By Gordon Pape, Editor and Publisher
Anyone can earn a respectable return in an RRSP over a period of time by following some basic investment rules and choosing their investments with care.
As an example, we launched a model RRSP portfolio on this website in 2012.In the six and a half years since this portfolio was launched the average annual gain is 9.4%. That’s well in excess of our target, despite the weak returns of the past year.
Rule 1: diversify
One of the reasons the model portfolio did well was that we employed the first basic rule of investing: diversification. All three core asset groups were represented in the portfolio through the funds it held: cash (10% of the total), bonds (57.5%), and stocks (32.5%).
I also should point out that this is a very defensive asset mix, with only one-third of the RRSP exposed to the stock market. That brings me to the second fundamental point of RRSP investing.
Rule 2: don’t lose money
As I have said in the past, think of your RRSP as your personal pension plan and make investment decisions accordingly. This is not a place to gamble with your money; if you want to invest in speculative penny stocks do it in a non-registered account where at least you can claim a capital loss if you guess wrong.
RRSP investing requires careful risk/reward analysis. Your goal is to choose securities which, in combination, will generate a decent return without placing you in harm’s way when stock markets go into reverse. That does not mean you will never lose ground. But any losses should be small and temporary. Over time, an average annual compound rate of return in the 6% range should be achievable.
Rule 3: Don’t invest in what you don’t understand
The third basic rule of RRSP investing is to avoid securities you do not understand. The brilliant financial engineers on Bay St. and Wall St. are constantly creating flashy new products that in some cases are so complex that even experienced financial advisors have trouble explaining them to clients. Often, these products are designed to sell by offering high commissions to brokers and undeliverable promises to investors, such as betting on the stock market without risk. Most should be ignored. There are plenty of easy-to-understand alternatives from which to choose.
Rule 4: keep costs low
The next basic rule is to keep costs low. High expenses eat away at your bottom line. So avoid excessive trading within the RRSP (remember, brokerage fees are not tax-deductible if incurred within a registered plan). And stay away from most high-MER mutual funds. I say ‘most’ because there are a few exceptions where the manager earns his/her outrageous pay by consistently delivering superior performance.
Rule 5: pay attention
Next, pay attention to your plan. While I do not encourage frequent trades, neither do I recommend an ‘invest-it-and-forget-it’ attitude. There is too much volatility in the markets and too much economic uncertainty right now. You need to keep a close eye on the situation and, when necessary, make adjustments to your asset mix and the securities you hold. At a minimum, review your assets quarterly.
Rule 6: keep it going
Finally, keep contributing. This may seem like I am stating the obvious but the reality is that on a percentage basis fewer Canadians are contributing to an RRSP each year.I realize that finding money for an RRSP is not always easy, especially in a slow economy when everyone seems stretched to the limit. But there are things you can do if you’re really serious about retirement savings. One is to earmark some of any windfall money you receive for your RRSP – say 25% at a minimum. Windfall money can include everything from a tax refund to a salary increase. Another strategy is to set up an automatic deduction plan at your financial institution. Arrange to have a specific amount withdrawn from your account every month and credited to your RRSP. Even if you can only afford $50 a month, it’s a start and you can gradually add to it each year.
If you don’t put any money in the plan, all the other advice is useless.