Contents: SEC priorities, are advisers worth their fees? liability driven investing for individuals, Canada home prices slightly up but sales down, rent or buy? Florida has 25% of national foreclosures, Nortel pensioners squeezed, 2014 the year of Canadian pension reform? The Third Rail: the pension crisis and potential solutions, Target-Benefit/Shared-Risk pension plans, commonalities of gold and emerging markets, new way to define Dependency Ratio, Whitman is wrong: passive beats active management despite name-calling, Tyson: celebration of Bell-Northern Research innovation rather than dwelling on Nortel toxicity.
Personal Finance and Investments
In InvestmentNews’ “SEC takes deep dive on conflict of interest” Braswell and Schoeff report that the SEC’s priorities for 2014 will be to “uncover different ways that business models, practices and products may provide incentive for financial advisers to act outside their clients’ best interests”. (This on the surface might sound wishy-washy but in reality the context/environment/incentives are to a large degree the determinants of the adviser behaviour) Some of the areas under scrutiny will be potential conflicts of interest, compensation models (fee vs. commission), wrap/discretionary accounts vs. commissioned trade accounts (inappropriate placement of accounts with low trading volume into a wrap model), growth of dually-registered advisers confusing clients about fiduciary and non-fiduciary transactions and plans for examining never audited brokers due to resource constraints.
Dan Ariely’s WSJ blog post question “Are financial advisers a wise investment?” is difficult to answer. “But the fact that many financial advisers have different hidden fees suggests to me that they themselves don’t think that people would pay if they charged for their services in a clear and upfront way.”
In the Globe and Mail’s “Learn from the pros: Build your own liability hedged portfolio” Caroline Cakebread discusses how to build a portfolio based on one’s liabilities. The steps are: identify and quantify liabilities, separate musts from wants, use bond/annuities or other low risk investments to match musts, once basic living expenses secured then create a more risky “return-seeking” portfolio with the remaining assets, and when you near your savings goal you can consider further reducing risk as your need to do so diminishes. (Some might argue that any portion of your portfolio not needed within 10 years could go into equities.)
Canada’s December 2013 Teranet-National Bank House Price Index indicates a 0.1% MoM increase and a 3.8% YoY increase in home prices nationally. Toronto (+0.4%), Vancouver (+0.6%) and Edmonton (+0.6%) were the only cities with an increase during December, while Ottawa (-0.3%), Montreal (-0.6%) and Calgary (-0.3%) were among the 8 cities which decreased in the month. But in the Financial Post’s “Canada’s house prices still rising but sales stall for the third straight month” Garry Marr reports that “Seasonally adjusted December sales were down 1.8% from November and are now off 5.2% from the peak that was reached in September. Historically, price declines have followed sales declines.”
In the Globe and Mail’s “What you need to know, before and after buying a condo” Rob Carrick reviews Dan Barnabic’s new book entitled “The Condo Bible for Canadians: Everything you must know before and after buying a condo”. The article is an interview with the author exploring: condo popularity (amenities), who is it appropriate for (retired), condo problems (management) and other issues (>25% rental, fees, condo horror stories). The condo expert author noted that he is “renting a very nice apartment on the top floor and not worrying about what expenses the building may incur”.
Kimberly Miller reports in the Palm Beach Post’s “Quarter of nation’s foreclosures are in Florida” that nationally of the 1.2+ million “properties in some stage of foreclosure” 300,000+ are in Florida”. “Eight of the top 10 metro areas in the country for foreclosure activity were in Florida last year”. The good news is that “Statewide, RealtyTrac measured 107,206 new foreclosures filed last year, a 31 percent decrease from 2012.”
