Hot Off the Web– September 20, 2010

Personal Finance and Investments

In the Globe and Mail’s “Have losers in your portfolio? Think before you sell” Tim Cestnick suggests that you ask two questions before you sell your losers: (1) “Unhappy with the investment?” (changed fundamentals or better opportunities), and then (2) “Do you have capital gains this year or in the prior three years against which to offset your capital losses?”. Cestnick advises care, if you sell to capture the capital loss and buy within 30 days “identical property”, in which case the CRA would disallow the loss. But if you replace one index fund with another where “underlying basket of securities or their weightings are at all different from each other, this may allow you to switch to a very similar index fund or ETF without worrying about your loss being denied.”

The Financial Times has an ETF report “FTfm: Exchange Traded Funds” in which you might find some articles of interest, such as “’Handle with care’ label for complex products” (“Synthetic replication, exchange traded commodities and notes, inverse and leveraged ETFs, are all developments that have left many investors far from clear what they are buying”), “Recurrence ‘not only possible but likely’” (referring to the “flash crash”), “US review casts doubt on leveraged funds’ future status”(the SEC is conducting an “ongoing review of funds using leveraged and inverse swaps”).

Kim Covert in the Financial Post’s “Are your financial ducks in a row?”reports on Adrian Mastracci’s check list of for your financial life including items such as : (1) retirement projections (are needs and portfolio are aligned), (2) are you saving as much as you have capacity to save, (3) are beneficiaries appropriately named (insurance policies, RRSPs), (4) have a will and is it up to date? and (5) adequate insurance coverage?

Dan Richards in the Globe and Mail’s “Retirement tips from someone who has seen it all”lists some of Paul Merriman’s successful retirement success criteria: (1) life quality is shaped by the people in your life (not material things) , (2) “wealth comes from choices not chances” (live below your means, don’t ratchet up your expenses, diversify broadly and have a written plan) and (3) “don’t wait to start” (defer gratification).

Rob Carrick’s insightful Globe and Mail article “A retirement product that’s guaranteed but not very attractive” explains clearly why GMWBs don’t make sense. (GMWBs not only are on my don’t buy because they are too expensive and too complicated but, as indicated in my last week’s Hot Off the Web, these products are triumph of hope over reality; unfortunately there has been some endorsement of GMWBs recently as a result of some books and articles advocating their potential value. You might also want to see my couple of years old   GMWB I , GMWB IIblogs)

In Bloomberg’s “’Clueless’ investors think brokers are fiduciaries, survey says”, Alexis Leondis reports that “Three out of four U.S. investors mistakenly think that financial advisers at brokerage firms are required to put clients’ interests first, said a survey by several consumer and financial planning organizations.” (Hopefully the SEC will shortly rule that brokers and insurance sales people in addition to financial planners must act as fiduciaries; sadly, there are no visible plans by Canadian regulators for fiduciary requirement.)

In the NYT’s “Looking ahead to spend-down years” Jennifer Saranow Schultz looks at the quantitative and behavioural aspects of decumulation due to the rapid replacement of DB with DC pension plans and the resulting “uncertainty of retirement income is compounded by other issues: people continue to live longer, rely on their children less in old age and face ever-higher medical expenses. So researchers are increasingly trying to come up with effective approaches for retirees to turn their accumulated savings into retirement income.” The US government is looking at adding annuities as a 401(k) option (also see “Some 401(k) plans are adding an annuity option”in the NYT). The article suggests that rules of thumb for decumulation are more complicated than for accumulation because “researchers aren’t sure of what people most want to achieve in retirement. It could be maintaining a similar quality of life, keeping financial autonomy, leaving money to children, philanthropy, (and/or) hanging on to money to cover health expenses or a combination of these options or others.” Complications also arise because in retirement one can’t increase savings; one should also factor in “declining cognitive abilities, and that future medical expenses and longevity are unknown.” The behavioural researchers plan to look at the so called “annuity puzzle” (why more people are not buying annuities), solutions to protect those who suffer cognitive decline, and the use “mental accounting” in a constructive way.

