International Equity ETFs

Your diversified ETF portfolio should include at least Canadian, US and International equities and a mix of corporate and government bonds (I also argue that it should be further diversified, with some exposure to REITs and perhaps other investment classes - read details here). As part of the series on how to build up a basic well diversified portfolio, we now look at international ETFs available on the TSX.

Global vs International

When I started out investing, I was confused by some funds calling themselves global and others international, since in everyday use those words mean the same thing.  Investopedia differentiate global and international as investing terms. Essentially global includes all countries, while international funds exclude your own country. However, the situation is confused when the perspective is from Canada, and international funds generally mean funds outside North America.  Confused?  We agree it is confusing!  We are going to lump both global and international funds in this posting.

Narrow the Choices

As we have done in the other categories (see Canadian equities, US equities, broad Canadian bonds), we have narrowed the choices, showing some broadly held good international or global ETFs available on the Canadian market below. In narrowing our choices we looked for widely held, low cost, broadly international products.

While costs in this category are reasonable, and going lower, they are certainly not as low as in the Canadian or US equity ETFs. If you hold $10,000 in funds in one of these ETFs your annual ETF fees, not counting any purchase or sale commissions, will be about $22. Considering the number of different markets these products operate in, this seems like a good deal to me. If you went to a similar international mutual fund your costs would typically be 5 to 10 times higher.

It is important to consider the assets in the fund, since funds with relatively small investments usually involve more in trading costs and the difference between bid and ask price will be more significant. Under the assets column we show in millions of dollars the amount invested in each ETF. All of these ETFs are relatively large and heavily traded, so trading margins are not major issues in this category.

It used to be true that ETFs of this type represented only large and mid capacity stocks, but now the four listed here all have broad exposure across different cap sizes.

There are two approaches to building up internationally diversified ETFs, one can either invest directly in a large basket of securities, or one can assemble a 'fund of funds' that holds different ETFs that in total represent a broad international index. The FoF column shows that for each ETF. If costs are comparable, there is perhaps an argument in favour of the fund of fund approach, since it makes the relative weights more obvious. With a 'fund of funds' I have showed the number of underlying holdings in brackets.

It is also important to realize that iShares and Vanguard follow different international indexes – I explain this here.

The main other differentiators between ETFs in the table are whether the fund includes Canadian, US and emerging markets. More on this below.

What is In?

Key questions to ask yourself is whether you want emerging markets within your global/international ETF, and whether you want US  and Canadian equities within the fund, or prefer to hold those within separate ETFs.  In the table the columns c US and c CAN show whether US or Canadian equities are included.  I personally prefer holding US equities outside the world ETF, because the MER ratio on Canadian or US only equities are less than these global ETFs, but work out the costs of each approach for your own situation.

Another differentiator is whether the fund includes emerging market equity exposure, and that is indicated in the c Em column.

The most similar of the ETFs shown are iShares XAW and Vanguard Canada's VXC.  Both include equities from companies of different sizes, emerging and developed markets, and US (but not Canadian) equities.  Either of these, when coupled with a Canadian equity ETF such as XIC or HXT, provides world wide equity exposure.

Some might argue not to include XEF in the table, since it is confined to developed markets outside North America, without emerging market, Canadian or US content. Nevertheless, holding XEF, one US equity fund, one Canadian equity fund and one emerging market fund would allow you to adjust your holdings in each category.

Other Choices

Because of their somewhat higher MER, I have not included in the table so-called 'fundamental index' international ETFs such as iShares CIE. There are definite advantages to these funds, that follow the so called RAFI Index, that takes into account sales, book value, cash flow and dividends, and the MER is still low compared to what you will pay for any international mutual fund. I will look at these funds in a later posting. CBN, which holds a mix of these fundamental funds, is in particular an attractive choice, although at higher cost.

We have not included US stock exchange listed global and international ETFs, although for some that is a good way to go. For example, VEF is essentially VEA, and the MER is lower if you buy it on the US market (0.07% vs 0.22%).  Look into how your discount brokerage handles foreign fund conversions, and whether you can hold cash in US funds within your account, before deciding to go this route.

There are sound arguments for considering low volatility offerings in this category (XMW is one of my favourites), and we will consider those in a future posting.

Final Thoughts

 Rob Carrick's excellent guide to international and global ETFs is available here.  As always, his commentary is clear, direct and valuable.

The Moneysense 2017 guide to international ETFs is out and available here.  They recommend XAW, XEF and VEE (we will cover VEE in a later post dealing with emerging markets ETFs).  I would agree with their choices of XAW and XEF, and add VEF to the list, particularly if you are a Scotia iTRADE customer, since it is on their list of commission free ETFs.  VEE is emerging markets, so not suitable as a sole international/global ETF.

If you want to combine your US and international in a single ETF, Vanguard VXC and XAW are both excellent choices.  VXC is more widely held, while XAW has marginally lower costs.

It should be kept in mind that both VXC and XAW under-represent emerging markets, and therefore you might want to add XEC, VEE to truly represent the global equity markets.

We  have a posting in progress that will look in general at 'funds of funds', a single ETF which holds a number of other ETFs.  In that we will consider other international choices, such as iShares CBN.

The table just provides a snapshot (at time of writing) of some of the characteristics.  You should consult the documents on companies you are considering purchasing.  They are available here: XAW, XEF, VEF, VXC.

As with any major investment decision, you should consult trusted advice before making your choice. Consider risk and reward, costs and tax implications in your ETF choice.

Here are links to ETFs mentioned in this posting:

• CBN
• CIE
• XAW
• XEF
• XMW
• VEF
• VXC

Have comments? As always, don't hesitate to leave them, or to connect with us on Twitter.

This posting is intended for education only and should not be considered investment advice. The reader is responsible for their own financial decisions.  The writer is not a financial planner or investment advisor, and reading this column should not be interpreted as obtaining individual financial planning or investment advice. For major financial decisions it is always wise to consult skilled professionals. While an effort has been made to be accurate, any statements of fact should be independently checked if important to the reader.

Disclosure:  The author of this column holds the following ETFs mentioned in this article in one or more account: XAW, VEF and VXC.  I use Scotia iTRADE discount brokerage. No compensation by any company has been offered, requested or received for writing this column.

US Equity ETFs for Canadians

A while ago we covered ETF options for Canadian equities and Canadian bonds.  In this post we look at choices in Canadian listed US stock index ETFs.  A well diversified portfolio will have Canadian, US and International equities, along with bond and perhaps other offerings.

Why US Equities?

There are several reasons why every Canadian portfolio should hold at least one US equity ETF.
The US stock markets represent by far the biggest single country component in global equity assets, a bit over 36% currently according to a 2016 paper. The US equity markets are much better diversified than the Canadian equity market. If you believe in the school of  holding stocks that dominate their markets, many of the world's dominant companies are listed on US equity exchanges.