Pensions and Retirement Income
In the Ottawa Citizen’s “Nortel pensioners scrimp as legal battle for assets drags on” Bert Hill writes that with the massive pension cuts now operational “With an average age of 77, the 10,000 Canadian Nortel pensioners face a bleak future. What should be golden years of retirement has turned into scrimping, rising anxiety and likely increased health problems…. Most Canadians don’t realize that they are paying more as Nortel victims turn to supplementary public pension (GIS) and disability programs for relief. The lost tax revenues on Nortel salaries and product sales are huge.” Long-term disabled Canadian ex-Nortel employees lost most of their average annual $32,000 disability payments. Hill adds that Nortel US (and UK) employees have done comparably much better with both disability and pension payments with “U.S. pension insurance plan covering up to $60,000 of pension income, they chose not to fight. They were only cut off benefits in the last six months”. To make matters even worse, in Canada when pensioners got $3,500 as a payout from a life insurance plan that was supposed to pay more than $50,000 at death, and the federal government taxed back as much as a third. They also lost dental, eye care and supplementary medical coverage.” Those who could have helped all failed to do so when the chips were down: the well-connected directors, the Conservative federal government, the local government backbenchers and ministers.
CARP reprinted the Toronto Star article “Will 2014 be the year that the CPP gets fixed?” in which Dana Flavelle discusses the inadequacy of the CPP to meet the needs of people earning more than $50,000, and whether 2014 will see the fixing of the CPP to address the retirement needs of those earning more than $50,000. (In reality the CPP only does a good job for people earning under $30,000.) Business opposition to an expanded CPP is fierce, federal finance minister says that the economy is too weak to enhance the CPP. “Only a third of Canadians are covered by employer-sponsored defined benefit plans…” (and the bulk of those are/were employed in the public sector). RRSPs don’t work because: contributions are voluntary (and people don’t save enough, don’t have scale to get low cost, are not professionally managed and have no built in longevity protection), while PRPPs pushed by the federal government are little more than relabeled RRSPs. “But even by global standards, Canada’s pension system is failing all but the lowest income earners, a report for the Organization for Economic Co-operation and Development said in 2011.” Despite the resistance, by business and federal government, to an expanded CPP and despite the fact that “Current (and near-) retirees stand to benefit little from changes in the CPP”, the momentum continues to be behind the CPP as the Canada’s pension reform vehicle. (Canada is in such dire need for pension reform, that while I am skeptical about the CPP being the best pension reform vehicle, it is better than nothing…so just do it…just do something!)
If you are interested in the subject of pensions, Leach and McNish’s “Confronting our pension failures; The third rail” is a very quick and interesting read which drills down into the details of three pension plans (New Brunswick, Rhode Island and the Netherlands) which as a result of incompetence and/or willful mismanagement and/or excessive benefits and/or demographics and/or market collapse (2000,2008) and/or politically motivated misdeeds, were going to be unable to deliver on promises. The book describes the determined people and methods used to bring them back from the brink, by essentially introducing some risk sharing like higher contributions and/or flexibility in the pension benefits when plan becomes underfunded. In the final chapter they tackle the problem of “Solving Canada’s pension crisis”. The expanded CPP is one possible solution to address the retirement income shortfall of those earning between $30,000-100,000. They also sing the praises DB pension approaches with additional contribution/benefit flexibility as another option because they are professionally managed pooled savings with sufficient scale to achieve low much lower cost. Not fixing Canada’s pension system will just mean that other taxpayers will end up paying for the retirements of others. Their proposals include: regulatory reform and “flexibility to adapt to volatile and unpredictable market and demographic forces”, “consolidation of a highly fragmented fund landscape” and “redesigning pension framework so that one of Canada’s most important saving pool is more prudently and effectively managed”; plus more risk sharing by some combination of additional contributions and linking benefits to investment performance. The authors argue that even well managed pension plans may be unable to cope with the combination of increasing longevity, decreasing worker to retiree ratio, more volatile markets (I called that “systemic failure”). Other potential improvements mentioned are defined contribution plans with auto-enrolment and built-in deferred pensions (e.g. Ambachtsheer’s CSPP) or Quebec’s recent “longevity pension” (which I refer to as longevity insurance in my blogs) proposal. (Yes, there are many options/approaches, but real solutions must all address: inadequate savings rate, lack of low cost accumulation/decumulation vehicles, and low-cost longevity protection (with longevity insurance being the cheapest)).
