Archive | 2012

Are ETFs Growing for the Wrong Reasons?

On the day his company announced it was acquiring Claymore, BlackRock’s CEO Bill Chinery called ETFs “electric cars in a world of internal combustion engines.”

What he meant was that ETFs, despite the attention poured on them by the media and DIY investors, are still only a small part of the fund industry. ETFs in Canada now manage about $43.1 billion in assets. By comparison, Canadians have $778.5 billion invested in mutual funds—about 18 times more.

That’s a big gap, but it’s been closing for a few years now. According to a recent report, ETFs in this country saw more than $7.6 billion in new sales in 2011, increasing their total assets by nearly 13%. Compare that with another report from the Investment Funds Institute of Canada. Canadian mutual funds, it says, now manage $8.8 billion less than they did at the beginning of 2011. Of course, part of that decline is a result of negative equity returns and not investor withdrawals. But the stats do make it clear that the mutual fund industry is moving in the opposite direction of ETFs:

Balanced mutual funds saw inflows of $27.7 billion in 2011—a hefty sum,

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Why We Love the One We’re With

Larry Swedroe’s new book, Investment Mistakes Even Smart Investors Make and How to Avoid Them, includes 77 common behavioural blunders. I don’t think there’s anyone alive who hasn’t made at least a dozen of them. In fact, I just spoke to an investor about falling prey to Mistake 11 in Swedroe’s catalogue, which goes like this: “Do You Let the Price Paid Affect Your Decision to Continue to Hold an Asset?”

This error is what behavioural economists call the endowment effect. It’s what makes us place a greater value on something just because we happen to own it.

Imagine that you want to attend a hockey game. You don’t yet have a ticket, and you decide that you’re willing to pay no more than $100 for one. The next day, you win a ticket to the game in a radio contest. If a friend offers to buy that ticket from you, for what price would you be willing to sell?

If you were purely rational, you would accept any price over $100, since that’s the maximum value you placed on the ticket before you had one. But if you’re subject to the endowment effect,

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BlackRock and Claymore Make Good Partners

Announcements in the ETF world are mostly tedious these days—usually they involve the launch of another exotic and increasingly narrow new product. That’s why yesterday’s announcement that BlackRock is buying Claymore Investments was a shocker. I’m not the only one who didn’t see that coming.

BlackRock, of course, is the parent company of iShares, the largest ETF provider in Canada, with about $29 billion in assets—about 75% of the market. Claymore’s family of ETFs and closed-end funds currently have about $7 billion under management. Together, the two families will be a powerhouse in the ETF space in this country.

It’s way too early to tell what this will mean for Canadian investors, but overall I expect it will be a positive development. I’ve always liked Claymore’s entrepreneurial spirit and its desire to innovate. For example, the company was the first to create preauthorized contribution plans that allow investors to add money to their holdings each month without incurring trading commissions. Their recent partnership with Scotia iTrade—which makes all Claymore ETFs available with no brokerage commissions—was also a game changer that prompted Qtrade to follow suit.

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Couch Potato Portfolio 2011 Returns

The 2011 performance results are now in for my model Couch Potato portfolios. Many thanks to Justin Bender at PWL Capital in Toronto for providing these data.

It was a challenging year: the MSCI World Index, which measures the equity markets in all developed countries, was down 3.2% in 2011, and emerging markets plummeted over 16%. But broad diversification once again proved its mettle in 2011, as a multi-asset-class portfolio did much better:

The Global Couch Potato (ETF version)
0.54%

The Complete Couch Potato
2.36%

The Yield-Hungry Couch Potato
5.11%

The Cheapskate’s Couch Potato
-2.24%

The Über-Tuber
-2.07

Breaking it down

While equities were down overall, there was a lot of variation. Europe, Japan and emerging markets got clobbered, and Canada was down about 9%. However, US stocks finished in the black for the year. Currency diversification helped too, as the loonie declined against the US dollar, Japanese yen, and British pound.

iShares S&P/TSX Capped Composite
XIC
-8.93%

Vanguard Total Stock Market
VTI
3.22%

Vanguard MSCI EAFE
VEA
-10.69%

Vanguard MSCI Emerging Markets
VWO
-16.93%

Real estate went a long way toward offsetting the negative returns in the overall Canadian equity market:

BMO Equal Weight REITs
ZRE
13.85%

iShares S&P/TSX Capped REIT
XRE
20.95%

Fixed income once again defied all expectations and delivered outstanding returns,

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Does the Couch Potato Work After Age 50?

Readers often ask me whether the Couch Potato strategy is suitable for investors  approaching retirement, or even those who have stopped working. In his recent book, Retirement’s Harsh New Realities, Gordon Pape addresses the same question—and I strongly disagree with his advice.

Pape acknowledges that the Couch Potato strategy is simple and low-cost, but “the real questions are how safe the investment is and how much you will end up earning on your money by adopting a passive strategy,” he writes. “I think the couch potato approach fails on both counts, for two reasons: time horizon and human nature.”

Fatal flaws?

“Passive investing requires taking a long-term view, ten years or more,” Pape argues, but “many people, especially those over fifty, aren’t comfortable with the idea of waiting many years for a decent return. They need to see profits sooner.”

Second, he argues, it’s not realistic to expect people to adhere to a passive strategy because markets are too volatile. He offers the massive losses of 2008 as an example: “How many couch potato investors would have had the fortitude to stick with the plan through that debacle?”

Pape goes on to explain how he set up a model Couch Potato portfolio in January 2008 and tracked it to the end of April 2011.

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