As you know, Revenue Canada insists that only 30 percent of your portfolio for your RRSP's be foreign content. Any amount above this is subject to a 1 percent tax per month. Needless to say, this can be very expensive.

Here is the caveat - Canada is a wonderful country to live in. We have a relatively peaceful lifestyle, a socialistic government, all the trappings of materialism (if we can afford them) and the rights to practise whatever religion we choose! In the entire universe, there is probably not a better place to live and raise kids. And we must continue to invest in our country as our very existence depends on our continued economic growth

That being said, in terms of the world economy, Canada represents only 2 percent of the world market. Yet, we are forced by legislation to invest 70 percent of our retirement funds into Canada. This means we miss out on a significant portion of foreign growth. Considering the S&P 500 returns an average of 14 percent annually, it can mean a difference of $10000 for each $100 invested over 40 year investment horizon! That's big bread!

As well, if you look at where the top 100 revenue grossing firms in the world are located, not one of them is in Canada. By not being part of the larger corporations in the world, we are missing out on stability growth within our portfolio's. As well, Canada is strong in areas like mining and banking, but falls short in areas like health care and pharaceuticals. These latter industries represent huge opportunties for long term investing.

So, how do we increase our foreign content and not get penalized. There are several techniques:

1) Purchase Canadian Mutual funds that hold 30 percent foreign content. An excellent example is the Ivy Canadian fund which is considered Canadian content for RRSP purposes, but holds the legislated amount of 30 percent foreign content within its portfolio. By using this strategy, you can increase your foreign content up to 51 percent.

2) Purchase a Labour Sponsored Investment Fund. Each dollar you contribute to an LSIF allows you to increase your foreign content by $3 up to a maximum of 50 percent foreign content. Of course, your RRSP's would have to be held within a self directed account to make this effective.

The downside of an LSIF is that the invest in highly speculative ventures., often with companies that have yet to go public. While there is a tremendous upside to the growth (afterall, Microsoft started out in a garage), there is risk apparent with these funds.

3) Purchase an International Bond Fund. While the bonds within these portfolio's are based on foreign currencies, this is still considered Canadian Content.
The risk here is that bond funds are interest sensitive. If interest rates rise, then bonds decrease in value. Since we are at a low point in interest rates, this may not be the most attractive time to purchase bond funds.

As well, bonds traditionally do not outperform indices. If your goal is for long term retirement, bonds add a nice cushion for downsides in markets, but are not great for long term growth.

4) Purchase Clone Funds.Investors who opt for high foreign exposure choose clone funds because the funds mimic the performance of underlying foreign funds or indicies while still maintaining their Canadian content because of the way the are structured. They use the cash and Canadian money market instrument sin their portfolios as a cover to enter into forward contracts with a financial institution, usually a bank. The forward contract allows the clone fund to buy units of the underlying fund at a future date at a previously agreed upon price. If the unit value of the underlying fund or index rises more than the cost of the forward contract, the financial institution makes a payment to the clone fund, sending its unit value higher . If the unit value of the underlying fund or index falls the clone fund makes a payment to the financial institution , causing its value to decline

There is a risk with Clone funds with the use of these forward contracts. For example, a clone fund may be unable to enter into or renew a forward contract with a bank at a certain point in time. In this case, returns will be limited to those provided by its portfolio holdings and not associated with the underlying index.

As well, clone funds have higher management fees (about 30 to 70 points higher) and this can result in reduced returns.

5) Purchase market indexes like the S&P 500 or Morgan Stanley. These indices are considered eligible for Canadian content and have very low management fees. In up markets, indexes are very attractive. However, in negative markets like we have been experiencing, losses can be significant. For example, a large part of the TSE 300 was made up of Nortel which dropped close to 90 percent of its value.

How much foreign exposure is enough. A lot depends on your risk tolerance, investment objectives and time horizon. Generally, more aggressive investors hold a greater level of foreign content. But too much foreign exposure can reduce the benefits of diversification and increase portfolio volatility. As a starting point, on a risk matrix, the preferred risk return ratio appears to be about 50 percent Canadian content, 50 percent foreign. However, it's best to speak with a financial advisor before proceeding

If you would like more information on this topic, Email me or contact me directly at (416)-595-7484 ext. 305