(Photo courtesy of Microsoft Clip Art) This blog is the 5th in my series in Grainews. It beings together all previous columns written. Please share with others on your social media if you find it informative, and if you have read my book please write a […]
(Photo courtesy of Pexels)
This was the fourth column in my series for Grainews.
There are many reasons to diversify outside of the country.
My first three columns have covered a lot of ground, but there is more to cover. The stock market presents endless learning opportunities, but we want to keep our approach simple and effective because we have our farms to run and our lives to live. The first column covered the advantages of a TFSA; the second instalment discussed how to start a small portfolio of up to $15,000. The third one covered the most fundamental investment principle, “The Rule of 72,” which highlighted how money compounds over time.
This column will take portfolio construction a little further to discuss the importance of international diversification with sectors that are almost absent in the Canadian market. When I was growing up almost a half century ago, the Canadian economy was described by the term “hewers of wood and drawers of water.” The discussion at that time was the need to diversify our economy away from basic resources, and yet here we are 50 years later with the same debate raging on.
Our economy remains highly dependent on basic materials. The three biggest sectors in the Canadian market are financials, representing 35 per cent of the market, with energy coming in at about 20 per cent and materials at about 12 per cent. Energy and materials are much smaller than five years ago, not because our economy has diversified, but because they have performed so poorly through the 2014 to 2016 commodity collapse. This poorly diversified economy is a key reason to diversify our stock holdings outside of Canada.
Other important reasons to diversify out of the country are currency diversification and the ability to own world class companies outside the financial and resource sectors. Most of our physical assets are invested in Canada. Stocks represent a very simple way to own assets outside of our home country. International diversification will also stabilize portfolio performance as we look to build a portfolio that requires little maintenance, one that does well in up markets and is resilient during downturns.
The taxing details
Two important considerations with foreign stocks are currency conversion and dividend withholding taxes. Look for a financial institution that allows both U.S. and Canadian currency TFSAs. With small accounts it may not be necessary, but as your account grows it is better to avoid paying conversion costs every time a dividend is paid or you buy and sell a foreign stock. With a U.S. dollar-based account, you only pay the conversion cost upon depositing and eventually withdrawing the money.
It isn’t an ideal time to convert money to U.S. dollars, with current exchange rates, but probably a necessary evil if you’re just starting out. I started investing in foreign companies, way back in the 1990’s and remember converting currency at a punitive $0.63 level. The experience was instrumental when our dollar reached relative parity from about 2005 to 2014. I spent that decade almost entirely focused on foreign investments, thinking our dollar at par was not situation normal. During that time frame I built our portfolios to about 65 per cent foreign which is very unusual for a Canadian investor, as most investors exhibit home country bias. This heavy foreign exposure served me well during the commodity collapse that severely affected the Canadian market.
Dividend withholding taxes are a smaller consideration. Foreign countries tax dividends of foreign investors at varying rates. The U.S. is 15 per cent, the U.K. is zero for Canadians, but some countries are as high as 35 per cent. There is a tax treaty such that Canadians don’t pay U.S. withholding taxes in retirement accounts, but that doesn’t apply to TFSAs or RESPs. Thus our RRSP is built on Canada and U.S., and our TFSA on Canada and U.K., completely avoiding withholding taxes, a good thing unless you like taxes! If just starting a TFSA, our current construction project, I wouldn’t worry about this nuance yet. Just focus on building the strongest edifice possible.
My next instalment will continue the effort to build out a prospective TFSA portfolio with actual stock suggestions for up to $115,000, the current maximum contribution for two people. I felt it was important for readers to understand the groundwork before construction commences.
(Photo: Thinkstock) This is the second column written for Grainews. Get started soon, with a small portfolio, to build financial returns for your future. Have you kept our secret? You know, our secret about building wealth over time in the stock market. The secret that it’s about buying […]
My book, STOCKS for FUN and PROFIT ~ Adventures of an Amateur Investor, has been out since early November and I thought it would be great to hear from readers, your thoughts of the book and blogs so far. It has at times been the #1 stock investing book on Amazon.ca, and has also had reasonable results on Chapters.indigo.ca. Reviews to-date have been exceptional. I sincerely appreciate your feedback in order to make my blogs responsive to the desires of readers.
