Monday, March 30, 2015

Getting Fired

I’ve worked in high tech for a long time now and have lived through many rounds of layoffs. I’ve noticed that employees generally handle the possibility and reality of getting fired quite poorly. (Disclaimer: No, I didn’t just get fired. In fact, my employer of several years seems quite happy with me. But that could change any time.)

Possibility of Getting Fired

Employees are mostly complacent about the possibility of getting fired. That is, until a colleague gets fired or their employer announces upcoming layoffs. Then most employees are nervous wrecks until it seems like layoffs are over. Then they slowly transition back to complacency. There are people who don’t follow this pattern, but most do.

Whether they are in a period of complacency or fear, few employees do much to prepare for possibly being fired. If you force yourself to confront the reality of what would happen if you lost your job, it becomes self-evident that you need emergency savings and should limit debt. But the possibility of getting fired is so scary for most employees that they refuse to allow for this possibility in their planning. The few times I’ve said to a group over lunch that I wake up every work day knowing that this might be the day I get fired, it silences the group for a while.

I can almost hear many readers’ saying to themselves, “maybe others are at risk of getting fired but not me.” People who think this way are among the many who later say “I can’t believe they fired me.”

Response to Getting Fired

After observing many people during the first couple of weeks after getting laid off, I’ve seen lots of different reactions. But there is one thing that is nearly universal: people decide to take a break for a while and not look for a new job right away. They offer various inventive reasons for this choice, but the real reason is usually quite simple.

It’s scary to put yourself out there and attend interviews. If you choose to delay looking for work, you’re just avoiding pain in the short term. But let’s take a longer view. Unless you’re wealthy, you’ll have to find new work eventually. By delaying you’re just extending the period of time when you feel lousy about yourself and you and your spouse are scared about money. Why would you want more of that?

I’m not suggesting you start interviewing on the day you get fired, but it shouldn’t take much more than a few days to process what happened to you and begin to move on. If you find new work before your severance pay runs out, you might even be able to double-dip for a while.

In summary, try to be realistic about the possibility of losing your job. In addition to financial preparations, it makes sense to do small things like get a personal email address so you’re not cut off from friends when your work address disappears. If you do lose your job, avoid making up smart-sounding reasons for delaying looking for new work. Suck it up, prepare a resume, and start hitting up colleagues and friends for ideas for finding a new job.

Friday, March 27, 2015

Short Takes: ACB Tracking Problems, Cost of Moving, and more

This week I wrote only one post on the reason why trying hard at picking stocks isn’t likely to benefit most investors:

Trying Hard at Stock Picking Doesn’t Help Much

Here are some short takes and some weekend reading:

Justin Bender reports that when RBC Direct Investing tracks the book value of its clients’ holdings, it isn’t converting each transaction into Canadian dollars as required by CRA. Justin doubts that most DIY investors are making proper currency adjustments. Am I one of the few people who looks up the Bank of Canada daily exchange rates to get my taxes right? One thing I’ve never understood is why the Bank of Canada limits their daily exchange rate data to the past 10 years. Why not just give us access to all the data they have? The cost of the extra storage would be a tiny fraction of a penny.

Preet Banerjee has a video explaining all the different costs that come into play when you sell a house and buy another one. His conclusion: stay put as much as possible.

Frugal Trader at Million Dollar Journey gives us a peek into how he has run his personal finances over the years. I see a lot of similarities between his situation and mine (family of 4, lived off only one income, aggressively paid off debt) and some differences as well (he controls spending with a tight budget; my wife and I have no budget and just don’t bother to spend much).

Big Cajun Man explains his best financial decision ever.

Boomer and Echo explain the benefits of setting up an RESP for your children.

My Own Advisor takes some reader questions about how he handles his portfolio.

Thursday, March 26, 2015

Trying Hard at Stock Picking Doesn’t Help Much

In a post that inspired many debates among commenters, My Own Advisor asked why we should bother to buy individual stocks at all. In a rebuttal to indexers, one commenter, Pullingmyselfup, asked the following question (lightly edited):

“Why is investing the only job, hobby, or activity where people are told not to try?”

It’s true that indexing proponents discourage people from trying to pick their own stocks and suggest they just buy an index of all stocks. Golfers can improve through training and practice; why can’t stock pickers improve?

