Contents: Documentary: “The retirement gamble”, “senior specialists”, impact of rising interest rates in target-date funds, tax time a good time for retirement plan review, Vanguard’s Total International Bond ETF coming, US housing up, rentals’ impact on neighborhoods, cost of home ownership, pension may be enough- if it is a government pension, more expanded-CPP talk but still no action with business resistance, Canada’s DC plans starting to consider target-date funds as defaults, investment pornography, Russell capital market expectations vs. SoGen, investor self-knowledge is essential.
Personal Finance and Investments
Last week I mentioned a PBS documentary without having watched it or having provided the link to it in its entirety. I have now seen it and it’s a must see; here is the link “The retirement gamble”, take the time to watch it. It covers the history of retirement income, how we got from a defined benefit to a defined contribution world and its result, including the impact of cost, passive vs. active fund management, fiduciary vs. suitability standard, advisers vs. salesmen, financial industry lobbying to preserve the current system.
Forbes’ “Senior ‘specialists’ often swindlers” reports that according to a recent Consumer Financial Protection Bureau report on senior specialist titles that The Bureau found that there are more than 50 different senior designations that financial advisers use to indicate that they have advanced training or expertise in the financial needs of older consumers. These designations can confuse older consumers, who are already at risk for deception and fraud.” The CFPB’s head indicated that the “report underscores the need for consistent high-level standards of training and conduct for those advisers who want to acquire a bona fide senior designation… The CFPB would like to see some regulation of these folks, but I have a simpler plan: Require anyone who sells a financial product to become a fiduciary. They must place the client’s interests above those of their firm. If they don’t, you can take them to court.” (Thanks to Ken Kivenko for recommending. All roads lead to Rome, or fiduciary in this case; I wonder how long it will take government to force this issue to its logical conclusion.)
In WSJ’s “’Target’ funds vulnerable to rate rise” Pleven and Light discuss vulnerability of target-date funds, now an accepted default for 401(k) with $500B of accumulated assets, should interest rates increase significantly. These target-date funds, which automatically increase the fixed income allocation with age as one approaches retirement in order to reduce market risk, may actually expose the investor’s portfolio to higher interest rate risk. “The simplest way to gauge the risk of bond losses is by a measure called “duration,” which tracks a bond’s sensitivity to interest rates. The value of a bond portfolio with an average duration of five years, for example, would sustain a loss of 5% if interest rates rose by one percentage point immediately.” The portfolio losses would be determined by “the size and speed of an interest-rate increase, the percentage of bonds held in the portfolio and the types of bonds held”. (Losses would be especially unpleasant for those expecting to convert assets in their 401(k) to an annuity. Still, losses would be mitigated by the annual interest paid by the bonds.)
In the WSJ’s “Retirement plans need dusting too” Tom Lauricella suggests that with just having filed tax returns, it may be a good time to review: assets, liabilities, spend rate, speak to accountant about changes which might increase tax efficiency, check need for portfolio rebalancing, plan for required minimum withdrawals from tax-sheltered accounts, consider opportunity to reduce mortgage with assets in fixed income investments and most importantly assess whether we are on track with our retirement finances. (What a great idea!)
In IndexUniverse’s “Vanguard Total International Bond Fund nears launch” Cinthia Murphy reports that Vanguard’s new international bond ETF to be available shortly which will have: 0.2% expense ratio and is “designed to track the Barclays Global Aggregate ex-USD Float Adjusted RIC Capped Index (dollar hedged), and will tap into a universe of 7,000 high-quality corporate and government bonds from 52 countries… The index underlying the strategy caps single-issuer exposure at 20 percent, and issuers that individually represent more than 5 percent of the mix may not constitute, in the aggregate, more than 48 percent of the overall portfolio.”
