As regular readers of MillionDollarJourney know, we are big fans of Exchange Traded Funds (ETFs) which are one of the fastest growing products in the market.
Were it not for the fact that financial firms and advisors have less incentives to sell ETFs than other investments such as mutual funds (that provide them with annual fees), the growth would probably be even more spectacular.
Having said that, ETFs don’t always have the best performance, and are sometimes outperformed significantly by other investment options. This also means that over years, the standard composition of most ETFs has shifted – with fixed income, commodities and FX now representing a much larger piece of the pie.
For most investors, ETFs represent the easiest and cheapest way to gain exposure in a variety of different sectors or asset classes. Investing in currencies or commodities was done by pension funds or hedge funds only a few years ago but it is now just as easy to do so for individual investors.
It might not be 100%, but a very large majority of individuals and professionals believe that portfolio diversification represents an important way to gain the same return but with lower risk. 20 years ago that meant buying bonds, private investments, etc. The major problem with that strategy is illiquid investments are often very expensive if you are not pouring a major amount of capital.
A prime example is looking at the prices of a bond when you are buying $50,000 worth. It is understandable of course that sellers will give better prices to buyers of millions of dollars as it is an easier trade for them. Take a few percentage points here and there and you will see just how much of an impact it can have over a life of savings and investing.
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Investing in ETFs – Pros and Cons
So, should you invest mostly (or only) in ETFs? Here are some of the common pros and cons to help you decide:
ETF Investing Advantages
- Most diversified
- More tax efficient (read our article on capital gains in Canada)
- Easiest and quickest way to invest
ETF Investing Disadvantges
- Costs can be high, depending on the broker you use
- Still has some investing risks
Should Canadians Invest Just in ETFs?
In many ways, ETFs provide a viable alternative as they offer the opportunity to get broad (corporate bonds) or specific (1-3 year treasuries) positions that will not cost you much in terms of commission. Furthermore, ETFs will get you much better pricing and potentially much improved returns over the long term.
Because of that, I believe that in most cases, investors can keep over 90% of their portfolios in ETFs. Of course, the more money you have to manage, the greater the possibilities which at that point, ETFs might not represent as much of a bargain. If that’s the case, read our guide for high net worth investing to see how you can further balance your investments.
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