Wednesday, February 29, 2012

Hidden Erosion of Principal

A mistake that many fixed-income investors make repeatedly is failing to protect their principal. In the pursuit of higher interest to live on, they fail to see the erosion of their assets.

I first saw this with some older family members who bought GICs in the 1980s. In the first half of the 1980s, inflation averaged 7.5% per year and 5-year GICs paid an average of 13% per year. These family members just spent their interest payments and felt secure that they weren’t eating into their principal. Of course, their principal was eroding at an alarming rate.

In the 5 years starting in 1980, the purchasing power of their savings dropped by 30%. So much for feeling good about not having touched their principal. The real shock came when they renewed their GICs at much lower interest rates. Not only did the interest payments drop dramatically, but the prices of everything they had to buy had gone up considerably.

Another good example of principal erosion was discussed by Canadian Capitalist in his review of BMO’s covered-call bank ETF with ticker ZWB. The first year dividend was 9.2%! Combine this with the perception that Canadian banks are safe made this a popular ETF.

However, this dividend is essentially digging into principal. We can see this by comparing ZWB to another ETF (whose ticker is ZEB) that invests in Canadian bank stocks but just pays the regular dividends from the bank shares. In fact, ZEB outperformed ZWB when we add principal and dividends. ZWB investors have the illusion that their principal is untouched because they still have the same number of shares, but in fact if they have been spending the dividends, they are spending their principal.

The lesson here is that it is no good to think of your principal in terms of absolute dollars or in terms of number of shares. You have to think in terms of purchasing power. If your principal is not keeping up with inflation, then you are spending it.

Tuesday, February 28, 2012

Second Look: Paying off the Mortgage

Writing this blog has taught me a lot about personal finance and investing. This is one of a series of articles where I argue with my former self by disagreeing with one of my previous articles. Unlike politicians, I’m allowed to change my mind as I learn more from my readers and my own research.

In a post about controlling spending by creating artificial scarcity, I wrote the following in response to a reader comment:
“When I first had a mortgage, my wife and I used to save more than 50% of our income, but we put it all on the mortgage by doubling all payments and paying 10% of the original mortgage balance each year. I realize now that I would have been better off to have invested some of this money, but I didn't know that at the time.”
Based on the information I had available at the time, I now think I did the right thing by paying off my mortgage aggressively. With the benefit of hindsight I now know that my income grew considerably from those early years and that stock returns were strong through the 1980s and 90s, but I couldn’t have predicted these facts in advance with sufficient certainty.

Paying off debt is a great way to reduce financial risk in your life. For all I knew, maybe the world would stop demanding the kind of work I did, or that my health would fail. This didn’t happen to me, but if my career had followed the path of one of my family members, I would have regretted building up debt and counting on future income to bail me out.

Any analysis that shows the benefits of taking on debt must necessarily assume a fairly rosy picture of future income, or at least not a dismal future. Keeping debt to a minimum is a great way to give yourself some downside protection.

On the Positive Side …

Here are a few of my older articles that I still quite like:

A game show reveals your risk aversion and helps us to examine Morningstar mutual fund rankings. In another post, I explained more about the risk aversion levels baked into Morningstar’s rankings.

A simple idea for making mutual fund fees clear.

Mutual fund Deferred Sales Charges (DSCs) are not much different from front-end loads when it comes to using your money to pay your advisor an up-front commission.

Absurd consequences of the asset allocation theory of constant relative risk aversion.

A market timing experiment shows that a market timer has to be right about 60% of the time to break even with a buy-and-hold investor. This rises to 63% in a taxable account. Things don’t get any better when basing market timing decisions on recent stock movements.

Monday, February 27, 2012

Buffett’s Annual Shareholder’s Letter

Warren Buffett’s Annual letter to Berkshire Hathaway shareholders came out this past weekend. It contains his usual mixture of clarity and wit. Here are a few quotes that struck me as noteworthy.

Increasing Employment

The U.S. is still soaking up an excess of housing units, but “demographics and our market system will restore the needed balance – probably before long. When that day comes, we will again build one million or more residential units annually. I believe pundits will be surprised at how far unemployment drops once that happens.”

Market Predictions

In discussing Berkshire’s record of beating the S&P 500 in all rolling 5-year periods, Buffett said that this streak “will almost certainly snap, though, if the S&P 500 should put together a five-year
winning streak (which it may well be on its way to doing as I write this).”

I hope that Buffett is right in the sense that these businesses go on to produce impressive earnings growth. However, because I expect to be a net buyer of stock over the next 5 years, I’d rather see share price increases lag earnings growth.

