Here are my posts for the past two weeks:
Aren’t the Banks the Investing Experts?
Temporarily Losing Money on Stocks is Inevitable
Here are some short takes and some weekend reading:
A Wealth of Common Sense takes a look at a hedge fund claiming miraculous performance but sporting a huge number of red flags.
Canadian Portfolio Manager gives preferred ETFs for different asset classes as well as second choices that are suitable for tax-loss selling.
Big Cajun Man shows the impressive list of fees charged for a university term. He’s right when he calls this a business. Universities work hard to extract as much money as they can from students.
My Own Advisor predicts that CRM2 will lead to sticker shock for investors. This is likely true for the many mutual fund investors who think they don’t pay fees. It would be interesting to know how many investors think the fees they now see are new rather than having been hidden in the past.
Boomer and Echo feels paralyzed by huge available TFSA room. I’ve noticed in the past that available RRSP or TFSA room feels like a debt.
Friday, July 29, 2016
Thursday, July 28, 2016
Temporarily Losing Money on Stocks is Inevitable
A common theme among investors who get poor returns over the long run is that they change their investment approach whenever stocks drop sharply. This applies to those who pick their own stocks, ETFs, or mutual funds, but I see it more often with those who work with financial advisors.
It is inevitable that stock markets will occasionally drop 20% or more. We can’t predict when this will happen, but it will keep happening. It’s not your fault or your financial advisor’s fault. It’s not realistic to think you or your advisor should have seen it coming. It makes no sense to change investment strategies or advisors over something we can’t control.
When I hear about an investor changing strategies, sometimes the reason makes sense. For example, seeking lower fees or better advice or both. But too often I hear an investor complain about losses with a previous advisor and deciding to switch to a new advisor. Usually, the losses come from the whole stock market dropping rather than something the advisor did wrong. These investors are destined to bounce from one advisor to another every time the stock market drops and pay huge fees the whole way.
When you place some fraction of your savings into stocks, keep the following in mind. It is inevitable that their price will have a gut-wrenching drop at some point. There is no point in hoping it won’t happen. On average, stocks go up over time, but they drop sometimes. Get used to this idea or reconsider your asset allocation.
It is inevitable that stock markets will occasionally drop 20% or more. We can’t predict when this will happen, but it will keep happening. It’s not your fault or your financial advisor’s fault. It’s not realistic to think you or your advisor should have seen it coming. It makes no sense to change investment strategies or advisors over something we can’t control.
When I hear about an investor changing strategies, sometimes the reason makes sense. For example, seeking lower fees or better advice or both. But too often I hear an investor complain about losses with a previous advisor and deciding to switch to a new advisor. Usually, the losses come from the whole stock market dropping rather than something the advisor did wrong. These investors are destined to bounce from one advisor to another every time the stock market drops and pay huge fees the whole way.
When you place some fraction of your savings into stocks, keep the following in mind. It is inevitable that their price will have a gut-wrenching drop at some point. There is no point in hoping it won’t happen. On average, stocks go up over time, but they drop sometimes. Get used to this idea or reconsider your asset allocation.
Wednesday, July 27, 2016
Aren’t the Banks the Investing Experts?
I listened to a few young people discuss where to go for help investing some savings and one asked whether the banks are the right experts. After all, they handle all the money. Wouldn’t they know more about investing than anyone else? It has taken me a while to think of a reasonable answer.
It’s true that Canadian banks have massive resources and could probably use them to try to generate above-average investment returns. However, they have little incentive to do this with your money. It’s so difficult to beat the market with a massive portfolio that it’s not worth their effort to try very hard.
Banks have an obligation to their shareholders to seek profits. They make money on assets under management. This means they focus on getting your money in the door and keeping it there. Generating above-average profits for you only helps the banks a little, and trying to do so is expensive. All they really have to do is avoid terrible returns so you won’t take your money elsewhere.
When you invest with a bank, they add your money to their mutual funds, GICs, etc. and it becomes part of the massive pool they dip into periodically to add to their profits. You may imagine them working feverishly to invest all this money wisely, but in reality they devote much more effort to drawing people in to invest more money.
