ETFs
Should we switch from mutual funds to ETFs? Here’s what the experts say
Mutual funds have recently come under scrutiny due to their high costs compared to newer alternatives, such as exchange-traded funds. (THE CANADIAN PRESS/Adrien Veczan) (The Canadian Press)
Mutual funds have long been a popular investment vehicle among Canadians. And for good reason, says Stephanie O’Mahoney, head of operations and portfolio management at Super Advisor.
“Mutual funds were an amazing revolution in personal finance because they allowed everyday people to buy into the stock market,” O’Mahoney told Yahoo Finance Canada.
Previously, investors had to work with a broker to buy individual stocks, and that wasn’t cheap, O’Mahoney notes. Mutual funds allow investors to pool their money to access a collection of stocks and other assets, all managed by a professional fund manager.
“So when they came to Canada, it was a clear victory for the people,” O’Mahoney said.
But they have recently come under scrutiny due to their high costs compared to newer alternatives, such as exchange-traded funds (ETFs), O’Mahoney says. Mutual fund fees in Canada are also among the highest in the world, according to The morning star.
And yet, Canadians still hold more than $2 trillion in mutual fund assets, according to data published last month by the Investment Funds Institute of Canada (IFIC). O’Mahoney questions whether it is still the “most useful and profitable way” for Canadians to invest their money.
“At this point, I don’t think it applies to your broad portfolio anymore,” she said.
Understanding the performance of your mutual fund
To better understand the mutual fund you’re investing in, O’Mahoney suggests looking at two key metrics: the management expense ratio (MER) and the fund’s growth relative to an index. Both are displayed on your fund’s Morningstar page, which can be found with a quick Google search, she notes.
“The reason I talk about MERs is because finance is one of the few industries where we have what’s called embedded fees,” O’Mahoney said. “So the customer doesn’t get a statement of how much they’re paying for that investment. This comes from their return.
When a fund reports its performance, the fees have already been deducted. No additional calculations are required. But mutual fund returns often lag the market relative to their MER, notes O’Mahoney, which is why she says it’s important to compare the fund’s growth to the market as a whole or to the index.
The story continues
Over the past ten years, only 3.37 percent of actively managed Canadian equity funds outperformed the S&P/TSX Composite Index, according to Research on S&P versus Active (SPIVA) indices. And as for the funds that achieved performance in the first quartile, SPIVA found no evidence of persistent outperformance over a period of five years.
“The only part of persistence that exists is that bad people stay bad,” Cameron Smith, a wealth advisor at Investment Planning Counsel, told Yahoo Finance Canada. “Other than that, it’s relatively random. So at what point do you just say, “If you can’t beat him, join him?” »
ETFs, the “best alternative” to mutual funds
Smith and O’Mahoney agree that a low-cost passive investment strategy aimed at tracking the index will be the right approach for most Canadians. This is a large part of the reason why ETFs continue to grow in popularity.
So far in 2024, net sales of Canadian ETFs stand at $12.63 billion, compared to $2.65 billion in net sales of mutual funds, according to the latest IFIC data.
“ETFs are the best option as an alternative to mutual funds in Canada,” said O’Mahoney, noting their ability to track global markets at low cost.
If a client is passionate about trying to get a different type of exposure in their portfolio, perhaps moving away from ultra-high-cap technology stocks and toward small-cap companies, O’Mahoney says that there may be reason to pay more for these securities. certain mutual funds. Even then, she generally recommends allocating no more than five to 10 percent of a portfolio to them.
“The biggest determinant of long-term returns is actually how much fee you charge,” Smith said. “So a mutual fund that charges 1 or 1.15 percent a year versus an ETF that charges 0.2 percent, that’s a lot of money.”
Smith says it’s important to understand what type of mutual funds and ETFs you’re investing in. Although not the norm, ETFs can be actively managed and mutual funds can be passively managed. What really matters are their underlying holdings and the fees they charge.
Consider getting personalized financial advice
Despite all the talk around fees, O’Mahoney stresses the importance of getting professional financial advice, as most people will need more support to achieve their goals than simply reducing their investment costs.
And advice should go beyond investment selection. A good advisor can add up to 3 percent net returns through tailored wealth management and financial planning strategies, according to Vanguard“rather than trying to outperform the market.”
If you own a Series A mutual fund, you’re already paying for this advice through the MER, notes O’Mahoney. But she says many people “don’t get that personalized experience.”
“Whereas a Series F fund doesn’t take into account the cost of advice,” O’Mahoney added. “So you’ll get a cheaper fund, but you’ll have to seek advice elsewhere.”
However you choose to invest, by not getting advice, she says, “you’re going to expose yourself to a lot of risk anyway.”
Farhan Devji is a freelance journalist and published author based in Vancouver. You can follow him on Twitter @farhandevji.