The truth is that we can improve our abilities to analyze stocks. But investing offers an alternative not available to golfers. Imagine if you had the option to receive the average prize at the next professional golf tournament without doing anything at all. Instead of hoping for some natural golf talent, buying equipment, spending years building skills, and traveling to tournaments, you just sit on your couch and collect the average player’s prize.

Of course, we don’t have this option in golf, but we can do it with investing. Instead of competing with the bulk of investing dollars controlled by professionals, we can just get their average performance by investing in index funds.

It’s true that if I work at it I can learn to analyze stocks better. But I won’t become better than the average professional investor. I can shrink the gap between me and the pros, but I’ll remain better off just buying index funds.

There are a small number of investors who may be able to build the skills necessary to compete effectively with investing pros, but almost all of us are better off focusing on a sensible asset allocation and buying index funds.

There are some who will say they’d rather play golf than sit on the couch. So would I. But I know I’ll never play well enough to compete with the average golf pro. Sometimes for amusement I look at some individual stocks, but I don’t buy them because I can’t compete with investing pros.

Stock picking isn’t the only activity where the option of just taking the average result is available. Consider poker. In a friendly game where there are no pot rakes or seat fees, the average player makes nothing at all. The money shifts around, but the total amount held by all players stays the same. If you want to get the average result of all players, just don’t play. In fact, you’ll beat the average of the other players this way after we consider costs like pot rakes and seat fees. A similar thing happens with indexing. Index investors actually get better results than investing pros after we consider the lower fees that indexers pay.

The number of active stock pickers who beat indexing over the long run is very small, but the number of active stocks pickers who say they beat indexing is very high.

Friday, March 20, 2015

Short Takes: Advisors Behaving Badly, Misleading Statistics, and more

Here are my posts for this week:

The One-Page Financial Plan

What Interest Rate is Your Annuity Paying? 

Here are some short takes and some weekend reading:

Dan Hallett reports that many financial advisors are churning their clients’ assets into Deferred Sales Charge (DSC) funds ahead of the new CRM2 regulations that force disclosure of costs. DSCs are a way for advisors to get paid up front whether clients stay invested for the long term (at high yearly fees) or pull their money out early and pay a penalty.

Patrick at A Loonie Saved makes a good point about how someone wanting to mislead with statistics can shop for time periods that support a particular conclusion.

The Blunt Bean Counter reminds us that with low oil prices, now may be the time to look into tax planning with flow-through limited partnerships.

Canadian Couch Potato looks at the merits of preferred shares.

My Own Advisor takes a run at a list of questions most investors don’t ask themselves. His answers are fairly short because he’s a buy-and-hold investor. My answers were even shorter because I’m a buy-and-hold indexer.

Big Cajun Man is celebrating his 10th year blogging. It doesn’t seem so long ago that he got started.

Wednesday, March 18, 2015

What Interest Rate is Your Annuity Paying?

If you buy an annuity for $100,000, and it pays $6000 per year, that seems like a 6% return. But that’s not actually the interest being paid. Most of each payment is just your own money returned to you. Here I try to work out what interest rate an annuity actually pays.

To do this, I worked out what interest rate the insurance company would have to make to exactly cover all the payments to a large group of people who buy the same annuity. For that I needed actuarial tables that predict how many people will live to each age. I used data from Statistics Canada. Note that this is not the same as just using average life expectancy; I actually assume the insurance company keeps making payments to remaining survivors each year.

There are many types of annuities. Here I focus on the simple case where there is no guarantee period, which means that the payments stop when you die, even if that happens shortly after buying the annuity. I also looked only at single person annuities with level payments (no increases to account for inflation). I repeated the calculations for males and females of ages 60, 65, 70, and 75.

The following chart shows the results. To use this chart, take the annuity payout percentage and find it on the vertical axis. Then see where it meets the appropriate chart line to find the interest rate on the horizontal axis. For example, RBC’s Annuity Calculator tells me that a 70-year old man in Ontario would have to pay $313,820 to get $2000 per month ($24,000 per year) for the rest of his life. This is a payout of 7.65%. The chart says the insurance company needs to earn 1.6% per year on the man’s lump sum to break even.


Of course, this 70-year old man is getting more than just 1.6% interest. He’s also being freed from longevity risk. Well, maybe he’s just being partially freed. After all, the real value of his payments will decline with inflation over the years. Even with the reduced longevity risk, 1.6% interest seems quite dismal. That’s unlikely to keep up with inflation.