Wind Power

Berkshire subsidiary “MidAmerican will have 3316 megawatts of wind generation in operation by the end of 2012.” According to a Wikipedia entry on hydro use, this represents about 0.8% of U.S. electricity consumption. That’s a great start. I’d like to see this increase tenfold and be matched by solar generation.

Foreclosure Victims

“A largely unnoted fact: Large numbers of people who have “lost” their house through foreclosure have actually realized a profit because they carried out refinancings earlier that gave them cash in excess of their cost. In these cases, the evicted homeowner was the winner, and the victim was the lender.”

These people may have come out ahead on their financing, but I would be willing to bet that most of them were victims of their own poor choices as they spent their money recklessly. They may be winners in their battle with mortgage lenders, but on the whole, they don’t look much like winners.


“Today, a wry comment that Wall Streeter Shelby Cullom Davis made long ago seems
apt: ‘Bonds promoted as offering risk-free returns are now priced to deliver return-free risk.’”

Friday, February 24, 2012

Short Takes: Malcolm Hamilton on Retirement, EI Premium Recovery Risks, and more

Rob Carrick interviews Malcolm Hamilton about retirement issues and his own retirement. Hamilton is a very smart guy and it’s worth reading what he has to say.

The Blunt Bean Counter explains a hidden risk of trying to recover EI premiums your business has paid for employees who are family members.

Canadian Couch Potato interviews Scott Burns about the history of index investing.

Canadian Capitalist contrasted Warren Buffett’s recent upbeat take on stocks with his 1999 pessimistic view of stocks.

Preet Banerjee says that “sometimes investors answer [risk profile questionnaires] as if they were taking a test. They try to select the answers they think a successful investor would select as opposed to what they really feel.” This sounds like a formula for sleepless nights and losing money.

Boomer and Echo think that if you want to have a “frugal month” free of spending, you have to be realistic about the fact that certain expenses are unavoidable, like food.

My Own Advisor gives step-by-step instructions for closing your DRIPs and taking your stocks to a discount brokerage.

Million Dollar Journey explains the changing dividend gross-up amount.

Big Cajun Man explains how he checks to be sure that he hasn’t forgotten anything before filing his income tax return.

Thursday, February 23, 2012


Have you noticed that some bloggers publish articles with little useful content that seem mostly designed to carry links to commercial web sites? Here is a great example of the kind of “helpful” emails I receive:
“I know producing high quality content on a daily basis can be time consuming and I believe I have a solution that can help you on slow news days. [Our organization] has a team of in-house writers that can provide you with unique custom written content covering any relevant topics. I’m certain we could provide some valuable unique articles that would engage your users and expand your site. This is provided completely and entirely free of charge to our partners. We also have [a web tool] that [steers users to our clients]. For placing these we would be able compensate you for each user [directed to our clients], creating a new incremental revenue stream for your website.”
What I’m being offered is a chance to publish advertising that masquerades as content. I have no philosophical objection to advertising, but readers should be able to distinguish the real content from the advertising.

With product placements in movies and television shows and other examples of advertising “hidden” in content, I realize that my philosophy probably isn’t a majority view, but if I were only writing this blog for the money, I’d have quit a long time ago.

Wednesday, February 22, 2012

OAS Remedies Should Not Be Just about Cost Containment

In a recent article, Rob Carrick suggested increasing the tax clawback for Old Age Security (OAS) as a way to control costs. This would have the effect of lowering benefits without having to increase the retirement age. However, I think we need to have goals other than just cost containment.

Life expectancy has risen considerably since 65 was chosen as a retirement age. Instead of increasing the retirement age as life expectancy rises, government workers tend to retire in their late 50s, with many retiring at age 55. Many of these workers will be retired as long as they were working. This is not sustainable.

Outside of powerful unions in the public and private sectors, pensions are generally dismal by comparison. Many advocate an improved pension system for all that is as strong as the pensions that government workers enjoy. This will never happen. How could we possibly run a country if nearly half of all adults are retired? Who would mow the lawns on the golf courses?

We need a better pension system for all Canadians, but it must start with a sensible retirement age. I think 70 is about right. If OAS payments didn’t start until 70, then the monthly benefits could be higher than they are right now. If CPP payments didn’t start until age 70, then they could be actuarially increased as well.

We also need a pension system that is portable from job to job. Hopefully, the new Pooled Registered Pension Plans (PRPPs) will become a sensible option with portability; it is unreasonable to expect people to stay with the same employer for their entire working lives.

