The Wait is Over: New ETFs From Vanguard

“Ask and ye shall receive.” That should be the refrain of Couch Potato investors during the last 10 months or so as the industry has filled just about all the gaps in the ETF marketplace.

First it was the flurry of S&P 500 ETFs without currency hedging: Vanguard, BMO, iShares and Horizons have all launched one since October. Then iShares brought out a pair of broadly diversified international equity ETFs, also without the hedging. Now Vanguard Canada has announced a new suite of ETFs that includes a few we’ve been eagerly awaiting.

Vanguard filed the preliminary prospectus for these new ETFs on June 19, and since new products typically appear about 90 days later, at least some should start trading by the end of summer.

First there’s the long-awaited Vanguard U.S. Total Market, an unhedged version of VUS. Its underlying holding will be the US-listed version of this fund, the Vanguard Total Stock Market (VTI), a core piece of my Complete Couch Potato.

While the fees for the new ETFs haven’t been announced, it’s likely this new fund will have the same 0.17% MER as the hedged version. While VTI costs just 0.05%, investors with non-registered accounts may be better off paying the extra 12 basis points to save the expense and hassle of converting their loonies to US dollars. However, VTI would be more tax-efficient in an RRSP, since it is exempt from US withholding taxes on dividends, while the Canadian version won’t be. Based on a yield of 2%, the withholding tax amounts to an added cost of 0.30%.

Next up is the Vanguard FTSE Canada All Cap. The Vanguard FTSE Canada (VCE) includes just 85 holdings and is dominated by large-cap stocks, but the new ETF will track an index covering large, mid and small caps. A source at Vanguard explained this new FTSE benchmark is still in development, but it should be made public next month. For what it’s worth, the MSCI Canada Investable Market Index, which has the same all-cap mandate, includes 329 stocks.

Foreign content

Vanguard will also launch the first ETFs for Canadians who want to invest in US and international government bonds with currency hedging. The Vanguard U.S. Aggregate Bond (CAD-hedged) will hold the US-listed Vanguard Total Bond Market (BND), while the Vanguard Global ex-U.S. Aggregate Bond (CAD-hedged) will hold the brand new Vanguard Total International Bond (BNDX), which is designed for American investors and therefore hedged to the US dollar.

I don’t see these asset classes as core holdings for the average investor, but they might play a role if your portfolio is mostly fixed income. A conservative investor who holds 60% to 70% in bonds, for example, may be able to lower volatility by including a some U.S. and international exposure, since interest rates in various countries do not move in lockstep. (An international bond fund was actually one of the ETFs on my wish list earlier this year.)

As I’ve written about before, I recommend avoiding currency hedging with equities, but it’s a good idea for foreign fixed income. Bonds prices fluctuate less than currency movements, so if you don’t use hedging you will actually increase the volatility of your portfolio without increasing your expected return. That’s the precise opposite of what you want to do when you add a new asset class to the mix.

Rounding out the new lineup

The new tranche of ETFs will include a few other useful funds. The Vanguard FTSE Developed ex North America will be an unhedged version of VEF. This one is also long overdue, but the new iShares MSCI EAFE IMI (XEF) is cheaper and more broadly diversified.

Dividend junkies will be pleased to see the Vanguard U.S. Dividend Appreciation, which will have versions with and without currency hedging. These ETFs will hold the US-listed Vanguard Dividend Appreciation (VIG), which focuses on about 140 companies with a record of increasing payouts. iShares and First Asset already offer US dividend ETFs, but both have fewer holdings and hedge the currency.

Kudos to Vanguard Canada for an excellent new offering. As I see it, there’s only one more hole in the marketplace: an unhedged TSX-listed version of the Vanguard Total International Stock (VXUS). Maybe next year?

49 Responses to The Wait is Over: New ETFs From Vanguard

  1. Stephen June 27, 2013 at 8:28 am #

    If I understand correctly, in a TFSA VUS and VTI will be subject to the same withholding taxes? Is the only consideration, then, the need in the case of VTI to convert to US dollars, or is there some other consideration that would recommend one over the other in a TFSA?