To Hedge or Not To Hedge

Many TSX listed US equity ETFs use currency hedging.  Canadian Couch Potato have provided a nice analysis of the issue of whether currency hedging is a good idea or not. Based on analysts' research. they conclude that in the case of US equities hedged to Canadian dollars that hedging "magnifies volatility rather than reducing it." We urge you to read the white papers linked in their posting, and examine commentary from experts in the last year or two, but overall it seems to us that there is no compelling case for hedging US equity ETFs to Canadian dollars. The market seems to support that view, with most twin products having somewhat larger holdings in the unhedged version.

Go Big or Go Mostly Big

Another choice to make when selecting a passive US equity ETF is whether to select a fund based on the S&P 500 index of the largest companies, or a broader index that includes medium sized companies as well. Wondering which companies are listed on the S&P 500? There is a handy S&P 500 list of companies here. I think there are arguments in both approaches - on the one hand the larger index might be argued to offer more complete diversification, while on the other hand a tiny percentage mainly of the largest companies have produced the vast majority of wealth generation over the long term. A really nice analysis by Michael Batnick shows that over the long term (last 15 years) only 8% of large cap US equities beat the index, only 5% of mid cap, and 7% of small cap.  This, and other analysis, suggests that it is not so much the size of the equity, but other factors, that cause most equities to produce zero or negative returns. While within Canada I think the larger index makes sense since the TSX 60 is so concentrated on banks, in the US the S&P 500 is well diversified across industries.

Good Choices

As was the case for Canadian bond and equity ETFs, we are in the fortunate position that there are multiple excellent choices in the US equity category, all with very modest costs. We suggest that you consider first the choices shown in the following table, but certainly other good choices exist.

As can be seen, all have large asset bases and reasonable MER, so any would be a good choice. If already invested in one, the slight differences probably do not justify the margin and commission costs of moving to another offering from the table. If making a first time purchase, I would probably consider VFV, which ties for the lowest MER, is not currency hedged, and has a large asset base.

HXS has one difference from the others that make it a good choice in certain situations.  It is swap based, which means that it does not hold the actual equities, but rather a bank based promise note that is based on those equities.  Dividends and distributions are built into the base price, but not paid directly.  Therefore income is taxed as a capital gain, and is only triggered when the units are sold. Also, there is not foreign withholding tax on income.  This makes HXS a good choice for some in unregistered accounts for those with variable incomes, and also in RESP and TFSA accounts.  HXS is also included in the Scotia iTRADE commission free list, which makes it a good choice for those purchasing in smaller amounts.

Closing Thoughts

We covered only ETFs listed on the TSX in this post.  Of course it is possible to hold US$ ETFs from the American markets within your discount brokerage.  Generally the MER is slightly less on this option, and the trading volume is much larger so liquidity is excellent. Of course you need to take into account the currency exchange costs, and you will need to do an analysis to see which is a better choice for you.

Rob Carrick annually, as part of his ETF series, has a guide to US equity ETFs, with the 2017 guide available to Globe readers here.  Also, morningstar.ca star ratings can be helpful as you make your choice. Moneysense have their 2017 review of US equity ETFs here. They continue to see VUN as an excellent choice for most passive investors, and I would agree. While there is no doubt that the ETFs that concentrate on just the large companies will outperform in some market conditions, overall I see the broader VUN as a better choice, and one that should, in the long run, offer more consistent performance.

As mentioned earlier, I would make a choice centred on the S&P 500 and one which does not use currency hedging.

If your discount brokerage account is with Scotia iTRADE, and you are starting with modest amounts to invest, HXS is a good low cost choice with tax advantages when held outside a registered account. It is also a good choice held within a TFSA, since the foreign agreements that shelter income from foreign tax withholding in RRSP or RIF accounts do not apply to TFSA or RESP accounts.

I have not in this posting considered low volatility US equity ETFs, or international choices that include US equities.  Both of those topics will be considered in future posts.

This posting is intended for education only and should not be considered investment advice. The reader is responsible for their own financial decisions.  The writer is not a financial planner or investment advisor, and reading this column should not be interpreted as obtaining individual financial planning or investment advice. For major financial decisions it is always wise to consult skilled professionals. While an effort has been made to be accurate, any statements of fact should be independently checked if important to the reader.

Disclosure:  The author of this column holds the following ETFs mentioned in this article in one or more account: HXS, VUN.  No compensation by any company has been offered, requested or received for writing this column.

Diversified Income XTR

Income generation becomes a primary goal for your investment portfolio as you enter retirement. Most see bonds and dividend bearing stocks as the primary investment vehicles vehicles for income, although REITs, preferred shares and infrastructure can also play a role in a diversified income portfolio.

While you can purchase a number of individual ETF products to assemble a diversified income portfolio, there can be advantages in  a single fund.  XTR from iShares is one such product, and we review it in this post.

What Does XTR Hold?

iShares XTR is a 'fund of funds' meaning that it holds other iShares ETFs, in this case 11 funds.  I list below in order of weighting the XTR portfolio (including my brief descriptor for each) as of May 2017:

• XHB (Canadian corporate bond) 20.5%
• XHY (US corporate bond) 13.7%
• CBO (Canadian 1-5 y corporate bond ladder) 12.0%
• XEI (Canadian dividend equity) 11.7%
• XRE (Canadian REIT) 8.7%
• XDV (Canadian dividend) 8.0%
• CUD (US dividend equity) 7.4%
• CPD (Canadian preferred share) 5.3%
• XUT (Canadian utilities) 5.2%
• XST (Canadian staples equity) 4.5%
• CLF (Canadian 1-5 y laddered government bond) 3.0%

You can get the details, including current portfolio weightings, of XTR directly from iShares here. To make the chart below I've lumped the funds into corporate bond, government bond, dividend equity, preferred share and REIT categories. While I have included XST with dividend equity, it is probably more properly viewed as a low volatility equity rather than strictly a dividend equity ETF.

The overall holdings in XTR are 76.7% Canadian, 19.7% US, and about 3.7% from all other countries combined. This is good for tax benefits when XTR is held outside registered accounts, but not great in terms of diversification.

As a fund of funds, XTR is diversified over a lot of different underlying holdings, a bit over 2200 at the time of writing.

Costs

The overall MER for XTR is now 0.60% (some sources still quote the audited 0.62% value), and that includes the fees inherent in the underlying funds that XTR holds.  The current TER is 0.02%, so trading within the fund does not add significantly to the overall costs. XTR is widely traded (typically 45 thousand units per trading day), so the spread between bid and ask is usually slight. While this MER may seem high compared to pure equity or broad bond ETFs, it is competitive with fees associated with most dividend and blended funds.

Performance

The performance of XTR is steady but certainly far from spectacular. In the past year it has had a total return of 10.0%, but over 5 years the return averages 4.6% annually, while over 10 years it averages 5.3% annually. The majority of years show positive returns, with only one of the last 5 having a negative return (-5.98% in 2015).