With a focus on a retirement age of 70, OAS and CPP benefits could be higher, and employer-based pensions with comfortable benefit levels would be much more affordable. Workers would be able to count on comfortable retirement income starting at age 70 without needing other savings.

None of this would preclude people from retiring before age 70. To do so, the goal would be clear; if you can save up 10 years of living expenses by age 60, then you can retire knowing that even if your savings are gone by age 70, you’ll be safe. For those who can’t save anything, at least they will know that they will have a comfortable retirement income at age 70.

There will be cases of people who are unable to work until age 70 for health reasons. It would make sense to allow these people to access their (actuarially-reduced) pensions early. But this should be the exception rather than the rule. The vast majority of people should not start accessing OAS, CPP, or employer-based pensions until age 70.

Tuesday, February 21, 2012

Market Mind Games

In the book Market Mind Games: A Radical Psychology of Investing, Trading, and Risk, author Denise Shull argues that rather than trying to control their emotions, traders should tap into their emotions to get better investing results. The main themes of the book are that math is bad, trying to control your emotions is bad, and using the author’s methods would help you avoid losses.

To paint a picture of a radical new approach to trading, Shull devotes the first half of the book to rejecting math and controlling emotions. She then goes on to describe her methods in the second half of the book. However, where she gives concrete advice, the tips turn out not to be particularly radical at all.

The author’s most direct attack on the idea that traders should control their emotions is to argue that damaged people who have no emotions aren’t capable of making any decisions at all. However, controlling emotions doesn’t mean eradicating them. It means staying calm and thinking before acting. Shull seems to be deliberately misunderstanding what people mean when they say that traders should control their emotions.

Much of the book is taken up with a fictitious story of some traders who find success and love by following Shull’s teachings “which implicitly meant an overthrow of the dominance of numbers.” Between this story, the repetition, and the parts that are difficult to make any sense of, this book could be easily cut down to a fairly short paper.

Rejection of Math

It is difficult to summarize Shull’s criticisms of math because I couldn’t make sense of them. Here is an example of sentence the author bolded presumably because she believes that it has high significance:

“Logically, if you have a probability that you know will only apply for a limited time and by definition that probability tells you that you have some significant chance of being wrong, even while it still applies, how much do you really know?”

I can’t argue with that, but I am reminded of a quote from Wolfgang Pauli: “This paper is so bad it is not even wrong.”

The author tries to paint Nassim Taleb of black swan fame and Benoit Mandelbrot as being on her side, but they didn’t reject all of mathematics; they rejected the normal probability distribution as a model of extreme events.

Here are more interesting quotes that are hard to argue with:

“Market numbers ... differ as a category from other kinds of numbers such as arithmetic or algebraic numbers.”

“The essential infinite number of choices when it comes to the question of how much longer to hang onto a trade means, by definition, certainty and truth cannot exist.”

“Solving the eternal puzzle of markets depends entirely on your ability to fluidly wield the sword of numbers as a language and not as a law.”

Bold Claims

Had the author’s “interpretive language perspective been in place in the years preceding 2008,” and “if a common sense context ... had been able to get a seat at the table, ... the billion- and trillion-dollar bonfires might not have been quite so dramatic.”

After watching Bernie Madoff during a panel discussion in 2007, Shull wrote the note “he is hiding something.”

Shull likens her ideas of your brain as “an emotional-context operator” to the transition from believing “the Earth was flat” to knowing “that the Earth is round.”

Useful Advice

“Arrange your days so that you can be working from peak or near-peak energy the majority of the time.” This isn’t exactly a new idea, but it is some good advice that actually makes sense.

Shull equates “controlling your emotions” with “rationalizing mistakes.” She sensibly says that rationalizing mistakes is a bad idea. However, rationalizing mistakes is the opposite of controlling your emotions. Her advice for avoiding rationalizing looks to me like a suggested method for controlling emotions rather than a rejection of controlling emotions.

The author says that the “all intellect all the time” approach leads to traders wondering “why they keep making the same mistakes.” Not repeating mistakes is good advice, but I don’t see how making the same mistakes repeatedly qualifies as using your intellect. In my own experience, it is when I’m driven by emotion that I repeat mistakes. When I control my emotions and think, I tend to avoid repeating mistakes.

When you’re sitting at your trading screen and are annoyed that some trades went against you, you should “leave the screen” and come back later with a “surge of energy” and “renewed confidence.” This is good advice, but I see it as a good way to control your emotions rather than an example of why controlling your emotions is somehow bad.

