Whether you are an experienced investor or new to do-it-yourself (DIY) investing, a time-pressed employee juggling kids and career or someone with minimal interest in personal finance, discount brokers have investments to suit your circumstances.
The key to successful direct investing is to know what you really need, as opposed to want, and then invest accordingly. In this series of articles, I'll discuss various investor profiles and zero in on the discount brokerage offerings that would best match each profile.
Let's begin with the rookie direct investor. Perhaps she is someone who has never invested before, a refugee from a full service financial adviser, or increasingly, someone who is dabbling in DIY investing while retaining her current adviser. The typical reaction I hear from novices venturing into the discount brokerage world is, "Too much information! How will I ever figure out what to buy?" If you count yourself among this group, the least intimidating place to start is to go with what you know. And that, almost invariably, is mutual funds. These funds may also be the best place for DIY investors who are time-pressed or don't like to choose specific investments.
Getting started with mutual fund investing in a discount brokerage account is a fairly simple four-step process.
Step one is to work out your investor profile. Many discount brokers have developed online tools to help. A typical tool involves completing an online questionnaire that covers such topics as investing experience, personal financial goals, appetite for risk, when you need the money and the types of investments you would choose given various scenarios. One of several possible profiles ranging from conservative through balanced to aggressive growth is suggested based on your response.
Step two involves deciding on the combination of asset classes (cash, bonds and stocks) that best fit your investor profile. Discount brokerage tools usually generate a suggested percentage for each asset class included in your profile. For example, if a profile is conservative with a focus on income generation, a suggested asset class mix might be:
- 5 per cent cash
- 60 per cent Canadian fixed income
- 15 per cent Canadian equity
- 10 per cent U.S. equity
- 10 per cent International equity
Step three: Once you have a clear picture of your target asset mix, you can start selecting specific funds. The websites of all the major discount brokers have information and tools to help you decide what to buy. BMO InvestorLine and RBC Direct Investing provide model mutual fund portfolios for each investor profile. Other discount brokers publish a select list of recommended funds (i.e. Analysts' Choice Funds at TD Waterhouse).
With a little time and enough interest, you can ignore the discounter's canned portfolios and build your own portfolio of low cost, high quality mutual funds. The key is to learn how to use a fund selection tool to unearth the gems among the thousands of mutual funds available to Canadians. Most discount brokers post an online fund selection tool that functions in a manner similar to GlobeInvestor's Fund Filter. You select a fund category (Canadian equity, Canadian fixed income etc.), then choose various criteria with a view to eliminating poor quality funds.
I have found the most useful search criteria to be:
- Fund rating: This is typically a one to five star system. Select for the four and five star funds, the top performers.
- Performance: Screen for funds with at least a three-year history and performance that meets or exceeds average returns for its category.
- Management expense ratio (MER): Choose criteria which eliminate funds with MERs that are above the average for their category.
- No load funds: Choose funds where no sales or redemption charges apply.
I used these criteria in the mutual fund screener at RBC Direct Investing to pick a fund for each asset class identified in the conservative portfolio described above. The screens that I ran reduced their database of almost 7,500 funds to just a few. To make my final selections, I looked for the fund in each class with the best combination of performance and low MERs. These tend to be index funds and those from companies known for low management fees: Beutel Goodman, Leith Wheeler, Mawer, Mclean Budden, Phillips, Hager & North, RBC D series (open to RBC direct investing clients) and Steadyhand. Here are the funds I chose:
Canadian fixed income: Phillips, Hager & North Bond Class D
Canadian equity: Mawer Canadian Equity
U.S. equity: Beutel Goodman American Equity Class D
International equity: Mawer World Equity.
These funds all have a $5,000 or $10,000 minimum initial investment. Decent funds with lower minimums are available, but the returns are not as good.
Step four: The final step in setting up a discount brokerage mutual fund portfolio is to actually buy the funds you've chosen. The online purchasing procedure for mutual funds is easy and is usually commission-free. There are instructions to guide you and some brokers offer how-to videos. Using an automated telephone service to buy is another option and is usually fee-free. You can also place your order by talking to a representative over the phone; some brokers charge a fee to do so.
For direct investors who are either rookies, time-pressed or don't like to choose specific investments, a mutual fund portfolio could be the best option for taking advantage of the benefits of a discount brokerage account. But, mutual funds are just one way to go. In my next article, I'll look at investments choices for DIY investors with other investor profiles.