Hot Off the Web- December 23, 2013

Contents: Regulators struggle with fiduciary and mutual fund fee reform, stay away from market-linked GICs, embryonic Canadian online investor advice models, catch-up steps before retirement, long-term care insurance- Not, stop-loss orders- handle with great care, Canadian real estate still on fire but experts warn of significant correction, expanded CPP dead (for now at least)- long live pension reform! successive generations less prepared for retirement, structural changes to reduce public pension risk? stock market surge almost eliminates average private sector pension plan underfunding, impact of Nortel pension Commuted Value calculation clarified? will Bitcoin bite the dust?


Personal Finance and Investments

In the Globe and Mail’s “Regulators face fierce opposition to wealth management reforms” Tim Kiladze reports that Canadian Securities Administrators are still struggling with reforms related to financial advisers’ standard of conduct and mutual fund fees.“It’s still unclear whether anything will happen this time around. The regulators’ update, released Tuesday, noted there is “significant disagreement about whether the currently regulatory framework for advisers adequately protects investors.”” The article notes that UK and Australia have recently implemented reforms “including banning sales commissions for investment advisers”. (What a surprise! The financial industry opposes changes to the current gravy train they are riding.)

MoneySense’s “Market linked GICs designed to fail” warns thatMarket-linked GICs are profitable for banks but consumers get stiffed.” The fixed-term principal-protected market-linked GICs (similar to CDs) are designed to fail because: complex/opaque rules to calculate investor the market-linkage is calculated,  because investors don’t get credit for the dividends delivered by the market and because market capital gains are effectively transformed in to higher taxed  income.(Thanks to Ken Kivenko for referring article.)

The’s “New models of online investment advice and services- part 3” looks at new Canadian offerings in online investment models. While the available options are much more limited, compared to the U.S., some imminent entrants mentioned are Investors-Aid Cooperative of Canada and WealthBar Financial Services Inc.. But the article notes that “When all is said and done we are only aware of one Canadian new entrant (Idema Investments ) that is similar to US-style new entrants, plus 2 Canadian discount brokers (BMO Investor Online and TD Ameritrade) that offer separate supplementary advice offerings in similar fashion to certain US financial service firms.” The article discusses these in more detail.

In Daily Finance’s “10 ways to catch-up before retirement” Teresa Mears’s list focuses on things you can control: maximize savings, adjust lifestyle (reduce spending), “quit giving money to your adult children”, work longer, and delay start of Social Security and others.

In the WSJ’s “Susan Kaplan, on avoiding long-term care insurance” this wealth adviser writes that “Although it seems like blasphemy, I don’t recommend that clients purchase long-term care coverage.” The high premiums are a burden on retirees and the chances of continuing payments until you might actually get the benefit are minimal. This situation is further aggravated by recent enormous 10-45% increases in premiums which insurance companies have been periodically applying to existing policies now typically costing $4,000-$6,000 per person per year. “The reality is that when a client gets sick, many don’t even make it to the nursing home, and once there most people die within a year and a half.“ She recommends: paying long-term care out of saving, buying an annuity so they can become eligible for Medicaid. (You might also be interested to read my Long- term Care Insurance (LTCI- I) and Long-Term Care Insurance (LTCI) II- Musings on the Affordability, Need and Value: A (More) Quantitative View blog posts on LTCI.)

John Heinzl in the Globe and Mail’s “For  long-term investors stop-loss orders can be trouble” discusses the damage that can be caused by stop-loss orders, which are intended to protect you by minimizing losses when the market or your stock drops below some pre-specified threshold. However Heinzl explains why it actually “can do more harm than good” by: locking-in losses once stock is sold, missing out on the rebound, once threshold is hit it becomes a market sell order and stock could be sold at unspecified low price (as many investors found out during the “flash crash”.)


