Friday, January 30, 2009

Feel Like Gambling With Your RRSP's

So Dubya is now just a cocktail joke and Barack Obama wants to install a basketball court at the White House (which as a devoted hoops fan is just great). Can you imagine the odds on that back in 2000 when Dubya "won" his first election.

It's the height of "RRSP season" and for some reason, the phones are not exactly ringing off the hook with people wanting to buy. While I am not surprised, I am somewhat disappointed that people have not seen the wisdom in "buying gas at 80 cents per litre instead of $1.30 per litre". Perhaps more disconcerting to me is that in speaking with other advisors, many of them have exited the RRSP stage for the safety and security of more traditional insurance products. As with people who suddenly believe they don't need to save for the future, the plight of these advisors may be equally bleak.

Being a contrarian means going against the herd and buying when others are selling. Forgetting the past and the future means we are moving forward without direction. The future will come - the only difference is that some people who have not planned for it will suffer for that sin. The people who continue to plan will ultimately reap the most rewards.

Whenever people complete a "risk tolerance" questionnaire, there are the inevitable people who say they want the highest returns with no risk. Let me just say this - there are no high returns without risk. The problem is that most risk tolerance questionnaires fail in one very simple area. When investors have never truly lost an appreciable amount of money and you ask (by percentage), how much they could stand to lose, the figure is always much higher then reality. Now we go through a dramatic market selloff and human nature says that if I can lose 25% once, I can lose it again. Of late, the answers to some of those questions have revealed that people are very nervous and uncertain of their future.

In some respects this is beneficial to the future as people will become more attuned to their beliefs. There will be fewer people expecting their advisor to "handle things" and questioning the results of "only a 10% return" this year. The best advice for people to remember is this - stick with your target and don;t deviate unless something happens that necessiatates a change.

I think it's critical to develop an asset allocation target. The portion of your portfolio that should be in equities depends on two things - your willingness to take risk and your need to take risk. Your need to take risk is driven by how close you are to achieving your goals. If retirement is your goal and you have a lot saved up with low living expenses, you probably want a very conservative portfolio of, say, 30% in equity funds (stocks). But if you are far from this goal, then you will either need to take more risk, or alter your goals.

While I am a believer that you can set your allocation based on taking a risk profile survey, research shows how we feel about risk is very unstable over time. In other words, once you do it - then stick to it. In other words, the more we change our allocation targets, the lower our returns tend to be.

You may be feeling what I'm feeling right now. The pain of watching our portfolios decline will do one of two things;
  1. It may drive us to take more risk to try to get back our losses as quickly as possible. Research indicates that people are generally risk averse, then do a 180 and become risk takers when faced with painful losses. Increasing our stock portfolios after this loss may be the Las Vegas equivalent of doubling our bets at the blackjack table to try to get back some hefty losses. We don't want to become the guy who loses most of his fortune and promises to stop as soon as he gets it back.

  2. It may make us go from being fairly aggressive to ultra conservative. However, that means selling cheap and never buying back in. In following this strategy, it will take several years (perhaps 6-10) to recover and to get back to their original positions.

To all those people who think they need to adjust their plans based on the market, may I ask a simple question - do you determine your future or is your future determined for you? By reacting negatively, you are allowing the direction of the stock markets to predict your retirement goals. Stick with your long term goals and then gradually get less aggressive as you get closer to reaching your goals.

You are doing what Warren Buffett once said: "Be fearful when others are greedy and greedy when others are fearful." This is a really good thing, but let's not go overboard on the fearful or the greed.

Wednesday, January 28, 2009

Budget 2009 aka Canada's Economic Action Plan

I wonder if the average Canadian ever sits down and watches or listens to a budget being presented in Parliament. It's actually quite interesting - sort of like watching a preschool class where part of the class wants to build something and the other part wants to play games. The only difference is that the preschoolers are better behaved than the "honourable members". Jim Flaherty (seen at left) presented his government's budget on Tuesday, and as you can see, he wasn't sure which finger to hold up when the opposition expressed their displeasure.

I'm sure that every government around the globe is now feeling like they are animals in the gun sights of the general population. With a global economic slowdown, governments have been doing everything possible to stimulate spending. Included in that is running a deficit. Over the past twelve years, Canada has been slowly paying down our national debt. Our current national debt is $460B, That will increase as we run a deficit for the next two years - expected to be $64B. There goes twelve years of hard work.

