Diversification

John came home and slumped into his favourite chair; he was exhausted.

He had just played 36 holes of golf with his three friends and since he turned 50 last week, he was finding it harder and harder to keep up with those friends (who were a few years younger than him). Since John got every third Friday off, he and his three friends made their Friday golf game a ritual. He enjoyed it immensely.

John hoped that once he retired in a few years he would have more time to golf, but what brought him the most joy was volunteering at the seniors’ home in John’s neighbourhood.

When John’s Aunt Mary became unable to care for herself several years ago, he took it upon himself to care for her. Mary lived in a different city and was all alone. Mary’s husband had died years ago and her only daughter, John’s cousin, died in a car accident last year.

John was Mary’s only family left. He didn’t know his Aunt Mary very well any more, but from what he did remember of her, she had always been kind and generous whenever he would visit. John took it upon himself to care for Mary and arranged for her to move into the seniors’ home in his neighbourhood.

Since Mary didn’t know anybody in the city, John tried to visit as often as he could. Mary’s face would always light up when he would walk through the door. John became a familiar face at the seniors home when he began to volunteer there as well. John found that there were many other residents who were all alone like Mary, so he continued to visit more and more.

Let’s go back to the present.

As John settled into his favourite chair, he grabbed his investment statements and was completely blindsided by what he saw. His investments were down almost 50% from this time last year – for John, that meant his funds were now at $250,000, down from the original $500,000 he started with several years earlier.

John was used to seeing his investments go up and down over the years, but this was especially bad. With John’s retirement on the horizon, this could seriously jeopardize when he would be able to retire. John needed some reassurance and he needed it fast.

Over the last few years, John had become more interested in investing and learned how important diversifying your assets was to long-term success. The phrase, “…not putting all of your eggs in one basket” had become familiar to him, and it made sense.

John had learned that a balanced approach was the best way to minimize volatility and losses in the market. A balanced approach usually meant a mixture of stocks and bonds, and how much you had of each depended on your risk tolerance and your long-term goals. However, when he looked at his investment statement, John didn’t see anything that resembled bonds or fixed income.

John had also learned that it was important to invest in stocks in different industries: financials, commodities, consumer discretionary, real estate, utilities….these were just some of the sectors a well-diversified portfolio should be invested in. John called his stock broker Will and arranged to see him the next morning.

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Why Diversify?

Diversifying your investments is key if you want to avoid many sleepless nights.

There are many different ways to diversify your investments, but the most basic approach is a three-tiered one. Assets can be categorized into three different classes: cash, fixed income, and equities. Cash is basically a savings account, but other lesser known investments like Treasury Bills can also be considered cash. Cash is very liquid, short term, safe, and linked to interest rates. With interest rates so low, savings accounts won't pay much more than 2%.

Fixed income investments are: GICS/Term Deposits, Government Bonds, and Corporate Bonds. For the most part, bonds are considered safer than equities because, when you invest in a bond, you have essentially lent a government or corporation some money for a certain period. In return, they will pay you interest and when the term has expired you will receive your money back.

Equities, or stocks, on the other hand, mean you take ownership in a company. If the company does well, you will see your investment grow. If the company does poorly, it will be reflected in your investment.

Click on this infographic to see how different asset allocations can affect the long-term performance and volatility of your investments. https://bit.ly/2miQY6q

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John had been working with Will for several years and he really liked meeting with him. Will was outgoing and confident and John felt that he was extremely smart when it came to picking the right investments. John was referred to Will by a friend a few years agowho had tripled his initial investment by following Will’s advice, and is now comfortably retired. John liked the sound of that, so he thought he would move his investments to Will.

John didn’t sleep much that night as he started to worry obsessively about how much his investments were down. John had worked hard all his life and although he hadn’t figured out the exact date, he knew he wanted to retire soon, most likely within the next few years. For his meeting the next day, John wanted to know two things: when could he retire comfortably and why weren’t his investments diversified?

Sources of Investment Stress

Regardless of market conditions, if you’re losing sleep at night over your investments, it’s certainly not worth it. If this is happening to you, it could be caused by a few things:

1. You’re watching the financial news too much - The financial press is in the business of selling and nothing sells better than bad news. What’s more interesting to the viewer: an everything is fine and normal story or prepare for the next disaster story? Although the financial press has been helpful to inform and provide context to the multitude of issues the average investor faces, it is often generalized information that may or may not have any meaning to you. A good financial advisor can tell you if it does.
2. You don’t understand the investments you’re in – The financial industry is partially to blame for this as many products are complicated and confusing with hidden costs. Many advisors recommend these products, some because they believe it’s the right thing to do, and others because it pays a high commission. Keep it simple is the best approach. As Warren Buffett said, you’re investing in businesses, not stocks. Does the business you’re investing in have a great product or service that will be around for a long time with a competitive edge? If not, consider something else.
3. You have no idea what your goals are - If you don’t what you’re trying to achieve then anywhere will do. Do you know what average return you need to achieve your goals? 3%, 4%, 5%? You should know what you need and the proper allocation to do it. This should be determined before you choose any investments.

When John entered Will’s office, he could tell right away that Will seemed pre-occupied and distant. Will started the meeting by reassuring John that although some of his investments were down, he was fairly confident that they would come back.

John thought this was quite a bit different from what he had been telling him before, that although all of his investments were considered high risk, Will was very confident that all of the stocks would double or triple in the next few years.

