January Newsletter – Top 10 Questions from investors (PDF)
Should I invest in the market or keep the money at the Bank?
Over time, the value of money decreases due to inflation (indicator for the prices of goods and services). The price of a basket of food costing $100 in 2000 would now be roughly around $120 due to an average annual increase in prices of 3%. As a result, if you had $100 in a chequing or savings bank account that earns a nominal interest rate (currently 0.05% for a savings account), you would not be able to afford that same basket of good. In the past, investors (especially people needing income) used bond portfolios to help offset the erosion in purchasing power since the principal of a bond is expected to be paid back by the issuer when the bond matures. However, since the financial crisis of 2008, the interest rates trended to an all-time low and remain there to this day. This means your only viable option to keep up with inflation is to have some exposure to the stock market, real estate or other private investments. Investors may also consider high yield bonds but these are much riskier than government and/or investment grade bonds due to a lower credit rating.
Should I invest in the stock market or in real estate?
This depends largely on two primary factors: 1) the need for liquidity, and 2) diversification within your investment portfolio. The stock market is highly liquid, which means you can convert equity investments into cash in a very short time frame. Conversely, real estate is highly illiquid, which means that it may typically take weeks, if not months to convert a real estate investment into cash. Second, a stock portfolio can achieve a high degree of investment diversification within the equity asset class and the same with a bond portfolio. Publicly traded REITs can also provide real estate exposure to investors, but in many cases REITs are not tax efficient. A typically large, already well-diversified portfolio may gain an additional level of return diversification through real estate investments, however this is normally a smaller percent of overall investable assets and the investment horizon is long term in nature. Overall both the stock market and real estate have performed well over the long run but relatively speaking they are both seen as overvalued due to central banks money printing activities and foreign investments. For real estate, on top of the liquidity issues, there are also considerations regarding the quality of the asset. Not all properties are build the same and typically you would invest in only one so your risk is concentrated whereas you can just buy an index-based ETF in the stock market and instantly diversify your risks from any one single company.
Should I keep all my money in a couple stocks and dividend reinvesting or diversify?
It is never advised to have all your eggs in the same basket. In my profession, I see this a lot with senior bank executives who hold a disproportionate amount of their employer’s shares in their investment portfolio as a result of compensation practices and EPSP(Employer Profit sharing Plan) programs. This is very risky as all it takes is a bad quarter or scandal linked with the company for the stock to take a dive. During bad times, companies also tend to cut costs by handing out packages to their employees. In a worse case scenario, an individual may lose their job and also witness a decline in their investment portfolio at the same time. However, if an investment portfolio is diversified so that there is a low correlation with other assets and/or asset classes, an investor can minimize the risk of permanent capital losses.
What percentage of my salary should I save?
This really depends on a multitude of factors. When debt is cheap, it is not necessarily a bad idea to increase your savings rate and use line of credits for some portion of your expenses. Just make sure you adopt a conservative enough stance with your investment to be able to pay off your line of credit in a timely fashion if interest rates are set to rise.
Depending on your philosophy of life, you might want to maximize your happiness while you are young by living a moderately expensive life and having a less lavish retirement (How much would Bill Gates give away just to be 25 again? I suspect the answer is probably most, if not all of his money!). The other end of the spectrum is not saving enough for retirement and having a rough time in your older years. Clearly the right answer will differ for each person. The best approach is to establish a financial plan with your advisor that takes into account future events (both expected and unexpected), lifestyle choices and goals.
What is the best way to double my savings within 10 years?
This is another hard question so although in the world of finance there are simply no guarantees, adopting a moderately conservative approach to investments could help you achieve this goal. If you invest in a portfolio of securities paying you a dividend of 3% to 5%, you only need a couple percentage points of capital gains annually to achieve your target of 7.2% per year (after fees and tax). BlueSky Investment Counsel is continually searching for companies that are well situated in their industry to take advantage of long term secular trends, that have a sustainable competitive advantage, employ an experienced management team that has a history of above industry average ROE and ROIC and is trading at a discount to what we believe is the stock’s intrinsic value.
