Hot Off the Web- October 9, 2009

Personal Finance and Investments

The great HST debate aside, the Globe and Mail’s Derek DeCloet in “A bit rich: The fundco case for HST exemption” points out that the emperor (Canada’s mutual fund industry) has no clothes. While the Canadian mutual fund industry wines about the extra 5% (0.125%) tax on the typical MER of 2.5% because of the damage this would cause to the poor investor, how about the damage caused by the 2.5% MER instead of 0.25% MER associated with similar ETFs? (In any case, why are Canadians still buying these mutual funds, when ETFs are available? Who knows!?!)

Lawrence Strauss in Barron’s “Krawcheck stakes her new claim” argues that “While some of the old lessons were battered a bit in 2008, they still hold true: There is only one free lunch in investing, and this is asset allocation,” says Krawcheck. “Over time, it consistently leads to higher returns and lower risk.” She adds: “Last year was a year of anomalies.” “Risk is not just about standard deviation,” she says. “It’s about how much money you can lose.” “In asset allocation, for instance, she doesn’t just mean a mix of stocks of bonds. Alternative investments such as hedge funds and private-equity funds are essential for superior portfolio performance, she says.”

If you are thinking about target-date funds, there were some interesting articles you might want to read. Daisy Maxey in WSJ’s “Target-date funds regain some bragging rights” discusses the importance of ‘glide paths’ and the wide range between min-and-max for the available funds. (I am less enthusiastic about target date funds; it’s not just the ‘glide path’ selection, but there are just too many constraints associated with them. In MarketWatch, Sam Mamudi reported that “Vanguard tops Morningstar target-date ratings” ; unfortunately not available in Canada. Also unfortunately, while Vanguard was in Toronto this week to make a pitch to institutional clients, there was no mention of offerings to retail investors “Vanguard’s low fees no match for ours”. (Not sure why, since their opportunity is really with retail investors; unless they are looking for an institutional partner to act as distributor for some of their funds in a Canadian wrapper.)

Jonathan Chevreau in his Financial Post article warns readers that “Financial planning is still about selling”. There is much work to be done to educate investors and to regulate this much misunderstood industry.

With the unfortunate suspension of the earliest (if not the first) website providing valuable ETF/CEF data, , (CEF only data is now available at new sources are needed. WSJ’s Sam Mamudi in “Web resources for the ETF investor” lists, ,,,,

Jeff Opdyke in WSJ’s “Inflation protection: No guarantees” questions if TIPS, gold funds (both those that hold the physical and those that hold futures), commodity funds (generally futures based) will provide the expected inflation protection. His warnings are well worth heeding.

Brett Arends in WSJ’s “As bonds look risky, finding shelter in covered calls” suggests that since bonds are expensive (true) nowadays investors should consider instead funds which use covered call strategies. (I’d be careful with this advice. Investors use bonds in their portfolio because the want safety of principal and interest. If the stock market tanks again, the covered call fund will tank with it; compare GATEX to BND. If you need a little extra yield how about using a short-term (low duration) bond fund.)


Today’s believe it not story is Bert Hill’s Financial Post article “Zafirovski seeks $12M from Nortel”. Zafirovski left Nortel (abandoned ship) in the middle of the bankruptcy protection process initiated by him, after collecting over $30M over the previous three years while running the company into the ground, but he hasn’t left the trough. He just put in a claim to the Court for $12M from the remaining assets of the company. His claim has the same priority as the underfunded pension plan “trust” fund. Can you think of a better example of why changes are required to the BIA (Bankruptcy and Insolvency Act) to give priority to underfunded pension plans? I sure can’t. (By the way, in the US pensioners (with trust funds) are already protected up $54,000/year, so lack of pension priority in the US Courts is a lesser issue.)

Jonathan Chevreau links readers to Sherry Cooper’s “Remaking the retirement plan, post-crisis”. The “only” good news is that boomers are healthy and can expect to live longer and there will be opportunity to work longer; however they will have to work longer, scale back expectations, state benefits US retirement income replacement rate is 45% for income up to $50K compared 60% in Europe and about 58% in Canada (not sure about the accuracy of the Canadian number- either the $50K is wrong or the 58% is wrong, e.g. see Watson Wyatt’s Shaping private pensions, with the exception of those with lower incomes, Canadians don’t fare well among OECD countries). The other message is that you can’t assume 5% withdrawal rates for portfolios expected to last a lifetime!

Things to Ponder

The Financial Times’ Chrystia Freeland in “Investors had little choice but to keep on dancing” writes that while many argued that the financial crisis was due to greed or stupidity, the “biggest driver of the crisis was systemic. The boom and bust happened because investors obeyed the logic of the markets.” “The problem with requiring financial players to keep on dancing while the music plays is that only the very lucky and the very smart are quick enough to grab a chair when the music stops. That is why the wisest participants know it is in their interests – and those of the taxpayer – for a more powerful regulator to be established with the authority and courage to slow down the music for everyone.” (Interesting article.)

