The federal government should use the upcoming budget to eliminate foreign property restrictions on registered pension plans and RRSP, say economists at TD Bank Financial Group.

In a topic paper released today, TD economists say that the Foreign Property Rule (FPR), which restricts the portion of savings allocated to foreign assets in RRSPs and RPPs, has outlived its usefulness.

TD Economics is urging Finance Minister Goodale to act upon the rule in the 2005 Budget.

TD Economics predicts that Canadians would not allocate more than 50% of their retirement savings to foreign assets, concluding that, “in practical terms, there is little to distinguish between raising the limit and eliminating it altogether.”

TD argues that the rule means that Canadian RPP managers and RRSP holders have to maintain at least 70% of their funds in Canadian assets, “an allocation that is way out of line with the relative size of Canadian financial markets globally.”

The Canadian market for government debt accounts for less than 3% of the world market for sovereign debt. Similarly, the Canadian stock market makes up about 2% of the world equity market, and is highly concentrated in particular sectors. “Factor in the underperformance of the S&P/TSX versus other major global equity indices over the last 25 years, and it’s clear that the FPR triply compromises Canadian investors’ ability to construct well-diversified portfolios that maximize risk-adjusted returns,” it says.

TD notes that few Canadians maximize their foreign content allocations as it is. And, fewer still, have adopted strategies to get around it by using derivatives and derivative-based funds.

Because strategies for avoiding the FPR are complex, TD says “Typically, only larger employer pension plans have the resources to make use of these opportunities. As a result, the application of the foreign property rule is patently unfair for the vast majority of pension savers.”

TD claims that the original rationale for the FPR – a cheaper source of financing for Canadian industry – no longer exists. It also rejects the argument that lifting the rule could hurt the dollar, particularly as the currency has gained 30% in the last year.

TD says the benefits of dropping the rule would be large. Earlier research estimated that raising the limit from 20% to 30% could add 0.31% in annual returns, a 9.9% increase in terminal portfolio wealth over 20 years. This is particularly important to the Canada Pension Plan, TD argues.

“Eliminating (or at least substantially raising) the foreign asset restriction on registered investments would be a win for all segments of the Canadian economy,” TD concludes.