Sleep-Easy Investing

What is your number one investment priority? Beating the market averages? Finding the next “hot” stock? Making huge profits you can brag about at cocktail parties? Or, more modestly, making 10 per cent a year on your money?

If you found yourself nodding in agreement at any of those suggestions, you need to find a quiet corner and rethink your whole approach to money management.

The number one goal of every investor should actually be to sleep comfortably at night.

Simplistic? Sure! But if you adopt it as your basic credo and judge all your investment decisions on how well they meet this down-to-earth test, I predict that both your health and your wealth will benefit.

It’s easy to do. Whenever you are faced with an investment decision, ask yourself: “Is this likely to cause me any serious anxiety down the road?” If the answer comes back “yes” or even “possibly”, pass on. There are lots of other places for your money.

I get e-mails all the time from people who didn’t take this approach when faced with a major financial decision and ended up deeply regretting it.

One came from a 62-year-old couple who hd been persuaded to take out a home equity line of credit and invest the money in mutual funds. They were down $10,000 within the first three months. The wife was desperate to bail out, even though it would cost them thousands of dollars in deferred sales charges. The husband wanted to stick it out. How well do you suppose those folks were sleeping?

Another was from a man who had ignored all the warnings about aggressive tax shelters, including official press releases from the Canada Revenue Agency, and put a lot of money in a sleazy scheme. His deduction had been denied and he was being audited. He wanted some advice from me but at that point there was little to suggest. If he had applied the “sleep well” test at the time, he would have avoided all this misery.

Many of us have bought stocks that we knew little about on the basis of a tip from a friend or a persuasive broker because, we were assured, it was about to “take off”. In most cases, “crash land” would have been a more accurate prediction. Using the “sleep well” test before making the purchase would have saved us worry and money.

I raise this subject now because we are approaching a period that could be highly stressful for investors who don’t make sleeping comfortably their main goal.

Concerns are growing that the sharp downturn in the U.S. housing market is the precursor to a significant economic slowdown. In fact, the dreaded “R” word is being heard more frequently than at any time since the high-tech crash, with some economists saying there’s a 50-50 chance the U.S. will slip into recession in 2007.

The rapid fall in the price of oil to below US$60 a barrel is at least partially attributable to these growing fears. Weakness in the energy sector has in turn weighed heavily on the TSX, which is well down from the record high reached in April.

This gloom-and-doom comes right in the middle of the year’s most anxious times for stocks. Historically, October has been one of the worst months for the markets and just in case you forget the media will remind you of it almost daily. That creates a kind of hair-trigger tension; the slightest hint of bad news can spark a major market sell-off.

What does the investor do in this situation? Here are my suggestions for creating a Sleep-Easy Portfolio.

Take some profits. The Canadian stock market has had a wonderful run, especially in the energy and mining sectors. But these things never last forever and there are signs that we’re already past the peak. So why not pocket some of your gains while you can? Sleeping comfortably doesn’t only involve buying decisions; it’s also a matter of understanding when to sell.

Hold some cash. Cash assets are offering better returns than we’ve seen in some time. You can earn 3.85 per cent in the high-interest accounts now available from companies like Altamira, Manulife, and Dundee Bank. Within a non-taxable registered plan, that’s a decent return.

Buy some bonds. It was a bad year for bonds as rising interest rates finally took their toll on the fixed-income market. Investors in bond mutual funds were lucky to make any profit at all; the average diversified bond fund gained only 0.98 per cent in the year to Aug. 31.

That’s already changing. Bonds have rallied since both the Federal Reserve Board and the Bank of Canada put interest rate hikes on hold. There are still concerns about inflation but my feeling is these will dissipate as the full impact of the end of the U.S. housing bubble begins to be felt across the economy and lower oil prices take hold. By this time next year, it would not surprise me to see both the Fed and the Bank of Canada back in a rate-cutting mode. It that happens, today’s government bond prices will look like bargains.

Buy preferred shares. These are classic Sleep-Easy Portfolio securities and the enhanced dividend tax credit makes them more attractive than ever for a non-registered account. A top-bracket Ontario taxpayer now pays only 25.09 per cent on dividend income, down from 31.34 per cent last year according to Ernst & Young. For an Albertan, the top marginal rate is a piddling 14.65 per cent compared to 24.08 per cent last year. Think about it: great tax breaks at virtually no risk, if you pick your investments carefully.

Buy low-risk stocks. Banks, insurance companies, and utilities may not be exciting but packing your portfolio with them will certainly help to keep those midnight anxieties at bay. Yes, they may slip in value during a bear market but they always come bouncing back and the dividends they pay offer a steady source of income.

If all this seems rather dull, it is. There are times when boring is good – and haven’t you noticed how much easier sleep comes when you’re bored?