# Asset Allocation Discussion



## gingymarathoner (Oct 1, 2020)

Good morning.

I have been investing in broad market ETFs at Questrade for many years. I'm moving from a higher equity allocation to a 60/40 equity to fixed income portfolio mix over the next few months. I've done a fair bit of reading over the years on optimal asset allocation suggestions for Canadian investors. One school of thought is to simply invest 1/3 of one's equity allocations in CAN/US/FOREIGN ETFs. Another, which Justin Bender uses at PWL is a more market cap weighting (currently his model portfolio is 25/45/30. I'd love to hear what this community is doing with their equity asset allocation (particularly those that believe in passive investing). 

Thank you.


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## AltaRed (Jun 8, 2009)

I have not read why JB uses 25/45/30 but I've paid a lot of attention to Vanguard Canada's white papers on home bias and come to the conclusion that Canadians should: 1) have a home equity bias in the 30% range, and 2) globally market cap weight everything else. The numbers are not that far off JB's model. Vanguard uses their home bias model in their Asset Allocation ETFs, e.g. in their 60/40 VBAL, Cdn equity is 18% (which is 60% of 30%) while in VGRO, Cdn equity would be 24% (30% of 80%), and VEQT (100% equity), the ratios are 30/42/28.

For all practical purposes, JB and Vanguard are the same, i.e. there is no magical answer within 5-10 percentage points in terms of long term performance and any differences are for academics to debate over. The bigger issue for investors is to jump from strategy to strategy, in terms of what is hot and what is not at any given time. Most investors would be best off picking one of the Vanguard AA ETFs and just get on with living life.

Adjust equity/fixed income over time as one progresses through life and get on with life itself. Example: Start with VEQT early in life if one has a risk tolerance for 100% equity in one's 20's and 30's, or if not, start with VGRO (80/20), and then switch over to VBAL (at 50 yrs of age, or only upon retirement, again depending on risk tolerance) and stick with VBAL (or VCNS if one needs to be more risk adverse) in retirement.years. Leave the geographic equity allocation decisions to Vanguard.


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## Johnny199r (May 20, 2014)

gingymarathoner said:


> Good morning.
> 
> I have been investing in broad market ETFs at Questrade for many years. I'm moving from a higher equity allocation to a 60/40 equity to fixed income portfolio mix over the next few months. I've done a fair bit of reading over the years on optimal asset allocation suggestions for Canadian investors. One school of thought is to simply invest 1/3 of one's equity allocations in CAN/US/FOREIGN ETFs. Another, which Justin Bender uses at PWL is a more market cap weighting (currently his model portfolio is 25/45/30. I'd love to hear what this community is doing with their equity asset allocation (particularly those that believe in passive investing).
> 
> Thank you.


Another argument I see is that American Companies on the S&P500 have a lot of international exposure, therefore, is there a need for a 30% weighting for ex-NA?

1/3 for CDN,U.S, ex-N.A seems to be the rule of thumb. Will going an extra 5 or 10% turn out to be the right move? Hard to say, but it doesn't change things all that much.

The consensus seems to be to go a bit heavy on the U.S allocation these days. I certainly believe it's a good idea, given the economic power of their market.


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## AltaRed (Jun 8, 2009)

The USA is about 55% of the global market by market capitalization (not GDP share where it is considerably less). That reflects the global nature of America's multi-national corporations. So an allocation weighting of 40-45% or so to the US market would take that into account for the most part. Bottom line: it makes no sense whatsoever NOT to disproportionately weight one's portfolio to the US market.


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## like_to_retire (Oct 9, 2016)

Johnny199r said:


> The consensus seems to be to go a bit heavy on the U.S allocation these days. I certainly believe it's a good idea, given the economic power of their market.


The U.S market is powerful, but wherever U.S.A goes, Canada seems to follow, and the theory bears out in the twenty year chart of their indexes as the return is about equal.

