Hot Off the Web- January 10, 2011

Personal Finance and Investments

Brett Arends in the WSJ’s “Why you shouldn’t trust Wall Street’s top picks” explains that the most hated stocks out-perform the most loved one year after year because “Investors frequently forget that stock-market predictions aren’t like, say, weather predictions, because in the case of the stock market the predictions actually change the weather. If everyone on Wall Street already likes a stock, they probably already own it. And if that’s the case, they’ve probably already driven up the price higher than it should be. Meanwhile, if everyone hates a stock—and especially if its reputation has fallen so low that professional fund managers are actually afraid to own it—there’s a good chance it has already fallen too far.”

In the NYT’s “Trick yourself into spending less” Tara Siegel Bernard writes that “the best strategy is not to think about it as budgeting at all. Instead, set up broad goals and automate all savings and other priorities where you can…And think about working backward, as a way to keep things simple: Instead of setting up an overly detailed budget, first decide how much you want to save for retirement and other goals, then work with what’s left over. If you want to cut spending, attack a few big categories where you can make the biggest difference…Just don’t rely on doing it yourself. Arrange to have the money withdrawn from your paycheque.”

In the Globe and Mail’s “It’s easy to get a free credit report. Honest!” Dianne Nice provides the phone numbers necessary for Canadians to get their free credit reports: Equifax: 1-800-465-7166; TransUnion: 1-800-663-9980 (outside Quebec) or 1-877-713-3393 (within Quebec)

The Globe and Mail’s Rob Carrick explains “Why advisers may not set you on the right path to retirement” He points out that “There’s an idealized view of retirement that says you have to live better than you did in your working years. There’s nothing wrong with that, but what’s so bad about living the same, or close to it? ….What’s so far missing from this discussion about having enough money for retirement is the kind of analysis a financial adviser can provide. An adviser can tell you how much you’ll have in retirement based on your current savings, how much income that will generate and how long it might last. If you don’t like what you hear, an adviser can help you sharpen your savings approach.”

Also Rob Carrick in the Globe and Mail’s “A portfolio that rewards simple, patient investing” reports that his ‘two-minute’ portfolio has outperformed the S&P TSX composite index by 1.6% on the average over 25 years. (Hmmm…from an industry sector perspective  it may be better diversified than TSX index, but with only the two highest yielding stocks in each sector there is higher individual stock risk, and you may wish to consider the annual turnover and taxes resulting from it.)

In the WSJ’s “The incredible shrinking fee” Jonathan Burton writes how the competitive forces which are driving down the fees associated with ETFs and mutual funds, and how all the benefit is accrued to the investors who build portfolios composed of low-cost funds (Vanguard is a star in the article). Low fees are especially important in a low-return environment. Further fee reductions are possible with the increase size of the funds. Another driver of lower fees is the income generated by securities lending activities of funds. (The article makes no mention of how one might assess the risks associated with this securities lending activity of specific funds; I discuss this topic in ETF Concerns: There are risks, but thanks I’ll stay with ETFs for my money )

In Bloomberg’s “Wall Street turns stock gains into investor losses with structured notes” Zeke Faux discusses how reverse convertibles, aggressively pushed by some investment houses, are nothing more for investors than a triumph of hope over reality and fat fees for the seller of the structured notes. “Banks sold more than $6 billion of bonds linked to the performance of stocks last year, promising returns of as much as 64 percent at a time when interest rates were at historic lows …Banks charged fees that average 1.6 percent on a three- month reverse convertible, or about 6 percent a year, the data show… Professional money managers generally don’t buy reverse convertibles because they can pay less in fees by trading derivatives directly, according to Tongue and O’Flaherty. Small investors would need a computer model and access to options pricing data to see if they’re being compensated fairly for the risks they’re taking on, O’Flaherty said.” While this is an easy sale in an ultra low interest environment, “Just because something can be sold doesn’t mean it should be”. (So beware if your advisor suggests high yields via reverse convertibles or other structured ‘products’.)

(The topics of Real Estate and Pensions had a slow start over the holiday season, more on these next week.)

Things to Ponder

Surprising data in the economist’s “Africa’s impressive growth” indicates that “an analysis by The Economist finds that over the ten years to 2010, six of the world’s ten fastest-growing economies were in sub-Saharan Africa. On IMF forecasts Africa will grab seven of the top ten places over the next five years. (Thanks to CFA Newsbriefs for bringing article to my attention.)

