Oh my, oh my, oh my! While I did well back in 2009 with my stock picks, I can’t say that my crystal ball was clear enough for this year’s contest! I thought it would be fun (and obviously that it would give me an additional edge) to take more risk. I was well aware that I could be wrong on 1 or 2 picks but I thought of taking 4 stocks that could make a home run… bad idea!

Here are the results so far:

Research in Motion (TSE: RIM) -27.08%

All right, investors are worried because major companies (such as JP Morgan) are switching from the BlackBerry to the iPhone. Investors are worried because RIM is having a hard time getting more individuals on board (while they continue to lose corporate accounts). Investors are also worried because the iPad is phenomenal and RIM has yet to hit the market with its new blackpad. Finally, I think investors are worried because RIM is becoming more and more reactive and has forgotten that they were the leader in the smartphone industry not so long ago. Presently, I have the feeling that they are just looking at what Apple does and are trying to copy it. I still hold RIM in my personal portfolio but I seriously doubt it will come back this year…

Manulife (TSE: MFC) -31.07%

I thought Manulife was over with the bad news when we started in 2010. I guess I should be more careful when I try to catch a falling knife! Manulife keeps on announcing bad news after more bad news. I still think it can bounce back (I wouldn’t if I hadn’t picked yet.. hahaha!)  but lets just say that I wouldn’t buy any shares in a real portfolio right now. The only thing is that it currently offer a 4% dividend yield

Goldman Sachs (NYSE: GS) -14.10%

Goldman Sachs has had its share of problems in 2010 but I think they are ready to bounce back. If I am lucky enough and they deliver strong results by the end of the year, I might see this stock going a little bit higher and cancel my loss from my first 2 picks L.

Vanguard Emerging Market ETF (NYSE: VWO) 11.27%

Can’t be bad everywhere, right? The emerging market showed some strength and this pick is now up by about 10%. This is a small consolation (I rather like Mike @ Money Smarts Blog picks with bear leveraged gold ETF ), but at least, I have one stock showing green on my sheet!

Here are the results from the stock picking contest of 2010: big winner so far: Dividend Growth Investor!

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Funny enough, it seems that we cannot escape risk; the market is hyper volatile, and bonds are threatened by interest rate hikes. So how can you protect yourself from bond values dropping?

As you may know, bond values can go down. When?  In exactly the situation we are facing; when interest rates rise, bond values drop. When you think about it, it is quite easy to understand. If interest rates increase, new bond issues need to offer a higher interest rate to match the new reality. Therefore, old bonds with lower interest rates attract a lesser price from investors whom will sell them to buy the higher interest rate bonds. Since everybody would like to sell their low interest paying bonds, the bond values decrease.

So if you have a lot of bonds in your portfolio, here are a few tips to consider to make sure that you are somewhat protected against a bond collapse:

Long term bonds

Long term bonds will be the bonds with the highest risk upon an interest rate change. Why? Because they will offer a lesser interest rate for a very long period. This is why investors will be less likely to give a great value to long term bonds. So if you have them in your portfolio, make sure you don’t need to sell them. Keep your long term bonds to maturity, this is the only solution to keep your yield safe.

Gov Bonds

I would avoid government bonds for the moment. Why? Simply because they don’t pay much! If you are absolutely looking for safe investment, consider provincial or municipal bonds that will offer a better invest return while offering a similar level of security to government bonds.

In fact, the only government bonds I would consider would be the real rate investment bonds that protect the investor against inflation. Since the Canadian interest rate is greatly influenced by inflation, you should maintain an “interesting” yield on those bonds.

Junk Bonds

This is the type of bonds that is less likely to lose the most value if the interest rate rises. Why? Because corporations will have to offer a much higher interest rate to issue more bonds. There is always a spread between government bonds and junk bonds and the spread can increase when there is a panic in the bond market. So if investors think that bond values will drop due to increases in interest rates, they may panic and request a much higher premium for junk bonds.

If you plan on having junk bonds in your portfolio, make sure that you follow the issuer because you may get stuck with it for a while!

Bond Funds

Some say that you should get rid of your bond funds when we expect a drop in the value. I’m not part of them . I would rather ask my financial advisor what is the duration of my bond portfolio and how I am at risk with the bonds held in my funds. Ask about the bond managers strategy as well.

A good bond manager has already decreased the portfolio duration (selling long term bonds to buy more short term bonds) to make sure that the bond fund doesn’t drop drastically.

Mortgage funds could be another great opportunity. They are more likely replicating the same movement of bond funds (because mortgages look like bonds in their structure) but they are less volatile due to their smaller duration. Mortgage funds often hold government bonds and provincial bonds as well.

Dividend and Preferred Shares

Tired of dealing with bonds and their potential collapse? You can always turn towards dividend stocks and preferred shares . While they are riskier than bonds, they offer a somewhat steady payment through dividends which are less taxed. We are writing on The Dividend Guy Blog if you are interested in dividend stock picking.

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While it wasn’t a big surprise, I was still hoping that the Canadian Prime Rate would stay at 0.75% for a little bit longer than this. Unfortunately for me and my line of credit, the Bank of Canada has decided to raise the Canadian Prime Rate at 1.00% (which means that your line of credit will reach 3% at best tomorrow morning!).