After some trades go badly, desperately trying to get back to even is a bad idea because it “often escalates into a temper tantrum of trades,” which traders should avoid. Shull claims that this is the result of trying to control your emotions. Once again, I see this kind of behaviour as a result of not controlling your emotions.


There may be some useful advice in this book, but it is far from radical. Rather than an assault on the idea that traders should control their emotions, I see parts of this book as suggested methods for controlling emotions. These suggestions largely amount to recognizing these emotions when they come up and looking at what they mean.

Monday, February 20, 2012

UFile Giveaway Winners

Thank you to all those who entered the UFile draw. I’m pleased that all entrants remembered to answer the skill-testing question and all got the right answer. The six winners have been notified by email:

Dan L.
Bob L.
Alex C.
Anton N.
Bhaskar N.

I knew a couple of the people who entered, but I stuck to a random draw. Unfortunately for these two people, they didn’t win. Better luck next time.

Friday, February 17, 2012

Short Takes: Investment Club Under-Performance, Sin Stocks, and more

Don’t forget to enter the draw for UFile online tax return activation codes. See here for details on how to enter.

Andrew Hallam explains why investment clubs are just another way to waste money while socializing.

Thicken My Wallet makes an interesting case for credit card company shares as sin stocks.

Retire Happy Blog shows that psychology is important when it comes to investing fees. Sometimes it is less painful to pay twice as much if the larger fee is less visible.

Rob Carrick brings us some insight from a financial advisor trainer into the problems people have with their lines of credit. A good quote: “I might as well have been blindfolding these people, spinning them in a circle, handing them a Skilsaw and then wondering why they cut their finger off.”

Canadian Capitalist thinks it’s a bad idea to invest blindly in stock picks from a magazine even if he writes for that magazine.

Larry MacDonald has 7 suggestions for investing your RRSP contribution.

Preet Banerjee says that an inheritance should be a windfall, not a financial plan.

Larry Swedroe explains why “buy what you know” is a bad investing strategy.

Big Cajun Man has some doubts about the wisdom of maintaining a large bank account balance just to avoid some banking fees.

Million Dollar Journey explains leveraged buyouts.

Money Smarts answers a tricky RESP question from a reader about who can access an account after a divorce.

Thursday, February 16, 2012

RRSP or TFSA? It Depends on Your Money Personality

There is no shortage of opinions on whether it is better to save in an RRSP or a TFSA. It is best to maximize your contributions to both, but realistically most people can’t do this, and so they have to choose. Which option is better depends greatly on how you handle money.

Rational Money Personality

For the very rational person who never makes foolish financial mistakes, the decision comes down to the difference between the tax rate when you contribute money and the tax rate later when you withdraw money. To understand this, it is best to think of RRSP savings as partly belonging to you and partly belonging to the government in the form of taxes.

Suppose that your marginal tax rate is 40% and you’re trying to decide whether to put $10,000 in an RRSP and get a $4000 tax refund or just put $6000 in a TFSA. If your tax rate when you withdraw the money is still 40%, then it is as though the RRSP is holding $6000 of your money and $4000 of the government’s money. Suppose that after decades of growth, your savings grow by 10 times. You would either have $60,000 in your TFSA or $100,000 in your RRSP of which you’d keep only $60,000 after taxes. So, you end up with the same amount of money after taxes whether you use an RRSP or a TFSA.

However, if your marginal tax rate is likely to be higher when you start to spend your savings than it was when you saved the money, then a TFSA is better; otherwise an RRSP is better.

One small advantage of an RRSP is that U.S. dividends have withholding taxes in a TFSA but not in an RRSP.

Another advantage of an RRSP is that it gives downside protection. Suppose that you lose your job and are unable to find other work that pays anywhere near as well, possibly because of poor health or outdated skills. You may be forced to sell off your savings over time. In this case, your lower income makes your marginal tax rate lower and you’ll get to keep more of your RRSP money (after taxes) than you would have in a TFSA.

An advantage of a TFSA is that if you dip into your savings, you’re allowed to put the money back starting the next year. With an RRSP, you lose your room permanently if you make a withdrawal. However, this is really only a significant advantage if you’re later able to completely fill up both your RRSP and TFSA, which is highly unlikely for most people.

Overall, the rational choice is guided by marginal tax rates at the time of saving and withdrawing, with the edge going to an RRSP when the tax rates are close.

Less Rational Money Personalities

All of the previous logic goes out the window if you tend to make common financial mistakes like wasting found money. Sadly, far too many people do not handle money very well and it is best to take your money personality into account when making decisions.