  2. Canadian Couch Potato June 27, 2013 at 9:11 am #

    @Stephen: Yes, the withholding tax is lost in a TFSA regardless of which version you use. In that case, since the only consideration is currency conversion, the Canadian-listed version is likely to be a better choice.

  3. Simon S June 27, 2013 at 9:24 am #

    Hi Dan,

    Could you clarify the sentence “Based on a yield of 2%, the withholding tax amounts to an added cost of 0.30%.” You’re talking about an equity fund here – what is the yield, and why 2%? That makes it sound to me like you’re talking about a bond fund. Probably I’m just missing something. Or are withholding taxes just charged on dividends, and that’s an example average div yield for the whole market? Thanks!

  4. Canadian Couch Potato June 27, 2013 at 10:01 am #

    @Simon S: The last part of your comment is pretty much right on. Withholding taxes are payable on dividends only (not capital gains) and a broad US equity fund has a dividend yield of about 2% these days. The withholding tax is 15%, and 15% of 2% is 0.30%.

  5. James P June 27, 2013 at 10:33 am #

    Follow up to Stephen’s question, if VUS or VTI were held in a non-reg account, would there be any difference in the way the withholding tax was handled? Would I have the withholding tax shown on my T5 or T3 in either case, or would the withholding tax be lost and not claimable on VUS?

  6. Canadian Couch Potato June 27, 2013 at 10:37 am #

    #James P: In both cases the amount withheld would show up on your T-slip and you would have to claim the foreign tax credit on your return.

    http://canadiancouchpotato.com/2012/09/17/foreign-withholding-tax-explained/

  7. Andrew F June 27, 2013 at 11:07 am #

    CCP, just to clarify, withholding taxes apply to ANY distribution, not just dividends. I was confused about this at first, but capital gains distributions, etc. are also subject. Capital gains are exempt, as you say.

  8. Dave L June 27, 2013 at 11:21 am #

    Great to see Vanguard finally roll out more products for the Canadian market.

    RE: Stephen’s question, I assume the higher MER for the Canadian ver of VTI will be higher because of currency exchange. But what if you use DLR and DLR.U to do Norbert’s gambit (as I do now), would the cost be similar? I’d assume that Vanguard will have extremely favorable exchange rate. Has anyone out there done a comparison between using US listed ETF’s via Norbert’s, and the Canadian version with higher MER?

  9. Canadian Couch Potato June 27, 2013 at 11:38 am #

    @Andrew F: Thanks for clarifying. For the record, the large well-established Vanguard ETFs rarely distribute capital gains, so in this specific case that’s not a factor.

    @Dave L: Vanguard’s Canadian ETFs all have higher management fees than their US counterparts, but currency exchange has nothing to do with it. There are just higher admin costs to deal with (and less competition!).

    As for comparing the costs of the two options, this might help. You can download the spreadsheet and adjust the numbers as necessary:
    http://canadiancouchpotato.com/2010/10/18/are-us-listed-etfs-really-cheaper/

  10. Dave L June 27, 2013 at 11:56 am #

    Thanks for the link CCP, didn’t know that you did the comparison already.

  11. Danno June 27, 2013 at 12:22 pm #

    Wicked cool! I agree, a CAD-listed version of VXUS would be great. The only other fund I could possibly want right now would be an EAFE fund, uhnedged, that holds the stocks directly rather than holding a US-listed fund that does (to prevent double-dings on the withholding tax). Other than that I almost can’t imagine what else one could need…

  12. Dave L June 27, 2013 at 2:55 pm #

    Just curious, if the unhedged Canadian version of VUS just carries VTI as its underlying asset, is it possible to do Norbert’s with it?

  13. Canadian Couch Potato June 27, 2013 at 3:37 pm #

    @Dave L: No, you can’t use those two ETFs to do Norbert’s gambit. They are two different securities, not just cross-listings of the same security.

