The original and still No. 1 reason to build portfolios with exchange-traded funds is their low cost.
The cost of owning ETFs can be as low as low as 5 or 6 cents per $100 invested – that’s what the management expense ratio of 0.05 or 0.06 per cent on some Canadian equity ETFs essentially means. But there’s another layer of cost in ETF investing that can really add up: Brokerage commissions of up to $9.99 to buy and sell ETFs.
There are at least four ways to avoid these commissions that can be exploited by investors of all generations, be they Gen Zs who trade by mobile device or seniors who prefer the desktop experience. Here’s a run-through on each as used to buy ETFs listed on Canadian exchanges. If you buy U.S. ETFs, or stocks, foreign exchange costs enter the picture
- Zero-commission trading apps: Wealthsimple’s trading app introduced zero-cost stock trading to the Canadian market. Another perk is that fractional shares are available. That means every dollar you want to invest gets deployed into the ETFs you want to buy. Other entries in the zero-commission trading app category are MogoTrade and TD Easy Trade, which only offers ETFs from the TD family. Included are the TD One-Click asset allocation ETFs, which bundle a full portfolio of stock and bond ETFs into a single fund.
- Zero-commission brokers: National Bank Direct Brokerage was the first traditional broker to eliminate commissions on stocks and ETFs. So far, the only other broker to match that offer is Desjardans Online Brokerage. The difference between these brokers and the apps mentioned above is that you get a fuller package of tools for choosing investments and managing your portfolio.
- Brokers with a menu of zero-commission ETFs: Both Qtrade Direct Investing and Scotia iTrade offer 100-plus ETFs that can be bought and sold at no cost. There are plenty of choices available at both for building a low-cost, well diversified portfolio, plus some funds for betting on sectors and themes. If you want to keep things super simple, both brokers include a selection of asset allocation ETFs on their zero-commission ETF lists.
- No-cost ETF purchases: The online brokers CI Direct Trading and Questrade offer commission-free ETF purchases, but you pay the usual commission when you sell. Ideal for people who are primarily concerned with portfolio-building using regular ETF purchases and may only sell sporadically to rebalance a portfolio.
– Rob Carrick
This is the Globe Investor newsletter, published three times each week. If someone has forwarded this e-mail newsletter to you or you’re reading this on the web, you can sign up for the newsletter and others on our newsletter signup page.
Stocks to ponder
Books across the cruise industry have reached historic levels, leading to a jump in Carnival Corp. and Norwegian Cruise Lines Holdings Ltd.
The Rundown
Oil prices have been falling as nervous investors await the U.S. Federal Reserves’ rate decision. Reuters reports.
The emergence of the S&P 500 from its bull-market funk is genuinely good news. But central banks determination to quash inflation will likely still mean a recession at some point, Ian McGugan writes.
Others (for subscribers)
Bank of Canada gets blame for global market volatility
Monday’s analyst upgrades and downgrades
TSX breakouts: A trust with an attractive yield, special distributions and a 64% forecast return
Globe Advisor
Are you a financial adviser? Register for Globe Advisor (www.globeadvisor.com) for free daily and weekly newsletters, in-depth industry coverage and analysis.
Ask Globe Investor
Question: I’m in my 30s and I own about $300,000 worth of Shopify Inc. shares, which I received as part of my compensation before I left the company in 2019. The shares have an unrealized capital gain of $210,000 and account for nearly 30 per cent of my portfolio, which is worth slightly more than $1-million. I’m wondering if I should reduce my Shopify position and put the money into low-cost index funds, but I also don’t want to bear the full capital gains tax, as my annual income is about $130,000 and my marginal tax rate in British Columbia is about 40 per cent. What’s the most tax-efficient way to do this? Do I have to wait until a gap year when I minimize my income?
Answer: I probably don’t need to tell you this, but you would have been better off trimming your Shopify position before the price plunged about 80 per cent from late 2021 to mid-2022. Nobody knew such a steep drop was coming, of course, but based on some back-of-the-envelope math, I’m guessing Shopify accounted for about 50 per cent your portfolio at one time. That’s far too much weight to give any stock, let alone a tech company with an outsized price-to-earnings multiple.
The silver lining is that you learned an important lesson about the benefits of diversification. With that in mind, let me offer a few comments to help you decide your best course of action.
First, having 30 per cent of your portfolio in a single stock is better than 50 per cent, but it’s still way too high for proper diversification. As a rough rule of thumb, I aim to allocate a maximum of about 5 per cent to each individual stock, but I allow some wiggle room for companies on the conservative end of the spectrum. For example, the largest holding in my personal portfolio is Fortis Inc., with a weighting of about 7 per cent. But as a regulated utility with a long history of increasing its dividend, it has a lower risk profile than a tech stock like Shopify.
Second, although your timing could have been better, it could also have been a lot worse. Shopify shares have more than doubled from their lows last fall, which makes this an opportune time to consider trimming your holdings. True, Shopify could continue to rise, in which case you might kick yourself later. But it could also head lower again. Since you don’t have a crystal ball, the only thing you can do is control your risk.
Third, although nobody likes paying taxes, keep in mind that capital gains qualify for a significant tax reduction relative to other sources of income. Specifically, only half of capital gains are added to your taxable income, which means – for someone in British Columbia earning $130,000 – the effective marginal tax rate on capital gains is 20.35 per cent. The effective capital gains tax rate increases in small increments as income rises, topping out at 26.75 per cent for someone with income of more than $240,716.
How much capital gains tax would you have to pay? Well, if you were to sell, say, two-thirds of your Shopify shares for $200,000, you would realize a capital gain of $140,000 (two-thirds of your total unrealized gain of $210,000). This would add $70,000 to your income, and increase your tax bill by about $30,000. All else being equal, your Shopify weighting would fall to about 10 per cent of your portfolio – still not ideal, but a big improvement over 30 per cent. I’m using round numbers for illustration purposes; try the detailed Canadian income tax calculator at TaxTips.ca to run some different scenarios.
However, there may be ways to reduce the tax hit. If you have capital losses in the current year, for example, you can use them to offset your capital gains. Many investors employ a strategy called tax-loss selling, in which they sell a losing stock specifically for this purpose. Just be careful not to repurchase the losing stock within 30 days of the sale, or the sale will be considered a “superficial loss” that cannot be claimed for tax purposes. You can also carry forward any unused net capital losses from previous years to reduce your capital gains. Net capital losses can also be carried back, but only up to three years.
Another possibility, as you mentioned, is to wait until a year when you expect to have reduced income. If you were planning to take a hiatus from work to travel, for example, that would be an ideal time to trigger capital gains as the tax hit would be reduced. The risk is that Shopify’s shares could fall in the meantime. Whether you decide to sell now or later, putting the proceeds into index funds makes sense, as it will enhance the diversification of your portfolio.
There are a lot of moving parts here, and your decision should take into account proper portfolio diversification, taxes and your comfort level with Shopify’s business outlook. Consider any capital gains tax the price you have to pay to achieve proper diversification for the many decades of investing ahead of you.
– John Heinzl
What’s up in the days ahead
The U.S. Federal Reserve will announce its next interest rate decision on Wednesday
Click here to see the Globe Investor earnings and economic news calendar.
More Globe Investor coverage
For more Globe Investor stories, follow us on Twitter @globeinvestor
Compiled by Globe Investor Staff