The Little Book of Safe Money
Jason Zweig

“The keys to investing are simple: diversify, keep costs low, buy and hold.”

“Like dieting, investing is simple but not easy.”

“It is absolutely mandatory for you to keep a reservoir of liquidity in your portfolio at all times.”

“No matter how valuable an investment may be or appear to be, it’s of no practical value to you unless it’s liquid when you need to cash out.”

“The biggest single holding in your portfolio is you: the income that your career will generate over the rest of your life.”

“Anyone whose human capital is vulnerable to the escalating cost of living should consider investing heavily in TIPS.”

“Wall Street is forever inventing another newfangled way to promise higher yield at low risk.”

“In Japan at the end of 1989, the leading Nikkei 225 stock index was at 38,915.87; two decades later, it languishes below 10,000.”

“Invest as if stocks are likely-but not certain-to beat all other assets. Keep some money in bonds, cash, and real estate just in case they do better.”

“Stocks are not certain to outperform bonds and cash no matter how long you hold on.”

“Men should make a special point of having their wives review any choices the husbands regard as a sure thing.”

“It is irresponsible for a husband to keep such tight control of the family’s investments that his wife will find them completely unfamiliar after he is gone.”

“In the stock market, much of what seems to be patterns is, in fact, just random noise.”

“You should never act on an investing idea the same day you get it.”

“Never invest in anything on the recommendation of a friend or family member alone.”

“Commit to a dollar-cost averaging or automatic investment plan that require you to add a little bit of money every month.”

“If you are investing for retirement 30 years away, buy a total stock-market index fund and hold it continuously for the next three decades.”

The Millionaire in You
Michael LeBoeuf

“Money should be invested passively. Passive investing means buying and holding no-load, low-cost index mutual fund with performances reflecting that of entire markets.”

“Don’t waste your time playing the market. Own the Market, live your life and enjoy the journey.”

“Taylor Larimore–summarized the index advantage best: “Index funds offer much more than superior returns. They also provide maximum diversification, no overlap, no style drift, no manager changes, lower turnover, lower expenses, lower taxes, greater simplicity and peace of mind.”

“The master key to wealth can be summed up in just one word: Simplicity.”

“The main reason index investing is so successful is because fewer people have their hands in your pocket.”

“Timing the market is for losers. Time IN the market will get you to the winner’s circle, and you’ll sleep a lot better at night.”

The Only Guide to Alternative Investments
Larry Swedroe and Jared Kizer

“Some investment products are so complex in design that it is very difficult, if not impossible, for the average investor to fully understand the risks entailed and the costs incurred.”

“When considering an asset class for inclusion in a portfolio, — investors need to consider the diversification benefit of the investment.”

“Recency is the tendency to give too much weight to recent experience, while ignoring the lessons of long-term historical evidence.”

“The evidence from academic studies demonstrates that equity REITs, both domestic and international, offer an attractive risk/return trade-off” and provide meaningful diversification benefits to portfolios.”

 ”The bottom line is that investors should consider devoting at least some significant portion of their fixed-income allocation to inflation-protected securities.”

” “Only informed and disciplined investors should consider including commodities in their portfolio.” 

“Unless they are highly risk-averse, investors should probably not buy an immediate fixed annuity until approaching age eighty.”

“Despite its low correlation with other portfolio assets, high-yield debt provides almost no unique benefit in terms of portfolio diversification.”

“In times of crisis, the markets for illiquid assets can virtually dry up.”

“For most investors the only way to obtain sufficient diversification of the risks of investing in speculative securities is through a mutual fund.”

“After ten years the survival rate of private firms was only about 34%.” (2002 study)

“Private equity investors forgo the benefits of liquidity, transparency, broad diversification, and the access to daily pricing that mutual fund investors enjoy.”

“Understanding the difficulty of identifying superior hedge-fund, venture-capital, and leveraged-buyout investments leads to the conclusion that hurdles for casual investors stand insurmountably high.”

“While preferred stocks offer relatively high yields, in general, they possess enough negative attributes to make them inappropriate choices for individual investors.” 

“One of the rules of prudent investing is to avoid complex securities because the complexity is likely to favor the issuer.”

“The bottom line on hedge funds is this: They are ’sinkholes’ for investors.”

“Variable annuities are products that are sold, not bought.”

“Variable annuities (VA) convert what would otherwise be long-term capital gains into ordinary income.”

“Education, or a good fee-only advisor who is not influenced by commission-based compensation, can be the armor that protects investors.”

To be continued …

The Investor’s Manifesto
William Bernstein

 ”Wall Street is littered with the bones of those who know just what to do, but could not bring themselves to do it.”

“Very high returns are almost always made by those brave enough to invest when the sky is blackest.”

“Many investors lean heavily on past returns to gauge future ones. This is a mistake.”

“No risk matters more to investors than that of running out of assets before they die.”

“The most spectacular example of luck masquerading as skill was the recent case of William Miller, skipper of the Legg Mason Value Trust.”

“Mr. Buffett is not so much a money manager as a businessman.”

“The Morningstar database suffers from so-called ’survivorship bias,’ meaning that hundreds of poorly performing funds have disappeared from their fund universe, all of which would have underperformed the index funds.”

“Over the long haul, the differences in the amount of wealth provided by different stock asset classes can vary enormously, and owning all of them helps minimize your chance of dying poor.”

“The investor should forget trying to pick stocks and mutual funds or to time the market. The best the investor can do is to maximize returns by minimizing expenses.”

“Age is the first factor determining the overall stock/bond allocation. Investor risk tolerance is the second.”

“The most important asset allocation decision is the overall stock/bond mix. Start with the “age=bond allocation’ rule of thumb.”

“Be highly skeptical of sophisticated ‘black box’ methods of asset allocation.”

“China as had one of the world’s highest economic growth rates, yet between 1993 and 2008 its stock market has lost 3.31 percent per year.”

“Nations with the most rapidly growing economics quite often have the lowest stock returns.”

“Nothing last forever: more often than not, recent extraordinary economic and financial events tend to reverse.”

“The sooner you turn off CNBDC, get out into the bright sunshine, and take a walk, the sooner you’ll feel better about your investments.”

“You’re not going to impress the crowd at your country club by telling them you own shares of an index fund. Let them laugh; the joke’s on them.”

“If you’ve never been tested before, I strongly urge that you encounter your first bear market conservatively invested.”

“The most important investment ability of all is emotional discipline.”

“Do not invest with any mutual fund family that is owned by a publicly traded parent company.”

