Diversification

Diversification is the spread of investment risk by buying different securities in different companies in different businesses in different locations at different times.

Diversification Strategies

Investment risks can be reduced by choosing various investments in a like class of risk. For example, business risk can be minimized by buying shares in more than one company. Interest rate risk can be reduced by buying bonds with different maturities. Inflation risk can be minimized by including equities in an investment portfolio. Equities do not offer safety of principal but historically have provided the highest real return of any class of investments. Inclusion of fixed income investments in a portfolio offsets the lack of safety of equities. While all foreign holdings include exchange rate risk, international diversification minimizes the market risk of having a portfolio’s performance dependant on the systematic risk of the Canadian economy.

Diversification through Mutual Funds

Diversification is possible through investment in mutual funds. Mutual funds are pools of money from thousands of investors; Professional portfolio managers make their living by managing these large pools of other people’s money. Fund managers attract investors by devising investment strategies that will address specific investment objectives. The mutual fund’s prospectus describes the investment policies and strategies the fund follows.

Diversification through Increased Foreign Content

Why increase your foreign exposure? The answer is very simple: lower risk and higher returns. Over the last twenty years or so, the return on the Canadian stock exchanges has been somewhat lower that that of the stock exchanges in the United States and many other countries. There are many reasons for this including the devaluation of the Canadian dollar, the dependency of the Canadian economy on resources and the Bank of Canada’s battle against inflation.

Canadian stock exchanges make up only 2 to 3% of the world’s stock market capitalization. Canadian stock exchanges provide only a very small portion of the investment opportunities in the world and until recently, they have not historically performed well relative to some other countries’ stock exchanges.

Ideally, an investor should be able to pursue investment opportunities anywhere in the world in search of the best return for an acceptable degree of risk. If those opportunities exist in Canada so much the better. Reality however is that relatively few individuals in Canada are aware of the implications of this important aspect of investment planning.

The fact is ownership in foreign investments offers the prospect of higher investment returns, increased diversification, while lowering investment risk.

Today, there are many foreign investment products that are fully eligible as 100% Canadian content held inside your registered retirement plan. It is now possible to increase your foreign exposure well beyond your 30% foreign content limit in your registered retirement plans.

The information contained in this commentary is designed to provide you with general information only, and is not intended to be comprehensive advice applicable to the circumstances of any individual. We strongly urge you to seek professional assistance before acting upon information included herein.