Trying to recreate a growth portfolio in RRSP is unwise
Those investing in stock market must be prepared to buy high and try to sell even higher
The other day I received an email from a reader that was both gratifying and disconcerting.
He wrote that he had been following the model Growth Portfolios that we created for my newsletters several years ago and now wanted to emulate one of them in his RRSP.
Of course I was pleased that he saw the value in the portfolios and wanted to invest in them. There are two of them and both have done well.
The first is a portfolio that consists of five stock mutual funds plus a small position in a bond ETF. It was started in January 2009 and as of the time of the last update on June 30, it was showing an average annual compound rate of return of 11.08 per cent since inception.
The second is a concentrated portfolio of seven stocks that was launched in August 2012. Its composition has changed over time as we drop off companies that are not meeting our standards and add new ones to replace them.
Some of the top performers right now include one of the leaders in developing artificial intelligence, Nvidia, which has seen its stock move from the $160 (U.S.) level in early September to over $200 this week.
We’ve also enjoyed good gains from Apple, UnitedHealth Group, New Flyer Industries and other stocks on the list. The five-year average annual compound rate of return to Aug. 17 was 25.56 per cent.
So why was I disconcerted about the reader’s letter? Because he wants to recreate one of these portfolios in an RRSP, that’s why. I think that’s a bad idea and I told him so.
There are two reasons for my discouraging reply. The first is the state of the stock market at this time, a concern that I have expressed here before. I know, the market keeps on going higher no matter what happens.
We were unscathed in September and October, historically the two most difficult months of the year. In fact, New York, London, and Toronto posted all-time record highs during this traditionally down period.
Now we’re into the run-up to Christmas, a time when stocks are usually strong. Plus we have new tax legislation before the U.S. Congress, which could, if passed, give another huge lift to stocks. It seems like this bull has no end. But the plain fact is that stocks are expensive and getting more so. Many world-renowned experts such as Robert Shiller of Yale University, who developed the Shiller price/ earnings ratio that tracks the historical performance of the S&P 500, are worried. He thinks the S&P “could fall a lot” from the current level.
The whole idea of successful investing is to buy low, sell high. It is not buy high and hope to sell higher. But that’s what investors who put all their money into equities are expecting these days.
My second concern is the fact the reader wants to do all this within an RRSP. That’s a non-starter from my perspective.
An RRSP is simply a personal pension plan. It should be managed with a view to balancing growth with asset preservation.
Managers of major pension plans understand how to do this. Look at the Canada Pension Plan for example. At the end of the 2017 fiscal year (March 31), 21.5 per cent of the assets were invested in fixed-income securities with another 23.1 per cent in real assets (real estate, infrastructure, etc.)
What many people may find even more surprising is that almost 84 per cent of the assets are invested outside of Canada.
That’s right, our national pension plan has only 16.4 per cent of its money in this country.
How is it doing? Pretty well: a five-year annualized rate of return of 11.8 per cent.
Obviously, as individuals we cannot own the type of real assets the CPP does. But we can look to the plan and others like it for guidance on how to invest our RRSP money.
Part of any RRSP needs to be in fixed-income securities.
The bond market is not doing well right now, as I discussed a couple of months ago. But don’t look at fixed income as a profit centre but as insurance.
If the stock markets crash, your bonds and GICs will mitigate any losses on the equities side.
The older you are, the more insurance you should have.
You can also reduce your risk by diversifying your assets internationally. Only a small fraction of the CPP is in Canada.
What is the percentage in your portfolio? Most people will find it is way too high. There are many U.S. and international mutual funds and ETFs that will give you exposure to other parts of the world.
And while you can’t invest directly in railways or toll roads around the world, you can buy ETFs that do. I also like the Brookfield Infrastructure Limited Partnership, which I have recommended in my newsletter since 2010. It invests in major infrastructure projects in North and South America, Europe and Australia.
Of course there is a place for equities in an RRSP and if our reader wants to duplicate one of my portfolios for a portion of his plan and supplement it with fixed income and real assets, that’s fine.
But stocks should not comprise the entire plan. That’s way too dangerous. Gordon Pape is editor and publisher of the Internet Wealth Builder and Income Investor newsletters.