Topics: Advisor ethics, women’s retirement, fiduciary advisor, mutual fund disclosures, retirement savings milestones, US  real estate a Canadian opportunity, Nevada’s real estate disaster, deploying a windfall, household incomes down, inflation and retirees, Shiller’s CAPE indexes, financial repression: retirees and governments, is QE bankrupt? ETF inflows, Roubini: perfect storm to continue, joblessness worse than numbers indicate, living on Social Security.

Personal Finance and Investments

In WSJ Smart Money’s “An ethics test your advisor may not pass” Charles Passy reports that “A new study from the New York-based Diligence Review Corp. says that only 10% of the nearly $50 trillion in managed assets is in the hands of companies adhering to the highest standards. That leaves roughly $44 trillion with firms the research company sees as potentially problematic because of past run-ins with regulators or possible conflicts of interest built into their business models.”

In Kiplinger’s “The rules of retirement for women”Susan Garland writes that according to a US GAO study, women approaching retirement are facing good and bad news; the good news is a long life, but the bad news affordability may be a problem. Over 65 women’s poverty rate is 9% compared to 5% for men. Similarly 12% of widows are poor compared to 6% of widowers. (Thanks to MB for referring article)

In Bloomberg’s “Tougher Dodd-Frank fiduciary standard for brokers stalled” Hamilton and Collins report that SEC Chair Mary Schapiro said, referring to the effort to raise standard of care that investment clients receive from brokers to the same (fiduciary) level as investment advisers (RIAs), “It’s important for us to get this done, but Congress handed us a lot of important things to do,” Schapiro said in an interview. “We continue to advance this issue within the building and remain committed to it.” Brokers are fighting tooth and nail the fiduciary standard which effectively requires that they “to act in the best interest of the customer without regard to the financial or other interest of the broker, dealer, or investment adviser.” (You’d think that anyone in the financial ‘advice’ business would have no trouble acting in the client’s best interest, but they seem to have an objection to this; or you’d think that investors would consider it a red flag if their ‘advisor’ considers this a problem…but obviously this is not the case.)

In the Globe and Mail’s “Investing fees: Full disclosure is worth the added cost” Rob Carrick argues that the proposed new disclosure requirement for mutual funds covering “dollar amounts of fees paid by investors” for advice as trailers and “their personal rates of return” is worth the additional cost. The fund companies object (probably because they don’t want to confuse their customers with the facts). (Sounds very sensible, but what is not is that people still buying the very expensive Canadian mutual funds. Why are people continuing to buy mutual funds, even if it makes no sense to do so? Anyone know?)

In the NYT’s “Suggested retirement savings goals, by age” Ann Carrns reports that Fidelity Investments recommends specific milestones to monitor progress toward an 85% replacement  of preretirement income at age 67. The assumptions for the calculation are based on contributions starting at 6% at age 25 and increasing by 1% until 12%, a 3% employer contribution, no service/contribution breaks or withdrawals, a 5.5% average portfolio return, a 1.5% annual salary increase, death at age 92 and full Social Security benefits. The milestones as multiples of salary are 1x at age 35, 2x at 40, 3x at 45, 4x at 50, 5x at 55, 6x at 60 8x at 67. (Thanks to MB for recommending.)

Real Estate

In the Financial Post’s “U.S. housing market best in almost 40 years for Canadian buyers: Sherry Cooper” Pamela Heaven  quotes Sherry Cooper that “Thanks to the combination of a huge gap between average Canadian and U.S. home prices and a strong loonie, real estate south of the border is looking like a good investment… But she cautions potential buyers to act now — because the gap between housing prices will begin to close as the U.S. market improves.”

Jennifer Oldham in the Bloomberg’s “Nevada desert frowning as underwater loans hurt schools, police” reviews the real estate disaster and its impact in Nevada. People stopped paying their mortgages for years to be able to buy groceries and gas.  “A 57 percent drop in value since 2006 trapped two out of three Las Vegans in homes worth less than they paid and caused a steep decline in property-tax collections that — in a state without income tax — comprise a third of city and county budgets.”  A 37% drop in property tax revenue resulted cuts to police and schools. “Other states are also battling high rates of negative equity. About half of homeowners are underwater in Atlanta, Phoenix, Orlando, Florida, and Riverside, California, according to Seattle-based Zillow’s second-quarter negative-equity report… Lawmakers and banks need to discuss a program that would reduce the principal homeowners like Harris owe on underwater mortgages in exchange for the lending institution receiving part of the profit when a house sells”

