Contents: Advisers disagree on approach to retirement income, prepping for bond bear market, Canada’s soaring real estate prices: good or bad? UK house prices also soaring, snowbird US real estate peril not quite as suggested, US pre-approvals replaced by pre-qualifications, increase OAS by 36% by delaying start to age 70…but what if claw-back start is reduced to $51K from $71K? delaying Social Security is also opportunity? US/Canadian corporate pension plans’ funded status up to 90% region! Detroit pension insanity, millennials’ challenged retirements, new expanded CPP proposals? momentum effect? Japan credit crisis before 2020? rent-a-pensioner?
Personal Finance and Investments
In Financial Planning’s “Advisors in trouble on retirement income” Rachel Elson reports that while planners are “are comfortable developing income strategies- none seem to agree on the right way to create an income stream”. Russell Investments, using pension plan asset management experience, recommends the use of “funded ratios…”which compares assets against client’s liabilities-including spending goals, how long you’ll live, the economic environment”. (You could do a lot worse than using an asset-liability management (ALM) approach.)
CanadianCouchPotato.com in “How not to prepare for a bear market in bonds” writes that “To suggest investors can reduce their risk by allocating more to stocks and less to bonds is irresponsible.” This is the advice effectively given by some ‘advisers’ when they declare that bonds are riskier than stocks and recommend “dividend ETFs” or “market linked GICs”. He suggests that those worried about rising interest rates should look instead at short-term bond ETF or GIC ladder or even short-term investment-grade corporate bonds. (Makes sense to me.)
A couple of interesting Globe and Mail articles on whether rising real estate values in Canada is good or bad? Rob Carrick’s “Canada’s soaring real estate market: Feel good now, pay later” quotes David Chilton who argues that “it’s better for an economy when housing is more affordable and money on a cash-flow basis can be dedicated to other purposes.” Carrick astutely calls reports of rising house prices “good news you can’t use. While rising net worth provides a sense of satisfaction, it’s actually rather useless in improving your day-to-day financial picture.” Larry Macdonald in “High house prices do not derail retirement prices for most” argues the opposite. Based on recent statistics “59 per cent of homeowners have a mortgage and just 26 per cent of them spend more than 30 per cent of gross household income on housing (Statistics Canada’s threshold for affordability)”, Macdonald concludes that “But it would be misleading to suggest the price increases have put retirements at risk.” (They could both be right at least in that higher housing expenditures in Canada are sucking the lifeblood out of the rest of the economy and Canadians are not spending more than threshold affordability on housing; but not putting their retirement at risk might be a stretch for some.)
In the meantime, Canada is not the only country which has continuing house price increases, the Guardian’s “Nationwide survey finds ‘surprisingly quick’ acceleration in house prices” reports that “acceleration in (UK) house prices had been “surprisingly quick”, with the annual rate of growth now running at 5% nationally and 10% in London – in both cases the strongest figures since 2010”.
In the Globe and Mail’s “A snowbird’s guide to the perils of owning U.S. real estate” Tim Cestnick lists “tip and traps” of owning US real estate because of the US estate tax liability. Among the traps he mentions: “using a Canadian corporation” (“CRA will now assess a taxable benefit equal to the fair market rent on the property each year”), “joint ownership” (US estate tax will be owed on death of first spouse unless one can prove that each contributed to purchase). As to tips he suggests the use of: either a partnership or ownership by trust. (Despite the fact that buying rather than renting US personal use real estate by snowbirds may not make any economic sense, it is truly puzzling to read an article about US estate taxes with no mention anywhere about the increase in the U.S. estate tax exemption of $5M+. In fact in a 2012 Globe and Mail Q&A, before the US reconfirmed the $5M exemptions per person, cross-border tax expert Robert Keats indicated that “if you and your wife have a worldwide estate under $10 million you should not have any US non-resident estate tax to be concerned about. You do need to check with the state where the property is located as sometimes there are few states that actually have their own estate tax and since US states are not part of the US/Canada treaty there may be some tax there.”) I assume that Cestnick may have received a few calls from experts on the subject because a week later in a follow-on article entitled “How Canadians, too, can fend off the long arm of the IRS” he addressed the real situation that Canadians face: no US estate tax for Canadians with <$5.25M assets and twice that much for married Canadians, and one gets foreign tax credit in Canada to offset capital gains taxes paid in US; and it’s all under the Canada-US tax treaty. (It’s too bad that previous week’s article on the subject might have sown considerable confusion in some readers’ minds, but at least this week’s article cleared things up .)
In WSJ MarketWatch’s “Banks abandon mortgage preapprovals” AnnaMaria Andriotis reports that lender pulled back significantly in number of mortgage for prospective home-buyers; pre-approvals, guaranteeing a certain size mortgage are a specified rate, were a great mechanism for buyers to compete against cash buyers giving sellers (not just buyers). Some experts argue that this is due to less competition among banks, while other suggest that it is a result of lower appraisals. Many bank have replaced pre-approvals with pre-qualifications; “With pre-qualifications, lenders inform borrowers of the size of the loan they can qualify for based on their stated income and assets as well as an initial credit check. Historically, pre-qualifications were the first step buyers would take before shopping…”
Pensions and Retirement Income
In the Globe and Mail’s “When most pensioners just scrape by, why are we so generous to better off seniors?” David Parkinson reports that a new Fraser Institute study recommends lowering the OAS claw-back start from about $71,000 to $51,000. Parkinson notes that “the system is screaming for a redistribution of benefits…(and) address income inequality among seniors.” (If you planned for OAS as part of your retirement income stream, consider yourself under notice that it may evaporate and contingency plans might have to kick in.) And by the way, last week Fred Vettese in the Financial Post’s “How to bump up your OAS pension by 36%” reports that “The federal government now permits people who turn 65 to delay the start of their Old Age Security pension (OAS) until 70. Why would anyone do this? Because you’ll receive 36% more OAS pension if you do.” (Of course that would work great many, unless of course the government decides to lower the claw-back to $51,000!?!)