Would you please be kind enough to take a few minutes to e-mail me at email@example.com your comments and responses to the following questions?
- Have you purchased the book?
- If so, have you completed it OR what chapter are you on?
- What were your favorite chapters/parts?
- What were your least favorite parts?
- What questions do you have? (These questions could make up topics for future blogs)
- What was your overall impression and comments on the book? How would you rate it?
- Has it helped you become a more confident investor?
- What are your overall comments on my blogs to-date?
I realize the last couple months have been somewhat turbulent in the markets. It is these turbulent times that create the best opportunities. My desire is to complement and reinforce the book with the blogs, to help readers continue to build financial success.
Thank You, in advance, for your responses.
I recently became a contributing columnist for Grainews, a leading agricultural magazine. My profession is agriculture, so it is an honour to be able to write a column on off-farm investing for the agricultural community. I thought I would share the first article here. Tax-Free […]
1972, for those of us old enough to remember, was a year that will forever be etched in our brains as the most important year in hockey history. It was the year of the famous Summit Series between Canada and the former Soviet Union. Canada and the Soviets were widely recognized as the dominant hockey countries, yet our best players never competed against their best. Our best were professionals in the NHL, and at the time professionals were not allowed to compete in the Olympics. The Summit Series was organized to determine true hockey supremacy. The dramatic eight game series went down to the wire and was only determined when Paul Henderson scored with just 34 seconds remaining in the eighth game. What drama! This series paved the way for many more hockey exchanges prior to professionals being allowed to compete in the Olympics and in a small way, I believe, also helped thaw East/West relations during the Cold War.
72 is also the most important investment number that should always be etched in our brains when we think about investment returns. In my book, I dedicate a chapter to understanding how it impacts investment returns, and why small differences compounded over long time periods make big differences in end results. I am perpetually surprised by how few people know the “Rule of 72,” as I have known it since I was a youngster, probably before the 1972 Summit Series. It is a very simple but critical investment rule: 72 divided by the annual rate of return equals the number of years to double your money. I don’t know why it works, but it does, and is a great way to approximate the value of a current investment at some point in the future.
If you go to the bank and buy a $10,000 GIC (Guaranteed Investment Certificate) at 2% interest, it will take 36 years to double your money (72/2=36). 36 years from now that certificate will be worth $20,000.
If you buy stocks and achieve 12% annual returns, you will double your money every 6 years (72/12=6). In the same 36 year period you will experience 6 doubles: $10,000 x2x2x2x2x2x2 = $640,000. Which would you sooner have 36 years from now, $20,000 or $640,000? Many will argue that 12% annual returns isn’t realistic but I have achieved 11.7% over 25 years in my RRSP, and have other accounts ranging from 9% to 17% with shorter time frames.
Let’s look at another scenario: How much difference will there be between 6% and 8% annual returns, over 36 years? The seemingly small 2% difference, similar to equity mutual fund fees, compounds to represent twice the difference. The money doubles every 9 years with 8% returns (72/8=9), for 4 doubles in 36 years. With 6% returns the money doubles every 12 years (72/6=12), for 3 doubles in 36 years. Therefore with 8% returns, $10,000 would become, $10,000 x2x2x2x2 = $160,000, but with 6% returns, just $80,000 in the 36 year period.
The “Rule of 72” can also be used to calculate other compounding factors. If inflation averages 3% per year what will a $10.00 item cost in 24 years? If your city is growing at a 4% annual pace what will its population be in 18 years?
The compounding effect of the “Rule of 72” is why I am such an advocate of:
- Stocks vs. lower return investments, while accepting the volatility of stocks.
- Investing vs. speculating, as 9-12% annual returns builds significant wealth over time.
- The younger you start the better.
- Starting with small amounts is very productive, and
- Managing your own money (while not the answer for everyone) and saving fees can lead to big differences in outcomes.
Market volatility has returned with a vengeance. The markets had been unusually stable throughout 2017. It was actually record breaking stability, with the fewest number of days with one percent or more daily changes. Said another way it had the most days with small daily […]