A new retirement survey from BMO shows Canadians are on track to make a record average contribution of $7,447 to their registered retirement savings plans (RRSPs) this year.
That would put it 14 per cent over last year but squeaking by the March 3 deadline is only the first step in making those dollars grow to retirement. What really matters is how your contributions are invested and compound over the span of years or decades.
That’s a lot to absorb when you’re shaking the cushions and cashing in empties to get a tax refund in the spring. Financial institutions often suggest “parking” contributions in cash for the short-term while you figure it out, but cash likely won’t generate the growth you need.
Most advisors target average annual returns of three per cent to six per cent after inflation and that requires a strategy that can minimize risk and maximize opportunity by diversifying an RRSP investment portfolio across asset classes, sectors and geographic regions.
RRSPs can be invested in just about anything that trades on major markets. A qualified advisor can help create the right mix, but here are some examples of investments that are well suited for an RRSP.
Fixed income
Interest rates have cooled over the psst year but annual yields on fixed income like investment grade bonds and guaranteed investment certificates (GICs) have remained at around four per cent.
That provides a greater incentive to reduce portfolio risk by shifting assets from equities to fixed income.
Fixed income is ideal in an RRSP because it has plenty of time to compound.
Opportunities to get the best yields are more frequent if maturities are “laddered” over various periods of time.
Mutual funds
Most Canadians invest for retirement through mutual funds because it’s the only way for them to get diversification through professional investment managers.
There are thousands of mutual funds available on the market that span geographic and sector lines.
Many mutual funds outperform their benchmark indices over long periods of time but most don’t due to annual fees as high as three per cent.
Exchange traded funds
Exchange traded funds (ETFs) can provide a similar level of diversification for a sliver of the cost of mutual funds.
Instead of having a manger choose the holdings, ETFs mimic the holdings in an underlying index such as the S&P 500 or S&P/TSX Composite. ETFs that track specific sectors or geographic regions can also provide diversification without the risk from individual stocks.
The most basic ETFs are market-weighted; meaning the weighting of any particular holding in an ETF fluctuates with its price at any given time.
Canadian stocks
As the value of a portfolio grows, investors can break free from annual fees and diversify by investing directly in stocks. The best stocks for an RRSP are those with long histories of growing earnings over time, strong fundamentals for future earnings, and paying consistent dividends.
For that reason, the big Canadian banks have become staples in RRSPs, along with the big telecommunications providers and many energy companies, such as pipelines.
A reliable income stream is important as the time to withdraw cash nears. The best income sources are stock dividends and yields from bonds or other equities such as real estate investment trusts (REITs).
U.S. stocks
Considering Canadian equities account for less than three per cent of global equities, it’s important to hold a significant portion of an RRSP outside Canada.
The S&P 500 trades out of the U.S. but is diversified on a global level. Most Canadian trading accounts have access to large U.S. companies but U.S. mutual funds or ETFs could be a better way to diversify.
Diversification also applies to currencies. Holding a significant portion of an RRSP in U.S. dollars comes in handy for retirees spending time outside Canada; especially when the loonie is flying low.
Canadian currency hedges on foreign investments can also be costly. Annual fees on Canadian dollar hedged versions of U.S. funds can be half of a per cent higher than the unhedged version.
