100% RRSP Eligible Foreign Funds

 

Date: 22-Apr-98 - 10:55 AM
Subject: Foreign Index RRSP questions
From: George

I'm attempting to understand Foreign RRSP Index Funds and have some comments and questions about them. My reason for this interest is that I am thinking of moving all my RRSP funds [from Sceptre which has been quite good to me over the years] to a self directed RSP and using TIPS and either these Index Funds or the S&P spiders from the Am exchange. The main aim is to minimize MERs for the long term benefit this assures. I have read a number of threads on this topic of Foreign RRSP Index Funds but perhaps I missed some.

I have been using conventional [i.e. stock ownership] mutual funds for over 30 years and so feel comfortable with them. Not so with Foreign RRSP Index Funds that use derivates like "futures" contracts to track the S & P 500 Index. Here I am a novice and I am reminded of the phrase "never invest in something you do not understand" (a quote from a Peter Lynch book I think). I want to "understand".

The only two S & P 500 Index funds that I know about are the CIBC and TD offerings. The CIBC was started in July 1996 and so far seems to be successful in tracking the S & P 500 but this is a very short time and so does not provide a lot of assurance. Q1- Are there any other such funds that have been around longer?

Two useful sites for learning about "futures" that I have read so far are - the Futures Industry Institute tutorial at //www.fiafii.org/tutorial/contracts.htm - the Chicago Mercantile Exchange at //www.cme.com/educational/lessons/les1htm and other pages here Q2- Are there other good sites to learn about futures trading? Any that are specific to the S & P 500?

Q3- How does CIBC and TD play the S & P index game? Do they primarily buy "long futures contracts" or is far more complex? Do they also hedge with "short" contracts and involve "options" for good measure?

Q4- What are the basic transaction costs in operating such Index funds. Unlike stocks, which can "sit" in an account at no cost, the S & P futures contracts have a life of 3 months and so must be renewed and purchased a minimum of four times a year. How much of a load does all this add to the costs in running these funds? I presume CIBC and TD use the income from the 80% in T-Bills to cover these costs since buying futures does not bring in dividend income, like the spiders would.

Q5- How well will these funds track the S&P 500 or what are the additional risks in S & P 500 futures trading above and beyond the S & P 500 itself? The investment advisers at both CIBC and TD assure you that there is little risk, that they do not speculate and know what they are doing. But my question then of "Why do you not guarantee a performance return within some + or window of the S & P? gets no real answer. In looking at the Globe and Mail listing of the S & P 500 and its futures on the CME one notes that at the moment the futures June contract sells for $5-$10 more than the current S & P value itself. This must mean that today the market wisdom believes the S&P will go up by this amount by the end of June. Given this "premium" difference, how does one track the S &P? Is this difference a measure of the "risk" or is there more to it than that?

I better stop here and see what sort of response my questions engender.


Date: 22-Apr-98 - 10:17 PM
Subject: RE: Foreign Index RRSP questions
From: Scanner98

George,

Obviously didn't generate too much response. :-)

You might want to return to the main Forum page; type index in the Filter blank; change the Age: drop-down to 90 days and click the Show Threads button. You'll get a couple of dozen threads on the topic.

Also, if you haven't already done so, have a look at the thread: Buy Morgan Stanley Europe Index and follow the available links.


Date: 23-Apr-98 - 8:55 AM
Subject: RE: Foreign Index RRSP questions
From: bob

A1. Canada Trust has two funds that track SP500: Amerigrowth Fund and US Equity Index Fund.

Amerigrowth which uses future contract has been around for several years. US Equity Index Fund is new.


Date: 06-May-98 - 9:19 PM
Subject: RE: Foreign Index RRSP questions
From: George

The answers to some of my earlier questions regarding the futures contracts in the RRSP US Index Funds can be found in a current Microsoft Investor article by Randy Myers, Index Futures.

Some of the points are:

[1] Only about 5% of the value of futures contract is required as a deposit.

[2} The other 90-95% can be invested in short-term debt securities - and this interest outpaces the dividend yield on the S&P 500. The futures contracts, unlike SPDRs, do not generate their own dividends. Thus this interst income replaces it.

[3] The annual transaction costs to cover the commissions on four 3-month contracts plus the spread between the bid and ask prices totals to about 0.4% of the investment. This is the basic market charge to run this type of fund. This cost [and the S& P dividend yield] should be covered by the above interest income in [2].


Date: 06-May-98 - 9:22 PM
Subject: RE: Foreign Index RRSP questions
From: George

Something did not work for the link :

The site is at:

http://investor.msn.com/prospect/articles/strat/604.asp?ID=604

and the article title is:

"Mix it Up with Stock Index Futures" by randy Myers


Date: 07-May-98 - 9:12 AM
Subject: RE: Foreign Index RRSP questions
From: George

Any critics of derivates out there? Please give us your reasons.

