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A wave of retiring baby boomers has the potential to stoke demand for exchange-traded funds.
The question is, can investors and advisers find the ETF gems amount the hundreds of funds available, many of them pure dross? It's worth the effort. Versatile and cheap to own, ETFs demand to be considered in building portfolios tasked with delivering retirement income. How to find the most suitable ones for boomer portfolios? This checklist may help:
1.) Fees: Every dollar you pay in fees reduces the returns that comprise your retirement income. Fortunately, some of the best ETF choices for boomers are also among the cheapest to own. To evaluate fees, focus on the management expense ratio and not the more limited management fee.
2.) Yield: For income-paying ETFs holding bonds, look to the weighted average yield to maturity listed in the fund profiles that ETF companies all have on their websites, then subtract the MER. Don't use the much more impressive distribution yields you get from stock quotes for ETFs. They simply measure what the ETF paid out in the previous 12 months. You can use the distribution yield for evaluating dividend ETFs.
3.) Distributions: The ideal distribution is either a dividend from a stock or interest paid from a bond. However, many income ETFs include a return of capital, which is essentially means you're being paid with your own money. Each return of capital payment you receive has the effect of lowering the cost that you will use at some point in the future to calculate your capital gain (or loss) when you sell your ETF. ETF company websites always include distribution info in their fund profiles. Don't buy a dividend or bond ETF without first checking how distributions in recent years have been structured.
4.) The underlying index: ETF companies are increasingly basing their products on newly hatched indexes. We have no idea how many of these new indexes will behave in a screaming market downturn, and that means they have no place in a retirement portfolio. Stick with the known.
5.) Use of currency hedging: Most U.S. and international ETFs are now available in hedged or non-hedged versions. Hedged work well when our dollar is climbing, and unhedged is better when our dollar sinks. Investing pros say unhedged is fine for long-term investing, but that may not apply to retirees. Think instead about a 50-50 split to ensure some of your investments outside Canada are always in tune with what the dollar is doing.
Rob Carrick