If you tend to spend tax refunds foolishly, then RRSPs are a problem because you’ll lose most of the advantage of the tax break, but will still have to pay taxes later when you withdraw from your RRSP. A potential remedy for this problem is to use a T1213 form to get your refund throughout the year instead of getting a big lump sum at the end of the year.

If the ease of dipping into a TFSA makes this money too tempting to leave alone when you’re eyeing the latest iThing from Apple, then you’re better off with an RRSP. If you would dip into an RRSP as well just to get a tenth pair of nice boots, then the whole question of RRSP or TFSA is moot for you.

If you can’t understand that contributing $10,000 to a TFSA is more valuable than contributing the same amount to an RRSP because a fraction of the RRSP contents really belong to the government, then maybe you’re better off with a TFSA.

Overall, the choice of RRSP or TFSA starts with your money personality. In the end what matters is which type of account will lead to you having the most retirement savings after taxes and after you make all the financial mistakes you tend to make. If you really are very rational with money, then the decision boils down to marginal tax rates.

Wednesday, February 15, 2012

UFile Giveaway

The tax season is gearing up and that means tax software giveaways! I have 6 activation codes for individual online UFile returns to give away. See the contest rules below.

For the winners of the contest and any other UFile users, I am particularly interested in how well the transition from other tax packages in previous years to UFile this year works. UFile claims a “One-touch data import from TurboTax.” How well does this work? It’s nice to have your name and other personal details filled in automatically, but it is also important to have certain information carried forward, such as capital losses, undeducted RRSP contributions, and undeducted charitable donations. What was your experience like? Does it make a difference whether you used the online version of UFile this year or Turbotax last year?

Giveaway Rules

To enter the draw, send an email with the following things:
– Subject: UFile
– Answer to the following skill-testing question: (3 x 5) + (7 x 5)
– Use the email address listed at the “Contact” link (For those who are reading my feed, you’ll have to click through to my web site to get the address.)

Another benefit of going to my site when reading a post is to see the comments other readers leave on that post. All entries received before noon Eastern Time on Sunday, February 19 will be considered for the draw. I will make a random draw without favouring any particular entries. I reserve the right to eliminate entries that I judge to be outside the spirit of the contest. Good luck!

Tuesday, February 14, 2012

Second Look: Long-term Investing in Bonds

Writing this blog has taught me a lot about personal finance and investing. This is one of a series of articles where I argue with my former self by disagreeing with one of my previous articles. Unlike politicians, I’m allowed to change my mind as I learn more from my readers and my own research.

In a post on asset allocation, I wrote
“I’m still searching for a rational reason to invest in bonds for the long term.”
Over the years I’ve softened my position on bonds to some degree. I still don’t own any bonds myself except for cases where I know I’ll need money available in less than 5 years. My long-term savings are still 100% in stocks. However, I’ve come to appreciate that so few investors are able to control cycles of fear and greed that it is practical for almost all investors to consider including bonds in a long-term portfolio.

I considered the stock market crash of 2008-2009 to be a good test of my ability to remain calm and rational. I didn’t sell stocks and even managed to find a little cash in various accounts to buy more. In addition, I slept just fine. However, many people who were invested in stocks sold low and many more had sleepless nights as they worried about their financial futures.

On some level, it is very rational to recognize your limitations and choose an asset allocation that allows you to sleep at night. Of course, you should stick to this allocation in good times as well; it is no good to allocate more to stocks in good times and less in bad times because this is just buying high and selling low.

We all have our weaknesses. My wife and I don’t keep potato chips and cookies in the house because I know I would eat far too many of them. Choosing to have a healthy allocation to bonds to avoid losing your cool and selling everything can be quite sensible, even if it isn’t for me.

On the Positive Side …

Here are a few of my older articles that I still quite like:

When investing in an RESP, see how a 20% Canada Education Savings Grant (CESG) can be consumed by a mere 2% MER.

Investing is definitely not like surgery, no matter what the financial planning industry says.

Here is an attempt to explain how volatility hurts investment returns with a minimum of math.

Leaving notes in the box when returning defective merchandise to help the next sucker.

Monday, February 13, 2012

TurboTax Offers Free Tax Advice

I’m not often surprised by changes in the offerings from tax software providers, but the TurboTax announcement that they offer free tax advice from tax professionals got my attention. The usual focus is on prices and how many returns are included for the given price. Free tax advice is definitely an interesting new offering.