Add in that many Canadian companies have expanded into the U.S and internationally, and with the tax advantage that dividends enjoy with Canadian companies, I wonder why bother at all with anything but 100% Canadian equities?

ltr


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## AltaRed (Jun 8, 2009)

OMG. You can't be serious! Canada is a runt of a country where an economic collapse, or run on the loonie, would devastate a Cdn only portfolio regardless of multi-national content. TSX companies with foreign exposure would not collapse as hard or as far obviously, but they'd take a devastating hit none the less because investors (and particularly foreign investment in Canada) would pick up their capital and flee to other jurisdictions. Do you actually have any idea how much of the stock of our big multi-nationals might be owned by ex-Canada investors? I don't but it would be nice to have a feel for that number. I suspect an exit by them could be catastrophic simply because priced at the margin, there would likely not be enough domestic Canadian investors to buy the shares back and support market prices.

Added: Why do you think hundreds of Canadian stocks are Dual Listed? It isn't because it is a joy to do so. It is expensive to do so but those companies consider the cost worthwhile to attract foreign capital, particularly from Americans. They'd dump those banana republic shares in a heartbeat if Canada was teetering on implosion. The primary reason for a Canadian investing in a purist sense outside Canada is to mitigate a cataclysmic collapse of our own 'country' aka Argentina and a host of other countries over time. The DTC is a dangerous reason to NOT invest at least a portion of one's portfolio ex-Canada


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## like_to_retire (Oct 9, 2016)

And yet, decade after decade Canada has done just fine through many catastrophes..

ltr


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## AltaRed (Jun 8, 2009)

Canada has not had a catastrophe yet. I am talking about hitting the wall type thing like in early '90s, or Canada coming apart with another referendum. IOW, a catastrophe is an unknown event at an unknown time that one protects oneself against. Call it Black Swan if you wish. A 65 cent, or even a 50 cent dollar is not out of the question.

WADR, a 100% commitment to Canada is crazy.


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## james4beach (Nov 15, 2012)

I agree that it's too risky to have a full weight only in Canada. It's true that the Canadian stock market has had great performance over the past century (on par with US performance) but there's still concentrated risk in the Canadian economy and CAD currency. I think every investor needs foreign assets denominated in some other currencies.

My own asset allocation is similar to Argonaut. Here's a thread where he describes his Advanced Asset Allocation (AAA). It's also published in his book, which you can find on Amazon here.

Exactly like Argo, my own stocks are 50/50 Canada and US. So I do have a large amount of Canadian equities, but it's diversified with US equities.

I hold 20% in gold (same as Argo) which serves as currency diversification and helps protect against a CAD disaster scenario. I have run my portfolio through what-if scenarios similar to Argentina, Brazil, and Iceland, which suffered total currency collapses, and found that my foreign stock weight (USA) plus gold offers enough protection.



AltaRed said:


> Canada has not had a catastrophe yet. I am talking about hitting the wall type thing like in early '90s, or Canada coming apart with another referendum.


Another possibility is a massive real estate collapse, after decades of RE strength and complacency. We have no idea if this will happen, but an unravelling in Canadian RE plus the financial system that's tied to it could cause tremendous destruction to the economy and currency. That's another scenario where you absolutely need to own foreign equities (denominated in another currency, *not currency hedged*) or foreign currencies.


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## like_to_retire (Oct 9, 2016)

AltaRed said:


> WADR, a 100% commitment to Canada is crazy.


Yeah maybe, but I've been doing it for decades and decades and all the predictions never come true because we are basically tied at the hip to the U.S.A. So I take the generous tax advantages offered on Canadian equities and plow them back into the portfolio and it gains exponentially. I feel over the long term I'm ahead, and could even take a hit or two and I'd be fine.

If I look at US versus CDN index, over twenty years and hedge it to offset the impact caused by currency fluctuations, and then consider all the horrible situations that have occurred over that time period that had me biting my nails, it has all worked out.










