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investor clinic

Your questions have been piling up in Investor Clinic's inbox, and today I'll answer some of them.

Just a reminder that I can't respond to every question I receive. However, I do answer select ones in my column and use others as the basis for column ideas that I believe will be of interest to readers.

Bank stocks represent more than half of my portfolio. Do you consider this a problem?

Let's look at a couple of scenarios. If bank stocks generate market-beating returns over the next 10 years, you'll be glad to have half of your portfolio in them. In fact, you'll probably be kicking yourself that you didn't own even more banks. But what if bank stocks underperform the market or are hit by some sort of systemic problem such as a real estate collapse? In that case, you'll wish you had trimmed your exposure. You can't predict the future, but you can diversify so your portfolio isn't so dependent (for better or worse) on one sector. If you are reluctant to sell your bank stocks because you will face capital gains taxes, you could allocate new cash – and dividends from your existing bank stocks – to other sectors, which will slowly bring down your bank exposure without triggering taxes.

In a recent column you mentioned: "I continue to hold TransCanada and would consider adding to my position on any price weakness." How do you define "price weakness" when you are deciding to add to your stock position?

I don't have a specific rule of thumb. Rather, I look at the extent of the drop and the reason the stock has fallen. If a stock is down 2 per cent from its peak, for example, that's usually nothing to get excited about. However, if it's off 10 per cent or more – just to pick a round number – then I usually get more interested. In my experience, the best buying opportunities often occur when a company's outlook hasn't fundamentally changed but the shares have fallen because the market in general is getting clobbered, the company has announced some bad (but temporary) news or it has missed earnings estimates by a penny or two but is otherwise healthy.

I would like to invest in preferred shares. Any advice?

Yes. Make sure you understand what you are getting into. The preferred-share market is now dominated by a relatively new class of shares called rate-reset preferreds, which – based on the e-mails I get – are not well understood by many investors. The dividends on rate-reset preferreds rise and fall with bond yields, which adds a layer of complexity and risk to these securities, as I wrote recently. (My colleague Rob Carrick has also covered this topic). Many exchange-traded fund providers have preferred-share ETFs that offer diversification at reasonable fees; but, again, do your homework before taking the plunge.

When you mention the "total return" of a stock, is this before or after tax?

The total return represents a stock's gain from both share price appreciation and dividends, and it assumes all dividends were reinvested in additional shares. Because different investors have different tax rates, the total return is reported on a pretax basis. It's a theoretical measure because many investors do pay tax on their capital gains and dividends and don't necessarily reinvest all of their dividends. But total return is useful because it shows what, in an ideal world, an investor would have made. It's also useful for comparing returns between two or more stocks.

Which are treated more favourably for tax purposes, dividends or capital gains?

It depends on where you live and what your taxable income is. Generally, at lower income levels dividends are taxed more favourably than capital gains, and at higher incomes levels capital gains have the edge over dividends. To find out the specifics for your situation, visit and look under the combined provincial and federal "tax brackets and marginal tax rates" for your province.