One restriction is that this service is not available to users of the Business Incorporated version. The focus seems to be on helping people with less complex tax situations. Another restriction is that they will answer question about 2011 personal returns and not previous years. The service is available now and will end on May 4.

I will definitely be interested in hearing reviews of this service. How are the wait times? How good is the advice? How much time are they able to spend with taxpayers who need help? If it works out well, this could definitely change the tax preparation experience.

Friday, February 10, 2012

Short Takes: Index Investing Criticisms, Banks Raise Interest Rates on Loans, and more

Larry Swedroe analyzes some criticisms of index investing.

Rob Carrick reports that banks are starting to cut their risks by raising interest rates on loans and adding new fees.

Canadian Capitalist doesn’t think much of an investing strategy called the “risk barbell” that invests in penny mining stocks.

Where Does All My Money Go? explains how to get your RRSP tax refund early.

The Blunt Bean Counter admits that he’s not very young and not very thrifty. However, I suspect he’s got a decent income.

Million Dollar Journey asks whether you plan to buy into the Facebook IPO. I won’t be. It seems to be a fantastic business, but I don’t know what price is reasonable to pay for its stock.

Big Cajun Man is giving away some TurboTax online activation codes.

Retire Happy Blog thinks that the old adage “keep your winners and sell your losers” is just performance chasing.

Thursday, February 9, 2012

MERQ is Too Extreme to be Believable

Regular readers of this blog are very familiar with the arguments that seemingly small costs can cause big damage to your portfolio over an investing lifetime. To make this more clear, I’ve proposed the MERQ (Management Expense Ratio per Quarter century) as a better measure than a single-year MER.

One thing I’ve discovered about the MERQ in casual discussions is that many people simply don’t believe it. For example, the Investors Group Beutel Goodman Canadian Balanced Fund Series A has an MER of 2.89% which translates into an MERQ of 51.4%! This means that after 25 years, more than half of your portfolio would be consumed by fees.

In contrast, a balanced portfolio of index ETFs from iShares (XIU and XBB) has an MER of 0.235% for an MERQ of 5.7%. So, a portfolio that would have come in at a million dollars without fees would end up with $486,000 with the Investors Group fund and $943,000 with the iShares ETFs.

This difference is so large that people are skeptical that it is real. This makes me even more interested in popularizing MERQ. We need to be discussing real impacts on portfolios and not hiding them with seemingly tiny MER percentages like 1%, 2%, or 3%.

Wednesday, February 8, 2012

Boomers Get a Good Deal with CPP

In a recent post, I showed that under current rules, baby boomers will get more from Old Age Security (OAS) than they contributed through their incomes taxes. I expected to get angry comments from boomers who don’t like the idea of changing OAS. Instead, several readers observed that boomers will get more from CPP than they paid in as well.

Robert Hurdman pointed out that CPP is not fully funded which means that retirees get some of their benefits from current CPP contributions. Fortunately, the situation is improving as the degree of funding increases each year. This should reduce future inequities.

Reader Greg put together a CPP spreadsheet analysis concluding that the oldest baby boomers will collect about twice as much as they paid into CPP. Changes to CPP contribution rates between 1986 and 2003 have made CPP less of a good deal for younger baby boomers. Greg’s second spreadsheet summarizes results for different birth years. Here is Greg’s summary of the spreadsheet results:
“Not surprisingly, the first folks to collect CPP got value up to 17 times their contributions. The first baby boomers get just about double their contributions, the last only get about 85% of their contributions in value. And it just keeps getting worse for GenX, stabilizing at value worth 66% of contributions. The breakeven point is boomers born in 1960, with those who are younger increasingly subsidizing those who are older.”
My take is that CPP has been unfair, but is headed in the right direction, if glacially. On the other hand, OAS is still in need of fixing. All potential changes proposed for OAS are likely to be unpopular, but something has to change.

Tuesday, February 7, 2012

My 7 Links Project

Just about every other blogger has written a “7 links” post where they choose posts in 7 categories, including most beautiful, most popular, etc. I have resisted this for some time because I knew I would agonize over which of my posts to choose in each category. Thanks to Tripbase and The Blunt Bean Counter for being the most recent to push me to stop procrastinating. On with the 7 links.

My most beautiful post

Market Timing in Pictures takes you from fantasy to reality.

My most popular post

My most popular post as judged by the number of comments was where I observed that preferred shares offer a 2% higher return than the interest rate on 3-year closed mortgages. But how large is the hidden risk in this potential arbitrage?

