That’s what clients of BMO InvestorLine faced on May 25th and 26th. BMO said it was experiencing “technical glitches” and was sorry for the “inconvenience” but it took two days for normal operations to resume. As a goodwill gesture, BMO InvestorLine says it is charging $9.95 per trade for all clients for trades executed while the glitches persisted and also offering two free equity trades in June but some clients may feel the gesture to be very small compared to the opportunity cost of the outage.

BMO InvestorLine may have been the latest but it is certainly not the only discount broker to experience temporary problems. Clients at TD Waterhouse and RBC Direct Investing have experienced website outages in the recent past. Investors may not be able to do much about these intermittent website problems at discount brokers but it is something to be aware of.

Related Reading:

• RBC Direct Investing and BMO InvestorLine Lower Commissions
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• Globe and Mail’s Discount Broker Rankings
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BMO InvestorLine Trading Glitches is brought to you by Canadian Capitalist — Helping you to invest & prosper.

This post is part of a series called Under the Hood, where l take a detailed look at specific Canadian ETFs or index funds.

The fund: BMO Real Return Bond Index ETF (ZRR)

The index: The fund tracks the DEX RRB Non Agency Bond Index, which consists of inflation-linked bonds issued by the Government of Canada. It seems to have been created specifically for this ETF.

The cost: The ETF’s management fee is 0.25%. As with other BMO funds, the actual MER will be higher because it includes GST/HST and some other expenses.

The details: This brand-new ETF (it started trading on Wednesday, May 26) holds five real-return bonds issued by the federal government, each making up about 16% to 23% of the fund’s assets.

Real-return bonds — or Treasury Inflation-Protected Securities (TIPS), as they’re called in the US — are an important asset class, and some financial experts recommend them as a core holding.

Both the principal and the interest payments of real-return bonds are tied to the Consumer Price Index, so they go up with inflation. Here’s an illustration of how this might work, courtesy of Bylo Selhi:

On a $1,000 bond, if the coupon interest rate is 3% and inflation is 1% after six months, the principal is adjusted to $1,010. You then receive a semi-annual interest payment of $15.15. If inflation rises to 3% by year end, the principal is adjusted to $1,030. You then receive another interest payment of $15.45. Assuming similar inflation over 10 years, you will receive $351.64 in interest payments while the principal will have risen to $1,343.92.

Real-return bonds typically have long durations: the maturity dates of the five in this ETF range from 2021 to 2041. Since real-return bonds were introduced in 1992, the average annual return has been 8.2%, which falls between that of short-term (6.6%) and long-term bonds (9.5%) over the same period.

The alternatives: Real-return bonds are an under-served asset class: until ZRR was launched, the iShares Real Return Bond Index Fund (XRB) was the only ETF of its kind in Canada. There are only two no-load mutual funds devoted to them — TD’s Real Return Bond Fund and Phillips Hager & North’s Inflation-Linked Bond Fund — and both are actively managed.

ZRR has undercut its iShares competitor in price — XRB charges 0.35% — although we’ll have to wait for the first Management Report of Fund Performance to learn what its all-in cost will be. TD’s mutual fund charges an onerous 1.42%; PH&N’s has a super-low fee of 0.53%, but brokers may require a minimum investment of $5,000.

What’s most interesting is that all of these funds have very similar holdings. The reason is simple: there just aren’t many real-return bonds to choose from. The federal government has just five issues, all of which are held by BMO’s fund. These five also also make up 86% of XRB, 60% of TD’s fund, and 80% of Phillips Hager & North’s. The only other significant issuers of real-return bonds are Ontario, Quebec and Manitoba, and provincial governments aren’t included in the index ZRR tracks.

The bottom line: It’s too early to pass judgment on ZRR: it will take at least a year to see if it’s able to keep its expenses down and track its index closely. But if it performs well, it will be an attractive alternative to iShares’ XRB, which currently holds over $594 million in assets. Given the extremely limited inventory of real-return bonds, performance of funds in this asset class really comes down to who can keep their costs lowest.

If you’re considering this new ETF, first look through the prospectus.

Disclosure: I do not own ZRR in my own portfolio. I have a small position in TD’s Real Return Bond Fund (too small to make an ETF cost-effective).

