indexs lack of income. Specifically, since 2005 the FTSE 250 has produced an annualised return of 10.2% for investors. Over the same period, the FTSE 100 has risen by 5.1% per annum.
Thanks to the magic of compounding, the FTSE 250s outperformance of 5.1% per annum has added up over time. On a cumulative basis, the FTSE 250 has returned 184% since 2005. The FTSE 100 has only returned a dismal 63.7%.
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