My most controversial post

In Understanding Ontario’s Switch to the HST, I explained that the HST is not all bad compared to GST plus PST. Some unhappy readers weren’t in the mood for hearing anything positive about the HST.

My most helpful post

A post that has the potential to be my most helpful is where I tried to popularize the measure MERQ (Management Expense Ratio per Quarter century). Investment costs are much more meaningful when they are viewed over a lifetime of investing rather than for a single year. One problem here is that many people simply don’t believe that mutual fund fees can consume half of their portfolios in 25 years.

A post whose success surprised me

I told the story of how my hot water heater blew up and I decided to buy a new one rather than continue renting. It seems that many people agonize over this rent vs. buy decision.

A post I feel didn’t get the attention it deserved

In the depths of the 2008-2009 stock market crash, I asked Do You Have the Nerve to Rebalance Right Now? Judging by the cricket chirps in response, I’m guessing that few people had the nerve to follow their financial plans by selling some bonds and buying stocks to restore their portfolio to its target asset allocation.

The post I am most proud of

One post that I particularly liked was A Market Timing Experiment, where I used simulations to generate a chart showing that market timers have to be right more than half of the time just to break even.

Blogs I nominate for 7 Links

Because this is the last blog in the universe to have a 7 links post, I get to close the door and turn off the lights :-)

Monday, February 6, 2012


I’ve never read a book about baseball I liked more than Moneyball by Michael Lewis. Before reading this book I had no idea that professional baseball teams were so dumb about what contributes to winning and what doesn’t. Lewis tells the story about how the Oakland A’s had much less money than many other teams yet managed to put together winning seasons by finding undervalued players.

At its core, this book is about how statisticians and mathematicians revolutionized baseball, but you don’t have to care about math to enjoy Lewis’s compelling story. It might be a stretch to say that you don’t have to like baseball to enjoy the book, though.

In very simple terms, the Oakland A’s general manager Billy Beane and his assistants showed that walks are far more valuable than most people realize, and bunting and stealing bases are far less valuable than people realize.

Over the years I figure I’ve played or coached about 2000 baseball and softball games. A simple rule I used to judge the value of a hitter was to add his on-base percentage and his slugging percentage. For high-scoring leagues, I would double the on-base percentage before adding the slugging percentage. Billy Beane worked with statisticians who took this type of approach to a much higher level.

In the 2002 season, the A’s won 103 games with a $42M payroll, but Texas won only 72 games with a $107M payroll. This shows the power of detailed analysis over “gut feeling.” Similar thinking has taken investing to unbelievable heights of statistical analysis. Unfortunately for the statisticians, you have to compete against the whole world of other brilliant statisticians when investing, but baseball teams only have a few dozen opponents.

The book points out the problems with traditional baseball statistics: “the easiest way not to make an error was to be too slow to reach the ball in the first place.” The A’s took such a different approach that in the 2002 draft, they got 13 out of the 20 players they wanted; most teams would feel lucky to get 3.

The book has some humour as well: “Cecil Fielder acknowledges a weight of 261, ... leaving unanswered the question of what he might weigh if he put his other foot on the scale.”

Beane’s approach to relief pitchers is similar to pump-and-dump schemes where fraudsters buy stock in a small company, hype it to the world with questionable claims, and then sell after the stock rises. Beane knew that relief pitchers were way over-valued. So, he would make one of his pitchers look great as a reliever to drive up his perceived value, and then cash in by trading the reliever to another team.

Overall, I’d say that this book is a must-read for baseball fans. Either you will be annoyed at the lack of reverence for tradition or you’ll love the way that careful analysis turned the game on its head.

Friday, February 3, 2012

Short Takes: CMHC Limit, Real Health Insurance, and more

Canadian Mortgage Trends reports that CMHC is approaching its limit on mortgage default insurance and takes in in-depth look at what this could mean for the industry and borrowers.

Where Does All My Money Go? provides further analysis of the impacts of the CMHC reaching its limit.

Boomer and Echo have some clear thinking on health and dental “insurance”.

The Blunt Bean Counter explains the rules and pitfalls with claiming automobile expenses on your taxes. I tried keeping a log book for a while. What a pain! The tax savings would have to be quite substantial to get me to try this again.

My Own Advisor turns a financial goal into a dragon-slaying quest. More people need this sense of urgency in tackling debt.

Larry Swedroe looks at the history of home real estate as an investment.

Larry MacDonald describes Daryl Diamond’s “cash wedge” strategy for buying low and selling high while living off your savings in retirement.