When John asked Will why he thought that, Will said that he had talked to a few people, “who were on the inside” and Will trusted them completely. That didn’t sound too reassuring to John, but at this point he didn’t have much choice other than to stay invested.

At the end of the meeting, John was more annoyed and concerned than when he started. When John had asked about doing some retirement planning, Will said he didn’t really provide that service and he directed John to a website.

When John tried to go to the website, he found that the link was broken and the website was no longer available. With respect to John’s question about having a diversified portfolio, Will said that his investments were diversified. John had all his money invested in four companies spread across four sectors: commodities, financial, mining, and consumers.

John didn’t know much about investing, but he didn’t think it was diversified at all.

John didn’t have any fixed income investments, nor did he have any investments outside of Canada. With Canada making up only 3% of the world’s Gross Domestic Product (GDP), John thought, “why would I want to limit my choices when there are so many more growth opportunities in other parts of the world?”

Mary could tell that John was pre-occupied and worried when he sat down to visit with her. John updated Mary about his situation and that he was unsure of what to do. Mary suggested that John get a second opinion from Mary’s financial advisor, Susan.

Working with an Advisor

Mary had been working with Susan for a long time, and even though Mary lived in a different city, Susan would still come to visit her once a year to discuss her investments and answer any questions she had. John was reluctant to admit that he might have made a mistake investing all his money with Will, but at this point a second opinion certainly wouldn’t hurt.

John called Susan, and Susan was willing to meet with John the next time she went to visit Mary. Fortunately for John, Susan would be coming to see Mary in a couple of weeks, so John wouldn’t have to wait long.

When John sat down with Susan, one of the first things she asked him about was his financial or retirement plan. When John said that he had never completed one, Susan wasn’t that surprised. Susan knew there are many professionals working in the investment industry and the service they provide can vary widely.

Some advisors focus on recommending stocks while others will recommend high risk market exempt products. Others focus mainly on insurance products and still others would recommend only certain mutual funds.

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Who Should You Work With?

The investment industry is full of industry titles: financial planners; financial advisors/advisers; brokers; estate planners and several others. The most important things to consider when working with any individual is to ask yourself a few questions: are they competent, ethical, and do they solve problems for you?

The Financial Consumer Agency of Canada has a list of questions you should ask anyone you are considering working with https://bit.ly/2ECygvE. Also, you should consider working with individuals who are Certified Financial Planners: https://www.fpcanada.ca/findaplanner.

Other considerations should be:

1. Do they have more than one product to sell? In other words, can they recommend a product outside of the firm they work for? You wouldn’t build a house with just a hammer, so why take the same approach to your finances?
2. How are they paid? This should be clearly explained in the first or second meeting with them.
3. Do they do this full-time or as a hobby? If it’s the latter, consider using someone else.

Susan advised that she focused on solving her clients’ financial problems: debt; planning for their child’s post-secondary insurance; protecting the important things in their life; and for most people, retirement planning.

Since Susan was a full-service advisor (she could recommend anything, not just proprietary products), she could focus on what really mattered to her clients – what’s keeping them up at night and how to fix it. Although John was anxious to discuss his investments, he also wanted answers to his biggest question: could he still retire in a few years as planned?

Afterwards, Susan walked John through her retirement planning process that she called, “Finding Your Balance” which John found not only fun and enjoyable, but insightful as well. Susan had John clearly identify not just what was important to him, but also why.

Susan counselled that only focusing on “how much” someone needed in retirement and ignoring the “why” can create investors who are less likely to achieve their financial goals, especially when markets get volatile.

After Susan helped John identify his retirement goals and the corresponding return he needed to achieve in his investments, he came to some difficult realizations. Although he enjoyed Susan’s process, he was very disappointed that it was unlikely he would be able to retire when he originally planned. The good news is that after transferring his investments to Susan, the recommendations she made were working out well. John had accepted the fact that the money he had previously lost would be gone forever.

Although John was upset about that, he was more upset with himself that he never bothered to complete a retirement plan or any sort of projection until he was close to retiring. However, he felt that if he had started with Susan that he would’ve completed one from the very beginning and his investments would have been more personalized to what he was trying to achieve.

Long-term Relationships

Two years after John first met Susan, he sat down with her again in her office to discuss some estate matters regarding Mary’s account. Mary passed away a couple of months ago leaving John as the executor of the account. There was a lot to go over.

Although John missed Mary a lot, he was grateful for the time he was able to spend with her. Mary was the one who introduced him to Susan as well as encouraging him to volunteer at the care home she lived in. The other good news for John is that Mary had made John a beneficiary of her estate. Although it wasn’t huge, it was enough to shave off a few years of working for him. With Susan’s guidance and counsel, John was certain that he would be well taken care of.

Brent Misener is a Financial Advisor with Raymond James Ltd. The views of the author do not necessarily reflect those of Raymond James. Statistics and factual data and other information are from source Raymond James Ltd. (RJL) believes to be reliable but their accuracy cannot be guaranteed. Information is furnished on the basis and understanding that RJL is to be under no liability whatsoever in respect thereof. It is provided as a general source of information and should not be construed as an offer or solicitation for the sale or purchase of any product and should not be considered tax advice. Raymond James advisors are not tax advisors and we recommend that clients seek independent advice from a professional advisor on tax-related matters. Securities-related products and services are offered through Raymond James Ltd., Member - Canadian Investor Protection Fund. Insurance products and services are offered through Raymond James Financial Planning Ltd., which is not a Member - Canadian Investor Protection Fund.