Below is a summary of the budget from the Globe and Mail. If you skip to the bottom of the blog, you'll see the real "meat" within the budget.

The Regions
$1-billion over five years for a development agency to help people and businesses in Southern Ontario. $1-billion over two years for a Community Adjustment Fund.

A $20-billion cut to personal income taxes, increasing the basic personal amount and top of the two lowest income tax brackets by 7.5 per cent.

Home Renovation Tax Credit, offering $1,350 in tax relief for home renovations. An additional $50-billion to the Insured Mortgage Purchase Program. First-time home buyers to get up to $750 in tax relief. $2-billion for social housing for low-income earners, seniors, people with disabilities and native Canadians.

$8.3-billion skills budget over two years, half of which will be used to freeze premiums. Employment Insurance program enhancements. Training programs for jobless Canadians. Extend EI by five weeks to 50 weeks. Improve work sharing provisions.

Almost $12-billion in new project funding over two years, including a $4-billion fund for shared-cost projects with provinces and municipalities to repair roads other infrastructure. The government will also create a $500-million fund for recreational facilities like hockey arenas. Projects include improvements to the Montreal-Ottawa-Toronto rail corridor; repairing Montreal's Champlain bridge, twinning a section of the Trans-Canada Highway through Banff National Park; improvements to the Sarnia and Fort Erie border crossings.

Consumer credit
New disclosure rules and a minimum grace period on credit cards.

Improved access to capital from $13-billion in additional financing for Canada Mortgage and Housing Corp., Export Development Canada and the Business Development Bank of Canada.
New life insurance debt guarantee facility. Extend capital cost allowance rate on investments in manufacturing or processing equipment and machinery. Offer a temporary 100 per cent CCA rate for computers bought after Jan. 27, and before Feb. 1, 2011. Increase the income eligible for the small business tax rate to $500,000 from $400,000. Increase maximum loans available under the Canada Small Business Financing Program .

Create a national securities regulator, with provincial participation on a voluntary basis. Develop a national strategy on financial literacy.

$225-million over three years to extend broadband coverage to unserved communities.

Offering short-term repayable loans to the industry. Create a $12-billion credit facility to support vehicle and equipment financing.

$170-million over two years.

Mineral exploration tax credit extended by one year.

$350-million over two years for Atomic Energy Canada Ltd. New Clean Energy Fund, to generate more than $2.5-billion in investments. Accelerated write-offs for companies that invest in carbon capture and storage technology. New $1-billion green infrastructure fund, including transmission lines to connect renewable energy projects.

$2-billion to repair post-secondary institutions. $50-million for the Institute for Quantum Computing in Waterloo, Ont. $87.5-million for additional doctoral and masters' scholarships.

$515-million over two years for schools, water and key community services. $200-million for skills and training. $400-million for social housing on reserves. $325-million to aboriginal organizations and provinces to deliver health programs and child and family services.

$500-million to expand the use of electronic health records.

Child care
Raise the level at which the National Child Benefit supplement and Canada Child Tax benefit are phased out.

Farming, food
$500-million agricultural flexibility program. $50-million over three years to increase slaughterhouse capacity.

$200-million over two years for the Canadian Television Fund. $60-million over two years for community theatres, libraries and museums. Increased funding for the National Arts Training Contribution program. $30-million over two years for magazines and community newspapers.

$100-million over two years for “marquee festivals” and events to promote tourism. $40-million over two years to the Canadian Tourism Commission. $24-million to support cruise ship infrastructure along the Saint Lawrence and Saguenay rivers. $75-million over two years for Parks Canada facilities, and an additional $75-million for national historic sites.

The picture at right was snapped five minutes after Mr. Flaherty began speaking. If you want to ignore the "legalese" version of the budget, here's the real lowdown.

  1. You pay less taxes. Across the board, all Canadians will pay less tax right now. The bad news is that lower taxes now will ultimately mean higher taxes in the future.
  2. New Home Renovation Tax Credit, which would be available to people who spend money on goods or work on their home before Feb. 1, 2010. The nuts and bolts of this tax credit: you would claim a 15-per-cent credit against spending of more than $1,000 and capped at $10,000, with a maximum credit of $1,350. Starts Jan 28/09.
  3. Each Canadian can now use $25,000 from RRSP's under the Home Buyers Plan for first time home purchase. You have more money available but it also means more to repay.
  4. Extension of EI benefits for an extra 5 weeks; freeze on EI rates and more money spent on training programs. How that helps you manage on $460 week is beyond me.
  5. $12B of infrastructure spending from coast to coast on schools, roads, transport and recreation centres. Jointly with the provinces, this is expected to create almost 200,000 new jobs. The bad news? If the provinces don;t come through, then the funds don't get spent.

