Hot Off the Web- March 12, 2012

-Topics: Dividend investing, Canadian taxes, emergency travel insurance? US housing revival? reduced employer pension contrintributions? conflicted objectives of EM state-controlled companies, Boomers investment return problem.

Personal Finance and Investments

Tom Bradley in the Globe and Mail’s “Dividend obsession distracts investors from the big picture” reminds readers that a single minded approach to high dividend investing can be damaging to your wealth. “The focus on income and dividends is so intense that it’s distracting investors from what they really need, which is attractive “total” returns. Indeed, the pursuit of convenient, tax efficient, GIC-beating yield is getting downright unhealthy.” To get high yields people invest assorted “products”/funds, often trading at premium to NAV, exposing themselves to valuation drop should interest rates rise, having significant sector concentration (less diversified), and often confusing yield (income) with return of capital.

On tax matters, Jamie Golombek in the Financial Post’s “Don’t robo sign that tax return” warns readers that “If you’re planning to engage a professional to prepare your 2011 tax return, double check it before signing as you are ultimately responsible for its contents.” (This is a very timely reminder that responsibility for errors remains with the taxpayer.) And in the Financial Post’s “CRA probing high-flying TFSAs” Jonathan Chevreau reports that the CRA is launching tax audit on accounts that the CRA believed to have used “aggressive tax planning” by “some shrewd professional traders figured out a way to use complicated “swap transactions” involving chunks of equity from small enterprises or illiquid stocks.” Some of the TFSA accounts which could have had a maximum of $20,000 contributed are now worth in excess of $100,000.

In InvestmentNews’ “Long-term care insurance suddenly short on sellers” Darla Mercado reports on the increasing number of insurance companies exiting from selling new LTCI (Long-Term Care Insurance) policies. Many of those that stayed in the business have increased the premium for new coverage significantly. Premium increases for existing (!) policy holders have also been common. Reasons quoted in the article include: complexity of pricing the policies correctly, low interest rates, lower lapse rates than actual built into the price, and increasing longevity of the insured. (Not mentioned is the point that perhaps LTCI is an inappropriate insurance product; risks most suitable for insuring against are those which have a low probability of occurrence but have high financial severity (e.g. death or disability of a working age individual with dependents). Some of the published data suggests that 43% of 65 year olds will require long-term care, so it is not low probability. Furthermore as discussed in my earlier blog on this subject Long-Term Care Insurance (LTCI) II- Musings on the Affordability, Need and Value: A (More) Quantitative View policies are complex and non-standardized, they have load-factors of about 50%, and while financial impact can be severe for those few who have many years of needed long-term care, only about 24% spend more than one year in a nursing home.) The WSJ also discusses LTCI at “Long-term care: What now?”

CBCNews’ “Travel insurance loophole devastates B.C. couple” reports that a couple face financial ruin after the ManuLife refused to pay for the expenses resulting from the husband’s heart attack in Florida. Their claim for $346,000 emergency medical expenses (later reduced by the hospital to $160,000 when they found out that they were uninsured) was rejected. “Manulife says Bill should have answered yes to this question about two conditions: “In the last two (2) years, have you been prescribed or received treatment for and/or been hospitalized (as an in-patient or seen in the emergency department) and/or been prescribed or taken medication for any of the following conditions: diverticular disorder or gastrointestinal bleeding?” Bill insists that he didn’t know what was spelled out in his medical file or that he’d been diagnosed with those two conditions. He thought all his symptoms were related to the colon cancer he’d had surgery for 19 months earlier. “”Most importantly to me would be the question, ‘What does anything, what does anything related to this have to do with Bill’s heart?'” Tracy said. “Absolutely nothing. Absolutely nothing.” Susan Eng of CARP, a Canadian advocacy group for people over 50, says the system is set up for claims to be denied.” (Wow, that sounds like a no win situation…it really does re-enforce one’s suspicions that the insurance industry has lost its way…Bill didn’t know and it appears to be unrelated to the heart attack.)

