Blessed by the Potato

I provided a table of three great options for index investing in The Value of Simple (excerpt in the last blog post). Why those three? Quite simply because they represent the best options available in the market, at various points of trading off cost and simplicity. Aside from paying an advisor to do it for you, nothing gets simpler than Tangerine’s single fund and super-simple website and tablet app. You don’t even have to call someone to set up a preauthorized purchase plan. Many fund companies have regular (no-load) mutual funds that track the main indexes, which will let you set up a good index portfolio with ~4 funds. However, rebalancing 4 funds is the level of difficultly that TD e-series sits at, and nothing is as cheap as that in the mutual fund game. Beyond mutual funds there are ETFs, which is where it gets as cheap as it possibly can, but at a significant step up in terms of difficultly. Questrade offers no-commission purchases, low commissions for sales, and accounts only have to have $5000 to avoid maintenance/inactivity fees.

Here’s a list of the other options, and why they didn’t make the book:

• BMO: Though BMO offers low-cost index funds traded on the stock exchange (ETFs), and in a quasi-Vanguard manner allows its mutual fund investors to invest in the same indexes, it does not manage to make the offering very attractive. Though you can buy in with as little as $50, the MER on their Canadian equity fund is 1.05% — barely a hair below Tangerine.
• CIBC: Index funds have high minimum purchase ($500) and high MERs — at 1.14% it’s higher than Tangerine’s.
• National Bank: Their index funds are moderately competitive, with MERs of just 0.66%. The funds are a little less diverse than I would like — the Canadian index tracks the TSX 60 rather than the full composite, and the US index tracks the Dow (30) rather than one of the larger indexes like the S&P500. The minimum initial investment is $500.
• PC Financial: It looks like PCF has recently updated their offerings to get closer to Tangerine. Their portfolios are marginally more expensive, and include more asset classes. Their “Balanced” fund, for example, has 50% fixed income, of which 5% (of the total fund) is in international bonds. The international equity component is split with separate European and Asia-Pacific indexes. Each fund “portfolio” has a slightly different MER; the balanced fund is 1.09%. Like their CIBC parent, they require $500 to invest at a time. PCF offers a 0.1% discount to the CIBC MER (it’s not clear from their website whether this is included in the MER listed), but this discount is distributed quarterly as extra units and counts as taxable income in non-registered accounts — a nightmare for bookkeeping in a non-registered account.
• RBC: Their index funds are not outrageous with MERs between TD’s e-series and Tangerine — but at 0.72% it’s still beaten by TD’s e-series.
• Scotiabank: The mutual funds arm of Scotia has high initial investment requirements ($1000) and with an MER of 1.00% on their Canadian Index fund they are not competitive with TD — it’s barely better than the simpler Tangerine.
• Scotia iTrade: Scotia’s discount brokerage arm was one of the first to come out with commission-free ETFs (mere weeks after the release of the first book, I might add). However, only a select list of ETFs are available, and none of them are the mainline ultra-low-cost broad indexes. You can build a decent portfolio from their offerings (e.g. to follow the broad TSX composite you would buy both HTX for the TSX 60, and XMD to cover the rest), but the average MER will be closer to ~0.3%, at which point TD’s e-series don’t look so bad, or for large accounts even paying the commission for XIC will put you ahead of using the list of free-to-purchase ETFs.
• QTrade: (Different from Questrade) has some commission-free ETFs; basically the same list as Scotia iTrade.
• Virtual Brokers: Very competitive with no-commission ETF purchases, but require $15,000 minimum account to avoid fees. This was basically a coin-flip as to whether I wanted to include it or not, and in the end I didn’t see anything from VB that Questrade wasn’t already offering, so I kept the line-up as simple as I could.

I was a little hesitant at first to recommend specific companies, but the fact is that they offer indisputable advantages for the reader, and giving detailed step-by-step instructions is only feasible with a few definite options.

For the average investor, a low-cost index investing approach is the easiest and simplest method available, and also provides the highest chances of long-term success. While there is a lot of material available on why investors should choose passive approaches over high-fee active mutual funds and what passive investing products exist, the average investor is at a loss on how to implement a passive index investing plan. The Value of Simple: A Practical Guide to Taking the Complexity Out of Investing provides a plain-language explanation of how Canadians can implement a low-cost index investing strategy, with step-by-step instructions and a focus on developing good investing processes. Coming December 1st.

