Two winning RRSP scenarios
It’s RRSP season again and confused and worried investors are playing modern-day Hamlets as they debate whether to make a contribution this year and, if so, where to put it.My advice is that if you still qualify for an RRSP, by all means make a contribution. But be very selective about where you put the money.On the surface, nothing looks very enticing. Consider the options:1. The stock markets continue to be volatile. Expert opinion is deeply divided on whether the bear market will continue into a fourth year or a new bull will emerge.2. Economists insist that the bull market in bonds is over. Interest rates will rise this year, they predict, which means that bond prices will fall.
3. Cash-type securities, like money market funds and short term deposits, provide minuscule returns. As long as interest rates stay down, you’ll be fortunate to earn 2% in a money fund this year.
Investors have responded predictably. Assets continue to flow out of mutual funds. Retail buyers seem to have abandoned the stock markets. GIC sales are up, not because they offer attractive returns but virtually by default.
FranklyI think we’re seeing a lack of imagination on the part of many investors. There are several attractive options for your RRSP out there. It’s simply a matter of identifying which ones are best suited to your needs.
Begin by going back to basics. Take a little time to reflect again on your long-term RRSP goals. Let’s consider two scenarios involving people over 50, and look at some appropriate mutual fund alternatives for each.
Scenario #1 – Fred is in his early 50s. He got caught up in the tech wave and overinvested his RRSP in science and technology funds in 1999. Then he didn’t bail out soon enough. Result: he has taken some big losses and doesn’t want any more. He’s edgy and considering putting this year’s contribution into GICs, even though he can only get 4% interest.
As an alternative, he might want to consider investing his contribution in a conservatively managed balanced fund. The risk would be somewhat greater, but so would the return potential.
He won’t find a better choice than the Trimark Income Growth Fund. It offers a combination of superior returns and below-average risk that would fit perfectly in an RRSP for someone in their early 50s.
Here’s a fund that gained an average of 10.7% a year over the three years to Dec. 31, and did so with better-than-average risk. To give you an idea of how great that performance was, the average Canadian balanced fund returned 0.3% annually over that time. Currently, the portfolio is almost equally divided between stocks and bonds, with about 9% in cash.
I recommend the SC (service charge) units because of their much lower management expense ratio. Ask your dealer to provide them on a zero commission basis. Many will do so.
Scenario #2 – Betty is 62. She hopes to retire in three years and does not want to take big risks with her RRSP savings. On the other hand, she feels that she does not have enough capital yet, and would like to earn a better return in her plan than a GIC would provide.
In this case, I suggest she divide her contribution between two funds. One would be Trimark Income Growth. The other would be an income trusts fund.
Income trusts funds have done well during the bear market. They are subject to interest rate risk, but that is offset to some degree by the good cash flow they provide. In Betty’s case, such a fund offers the potential for above-average returns. Plus it can be comfortably carried forward into a RRIF because of the regular income stream it offers. The main disadvantage of putting it into an RRSP is that a portion of the distribution is tax-deferred if received outside a registered plan. That tax break is lost in an RRSP or RRIF.
My first choice would be the Saxon High Income Fund, even though it requires a minimum initial investment of $5,000. Manager Richard Howson uses a value approach to select his securities and that shows through in the fund’s better-than-average risk rating when compared to the rest of the category. Performance has been outstanding, with a one-year gain of 9.3% to Dec. 31 and a three-year average annual compound rate of return of 17.3%. Distributions are paid quarterly. The fund can be acquired on a no-load basis if units are bought directly from the manager (Ontario residents only, call 1-888-287-2966). Otherwise, expect to pay a small commission.