Carolyn Geer in the WSJ’s “An annuity plan called Social Security” reminds readers that “deferring benefits can yield a significant advantage” because every year that Social Security is deferred it adds 6-8% to future benefits. According to Financial Engine’s Chris Jones, this is such a great deal in inflation indexed annuities that it is advantageous for many to spend down from their savings rather than tap Social Security early.
BenefitCanada’s “Health of DB plans continue to improve” reports that according to a Hewitt survey “the median pension solvency funded ratio increased to 88% at the end of the third quarter. That’s 11 percentage points higher than at the end of June and 19 percentage points higher than it was at the end of 2012.” However for the minority of pension plans (mostly public) which index pensions with CPI, the solvency liabilities increased significantly with the new CIA (Canadian Institute of Actuaries) guidance. This follows the other recent CIA guidance with adverse effect on liabilities indicating significant increase in pensioner life expectancies. (The effect of this is no doubt not as yet built into the just reported improvement in pension funded status.) And the U.S. corporate pension story improved as well with Kevin Olsen reporting in Pensions&Investments’ “Corporate pension funding breaks 90%” that the strong equity markets drove funded status of the S&P 1500 companies to 91% in September. (By the way Nortel pension plan has not benefited from the run-up of equity markets as it has been fully immunized during the bankruptcy process.)
You remember that Detroit bankruptcy and its massive pension deficit? Well, in Bloomberg’s “Detroit’s pension madness” Megan McArdle reports that she “was not entirely prepared for the new revelations about the Detroit trustees’ custom of handing out annual holiday “bonuses” to workers, retirees and the City of Detroit. Between 1985 and 2008, they handed out roughly $1 billion this way.” The bonuses were used, in part, “to fund individual savings accounts that workers are offered along with their pensions… the pension trust paid 7.5 percent interest into those accounts — which is about 7.5 percent more than they would have gotten at a bank.” She correctly calls these “…wild deviations from sanity”. (And by the way, unlike corporate pensions in the US which are insured by the PBGC, municipal pensions are not, and these public sector pensioners will suffer the same fate as Canadian private sector pensioners with underfunded plans when their employer goes bankrupt.)
In WSJ’s “Millennials face uphill climb” Caroline Porter discusses how the recession and the requirement for more advanced study/training for many jobs are delaying young people’s entry into the workforce, arriving with large debt accumulated while completing education, coincident with growing longevity increasing years spent in retirement. This not only makes it more difficult to accumulate assets over a shorter work life to cover the expenses of a longer retirement, but affects the economy in that these individual are delayed in making middle class purchases.
In the Globe and Mail’s “Proposed changes to CPP spur momentum for pension reform” Bill Curry discusses a PEI Finance Minister proposal for an expanded CPP “that would see the maximum CPP contribution rise to $4,681.20 a year from $2,356.20 starting in 2016, and the maximum annual benefit would increase to $23,400 from $12,150.” This is the kick-off to the regular Finance Ministers’ gathering in December where they promise to discuss much-needed Canadian pension reform, but so far there is little to show for all the talk.
Things to Ponder
In IndexUniverse’ “Momentum factor unpacked” Larry Swedroe calls momentum “the tendency of assets with good recent performance to continue overperforming in the near future…the biggest threat to the efficient markets hypothesis”. He discusses a new study which suggests that momentum effect is not just due to the “irrationality” of individual investors, but it might be explained by fund flows and the rational behaviour of investment managers to whom much of individual investors’ investment management has been delegated to.
In Bloomberg’s “Soros adviser turned lawmaker sees crisis by 2020: Japan credit” Ishikawa, Kohn and Ikeda discuss the views of Japan Upper House politician and ex-Soros adviser who decided to become a politician because he believes that financial crisis in Japan is inevitable-‘i.e. it’s not if, but when; and he opines that by 2020 start of the Olympic games in Japan, the financial crisis will have already occurred and the economy will be booming again. (Time will tell if his crystal ball is any good, but at Japanese debt at 245% of GDP you might want odds to take the other side of his prediction in a bet.)
And finally, in Bloomberg’s “Swiss retirees traverse pension-fund abyss by dog walking” Bandel and Gretier report that “The number of pensioners for hire at Zurich-based Rent a Rentner AG almost doubled to 2,245 this year… The retirees, who range from age 60 to 90, set their own fees, starting at a minimum of about 20 francs an hour.” “It’s not just about walking dogs and working in the garden… There’s a big demand for business and finance, because the pensioners have a lot of know-how that young people lack.” Participation is driven by a combination of: wanting to stay active, contribute to society, supplement income, social interaction and to meet real needs in society.