This year is shaping up as a decisive one for exchange-traded fund companies taking out their trash.
In January alone, ETF companies announced they would shut down 29 of their funds. These closings remind us of the financial industry’s willingness to take a flyer on products based on passing fads, but let’s not be too cynical. One of the great all-time investing products, the asset allocation ETF, recently reached its all-important fifth anniversary.
Asset allocation ETFs package a fully diversified, low-cost portfolio in a single fund that you buy like any stock. Pick one with a risk level that suits you, and keep adding money. There you go – a simple plan for long-term investing success.
Think of asset allocation ETFs as a much cheaper version of the mutual fund industry’s ever-popular balanced funds. ETF companies previously made only half-hearted attempts to compete with balanced mutual funds. That changed five years ago, when the Canadian arm of the U.S. investing giant Vanguard introduced a trio of asset allocation ETFs pitched at mainstream investors and their advisers.
There are now a total of six Vanguard asset allocation funds, each built using in-house ETFs tracking widely diversified Canadian and global stock and bond indexes and nothing else. “What we’ve learned is that keeping it simple works,” said Sal D’Angelo, head of product at Vanguard Canada.
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Including the year-to-date period, both the $2.3-billion Vanguard Balanced ETF Portfolio (VBAL-T) and the $3.8-billion Vanguard Growth ETF Portfolio (VGRO-T) ranked first or second quartile in their respective categories in four of five years measured by Morningstar Canada. You’re doing fine as an investor if your funds rank in the top half of performers.
The recent anniversary for the three Vanguard funds is significant because five years is considered long enough to get the measure of a fund’s ability to deliver consistently competitive returns. The five-year numbers are less flattering for the $477-million Vanguard Conservative ETF Portfolio (VCNS-T), which has spent time in the bottom two quartiles.
Vanguard’s six asset allocation funds account for two-thirds of the $14-billion overall value of these products, which in turn account for 4.4 per cent of total Canadian ETF assets. Mr. D’Angelo said global diversification at a low cost is part of the reason for Vanguard’s dominance. The management expense ratios for most of the company’s asset allocation ETFs is 0.24 per cent, which compares to between 1 and 2 per cent or more for comparable mutual funds.
Vanguard also benefits from a first-mover advantage, he said. Before its asset allocation funds appeared, no one in the ETF business had reached out to investors and advisers with a simply built product suitable for all kinds of customers. Mr. D’Angelo estimated that 60 per cent of the company’s asset allocation products were bought for advised accounts.
Other ETF companies offering asset allocation funds include Bank of Montreal, Fidelity, Franklin Templeton, Horizons, iShares, Invesco, Mackenzie, and Toronto-Dominion Bank. You can compare on costs – some Vanguard competitors have MERs of 0.2 per cent – as well as the extent of portfolio diversification beyond Canadian bonds and stocks. Noteworthy in this regard is Fidelity’s decision to include a very small cryptocurrency weighting in its asset allocation ETFs.
A criticism of asset allocation products is that the balanced and conservative versions mean a heavy weighting in bonds, which had a very bad year in 2022 because of rising interest rates. Mr. D’Angelo defended the 60-40 mix of stocks and bonds in VBAL , which last year lost 11.4 per cent as both bonds and stocks fell.
“We think 60-40 is alive and well,” he said. “Our 60-40 Canadian outlook is for an average return of about 7 per cent annualized over 10 years.”
While the cost of asset allocation ETFs is quite low, it’s a little more expensive than assembling your own portfolio of ETFs. Vanguard said the MER premium for owning its original asset allocation funds amounts to roughly 0.07 or 0.08 per cent.
Consider this cost a fair value in light of asset allocation ETFs needing zero work from their owners as a result of built-in rebalancing. When you buy an 80-20 portfolio of stocks and bonds, your ETF company will ensure the mix stays more or less at those levels at all times.
If you can do better as an investor buying your own ETFs, stocks, mutual funds, bonds, guaranteed investment certificates, go for it. If not, asset allocation ETFs are there for you.
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Rob Carrick