Pensions

In Reuters’ “What to do with that windfall” Linda Stern looks at how one might approach the scary situation like GM and Ford pensioners in the US faced where they are offered lump-sum pension buyouts or they inherit some sizable assets. She writes that: (1) for many/most it might make sense to stick with the pension (guaranteed by PBGF to a significant level) and is probably cheaper than an individual annuity, or (2) buy an annuity to mitigate longevity risk, and consider multiple insurance company annuities to stay below state guarantees (3) consider staged annuitization to diversify interest rate risk, (4) get independent advice, (5) factor in impact of taxes, (6) if you take lump-sum, don’t rush into committing to a new investment or product, (7) “deploy it gradually” (there are dissenting views on this especially if assets are invested for the long-term, as mentioned in last week’s Hot Off the Web- September 10, 2012 which refers to a new Vanguard report “Dollar-cost averaging just means taking the risk later”)

By the way, in preparation for their upcoming annuity vs. lump-sum decision, Nortel pensioners might be interested in a seminar being offered in Ottawa by Ryan Lamontagne on October 16 and 18 (This is not an endorsement of the company or the seminar)

Things to Ponder

In the WSJ’s “Household income sinks to ’95 level” Dougherty and Mathews report that according to a Census Bureau report just out that median “annual household income fell in 2011 for the fourth straight year to an inflation adjusted $50,054” (in 2011 dollars) back to the same level as in 1995 and 1990, and “8.9% below its all-time peak of $54,932 in 1999”. In 1970 median was about $41,500. (That comes to an average annual increase over 41 years of about 0.45%/yr!)

In the Financial Post’s “Retirees most at risk from understated inflation” Jason Heath discusses whether official inflation figures are representative of the real inflation experienced by average citizens in general and retirees in particular. A new C.D. Howe report indicates that Canada’s “house prices have risen far faster than has been captured by the CPI. If a true measure of house price increases is used, inflation would have been close to a percentage point higher in most years since 2009, when home prices began taking off.” According to the report “Statistics Canada calculates changes in the costs associated with owning a home, not the actual changes in the prices of homes sold”.  (This sounds like it might be an appropriate measure for retirees who are unlikely to buy a new house, but are more likely to face operating costs of a house.) Critics say that government manages the official inflation figures down to minimize interest rates on their debt and minimize inflation adjustments on entitlements. Retirees and soon to be retirees are negatively affected by understatement of inflation because their government benefits are usually indexed to official CPI and if they have a private sector  DB plan that is likely fixed rather than indexed. (While most retirees are unlikely to be buying a home, they are particularly vulnerable to inflation; they have to deal not just with understatement of actual CPI, but also difference between the official CPI basket of goods and seniors’ baskets in general and their own personal baskets in particular, with ultimately the latter governing the pain that they have to bear.)

In the Globe and Mail’s “A new road to value investing: Shiller launches indexes” David Berman reports a new set of indexes based on Robert Shiller’s CAPE, the cyclically adjusted price-to-earning-ratio, which is a “10-year rolling average” of earnings as a valuation measure. “Mr. Shiller found that an investing strategy that focused on sectors with low cyclically adjusted price-to-earnings ratios outperformed by an average of 1.13 per cent a year. It adds up. The lower the CAPE, the better the future performance.” (Interesting but only time will tell whether the real life implementation of this index has the capacity and sustainable performance over time on an after tax and turnover cost basis as compared to the capitalization weighted index.)

In the NYT’s “As low rates depress saver, governments reap the benefits”Catherine Rampell writes that interest are so low through much of the world is a coordinated policy among governments to keep borrowing costs down. “Though bad for people trying to live off their savings, low interest rates happen to be quite good for anyone borrowing money, like governments themselves. Over time, interest rates below the inflation rate allow governments to refinance, erode or liquidate their debt, making it easier to live within their budgets without having to resort to more unpalatable spending cuts or tax increases… Consumers, in other words, are subtly subsidizing governments without even knowing it. Economists have compared this phenomenon to a hidden tax on people’s wealth… Of course, any economic policy will produce winners and losers, and it seems unlikely that policy makers are deliberately sacrificing retirees either to stimulate the economy or to grind down government debt. More likely, older Americans and other savers are just unintended casualties of policies aimed at other economic targets.“  Pimco’s Bill Gross writes in “The Lending Lindy” that credit is what makes the economy go around and “our entire finance-based monetary system- led by banks but typified by insurance companies, investment management firms and hedge funds as well- is based on an acceptable level of carry and expectation of earning it”. However “the price of money (be it in the form of a real interest rate, a quality risk spread, or both) is too low. Our entire finance-based monetary system – led by banks but typified by insurance companies, investment management firms and hedge funds as well – is based on an acceptable level of carry and the expectation of earning it. When credit is priced such that carry is no longer as profitable at a customary amount of leverage/risk, then the system will stall, list, or perhaps even tip over.” Gross recommends to individual investors to set asset allocations corresponding to their ages, minimize fees, don’t count on double digit portfolio returns as they are history. “The age of inflation is upon us, which typically provides a headwind, not a tailwind, to securities price – both stocks and bonds.” In Bloomberg’s “Bill Gross sees higher long-term yields amid reflation” Gross is reported as indicating that bond yields will be “very steep” for a “very long time” and that investors should“ continue to expect an attempted inflationary solution in almost all developed economies over the next few years and even decades”.