• BMO Equal Weight REITs (ZRE)
• BMO Equal Weight US Banks Hedged to CAD (ZUB)
• BMO Equal Weight US Health Care Hedged to CAD (ZUH)
• BMO Junior Oil (ZJO)
• BMO Junior Gas (ZJN)
• BMO Long Federal Bond (ZFL)
• BMO Real Return Bond (ZRR)
• BMO Emerging Markets Bond Hedged to CAD (ZEF)

Two of these ETFs are interesting. The BMO Real Return Bond ETF (ZRR) has a MER of 0.25% compared to a MER of 0.35% for the iShares DEX Real Return Bond ETF (XRB). ZRR holds 5 Government of Canada real return bonds but XRB is slightly more diversified as it has about 15% of its holdings in provincial real return bonds. A 10 basis points savings in MER may not be tempting enough for existing investors to switch because investors with large holdings will want to invest in real return bonds directly, not through an ETF. The Sleepy Portfolio, for example, has $7,300 in XRB. Switching to ZRR will save $7.30 per year but will cost $20 in trading commissions plus another 0.5% or so in bid-ask spreads. In other words, it will take 8 years for the Sleepy Portfolio to just recoup the costs of switching.

The BMO Equal Weight REITs (ZRE) has a MER of 0.55%, the same as the iShares S&P/TSX Capped REIT ETF (XRE). But unlike XRE, which is capitalization weighted and just three REITs account for more than half the weighting, ZRE weights 18 REITs equally. Therefore, ZRE may be a more diversified holding than XRE for the REIT portion of a portfolio. It would have been very tempting to switch if BMO had set the MER at a much lower level than 0.55%.

The rest of the new ETFs focus on such narrow market segments that Jon Chevreau says they are “the antithesis of the “buy-and-hold-for-the-long-run” first generation of broadly diversified equity ETFs epitomized by the Vanguards of the world”. I couldn’t have said it better.

Related Reading:

• BMO expands its ETF line up (again)
• More Exchange-Traded Funds from BMO
• A Tour of ETFs: iShares CDN REIT Sector Index Fund
• Time to buy REITs?
• Canadian REITs: No Longer a Bargain

More ETFs from BMO is brought to you by Canadian Capitalist — Helping you to invest & prosper.

The BoC, currently holding interest rates at record-low levels as a post-recession stimulus measure, is slated to announce its next rate change in less than a week. Until recently it was assumed that rates would be hiked in order to cool down the economy, but the recent European debt crisis and resulting turmoil has led Canadian economists to reconsider that assumption. Some say  stimulus might still be in order, at least for a while, and the OECD’s conclusion otherwise has some wondering if the Paris-based economic institute is a little out of touch.

“I have to wonder when this recommendation was cobbled together… we do have the rumblings of what could be a serious global episode in financial markets,”  BMO economist Douglas Porter told CBC News.

Nonetheless, the OECD has optimistically revised its growth forecast for Canada in the coming year, from 3.2 to 3.6%

The report rehashes what’s by now a familiar story: Canada has strong economic fundamentals, good financial regulations, loads of natural resources, a competitive workforce and immigration policy, etc.

CIBC’s praise isn’t too effusive though. The report is at least as much about the sorry state of the global economy as it is about the strength of our own, praising our “comparatively low government and corporate debt” and a “healthier state of public and corporate sector balance sheets.” It echoes a recent story from Bloomberg which suggested that Canadian bonds are outperforming the rest of the world’s — not because they’re growing in value, but because they’re simply declining less.

Now let’s consider whether ShareOwner offers good value for Couch Potato investors with all-ETF portfolios. My thanks to reader Steve, who recently opened account with ShareOwner and gave me his impressions of its strengths and weaknesses, and to those who shared their own experiences in the comments section of the previous post.

The Advantages

• ShareOwner lets investors assemble and maintain a diversified ETF portfolio with much lower trading costs than big-bank discount brokers that charge $29 per trade. First, the service allows you to make individual ETF purchases for $9.95, the same as low-cost brokerages like Questrade and QTrade. Where you can potentially save much more is by buying multiple ETFs for a single $40 commission. (As one commenter pointed out, however, you still need to pay attention to your overall trading costs. A $1,000 order spread across eight ETFs works out to a commission of $5 per fund, which sounds cheap. But a $40 commission on a $1,000 purchase is 4%, which is not a cost-efficient trade at all.)

