Hot Off the Web– January 24, 2011

Personal Finance and Investments

Rob Carrick in the Globe and Mail’s “Measure your portfolio with the right yardstick” reports on Tom Bradley’s excellent guide “How is my portfolio doing…and what should I do about it”. This is a must read for serious Do-It-Yourselfers. Bradley discusses the importance of and how to evaluate your investments: do it annually at the overall portfolio level, covering an extended period (e.g. 5 years), after (‘guaranteed loose returns’) fees, compare to a reference portfolio (a benchmark asset allocation using performance of asset class benchmarks) and regular re-balancing. (For those who use a passive implementation of asset classes, the parts discussing the ‘value added’ by the various active managers is not relevant, but still educational.)

In WSJ’s “With retirement savings it’s a sprint to the finish” Tara Siegel Bernard discusses the importance and the risk associated with the market performance during the last ten years before retirement. Assuming a 9% savings rate, a 7% annual return and a 3% salary growth, the last decade before retirement doubles one’s retirement assets. Most people are not saving enough because they assume relatively high and steady returns during their working years to set their savings rate, and hitting an air-pocket just before retirement will require changed retirement date and/or lifestyle. The solution: start saving early at levels based on conservative returns to reach retirement targets. (Recommended by MB)

A number of articles in the past week tackle the impact of taxes, OAS claw-back, qualifying for GIS and required RRIF withdrawals starting at age 71 and discuss the disadvantages of RRSPs in “The dark side of RRSPs” “Don’t be blinded by the tax return” “Were RRSPs a major mistake” “RRSPs: How to keep a blessing from becoming a tax curse” and “Live your TFSA to the fullest”Specifically the discussion revolves around people who have large RRSPs as well as other sources of income, which could result at RRSP withdrawals to occur at the highest marginal rate. (If you contributed at times of highest marginal tax rates, it’s not an issue unless rates increased or claw-back is affected).Tax diversification is important, so it is advisable to also use TFSAs and tax deferral of “unrealized capital gains on long-term stock holdings”. The third article argues that in retrospect Canadians would be better off if RRSPs were never introduced, and instead a TFSA based approach would have been taken right from the start. The next one argues for an “RSP meltdown to effectively draw out more money from your RSP by creating a tax deduction equal to the amount withdrawn”, while the last one says put all your interest income and foreign dividend paying assets into RRSPs and Canadian equities into TFSA. (The discussion seems to have shifted from saving enough for retirement and having the appropriate asset allocation to how minimize taxes by optimal asset location. This is a much more complex problem and likely requires more custom solutions to individual circumstance. I wish to all my readers an income in retirement which puts them into the top income tax bracket.)

In Bloomberg’s “Indexed annuities cap gains, obscure fees as sellers earn trip to Disney” Faux and Collins look at high ‘hidden’ fee equity-indexed annuities with built-in downside protection “the contracts’ complex terms and embedded fees make them unlikely to perform as well as expected…they’re terrible ideas for older people even though they’re peddled to them…Indexed annuities are part of a boom in structured products, opaque investments pitched as a way for conservative investors to earn higher yields. As insurance agents sell more complex annuities, stockbrokers across the country are pushing structured certificates of deposit and notes…The pure psychology of downside protection with upside potential sells really well…” And speaking of products of expensive and opaque nature, a new one which just became available to Canadians from a bank is described in “BMO Lifetime Cash Flow targets 55+ with tax efficient, annuity-like product” comes with a 2.75% annual fee dozens of pages long product description. (I’ve read the description, and I have to admit I still don’t fully understand how it works, but its main selling point appears to be after the first 10 years of accumulation (assets locked in from age 55-65) you will be receiving back 6% a year of your own capital (ages 65-80) so that the ‘income’ will not be taxable. Beyond age 80 income appears to continue at the rate of 6% of original capital now fully taxed as interest with potential upside, if any, which will be determined by the remaining assets after 25 years of 2.75% fees and 75% participation on the assumed underlying portfolio (corrected January 26, 2011). I didn’t notice in the documentation a side by side comparison of this product against GICs, annuities, or just investing in an ETF based portfolio of similar risk over a similar horizon with a systematic withdrawal plan. Overcoming 2.75% fees is not easy.)

In the Globe and Mail’s “New accounting standards bring warnings of murky reporting” Simon Avery discusses Canada’s adoption starting in 2011 of the international accounting standards (IFRS) instead of the GAAP. He quotes Al and Mark Rosen’s new book “$windler$” that they “expect IFRS will make life miserable for investors”. By the way “the U.S. has so far declined to adopt IFRS.”

In the Globe and Mail’s “Tips for snowbirds flying south” Robert Keats answers “questions on the implications of wintering in warmer climes.” Topics include: buying a car in the U.S., health insurance, buying/selling or renting your U.S. property, estate taxes, tax filing requirements and associated length of U.S. stay issues, handling 401 (k)s prior to returning to Canada, (There were no questions on the subject of the discriminatory treatment of Canadians in Florida on property taxes. The situation is slightly better since the massive drop in real estate prices, but the problem is still there as described in my 2008 blog “An Update on Snowbirds’ Florida Tax Crisis”) In Globe and Mail’s “Uncle Sam’s long arm can reach into your pockets” Tim Cestnick discusses the related topic of cases when U.S. tax filing may be required by Canadians, such as: green card holders, landlords, time you spend in the U.S. (8840, tax filing, etc) and business in the U.S..