“Most retirees should purchase ‘longevity insurance’ by postponing Social Security until age 70, and perhaps by adding a commercial immediate fixed annuity as well.”

“In general, variable annuities come wrapped in enormous fees and are offered by insurance companies, that as a group constitute some of the worst players in the financial business.”

“Rebalance your portfolio approximately once every few years.”

The Lazy Person’s Guide to Investing
Paul Farrell

Investing really is very simple stuff. You can do it yourself.”

“Lazy portfolios are keep-it-simple, no-hassel, low-stress, time-saving, low-maintenance portfolios–so you can get on with the business of everyday life.”

“The only solution is to be in the market all the time and stop jumping in and out.”

“In a study of 66,400 Merrill Lynch investors, professors Odean and Barber discovered that buy and hold investors actually beat the more active investors by a fairly sizeable margin, 18.5% to ll.4% over a six-year period.”

“You don’t need to complicate your life–just stick to the basic Scott Burns Couch Potato Portfolio (50% S&P/50% Total Bond Market) with no stress, except your little ten-minute annual rebalancing efforts.”

“Taxes, Time, and Psychology favor the laziest portfolios.”

“A penny saved is a dollar earned, thanks to compounding.”

“Charles Schwab says that for every five years you wait to start saving for retirement, you’ll have to double your annual savings.”

“Kahneman was asked by a CNBC anchorman the day afer his Nobel was announced what investment tips he had for viewers. He responded, ‘Buy and hold.’”

“Experience has taught me that the relentless noise from breaking news sources, like CNN and CNBC, easily distracts most investors from what really works in the long run.”

“Where does Fama invest his retirement money? In index funds. Mostly the Wilshire 5000–.”

“Perhaps the most amazing insight I got out of this review of the investment habits of Nobel laureates is the simplicity of their investing strategies.”

The Little Book of Common Sense Investing
John C. Bogle

“Index funds eliminate the risks of individual stocks, market sectors, and manager selection. Only stock market risk remains.”

“Common sense tells us–and history confirms-that the simplest and most efficient investment strategy is to buy and hold all of the nation’s publicly held businesses at very low cost.”

“The brokers, the investment bankers, the money managers, the marketers, the lawyers, the accountants, the operations departments of our financial system are the only sure winners in the game of investing.”

“The lower the costs that investors as a group incur, the higher rewards that they reap.”

“Common sense tells us the obvious; while owning the stock market over the long term is a winner’s game, beating the stock market is a loser’s game.”

“We investors as a group get precisely what we don’t pay for. So if we pay nothing, we get everything.”

“It’s amazing how difficult it is for a man to understand something if he’s paid a small fortune not to understand it.”

“Investment of $10,000, 1980-2005:

Index Fund….Managed Fund
$179,200…….$179,200…….Gross Return
$170,800………$98,200…….Pre-Tax Return
$149,000………$61,700…….After-Tax Return
$65,000………..$23,100…….After Inflation Return”

“Don’t look for the needle–buy the haystack”

“The average fund portfolio manager lasts just five years.”

“Of the 355 equity funds in 1970, fully 233 of those funds–almost two thirds–have gone out of business. Only 24 outpaced the market by more than one percentage point a year–one out of every 14. Let’s face it: These are terrible odds!.”

“A mutual fund portfolio continuously adjusted to hold only Morningstar’s five-star funds earned an annual return of just 6.9% between 1994 and 2004, nearly 40 percent below the 11.0% return of the Total Stock Market Index.”

“Of the 35 newsletters (tracked by Hulbert) that existed in 1980, only 13 are still in business today. Only 3 outperformed the market.”

“Index funds endure, while most advisers and funds do not.”

To be continued …. here.

You can calculate how much HST you’ll be paying with this calculator on the National Citizens Coalition website

On Nov. 12, the Ontario Government announced exemptions for prepared food and beverages sold for $4.00 or less and print newspapers

The Premier says the exemptions granted Nov. 12 will be the last.

Over time, the HST on mutual fund annual MERs can add up to a large sum. “… if you invest $10,000 every year for 25 years, assuming a management expense ratio of 2.6% and an annual rate of return of 6%, you will end up paying a total of $9,100 more in [HST] …”

Mutual-fund companies fear investors will switch to ETFs because the HST burden will be much lighter on their substantially lower MERs.

Mutual fund companies not headquartered in a province charging the HST (e.g. Investors Group in Winnipeg and Mawer in Calgary) will escape the HST and thus have a competitive advantage because of the HST.

HST a disincentive to saving for retirement.

A recent report by Jack Mintz projects the HST and other tax cuts in the 2009 provincial budget would create $47 billion in new investment in Ontario and 591,000 jobs over 10 years (the bill will “introduce sweeping corporate tax cuts that will reduce taxes on new investment to 23.7% in 2010 from 33.6% one year earlier. That rate will fall even further, to 18.5 %, by 2018).”

Summing up:

1. Many groups and academics laud the HST as good for the economy. The PST is a bad tax, they say, because it falls on business inputs and cuts into capital investment and jobs. But hasn’t anyone thought of eliminating the PST on business inputs by instead cutting out some of the wasteful and unnecessary spending in the government? According to an international study, 25% of government spending falls into the wasteful category. Wow – lower taxes without a material reduction in public services – wouldn’t that be much more of a boost to the economy?

2. Opposition leaders and various citizen groups have condemned the HST. But where were they before? The HST just makes visible the provincial sales tax that was hidden in the inputs purchased by businesses (and passed onto consumers). Shouldn’t they have been hammering away at the tax before (when it was, to a large extent, hidden)? Yes, but it appears Canadians are so dumb  that they’ll gladly pay taxes as long as they don’t see them (like the goose whose feathers are getting plucked).

3. The HST on mutual funds and ETFs doesn’t seem to make sense given the administrative and compliance problems: i) funds have an inventive to shift headquarters to provinces not charging HST, and ii) charging HST on mutual-fund investors living in non-HST provinces is a challenge.

Appendix:

The Investment Funds Institute of Canada raises more problems with applying the HST to mutual funds.

“Ontario and B.C. will be the first provinces to levy a sales tax on mutual and other types of funds (8% and 7% respectively) as all Canada’s currently harmonized provinces provide rebates or equivalents to funds.”

“Canada is an outlier compared to other jurisdictions: European countries, as well as Australia and New Zealand, treat management and advisory services much more favourably than in Canada, whether through sales tax exemption or credits.”