John AUrthers writes in the Financial Times’ “Financialisation genie set loose” that “Financial investors treated commodities “increasingly as an alternative asset class to optimize the risk-return profile of their portfolios” and paid “little attention to fundamental supply and demand relationships in the markets for specific commodities”.” Critics argue that by taking a position in futures and holding it, these funds add upward force on prices without any countervailing pull downward.”

The Financial Times’ Pauline Skypala asks “Is it time to act on distribution?”. “The long-term savings industry does not work well in Europe. Costs are too high (much lower than in Canada), risks are often misrepresented or insufficiently spelled out, and investors are encouraged to switch regularly into new fashionable products rather than pursue a longer term approach.” Who is at fault: product manufacturers, regulators, distributors or governments? “Governments too could be blamed, for encouraging the transfer of risk to individuals without making sure the financial services industry would provide appropriate products and services.” High and opaque sales commissions are justified by the need for advice, which nobody wants to pay for; however the act of paying for advice does not insure that one actually gets (any or good) advice. Investment and finance is a business where asymmetry of information and knowledge is overwhelming. Changes are required whereby, in civilized countries, citizens’ long-term savings are naturally channeled into low-cost index-based vehicles. Changes are required not just to adjust the balance of power between investment managers and distributors, but also between both of them and the consumer (the investor) the supposed beneficiaries of this activity. (No doubt this would apply to Canada even more.)

Steven Sears in Barron’s “Seeking safe returns in a perilous world” interviews Pimco executive about a new fund which “maps risk factors rather than asset classes, while perpetually hedging against significant market declines.” The new approach, rather than relying on (backward looking) volatilities and correlations, considers risk factors such as inflation/deflation, interest rates, credit spreads, currency, fat-tail, and others and hedge against catastrophic losses. So while asset allocation will continue to be important, they argue that there is need for a tactical component.

John Authers in the Financial Times’ “Triumph of common sense over benchmarks”predicts that one thing will change for certain as a result of the recent market meltdown: “we are going to change the way we judge fund managers.” Benchmarks (which encourage conservatism and closet indexing) and allocations to style boxes will be replaced. “Rather than watch everyone herd towards benchmarks, while charging fees for active management, in future perhaps a lot of money will be managed passively and the rest will be allocated to investors who can show they have skill, and who have the freedom to go wherever they believe they can profit.”

Andrew Lo writes in the Financial Times’ “When the wisdom of crowds becomes the madness of mobs” that “The influx of significant assets into any given strategy has three effects: (1) it reduces the strategy’s expected return owing to competition; (2) if there is any expected return remaining, this portion will be a source of correlation or “beta” among all investors in the strategy; and (3) if enough assets are invested in this strategy over a sufficiently short period of time, the strategy can become a “crowded trade” that is illiquid and subject to large, unpredictable swings in profits and losses. “ “Technology has changed the very definition of passive investing, which used to be synonymous with market capitalisation- weighted portfolios of a fixed set of securities. Thanks to advances in trading technology, index portfolios no longer need to be static or cap-weighted, and may involve more frequent rebalancing while still being investable, transparent and passive.”

Oakley and Meyer in the Financial Times’  “Star is rising for emerging markets”  argue that “for many  people the future of investing can be summed up in two words: emerging markets.” Some of the arguments: root cause of the financial crisis was from developed countries, China, rather than the US, is leading world out the crisis, “You’re basically buying something with similar risk, yet has better growth characteristics.”, why is Brazil considered and emerging market while Italy is considered developed, “the average pension fund only allocates an estimated 5 per cent of its portfolio to emerging markets, yet they make up 30 per cent of the world’s GDP”, and “Emerging market stocks now make up 11 per cent of the FTSE All World index compared with 3 per cent in 2000”. (Sounds convincing, but emerging market stocks already had a good run since the March bottom, so don’t overdo it.)

And finally, Jeremy Siegel (after having taken much battering over his advocacy of Stocks for the Long-Run) strikes back with the Financial Times’ “Long-term stocks will win through”, arguing that “a look at history shows that recent experience is not uncommon and excellent returns are available to those who survive such rough patches. Since 1871, the three worst ten-year returns for stocks have ended in the years 1974, 1920, and 1978. These were followed, respectively, by real, after-inflation stock returns of more than 8 per cent, 13 per cent, and 9 per cent over next ten years. In fact for the 13 ten-year periods of negative returns stocks have suffered since 1871, the next ten years gave investors real returns that averaged over 10 per cent per year.”


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