Diversification is a sound and proven investment philosophy that can help you take advantage of opportunities in many sectors of the economy, while simultaneously reducing investment risks.
Diversification strategies may involve distributing your invested funds among various industries and asset classes. However, in an increasingly global investment arena, it is also important to consider the benefits of investing in international markets.
Foreign markets represent 98 percent of the world’s capitalization, but under Registered Retirement Savings Plan rules, foreign investments are limited to only 30 percent of a registered plan’s book value.
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However, the following investment products and strategies can increase your exposure to foreign markets while staying within the established foreign content limits.
Leveraging mutual funds
Canadian mutual funds that invest in foreign securities within the 30 percent limit are classified as domestic investments for RRSPs.
By selecting Canadian mutual funds that maximize foreign investments as part of your 70 percent Canadian content, you can effectively increase the foreign content of your RRSP to a maximum of 51 percent.
Foreign mutual funds
A number of mutual fund companies have introduced RRSP-eligible foreign mutual funds as another way for investors to increase their RRSP’s foreign content.
In structuring RRSP-eligible foreign mutual funds, the fund companies enter into forward contracts with leading financial institutions to create indirect exposure to the foreign investments in an underlying mutual fund.
However, keep in mind that although RRSP-eligible foreign mutual funds will increase your foreign content, their returns may lag behind the returns of the underlying fund due to the cost of the forward contract plus operating costs of the foreign RRSP-eligible fund.
Segregated funds
The Canada Customs and Revenue Agency has postponed the implementation of legislation that will limit the foreign content of segregated funds until Jan. 1, 2002.
Until then, insurance companies may designate their foreign-content segregated funds as domestic.
Asset-linked notes
ALNs are special fixed-income securities that are issued by Canadian banks or government agencies such as the Business Development Bank or the Export Development Corp.
They are similar to bonds because they offer principal protection along with interest income.
The interest income is based on gains, if any, in underlying assets to which the notes are linked – usually a basket of stocks or a selected market index.
Some ALNs offer exposure to foreign markets through a link to a foreign index, like the Standard and Poor’s 500 or the Japanese Nikkei.
However, because Canadian issuers offer ALNs, they are considered Canadian content for registered plans and do not affect the foreign content of your RRSP.
Consolidate your plans
Consolidating your plans within a single self-directed RRSP account can make maximum use of your foreign content for better diversification.
If you have smaller RRSPs held at various financial institutions, you may find that funds available within each account for investment in foreign securities are too small to meet minimum investment requirements for certain products.
Consolidation provides access to a greater choice of foreign investments with which to diversify your registered portfolio.
Strategic selling
You can effectively increase the book value of your RRSP, without additional contributions, by selling or redeeming for cash securities on which you have enjoyed good returns.
You can then use the cash to buy new investment products.
However, remember that if your book value increases, so can the absolute dollar value of your foreign investments.
You may want to consider a strategic selling strategy after carefully reviewing your portfolio with your financial consultant.
Ian Morrison is a financial consultant with Wood Gundy Private Client Investments in Calgary and is licensed to sell insurance products. His views do not necessarily reflect those of CIBC World Markets Inc. This article is for information only. Morrison can be reached at 800-332-1407 or by e-mail at ian.morrison@cibc.ca.
