Reduce costs through index stocks: relatively new products offer alternatives to open-ended index funds

Money Digest, Oct, 1999

You can beat the returns of an index mutual fund by investing in index stocks. Index stocks are liquid and generally charge a low management fee. To understand how this works, let us consider Toronto 35 Index Participation Units or TIPs 35 (TSE symbol: TIP: Recent price ***). TIPs-35 represents 35 stocks in the same proportion they do in the Toronto Stock Exchange 35 Index. These are large capitalization blue chip stocks. When you invest in TIPs-35, you are investing in all the 35 stocks that make up the index. So the value of TIPs, at any given time, is about the same as the index it represents. (TIPs 35 is in the process of being replaced by a new participation unit representing the newly created S&P/TSE 60 Index, representing 60 blue chip, large cap stocks traded on the TSE.)

What happens when these companies pay dividends? Because different companies pay dividends at different times, TIPs collects and pays dividends to investors once every three months. Mainly because of this time lag, the return on TIPs will be slightly (about 0.25%) lower than the index. Compared to mutual funds, the management fee charged is rock bottom -- a mere 0.05%. Because TIPs are a true index stocks, it is rare that there is any capital gains distribution. This means TIPs are also tax efficient. If you want a more broad-based index, you can buy TIPs 100 (TSE symbol: HIP), which represent 100 stocks.

The American Stock Exchange trades a number of similar products that represent different indices. Here is a sampling of such products:

Diamonds. Diamonds represent 30-blue chip stocks that make up the Dow-Jones Industrial average, the most widely followed stock index in the world.

SPDRs (pronounced `Spiders'). SPDRs (S&P Depository Receipts) represent the S&P 500 index.

Midcap SPDRs. Midcap SPDRs represent the S&P Midcap Index, reflecting the performance of 400 stocks.

Sector SPDRs. These SPDRs enable you to participate in any of nine industry sectors such as technology and financials, energy and utilities, and consumer services.

Nasdaq-100 Shares. Nasdaq-100 Shares represent 100 stocks that trade on Nasdaq. These stocks represent different sectors such as computer hardware and software, telecommunications, retail/wholesale trade and biotechnology. By buying this one index stock, you will own such dazzling performers as Microsoft, Dell, Cisco and CMGI. (For more on Nasdaq-100, see Money Digest, April 1999.)

If you are even more ambitious, the American Stock Exchange offers a basket of stocks, known as WEBs, for 17 different countries: Italy, Spain, France, Germany, Switzerland, Sweden, Netherlands, Belgium, U.K., Austria, Canada, Mexico, Australia, Japan, Hong Kong, Singapore and Malaysia. Take your pick(s). For more details, see Money Digest's August 1999 issue.

Index stocks offer all advantages of an index fund plus some: very close tracking of the index, very low management fees and good liquidity on any trading day.

So if you have a long investment horizon, are content to have a portfolio that does as well as the market (no more, no less), want to pay low management fees, want to have the flexibility of buying and selling during any time the market it open, and want an opportunity to invest in several markets around the world with ease, then you should seriously consider investing in index stocks.

Index stocks (Funds)

Security                                     Symbol   Price


Toronto 35 Index Participation Units (1)        TIP  $40.05
Toronto 100 Index Participation Units (1)       HIP   42.00
DJIA Diamond Trust                              DIA  106.06
Standard & Poor Deposit Receipts                SPY  130.91
Midcap SPDRs                                    MDY   73.75
Basic Industries Select Sector SPDRs            XLB   23.84
Consumer Services Select Sector SPDRs           XLV   27.36
Consumer Staples Select Sector SPDRs            XLP   24.00
Cyclical/Transportation Select Sector SPDRs     XLY   25.79
Energy Select Sector SPDRs Fund                 SLE   27.87
Financial Select Sector SPDRs Fund              XLF  $22.19
Industrial Select Sector SPDRs Fund             XLI   28.94
Technology Select Sector SPDRs Fund             XLK   42.22
Utilities Sector SPDRs Fund                     XLU   29.00
Nasdaq 100 Index Tracking Stock                 QQQ  123.13

(1) Listed on the Toronto Stock Exchange. Prices in Canadian $.

All other securities mentioned are listed on the American Stock Exchange.
Prices in US$.

All prices as at September 21, 1999