Exchange traded funds can offer lower-risk, steady returns, and low management fees. But you need to choose wisely, and focus on the best conservative ETFs

We still feel that investors will profit the most with a well-balanced portfolio of high-quality individual stocks, but ETFs can also play a role in a portfolio. Here are some tips on how to find the best conservative ETFs.

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First, a look at what makes a conservative investor…

A conservative investor is typically someone who builds a stock portfolio with the goal of achieving steady returns, including dividends, while maintaining a lower level of risk.

Conservative investors are persistently curious. They recognize that most investment professionals know more about investing than they do, because they devote their lives to it. But they also know you can get more knowledge than most investors if you simply read widely and ask lots of questions.

Conservative investors also recognize that some of your most promising investments will disappoint you, since no one can predict the future. That makes diversification a key part of conservative investing.

Characteristics of the best conservative ETFs

The best conservative ETFs represent a low-cost, tax-efficient way for investors to make money over the long term. They offer well-diversified portfolios with exceptionally low management fees.

However, we think you should stick with “traditional” ETFs. Traditional ETFs follow the lead of whoever sponsors the index, although the sponsors do from time to time change the stocks that make up the index. They also can tinker with the rules for calculating the index. ETFs change their portfolio holdings to reflect these changes, without considering the impact those changes may have on the performance of the ETF portfolio.

However, when an investment product faces booming demand as ETFs do today, investment companies try to expand sales by creating “new” versions of the underlying formula.

These “new” ETFs use a conventional stock-market index as a base, but add their own refinements. These refinements are tailored to current investor preferences or prejudices. That’s distinctly different from traditional ETFs, which, as mentioned, simply aim to mimic an index. These newer, theme varieties may attract attention—and sales—but they frequently carry higher management expense ratios (MERs).

In some cases, new ETFs may provide investment benefits but not consistently. In fact, they may hurt results in the long run. The worst cases are bad enough to turn investor profits into losses. One sure result is that the higher MERs will cut into the value of your ETF portfolio every year.

Another drawback with many new ETFs is how much easier they make it for investors to act on an urge to invest in a specific stock or stock group…without doing any messy and time-consuming research. If you want to invest in cryptocurrencies or gold stocks or Swedish stocks or wind power stocks, or any of hundreds of other stock groups, you can almost certainly find an ETF that will let you act on that urge. However, that may not produce the best results.

Keep long-term conservative investing goals in view

In our view, your goal as an investor, particularly if you follow a conservative investing strategy like the one we recommend, is to make an attractive return on your investments over a period of years or decades. Failure means making bad investments that leave you with meagre profits or even with losses.

Unsuccessful investors can still make some profits. They just don’t make enough to offset the inevitable losses and leave themselves with an attractive return. If you focus on the idea that you will never go broke taking a profit, you may be tempted to sell your best investments whenever it seems the investment outlook is clouding over.

Why we recommend the Successful Investor approach for investing in the best conservative ETFs, or any investments for that matter

First, invest mainly in ETFs that hold mostly well-established companies. When the market goes into a lengthy downturn, these stocks generally keep paying their dividends, and they are among the first to recover when conditions improve.

Second, avoid or downplay ETFs that follow themes in the broker/media limelight. That limelight tends to raise investor expectations to excessive levels. When companies fail to live up to expectations, these stocks and the ETFs that hold them can plunge. Remember, when expectations are excessive, occasional failure to live up to them is virtually guaranteed in the long term if not in the shorter haul.

Third, focus on traditional ETFs that have stocks with assets spread across most if not all of the five main economic sectors (Manufacturing & Industry; Resources & Commodities; Consumer; Finance; and Utilities). This helps you avoid excess exposure to any one segment of the market that is headed for trouble. This will also dampen your portfolio’s volatility in the long term.

By following our conservative philosophy, you can attain what we’d call the best of all possible investment worlds: a heads-you-win, tails-you-break-even situation. When times are good, it can be extraordinarily profitable. But during the inevitable market downturns, it cuts your losses and leaves you well positioned to profit again in the inevitable recovery.

What has your experience with new ETFs been like? Have they brought more risk to your portfolio?

What is your opinion on conservative ETFs? Are they outdated or do you think they deserve more attention?