Hot Off the Web– May 15, 2009 WSJ’s Lynch and Ng report that “US moves to regulate derivative trade” . While still requiring Congressional approval, the proposal would give regulators the “authority to force many standard over-the-counter derivatives to be traded on regulated exchanges and electronic-trading platforms. That would make it easier to see prices and make markets more transparent.” The clearinghouses would also act as guarantors (as current commodity and futures exchanges). Large derivative holdings, e.g. CDSs and other swaps that could pose systemic risk, would have special reporting requirements. The proposals also include regulatory structure simplification. (Sunlight/transparency is a wonderful disinfectant; this would be an improvement. Regulatory simplification would be a blessing, especially if it spilled over into Canada as well!)

In the Financial Times’ “This has not been a pure failure of markets”Leszek Balcerowicz looks beyond “greed” or market failure as the cause of the current crisis. Looking a little beyond symptoms he suggests the Fed’s easy monetary policy, (inadequate) regulatory policies pertaining to mortgages, policies allowing/encouraging “huge financial conglomerates” (the too big to fail type). He concludes the causes and corresponding fixes have nothing to do with failure and reinvention of capitalism. And “under democratic capitalism there are always influential intellectuals who condemn capitalism and call for the state to restrain the markets. Such an activity bears no risk and may be very rewarding. (This contrasts strongly with the consequences of criticizing socialism while living under socialism.) Dynamic, entrepreneurial capitalism has nowadays no serious external enemies; it can only be weakened from within. This should be regarded as a call to action – for those who believe that individuals’ prosperity and dignity are best ensured under limited government.” (Interesting article authored by the former governor of the National Bank of Poland and deputy Prime Minister.)

Jamie Golombek write in the Financial Post’s “The best tax break you’ve never heard of” that recent Canadian tax changes provide relief to estates of those who died before the market crash and RRSP/RRIF would have been valued for tax purposes on date of death but only paid out to beneficiary after the crash. “In such a case, the estate could end up paying tax on an amount that is actually greater than the amount that is received.” The change allows “the post-death loss to be carried back and deducted against the RRSP/RRIF income on terminal return.”

Diane Francis thinks it is time to buy in FL/AZ/NV in the National Post’s “Bargain hunting stateside” , so long as you do it “ruthlessly”! The combination of homeowners with underwater mortgages and foreclosures may allow “if you do your homework and are a vulture by sticking ruthlessly to a stink bid price, you could potentially come up roses.” (Let’s hope she is right; some Canadians appear to be eagerly buying. Not clear in all cases if the driver is lifestyle choice or expectation of profit; hopefully the former.) In a related WSJ article “April drop in listings for homes”, James Hagerty reports that US inventories as measured by homes listed for sale were down compared to April 2008 figures. But not everyone agrees that this is necessarily a positive indicator; the biggest institutional owners of foreclosed homes usually only list about half the homes they have on hand and inventory of foreclosed homes may not peak until 2010.

WSJ’s Spector and Banjo write that “Donors find gift annuities can stop giving” .  “You make a donation to a worthy cause and, in return, receive regular lifetime payments. But so-called charitable gift annuities don’t always deliver what they promise — a risk that could intensify if the recession persists.” You make the donation to a charity, and you receive an immediate tax benefit for a portion of the annuitized amount that is expected to remain with the charity based on your life expectancy; the annuity payments are also partially tax-free as they are considered return of capital. Charitable annuities are guaranteed by the charitable institution that you deal with and if the institution runs into financial difficulties, your annuity may be at risk (the same way that if the insurance company that you deal with goes bankrupt). The problem is that it is even more difficult to determine/predict the financial state of a charity than that of an insurance company. (Similar charitable annuities are offered in Canada and likely have similar risks as the U.S. ones. If you are considering one, you’ll want to investigate the exposure that you are assuming.)

