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By Aman Raina, Sage Investors.com
Special to the Financial Independence Hub
In my first post in this series I described the process I went through to setup a portfolio with a Robo-Advisor service (ROBO). [The Hub’s version ran on Feb. 23: JC]
I contributed $5,000 to meet the minimum investment required and the account was set up.
Two business days later, the money was invested according to the asset allocation weightings the ROBO created based on my responses to questions about my risk tolerances.
To recap, this is my portfolio, along with portfolio weightings allocated by my ROBO:
Dividend Stocks 15%
Risk Managed Bonds 15%
Foreign Stocks 15%
US Stocks 15%
Canadian Stocks 10%
Risk Managed Equities 10%
Real Estate Stocks 10%
Emerging Markets 10%
The ROBO calculated my risk score to be 9, which is high. According to ROBO,
“You seek a portfolio that provides long term growth. Your assets are invested primarily in equities. You accept a high degree of market fluctuation, with the goal of achieving superior long term returns. You accept that there will be times of negative performance.”
I think that’s about right. I’ve been investing for almost 20 years now and have a much greater tolerance for market fluctuations and managing those risks from a tactical and behavioral perspective. Thank you Malcolm Gladwell.
Immediate first impressions
At first glance, I was quite surprised to see the large number of asset allocations. I thought I would see just a handful of ETFs. I was also surprised to see more specialized, tactical ETFs instead of more generic plain-vanilla ETFs that invest in broad indexes. It’s a bit of a flag for me in that these tactical types of funds would skew toward active investing that churns stocks. We’ll see as I open the hood on these investments and I’ll be watching that closely in the future.
Many Robo Services sing the praises of passive, hands-off investing as performing well versus actively managed mutual funds. The allocation of this ROBO makes me at first blush wonder if this will be the case.
So let’s open the hood and see what ROBO has done for me:
DIVIDEND STOCKS (PORTFOLIO WEIGHTING 15%)
ROBO Goal: Ownership in global companies that have a history of increasing dividend payouts. They tend to be large household names, and are less volatile than the broad market. In the current low interest rate environment, they represent an attractive alternative to bonds.
ETF Used: Purpose Core Dividend Fund (PDF), MER 0.66%
The PDF represents a type of ETF called a corporate class fund (CCF). The Canadian Couch Potato ETF site classifies CCFs as:
“…Corporate class mutual funds are not trusts: they’re corporations. A single corporation is set up to hold several funds, each structured as a different share class. For example, a single mutual fund corporation might include a Canadian equity fund, the US equity fund and a bond fund. If you switch between an equity fund and the bond fund—while rebalancing your portfolio, for example—no actual sale has taken place. This allows an investor to defer capital gains until the shares are eventually sold. Unlike trusts, corporate class funds can’t pass along all their income to shareholders, so they also tend to have fewer taxable distributions …”
“…To use an analogy, think of mutual fund trusts as individual houses. In order to move, you need to sell one house and buy another. Corporate class funds are more like a single house with several rooms: you can move from one room to the other without selling anything …”
Got it? Clear as mud?
The Purpose Core Dividend fund is one component of a family of funds managed by Purpose Investments.
According to Purpose, “The fund invests in an equally weighted portfolio of approximately 40 high quality North American dividend-paying equity securities based on a fundamental rules-based portfolio selection strategy that intends to create value and reduce risk over the investment period.”
I’d sure like to know what that selection strategy involves. The average daily volume is about 19,000 shares, which isn’t horrible but isn’t great either. The more vanilla ETF products like Vanguard and iShares have greater volumes. The portfolio has about an even distribution between US and global stocks. Utilities are the biggest sector component at 16.7%, with other sectors like financials, consumer staples, energy, and communication services evenly distributed. I like this as most dividend ETFs are top heavy in financials. The 0.66% MER is rather high. There really isn’t any performance history, so I’m curious why ROBO thinks this ETF is better than other more proven products out there.
