Contents: Financial plan, adviser questions, hedge fund-like mutual funds, wise words for DIY investors, reverse mortgages, no annuity puzzle, taxation of Canadians abroad, US real estate up but slowing, UK decumulation default needed to replace mandatory annuitization, employers’ 401(k) fiduciary responsibility, pension plan headwinds? Gross: retirees crushed by financial repression, Bogle on parasitic financial industry.

Personal Finance and Investments

In the Globe and Mail’s“The financial plan: Your can’t-lose retirement investment”Rob Carrick summarizes the benefit of his new financial plan as “peace of mind” and well worth the $800-$3,500 (apparently not necessarily covering estate planning, taxes and insurance considerations) that you’ll typically pay for it if you get it from a “fee-only” financial planner who would deliver it without a pitch to sell you some “products”; MoneySense magazine has a list of fee-only planners. He notes that while anyone could call themselves a “financial planner” in Canada, you should look for one with appropriate credentials like CFP or CFA. In a related article in ThinkAdvisor’s “Retirement planning, not social security or LTC, dominates advisors’ client discussions” Danielle Andrus reports that “Nearly 90% of respondents said they talk about retirement planning with their advisor. Of those, the majority have focused on specifics like the level of savings needed (83%) and the age at which they’ll retire (80%).”

In ETF.com’s “3 big questions to ask an advisor” Rick Ferri has a must read article around the three questions that you should ask an adviser: (1) “What’s your investment” philosophy? (management: active vs. passive and asset allocation: strategic vs. tactical), (2) “What services do you provide?” (advice: simple vs. concierge and management: self vs. advisor), and (3) “How much do you charge?” (applicability of hourly vs. AUM-based, and past performance-probably irrelevant). Reading this article will help crystallize (part of) what advisers do. (the other critical part, not mentioned or I missed it, is the creation a financial plan or an explicit Investment Policy Statement which addresses the whole investor picture including: goals/objectives, risk tolerance, risk management, spending/saving, etc.)

Rob Copeland in WSJ’s“New hedge-fund-like retail funds” writes that just because it’s getting easier to access hedge fund like strategies for the average investor, it “doesn’t necessarily mean you should”. Objectives typically are: not extraordinary but “steady gains and avoid gut-wrenching drops”, and as well as returns uncorrelated with the market. Long/short funds are one of the most common strategies available in mutual fund format with the new alternative funds which amassed almost $300B in assets; others are hedge fund index replication (“alternative beta”), fund of funds with an extra layer of fees, ‘managed futures”, etc. Annual fees are of the order 2-3% and manager usually takes 20% of any gains. Harry Markowitz is quoted as “I wouldn’t touch it with a 10-foot pole…Opaque is (very) bad and complicated is (very) bad.” Hedge funds haven’t done that great in the past few years, and this mutual fund formats with requirement for daily redemption will do even worse.

In the Globe and Mail’s“Wise words for do it yourself investors”John Heinzlshares some wise quotes for DIY investors, like: Paul Samuelson’s “Investing should be more like watching paint dry or watching grass grow. If you want excitement, take $800 and go to Las Vegas.”, Warren Buffett’s “If you aren’t willing to own a stock for 10 years, don’t even think about owning it for 10 minutes.”, and John Templeton’s “The time of maximum pessimism is the best time to buy and the time of maximum optimism is the best time to sell.”

In WSJ’s“Kinder gentler reverse mortgages”Tom Lauricella discusses new rules and challenges associated with reverse mortgages. Even though they are designed to allow people to stay in their homes while they draw some of the available equity in it, Lauricella warns that special care is required to insure that people don’t end up “broke and without a roof over his head”. Problems can arise by “pulling all the equity out of their home, using up the cash, then finding they are unable to afford insurance, taxes and upkeep for the property. Some couples have been foreclosed when only one spouse was listed on the deed, and that person subsequently died or moved into a nursing home.” You shouldn’t do this without independent professional advice to minimize problems mentioned;( there are more than likely better options before resorting to this one).

In the Globe and Mail’s“Canadians living abroad may be surprised to learn they owe Ottawa taxes”Ross Marowits reports that many Canadians are not aware that just because they leave Canada “to work, travel or retire” abroad might think that they have no tax obligations in Canada, but “you must sever ties with the country and become a permanent resident elsewhere”. Telltale signs of status include: provincial health coverage, bank account, cars, social clubs, etc. Canadian taxes are payable on global income by those deemed to be Canadian residents, and “Credit is given for any taxes paid to the 93 countries that have tax treaties with Canada to prevent double-taxation.” Some ultimately choose to sever all ties with Canada (which also might have exit tax consequences.)