Real Estate

In the WSJ’s “Home resales post gains” Mitra Kalita reports that sales of previously owned homes were up 12.3% in December over November. 36% of those sales were foreclosures and short sales! (Not sure if this is good news?)

On the Canadian side of the border in the Globe and Mail’s “Debt worries trump home sales” Ladurantaye and Robertson write that “home sales are now under pressure from the threat of higher interest rates, and Mr. Flaherty’s latest move to curb 35-year amortizations stands to eliminate a number of potential buyers from the market”. Gary Marr reports on the same subject in the Financial Post’s “First time home buyers hit again”.


In Benefits Canada’s “Building accountability into the PRPP framework” Greg Hurst says that that the latest federal pension reform redirection away from the expanded CPP to the pooled registered pension plan (PRPP) was applauded by the financial services industry and decried by the labour movement. Hurst concludes with the observation that “If PRPPs are to become a credible alternative to other solutions to the pension coverage problem (such as CPP expansion), in addition to the mandatory elements to ensure individuals have pension coverage, fiduciary accountability requirements together with strong independent oversight of PRPP providers will be required enhancements to the PRPP framework.” (For those readers interested in a comparison of some of the pension reform options tabled and what are the key elements of real pension reform, you can read my last week’s look at this in Pension Reform: It’s not rocket science)

Also in Benefits Canada, April Scott-Clarke writes in “Who killed CPP reform? CLC asks” that the Canadian Labour Congress (CLC) “publicly announced that in late December 2010 the group filed two Access to Information requests to seek internal government and external lobbying materials related to the CPP and private sector pooled registered pension plans.” (Is there any doubt as to who lobbied for this change?) Quoting CLC’s Georgetti “It seems to me that the power of the financial services industry just showed how quickly they can change the mind of a government that was persuaded by facts, to turn them around and reward these banks that actually put us into the depression we have found ourselves with regard to our economy.”

In the Toronto Sun’s “Nortel disabled benefits to be tax-free”Scott Taylor reports that “Canada Revenue Agency won’t be collecting taxes on the payments the workers get from their underfunded health and welfare trust.” He continues his report indicating that this applies to the 400 disabled Nortel employees. (There was no mention of the payments from the health and welfare fund to pensioners for settlement of life and health insurance. Given that life insurance benefits are tax-free and health-insurance expenses are partially tax deductable, hopefully no tax treatment will apply to these as well.)

Things to Ponder

Barry Kay looks at how the shift in corporate organization in the financial industry, from a mix of public, private and mutual during the late 20th century to almost exclusively public form of organization has had disastrous effects, in the Financial Times’ “How trust in finance was carried off by the carpetbaggers” .John Kay says that “They (as public rather than private or mutual companies) assumed more risk and controlled it less effectively. The short-term orientation of the public company, ever more fixated on quarterly earnings reports, encouraged them to emphasize transactions over relationships. Public trust in the financial services industry declined.” He very astutely also notes that “In looking to the future of financial services, we should learn a lesson from an unhappy episode in the past. Business behaviour is the product of the structure of corporate organization in which it takes place.” (Amen! The sooner we find a way to move back the insurance and investment companies to a mutual form of corporate organization or if that’s impossible, then foster an environment which strongly encourages the creation of new mutually organized companies, the faster the average investor will get a fair share of the available market returns.)

The Economist’s “Back with a vengeance” reports that “rising commodity prices both reflect and threaten the world’s economic recovery.” The article also has an interesting graph which shows the percent of the CPI basket weights represented by food and energy in various countries, with China and India being at the high end at about 40% and 50% respectively, while Canada and the U.S. are in the 20% area. The article also expresses concern about the balance in supply and demand picture for oil and  that when “American oil demand recovers, it will bump up against China which is consuming 23% more oil than in 2007”. Concerns about rising commodity prices are also the topic in Emily Glazer’s WSJ article “Commodities prices are hitting your wallet” which shows how the large increases in commodity prices can be expected to flow through to food and clothing prices. The Bloomberg’s “Treasury 2- to 30-year yield curve steepens to record on inflation outlook” report that the 2- and 30-year Treasury yield gap is 4.01% the highest since 1977, is an indicator of investors’ concern about long-term inflation.

In Jason Zweig’s WSJ article “Will small investors ever warm up to stocks again?” he questions some of David Rosenberg’s gloom and doom views about the stock market and the level of participation of retail investors. Rosenberg says that retail investors piling late into the market is a classic sell signal. Zweig sees little evidence that retail investors are starting to pile into the market or that they will do so shortly.”But a closer look at the numbers shows that, instead of plunging back into stocks with both feet, the small investor appears to be dipping in only the first knuckle of one pinky toe. Those who are betting on more may end up disappointed…It could be a long slog, again, before today’s small investors forgive the market for the pain it inflicted on them…Perhaps the so-called smart money shouldn’t be too smug in assuming that small investors are ready to play the patsy again anytime soon. Who, then, will buy from the sellers? That question should worry bulls and bears alike.” Mr. Rosenberg in Globe and Mail’s “Why this market rally will end in tears” continues to believe that “bear market rally is at a late stage” and “few people will know to get out at the peak”.