With XTR you are giving up a little bit in return for regular income at modest variability.

Advantages

Especially if you have a relatively modest portfolio, the idea of holing a single product that effectively represents the various components of a well diversified income fund makes sense. You save commission costs of adding US and Canadian dividend ETFs, along with several corporate bond ETFs.

XTR should be more stable than any one of these individual ETFs (e.g., the total yearly range of XTR over the past 12 months has just been 6% from minimum to maximum value), so it will help you reign in temptation to trade too often for your own good.

XTR pays out its distributions monthly, so it works well in a LIF or RIF where you are withdrawing funds monthly.

While the performance has been less than a simple equity and bond couch potato portfolio, the mix of investment products may (but see below under concerns) help cushion some market volatility.  As we move into retirement ages it is natural to worry more about the ups and downs of the market, so anything to reduce this variability is a positive.

If you don't immediately need the income, you can use DRIP to purchase additional units without commission costs.

While we have too many ETFs in my opinion, I don't think we have enough ETFs that are single products well tailored to a need (such as retirement income, or couch potato type portfolios). XTR is a well designed income ETF, and that is why many tens of thousands of units trade daily on the TSX.

Concerns

The bond holdings within the portfolio are not entirely investment grade.  For example XHB (the largest single component of XTR) has essentially none of its portfolio in A, with 80.7% in BBB and the rest in lower investment grades (see the explanation of bond ratings here). That being said, XHB has been remarkably stable - e.g. it has not shown a negative return for any of the past 5 years. While they are not in the high investment ratings of government bonds, the companies XHB holds are mainly household names in Canada. The US corporate bonds held in the XHY ETF within XTR have a similar investment quality range.

Also, the bonds in XTR are mainly corporate, with only a few percent in investment grade government bonds.  It is likely that in a major equity market correction these corporate bonds will not help cushion your portfolio the way that investment grade government bonds would.

Another potential concern is the high Canadian bias.  About 76.7% of the portfolio is held in Canadian products, and only 3.7% are held outside Canada and the US. XTR has essentially no emerging market exposure, in bonds or equities.

A fourth potential concern is that there is little in the way of direct inflation protection in XTR, since it does not hold real return or TIP bonds. Also the REIT component is largely restricted to Canada.

Considering these potential concerns, if seeking the most stability in returns, it makes sense to pair XTR with some holding in products such as CBD or XAL that give you more government bonds, inflation protection, and wider international coverage.  A future posting will consider these groupings quantitatively.

Alternatives to XTR

Perhaps the closest alternative to XTR is BMO's ZMI, which is also a 'fund of funds'. ZMI holds 17 other BMO funds, with the majority being a mix of Canadian and US dividend equity ETFs and corporate bond ETFs, with a little dose of REITs and other income ETFs. Compared to XTR, ZMI has slightly higher equity holdings and slightly lower bond exposure, but the differences are so small they hardly matter.  The BMO ZMI includes some of the option linked products that BMO has made popular, including

I slightly prefer XTR for the following reasons:

1. Longer track record (XTR started in 2005 and ZMI in 2011), with good stability since the end of 2009 (the price did decline in 2015, but has recovered nicely).
2. More widely traded (on a typical trading day ZMI trades a few thousand units, while XTR several tens of thousands of units).
3. Better transparency (the 11 ETFs included in XTR are all easy to understand offerings, while  ZMI include the covered call and put write holdings that many individual investors may not fully understand.
4. Although be careful comparing yields, I do like that XTR has given a very consistent approximately 6% yield (at current price) versus currently just over 4% for ZMI.

That being said, I would point out that if we compare 5 year annualized performances, ZMI has the edge at 5.70% vs 4.54% for XTR. There is also slightly more exposure outside North America in ZMI, an advantage in my opinion. The volatility of the two are very similar - according to Morningstar.ca the standard deviation for XTR is 4.8 while that of ZMI is 4.7.  

If I was grading the two products my overall grade would be very nearly a tie. Morningstar.ca currently also gives the edge to XTR, with *** vs  a ** rating for ZMI.  Either ETF is a good choice. There are of course many other income generating mutual funds and ETFs, although most of them have at least somewhat higher MER than these products.

Those seeking a mutual fund alternative should consider Steadyhand Income Fund.  The MER is slightly higher, but there are no commission charges. It is more conservatively invested than XTR, but returns have in the long run been marginally better (6.0% return per year averaged over the past 10 yr, although only 1.9% per year over the last 2 yr.)  If you are ready to invest at least $10,000, you can open a Steadyhand account directly, or you can buy Steadyhand Income Fund through most Canadian discount brokerages (SIF120).

Another good income alternative would be Tangerine Balanced Income investment fund. Over 5 years it has offered a similar return 5.5% over 5 years, and has been pretty consistent from year to year.  The portfolio is weighted to Canadian bonds, with about 10% in each of US and international equities. Its easy to set up an account with Tangerine,  It does only pay out its distributions once accually (in December), so not as well suited as XTR to directly providing monthly income.

Final Thoughts

XTR plays a major role in my personal retirement LIF, and I think XTR or ZMI make sense for many retirement accounts.  I like that it combines in a single product the components that I want to play a major role in my income funds (bond and dividend funds in US and Canada, REITs), and that it pays a stable monthly distribution.

In investing we should look forward not backward (a central message of the book The 3 Simple Rules of Investing).  If I look backward at returns, I would probably concentrate in an equity and bond portfolio, but if looking forward I see more stability in a broader set of income generating holdings, and XTR fits very nicely into what I want to hold.

That being said, I would not make it the only income product, although it may be the major one. I would consider an additional ETF that helps provide balance outside North America, as well as ideally more government bond exposure and some inflation protection  (such as CBD or possibly XAL that I will cover in a future posts).

Both XTR and ZMI provide a reliable income stream (currently about 5.7% for XTR and 4.0% for ZMI ) that is sufficient for many RIF retirement ratios, and that is paid monthly.  You do give up potential return with these products compared to simple stock plus bond portfolios but in return you obtain slightly more stability across more asset classes.

If considering holding these products outside a registered account, discuss tax implications with your financial advisor.

This posting is intended for education only and should not be considered investment advice. The reader is responsible for his or her own financial decisions.  The writer is not a financial planner or investment advisor, and reading this column should not be interpreted as obtaining individual financial planning or investment advice. For major financial decisions it is always wise to consult skilled professionals. While an effort has been made to be accurate, any statements of fact should be independently checked if important to the reader.

Disclosure:  The author of this column holds XTR (and has held ZMI, although not currently) and CBD. I also hold some SIF120. No compensation by any company has been offered, requested or received for writing this column.

Do XAW, VXC Represent Global Stock Market ?

Do you know what proportion of the global stock assets are represented by US markets? those in Canada? Europe? China? A surprising number of investors have either vague or out of date answers. This post will provide some data on the global equity space, along with reflections on how that might inform your investing choices.

