Beware the risk of portfolio paralysis if you take control of your own investments and open an online brokerage account.
Overwhelming choice and overwhelming responsibility crowd in on you and instead of creating and executing a plan, you let your money sit around as cash.
True, you won’t be losing anything to the ever unpredictable stock markets. But your return will in many cases be zero. Unless you have a sizable balance, most brokers don’t bother paying interest.
After we published The Globe and Mail’s 12th annual ranking of online brokers last week, I did an online discussion in which it became clear that some people aren’t sure what to do with an online brokerage account once it’s been set up.
Let’s look at four options:
1. Mutual funds
It’s common for self-directed investors to see themselves as having grown out of mutual funds, but let’s get real. Many people have no clue how much time and effort goes into building a portfolio. Mutual funds do the work for you, and three or four of them are all you really need.
The first rule for finding mutual funds to go into an online brokerage account is to look first at low-cost fund families such as Beutel Goodman; McLean Budden; Leith Wheeler; Mawer; and Phillips, Hager & North. These firms pay little or nothing in commissions to the brokers that sell their products, which means the fees they charge investors are low.
The second rule is to ensure your broker charges nothing to buy or sell the funds you want to buy. Some firms still cling to fees for buying or selling certain funds.
2. Exchange-traded funds
Whereas mutual funds are run by managers who choose stocks and bonds individually, ETFs are primarily vehicles to invest directly in stock and bond indexes. ETFs are less weighed down by fees than mutual funds, a feature that helps them compare very well to funds on a performance basis.
There’s an appealing simplicity to ETFs, too. Whereas mutual funds can be sketchy about the details of their strategies and holdings, many ETFs track name-brand indexes that have clear mandates. You want exposure to Canadian blue chip dividend stocks? There are ETFs for that. You want exposure to the entire bond market, or just government or corporate bonds? There are ETFs for that , too.
You’ll have to pay brokerage commissions to buy and sell ETFs, which means a charge of $5 to $29 per transaction. The Claymore family of ETFs works around this by offering a pre-authorized contribution plan where you make an initial purchase and then get to invest regular amounts without paying commissions. Check with your broker to see whether this is available.
3. Bonds and GICs
Buying actual bonds gives you more control than using bond mutual funds or ETFs. If you’re okay with a little added risk, you can buy the bonds of companies with lower-tier credit ratings and get a higher yield. You can pick maturity dates to coincide with your need for cash flow, and you can take comfort in the fact that no matter how much your bonds fall in price, you will get your money back at maturity.
Scotia iTrade and Qtrade Investor are the two best online brokerage firms for buying bonds because they have eliminated the usual price mark-up and instead simply charge a flat commission. Bond prices and bond yields move inversely, so a lower price means a higher yield.
In addition to bonds, many brokers offer guaranteed investment certificates from third-party banks, trust companies and credit unions. Check the rates before you buy a bond – GICs often provide better returns.
Lots of do-it-yourself investors are best served with ETFs or mutual funds, which provide the benefit of diversification. When they venture into individual stocks, they run the risk of having one or two bad choices do serious damage to the whole portfolio.
The smart way to move into stocks is to pick blue-chip dividend stocks. They offer a reasonably high level of stability and the benefit of an investing concept called total return. That’s share-price gain plus dividends.
Before buying stocks, use the tools your broker offers to help you make decisions. Check out analyst reports to see whether there are any details about a company you’ve missed, read recent news stories about the company and use the charting tools to see how the company’s stock behaves.
Finally, don’t forget to develop a master plan for your investing. Most brokers have tools to help you decide on the right mix of investments – using them will help you minimize the risk of portfolio paralysis.
Four things to put in your online brokerage account, and how to research them:
Morningstar Canada: morningstar.ca/
The Fund Library: fundlibrary.com
Bonds and GICs:
Cannex (for GIC rates): cannex.com
DBRS (for bond ratings): dbrs.com
CanadianFixedIncome.ca (bond yields): pfin.ca/canadianfixedincome/Default.aspx
Yahoo Finance: finance.yahoo.com
Value Line (U.S. stocks): valueline.com/
RiskGrades (risk analysis for stocks): riskgrades.com