Should I hold mutual funds or have a portfolio of stocks?
If you have the time and expertise to invest for yourself or have a Portfolio Manager who can do this for you, then we strongly encourage investors to consider an equity portfolio. Mutual funds tend to have a layered fee structure and in some cases also have low quartile (i.e. 3rd or 4th quartile) return performance (after fees), which can present a material drag on the growth of your portfolio. For smaller investors under $100,000, the primary equity alternatives are typically ETFs and well-chosen mutual funds as buying stock directly can be risky due to the cost and lack of proper diversification. You can find the ranking of mutual funds through Morningstar and compare what your hold with similar funds to see overall performance.
Should I maximize my RRSP or in my TFSA?
In an ideal world, you would contribute the maximum to both your RRSP and TFSA accounts, however if you only maximize one account there are a few considerations. Both types of accounts are similar in that they shelter investments from taxation, which allows your money to grow tax free using a wide variety of investment options (GICs, stocks, mutual funds and bonds). The primary difference is how each account is taxed and contribution amounts. Contributions to a RRSP are made with pre-tax income and taxed when capital is withdrawn. The maximum RRSP contribution is calculated at 18% of your gross income or C$25,370 (2016); whichever is less. Conversely, contributions into a TFSA are made with after-tax income and you can withdraw capital tax-free. The maximum annual contribution is C$5,500.
RRSP accounts work well when contributions are made while the investor is in a high tax bracket, and withdrawals occur when the investor is in a lower tax bracket (i.e. during retirement).
If you are unsure of the potential tax differential during your accumulation and withdrawal periods and/or feel the spate of assumptions required to make an informed decision are too daunting, then a TFSA may be the best choice as it offers the most flexibility. There are several reasons why the TFSA may be the better choice: 1) any capital in a TFSA can be accessed at any time without a tax penalty, 2) if you’re likely to spend your RRSP refund, the TFSA may be the better option.
While RRSP and TFAS accounts each have their pros and cons, both offer a superior retirement option if you have the available room than investing exclusively in non-registered account!
Should I have a balanced portfolio in the present day?
An appropriately balanced portfolio is a key factor in helping achieve long term investment return objectives while minimizing the risk of permanent loss of capital. While knowledge of the stock market and an appetite for risk are contributing factors in creating a portfolio, time horizon is usually the most important single factor. Investors in their 20s and 30s can afford to be more aggressive with their investment portfolio and typically hold a larger percent of equities compared to an investor in their 50s and 60s who would ideally hold more fixed income investments although this has been less accurate with the current state of interest rates. However, regardless of your investment time horizon an appropriately balance mix of equities, fixed income (Including high yield and in some cases private investments), and cash is typically employed to optimize returns and minimize potential losses.
How to maximize my children’s RESP?
Having a RESP enables you and your child to benefit from government-funded education grants and allows capital for educational purposes to grow on a tax-deferred basis. Canada’s primary plan is the Canada Education Savings Grant (CESG). The annual contribution to maximize the grant is C$2,500 in a calendar year. The grant match is equal to 20% of the annual contribution up to $500 annually. However, there is a lifetime grant maximum of C$7,200, which is achieved when C$36,000 of capital is invested in a RESP over time. If you have not contributed to an RESP or have contributed less than C$2,500 that earns the maximum CESG grant each year, than you can carry CESG contribution room forward into future years.
Should I invest for myself or hire an Investment Counselor?
The need for a financial advisor depends largely on your financial situation. If you are considering buying or selling a home, becoming a parent, puzzling over opening a TFSA and/or RRSP accounts, looking to minimize your tax burden or nearing retirement, then talking to an advisor is a very good idea. While whom you hire can make all the difference as some advisors are simply more competent, experienced and observant of their fiduciary duties than others, a good financial advisor should provide a tailored investment strategy that takes into consideration all your financial, personal and professional factors. Further, fee-based advisors tend to be better aligned with their clients’ interests than those paid by other means, such as commissions especially if your portfolio is actively traded.