One positive with banks is that they are relatively safe. Not perfectly safe, though. Mutual funds do lose money, and GIC interest often fails to keep up with inflation. However, banks are unlikely to outright steal your money. Unfortunately, every investment they offer contains unreasonably large fees that few people understand well.
It’s not just the banks that focus mainly on pumping up their assets under management. Much of the mutual fund industry is the same. But there are exceptions. The challenge is that you need to learn on your own to be able to distinguish a good investment approach from a poor one. You also need to to be knowledgeable to distinguish a good financial advisor from a poor one. I don’t know any shortcuts to finding a good way to invest your savings.
It’s true that Canadian banks have massive resources and could probably use them to try to generate above-average investment returns. However, they have little incentive to do this with your money. It’s so difficult to beat the market with a massive portfolio that it’s not worth their effort to try very hard.
Banks have an obligation to their shareholders to seek profits. They make money on assets under management. This means they focus on getting your money in the door and keeping it there. Generating above-average profits for you only helps the banks a little, and trying to do so is expensive. All they really have to do is avoid terrible returns so you won’t take your money elsewhere.
When you invest with a bank, they add your money to their mutual funds, GICs, etc. and it becomes part of the massive pool they dip into periodically to add to their profits. You may imagine them working feverishly to invest all this money wisely, but in reality they devote much more effort to drawing people in to invest more money.
One positive with banks is that they are relatively safe. Not perfectly safe, though. Mutual funds do lose money, and GIC interest often fails to keep up with inflation. However, banks are unlikely to outright steal your money. Unfortunately, every investment they offer contains unreasonably large fees that few people understand well.
It’s not just the banks that focus mainly on pumping up their assets under management. Much of the mutual fund industry is the same. But there are exceptions. The challenge is that you need to learn on your own to be able to distinguish a good investment approach from a poor one. You also need to to be knowledgeable to distinguish a good financial advisor from a poor one. I don’t know any shortcuts to finding a good way to invest your savings.
Saturday, July 16, 2016
Short Takes: Trailing Commissions, Spooking Index Investors, and more
I’m losing track of the days while on vacation, so I’m a day late with my short takes. Here are my posts for the past two weeks:
Possible Ban on Trailing Commissions
No Fear: Tales of a Change Agent
Home-Buying Dreams
Here are some short takes and some weekend reading:
Tom Bradley clearly explains the issues at stake in the battle over banning mutual fund trailing commissions.
Dan Bortolotti offers a cynic’s guide to spooking index investors. He gets important messages across and he’s funny.
The Reformed Broker has a story about fund companies whose employees sue to not have to eat their own cooking in their retirement plans. It’s funny and sad at the same time.
Preet Banerjee’s video explains why 0% financing on a car might actually be more expensive than paying interest on a car loan from another lender.
Canadian Couch Potato and Justin Bender have updated their excellent paper on foreign withholding taxes to take into account recent ETF changes. Fortunately for me, holding U.S.-listed ETFs for foreign stocks in an RRSP still gets their thumbs up.
Mr. Money Mustache has some practical ideas for making big changes in your life to free up time and money.
Million Dollar Journey answers some questions about the Smith Manoeuvre. This is a risky strategy only suitable for a minority of investors. You need to have high risk tolerance and the ability to handle the details correctly to maintain tax deductibility.
Boomer and Echo wrote an open letter to air miles to complain about some nasty tricks that devalue the miles. I have a tough time getting too excited because I expect all such programs to devalue their points or miles once there is a large outstanding balance.
Big Cajun Man discusses his four best investments. It may not be what you’re expecting.
My Own Advisor says your net worth is misleading if you include assets you have no plan of selling or fail to take into account taxes.
Possible Ban on Trailing Commissions
No Fear: Tales of a Change Agent
Home-Buying Dreams
Here are some short takes and some weekend reading:
Tom Bradley clearly explains the issues at stake in the battle over banning mutual fund trailing commissions.
