Hot Off the Web– September 25, 2009

Personal Finance and Investments

Jason Zweig in the WSJ’s “Don’t trip in your search for higher bond yield” reminds readers not “to be driven to do desperate things” in search of yield. In search of better than the minuscule money market (or short term GIC) yields, people are stampeding into bonds. They better not forget that rising interest rates have an increasingly negative impact on bond prices with increasing maturities. For bond funds, look at “duration”, the percent drop in bond fund value corresponding to 1% rise in interest rates.”The riskiest bonds of all now are Treasurys. If the economy improves and rates rise, they will get hammered. The longer the bond, the harder the hammering. Corporate bonds also will get hurt by rising rates. But an improving economy should narrow the spread between corporate bonds and Treasurys, which will lessen your losses. Thus, if you can’t stand the pain of a money-market fund that offers no gain, your best bet is a short-term fund that has significant holdings of corporate bonds.” (I have used for some short-term Canadian cash XSB the Barclays Short-term (1-5 years) Canadian Bond Fund)

Larry MacDonald’s “Security with passive investing” in the Globe and Mail discusses Marc Ryan’s (a retired lawyer and author of website ) approach to his personal portfolio. Marc uses passive index investing in taxable account, provincial bond ladder in RRSP account, crystallizes some capital losses yearly, pays attention to costs and suggests that money is better spent on getting advice on asset allocation as opposed to buying mutual funds. And, watch for overconcentration in your employer’s stock. (Sounds reasonable.)

William Hanley in the Financial Post’s “The high fee, low return backlash” reviews the growing shift from mutual funds to ETFs, from relying on advisors to becoming  a DIY investor. “The basic problem with mutual funds, financial advice and the investing industry as a whole is that it is all about sales, about selling people products that always benefit the seller, but less so the buyer. The small investor is right at the bottom of the industry food chain and he doesn’t need to pay extra for that privilege.” He then closes off with a reminder for DIYs: “Of course, such a step should not be taken without a look in the mirror: Financial advisors have the know-your-client rule; individuals must have the know-yourself rule.”

In the Globe and Mail interview “Buy GICs. Only GICs”with David Trahair, author of a new book, has unconventional views: start your RRSP at 50, after you paid off your mortgage and all other debts, invest in zero volatility GICs only (especially if you would otherwise invest in mutual funds with MERs of 2-3%), targeting retirement income at 70% of pre-retirement level for people who spent their lives overspending means cutting lifestyle from 100%+ to 70%, and as far as inflation is concerned he doesn’t think that you need to be in the stock market to beat it…(That last point may be a stretch given the heavier tax burden on interest income than dividends and capital gains, but he argues that you don’t have to worry about market downside. While he has some good points, for me, I’ll stick with diversification.)

The Globe and Mail’s John Heinzl argues that “The best investment? Paying off your mortgage” This is similar to David Trahair’s argument on paying off debts before you start saving. (There are special advantages to this: (1) in Canada where there are no tax benefits associated with mortgage interest deductibility, (2) when the person instead of paying of their mortgage just put the money in a money market fund or even a GIC/CD, (3) even those investing their funds in high risk/return assets (e.g. equities) may be better off to pay off the mortgage and borrow to invest in equities as interest is now tax deductible (but of course you have to do an asset allocation first to make the whole thing work), (4) of course you want to make sure that you don’t miss out on obvious higher return opportunities like not contributing to your 401(k)/RRSP at least to the point where you the employer’s matching funds. (5) however, in the US where you can still get 30 year fixed mortgages close to 5%, if you believe that the inflation is to increase significantly (like runaway), then you might not want to accelerate your mortgage payoff (of relatively low interest rate loan)  since you could pay off your mortgage with much discounted dollars later.)

Proxy voting for your ETFs– I received proxy voting ballots from Barclays iShares (which have been recently sold to Blackrock). I was asked to vote on two items: (1) new advisory agreement (same fees for 2 years!) and (2) change in classification of fund’s investment objective from fundamental (which they defined as tracking and index) to non-fundamental (not necessarily tracking an index?). I voted FOR on (1) and AGAINST on (2). On fees I would not be surprised if the new owners won’t try to raise fees after 2 years, so for new moneys you might consider Vanguard funds with similar objectives in the future (same or lower fees) and perhaps sell current holdings which don’t have capital gains and reinvest in similar fashion as well. As to non-fundamental investment objective, there just wasn’t adequate explanation for me for the rationale to relieving the indexed constraint, for the sake of “standardization” with their other funds. (Let me know if I misunderstood the intent of the motion or if you disagree with my position.)