I like the idea of reducing longevity risk, but the payouts on annuities just seem way too low. You can see this more clearly if you look at annuities that increase payments every year to account for inflation. The starting payments on these annuities are much lower.

This is just one more example of how you have to sacrifice returns to eliminate risk.

Tuesday, March 17, 2015

The One-Page Financial Plan

In his upcoming book The One-Page Financial Plan, Financial Planner Carl Richards lays out his approach to helping clients with their finances. His methods are certainly far different from the mutual fund salespeople I’ve dealt with in the past. The book gives you a roadmap for figuring out what is truly important to you. The idea is this will put you more at ease with your finances and make future decisions more clear-cut. The book is very well written without much math, making it an easy read.

For Canadian readers, this book contains a few references to 401(k)s (the U.S. version of a Canadian RRSP). Other than that, almost everything in the book applies well to investors in any country.

Richards finds that most new clients expect to hear some sort of financial trick or a hot tip that will make them lots of money. Of course, that doesn’t exist and Richards goes through a set of steps that puts choosing investments last instead of first.

His process begins with the simple question “why is money important to you.” This usually gets some superficial response like “freedom.” Richards then asks more questions until he finally gets what he calls the client’s “values.” In one example, a client’s values included saving enough money to start a family. These values “serve as the lens through which you can view your entire financial plan.”

Next come some financial goals that include specific timelines and costs. It’s normal for initial list of goals to be in conflict with each other because they all compete for money. This is when you go back to the values to see which goals are most important.

Together, your values and goals form your one-page financial plan. “Make sure to give yourself permission to not obsess over [your goals]. Remember that they’re guesses.” Your goals and priorities may shift over time. When faced with financial decisions in the future, you can pull out your one-page plan to guide you.

The next step is to take a close look at your current financial state. This is a fairly simple process, but people have great difficulty with it. “As soon as we start looking at our assets and liabilities, we’re forced to deal with a lot of mistakes and missteps we may have spent months or years trying to forget.”

When it comes to justifying purchases, we frequently “decide what we want, often for emotional reasons, and then we go looking for evidence to support the decision.”

In his pitch to get readers to do some budgeting, Richards says budgeting “allows us the opportunity to see the gap between what we say is important to us and how we spend our money.”

One of Richards’ clients told him that he and his wife sometimes do a “spending cleanse.” “Every once in a while for several days, sometimes as long as two or three weeks, they do what they can to avoid spending money.” The idea is to “shock you out of a [spending] rut you may have been in without even knowing it.”

Richards uses what he calls the “72-hour test” himself. When shopping online, “instead of buying immediately, I keep items in my shopping cart for 72 hours before I hit the checkout button. I was amazed at how quickly this changed my habit. Most of the time, the stuff sits in my cart longer than 72 hours, and I forget about it altogether.”

When it comes to quick financial fixes, Richards says “Stop hoping that a home-run investment will solve your savings problem.” “Stop waiting for the golden ticket; just start saving.”

On the subject of found money: “I strongly suggest putting tax refunds, inheritances, or money you receive as gifts right into savings.”

“Whenever people tell me they’re thinking of buying Apple or Samsung stock because they love their new smart phones, I ask them, ‘Have you read their latest annual report?’” “No one has said yes.”

“It turns out that there’s not a single variable that will help you identify how a mutual fund will perform—except for one. Cost.”

“Instead of getting hung up on predicting when the next downturn will occur, simply accept that it’s inevitable, and focus on sticking to your plan when it does.” I find this kind of attitude comforting. Instead of hoping that stocks keep going up, just give in to the certainty that a crash is coming at some point, followed by a recovery.

Some questions to ask a financial advisor: “Do you get paid (or win) anything based on the products you recommend to me?” and “Do you receive compensation for our relationship from anybody other than me?”

Overall, I quite enjoyed this book, and I think thoughtful readers will get value form it. The book is scheduled to go on sale 2015 March 31. The best part to me was the exercise of trying to identify my financial “values.” If my wife and I can agree on these, the rest of the planning comes fairly naturally.

