Clearly protecting capital entrusted to us is a key goal. Although portfolios are expected to fluctuate with the markets in general, we seek to protect capital by owning ETFs or Index funds that track investment grade balance sheets and mid-capitalization to large capitalization stocks that trade on the major exchanges in North America, thereby eliminating any liquidity driven traps. There can/will be times when cash positions are high if investments meeting our criterion are scarce. Nonetheless, all portfolios our subject to the following risks outlined as follows:
Credit Risk: A fixed income security, such as a bond, is a promise to pay interest and repay the principal on the maturity date. There is always some risk that the issuer will fail to honour that promise. This is called credit risk. Credit risk is lowest when issuers have a high credit rating from a credit rating agency. Conversely, credit risk is higher when issuers have a low credit rating. Issuers with lower credit ratings typically offer higher interest rates to make up for the higher credit risk. This leads to bonds with greater yields, but also greater volatility. Our income portfolio will have some credit risk.
Currency Risk: When a fund invests in foreign denominated securities, the value of those securities is subject to increase or decrease based on changes in the exchange rate between the foreign currency and the Canadian dollar. This is called currency risk. Currency risk can be reduced by using a currency hedging strategy. Our growth portfolios will be unhedged and will thus be exposed to currency risk.
Equity Risk: Funds that invest in equities, such as common shares, are affected by the general economy and financial markets as well as by the success or failure of the issuer of the shares. When stock markets rise, the value of equity securities tend to rise also, and when stock markets fall, the value of equity securities tend to fall. The risk that any given equity security will rise or fall simply because of general market forces is called equity risk. Our income, growth and balanced portfolios will be exposed to equity risk.
Foreign Investment Risk: Investments issued by foreign companies or governments can be riskier than those issued by Canadian companies or governments. Foreign countries can be affected by political, social, legal, or diplomatic developments that can have significant impacts on foreign investments. These risks that are unique to foreign investments are called foreign investment risk. Our growth portfolio will be exposed to foreign investment risk.
Interest Rate Risk: Investment funds that invest in fixed income securities, such as bonds are sensitive to changes in interest rates. In general, a rise in interest rates will lead to lower values for fixed income securities, and a decrease in interest rates will lead to higher values for fixed income securities. Securities with longer terms to maturity are generally more sensitive to changes in interest rates. This risk that a change in interest rates will affect the value of a security is called interest rate risk. Our income portfolio will be directly exposed to Interest rate risk via holding of preferred shares which have fixed income characteristics and bonds.
Transaction Costs: All accounts will incur transaction costs associated with buying and selling of securities. Transactions costs as a percentage of assets under management tend to be higher for smaller accounts than larger accounts carrying the same securities, given that brokerage is a fixed cost, and the same transaction of buying and/or selling a security is amortized over the asset base.