Hot Off the Web– January 31, 2011

Personal Finance and Investments

Jessica Holzer in the WSJ’s “SEC study lifts bar for brokers” reports that the SEC has tabled recommendations to Congress to create a “common fiduciary standard of care for brokers and investment advisers”. This would “hold brokers to a higher “fiduciary duty” standard (than the current “suitability” requirement) by legally requiring them to put the interests of clients before their own. Investment advisers are already held to that standard…” In Bloomberg’s “SEC recommends common fiduciary standard for brokers, investment advisers”Hamilton and Leonidis report on the same and state that “The common standard is needed because many retail investors don’t understand and are confused by the roles played by investment advisers and broker-dealers, the study said.” (To me this is a no-brainer. In fact I can’t understand how the brokerage industry can argue with a straight face that they don’t want/have to act in the best interest of the client. I also can’t understand why a client who could choose between two equally qualifies “advisers”, why she would not always choose the one who acts as a fiduciary. I am planning to do an in-depth blog on what “fiduciary duty” means and why it is necessary.)

AnnaMaria Andriotis in the WSJ SmartMoney’s “Are financial advisers on your side?”writes that “A surprising number of people believe — sometimes mistakenly — that financial professionals are acting in their best interest: 76% of investors said so for financial advisers and 60% said the same for insurance agents, according to a September 2010 study co-authored by the Consumer Federation of America. The truth, however, is another story, says Barbara Roper, CFA’s director of investor protection. Many, she says, are “salespeople with no obligation to act in the best interest of the customers.” She also gives some” warning signs to watch for when working with the four type of ‘advisers’”: financial planners, insurance agents, mortgage brokers and college aid advisers.

In the Financial Post’s “Baby Boomers’ RRSP tax bill looms large” Jonathan Chevreau tackles again the shortcomings of the current RRSP system and provides compelling argument for the need to “rejig RRIF withdrawal rates to come closer in line with rising life expectancies and today’s puny investment returns”.(Still, it is important to remember that, subject to the risk that nobody knows what the future tax rates will be anyways, if you contributed to your RRSP at a time when you were in the highest tax bracket, you are still more than likely to be ahead of where you would have been on an after tax basis, unless you are getting your OAS clawed back.)

Last week I mentioned a new lifetime income product from BMO. I had an opportunity to re-read to documentation again and I am still not convinced that this is part of the answer to the needs of Canadians who have been shut out of DB pension plans. You can read my ruminations at BMO Life Stage retirement Income Portfolios. You can also read Jonathan Chevreau’s Ottawa Citizen article on the subject entitled “New version of annuity has upside and downside”, he also seems to have some reservations.

In the Globe and Mail’s “Estate tax: Uncle Sam wants that too” Tim Cestnick explains why even if you are a Canadian citizen and resident, “you could still be liable for U.S. estate tax if you’re not careful.” He also explains some available relief mechanisms. Some strategies suggested are: Canadian holding company to hold U.S. marketable securities and holding U.S. vacation property in a trust.

In Bloomberg’s “Stop loss orders may lock in losses when stocks plunge in volatile markets” Margaret Collins discusses what’s wrong with using stop-loss orders (especially in recent volatile markets). “Stop losses are orders to sell when a stock’s value drops to a specified price… (but investors) often don’t understand how dangerous it may be to rely on them…That’s because stop losses may be executed before a stock rebounds when there’s abnormal trading. The shares also might be sold at the next available price, which may be far lower than expected…They remove investment judgment from the equation”. A better approach might be to buy put options, but that’s like an insurance policy and it costs money. The article suggests that perhaps old fashioned diversification might be the best approach.

In the Financial Post’s “Finding a balance between saving too little for retirement and too much” Jonathan Chevreau discusses how one might determine the “right” savings level. The discussion, which refers to a new report from an actuarial firm, is framed in terms of income replacement rate and the 43% to 51% range is considered a reasonable target.(While some of the arguments going used to support the recommend the replacement rate, I am always uncomfortable with it, since to my mind it makes more sense to establish the retirement needs based on pre-retirement spend-rate (not income) and then adjusting it for put (for new expenditures in retirement) and takes (for dropped expenditures from pre-retirement. I suspect that using a percent of income as a saving target during working years is a good approach, but percent of pre-retirement income as a target for retirement is less so. The argument of trying to smooth lifetime consumption is also discussed in Kotlikoff’s book “Spend ‘Till the End”, an interesting read. In fact Kotlikoff has a tool ESPlanner to implement his approach which I have looked at but haven’t used “in anger”)

In the WSJ’s “401(k) advice- for a hefty fee” Karen Blumenthal looks at some of the 401(k) (RRSP-like DC-like) plans which now come with advice. For a fee of about 0.6% a year (including fund management fees) you can get: advice on recommended saving level, asset allocation, rebalancing from Financial Engines who also act as fiduciaries. (Fee of 0.6% is a lot better than 1.6% (more typical for U.S. mutual funds) or 2.6% or more (more typical for Canadian mutual funds); these higher fees (often even without advice) could result over a 40 year saving period in about30% and 60% lower assets on retirement, respectively. I haven’t seen this mentioned in the Canadian context; sounds like an opportunity.)

