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Table of Contents
Put your financial adviser on a leash
February 11, 2000
100% Foreign content for your RSP
December 22, 1999
Tax Loss Selling or Dealing With Your Mistakes
November 26, 1999
Life Stages of your RRSPs
November 12, 1999
Just give me boring (but great) rates of return
November 3, 1999
De-mystifying Demutualization - part Two
October 25, 1999
De-mystifying Demutualization - part One
October 19, 1999
Seg funds for the simple minded
September 14, 1999
The interest rate game Part 2
August 12, 1999
The interest rate game Part 1
July 30, 1999
Choosing funds: Five for the long run
July 14, 1999
New Funds: To buy or not to buy
July 2, 1999
Making sense of momentum investing
June 18, 1999
Rating the fund managers
June 4, 1999
Resource recovery hinges on supply and demand
April 30, 1999
Tech funds draw strength from favourable trends
March 24, 1999
Withdrawing from your RRSP
March 9, 1999
The economic implications of the euro - An interview with Ranga Chand
February 12, 1999
Underperforming small-cap funds have strong upside potential
January 29, 1999
How to pick a winning equity fund portfolio
January 15, 1999
View the Weekly Insight archive
   

Put your financial adviser on a leash

So a professional is managing your money? That’s great. Now you just have to manage your manager.

KELLY RODGERS,
CFA,
Friday, Feburary 11, 2000

This is the time of year many of us get a phone call from our financial adviser nudging us to make an RRSP contribution. Actually, this is the only time of the year many of us hear from our adviser–one quick phone call looking for more money.

That’s simply not acceptable. Whether your portfolio is $50,000 or $500,000, you deserve more than one rushed conversation every 12 months. You have to make sure your adviser knows your goals and is held accountable.

The easiest way to do that is by copying how huge institutions, such as pension funds and foundations, manage their financial advisers. These institutional investors always write up an investment policy statement or a statement of investment policies and goals. You can think of these documents as a financial adviser’s job description.

You should write up a similar document with your adviser. It doesn’t have to be complicated or overly technical. Its mission is simply to set out your own background, your investment objectives and your risk tolerance. Done right, it’s a tool that you can use to hold your adviser accountable and to keep both of you focused on your objectives rather than on the latest hot product.

Here's what you should include:

The background and overview section will identify you, your personal situation and your objectives for your assets. Are you self-employed or do you work for a company? Do you receive bonuses or stock options? Have you made any investments in private companies that don’t appear in your portfolio, or are the assets listed in your portfolio the bulk of your investments? Did you inherit the portfolio and want to pass it on to your children, or did you sell a business? Do you have dependants whom you have to provide for, or do you expect to inherit significant assets? Do you need income from your portfolio now or do you expect to in the future? Do you anticipate needing this capital in the next few years or not for a few decades? All of these issues should be addressed in three or four paragraphs.

The next section should deal with your return expectations. Do you want a moderate rate of return or are you looking for the higher returns that more aggressive investing might provide? Do you require a minimum cash flow from the portfolio to meet your living expenses? Is there a specific dollar amount that you require at some point in the future? Do you want most of your return to come from capital gains or do you prefer a combination of capital gains, dividend income and interest income?

How much risk are you willing to take to meet your return expectations? Make sure you and your adviser both define risk in the same manner. Risk tolerance should also be addressed from two perspectives: financial risk tolerance and emotional risk tolerance. Investment professionals often define risk as volatility–in other words, how much your investments will rise or fall in a given period. Individuals usually define risk as the potential to lose money or not meet their goals. How comfortable will you be if your portfolio goes down 5%, 10% or 20% in a single period? How long are you content to hold on to fallen investments–three months, one year or three years?

There’s one question that deserves special attention: how upset will you be if your portfolio holds up well in down markets but trails badly in good markets? Investors always complain about bad risk (not meeting your goals or taking losses), but never complain about good risk (gains of 30% to 40%). It is critical that you and your adviser understand your personal risk tolerance and your definition of risk.

You should set out an asset mix based on your return objectives and risk tolerance. This section will identify how much of your portfolio will be in cash, how much in fixed-income investments such as bonds, and how much in stocks. Most policy statements specify a normal asset mix (usually called the benchmark) as well as minimum and maximum ranges. In Riding the ranges (below), I’ve outlined the typical figures for an RRSP or pension portfolio.

Why bother setting maximum and minimum limits? Because they help you control risk. If one area of your portfolio is booming and the value of those assets is soaring, the restrictions act as a restraint, forcing your adviser to re-balance your portfolio by investing in less popular areas. That prevents him or her from making big bets on any one type of asset.

Riding the ranges

A typical RRSP or pension portfolio operates within the following ranges:   
  MINIMUM BENCHMARK MAXIMUM
CASH 0% 2% 10%
FIXED INCOME 28% 38% 48%
CANADIAN EQUITY 30% 40% 50%
FOREIGN EQUITY 10% 20% 20%

You may want to impose special constraints on your portfolio for regulatory or ethical reasons. For instance, if your portfolio is held within an RRSP, you must abide by the 20% limit on foreign content. Some people also insist that they own no so-called sin stocks (such as cigarette or alcohol makers). If you want to impose ethical guidelines, you should define exactly what you mean. You might, for instance, state that no investments will be made in companies that obtain more than 20% of their revenue from the manufacture of armaments or gambling, and efforts should be made to ensure that companies in the resource sector engage in sustainable development practices.

Finally, you should lay out an evaluation procedure for your adviser. This procedure should define how you will judge your adviser’s investment performance and his or her service over a specific period. How often do you intend to review performance against your return and risk objectives? Will you meet your adviser annually, semi-annually or quarterly? This evaluation is your adviser’s performance review. It should be scheduled regularly, not just when a crisis hits or when RRSP season rolls around.

Kelly Rodgers, CFA, president of Rudgers Investment Consulting. This article was published in Money Sense. Visit www.moneysense.ca or e-mail at abeckett@moneysense.ca

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