Friday, March 13, 2015

Short Takes: Freeing Real Estate Information, the Impact of Debt, and more

Here are my posts for this week:

Going from BMO to Tangerine Chequing

The Elephant in the Room with Annuities

Here are some short takes and some weekend reading:

Garth Turner wrote a very interesting piece explaining how important information for real estate buyers is readily accessible in the U.S. but not Canada.

Tom Bradley at Steadyhand has some very sensible thoughts on debt and real estate.

Boomer and Echo liken the new information Canadians will get from their financial advisors (called CRM2) to the Enlightenment centuries ago. This is a bold analogy, and I hope CRM2 proves to open Canadian investors’ eyes to the fees they pay.

Big Cajun Man has some fun playing a variant of buzzword bingo he calls RRSP bingo.

My Own Advisor recommends some books for newbie investors.

Thursday, March 12, 2015

The Elephant in the Room with Annuities

The idea behind annuities sounds great. You get a predictable income for the rest of your life no matter how long you live. This frees you from worries about how much you can safely spend each year. Rob Carrick’s recent article covered many important details concerning annuities. However, he left out a very important part of the discussion. The elephant in the room with annuities is inflation.

Canadians like to complain that their CPP (Canada Pension Plan) and OAS (Old Age Security) payments are too small, but at least they are indexed to inflation. Imagine how small these payments would look if they never changed for 25 years.

An ancestor of mine held a senior position and retired decades ago with what was considered to be a very generous pension. However, the payments weren’t indexed to inflation. By the time he died 23 years later, his monthly pension payments had dropped in value by nearly a factor of 3. Take your current income, divide it by 3, and imagine trying to live on the smaller amount.

When you see an annuity quote, it almost never includes any kind of indexing. This makes the payout seem quite good if you don’t think about the erosion of inflation that starts right away. If you get a quote for an annuity with a built-in 3% increase each year, the starting payout is much lower. Even rarer in Canada is an annuity that is indexed to inflation the way CPP and OAS are. Such inflation-indexed annuities have very low starting payouts.

Some common advice is to wait until you’re in your 70s to buy an annuity. The reason given is usually that the starting payout will be higher when you’re older. The more important consideration is that inflation will have less time to erode your payments. However, you would still be taking on the risk that we might have another period of high inflation.

If you’re considering buying an annuity, look into indexed annuities. Anyone who tells you that indexing isn’t important either hasn’t thought it through properly or is trying to deceive you.

Tuesday, March 10, 2015

Going From BMO to Tangerine Chequing

I’m not quick to make changes in my life. I’ve known for a while that I should move away from my BMO chequing account, but momentum has kept me there. But I finally opened a Tangerine chequing account. The process was less painful than I expected. (Disclosure: Tangerine did not pay me to write this article. I made a choice based on my banking needs. However, I may benefit from this article as described in the final paragraph.)

I’m a happy customer of BMO InvestorLine. Among other great features, their non-registered accounts treat the cash holdings like a regular chequing account. You can get a debit card for it and make cash withdrawals from bank machines. I’ve run my personal transactions through such an account for years. However, they only give 2 free withdrawals per month.

This limitation isn’t too bad for me because I don’t make many transactions. Until a little over a year ago, I paid 60 cents per excess withdrawal. Then it went up to a dollar. While at a cash machine recently I saw an announcement that this would soon rise to $1.25 per withdrawal. This was enough to make me do the work to open a new account and get free transactions from Tangerine. Another bonus is Tangerine will pay me a tiny amount of interest on my balance.

The process of opening a Tangerine chequing account is surprisingly easy. The longest part was writing a cheque to start up the account. But even then I was able to download a Tangerine application to my tablet to take pictures of cheques for deposit. So, I didn’t even have to send anything by snail mail. I did all this on a Friday afternoon and my Tangerine account was open with my money in it by the following Monday morning.

My Tangerine online account even provided a pdf file of a VOID cheque to make it easier for me to have my pay sent to the new account. I’m sure many of us have gone through the payroll ritual at a new job of saying “but I have the chequing account number” and getting the reply, “I’m sorry, but you have to bring us a cheque.”

Once this is fully set up, the biggest change for me will be going to Scotiabank cash machines rather than BMO cash machines, but both are convenient for me.

