Your Investing Questions Answered

When in Rome, you'll find the best pizza and gelato if you speak Italian. In that vein, whether you're a seasoned investor or just starting out, here are some terms to add to your vocabulary.

1. What is the Rule of 72?

The Rule of 72 is, very simply, a math hack that lets us estimate how long it will take for an investment to double in value. Here's how it works: You divide the number 72 by the annual return you expect to generate on your investment and voilà — the result is how many years it would take to double your money. Keep in mind, the Rule of 72 isn't an exact determination, but more of a rule of thumb or approximation.

2. What is Compound Interest?

Compounding interest can be defined as "interest on interest." It means earning interest on your initial savings and then reinvesting it so you can earn interest on the new total – the original amount plus the interest. Simple interest, on the other hand, is interest paid on your initial savings only.

3. What Investments Can I Hold in My RRSP?

Your Registered Retirement Savings Plan (RRSP) can hold different types of qualified investments, such as stocks, bonds, options, mutual funds, exchange-traded funds (ETFs), treasury bills (T-bills) and guaranteed investment certificates (GICs).

Your annual RRSP contributions are limited to 18 per cent of your previous year's income, to a maximum set by the Government of Canada, plus any carry-forward contribution room you may have from previous years.

4. What is Dollar-Cost Averaging?

Dollar-cost averaging involves investing a set dollar amount on a regular basis (bi-weekly, monthly or quarterly, for example) regardless of current market prices. Rather than investing a lump sum all at once at one price, dollar-cost averaging is a strategy aimed at reducing risk by taking the guesswork out of timing the market. The idea is that while you will pay more for some of your shares, and less for others, the overall amount per share will average out in the end (and ideally total less than you would have paid had you purchased at one set price). Remember: Trading commissions can add up with frequent purchases, which can affect overall performance.

5. What is a Buyback?

When a company repurchases its own shares, this is called a share (or stock) buyback. Buying back shares is one way a company can return cash to its shareholders. (Dividends are another.) A buyback can send mixed signals to the market, meaning there's no real rule of thumb as to how share prices will react. A buyback can be seen as a vote of confidence by management because, among other things, it can demonstrate the company is financially healthy and doesn't need additional equity financing. However, a buyback could also be interpreted as a poor deployment of cash by management. If a company takes on debt to repurchase its shares, that could lead to a lower credit rating, which may make it costlier to run the business. A buyback may also signal that few growth opportunities are available as an alternative for deploying excess cash.

6. What is Asset Mix?

Asset mix refers to the mix of investments in your portfolio. Your asset mix is determined by the type of investor you are, the level of risk you're comfortable with, your investment goals and your time horizon. Your mix is generally created from the three main asset classes:

• Equities tend to offer the greatest long-term growth potential and can help you beat inflation; they also carry the most risk.
• Fixed-income investments (bonds, some GICs and more) can help you preserve your capital and provide steady income.
• Cash and cash equivalents offer security but also liquidity, so that you can take advantage of opportunities as they arise.

7. What Does P/E Ratio Tell Me About a Stock?

Considered one of the most common measures for looking at stocks, the price-to-earnings ratio (P/E ratio) evaluates the relationship between a company's stock price and its earnings. In simple terms, it's often considered a measure of how overvalued or undervalued a company's stock is.

In theory, a higher a P/E ratio means that investors may be anticipating higher growth in the future and could be willing to pay more per share. On the other hand, a low P/E might mean that a stock is undervalued or that markets expect little earnings growth.

A P/E ratio is more helpful when there's something to compare it with. Some useful benchmarks can include:

• P/E ratios of other companies in the same industry (think of it as apples to apples).
• Overall market P/E ratio (such as the S&P 500).
• The company's P/E ratio at various points in its history (detailed quotes can offer this).

8. What Investments Can I Hold in My TFSA?

In short, you can largely hold the same investments in your Tax-Free Savings Account (TFSA) that you can in a Registered Retirement Savings Plan (RRSP). Despite their name, TFSAs are more of an investment account than a traditional savings account. TFSAs allow for a range of investments, such as cash, GICs, bonds, stocks, ETFs, mutual funds and options.

There are two key points to keep in mind when choosing your TFSA investments:

• The Canada Revenue Agency only allows qualified investments in a TFSA. If a security trades on at least one exchange that's considered a Designated Stock Exchange by Canada's Finance Department, it will generally be recognized as a qualified investment.
• If you choose to include investments that pay foreign dividends, be aware that many countries, including the United States, apply a non-resident withholding tax to dividends and interest, which may affect your returns.

This article was featured in our special issue, as seen in the Globe and Mail. Download the full magazine HERE.