Spoiled for choice: How investors can navigate the new world of ETF overload
Exchange-traded Funds (ETFs) are now a mainstream investment choice for Canadians, as they are in much of the western world. They are as broadly diversified as mutual funds but famously cheaper: their management expense ratios (MERs) are four to 10 times lower than the average Canadian retail mutual fund, which still sport among the world’s highest investment fees.
Naturally, Canada’s banks have entered the space, bringing it added legitimacy as they did with no-load mutual funds in the 1980s. Apart from the banks’ indirect involvement — they all offer online discount brokerage operations that let DIY investors buy ETFs or individual securities — several also offer their own in-house ETF products.
While vendors are piling into the industry from all corners, the exponential growth of ETFs has left retail investors with a dilemma: how to differentiate between the 700-plus ETFs trading on Canadian stock exchanges (chiefly the TSX) and over 4,000 more worldwide, most of which can be purchased by Canadians. Keep in mind that any single one of these products may hold hundreds of underlying shares. (According to the Canadian ETF Association, as of mid-August 37 providers were offering 721 ETFs in Canada, with $184 billion invested in them. And 14 more ETFs were launched in September alone.)
It’s a mixed blessing but investors now have as many ETF choices as they did with the bewildering array of mutual funds in prior decades. So once again, there are “too many choices for investors,” says fee-only financial planner Robb Engen, who runs the Boomer & Echo
DIY investor Mark Seed, of the My Own Advisor blog, worries ETF proliferation will compound investor paralysis by analysis. The rise of specialized sector ETFs makes this more problematic, as they have higher costs than the first wave of low-cost broadly diversified ETFs epitomized by the late John Bogle’s Vanguard Group. Sector ETFs, and leveraged and reverse leverage funds that let investors bet on the rise or fall of certain sectors, are double-edged swords. The danger is such tools may mean the DIY acronym comes to mean Destroy It Yourself.
Dale Roberts, formerly an advisor for Tangerine now running the CuttheCrap Investing blog, says he doubts added complexity translates into better products, given that indexing and ETFs were born as a marriage of simplicity and low cost.
So what are your options?
To begin with, many ETFs are just variations on a theme. Too many ETFs just means over-diversification, or what some term “deworseification.” All an investor really needs is a handful of low-priced ETFs focused on stocks in Canada, the U.S. and abroad, plus one devoted to fixed income. Such a “Couch Potato” portfolio can be purchased at minimal cost at a discount brokerage, after which little tinkering is required.
Robos offer digital hand-holding, risk and goal evaluation, with access to human advisors if necessary
For those who need a little help in choosing the best ETFs for their particular situation, including setting asset allocation and regular rebalancing, there are options that make navigating ETFs easier: a fee-based advisor may recommend a handful of ETFs, tacking on an annual asset-based fee of one per cent or so to give advice, provide hand-holding during bear markets, and general financial planning guidance.
If you feel you can get by without human assistance, the new one-decision asset-allocation ETFs offer global diversification and automatic rebalancing with rock-bottom fees of roughly 0.2 per cent to 0.25 per cent a year. Vanguard Canada was the first to introduce such an option in 2018. After gathering $1 billion in assets, BMO, BlackRock Canada’s iShares, and Horizons quickly followed with similar offerings and pricing. As Engen says, “Gone are the days when Couch Potato investors had to manage an unwieldy portfolio of five to eight ETFs, forever tinkering to get the right allocation of Canadian, U.S., and International stocks, plus adding bonds, REITs, gold, and more in the hopes of designing a perfect portfolio.”
These solutions let you choose from three to five portfolios ranging from conservative (80 per cent fixed income/20 per cent equities), to aggressive (100 per cent equity) solutions, and more balanced options in between.
If that’s still not for you, robo-advisors are a popular alternative. Robo services arrived in Canada about six years ago, and offer the same selection of low-cost, broadly diversified ETF portfolios but most charge roughly 0.5 per cent more than the pure DIY route: This can be “a great hands-off approach for those who buy into the theory of passive investing, but lack the time, temperament, or skill to build and manage a portfolio on their own,” Engen says.
Dale Roberts thinks robo-advisors are more of a game changer than one-decision asset allocation ETFs. Most Canadians need and want advice and managed portfolios. Robos offer digital hand-holding, risk and goal evaluation, with access to human advisors if necessary. He thinks the future looks bright for these hybrid models of human advice and digital technology.
Jonathan Chevreau is founder of the Financial Independence Hub, author of Findependence Day and co-author of Victory Lap Retirement. He can be reached at [email protected]