Latest / How Canadian Markets Work / Episode 100: The Financial Planning Process (The Final Finding)

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Episode 100: The Financial Planning Process (The Final Finding) · How Canadian Markets Work

0:00
After exploring the intricate tax advantages
0:03
of RRSPs, TFSAs and FHSAs in our last discussion,
0:07
we are taking a massive step back today to fit
0:10
those registered accounts into the overarching
0:13
financial planning process, bringing our entire
0:16
journey full circle right back to that idle four
0:18
thousand dollars in your checking account and
0:20
the two hundred million dollar wind farm it eventually
0:23
helps build. Like we are really zooming out today.
0:26
Yeah, exactly. I mean, it is an incredibly tempting
0:28
trap. isn't it, to just focus entirely on the
0:31
micro details of those accounts, like which specific
0:34
tech stock to pick, or which index fund has the
0:37
lowest fractional fee, or what the central bank
0:39
did yesterday. Right, the shiny objects. Exactly.
0:42
But zooming out to look at the structural mechanics
0:44
of a financial life, the actual architecture
0:47
that holds all those isolated micro decisions
0:49
together, that is where the real enduring power
0:52
lies. Welcome back to The Deep Dive. So over
0:56
our past hundred deep dives, we've unpacked some
0:58
wildly specific corners of the financial universe.
1:01
But today we're looking at a stack of sources
1:03
detailing the absolute bedrock of the financial
1:05
planning process itself. We are mapping the overarching
1:09
life cycle of capital. Yeah. And our mission
1:11
for you today is simple, but highly ambitious.
1:16
We want to synthesize the most critical takeaways
1:19
from an incredible wealth of financial research
1:21
into one cohesive roadmap for your financial
1:25
life. We are basically looking at the system
1:27
as a single breathing entity. Because a portfolio
1:31
without a comprehensive plan isn't actually a
1:33
strategy. I mean, it's really just a collection
1:36
of holdings floating in the dark. Yeah, exactly.
1:38
And without a blueprint, you are highly likely
1:41
to build a financial house that, well, collapses
1:44
the moment a storm hits. So if we want to build
1:46
a house that actually survives the storm before
1:48
we figure out exactly where to put your money,
1:50
we need to understand the formal architecture
1:52
of financial planning. And according to our sources,
1:55
this bedrock process is built on six very specific
1:58
sequential steps. Right, and they flow in an
2:00
order that you really cannot cheat. Okay, so
2:03
what's step one? Step one is establishing the
2:05
relationship and its scope. So if you were working
2:08
with a professional, This means legally defining
2:11
who is doing what. Like, are they a fiduciary,
2:15
legally bound to act in your best interest, or
2:18
maybe a salesperson operating under a looser
2:21
suitability standard. Oh, that's a huge distinction.
2:24
It is. And then step two is gathering your data
2:27
and defining your goals. And this doesn't mean
2:29
just saying, hey, I want to grow my money and
2:31
be rich. Right. I mean, specific dollar amounts
2:33
by specific dates for specific purposes. Exactly.
2:37
Like saying, I need $80 ,000 in 15 years to fund
2:41
a child's university education. Because if you
2:44
don't know exactly what the money is for and
2:46
when you need it, well, you can't possibly calculate
2:48
the rate of return required to get there. Spot
2:51
on. And that leads directly into step three,
2:53
which is analyzing your current position. This
2:55
is often the most uncomfortable step, honestly,
2:57
because it requires looking under the hood. Oh,
2:59
yeah, the reality check. Exactly. You might find
3:03
you have an 18 % interest rate on a credit card
3:05
balance while... you know, simultaneously trying
3:07
to earn 7 % in the stock market, you have to
3:10
face the mathematical reality of your starting
3:12
line. So from there, we move to step four, which
3:15
is developing recommendations based on the mathematical
3:18
gap between that starting line and your defined
3:20
goals. Right. Then comes step five, implementation.
