Contents: Decumulation during “income drought”, target-maturity bond ETFs, bond ETF approaches, your best interest at odds with your adviser’s? foreclosure driven reverse mortgage changes, cash returns negative, rules for “effective complaint letters”, Canadian homes up 1.8% YoY-are concerns over?, Florida property up, new twist to expanded CPP-keep working, Detroit: bondholders vs. pensioners, Calpers raises passive allocation (unlike CPPIB), momentum  inferior to fundamental investing, The Future of Finance, hedge funds are for suckers, mark-to-market? deflation/inflation, smearing ‘Wall Street ethics’? end-of-life care.

Personal Finance and Investments

In WSJ’s “Tapping your portfolio in the great income drought” Jason Zweig discusses how people “who want ample income” in the current low interest environment “…must violate the rule of thumb that says you never should fund income needs by dipping into capital. Above all, you must be skeptical of anything that purports to offer high current yields.” He then proceeds to discuss the problems with some of the strategies used high yield CEFs: higher cost, option based (e.g. covered call), market premium/discount. Zweig then proceeds to argue that people should instead “manufacture your own dividends” by harvesting cap-gains, by drawing <1%/quarter “a diversified stock portfolio should come within spitting distance of maintaining its value, after inflation, in the long run”. (…pretty much my sentiments; I’ve been using this approach for over a decade.)

In IndexUniverse’s “More target date bond funds is good news” Olly Ludwig reports that iShares is releasing new target-date (maturity) corporate bond ETFs (2016, 2018, 2020, 2023). The target-maturity bond ETFs are intended to behave like individual bonds maturing on the specified target date, so that you can use them to build a bond-like ladder in which each ETF is held to maturity. Those more conservative might wish to take the risk of capital losses off the table with T-bills (or CD/GICs…Target-maturity bond funds might be theoretically a better mousetrap for bond investors, but I haven’t looked in detail at any of these products…personally, the last few years, I’ve taken the more conservative approach with the “fixed income” portion of my portfolio, leaving the risk exposure primarily in my equity portfolio.)

You might also be interested in reading InvestmentNews’ “Fund firms having ‘that talk’ with clients about bonds-but is it too late?” by Jeff Benjamin on how the financial industry is trying to stem the panic exit from bonds, $60B “net outflow from a category that hasn’t seen a single month of net outflows since 2011”. Investors were spooked by the Fed’s threat of rate increases and forget that asset allocation drives risk, and fixed income allocation has an important stabilizing role in the portfolio, especially during decumulation/retirement.

In the Financial Post’s “How to play bond ETFs Bernanke’s world”  Yves Rebetez  suggests “one-to-five year laddered ETFs, target maturity bonds, floating rate notes, become a trader (take advantage of over and under shoots), bond barbells with same duration as market(“may” outperform under some circumstances.  (…or “manufacture your own dividends” as mentioned by Zweig above.)

In the Globe and Mail’s “Why your financial advisor might not have your best interest at heart” Preet Banerjee writes that incentive based compensation (quotas, trailers, etc) of ‘adviser’ are not “aligned with the goals of putting you in the best possible investments or giving you a great financial plan”.  The solution suggested by Banerjee is that “advisory firms come to recognize that providing comprehensive financial planning doesn’t have to be an overhead cost; it could actually be a competitive advantage that can increase revenue through referrals.” If your ‘adviser’ doesn’t provide you with a holistic plan, it’s time to look around for one who will. (Great advice!)

In the NYT’s “Rules for reverse mortgages may become more restrictive” Tara Siegel Bernard reports on the upcoming introduction of “financial assessment” (e.g. credit scores) of home-owners to insure that they will be able to pay the required ongoing tax and insurance costs associated with the property; lower credit rating might lead to lower available/effective payout. The article notes the currently there is a 10% default rate for nonpayment of taxes and insurance leading to foreclosure on the reverse-mortgages home.

In the Globe and Mail’s “Beware of stagnant cash collecting dust under the bed” John Reese discusses the corrosive effect of taxes and inflation cash-like investments. Reese indicates that between 19926-2012 stocks returned 9.6% nominal, 6.7% real and 4.5% real after tax, whereas bonds delivered 5.4% nominal, 2.3% real, and 0.6% after tax. Cash returned -0.8% after tax! Over the long haul he argues for equities (…assuming that you can deal with the accompanying volatility, especially during decumulation!).

