February 10, 2009


Title: Thinking of skipping your RRSP contribution?

Sub-title: Falling stock markets cost RRSP investors billions of dollars last year, so the temptation to skip contributions this year is great. That would be a big mistake.


With this yearís March 2nd RRSP contribution deadline looming, the last couple of weeks have been an awkward time for taxpayers. Close to six out of 10 Canadians families hold at least part of their savings in those tax sheltered retirement savings accounts. Over the years, many have gotten used to the big tax refunds that come when they put money into their RRSPs. The problem is that in recent weeks, many of those retirement account holders have also been getting ugly statements from their investment advisors.


The Toronto Stock Exchangeís benchmark index (the S%P/TSX) fell by close to 35 percent last year.  U.S. indexes such as the Dow Jones Industrial average and the S&P 500 fell by similar amounts. The NASDAQ composite lost a stunning 42.1 per cent. That means losses in the tens of thousands of dollars were common for RRSP holders whose portfolio holdings were balanced between stocks and bonds, as many experts recommend.


Not surprisingly after experiencing that kind of damage, the temptation for many RRSP investors to skip contributions this year is real. That would be a bad move.


A valuable retirement tool

Registered Retirement Savings Plans have become so ubiquitous here itís easy to forget just how valuable a savings tool they have become. Few companies provide their workers with secure pensions these days. So Canadians (except for the privileged few, who benefit from the plush packages offered to government workers) have been left to fend for retirement on their own. Over the years, RRSPs have emerged as their tool of choice.


According to Statistics Canada, during 2007, 6.3 million tax-filers contributed to RRSPs, 1.6 percent more than during the previous year. Furthermore, the value of their contributions shot up by 5.3 percent to $34.1 billion.  Among families in which the major income recipient was aged between 25 and 44, more than half (56 percent) have RRSPs. For those aged between 45 and 54, the total rises to 68 percent.


Balanced portfolios hit hard

Statistics Canada did not provide data as to how much of those RRSP funds were parked in stocks, bonds, GICs or other vehicles. However in general, financial advisors recommend that savers split their holdings between fixed income and equities investments.


To see one reason why, check out Bankrate.caís chart (http://www.bankrate.com/can/graphs/graph_trend.asp?product=337&prodtype=D&ad=dep&cc=2) of GIC returns. As of this writing Canadian banks were paying just 1.5 percent worth of interest on one year redeemable GICs. Thatís not a lot. In fact in many years, thatís less than the inflation rate, which means that GIC holders actually lose money.


To compensate, advisors recommend that retirement savers invest a portion of the RSP holdings into stocks, which over the long term generate higher returns than do fixed income investments. The problem is that stocks are far riskier than bonds, a fact that became clear in spades last year. As a result, the lack of enthusiasm among many Canadians to give more money to their investment advisors to manage, is understandable to say the least.


Stay the course

The problem is that those who buy shares when stocks are down, are far more likely to make money than those who buy them when they are fully valued. The challenge for those who have lost money last year, is how to keep your cool and keep investing, even though the pain of recent declines is still fresh. That challenge is made even harder by the fact that it is by no means certain that stock markets will bounce back any time soon.


To help overcome the challenges of investing money in down markets, investment advisors have come up with a strategy called ďdollar cost averaging.Ē  Dollar cost averaging means buying shares consistently and steadily in both up markets and down, knowing that sometimes you will pay too much for a stock and sometimes you will pay too little. Many investment firms even offer plans which allow your employer to automatically deduct money from your paycheck, so that they can spare you the temptation to chicken out of investing during rough patches.


Now is precisely the time when such a plan would come in handy.

Thatís because things look terrible for equities. After its recent declines, the S&P/TSX is now trading at levels it was at more than ten years ago. When that happens, the market tends to generate above average returns during the following ten years.


The other option open to RRSP investors is to simply make your annual contribution, take the tax deduction and to forget about balancing your holding between fixed income and equity investments.  Simply putting your 2008 contribution into one of those low yielding GIC, may not earn you as strong a return, but at least it will allow you to sleep at night.


Peter Diekmeyer (peter@peterdiekmeyer.com) is a Montreal based business and economics writer.








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