Mr. Carney also said that further move on the Canadian Prime Rate will not only be directed by the Canadian economy and current low inflation but also according to the world’s economic situation, leaving him more room for a pause in October.

In fact, if interest rate goes up to quickly, this will push the Canadian Dollar to a higher level (at parity or over parity) and would probably have negative effect on the Canadian economy. On the other side, this is with no surprises that we will reach a 3-4% level in a few years as it is considered to be a neutral rate. Having a 1% rate is considered to be a great stimulus for the economy.

My final thought: stay variable but pay down your debts faster!

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I actually like what is going on in the markets right now as I believe there is a huge opportunity for us to make money over the long term. While many investors thing the stock market is sick, I’d say it is just another rough patch to ignore.

The good side of things is that our Canadian dollar is still pretty strong (fluctuating between $0.95 and $1.00 US) and the US stock market hasn’t recovered as it should have (keep reading to know why).

This should give you 2 great reasons to think about investing in the US stock market:

Our dollar is strong

The fact that our dollar is strong compared to US money is really good news. We presently benefit from the good reputation of our economy (thanks to our Canadian Banks ). This brings more foreign investors to invest in Canada (either in our stock market or via Canadian bonds, government and corporate). We also host several major players in the oil and gold industries. Since China and India are still very hungry for these resources, our Canadian dollar has remained at a higher level than usual.

However, I think that once the concerns about the US economy are resolved, our dollar will start going down again. The US has a more diversified economy and was built with strong companies with a lot a liquidity and positive cash flows. Sooner or later, this will have an impact on their economy and it will recover from their housing-bubble-credit-swap mess.

In the meantime, it gives you a great opportunity to convert strong Canadian dollars into weak US dollars and buy US stocks. And this leads me to my second point:

US Stocks are being ignored

Since the credit crunch in 2008, there is a cloud of fear over the head of the US stock market. People seem to think that all companies have the H1N1 virus and we best kept our distance from them.

After further analysis, I have realized there are several interesting plays to make on the stock market. If you just take into consideration their PE ratios, you will notice that some US stocks are just ignored by most investors:

As you can see, you can probably find great investing opportunities with some companies providing serious dividend payouts as well. If you are looking for a long term investment such as inside an RRSP, I think that some US investments couldn’t hurt .

If you are not completely decided as to which stocks to buy, you can also consider US index ETFs or mutual funds (you can look at this article for more small portfolio investment ideas: investing a $1,000 or less). But take one that is not hedged against the currency to make sure to benefit from the future Canadian dollar drop (it may happen faster than we think if you agree with the idea that we are about to burst the Canadian housing bubble soon…).

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I have an important dilemma to debate right now. When it’s time to talk about investing, I have 2 convictions:

- Index investing is probably one of the best way to make money without worrying too much about the trades to make.

- Dividend investing is also a great way to build a strong portfolio that generates income.

And yet the 2 strategies are not serving the same purpose:

- Index investing is looking forward to produce long term growth.

- Dividend investing is looking to produce a steady flow of income right now and benefit from an eventual growth.

But what really bugs me in this dilemma is not the purpose of investing but the results you get when you compare the 2 strategies (beware, this is going to be ugly!):

In order to make a comparison between index investing and dividend investing, I have taken one of the best index funds vs one of the best dividend funds. How did I choose them? I looked at established mutual fund companies and took funds that have more than 10 years history to be able to make a real comparison. Then, I took one of the best yields for both of them (looking at 3, 5 and 10 year annualized yields). So I have the Altamira Canadian Index fund Vs the RBC Dividend fund. Since the Altamira fund was created in 1998, I had to take this point to make the comparison. So here we go (click on image to enlarge)

So there are 2 things that you can see while comparing index investing vs dividend investing:

#1 Over the past 11 years, investing in dividends shows a better return.

#2 When you look at the annualized rate year by year, you can see that the index funds will out beat the dividend fund easily in periods of growth but drop rapidly and lose the advantage as soon as it hits a market drop.

So, after looking at those two graphs and taking a good sip of coffee, I still wonder if it really worth it to suffer bigger fluctuations and ending-up with a smaller yield with an index.

On the other side, there are a few considerations to take for the upcoming year if you think of buying a dividend fund versus dividend stocks:

#1 Growth is unlikely to come from Canadian banks. They will do fine but I don’t see them increasing their profits like Apple!

#2 If you buy dividends funds, they usually include bonds and preferred shares. Therefore, their value will drop upon increases in interest rates.

#3 If we are going to enter another period of economic growth (most major companies in the US show strong financial results), chances are that index investing will be a winner for the upcoming years.

#4 We are taking 11 years to make the comparison where we had 2 majors economic crisis. If we take the same 11 years period in a few years, we would start our calculation after the techno bubble and chances are that the same graph will show different numbers.

So I’m still not convinced which one is best for a long term project…

What about you? Dividend investor or Index investor?

and if you want to learn more about dividend investing, I suggest you go look at our new blog; The Dividend Guy Blog.

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