Why index investing works.

The TSX 60 Index and the TSX Composite index made some moves. They kicked out a few bums and they welcomed a few companies that are ‘up and comers’. The bums for the TSX 60 were Bombardier and former tech darling BlackBerry. Good riddance to Bombardier. That failed company has been ripping off Canadian taxpayers for far too long. I am sad to see BlackBerry slide as a company and out of the index. But this is why index investing works. The core stock market indices will reward success and punish failure.

As a backgrounder please have a read of What is Index Investing? That was one of the first articles that I posted for Cut The Crap Investing. That was almost two years ago. Yes I guess I’ve passed the two year anniversary for this new venture.

On Seeking Alpha I had posted – Saying goodbye to your paycheque. It ain’t easy. Well, I’d have to say that in hindsight it was quite easy. It is more than nice to be able to design your own life. That said, there were certainly challenges along the way. It is not easy to build a successful blog. I have a long way to go. There were many trying times. But perhaps it feels a little more rosy looking back.

Anyway, back to why index investing works.

There’s bad and good in the land of stocks.

A core large cap index fund is usually known as ‘the market’. We’ll use that as a benchmark to gauge the success of various investment styles. It is a stock selection process. There really is no true ‘passive investing’. Passive would mean do nothing; buy and hold. But here we are with a core index kicking out a couple of stocks and adding a few more.

Index investing works because it is designed to reward business success and punish failure. In the eyes of the market makers Bombardier (the poster child for failed corporate welfare) and BlackBerry have failed. Them’s some bad apples.

They will be replaced by Algonquin Power & Utilities Corp. and Canadian Apartment Properties REIT, known as CAPREIT. Welcome, some good apples.

Of course utilities are of the ‘safest’ investments. And they’ve been thriving in the pandemic world. We have to keep the lights on. While the REIT space is challenging these days CAPREIT has been hanging in there. That is an apartment REIT. Algonquin shares are up around 50 per cent year-to-date, CAPREIT is down only 10 per cent.

The fall from grace for BlackBerry has been incredible. This Globe and Mail article states the shocking fact that …

BlackBerry was Canada’s most valuable company in October, 2007, with a market value of roughly $85-billion; its market capitalization is less than $4-billion today.

That is crazy. From Canada’s most valuable company to kicked out of the TSX 60. And this is not the first time that a Canadian tech darling has gone from first to worst. Don’t mention the word Nortel to any Canadian investor over the age of 50.

Today’s most valuable Canadian companies.

Here’s the top 10 for the TSX 60. We’ll use the page for iShares ETF XIU.

The tech darling of the day is Shopify. That is a wonderful Canadian success story. And the greater move to online retail has played right into the hands of Shopify. And let’s certainly hope that Shopify does not go the way of Nortel and BlackBerry. There are many that have come and gone.

And here’s an interesting post from 2012 – Who will be Canada’s next tech darling?

Yup, you’ll see Shopify listed in that article from several years ago. You’ll also find FreshBooks and some other interesting business cases.

Shopify has been driving the Canadian indices. In recent months it has been responsible for much of the price gains. I recently looked at the performance of Canadian Dividend ETFs. They all lag the index thanks to Shopify. In that dividend post you’ll see an interesting table the breaks down the recent contribution of Shopify to index returns.

That said, Shopify is not yet profitable. The value for the company is based on the incredible growth and growth prospects. If the earnings do not follow one day the index will do its thing. The company will be punished for not living up to its billing.

Index investing is working in the US.

What a ‘fluke’. The core US stock indices were so well positioned for the pandemic times. Here’s the top ten holdings of the S&P 500 courtesy of the IVV ETF page.

Is that not a COVID-friendly basket? We need tech more than ever. We’re shopping online. We’re connecting on social media. We see a core healthcare company in Johnson & Johnson. The world’s greatest value investor (Mr. Buffett by way of Berkshire) is waiting and sitting on his largest cash pile ever. Some $140 Billion.

We know these top index holdings have been driving the US stock market comeback. Many of the companies that were successful heading into the first modern pandemic saw their value recognized even more. These companies were used more. Needed more.

The technological and consumer shift that was already under way went into warp speed during the COVID crisis. That’s not a coincidence. The index reacts to the changing world.

That’s why index investing works.

In this recent example, it was almost clairvoyant.

The markets continue to teach us some interesting lessons. And with respect to asset allocation and risk management The Balanced Portfolio barely felt a thing.

At the same time the first modern pandemic might remind us of the longer term economic risks. Most of us have a recency bias. You might also have a read of The New Balanced Portfolio. Core indexing will be the main driver. You’ll see the addition of gold and US long term treasuries.

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Dale