Narrowing Down the Choices
Most bond ETFs have pulled back meaningfully over the last few months. Now is probably a good time to consider buying some bonds in your TFSA. There are over 60 bond ETFs on the TSX to choose from. So which is the best one? Rob Carrick wrote an article about bond ETFs for the Globe & Mail back in 2011. I’ve narrowed the list down to the following 5 exchange traded funds which I think are the most appropriate for Canadian retail investors!
- Vanguard Canadian Aggregate Bond Index ETF (VAB)
A favorite fund among couch potato investors. The default go-to bond ETF. Portfolio manager Justin Bender recommends it in his model ETF portfolio.
- Vanguard Canadian Short-Term Bond Index ETF (VSB)
This is similar to VAB, but contains shorter maturing bonds. Very safe and steady. Popular with conservative index investors.
- iShares Canadian Universe Bond Index ETF (XBB)
This one has been around for a long time. It’s the largest bond ETF here by net asset value. Great track record overall.
- iShares Canadian Corporate Bond Index ETF (XCB)
Holds corporate bonds only. Withstood the great recession very well. Relatively high management fees though.
- BMO Mid Corporate Bond Index ETF (ZCM)
Similar to XCB, but more diversified and lower fees.
Honorable mentions: Horizons Active Corp (HAB), iShares Canadian HYBrid Corp (XHB), TD e-Series Bond Mutual Fund (TDB909)
Maybe there’s a bond fund I didn’t include above that is a better fit for you. Check out Rob’s article to see a more complete list of funds. The following table breaks down the five bond ETFs into categories so we can compare them. 🙂 You can read my previous post about what bonds are if you need a refresher. (Bond table below)
Breakdown of the Top Five Bond ETFs
|Comparing Bond ETFs||VAB||VSB||XBB||XCB||ZCM|
|Price per unit as of Jan 2016||$25||$24||$31||$21||$16|
|Government / Corporate mix %||77 / 23||71 / 29||69 / 31||0 / 100||0 / 100|
|Net Assets||$1.1 billion||$0.8 billion||$2.1 billion||$1.7 billion||$1.2 billion|
|MER (annual fees)||0.13%||0.11%||0.34%||0.45%||0.34%|
|Average duration||7.6 years||2.7 years||7.4 years||6.1 years||6.2 years|
|Avg yield to maturity||2.0%||1.2%||2.1%||2.7%||2.8%|
|% Credit rating AAA||45%||57%||41%||4%||0%|
|% Credit rating AA||37%||23%||27%||26%||22%|
|% Credit rating A||9%||11%||21%||33%||26%|
|% Credit rating BBB||8%||10%||11%||38%||52%|
|1 year total return||1.2%||1.3%||1.3%||3.2%||3.6%|
|5 year average annual return||3.0%||1.9%||2.9%||3.7%||4.8%|
|Morningstar ETF Rating||4 stars||4 stars||4 stars||5 stars||5 stars|
|Sector breakdown||Gov’t 77%|
Real Estate 6%
Real Estate 13%
How to Decide Which Bond ETF to Buy
Let’s go down the list of categories one at a time, starting with the government/corporate bond mix. Government bonds in Canada are considered very safe investments. Low risk means low reward. The current yield on a 10 year Canadian bond is only 1.7%, which leaves much to be desired.
However, a 10 year corporate bond can go for roughly twice that yield, reaching between 3.0% to 3.6% return. Here are a couple of corporate bonds I’ve found using my broker’s online web interface – Brookfield Asset Management and Bell Canada bonds. 🙂
As we can see, Brookfield and Bell Canada have investment-grade credit ratings of A- and BBB+ respectively. Both companies are very financially sound, and are well known among stock investors as blue-chip, large-cap stocks (BAM.A) and (BCE).
Bell is literally the largest telecommunications company in the country, worth over $50 billion, and is a full fledged dividend aristocrat. So although there’s a chance BCE could go bankrupt in the next 10 years, the risk of that happening is really low. Government bonds are the safer variety. But after adjusting for risk, I still prefer corporate bonds like Bell that yields 3.2%, over Canadian government bonds that only pay a disappointing 1.7%. Seriously – even GICs offer higher yields than 1.7% right now. 😄
Since I’m comfortable with a 100% corporate bond portfolio, my bond ETF choice is between XCB and ZCM. This is not to say all government bonds are bad. I just think there are better alternatives at this time, given my personal risk tolerance. Continue reading »