Tuesday, January 27, 2009

Did You Really Lose?

Some of the conversations you hear nowadays are fascinating. Sitting in a Second Cup earlier this week, I heard someone at a nearby table mention that they had lost $20,000 in the markets. Their friend chimed in with a similar story. As I sat there enjoying my caramelo coffee (if you have never tried it, you don't know what you are missing), I wondered what the real truth was behind their stories. It also made me reflect on the "stories" I have heard of late.

A young man who started investing about seven years ago recently stated that he had lost 30% on his investments. I asked him was that 30% of the contributions or the highest value. He said based on the last six months. When we actually looked at the numbers, he came to realize that in fact he had only lost most of the growth on his deposits. His original deposits were still intact. As we continued our discussions, I pointed out an fact that was obvious to me, but had escaped his attention.

People often say that "if we had sold our home" at it's peak, they would have gotten more money. Here is the simple math - you purchased a home for $300,000 - it later escalated in value to $450,000 (or so you believe). You did not sell. Now values in your area have dropped and the home is worth $400,000. For some reason, people mistakenly believe that they have "lost" $50,000. It could not be further from the truth. Gains and losses are only created if you sell the home. Your home is now worth $400,000 a gain of $100,000. If the same rules applied to both your home and your investments, then in theory you should sell your home before it drops in value any more.

It seems like everyone has a great memory when it comes to bad things but forget the good. I believe that is the influence of today's media. News that isn't negative, is not worth printing or reporting. If you want to stay safe and invest in cash, Canada Savings Bonds and such, that's fine. You can sleep at night and know your investments will be there tomorrow. The only problem - historically those investments have been outperformed many times over by people who invested in stocks and equity funds. MARKETS ALWAYS GO UP AND DOWN. If they only went up, then no one would invest in anything but the markets.

Let's hop aboard our time machine and go back to the early 1980's. Your aunt passed away and left you $10,000. A friend suggested that the Toronto Stock Market was doing great and you invested it all. From June 1981 to June 1982 your investment dropped in value to $6,180. How you reacted at that point ultimately determined your future. Why? Over the next 12 months, the TSX rose by 86.9%. Your original $10,000 was now worth $11,550.

While it is certainly frustrating to see your savings value drop, the harsh reality is that bailing now means selling at a loss. The mantra of buy low and sell high makes perfect sense. However, being a contrarian goes against human nature - we like to do what when everyone else does. The herd mentality has given us many great things - Nortel Networks is a great example. I love to quote Warren Buffett for two reasons - his long time success in the market and his results. Here are a couple examples of his philosophy on the markets.

- For some reason, people take their cues from price action rather than from values. What doesn't work is when you start doing things that you don't understand or because they worked last week for somebody else. The dumbest reason in the world to buy a stock is because it's going up.
- Most people get interested in stocks when everyone else is. The time to get interested is when no one else is. You can't buy what is popular and do well.

Thursday, January 22, 2009

Anyone heard of an RDSP?

I firmly believe it is the alienable right of all Canadians to criticise the government when they screw up. However, I also believe that when they do something right, then they deserve the kudos that should come with it. Can you imagine having a savings plan where if you were to contribute $1,500, the government would top that up with an additional $4,500? This is not a fantasy. This is the RDSP (Registered Disability Savings Plan).

For many years, disabled Canadians have complained about the inequities in the system. Imagine being told you are not allowed to save money for your future, or "inherit" money or you would lose out on the income benefits provided through government assistance (such as the Ontario Disability Support Program). Essentially you were stuck in a financial rut with little or no hope for escape.

Several years ago, a successful legal challenge solved the problem for inheritance. The Henson Trust was named after an Ontario man, Leonard Henson, who wanted to pass his entire estate onto his disabled daughter. But if she became the sole beneficiary of the estate and therefore "owned" significant assets and/or property, the government would consider her ineligible for any social assistance payments. However, the relevant regulations did allow a person in her position to have some money in hand and didn't hold it against a disabled person when a third party provided a discretionary benefit.For this reason, Mr. Henson drafted his will so that his entire estate was transferred to three trustees to be held on his daughter's behalf. The trustees (and this is the oh so very important part) had the discretion to withhold or spend the income and capital to best serve the daughter's interests. For example, money from the estate could be used to buy her a TV or new clothes or pay for a chaperoned trip. And because these payments were considered discretionary benefits, she still qualified for government support. What the will didn't do was give the daughter a legal claim to demand money. Unlike the traditional trust that parents often set up in their wills for their minor children, Henson's daughter would never be in a position to go to court and claim that the trustees were wrongfully withholding trust monies from her. It was precisely because she had no legal claim to the monies that the government could not treat the money as hers after she inherited it.

