Back in the mid-1990s, an elderly client paid a visit to Keith Richards, today a portfolio manager with ValueTrend Wealth Management of Worldsource Securities Inc., in Barrie, Ont. She had a question: Why did he have her so heavily invested in bonds offering a return of a (then) measly 6 per cent?
After explaining the benefits of low-risk investments for those who depend on their portfolio for income, he says she was still irritable.
"Well, my neighbours are all making 15 per cent on income trusts," she told him.
At the time Mr. Richards was already seeing the writing on the wall for income trusts. Too many people were making too much money on them, and if he knew anything about crowd behaviour, he was pretty sure they were set to take a dive. He was already calling other clients and asking them to sell before the market bottomed out. In short, despite her request, he refused to move her money into income trusts. So she moved her accounts to a stockbroker who would.
It's easy to guess what happened next. The bubble burst a few months later and income trusts lost 30 to 40 per cent of their value.
"I hate to say it, but I would have loved to have been a fly on her wall when she opened her statement," Mr. Richards says, adding that he never heard from the woman again.
To be fair to his client, it's easy to get caught up in the hype when a new initial public offering (IPO), hot stock or investment vehicle hits the scene. Some investment opportunities are more fashionable than others and it's tempting to fill a portfolio with them.
But building a well-structured portfolio is a lot like building a clothing wardrobe. That stylish new pair of earrings or smart shirt give us something to feel good about, if only for one season. But, fill your wardrobe exclusively with neon leggings and pastel suits, and you'll probably be sorry next year. The trick is to focus on buying clothes – and investments – that will stand the test of time.
Jonathan Rivard, a financial adviser with Edward Jones in Richmond Hill, Ont., agrees, saying that people would do well to remember their investing objective. Chances are, that's retirement.
"When it comes to investing, you want to buy something that you think will still be quality 10 years from now," he says.
The problem, says Jamie List, a certified financial planner with Bearing Capital Partners in Mississauga, is that we live in a culture that applauds making quick profits. It's harder to develop discipline over the long haul because longer-term investing just isn't as sexy. It doesn't sell books, newspapers or TV. Or put it this way: Imagine a high fashion magazine extolling the virtues of a good pair of sensible shoes built to last 10 years. It would never happen.
"Discipline is difficult to come by in the investing world because there's too much emphasis put on speculation and trying to catch up when things are good and running away when things fall apart," he says.
Just look at what happened with Facebook when it went public in May of 2012. The social networking behemoth's IPO was one of the largest in history and the world's media was frothy. For many of those investors who jumped on board and bought shares, they hoped they were getting a chance to get in on the ground floor of a mega company and make big returns. It's reported that some 82 million shares were traded within the first 30 seconds with an opening price of $38 (U.S.) a share. By the end of January, it traded at $30.79; by the end of March, $25.40.
"What drives people to buy these things? Familiarity," Mr. Richards says. "Just because all your neighbours are talking about Facebook, it doesn't mean it's necessarily a good stock. You want to have a process for trying to figure out if there's value in the company or not."
That means going back to basics and learning more about a business you want to invest in and determining whether it has the potential for growth. Does it have a strong management team with a long-term view of where the company is headed? Is the company in a growing business sector where the competition isn't too fierce? Or is the business an established market dominator? It pays to do a little fundamental analysis.
It isn't to say that every investor has to stay away from all risky investments. Mr. Rivard says that if a client came in with a $5-million investment portfolio and wanted to throw $10,000 at penny stock, who was he to argue? That is, as long as the rest of the money was invested in good quality businesses.
For the rest of us, Mr. Rivard says there's no actual rule about what percentage of a portfolio can be speculative. If someone's young or their net worth is high, their risk tolerance is going to be different than someone nearing retirement with only $75,000 socked away in an registered retirement savings plan (RRSP). In other words, it's variable.
"If the stock you bought yesterday went down 50 per cent tomorrow and that wasn't going to affect your lifestyle, that would be your play money. But most people want to protect their capital. They don't want to gamble with it."