3:24
And finally, step six is monitoring and revising
3:27
the plan as your life inevitably changes. Yeah,
3:30
it's a continuous loop. Okay, let's unpack this,
3:33
because something massive jumps out at me when
3:35
we lay out those six steps. Investing, like the
3:38
act of actually buying the stocks, the bonds,
3:40
the mutual funds, the stuff everyone actually
3:42
talks about. There's only one fractional part
3:45
of this entire process, and it sits way down
3:47
in step five. It is a pretty deflating reality
3:50
for people who love the thrill of the market,
3:52
but it's crucial. I mean, investing serves the
3:55
plan. It isn't the plan itself. The foundational
3:58
elements like cash flow management, paying off
4:00
toxic debt, securing insurance, all of that absolutely
4:04
must come first. Obsessing over asset location
4:07
across your registered accounts when you don't
4:09
even have an emergency fund or disability insurance.
4:12
That is like installing Formula One racing tires
4:15
on a car that has no engine. That's a great way
4:18
to put it. It looks incredibly fast sitting in
4:20
the driveway, but you aren't actually going anywhere
4:22
safely. But this makes me want to challenge the
4:25
way we talk about this stuff. Like, if this specific
4:28
order of operations is the actual bedrock of
4:31
financial health, why does the financial industry
4:33
rarely teach it? Well, it's about incentives.
4:36
Because when you turn on the TV, it's just a
4:38
ticker tape of stock prices. Right. Nobody is
4:41
reporting breaking news on step two data gathering.
4:44
Exactly. The simple answer is incentive. Step
4:48
five is where the financial products live. And
4:50
frankly, it's where the excitement lives. The
4:52
stock market moves every single second. It generates
4:54
daily headlines, fear, and greed. That's entertainment.
4:58
Exactly. Budgeting, building a three -month cash
5:01
buffer, buying term life insurance. These are
5:04
purely defensive actions. They just don't generate
5:06
clicks or commissions in the same way. Wow. Yeah,
5:08
I see that. But if you skip steps one through
5:11
four, your investing is entirely unmoored from
5:14
reality. Yeah. You know, you are taking on market
5:16
risk without a safety net. Which brings us right
5:20
back to the engine of that car we just mentioned.
5:22
Because moving from the formal, abstract steps
5:25
of planning into how this actually operates in
5:28
the real world, well, it requires us to acknowledge
5:32
a massive shift. Oh, absolutely. The right financial
5:35
answer completely changes depending on your stage
5:37
in life. Your engine has to change as the road
5:40
changes. Right, because your greatest asset is
5:42
constantly shifting. Exactly. Let's look at the
5:45
early career stage. Picture a 25 -year -old.
5:48
They might be earning a modest salary, renting
5:50
an apartment, and dealing with a mountain of
5:54
student debt. Pretty common scenario. Yeah. And
5:56
their financial assets are probably sitting close
5:58
to zero. But they possess something incredibly
6:01
valuable, exceptionally high human capital. Meaning
6:04
they have 40 years of future paychecks ahead
6:06
of them, right? Yeah. Millions of dollars in
6:08
potential earnings that just haven't been printed
6:10
yet. Exactly that. Because of that massive runway,
6:13
their priority shouldn't be agonizing over some
6:16
complex multi -factor asset allocation model.
6:19
Right. Their priority is optimizing cash flow.
6:22
It's systematically eliminating high interest
6:24
debt, building a liquid emergency fund, and capturing
6:28
any employer match on workplace retirement contributions.
6:32
Because that match is basically a guaranteed
6:35
100 % immediate return. You will never beat that
6:37
in the stock market. Never. For this 25 -year
6:40
-old, simplicity is the ultimate feature. A basic
6:44
automated saving structure that they actually
6:46
stick with will drastically outperform a theoretically
6:49
optimal structure that they just find too complicated
6:52
and abandoned after three months. Here's where
6:54
it gets really interesting though. When looking
6:56
at the tax optimization for this exact 25 -year
6:59
-old, our sources explicitly advise that they
7:02
might not want to rush to claim an RRSP tax deduction
7:05
right now. And that just flies in the face of
7:08
so much conventional generalized financial advice.