  14. Marc-André C June 27, 2013 at 5:19 pm #

    Hi CCP, I have two questions:
    1) What would be your recommended weight of a international bond ETF to your model portfolios ?

    2) Would you recommend replacing entirely the canadian bond ETF by the international bond ETF since the latter is already diversified ?

    Thanks!

  15. Canadian Couch Potato June 27, 2013 at 6:33 pm #

    @Marc-André: For most investors I would not necessarily recommend any international bonds: I don’t plan to add this asset class to my model portfolios. However, for investor with a high allocation to fixed income (at least 60%), I think it would be reasonable to put about one-quarter to one-third of this in an international bond fund.

    But I have to admit I have no data to back up this opinion. I just feel like international bonds would carry higher expenses (including the currency hedging), so a some home bias makes sense. I am open to other views here, for sure.

    For what it’s worth, the only fixed income funds used by DFA include both Canadian and foreign bonds. This one is about half and half:
    http://www.dfaca.com/downloads/ca/pdf/fact_sheets/fixed_income/investment_grade_fund_f.pdf

    And this one is about 20% Canadian:
    http://www.dfaca.com/downloads/ca/pdf/fact_sheets/fixed_income/five_year_global_fund_f.pdf

    So the smart folks at DFA seem to believe that Canadians do not need to favor domestic bonds on the fixed income side of the portfolio.

  16. Mike June 27, 2013 at 8:20 pm #

    @danno how do we get double dinged on withholding tax with the cross listing?

  17. Kevin Kane June 27, 2013 at 10:55 pm #

    Dan, everything else being equal, would it be better to invest in a Vanguard ETF rather than another fund company’s ETF?

    My understanding is that Vanguard is the only fund company that is client-owned and operated at cost. (Source: http://jlcollinsnh.com/2012/09/07/stocks-part-x-what-if-vanguard-gets-nuked/) The author suggests that Vanguard is the only company whose interests are truly aligned with investors.

    Is there value in Vanguard’s unique structure? Would it be worth paying a premium for — such as perhaps a slightly higher MER on a Vanguard ETF when compared with a competitor’s ETF?

    And to further compare fund companies, is there any evidence or rankings to compare say Vanguard and iShares in their ability to accurately track indexes?

  18. Canadian Couch Potato June 27, 2013 at 11:11 pm #

    @Kevin: Vanguard does have a unique “mutual” structure that aligns its interests with those of the funds’ unitholders. But I wouldn’t go so far as to say it’s always better to use their ETFs rather than their competitors. Vanguard traditionally offers very low fees, so it often stands out for that reason, but in some cases a competitor’s product offers better diversification or a lower MER.

    I’m not sure you can making sweeping generalizations about whether Vanguard or iShares is better at tracking their indexes. Vanguard favours plain-vanilla, cap-weighted indexes and has low fees, so their tracking errors are very low for that reason. iShares products that also follow this type of index have low tracking errors, too. The differences arise only among the iShares ETFs that track more exotic indexes or have higher fees.

  19. Danno June 28, 2013 at 8:00 am #

    @Mike: CCP explains it better than me. http://canadiancouchpotato.com/2012/09/17/foreign-withholding-tax-explained/

  20. James June 28, 2013 at 8:12 am #

    Vanguard recently re-jigged their American target-date funds (not available to Canadian investors, but I still hold some from a prior life working in the US) to include a global fixed income component.

    They’ve published some research that provides justification for including this asset class. Interesting reading (PDF):
    https://pressroom.vanguard.com/commentary/Global_fixed_income.html

  21. Rob June 28, 2013 at 8:48 am #

    CCP,
    Amazing website, love reading all your articles.

