ETF Retirement Portfolios for Canadians

There are two primary strategies one can follow with self-directed investing. Growth Portfolios are designed as easy-to-manage strategies for younger investors. High savings rates can be used to buy cheap growth assets when their prices are dropping.

The Retirement Portfolios are designed to provide income and be much more stable. Due to this change in focus, there are typically more components in a retirement portfolio and they are somewhat more complex to manage.

The Strategy & Design

The first part of the retirement strategy is reducing risk. The first step in risk evaluation is to estimate your income requirements and adjust that for inflation. This ensures you have enough money to live in while maintaining that purchasing power throughout your retirement.

When living off your investments, I firmly believe your portfolio value should be 20 times your annual income requirement—at minimum! This translates to an initial 5% withdrawal rate which is adjusted up annually for inflation.

The next step is creating your cash cushion. This is designed to limit portfolio withdrawals during poor markets. A simple rule is to place 10% of your portfolio in this cash cushion. This also forms part of the Protection side of your portfolio. Your cash cushion should be invested in short-term bonds. This is where you will make your withdrawals from when you need cash beyond interest and dividend income.

With your cash cushion, your retirement portfolio is now at least 10% protection. You could get away with 90% growth, but this is too aggressive for most. It's my view that, in a longer retirement, protection should form 30-40% of your portfolio value. The balance should be in growth assets.

See a full list of my favourite Canadian ETFs on this page.

Choosing Protection ETF Allocations

Once you've chosen your appropriate growth-to-protection ratio, you can now choose your ETFs on the protection side.

Already 10% of your portfolio will be in short-term bonds. XSB.TO or VSB.TO are good choices.

The remainder of your protection assets will depend on your total allocation. With an 80% growth and 20% protection portfolio, put another 10% in broad bonds such as ZAG.TO, ZBD.TO, or HBB.TO depending on the account type.

With a 70% growth and 30% protection portfolio, put an additional 10% into preferreds shares for stable, tax-advantaged, high yield income. ZPR.TO is the current best in class choice and it yields over 4.5% in dividend income.

With a 60% growth and 40% protection portfolio, put yet another 10% into corporate bonds. Corporate bonds provide higher interest rates and better returns than government bonds, but the risk is also a bit higher. HAB.TO and ZIC.TO may be the best choice with broad U.S. exposure at low fees; it's yielding over 3% currently. Use VCIT, the U.S. listed comparable, when holding in a U.S. dollar RRSP account.

Any higher allocation to protection can just be added to broad bonds.

Choosing Growth ETF Allocations

Normally when considering a Retirement Portfolio the investor would have a large account (high 6 or 7 figures). The growth side is important as it keeps your portfolio moving ahead as life expectancy increases.

Tax efficient income should be the focus here, but it is important not to over-Canadianize your portfolio just because of dividend tax advantages. If lower taxes are an important factor due to higher income, you should use swap-products in Cash/Margin accounts and take advantage of capital gains.

You can also consider taking an investment loan for investing in the Canadian portion of your portfolio that is is Cash/Margin accounts (includes Canadian stocks, bonds, and preferred share allocations). Just don't get too aggressive with this; limit your loan value to less than half of your overall portfolio equity.

The best way to split the growth side of your portfolio is to allocate half of it to U.S. stocks, a quarter to Canadian stocks, and a quarter to International stocks. Hold the U.S. and International parts in your TFSA if you can. U.S. stocks can be held in RRSPs if you are choosing a U.S. Dollar account for that purpose. Otherwise, go with swap-products in your Cash/Margin account for the balance.

REITs can be added into the growth allocation for extra income needs. REITs are known to provide higher income, but they are interest rate sensitive and are as volatile as stocks.

Use this guide for assistance in choosing asset allocations across different accounts.

This style of asset allocation gives you broad exposure to global markets, global currencies, and allows re-balancing gains.

Acceptable Retirement Portfolio Examples

The following portfolios are based on the size of the protection component. The growth allocations remain fixed—except when adding REIT exposure.

