So far, we’ve covered some of the tricks and traps involved in diversifying your portfolio’s equity allocations across Canada and the U.S. That’s a great start, but why limit yourself to North America? In this blog/video, we’ll head overseas, to further diversify your portfolio by adding ETFs from other developed markets around the globe. This time, we’ll zero in on three broad-market ETF contenders, including:
- The Vanguard FTSE Developed All Cap ex North America Index ETF (VIU)
- The iShares Core MSCI EAFE IMI Index ETF (XEF), and
- The iShares Core MSCI EAFE ETF (IEFA)
Once again, I’ve marked each fund’s icon with a small Canadian or U.S. insignia, to indicate whether the ETF trades on Canadian or U.S. stock exchanges. As we’ve been discussing, there are trading costs and tax ramifications to be aware of, depending on which exchange you tap.
Like our North American funds, all three of these international equity ETFs have been around for many years, with IEFA launching first in 2012. XEF made its debut less than a year later, with VIU appearing shortly afterwards.
Next, there are the cost comparisons. Like the U.S. equity ETFs from our earlier blog/video, the U.S.-listed IEFA has a noticeably lower expense ratio than VIU or XEF, which trade on the Canadian stock exchanges. All else equal, IEFA’s lower costs could help it track its index more closely than XEF or VIU can track theirs.
IEFA has also accumulated far more assets than either of our Canadian-listed funds. Its relative scale might give IEFA a slight edge at more fully tracking its underlying international equity index and thus better replicating its diversified holdings.
Speaking of indexes, VIU tracks the performance of the FTSE Developed All Cap ex North America Index, while XEF and IEFA both track the performance of the MSCI EAFE IMI, or “Investable Market Index”.
Now, there’s a lot of new acronyms and terms included in these index names. Let’s hit pause for a moment, and unpack them:
“FTSE” stands for “Financial Times Stock Exchange.” This is the partial name of the index provider, FTSE Russell. “MSCI” is an acronym for another index provider, “Morgan Stanley Capital International”. And EAFE stands for “Europe, Australasia and the Far East”, which are the developed country regions this MSCI index tracks.
The terms “All Cap” and “Investable Market Index”, or “IMI”, are terms specific to FTSE Russell and MSCI. They indicate these indexes track the performance of large-, mid-, and small-cap companies. In other words, they are all “broad stock market indexes”.
These target indexes are also all weighted by market capitalization. This means their large and mid-size company holdings explain most of each fund’s performance, with small company stock returns contributing the remainder. And since these broad stock market ETFs do not specifically target micro-cap companies, microcaps contribute little, if anything to each fund’s end returns.
Like the U.S., international stock markets have less exposure than the Canadian stock market has to the financials, energy, and materials sectors. This provides additional sector diversification for Canadian investors.
Besides helping us diversify across sectors, the international indexes these ETFs follow include thousands of individual companies, providing additional diversification for global investors.
VIU’s FTSE index includes more companies than the MSCI index followed by XEF and IEFA. Most of this difference can be explained by how each index classifies various countries’ markets as either “developed” or “emerging”.
For example, FTSE classifies South Korea as a developed country, while MSCI still classifies it as an emerging market. The same is true of Poland, but with much less impact, due to its smaller weight in the index.
This means that VIU (which follows a FTSE index) tracks hundreds of additional South Korean and Polish companies, while the MSCI-tracking XEF and IEFA exclude them.
Even with their market classification differences, both indexes have experienced similar performance since 2003. All else equal, we would expect the same moving forward over the long-term.
Besides offering important global diversification, these international equity ETFs have each delivered positive long-term returns since their inception. However, their long-term performance has included periods of gut-wrenching loss. For example, during the early days of the COVID-19 pandemic, each of them lost nearly 30% of their value. None of these ETFs existed during the Global Financial Crisis, but a comparable fund that did lost over 50% of its value in Canadian dollar terms at that time. That was the iShares MSCI EAFE ETF (EFA).
I’m not suggesting you try to time when to diversify in and out of international equity! Long story short, you’re more likely to time it wrong than right, and miss out on the very advantages you’re seeking to begin with. Instead, I’m telling you this, so you can prepare to endure these types of losses when they occur, as they will from time to time. Just remember: These periodic risks are essentially the entry price you pay, so you can be there to earn the global market’s long-term expected rewards.
In our next blog/video, we’ll show you how foreign withholding taxes can also take a bite out of your international equity returns. See you soon!
Any thoughts on CIEI + CEMI? Fees are attractive, but they seem to lack size and value exposure, perhaps not unlike the offerings from BMO and Mackenzie!
@Julien B. O. – CIEI and CEMI would be similar to the international and emerging markets equity ETFs from BMO and Mackenzie. Unlike the Vanguard and iShares ETFs, these two ETFs lack small-cap exposure (but as we’ve learned throughout this series, excluding small caps from market cap-weighted ETFs is not likely to significantly impact long-term performance.
I would love to see a post on the Evermore Target Date Funds that we’re recently launched. They seem to be competing with robo advisors and asset allocation ETFs.
I can’t figure out if they’re better from a tax withholding perspective over VEQT as it’s a Canadian ETF holding US ETFs like ITOT, BND, and BNDX. I suspect VEQT would still be better after MER is considered.
Do you think there’s any value to having the bonds added systematically and without investor behaviour being a factor?
You do great due diligence and I have a feeling these funds might start getting some attention as they’re aggressively advertising on social media.
@Jamieson – The Evermore Target Date Funds would still be subject to similar withholding taxes as VEQT.
From a behavioural perspective, the target date funds could have an advantage over asset allocation ETFs (which an investor would generally need to adjust over time). But I have a feeling if these target date ETFs prove popular, Vanguard will simply release their own version and knock out their competition.
do you and PWL Capital only take clients with $1mil net worth and above? I recently went on the site and saw there is an option for “less than $500k investable assets”, just curious because I like your content very much. I wonder if some years down the line if I could come to you at that point.
Also, it appears the “FAQ” link on PWL capital is broken…
I recently talked about one of your videos to my coworker and explained it which was cool! Thanks for the articles as always.
@Vince – We generally only take on clients with >$1 million of assets under our firm’s management. We wish we could offer our services to all investors, but from a time perspective, it’s just not realistic (which is why we provide free online content as an alternative :)
We sometimes will make exceptions for younger investors that have reached $500,000 and are aggressively saving, so feel free to reach out to our team when you hit this point in the future.
As for the PWL website, we’ll be revamping the site shortly, as there are a few other bugs that need to be addressed.
Thank you!! I’m sure I will still be frequenting your blog once I reach that point provided you are still in the field. I’ll remember to try sending a message then :)