In Globe and Mail’s “Massive pension shortfall hits Ford”   Greg Keenan reports that “It’s important to note that Ford of Canada’s pension plans are funded in compliance with the Ontario Pension Benefits Act,” “The pension plan held assets of $2.91-billion as of Dec. 31, 2008, which would cover just 62 per cent of the liabilities if the plan were wound up”. How else would you describe this other than “systemic failure” of Canada’s private sector pension system? If not that than at least massive regulatory failure!

Nicholas Timmins reports in the Financial Times’ “Company pension rules shake-up mooted”on proposed changes to UK pension rules which will ease restructuring of companies. Instead of requiring acquiring employer to fully fund the pensions no longer supported by original employer, the new rules relax this requirement if the new employer is deemed to be “at least as likely as the original employer to be able to meet pension liabilities”. This relaxation of rules will certainly easy company restructuring, and given the DB pension guarantees available in the UK, may not harm employees/pensioners. (This would not be the case in Canada, where there are no pension guarantees except the minimal $1,000/mo in Ontario).

John Ralf in The Financial Times’ “Pensions report was flawed”  discusses the flaws in a pension report that’s based on the assumption that with 60% equities in personal accounts (which I assume are like RRSPs/401(K)s) a 3.5% long-return after inflation is achievable, given assumed 8% equity returns. The criticism is that the assumptions ignore the risk associated with equities even over the long term. “Expected long-term equity returns are not a “free-lunch” or a “loyalty bonus” for long-term investors, but the reward to investors for risk….The projected returns of 3.5 per cent after inflation and costs “cannot be secured without significant exposure to higher risk equity assets. Thus while on average individuals are likely to gain from a funded system, some may lose, while others may gain a great deal”.” To prove the point that equities are risky even in the long-term (and therefore such schemes cannot count on government guarantees), the article presents as proof the growing “cost of buying insurance against the risk of underperformance versus the risk-free return- a put option on the stock market index”, with longer option period. (Can’t argue with that.)

The Financial Times’ John Keefe in “Crisis spurs US pensions to rethink asset allocation”reports on a slight shift of U.S. pension funds from “investment policies built upon earning the equity risk premium.” The article explains the appropriateness of using LDI (liability driven investment) methodologies, which while have been advocated for years, received limited uptake in the reckless pursuit of lower expected company contributions with a higher risk portfolio (The contributions were lower not only because the assumed higher return with total disregard for the risk to beneficiaries’ assets, but also because some jurisdictions, like Ontario, allow “going concern discount rates” to be based on expected investment returns; can you believe the lunacy of this assumption which effectively states that the more risk you take on the asset side, the lower are your liabilities; only a government regulator or an actuary could explain that!?!). The survey of clients (pension funds), while it shows interest in LDI, the interest has not as yet translated into significant equity reduction. Some of the observed (small) drop in equity allocation may just be a result of the drop in market value of equities and the higher liquidity of equities making them an easier source of cash.

Real Estate

Toronto real estate market is booming as shown in “Real estate: Key ratio shows some markets are booming”. Some Toronto real estate professionals, while enjoying the ride, suggested that this may not end well. Article indicates that Vancouver and Ottawa are also doing well. (Interest rates are still under 4% for 5 year term, so no doubt that’s part of the fuel.)

“Existing home sales decline in August” reports August existing home sales in US declined 2.7% from July, but are up 3.4% from last year. “Total housing inventory at the end of August fell 10.8 percent to 3.62 million existing homes available for sale, which represents an 8.5-month supply at the current sales pace, down from a 9.3-month supply in July.”

In the Barron’s article “Florida condos: No bottom in sight”, Steve Bergman reports that “investors betting that Florida real estate will recover in the not too distant future may have a longer wait than they bargained for”.  Some of the reasons listed include: excessive inventory (still more invisible as it is held by banks and not yet on the market), residents leaving the state (first time in 60+ years), fewer retirees who change states move to Florida (1980=26%, 2007=12%…ouch!), high property taxes and insurance rates. (Florida could do itself a favour and dismantle the “Save-Our-Homes” amendment which drove snowbird to long-time locals’ property taxes on identical units to 3-10 ratios and more. Fair/equal taxation of all Florida property owners would go a long way to property price recovery.)