In the Financial Times’ “Global economy: Not so different this time” Harding and Giles report from the Jackson Hole gathering this month that central bankers appear “nagged by self-doubt” as the unprecedented interventions did not turn economies around. Many central bankers expressed concerns about: growing pressure on and “creeping politization” of central banking, few remaining levers given the already historically low interest rates, has there been some underlying structural changes “related to savings behaviour or the changed distribution of income between labour and capital”, perhaps QE just doesn’t work. Some are starting to suggest more radical actions, such as central banks to start buying other assets besides government bonds, or the central bank could credit each citizen’s account thus encouraging spending directly or financing “the spending of government temporarily, allowing it to cut taxes for a period”. (Truly radical ideas….but…) In the meantime, according to the WSJ’s “Fed to buy more bonds in bid to spur economy” on September 13 the Fed announced monthly $85B longer term bond purchases until year end, expansion of its $2.8T balance sheet by printing more money to buy more mortgage bonds and it’s commitment to continuing its near zero short-term rates until 2015.

In the Financial Times’ “Rising inflows across the globe- and more to come” Chris Flood reports that during the first eight months of this year global ETF inflow increased 16% reaching $128B, with US and Asian inflows being up 33% and 38% respectively; Europe was down 44% due debt crisis and regulatory changes in the past year, but inflows are expected to recover. ETFs are perceived as ‘democratizing’ investment by offering “low cost, liquid access to almost every corner of all asset classes, they have become key tools in the global financial system”. Global ETF assets are now at $1.8T and some estimate that they might increase to $10T by 2020.Also in FT is Pauline Skypala’s“Price challenge in a rising passive market” in which she discusses the massive shift of retail investors to ETFs due to their “increased transparency, higher awareness of the difficulty active managers have in outperforming the market, and the switch from defined benefit to defined contribution pensions”. Some predictions of the shift to passive investing to reach 90% of assets, though currently in the US it is about 21% (ETFs and index funds combined). In the US Vanguard is gaining market share from Blackrock (iShares) due to investors’ increased focus on cost.  However Chris Cook in an FT letter expresses concerns that “Exchange traded funds’ vices far outweigh their virtues”. His argument is that the growing shift to indexing has “largely destroyed price formation mechanism” (while insufficient price discovery mechanisms might become a long term concern, but this is not considered an issue at the current levels of indexing) and that indexing on a large scale resulted in equity commodity investors fleeing markets because prices are disconnected from the underlying realty of the assets (there is some evidence that commodity prices are driven by speculative investing).

In the Globe and Mail’s “With no rebound in sight, there’s never been a slump like this” Kevin Carmichael reports that the Bank of Canada’s estimate of the US GDP in 2015 is now $1T lower than it was before the start of the Great Recession. What is different from other recessions in which “after economies plunge, they generally snap back relatively quickly”, this time has been different due the amassed debt of Americans and further compounded but the housing crash. “The median national home price still is about 30 per cent below the peak in 2006. Unemployment is 8.1 per cent compared with 4.7 per cent at the same point in 2007. The U.S. federal debt is about 73 per cent of GDP and growing – double the level five years ago.”

In AP’s “Roubini sees ‘perfect storm’ of risks for global economy” Dan Perry reports Nouriel Roubini’s view that “History suggests that whenever (there is) a crisis with too much private debt first and public debt second you have a painful process of deleveraging… That would imply many years, up to a decade, of low economic growth. And guess what? Economic recovery in the U.S. has been unending and in the euro zone and U.K. there’s outright economic contraction right now, and that’s not going to change unfortunately in the next few years”.

In the WSJ’s “The jobless numbers are even worse than they look” Mortimer Zuckerman writes that the latest US unemployment numbers of 8.1% vs. 8.3% in July “was not because more jobs were created, but because more people quit looking for work” the number only counts” people ‘who have actively applied for a job in the past four weeks”, but there were also eight million people “out of work but not counted as unemployed because they hadn’t sought work in the past four weeks”. When including those “working part-time only because they’ve been unable to find full time work” the “underutilized labor’ was at 15%!

And finally, in the NYT’s “The tightwire act of living only on Social Security” Paul Sullivan reports that “According to the Social Security Administration, 23 percent of married couples and 46 percent of single people receive 90 percent or more of their income from Social Security. Furthermore, 53 percent of married couples and 74 percent of unmarried people receive half of their income or more from the program.” The average SS income is $14,400/yr ($1,200/mo). Singles in this position struggle even more than couples, and unexpected expenses can be real killers. (It is an interesting article to read, especially for those who need help with saving for retirement because they are challenged when it comes to deferred gratification. Thanks to MB for recommending.)