In the Financial Times’ “America must brace itself for turbulence” Peter Orszag argues that recent predictions of hundreds of billions of dollars worth of (state and municipal) government defaults in the U.S. in the next year are “overblown”. He suggests that at the federal level short term stimulus is required but immediate steps are needed which will reduce the budget deficits in 2-3 and 10 years. States will have to take immediate steps to reduce operating deficits as well as “closing pension gaps”. He also states that it would be difficult for states to default since there are laws that would require them to stop paying their employees before they can stop making debt payments; bondholders are privileged creditors in most states. Municipal governments, on the other hand, can (and some likely will) declare bankruptcy; he is however not concerned unless this turns into a contagion (well why not?). Interestingly, In the Financial Post’s “U.S. states bankruptcy bill imminent, Gingrich says”Lisa Lambert reports that “Legislation that would allow U.S. states to file for bankruptcy will likely be introduced in Congress within the next month” according to Newt Gingrich. “Under bankruptcy an employer can negate labor contract provisions, and state bankruptcy “may be a way to put additional pressure on public employee service unions to negotiate.”

In the BBC’s “Banks must be allowed to fail, says Paul Tucker” Bank of England’s deputy governor says that “no bank should be considered too big to fail…”If we have a system where banks take the upside but the taxpayer takes the downside something has gone wrong with capitalism, with the very heart of capitalism, and we need to repair this.”” (By the way if you are interested in the relationship of the U.S. banking system and the government you read more in 13 Bankers)

In Bloomberg’s “No job? No income? No problem for the consumers” Caroline Baum says the “The pieces just don’t add up”: credit card debt is down, unemployment rate is stuck, hourly earnings rose 1.9%, personal income rose less than 4% and 23% of homes with mortgages are underwater but retail sales increased at annualized 14% in Q4’2010. She then presents some data that perhaps suggests both income and employment are being understated”: “fourth-quarter withheld income tax receipts rose 17 percent from a year earlier” and “the tendency for spending data to provide a more accurate reading on the economy than statistics on income and employment”

In Bloomberg’s “SEC report may urge U.S. brokers to adopt fiduciary standards for clients” Hamilton and Leonidis report on some perspectives on the upcoming SEC recommendations to Congress on fiduciary responsibility: “Regulation of a financial professional should depend on what she does, and not what she calls herself or how she is paid”, “If you are giving advice to an investor, regardless of the title on the business card, you should always be bound to do so in the best interests of the client”, “a redefining of fiduciary just to equate it with more disclosure, “which would be a staggering watering down of real fiduciary duty” “

On the subject of gold Thomas Kaplan in the Financial Times’ “Brace for a ‘perfect storm’ in gold” writes that “Even today, as the gold rally has reached the 10-year mark (following a 20-year bear market), the metal represents a mere 0.6 per cent of total global financial assets (stocks, bonds and cash). This is near the all-time low (0.3 per cent) reached in 2001, and significantly below the 3 per cent it accounted for in 1980 and the 4.8 per cent it was in 1968… Asset managers and central banks are just beginning to readmit gold back into the select group of prudent asset classes. That this is occurring at a time when what might be seen as the world’s safest financial asset classes may also be its scarcest suggests interesting times ahead for those who own gold.” However, Cui and Pleven in WSJ’s  “From China, Signs that gold’s rally isn’t endless” because expected rise interest rates (e.g. growing inflationary fears especially in China), diversification benefits appear to have decreased as gold moves up and down with other risky assets and  investors’ willingness to return  to the stock market. (Oh well, as usual you’ll have to make up your mind on how much catastrophe insurance you are prepared to buy.)

In the Calgary Examiner’s “Giving confidence men confidence…to steal your retirement savings”Larry Elford writes that “Total crime in Canada costs somewhere between $35 billion and $70 billion each year, depending on who is compiling the numbers… The budget for police spending across Canada is in the range of $6 billion per year.    That is five to nine cents of spending on police for every dollar in crime”. Total securities fraud is estimated at similar rage ($40-70B) as other crimes. “The budget for RCMP IMET securities crime enforcement in Canada for 2008/2009 was just under $17 million. Between two one hundredths and four one hundredths of a penny gets spent on policing securities fraud for every dollar of losses“. (These are pretty unbelievable statistics!?! Is this the sensible thing to do?)

And finally, in the Globe and Mail’s “Private guide the cheapest way to see the sites” Preet Banerjee refers to “Canadian-based website facilitates the connection between travelers and knowledgeable guides in many parts of the world. The site vets the guides, who, incidentally, cannot pay to be listed. You can contact the guides ahead of time to get to know them better or to plan your itinerary.”


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