DIY starter kit

Reality frequently suggests we do not live in the best of all possible worlds.

Yet from a do-it-yourself investor (DIY) perspective, perhaps present times do represent the best of all possible worlds.

DIYers have plenty of well- designed, easy to access and use discount brokerages to choose from — be it offerings from the big six banks or fintechs. Today, you can easily set up a self-directed account to trade stocks, bonds, exchange-traded funds (ETFs) and even options at relatively low cost from a smartphone or laptop in a matter of minutes.

And in the last few years, most platforms have begun offering commission-free trading.

“Things have come such a long way,” says Erin Allen, director of online distribution at BMO ETFs. “DIY exploded since the (COVID-19) pandemic.”

Assets under management are still less than half of those with full- service brokerages (adviser-led) — about $1.2 trillion versus $2.5 trillion. But discount brokers (those of DIYers) are growing at a faster rate in Canada, according to a recent report from ISSMI Market Intelligence.

About 14 million DIY accounts exist in Canada, with nearly 900,000 created in the last year.

If you’re feeling FOMO (fear of missing out) about DIY, here is a short guide to get started.

Investors today have plenty of choice, including non-big-bank, fintech platforms, which are growing the fastest in Canada. These include Wealthsimple Trade and Questrade — two of the biggest independents — which offer mostly commission-free trades.

Increasingly, the big banks offer commission-free trades, too, on a limited number of securities, mostly ETFs. That’s arguably all a new DIYer needs because ETFs are DIYers’ BIFF (best investment friend forever).

In particular, asset allocation ETFs should be the first choice for newbies.

“These asset-allocation ETFs are perfect for most people,” says Alan Fustey, a portfolio manager with Adaptive ETF in Winnipeg, a division of Bellwether Investment Management Inc.

Asset-allocation ETFs build on and really improve the original premise of the low-cost ETFs — which started out providing exposure to an entire stock market index at one-10th of the management fee of a traditional mutual fund.

“The only thing you need to choose with the asset-allocation ETF is one that fits your risk parameters and goals.”

They are essentially ready-made, highly diversified portfolios of ETFs that provide exposure to hundreds, if not thousands, of stocks and bonds around the world, designed to meet an investor’s risk appetite.

Asset-allocation ETFs are regularly rebalanced, automatically, and often have annual management fees of about 0.2 per cent or less.

The allocation choices typically include the following portfolio models: conservative (80 per cent bonds, 20 per cent stocks), aggressive (80 per cent stocks, 20 per cent bonds) and balanced (60 per cent stocks, 40 per cent bonds).

“One of the most popular is XEQT from iShares, which isn’t even a pure asset-allocation ETF because it’s all equity,” says Daniel Straus, managing director of ETFs and financial products research at National Bank Financial Markets.

Since launching in 2019, this iShares Core Equity ETF Portfolio has gathered more than $16 billion in assets under management. It holds more than 9,000 stocks, including about 40 per cent of those in the U.S., and 25 per cent in Canada, along with smaller allocations to Japan, China, France and Australia, among others — all for an annual management fee of 0.17 per cent.

Its performance, like many asset-allocation ETFs, is simply a factor of what broad indices — the stock markets in those nations — do.

Passive investing, which aims to track the performance of broad indices (like the S&P TSX Composite Index) has been the driver of ETF growth since these innovative funds were introduced more than 30 years ago, Allen says.

The reason being research shows active management — i.e. professional investors picking stocks — often underperforms the related benchmark (an index like the S&P 500) over the long-term, she adds.

New DIYers should take note, because picking stocks under the assumption you could be a big winner long-term is indeed enticing, but often a behavioural trap.

Social media is rampant with speculative investment ideas, leading many DIYers to invest in what they believe is the next Tesla.

Although not an entirely bad approach to investing, the risk with stock picking, especially for new investors, is concentration risk. What if that one stock declines steeply in price?

Most new DIYers are ill-prepared for that experience, Allen says. “They have a quick scare with a stock.” They sell at a loss, “and then they never return.”

That’s why asset allocations, in contrast, are so beneficial. You can set up an automatic monthly contribution to an RRSP (registered retirement savings plan) investing in a balanced asset-allocation ETF portfolio with no commissions.

And then forget about it.

Even then, staying the course and not getting attracted to the shiny new investment products is often the greatest risk to new investors.

“The availability of these extremely sensible products (ETFs) comes with a dark side, which is that it’s extremely easy to take enormous risks” with thematic and dozens of other more concentrated ETFs “that may impair your long-term returns,” says Straus.

Thematic ETFs (i.e. a fund investing only in electric vehicle companies) and high-yield ETFs (funds using options and leverage) have their uses, but they are best used for shorter periods and often involve more risk and volatility than broad-based index-tracking ETFs. What’s more, their fees are often double or more those of asset allocation ETFs.

Many new investors may still want to speculate. That’s OK — a little bit of “explore” in the portfolio is fine as long as DIYers build a larger, diversified “core” as their foundation.

This approach is referred to as “core and explore,” whereby most capital is invested in an asset- allocation ETF, and five to 20 per cent can be used for more speculative investments: individual stocks or thematic ETFs.

Just remember to keep the explore small, which can prove difficult because of the psychological tendency — particularly when experiencing early success — to let risky investments grow, often beyond the intended small allocation.

“If you have 90 per cent of your portfolio in an asset-allocation ETF, and the remainder to speculate, that’s fine,” Fustey says. “Just keep in mind it’s hard to beat long-term an ETF charging 17 basis points that’s broadly diversified and rebalances regularly.”

Joel Schlesinger is a Winnipeg-based freelance journalist

joelschles@gmail.com