While most investors exercise some degree of home country bias,  for a variety of good reasons, it makes sense to invest globally. In this posting I propose a simple idea: why not invest in different markets according to the size of those markets?

Some Data

The size of economies is somewhat different from the size of equity markets in those countries, and it is a good question whether we should use stock market or economy size. I will work with stock market valuations in this post.

There are about 60 stock markets globally, and their valuations are shown in a really nice data visualization here. You can get the raw data with the most recent statistics here from the World Federation of Exchanges.

Kim Iskyan wrote an article for Asia Wealth Investing Daily in November, 2016 that provides statistics (taken from Bloomberg) on the sizes and growths of different national stock markets, with a look at the top ten. You can read his report here courtesy of Stansberry Churchouse Research.

Not surprisingly the US stock market is the largest by a significant factor, at 36.3% of the total.   China was second, at 10.1%, followed by Japan at 7.9%, Hong Kong at 6.3% and UK at 4.6%. Canada, followed by France, Germany,  India and Switzerland complete the top ten.

 If we accept the premise of investing globally in proportion to equity assets, about 36% of your equity investments should be in the US, 10% in China (with another 6.5% in Hong Kong),  8% in Japan, about 3% in Canada.

The World It Is A Changing

The article cited earlier points out that a fairly dramatic change in the relative capitalizations of different markets is taking place.  For example, from October 2003 to 2016, the US stock market while increasing in an absolute sense, dropped as a fraction of global stock assets  from 45.2% to 36.3%. The big increases were all in Asia, with China going from 1.5% in 2003 to 10.1% in 2016, Hong Kong from 3.0% to 6.3%,  and India from 0.8% to 2.6%. Stock markets in Europe and Japan all fell as a global percentage. Interestingly the Canadian market, with a slight rise from 2.6% to 2.9%, was the only top 10 'developed' market to show an increase.

 Do XAW and VXC Represent World?

So how would you build an ETF portfolio consisting only of TSX listed ETFs that faithfully represented the entire global equity market. While specialized ETFs representing almost any market now exist, and you could build an ETF portfolio to almost exactly represent the world's equity markets, the MER would be high for so the many specialized products.

Most use ETF products like XAW from iShares or VXC from Vanguard Canada to represent most of the world.  These track different indices, with XAW tracking the MSCI while VXC tracks the FTSE global index.

Both XAW and VXC have excess weight on the US equity market, with XAW at about 54% and VXC at almost 56%, whereas the actual size of the equity markets suggest that only about 36% should be in US equities. Both under represent  emerging markets, with a total emerging market share of 11.5% in XAW and 7.8% in VXC currently. Note that VXC does not include any Canadian equity at all, so you should include at least 3% of your investments in a broad Canadian ETF such as VCN or XIC.

A simple way to make your global equity ETFs more representative of the entire world is to include about 20% of your holdings in XEC or VEE emerging market ETF (even though there are emerging holdings already in the XAW and VXC).  This would reduce the US holdings to about 44%, neareer to the 36.1% of the global equity assets, and similarly for other developed markets.

Another option would be to make up your global holdings using VEF (developed markets except the US, but including Canada), VUN (or some other widely represented US holdings) and XEC (or VEE) for the emerging markets component.  In this way you can adjust your US, other developed and emerging market holdings to the exact amounts you desire. If  Scotia iTRADE is your discount broker, VEF and XEC are both commission free to buy and sell, making this option even more attractive.  If you want to include China as a separate component, ZCH could be used, although remember you do have China represented in XEC or VEE. Also, the number of individual stocks within ZCH is limited.  If you want to add some Canadian home market bias (see below), XIC or VCN (or many others) could be added.

But I Want to Minimize Risk!

While it is natural to look backwards, as the excellent book The 3 Simple Rules if Investing reminds us: only look forward. It is true that volatility has in the past been greater in emerging markets. However, with high developed market equity valuations, unusually low interest rates, and political uncertainty in several developed economies, it can legitimately be asked whether the more governmentally controlled 'emerging'  economies such as China may offer lower future volatility.

Just as passive investors are urged to own all (or really a major part) of a domestic market,  it could be argued that the same principle would argue to hold most of the world equity assets proportionately in a global equity portfolio. 

Why Home Bias?

I'm sure they have been written, but I can't recall reading an investment commentary on the virtue, or lack thereof, of home bias.  This is a topic for a future column, but I considered reasons that you would want to show some home bias in your investments.

• Your income needs are related to the inflation rate in your home economy, so significant Canadian holdings make sense.
• As we argued in a post about holding individual stocks, it makes sense to invest in what you best understand, and that for most is the Canadian market.
• While government intervention is only one of many factors, it does influence the rewards and risks of different types of investments. You will understand the political climate of your own country best.

Only you can decide what amount of home bias you want to have in your investments.  It probably makes sense to have less home bias in your accumulation phase than in retirement when you are withdrawing regularly from your funds.

Concluding Thoughts

Of course there are good reasons to not weight investments only according to the relative size of that countries equity assets.  For example, risk will vary in different countries. Also, average valuations, as expressed by P/E or other measures, may be significantly different in different regions.  Also, we know the North American stock market much better, and that familiarity might help us make better choices.

You should expect more than a rule of thumb about what fraction to be held in Canada, US and internationally based on the situation of ten years ago.  Make sure that your financial advisor discusses international holdings, and in particular emerging economies, in a current, evidence based fashion. If you do decide to have extra North American assets, make sure that it is a deliberate choice.

The international ETF space continues to change, so make sure to investigate the holdings of each ETF with current data before you make any decisions. We will be reviewing emerging market ETFs in a future post.

This posting is intended for education only and should not be considered investment advice. The reader is responsible for their own financial decisions.  The writer is not a financial planner or investment advisor, and reading this column should not be interpreted as obtaining individual financial planning or investment advice. For major financial decisions it is always wise to consult skilled professionals. While an effort has been made to be accurate, any statements of fact should be independently checked if important to the reader.

Disclosure:  The author of this column holds the following ETFs mentioned in this article in one or more account I manage: XEC, XIC, VCN, VEF and VXC.  I use Scotia iTRADE discount brokerage services.  No compensation by any company has been offered, requested or received for writing this column.

Developed or Emerging: Classification Systems

Before we can consider in detail the question of how much should be invested in different international markets, and how, it is necessary to be clear on what we mean by terms like emerging and developed. Markets are classified by the major index companies. As an investor it is important to know what index your passive ETF or index mutual fund follows, and which countries are, and are not, included in that index.

MSCI Classification

MSCI (Morgan Stanley Capital International) provides one of the major classification systems used in the index investing world.  They divide equity markets into Developed, Developing and Frontier divisions (there is also a Standalone market index. with national exchanges not included in any of the previous three; this mainly includes very small or very isolated exchanges). You can see the details of which country is in which classification here.

