Investors often understand the importance of compounding in theory, but then interrupt the process in practice. They jump in and out of positions, try to time the market, chase whatever sector is performing well at the moment, or panic sell during downturns. Every time you interfere with a long-term strategy, you risk reducing the power of compounding.
The good news is that patience tends to be rewarded. Historically, investors who trusted the long-term trajectory of markets and remained invested through short-term volatility have generally come out ahead. The market does not move in a straight line, but over long periods, economic growth and corporate earnings have tended to push asset prices higher.
Taxes can also interfere with compounding, which is why the Tax-Free Savings Account (TFSA) is such a powerful tool. Not only are capital gains and dividends sheltered from tax, but Canadians continue to receive additional contribution room each year. For many investors, maximizing TFSA room should be one of the first priorities when building long-term wealth.
With that in mind, here are two Canadian exchange-traded funds (ETFs) I could realistically see buying, holding, and largely ignoring for years on end as part of a retirement strategy.
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Vanguard FTSE Canada All Cap Index ETF
Vanguard FTSE Canada All Cap Index ETF (TSX:VCN) is about as close as you can get to owning the investable Canadian stock market in a single purchase.
The ETF holds large-, mid-, and small-cap Canadian companies across sectors including financials, energy, industrials, materials, utilities, and telecommunications.
Because it owns such a broad basket of Canadian stocks, VCN works well as a long-term compounding vehicle. You are not making a bet on a particular sector or company. Instead, you are effectively betting on the long-term growth of Canadian businesses as a whole.
The ETF also keeps costs low with a 0.06% expense ratio, which is critical for long-term investors. After all, every dollar paid in fees is one less dollar available to compound on your behalf.
VCN does offer a respectable 2.01% dividend yield, but income is not really the main attraction here. The bigger appeal is broad diversification and low-cost exposure to the Canadian market.
Vanguard FTSE Canadian High Dividend Yield Index ETF
For investors who eventually want to spend some of the income generated by their TFSA, Vanguard FTSE Canadian High Dividend Yield Index ETF (TSX:VDY) deserves consideration.
VDY focuses on higher-yielding Canadian dividend stocks, particularly in sectors such as financials, energy infrastructure, pipelines, utilities, and telecommunications. It charges a 0.22% expense ratio and pays a 3.24% yield.
The monthly distributions from this ETF can be attractive for investors seeking tax-free income from their TFSA. Whether you choose to reinvest those distributions or spend them is entirely up to you.
Historically, the ETF has also delivered strong share price appreciation. Many of the underlying companies are large, profitable businesses with durable competitive advantages and long histories of paying dividends.
As a result, investors have benefited from both income generation and capital appreciation over time. For those looking to turn a TFSA into a future income-producing asset, VDY strikes a compelling balance between yield and long-term growth.
