Last week saw significant bullishness in the S&P/TSX Composite Index, which rose 1.25% after rising 1.21% the week before. It was a pleasant surprise for investors, many of whom have been taken with recession anxiety in the past few months.
The gains were driven in part by positive economic news coming out of the United States, including strong job growth and a fed rate cut. Many of Canada’s top companies export to the U.S. and can do well in such an environment — even with our own GDP crawling along at 0.1% growth year over year.
If present growth rates continue, we may be witnessing the start of a new bull market — or, perhaps more accurately, the early 2019 bull market resuming its course after a stagnant summer. If that’s the case, there’s one Canadian ETF that you’ll definitely want to own going forward.
iShares S&P/TSX 60 Index ETF
iShares S&P/TSX 60 Index ETF (TSX:XIU) is an index fund derived from the TSX 60. Like many other index funds, it’s based on an equally weighted holding of an established basket of stocks. In this respect it’s no different from its sister fund, XIC. However, it has some characteristics that give it slightly better results.
First, XIU excludes all but the 60 largest TSX stocks, which means it doesn’t have any holdings in the small-cap energy stocks that have been holding the TSX back in recent years. It also excludes all cannabis stocks except for Canopy Growth, which worked out well this year, because that sector has also been underperforming.
Because it excludes many of the underperforming stocks on the TSX, XIU has delivered slightly better returns than XIC. That could change with stronger oil and a renaissance in cannabis stocks, but it has held true historically.
Why it could have upside
The TSX 60 is made up mainly of banks and energy stocks, both of which stand to gain in a bull market.
In periods of strong economic growth, people borrow more money, so there’s the potential for upside in banking.
Economic growth historically tended to drive oil prices higher, although that’s been less the case since 2014.
You may have noticed that I’m talking about economic growth here, rather than stock market gains. The two aren’t synonymous: this year, Canada’s stock market gains have dramatically outpaced GDP growth. However, with so many Canadian companies doing business with the U.S., all we need is continued economic strength in that country for many TSX large caps to continue growing.
Dividend potential abounds
One big advantage of the iShares S&P/TSX 60 ETF is its dividend yield. As of this writing, it yielded 2.7%, slightly higher than XIC and far higher than any S&P 500 index ETF.
2.7% is a pretty respectable yield. It’s not as high as you’d get by investing in a fund focused solely on banks, but it’s very high for an extremely diversified index ETF.
The TSX hasn’t been a huge grower over the past five years. Owing to the weakness in energy stocks, it has dramatically underperformed compared to U.S. markets. This year, however, we’ve seen the TSX come to life, hitting record highs and flirting with 17,000 points. If these trends persist, then XIU will prove to have been a worthy pick.
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Fool contributor Andrew Button owns shares of iSHARES SP TSX 60 INDEX FUND.