The Best ETFs For Investing in the Canadian Stock Market

If you're a Canadian reader, then you’ve probably got a pretty hefty chunk of your investment portfolio dedicated to domestic stocks. It’s what we call a “home country bias,” and it’s not unusual at all.

Despite Canada representing only about 3% of the global market cap according to the MSCI World Index, I’ve noticed that a lot of us tend to allocate a much larger portion to domestic stocks, sometimes as much as 20-50%.

Now, don’t get me wrong; loving where you’re from and banking on homegrown companies isn’t a bad strategy, especially with the familiarity and perceived safety it brings.

But let’s talk balance. Leading providers like iShares and Vanguard seem to have found a sweet spot, typically setting Canadian equity exposure at about 25% - 30% in their asset allocation ETFs. At this level, historical data suggests you can enjoy reduced currency risk and better tax efficiency, not to mention more favorable risk-adjusted returns.

So, how do you smartly implement this home country bias if you're rolling up your sleeves to DIY an ETF portfolio? Here's my personal top picks for the best major ETFs to get you invested in the Canadian stock market, along with some insights on each.

The S&P/TSX 60 Index

When it comes to Canadian stocks, the index that most of us are probably familiar with is the good old S&P/TSX 60. It's the benchmark that measures the performance of 60 large-cap Canadian equities, with the weights based on market capitalization.

And, let’s face it, when we talk about Canadian equities, we’re essentially talking about a landscape dominated by financials and energy—our economy is, after all, heavily centered around a few big banks, life insurance companies, pipelines, and oil and gas exploration.

Now, if you're aiming to get a piece of this Canadian pie, there are three primary ETF options out there that provide exposure to the S&P/TSX 60. Each comes with its own nuances, so let's break them down:

1. iShares S&P/TSX 60 Index ETF (XIU): This is the veteran of the bunch, having been around since 1990. In fact, it holds the title of the first ETF in the world. It's a giant in the space with $12.4 billion in assets under management (AUM), offering very high liquidity, a low bid-ask spread, and high trading volume. However, it's not the cheapest option available, with a management expense ratio (MER) of 0.18%.
2. BMO S&P/TSX 60 Index ETF (ZIU): To compete with iShares, BMO launched ZIU in October 2023. There’s not much else to say about it—it offers identical exposure to the TSX 60 but comes in at a slightly lower MER of 0.15%. The AUM here is smaller at $68 million, and it sees less volume compared to XIU, but don't let that fool you. The underlying stocks are liquid enough that ETF liquidity isn’t a concern.
3. Global X S&P/TSX 60 Index Corporate Class ETF (HXT): For those who are really looking to maximize tax efficiency, especially in a non-registered account, HXT might just be your ticket. Canadian stocks are already pretty tax-efficient thanks to the eligible dividends angle, but HXT takes it a step further. This corporate class fund uses swaps to deliver growth—importantly, it pays no dividends. Instead, all returns are reflected in the ETF’s price, and you only pay taxes when you sell, treating it as a capital gain. This leads to very tight tracking of the index, and it boasts an even lower MER of 0.08%.

The S&P/TSX Capped Composite Index

If your investment appetite includes Canadian mid and small-cap stocks, sticking solely with the S&P/TSX 60 won't quite meet your needs. Instead, you'll need to turn your attention to the S&P/TSX Capped Composite Index. This index broadens the horizon beyond just large caps, incorporating a substantial number of mid and small-cap stocks into the mix.

The top holdings of the S&P/TSX Capped Composite Index might look nearly identical to its large-cap-only counterpart, since it's still market cap weighted. However, it's less top-heavy. The sector exposures are very similar, with one significant difference: the inclusion of more Real Estate Investment Trusts (REITs), which are predominantly mid and small caps.

Now, why is it called "capped"? It's simple but crucial: the index limits the weight of any single stock to 10%. Given the relatively small size of the Canadian market, this capping is a strategy to prevent any single company from ballooning to dominate the index, a lesson learned during the dot-com bubble with Nortel.

When it comes to ETFs that track this broader and more diversified index, your options are pretty straightforward. There's the iShares Core S&P/TSX Capped Composite Index ETF (XIC) and the BMO S&P/TSX Capped Composite Index ETF (ZCN). Both of these options charge a low management expense ratio (MER) of 0.06% and offer good tax efficiency.

The FTSE Canada Index(es)

Vanguard, known for its fondness for FTSE and CRSP indices for their core equity ETFs, brings this preference into the Canadian market with two notable offerings: the Vanguard FTSE Canada Index ETF (VCE) and the Vanguard FTSE Canada All Cap Index ETF (VCN). These can be thought of as the Vanguard equivalents to the XIU and XIC, respectively.

VCE focuses on large-cap stocks, akin to XIU, with around 52 holdings that represent the larger, more established players in the Canadian market. On the other hand, VCN mirrors XIC by offering a broader exposure that includes not just large caps but also mid and small-cap stocks.

While there are some minor differences in the holdings and their respective weights between these Vanguard ETFs and their iShares counterparts, these distinctions aren't typically material enough to significantly impact performance.

The takeaway here is that either VCE or VCN can serve as a great substitute or even a tax-loss harvesting partner for XIU and XIC respectively. Additionally, they are attractively priced, with VCE carrying an MER of 0.06% and VCN even lower at 0.05%, underscoring Vanguard’s commitment to providing low-cost investment options.

The Solactive Canada Index(es)

The fiercely competitive world of ETFs demands that fund managers take every advantage possible to distinguish their products and attract inflows.

One effective strategy for challenging the dominance of industry heavyweights like Vanguard, BlackRock, and BMO is offering more competitively priced domestic equity ETFs. Many Canadian ETF providers have adopted this approach by turning to Solactive indexes.

Think of Solactive as the RC Cola to the more established Coca-Cola-like indices from FTSE or S&P. Solactive offers similar market representation but at a significantly lower cost. This isn't a downgrade—it's a budget-friendly alternative that delivers roughly the same results.

Examples include the TD Canadian Equity Index ETF (TPU), the Mackenzie Canadian Equity Index ETF (QCN), and the Desjardins Canadian Equity Index ETF (DMEC).

These ETFs track the Solactive Canada Broad Market Index, providing sector exposure and top holdings similar to those in XIC and VCN from iShares and Vanguard, but at reduced costs—TPU with an MER of 0.05% and QCN at 0.04% (the MER for DMEC is yet to be determined, but its management fee is set at 0.05%).

Does this lower price make a difference? Although there are slight variations in index methodology, the narrow scope of the Canadian market makes these differences largely inconsequential. The performance of these indices is expected to be almost identical, potentially differing by just a basis point or two.

The ultimate takeaway is that if you're looking to engage in tax-loss harvesting or simply streamline your investments, the array of low-cost options available is a significant benefit. The robust competition among ETF providers is great for investors, offering many choices that keep costs low without compromising on quality or exposure.