80% Growth in Retirement for Canadians

Source: TheRichMoose.com

The cash cushion and broad bonds form the protection part of the portfolio. The bonds will provide moderate interest income and reduce portfolio volatility. When rebalancing, broad bonds should be treated the same as the growth ETFs—not the cash cushion.

In good market years, re-balance all ETFs to the desired allocation. In poor market years, re-balance all ETFs but don't top up the cash cushion.

70% Growth in Retirement for Canadians

Source: TheRichMoose.com

We add Canadian preferred shares to the portfolio to provide tax-advantaged dividend income. Like bonds, rate-reset preferred shares are sensitive to changes in interest rates. They increase in value as interest rates go up.

When rebalancing they should be brought to the correct allocation with the other ETFs—not including the cash cushion.

60% Growth in Retirement for Canadians

Source: TheRichMoose.com

We add U.S. corporate bonds to the portfolio. This provides more U.S. currency exposure and better income than broad bonds.

U.S. corporates should be held in your RRSP. If it's a substantial RRSP holding (over $100,000), consider holding the comparable U.S. listed version (trades as VCIT) instead to save on withholding taxes.

Re-balance corporate bonds with the other portfolio components annually. Do not re-balance the cash cushion in poor performing markets.

60% Growth (with REITs) in Retirement for Canadians

Source: TheRichMoose.com

This portfolio adds REIT exposure for added income. REITs are interest rate sensitive like bonds, but provide higher income. They are as volatile as stocks and exposure should be limited. REITs affect the allocation on the growth side.

Re-balance with other portfolio components annually. Do not put money into the cash cushion in poor markets.

Less than 60% Growth in Retirement for Canadians

For even more conservative portfolios, you should increase exposure to broad bonds (ZAG/ZDB/HBB), and reduce the growth ETFs in the same proportions.

As we live longer and can expect retirements of 30 years or more, it can be damaging to invest in an overly cautious manner. We need the growth side to propel our portfolios through good markets which increases our downside tolerance in poorer markets.

Summary

Even the most complex portfolio, just seven ETFs will do the trick. This is why I am always hesitant when individual investors have dozens of different holdings. I believe most investors, including professionals, would be hard-pressed to consistently beat these portfolios after fees.

The total fees on these portfolios sits in the mid-teen bps. This means on a $1,000,000 portfolio all those holdings are managed for around $150 a month. Unbelievably cheap!

At current prices, these portfolios will generate 2.0 - 2.5% in dividends and interest income. This means the remaining part of your portfolio income will be realized capital gains.

Comments & Questions

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RM Portfolios Update: June 2017

Sorry friends, no fancy photo or spreadsheets today. Not much other good news either as you'll see below.

I'm on vacation so it's a plain-Jane post.

The Growth Portfolio is a "Lazy" investment portfolio I created that is designed to promote investment growth and moderately high returns with some built-in downside protection.

The portfolio is best used for younger investors with long investment timelines. That means a commitment to investing for over 25 years. The longer you stay invested, the smoother and better your overall returns will be.

This Month's Update

Well, June is a month we would all like to forget. Canadian stocks continued their slow crawl downwards. Basically all our big sectors got spanked: financials are getting dragged by bank worries and what is increasingly looking like the beginnings of a Toronto area housing correction. Energy, well need I say more... Other commodities can't brag either. It's all part of the pain with a local stock market dominated by a few sectors.

This is all despite a well performing economy (according to the who's who), an optimistic business and consumer sector who believe the future looks as bright as it ever has, and a bank governor who has suddenly been talking up our dollar like a friend who found a new magic weight loss regimen that everyone must try.

Of course, a climbing dollar has a negative impact on foreign stock performance once converted back to CAD. While foreign stocks have slipped a bit on their own, the dollar impact really gave them a wack.

Naturally, our portfolio "brakes" didn't do what they're designed to do. There's no need for our fear holding—gold miners—to jump when economic optimism around the world is climbing. And bonds are allergic to rising interest rate talk, so there's that.

Overall, this month the Growth Portfolio did not so well at all.

This is the monthly change of our four ETFs as of July 4.