    I had a question when it came to buying VTI (vs VUS ). So if the fees are 0.05% for VTI in USD and the new currency hedged version is assumed to be 0.17% in CAD, would the cost of both funds factor in whatever the exchange rate is at the time? I’d assume that if VTI was trading at $100 and $1 USD= $1.1 CAD I could assume VUS would be trading close to or at $110 a share?

    If that’s the case would it still be better to buy the Canadian hedged one to avoid the 0.5%-1.25% exchange fee that brokers like Questrade charge me to convert my funds? I’m currently holding VTI in my RRSP account now.

    Thanks, and I look forward to your next article.

  22. Canadian Couch Potato June 28, 2013 at 8:59 am #

    @Rob: I realize I may have caused some confusion when I referred to Vanguard Canada’s ETFs as being Canadian “versions” of their US counterparts. What I meant was the Canadian ETFs have only one holding, and that holding is the US-listed ETF. So their market exposure is identical. But the Canadian ETFs are not cross-listings of the US versions in the way that, for example, Royal Bank is listed in both the TSX and the NYSE. Which is why you cannot do Norbert’s gambit with the pair of ETFs.

    As of yesterday’s close, VTI is trading at $82.13 USD, while VUS is trading at $32.37 CAD. Those are clearly not equivalent amounts. The CAD/USD exchange rate has nothing to do with the management fee structure of either ETF.

    Sorry if I was unclear about this.

  23. Rob June 28, 2013 at 9:34 am #

    I understand that it’s still a USD fund. How can I figure out which one fits my portfolio better based on comparing fund fees vs USD-CAD exchange fees.

    (I’m re-reading your posts on cost of converting: http://canadiancouchpotato.com/2012/12/17/how-much-are-you-paying-for-us-dollars/ , as well as reducing the cost of currency exchange)

  24. Canadian Couch Potato June 28, 2013 at 10:27 am #

    @Rob: You can try this spreadsheet and adjust the numbers as necessary:
    http://canadiancouchpotato.com/2010/10/18/are-us-listed-etfs-really-cheaper/

  25. jeff June 28, 2013 at 1:18 pm #

    Have been trying to get a copy of Dan Solin’s Smartest Investment Book and everywhere seems to be out of stock. Any suggestions?

  26. Canadian Couch Potato June 28, 2013 at 1:49 pm #

    @Jeff: Do you mean the Canadian edition specifically? Honestly, I found the Canadian content pretty useless. You should be fine with the US version if you can find that (it seems to be in stock on Amazon).

  27. Park June 29, 2013 at 11:33 am #

    This is good news. However, Canadian investors are still paying foreign tax, which they can’t get foreign tax credit for, when they buy Canadian wrap versions of US listed ETFs that invest outside the USA.

    I’ve provided this link before:

    http://www.financialwebring.org/forum/viewtopic.php?f=38&t=115256&p=475999#p475999

    However these 1099 forms show only the gross amounts of dividends/distributions and the amount withheld. They don’t break out the distributions by type, e.g. interest, dividend, capital gain. Under Canadian tax law all of this is considered interest income in any case.

    “As I understand it, CRA would be open to distinguishing between interest and CG distributions if the issuing security sponsor, Vanguard in your example, supplied them with annual returns and accounting that conformed with CRA rather than IRS tax reporting/accounting rules. We all know the likelihood of that.

    As for recovering tax withheld overseas on US-based mutual funds and ETFs, well good luck with that. Presumably it would be possible in principle, but again only if all involved parties submitted pro forma filings under CRA rules.”

    In other words, if BlackRock/BMO/Vanguard did the necessary paperwork using CRA rules, Canadian owners of these ETFs might be able to get credit for foreign tax paid. They also might be able to claim capital gain distributions and return of capital distributions as capital gains and return of capital respectively, and not as the equivalent of interest income.

    TD EAFE efund (mutual fund) has $256 million in assets and an MER of 0.51%; it has the tax efficiencies mentioned in the last paragraph. XIN, iShares EAFE fund (ETF), has $862 million in assets and an MER of 0.50%; it has none of the tax efficiencies mentioned in the last paragraph. And a mutual fund structure is more costly than an ETF structure. If TD’s fund can do it, why can’t XIN?