I guess you could say there's been a risk increase, but at what point is that not true, 30 years, 50 years? With the situation in the U.S. right now, I would be more worried about investing there than in Canada.....

Personally I don't invest in the index, just individual equities in Canada. It can offer a far better return than the index if done properly. In the US I wouldn't have a clue what to invest in.

ltr


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## james4beach (Nov 15, 2012)

like_to_retire said:


> If I look at US versus CDN index, over twenty years and hedge it to offset the impact caused by currency fluctuations, and then consider all the horrible situations that have occurred over that time period that had me biting my nails, it has all worked out.
> . . .
> I guess you could say there's been a risk increase, but at what point is that not true, 30 years, 50 years? With the situation in the U.S. right now, I would be more worried about investing there than in Canada.....


There's no question Canadian equities have been fine so far. The fact it has "all worked out" so far is not the point.

Sure, the US could turn out to do horribly. So could Germany, or the UK... any of these countries could suffer a massive equity collapse that doesn't rebound for decades.

But this is the argument for international diversification and currency diversification. You spread the bets around and reduce your dependence on a single, particular market.


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## AltaRed (Jun 8, 2009)

I'd never hedge currency because that is exactly what one doesn't want to do if the loonie tanks. With no hedging, the S&P500 matches 20 year TSX performance.

Please....please...please never advise anyone to hedge to the loonie.

Having said all that, it remains an open question whether, if or ever, Canada will have a Black Swan event. Just not willing to risk it and that is why every financial recommendation is to include ex-Canada equities in their portfolio.

Added: I'd never let the DTC tail wag the dog more than I do with my Cdn equity allocation already 'high' almost matching my US allocation.


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## like_to_retire (Oct 9, 2016)

AltaRed said:


> With no hedging, the S&P500 matches 20 year TSX performance.


OK, so in that situation it's a wash. I'll take my compounded tax advantage to the bank.



AltaRed said:


> Please....please...please never advise anyone to hedge to the loonie.


I'm not. I'm offering up a different point of view. That's what forums are for.



AltaRed said:


> ..........that is why every financial recommendation is to include ex-Canada equities in their portfolio.


Yeah, advice for the novice, and that's fine, but once in a while I like to see some advanced discussion.

ltr


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## james4beach (Nov 15, 2012)

AltaRed said:


> I'd never hedge currency because that is exactly what one doesn't want to do if the loonie tanks. With no hedging, the S&P500 matches 20 year TSX performance.
> 
> Please....please...please never advise anyone to hedge to the loonie.


Totally agree and this isn't talked about enough. Many Canadian investors still have their US exposure using XSP, which is currency hedged. IMO, one has to throw XSP out of the portfolio and replace it with one of the newer non currency hedged alternatives like ZSP or XUS.

Imagine for example a period where the US index is flat but a Canadian catastrophe results in a 50% drop in the CAD versus other currencies. An investment in XSP would have 0% change in value which means you've lost a massive amount of wealth. In comparison, ZSP would be up 100% in the same period, preserving wealth.

Of course it's a mixed bag and the reverse could also happen, where the CAD is stable but the USD tanks in value. Even with that possibility, I would still prefer non currency hedged ETFs for my international diversification.


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## like_to_retire (Oct 9, 2016)

james4beach said:


> Of course it's a mixed bag and the reverse could also happen, where the CAD is stable but the USD tanks in value.


And there it is..............

ltr


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## james4beach (Nov 15, 2012)

like_to_retire said:


> And there it is..............


But the USD crashing is just one possible disaster that can happen. Here are two possible equity portfolios:

Portfolio A: 100% Canada
Portfolio B: 33% Canada, 33% Europe/Japan, 33% USA

Any one of these countries could have an equity & currency disaster. We don't know which country it could happen to. Let's say there's an *equal probability* of any of these countries getting a wipe-out.

Under those circumstances, which portfolio is more reliable? Which portfolio is more resilient to a wipe-out disaster?