  • XAW.TO down from $24.52 to $23.57 (-3.87%)
  • HXT.TO down from $31.26 to $30.58 (-2.17%)
  • HBB.TO down from $45.19 to $44.56 (-1.39%)
  • XGD.TO down from $13.03 to $11.90 (-8.67%)
  • Plus a gain of $40.47 in cash dividends

Our overall portfolio lost $262.48 (-3.28%) this month. It definitely took some of the wind out of the gains made up until May this year, but that's OK. We know stocks go up and stocks go down, that's life. But in the long run it's up, up, and away.

Here in the Moose world we invest for the long haul and I'm very confident that 10 years from now we'll all be sitting pretty fat and happy with a Growth Portfolio.

To keep balanced a close as possible with our new $500 monthly contribution and the cash from dividends, we will buy XAW.TO and XGD.TO. XAW.TO dropped the most of our large holdings and makes up the largest portion of our Growth Portfolio so it's important to stay on top of that holding. With this purchase of 19 units, we'll have a total of $5091.12 or 61.7% of our portfolio in global stocks.

It's also important to keep XGD.TO funded as the protection component. We're going to purchase 7 units which puts us a bit over our target. HBB.TO is still sitting a hair above its target as it shifted the smallest amount of all our positions.

Total holdings:

  • XAW.TO:  216 units worth $5,091.12
  • HXT.TO:  48 units worth $1,467.84
  • HBB.TO:  19 units worth $846.64
  • XGD.TO:  70 units worth $833.00
  • Cash:  $9.63
  • Total Value:  $8,248.23

Real World, Real Time Performance

In our example Growth Portfolio update, we use a few rules. Each January we start with $5000 invested as close as possible to the Growth Portfolio allocations. We invest another $500 on the first trading day of each month. This is in effort to mimic a person who is just starting to invest in their TFSA (careful not to go over your contribution limit - check your CRA Account online).

We don't re-balance each month, instead we use our monthly $500 contributions to try and maintain some balance to the portfolio with purchases only. This keeps our Questrade trading costs low. The cash portion is just a small amount of leftover cash after buying as many ETF units as we can. Cash goes up at the start of each month because of our $500 contribution and any dividend payments.

Growth Portfolio Design

The Growth Portfolio has two overall elements: a growth component and a protection component. The growth components consists of Global stocks in the form of XAW.TO and Canadian stocks in the form of HXT.TO. We know stocks grow much quicker than bonds over time because they are riskier. We also know that, as a whole, when US stocks go up stocks in Canada and around the world also go up. That is to say stock performance around the globe is generally somewhat correlated. What tends to vary the most is how much they are correlated. One year US stocks may go up 10% while Canadian stocks only go up 4%. The next year Canadian stocks may go up 15% and US stocks only 6%. Stocks are also more likely to crash hard for short periods during bad times. This is where the protection component comes in.

When stocks fall a lot, gold and bonds tend to fall only a little bit and sometimes can actually go up. Gold and bonds have a low correlation to stocks and can have a slight negative correlation to stocks. This is because they are perceived to be less risky than stocks so money pours into these assets during "the bad times". Although gold is increasingly considered to be a good short-term "fear asset," it is important to limit your portfolio to no more than 10% gold as a rule. Gold is a non-productive asset and over the long term it is likely to increase no more than the rate of inflation. By investing in gold companies rather than gold itself, the Growth Portfolio offers both gold exposure along with a productive element to benefit from gold miner efficiency.

The Power of Re-balancing

One of the considerations to the Growth Portfolio design is it has you invest in asset classes that behave differently. Canadian stock markets don't always perform the same as other markets around the world at the same time, gold doesn't always go up in line with stocks at the same time, and bonds tend to be a lot more boring than stocks generally speaking. Re-balancing your asset positions once a year can help you in effect sell high and buy low. This adds to your overall return. By not re-balancing too often, you let your winners run and keep trading costs down.

Comments & Questions

All comments are moderated before being posted for public viewing. Please don't send in multiple comments if yours doesn't appear right away. It can take up to 24 hours before comments are posted.

Comments containing links or "trolling" will not be posted. Comments with profane language or those which reveal personal information will be edited by moderator.