In CanadianFundWatch.com’s “Investors guide to effective complaints”  (starting on page 12) Ken Kivenko explains the elements of an effective complaint letter. (I recommend you consider reading this before you write your complaint letter to your broker/adviser or financial institution.)

Real Estate

The June 2013 Teranet-National Bank National Composite House Price Index while only 1.8% higher than one year ago but 1.0% higher than last month, and it is at a record high. Price changes (YoY/MoM) were: Toronto 3.6%/1.4%, Montreal 1.4%/0.6%, Ottawa 1.1%/0.9%, Calgary 5.5%/1.4% and Vancouver -2.8%/0.9%. (The YoY increase is small, and the month of June, a seasonally strong month, represents a significant portion of it. So it’s not obvious that we no longer have to worry about the high Canadian home/condo prices/volume. For those who need reasons to worry, you can read Canso Investment’s report “The Canadian housing market” )

InvestmentNews’ “Miami vise as big investors put a lock on hottest U.S. housing market” writes that “Foreclosures surge as investors look to scoop up bargains ahead of full-out boom”, as South American buyers and US based private-equity “firms buying houses in bulk to turn them into rentals”. (Let’s hope that it’s not just a bottoming but, a real turnaround is underway; I don’t see it as yet 50 miles north of Miami, but then in real estate local circumstances tend to be strong influencers.)

Pensions and Retirement Income

BenefitCanada’s “”Grand bargain” needed for C/QPP report” reports that in a new Michael Wolfson study entitled “Not-so-modest options for expanding CPP/QPP” he notes that even if an expanded CPP is implemented today, given the pre-funding requirement for all benefits paid, it would take 40 years to roll out the full benefits. He further opines that “Approximately half of middle-income earners over age 40 today are expected to see a significant decline in their standard of living upon retirement…”. He then argues that delaying the pensionable age by 3-5 years from 65 to 68-70, a 20 rather than 40 year phase-in of benefits would be possible. “His proposal would double the year’s maximum pensionable earnings from $51,100 to $102,200, and it would increase the income replacement rate from 25% to 40% on earnings above $25,550. “ (Interesting idea, though not clear what if any would be the impact on those already retired and how this would be priced (9.9%). This meets at least partially some of the pension reform criteria (higher savings rates, lower investment costs), but I still would like to see a “Pure longevity insurance payout option in CPP would reduce retirees’ longevity risk” which could be introduced without any additional cost. As indicated previously in Pension Breakdown – Canadian Centre for Policy Alternatives the previously proposed expanded CPP reforms  with the pre-funding requirement “…the resulting (40 year) phasing in of an expanded CPP will do little or nothing to help the baby boom generation which is now entering retirement.” The same for PRPP, those 55+ have few options than to keep on working; so much for Canada having one of the world’s best pension systems; but then of course Wolfson’s proposal is much the same; work another 3-5 years.)

The WSJ’s “Record bankruptcy for Detroit” discusses how Detroit’s bankruptcy is uncharted territory as there have been few U.S. municipal bankruptcies and none this size. This bankruptcy sets the stage for an epic fight between bondholders and pensioners of the city. In the NYT’s “Billions in debt, Detroit tumbles into insolvency” Davey and Walsh report that city leaders “  anticipate further benefit cuts for city workers and retirees, more reductions in services for residents, and a detrimental effect on borrowing”. Other cities on the brink are watching, especially to see how the pension and the retiree benefits battle ends; “If you end up with precedent that allows the restructuring of retirement benefits in bankruptcy court, that will make it an attractive option for cities…” (Unlike the case of private sector bankruptcies in the U.S., where DB pensioners are protected by the PBGC’s pension insurance, there is no such insurance for municipal employees, just like Canadian private sector pensioners they are unprotected (except to a very limited extent in Ontario).)

Things to Ponder

In IndexUniverse’s “Calpers and the case for passive investing” Olly Ludwig reports that Calpers is planning to further increase its 35% passive allocation of its $256B total portfolio. They are also planning to increase their 67% passive allocation in the public equity portion of the portfolio. This is because passive is cheaper and performance is better, 2/3 of active managers are expected to underperform their benchmark.  He concludes with “Investors everywhere will benefit as influential investors like Calipers embrace passive investing more deeply, even if I harbor a sense that perhaps the world’s biggest public employee pension fund hasn’t yet gone far enough.” (Canada’s CPPIB is heading in the opposite direction to Calpers. Time will tell who is right; even both could be.)

