We are seeing stock market conditions these days that argue for the investing equivalent of having fries with your burger.
The burger is the stock market as most investors know it – medium to large companies like the 246 names that make up the S&P/TSX composite index. The fries are the small stocks that make up most of the rest of the stock market (there are also some speculative micro companies). You can certainly have a successful investing life eating burgers alone. But at various times in the investing cycle, fries add some zip to your diet.
Here's what market conditions would look like in such situations: Conservative blue chip dividend stocks would lag, while growth-oriented stocks in areas like resources and industrials outperform. Broadly speaking, investors are more willing to take on risk and less concerned with dividends and limiting the downside. That's where we are today. Energy and materials, basically one-third of the Canadian stock market are flying, while safer sectors like utilities and consumer staples lag.
A by-product of this trend is the outperformance of small stocks, many of which are in the resource sector. If you've got small-capitalization stocks right now, you're laughing. The S&P/TSX SmallCap Index was up 34.6 per cent for the year through Dec. 11. You can buy the small cap index through the iShares S&P/TSX Small Cap Index ETF (XCS), but consider this less risky alternative. Buy a total market ETF that mixes small stocks with the bigger names that populate most Canadian equity ETFs.
Vanguard offers a pair of broad market Canadian ETFs, the first being the Vanguard FTSE All Cap Index ETF (VCN). Nine per cent of the portfolio is in medium-size companies, 13 per cent is in small/medium companies, 18 per cent is in medium/large companies and 60 per cent is in large companies. The second Vanguard offering is the Vanguard FTSE Canada Index ETF (VCE), with three quarters of its holdings in large companies and the rest mainly in medium or medium/large companies.
Sweating the small stuff has paid off for VCN lately – the 12-month gain is 20.6 per cent, compared to 18.7 per cent for VCE. Fees do not account for the difference because they're identical for the two funds. The deciding factor is small-cap exposure, the fries that complement your burger. If you're bullish about stocks staying strong in 2017, total market ETFs and their small-cap exposure are worth a look.
Rob Carrick