I’ve been managing my own investments in Canada for well over fifteen years. Over time, I’ve learned a few things which I figured I’d share. I’m an investor making average market returns, who has spent a ton of time self-educating on personal finance. Caring about personal finance allows you to retire in comfort, and I’m still confused as to why it isn’t a mandatory part of the public education system. I have no intention of relying on cat food for nutrition when I stop working.
1) Banks are not your friend
They have a huuuugge conflict of interest, steering you towards investments that will make bank shareholders more money, instead of just pointing you towards financial success. That usually translates into higher cost, hidden fee mutual funds, which dramatically eat into your investment returns over time. They may hire friendly and helpful staff, but the fact is that they are hired to sell bank products, and not necessarily the best products for you.
A 2009 Morningstar Fund Research Report (Swartzentruber, Sin-Yi Tsai, 2009) puts it best:
“Canadian investors do not pay much attention to fees. Canadian investors are comfortable with the fees because they don’t know how low these fees should actually be. Assets tend to flow into average- or higher-fee funds because Canadian investors use financial advisors to help them make decisions. Advisors direct client assets to funds that pay better trailers. And since the trailer is included in the MER, the result is that assets flow into higher-fee funds.”
Canada also has some of the highest mutual fund fees in the world. Are you really getting what you pay for?
2) Fees matter
Mutual funds are not inherently bad; however, they can be fairly costly. Know what you own and what you’re paying for it. If your fund charges you a 1% Management Expense Ratio fee (MER), and returns 5%, you’re really only making about 4%. Further, just like compound interest, over time, fees compound to eat into how much you have left for retirement. Both Warren Buffet and John Bogle, venerated investors both, suggest that the average person is best served with a broad range of low cost index funds.
3) It’s the index, dummy
So what is an index fund? Index funds can be bought and sold as either mutual funds or Exchange Traded Funds (ETFs). They represent a certain market, such as the U.S. Standard & Poor’s 500, representing a stake in ownership in each of the companies in the index. You don’t have to buy all 500 companies for them to be represented in your portfolio, where you can just buy a fund covering that market position. It simplifies things, keeps costs low, and means you’ll get the market’s rate of return, less fees and a small tracking error.
No randomly picking stocks!
4) Have a plan and stick with it
Before you put a single dollar into the market, understand what you’re trying to get out of it. Are you investing for retirement, planning a trip or saving for a down payment on a mortgage? The answer to this question impacts where you put your money. For money that you need within 5-7 years, you probably want something secure, given the market can fluctuate rather impressively in both directions in that period of time. This would indicate something like a high interest savings account or GIC, which have pitiful returns. However, when you need the money, it’s there, with almost no likelihood of losing value (beyond to inflation).
If you’re in it for the long game, you need to understand your risk tolerance and come up with an asset allocation. If you were fairly conservative, you’d invest in a higher proportion of fixed assets to equity (stocks), in contrast to someone who is younger and doesn’t necessarily need the money in the near future. You want an allocation, where if the market tanks 20 – 30%, you won’t be freaked out and make any rash decisions. Weekly and monthly fluctuation should be tuned out, as noise.
With an asset allocation plan, say you invest 33% in Canada, 33% in the rest of the world and 33% in fixed assets, at the end of the year you’d look at how market values have shifted and adjust to return your target allocation to the 33/33/33 point. This prevents you from making emotional investing decisions. Your plan dictates where you allocate your money. You would buy into lower performing assets, to get back to your target allocation. This fits in with the buy low, sell high notion.
5) Know what you’re buying
I will never purchase a security I don’t understand, nor invest in a product class I can’t explain. If you don’t understand the specific underlying company, how they make money, what their liabilities are, why in god’s name are you investing in them? There are analysts who spend years figuring out how to pick stocks, and in general as a group, they still can’t beat the market return consistently in the long run.
6) You’re not smarter than the stock market
At best, you can hope to achieve average market returns. If you think about it, 50% of investors may do better than market return, 50% may do worse. Why not fall somewhere in between, achieving the average stock market’s return? In my business commerce school days, my personal finance teacher specifically said that you might as well throw darts at a board, rather than trying to pick a winner. If people who spend their lives studying this stuff can’t beat the market, what makes you think you can? Use index funds and get the average market return.
7) Tune out the noise
It may be a friend giving you financial advice, it may be the news, and it may be the Trump presidency: have an investing plan and stick with it. Don’t let fear or greed drive your investment decisions. In my younger days, I did do very well with a suggestion from a friend by buying a Real-Estate Income Trust, though this could very easily have gone the other way. Don’t invest randomly, stick with a plan.
8) Save more than you spend
It seems simple, but the less you spend, the more you can put towards covering your retirement. If you think of it mathematically, if savings = income – expenditures, you increase your financial position either by increasing your income by getting a raise or getting a second job, or by cutting your average expenses. Better yet, do both if you can!
Investing should be boring and fairly mechanical. It isn’t remotely exciting, and if done right will increase your chances of retiring comfortably. The stock market should never be treated as a weekend in Vegas. What happens in Vegas does not necessarily stay in Vegas. Have a plan, buy low cost index funds, and increase the likelihood you can retire comfortably.
In my next post on this subject, I’ll provide some really useful links to books, blogs and podcasts which will help give you the information you need to take charge of your investments, and retire successfully. This post is likely long enough as it is!