In WSJ’s “The cost of End-of-Life Care”Tom Lauricella writes that “When it comes to end-of-life care, many people assume that if a nursing home isn’t in the picture, a family’s financial burdens will likely be minimal, but these costs are always underestimated. Such thinking, though, ignores the steep costs associated with care-giving — even if relatives are willing to pitch in.” Often forgotten are the cost: in-home care with unskilled or skilled attendants, loss of wages of family member who takes on care-giver responsibility and his/her out-of-pocket expenses. Lauricella suggests that in preparation for such eventuality you should consider: establishing a timely family counsel, powers of attorney, legal assistance, familiarization with reverse mortgages, changes in wills and look at the fine print in existing annuities (if you already committed the assets) which may permit larger payments. Otherwise make sure that reserve funds are allocated for emergencies and for end of life care requirements.

Real Estate

Canada’s housing markets in November softened, as measured by the just released November 2010 Teranet-National Bank House Price Index . The six city index shows 0.2% drop from October following “monthly declines of 0.4% in October and 1.1% in September…(but) Canadian home prices are still 4.8% above the pre-recession peak of August 2008.”

U.S. housing prices are still a depressing read. The November 2010 S&P Case-Shiller house price index shows “The 10-City Composite was down 0.4% and the 20-City Composite fell 1.6% from their November 2009 levels. Home prices fell in 19 of 20 MSAs and both Composites in November from their October levels. In November, only four MSAs – Los Angeles, San Diego, San Francisco and Washington DC – showed year-over-year gains. The Composite indices remain above their spring 2009 lows; however, nine markets – Atlanta, Charlotte, Chicago, Detroit, Las Vegas, Miami, Portland (OR), Seattle and Tampa – hit their lowest levels since home prices peaked in 2006 and 2007, meaning that average home prices in those markets have fallen even further than the lows set in the spring of 2009.”

In Florida it’s not a pretty picture either: Miami is down -3.5% YoY and -0.2% MoM. In the Palm Beach Post’s “South Florida home prices hit record low Case-Shiller index shows” Kimberly Miller writes that “South Florida’s single-­family home prices hit a new low in November on the Standard & Poor’s/Case-Shiller price index, as the region joined eight other large U.S. markets still struggling with a stalled economy and glut of foreclosures. The index, released Tuesday, showed a 3.5 percent decline in prices for Palm Beach, Broward and Miami-Dade counties in November compared with the same time in 2009.” Also in the PBP is Jennifer Sorenture’s “Palm Beach County property values down 5%” describing the estimated decrease in residential and commercial property base used for property tax calculation. The county’s property appraiser said that “the declining commercial property market accounted for much of the drop” (The translation: residential property owners will eat most of the coming tax-rate increases).  Palm Beach County officials indicated that the corresponding drop in property taxes would make it untenable to maintain current service levels without increase in tax rate. (For those sympathetic, I would like to remind you that many of Florida’s counties and municipalities have doubled their budgets between 2000 and 2006 riding the increased tax revenues accompanying the housing boom. A large proportion of the increased revenue was on the backs of the non-homesteaded pert-time out-of-state property owners, many of whom ended up paying 3-10x or more of the taxes on identical properties as their homesteaded neighbours.)

On the non-homesteaders’ battle in Florida for fair property tax treatment, the U.S. Supreme Court rejected to hear the constitutional challenge to the Save-Our-Homes Amendment (SOHA), so I suspect that not much will change unless Florida’s new governor Rick Scott will realize that creating a level playing field on Florida’s property taxes might actually be a great way to re-energize Florida’s property market by welcoming instead of scaring away non-resident out of staters.


In the Globe and Mail’s “In Sweden pension problems are so 1989” Naomi Powell looks at how Sweden overhauled the public pension system twenty years ago to prevent it from bankrupting the country. The solution was to replace the traditional DB plan with a “notional defined contribution” plan. The benefits are tied to: national per capita real wage growth, changing life expectancies, inflation, and rate of return. “When the economy is strong, pensioners receive more than they might have under the old structure. But when the economy is weak pension payments automatically drop to ensure the fund’s stability.” (Now that sounds sensible, sharing the burden instead of dumping it on the next generation.)

In the Bloomberg Businessweek’s Retirement: Live long and don’t prosper” Ben Steverman says that “Confusion about the life expectancy of the Baby Boom generation bedevils fiscal planning and retirement planning”. The problem of determining longevity is a problem nationally (cost of entitlements) and individually (a pure longevity insurance can solve uncertainty). “Live too long and risk running out of money; die young and you can’t take it with you”. He reminds readers that there is a 50% probability that at least one of a 65 year old couple will reach age 88 and a 30% chance of reaching 92. And there are concerns about medical advances increasing longevity further. Retirement planning must factor in realistic timeframes and perhaps even the use of annuities. But he suggests that last century’s longevity trends may not continue due to growing obesity epidemic (solves national but not individual problem).