Despite this, the government still saw fit to withhold the daughter's social assistance after Henson died. Which meant that she that she (or more accurately her guardian) was forced to take the matter to court. The Ontario Court of Appeal ruled that the daughter was eligible for continued government benefits and ordered the payments to be reinstated. Unfortunately, it was a hollow victory for Henson's daughter as she died before the Court of Appeal could rule in her favour.

Individuals with disabilities are now reaping another benefit - the above noted Registered Disability Savings Plan. This link to the Service Canada web page explains the intricacies of the plan. If you are under age 60, eligible for the disability tax credit and a Canadian residence, you may qualify for benefits. Anyone (family, friends or the beneficiary) can contribute to the plan. If you like to read, Mackenzie Financial's "investor guide" is the best summary from an investment firm I have seen.

Planned Lifetime Advocacy Network (PLAN) is a non-profit organization, established in 1989 by and for families committed to future planning and securing a good life for their relative with a disability. The website they created is the go-to website for any information relating to the RDSP, including financial updates, provincial treatments, details and analysis, stories, the new RDSP Calculator, and much more.

After downloading their calculator program, I plugged in the numbers for a friend of mine to see how they would benefit. The person is age 32 and has a permanent disability. Their family income is roughly $65,000. Assuming they contributed the $1500 figure every year until age 49, invested at an average 5.5% return (their figure not mine), at age 60 the value of the plan would be $251,791. Total contributions to the plan? Only $27,000. This would then translate into an annual income beginning at age 60 of roughly $11,000 indexed to inflation.

I wondered what would happen if those same funds were directed to an spousal RSP. The result based on the same funds in? Barely $100,000. Even reinvesting the tax refunds each year would only increase the amount to just over $130,000. In other words, for a disabled person, over a period of 30 years , they can earn essentially 10 times their contributions. The only problem now is waiting for the various financial institutions to "finalize" the paperwork and enable disabled Canadians to begin saving.

Not everyone will qualify for the plan, but for those who do, the only question would seem to be "would you like to contribute annually or is monthly better"?

Wednesday, January 21, 2009

Inflation Our Next Battle?

Two years ago, the government would have told you their principal concern was keeping a lid on inflation rates. Today they print money like counterfeiters. How far away is a radically inflationary economy?

Inflation is essentially a the rate at which prices in the general economy rise on a year over year basis. It is often expressed with and without highly volatile components such as fuel. Inflation was running in the 10% range in the early 1980's which led to mortgage rates in the mid to high teens (for all of you new homeowners, ask your parents what that was like).

As global economies teetered, governments around the globe began to "create" economic stimulus packages and bailouts of sectors of their economies. Banking, auto, housing were the first in a stream of what is likely to become a "hey what about us" line of groups asking for help. How do governments solve these problems? By printing money and putting it into the economy. This comes with a price later as all that extra cash will tend to lead to inflationary pressures. Most economists agree that once global economies are on track, that interest rates will need to jump substantially to prevent hyper-inflation. How does a mortgage rate of 9% sound to all those who overextended themselves.

Stock markets have also lost their minds. Reading an economic commentary the other day, I saw two "highlights" that I had to read twice to make sure I read them correctly.

  1. In 2008, the number of days the S&P 500 rose or fell more than 5% in a day was twenty. That compares to eight days for the 10 year period between 1997 and 2007.

  2. In 2008, the S&P 500 lost 38.5%. The number of down days during the year was 126. The number of up days? Also 126.

One big problem lies in how deep rates go down. The more they go down now, the more they will likely need to increase in the future. The second problem (and more current one) is the fact that reductions have not been passed on to consumers. In Monday's Globe and Mail, it was predicted that rates would be reduced by another 50-75 basis points. What that translates into for consumers is unclear. Already banks are raising rates for loans and credit even though the Bank of Canada rates are at record lows and falling. Normally a cut of 50 basis points would be an economic "spur" but with most global economies cutting rates to such dramatic levels, it's expected to have little effect.