Financial Times’ Pauline Skypala reports on UK’s new national pension system to be introduced in 2012 in “Fresh thinking key for new pension” . The design challenges of such a fund include: factoring in the risk aversion of the target membership, designing a correspondingly conservative default fund without making it “recklessly conservative” and thus risking a meagre retirement income, lifestyle approach (reduced risk near retirement) vs. target-date fund approach, active vs. passive  management, the type/number of funds offered in addition to the default. Skypala expects “plenty of objections to proposals, particularly where they challenge vested interests.” (No doubt that eventually Canada will have to reform its long-neglected and crumbling private pension system and similar problems will have to be tackled; unfortunately the discussion has just started on the need for a new architecture for Canada’s pension system and so far the Federal and provincial government are (with the exception of BC and Alberta) are still in denial stage.)

So why are Canadians still buying mutual funds? Jonathan Chevreau reports in the Financial Post that “Canadian funds get an F for fees” . In the source report that he is referencing, the “Morningstar mutual fund report”, they indicate that “Canadian investors do not pay much attention to fees. Canadian investors are comfortable with the fees because they don’t know how low these fees should actually be. Assets tend to flow into average- or higher-fee funds because Canadian investors use financial advisors to help them make decisions. Advisors direct client assets to funds that pay better trailers. And since the trailer is included in the MER, the result is that assets flow into higher-fee funds.” (Amazing! You’d have thought that with all the ink that has been spilled on the outrageous Canadian mutual fund fees, Canadian would have figured it out now; you recall the saying “But where are the customers’ yachts? Hopefully, at least readers of this website have stated redeploying their assets from mutual funds to ETFs.)

In another article this week Jonathan Chevreau discusses a recent CBC TV show “Can you trust your financial advisor?” .  He was quite hard on the show which focused bad apples among “financial advisors who are not acting in the best interests of their clients”. Chevreau feels that the bad apples are rare and the program did not add anything new to the discussion. (I haven’t seen the program in question, but given the number of advisors who put their clients into Canadian mutual funds with unconscionable F-rated fees, rather than ETFs, the ‘buyer beware’ message is worth repeating.) Interesting, that others had the same reaction to Chevreau’s blog; see his follow-on Friday “Ethical advisors ostracized for utilizing passive investing” .

Chevreau also gives a strong endorsement to Lynn Biscott’s new book “The boomers retire”. I have not seen the book, but Chevreau indicates that it is “a serious financial planning book, aimed at financial advisors in Canada, but also their more financially literate clients.” (Sounds like it’s worth reading, with an endorsement like that.)

Also by Chevreau is a warning in “Investor group blasts makers of leveraged ETFs”  as he reports on the uproar associated with leveraged and inverse ETFs (just because it’s an ETF it doesn’t mean that it is good for you and you should buy it). FAIR demands that a new prospectus be issued “carrying an explicit warning that they are not suitable for holding longer than a few days “nor are they for virtually all retail portfolios.” “ Beta Pro’s Canadian ETF is mentioned as an example where “if in March 2008 you bought a bear ETF offering twice the inverse of the return of the TSX’s energy index, you might have expected a 79% gain, considering that Canadian energy stocks fell 39.4% over the next 12 months. But instead, the bear ETF actually declined 25.4%.” (You might recall that we discussed this type of ETFs in the March 1, 2009 Hot Off the Web, indicating that these ETFs are not hedging mechanisms for long term investors, but only suitable for day-trading, which is not encouraged in this blog.)

And finally on the Nortel saga (a tragedy for employees, pensioners and the future of high-tech in Canada), the Ottawa Citizen’s Bert hill in Nortel’s creditors could soon run out of patiencesuggests that “The key now is  (for governments)to provide some limited assistance to ensure that as many Nortel product lines and patents, jobs, suppliers and pension obligations are protected as possible as they make the transition to new owners. Hopefully, some will go to a new small Nortel with a chance to find a competitive edge.”  But Hill warns that the Canadian operations need cash from US operations to keep running, which in turn requires approval by US creditors; however the US creditors “could step in with a separate plan that could lead to the liquidation of the company.”


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