RISK MANAGED BONDS (PORTFOLIO WEIGHTING 15%)
ROBO Goal: Debt issued by North American companies and governments to fund activities. Uses a risk management strategy to reduce the risk of interest rate swings.
ETF Used: Purpose Total Return Bond Fund (PBD) MER 0.96%
According to Purpose, “The Purpose Total Return Bond Fund seeks to achieve a positive total return in diverse market environments over time by tactically allocating its assets among a broad range of fixed income securities, including government debt, investment grade corporate debt and high yield debt.”
The phrase that jumps out is “tactically allocating its assets.” Passive portfolios don’t tactically allocate. They just invest in a basket of securities that mirrors a broad-based index. When tactics are involved, isn’t that active investing?
When I looked at the holdings I was surprised to see that the portfolio was comprised of …more ETFs, specifically a family of BMO ETFs comprised of the BMO Mid Corporate Bond ETF, the BMO High Yield US Corporate Bond ETF (C$ Hedged), and the BMO Mid Federal Bond ETF. 64.7% of the Purpose ETF is invested in this BMO Mid Corporate Bond ETF. 64%! My question to the ROBO is why didn’t “it” (remember it’s a computer doing this, right?) just invest in the BMO ETFs directly? The MERs are much lower (0.34% for the Mid Corporate ETF for example). Doesn’t make sense.
So essentially the Purpose Bond ETF is an ETF of ETFs, much in the same model as hedge funds with their Fund of Funds models. Now I get why the MER is 0.96%.
FOREIGN STOCKS (PORTFOLIO WEIGHTING 15%)
ROBO Goal: Ownership share in companies based in Europe, Australia, and Asia. Historically, underperformed US stocks but reduces risk through diversification.
ETF Used: iShares Core MSCI EAFE ETF (IEFA) MER 0.13%
The investment seeks to track the investment results of an index composed of large-, mid- and small-capitalization developed market equities, excluding the U.S. and Canada. The fund generally invests at least 80% of its assets in securities of the underlying index and in depositary receipts representing securities of the underlying index. The underlying index is designed to measure large-, mid- and small-capitalization equity market performance and includes stocks from Europe, Australasia and the Far East.
I found it interesting again that ROBO chose to invest in the US$ version of the iShares ETF. There are similar Canadian iShares products. For example, the iShares Core MSCI EAFE Index ETF (Ticker: XEF) is a currency unhedged ETF that carries an expense ratio of 0.20% versus 0.13% for the US version along with the iShares MSCI EAFE Index ETF that is currency hedged. A good point about the IEFA is that the trading volumes are much higher with average daily volume over 900K shares/day. Overall, it seems like a reasonable allocation and solution.
US STOCKS (PORTFOLIO WEIGHTING 15%)
ROBO Goal: Ownership share in US-based companies. Historically, the major driver of long-term portfolio returns.
ETF Used: Vanguard US Total Market Index ETF (VTI) MER 0.03%
The investment seeks to track the performance of a benchmark index that measures the investment return of the overall stock market. The fund employs an indexing investment approach designed to track the performance of the CRSP U.S. Total Market Index, which represents approximately 100% of the investable U.S. stock market and includes large-, mid-, small-, and micro-cap stocks regularly traded on the New York Stock Exchange and Nasdaq. It invests by sampling the index, meaning that it holds a broadly diversified collection of securities that, in aggregate, approximates the full index in terms of key characteristics.
ROBO decided to go with one of the most vanilla ETFs out there with the Vanguard US Total Market. When you buy VTI you pretty much get exposure to the entire US stock market universe, not just the big names. The ETF has a microscopic MER 0.03%. Again interesting that ROBO went with the US$ denominated version instead of the Canadian version.
PART 2 (b): CANADIAN, RISK-MANAGED STOCKS, REAL ESTATE, EMERGING MARKETS & CONCLUSION
Aman Raina, MBA is an Investment Coach and founder of Sage Investors, an independent practice specializing in investment coaching and portfolio analysis services.