7:11
It does, but the arithmetic behind it is completely
7:14
ironclad. And RRSP provides a tax deduction today,
7:18
lowering your current tax bill. But you are required
7:20
to pay income tax on the withdrawals later in
7:22
retirement. OK. So how does that play out for
7:24
them? Well, if your marginal tax rate today at
7:28
age 25 is, say, 20%, but you expect to be in
7:32
a 40 % tax bracket during your peak earning years
7:35
at age 45, rushing to use that deduction now
7:38
mathematically wastes its value. Oh, wow. I see.
7:41
Yeah, because RRSP contribution room carries
7:44
forward indefinitely in Canada. So the mathematically
7:46
smarter move is often using a TFSA now where
7:50
the growth is entirely tax free. And then saving
7:53
that accumulated RRSP contribution room for a
7:56
decade later when their income and their tax
7:58
bracket is vastly higher. Exactly. It's brilliant.
8:01
It's literally playing a multi -decade long game
8:04
with your marginal tax rates. And if we connect
8:06
this to the bigger picture, this is really a
8:08
fundamental conversation about risk. We have
8:10
to separate risk capacity from risk tolerance.
8:14
Wait, break that down for us. What's the difference?
8:16
So risk capacity is pure arithmetic. It is the
8:19
literal mathematical amount of financial loss
8:22
your current circumstances can absorb without
8:25
ruining your life. Risk tolerance on the other
8:27
hand is purely psychological. So tolerance is
8:30
how much volatility you can personally stomach
8:32
before you panic and sell everything. Precisely.
8:35
The 25 year old has immense risk capacity for
8:38
market volatility because they have decades of
8:41
future human capital to recover from a crash.
8:44
Let's linger on that for a second because that's
8:45
a huge aha moment for how we view ourselves as
8:48
investors. I might have the psychological stomach
8:50
to ride out a 30 percent market crash. Like my
8:52
tolerance is sky high. Right. But if I get laid
8:54
off during that same economic downturn, and I
8:57
skipped step three and never built an emergency
8:59
fund, my capacity is zero. I literally don't
9:02
have the cash to survive. I am forced to sell
9:04
my investments at the absolute bottom just to
9:07
buy groceries, regardless of my brave psychology.
9:10
That is the perfect illustration. Psychology
9:13
doesn't pay the rent, liquidity does. Wow. And
9:16
then we fast forward the tape to the peak accumulation
9:18
phase, let's say age 45. Right. Now the picture
9:21
is entirely different. The income is likely much
9:24
higher, maybe hitting six figures. But the competing
9:27
demands on that cash flow are intense. We're
9:30
talking about the sandwich generation. Navigating
9:32
a mortgage, funding children's activities, and
9:35
potentially supporting aging parents simultaneously.
9:38
Exactly. This is the stage where complex financial
9:42
machinery finally matters. This is where you
9:44
actually need those Formula One racing tires
9:46
because you finally have the engine to support
9:48
them. Spot on. This is when setting a deliberate,
9:51
sophisticated asset allocation is crucial. It's
9:55
when you are carefully maximizing RESP contributions
9:58
to capture every dollar of the Canadian Education
10:01
Savings Grant for your kids. Right. Leaving free
10:03
money on the table is never good. And critically,
10:06
this is when you absolutely must carry life and
10:08
disability insurance to protect that human capital.
10:12
The entire structural integrity of the household's
10:14
lifestyle depends on that income continuing.
10:17
And how does their risk capacity look now compared
10:19
to the 25 -year -old? It's no longer just about
10:21
age. It actually depends heavily on outside variables.
10:25
Two 45 -year -olds with identical investment
10:28
portfolios could correctly hold completely different
10:31
asset allocations. Oh, really? How so? Well,
10:34
if one has an incredibly stable government job
10:36
and a guaranteed defined benefit pension waiting
10:39
for them, their capacity for taking equity risk
10:41
in their personal portfolio is massive. Because
10:44
the pension acts like a giant fixed income bond.