Real Estate

The January 2014 U.S.S&P/Case-Shiller Home Price Indicesshows 13.2% YoY increase in the 20-City Composite. ““Twelve cities reported declining prices in January vs. December; eight of those were worse than the month before. From the bottom in 2012, prices are up 23% and the housing market is showing signs of moving forward with more normal price increases… average home prices across the United States are back to their mid-2004 levels. Measured from their June/July 2006 peaks, the peak-to-current decline for both Composites is approximately 20%.” Interestingly Las Vegas had the highest YoY increase in prices at 24.9%, but it is still 45% below its 2006 peak. In January, Miami and Tampa were up YoY +16.5% and +14.9%, and MoM +0.7% and +0.4%, respectively.

Pensions and Retirement Income

In ThinkAdvisor’s“Annuity puzzle solved: don’t buy them”Gil Weinreich reports that in a new research paper by Reichling and Smetters they argue that, while earlier academic works might have suggested that in the absence of a bequest motive people should put all their assets in annuities, when you factor in new health information over time, the value of annuities decreases. “Because of that valuation risk, risk-averse individuals will not want to fully annuitize their investments when they face higher costs or lower income in bad health. We find that most households should not annuitize any wealth. The optimal level of aggregate net annuity holdings is likely even negative.” The research indicates that “annuities heighten risks to clients; advisors should rather be providing life, LTC and disability insurance”. This overview article contains an interview with one of the authors. (So there is no annuity puzzle after all; people are acting sensibly by not buying them. I haven’t read the full research paper as yet, but plan to.)

In the Financial Times’“A default pension option needed from the sector” John Authers commenting on the announced UK discontinuance of compulsory annuitization, notes that though intended for “insuring against living too long, but (which) generally comes burdened with high charges”. While he argues the current system badly needed reform, the challenge will be “to come up with something better”. Greater flexibility is wonderful, but Authers worries that “giving people more freedom sounds good, but it often works out badly”. He mentions that the approach of “libertarian paternalism” proposed in Thaler and Sunstein’s book “Nudge” where everybody is automatically placed in a good (though not necessarily best for everyone) default solution like ”target date” funds in the U.S., but those more knowledgeable are still free to do something else better suited for their needs.

Also in the Financial Times is Steve Johnson’s“Budget 2014: Asset managers boosted following pensions reform” article discusses the opportunity for fund managers to come up appropriate decumulation strategies and the challenges for insurance companies which will have to work harder now that annuities are not going to be compulsory. (It’s true that competition is good when it works, but in Canada it doesn’t seem to be working great for investors, when considering on one hand the world’s highest mutual fund fees vs. the totally opaque and complex insurance product (annuity) load factors.)

In Pensions&Investments’“Supreme Court signals interest in 401(k) fiduciary case”Hazel Bradford reports that the U.S. Supreme Court is considering hearing the case where an employer was found to have “breached its fiduciary responsibilities by selecting retail-class shares in an investment fund, instead of lower-cost institutional-class shares. The case also raises other fiduciary issues, including statutes of limitations for filing such lawsuits and investment safe harbors.”

In the WSJ’s“Pension plans brace for one-two punch”Wale Azeez writes that employers who provide DB pension plans are about to be hit with the double whammy of rising fees due to regulatory administration costs as well a “surge in liabilities from longer living retirees”. The costs increases to the $2T lifetime pension liabilities are estimated to be of the order of $20B (1%) and $150B (7.5%). The author notes that this drives companies to rethink the benefits of continuing with DB plans.

Things to Ponder

In Bloomberg’s“Americans can’t retire when Bill Gross sees repression”Kearns, Matthews and Peralta discuss the impact of the financial repression on retirees. Bill Gross is quoted as indicating that “Feeble returns on the safest investments such as bank deposits and fixed-income securities represent a “financial repression” transferring money from savers to borrowers”. Gross also notes the repression will continue for decades and the 75M baby boomers will be retiring to the near zero rates (now in place since 2008), in order to deal with the Fed’s $4.2T and other government debt at very low rates. According to the NBER those wanting to use annuities for their retirement, the2013 costs are 24% higher than in 2005. The current ultra-low interest rates are costing savers about $280B a year. The article also notes that the financial repression will also prevent those near retirement from accumulating the necessary savings, will negatively affect consumer spending in the next decade and hurt career prospects of younger generations”.

In Financial Planning’s “Bogle: Indexing has ‘gone too far’” Paul Vasan interviews John Bogle about: the problem with the opportunity to trade ETFs in real time, the difference between Vanguard’s mutual organization vs. other financial institutions’ drive to maximize their own return on capital, the unnecessary proliferation of indexes, coming changes in advisory business models hopefully shifting to “fee-only”, the impact of advisory fees.