  28. Andrew F June 29, 2013 at 11:57 am #

    That seems like a great question for Dan to put to some of the ETF providers. I think he’s better placed to get a real answer that us lowly retail investors.

  29. Canadian Couch Potato June 29, 2013 at 4:47 pm #

    I am currently on vacation and unable to respond to comments for a couple of weeks. Stay tuned.

  30. Peter A July 6, 2013 at 11:16 pm #

    Given these new funds, would you make any changes to you Complete Couch Potato Model portfolios?

  31. Canadian Couch Potato July 6, 2013 at 11:57 pm #

    @Peter A: Probably, but I will wait until the funds have been around for a while and we have more info.

  32. Jay Byrd July 9, 2013 at 9:11 am #

    Curious if your model portfolio returns include reinvested dividends for a total return

  33. Canadian Couch Potato July 9, 2013 at 12:10 pm #

    @Jay: Yes, all portfolio returns assume distributions are reinvested.

  34. Steve July 12, 2013 at 7:54 am #

    “However, VTI would be more tax-efficient in an RRSP, since it is exempt from US withholding taxes on dividends, while the Canadian version won’t be. Based on a yield of 2%, the withholding tax amounts to an added cost of 0.30%.”

    So to clarify/confirm…holding VTI in an RRSP is EXEMPT from withholding taxes while holding the unhedged version of VUS in an RRSP would NOT be exempt from withholding taxes?

  35. Canadian Couch Potato July 12, 2013 at 9:20 am #

    @Steve: That’s correct. VTI is a US-listed security and is therefore exempt from US withholding taxes in an RRSP. Canadian-listed ETFs do not qualify for this exemption, even if they hold US stocks.

  36. Steve July 12, 2013 at 11:59 am #

    @CCP So the question becomes which is more cost effective….convert to USD, buy VTI in RRSP and pay lower MER or buy unhedged VUS in RRSP and pay the withholding taxes?

  37. Canadian Couch Potato July 12, 2013 at 12:12 pm #

    @Steve: That’s exactly right. While many investors focus solely on MER, the cost of converting currency can be very high unless you’re comfortable with techniques such as Norbert’s gambit (and even Norbert’s gambit is often inefficient unless you’re converting at least $10,000 or s0).

  38. Steve July 12, 2013 at 2:52 pm #

    @CCP is there a posting comparing and contrasting the costs of converting to USD and purchasing in the RRSP versus purchasing the unhedged?

  39. Canadian Couch Potato July 12, 2013 at 5:08 pm #

    @Steve: You can try the spreadsheet here and just add an additional 0.30% to the cost of the Canadian ETF (this is a tax, not part of the MER, but the effect is the same):
    http://canadiancouchpotato.com/2010/10/18/are-us-listed-etfs-really-cheaper/

  40. Don July 20, 2013 at 7:01 pm #

    Dan. Amazing website. Its a permanent reference for me as I plan for retirement.

    I’m curious about how/whether withholding taxes apply to foreign bond holdings?

    Will the Vanguard U.S. Aggregate Bond (CAD-hedged) be subject to a withholding tax on yields as dividends are from a Canadian ETF that holds a US-listed ETF of US stocks? Similarly, will the new Vanguard Global ex-U.S. Aggregate Bond (CAD-hedged) be subject to withholding taxes as a Canadian ETF that holds a US-listed ETF of international stocks? Cheers.

  41. Canadian Couch Potato July 21, 2013 at 9:58 am #

    @Don: Thanks for the comment. I’m going to look more deeply into this, as there are a couple of issues to consider. First, whether the foreign countries withhold tax on bond interest paid to US funds, and second, whether the US withholds tax when paying it to Canadians.