In the Financial Post’s “For your protection” Steven Griggs the executive director of the Canadian Coalition for Good Governance, which “represents most of Canada’s leading institutional investors, persuasively argues for a much needed national securities regulator which the federal government is trying to push through over the objection of some provinces.(While the ineffectiveness of the current fragmented provincial regulatory system is common knowledge, it is also fair to point out that the creation of a national regulator is a necessary but not sufficient condition for better investor protection in Canada. The present government, through its lack of action on protecting existing pension commitments in case of sponsor bankruptcy and its lack of concrete action on pension reform, has demonstrated that its interest in investor protection is not what it should be. ) (Thanks to DB for recommending article)

Larkin and Park in Bloomberg’s “Gold set for the longest losing run since 2009 on U.S. recovery”  predict that after 30% gain in 2010 things will soften for gold in 2011 with he expected strengthening of the U.S. dollar expected with a stronger economy.

Tom Bradley in Globe and Mail’s “Investing questions that need to be asked” says that “Finding the right answers is easy. Asking the right questions is the hard part.” He then suggests some interesting questions like: Can cash rich companies thrive “while debt-ridden governments and consumers cut back”? How to position oneself for a possible two percent increase in interest rates? In considering strong views on investments one should keep in mind “No asset can be considered a good idea (or a bad idea) without reference to its price” and “Are there compelling reasons to diverge from my long-term asset mix”? (He says not to him, though he is holding more cash than usual in lieu of. government bonds.)

In WSJ’s “Global food-price index hits record” MacDonald and Pleven report that “A prominent indicator of international food prices hit a record high in December, sounding a warning about looming threats to the world’s poor and to global growth.” This index tracks export prices, rather than domestic prices which may be subsidized.” The prior record was set months after violent food riots struck several nations, an experience that is heightening concerns about potential consequences from the current rise.”

Kevin Carmichael in the Globe and Mail’s “Friedrich von Hayek’s time has come” calls Hayek “the man the economics profession left behind”. “Hayek saw the business cycle differently: Booms and busts were unavoidable because business investment always gets ahead of consumer demand. Tampering by politicians and central bankers will only make things worse by encouraging “malinvestment,” which only prolongs the downturn.” Hayek’s views are getting more and more uptake in the U.S. especially due to the “backlash against the Wall Street rescue and deep skepticism over the Fed’s creation of hundreds of billions of dollars to buy bonds and other financial assets, has moved mainstream thought in the United States considerably closer to libertarian fringe.” (For those of you who are interested in the topic you might want to read Hayek’s “The Road to Serfdom”; highly recommended.)

In the Globe and Mail’s “Is there enough oil to repay debt?” Jeff Rubin argues that “History would suggest that the yield on a 10-year U.S. Treasury bond should be close to double what it is, given the size of Washington’s borrowing program….The reason it’s not is that creditors and debtors both share a common belief that a powerful economic recovery lies just around the corner…”. Rubin suggests that with the economy recovering oil consumption has started to accelerate and oil prices already are near triple digits. He then asks “how sustainable economic growth would be in a world of oil prices of $100 to $225 per barrel. Because those are the price parameters we’d be facing in the unlikely event that we actually see the kind of economic growth that bond markets and public treasuries around the world are so desperately depending on.”

And finally, in the Financial Times’ “In the grip of a great convergence” Martin Wolf discusses “Convergent incomes and divergent growth – that is the economic story of our times. We are witnessing the reversal of the 19th and early 20th century era of divergent incomes“. China and India with their much higher growth rates compared to the developed countries are on the way to close the GDP gap with them in the same way that Japan and Korea have largely done so in the past 50 years. Referring to the radically higher emerging market growth rates, Ben Bernanke is quoted as saying that “in the second quarter of 2010, the aggregate real output of emerging economies was 41 per cent higher than at the start of 2005. It was 70 per cent higher in China and about 55 per cent higher in India. But, in the advanced economies, real output was just 5 per cent higher. For emerging countries, the “great recession” was a blip. For high-income countries, it was calamitous. The great convergence is a world-transforming event. Today, the west – defined to include western Europe and its “colonial offshoots” (the US, Canada, Australia and New Zealand) – contains 11 per cent of the world’s population. But China and India contain 37 per cent. The present position of the former group of countries will not be sustained. It is a product of the great divergence. It will end with the great convergence.”