Advice services may be poised to play a greater role in assisting Canadian investors in diversifying their long-term savings— including their registered retirement savings plans (RRSPs), Canada’s version of defined contribution. A greater degree of advice would enable Canadians to avail themselves of their full contribution allowance for RRSPs, which hold C$377 billion (US$245 billion) and another C$306 billion in unused ‘room’ carried for-ward from previous years. (RRSP ‘room’ refers to the maximum amount that can be deducted for income-tax purposes as an RRSP contribution.) Maximum RRSP contributions are capped at C$13,500 to 2004, C$14,500 in 2006 and C$15,500 thereafter.

Since the September 11 terrorist attacks, more Canadians are seeking financial advice for their long-term investments. More than 40% of respondents polled by Market Facts of Canada on behalf of Manulife Financial in a late 2001 survey cited the greater importance of professional advice to help manage long-term investments. Of those that already use financial advisers, 68% had sought advice in the three months following September 11.

Of the 77% surveyed that invest in RRSPs, 82% had planned to make a contribution by the end of the 2001 tax season or February 2002. Only 16% said they had no plans to make a contribution, whilst 2% declined to answer. Amongst RRSP members, 46% said they are now making regular contributions to their RRSPs, whilst 28% plan to make a lump-sum contribution before the end of February to qualify for tax relief.

According to a recent survey by market research company Ipsos-Reid, advice could play a greater role in assisting investors to maximise their permitted foreign exposure within RRSPs. The average foreign content of RRSP portfolios was around 9.9%—significantly below the 30% allowable limit (recently raised from the previous 20%). Investors that work with advisers tend to have twice the foreign content (12%) as the average self-directed investor (6%). The poll also found that 88% of RRSP members claimed to have less than 25% in foreign holdings—a considerable number of respondents have no foreign holdings whatsoever. The results were part of the findings of the 11th annual RRSP poll sponsored by RBC Financial Group and released in the first quarter of 2002.

Canadian financial services companies are continually striving to encourage their clients to invest more outside of Canada to achieve greater diversification. In terms of market capitalisation, Canada represents less than 2.5% of global markets. As most Canadians are further tied to the domestic market for their jobs and housing, the true picture of their total financial holdings is even less diversified. The collective retirement income nest egg of Canadians exceeds C$1 trillion—many believe that to invest 70% of this asset base in a market representing a tiny percentage of global markets is dangerous from a diversification perspective.

Reasons for shying away from international investing range from a belief that foreign assets are riskier to complications in dealing with multiple fund providers. Foreign content can outperform domestic investments, however. Should the foreign content then rise above the cap, investors could find themselves in a penalty situation unless they avail themselves of monitoring and rebalancing services. Cerulli Associates contends that this rebalancing would be less onerous if RRSPs and advisers employed managed account-type rebalancing systems.

Originally, the rationale behind the foreign content rule was that as pension investments are tax advantaged, assets should be used to benefit the local economy. The counterargument is that investments are not tax advantaged but tax deferred—taxes will eventually be levied upon draw-down. Should the foreign content rule disappear, assets of foreign investors would replace those of local pension funds leaving the country. There are ways around the foreign content rule but they are often costly and have more risk (the use of derivatives).

Source: Cerulli Edge Retirement Issue – August 2002