Canadian Capitalist says that very detailed retirement planning should wait until you’re 20 years or less from retirement. I agree as long as young people don’t use this as an excuse to build debt and avoid saving.

Rob Carrick thinks that lines of credit should come with warning labels because they are threatening our retirements. I suspect that many people at middle age now are destined to work until age 70.

Canadian Couch Potato evaluates market forecasters.

Wealthy Boomer quotes a BMO Retirement Institute report saying that “younger Canadian job-seekers should be looking for employers that offer traditional Defined Benefit pension plans.” A problem with this strategy is that expecting to spend you whole career with one employer is unrealistic. Finding an employer with a DB pension is not enough. You need to have the right to carry your pension value to a new employer who has a DB pension plan without losing too much service credit. Good luck with that.

Retire Happy Blog wades into the debate about changes to Old Age Security.

Big Cajun Man has to revisit his equation for deciding whether to take the bus or drive to work.

Million Dollar Journey gives us some insight into his conservative approach to computing his net worth. For example, he does not include RESPs because he thinks of them as his children’s money.

Financial Highway lists 6 things that most people don’t know about a home equity line of credit (HELOC). I only knew 4 of the 6.

Thursday, February 2, 2012

Evaluating Steadyhand

I had the pleasure of listening to Tom Bradley give an update about Steadyhand mutual funds this week. Instead of trumpeting a few winners, he discussed successes and failures. Instead of avoiding index benchmarks, he showed them beside each of his funds. Instead of pretending he knows what will happen in the future, he told us what modest bets he plans to make for the upcoming year. (Disclosure: Although I have no financial relationship with Steadyhand, I like the guys who run it and they did give me some cheese to nibble on during the presentation.)

I’ve made no secret of the fact that I’m a do-it-yourself investor using low-cost broadly-diversified index ETFs. Nevertheless, I believe that many people wold benefit from investing with Steadyhand, but not for the reasons that people might think. I don’t trust myself to judge who is likely to beat the market. So, I don’t pay much attention to performance. Steadyhand has some funds that have won the race with their index and others that have lost. It’s all close enough to market returns that I focus elsewhere.

But where? If I’m not looking at returns, what is there to look at? One obvious place is fees. Steadyhand has much lower fees than typical mutual funds, and this could make a difference of 20% or more in the size of your portfolio at retirement. Fees are lower still if you control your own portfolio of low-cost index ETFs or mutual funds, but this approach requires discipline that many people don’t have.

This issue of discipline is another benefit of Steadyhand. It is well documented that investors get lower returns than mutual funds report. The typical scenario runs as follows. A small fund has a great year. Many investors leave their old funds and jump into the hot new fund and swell its assets under management. The next year, the fund’s managers can’t figure out what to do with all the money and they have a bad year. So, the bulk of investors’ money doesn’t see the good returns.

People who are guilty of this kind of performance chasing need someone to stop them from buying and selling at the wrong times. I believe Steadyhand does a good job of helping their clients avoid such mistakes. In the long run, this benefit can be even more valuable than the lower fees.

For rational investors who are not trying to beat the market, I believe that low-cost index ETFs and mutual funds are the way to go. For the majority of people who have difficulty controlling their cycles of greed and fear, Steadyhand is a solid choice.

Wednesday, February 1, 2012

Tax Fairness would Decimate Old Age Security

In a CBC interview about pension reform, Susan Eng of CARP was discussing the taxes baby boomers have paid to support old age security (OAS) payments:
“These are the same people who paid their taxes all through their working lives and have funded their retirement in this way.”
So, she is saying that it is an issue of tax fairness; boomers paid for their OAS benefits and would be cheated if these payments were reduced. Unfortunately, if we really introduced tax fairness it would decimate OAS. The reason for this is a combination of the way OAS is funded and demographics.

Unlike CPP, OAS is paid from current tax revenues. While the CPP amounts deducted for our pay are saved to cover future CPP benefits, OAS payments to retirees are paid for by current taxpayers. This means that boomers paid for their parents’ OAS and they will collect OAS payments from their children.

Boomers were in the middle of their careers around the year 2000. They will be in the middle of their retirements around the year 2030. Over that period of time, the ratio of the number of retirees to the number of working people will roughly double. This has happened because we’re having fewer children and we’re living longer.

As a group, boomers will collect roughly twice as much from OAS as they paid in. To achieve tax fairness, we’d have to cut their benefits in half. I’m quite certain that Ms. Eng would not support such a cut. I don’t support it either. But we do need to increase the age where OAS benefits start to reflect the fact that we’re living longer.