Once we fully emerge from this mess (likely 2011), expect the government to tighten monetary policy and interest rates to rise over a protracted period. This will hit the housing market again as existing homeowners who currently hold "variable rate" mortgages will look to lock in. As "fixed rate" mortgages come due, the owners will be forced to take cut costs elsewhere to afford their mortgages. Anyone who owned a home before 1993 knows exactly what I mean. Does this mean we face the same sort of extended decline in the housing markets we saw in the late 1980's and early 1990's. Most people would say no - I don't belong in that crowd. Too many people saw the housing market as a short term quick-cash solution to their problems. As a long term investment this approach is fine. What happens when people cannot find anyone to rent their condos to. They will be forced to sell in an already saturated market. In Vancouver, a developer has started slashing prices by $100,000 on new condos. Imagine you bought in that same building last spring for the "investment potential". It may take you ten years to simply recover your principal.

So what do we do? Pay your bills. Pay cash (credit is getting too expensive) whenever possible. Set aside money for a rainy day (or rainy week). If you have debts, focus on paying them off as soon as possible. For older clients (60 plus) with adult children, see if you can provide a little assistance if it's within your means. Everyone believes their job is safe - don't believe it. If you think your job could be in jeopardy then start looking now. You are far more attractive to a company if you already have a job. All that being said, we cannot forget about the future. Continue to save cash, put money into RRSP's, set aside money for a child's RESP. The people who stop at this time will miss out on the eventual economic bounce.

Monday, January 19, 2009

Which Investment Is Riskier?

Imagine a perfect world where investment returns were 10% every year and you could simply invest in anything and be confident of the future. The past year will have cured most people of that fantasy world. For those people with a slightly longer memory, so did the tech bubble of 2000-2002. For those among us who are over 40 and "real old" as my eight year old pointed out, you may also remember the last major recession we went through in the early 1990's. The real older crowd would no doubt remember the early 1980's recession or the 1973-1974 one.

It's all those past market corrections that remind us that there is no perfect world (see right) when it comes to investing. With pessimism running rampant nowadays, it's all too easy to forget another reality - that markets run in cycles. Unfortunately, we've gone from one extreme of putting too low a price on risk to the other extreme of putting too high a price on risk, and it's not easy to convince people today that markets will rally again. The media also plays a part in this - how may people out there realize that most markets are up 15%-20% from their lows. Of course not. Bad news sells and good news gets buried.

So what did I mean about which investment is riskier (in the title)? Even long term investors have a breaking point and more and more I have heard the phrase "move it all into GIC's". One of the worst things anyone could do at this time would be to follow this strategy. Why you may ask? It's actually simple and will be explained in greater detail in coming blogs. Here's the basics:

When interest rates drop to historic lows, so do the rates that institutions pay on GIC's. Currently, a five year GIC pays somewhere in the range of 3.5 to 4% per year. Assume you invested $100,000 in the market at it's height and it was now worth $70,000. You pull the money out and invest it in a 5 year GIC at 4%. Five years from now where are you? Up to $85,166. Assume you renew at the same rates. In 10 years, you have $103,617. In other words it took between 8-10 years to recover and get back to zero. Now we come to the bad news.

When governments print money to stave off an economic collapse, eventually it will come full circle in the form of higher inflation. So my GIC would look good wouldn't it? Not necessarily. Picture this - two years into a 5 year GIC at 4% we see inflation jump to 5%. Your investment is actually declining in purchasing power each year you have it invested. If it's invested outside an RRSP or TFSA, then you pay taxes on the growth and your purchasing power is further diminished.

Historically stock markets have gone up and down on a year over year basis. In a previous blog I showed two charts that demonstrated the predictability of markets.

You don't need to be able to read the numbers to see what follows. The first chart represents annual stock returns for US large stocks per year. If you had to ride that roller coaster, I wouldn't recommend eating anything that would upset your stomach.

The second chart - the rolling 20 year history of the EXACT SAME US LARGE CAP STOCKS. If you averaged the returns over a period of twenty years for US Large Cap stocks from 1930 to 1950 and then presented a percentage, it would be 7%. This figure is in spite of the depression. Since 1950, the 20 year average never fell below 7% (the high point came from 1941 to 1961 at 17%).