In WSJ’s “Life insurance: Think before you sell your policy for cash” Tergessen and Scism indicate that sale price of policies dropped from 21% to 13 of face value in the past two years. Other options to consider are:”withdraw or borrow funds from policy, restructure the coverage to make premiums more affordable, policy exchanges for an annuity or LTC contract. “Which option makes the most sense depends on factors including the policyholder’s financial goals and health and whether the policy has “cash value,” which is a form of savings that accumulates inside permanent-life policies.” But be aware there may be tax considerations.” Others options are accelerated benefits for those with a terminal illness, reduce benefits to reduce premium, and ask heirs to cover premium,

Kristen Gerencher in WSJ’s “Help for Long-Term Care costs” reports that a voluntary (US) “public program is in the works, part of the health care legislation that President Obama signed into law earlier this year”. (Interesting…I suspect its value will depend on price/expected-benefit or actuarial fairness compared to private plans which have high load factors and difficult/uncertain qualification criteria…something to watch…)

In the Barron’s article “How to invest overseas” Suzanne McGee reports that wealthy clients are being more and more encouraged to invest in emerging markets. She reports the following model portfolio allocation to emerging markets: Barclay’s 11%, BNY Mellon 8%, JP Morgan 19%, US Trust 20% and Wells Fargo 12%. (Emerging markets currently represent represent 28% of global equity markets but are only 13% of MSCI; in terms global GDP in 2008 they represented 34% in US$ and 46% on PPP (purchasing power parity). If you don’t have an emerging market allocation in your portfolio, you might want to read up on it.)

Real Estate

In the WSJ’s  “10 reasons to buy a home” , Brett Arends’s list includes (not just that the Time magazine’s usually contrarian, cover indicator that “owning a home may no longer make economic sense” but also) the following: good deals, cheap mortgages, tax savings, some inflation protection, forced savings and “sooner or later, the market will clear”.

But Bloomberg’s Gittelsohn and Howley  write that according to analysts “The slide in U.S. home prices may have another three years to go as sellers add as many as 12 million more properties to the market. “ in  “US home prices face three-year drop as supply gains”

If you (an American) are considering refinancing your mortgage there are three interesting articles this week that you might want to read.  One is Maryann Haggerty’s NYT article “Reasons not to refinance a mortgage” which indicates that 80% of mortgage applications today are for refinancing and looks at considerations before signing on the dotted line. Another is McQeen’s WSJ article “Refinancing: Whom can you trust?” which illustrates the complexity of the refinancing decision and includes a few links/places you can go to check out calculators. The decision is not a no-brainer. Some factors mentioned are costs, years expected to stay in home, pre vs. after tax value of the savings and inflation. Of course the other option, discussed in WSJ’s “Why it pays to pay off your mortgage early”, Nikki Waller indicates that “say you start paying $4,500 (instead of $2500) a month. You’d pay off the $400,000 mortgage balance in about nine years and 10 months, finishing off at age 55. You’d also earn a guaranteed 6% return, because that’s the interest rate you avoid by making accelerated payments. If after the mortgage is paid off, you continue the program for another 10 years by putting $4,500 a month into a retirement savings account that earns 5% after taxes, you’ll accumulate about $699,000 by age 65.” (Not many still have 30 years on 6% mortgages today, but works even at 5%)

Pensions

In the cooking the pension books category (and there are enough of these books to fill many libraries) here are couple of the past week’s articles on the subject; one is David Reilly’s WSJ article on “Pension gaps loom larger” in which unrealistic expected return rates in many of US public sector plans are used to minimize contributions, the other is Mary William Walsh’s NYT article “Illusion of pension savings” in which various state pension contributions are reduced today by slashing “pensions of workers not yet hired! (More actuarial magic! Where is all this heading to?)

Ottawa Citizen’s Lee Greenberg in “Province to wind up Nortel pension” reports on the Nortel retirees’ demonstration at Queen’s Park to prevent the Ontario government from winding up the underfunded pension plan by compulsory annuitization. Finance minister Duncan (so far) refused to cooperate. (Ontario Premier McGuinty and finance minister Duncan’s argument that annuities are the only solution for the protection of pensioners is, well…disingenuous and paternalistic at best, since the reason why the pension fund is underfunded is because Ontario’s regulation and regulators have failed to adequately oversee the plan and allowed it to be underfunded. Also isn’t it strange that an employee can retire today and receive commuted value (and place funds in an RRSP or locked in individual plan) but the same aged pensioner doesn’t get the same option? Relatively simple solutions could be envisaged allowing a pensioner selected option of ‘secure(?) un-indexed’ annuitization or transfer to a privately managed or individual RRSP/Locked-in accounts; or for example for the PBGF guaranteed portion (up to) first $1000/mo annuitize, while the deployment of the balance selectable by pensioner.) To read more about the effects of cooking the pension (and benefit) books you can also read Bert Hill’s related article “Nortel pensioners face hefty cuts to benefits package”