FTSE Classification

The other primary classification system is provided by FTSE (now part of the combined FTSE-Russell). FTSE stands for Financial Times Stock Exchange. They divide markets into Developed, Advanced Emerging, Secondary Emerging and Frontier. You can see current country inclusion in the categories of the FTSE here. Of particular utility is their Matrix of Markets that lists stock markets by country against index segments.  This is a simple way to see if a particular country is in an index based ETF.

Things Change

The indexes are periodically reconsidered - for example FTSE update their list usually in March of each year. The process of deciding if countries should be moved to another category is complex.  Metrics are established for that process, looking at aspects such as transparency, accountability, liquidity and size of the market.  FTSE-Russell explain their process in a white paper available here. In the MSCI classification Pakistan will move from Frontier to Emerging in May 2017.

Should We Be Doing This?

Many have commented that the term emerging economy is obsolete and should be abandoned.  Certainly markets like China and India are rapidly growing and are similar in many ways to the markets in the developed category. While five characteristics are claimed to represent emerging economies and markets, application of these descriptors is difficult.

Also, there is a problem with any category system in that two stock markets with only slight differences might result in inclusion in different indexes. For example, why are Poland and the Czech Republic included in developing, yet those economies are similar in life style, economy and political environment to neighbouring European countries that are in the developed category? There appear to be similar discrepancies in Asia.

But we do need some way to lump together economies and stock markets that share similar characteristics.  One option might be to assign a grade to each stock market on a scale (say 0 to 100) based on how developed it is.  Then we could have indexes that track only markets with a score in a certain range.  While the result might be almost identical to the current system, there would be better transparency of results.

Final Thoughts

The Vanguard ETFs follow the FTSE index, while generally speaking the iShares ETFs follow MSCI. Vanguard have a really nice listing that links ETF products against the index they follow all on one page.

While the country inclusion is pretty similar in the MSCI and the FTSE, there are differences.  For example, FTSE place South Africa in developed, while MSCI do not. The Chinese stock market is divided into A and B categories, historically on the basis of whether foreigners were allowed to invest on that market. How the A Chinese stock markets are handled affects international index funds.

In a future posting I will I discuss the fraction of global equity assets in different markets, and the implications on how we should invest globally.

This posting is intended for education only and should not be considered investment advice. The reader is responsible for their own financial decisions.  The writer is not a professional financial planner or investment advisor. For major financial decisions it is always wise to consult skilled professionals. While an effort has been made to be accurate, any statements of fact should be independently checked if important to the reader.

Disclosure:  No compensation by any company, organization or individual has been offered, requested or received for writing this column.

Can We Talk Bonds?

Now that you have some Canadian equity ETF planted in your investment garden, the next step is to add some bonds. Bonds serve as a buffer against volatility, since high quality bonds usually go up in value when equity prices go down (and vice versa). We will start by describing how individual bonds work, although for most of us a bond ETF makes more sense.

Introduction to Bonds

Those of retirement age probably bought Canada Savings Bonds in the past.  You buy a bond with some money, at some point in the future they give you back that money, along with interest along the way.  Bonds work like that. Unless the government or company defaults, your principal (the initial cost) is guaranteed and is returned on the maturity date.  The interest rate is called the coupon in the world of bonds.

Bonds are sold by the Canadian government, the provinces, municipalities, and companies.  We call bonds from companies corporate bonds, while the others are called government bonds (sometimes municipal are split off into their own category). Compared to stocks (equities), most individual bonds are safer, both from absolute loss of principal, and also from deep losses in value.

Bond Ratings

That is not to say that buying a bond is absolutely safe. The investing world have developed ratings for bonds as a measure of how secure they are.  The most widely used bond rating system is done by Standard & Poor.  The most secure bonds, generally offered by national governments, are given a rating of AAA.  Still very secure, but slightly less so, are AA and then A, followed by BBB.  We show these in the following table. Different terms are sometimes used for the different letter categories, but there is general agreement that BBB and above are investment grade. Note that Moodys have a slightly different bond rating system.

I don't like the term "junk" bonds for those rated BB and below.  I think that has a more negative connotation than is appropriate.  Yes, there is a higher risk than with government AAA or AA  bonds, but junk bonds these are often offered by large stable companies and the odds of them not defaulting are good. The reason to purchase bonds in the BBB to B rating is that generally they pay a significantly higher coupon rate in return for the higher risk that you are assuming.

Many discount brokerage firms allow you to purchase individual bonds and hold them in your account. I am most familiar with Scotia iTRADE.  They make it easy to find bond listings according to the type (e.g. corporate), duration, coupon rate and credit quality.  In terms of pricing you pay a commission at purchase of $1 per $1000 in face value, but with a minimum of $24.99 (and a maximum of $250).  For example if you buy bonds worth $20,000 you will pay $20 in commissions, while if you buy $100.000 you will pay $24.99.  Of  course these may well change, so be sure and check current rates if you are considering purchase of individual bonds.

I have never purchased an individual bond from my discount brokerage.  It seems to me that the commission is significant, especially if I consider that I would want to buy a number of different bonds to lessen the impact if one of them did default.  I think unless you are a huge institutional investor it is better to buy a bond ETF.

Bond ETF Choices

The  Freedom Thirty-Five blog has done a really nice job of looking at Canadian bond ETF choices.  As he points out, while cost is important, so is performance. By the way, while on his site, check out his graphic in About Me regarding what others think he does! He points out that there are more than 60 bond ETFs on the TSX, so my analysis below will be highly selective, looking only at broad holdings of primarily investment grade bonds.  We will look at corporate bonds in a future post.

You can purchase bond ETFs with exclusively corporate or government bonds, with long or short durations, or a ladder of purchase dates. You can purchase bonds that will increase in value if interest rates go up (so called real return bonds in Canada, TIPs in US). But in the rest of this column, I am going to narrow the choice to three widely held bond ETFs with reasonable MER values and which hold a mix of government and corporate bonds, mainly of investment quality.

My three choices are shown in the following table. For each I give the name, fees expressed as a MER, the assets held in the fund (e.g. 385M$ means that $385 million dollars are invested in XQB at the time of writing), the average daily volume at the current time (e.g. 65k means about 65000 units of VAB are traded daily), and the spread between bid and ask prices on open orders.  Note that all of these change over time, so if important to you should be checked through a source such as morningstar.ca at the time of investment.

Note that although ZAG has a formal MER of 0.23 based on audited financial statements, its MER currently and going forward will be 0.10. We explain all that here.

I did some searching, both directly from the companies themselves and from third party assessments, and the portfolio holdings reported for the same product seemed slightly inconsistent.  I expect this is due to how bonds with a federal agency that is a crown corporation are reported (is that corporate or government?), and the changes from different reporting periods.  In any case, all three hold a mix of government and corporate, with roughly 60 to 70% government and 40 to 30% corporate.

