If you want your money to grow over time, consider investing in an ETF—but first learn what it is.
A while back, I sat down with a business-journalist friend who warned me that keeping my money in a savings account was making it disappear. I’ve always been pretty good at making money vanish on my own, so my decision to open a savings account had been a concerted effort to do the opposite. I thought it was a safe way to make money grow over time. Albeit, a long time. My pal pointed out that while the interest rate on my high-interest savings account was 1.5 per cent a year, Canada’s rate of inflation hovers at almost double that. So despite earning 1.5 per cent in annual interest, at current inflation, every dollar in that account was losing almost as much in purchasing power each year.
I resolved to turn the tide. I looked to the financial markets and visualized becoming a thousandaire tycoon. I researched, I interviewed and, within a week, I was fragile, terrified and overwhelmed. I put down the books, called my bank and took their advice. I bought a bundle of exchange traded funds—a good move and a bad move. I’ll explain.
ETFs are built to mirror the movements of a chosen market, like the TSX. They’re bought and sold like stocks, which means you can yank your money out without much hassle. That sounded good. They’ve risen in prominence over the past few years because they often outperform mutual funds while charging lower management fees. Also good.
Mutual funds are actively managed. Managers buy and sell stocks within a fund in hopes of avoiding dips and securing big returns. That activity costs money, and those costs are passed down to the consumer. In Canada, mutual-fund management fees are some of the highest in the world, averaging about 2.5 per cent of your investment annually.
Also, many actively managed mutual funds have a history of generating smaller returns than a benchmark index like the S&P 500 or the S&P/TSX Composite. So in buying an ETF that mimics the makeup of, say, the TSX, you’re likely to fare better than you would with a mutual fund. Advantage, ETF.
Plus, without any active trading by managers, ETF management fees are usually well under one per cent. This means if you buy an ETF that follows the TSX, and the TSX goes up by five per cent, your ETF also goes up five per cent, minus the small fee and any commission you’ve paid to a bank or broker to buy it.
My banker said my ETF investment was projected to make five per cent in interest a year and that if I hung onto the investment for six to 10 years, that interest would really add up. I said, “Fine.” She asked if I was sure I wanted to transfer all of my savings into the one ETF fund. I said, “Absolutely…I think.”
I spent seven months watching my savings undergo what I believe is called a holy-hell decline, before panic broke me and I hauled out what was left. The TSX was going through a rough patch. And so was I.
Here’s what I should have done, according to Michael Yhip, CEO at Toronto’s Garrison Hill Capital Management. “If you believe the world’s going to keep turning and you don’t need the money right away, you’re going to be okay for 20 years investing in [such a fund].”
Translation: Yhip thinks individual, passively managed, Canadian stock market–index ETFs are a promising way to build your savings over time. But you must choose wisely, understand what you’re buying and avoid panicking when times get tough. He suggests investigating the XIU, which is an ETF run through iShares that tracks 60 of the largest companies on the Toronto index.
“It’s natural to invest in your own backyard,” he says. “If you put 25 per cent of your money into the TSX 60 for 10–20 years, I’m confident that’s not gonna be a bad thing.”
Translation: Stick with Canada and don’t put all of your money in one place. Diversification is important, but buying investments in different currencies can hurt you. Buying an American ETF with U.S. dollars means that if the U.S. dollar loses value against the loonie while your money is locked up, you’ll lose money even if your investment does well, since you’ll eventually need to convert everything back to Canadian bucks.
“Doyle, you’re an idiot.”
Translation: Given the small amount I had to invest, I should have set up a discount brokerage account—a personal trading account that you access online. It lets you buy and sell without a broker, which saves you money, assuming you’re willing to do research.
Relationships are hard. When it comes to buying an ETF, it can pay to be a lone wolf.
Hilary Doyle is a broadcast journalist who wrote and starred in CTV and BNN’s financial comedy series Stock & Awe.