“Discriminatory level of tax levied on funds: Under the GST and HST, the issue is not that mutual fund services are taxed; it’s that they are taxed at effectively four to five times the rate that guaranteed investment certificates (GICs), equities, bonds, term deposits and other non-fund financial vehicles are.”

“Some pension plans pay no sales tax at all and Canadians who have access to private-sector defined benefit plans also pay less tax than Canadians who save in an individual retirement savings plan. At the end of 2007, Canadians had $739 billion invested in individual retirement savings plans, such as RRSPs and RRIFs, which means that holders of at least 41% of all retirement savings in Canada were at a relative disadvantage to holders of other Canadians saving for and in retirement.”

The Intelligent Investor (Rev Ed)
Benjamin Graham and Jason Zweig

“It is no difficult trick to bring a great deal of energy, study, and native ability into Wall Street and to end up with losses instead of profits.”

“Allocating at least 10% of your retirement assets to TIPS is intelligent.”

“The worse the future looks, the better it usually turns out to be.”

“The primary cause of failure is that investors pay too much attention to what the stock market is doing currently.”

“The key to rebalancing is having a predictable schedule”

“For most investors, intermediate bonds are the simplest choice, since they enable you to get out of the game of guessing what interest rates will do.”

“For most investors, bond funds beat individual bonds hands down.”

“If you had invested $1 in U.S. stocks in 1900 and spent all your dividends, your portfolio would have grown to $198 by 2000. But if you had reinvested all your dividends, your portfolio would have been worth $16,797.” (Stock indexes do not include dividends.)

“It is essential that (the intelligent investor) entrust himself only to firms of the highest reputation.”

If you find yourself trading more than twice a year–or spending more than an hour or two per month on your investments–then something has gone badly wrong.”

“If you started investing $100/month in September 1929, your money would have grown to $15,571 by August 1939. That’s the power of disciplined buying–even in the worst bear market of all time.”

“The knowledge of how little you can know about the future, coupled with the acceptance of your ignorance, is an investor’s most powerful weapon.”

“Alan Greenspan said on January 7, 1973: “It’s very rare that you can be as unqualifiedly bullish as you can now.” (1973 and 1974 turned out to be the worst years for the stock market since the Great Depression.)”

“A great company is not a great investment if you pay too much for the stock.”

The Intelligent Portfolio
Christopher Jones

“Sadly, our educational system has been woefully behind the curve in preparing people for the heavy new financial responsibilities of a self-directed investment world.”

“Be careful of how your advisor gets paid. Conflicts of interest can yield advice that is not in your best interest.”

“There are many ways to measure risk other than looking at just the volatility of returns.”

“A study of investor behavior by the research firm DALBAR found that market timers in stock mutual funds lost -3.29% per year on average relative to investors who pursued a consistent strategy.”

“Unlike a mutual fund, it is quite possible for a single stock to lose all its value by going bankrupt.”

“Never make the critical mistake of being too concentrated in your employer’s stock.”

“Fund expenses are like termites. They can quietly eat away at the returns of your investment without you even realizing there is a problem.”

“From the analysis of 22,472 mutual funds–only about one quarter of mutual funds were able to demonstrate performance that exceeded what you could achieve with a low-cost index fund.”

“Evaluate diversification at the household level, not at the individual account level.”

“If you own a home already, you probably have enough real estate in your household portfolio.”

“Asset allocation explains more than 90% of the variation in returns for most mutual funds.”

“You are virtually guaranteed to outperform more than two-thirds of the actively managed funds with low-cost index funds.”

“It is very expensive to guarantee that you will have a certain amount of money in the future, but if you can tolerate some uncertainty, you can likely fund your future goal with significantly less savings.”

“The only way to be more confident of reaching a financial goal is to invest more conservatively and save more.”

“All other things held equal, it will cost a woman more to fund her retirement than a man of the same age due to her longer expected lifespan.”

“As an investor, you want to be cautious about investing in a fund just prior to it making a distribution to shareholders.”

The Individual Guide to the Top Mutual Funds
American Association of Individual Investors

“The most important factor when diversifying a portfolio is selecting investments whose returns are not highly correlated.”

“Bond mutual funds are attractive to investors because they provide diversification and liquidity, which is not as readily attainable in direct bond investments.”

“The higher the turnover, the greater the brokerage costs incurred by the fund.”

“The market risk measure used for common stocks is beta; for bond funds, average maturity is used.”

“Dollar-cost averaging works especially well with more volatile portfolios.”

“Top Performance lists are dangerous.”

“The classic response of funds that focus on small stocks is to migrate investments to mid-cap and large stocks when they start to achieve a large asset base.”

“Don’t forget that almost all fund performance data is reported without adjusting for front-end or back-end loads.”

“One reason beyond low expense ratios that make index funds are tough to beat is that they are always 100% invested in the market.”

To be continued …. here.

The Great Mutual Fund Trap
Greg Baer & Gary Gensler

“You cannot improve your returns by spending more time or money trying to pick funds or stocks. You can, however, significantly improve your returns by choosing vehicles that offer the lowest possible costs and the greatest tax efficiency.”

“With returns corrected for survivorship bias, the average actively managed funds trail the market by about 3 percentage points a year.”

“In October 2001, less than two months before Enron declared bankruptcy, 19 of the 22 analysts who covered the stock rated it a “buy.”

“Every study we have ever seen on the subject shows that the more frequently individual investors trade, the worse they perform.”

“The only way for an investor to earn predictably higher returns over time is by taking on more risk.”

“The basic thrust of efficient market theory, is relatively simple and extremely important: Information currently known about a company is reflected in the prices for its bonds and stock.”

“Accept the fact that you are unlikely to beat a market where prices are set by the consensus of thousands of professionals and where you have to pay a steep price for every attempt.”

“The most likely way for a fund manager to generate a high ranking is to take on additional risk.”

“If you simply buy and hold — you don’t need to read investing magazines, watch financial news networks, subscribe to newsletters, or pay a broker to execute new trades.”

“Hulbert’s data show more than 84% of newsletters underperform the market over 5-years. Over 10-years, that number rises to 90%.”

Kahneman/Tversy Study: “A loss of $1 is approximately twice as painful to investors as a gain of $1 is pleasant.”

“The financial services industry spends billions in advertising to keep investors excited about the prospect of better returns around the corner.”

Daniel Kahneman, winner of the 2001 Nobel Prize in Economic Science: “Asked how he invested his money, he said that he favors index funds.”

How a Second Grader Beats Wall Street
Allan Roth

“Investing isn’t rocket science. Wall Street experts want you to believe that it is.”