While any of these are good choices, there are some differences.  As indicated in the table, the effective durations are not quite the same, with XQB slightly shorter duration.  ZAG is a fund of funds, which means that rather than holding a number of individual bonds, as VAB and XQB do, it holds in varying amounts 10 other BMO bond funds.  In this way it is arguably more fully diversified than the other two. While all three are high investment quality, XQB contains nothing below A, while VAB does have just under 10% at BBB.  This helps the investment yield, at only a tiny amount of higher risk.

If you are a Scotia iTRADE account holder, there is an advantage of XQB in that it is on the list of commission free trades.  This means that it is a good choice if you are purchasing your bond ETF in a number of small transactions, which would not be efficient if you needed to pay commissions with each purchase. It is also helpful for annual strategic rebalance, since there is not a commission charged for XQB sale or redemption in an iTRADE account.

There are other broad Canadian ETFs not covered here. iShares XBB has more than $2.3 billion in assets, and has been a mainstay for many years, but with its MER of 0.34% I find it currently uncompetitive. If you desire a swap-based product that does not pay out annual dividends, then HBB (MER of 0.17%) is worthy of consideration.  Many suggest that in the current climate you give up a little bit of return and buy shorter duration ETFs to guard agains interest rate fluctuations. Vanguard VSB would be a good choice (MER 0.11%) as would iShares XSB (although at a higher MER of 0.25%).

Final Thoughts

My final views?  If your discount brokerage is something other than Scotia iTRADE, I would probably choose ZAG.  I like the stability of the "fund of funds" approach, it has a marginally higher yield, and a marginally lower management fee going forward.  The Canadian Couch Potato have currently selected it for bond holdings.  The differences are not enough to move ETFs if already invested in one of the others, however. If you are a Scotia iTRADE customer, I would use XQB.  You will more than make up for the slightly higher MER through saved commission fees.

As with any financial decision, it is always wise to seek qualified investment counsel prior to purchase. The 2017 edition of the Globe and Mail Buyer's Guide to Bond ETFs by Rob Carrick is now out, and is a valuable and comprehensive source of information for Canadian bond ETFs.

The fees are now remarkably low for bond ETFs.  With XQB a Scotia iTrade customer can hold $10000 in bonds, spread across high quality federal, provincial and corporate bonds, and pay only $13 a year in fees, and no commission charges for purchase or redemption.

This posting is intended for education only and should not be considered investment advice. The reader is responsible for their own financial decisions.  The writer is not a financial planner or investment advisor, and reading this column should not be interpreted as obtaining individual financial planning or investment advice. For major financial decisions it is always wise to consult skilled professionals. While an effort has been made to be accurate, any statements of fact should be independently checked if important to the reader.

Disclosure:  The author of this column holds the following ETFs mentioned in this article in one or more account: VAB and XQB.  I use Scotia iTRADE discount brokerage services.  No compensation by any company has been offered, requested or received for writing this column.

Corrections and Additions: I added the link to the 2017 Guide to Bond ETFs which was not out at the time of the original article. Following the original posting, I divided this into sections for clarity.

Some Canada For Your Garden

It's about time we got down to some specifics in terms of what investments to consider for your funds garden. We will start with Canadian equity (stocks). using ETFs as our investment vehicle.

It is generally agreed that Canadian stocks should be a core component of a Canadian portfolio.  For most individual investors, rather than holding those stocks directly, it makes sense to use an ETF.

Another option would be Canadian stock index mutual funds, but that will result in a higher MER.  If you don't want to bother with a discount brokerage account, mutual funds might still be a good option for you. Also, if you are funding your investments in small amounts at a time, mutual funds will avoid the discount brokerage commissions on ETF purchases. We will cover Canadian stock index mutual funds in a future post.

Fortunately, there are a number of great Canadian stock ETFs with very low management expense ratios (MER).  At the time we are writing this (early March 2017) the information on the most popular choices in this category are given in the following table (click on it to make the image easier to read).

The Toronto Stock Exchange (TSX) actually has two branches. the main TSX which with 1561 companies listed, and a venture category for smaller and newer companies, that as of the time of writing, had 2424 listed companies.  You might be surprised by these numbers, since most financial news talks about either the TSX composite, that contains about 250 of the larger companies from the entire TSX, or the TSX 60 which, as the name implies, is the 60 largest companies.  As companies grow, or reduce in net worth, the exact companies on the two lists change slightly from time to time.

Is it better to hold an ETF that tracks the TSX 60 or the TSX composite? The advantage of the TSX 60 is that they are all large, for the most part very stable and well established, companies. This is very much a 'blue chip' list, and most of the companies are household names. It is important to realize that the TSX, and especially the TSX 60, is far from diversified, however.  For example, at the current time the three largest companies are all banks (Royal, Toronto Dominion and Bank of Nova Scotia), and together they account for almost 24% of the entire TSX 60 value!  Even in the broader TSX composite, these three companies represent nearly 18% of the index value.

The main Canadian stock ETFs track either the TSX 60 index or the TSX composite index. From the ETFs shown in the table, VCN, XIC and ZCN track the composite index (or a slight alteration of it), while HXT, VCE and XIU track the TSX 60. As you can see, competition in this investing space has resulted in very low and similar MER of 0.06 on most products (XIU being the exception).

If MER is not a distinguishing characteristic, how do you choose between the ETF options?  The simple answer is that the products are very similar, will yield nearly the same performance, and really you should not worry too much about which to choose.  

There is one significant difference between HXT and the other offerings in the table, however.  All of the others hold the actual TSX stocks. That is, they take the funds invested in the ETF, and then buy proportionately the different stocks in the index.  The down side of this is that when the index changes, the fund will need to do a bit of buying and selling, triggering some capital gains, and for short periods of time drifting very slightly from the index. The plus side, though, is that you really are owning the actual stocks by holding the ETF. 

The HXT product is an example of what is called a swap-based ETF.  Rather than buying the stocks, it gives the money to a bank that agrees to return to HXT the return of the TSX index over the period of time. The process is well explained in this post from the Canadian Couch Potato site (note the MERs have changed in the several years since that post was written, but the explanation of how the swap works is still valid). 

There is an important tax (and income) difference that should be understood as you make the choice between HXT and one of the other Canadian index ETFs.  No dividends are paid by HXT, although they are worked into the appropriate changing price of the ETF.  This means that swap based products are not good choices when you want a regular income stream.  There is a potential tax advantage, though, in that you do not need to pay annual tax on dividends earned. It is important to realize that you will still be taxed, but as a capital gain when you sell your units of HXT. What you are really doing is deferring the tax, and it will appear as a later capital gain rather than as a regular annual dividend. Whether this is a positive or negative will depend on your personal financial situation.  Swap based products are good if your income from other sources is variable, and you can cash in the  HXT units in a tax year when your other income is relatively low.

