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Consider Your House And Career When Deciding Your Portfolio Diversification

Tom Drake — Tue, 19 Jan 2010 10:00:22 +0000

Readers of Canadian Finance Blog have heard about the importance of a diversified portfolio that should include stocks from Canada, the US and internationally, plus bonds to reduce the volatility of your portfolio. What many don’t consider is how their house and career could effect the diversification of their investments.

How Your House Effects Diversification

Borrowing from your home equity is a popular way to invest. By using a Smith Manoeuvre, you can accelerate your investments and pay off your mortgage sooner. However, when looking to add further diversification to your portfolio, avoid using your Home Equity Line Of Credit (HELOC) to invest in Real Estate Investment Trusts (REIT) since they are so closely correlated. If the real estate market were to collapse, not only would your investments in REITs go with it, but the value would drop on the house that’s backing the loan.

How Your Career Effects Diversification

Some of the best corporations offer employees stock purchase plans at a lower cost than can be obtained by the average investor. Sounds like a good idea? It is, though you may do best to sell at the end of the year and reallocate that money to other stocks. Why is this? One example comes to mind, Nortel. If you worked for Nortel and received stocks as an employee, once the company fell apart not only were your without a job but your investments were devastated at the same time. This same portfolio theory applies not just to the company you work for, but also the sector you work in. For example, if you work at a travel agency, investing in Air Canada or WestJet would leave you exposed to greater risk if travel is reduced due to changes in the economy, increased security or epidemic concerns.

That’s not to say that REITs and stocks from the corporation you work for are not good investments, but these diversification factors should be taken into account when deciding on your portfolio allocation.

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Consider Your House And Career When Deciding Your Portfolio Diversification originally appeared on Canadian Finance Blog on January 19, 2010.

Real Estate Investment Trust (REIT) Portfolio

Tom Drake — Wed, 25 Feb 2009 11:00:05 +0000

I’m considering holding REITs in my TFSA since they would be a good income earning investment, but not necessarily tax efficient. My first thought was to look into the iShares CDN REIT Sector Index Fund (XRE), but it’s 0.55% MER is rather high for an ETF than only has 11 holdings.

You can replicate more than 55% of the index fund by investing in the four largest Canadian REITs, saving the 0.55% expense and possibly reducing risk by buying the more established, large cap, companies. The four largest are RioCan REIT (REI.UN), Canadian REIT (REF.UN), H&R REIT (HR.UN), and Boardwalk REIT (BEI.UN). Coming close to their actual weighting, a simple way to set up a portfolio would be 40% in RioCan and 20% for each of the other three.

Real Estate Investment Trust (REIT) Portfolio originally appeared on Canadian Finance Blog on February 25, 2009.

TFSA – Tax Free Savings Account

Tom Drake — Thu, 05 Feb 2009 12:00:27 +0000

I’ve had a few people ask about the Tax Free Savings Account, or TFSA. Some get the wrong idea because of the term “savings account”. While you can hold a savings account in the TFSA, you could also use it for stocks, mutual funds, bonds, GICs, etc. The TFSA is basically a shell similar to an RRSP. They both allow you to grow your investment without taxes. Where they differ is when you put money in and when you take it out. With an RRSP, you get a tax refund for money that you put into the plan and then pay tax on the money you withdraw at retirement. With a TFSA you do not get a refund when you put money in, but do not pay any tax when you withdraw money. You also don’t lose your contribution room when you withdraw from a TFSA, you can deposit that amount back in the next year.

For this first year that it’s available, I actually do plan to open a high interest savings account in my TFSA to set up an emergency fund, but this is not the most efficient use of a TFSA as a tax strategy. Since you do not pay taxes on your withdrawal, it is better to have high yielding investments in your TFSA since the expected larger sum will be tax free. With this logic, placing lower yielding investments like bonds and GICs into RRSPs make more sense. You’ll still get the same tax refund for the dollars you put in and when you have to pay tax at retirement it won’t be as high as with stocks or REITs.

One more thing I really like about the TFSA is its use as a income tax shelter. If you were to purchase REITs and other income trusts in your TFSA, you could withdraw the payments they make as a continual tax-free income. If you are pushing your contribution limits, I wouldn’t advise including dividend paying stocks since they are quite tax efficient and the best candidate to be outside of both RRSPs and TFSAs.

TFSA – Tax Free Savings Account originally appeared on Canadian Finance Blog on February 5, 2009.