“Kevin’s magic portfolio: Vanguard Total Stock Market Index Fund; Vanguard Total International Stock Index Fund; Vanguard Total Bond Market Index Fund.”

“We strongly resist thinking of ourselves as average.”

“There is one way, and only one way, to build a stock portfolio that is guaranteed to beat the average dollar invested. For the U.S stock market, that one way is to buy the entire market in proportion to the value of each company.”

“With only three index mutual funds, we can own many thousands of securities that own the whole world.”

“Cramer is a human cartoon character who rants about buying and selling and encourages others to engage in foolishness.”

“Lehman Brothers was the most admired securities firm in 2007 according to Fortune magazine. In 2008 it filed for bankruptcy.”

“A recent study found that funds sold by advisors underperformed those that were bought directly by the consumer.”

“We all know that most mutual funds greatly underperform the appropriate index, but did you know that the average investor underperforms the average mutual fund by another 1.5% percent per year?”

“The beauty of a 3-fund portfolio is that it automatically builds the global portfolio without having to worry about standard deviations, correlatons, Sharpe ratios, and the like.”

“Never buy an instrument that has a fancy name like Enhanced collateralized debt obligation investment unit trust.”

“Investing is much more than maximizing our wealth. It also involves minimizing the chances we will run out of money.”

“Our willingness to take risk isn’t easy to quantify because it is difficult to measure and very unstable.”

“Remember that staying with your asset allocation is every bit as important as choosing the right one in the first place.”

“Make it a rule never to buy a financial investment you couldn’t describe to an average second grader.”

“If the Wall Street brokerage firms were really so good at giving investment advice and managing risk, why did it take taxpayers to bail them out?

Index Your Way to Investment Success
Walter R. Good and Roy W. Hermansen

For most individual investors, the benefits of indexing remain a well-kept secret because brokers, mutual funds, and other familiar sources of investment information routinely focus on products that offer substantially higher commissions or fees.”

“Expenses and other deductions from returns are extremely important, but other considerations, such as services and access to other funds provided by the same fund family, may also influence your choices.”

“This time is different is a message that resurfaces in every bear market.”

“The index fund advantage consists of lower costs, deferral of capital gain taxes, and control of risk through more complete diversification.”

“Index funds save on management and marketing expenses, reduce transaction costs, defer capital gain, and control risk–and, in the process, beat the vast majority of actively managed mutual funds!”

The Informed Investor
Frank Armstrong

“Each brokerage house or investment manager wants the public to believe that somewhere in the back office is a genius who can make you rich.”

“If we don’t establish the discipline to live on less than we make — no amount of investment advice will help.”

“Market risk means that sometimes your equities will go down. It is only a function of when, and we can’t know that. — If you can’t get used to the idea, don’t go into the market.”

“Risk and returns will be driven far more by asset allocation than stock selection or market timing.”

“Investors must understand that a superior portfolio will underperform from time to time. If they are prepared for this disconcerting reality, they are less likely to find themselves abandoning their superior portfolio in favor of Wall Street’s deal of the day.”

“My view is that, properly practiced, investing should be reasonably boring.”

“Rating services such as Morningstar’s star awards or the ‘Forbes’ honor roll attest to the futility of applying past performance to tomorrow. If these two organizations can’t make useful predictions with all their resources, how can the rest of us hope to?”

“Do the right thing: In every asset class where they are available, index!”

“Mutual fund independent directors lack any discernible backbone and appear to be born with rubber stamps attached to their hands.”

“Discipline is the key to success for the long-term investor. He or she must not fall into the trap of managing holdings by newspaper headline, sound bites, mindless prediction, gut feelings, or the last time period’s results.”

“The primary cause of investor failure is the behavior of the investors themselves.”

“The ‘buy and hold’ strategy outperforms the average investor by more than three to one after ten years.”

To be continued ….

The Bogleheads’ Guide to Retirement Planning
Taylor Larimore, Mel Lindauer, Rick Ferri & Laura Dogu

“Early retirement planning should begin when you have your first full-time job.”

“No matter what your risk tolerance is, your asset allocation should become more conservative as you approach retirement age.”

“Joint accounts are a great option for ensuring that assets are immediately available to a surviving spouse, child, or partner.”

“Count yourself lucky if you still have a defined benefit plan, but also keep in mind that it may go away in the future.”

“Variable annuities or equity-indexed annuities are products to be avoided.”

“Rather than rebalancing by the calendar, many people make changes only when their portfolio allocations are off by a certain percentage.”

“Each time you need to withdraw money from your investments, simply look at your asset percentages and take the money out of the one that is overweight.”

“Reverse mortgages should be a last resort for providing income.”

Your greatest asset is your ability to earn a living for yourself and your family.”

For younger breadwinners, term insurance is the only practical way to provide needed protection at affordable costs.”

“The more complex the product, the worse it is for you, and the better it is for the adviser.”

“Certain assets, such as life insurance … pass to designated beneficiaries if you die. A divorce decree will not change the designations.”

“In the real world, people lose jobs, good health turns bad, more than half of marriages end in divorce, and other setbacks occur that can ruin a good retirement plan.”

The Coffeehouse Investor
Bill Schultheis

“The investor who starts saving and investing $300 monthly at 8% in a retirement account at age 25 instead of age 35–ends up with an additional $604,195 in her portfolio at age 65.”

“When fear and greed aren’t controlled, buying and selling individual stocks can quickly become a miserable experience.”

“As long as Wall Street has a vested interest in lots of transactions and busy portfolios, investors will continue to latch on to the hype and hysteria of Wall Street, perpetuating the misconception that by carefully reviewing market trends, diligently studying mutual fund tables, religiously researching global economies and closely watching interest rates, anyone and everyone can own a successful portfolio.”

“Let go of the mistaken belief that the secret to a successful portfolio is to accurately forecast bull and bear markets.”

“The simplest approach to diversifying your stock market investments is to invest in one index fund that represents the entire stock market.”

“The top 35 mutual funds from 1978 to 1987 cumulatively under-performed the stock market average by 7% annually during the next ten years.”

“The most important factor when diversifying is to adhere to your asset allocation strategy, because when you stick to your strategy and rebalance your asset at year-end, buy and sell decisions are no longer arbitrary.”

Common Sense on Mutual Funds
John C Bogle

“To invest with success, you must be a long term investor.”

“Suppress the temptation to add redundant layers of diversification.”

“After nearly 50 years in this business, I do not know of anybody who as done it (market timing) successfully and consistently.”