For any ETF, a consideration is how widely traded the product is.  We have shown (using data from morningstar.ca) the mean daily volume of each ETF.  For example, the mean number of units of HXT that traded in a day were 212000 (we have written this as as 212k, with k meaning thousands, in the table).  We also show the total assets held in each of the ETFs - e.g. ZCN has about 2.4 billion dollars invested in the fund.  Both of these numbers will change over time, so you should check for current values if this information is important to you. These are all pretty widely held, however, and the concerns about specialized ETFs that are only lightly traded do not hold for any of these products.

 I have also included in the table (using morningstar.ca data) the spread between the mean ask price at which the ETF is offered for sale, and the price being bid by someone looking to purchase the ETF.  A smaller spread is desired, since that implies it will be easier to quickly buy or sell the ETF without paying a premium on the transaction. Naturally widely held ETFs with high daily trading volume are generally expected to have a lower spread. The figures here represent a snapshot at the time I am writing this post, and would change from day to day according to overall trading volume and other factors.  By showing patience and using limit orders you can usually get a stock or ETF at a fair price.

Some of these products have been around much longer than others - e.g. iShares XIU entered the Canadian ETF space earlier, as one of the first Canadian ETFs, and that largely accounts for the fact it has much more money in assets.

If you use Scotia iTRADE as your discount brokerage, HXT can be bought and sold without commission.  I believe that QTrade Investor and Virtual Brokers also offer HXT without commission, but check with them to be sure.

Personally I prefer the slightly broader holdings of the composite index. Within that space I see little difference between VCE, XIC and ZCN - I personally use XIC, but that is mainly because I was invested in XIC units before the other two started operation.  I do like for some accounts (e.g. my TFSA) the swap based HXT. Also if I am investing in small amounts. I use HXT since it is commission free in my Scotia iTRADE account.

There are a number of other ETFs that operate in the Canadian equity index space, and we may cover some of them in future posts.  For most investors, however, we feel that one or more of the options shown in the table would well serve your needs.

You should discuss with your investment advisor which of these products are best for you, and have her/him explain in more detail the implications of swap-based vs. directly held ETFs. Your investment advisor can also help you determine how much of your portfolio to hold in Canadian equity ETFs or mutual funds.

Before ending this posting I want to stress how incredibly low the MER are for these products.  You can have $10000 invested across about 250 different companies in the composite TSX index, and your annual fees are $6.00.  That is truly good news for investors!

This posting is intended for education only and should not be considered investment advice. The reader is responsible for their own financial decisions.  The writer is not a financial planner or investment advisor, and reading this column should not be interpreted as obtaining individual financial planning or investment advice. For major financial decisions it is always wise to consult skilled professionals. While an effort has been made to be accurate, any statements of fact should be independently checked if important to the reader.

Disclosure:  The author of this column holds the following ETFs mentioned in this article in one or more account: HXT, VCN, and XIC.  I also use Scotia iTRADE discount brokerage services.  No compensation by any company has been offered, requested or received for writing this column.

Should You Buy Only Stocks You Understand?

Like many good questions, the answer to the question posed in the title is yes, but also no.  Let's elaborate.

Before we start, we assume that you have decided to hold some individual stocks in your portfolio, and that is a good choice for your financial situation.  That decision is a whole question in itself, and not a simple one to answer, and we will deal with in a future post.

Perhaps Warren Buffett is the best known proponent of the idea that you should only invest in what you really understand. Indeed number 7 on a list of Buffett investing quotes is "Never invest in a business you cannot understand."  Berkshire Hathaway Inc. invested mainly in big name companies operating in areas that he understood. Also, while others were rushing into technology stocks, Berkshire Hathaway Inc. stayed largely on the side (although recently holdings of Apple have been significantly increased).

It seems obvious that you should really know a company before you invest in that company.  No matter how many balance sheets you examine, how many analyst reports you read, it might be argued that you must understand the field the company operates in to truly understand it at the deepest level. It is only through that knowledge that you can reasonably predict how the company's financial situation is likely to change in coming years. Do you really understand fuel cells at a scientific and engineering level, if not why are you considering buying stocks of Ballard? Do you really know the pharmaceutical industry? If not, why are you considering Valeant?

So let's say you  have extensive work experience and academic background in the banking business.  You understand banks and insurance companies at a deep level.  More than any other area of the stock market, you feel qualified to choose which companies have a bright future, and which not so much. Indeed as Alexander MacDonald has pointed out, if you had invested only in Canadian Banks you would have out performed an other North American sector over the past 25 years.

The problem with that approach, however, is that it totally lacks in diversification, and therefore your investment portfolio is expected to be more volatile. A second possible problem is that you might depend too much on your personal expert viewpoint, and not give sufficient weight to the views of investment analysts. The 2008 financial crisis emphasized this point.

However, it is important to think about diversification across your entire financial holdings.  For example, if you have TFSA, RRSP and unregistered accounts, it is not necessary that each be fully diversified, but rather that in total your holdings are. There may well be tax reasons why your holdings in unregistered are different than in the RRSP.  The fact that TFSA accounts are not part of international tax treaties means that certain types of holdings should not be held there (more on that in a future post).

So back to our question on stocks.  If you do decide to hold a number of stocks in one or a few categories, because that is what you understand well, make sure that you balance that with broad holdings in the rest of your portfolio. Not only should no one stock represent a large part of your portfolio, but also no stock category should be a major part.

Some will work in companies where stocks in the company are either part of your compensation, or offered at an attractive price.  While it makes sense to hold those stocks, make sure that it does not represent all or most of your investment holdings. There is a good article on this topic by Eric Rosenberg here.

What are your thoughts on this topic?  Why not leave a comment?  As always, thanks for reading!

This posting is intended for education only and should not be considered investment advice. The reader is responsible for their own financial decisions.  The writer is not a financial planner or investment advisor, and reading this column should not be interpreted as obtaining individual financial planning or investment advice. For major financial decisions it is always wise to consult skilled professionals. While an effort has been made to be accurate, any statements of fact should be independently checked if important to the reader.

Disclosure:  The author of this column has not received any compensation from any financial company for writing this column, and has no association with any company mentioned.  I do hold a small number of individual stocks, but neither of the two mentioned by name in this column.

When is the MER not what you think it is?

Although I don't follow the model portfolios exactly, I am a big fan of the principles of the Canadian Couch Potato. It has demonstrated the virtue of staying invested in a diversified, low cost, small and easily understood set of broad index funds.  It is called couch potato since you rebalance about every year, but otherwise just leave it alone. The simple couch potato portfolio has had solid performance and limited volatility over the long run, bettering many mutual funds, all with very low fees.

I suspect most readers are already very familiar with the Canadian Couch Potato  but in case you are not, I urge you to regularly consult their website, and to give full consideration to their model portfolios. Recently they have also started a podcast series that I also recommend.

The folks at Canadian Couch Potato have model balanced index portfolios for conservative to aggressive investors. They show how to implement them using ETFs, Tangerine investment funds, or TD e-series products. Interestingly, the long term performance only varies slightly across the different risk portfolios, but that is a topic for another post.