Apparently we have discovered something incredible. If you look at investments over a 20 to 30 year historical reference, markets go up and down year over year but always go up in the long term. Maybe we should keep this little secret to ourselves - if the general public ever found out that investing patterns repeat, and that the current market downturn is offering one of the all-time greatest sales opportunities ever, more people would rush out to invest. That would push markets up and the deals wouldn't be nearly as good.

Does anyone know they way to success? I don't mind taking a slightly longer route - I don't need to get there for quite a few years...

Friday, January 16, 2009

Saving For Their Education

Most people want their children to have a better life than they did. This is a fundamental belief of most parents and Canadians are no different than the rest of the world. Yet too often we forget to teach our children the right lessons and RESP's are an important tool.

A couple years ago I coined a phrase (which I should probably trademark) that when we do not save for a child's education, we are teaching them how to "deficit finance" at an early age. I am not suggesting that parents need to pay for everything for their children, as self sufficiency is an important trait. Yet it constantly amazes me how many people remain "ignorant" of the future costs of education and how to best utilize an RESP to help offset some or all of those costs.

The Canadian government deserves kudos for realizing the importance of an education, and the use of RESP's can benefit all Canadians. Most people understand the basics of RESP's but may not know some of the other important differences. Here is something that may help you get through to the end of this entry.

This link from Canadian Business shows how much it will cost for little Johnny or Susie to attend a post secondary program in Canada. You say your child will be the next Clayton Ruby and attend the University of Toronto Law School? Hope you have $17, 000 WHICH IS THE TUITIONCOST FOR JUST ONE YEAR. If you include room and board, for a four year program, the cost jumps to $107,000. Not exactly small change and unless you won the lottery, someone is going to have to pay for it.

So you think that setting up an RESP is the way to go. Now you need to learn how RESP's work, how to maximize government grants, and what the various types of plans include. My personal opinion is that the best reference material for RESP's is from the Ontario Securities Commission. The OSC governs the sale of RESP products in the province of Ontario and their link explains in detail how the plans work.

There are two main types of RESPs:

1) RESPs you buy through a financial institution (including a bank, mutual fund company, brokerage firm, or trust company). These RESPs work a lot like any other investment account.

2) Scholarship plan RESPs, which you buy from scholarship trust companies. With these plans, you are part of a larger group of families who are also saving for their children’s education.

Most experts would suggest that holding an individual plan is best. In fact, the OSC has had to crack down on some sellers of RESP's for questionable marketing practices. The bottom line is simple; if you put money away into an RESP, get the maximum grants available, and do it for as long as possible, then those education costs will become something you are able to laugh off.

If you want to wait, then remember this simple fact - compound interest only works if money is invested for many years. For example - you decide on your child's 15th birthday to put $3,000 into an RESP. It earns the basic grant of 20% and earns 6% interest for three years until your child begins school. How much do you have to show for your money? $4,288. If you had invested that same $3,000 the day they were born, earned the same 6% interest over 18 years, you end up with $10,276.

Let's make it simpler - you invest $1,000 to start (age 0), deposit $100 per month and increase that by 3% each year. You earn the same 6% interest. How much at 18? $50,972 !!! Children are not cheap to raise and setting aside $100 per month is not something everyone can do. But when you see a $50,000 end result, it makes you wish that Michael J. Fox had his Delorean available to take you for a trip.

This won't work for everyone, but here is the ultimate way to save for a child's education. If you are lucky enough to qualify for significant child tax benefits, properly invested they will produce enough money for your child to pick any school they want. Just think about it - you have a child, the government gives you money, which you invest in an RESP for the child. The government then gives you grant money which is added to the RESP. What does it cost you? A big fat zero. Can anyone out there not see the humour in having the government fund your child's education?

Wednesday, January 14, 2009

Should I Buy RRSP's This Year?

With the economy being as bad as it is and no sign of getting any better, I feel some people are reluctant to invest or even unable to save. Now is not the time to walk away from the table.

One of my favourite comparisons to make - would you rather pay 75 cents per litre or $1.35 per litre for gas? An obvious answer wouldn't you agree? Yet when I point out that the stock market is much cheaper to buy right now, people appear to become defensive. Let me ask this - does anyone believe we will ever see the price of gas rise above $1.35/L again in our lifetime? Of course prices will eventually go up again (summer of 2009?), which will in turn help to drive up the markets. Now does anyone really believe that the Toronto Stock Market will never reach 15,000 again? Let's check back in 20 years and see how many times it crossed that threshold.

