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Additions
Horizons Active Corporate Bond ETF (TSX: HAB) – This is an actively managed bond ETF that is run by the fixed income team at Fiera Capital. Fiera is a Montreal based Canadian money manager with more than $144 billion in assets under management. The company offers a wide range of investment strategies from traditional fixed income and equities to alternative strategies and ESG investing. This ETF is managed using a blend of top down macro analysis and bottom up security selection. The process starts with an overview of the economy and bond market, looking at the outlook, their expected outcomes, and how the market has priced each area. This helps to identify the mispricing and the potential for outsized gains. They will also review the trends and consider the outlook for central bank activity and the direction of yields. Once this is complete, they look for the sectors that offer the most attractive opportunities and then seek to identify individual issues where the true value has not been fully recognized by the market. The Managers have the flexibility to invest in the areas where they see the best opportunities, irrespective of the constraints of a benchmark. It is expected the portfolio will be overweight corporate issues in most scenarios as Corporates tend to offer higher yields and less interest rate sensitivity than government bonds. At the end of April, the ETF had just over 1% in government issues with the balance in corporate credit. Performance has been strong, outperforming the broader Canadian bond market over the past three years. It trailed in the last year on the overweight to corporate bonds as corporate bonds underperformed governments on worries over a slowing economy and the potential fallout from an escalating global trade war. Costs, while more expensive than the passive bond options are very reasonable. The management fee is 0.50%, which results in an MER of 0.59%. This ETF replaces the Invesco Tactical Bond ETF (TSX: PTB) which I am removing from the ETF Focus List immediately.
Vanguard Global ex-US Aggregate Bond Index ETF C$ Hedged ETF (TSX: VBG) – When doing a fulsome review of the ETF Focus List, I noted that there was not much in the way of global fixed income exposure on the list. To remedy that, am adding this Vanguard offering to the list immediately. It provides low cost exposure to the Bloomberg Barclays Global Aggregate ex-USD Float Adjusted Index, which invests in a diversified portfolio of investment grade bonds from issuers around the world, excluding the U.S. The portfolio is extremely well-diversified holding nearly 6,000 issues. The largest country weights at April 30th were Japan at 21%, France at 12%, Germany at 11%, and Italy and the UK at 8% each. There is a very modest Canadian weight at just under 6%, which makes this a nice compliment to a bond sleeve that is heavily weighted toward Canadian issues. Credit quality is very high with nearly 75% of the Fund rated A or better. There are no high yield or unrated issues in the portfolio. An unfortunate downside to this ETF is that yields around the globe are quite low, with the result being an underlying yield to maturity of just 0.88%. The average maturity is just shy of ten years resulting in a duration of 7.8 years. In practice however, I believe this number overstates the sensitivity to interest rates because of the very well diversified portfolio with a wide range of geographic exposure. We would need to see a coordinated rise in yields across several countries or regions before the duration would be a concern. Costs are reasonable with a management fee of 35 basis points. Given the current environment I would likely favour the iShares Core Canadian Universe Bond Index (TSX: XBB) as my core bond holding over this offering because of the higher Canadian bond yields available. The yield to maturity of XBB is higher at 2.15%. All things considered, this can be a great diversifier if used as a portion of a fixed income sleeve of a portfolio.
iShares Core Balanced ETF Portfolio ETF (TSX: XBAL) – In general, I’m not a big fan of balanced funds. This is particularly true with ETFs as the wide selection of higher quality low cost investments available in an ETF provide investors with a great deal of options and control when creating their own balanced portfolios. However, I also realize that there are investors who are looking for a one ticket solution and this newly revamped ETF from iShares may be a strong contender. It invests in a basket of other low cost, mainly cap weighted iShares and has a strategic asset mix of 60% equity and 40% fixed income. At the end of May, it held roughly 38% in bonds, 15% in Canadian equity, 27% in U.S. equity and 18% in international stocks. Any foreign currency exposure for the fixed income sleeve is hedged back to Canadian dollars, while the equity sleeve remains unhedged. This would be expected to be beneficial in a meaningful market selloff as investors tend to flock to the U.S. dollar, pushing it upward, which would help mitigate some of the downside for the equities. The fund is rebalanced continuously to ensure that the asset mix remains near the target. In December, when the ETF was repositioned, the management fee was reduced to 18 basis points. It is expected the all in cost will come in at approximately 21 basis points, including the management fee of the underlying ETFs. The asset mix is roughly in line with the Vanguard Balanced ETF Portfolio (TSX: VBAL), however I favour the iShares offering for its lower costs. VBAL has a management fee listed at 22 basis points. I have always maintained that when looking at two very similar investments, it is very prudent to favour the one with the lower cost structure. If you already own the Vanguard offering, I don’t see a compelling reason to switch given the slight difference in cost. However, if you’re looking for a new one-ticket offering, this would be my pick.
