Globe Advisor is moving, click here to see

Advisor Context

photo: fixedincome

Alternatives for the hard-luck conservative investor

Preferred shares, investment-grade bonds and mortgage pools can offer solace to the risk-averse


Date: May 10, 2016

It’s a tough time to be a conservative investor. Those who are dependent on fixed-income securities to provide peace of mind and all-important income once found some hope that the United States would lead the way and raise interest rates. But that hasn’t happened, and today’s ultra-low-rate environment looks to be locked in for the foreseeable future.

So what’s a conservative investor to do? Sticking with guaranteed investment certificates and government bonds may be the safe choice, but the meagre returns at best only keep pace with inflation. By being too safety-conscious, are you putting your retirement portfolio at risk?

That’s the argument that financial adviser Mark Therriault makes. Those who depend on GICs and government debt for safety could end up with zero or negative returns when accounting for inflation.

“In our opinion, that is a risk in itself,” says Mr. Therriault, of Nicola Wealth Management in Vancouver.

His firm advises conservative investors to broaden their horizons. It operates two commercial mortgage pools, which offer securities backed by first and second mortgages across Canada, as an alternative fixed-income investment for clients. Investors face some risk, but first mortgages are backed by the value of the real estate, and the returns would be far better than a five-year GIC.

“We would generally structure a portfolio that consists of many other asset classes than just the first mortgage pool,” Mr. Therriault said.

“We want to be trying to generate cash flow while we hold investments, and we don’t want to be putting all our eggs in one basket.”

Another option his firm offers conservative-minded investors is real estate in Canada and the U.S. Nicola buys real estate directly, and clients can own it through funds that pay a monthly cash flow.

“Would owning a real estate asset be riskier than owning a GIC? Yes. But we believe we can build a truly diversified portfolio with different assets that generate cash flow and are essentially non-correlated to each other, and we can generate more consistent returns and obviously better returns than by owning GICs.”

Mr. Therriault also warns that ultra-conservative investors face tremendous interest-rate risks, given today’s very low rates. He compares the risk of a one-year GIC compared with a 10-year GIC.

“A 10-year GIC, even though it pays you a higher yield, is significantly more risky,” he says. If interest rates begin to rise, the owner of that 10-year GIC will either be forced to hold it and collect subpar returns or sell it at a discount.

Given that interest rates likely have only one direction to go – up – investment strategies such as laddering fixed-income investments by staggering maturity dates only seem to be providing structure to that interest-rate risk, some experts say.

Matthew McGrath, a senior partner and portfolio manager at Optimize Wealth Management in Toronto, is instead recommending a mix of fixed-income-oriented options. Among them are preferred shares in the big Canadian banks, which can be purchased through low-cost exchange-traded funds and can yield 6 to 7 per cent, he says.

He also recommends Canadian investment-grade bonds that offer returns of 3 to 4 per cent, and U.S. investment-grade bonds that offer more diversity, better returns and potentially better credit quality. Again, he steers people to ETFs to play these investments and to buy funds that hedge against currency risk.

“GICs are nice, but the downside of GICs, besides their interest rates being so low, is they are not liquid unless you buy a cashable GIC,” says Mr. McGrath. “But most people buy a one- or two-year GIC and all of a sudden interest rates go up and they want to move money out and they are stuck.

“All of the things I recommend are available through ETFs, are very liquid, and you can be invested a month or a quarter and easily rebalance,” he says.

He also includes equity in the big Canadian banks as an option for investors, given their generous dividend payouts. Banks also provide the added allure of being net beneficiaries of higher interest rates should borrowing costs ever begin rising again.

Michael Wise, a Calgary-based financial adviser, is not expecting rates to rise soon and recommends that conservatives stick to short-term bond funds.

“What I found for the conservative person is the last time short-term bond funds lost money over the course of a year was 1994, when interest rates bounced up very suddenly,” he said.

Mr. Wise doesn’t hold out much hope for investors who value safety above all else.

“A super-conservative person is in deep trouble, quite frankly, and should blame the Bank of Canada for that or actually probably the U.S. Federal Reserve. But nevertheless, the central banks are the ones that are screwing savers and old people.”

Advisor Context

Having two advisors usually not better than one Top books for investors, recommended by the pros