Written by Matthew J. Ardrey, B.A., CFP, FMA, CIM | Vice-President
August 31, 2015
At last count, over 6 million Canadians are part of a registered pension plan. Unless you are one of the truly lucky few who have a defined benefit (DB) pension plan, you’re likely part of a defined contribution (DC) pension plan – which means you need to be a bit more proactive if you hope to reach your retirement goals.
A DB pension plan is what comes to mind when most people think of a pension. It pays you an income stream in retirement. A DC pension plan is more like an RRSP. You save to the plan, but do not know what the end result will be at retirement. Even though your plan may be a DC instead of a DB, with proper planning you can take advantage of this benefit and be a step ahead on the path to retirement.
Step One: Asset Mix
Your asset mix is the combination of equities, fixed income and cash that you hold in your account. What percentage you allocate to each area will have a significant impact on the long term performance of your portfolio and the volatility you experience while investing.
Generally speaking, when you are more than 10 years away from retirement, a growth mix of 75% equities and 25% fixed income is appropriate. Once you are closer than the 10-year mark, a shift to a balanced mix of 60% equities and 40% fixed income would be more suitable. In all cases, your equities should be diversified geographically with an equal allocation to Canada, the U.S. and international markets.
With many plans, if the participant does not choose these allocations, then they are placed into a default allocation, which may be vastly out of line with their retirement goals. Thus, not only is it an important decision to make, it is likely the most important decision you will make.
Finally, once you have set your asset mix, you need to review it at least annually to ensure it remains on target. Over time, market fluctuations can drive your mix off target. If it is more than 5% off target, then you should rebalance to your initial target. This enforces the discipline of buying low and selling high.
Step Two: Free Money
Many plans start with an automatic employer contribution and then have a second component where the employer will match the employee’s contributions up to a limit. This is one of the few opportunities in your life where you can get free money.
You would think that giving someone free money would be the best incentive, yet it is estimated that Canadians are leaving upwards of $3 billion on the table by not taking full advantage of their plans.
If you are matched dollar-for-dollar, it’s like getting an immediate 100% return on your investment. Comparatively, using a 5% compounded rate of return, it would take over 14 years for that same dollar to double.
You wouldn’t say no to someone who offered to pay half of your grocery bill, so why turn down an offer to fund half of your retirement savings?
Step Three: Investments – High Quality & Low Fees
Another advantage available through the DC pension plan that is not available for the average investor is the high quality of investment choices available. The average investor has to choose from thousands of mutual funds and ETFs. In the DC pension plan, a pension committee vets the choices for the employee. This often leads to investment opportunities with money managers that the employee may not otherwise have access to as well.
Being part of a large pension plan brings economies of scale. The money managers do not look at each individual employee as a client; rather, it is the entire pension plan that is their client. This allows them to offer their products at a much lower cost than if someone were to try to access them on their own.
With high quality pre-screened investments at lower than market investment costs, it makes sense to maximize your investments inside your DC pension plan before investing outside of it.
Having a pension to help you reach your retirement goals is an advantage you ignore at your own peril. Take some time to understand the benefits being offered to you today. Your future self will thank you.
Matthew Ardrey is a dedicated provider of creative and comprehensive solutions for high-net-worth private clients. Specializing in financial planning, tax planning and investment management, his proactive approach and big-picture thinking are signature to his style. A strategic thinker and clear communicator, Matthew is often sought by major media sources for his financial expertise.