Real Estate

In the Globe and Mail’s “Housing market defies expectations with latest CREA figures” Tara Perkins reports that “Canada’s housing market is on track to close out 2013 on a stronger note than last year, defying the expectations of economists just a few months ago.” Canadian Real estate Association run MLS based sale prices increased 5.2% during 2013 much higher than expected 0.3% at end of last year. Also, the number of houses sold in 2013 is on track to 0.2% increase over 2012 as compared to an expected drop of -2%. The article also notes that in Canada “The ratio of household credit-market debt to disposable income climbed to 163.7 per cent in the third quarter, Statistics Canada reported last week.”

But Garth Turner in The Greater Fool’s “Really?” provides anecdotal evidence of a housing bubble in Canada. He then backs up the anecdotal evidence  quoting Bank of Canada Governor Poloz that “We’re at risk of it (housing bubble) and the economy won’t be repaired for at least two more years, during which time prices could fall, and a ‘sharp correction’ hit the housing market.” Similarly Bank Credit Analysis reports that in Canada the evidence is clear “…intense over-valuation compared to incomes and rents, residential investment at 7% of the GDP, “above the peak in the US and far outpacing population growth…The readiness of Canadian households to take on new debt by using their homes as collateral has fueled the consumption binge. Outstanding balances on home equity lines of credit amount to about 13% of GDP, eclipsing the U.S. where it peaked at 8% of GDP at the height of the bubble.”

Pensions and Retirement Income

It is easy to become disheartened about the lack of any progress on pension reform in Canada following this week’s collapse in the hopes for an expanded CPP. But, in my just published “Expanded CPP is dead? Long live pension reform!?!” blog post, I discuss why this may be an opportunity for considering a broader set options for pension reform and with fewer players having to agree, actually moving faster on reform. The expanded CPP appears dead, for now anyways; this time killed by the federal government. The CBC’s “CPP reform stalled as finance ministers fail to reach consensus” reports that “Ottawa blocked a consensus on Canada pension Plan reform” because according to Mr. Flaherty “the economy is too fragile” and “Now is not a time for CPP payroll tax increases”.  In The Globe and Mail’s “With no consensus on CPP reform, Ontario pledges to go its own way” Curry and Morrow report that PEI finance minister indicated that “A made-in-Ontario solution may involve every province of Canada.” And sure enough BenefitsCanada reports in “Ontario to move forward with provincial pension plan” that Ontario Finance Minister Charles Sousa indicated that “Given today’s unfortunate stall tactic by the federal government, we will move forward to implement a made-in-Ontario alternative to protect Ontario workers in their retirement… Doing nothing is not a solution to this problem and will not give Ontarians the security they need to retire”. And last week Quebec announced an action plan which includes, according to the Blakes pension bulletin, “Studying the proposal made by the d’Amours Report to create a longevity annuity that would offer a DB annuity to all Quebec workers starting at the age of 75.”  With apparent consensus on the need for pension reform, over the past few years the possibility of an expanded CPP sucked all the oxygen out of the debate on the best type of pension reform for Canada. Perhaps some of the other good ideas for pension reform will get an airing again, as some of the provinces are planning to go ahead with pension reform alone or together, without the federal government. With fewer jurisdictions having to agree whether and how to proceed, perhaps the process will actually get under way.

In the Financial Times’ “Thatcher’s children face bleak retirement” Chris Giles describes the findings of an Institute of Fiscal Studies report that indicates that in the UK compared to the immediate postwar boomers, those born in the 60s and 70s have many disadvantages and those after them are even worse off: “These cohorts have no higher take-home income; have saved no more previous take-home income; are less likely to own a home; are likely to have lower private pension wealth; and will tend to find that their state pensions replace a smaller proportion of prior earnings…”. The report suggests that only an inheritance will ameliorate their situation and that will just further widen the gap between the better off and the less so pensioners. Carol Hymowitz’s Bloomberg article “At 61 she lives in basement while 87-year-old dad travels” covers the similar ground but this time focusing on differences between U.S. boomers and their parents’ retirement preparedness noting “the wealth disparity of this father and daughter is emblematic of a broad shift occurring around the country. A rising tide of graying baby boomers is less secure financially and has a lower standard of living than their aged parents.”