10:47
Exactly. But if the other person is a freelance
10:49
consultant with fluctuating income and zero pension,
10:52
their capacity to risk is significantly lower,
10:55
even if they have the exact same psychological
10:57
tolerance. Which brings us to the inevitable
10:59
and frankly terrifying turning point. What happens
11:03
when that human capital finally runs out? Because
11:06
From what I'm reading in the research, the entire
11:08
framework of financial planning just flips completely
11:11
upside down. Oh, it is a total inversion of the
11:14
laws of financial physics. We transition into
11:16
the pre -retirement and accumulation phases.
11:19
In pre -retirement, your human capital is declining
11:21
rapidly towards zero and your financial assets
11:24
are hitting their absolute peak. So the priority
11:26
forcefully shifts away from accumulating maximum
11:29
wealth and pivots entirely toward protecting
11:33
that wealth against something called sequence
11:35
risk. OK, I want to push back on this, or at
11:38
least play devil's advocate for a moment. I hear
11:40
what you're saying about sequence risk. But if
11:43
I've been diligently compounding my money in
11:46
the market for 30 or 40 years, hasn't my portfolio
11:49
grown enough that a 20 % drop at retirement shouldn't
11:52
really matter? It's a fair question. But I mean,
11:54
I've got this massive cushion. Why is a market
11:58
crash suddenly so dangerous just because I'm
12:00
older? Because the mechanics of how you interact
12:03
with your money have fundamentally changed. When
12:06
you are accumulating wealth and the market drops
12:08
20%, you are still working. You aren't withdrawing
12:11
money. Right. I'm just leaving it alone. Actually,
12:13
you are likely taking your biweekly paycheck
12:15
and buying more shares at a 20 % discount. A
12:19
crash during accumulation is often a net positive
12:21
for long -term wealth. Oh, I see. You're acquiring
12:23
units on sale. Yes. But in retirement, the employment
12:28
income is gone. You are now drawing down from
12:31
a finite pool. If the market drops 20 % in your
12:34
first -year retirement and you are forced to
12:37
sell shares just to pay your property tax and
12:39
buy groceries, you are locking in permanent catastrophic
12:42
losses. Because you are selling a massive number
12:45
of units at bargain basement prices. Exactly.
12:48
Those units are gone forever. When the market
12:50
inevitably recovers three years later, you have
12:53
fewer units participating in that recovery. A
12:56
bad sequence of returns early in retirement can
12:58
deplete a portfolio decades faster than the exact
13:01
same returns happening in reverse order. Wow.
13:04
So the exact same average return over a 30 -year
13:07
retirement can leave you incredibly wealthy or
13:09
completely broke, depending entirely on which
13:12
year the bad returns happen to show up. That
13:14
is the absolute terror of sequence risk. So we
13:17
move into full decumulation. Let's picture a
13:20
retiree at age 68. The transition from contributing
13:23
to withdrawing is complete. And this is where
13:26
a person who did everything perfectly, who saved
13:28
diligently for three decades, suddenly inherits
13:31
a completely new, highly technical set of problems.
13:34
Right. They face longevity risk, which is the
13:37
very real actuarial danger of living to 95 and
13:41
outliving their capital. And they face mandatory
13:44
minimum withdrawals from their RRF accounts starting
13:47
at age 71. which forced them by law to withdraw
13:50
a creeping percentage of their registered accounts
13:53
every single year, regardless of whether the
13:55
market is booming or crashing. Exactly. And as
13:58
I understand it, they now have to play a high
14:00
stakes game of Tetris with where they pull their
14:02
cash from each month. Like, say the market is
14:05
down violently. Do they pull from their tax -free
14:08
TFSA to let their RRSP recover, even though it
14:11
drains their most liquid emergency bucket? Yes,
14:14
and it gets even more complicated. Do they pull
14:16
from their taxable accounts and risk triggering
14:18
a higher marginal tax bracket, or worse, a clawback
14:22
on their old -age security benefits? It is literally
14:25
a multi -variable calculus problem involving
14:28
tax law, market timing, and actuarial lifespans.