And for those snowbirds who were hoping that the additional 10-15% drop property values would be accompanied by a corresponding drop in property taxes, the Sun-Sentinel’s Andy Reid reports that “Palm Beach County commission raises property taxes 15%”; that will result in flat or increasing property taxes again. (My taxes increased!)

WSJ’s Mark Gongloff reports that “Housing recovery obstacle: So many houses” “More important, there are still too many houses on the market — 9.4 months’ worth of existing homes for sale in July, according to NAR data. The backlog is usually closer to six. Nearly seven million housing units will eventually enter foreclosure, mortgage-backed-securities strategists at Amherst Securities Group, a brokerage firm that deals in MBS, estimated on Wednesday. That could add 1.35 years’ worth of inventory to the market.”

If you want to look at an even more pessimistic view of US real estate and associated financial instruments market you might want to browse through the 100+ slides of highly respected analyst and investment advisor Whitney Tilson

Things to Ponder

Bloomberg press reports that “Inflation to cause stocks to outperform cash, bonds, Faber says” . Marc Faber, a long-time dollar bear, may eventually turn out to be right. He argues that the ongoing and accelerating debasement of the US currency will lead to significant inflation and devaluation of the dollar, which will be good for US stocks (and bad for bonds).

The Financial Times’ Crispin Odey writes in “Bubble or recovery?” that “The last decade has favoured “promise big and hope for the best” politicians over realists with grit. Their run has ended. The conversation must turn to the shape of government, constitution and society, to retiring after 70, living with anaemic growth, reducing the cost of government and an ageing population. The outcome matters directly to the markets and to the real economy in a way it has not done in this investor’s lifetime.”

Also in the Financial Times, Jeremy Grant writes in “Exchanges warn G20 of dangers in ‘dark pools’”that “There are two interconnected concerns of exchanges which merit the attention of G20 leaders. First is the absence of a level playing field between exchanges and other entities performing some of the same or similar functions. “Second is an erosion of price discovery arising from recent trends. These phenomena may be compromising the role of the public, regulated marketplace, and hampering exchanges’ ability to fulfil their macroeconomic role”.

BusinessWeek’s Peter Coy in “Financial innovation under fire”  says that Wall Street gave a bad name to innovation. CDSs, CDOs and negatively amortizing mortgages are some of the reasons. The debate is on pertaining to increased regulation/supervision by the government of financial products. (While I am not one for increasing government control over various aspects of people’s lives, the result of the recent greed and free for all is putting more and more people in the camp of stronger regulation. Other mechanisms that might be considered in parallel could be increased investor education programs and more aggressive prosecution of those found on the wrong side of the law.)

WSJ’s Brett Arends in  ‘Lessons of a bull market that never happened”list some lessons we should have learned over the past ten years, such as: importance of dividends, even the low inflation of the last ten years eroded buying power by 23% so watch out if it gets worse, have reasonable expectation of stock market returns (perhaps inflation plus 5%), volatility is very important (to recover 50% down you need 100% up!). “Hope for the best, but plan for the worst. This is the reason for including non-equities in a portfolio, including inflation-protected government bonds and other assets.”

With the growing number of those aged 60+ in the population, WSJ’s Glenn Ruffenach in “Making suburbia more livable” writes that “Suddenly, “all that privacy that drew people to the suburbs in the first place, can become isolation”. Many communities are looking to transform themselves into “lifelong communities” by reducing traffic in town centers becoming more of a “walking community”, increasing density. The article discusses “retrofitting” suburbia into “lifelong communities”.

And finally, Walecia Konrad in NYT’s “Taking care of parents also means taking care of finances” discusses the challenges of taking care of aging and infirm parents. While it is a labour of love, it can also be a real personal and financial burden. People not only often provide financial assistance to parents (30% in the US), but they also often leave jobs and seriously harm their own finances. The article recommends: looking at available government/non-profit services, have that difficult chat with parents about how they will cover their long-term-care expenses (insurance or assets or pensions or whatever), insure financial power of attorney and living-wills are in place. Some even hire a “geriatric care manager” to “assess your parents’ situation, offer counselling and help you find the local services you need.”


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