The Canadian Press reports that the “Supreme Court of Canada rejects U/K. Nortel pensioners claims in Canada”. So Nortel pensioners finally have their first victory in a Canadian court. This won’t improve the outlook for an already massive pension cut, but reduces the potential for a further massive reduction resulting from an attempt by the U.K. Pension Regulator to empty the remaining minimal Canadian estate.

In the Ottawa Citizen’s “Pension pitfalls” Julius Melnitzer describes a case when Morneau Sobeco successfully sued Board of Directors of a company, for their Audit Committee roles, which received a discharge in CCAA proceedings. Morneau is the windup administrator of the Nortel pension plan so hopefully their looking at opportunities for getting compensation from all parties who failed in their duties toward pensioners.

Things to Ponder

Let’s start with inflation. There is a chorus of growing concern about rising inflation. This is one of the most important issues for retirees. My earlier blog Senior Inflation, discusses the inappropriateness of using the CPI basket as a measure of the impact of inflation on seniors. But things are actually even worse. If inflation takes off, the impact on retirees’ lifestyle will be corrosive. In WSJ’s “You can’t trust the inflation numbers” Brett Arends tells readers not to believe any of the current U.S. inflation numbers. Arends indicates that if the government is cooking the numbers by: (1) changing the way inflation is measured over the past 30 years and if we were measuring the inflation the same way as when Jimmy Carter was president the numbers today would be very similar i.e. closer to 10% (e.g. if steak is expensive the CPI just replaces it with hamburgers), (2) inflation numbers are backward looking i.e. measure what has just happened rather than what is about to happen, and (3) U.S. is flooding the world with dollars. On the other hand, David Berman in the Globe and Mail’s “The Fed sees no inflation” reports that from the Fed’s perspective “Although commodity prices have risen, longer-term inflation expectations have remained stable, and measures of underlying inflation have been trending downward.”

In the Financial Times’ “Inflation is coming- just not yet” John Dizard says that the fears of growing inflation are valid but “For all the real risks that investors face over the next year, US dollar inflation is probably not the most serious. Yes, in years to come the political class will use inflation to redistribute goods, services, and power in their direction, but not now…dollar inflation will return in a dramatic way. Just not yet.” The Globe and Mail’s “Inflation fears reach new highs” Brian Milner also looks at the global inflationary pressures and mentions the threat of potential social disruption associated with rapid food price rises. He also quotes assorted economists’ views on whether inflation is coming or not. In WSJ’s “Global price fears mount” Blackstone and Walker report on the growing concerns about rising inflationary pressures around the world. High emerging market growth rates are driving up global commodity prices “even with the global recovery still in its early stages”. In the U.S. and the developed world “high unemployment and spare capacity are restraining underlying inflation pressures”, but China and Brazil have inflation in the 5-6% range accompanying growth rates of the order of 10%. In last week’s Hot Off the Web I mentioned the chart  Economist article “Back with a vengeance” which indicated that food prices make up 30-50% of the price index in China and India. When people say that rising food prices drive inflation in those countries they usually refer to the impact of high food prices component of the index; however you have to also consider how the high food prices in this countries will eventually translate to demand for higher wages and that in turn to higher prices of manufactured goods sold to the developed countries. Can inflation be far behind? You be the judge. I am worried.

In the Globe and Mail’s “Retirement health, happiness requires planning” Preet Banerjee writes that “Richard Atkinson, author of Don’t Just Retire: Live it, Love it!, is an expert in the transition issues faced by retirees and pre-retirees. His research has yielded numerous anecdotes that challenge us to think beyond the financial issues of retirement.”

In Bloomberg’s “Super-cycle leaves no economy behind” Simon Kennedy reports that Gerard Lyons forecast “a “super-cycle” of historically high growth that will last at least a generation and will be led by booming trade, investment and urbanization, according to a report published in November. He reckons such a cycle has occurred only twice since the end of the 18th century: the four decades before World War I and the three following World War II. He’s betting the new phase will contribute to a reversal in the three-decade decline for U.S. bond yields…” Other very optimistic views are also discussed. Overall world GDP is forecast to grow from $62T to$143T in 2030, that’s a rate of about 4.5% a year and even the developed world will participate in that increase to the tune of about 2.5% a year. (Let’s hope so.) And on the negative side the WSJ reports that S&P cut Japan’s sovereign debt rating to AA- in “S&P cuts Japan rating as budget woes linger” and that the U.S. budget deficit in 2011 is forecast to be $1.5T in the “Deficit outlook darkens”.

And finally, Ian MacGugan in the Globe and Mail’s “A renowned bear turns bullish, if only in the short term” writes: “Mr. Smithers argues that U.S. share prices “will probably continue to rise.” For those who have been following his views for a while, the assertion is as shocking as hearing Stephen Harper tell you to vote for the NDP… When Washington begins to reduce its enormous deficit – probably after the next presidential election in 2012 – corporate profits are likely to take it on the chin. “I am worried,” he says in an interview. “I think when the U.S. starts to rein in stimulus spending, there is the potential for a large fall in asset prices.””

P.S. I came across an interesting bumper sticker this past week: “Don’t believe everything you think”. Now there is a good suggestion to keep in mind.


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