This is the third part in a series on implementing a do-it-yourself Smith Manoeuvre. You may also want to check out Part 1 and Part 2 of the series.

Now that you have a readvanceable mortgage, the investing part is really simple. Open a separate investment account with one of the low-cost mutual fund providers. TD Mutual funds is my favourite but CIBC Mutual funds (if you qualify for their MER rebate) and Altamira are competitive options.

First, decide on the portion you want to allocate to Canadian equities. There are many schools of thought on how much should be allocated to Canadian equities. Dan Solin, author of The Smartest Investment Book You’ll Ever Read, suggests allocating 20% to Canadian stocks. You could pick slightly more or slightly less but it’s important to stick to the allocation and not chase performance. Next, simply split the rest of allocation between US equities and those of developed markets. A sample allocation would be 20% Canadian equities, 40% US equities, and 40% developed market equities.

Now, select the fund you are going to use to capture the respective equity allocation. If you choose to invest with TD mutual funds, you would invest 20% in TD Canadian Index (TDB900), 40% in TD US Index (TDB902) and 40% in TD International Index (TDB911).

After the first mortgage payment and every payment thereafter, transfer an amount equal to the principal portion of your mortgage payment from the investment loan account into the mutual fund account and invest in the three funds based on your initial allocation target. Also, when you pre-pay your mortgage (as you would when you receive a tax refund after filing your return), you would borrow an amount equal to your principal repayment and invest the proceeds.

You will notice that there is no allocation to fixed income. This is deliberate due to two reasons: (1) It makes no sense to borrow and invest in bonds (2) Since the investment account is taxable, interest income from bonds is taxed at your marginal rate (3) I’m not convinced that investing in bonds withstands the “reasonable expectation of profit” test and (4) Regular investing automatically takes advantage of market fluctuations. If you do go this route, make sure that you have enough bonds in your registered accounts to achieve your target allocation to bonds across all your portfolios.

While I am not a fan of SM, I think the low-cost, tax-efficient, portfolio discussed in this post increases your odds of success. If you do decide to implement the SM, don’t forget to check with your accountant that your process will withstand scrutiny from the CRA.

[Update: You may want to check out the excellent points made by Jason in the comments section. Jason points out that you can reduce some of the risks of SM by not borrowing the entire principal payment portion back. Another option would be to decide how much of your home equity you want leveraged and figure out your investment loan based on that. For example, let's say that your home is worth $300K and you decide to eventually leverage 50% of your home's equity. If your mortgage is $150K, you'll to borrow back the entire principal payment amount to reach your target. If instead your mortgage is $240K, you'll borrow 62.5% of your principal payment.

Though I belong in the camp that currency hedging isn't worth the cost and over the long run, currency fluctuations even out, not everyone will be comfortable with the wild swings in currency. If you belong in that camp, you may want to choose the currency-neutral versions of the US Index Fund (TDB 904) and International Index Fund (TDB 905) instead.]