Meet the New Funds, Same As the Old Funds

Vanguard Canada has yet to launch a single investment fund, but at least now we know what’s coming. On Tuesday, the company announced it had filed a preliminary prospectus for its first six ETFs.

When Vanguard first announced that it was coming to Canada in June, I wondered whether its arrival would really change the investing landscape. As much as I have enormous respect for Vanguard, I wasn’t sure whether another family of ETFs or advisor-sold index funds would offer Canadians anything they can’t already get. This new lineup of ETFs hasn’t done much to change my mind.

Let’s go through each of the six Vanguard ETFs and compare them to funds already available from iShares and other Canadian providers.

The Vanguard MSCI Canada will track an index of 100 Canadian stocks, so it falls right between the iShares S&P/TSX 60 (XIU), which has 60 large-cap holdings, and the iShares S&P/TSX Capped Composite (XIC), which has 260. (BMO and Horizons also offer large-cap Canadian equity ETFs.) The index—which is currently tracked by the iShares MSCI Canada (EWC) in the US—is not an improvement over the S&P benchmarks, so the new Vanguard ETF will have to compete on cost.

The Vanguard Canadian Aggregate Bond and the Vanguard Canadian Short-Term Bond will track indexes created by Barclays Capital. These are broad-based indexes that include both government and corporate bonds, and will likely be similar to those tracked by the iShares DEX Universe Bond (XBB), the BMO Aggregate Bond (ZAG), and the iShares DEX Short Term Bond (XSB). Again, unless these Vanguard funds have dramatically lower fees, they don’t seem to offer any meaningful advantage over what’s already available.

The Vanguard MSCI EAFE (CAD-hedged) will likely just hold Vanguard’s existing Europe-Pacific equity fund (VEA) with currency hedging and an extra fee. That would make it virtually identical to the iShares MSCI EAFE CAD-Hedged (XIN). There is some potential for undercutting iShares on cost here, though: XIN has a high management fee of 0.50%, while VEA charges just 0.12%.

The Vanguard MSCI Emerging Markets will not hedge currency, which means it will be a clone of the iShares MSCI Emerging Markets (XEM). It will likely just hold the US-listed Vanguard MSCI Emerging Markets (VWO) with an added fee. One would imagine it will be cheaper than XEM, which comes in at 0.79%. However, as long as you can trade in US dollars without excessive currency exchange costs, you can’t beat VWO and its 0.22% fee. (Remember that VWO, although it is traded in greenbacks, does not expose you to US dollar risk.)

That leaves only the Vanguard MSCI U.S. Broad Market (CAD-hedged), which will almost certainly be a Canadian wrapper for the Vanguard Total Stock Market (VTI), with currency hedging and the “Canadian discount” (an extra fee). This one will actually be unique. If you want to use currency hedging with your US holdings, then this ETF is a significant improvement over the incumbent iShares S&P 500 (XSP). That’s because the MSCI index includes more than 2,800 mid-cap and small-cap stocks that are absent from the S&P 500, offering broader diversification.

Six of one, a half-dozen of the other

So there you are. Of the six new ETFs in Vanguard’s initial lineup, only one promises to offer investors something they can’t already find on the TSX. Unless these new ETFs have much lower fees than their competitors—and these have not been announced yet—it’s hard to get too excited about them.

Frankly, I’m not sure how much Canadians can expect from Vanguard in the ETF department. They are highly unlikely to offer US and international equity ETFs without currency hedging, since Canadians can already buy their US-listed funds if that’s what they want. (At least, that has been iShares position since they added hedging to XSP and XIN in 2005.) And the fees on their ETFs will probably not be dramatically lower, because of the poor economies of scale in Canada. Other than XIU, with more than $10.5 billion in assets, not a single Canadian ETF has $2 billion under management, and only a handful have even $500 million. Compare that to the US, where Vanguard’s VTI, at $164 billion, has four times the assets of all Canadian ETFs combined.

What would make me take notice

In my view, the only way Vanguard will change the game in Canada is to launch a family of index mutual funds that charge 0.30% or less, and to make these available to DIY investors as well as through advisors. TD Canada Trust has made it clear they’re not interested in promoting their e-Series funds—indeed, it often seems like they bend over backwards to discourage you from getting them. So this is an area where Vanguard could dominate: if they offered cheap index mutual funds through discount brokerages, or through direct distribution, they could instantly render every one of their competitors obsolete.

They could also make a splash by offering passively managed, low-cost target-date funds. These one-stop solutions gradually adjust their asset allocation based on your time horizon, so you never need to worry about anything except regular savings. Vanguard offers both target retirement and target education funds in the US with fees under 0.20%. Can you imagine how easy being a Couch Potato would be with products like this? Unfortunately, the few that exist for DIY investors are actively managed and burdened with excessive fees.

Vanguard can certainly become a force for good in the Canadian investment marketplace. But that will happen only after they go beyond launching more redundant ETFs.