Real Estate

The Economist’s “Holding back the spring” reports that US home builders’ confidence index rose for the 5^th consecutive month, but it is “centred on the rental market. Though house prices sank 4% in 2011, rents posted a 2.4% increase, thanks to tumbling vacancy rates. Tight conditions are a side-effect of the housing bust. Construction hit a record low in 2011, surpassing a 2010 performance which itself displaced 2009’s. The pressure from America’s growing population is now showing. Builders are responding… rising rents make buying a bargain: as attractive as it has been for three decades, according to the National Association of Realtors’ index of housing affordability. Stocks of homes for sale are falling as investors snap up and convert vacant homes for renting out. Were it practical, mused Warren Buffett recently, he would buy up “a couple of hundred thousand” homes.”

Pensions

In WSJ’s “Companies’ pension plea” Kristina Peterson reports that “Business groups are urging Congress to let employers put less money into their pension funds, saying that exceptionally low interest rates are forcing them to set aside too much cash… Companies are “not opening a plant or not launching a new product because they’re sitting on the cash because it’s going to look like they’ll owe it to their pension plan”… (according to) a trade group for employers that sponsor retirement programs and other benefits.” (Is this type of legislation, should it pass, just another nail in the coffin of DB pension plan beneficiaries’ promised retirement income? In the US the Pension Benefit Guaranty Corp is on the hook to make up for any shortfalls up to about $54,000 due to bankruptcy of employer; is this just a transfer of pension liabilities from the corporation to the taxpayer? In Canada where there are similar pressures from companies for relief on pension contributions, pensioners are left to hang out to dry in case of bankruptcy, as there are no guarantees to back-stop a bankrupt company’s plan, except for a minimal one in Ontario. What Canada needs is to raise priority of pension fund deficiencies in case of bankruptcy of employer.) Other articles this week, like “QE blamed for surge in pension shortfall”, blame low interest rate environment resulting from QE for ballooning liabilities and growing underfunded status of DB plans.

Clive Crook in Bloomberg’s “As pension crisis looms, Golden years fade to Black” discusses that governments are beginning to understand the crisis facing public pension systems, but he worries that solutions proposed are framed too narrowly and are unlikely to stick. He gives the example of possible mandatory savings plans in which high administrative costs then destroy much of the opportunity for full benefit from market returns. “Private pensions aren’t a way to cut public spending or taxes, and they shouldn’t be sold on the back of heroic assumptions about returns to private capital. They should be seen, simply, as a way to increase saving, as an alternative to poverty in retirement and/or acute fiscal distress down the road.”

Things to Ponder

In Bloomberg’s “BRIC investors lose as statists forgo earnings” Patterson and Lazaroff  warn that “Investors in the biggest state-controlled companies are being punished with the lowest valuations in six years by emerging-market leaders putting public services ahead of shareholder profits as economies slow… “State-owned companies a lot of the time have different objectives than the objectives investors imagine they have.”… Earnings at the government-controlled firms averaged 5.4 percent (growth rate???) during the past three years, versus 17 percent for the MSCI Emerging Markets Index. Their mean return on equity was 17 percent during the latest fiscal year, compared with 20 percent for stocks on the MSCI gauge and 25 percent for the world’s 20 biggest companies by market value”. (Something to consider.)

And finally, in the WSJ’s “Bad news for boomers” Karen Damato writes that according to Robert Arnott, as a result of demographic trends “If you’re a baby boomer, you’ve got a big problem when it comes to the investment returns you can expect in retirement: It’s the sheer number of other boomers who are also getting ready to leave the workplace and rely on their portfolios to help pay the bills… The ratio of retirees to active workers in the U.S. will balloon. As retirees sell stocks and then bonds to support themselves, there will be fewer younger investors to buy those securities, keeping a lid on prices. Meanwhile, strong demand from boomers and a limited supply of workers will boost the prices of goods and services the boomers need.”