This is a brief excerpt from my upcoming book The Value of Simple: A Practical Guide to Taking the Complexity Out of Investing. It has been edited to stand alone.

After you’ve done your planning and are ready to invest you have to set up an account somewhere and implement your plan. For most people passive investing through index funds is the best way to go, but even within that strategy there are many options out there. Two key considerations are the cost of investing and the complexity of the system, which may become a balancing act between the two. Don’t underestimate the value of simple — an easy-to-follow investment plan will pay in the long-term if you’re more likely to stick to it. Though nearly every bank and brokerage provider will have some form of account and fund for you to invest in, three excellent options using low-cost index mutual funds or exchange-traded funds (ETFs) are at Tangerine, TD Direct Investing, and Questrade. Each one provides greater cost savings at the trade-off of increased complexity.

In my opinion, TD Direct Investing and their e-series index mutual funds represents the best balance between cost savings and effort required. This is not because I receive any kind of compensation from TD, but rather because I truly believe that the e-series index funds are the hands-down winner for investors starting out. They offer the ability to invest in passive stock and bond indexes, in non-registered, TFSA, RESP, and RRSP accounts, with low MERs on the funds and (if you satisfy certain conditions) no other annual fees. Then they are not much more expensive for ETFs when your account grows larger and you’ll already be familiar with the platform.

Tangerine (formerly ING Direct) is a good option for people with smaller accounts. Things are even easier than TD with their investment funds: all you have to do is pick from one of four basic asset allocations, and they will take care of the rebalancing — and they will even help you decide on your asset allocation through a questionnaire. Just make your regular contributions to the fund you’ve chosen, which you can easily automate with a pre-authorized payment plan. There are no extraneous fees beyond the MER. Tangerine is, simply put, as easy as investing gets without paying a commission to have a salesperson do it for you. The simplicity is great, but the MER of the Tangerine funds is more than double that of the TD e-series funds (yet still half that of typical funds). As your assets grow, this cost difference will become more noticeable. At the hundreds-of-thousands level, you’d be able to go with a fee-based advisor who would use index products for you for a similar fee.

For the absolute cheapest option, commission-free ETFs at Questrade can’t be beat. You pay nearly nothing to buy, and a small commission to sell (about $5-10 per trade, depending on how much you’re selling). And the on-going MER of the ETFs is as low as you can possibly get for investments. However, the order-entry process is a fair bit more complex than with the mutual funds for Tangerine and TD, and you have to deal with rounding off to whole units rather than just investing a given dollar amount.

Three Investing Options — Effort vs. Cost

There are many other options available: every major bank has an associated discount brokerage arm where you can buy the same ETFs available at Questrade or TD Direct Investing; some banks and mutual fund companies offer relatively low-cost funds that are competitive with Tangerine’s. These three options, however, are the archetypical combinations of low fees and convenience at various points along the trade-off. I will provide step-by-steps for using each, along with general information for buying ETFs at brokerages other than Questrade.

Footnote from the table: 40. Assuming 25% in each of a bond fund, Canadian, US, and International equities. For dollar comparisons, assumes $10 in commissions per year. If you decide to shift to ETFs and want to stay with TD Direct Investing, assume that you will have about $40/yr in additional commissions over Questrade. Rounded to 3 significant figures.

This has been an excerpt from The Value of Simple, a how-to guide to index investing for Canadians coming out December 1, 2014.

If you’re interested in opening a Tangerine or Questrade account, I have referral codes in the sidebar which will provide both of us with a bonus.

A little while ago I discussed pricing for the book. I wanted to grow up and move away from the *.99 type pricing to a scheme that would give an even amount after tax, for the few people that might be paying in cash.

Since then I’ve had a little bit of time to very superficially skim the literature on pricing and it looks like yes, people are used to prices set just below a dollar break point, and if you ask them they will rationally round up: show them a book at $16.95 and they’ll say “yes, that’s a $17 book.” No one is fooled by this pricing. But studies also show that despite knowing that, people will still be more likely to buy an item at $16.99 than at $17.00.

