Chances are that if you own an RRSP, you hold at least a few foreign shares. Why? Because first of all, diversification is an important part of any portfolio. Canada has been performing incredibly well at all levels for a good decade now and odds are that this cannot continue like this forever. Most Canadian investors hold a significant portion of their portfolio in American and also foreign (especially emerging markets) companies. Most research has been very clear about the numerous benefits, both in terms of higher returns and diminished risk.So what exactly is the problem then? In this era of cheap trading, most brokers charge less than $20 for executing a stock trade. The problem is that there is more involved than commission here. If you own shares of a US company on a US market from a $CAD account, you will end up paying an exchange rate in order to execute the USD transaction. The spreads on such trades are incredibly high, often about 2%. Let’s put that in perspective for a minute. Let’s say you keep each position on average for 2 years, that means you are paying 2% of costs every year (2% to open the trade + 2% to close). Remember hearing about the power of compounding? If you end up paying an additional 2% in fees every year, these will accumulate very quickly. Of course, you will rarely notice because these fees are not written anywhere. If you invested $20,000 for 30 years paying 2% per year, that would add up to $16,300!!!!! Incredible isn’t it? How can they get away with that? Because consumers generally do not care. They prefer shopping for the lowest commission rate and will usually not even bother to ask about forex spreads (the actual cost you are incurring). Don’t believe me? Try buying a US stock and selling it right away. You will see that in addition to the fixed rate commission you will have paid a fee of over 3% in “exchange rate costs”. Are there any solutions? Thankfully, there are a few things you can do to diminish these costs, here are a few:
– If the stock is traded in Canada, trade it here. Buying and selling Research in Motion or Potash in Canada for your $CAD account will save you tons of money
– if you are looking for indices traded as ETFs, many are now traded in Canada and you end up getting the conversion done by iShares or others. If you are buying for a long period of time, it might not be worth it because you will be paying management fees annually. But as a short term investment? Absolutely!
– Canadian Capitalist had discussed a strategy that might be liked by more advanced investors although it has to be used for fairly significant amounts and will not really work for RRSPs (at least not done exactly as suggested).
– Open a USD RRSP: This is by far my favourite method because USD investments will be bought and sold in US dollars so apart from the initial cost, you will not be paying such fees. So you completely avoid the compounding effect. On the previous $20,000 example, the cost would be close to 2% of the initial 20K and the same thing at your retirement (hopefully on much more than 20K). Now unfortunately many brokers do not offer USD RRSPs but most are working on it. QuestTrade is probably the one we recommend that offers this valued option.So my question to you is: Are you aware of these costs and if so how are you dealing with them?
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