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If making a fresh start with your investments in 2009 means keeping things pure and simple, then it's time you were introduced to exchange-traded funds.
ETFs are a way to invest directly in stock and bonds indexes in Canada and around the world. Whatever they make, you make (with a slight reduction to account for fees). A quick example: owning a share of the iShares CDN LargeCap 60 Index Fund, Canada's most popular ETF, is like owning small slices of all the companies comprising the S&P/TSX 60 Index of dominant blue-chip corporations. Get the idea? With ETFs, you're investing in indexes that are considered definitive measures of stock market performance. These indexes are transparent, easy to follow and based on clear, objective methodology.
Put another way, ETFs have qualities that, as we saw in 2008, are painfully lacking in so many other financial products. Hedge funds are a good example, but so are everyday mutual funds. Some mutual funds went way overboard on the shares of resource companies and were absolutely crushed in the market plunge that began in September. Others funds were found to contain shares or bonds issued by crumbling U.S. financial firms. Investors who chose their own stocks and bonds fared no better in some cases. Supposedly conservative or benign stocks, bonds and preferred shares fell by staggering amounts in some cases last year.
ETFs trade like stocks, which means you need an account at a full-service or discount brokerage to buy them. The fees to own ETFs are much lower than mutual funds, but you do have to pay commissions to buy and sell them. While they have many virtues, ETFs will not protect you in any way from the kind of stock market decline we saw in 2008. Remember: as the major stock and bond indexes go, so go ETFs. And yet, ETFs offer two very significant comforts to investors. One is that they know exactly what they own and thus can properly structure their portfolios to provide a cushion for bad times. The other is that ETFs offer about the simplest way possible to build properly diversified portfolios.
Maybe the worst thing you can say about ETFs is that they're too successful as a financial product. Whereas there were several dozen ETFs maybe 15 years ago, today there's close to 850 in North America alone. For a survey of what's available, go to Globeinvestor.com's filter page and look at the ETFs listed on the Toronto and New York stock exchanges. How do you narrow the field and avoid the many waste-of-time ETFs available today?
One way is to stick to ETFs traded on the TSX. There are 97 TSX-listed ETFs, but you can eliminate 19 or so of them because they're special products designed to be sold by investment advisers (you'll know them by the .A after the symbol, as in CRQ.A). Most individual investors can further eliminate the 28 or so leveraged ETFs offered by the Horizons BetaPro family. These ETFs are designed to provide returns that are double what the markets do on a given day and they're best handled by highly experienced investors. This leaves us with 50 or so TSX-listed ETFs to choose from, including funds that target Canadian, U.S. and global stock indexes, as well as stock market sectors and bonds. There are also several "wrap" ETFs, which provide a fully diversified portfolio conveniently wrapped up in a single fund.
Here's a quick example of how to put a diversified portfolio together in simple fashion with ETFs:
There's nothing clever, trendy or overtly aggressive about this hypothetical grouping of ETFs, just basic portfolio building. Think of it as a fresh start, plain and simple.
Rob Carrick has been writing about personal finance, business and economics for more than 12 years.