In the Financial Times’ “Momentum investing is bad for your wealth” Paul Woolley opines that the bulk of institutional “investment is now conducted without reference to economic value. Generally one of two active investment strategies is used: fundamental analysis or momentum/trend-following investing. He argues that even if momentum might win in the short-term, fundamental wins in the medium to long term. He argues that “when it comes to choosing an investment strategy, the long run is not equal to the sum of the intervening short runs”. (And of course a passive approach might even be better, as the previous Calpers story indicates.)

In InvestmentNews’ “Investors clamoring for stock turn backs on fixed income” Jason Kephart writes that investors are “fleeing fixed income world” and that “the recent cracks in the bond market…is giving investors something that a multiyear bull market in stocks couldn’t: an appetite for risk.” “In light of the continuing distress in bonds, the best thing that advisers can do is get clients to stick to their original plan.” i.e. remind they that fixed income is for reducing portfolio volatility. This is especially critical in one’s decumulation phase.

Under the umbrella of the “The Future of Finance” the CFA institute has initiated “a long-term global effort to shape a trustworthy, forward-thinking financial industry that better serves society. The project aims to provide the tools to motivate and empower the world of finance to commit to fairness, improved understanding, and personal integrity.” A couple of the outputs of this thrust so far are the Statement of Investor Rights (in which they recommend that you present to your financial professional as a state of your rights/expectations) and 50 ways to restore trust in the investment industry.

In BusinessWeek’s “Hedge funds are for suckers” Sheelah Kolhatkar writes that after some of the most famous hedge fund managers, who were forced to stand before Congress like criminals, have either exited the hedge fund business or scaled back their operations significantly or had serious losses. These funds which are supposed to generate ‘alpha’ ended up being outperformed by index funds in 8 of the past 10 years. The article includes some history of hedge funds and how over capacity has gradually eroded whatever advantages they may have had, but their high fees have not decreased resulting in a license to print money, for managers at least. (Watch out, the SEC is about ready to allow hedge fund advertising to the average investor. And by the way, the WSJ report “Investors sow seeds for hedge funds”   reports that the smart money is placing its bets, not in, but on hedge funds, by buying into the fund management firms. Just like mutual funds, the real money was made by the management firms.)

In a thoughtful Financial Times article “The market is not the best place to set a fair price for assets”, about the implications of the introduction of mark-to-market requirement as part of IFRS and US-GAAP accounting standards, John Kay argues that much of the discussion revolves around how to apply “mark-to-market principles when there is no active market”, when in fact the problem  grows with increasing trading volume. “The greater the volume of trading, the greater the extent to which prices are determined not by informed assessment of fundamental value but by speculation.” He essentially questions the efficient market theory, the representativeness of market as the real value of an asset and whether a single value is suitable to represent ‘value’ without understanding the use to which the number will be put.

The Economist’s Buttonwood discusses in “The deflation/inflation conundrum” recent apparently inconsistent market movements “rising bond yield and falling gold price” and simultaneously bullish developing markets and suffering emerging markets and commodities. He quotes an analyst that it is all due to “the actions and rhetoric of the Japanese, US and Chinese central banks”. And this adds up to “a three-way disinflationary impulse in an otherwise powerfully reflationary world”.

In Bloomberg’s “Worthless survey smears Wall Street ethics” Jonathan Weil challenges the findings of a new survey results published by a law firm usually representing whistle-blowers, on the basis of the methodology used to gather the data. (I can’t judge the validity of the results, though they appear to have been run by a reputable independent organization, but the findings are damning and they title of the article must appear to many as a joke given the mention of what would be seen by most readers as an oxymoronic expression “Wall Street ethics”. A bizarre article, or not? I let you be the judge.)

And finally, CARP’s “Really, it’s time to talk about end-of-life care” (political considerations aside) that the end-of-life discussion must be done by families, patients and doctors before one is required to make decisions. The article correctly argues that “Doctors are ill equipped to guide them through a process that one could argue is more delicate than surgery – and requires significantly different skills, rarely found in the same people”. The article also notes that only 16-30% of “Canadians who die currently have access to or receive hospice palliative and end-of-life care.” Medicine today can postpone ‘death’ for extended time, but the article asks at what financial, spiritual and physical cost and to what end?  And in “When it’s all said and done, what do people regret the most?” CARP brings a Guardian article about a book written by a long-time palliative nurse indicating that the “top five regrets of the dying” is courage/wisdom to: live a life true to oneself, have worked less hard, have expressed one’s feelings, have stayed in touch with friends, have let oneself to be happier.