The just released February 2013 Case-Shiller Indexes indicate that in the U.S. “average home prices increased 8.6% and 9.3% for the 10- and 20-City Composites in the 12 months ending in February 2013. The 10- and 20-City Composites rose 0.4% and 0.3% from January to February… “The 10- and 20-City Composites recorded their highest annual growth rates since May 2006; seasonally adjusted monthly data show all 20 cities saw higher prices for two months in a row – the last time that happened was in early 2005… As of February 2013, average home prices across the United States are back to their autumn 2003 levels…” Some of the highest YoY increases were Phoenix (23%), San Francisco (19%), Las Vegas (18%), Atlanta (16%) and Detroit (15%); the lowest YoY increases were New York (2%), Chicago (5%) and Boston (5%). For those interested in Florida, Miami and Tampa increased just over 10% each. In WSJ’s “Housing market accelerates” Nick Timiraos notes that “Supplies have dwindled as banks have pushed fewer homes through foreclosure and because many homeowners are either unable or unwilling to sell due to a variety of factors related to the housing-crash hangover. Meanwhile, demand has picked up as the economy has added jobs, which has boosted household formation. Rising rents and falling mortgage rates have made ownership more attractive… prices are rising even as the homeownership rate fell during the first quarter to 65%, reaching its lowest level since 1995, according to a separate report Tuesday by the Census Bureau. The report showed that relative to 2004, there were 7.2 million more renters but just 400,000 new homeowners, according to Capital Economics.” (For a little added local color, see “Real estate values-Where do they stand in Century Village”. Thanks to AR for recommending.) In the National Post’s “’Greedy investors’ snapping up US housing” Matthew Goldstein reports that in Las Vegas investors’ “added firepower helps explain why home prices in this metropolitan area of 2 million people are up 30% over a year ago, far more than the national average of 10%. Permits for new home construction are up 50%, twice the national average.” The article notes that the central bank induced low interest rates are driving “people to put cheap credit to work at riskier activities that can spur growth – for instance, buying shares in new companies, investing in oil wells or renovating houses. Prodding investors further out on the so-called risk curve… (but) The combination of rising acquisition costs, prolonged rental lead times and declining rental income is disrupting the spread-sheet analysis behind Wall Street’s bet… (and) in about half of the zip codes in the Vegas metropolitan area, at least 70 percent of homeowners not in foreclosure were under water on their mortgages.”
In Palm Beach Post’s “Will ‘Rental Nation’ plague your property?” Kim Miller writes that “As corporate America sops up the remnants of the real estate crash, it’s not only more difficult for the traditional buyer with financing to find a home, it’s also planted a niggling concern about how it could change the fabric of the American community… But a responsible landlord is not guaranteed and while no one is bashing renters, experts say it is human nature to care more for where you live when you own… The idea of a long-term home means more attention is paid to its upkeep and more consideration is given to neighbors. Increased stability creates a bond to protect a common interest, such as if an unwanted store or strip club is proposed nearby… Florida’s homeownership rate at the beginning of 2005 was 73.2 percent. That fell to 66.2 percent by the end of 2012.”
In the Globe and Mail’s “The real cost of home ownership” Rob Carrick looks at the differences between home ownership (mortgage, property tax, routine maintenance costs, insurance, less frequent major expenses (e.g. roof, chimney, furnace, a/c, windows, painting, etc) and renting. By the way Rob is “A former homeowner, now a renter: one year later and still loving it”.
Pensions and Retirement Income
In the Financial Post’s “Is a pension alone enough to retire on?” Jason Heath does some interesting back of the envelope calculation for a person earning average Canadian income with a government pension which shows what powerful income replacement mechanism can an indexed government pension be. What a great illustration of the power of a government pension, yet he answers, to the question of whether the individual should work an extra couple of years to increase retirement income and reduce risk of running out of money, with another question: “does it really matter if stress (of continuing to work a couple of extra years) shortens his lifespan in the interim, perhaps to the point where he doesn’t even make it to retirement?”