CIBCs RRSP US Index fund and CT's Amerigrowth RRSP Index Fund have a great record following the S&P 500. The above article makes it sound like derivates are just fine.

It sounds "too good to be true" to me.

Since I don't believe in "free lunches" I keep thinking there must be serious down sides to index derivatives - down sides that people have not recognized or experienced - since they have not been around that long.

Any good criticisms of index derivatives?


Date: 07-May-98 - 9:39 AM
Subject: RE: Foreign Index RRSP questions
From: thbox

Hi George:

I agree completely with your "if it seems too good to be true, it probably is" observation. I (try to) canvas the issue you-know-where. :-)


Date: 13-May-98 - 11:15 AM
Subject: RE: Foreign Index RRSP questions
From: George

Update on costs and risks for the stock Index futures funds.

I've learned a bit more since I posted my initial inquiry. Here are some of thoughts.

The great benefit of these "foreign RRSP Index" funds is, of course, that they allow one more than 20% foreign investment exposure inside an RRSP. In fact you can be effectively 100% foreign both in the US and or non-US. The MERs are reasonably low [0.8 to 1.5% range] and there does not seem to be any great speculative risk involved in these RRSP funds.

In an earlier thread I referenced the Randy Myers article at the Morningstar site. It is quite informative.

What costs are incurred by the fund - that you do not see [beyond the MER]?

There are ongoing costs of the buy-sell commisions and the small loss between the bid and asked prices on the futures contracts - which come to about 0.4% according to Myers. The other "cost" you do not see is the "premium" cost - that is the price difference between the today's price of the index futures and the index itself. This premium cost includes the time value of the borrowed money that is implicit in a futures contract.

The MER cost, the above "hidden operating costs", and the missing dividend "losses" all can be covered [or almost so or sometimes more than so] by the interest income from the 80% to 95% of the funds assets invested in the Canadian money market [this is what makes them RRSP eligible]. Different funds could have differing "risks" associated with this portion of the fund. The end result is that your RRSP investment can effectively track the S&P 500 index for example.

What are the downside risk questions?

One issue is - what sort of money market risk and return is assumed by the 80-95% of the assets? This should not be a majorissue. The other question is the one of leverage. I think it important that these funds not exercise "leverage" - that is, not buy more futures contracts than their fund asset base represents. In this non-speculative case the most the fund can lose is 100% of the assets and no more - as is the case with every equity or equity index fund. All of them could theoretically [but inconceivably unlikely] go to zero. I don't believe Index Futures fund need be ANY riskier than the equivalent ordinary index fund.

What if the market suddenly drops 23% [like it did in October 1987]? The stock Index Futures fund would of course also experience a similar drop in value. A drop on this scale would receive a margin call - because the original 5% deposit on the futures contract does not cover it - and the fund would have to convert some of its money market assets to cover it.

I for one feel comfortable enough with these funds now rhat I do plan to put a portion of my RRSP account in them.

A reminder - because these funds are continuously turning futures contracts over and over [every three months] - they do NOT accumulate capital gains - and so one will receive an ongoing tax hit OUTSIDE an RRSP.

Outside an RRSP something like the Vanguard Index funds or the SPDRs would be more attractive.

Inside an RRSP the tax is deffered of course and so not an issue and these funds allow you up to "100% foreign exposure".


Date: 13-May-98 - 11:35 AM
Subject: RE: Foreign Index RRSP questions
From: PK

Hi George - I think you have come to the right conclusion re these investments. I am completely comfortable investing in this type of derivative and for an investor looking to globally diversify their RRSP investments they do a beautiful job of getting around foreign content rules. BTW, CIBC has a fund of this type that tracks EAFE if you are interested.


Date: 13-May-98 - 2:10 PM
Subject: RE: Foreign Index RRSP questions
From: triton

Hi George, You mention Vanguard Index funds in your thread. My question is how can a Canadian resident buy Vanguard funds (outside the RRSP of course). I Checked their Web page and it seemed that these are all closed to Canadian residents. Is there any way around it?


Date: 13-May-98 - 2:28 PM
Subject: RE: Foreign Index RRSP questions
From: George

Yes there is. There are some other threads that will guide you - I hope Bylo sees this and does his magic ...

In short, open an account with Waterhouse Securities in the US [they are a wholy owned discount broker subsiduary of the TD Bank]. Then buy the Vanguard funds through them - ....