iShares S&P/TSX Completion Index ETF (XMD) – For Canadian investors looking for Canadian small and mid-cap ETFs, there aren’t a lot of choices. In fact, a very quick scan on Morningstar shows there are only six Canadian traded ETFs that focus on small and mid-cap issues. Looking at the available options, this cap weighted ETF looks to be the most attractive. It seeks to track the S&P/TSX Completion Index, which is an index made up of the stocks in the S&P/TSX Composite Index that aren’t found in the S&P/TSX 60 Index. The portfolio is well diversified, holding more than 180 names. The top ten holding represent slightly more than 20% of the overall portfolio. From a sector perspective, it has significant exposure to energy and materials, which when combined make up roughly 28% of the portfolio. However, it has less exposure to those cyclical sectors than the S&P/TSX Small Cap Index. This results in significantly less volatility than the small cap index. One drawback is that it is not exactly cheap, carrying a management fee of 0.55% that results in an MER of 0.61%. Despite this high price tag, it is the cheapest option around. Typically, I favour an actively managed strategy for small and mid-cap exposure because a high quality manager is more likely to be able to generate alpha relative to the passive benchmark in the small and mid-cap space. Unfortunately, there isn’t much choice in the ETF space, making this the de-facto option for those looking for an ETF. I am substituting this for the iShares S&P TSX Small Cap ETF (TSX: XCS) which I am removing from the Focus List. I am making this substitution as I believe that as we head into a potentially more volatile period, the large companies in the completion index will hold up better than the small caps. Further, the reduced exposure to the cyclical sectors should also provide a better buffer against volatility going forward.
Vanguard S&P 500 Index ETF (TSX: VFV) – This Vanguard offering is designed to track the S&P 500 Index. I am adding it to the ETF Focus List replacing the iShares Core S&P 500 ETF (TSX: XUS) because of its lower cost. Vanguard’s version has an MER of 8 basis points, compared to 11 basis points for the iShares offering. If you hold the iShares offering, there is no immediate reason to switch, however for those looking to initiate new positions, you may want to consider Vanguard because of the lower cost. I have always said that if there are two substantially similar offerings, you should favour the lower cost version.
iShares MSCI Minimum Volatility USA ETF (TSX: XMU) – Conventional wisdom suggests that if you want to earn higher returns, you need to take bigger risks. While there is some truth to this, mounting evidence shows that there is a notable exception in that over the long-term, many stocks that exhibit lower levels of volatility tend to outperform those with higher levels of volatility. Further, when a low volatility strategy is used in a portfolio, it can also help to reduce the overall level of volatility in the portfolio, without there being any material impact on the return potential. This offering from BlackRock’s iShares is my top pick for low vol exposure to U.S. equities. It is designed to track the performance of the MSCI Minimum Volatility USA Index, net of fees. Over the past five years, it has outperformed the broader market with less volatility. It has delivered roughly 90% of the upside of the market, while participating in less than two thirds of the downside. The currency exposure is unhedged, which is expected to help reduce downside in periods of market volatility. This happens because typically investors flock to the U.S. dollar in periods of market stress at a safe haven, pushing up the value of the U.S. dollar, increasing the value of any positions held unhedged. A full currency hedged version is available under the ticker symbol XMS. Costs are reasonable with a management fee of 0.30% resulting in an MER of 0.33%. I’m not sure I would use this as a core holding, but rather as a piece of a well-diversified portfolio with the main objective of reducing overall volatility.
BMO U.S. Dividend ETF (TSX: ZDY) – Over the long-term dividends have historically made up a meaningful part of the total return of equity markets. This ETF provides investors to a yield weighted portfolio of U.S. dividend stocks. The portfolio is built using a rules based approach that scores U.S. traded companies on many factors including liquidity, three-year dividend growth rate, dividend yield, and payout ratio. The portfolio is rebalanced once a year in June, and the screening process is run annually in December. At the end of May, the underlying dividend yield was just north of 3%, compared with the 2% yield of the broader U.S. equity market. Performance has been decent, gaining an annualized 13.5% for the five years ending May 30. This trailed the index, but outpaced its U.S. equity peer group. Volatility has also been well below the index and peer group. The currency exposure is unhedged. If you prefer, ZUD will provide you the same underlying investment exposure, but with the currency fully hedged. Costs for both the hedged and unhedged version are higher than a pure cap weighted ETF with a management fee of 0.30%. Still, I believe this to be the strongest Canadian traded U.S. dividend offering currently available.
