Future Focus: The hidden bets you’re making as a passive ETF investor
You may think you’re a passive investor - but you’re not.
The investment industry loves labels. Passive investor. Active investor. Growth investor. Income investor. They encourage you to prescribe to a church as they self-interestedly advocate a single strategy as the one true path.
If I were forced to choose a camp, I would reluctantly choose the passive investing camp. I do not invest in direct equities, and instead mostly favour broad market index ETFs. This is the same strategy as many investors who are not hobbyists and see investing as a compulsory exercise to build and maintain wealth.
The issue with investing in broad market index products is that you are anything but a passive investor. Owning the market does not mean that you own everything equally. When you look closely, many of the most popular ETFs in Australia embed a set of structural bets that can materially shape outcomes over time.
Don’t get me wrong, there’s no active manager sitting there and making these decisions. It is not the result of poor product design. It is simply a consequence of how indices are built.
As investors, it is our job to understand these hidden bets and the way that it influences the behaviour of our investments, ourselves and our outcomes.
Bet 1: Bigger companies are a larger part of your portfolio
Most core equity ETFs are market-capitalisation weighted. This means that the larger a company’s market value, the larger its weight in the index.
For example, the S&P 500 ETF (IVV) that tracks the top 500 companies in the US has 34% of assets in the top 10 holdings.
You’re also getting similar exposure if you invest in a global passive ETF, like the Betashares Global Shares ETF BGBL. 29% of assets are in the top 10 holdings, and 72.97% of the ETF’s assets are in one country – the United States. The largest US technology companies now account for a historically high share of global equity indices. Technology companies dominate BGBL, making up 30.07% of the assets. If Apple, Microsoft, Nvidia, Alphabet and Amazon perform well, your portfolio benefits disproportionately. If they struggle, the concentration will offer less protection than what many investors expect.
iShares S&P 500 ETF IVV holdings at December 17, 2025 vs. Betashares Global Shares ETF BGBL holdings at October 31, 2025.
The picture doesn’t look better when we look at the ASX 200, with 44% of assets in the top 10 holdings, with a particularly large concentration in the top 2 holdings. Further, Australia’s top 200 stocks are largely concentrated in two industries – Financial Services (32.37%) and Basic Materials (21.73%) (at November 30th 2025).
Vanguard Australian Shares ETF VAS holdings at November 30, 2025.
Although investing in an ETF that tracks a broad market index sounds like a neutral, sensible decision, it means that your portfolio is constantly allocating more capital to what has already appreciated, and less to what has fallen behind.
This isn’t a flaw – it is how the indexes are designed. Market capitalisation weighting assumes that price is the best signal of value and future return – this is the bet that you are making as an investor. You are betting that today’s winners will continue winning.
What’s the alternative? If you believe that this concentration risk does not align with the goals of your portfolio, you have the choice of equal-weighted ETFs. These ETFs splits funds equally between the holdings. One example is the VanEck Australian Equal Weight ETF MVW. Instead of 44% of assets in the top 10 holdings, it is 14%. The exposure to each sector is tempered compared to the market capitalisation based index (below).
Bet 2: Growth dominated portfolio
Many investors like to consider themselves growth investors. Some think being a value investor is a better sounding moniker. These labels refer to the characteristics of the investments that they are looking at.
If you are investing in ETFs that follow market capitalisation weighted indexes, particularly for the US market, these investments tend to tilt towards growth stocks during long bull markets. This is the environment that we have been in.
Many investors believe they are neutral between these two investment styles because they don’t hold a dedicated growth or value fund. However, neutrality isn’t the absence of a label, it’s the result of underlying exposure.
If growth stocks fall out of favour, the experience of holding a building block ETF may be very different from what we have become accustomed to.
Bet 3: Home bias
Most investors, including those outside of Australia, have home bias. Australian investors overwhelmingly favour Australian equities in their core holdings. There are several reasons for this including franking credits (My colleague Mark has written here about exactly how much), familiarity with local companies, and ease of access. However, it is worth noting that the Australian market represents only about 2% of the global equity market value. This 2% is concentrated heavily in two sectors. When you invest in passive ETFs or funds, you’re betting on two main scenarios to come to fruition.
- The continued profitability and growth of the Australian banks
- Future sustained demand for commodities
These two factors will heavily impact the performance of your portfolio. A portfolio that feels diversified because it holds ‘the whole Australian market’ may actually be more exposed to a narrower set of outcomes than realised.
Bet 4: The index provider decides what the market is, and how you invest in it
Indices are constructed by companies - including Morningstar. Decisions about which companies are included, what would cause a company to be added or removed, and how often rebalancing occurs will shape your investment outcomes.
Take for example a broad global market index. Some companies may be excluded and others may be included based on the location of their listing instead of where it makes the bulk of its revenue.
This is why it is extremely important to pay attention to the index methodology. iShares owner BlackRock changed the index that several of their ETFs tracked in 2022. One of their most popular ETFs iShares Core MSC World Ex AUS ETF (ASX:IWLD) turned into iShares Core MSC World Ex AUS ESG ETF IWLD. They put an ESG tilt on this ETF with global exposure.
As an investor, this is an alarming decision. Previous investors weren’t given a choice about whether they wanted to track an ESG index. Regardless, this global index made a purposeful decision to exclude and include companies based on ESG factors. This may be what you’re looking for, but it’s important to understand what the mandate of your potential investment is.
Checking the underlying holdings against the methodology is a mandatory step for ETF investors.
Why these big bets matter
Investing in market capitalisation weighted indices have worked out for the most part for investors over the past decade. Large companies have outperformed smaller companies. Growth has outshone value. US equities have done better than the majority of global markets.
This has reinforced the idea that passive investing is foolproof. Throw your money at the market and watch it grow.
The risk is not that the largest companies will go bankrupt and you lose all your money. The risk is that you don’t have a proper understanding of what you’re investing in and assume your Midas touch will persist indefinitely.
A change in markets is bound to happen, and investors should understand their exposure to mentally prepare for volatility and understand why a portfolio will perform in a certain way under different market conditions.
What can you do?
The solution is never to make rash changes to your portfolio. I’ve written about the risks of investing one ETF at a time. Instead:
- Look under the hood: Spend time understanding what you are invested in and how your investments connect to your financial goals. Understand the exposure that you have to sectors, regions and styles. They may be boring, but a Product Disclosure Statement (PDS) is your best friend.
- Be intentional about tilts: Core/Satellite is a popular strategy, but a lot of investors just end up doubling down on the same exposure as their core holdings.
- Diversify across exposure, not products: Holding 5 ETFs doesn’t mean you’re diversified if they all hold the same exposures.
- Accept that your portfolio expresses a view: No portfolio is neutral, even if you build it entirely from passive funds. Understand why you’re designed your portfolio in the way you have.
Final thoughts
Core ETFs are a powerful tool to build your portfolio. They’re transparent, low-cost and accessible.
However, passive investments still require active decisions. Understand what you are invested in and why. You’ll make more informed decisions and understand why your portfolio behaves the way it does through the market cycle.
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