Archive | March, 2013

New BMO Funds Come in Several Flavours

This week BMO announced more additions to its line of ETFs. What’s most interesting about these new funds is not so much the asset classes they track, but the fact that each comes in two or three flavours.

The first group focuses on US dividends. Like the BMO Canadian Dividend ETF (ZDV), the new funds do not track an index: instead they use a rules-based methodology to select 100 companies based on dividend growth rate and payout ratio as well as yield. But here’s the fresh angle: the fund comes in three versions: one uses currency hedging (ZUD), while the others are non-hedged and trade in your choice of Canadian (ZDY) or US dollars (ZDY.U).

A second trio of ETFs is devoted to mid-term US investment-grade corporate bonds, which have maturities ranging from five to 10 years: that contrasts with the iShares U.S. IG Corporate Bond (XIG), which has an average maturity of about 12 years. Again, the fund is available with currency hedging (ZMU) and in non-hedged Canadian (ZIC) and US-dollar (ZIC.U) versions.

Continue Reading 22

Ask the Spud: The US-Dollar Couch Potato

We just sold our condo in Florida and now have some money to invest in non-registered accounts. The problem is, the money is all in American dollars. Is there a way to use the Couch Potato strategy using only USD? – John D.

It’s certainly possible to build a fully diversified ETF portfolio using only US dollars, but there are a number of important issues to consider.

The first is whether you really need to keep the money in USD. If you don’t plan to make another major purchase in the United States (or if you earn a lot of USD income but all your expenses are in Canadian dollars) it might make sense to exchange most or all the money into your home currency before investing it. Of course, you will need to find a low-cost method for doing this, such as Norbert’s gambit.

You also need to consider your overall asset location. Holding fixed income, Canadian equities, and foreign equities in a non-registered USD account probably isn’t the most tax-efficient strategy. Even if your registered accounts are maxed out, you can still make changes so your fixed income stays in Canadian dollars in RRSPs and TFSAs,

Continue Reading 17

Confessions of an Investing Parasite

As index investing has gained popularity, it is also attracted its share of scorn. The latest example is an unintentionally amusing blog post called Index funds are parasites and are going to kill the market, which appeared last week on the UK site Stockopedia.

“In a way, index investing is the ultimate piggyback ride on the coattails of the active management community,” the author writes. Even if you ignore the mixed metaphor, that’s a provocative statement. He later adds: “If there were any justice index funds would pay a tax to the active management community for their service.”

I’m not even sure where to begin a rebuttal of this kind of nonsense. Perhaps we should start with the rich irony of suggesting that retail investors are victimizing “the active management community.” Many active managers are excellent stewards of their clients’ money, and they deliver good results at a reasonable cost. But they’re not Gandhi. They’re in the game to outsmart those on the other end of their trades, and to profit from the mistakes of competitors. Yes, active traders are the reason markets are largely efficient,

Continue Reading 23

The ETF’s Price Is Right—Except When It’s Not

Last week I described how an ETF’s market price and net asset value (NAV) can diverge. Now it’s time to look at the three main reasons why this occurs. Our guides for this discussion—which I’ll warn you is quite technical—are Pat Chiefalo, director of ETF research and strategy for National Bank Financial, and Steven Leong, vice-president at BlackRock Asset Management, provider of iShares ETFs.

1. The ETF has low trading volume. In most cases, low trading volume is not a major concern with ETFs. However, thinly traded funds are more likely to display short-term differences between their market price and their NAV.

Official end-of-day prices on the TSX are based on the last board lot to be traded in a single order. There may be some days when all the orders for an ETF are less than 100 shares. “In that case, there would actually be no official end-of-day price, even though there were transactions,” says Steven Leong. “Less extreme would be a case where the last board lot traded at 1:30 in the afternoon and the market moved on from there.” When the NAV is calculated at 4 pm that day,

Continue Reading 20

Two Ways to Measure an ETF’s Performance

When I update the performance of my model portfolios, the returns I use are based on the annual change in each fund’s net asset value (NAV). That’s the most appropriate way to measure an ETF’s performance against its benchmark index, but it may not be the return investors actually obtain in their own accounts. If you calculate your portfolio performance using your brokerage statements, you’re more likely to get the fund’s market price return, which may be quite different.

Let’s back up and make sure the terminology is clear. An investment fund’s net asset value (NAV) is the total value of all its underlying holdings. To use a simple example, if an equity fund’s portfolio is valued at $1 billion and there are 50 million units outstanding, its NAV is $20 per unit. In North America, a fund’s NAV is calculated once per day at 4 pm EST, when the New York and Toronto exchanges cease trading.

A mutual fund always transacts at its NAV, because orders are filled only once per day after the markets close. In other words, its NAV is also its de facto market price.

Continue Reading 19

Why GICs Beat Bond ETFs in Taxable Accounts

Last October, Justin Bender wrote a blog post explaining why GICs are more tax-efficient than bonds. The blog caught the attention of John Heinzl of The Globe and Mail, who wrote his own article on the topic a month later. Many investors are still surprised and confused by this idea, however, so I thought it was time to take another look.

It’s true that bonds and GICs are taxed in the same way. If you buy a newly issued bond with a face value of $1,000 and a coupon of 4%, you’ll receive $40 in interest each year, and this amount is fully taxable at your marginal rate. If you buy a $1,000 GIC yielding 4%, the situation would be identical. Nothing complicated so far.

However, in practice, things aren’t that simple. Interest rates have been trending down for years, and bonds issued when rates were higher now trade at a premium. Let’s use an example to explain this concept. Twelve months ago you bought a five-year bond with a face value of $1,000 and a coupon of 4%. Since then interest rates have fallen one percentage point.

Continue Reading 122