September 14, 2021
8 mins

Responsible Investing in Canada (2023)

The years 2020, 2021, and part of 2022 will be remembered for not only the disruption caused by the global pandemic but also the emergence of a new type of investor – the retail investor. People having more time on their hands due to remote work and government stimulus appeared to be the catalysts behind the meme stocks, Non-fungible Tokens (NFTs), and the soaring prices of cryptocurrencies. But then, it all came crashing down. Responsible investing in Canada is needed now more than ever.

As more and more retail investors have entered the market, it has become clear that many lack the knowledge and understanding to make sound investment decisions. In this article, we investigate the behaviour of this new type of investor. We also explain why you should not imitate them if you plan to invest in the market.

Investing Responsibly in Canada

When inexperienced investors start their investing journey, they may be unaware of how to invest responsibly. They may be influenced by the Fear of Missing Out (FOMO) on potential quick profits. Unfortunately, this often leads to rash decisions with little consideration of the risks involved.

Inexperienced investors may likely be tempted to invest more than they can afford. They may even take out loans to fund their investments. This is not recommended, as it is an irresponsible way to invest.

Making Good Investment Decisions

When considering investing, it is vital to approach it responsibly. Here are some suggestions to ensure you make good decisions when investing.

  • It is important to remember only to use what you can afford to invest. For example, if you have been budgeting $3,000 a month for your basic needs, such as rent, food, and utilities, using these funds for investments is not wise.
  • When considering an investment decision, it is essential to maintain a long-term outlook. It can be tempting to be carried away by the excitement of a sudden surge in stock or cryptocurrency prices. But you must remember that these prices can as quickly fall. Therefore, it is beneficial to think of the stock and cryptocurrency markets as a roller coaster that experiences a range of highs and lows in a single ride. This will help you to comprehend your long-term investment strategies better.
  • In general, taking on debt to finance investments is not advisable unless it is for something sure to increase in value, such as real estate. Taking advantage of low-interest rates to invest in the stock market or cryptocurrency may seem attractive but risky in the long term. The appreciation of investments can be unpredictable, and the loan's interest can be a burden. Thus, the best strategy is to abstain from using leverage when investing.

How Much Should I Invest?

The amount you should invest in financial and digital currency and stock markets is subjective and can vary depending on lifestyle and income. For example, what is suitable for one person who earns a substantial salary and lives in an inexpensive area may not be the same for someone who makes a lower salary but lives in an expensive city.

For those looking to invest long-term, a reasonable percentage of their income to set aside is between 10-15%. However, this is just a guideline, and individual circumstances should be considered when making this decision. Don't be afraid to allocate a smaller portion of your salary if other areas of life require more attention.

The timing of when to invest depends on an individual's situation. Some may prefer to invest a single, large amount each year due to a lack of time or interest in managing investments. Others who actively manage their portfolios may choose to invest more frequently but with smaller amounts. When deciding how much to invest, ensure it is financially feasible and aligned with your desired investment strategy.

When Should I Invest?

Committing to becoming a responsible investor is a great decision, but the question remains: when should you start? The universal answer is: the sooner, the better. Establishing a portfolio of investments earlier in life will put you in a much better place when it comes time to retire. There are many benefits to investing sooner rather than later.

The Benefit of Time

Starting to invest early, like in your 20s, allows you to bounce back quickly if you make a riskier choice. It is typical for young investors to take chances in pursuing success, but this approach may not pay off in the end and could be detrimental to your financial health. Taking risks must be balanced out with safer investments when investing, and although younger people may be able to take more risks, this should be counteracted with more secure investments. This approach is called hedging.

Older investors should know they may have less time to recover losses if they invest in riskier options. Therefore, they should start investing sooner rather than later and find a balance between safer and riskier investments.

Compounding Returns

Investing early allows you to use compounding, when your earnings are reinvested into your investments, resulting in growth over time.

Reinvesting the dividends, you receive from a dividend stock can be an effective way to increase the value of your investment. An example is if you start by putting a $20,000.00 principal investment into a $20.00 stock that yields a 5% dividend every quarter. After 30 years, your initial investment of $20,000.00 would have grown to $88,804.26!

This can be a great way to increase your returns over the long term.

Investment with No Annual Contribution

What if we wanted to grow our investment in this stock by adding constant money annually?

Let's say we could invest an extra $6,000.00 per year for 30 years. If all other factors remained the same, our original $20,000.00 investment would grow to almost $500,000.00 after 30 years!

If we kept adding an extra $6,000.00 yearly, we could increase our total investment by $405,165.24.

Investment with Annual Contribution

This shows that making your money work for you can be beneficial. If you can invest in something that will generate returns without touching your initial investment, reinvesting those earnings will help your investment grow.

The key to success with this plan is to keep adding money to the investment regularly. This will help the money grow over time, which is especially beneficial when you need it during retirement.

Tax-Free Accounts in Canada

Ultimately, death and taxes are the only certainties in life. As such, it is crucial to explore ways to reduce the amount of taxes paid legally. Fortunately, tax-free savings accounts help investors grow their money without incurring any tax payments or postponing them until later.

It is imperative to make the most out of tax-free savings accounts. Although the financial benefit may not be apparent right now, the cumulative effect of these savings can make a significant difference in the long run. Here are some accounts that can help you grow your investments without incurring taxes.

Tax-Free Savings Account (TFSA)

In Canada, adults can use a Tax-Free Savings Account (TFSA) to invest in the markets. The government allows up to $6,500.00 in contributions to this account in 2023, and a key advantage of using this type of account is that it is exempt from capital gains taxes. Any profits from selling stocks in a TFSA will not be taxed.

The TFSA is an ideal savings account since it allows you to access any saved funds without worrying about incurring taxes. By making regular contributions to this account, you can quickly accumulate a substantial amount of savings you won't have to pay taxes on. A TFSA's tax savings is easy money.

Registered Retirement Savings Plan (RRSP)

The Registered Retirement Savings Plan (RRSP) is an excellent choice for Canadians who want a widely-used investment account. Unlike a Tax-Free Savings Account, you must pay taxes when you take money out of your RRSP at retirement. However, since you won't be earning an income after retirement, the taxes you owe won't be as high.

The contribution limits for RRSP are also different from the TFSA in that you can contribute up to 18% of your reported income on your tax returns, but with a contribution cap set at $30,780.00. An RRSP is a safe investment for retirement.

Roth IRA (United States, Only)

The Roth IRA is a retirement saving account in the United States similar to a Tax-Free Savings Account (TFSA) in Canada. Contributions to a Roth IRA are taxed initially but gain tax-exempt status when you withdraw funds.

The Roth IRA offers a tax advantage as your contributions are taxed lower than usual. When you withdraw the funds in retirement, there is no tax due on the accumulated amount. In addition, there is an annual contribution limit, which in 2023 was $6,500.00, but those over 50 can contribute up to $7,500.00.

Responsible Investing Means a Secure Future

It may be tempting to get caught up in the hype of high-risk investments, like stocks and cryptos, that may increase in value. But it's important to remember that they can be much more unpredictable and not necessarily the best choice for a secure retirement plan. Investing responsibly may seem unexciting, but it's essential to consider the risks before making any decisions.

Investing carefully and patiently can pay off in the long run, even if the investment doesn't offer immediate gratification. Refraining from risky assets can be beneficial when it comes to retirement. Taking the time to make responsible decisions now can create a more secure future.

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