In the WSJ’s “The hidden danger in public pension funds” Andrew Biggs writes that “public pensions pose roughly 10 times more risk to taxpayers and government budgets than in 1975”. Pension assets of state and governments increased from 49% in 1975 to 143% of government expenditures today while the ratio of active to retired employees has decreased from 7-to-1 to 1.75-to-1. Also these pension plans have been assuming what can only be considered nowadays an astounding 8% return on assets, while volatility of the typical pension portfolio has increased from 3.7% to 14%. The author notes that what is needed are structural changes like “more modest benefits and increased risk sharing between plan sponsors and public employees”.

In the WSJ’s “Pensions make the most of stocks’ surge” Zuckerman and Corkery report that “A roaring stock market and rising interest rates are fueling the strongest recovery in the $2.4 trillion U.S. corporate-pension sector in more than a quarter century, giving companies new flexibility in dealing with some employee-benefit costs.” The funded status of “average company’s pension plan are expected to be at levels that cover 96% of future obligations at the end of the year”. (Unfortunately, Nortel pension plan beneficiaries will see no market driven change in the (under)funded status of their plan because the plan has been fully immunized against interest rate changes by asset-liability matching with fixed income investments exclusively replacing the stock allocation near the point of when the equity market was at its lowest. The Nortel plan approach was a perfect illustration of what individual investors are told not to do: do not lock-in your market losses, but instead you should rebalance your portfolio, i.e. sell some of the appreciated bonds and buy- heavily depreciated stocks.)

And speaking of the Nortel pension, a few weeks ago in my “Nortel pensions: Why CV/LIF value is less than annuity value for Nortel’s Ontario pensioners?”  I discussed the recent revelation that while the Ontario government did make an exception for the Nortel pensioners to allow not just deferred pensioners but also those already collecting pensions the option of taking Commuted Value (CV) rather than an annuity. This option was to be available to be exercised when the 40% underfunded plan will be wound up perhaps late in 2014, however it came with a little caveat. The caveat is that the CV will be calculated as explained in that blog in the same way as the CV for deferred pensioners. The result is that pensioners who might be considering taking CV will have to accept a penalty which might make the CV unpalatable for the vast majority of pensioners. Specifically, the penalty is estimated to be from a minimally decision impacting 2-4% for pensioners who were 60 when the theoretical windup occurred in October 1, 2010, to the order of almost 50% for those who were 85 years old at the time. The Ontario government’s legislated CV formula might have made sense if the time between the theoretical windup and the CV decision was perhaps 60-days or so as it might typically be. However the legislated formula gives no credit for the mortality that will have occurred over the four years since October 2010. So those choosing CV will get less than their fair share (in addition to having missed the last 4 years of stock market rebound as they were not in control of their share of pension plan assets).

Things to Ponder

And finally, in Bloomberg’s “Bitcoins fail currency test in Scandinavia’s richest nation” Saleha Mohsin reports that Norway declared that Bitcoin “the virtual currency doesn’t qualify as real money ”Norway will consider Bitcoins an asset and will charge a capital gains tax. Other countries’ positions are: Germany plans to impose a levy, China “barred financial institution from dealing in it”, Europe warned on the “risks of using unregulated digital money that is susceptible to hackers”. And in WSJ’s “China Bitcoin Exchange ends third-party Yuan cooperation” Chao Deng reports that “Prices of virtual currency bitcoin fell 20% Wednesday and are now down more than 50% from their record high hit two weeks ago amid worries that China is moving to block the purchase and use of the currency by its citizens… The growing popularity of bitcoin is a threat to China’s strict capital controls because it allows citizens to trade Yuan for bitcoin and then sell the bitcoin overseas for foreign currency.”


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