What “The Graduate” teaches you about ETFs

Dustin Hoffman in The Graduate

The Graduate is a film based on the 1963 novella by Charles Webb. Benjamin Braddock (Dustin Hoffman, pictured) is a recent graduate who begins an affair with his older neighbour Mrs Robinson (Anne Bancroft). Meanwhile, Benjamin’s parents and Mrs Robinson’s husband encourage him to date Mrs Robinson’s daughter Elaine (Katharine Ross). Although things initially go well, Benjamin is forced to tell Elaine the truth about his affair with her mother. Elaine seems willing to give the relationship another go but the Robinsons try to blackmail him into abandoning their daughter while trying to get her married off.

The key moment

Near the start of the film, Benjamin’s parents throw a party, attended by friends and neighbours, to celebrate their son’s graduation from a respected liberal-arts college. The partygoers congratulate an increasingly uncomfortable Benjamin, and try to give him advice about what to do next. One guest approaches Benjamin and says, “I want to say one word to you. Just one word… Plastics”. He adds “There’s a great future in plastics. Think about it. Will you think about it?”

Lessons for investors

Many investors would like to place a bet on a particular sector or industry (such as plastics). Until fairly recently, the only way to do this would be to buy individual shares in the industry or find a fund with large exposure to this area. Both options involved a lot of research (and high transaction costs). However, in the past two decades exchange-traded funds (ETFs) have emerged as a third option. ETFs are specialised funds tracking an index that in turn covers a market, a segment of a market, or a particular sector. ETFs are traded on the stockmarket just like shares. In this sense they resemble investment trusts (or closed-end funds) in the US.

Other financial wisdom

Just because an ETF’s title says that it covers a particular sector or market, it doesn’t necessarily follow that its portfolio will actually do what it says on the tin. This is especially important to keep in mind when it comes to ETFs focusing on a specific sector. For example, an ETF might claim to be following energy companies, but may only hold shares in utilities or gas firms, even though you may want to invest in new clean energy technologies.