Date: 13-May-98 - 2:35 PM
Subject: RE: Foreign Index RRSP questions
From: Bylo

PK,

In a previous thread (which I can't find) I posted the results of some research I did re the new TD and CIBC EAFE index funds. Basically it is not at all obvious that their mandate is to track EAFE. The wording in the prospecti and comments from their reps suggest otherwise. Caveat investor!

triton,

Start with Purchase of Mutual Funds in US and follow the links.


Date: 13-May-98 - 2:39 PM
Subject: RE: Foreign Index RRSP questions
From: PK

Thanx Bylo, I hadn't got around to reading the prospectus on either of these funds yet. Re the CIBC fund, I was just taking the word of GlobeFund's synopsis. I should know better.


Date: 13-May-98 - 3:16 PM
Subject: RE: Foreign Index RRSP questions
From: Bylo

PK, just to be clear. I'm not saying that they don't attempt to track EAFE; only that their prospecti don't explicitly say that they do. When I challenged a CIBC rep about this distinction the answer was not reasurring.

"CIBC International Index RRSP Fund
Investment objective: To provide long-term growth through capital appreciation by investing in stock market indexes of the countries included in the Morgan Stanley Capital International-Europe, Australia, Far East Index (MSCI-EAFE Index)." "...appropriate for investors who are looking for returns similar to those of the MSCI-EAFE Index. "

Note they do not say something like "seeks to match the performance of" or "tracks the EAFE index".

Contrast this with the Vanguard prospectus:
"The European Portfolio attempts to match the performance of the Morgan Stanley Capital International (MSCI) Europe Index, which is made up of common stocks of companies located in 14 European countries...
The Pacific Portfolio tries to parallel the performance of the Morgan Stanley Capital International (MSCI) Pacific (Free) Index...
By combining the European and Pacific Portfolios in the appropriate proportions, you can create a portfolio that seeks to match the performance of another international stock market index... the EAFE Index"

Also, Vanguard's MERs are about 0.3% versus 0.9%.

Finally, if the proof of the pudding is in the results: The TD and CIBC funds haven't been around long enough to see how closely their performance matches the index. The TD US Index fund, which does have a long track record, lags the S&P 500 by 3% to 4% even after 5 or 10 years, despite an MER of 0.66%. And that's for a pure S&P 500 play, i.e. it's not fully RRSP eligible using derivatives.

By contrast, for virtually all Vanguard index funds, after 5 years the fund performance plus MER is uncannily close to the index performance.


Date: 18-May-98 - 4:26 PM
Subject: RE: Foreign Index RRSP questions
From: Adrian

Hi Bylo,

I did not expect that I (tempted to write i, considering your status here :-)) will have to contradict you, but you are wrong in your statement above.

The reason for which the TD US index fund seems to lag the S&P500 is the fact that it is quoted in US$, and the returns on the index that we see in the Canadian literature are quoted in C$. With the long downhill path of our buck in the past 5 years, the explanation for the 3 to 4% annually difference should be painfully clear.

BTW, TD has started to quote its "old" US index fund in both C$ and US$, as well as its DJIA fund.

Regards,

Adrian (not du Plessis)


Date: 18-May-98 - 4:43 PM
Subject: RE: Foreign Index RRSP questions
From: thbox

Bylo:

I took the opportunity to review the TD prospectus and agree with your analysis. As for the explanation of relative performance.....

Adrian (not du Plessis):

Good point.

:-)

PS Bylo: As a general rule, I agree with you entirely - I make the same argument - with charts even - 'you-know-where'. For a real stinker index fund, check out Great West Life's TSE offering. :-)


Date: 18-May-98 - 6:54 PM
Subject: RE: Foreign Index RRSP questions
From: Clyde The Glide

thbox,

Great West Life is not the only organization charging outrageously high MERs for Canadian Equity index products.

Check out the online article 'Buying The TSE Index: TIPs Versus Index Funds' which appeared in the April 1998 edition of FundWatch (found on this Fund Library site). It states that NN Financial's Canadian 35 Index fund held 99% of its assets in TIPs as of December 31, 1997, yet charges 2.50% in management fees. Talk about a cash cow...!


Date: 18-May-98 - 9:53 PM
Subject: RE: Foreign Index RRSP questions
From: Bylo

Thanks to Adrian and thbox for the clarification re TD GL's US RRSP Index. I'll stand corrected, but as I've been standing (hiking actually) all weekend, I'd prefer to sit corrected, if y'all don't mind. ;-)


Date: 18-May-98 - 10:15 PM
Subject: RE: Foreign Index RRSP questions
From: thbox

Clyde:

I didn't say it was, and in any event, GWL's MER is 2.64%, while NN's MER % is 2.55%

:-)

 

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