Investing Theory

I'd like to discuss today an investing theory that I was discussing the other day that will guarantee conservative growth over time. It is based on the theory that most of your portfolio should be conservative with a small percentage (some say 5%) in something aggressive.

The theory behind this is that all of your deposits should be in something safe, be it a bond fund or a GIC or something with guaranteed growth. At the end of the year, any profits that you have made on this investment will be put into something more aggressive, even if it is just a Canadian Index fund.

Let's use a few numbers to get an idea. Assume that your GIC earns 5% per year and that you deposit $10,000 into it each year.

After 1 year: $10,000 in your GIC, earning $500 interest. This $500 gets put into your more aggressive fund.

After 2 years: $20,000 in your GIC, earning $1000 interest. This $1000 gets put into your more aggressive fund, making $1500 total.

After 3 years: $30,000 in your GIC, earning $1500 interest. This $1500 gets put into your more aggressive fund, making $3000 total.

...

After 10 years: $100,000 in your GIC, earning $5000 interest. This $5000 gets put into your more aggressive fund, making $27500 total.

Of course, the more aggressive fund can fluctuate making that $27500 total be able to go up or down with ease. As well, the initial deposits doesn't just have to be into a GIC, you could do 75% conservative deposits, 25% aggressive deposits, with still the interest earned on your conservative investment going into the aggressive investment.

There is one fundamental problem I have with this investment style, and that is that it gets *less* conservative as time goes on. If I have been saving for 20 years, I want to make my portfolio potentially more aggressive when I am younger (to maximize growth) and less aggressive as time goes on. This does the opposite. In this guaranteed system though, there is no potential for loss as you are only "gambling" (if you want to call investing a gamble) with your interest gained.