The global economy is in recession and will likely continue to do so for a while. But don't make the mistake of thinking that this translates into further stock market declines. No one knows where the stock market will be in six months from now.

A mistake that many people make is thinking that the stock market acts in ways that are entirely predictable or even understandable. While some facts reveal possible futures, take a look at the economic events during the five-year period of 2003-2007:

  • Price of oil triples
  • U.S. deficit spending soars
  • Sub-prime lending crisis spreads worldwide
  • Canadian dollar skyrockets
  • Property values begin a massive downward spiral.

This seems to me like some pretty depressing economic news. Yet how did the stock market react? Well, Canadian markets were up over 100%, U.S. markets went up by 80% and international stocks were up by 168%. Anyone want to join me in some head-scratching?

Now if you had known these events were going to happen, you might have made the assumption that this wasn't a good time to save and invest. You would have missed out on essentially doubling your existing portfolio.

It's easy to get caught up in the tide of doom and gloom currently being preached by the market gurus, and to let that anxiety scare you away from the stock market. In October 2007, however, those same "experts" were claiming stocks were undervalued, just as the stock market was hitting new highs and about to take a huge dive. Most experts merely predict the past. Ignore those gurus who don't know that they don't know what the market will do in the short-run.

The most important fatcs to remember when markets go through this is to focus on the destination. If you are getting slightly off path, then it's my job to point this out to you even if you don;t want to hear it. I don;t worry about the market - I am there to provide discipline and focus to stay the course in order to reach your financial goals.

It's always a good time to save. Though, like dieting, it can be hard because it involves giving up some pleasure today for enjoyment years later. It's a lot easier to make excuses, like your investments won't perform well. Sometimes you can trick yourself into being a better saver. Now if only I could take my own advice when it comes to eating.

Don't kid yourself into believing that you are smarter than the market. By saying now is not a good time to invest, you're trying to time the stock market. Many people have tried, and the data is compelling on our market timing skill - we buy when the market is up and sell when it is down. So in the end, trying to market time usually ends up accomplishing two things: increasing your risk and decreasing your return. Now is the time to start saving and investing. The longer you stay in the market, the greater the chance you will be rewarded with a handsome return.

When I first started in the business, an older advisor showed me something about saving money and human nature. It still applies today and will work for just about everyone.

When devising a budget, make a list of your expenses. Now here's the part where I pull out my amazing Kreskin hat and astound you. For most people devising such a list, the first item on the list (assuming you have one) is your mortgage or if you pay it, then it's your rent. How did I know this? Human nature. It's usually you largest expense and it forms the foundation for you/your family. While this would seem to make sense for the most part, let me show you something very simple.
People in the first circle put their expenses first. People in the second circle put their savings first. In other words, people in the second circle decide how much to save each month, and then adjust their other expenses accordingly. Inevitably, they save more money.

Which circle are you in? Which one would prefer to be in?

Monday, January 12, 2009

My New Year's Resolutions

Have you ever had a feeling of deja vu? You sit quietly for a few moments contemplating how you found yourself in the same situation and trying to recall when or where that time was.

Over the weekend, I was sorting through receipts and trying to finish up my corporate taxes. As I looked at receipts for purchases from early 2008, I wondered what I was thinking spending money for some of the items, and whether I really needed them at all. The strange thing was remembering those very same thoughts from a few years earlier while sorting receipts. I realized that "those who forget history are condemned to repeat it" and thought that this would make an ideal way to "start" 2009.

One of the common misconceptions is that when markets fall, they may not recover. Let me say this that markets falling has happened in the past and will happen in the future. The question then becomes were you resilient and waited out the inevitable increases or whether you bailed on the way down and wondered what to do next. More aggressive investors are more susceptible to wanting to get out, but the problem is trying to predict when to get back in. Miss the bottom and you lose even more money.

When was the bottom of the markets? Some people believe we have not hit bottom; yet there is growing evidence that November 20, 2008 represented the market bottom on the TSX. Since then, markets have bounced up and down but overall are up 15%-20%. One client recently asked when I thought would be a good time to invest. My answer was rather simple - it's always a good time to invest - the only question is when is it a good time to sell.