On top of that, even if it doesn’t work, that’s the way everyone else does it. So sure, I’d like to move to more rational pre-tax (and thus after-tax) pricing, but Wayfare had a good point: for a book that isn’t going to fly off the shelves no matter the price, why take the risk of setting a price that looks weird? Even though I have full control over my pricing and could set it up to fit my idea of how things should be, it doesn’t make sense for me to try to tilt at that windmill now. The risk of someone going “What’s with that price? This guy must be some crazy self-publisher, I’m out.” are far greater than the chances of someone going “What a novel idea! This book must be even more fantastic!” So when the book comes out, you’ll see the price ends in .95.

Similarly, all-in pricing would make sense. Right now if you pre-order the book from my e-store the special pre-order price is all-inclusive: when you get to PayPal for the final checkout step the price you saw on the front page is the price you’ll pay, no extra taxes or shipping. But again, as Wayfare says, no other store works this way. Sure, Amazon and Chapters will offer free shipping, but only if you order multiple books. Yes, I hate added fees and taxes calculated later — and it makes setting up the e-commerce software much simpler on the back-end — but everyone is just used to those things, and seeing a higher up-front headline price may scare people away. So when the special pre-order discounts go away you may actually see the headline price on my storefront decrease while the all-in price increases as I add a shipping & handling fee on the back-end.

Of course on the flip side, extra shipping costs are the main reason people abandon their shopping carts, so I’ll try to head that off by noting the flat-rate Canada Post shipping in the product description on my page. And all this hand-wringing may not matter past the pre-order period as once the book is listed in Amazon most people will likely follow that link rather than the one to my own store.

One of the challenges I think people have with investing is that the actual purchasing part is quite unlike other aspects of our daily lives. We use metaphors like “fruits and baskets”, describing different accounts (RRSP, TFSA, etc.) as baskets where you place investments (cash, stocks, bonds, funds thereof) — but you can’t go down to your local general store and ask the shopkeep for a half dozen index funds off the back shelf to stick in your basket.

Even after you decide that you want to keep things simple and use a straightforward indexing approach, and you have to figured out what to buy to fit that plan, you have to figure out how to buy those investment products. The big barrier can come when you have to go and “buy an XIC.” There’s no counter you can walk up to and make that happen.

The investment industry is either full-service (with associated fees) or a completely do-it-yourself “wholesale/auction” experience. The high fees attached to many products are built in assuming that you will pay for planning, stock-picking, and other help even if you never get it and you’re only after someone to help you make the transaction. Many people are disappointed with the depth and quality of the advice they receive in a bank branch, and are surprised to find that the staff are in fact in a sales role. Whether satisfied with the advice or not (and in many cases one needs more background knowledge to know that they should be dissatisfied), I think many Canadians are shocked at the fees when put in context.

I think some Canadians do go into the bank not looking for advice, but for a shopkeep. So they’re not dissatisfied with advice because they never really expected any — they were just looking for help making a transaction. But again, the fees for that level of service are shocking.

I would have thought that with TD’s e-series there was enough of a MER there to let the branch staff help with placing orders — even if they were not allowed to spend time on e-series clients — but instead the e-series are completely off-limits to branch staff. There is no minimal-cost “purchase assistance” type service. The closest equivalent is Tangerine, which packages everything together for you so you just need to throw money at the account — it’s the closest implementation I’ve seen to how many people talk about “buying an RRSP.”

And that’s just mutual funds: with ETFs there are added levels of confusion for people expecting the shopkeep model. It is not at all like going in and picking up a cool book that your friend recommended from the shelf — it’s more like buying livestock at auction crossed with a old-time bazaar where everyone is selling everything to everyone else and the prices change by the second.

It would be interesting if someone could take a one-time commission (not an ongoing trailer fee forever and ever amen) to make that a more pleasant retail experience. Put up a list of prices that stay where you put them, and the shopkeep eats the fluctuations; or to make buying ETFs more like buying mutual funds where the division from the money you have to throw at the asset class happens automatically, and where no one gets burned by limit orders or the lack thereof. Getting back to reality, there’s no getting around having to learn this somewhat different (but once you get it, not difficult) way of purchasing investments.

Of course, to help people navigate on their own when there is no clerk to guide them is why I wrote The Value of Simple, and that implementation part forms the meaty middle of the book. Maybe one day more banks and fund companies will drop the pretense of offering high-cost advice and stock picking to every customer, and instead offer transaction assistance for low-cost index funds. Until that day comes, sign up below to receive updates on the book.