    There seems to have been some recent (or pending) changes to the law, which prompted iShares to start holding US bonds directly in XHY, rather than holding an underlying ETF: http://bit.ly/117zLZR

    As a result of this new investment strategy, the potential expiration of U.S. tax rules exempting qualified interest income from U.S. withholding tax will no longer affect XHY, as interest income arising from direct investments in U.S. fixed income securities is generally not subject to U.S. withholding taxes.

  42. JohnZ August 13, 2013 at 9:16 am #

    U.S. Total Market Index ETF (VUN) – Hold VTI in Canadian dollar was just listed on Vanguard site.
    https://www.vanguardcanada.ca/individual/etfs/etfs-detail-overview.htm?portId=9557

  43. Danno August 13, 2013 at 12:59 pm #

    Cool. VCN looks like a pretty compelling alternative with the same breadth as XIC and ZCN but lower fee (though getting pretty low/splitting hairs at this point).

    Vanguard managed to do VDU marginally cheaper than XEF, it seems, but less diversified as the article pointed out. I think I still like XEF there.

    IMO VUS/VUN become the de-facto standard for TSX-listed US holdings, and also render VSP/VFV generally useless. Same cost and 1/6 the diversity, not sure what the point there is anymore.

  44. Frank August 16, 2013 at 1:50 am #

    Since the distributions paid out by VUN will be in $CDN, with this be taxed preferentially as a Canadian-sourced dividend? Or is there a government ruling that has this taxed as regular income (As dividends paid out from VTI would be taxed)?

  45. Canadian Couch Potato August 16, 2013 at 8:20 am #

    @Frank: The currency of the distribution makes no difference to its tax treatment. VUN holds US companies so these would be fully taxable foreign dividends.

  46. andrewDIY November 6, 2013 at 10:36 am #

    Dan, I love your website ….Always look forward to your articles!

    Q: When you change your recommendation of an ETF in one of your “Model Portfolios” in favour of an newer , better ETF in the same asset class, what might you recommend I do with the previous ETF that you had recommended prior to the change ?
    For example, I have been buying the ETF’s from your suggestions in your Sept.2010 article, “An ETF Portfolio with Added Dimension” in Canadian Money Saver in a taxable account ;
    But now it seems that a lot those ETFs from that portfolio have been replaced by the ones recommended in your Uber-Tuber portfolio, which has a similar objective as the former one ( e.g : VTI replaces PRF; VBR replaces VTV & VB; SCZ replaces VSS ….etc).

    Should I sell those older recommended-ETF’s & possibly trigger tax & commisions & then replace them with the newest recommendations OR just hold on to them & only buy the newer recommendations to add to that same asset class in future purchases ?

    Any insight from you or anyone would be greatly appreciated !

  47. Canadian Couch Potato November 6, 2013 at 10:55 am #

    @AndrewDIY: Thanks for the comment. My model portfolios are just suggestions, and as a general comment, I like to encourage investors to not spend too much time worrying about individual ETF choices as long as they have the overall asset mix where they want it:
    http://canadiancouchpotato.com/2013/08/20/etf-choices-are-less-important-than-you-think/

    But if you do decide you want to change some of your current ETFs, my suggestion would be to wait until it is time to rebalance the portfolio and/or you are adding new money. Since this will involve making trades, you can accomplish both goals at the same time and keep your transaction costs to a minimum.

    If selling your current ETFs would trigger a significant capital gain, it may not be worth it unless you feel strongly about the switch. I would suggest looking for tax loss harvesting opportunities, whereby you can sell something that has gone down at the same time you sell something that has gone up, with the goal of offsetting the capital gains with capital losses.

  48. sat February 27, 2014 at 11:11 pm #

    I have @ $ 20000 room in RRSP and @ $31000 room in TFSA. I want to invest in ETF’s.
    I am thinking about VCN, VUN, XEF. Please suggest me regarding the tax implication (US or other country withholding tax etc.) If I have to buy VCN where shholud I buy those, in TFSA or RRSP ans same thing about VUN, XEF.

    Thanx

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