I use the Global Couch Potato with e-Series funds in my TD Waterhouse account, but I eventually want to use the Complete Couch Potato. Once my portfolio gets to $50,000 and I qualify for $9.95 trading commissions, should I move everything to ETFs? — Mark V.

If you’re a client of any other brokerage, it makes sense to use ETFs to build the Complete Couch Potato portfolio. But with TD Waterhouse you have the unique opportunity to combine the e-Series mutual funds and ETFs in the same account. For five-figure portfolios (and perhaps even much larger accounts) a hybrid approach is likely to make more sense than using all ETFs.

The Complete Couch Potato has three asset classes that are absent in the Global Couch Potato: real estate, real-return bonds, and emerging markets. There are no e-Series funds for these asset classes, nor are there low-cost index funds from other providers. But that doesn’t mean you can’t create a hybrid portfolio of e-Series funds and ETFs. It would look something like this:

Asset class  % Fund name (ticker) MER
Canadian equity 20% TD Canadian Index – e (TDB900) 0.33%
US equity 15% TD US Index – e (TDB902) 0.35%
International equity 10% TD International Index – e (TDB911) 0.50%
Emerging markets equity 5% Vanguard MSCI Emerging Markets  (VEE) 0.55%
Real estate 10% BMO Equal Weight REITs (ZRE) 0.62%
Real return bonds 10% iShares DEX Real Return Bond (XRB) 0.39%
Canadian bonds 30% TD Canadian Bond Index – e (TDB909) 0.51%
100% 0.45%

A few words of explanation. Vanguard Total International Stock (VXUS), which makes up 15% of the Complete Couch Potato, includes both developed and emerging markets. TD International Index Fund (TDB911), however, includes only the former. So to keep the asset mix close you can use the TD fund for 10% and an emerging markets ETF for the other 5%. I’ve suggested Vanguard MSCI Emerging Markets (VEE) here because it’s the cheapest available on the TSX. The US-listed version has a much lower MER, but an investor with such a small allocation will find it more efficient to trade in Canadian dollars and pay the higher annual fee.

To reduce ETFs commissions further, you might even substitute the PH&N Inflation-Linked Bond Fund (PHN650) for XRB. While this is not an index fund, its MER is just 0.55% and there isn’t a whole lot of active management going on: the Canadian government has issued only six real-return bonds and these make up the lion’s share of every fund in this asset class. Over the last three years the PH&N fund has lagged XRB only slightly. And again, in a small account ETF commissions would likely overwhelm that small difference.

Tallying the costs

The MER of the hybrid portfolio is just 0.16% more than the all-ETF Complete Couch Potato. On a $50,000 portfolio that works out to $80 a year. But it should save you more than that in trading commissions, bid-ask spreads, and currency conversion costs. It will also be far more convenient, since the mutual funds allow you to make preauthorized contributions and all the distributions are reinvested automatically.

As your portfolio grows much larger you can gradually phase out the e-Series funds, starting with those that have the largest price difference compared with ETFs. TD Canadian Bond Index (TDB909) should be the first to go: it has the largest allocation in the portfolio and iShares DEX Universe Bond (XBB) has a fee 0.19% lower. The comparable Vanguard Canadian Aggregate Bond (VAB) would knock off a further 10 basis points.

The larger the portfolio, the greater the advantage of using all ETFs. But you shouldn’t be in a huge rush to get there, especially if you have the opportunity to use the lowest-cost index mutual funds in Canada.