• The ability to hold fractional shares allows investors to buy in smaller, rounder amounts, making asset allocation easy and dividend reinvestment more efficient. ShareOwner will reinvest whatever dividend amount you receive, even if it’s enough to buy only a tiny fraction of one share (up to four decimal places).This is especially useful for ETFs that have high share prices and low yields. For example, the SPDR S&P 500 ETF (SPY) trades at over $100 and yields less than 2%, so you’d need more than $20,000 to receive a quarterly dividend large enough to pay for one full share.

• The strict monthly trading schedule forces investors to stick to a disciplined strategy, which is crucial for Couch Potatoes. As Steve explained: “It seems to me that one is less likely to make spontaneous purchases. It’s like ING Direct, which I use for short-term savings: for some reason, the fact that the money is a day or two away makes me less likely to go to it. Similarly, ShareOwner is forced discipline, because you cannot time the market.”

The Disadvantages

• ShareOwner has high annual fees for RRSPs ($79) and TFSAs ($50), regardless of account size. Only unregistered accounts have no annual fee. Most discount brokers waive their account fees once you hit a certain threshold: QTrade, for example, charges an RRSP fee only if accounts are under $15,000, while Questrade charges no account fees at all fees.

• The cost of selling ETFs is higher than buying them — $9.95 per security, with no co-op discounts — and withdrawals cost $12 to $48, depending on the type of account. For long-term investors who don’t trade often, this isn’t a huge disadvantage. However, when rebalancing your portfolio with ShareOwner it would be much more cost-effective to add new money, rather than selling off the top performing funds. See the full schedule of fees here.

• Perhaps the biggest knock against ShareOwner for index investors is the limited selection of ETFs. Its menu includes the most popular iShares products, but Claymore’s best funds — the Canadian Fundamental ETF (CRQ) and their two laddered bond ETFs, CLF and CBO — are noticeably absent. They offer several key Vanguard ETFs (VEA, VWO and VB), but the Total Stock Market ETF (VTI) is a major oversight. Meanwhile, you can choose a number of dubious niche ETFs, such as First Trust ISE Water (FIW), Market Vectors Nuclear Energy (NLR) and the iShares Dow Jones US Aerospace and Defense (ITA). I recognize that not every ETF investor is interested only in broad-market indexes, but their choices still seem idiosyncratic. I emailed ShareOwner to ask them to explain their logic, but got no reply. Hopefully they respond to their clients more quickly than they respond to the media. See the full list of available stocks and ETFs of fees here.

The Verdict

ShareOwner is an innovative service that can offer a lot of value to buy-and-hold investors. But I think it’s better suited to stock pickers than to Couch Potatoes for several reasons:

• For RRSP investors, the $79 annual fee may wash out any cost advantage over low-cost discount brokers. And it makes little sense to pay $50 annually for a TFSA, especially since the contribution limit is just $5,000 a year. If you’re investing in a taxable account, however, you can make a much better case for using ShareOwner.

• Couch Potatoes with less than $30,000 are often better off staying away from ETFs altogether. Index mutual funds already let you buy fixed-dollar amounts and reinvest distributions, plus you can add or withdraw money with no fees. My first Index Investor column in the current issue of MoneySense discusses this idea in detail.

• ShareOwner’s DRIP feature is of limited value for Couch Potatoes. Most discount brokers already offer DRIPs on Canadian exchange-traded funds, albeit for full shares only. In any case, there’s an argument to made for taking distributions in cash and using that new money when you rebalance.

• The real savings from ShareOwner’s co-op trades only come if you’re making a lot of purchases in each order. A stock picker, for example, might have a portfolio have 30 to 40 dividend-paying stocks, which would be very expensive to buy individually. But a Couch Potato portfolio typically includes only four to eight ETFs. In theory, the platform would work well for something like my Über-Tuber portfolio, which includes ten ETFs. But ShareOwner doesn’t offer a wide enough selection of products to build this kind of sophisticated ETF portfolio.

If any readers are using ShareOwner to maintain an all-ETF portfolio, please post a comment and let us know your thoughts.

Filed under: ETFs

I’m unable to highlight all the articles worth checking out in my weekly round up but you can check them out through my Twitter feed. Have a great weekend everyone!