Andex charts are used by many financial advisors as a way to demonstrate the historical performance of markets including portfolios. Whether you are an advanced, balanced or conservative investor, they can show you how markets have done in the long term. Imagine that you (or a parent) had the foresight to invest $100 for you on January 1, 1950. As of June 30, 2008, and depending on your investment choice, you could now have:

5 year GIC $5,993
Long Bond $6,829
TSX Composite $40,351
S&P 500 Index $56,757

Conservative folio (20% stock and 80% fixed income) $9,973
Balanced folio (60% stock and 40% fixed income) $28,216
Advanced folio (80% stock and 20% fixed income) $50,330

Now at the risk of sounding my age, what is the sense of showing someone a 58 year history for investments. Simple answer - people do invest for that long all the time. People don't work for that long. Here is the pure and simple genius in the above numbers. If you were born in the early thirties, and left high school and started work in the year 1950, and began investing money at that time, you would now be in your mid 70's. Assuming you are still alive and well, which investment from the list above would you now choose?

Based upon the above evidence, here are my business resolutions for 2009 and beyond:

1. Consistently remind people that investing is not for 5-10 years but could in fact be for as long as 60 years.

2. Consistently remind people that investing will mean losing money during market downturns.

3. Consistently remind people that investing returns are mainly based upon your risk tolerance, and is the reason for annoying questionnaires that need to be regularly completed to ensure you are appropriately invested.

4. Consistently remind people that investing should be an unemotional and methodical process based upon your ability to save money first and allocate the leftovers to pay the bills rather than the other way around (thanks Marilyn).

5. Consistently remind people that investing for their future does not cost them money, but is simply a matter of young you setting aside money for old you.

Tuesday, January 6, 2009

Reflections of 2008 - The Year From Hell

I cannot think of a better way to start the new year than to forget about the last year. It seems that every headline from 2008 had the following words included; Doom, Collapse, Depression, Unprecedented etc. The main purpose behind this blog was to try to put a slightly more positive spin on the news - in other words, the glass was half full. That being said, we need to remind ourselves that as the picture above says, "we ain't outta dem woods yet".

Here is a quote from an investor blog that I found to be perfect.

The record fast emotional flip-flop from greed driven excess to fear fuelled panic has caused equity prices to collapse. With the investing herd heading to the exit at the same time, the market environment has transitioned to a seller’s nightmare and a value buyer’s dream. While it is impossible to predict when investor emotions will settle, we are confident that the economic cycle will continue to swing both ways and that there will be an economic recovery. The stock market will likely have a powerful recovery once investors realize that there is reason to be optimistic.

Wow. Talk about optimism in the face of danger. The funny thing is I couldn't agree more. If ever there was a time to want to "move on", this is it. So where do we go next?

Not knowing the future, I decided to consult my favourite fortune teller and see what their predictions were for 2009. Unfortunately the "economic situation led to an unfortunate confluence of events" that they didn't foresee and they are out of business, Needing something to start the year with, I decided to take a stab and see how wrong I could be. Here goes nothing;

  1. North American (and global) stock markets will be noticeably higher at the close of 2009. Predictions for the TSX are from 11,000 up to 12,500 for a high point. Even reaching 11,000 points would be a 20% increase for the year. Now how could this happen you may ask. If you read my blog a couple months ago, this is happening just as predicted. If you wonder at my sanity in predicting this, you won't believe my next statement.

  2. Canadian markets will lead global recovery. This statement is based upon several facts - a resource based economy and eventually those needs will increase. China is expecting 7-8% growth in GDP and they continue to need our resources. Our banking system remains strong and while the housing market has been negatively impacted, Canada's market is far stronger than the US and several European countries.

  3. The current bull market we are experiencing, and have been for about one month will result in the usual short term profit taking, but markets will continue to climb. For anyone who didn't know, the past 22 years have consistently proven that stock markets love the month of December and 2008 was no different. Stock markets are up 20% from their lows of 2008 - the definition of a bull market. Even technical analysts are saying that the bottom has been reached and now we need to find a new "higher bottom". The chart below shows the TSX over the past three months. The brown and yellow lines represent average stock market closes over the previous 20 (brown) and 50 (yellow) day averages. Once the market breaks through the 50 day average, that signifies through technical analysis that we are entering/or are in a bull market.

There will likely be some down times in the future as well - just remember one simple fact. The media does not like positive stories. Nothing sells like a scandal. Whether in print, on TV, the radio or on the Internet, bad sells and good gets ignored. I just wish the general media would tell the "whole truth" instead of "nothing but the truth".

Oh yeah. The Toronto Maple Leafs will not win the Stanley Cup. Sorry Darrell B. And all the other "Leaf" fans out there. Well at least I will get one out of four correct.

Monday, January 5, 2009