“When stock prices are high, investors want to jump on the bandwagon; when stocks are on the bargain counter, it is difficult to give them away.”

“The key to fund selection is to focus, not on future return–which the investor cannot control–but on risk, cost, and time–which the investor can control.”

“Backtesting, of course, should always be viewed with skepticism.”

“Choose a balance of stocks and bonds according to your unique circumstances–your investment objectives, your time horizon, your level of comfort with risk, and your financial resources.”

“Asset allocation is critically important; but cost is critically important, too. — All other factors pale into insignificance.”

“Most of all, beware of wrap accounts–packages of mutual funds assembled within a ‘wrapper’ for which an additional fee is paid.”

“The ‘Equity Risk Premium’ is the extra return required by investors to compensate them for taking the extra risk of owning common stocks rather than risk-free U.S. Treasury bonds. The average since 1802 has been 3.5%”

“The simplest of all approaches is to invest solely in a single balanced market index fund–just one fund. And it works.”

To be continued …. here.

Commissions have been one of the few drawbacks to ETFs because they can chew up accounts of investors who prefer to invest through dollar-cost averaging. This was once an area where mutual funds had an edge, but no more at Schwab and other brokerages who may follow suit (Preet wonders if this is what the Bank of Montreal — BMO — has in mind with its ETFs). So mutual-fund executives could be on the Maalox now. And so too might executives at ETF companies with no brokerage arms.

But how is it possible for Schwab to charge no commissions and MERs as low as 0.08%? In a previous post, I thought it would be possible for ETFs to get their MER costs down lower, even all the way to 0%, by using fees earned from lending out securities to cover operating costs. This seemed less fanciful a speculation when a few months later, as Preet noted in a blog post, some ETFs had emerged in Europe with 0% MERs.

So that would be my guess in this case. Schwab is diverting the revenues from its securities lending operations to cover off its operating costs. With sufficient volumes of business, they could still turn a profit while giving investors big breaks on fees.  This is what Tom Lydons of ETF Trends thinks it might be too.

Indeed, it’s conceivable, as competition heats up, for MERs on ETFs such as Schwab’s to move to the 0% mark. It may not happen overnight or not at all, but there is a potential. Also, one wonders if established ETF families like Barclays Global, which currently pocket 50% or more of the securities-lending fees for themselves, might now feel pressured to switch their cut toward lowering MERs. Could they even possibly pay investors to buy their ETFs — or otherwise reimburse their trading commissions?

From the table on the Horizons BetaPro website, it looks like a strategy of shorting both bullish and bearish leveraged ETFs would be profitable most of the time. However, the past year or so has been a rather volatile period and the year ahead will likely exhibit less volatility. In that case, the shorting strategy may not turn out to be as profitable as it would appear from the Sept. 31, 2009 table.

So, if one wants to give this strategy a try, some due diligence needs to be exercised to pick one’s spots carefully. The odds of success would be higher if one were to target the sectors likely to be most volatile, one of which seems to be the S&P/TSX Global Gold Bull/Bear index.

Another caveat might be the availability of ETFs to short sell. Brokers may not be able to find any units to lend to a short seller.

His name, by the way, is Ed Rempel (CMA, CFP, C.H.F.S.), with Ed Rempel & Associates. Here is his response:

“I don’t believe those numbers [in the survey]. It is like the “dirty little secret” of financial planners — that everyone wants to CLAIM they do planning.

When we talk with advisors we meet at the CFP [Chartered Financial Planners] Conference and ask them about their practice, nearly all claim to do holistic advice and planning. However, if I ask them any details about it, they look at me like I’m speaking Greek.

I often ask: “What nest egg are you finding that your clients typically need at retirement to have the retirement they want?” I usually get dumb-founded responses or they change the topic. If they actually had done any planning, they would be able to recall a detail from some recent plan.

[A participant said] they often see what he calls “fake plans”. Often they are just a questionnaire to determine a need so they can sell a product, an investment projection, or a quick plan based on a rule of thumb.

In our opinion, most of the financial planning software is designed for a quick plan. You can enter a few facts, put in that the client wants to retire on 75% of today’s income, and hit a button. You get a nice plan, with pretty graphs, sometimes complete with generic commentary.

I’ve had people tell me they got a nice, printed financial plan after a 15 minute meeting at the bank, which included time to sell investments.

The same [survey says that 70% of people have worked with a financial advisor, but “fewer than 10% claimed to have actually used these other services” (services other than investments). If so many advisors do planning, then why would less than 10% of the public claim to have used any other advice from a financial planner?

We’ve also found the same tendency among the public, where many people want to CLAIM they have a financial plan. However, after I ask them about it, they don’t know where it is, don’t know what it says, and don’t know what the goals in the plan are.

It takes work to make a plan real for clients, which is what a REAL plan needs. Early in my career, I used to do plans that I thought were thorough, but the client did not understand them or believe them.

In the end, a plan is only a REAL plan if the client understands it, believes it, and accepts that the goals are what they want to achieve.”

I pointed out that several academic studies had found mutual-fund advisers added no value to the selection of funds (indeed, likely subtracted it). So why did ETFs need to be adjusted for trailer fees when doing comparisons with mutual funds? Reader John De Goey (a fee-only financial advisor) took this a little further. He noted:

“Call virtually any discount brokerage in Canada … you will find that they all require their investor clients to use A-Class funds. In other words, investors are obligated to pay the trailing commission on a product for advice that is neither received nor requested. This is scandalous! Imagine if Canadian Tire charged people for a muffler and installation if they simply bought a muffler! The Competition Bureau would step in.”

This arrangement further raises questions concerning the view that trailer fees are the cost of financial advice. In this context, it appears to be more part of the cost structure of the mutual fund company. No financial advice or service is provided to the buyer.

In the discussion of trailer fees in Part I, attention had also been drawn attention to a survey that found a minority of financial planners did financial plans for their clients – again raising questions about the value of services obtained through trailer fees. Since then I have come across a post by a financial advisor who paints an even bleaker picture. To quote:

“While many financial planners claim to do financial planning and provide holistic advice, very few actually provide comprehensive planning with written financial plans, as taught in the CFP courses.”