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I admit it: I’m an ETF geek. My bedside table usually holds a well-thumbed book on exchange-traded funds, and I routinely bore people with meditations about the merits of cap-weighted indexes. My wife recently asked, in her charming way, if I would love her more if she were an ETF. I answered yes, since she’d be less expensive, more transparent and easy to trade. Then I ducked.

Given my own enthusiasm, I shouldn’t be surprised when I hear from readers who have sold their dreary, high-fee mutual funds and want to know which ETFs to use in their first Couch Potato portfolio. (For the uninitiated, Couch Potato investors don’t try to beat the market, they simply track stock and bond indexes at low cost.) Some are new to do-it-yourself investing and are still fuzzy on what exchange-traded funds are. Others are keen to cover every asset class, but have only a few thousand bucks in sav­ings. It pains me to say it, but for these investors, ETF port­folios usually don’t make sense. Luckily, though, they can still become Couch Potatoes.

ETFs are not the best way to start out, because they trade on an exchange, like individual stocks. That means you need a discount brokerage account to buy and sell them—and if you have no experience managing your own money, this can make you nervous.

As well, if you’re investing less than $30,000 or so—or if you’re making small regular contributions—ETFs may not make sense when you add up the trading fees. As with stocks, every time you buy or sell shares in an ETF you pay a commission: about $29 at the bank-owned brokerages, or $9.95 at independent ones such as Questrade and Qtrade. If you’re periodically rebalancing your portfolio or diligently tucking a couple of hundred dollars a month into an RRSP, RESP or Tax-Free Savings Account, those commissions will eat you alive. (One exception would be a portfolio of ETFs from Claymore Investments, which offers free pre-authorized cash contribution plans—but such plans are not yet available through the big bank discount brokerages.)

For newbie Couch Potatoes, or those saving in small accounts, low-cost index mutual funds are a more sensible choice, as you can set up regular contribution plans and you don’t have to pay each time you add money. Here are three ideas for the simple spud:

Less than $5,000
If you’re starting from scratch, you won’t find anything easier than ING Direct’s Streetwise Funds. Launched in 2008, the Streetwise Funds are one-stop Couch Potato portfolios. They hold a mix of Canadian, U.S. and international stocks, as well as Canadian bonds, all passively managed and tied to well-known indexes. The Streetwise Funds come in three flavors: the Balanced Fund, the Balanced Income Fund, and the Balanced Growth Fund. All work fine in an RRSP, but RESP versions are not yet available.

The Streetwise Funds have a management expense ratio of 1%, which is higher than you’d pay for a portfolio of ETFs (but less than half the MER of most actively managed funds). And that’s the all-in cost. There’s no fee to open or maintain an account, no minimum account size, no trading commissions, and the fund automatically rebalances every quarter. Once you set up an automatic contribution from your chequing account, you can safely lapse into a coma.

Between $5,000 and $30,000
If you’ve accumulated some savings and you’re comfortable managing your own portfolio, consider TD’s e-Series mutual funds. There are 10 funds in the e-Series family, but a Couch Potato needs only four: TD Canadian Index, TD U.S. Index, TD International Index and TD Canadian Bond index. These are the cheapest mutual funds in the country: you can build a diversified portfolio for less than 0.5% a year. It costs nothing to buy and sell new units, and you can set up automatic contributions from your bank account.

The only drawback is that you must buy them online through TD. You can do this with a TD e-Series Funds account, or you may want to consider opening a brokerage account with TD Waterhouse, which will give you access to ETFs further down the road.

More than $30,000
As your portfolio grows, the low management fees of exchange-traded funds become more attractive. Here’s an idea for moving into ETFs in a cost-efficient way: build a Global Couch Potato portfolio with four ETFs in a discount brokerage (see the Canadian Couch Potato blog for instructions). Then set up automatic monthly contributions to a money market fund in the same brokerage account. Once a year, use the cash in the money market fund to rebalance your portfolio. Assuming four trades a year at $29, the commissions would be $116, but that’s offset by the lower annual fees on the ETFs.

Compared with the e-Series funds, this only makes sense for portfolios approaching $100,000. But if you’re currently using pricier index mutual funds, or if your broker charges just $9.95 for trades, this technique will work for accounts as small as $30,000.

Do the math and figure out what works best for you. Just don’t forget that while costs are important, saving regularly and sticking to the strategy are the most important ingredients in the Couch Potato formula.