Also in the Financial Post, is Barbara Shecter’s “Canada can’t afford CPP expansion, independent business group says” in which she reports that the Canadian Federation of Independent Business (CFIB) believes that an expanded CPP “would hurt the Canadian economy and result in significant job losses, according to a report from the Canadian Federation of Independent Business… The short-term impacts are substantial, yet benefits could take decades to be fully implemented.“ (While it is true that as with all saving for the future, the benefits will take decades to flow back, the reality is that the PRPP is not the answer, and while I am not an advocate of what people usually think of as an “expanded-CPP” I think there is more than one way to skin that cat, as I have described in previous blogs e.g. “Expanded-CPP Plus”.)
In BenefitCanada’s “When the money just sits there” Dowdell and Tamburro look at trends in defaults for Canadian Capital Accumulation Plans (employer initiated/administered CAPs like RRSPs or taxable accounts in DC pension plans). They used to be money market funds and now employers are considering target-date defaults in Canada. “The idea is to save and grow money for retirement, not just let it sit.” (US 401(k) accounts already accumulated $500B assets in target-date funds; in Canada it is still being discussed.)
Things to Ponder
In IndexUniverse’s “Swedroe: Beware of investment books” Larry Swedroe, a respected adviser/planner/author has been “getting a lot of calls and emails about recently published books that have investors freaked out. Just as with the rest of the investment pornography, these books shouldn’t cause investors to abandon their investment plans… Because bad news sells more than good, more often books are of the apocalypse variety… Investors would be wise to treat doom-and-gloom books just like the rest of the investment porn industry, and not let it affect their investment plans.”
In InvestmentNews’ “Glass seen as half-full for equities” Timothy Noonan has an interesting article on Russell’s capital market expectations. “The equity market has room to run.” With year-end 2012 P/E of 16.4 “only marginally higher than historical average… the average annualized equity return for such a P/E in the following 10-year period was in the range of +7%.” On the bond side they argue that we are not in bubble territory, and even if interest rates were to increase coupon payments moderate bond losses; (as mentioned above) duration is the suitable measure to assess interest rate risk of bonds. They suggest levers that active bond managers might use in a “rising rate environment”: decreasing duration, “investing in bonds with higher yields and higher risk” and going global to diversify geographically and currency-wise. Overall Russell is optimistic despite the remaining “macro-economic distortions…such as under-funded social obligations, sluggish developed economy growth, and youth unemployment.” But as usual there are opposing views about how the world is about to unfold; for example The Economist’s Buttonwood in “Following the Japanese script” reports that according to a SoGen report “economies are doomed to slide into a deflationary squeeze and that equities are doomed to de-rate relative to bonds. Mind you, he does think we are nearing the end-game.” (So they agree on bonds but disagree on stocks. Forecasting is difficult especially about the future!)
And finally, In WSJ’s “Investor, know yourself” Meir Statman writes that to become a smarter investor one must get in touch with one’s feelings, because “emotions working under the surface” affect decisions of even people who consider themselves “cold and analytical”. Humans are risk averse and avoiding risk denies us potential returns. To help us better understand our state of mind consider the following questions. How much are we willing to lose? (Think of it how much reduction of standard of living you are prepared to take with a portfolio that has a 50:50 chance for 50% increase in standard of living. Statman indicates that average American’s answer is 12.5%! (With that kind of market risk aversion, we leave ourselves exposed to inflation and longevity risk.) Other questions probe one’s: fear of regret (more risk averse so are you taking enough risk?), overconfidence (too aggressive), attention to detail (control spending, save adequately), extroverted tendencies (less risk averse so double check before going out on a limb), generosity/agreeableness (watch out for naiveté), open to new ideas (don’t be too trusting, have you saved enough?) and worrywart (use a financial adviser to craft portfolio for you). And in InvestmentNews’ “Meir Statman on perils of markets: ‘If you want real risk get married’” Meir Statman, in a speech to financial advisors, indicated that “You don’t need to be a psychologist, you need to be a good friend… Provide advice as a friend, and as a good person… Anyone can do an asset allocation plan, what is the difference is the kind of emotional contact you establish with your clients, and one way to do that is to reveal some of your own vulnerabilities… Know yourself and your clients, and be their teacher,” he said. “What we all want is bond-like risk and equity-like returns, but you can’t have that.”