Archive | May, 2014

How One Investor Found Inner Peace

Most people who embrace index investing are attracted to the low fees and the proven performance compared with a majority of active strategies. But another advantage sometimes gets overlooked, and that’s the peace of mind that comes from a long-term plan that allows you to ignore the distractions of daily market movements.

I recently received an email from a long-time reader named Steve, who described his investing journey. “I’m curious if my experience of ‘inner investing peace’ is unique or typical,” he says, so with his permission I’ll share some of the details.

“I’m in my mid-40s and I was already familiar with the theory behind passive investing when your blog was becoming popular back in 2010,” Steve writes. “I’d already had run-ins with expensive mutual funds, and I had already done a fair amount of (unsuccessful) investing in individual stocks as well. I had a friend who traded options, and I even dabbled in that. I then moved on to dividend growth investing for a while. My problem was I was never patient enough: I wanted results immediately.”

Shortly after the crash of 2008–09, Steve began reading about indexing and the evidence won him over,

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Ask the Spud: Why Do ETF Yields Differ?

Q: The Vanguard S&P 500 (VFV) currently has a dividend yield of 1.44%, but the US-listed version of the same ETF has a yield of 2.01%. How can these two funds have such different yields when their underlying holdings are exactly the same? – Lindsay

The US and international equity ETFs from Vanguard Canada do not hold their stocks directly: they get their exposure by holding a US-listed ETF. The Vanguard S&P 500 (VFV), for example, simply holds the Vanguard S&P 500 (VOO), which trades on the New York Stock Exchange.

Since the underlying holdings of VFV and VOO are identical, you might expect the two funds to have the same dividend yield. Yet if you visit their respective websites you’ll find the published yields actually vary by 57 basis points. What gives?

More than one way to do the math

Turns out there are several ways to calculate a fund’s yield. Vanguard Canada uses the trailing 12-month yield, which it defines as “the fund’s cash distributions over the past 12 months divided by the end of period net asset value.” The last four quarterly distributions from VFV totaled $0.52905 per share,

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Vanguard Goes Global With New ETFs

[Note: This blog post was updated several hours after it was published, as new information became available.]

The Vanguard Total International Stock ETF (VXUS) has long been part of my Complete Couch Potato portfolio, since it gives instant access to virtually all the world’s markets outside the United States. I’m frequently asked whether Vanguard is planning to launch a Canadian-listed version of VXUS, so investors could avoid the expense and hassle of converting their loonies to US dollars. The answer is probably no—but the solution might be even better.

Vanguard Canada announced today that it will launch five new ETFs later this year, the most interesting of which is the Vanguard FTSE All-World ex Canada. While full details have not been published yet, the preliminary prospectus explains the fund will track “the performance of a broad global equity index that focuses on developed and emerging markets, excluding Canada.” The management fee has been set at 0.25%.

This new ETF is not a Canadian wrapper for VXUS: it will include US stocks and exclude Canada, whereas VXUS does the opposite.

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A Tax-Friendly Bond ETF on the Horizon

Bonds should be part of just about every portfolio, but if you have to hold them in a non-registered account the tax consequences can be onerous. Fortunately, Canada’s ETF providers are taking steps to ease that burden with some innovative new products, including an ETF of strip bonds and another that holds only low-coupon discount bonds. The latest entry is the Horizons Canadian Select Universe Bond (HBB), which is set to begin trading this week. HBB is unique: it’s the only bond ETF in North America—and maybe anywhere—that uses a total return swap, which should dramatically improve its tax-efficiency.

The swap structure is the same one used by the Horizons S&P/TSX 60 (HXT) and the Horizons S&P 500 (HXS), which are now more than three years old. Here’s the basic idea: the ETF provider has an agreement with National Bank (called the counterparty) to “swap” the returns of two different portfolios. When you buy units in HBB, Horizons places your money in a cash account and pays the interest to the counterparty. In return, National Bank agrees to pay Horizons an amount equal to the total return of the fund’s index—that means any price change,

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What Young Investors Need to Know

When I first became interested in indexing, someone recommended William Bernstein’s The Four Pillars of Investing. Originally published in 2002, the book has become a classic for its insight and wisdom, and for Bernstein’s entertaining, no-nonsense style.

But as much as I loved Four Pillars, the 330-page tome wouldn’t be my top pick for a teen or twentysomething who is just getting started. Fortunately, young investors can now begin with a more inviting volume. Bernstein has just released a brief e-book called If You Can: How Millennials Can Get Rich Slowly, available in Kindle format from Amazon for $0.99. And for the next day or so, you can download it for free.

If You Can reveals what Bernstein calls the Five Horsemen of the Personal Finance Apocalypse: the hurdles young people will need to overcome if they are to become successful investors. (The latter four are the same pillars Bernstein wrote about in his earlier book.) At the end of each section, he makes a recommendation for further reading. Here’s a summary of his advice to the millennial generation.

1. You need to save more.

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The High Cost of High Dividends

In our recent white paper, Asset Location for Taxable Investors, Justin Bender and I argue that investors may be better off keeping their bonds in an RRSP, while equities should be held in a taxable account (assuming, of course, that all registered accounts have been maxed out). At the end of the paper, however, we noted one exception: investors who use high-dividend strategies may well be better off sheltering their equities in an RRSP.

Stocks can be relatively tax-efficient because much of their growth comes from capital gains, which are taxed at just half the rate of regular income and can be deferred indefinitely. Canadian dividends also receive a generous dividend tax credit that benefits low-income investors in particular: a retiree in Ontario whose only other source of income is the Canada Pension Plan and Old Age Security might be able to collect more than $20,000 a year in eligible Canadian dividends and pay no tax.

Getting paid taxed to wait

But if you’re still working and earning a good income, a dividend strategy may come at a high cost, especially if your taxable portfolio includes foreign equity ETFs.

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