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How to make ETFs part of your RRSP Add to ...

At a friend's birthday party recently, the conversation around the kitchen table turned to our RRSPs and the baskets of mutual funds they held. My friends lamented the declines in their portfolios, but were irked more by the management fees they were paying for the privilege of owning their shrinking investments. Studies have shown that Canadians pay among the highest management expense ratios (MERs) in the world, with fees for equity mutual funds at 2.5 per cent on average.

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Maybe we should all just buy ETFs, suggested one friend.

Exchange Traded Funds, or ETFs, are quickly growing in popularity as a way of building a long-term, lower-cost portfolio. Like mutual funds, ETFs are bundles of investments that can contain equities, bonds or other financial assets. The difference is they are linked to a broad index such as the S&P/TSX composite index or to an industry or product specific index. They are listed on an exchange and can be traded intraday, like stocks.

Since ETFs track an index, less oversight is required and costs are lower than for actively managed mutual funds. Fees typically range between 0.25 and 1 per cent.

Last year, Canadians added $8.5-billion to this country's ETF market, which now totals about $31-billion in assets, according to BlackRock, Inc., the investment management firm behind iShares. The average investor is still unfamiliar with them, however, and ETF assets are dwarfed by the more mature mutual fund market.

Individual investors however are starting to add ETFs to their retirement plans, the New York Times reported last week, but they still "remain largely the domain of institutional investors and stock-market aficionados."

If you are confident enough to take your RRSP into your own hands, start by opening up a self-directed RRSP with your bank or broker. You then need to decide which ETFs to buy.

In Canada there are dozens of ETFs designed to give you diversified exposure to domestic or foreign markets. You can find a range of ETFs on offer from iShares, Claymore Investments and AlphaPro Management. The Bank of Montreal recently entered the ETF space as well, the only one of the big six banks to have done so.

While these ETFs are tailored for Canadian investors and are purchased in Canadian dollars, investors are free to buy ETFs listed on any stock exchange.

"If you want a pretty hands-off portfolio, for a five-year plus horizon, you can pick five to six different ETFs that would give you some safety, some growth and some capital preservation as well," says Vikash Jain, president and chief investment officer of ArcherETF.



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Mr. Jain builds portfolios made up exclusively of ETFs for clients with assets of at least $50,000. His model portfolio includes the iShares S&P/TSX 60 ETF , composed of blue-chip Canadian equities, as well as the iShares S&P 500 Canadian dollar ETF , which represents the largest companies in the U.S. market. He then adds ETFs that give exposure to developing markets such as India and China and rounds it out with a bond ETF to provide a fixed income component.

"The next step is to decide how much of each one you want," says Mr. Jain. "You need to consider your time horizon. If you plan on working for another 20 years, you can ramp up your exposure to equity ETFs and lower your bond exposure." It's also important to rebalance your portfolio every year around RRSP time.

While it may sound like an easy recipe for a do-it-yourself RRSP, Mr. Jain warns that if you want to reduce volatility in your portfolio, some oversight is required.

Despite the appeal of lower-cost ETFs to savvy investors, many still prefer active management and the advice that comes with it.

"Even if you invest in ETFs, you can still get it really wrong," says wealth manager Bruce Campbell of Campbell & Lee Investment Management. "With ETFs, you do take out the cost side, but you still need an investment steward."

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