Even the recently announced minimal proposed upgrades by Canada’s finance ministers appear bogged down as described by Bill Curry in the Globe and Mail’s “Upgrades to Canada Pension Plan hits a snag”.

And, Jonathan Chevreau in the Financial Post’s “Don’t count on Ottawa to fund your retirement” discusses the “cottage industry built around telling Baby Boomers how they can’t afford to retire any time soon” and other doom and gloom perspectives about the boomers’ retirement. Chevreau pushes “guerrilla frugality” as the solution and he suggests the slogan “freedom, not stuff”.

Things to Ponder

In the Financial Times’ “Bond guys as villains of the piece”Jonathan Davis looks at the financial markets through the eyes of Michael Lewis’s “The Big Short” “One of the book’s central themes turns out to be the myopia, feebleness and corruptibility of the modern bond markets.” “What they all did know for certain is that profits in most financial markets come from either monopoly or asymmetric information, and that the bond markets in their modern state had become ripe for plucking on both counts. While the stock market, says Mr. Lewis, is relatively transparent and generally well policed (finance students, please discuss), the bond market, being dominated by institutional rather than retail investors, has proved to be anything but. Increasingly complex and opaque, the lack of effective policing played straight into the hands of the greedy, myopic and cynical bond departments of the biggest Wall Street firms who make up the villains of his piece… As a result of that crisis, the government bond markets are also now being manipulated quite openly by the Federal Reserve and other central banks, albeit in the name of social utility rather than profit.” And he concludes with the ominous warning that “Investors who read great meaning into today’s bond prices do so at their peril.”

In the Globe and Mail’s “Land of the free, home of the tightwad” Derek DeCloet reports on one of the “permanent changes wrought by the economic crisis” is that “Americans, the world’s great spenders, are learning the value of thrift.” After near zero savings rate in 2007, Americans’ savings rate “has now been higher than 5 per cent for 21 straight months. That hasn’t happened since 1993. It’s likely to go higher yet.” He then discusses some of the problems and opportunities associated with this shift.

In WSJ’s “Japan’s public pension weighs new investments” Sanchanta and Fujikawa report that Japan’s public US$1.4T pension fund now 67% invested in domestic bonds (think 1% yields) is looking at investing in emerging markets to capture higher returns. The higher returns are necessary to meet its future payout obligations as Japan’s over 65 population increases from 21% to over 40% over the next 45 years. (What’s the likely impact on (emerging market) stocks and Japanese bond market?) Another perspective is discussed by Pauline Skypala in the Financial Times’ “The end of equity cult may be nigh” where she asks the question “Is faith in the long-term return potential of equities justified by the fundamentals, or is it simply faith?”

Miles Weiss in Bloomberg’s “Pimco makes $8.1 billion bet against ‘Lost decade’ of deflation” reports on Pimco’s “wager that the U.S. won’t suffer a decade of deflation like the one that crippled Japan starting in the 1990s”. On the same subject, Edward Chancellor in the Financial Times’ “A Japanese lecture for bond investors” argues that the US is not Japan and while “The US economy surely faces an uncertain outlook. But following Japan’s path doesn’t seem the most likely outcome. Yet that is what bond investors are betting on.” (Looks like the certainty of deflation may be increasingly less certain in some people’s minds.)

In the Financial Post’s “Canada should consider health care user fees: OECD” Paul Vieira reports on OECD recommendations that “Two elements policymakers could embrace are user fees and an expanded role for a parallel private scheme, the think-tank said.” (Interesting and some think ultimately inevitable.)

And finally on the lighter side you might want to watch Larry Elford’s “Car sales vs. investment sales” four minute cartoon video which is informative and cute.