Product integrity

The ETF vs. mutual-fund debate often overlooks important side issues, notably the stability of the products. After an investor purchases a mutual fund or ETF, it may change in various ways. But the changes for ETFs appear to be on a much smaller scale compared to mutual funds. Examples of the changes affecting mutual funds  include:

• turnover in portfolio managers – many investors may buy into a fund because of a well-regarded manager only to see the star later jump ship for another fund, leaving unitholders faced with the decision to stay with a less skilled manager or redeem and pay a rear-end load fee as high as 5%

• changes in the manager’s investing style (style drift) – portfolio managers may stay put but then start trying investment approaches different from what unitholders expected, increasing, for example, the proportion of risky securities in an attempt to juice returns

• termination or merging of a fund with another fund – which again presents unitholders with a disruption in their investing plans

Tax efficiency

While some ETFs may distribute taxable capital gains to unitholders, the incidences are more the exception to rule. Mutual funds, on the other hand, tend to distribute capital gains as a rule rather than the exception. At least that is what the averages would seem to indicate: for example, David Swensen’s book Unconventional Success shows that the average annual distribution of S&P 500 index mutual funds was 1.8% of assets from 1993 to 2002, compared to 0.01% for the SPDR S&P 500 (SPY)

Flexibility

The more one can tailor an investment vehicle to their needs, the more one can maximize their utility; having extra options is a valuable trait to many investors. Some examples:

• ETFs can be bought and sold at a known price throughout the trading day while mutual funds are bought and sold at the price prevailing at the end of the day.

• ETFs can be purchased on margin, sold short, and combined with ETF options to create covered trades and other hedging strategies

Diversification

Mutual-fund defenders say Canadian equity ETFs i) expose investors to the risk of stocks growing to a large weighting in the index, (Nortel effect) and in the case of Canadian broad-market indexes, ii) leave investors weighted toward financial and resource stocks. Let’s deal with these two points in turn:

• as for the “Nortel effect,” Canadian ETFs are no longer exposed to such risk; the fundamental ETFs offered by Claymore in Canada are not market-cap weighted and ETF families using market-cap weighting now limit the weights of individual stocks so that none can have the influence Nortel once had.

• as for achieving a portfolio less weighted toward energy and financial stocks, that would seem to be an asset allocation choice perhaps better left to the individual investor (they can tailor exposures to their preferences better than an equity mutual fund can); ETF investors typically achieve their desired level of diversification through holding a portfolio of ETFs tracking a variety of asset classes such as small caps, U.S. stocks, and international stocks.

Performance

Mutual fund apologists say mutual funds: i) offer the potential to outperform the market, ii) show periods of outperformance, and iii) have relatively better performance in sectors like small caps and U.S. stocks. Let’s deal with these three points in turn.

• as for the potential to outperform indexes, some mutual funds may be able to do so (studies show less than 5% over the long run) — but identifying them ahead of time is hit and miss; odds are that the investor will end up an underperforming fund

• as for periods of outperformance, using more extensive time sampling and adjustments for survivorship and other biases, virtually all mutual-fund-performance studies published in peer-reviewed journals indicate “that mutual fund managers on average underperform their risk-adjusted benchmarks,” to quote Professor Richard Deaves in his book, What Kind of Investor are You? (Deaves own study of the Canadian stock market found that equity mutual funds on average fell short of their indexes by more than 1% a year over the period 1988 to 1998)

• as for relatively better performance in sectors like small caps and U.S. stocks, the odds of picking an outperforming fund may be higher but then again, it is hard to identify ahead of time which funds will do so (or at least avoid management changes, style drift, closure, etc.)

Cost of advice embedded in mutual funds:

 The mutual fund vs. ETF debate often overlooks the fact – as the MacKenzie Financial piece points out (and I have too) — that the cost of most mutual funds contains the cost of financial advice (i.e. trailer fees paid to financial advisors), so comparing the costs of ETFs to mutual funds is comparing apples to oranges. Fair enough. But are investors getting service commensurate to the fees? And, do advisers put their clients in the best funds or the funds that pay the best trailer fees?

•  A survey sponsored by the Financial Planners Standards Council (FPSC) showed only 40% of certified financial planners did financial plans for “most” of their clients in 2006, down from 53% in 2002

•  At least five studies from the academic community conclude financial advisers don’t add value to the selection of mutual funds – indeed, it appears they subtract value (a grey area is ancillary services like tax and estate planning)

Portfolio turnover costs and sales loads:

The mutual fund vs. ETF debate often focuses just on MERs and commissions to buy or sell ETFs – as MacKenzie Financial does. Other expenses to consider are portfolio turnover costs and front- or rear-end sales loads. The latter can add another 1.5% to the average annual MER of 2.5% in Canada for an equity mutual fund, bringing the total “all-in” annual cost to 4%

•  John Bogle in The Little Book of Common Sense Investing estimates the cost of portfolio turnover of the average equity mutual fund adds 1% in annual costs (cost of broker fees, bid-ask spreads, and market impact costs)

•  Front- or rear-end loads can add up to 5% to costs, which for a 10-year holding period, averages out to 0.5% annually (to use John Bogle’s figure); ETFs do have brokerage fees but for order sizes over $3,000, they generally average less than 1% to buy or sell

Bond and money market funds:

The mutual fund vs. ETF debate often just focuses on stocks funds – and so does the MacKenzie Financial article. There are also money market and bond funds. And they are “where mutual funds fees really hurt,” as Rob Carrick says in his book, How to Pay Less and Keep More for Yourself. Money market funds charge MERs that average half or more the interest earned, while bond funds MERs average close to 1.5% when yields currently range 2% to 4.5%. One could also add balanced mutual funds. In non-equity funds, the comparison of long run returns more clearly favor ETFs.

Heterogeneity in product classes and investors:

The mutual-fund vs. ETF debate tends to overlook the high level of heterogeneity in product classes and investors

•  Not all ETFs are good — for example, sector and leveraged ETFs may raise questions.

•  Not all mutual funds are bad – for example, mutual-fund families without marketing and advertising overheads can keep MERs low while providing advice through in-house reps; other useful mutual fund categories may be corporate class (tax advantages) and F-class (no trailer fees); closet-indexing mutual funds would definitely not be on the good list.

•  Since mutual funds reinvest dividends and allow regular deposits without commissions, they could be more cost effective for the small investor with regular, small amounts to contribute

•  Some investors don’t have the time or desire to manage their personal finances so would be not be deterred by extra costs

To be continued ….

Time to wake up Canadian investors and do some foreign diversification. Shake off the cobwebs of inertia and go shopping for U.S. assets with your much enhanced purchasing power! 

But the $64,000 question is (in U.S. dollars, of course): which U.S. assets to buy? 