14:32
It is an optimization nightmare. Looking at the
14:34
sheer complexity of that decumulation phase,
14:37
it seems wildly disproportionate. Like, we spend
14:40
40 years being told, just buy diversified funds
14:42
and hold, which is incredibly simple. But the
14:45
moment you retire, you need a PhD in tax law
14:48
to not accidentally ruin your life's work. I
14:50
really do. It feels like this phase gets dangerously
14:54
little attention in mainstream financial education
14:56
compared to the accumulation phase. It is a massive
14:59
structural failure of how society talks about
15:02
money. Accumulation is an easy narrative to sell.
15:06
You know, save more, buy the index, wait. Decumulation
15:10
requires customized hyper -specific planning
15:13
that just doesn't fit neatly into a television
15:16
sound bite. It requires far more careful architecture.
15:18
It gets a fraction of the year time. Having mapped
15:21
this entire life cycle, from the 25 -year -old
15:23
optimizing their cash flow to the 68 -year -old
15:25
navigating the calculus of sequence risk, I want
15:28
to try and distill the ultimate laws of gravity
15:30
from all these sources. Across a lifetime of
15:33
financial decisions spanning everything we've
15:35
covered in our journey, what actually determines
15:37
financial success? When you strip away all the
15:40
noise, the talking heads, and the financial jargon,
15:43
the sources point to five core lessons of capital.
15:47
Number one, contribute consistently. A simple,
15:50
different financial structure that you actually
15:53
stick with through good times and bad will always
15:56
beat a mathematically perfect structure that
15:58
requires too much discipline and gets abandoned.
16:01
Consistency over perfection. Behavior trumps
16:04
math. Exactly. keep costs aggressively low. And
16:08
I have to jump in here because the sources highlight
16:11
a staggering data point on the reality of fees.
16:15
They ran a scenario comparing a 2 % management
16:18
fee against a 0 .2 % fee on a standard $100 ,000
16:23
portfolio over 30 years. The difference, like
16:26
the actual loss of wealth to the investor paying
16:29
the higher fee, was $287 ,483. It's breathtaking.
16:34
You lost nearly three times your initial investment
16:36
to a seemingly tiny 1 .8 % difference in fees.
16:40
That's insane. And the insidious part is that
16:42
nobody ever sends you an invoice for that $287
16:46
,000. It just silently vanishes from your compounding
16:49
returns over the decades. Right, you don't even
16:52
know it's gone. The fee doesn't just take your
16:54
money. It takes the exponential growth that money
16:57
would have earned. It is the most expensive thing
16:59
you will ever buy in your entire life, and you
17:02
will never even see the receipt. That is genuinely
17:05
chilling. So if lesson one is consistency and
17:08
lesson two is protecting your money from fees,
17:11
logic dictates that lesson three has to be about
17:14
how you actually divide up the pie you're protecting.
17:17
Yes. We're talking about the mechanics of the
17:18
portfolio itself. Right. So lesson three is to
17:21
allocate sensibly. The high level split between
17:23
equity. which are the stocks that provide your
17:26
growth and fixed income, the bonds and cash that
17:29
provide your stability, that drives the vast
17:31
majority of your outcomes. So that macro decision
17:34
matters exponentially more than whether you picked
17:37
company A or company B in your stock portfolio.
17:40
Exactly. And that naturally leads into the fourth
17:42
lesson, because once you know what you're buying,
17:46
you have to decide exactly where to put it to
17:49
shield it from the taxman. We're talking about
17:51
asset location. Using the right accounts for
17:53
the right job. You got it. Putting your highly
17:56
-taxed interest -bearing assets in registered
17:58
accounts like an RRSP and maximizing the unique
18:02
permanently tax -free growth of a TFSA. Or utilizing
18:06
the dual -tax benefits of an FHSA if you are
18:09
aiming for homeownership. But none of those first
18:11
four lessons matter at all if you fail the fifth
18:13
and final law of gravity, do they? No, they don't.
