Archive | October, 2012

Perfect Portfolio E-Book Now Available

The MoneySense Guide to the Perfect Portfolio—my how-to book for Canadian index investors—is now available in electronic formats. If you have an iPad, Kobo or Kindle you can now become a Couch Potato without even leaving the house. You can buy your very own e-book for just $4.99 by clicking one of the links below:

 Apple iPad Edition

 Kobo Edition

 Amazon Kindle Edition

You can rebalance next week

In other international news, US stock exchanges are closed for the second day due to the dangers posed by Hurricane Sandy. If you were planning to make any ETF trades in your portfolio this week, you should be aware of how these closures might affect you. The Canadian ETF Association released the following notice yesterday:

Investors should expect wider than normal bid/ask spreads while the U.S. markets are closed and we recommend all investors exercise caution if trading.

Most Canadian listed ETFs which have exposure to U.S. securities can be traded today. Investors need to understand that the price they pay for these ETFs may not reflect the underlying net-asset-value of the ETF which cannot be accurately determined with U.S.

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Review: Abnormal Returns

Tadas Viskanta’s blog, Abnormal Returns, has gained a large and prestigious following during its seven-plus years. His new book of the same name also deserves a wide readership. Abnormal Returns (McGraw Hill, 2012) is not so much an argument for a specific strategy as a catalogue of wisdom. “This book should be read more as an exploration of a series of investment topics as opposed to some sort of doctrinaire investment philosophy,” Viskanta writes.

In his chapter on equity investing, he discusses the surprising relationship between the stock market and the economy. From listening to the news, it’s easy to infer that a weak economy produces poor market returns, but the last three years have shown it’s not that simple. The US, he writes, “continues to operate with generally tepid economic growth, headline unemployment rates well in excess of 9%, and a budget deficit well in excess of a trillion dollars,” yet the S&P 500 has more than doubled since 2009. The lesson is that weak economies are a bit like value stocks, while the burgeoning emerging markets are closer to growth stocks. For the patient investor, it is value that outperforms.

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Why RESPs Should Be Kept Simple

In the last couple of weeks I’ve received two questions from readers who were trying to figure out the right strategy for their children’s education savings accounts. Both were smart questions that stemmed from things they had read on this blog, and I was eager to help. But as I thought about how to respond, I began to worry about the danger of making some investing goals too complicated.

The first question came from Karen, who had opened an RESP for her nine-year-old. Karen had read my post on bond duration, where I explained that investors should try to match the duration of their bond fund to their time horizon. She wondered if XBB (which has a duration of about seven years) would still be suitable once her child was 11 or 12. If not, what’s the best way to shorten your bonds’ duration as your child approaches university age?

The second came from Bryan, who has an RESP for his five-year-old and a second child on the way. His brokerage, TD Waterhouse, allows only family RESPs, which means he can only open a single account for both children.

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Barry Gordon on Building an Index: Part 2

In Monday’s post I shared part one of my interview with Barry Gordon, CEO of First Asset, who explained how his firm worked with Morningstar to create new ETF indexes. In part two the interview, Gordon discusses his partnership with PC Bond Analytics, the firm that manages the DEX bond indexes, the most widely followed fixed-income benchmarks in Canada.

Let’s talk about how things worked with your barbell bond ETFs. With the Morningstar equity ETFs there was already an existing methodology. But although the barbell bond strategy is not new, as far as I know there has never been an index.

They know the concept well at DEX, so I went to them and said we want to create these ETFs that replicate a barbell index, do you think you can do that? The process was iterative in the sense that they would come to us with what they thought worked, and I would make suggestions and ask questions based on what we thought was better suited to an ETF. They had to make sure the index was really reflecting what I was trying to do.

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Barry Gordon on Building an Index

Back when dinosaurs roamed the earth, all ETFs tracked well-known third-party indexes like the S&P 500. But it wasn’t long before all of the major benchmarks were spoken for and ETF providers began to commission new indexes for their products. In most cases, they formed partnerships with firms that specialize in index creation, such as Standard & Poor’s, MSCI, Russell, Morningstar and PC Bond Analytics, creators of the well-known DEX bond indexes.

I’ve always been curious about how these new ETF indexes were created, so I called Barry Gordon and asked him to share his experience. Gordon is president and CEO of First Asset, one of the youngest ETF providers in Canada, and he’s launched a handful of funds in 2012. These include four equity ETFs tracking new indexes based on Morningstar’s CPMS strategies, which advisors and portfolio managers use to select dividend, value and momentum stocks. First Asset also launched three bond ETFs using barbell strategies pegged to DEX indexes.