Stocks are a bit scary at the moment because they have run up so far so fast. Halloween might be more trick than treat this year murmur the goblins — one being Gluskin Sheff strategist David Rosenberg. He has the DNA of a bear but we still might want to take note of his point that stocks typically haven’t gone up by this much until the second or third year of the business upturn.  

Still, there may be some pockets of undervaluation in the U.S. stock market. It might take awhile, but I can see the SPDR S&P Homebuilders ETF (XHB) being much higher. The U.S. housing market was ground zero and still looks like it. There remains a big wall of worry to scale and a lot more recovering to do.

U.S. stocks in health care, technology, consumer products and other areas underrepresented on the Toronto Stock Exchange, can add diversification to a portfolio of Canadian stocks. A recent John Heinzl article mentioned some picks in this regard. We could add some ETFs such as the PowerShares Dynamic Pharmaceuticals (PJP) and iShares Dow Jones U.S. Healthcare Providers (IHF) funds. They are in health sectors that should emerge as winners once the overhaul of the U.S. healthcare system is complete, according to Reuters.

Bonds might not be such a steal anymore either but with stocks having run up so much and now likely exceeding chosen allocations in portfolios everywhere, it might be more prudent to go with bonds at this stage. Indeed, the year-end rebalancing is coming up for many investors and allocating toward bonds will be the path they have to go if they are to stay disciplined. And, of course, if you are near retirement or have trips/sojourns planned in the U.S., fixed-interest investments are the way to go.

High-yield bond ETFs are still offering yields in the vicinity of 10%. Examples are SPDR Barclays Capital High Yield Bond (JNK) and iBoxx $ High Yield Corporate Bond Fund (HYG). High-yield bond ETFs are not available in Canada, so they would be a welcome addition for investors reaching for more yield in their fixed-income allocations.

Many other, more conservative, bond ETFs are available. The ones tracking short-term bonds, such as the Vanguard Short-Term Bond ETF (BVS), are less exposed to capital loss and their interest rates will move up more quickly if market rates rise. A U.S.-dollar savings account has no price fluctuations to worry about; rates are low (ING Direct pays 0.75%) but should move up as the economy recovers.

Some other ideas for buying U.S. assets that I have posted on before: 

- Probably the cheapest of U.S. assets to buy right now is real property — unlike other assets, prices still haven’t gone up much (although the work involved in carrying out a transaction is onerous) 

- Another idea is to buy Canadian assets in line to benefit from the soaring loonie, such as shares in Canada’s largest travel-tour operator, Transat A.T. The high loonie means it’s more affordable for Canadians to visit and/or stay in the U.S., which plays to Transat core business of arranging foreign travel and accommodations.

A final note: the loonie could even go past the peak of $1.10 (U.S.) attained in 2007, say some forecasters. Spacing of asset purchases over time would average out the timing risk.

The 2.1% yield to maturity is what an “investor holding the underlying bonds within the fund would earn per year if they could hold them until they mature,” said Oliver McMahon, Director of Product Management for iShares Canada. 

“Some of the 2.1% annual return is due to the coupon payments, but some is due to the price of the bonds moving towards par.” In other words, the prices of the bonds in the ETF’s portfolio have been bid up past their par values; as time passes and maturity dates are approached, prices edge back down to par. This decline in prices offsets the coupon yield and pushes it toward 2.1%.

The unit price of the ETF will edge down over time due to this factor but it will be hidden in the fluctuations in market rates;  “…while we can be reasonably comfortable assuming the underlying portfolio will produce a yield equivalent to 2.1% per annum over the life of the portfolio, it should not be assumed that this will be a constant return over each year. It may be that the return is higher one year and lower the next.” 

The stream of interest payments will also edge down said Aubrey Basdeo, Head of Fixed Income, Barclays Global Investors. One can see the decline already in the past three or four quarters of distribution payments. I didn’t quite catch the reason for this and Mr. Basdeo has so far not responded to a request for clarification. My guess is that it may come about from the portfolio rolling over into new bonds at lower interest rates.

Yet another complication: “the portfolio of XSB does not hold bonds until maturity. The product has been created to be representative of the short end of the bond market, which is generally understood to be 1 to 5 years. Thus, as a bond’s life is reduced to less than 1 year it is removed from the index (thus sold from the portfolio) and the proceeds are reinvested across other index holdings. This means that the yield to maturity, while being a useful measure of the return in the market, is not a rate of return the fund can be assured of achieving,” noted Mr. McMahon.

And here, we thought ETFs would simply the construction of portfolios!

Update: Aubrey Basdeo did subsequently confirm that the cause for a decline in the steam of interest payments was the rolling over of the portfolio into new bonds with lower coupon rates. If presently low rates of interest were to rise, this would become less of a factor.

UpdateII: As a reader has noted, it might be useful to explain how Yahoo Finance calculates the 4% yield. Yahoo Finance adds up the XSB distributions over the last 4 quarters and expresses that amount as a percentage of the current price.

The practice has been a fixture of ETFs since they were first invented. Any time an index maker announces a change to the underlying index it is an all-points bulletin that the ETF fund will be entering the market to buy the added securities and sell the deleted ones. In the case of broad-based ETFs, the extent of the profit transfer likely isn’t too significant because the index changes usually affect just a small portion of the basket.

But the story changes as one departs from plain vanilla, broad-based ETFs. Of note, the more markets are sliced and diced into smaller slivers for ETFs to track, the more likely index changes will become significant in relation to the index basket. And, in turn, so does the opportunity for front-runners to transfer returns from ETF holders to themselves.

But perhaps the area most at risk is ETFs that use derivatives such as futures, swaps, etc to track their indexes. They track spot prices by buying the derivatives nearest to maturity, and as the derivative near expiry, roll the position into the next nearest maturity.

Knowing commodity ETFs must roll, traders have been front running it. Some serious profits have been taken away from ETF holders (see case of U.S. Oil ETF below). This is one reason ETFs aren’t tracking their commodities well; spot prices may rise but ETF holders don’t follow to the same extent; vice versa, spot prices may fall, but the ETF holders take a bigger hit.

• U.S. Oil ETF (USO) loses about $120 million (U.S.) in early 2009 when it rolls 80,000 contracts from March to April maturities

• Tussles with front-runners causing abnormal price fluctuations in natural gas futures markets and U.S. Natural Gas ETF (UNG)

• News of ETFs to be launched for a commodity can cause a run up in price, requiring the ETF to set up its basket at higher prices.

