Contents: Mutual funds’ ‘all-in’ expenses devastate retirement savings, regulate Ontario advisers; yes but not this way, growing young vs. old housing wealth gap, information asymmetry makes pension purchase decision insurmountable, employers squeeze 401(k) plans, 401(k) on auto-pilot better but not perfect, financial services: conflicts of interest everywhere, couple’s retirement disconnect, no universally safe stock holding periods, Bitcoin saga continues.

Personal Finance and Investments

In the Financial Analysts Journal’s “The arithmetic of “all-in” investment expenses” John Bogle explains that to really understand the return drag of “all-in costs” in actively managed mutual funds as compared to low-cost passive index funds, the management expense ratios barely scratch the surface. In addition to expense ratios you must factor in: transaction costs, cash drag and sales charges/fees in case of tax deferred accounts; for funds held in taxable accounts you must also add the associated tax inefficiency. So in tax-deferred account the accumulated retirement savings using low-cost passive index funds lead to 65% capital enhancement after 40 years, as compared to actively managed mutual funds. For taxable accounts the capital enhancement is as high at 175%. In real rather than nominal return terms the capital enhancement is tripled! He adds a further factor, which he calls “investor behavior” to reflect investors’ tendency to buy as prices rise and sell as prices fall reducing returns by a further 2% a year. (Mutual funds are still very popular in Canada- but why?)

In the Globe and Mail’s “Ontario MPP seeks to regulate  financial advisers” Janet McFarland reports that an Ontario provincial Liberal MPP tabled a private member’s bill “to create a new regime to regulate financial advisers, arguing the present “mishmash” of licensing rules has too many gaps.” (That’s true.) The article doesn’t mention the all critical F-word (‘Fiduciary’) and minimum educational qualification standards, but it does correctly point out that in Ontario anyone can call themselves a financial adviser. (Change is needed in Ontario, and while I haven’t seen the details, unless this proposal addresses advisers’ fiduciary requirements and minimum financial education standards, it will not be the answer.)

Real Estate

In the Financial Times’ “Young people lose out as UK’s housing gap widens” Hale and Allen look at the impact of rapidly appreciating home prices in the UK and note to observe: the widened “housing wealth gap between young and old”, the almost doubling of under-35 households in private rentals from1.1M to 1.9M and the drop of under-35 home ownership in England/Wales from 2.2M to 1.4M between 2001 and 2011. If this under-35 age group will retire as renters, then retirement costs will increase and so will welfare costs. The article also suggests that this may have to do with the growing temporary unemployment of the under-35 age group. (There is some related U.S. based data in Dr.HousingBubble’s “Broke, young, and unable to afford a home: The crisis for young American buyers and household formation”. I haven’t seen the Canadian statistics of the young vs. old housing wealth and employment gap, but Canadian house prices are certainly getting to be on the expensive side, and should interest rates increase the situation will deteriorate significantly.)

Pensions and Retirement Income

In the Economist’s “Counting the costs” Buttonwood discusses the almost insurmountable barriers in the UK to making a sensible pension (annuity or other form of pension)) purchase decisions due to: information asymmetry, the irreversibility of such decisions, the agency problem, and complexity and opacity of the factors involved in the decision. The article suggests that perhaps some of the “collective (multiemployer) schemes that have emerged in Australia and Canada “might be the answer (I assume they are referring to OMERS/Teachers-like operations).

In Bloomberg’s “Companies squeeze 401K plans from Facebook to JPMorgan” Hymowitz and Collins discuss mechanisms used by employers to reduce the amount and timing of 401(k) matching funds by: “scaling back company matches and setting lower limits for the maximum annual payment”, “year-end payout can hurt departing workers”, and “vesting forfeiture”. In addition, companies in the switch from db to dc plans have made contributions optional, people tend to under-save as typically there is no specified retirement income target in dc plans, employer contribution are voluntary and some companies decided to eliminate matching contributions, employees have no clue how their plan compares to others in the industry.

In the WSJ’s “Putting your 401(k) on autopilot” Omer Hoffman reports that according to Vanguard most employees just “want someone to tell them what to do”. Using humans’ natural inertia “You are automatically enrolled, your savings rate is increased over time, and your contributions are invested in a diversified, professionally managed account or fund—typically a “target-date” fund, whose asset mix grows more conservative as you approach your targeted retirement date.” While this is a great improvement, it is far from perfect, e.g.: “target-date funds invest as if your 401(k) assets were your only assets” and while enrollment rates are higher employer match is lower since default contribution rates are set too low to maximize match. The article describes additional tools used to get stragglers into plans.

In the WSJ MoneyBeat’s “Who is training your retirement navigator?” Jason Zweig writes last year $358B and from 2014-2018 a further $3.1T will be rolled over from 401(k)s into IRAs and “It is vital to understand a financial adviser’s potential conflicts of interest. Investors often ask how much their advisers are getting paid for selling specific products. It also is important to know who educated them in the complexities of retirement planning—something few investors think to ask.” Zweig provides an example in which a company offers free training to CPAs and “Instead, it earns a share of revenue from annuities or other insurance products the advisers end up selling after learning about them through” the free training courses. He concludes that you must remember “that when you hire a retirement adviser, don’t just ask what he knows. Ask who taught him what he knows.”

Things to Ponder

In the Globe and Mail’s “Four retirement mistakes even smart couples make” Kira Vermond writes that even after decades of marriage, couples approach retirement with a complete lack of understanding about their individual retirement expectations due to lack of communication. This result is from mistakes such as: “procrastination until the end” on discussing non-financial retirement matters, and only one of the couple shows up to retirement/financial planning meetings.

In the Financial Times’ “Economic growth matters. Also, it doesn’t.” James Mackintosh looks at history of stock markets and concludes that there is no universally applicable safe holding period for equities. While £100 invested in 1899 in UK shares would be worth £2.2M today, Russian and Chinese stocks went to zero after the communist revolutions”. The longest period over which U.S. stocks lost money since 1900 was 16 years, UK 22 years, Austria 97 years Germany 55 years. You might argue that wars were the reason for the extended periods of losses but neutral Sweden had 34 years of real losses. Mackintosh writes that financial history can’t teach us when selling is the right thing to do (Russia 1917 and China 1949).

And finally for those of you following the Bitcoin saga, in BoombergBusinessweek’s “How the Feds can take even legally earned Bitcoins” Peter Coy writes  about “Bitcoin’s nemo dat quod non habet problem, that being Latin for an old principle of English common law: “No one gives what he does not have.” If the drug lord didn’t legitimately own the Bitcoins in question because he got them via crime, then he can’t legitimately give them to you. You must give them up even if you’re not at fault. (So, Bitcoin owners- beware! As to the Mt Gox suspension of Bitcoin transactions, the Bitcoin community in “Bitcoin aficionados wash their hands of Mt Gox” calls it a local problem of “inadequate technology”. I guess, time will tell.)