How to Invest in the S&P 500 from Malaysia?

The S&P 500 is the go-to stock market index for many analysts and investors: it captures the performance of the 500 leading U.S.-based corporations, and during the past 10 years, has returned an average of 14% per year (including dividends). Although year-to-date, as of June 2022, it’s down around 14%. In the U.S. there are also many low-cost exchange traded funds, with expense ratios of around 0.03% per year (under the iShares, Vanguard and SPDR brands).

So for many Malaysian investors, it makes sense to park some of their hard-earned cash in a low-cost S&P 500 index fund, not least to hedge against the ever-depreciating Ringgit.

But, how do you do it?

Buying an Index Fund

The simple answer is: “buy a cheap S&P 500 index fund!”, but the problem is that none are listed on Bursa Malaysia right now.

Fortunately, in Singapore there is the SPDRยฎ S&P 500 ETF Trust (S27) and Hong Kong has the Xtrackers MSCI USA Swap UCITS ETF 1C (3020). While the Hong Kong-fund doesn’t track the S&P 500 index, the MSCI USA index which it does track, basically covers the same stocks, and has almost identical performance.

Obviously, you could also buy a low-cost fund directly in the U.S.

So which is the best option?

At first instance, you may want to opt for a U.S.-based fund, as their expense ratios are just 0.03%. After all, the less you spend, the more you keep. If trading in the U.S. is not really an option, the expense ratio of SPDRยฎ S&P 500 ETF Trust (S27) trading in Singapore is 0.09%, while the Xtrackers MSCI USA Swap UCITS ETF 1C (3020) trading in Hong Kong is 0.15%. That may still seem inexpensive, but it is three to five times more than the U.S.-based funds.

So is it a no brainer to buy the U.S. index funds, or the Singapore-traded funds as a second-best?

Beware U.S. Withholding Tax

While the cost of U.S. funds is lower, fund expense ratios are not the only cost to consider. As a Malaysian tax resident, you also pay a whopping 30% U.S. withholding tax on the dividends you receive from the fund. Is that a lot? Well, it kind of is.

Calculating in June 2022, the Vanguard S&P 500 ETF (VOO) paid out $5.5479 of dividend per share during the past year. With a market price of $382.17 that is equivalent to 1.45%. However of that 1.45% you, as a Malaysian tax resident, only receive 1.02%, as the balance is kept by the U.S. government as a withholding tax. So suddenly your cheap 0.03% expense ratio fund slaps on a tax bill equivalent to around 0.44% (rounding), and so it really costs you 0.47% to hold that fund! Ouch!

Malaysians aren’t the only ones facing a high U.S. withholding tax. Although some countries have a tax treaty that lowers the withholding tax to 15%, Singapore and Hong Kong for example, also fall under the full 30%-rate.

Enter Luxembourg and the boys and girls from Deutsche Bank.

The Xtrackers MSCI USA Swap UCITS ETF 1C (3020) fund is a strange creature. Aside from being run by Germans in a small European tax haven and listed in a Chinese City (Hong Kong), it is based on derivatives on the MSCI USA index. Basically the Germans buy a swap from some investment bank, which gives them an identical return to the index, but they do not own any of the shares. Get it? It may sound radical, but the fund itself is more than 10 years old, so it seems to work OK.

Now, what does this mean? Well, since the fund owns derivatives and no shares, it also doesn’t get taxed on the dividends by the U.S. government. So there is no 30% withholding tax!

Is this cheating? I suppose it is, but it’s all perfectly legal. It is finance after all. So we call it “being smart”.

So whereas your U.S. based fund effectively costs you 0.47% (including withholding tax), the Luxembourg-based fund traded in Hong Kong costs you 0.15%, or three times less.

Now you have all the information: the choice is yours.

Disclaimer: I am not a financial or tax advisor so you should not make financial or tax decisions based on what I write. Data was obtained from the FSM One Malaysia website. This is not an endorsement of their service nor of any of the funds mentioned.