BMO International Dividend Hedged to CAD ETF (TSX: ZDH) – One area I noted the ETF Focus List was lacking exposure to was International or Global Dividends. With that in mind, this International focused dividend offering from BMO was the most attractive Canadian traded offering. Like its U.S. counterpart, ZDH is constructed using a rules based approach that scores non-North American traded companies on many factors including liquidity, three-year dividend growth rate, dividend yield, and payout ratio. The portfolio is rebalanced once a year in June, and the screening process is run annually in December. Over the most recent three-year period (to May 31), the ETF returned an annualized 6.9%, which outpaced the 6.4% rise in the MSCI EAFE Index (USD). Currency exposure for this ETF is fully hedged back to Canadian dollars. If you prefer an unhedged currency version, you’ll want to consider ZDI. Costs are fair, with a management fee of 0.40% resulting in an MER of 0.44%.
Deletions
Invesco Tactical Bond ETF (TSX: PTB) – I have to admit that I was, and still am rather fond of the idea of this ETF, particularly as we head in to what could be a potentially challenging market environment. What’s not to like about the idea of a team of fixed income experts from one of the world’s largest investment managers making tactical shifts among several underlying fixed income strategies including Canadian government bonds, investment grade corporate bonds, real return bonds, and U.S. high yield bonds, based on market conditions? It’s not that they did a bad job at it. In fact, performance was downright decent, gaining an annualized 3.1% for the five years ending May 31. However, when we compare that to the iShares Core Canadian Universe Bond Index (TSX: XBB) which gained an annualized 3.5% over the same period, the ETF just did not add any appreciable value. Interestingly, the difference in return is nearly identical to the difference in MER. PTB carried an MER of 0.54% compared with 0.10% for XBB. Further, when looking at other active fixed income ETFs, the Horizons Active Corporate Bond ETF (TSX: HAB) provided a more attractive risk reward profile than this, and has been added to the ETF Focus List in place of PTB.
iShares S&P/TSX Small Cap Index ETF (TSX: XCS) – This ETF provides cap weighted exposure to the Canadian small cap equity universe. To qualify, a company must have a total market value of at least $100 million, but less than $1.5 billion. The index is reconstituted semi-annually. While this is a decent proxy for Canadian small caps, I believe the iShares S&P/TSX Completion Index ETF (TSX: XMD) is a better representation. Given that, I removed XCS from the ETF Focus List and replaced it with XMD.
iShares US Fundamental Index ETF (TSX: CLU) – This is an ETF that looked good in theory, but in practiced has not delivered compared to a basic cap weighted index. Unlike the S&P 500, which weights companies in the index based on their size, CLU looks to replicate an index where companies are weighted based on fundamental factors including dividends, free cash flow, sales, and book value. The rationale for this type of strategy is that by focusing more on company fundamentals, it is less likely to have an overweight exposure to overvalued companies. The theory is solid, but the ETF has not delivered from a return perspective, either on an absolute or risk adjusted basis. For example, the ETF has returned an annualized 5.4% for the past five years, however, XSP, an ETF that tracks the S&P 500 gained 8.6% over the same period. Somewhat surprisingly, the volatility of CLU has also been higher, resulting in lower risk adjusted returns. Factor in a significantly higher cost and it becomes more difficult to continue to keep this ETF on my ETF Focus List. As a result, I am removing it from the list immediately.
iShares Core S&P 500 Index ETF (XUS) – Let me start by saying this is a very good ETF. It is designed to replicate the performance of the S&P 500 in Canadian dollar terms. I’m sure you’re now asking that if it is so good, why am I taking it off the ETF Focus List? It all comes down to cost. The Vanguard offering, which is taking this ETFs spot on the ETF Focus List, VFV, carries a management fee of 8 basis points compared to XUS which is 0.10%. I have always emphasized that if there are two ETFs that have substantially similar, or in this case identical risk reward characteristics, you should always favour the one with the lower cost. If you currently hold XUS, I don’t see an immediate need to sell it and move into VFV. However, if you are looking to add a new position of low cost U.S. equity exposure to your portfolio, I would favour VFV.
iShares International Fundamental Index (TSX: CIE) – This ETF is very much like the iShares US Fundamental Index (TSX: CLU) discussed above in that it looks to replicate an index where companies are weighted based on fundamental factors including dividends, free cash flow, sales, and book value. The key difference is that instead of investing in U.S. companies, it invests in non-North American companies. But similarly to the CLU, the investing experience has been similar with an underperformance both on an absolute and risk adjusted basis. As a result, I am removing it from the ETF Focus List immediately.
ETFs of Note
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