In BenefitsCanada’s “Target practice” Markham and Moser describe some of the characteristics of target benefit plans (TBFs) for which essentially “benefits are communicated as a targeted amount but are not guaranteed”. The article also discusses the New Brunswick pension plan discussed in the Leach/McNish book (above). Also in BenefitsCanada is Bartlett and Ferguson’s “SRPPs: An new model for pensions” which observes that “While DB plan members are told their benefits are “guaranteed,” this is a weak promise unless real action is taken to actually provide the guarantee. Very few plans are actually managed to provide a guarantee.” The article discusses Shared-Risk Pension Plans like New Brunswick’s where “government made the decision to confront the real problems facing pension programs today: namely, financial sustainability, intergenerational equity and benefit transparency.” SRPPs, instead of relying “on fixed estimates of what future investment returns will be. Instead, its design enables it to respond to actual investment returns by allowing for variability in the benefit level, starting from a conservatively priced base benefit but aiming to provide a higher inflation-protected target…Contributions are constrained within a relatively narrow range from the initially agreed level…” (Lots of great ideas, but little or no action is visible on the horizon.)
Things to Ponder
In the Financial Times’ “Emerging markets drive yen for yellow metal” John Plender explores the link between two very different asset classes: emerging markets and gold”, both of which had less than stellar performance over the past year. Gold which is perceived as a real asset but costs money to store yet it generates no income with 79% of the purchases were by emerging market consumers; therefore weaker emerging market economies could also lead to weaker gold prices. As to emerging markets, Plender argues that equities usually confer ownership rights, but in Japan “companies are run for the benefit of management and employees, with capital gains being the way that shareholder might be rewarded. But in emerging markets given the family business model, “outside shareholders are dependent on the goodwill of the controlling family for their return. That is partly why there is no correlation between emerging markets growth and equity returns.”
In John MacInnes’ “Our take on the aging demographic is antiquated” CARP reprinted Globe and Mail article he notes that while “in the coming decades, rapidly aging populations will increasingly strain health, welfare and social-insurance systems, putting unsustainable pressure on public budgets” the impact is expected to be less severe than previously forecast because the Old Age Dependency Ratio (OADR), calculated by dividing “number of people who have reached state pension age by the number of working-age adults” is no longer a good measure of those of “working age” vs. those “actually working”. A better measure suggested is the Real Elderly Dependency Ratio (REDR) “which divides the total number of people with a remaining life expectancy of 15 years or less by the number of people actually in employment, regardless of their age”.
In IndexUniverse’s “Parrying an attack on Fama” Larry Swedroe used data to destroy Marty Whitman’s savage attack on the work of Nobel Prize winner Eugene Fama describing his research as “utter nonsense, sloppy science, plain stupid, and unscholarly.” Swedroe in this article uses Morningstar data to compare Whitman’s funds with DFA funds based on Fama’s work and shows how over 15 years Whitman has been consistently trounced and likely reasons for this. Swedroe concludes by quoting the great economist Paul Samuelson who said about criticism such as Whitman’s “A respect for evidence compels me to incline toward the hypothesis that most portfolio decision makers should go out of business—take up plumbing, teach Greek, or help produce the annual GNP by serving as corporate executives. Even if this advice to drop dead is good advice, it obviously is not counsel that will be eagerly followed. Few people will commit suicide without a push.” (Active fund managers must really be hurting due to the growing acceptance of passive approaches to descend to such name calling, but that won’t stem the outflow of assets into passive vehicles; nothing can stop an idea whose time has come once investors get educated.)
And finally, the CBC News’ “Nortel legacy still debated 5 years after demise” reports that John Tyson wrote a memoir entitled “Adventures in Innovation: Inside the Rise and Fall of Nortel” because he “doesn’t want to dwell on the mistakes of Nortel, but instead wanted to celebrate what they accomplished… In particular, he wanted to tell the story of Bell Northern Research (BNR)”. Bert Hill’s review of the book in the Ottawa Citizen’s “Candid memoir takes reader behind the scenes during Nortel’s wild ride” includes much more granular view of Tyson’s book, including a short discussion of the watershed event of the disappearance of BNR as it was swallowed up into the bowels of NT.