The One-Minute Portfolio (OMP) is a member of the lazy-portfolio species, consisting of just two exchange traded funds: iShares S&P/TSX 60 Index ETF (XIU) and the iShares Canadian Bond Index ETF (XBB). It was created in early 2003 and has been rebalanced annually since, as described in articles on the MoneySaver and Canadian Business websites. The average annual gain since inception is now about 8%.

As a member of the lazy portfolio species, the unique feature is how the allocation between equities (XIU) and bonds (XBB) is determined. It doesn’t rebalance back to a fixed asset allocation as most lazy portfolios do but takes into account whether the stock market is under or above its long-term average annual return. For more details on the method, check out the December 18, 2008 Canadian Business article.

During the last rebalancing (in December of 2008) the allocation to equities (XIU) was raised from 40% to 60% because stock markets were then noticeably below their long-term average return. By default, the allocation for bonds (XBB) went from 60% to 40%.

Of the ETF asset categories in Canada, fixed-income ETFs experienced the highest growth in 2009, doubling AUM to $5 billion (Can). Coming in second were inverse/leveraged commodity ETFs, which jumped from $0.2 billion (Can) to $1.5 billion (Can).

ETF company iShares “remains the undisputed leader” with 80.4% of total AUM in Canada. Claymore and Horizon BetaPro roughly split the remaining market share.

Contrasting with ETF growth were net redemptions of mutual funds, amounting to $800 million (Can) in Canada. The downward trend is similar at the global level, as can be seen from the chart below. Could we finally be seeing the turning point for mutual funds?

It’s not so strange when one realizes the yields are two different beasts. The ETF yield on financial websites is based on income distributions from the last four quarters. The yield on individual short-term bonds is the yield to maturity – i.e. what one would get if they held the bond to maturity.

As I understand from talking to Heather Pelant of Barclays Canada’ iShares, anyone considering purchasing the short-term bond ETF needs to check its yield to maturity. This is available from the iShares.ca website. It currently says the “weighted average yield to maturity” for the ETF is 2.1%.

Not by a long shot. They will always be around. But not to be denied is how much easier it is to be a do-it-yourself investor these days:

- the Internet has lowered the time and effort required to gather information on investments and personal finances

- exchange-traded funds (ETFs) have lowered the cost of investing while dispensing with the work of picking individual stocks,

- many books, articles and blogs now provide easy-to-follow guidelines on the low-cost and low-effort passive investing approach (as embodied in the Couch Potato Portfolio, One-Minute Portfolio, and other “lazy” portfolios).

So, do YOU need a financial advisor?

A recent study of German investors by three university professors discovered “that advisors actually tend to lower returns, raise portfolio risk, increase the probabilities of losses, and increase trading frequency and portfolio turnover relative to what account owners of given characteristics tend to achieve on their own.”

A forthcoming Journal of Finance paper confirms that mutual-fund companies with lower investment performance (before fees) charge higher management fees – because they compete with high performance funds by spending heavily on advertising, marketing and distribution-channel incentives to attract “unsophisticated clients.”

Three more studies from academia conclude investors are better off without financial advisors.

Advisors add value but may overcharge for it.

A survey carried out for the Investment Funds Institute of Canada this past spring shows “that 78% of investors surveyed were satisfied or very satisfied with their relationship with their financial advisor,” and that mutual funds enjoyed the confidence of 74% of the respondents despite the bear market of last year.

Do ancillary services such as tax and estate planning help explain why many investors are content to have financial advisors? (1)

But a survey sponsored a while back by the Financial Planners Standards Council (FPSC) showed only 40% of certified financial planners did financial plans for “most” of their clients in 2006, down from 53% in 2002 (it seems mutual funds fly off the shelf during bull markets, without advisors needing to offer complimentary, value-added services as tax and estate planning).

Footnote
1. Here is how one financial planner described (in the comments section of Thicken my Wallet blog) what he does for no direct compensation:

- advising them on managing their debts;
- providing guidance on preparing wills and powers of attorney;
- providing options for estate planning;
- pointing out income tax credits/deductions they may not be aware they are entitled to;
- deciding whether to incorporate or not;
- assisting them in applying for OAS/CPP/Disability/EI Benefits; and,
- many other things.

“I recently assisted a client on an income tax issue involving the Disability Tax Credit: he is to receive tax refunds totaling approximately $20,000. My fee: $0.”

• ETFs passively buy and hold the basket of stocks in an index, so there is low turnover in portfolios and hence low realization of capital gains
• ETFs don’t have to sell securities to redeem units (unitholders can simply sell their units on the stock exchange to other investors)
• redemption requests from authorized participants (who arbitrage differences in net asset value and market price) are met by transferring stocks (not a taxable transaction)
• ETFs can give the authorized participants stocks with the highest unrealized gains in their portfolio, thereby reducing the potential for distributing gains to unitholders

This greater tax efficiency is said to be one reason why ETF sales continued to grow during the bear market while mutual funds were experiencing heavy redemptions. Many mutual fund holders were facing hefty capital-gains distributions and decided to avoid them by selling their funds and buying ETFs tracking the same market.

Still, ETFs have been known on occasion to distribute capital gains to their unitholders. For example, the iShares CDN Tech Sector Index ETF (XIT) last year distributed a capital gain of $0.80 per unit, or about 20% of the price. What then are the risk factors? What ETFs are more likely to surprise unitholders with hefty capital-gains distributions? Here are some considerations:

1. ETFs tracking indexes with a lot of turnover have more potential for selling stocks with capital gains.

2. Newer ETFs pass along capital gains more than older ETFs because they tend to track smaller slices of the market and have fewer liquid stocks (so there is greater volatility in prices and thus greater potential for bigger and/or more frequent capital gains/losses).

3. Inverse and leveraged ETFs (particularly smaller ones) use derivatives (like options and swaps), which don’t lend themselves well to “in-kind” redemptions (so if a market maker delivers a block of units to the fund company, the company must sell some of their derivatives to raise cash to pay the market maker).

4. Some ETFs with substantial capital-gains distributions give their unitholders several days to sell before the date of record and thereby avoid the distributions (like Ryder’s).

5. Some ETFs with substantial capital-gains distributions don’t give their unitholders any time to sell before the date of record (like ProShares).

6. During bullish markets, ETFs will tend to have more capital-gains distributions because turnover in index escalates due to mergers, acquisitions and spin-offs – plus, indexes with caps on the size of individual stock holdings are often compelled to pare back positions when they bump up against their caps.

7. Established, broad-based ETFs tend to have very few distributions and fare much better than index mutual funds.

8. Changes in an ETF’s mandate and the movement of stocks between small, mid, and large cap strata can trigger distributions.