Portfolio B is superior. The problem with Portfolio A is that if the roll of the dice gives us a Canadian disaster, then you're wiped out.

There is a key thought underlying this which is that we don't know and can't predict where the disaster will happen.


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## like_to_retire (Oct 9, 2016)

james4beach said:


> Any one of these countries could have an equity & currency disaster. We don't know which country it could happen to. Let's say there's an *equal probability* of any of these countries getting hit hard.
> 
> Under those circumstances, which portfolio is more reliable? Which portfolio is more resilient to a wipe-out disaster?


The connectivity between countries today is huge. As I said earlier in this thread, whatever happens in U.S.A also reflects in Canada and many other countries at the same time. They're all connected now. It's a global market today, and the "wipe-out disaster" that was a reality 20 years ago doesn't exist any more. It just won't happen, unless it happens to every country at the same time, because no one stands alone any more, so it's not a likelihood.

ltr.


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## james4beach (Nov 15, 2012)

like_to_retire said:


> The connectivity between countries today is huge. As I said earlier in this thread, whatever happens in U.S.A also reflects in Canada and many other countries at the same time. They're all connected now. It's a global market today, and the "wipe-out disaster" that was a reality 20 years ago doesn't exist any more.


I agree that countries are connected, but I disagree with your conclusion that a country-specific wipeout disaster can no longer happen. I think country or currency-specific disasters can still occur.

2002 to 2011, the USD fell 40% against CAD ... enormous decline
2004 to 2020, the GBP fell 30% against CAD
2007 to 2020, the GBP fell 40% against USD

Those are some giant swings, even during "good times". It's very possible for a major currency like USD, or CAD, to fall 50% or more against a large peer.


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## AltaRed (Jun 8, 2009)

Everyone needs to have currency diversification at a minimum. Much of what Canadians buy is imported and subject to the vagarities of the host currency relative to the loonie. If we approached a 50 cent loonie, our purchasing power would be considerably downgraded for most goods we buy and commodities too. Our gasoline, natural gas et al would rise considerably since Cdn prices are tied to the US market net of transportation. Many reasons for Canadians not to feel safe in their cocoons.


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## like_to_retire (Oct 9, 2016)

james4beach said:


> I agree that countries are connected, but I disagree with your conclusion that a country-specific wipeout disaster can no longer happen. I think country or currency-specific disasters can still occur.
> 
> 2002 to 2011, the USD fell 40% against CAD ... enormous decline
> 2004 to 2020, the GBP fell 30% against CAD
> ...


You've proven my point. 

You've shown some pretty dramatic swings, and now I direct you to relook at my chart above that shows the outcome over those 20 years between Canada and the US using either hedged or unhedged indexes. 

The result is that the two countries end up with the same outcome. They're tied at the hip............

ltr


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## james4beach (Nov 15, 2012)

like_to_retire said:


> You've proven my point.
> 
> You've shown some pretty dramatic swings, and now I direct you to relook at my chart above that shows the outcome over those 20 years between Canada and the US using either hedged or unhedged indexes.
> 
> The result is that the two countries end up with the same outcome. They're tied at the hip............


This is true because, for the past many decades, there has been a reversion in the mean. So yes I agree that until now, these currency fluctuations have evened out.

The USD/CAD ratio has been remarkably range-bound in all recent history, yes. At times it's swung sharply in one way, only to swing back in a reversion to the mean over the decades.

But this doesn't mean it will always be like this in the future. Don't you think it's possible that a currency like CAD, USD, or EUR could actually be wiped out and would not simply bounce back a few years later? I think it's possible.


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## AltaRed (Jun 8, 2009)

A Black Swan event may never happen but I am not willing to bet the rest of my life on it not happening.

That said, if someone has a high FI allocation, has a DB pension, or is single with no responsibilities, one can take more risk. The answer is situational. Too often we respond here based on our own personal situation rather than a generic one, or from the OP's perspective.


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