18:16
Lesson five to the hardest, don't sell at the
18:18
bottom. Simple to say, hard to do. Very hard.
18:21
And the only reliable, historically proven way
18:24
to achieve that is to write your financial plan
18:26
down before a panic ever starts. You must decide
18:30
what you will do when the market drops 30 % while
18:32
you are sitting in a calm, rational state. Because
18:35
trying to decide what to do while you are terrified,
18:38
watching your life savings plummet on a screen,
18:40
is a guaranteed recipe for permanent capital
18:42
loss. So, what does this all mean? When I look
18:46
at these five lessons, it strikes me that most
18:48
of what masquerades as sophisticated investing,
18:51
you know, the rapid day trading, the constant
18:53
shifting of assets to chase trends, the obsessing
18:56
over daily financial news, it's just motion.
18:59
It's confusing frenetic activity with actual
19:01
progress. What's fascinating here is that the
19:04
true goal of understanding this incredibly complex
19:07
financial system isn't to learn how to beat the
19:10
market. Statistically, very few professionals
19:13
can consistently beat the market over a lifetime
19:15
anyway. The real goal of mastering this system
19:18
is ensuring you cannot be misled by it. It's
19:22
about building enough structural knowledge that
19:24
you don't blindly pay 2 % fees for a closet index
19:27
fund, or panic sell during a routine market contraction,
19:31
or permanently waste your RRSP room during your
19:33
lowest earning years. It's defensive knowledge.
19:35
You're basically building a fortress around your
19:37
money. Exactly. It's about protecting your capital
19:40
from friction, from the drag of unnecessary taxes,
19:43
and most importantly, from your own behavioral
19:45
biases. Which brings us to our full circle resolution.
19:49
We open this deep dive talking about a massive
19:52
hidden transfer of wealth. All of this financial
19:55
machinery we've discussed today, the asset allocation,
19:58
the registered accounts, the tax optimization,
20:00
the six formal steps of planning. It all exists
20:03
to facilitate that one transfer. The millions
20:06
of individual people sitting on $4 ,000 of idle
20:09
money in their checking accounts are intimately
20:12
connected through this invisible plumbing to
20:14
the companies building the $200 million wind
20:17
farms, the hospitals, the national railways,
20:20
and the infrastructure of the modern world. This
20:23
system is entirely load -bearing. Without those
20:26
millions of individual, everyday savers feeding
20:28
capital into the machine, The resources required
20:31
to build the future simply wouldn't exist in
20:34
a usable, concentrated format. That's wild to
20:36
think about. Your portfolio isn't just a digital
20:39
spreadsheet or a retirement goal. It is a literal
20:41
claim on the productive capacity of the real
20:44
economy. Now, before we close out this journey,
20:46
an incredibly important caveat. We have synthesized
20:49
a massive amount of structural information today,
20:52
from sequence risk to asset location. But this
20:56
is a roadmap, not personalized direction. Exactly.
20:59
You must speak to a registered, accountable professional
21:01
for advice tailored to your specific life stage,
21:05
your risk capacity and your unique tax situation.
21:08
And as our sources remind us, you can verify
21:10
a professional's registration and fiduciary credentials
21:13
in under a minute via the Canadian Investment
21:16
Regulatory Organization, CRRO. or your provincial
21:19
securities regulator. Make absolutely sure the
21:21
person guiding your financial life is legally
21:23
registered to give the advice they're offering.
21:26
This raises an important question, something
21:27
for you to mull over as we conclude our time
21:29
together. Okay, what is it? Every single dollar
21:32
you save, every dollar you deliberately defer
21:34
spending today, is actively shaping the physical
21:37
world of tomorrow. Capital flows to where it
21:40
is directed by its owners. So when you look at
21:42
your own portfolio, beyond the compounding returns
21:45
and the brilliant tax efficiency, who are you
21:48
trusting to build the future with your idle capital?
21:51
A profound thought to end on. From the 4 ,000
21:54
in your account to the turbines turning in the
21:56
wind. Thanks for joining us on this deep dive.
21:59
We'll catch you next time.