Radical thought: Pay a little less attention to how much profit you expect from your investments and more to how well you'll be able to live with them over the years.
The recent bear market notwithstanding, buy-and-hold is still the best approach for the most investors. We're all good at buying investments, especially in RRSP season. It's the holding part that's the problem.
We buy, we sell, we buy something different. That's the pattern that may help explain a recent estimate from investment firm Russell Canada that people 50 and older have $300-billion sitting in low-growth investments like guaranteed investment certificates and savings accounts, a nine-year high. Many of these people bought stuff they couldn't live with, they sold it when the stock markets tanked and then bought something conservative.
How's it working out for them? GICs are paying no more than about 3.6 per cent for five years, while many savings accounts are paying roughly 1 per cent or less and only a tiny minority are as high as 2 per cent. Meantime, the stock market surged 35 per cent last year, including dividends. With investments they could live with, maybe these investors would have been able to ride through the past two years instead of selling low and then missing an upturn.
A suggestion for finding a comfort level in your registered retirement savings plan or other investments: blend active and passive investments. In plain English, that's mutual funds and exchange-traded funds.
Mutual funds are actively managed investments, which means they're run by managers who seek out what they believe are the best stocks and bonds. It's the opposite approach to passive investments like ETFs, where the mandate is to mirror the return of a stock or bond index (note: ETFs are bought and sold like stocks).
The ideal outcome of blending the two is that the ETF will wire you directly into what a major stock index does, for better (that would be 2009) and for worse (that would be 2008). The mutual fund, if chosen correctly, will offer more protection in down markets and probably lag when stocks are soaring. The overall package should be something you can live with more comfortably than just the ETF or mutual fund alone.
Institutional investors know that blending active and passive strategies is an effective way to run a portfolio, and it's time that retail investors considered it.
An easy way to pair up active and passive funds is to evenly divide up the money you're investing in a particular component of your portfolio into a mutual fund and an equivalent ETF (check Globeinvestor.com for a full listing of ETFs listed on the Toronto Stock Exchange).
You can't just buy any mutual fund, though. Too many funds more or less hold what the index holds, which is where the expression “closet indexing” comes from. If you match a fund up with an ETF, you want it to hold different stocks, emphasize different sectors and, on the whole, behave differently.
One way to find funds like these would be to look at their beta, a technical term for measuring a fund's volatility in comparison to its benchmark stock index. The index itself always has a beta of 1.0, and that's more or less the same number you'll find for an ETF that tracks the index.
When selecting funds to pair with an ETF, you could start your search with those having a low beta. That gives you an indication the fund behaves at least somewhat differently than its benchmark index, and that it's less risky.
Globeinvestor analyst Victor Tan has helped us out here by screening for low-beta funds in five categories: Canadian equity, Canadian focused equity, Canadian dividend and income equity, U.S. equity and global equity. An additional qualification was that the funds had to have assets of more than $20-million and a history of at least five years.
There are roughly 5,000 mutual funds and fund variations available in the Canadian market, but only a handful have the low beta score that signals an investing style significantly different from the composition of the benchmark index.
Remember, our starting principal here is that you'll buy the index through an ETF and look for a mutual fund that does things differently. The goal: a smoother ride than either a mutual fund on its own, or an ETF.
