A NEW
way to Invest
Jan 31, 2022 Update
I started TheAnswerIs.ca to give young people the basic investment knowledge, and more importantly, the confidence to successfully invest for themselves. In October 2016, when the TheAnswerIs.ca Model Portfolio was launched, the easiest low-cost way to create a diversified portfolio, (economic sector and geographical), was to use six separate ETFs.
Now, there is an even easier way to invest by purchasing a single ETF. The newly launched “Asset Allocation” ETFs are basically a one-stop shop for a fully diversified portfolio and an effective strategy for the most passive of passive investors. These ETFs are powerfully simplistic. Each of these new all-equity ETFs are very well diversified as they each own shares in over 8,000 companies across the world. Remember, the key to investing in an ETF that holds 100% equity is to make sure any money invested can be left untouched for a minimum of 10 years, and preferably much longer.
In my previous article ( A NEW way to invest ), I summarize each of the new ETFs economic sector and geographical diversification, as well as their individual Management Expense Ratios, (MERs).
Vanguard’s VEQT was the first Asset Allocation ETF launched in January 2019, and iShares XEQT followed in August 2019.
Total Return (i.e. ETF unit price changes plus dividends) comparisons of these new ETFs to TheAnswerIs Model Portfolio are only available since August 2019 when all three portfolios existed simultaneously. This time period of 2 years and 5 months is relatively short for comparison purposes, as it is more typical to make Total Return comparisons over three-, five- and ten-year time periods.
Nonetheless, it is interesting to see how the three portfolios performed over the entire period Aug 2019 to Jan 2022, and also to investigate how each portfolio performed for the period of Aug 2019 to the bottom of the pandemic sell-off in Mar 2020, as well as during the recovery period of Mar 2020 to Jan 2022. This analysis illustrates how each portfolio performed during the last Bear (down), and Bull (up) markets.
For the entire period Aug 2019 to Jan 2022, VEQT performed the best with a Total Return of 42%, followed closely by XEQT at 41% and TheAnswerIs at 38%.
For the period Aug 2019 to the bottom of the pandemic stock market sell-off in Mar 2020, XEQT performed the best with a Total Return of negative 18%, (i.e. XEQT lost the least amount of money during this time frame). Next best was VEQT, with a negative 19% Total Return, and TheAnswerIs return with negative 24%. Everyone invested in a 100% equity portfolio will lose money if they sell into a downturn. If they don’t sell in a downturn, they still suffer from “paper losses”, until the ETF unit prices recover. The temporary paper losses are hard to endure, but are the mental price one pays to benefit from the higher long-term returns provided by an all-equity portfolio.
During the recovery phase, i.e. the period from Mar 2020 to Jan 2022, TheAnswerIs portfolio performed the best, with a Total Return of 85%, compared to 77% for VEQT, and 74% for XEQT.
By analyzing the three separate time periods above, we can see how each portfolio performed in differing economic and interest rate environments. A longer time frame is required to draw any firm conclusions about relative Total Return performance.
All ETF performance metrics noted above are measured after the ETF MERs, which by the way, are about TEN times cheaper than the Series “A” Mutual Funds sold by most banks, life insurance companies and mutual fund companies. Read about the danger of high mutual fund fees and 2 other huge investor errors. TheAnswerIs here: The Terrible 2's - Why 2% is the most dangerous number in investing.
The Importance of Dividend Income
Although dividend income has been factored into the Total Returns discussed above, the amount of dividend income a portfolio can generate is an important characteristic of any portfolio. In general, more income is better than less, if Total Returns are comparable.
During the inevitable stock market downturns, the dividends one collects can be thought of as “being paid to wait” while ETF unit prices recover. It can be mentally comforting to see dividend income being paid into one’s investment account every month, even if the market is dropping. It helps to convince oneself not to sell into a stock market downturn.
Based on the last 12 months of actual dividends paid, VEQT has a dividend yield of 1.45%, XEQT’s dividend yield is 1.71% and TheAnswerIs yield is highest at 2.25%. The TheAnswerIs portfolio has a higher dividend yield due to its higher weighting of Real Estate and Utilities economic sectors, compared to both VEQT and XEQT.
These dividend yields look small but can make a significant difference if an investor plans to eventually live off the income from their portfolio without consuming the original capital.
For example, if an investor eventually builds up a $1M portfolio by retirement, the annual dividend income from each portfolio (remember, if an investor has no other sources of income, they can earn $50,000 of dividend income per year tax-free outside an RRSP or TFSA – TheAnswerIs here: Earn $50,000 TAX FREE ), would be as follows:
VEQT - $14,450
XEQT - $17,100 ($2,650 or 18% more than VEQT)
TheAnswerIs - $22,500 ($8,050 or 56% more than VEQT)
Expressed differently, if an investor wanted $22,500 of annual dividend income from their investment portfolio to support their lifestyle, without spending their original capital, then an investor would need to have an investment portfolio size as follows:
TheAnswerIs - $1,000,000
XEQT - $1,316,000 (need to save 32% more than TheAnswerIs)
VEQT - $1,552,000 (need to save 55% more than TheAnswerIs)
The dividend yield has a profound impact on how much an investor needs to save to fund a comfortable lifestyle.
Summary
Both XEQT and VEQT make excellent one-stop choices for investing long-term.
They are both powerfully simplistic and are an interesting alternative to the TheAnswerIs Model Portfolio. The attractiveness of VEQT and XEQT ETFs is summarized as follows:
A single ETF purchase, compared to for example, six ETFs in TheAnswerIs Model Portfolio. The simplicity is fantastic as it has the potential to eliminate the “analysis paralysis” of trying to figure how much, and of what, to invest in
Instant global diversification
Instant economic sector diversification
Automatic rebalancing so that one geographic area or economic sector does not become too overweighted or under-weighted
Extremely low costs compared to Series "A" mutual funds
One final note, both Vanguard and iShares make it extraordinarily easy to introduce fixed income to suit one’s current risk tolerance, or to simply reduce volatility of a portfolio as one approaches retirement. For more discussion on the topic of when to introduce fixed income, TheAnswerIs here: What is the Cost of Playing it Safe with Your Investments (Final Thoughts) . Fixed income can be added gradually, as required, by selling some or all of XEQT or XEQT, and buying one of the following alternative “Asset Allocation ETFs”:
TheAnswerIs.ca Model Portfolio is an interesting portfolio for consideration, given its higher dividend income and resultant lower savings requirement for a given level of income. Critically, the Total Return of XEQT, VEQT and TheAnswerIs needs to be analyzed over a longer investment horizon of 3, 5 and 10 years to draw firm relative Total Return performance conclusions.
| Asset Mix | Vanguard | iShares |
|---|---|---|
| 100% Equity | VEQT | XEQT |
| 80% equity / 20% Fixed Income | VGRO | XGRO |
| 60% equity / 40% Fixed Income | VBAL | XBAL |
| 40% equity / 60% Fixed Income | VCNS | XCNS |
| 20% equity / 80% Fixed Income | VCIP | XINC |
Both VEQT and XEQT are excellent ETF investments for consideration, and very simple alternatives to TheAnswerIs Model Portfolio. Always conduct your own due diligence.
Invest long-term and prosper.