Why Defining Your Time Horizon is Critical for Investment Success

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article contributed by

William C. Holmes, CIM, FMA, FCSI

Vice President and Portfolio Manager and Investment Advisor at RBC Dominion Securities Inc.

Extensive experience in Retirement Planning, Financial Planning and Planning for Small Business Owners.

I have had several conversations recently with clients about the recent climb to new highs in the US markets and a number of the US holdings in client accounts that have moved to new multi-year highs. These conversations have stemmed from the constant banging of the “new highs” drum from print and electronic media against a very challenging short term macro economic backdrop, whether it be European recession and sovereign debt issues, slowing Chinese economic growth, poor job creation numbers out of the US etc. While we do pay attention to the North American and global economic backdrop, assuming that a business is trading at a reasonable valuation compared to its peers, historical valuation and the market in general the decision to hold or sell is often a function of a client’s time horizon.

Investopedia defines Time Horizon as “The length of time over which an investment is made or held before it is liquidated.” Time horizons can range from seconds, in the case of a day trader (don’t have any in my practice) all the way up to decades for someone who is middle aged or younger and is looking to grow their portfolio to fund what could be up to 20 to 25 years in retirement. The majority of my practice is made up of individuals who are in asset and cash flow growth mode and aggressively saving to fund their retirement or are either just entering or in the early stages of retirement. With both groups their respective time horizon may be at least 20 years and with the first group it can be as high as 30 or 40 years depending on the client’s age.

Helping a client establish and quantify the amount of capital required to fund their objectives and establishing an appropriate time horizon are critical steps to establishing an appropriate asset allocation and the types of investments within a client’s portfolio. This in fact is a critical phase of step 3 of our 5 step Total Wealth Management Process.

So why do some of my clients get caught up in what is happening day to day when we have clearly articulated a long-term time horizon in their Investment Policy Statement? I believe that powerful emotional and cognitive biases that I wrote about in an article on my blog called “Don’t Let These Common Investor Biases Undermine Your Long-term Performance” are often to blame.

These biases are often sparked by the constant background noise from the proliferation of economic news releases and media broadcasts that are mostly meaningless time fillers. TV and radio have 24 hours a day to fill while the internet has an infinite number of pages to fill. Do we really believe that all of this content is meaningful? These biases tend to skew our thinking to focus on the here and now and certainly in most cases shrink an investor’s time horizon to days or weeks instead of years.

Let’s now examine how time horizon became the focus of a conversation I had with Jim, a long time client who is relying on his investment portfolio to deliver the bulk of his retirement income requirements. He said, ‘a pundit on CNBC mentioned McDonald’s (MCD) was overbought and could pull back. Should we sell it here and look to buy it back at a lower price?” I wrote about MCD, a dividend growth stalwart and a core holding in my dividend income portfolio in an earlier blog series titled “How to Double Your Dividend Income in 7 Years” which was dedicated to dividend growth investing. McDonalds is a company that has compounded its dividend at a 25% clip over the last 10 years and is forecasted to grow its dividend at an 8-10% rate over the next several years. Basically this short-term view does not square up well with our long-term view that MCD should continue to grow its dividends at a healthy clip while it currently trades at a valuation that is in line with its peer group. The bottom line – We are holding here and hoping to benefit from continued dividend growth and capital appreciation over the long-term which are Jim’s main portfolio objectives. Factors that may cause us to change our opinion could be long term trends in quick service dining, a long-term strategic change in business focus or a stock valuation that is dramatically higher than the market or its peer group, to name a few. All of these factors would be weighed over longer time-frames which match up well to Jim’s 20 year retirement time-frame.

Please don’t hesitate to contact me at 905-469-7010 or visit my profile HERE if you have any questions or concerns about the alignment of your time horizon and your investment portfolio as I would be happy to help.

This information is not intended as nor does it constitute tax or legal advice. Readers should consult their own lawyer, accountant or other professional advisor when planning to implement a strategy. Bill Holmes CIM, FMA, FCSI is an Investment Advisor with RBC Dominion Securities Inc. Member CIPF.

Author: William C. Holmes, CIM, FMA, FCSI