The years of low returns on fixed incomeinvestment products stretch on. Higherrates are prophesized to appear ‘soon’,but have yet to materialize. And whenthey do, most observers think the increases will only beincremental, with central banks unwilling to threatenwhat has so far been a very fragile economic recovery.Yet, inflation has started to creep up in Canada (2.36%annualized as of June 2014), food and fuel costs beingtwo of the main culprits. Higher inflation but minisculereturns on government bonds and GICs — every retiree’sworst nightmare.
What are our seniors to do? What they have been doingis buying more Canadian equities, which is totallyunderstandable given the large discrepancy in returnsbetween equities and fixed income. These purchaseshave been mostly in the form of mutual funds and ETFs.Readers of this column know that I, along with a greatmajority of financial commentators, have an aversion tomutual funds because of their high fee schedule and poorresults. Exchange-traded funds or ETFs have substantiallyreduced costs since they, in the main, invest passively inbroad market indices with much lower portfolio turnoversthan active stock picking.
Ellen Roseman has noted that mutual fund assets havegrown by an average 19.4 per cent a year for the last 20years and that more than a third of Canadian householdshold mutual funds (http://www.thestar.com/business/personal_finance/2014/01/26/why_etfs_have_lost_ground_to_mutual_funds_roseman.htm). She also notesthat there has been a shift recently resulting from the U.S.Federal Reserve announcing that their quantitative easingprogram of purchasing bonds would taper to an end, thusleading to an increase in interest rates.
Many Canadian investors cashed in their ETFs andbegan purchasing balanced mutual funds, which are activelymanaged products that juggle the ratio of stocks,bonds, and cash in an attempt to maximize total returns.
Results for the 12 months ending in June 2014 showedbalanced funds leading the sales of mutual funds inCanada, up over 100% compared to June 2013. Whiletotal ETF assets rose 18% year-over-year and the numberof ETFs reached 301, ETF assets still represent only6.4% of total mutual fund assets in Canada (http://www.valuewalk.com).
Have these Canadian balanced mutual funds rewardedinvestors? The June issue of the Canadian MoneySavergives the results for the top 20 Canadian balanced fundsas of April 30, 2014 (pg. 39). These averaged annual totalreturns of 14.01% for 5 years and 7.56% for 10 years(not all funds had a 10-year longevity), with an averageMER of 2.03%. In the same issue (pg. 42) is a list of topCanadian ETFs. The only two balanced funds listed areiShares balanced growth (CBN) with a 5-year total returnof 11.00% and a MER of 0.80%, or iShares balancedincome (CBD) with a 5-year total return of 10.00% anda MER of 0.72. Both these ETFs appear to be amalgamsof other ETFs in an attempt to achieve a balance of equityand fixed income components.
I suppose the ETF passive model doesn’t align very wellwith an active balanced mutual fund where the ratios ofstocks to bonds to cash are always being altered. Perhapsa future ETF product might be designed to compete inthis market. I would think an index fund that puts 50%into a S&P/TSX 60 total return index and 50% into aladdered GIC index could be a start.
What about stocks? Are we forced to buy balancedmutual funds with their high MERs or can we constructour own portfolio of stocks that will do the same or evena better job? I thought this idea was worth investigatingso I put together a group of 13 Canadian blue-chip stocks from those that had appeared in our BTSX portfolioover the years along with some REITs. These are stocksI currently own or have owned; the majority are ones Ihave owned for over 15 years. It seemed to me that if wewere to have a portfolio of only stocks, they should bestocks with healthy dividends to make up for the lack offixed income.
Dividend income combined with capital gains result ina total return that should exceed what might be expectedfrom balanced funds in a period of very low interest rates.
My experience with dividend stocks has shown thatthe best sectors to invest in are telecoms, utilities, realestate, and financials, or as I call them, the TURF stocks.Although I normally include pipelines in utilities, hereI have split them into a separate category. The resulting13-stock portfolio is shown in Table 1. This is not cherrypicking or data mining since, as you can see, there aresome laggards in this group;F
TS, EMA, TA, and CM come to mind. I maintainthat this is a very generic collection of stocks that anyfund manager might have chosen. The current yield ofthis group of stocks is4.20%, as compared to 2.24% forXIU and 2.11% for a BOC 10-year bond.
Our small (many mutual funds own hundreds ofstocks) collection of high-dividend stocks outperformedby quite a wide margin the total return average of thetop 20 Canadian balanced funds for both 5 years and 10years. In fact, this group topped 19 out of the 20 mutualfunds in 5-year returns and all of them in 10-year returns.
Since historical results for the total returns of Canadianstock indices (S&P/TSX Composite; S&P/TSX 60) areconsidered proprietary by the owners and require a paidsubscription, I use total returns for the iShares S&P/TSX 60 Index ETF (XIU) as a proxy. Our portfolio alsobeat the index handily. Yes, I know that dividends cango down as well as up, as TA demonstrated recently, butwith a portfolio whose yield is twice the current rate fora Bank of Canada 10-year bond I feel pretty good aboutour chances of beating balanced mutual funds goingforward. I should note that it has always been difficult forindividual investors to gather data for Canadian stocks.Now, however, a new (to me) website (longrundata.com)provides not only annualized total returns but also thegrowth of a given dollar investment, annualized dividendgrowth rates, and 30-year annual dividend histories. Icompared data from this site with those from one I oftenuse – Yahoo Finance Canada (https://ca.finance.yahoo.com/) and found very high precision. Thanks to JohnHeinzl at the Globe and Mail for reporting on this usefultool (http://www.globeinvestor.com/).
Thus, individual investors have a choice of eitherpurchasing a balanced mutual fund that in any giventime period may or may not produce adequate returns,or setting up a portfolio of high-dividend blue-chip Canadianstocks and holding for a reasonably long time.The portfolio I constructed in this column representsmy thoughts; I’m sure you will have your own ideas. Theadvantages of buying and holding individual stocks areapparent. The only disadvantage I can see is the troubleand cost of portfolio building, but with today’s inexpensiveonline brokerages this is significantly minimized bothin terms of fees and time required.
As always, I hope this column will generate discussionand I will attempt to answer your questions within theguidelines set by the Canadian MoneySaver.
David Stanley, Ph. D.,
P. O. Box 12, Rockwood, Ontario