The other day I was examining their ETF based model portfolio (see screen capture below), and I was struck that the values they gave for weighted MER for each portfolio seemed too low to me.

Screen capture (Feb 2017) of the Couch Potato model ETF portfolios. Note the weighted MER line.

Although I don't hold the BMO bond ETF ZAG, I had recalled that the MER for it was 0.23%, and I knew that the Vanguard Canada broad Canadian equities ETF VCN (which I do own) has a MER of 0.06% and the iShares All World Except Canada equity ETF XAW (which I also own) has a MER of 0.21.  Even without a calculator, there was no way, using these numbers, the weighted average MER on the conservative couch potato portfolio would be only the 0.12% stated.

Just to be certain, I first checked with both morningstar.ca and with BMO directly, and sure enough both currently (late Feb 2017) give 0.23% as the MER for ZAG. I proceeded to calculate the weighted MER for some of the portfolios using that value, and for the conservative model portfolio it was 0.209%, versus the Couch Potato value (see screen shot above) of 0.12%, while for their balanced portfolio, with 40% Zag, 20% VCN and 40% XAW, I calculated a weighted MER of 0.188 versus the stated value of 0.14.

I could see from the weighted MER values in the model portfolios that the difference must be in ZAG, since the differences were higher for the portfolios more highly weighted in that, so I dug around a bit more. The ZAG MER value that they used in their calculations was 0.10%, not 0.23%, I was able to determine by backward engineering from the weighted MER. If I assume that value for the ZAG MER, I obtained 0.118 for the conservative portfolio and 0.136 for the balanced one, both consistent with the weighted MER given on the Canadian Couch Potato site. So you ask, which is the correct value for the ZAG MER, 0.23% or 0.10%?

The stated MER for funds is normally obtained from audited financial statements.  Of necessity that is based on results from the recent past, since the auditors only get to work after the financial documents for the financial year have been completed. In the BMO ZAG case an asterisk notes that the MER is based on the 2015 year audited statements.

Since that time, BMO have announced lowering of management fees on a number of their ETFs, including this one. For ZAG, they lowered the management fee to 0.09, and they estimate that that will result in a current MER of about  0.10. Problem solved.

There are several implications for investors, however. The true MER is based on audited financial documents.  Since management fee is the dominant component of most ETF MERs, if that is announced as lowered, we can expect the MER will drop by a similar amount. For most ETFs the MER is pretty stable from year to year.  If the MER has dropped significantly, we need to evaluate whether we are confident that it will stay at this lower value, and if the return of the fund will change due to the different amount of investment advice, supposedly related to the management expense.

Secondly, when making long term ETF choices and comparing similar products, it is important to go beyond the stated MER, to make sure that there are not significant recent changes that will influence the current and future effective MER. For example, with the previous MER for ZAG, it appears obvious that the similar bond ETFs VAB from Vanguard Canada and XQB from iShares have lower MER values.  That situation is reversed, however, with the lowered management fees for ZAG.

While the MER is to be based on audited statements, the management fee can be adjusted to the current value.  An easy way to check if there has been a significant change is to examine both the MER and management fee for the fund you want.  Normally the management fee makes up most of the MER.  If they are very different, check around for announcements of recent management fee changes, and in particular check company statements about whether the lowered fees are temporary or a long term change.

Some readers will correctly point out that the difference here is small enough that it may well be lost in your overall financial fees.  If you had invested $10,000 in ZAG the difference per year in the two MER values would be $13.

This posting is intended for education only and should not be considered investment advice. The reader is responsible for their own financial decisions.  The writer is not a financial planner or investment advisor, and reading this column should not be interpreted as obtaining individual financial planning or investment advice. For major financial decisions it is always wise to consult skilled professionals. While an effort has been made to be accurate, any statements of fact should be independently checked if important to the reader.

Disclosure:  The author of this column holds the following ETFs mentioned in this article: VAB, VCN, XAW and XQB.

Review: The 3 Simple Rules of Investing

Link to purchase book.

A few months ago I read the excellent book, The 3 Simple Rules of Investing, by Michael Edesess, Kwok L. Tsui, Carol Fabbri and George Peacock. In their book, they make the startling statement that "everything you've learned about investing is wrong".

So what are their three simple rules?

1. Simplify Your Options
2. Look Only Forward
3. Tune Out Noise

You will need to read the entire book to hear their rationale, but not surprisingly they favour broad, low cost index funds over specialized investing instruments.  They also favour a long term approach, and to 'tune out' the vast majority of advice you will hear or read from financial writers and advisors.

By look only forward, they warn against placing too much faith in how a certain fund has done in the past. As we all know 'past performance does not guarantee future results'. For example, as David Berman (among others) has written, the simple strategy of investing in the Canadian big bank that performed worst in the past year, yields better results than trying to pick the best bank stock in more sophisticated ways, or holding a basket of banks.

As well as their three simple rules, the authors identify seven deadly temptations.   Some of these are obvious and widely accepted, such as 'Don't try to beat the market', while others may seem contrary to common sense.  They urge small investors to not follow what most wealthy and sophisticated investors do. This is not because it would be difficult or impossible, but rather because most high worth individuals use high powered financial advisors and typically pay large fees for expert advice. There is little indication that this advice has resulted in better investment returns. Warren Buffett has emphasized this point in his 2017 statement, making the claim that high worth individuals have spent $100 billion in unnecessary fees.

While I would not agree with everything in the book (for example, I believe they argue for too much simplification), I do support the main tenets. I certainly recommend that you read this book as one part of your investor education. As one Amazon reviewer has written "If you read only one investment guide in your life, make it this one elegantly boiled down to the essence of what makes sense and makes money."

I agree 100% with their statement: "Don't trust it all to the expertise of someone else". Indeed my decision to start this site was largely because I fear that too many trust too blindly in investment advice. You can, and should, learn about your financial options, and you should take ownership of your financial future.

It's interesting that they also warn about over reliance on modern 'scientific' financial theory. That will be a topic for some future column.

Some of their advice is very practical, and can be immediately applied to your portfolio.  They argue that it does not make sense to hold a large number of specialized funds for diversification, if in total they essentially mimic the entire equity market.  Why not just get one total market fund?

I highly recommend The 3 Simple Rules of Investing!

From time to time I will review investment books.  Have a favourite?  Why not leave a comment, and we will consider making it a topic for a future column (or if you prefer to review it yourself, we welcome guest posts.)  If you were going to read three Canadian investing books, what would they be?

This column is intended for education only. The reader is responsible for their own financial decisions.  The writer is not a financial planner and reading this column should not be interpreted as obtaining individual financial planning advice. For major financial decisions it is always wise to consult skilled financial professionals. While an effort has been made to be accurate, any statements of fact should be independently checked if important to the reader. 

Disclosure: I have read this book and have no association with the publisher or authors.  I did not receive a copy of the book, or any other benefit, for writing this review.