Bonds are an integral part of every Canadian’s portfolio for good reason. The bonds carry the “promise” of fixed income with regular and stable cash flows. But with interest rates at record lows, the pressure to make every penny count has never been greater. Creating such exposure intelligently can make all the difference to returns.

A portfolio for the average Canadian is likely to contain fixed income securities, also known as bonds. The bonds are particularly attractive to investors retiring or nearing retirement as they seek to replace their regular, steady salary with a similar stream of interest income.

Unfortunately, buying bonds in Canada is not as easy or profitable as buying shares. Unlike stocks that trade on an open stock exchange with fully transparent buying and selling prices, bonds in Canada must be purchased through a ‘dealer network’ which removes all the efficiency and transparency of a fully functional liquid market. .

This is where it gets nasty for the retail investor. Compared to giant financial institutions that invest billions of dollars with pooled assets, it is extremely challenging for the retail investor to purchase a bond as effectively as these giant financial institutions.

The only thing that could be worse than buying bonds through Canada’s dealer network is buying a bond mutual fund. The average expense ratio in a Canadian bond mutual fund is close to 1.75%. In an interest rate environment where long-term yields hover around 3.5%, it’s like sharing my burger with a stranger and he eats half a bite. I do not think!

So how can the retail investor gain fixed income exposure with good seniority and a tight bid-ask spread? The average investor should consider bond ETFs to build fixed income exposure in his or her portfolio.

ETFs are managed by large financial institutions and trade on any number of stock exchanges just like your favorite stocks. The benefits for the average investor are numerous.

A bond ETF is basically a group of different bonds bundled together in a portfolio and traded on the stock market. Unlike the individual bonds themselves, there is substantially more liquidity in bond ETFs, making the bid-ask spread tighter. Basically, investors can easily exit their position at any time without the cost of large transaction fees.

This advantage alone is all that retail investors should need to be convinced that bond ETFs are the most efficient way to gain exposure to the fixed income market. Additionally, these bond ETFs manage huge amounts of assets and have superior purchasing power. For example, the total assets under management of the top Canadian bond ETFs exceed $2 trillion. Guess what, that gives these ETF companies a huge advantage in trading with the best bond issuers. Not only can they trade bonds and non-bonds at much better spreads than you or I could ever get, but they also have access to the best issuers.

While the stock market is far from perfect, investors should always have the ability to buy and sell a security that is somewhat close to the current market price. In the bond market, this is not the case, as the spread between the bid and ask is on the order of magnitude several times higher. For the retail investor, buying individual bonds is not only unfavorable but often dangerous. By taking advantage of economies of scale and maintaining the complete system, bond ETFs minimize transaction costs and ensure that Canadian investors get better value for their dollar.