While the Canadian stock market has delivered inflation-beating returns to shareholders, it has trailed the broader U.S. indices by a wide margin in the last twenty years. Since July 2004, the TSX index has returned 400% in dividend-adjusted gains. Comparatively, popular indices south of the border, such as the S&P 500 and the Nasdaq Composite, have generated returns of 641% and 1,007%, respectively, in this period.
Let’s see why Canadian individuals and households should invest in stocks south of the border, helping them accelerate their retirement plans.
Provides diversification and lowers risk
Having a home-country bias is quite natural, given you are exposed to domestic companies and brands at an early age. However, Canadians should note that the country’s stock market accounts for just 3% of the global market in terms of weight.
Alternatively, the U.S. economy is the largest in the world, and it provides exposure to some of the fastest-growing and most innovative companies worldwide.
Several Canadians have a sizeable exposure to the TSX index, which does not make sense. Yes, there are certain benefits to owning Canadian stocks, given the tax advantages provided by registered accounts, such as the Tax-Free Savings Account and the Registered Retirement Savings Plan. For instance, dividends earned by holding U.S. stocks are subject to a 15% tax even if the stock is held in a TFSA.
Nevertheless, the risks associated with not investing in U.S. stocks are considerable and cannot be ignored. In addition to double-digit annual gains, investing in U.S. companies offers diversification and lowers investment risk.
Higher exposure to the tech sector
The largest Canadian companies are from legacy sectors such as banking and energy. Comparatively, the largest companies south of the border are big tech giants such as Apple, Microsoft, Nvidia, Amazon, Meta, and Alphabet.
Each of these companies enjoys high profit margins and a wide competitive moat. As they are part of expanding addressable markets, the big tech behemoths should continue to outperform their Canadian peers going forward.
How to invest in U.S. stocks?
Canadian investors can best invest in the U.S. stock market by holding exchange-traded funds such as the Vanguard S&P 500 Index ETF (TSX:VSP). With more than $3.3 billion in assets under management, the VSP tracks the S&P 500 index. Moreover, the ETF is hedged to the Canadian dollar, shielding investors from fluctuations in exchange rates.
In the last 10 years, the VSP has returned 11.46% to investors, just lower than the S&P 500 index gains of 11.71%. With a management fee of 0.08% and an expense ratio of 0.09%, the VSP ETF is a low-cost passive index fund.
While the tech sector dominates the S&P 500 index, you get access to 500 stocks in the U.S. With a median market cap of $311 billion, the median price-to-earnings multiple for stocks in the VSP ETF is 26.1 times. Comparatively, the earnings growth rate is 15.7%, while the return on equity is 24.6%.
The information technology sector accounts for 30.6% of the VSP ETF, followed by financials at 12.9% and healthcare at 12%.