Now we get to the self-serving part of all this. If you’re a new Tangerine customer and you open an account, you can type in an “Orange Key” code to get a small cash bonus. This code actually belongs to another Tangerine customer. My Orange Key is 43337422S1. If I understand how this all works correctly, if you use it, both you and I get small cash bonuses. But suit yourself. I didn’t open this account to go for bonus money. But I won’t turn it away either.

Friday, March 6, 2015

Short Takes: Leave TFSAs Alone, Lowering Variable Mortgage Rates, and more

After a draw that gave all entries an equal chance, the TurboTax giveaway winners are Michael H., Robert H., and Ali C. Congratulations! I have contacted all 3 winners.

Thanks to everyone who entered the draw! I appreciated the kind messages many of you included with your entry.

I wrote only one post this week about Warren Buffett’s thoughts on individual investors:

How Warren Buffett Thinks You Should Invest

Here are some short takes and some weekend reading:

Malcolm Hamilton makes the case for leaving TFSAs alone. He thinks we shouldn’t double TFSA limits, and he thinks we shouldn’t cut TFSAs back.

Robert McLister explains that your bank doesn’t necessarily have to lower your variable mortgage rate when the Bank of Canada lowers interest rates.

Potato takes on a reader question about whether to index or invest in award-winning mutual funds.

Boomer and Echo make the point that those who complain about low interest rates punishing savers need to properly account for inflation.

Big Cajun Man has a wacky and totally impractical idea for reducing the debt people take on. I’m starting to get the feeling he’s not a fan of going into debt.

My Own Advisor reviews the book The Global Expatriate’s Guide to Investing.

Monday, March 2, 2015

How Warren Buffett Thinks You Should Invest

Warren Buffett’s latest letter to Berkshire Hathaway shareholders contains a brilliant prescription for managing a personal portfolio. I was prepared to write a post quoting a few good lines from his letter, but his message on individual investing on pages 18 and 19 is so good that I will devote the rest of this article to summarizing it.

The goal of investing is to increase the purchasing power of your savings. Over the past 50 years, S&P 500 stocks, with reinvested dividends, have increased in value by a factor of 113, while the U.S. dollar’s purchasing power has dropped by about a factor of 8.

“The unconventional, but inescapable, conclusion to be drawn from the past fifty years is that it has been far safer to invest in a diversified collection of American businesses than to invest in securities – Treasuries, for example – whose values have been tied to American currency.” This was true in the previous 50 years and “it is almost certain to be repeated during the next century.”

Volatility is not the same as risk. “Stock prices will always be far more volatile than cash-equivalent holdings. Over the long term, however, currency-denominated instruments are riskier investments – far riskier investments – than widely-diversified stock portfolios that are bought over time and that are owned in a manner invoking only token fees and commissions.”

Over a single year or less, stocks are riskier than cash-equivalents. Anyone who needs money in the short term should “keep appropriate sums in Treasuries or insured bank deposits.” For the great majority of investors who can invest with a multi-decade horizon, short-term volatility is unimportant. “For them, a diversified equity portfolio, bought over time, will prove far less risky than dollar-based securities”

Investors who fear price volatility may, “ironically, end up doing some very risky things” like “investing in ‘safe’ Treasury bills or bank certificates of deposit.” U.S. stocks have tripled since 6 years ago. “If not for their fear of meaningless price volatility, these investors could have assured themselves of a good income for life by simply buying a very low-cost index fund.”

“Investors, of course, can, by their own behavior, make stock ownership highly risky. And many do. Active trading, attempts to ‘time’ market movements, inadequate diversification, the payment of high and unnecessary fees to managers and advisors, and the use of borrowed money can destroy the decent returns that a life-long owner of equities would otherwise enjoy. Indeed, borrowed money has no place in the investor’s tool kit: Anything can happen anytime in markets.” Nobody “can tell you when chaos will occur. Market forecasters will fill your ear but will never fill your wallet.”

“Huge institutional investors, viewed as a group, have long underperformed the unsophisticated index-fund investor who simply sits tight for decades. A major reason has been fees: Many institutions pay substantial sums to consultants who, in turn, recommend high-fee managers. And that is a fool’s game.”

Returning to my own voice, I see these words as a validation of my own approach to investing:

– Low-cost stock indexes
– Buy and hold
– No leverage
– For money not needed for 5 years, 100% in stocks
– For money needed in less than 5 years, 100% in cash or GICs

This is one article I may reread myself if I ever start to doubt my approach to investing.