Investing Quick Reference Guide

This post is an introduction to some of the concepts and terms of investment that will appear on this website and throughout financial literature.

Investing is to use the money you have now, to create more money in the future.  You can invest by loaning money to someone using bonds, GICs, or savings accounts.  You can also purchase stocks or shares of a company for a share in their profits, or real estate for the income that it can generate.

Interest is the money that you would receive in exchange for lending someone or a bank your money.  Interest on deposits in savings accounts are usually paid once a month.  Interest is paid on GICs is periodical as well (it can be anywhere from monthly, to quarterly, to annually or at maturity).  You can also receive interest payments for lending your money to a company or government with a bond.

Dividends are payments that a company gives to its shareholders, sharing company profits with its investors.  Though every company is different, typically companies will pay out dividends once per quarter.

Capital Gains are realized when an investor sells shares for more than they had originally paid for them.  The opposite, when an investor sells shares for less than their initial investment, is called a capital loss.  Share prices tend to increase when there is a corresponding growth in the companies profits, and conversely, a reduction in profitability will often lead to a drop in share prices.  While interest and dividends can provide regular cash flow for your portfolio, portfolio growth through capital gains is unrealized (you won’t receive an increase or decrease in the cash balance of your account) until you close your position by selling your shares.GIC – Guaranteed Income Certificates are typically only offered by banks or financial institutions and feature guaranteed terms for the investor: the period of time and the rate of return in exchange for the agreed-upon amount of money for the entire duration of the term.  For example, an investor may purchase a $1000 1-year 1.5% GIC.  That investor would have to wait an entire year to get their money back, but they would receive $1,015 back from the bank.  In general, banks need to offer higher interest rates on GICs, because investors give up their money for the entire term of the agreement. Most, if not all GICs with a term 5 years or less and up to $100,000 are insured by the Canada Deposit Insurance Corporation (CDIC). If you invest in a CDIC-insured GIC, your principal is safe, even if the financial institution you buy from fails.

Bonds, like GICs, are a type of loan, where you may lend money to a business or a government at an agreed upon interest rate. Three major differences between bonds and GICs is that bonds can be traded (bought and sold) between people, their value can fluctuate, and they are not insured by the CDIC. That being said, government bonds tend to be dependable enough that one could argue they don’t need deposit insurance.

Savings accounts are held at financial institutions like credit unions and banks and provide clients with a place to store their money.  In effect, clients are loaning their savings to their bank or credit union and in exchange, will receive interest on their deposits.  However, the interest rates tend to be lower than those on bonds and GICs, because banks have to make deposits available to their clients on demand.

Stocks or Shares or Equities all refer to the same thing – an ownership stake in a company or mutual fund. If you own stocks in a company, you are a shareholder, and own a share of the company’s assets and profits. The fraction of the company that is owned is determined by the number of shares owned by the individual shareholder relative to the total number of shares.

Mutual funds let investors buy multiple stocks or bonds. A mutual fund pools money from hundreds if not thousands of investors and combines the capital of those investors so that the mutual fund can hold hundreds, if not thousands, of shares and bonds. When an investor purchases a mutual fund share, their portfolio has the benefits of being a shareholder of every stock and bond held by the mutual fund.  Mutual funds can be effective investments for you because they give you exposure to a large portion of the stock market through the purchase of a single share. Typically, financial institutions that sell mutual funds even allow you to purchase a partial share, so you could own anywhere from less than one share to hundreds or thousands of them. You could hold the underlying stocks of a mutual fund in your portfolio directly, but that would require hundreds of thousands of dollars to have this degree of diversity.

Typical mutual funds are professionally managed by a fund manager, whose job it is to pick the best stocks for you to get the biggest return. Investors pay a fee for this service which is calculated based off a percentage of their investment in the fund, called the “Management Expense Ratio” (MER), which covers the salary of the fund manager, operating costs for the fund manager and the company they work for as well as trading costs. The average MER on an actively managed fund in Canada is about 2.5%. Mutual funds are bought and sold according to one price per day, and are only available through the financial institution that manages the fund. An upshot if this is that you have the convenience that partial shares can be owned. For example, if you had $50 to invest in a mutual fund and the mutual fund had a share price of $40 on the day you were investing, for $50, you would receive 1.25 shares.

Index fund is a type of mutual fund that replicates a stock index (an index is a group of equities that represent a specific segment of the market). Whereas mutual fund managers are always trying to pick the best stocks to create the biggest return for their investors, index fund managers are only trying to match the market index. Since index fund managers don’t need to make nearly as many trades (which cost shareholders) and don’t need analysts to spend hours and hours constantly researching the best stocks to buy and the stocks that they should sell from the fund, fees (MER) are significantly lower.

ETF‘s (or Exchange Traded Funds) are a subcategory of index funds that are listed on a stock exchange. is bought and sold on a stock exchange. The price of ETFs on a stock exchange fluctuate as their constituent holdings change in value, and as they are listed on an exchange, you can trade them through any brokerage rather than having to be a client with the managing company. One factor that distinguishes an ETF from a mutual fund or index fund, is that you can only buy whole shares. If you have $50 and use it to buy an ETF that is trading at $40, you’re left with $10 cash in your account afterwards that is, for the time being, uninvested.

The lines between mutual fund, index fund and ETF are quite blurry. Keep posted for an in-depth comparison of mutual funds, index funds and ETFs

Non-registered accounts and taxable accounts are one and the same, and refer to any normal investment account that you are legally required to pay income tax on any of your investment returns, be it interest, dividends or capital gains.

Registered Accounts are containers or baskets registered with the Canada Revenue Agency that allow you to strategically decrease the amount of income tax that you legally need to pay. Using these registered accounts allows for tax planning (as opposed to tax evasion). There are three main registered accounts, the TFSA, RESP, and RRSP.

TFSAs (Tax Free Savings Account) are a container for holding investment products that shelters them from any taxation. You don’t need to pay any income tax on interest, dividends, or capital gains on securities held in your TFSA.

RESPs (Registered Education Savings Plans) are a container for holding investment products designed to help you save for your children’s post-secondary education. The government will match 20% of your contributions per year up to an annual maximum of $500 and a lifetime limit of $7,200, plus your children pay taxes on the income when they withdraw it instead of you. This is beneficial because typically, a student’s income levels are low enough that they pay little or no income tax.

RRSPs (Registered Retirement Savings Plans) are a container for holding investment products, whose intention is to allow you to strategically reduce the amount of income tax you pay by deferring a portion of your income from your high-earning years to lower-earning years in retirement.  This works because the percentage or income tax rate that you pay increases, as your income increases. In 2018, you pay 15% federal tax in the first $46,605 you make and it increases to 20.5% on any income from $46,606 to $93,208. If you earned $55,000 and made a $6,000 contribution to your RRSP, you would reduce your taxable income from $55,000 to $49,000 and pay $1,230 less federal income tax in 2018 ($6990.75 + 490.77) instead of ($6990.74 + 1720.77). Your $6000 would stay in invested and grow within your RRSP until you retired, and then you would pay income tax on any withdrawals. This tends to save Canadians income tax because they tend to have lower income levels when they are retired, compared to when they were working.

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