Here’s part one of our interview. I’ll post part two later in the week.

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ETF Fees Keep Falling

When Vanguard arrived in Canada last year, a number of my readers suggested the competition would prompt other ETF providers to lower their management fees. I was skeptical: after all, competition in the ETF space was not new, and with the exception of Vanguard itself, no provider in Canada or the US had ever shown a willingness to reduce fees in the past. Well, I’m happy to report I was wrong.

This week BMO announced it will be slashing the fees on two of its ETFs, effective November 1. First, the BMO S&P 500 (ZUE), which changed its benchmark index last month, will be dropping its fee from 0.22% to 0.15%. It’s not a coincidence that the new MER is identical to what Vanguard has announced for its own S&P 500 ETF, set to launch later this year. Both the BMO and Vanguard funds will now be significantly cheaper than the category leader, the iShares S&P 500 (XSP), which charges 0.24% on its $1.58 billion in assets.

In addition, the BMO Aggregate Bond (ZAG) will lower its fee from 0.28% to 0.20%.

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Ask the Spud: Should I Unbundle My ETF?

Q: What do you think of investing directly in Canadian REITs instead of buying an ETF? It may be possible to achieve similar results without paying the ETF’s management fee. – Philippe V.

ETFs promise broad diversification at rock-bottom costs, but not necessarily in every asset class. Sector ETFs, in particular, still have relatively high fees in Canada. The BMO Equal Weight REITs (ZRE), for example, holds just 18 real estate investment trusts yet carries an MER of 0.62%, including the Ontario HST. The iShares S&P/TSX Capped REIT (XRE) charges about the same for an even smaller portfolio. (Vanguard has announced it will bring out its own REIT fund later this year with a management fee of just 0.35%.)

Since indexing is all about capturing an asset class’s returns at the lowest possible cost, does it make sense to simply buy all (or most) of the REITs in these funds directly and avoid management fees altogether? If your portfolio is very large, it might. But whenever you make a decision like this, you need to do the math carefully. Then you need to consider the convenience factor.

At the most basic level,

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Vanguard ETFs Get New Indexes

Vanguard has announced it is changing the benchmark indexes on four of its Canadian and 22 of its US ETFs, including some of its most popular funds.

Over the next several months, Vanguard will be stepping away from its relationship with MSCI, one of the world’s largest index providers, and entering new relationships with FTSE and CRSP. I’ll explain these acronyms in a moment, but first let’s have a look at the key funds that will be getting a new benchmark. The full list is available here.

Canadian-listed ETF
New Index

Vanguard MSCI Canada (VCE)
FTSE Canada

Vanguard MSCI US Broad Market (VUS)
CRSP US Total Market

Vanguard MSCI EAFE (VEF)
FTSE Developed ex North America

Vanguard MSCI Emerging Markets (VEE)
FTSE Emerging Index

US-listed ETF

Vanguard Total Stock Market (VTI)
CRSP US Total Market

Vanguard Developed Markets (VEA)
FTSE Developed ex North America

Vanguard Emerging Markets Stock (VWO)
FTSE Emerging Index

Vanguard Total International Stock (VXUS)
FTSE Global All Cap ex US Index

Playing FTSE

The new index providers may not be familiar to Canadians. FTSE (pronounced “footsie”) is a British firm best known for its FTSE 100,

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Another 5 Underrated Index Funds

Last week I presented a list of five Canadian ETFs I feel are underused compared with their billion-dollar competitors. Here’s are three more ETFs and a couple of index mutual funds I’d put in the same category.

1. PowerShares FTSE RAFI Canadian Fundamental (PXC)

The iShares Canadian Fundamental (CRQ) has been a high-profile ETF since it was launched in 2006, and it has outperformed the S&P/TSX Composite Index by more than 1% a year for the last five, despite a relatively high fee of 0.72%. This new PowerShares ETF, launched with little fanfare in January 2012, is tied to the exact same index as CRQ, but with a significantly lower management fee (0.51% including HST). Assuming it will track the index well and overcome the problems associated with low trading volume—and it’s too early to tell—it may be a compelling alternative for investors interested in fundamental indexing.

2. BMO Low Volatility Canadian Equity (ZLB)

I’ll start by saying I’m agnostic about low-volatility ETFs, as I’m still looking deeper into the research. But there is some evidence suggesting stocks with low beta—that is,

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