Dan Bortolotti offers a cynic’s guide to spooking index investors. He gets important messages across and he’s funny.
The Reformed Broker has a story about fund companies whose employees sue to not have to eat their own cooking in their retirement plans. It’s funny and sad at the same time.
Preet Banerjee’s video explains why 0% financing on a car might actually be more expensive than paying interest on a car loan from another lender.
Canadian Couch Potato and Justin Bender have updated their excellent paper on foreign withholding taxes to take into account recent ETF changes. Fortunately for me, holding U.S.-listed ETFs for foreign stocks in an RRSP still gets their thumbs up.
Mr. Money Mustache has some practical ideas for making big changes in your life to free up time and money.
Million Dollar Journey answers some questions about the Smith Manoeuvre. This is a risky strategy only suitable for a minority of investors. You need to have high risk tolerance and the ability to handle the details correctly to maintain tax deductibility.
Boomer and Echo wrote an open letter to air miles to complain about some nasty tricks that devalue the miles. I have a tough time getting too excited because I expect all such programs to devalue their points or miles once there is a large outstanding balance.
Big Cajun Man discusses his four best investments. It may not be what you’re expecting.
My Own Advisor says your net worth is misleading if you include assets you have no plan of selling or fail to take into account taxes.
Thursday, July 14, 2016
Home-Buying Dreams
I’ve written several times about the benefits of renting in Canada’s high-priced housing market (see here, here, and here). What I hear back from many young people is some version of the following:
This is quite understandable. I bought my current home to suit my children’s needs. We’re near a school and have a nice big yard they played in when they were younger. I can certainly understand why my sons and their peers want the same thing for themselves and their own families.
Unfortunately, today’s house prices are much higher relative to incomes than they were when I was starting out. For many young people today, stretching to buy the house of their dreams is a bad idea financially.
Does this mean the dream of owning a house is dead? Absolutely not. The path may be different from what it was for me and possibly more difficult, but there is still a way.
The first thing to realize is that Rome wasn’t built in a day. Most of my peers rented apartments for a few years before they bought a home. My own path involved renting apartments, then renting a row house before I bought my first house.
The key while in the renting phase is to save money. Owning a home comes with property taxes and significant upkeep and repair costs. Renters should be able to build savings while they rent.
Another thing to realize is that renting doesn’t necessarily mean living in an apartment. While it makes sense to start out with cheaper rents, it’s certainly possible to rent row houses or even a detached home once your income can support the rental cost.
If housing prices remain high for some time, millennials my end up renting longer than my peer group did, but that could change. For anyone who rents and builds savings, a housing crash could be the perfect opportunity to jump into home ownership. But you have to be saving a down payment to be able to take advantage of lower house prices.
There is nothing wrong with building a career and savings while renting progressively nicer places to live. You might even choose to rent a nice place to raise children. There is no need to put off having a family because you want to own a home first. The important barriers are income and savings, not home ownership. At some point while building a good life based on renting, you may benefit from a housing crash and jump into buying a home.
It’s hard to imagine how housing prices can keep climbing as fast as they have been. Who could afford to buy homes at double today’s prices? I know that sounds dangerously close to making a prediction, but we’ve had many cases of house prices dropping in the past, and there is no reason to believe it won’t happen in the future.
But owning a home is one of my dreams. I want to have children and raise them in a house, not some apartment.
This is quite understandable. I bought my current home to suit my children’s needs. We’re near a school and have a nice big yard they played in when they were younger. I can certainly understand why my sons and their peers want the same thing for themselves and their own families.
Unfortunately, today’s house prices are much higher relative to incomes than they were when I was starting out. For many young people today, stretching to buy the house of their dreams is a bad idea financially.
Does this mean the dream of owning a house is dead? Absolutely not. The path may be different from what it was for me and possibly more difficult, but there is still a way.
The first thing to realize is that Rome wasn’t built in a day. Most of my peers rented apartments for a few years before they bought a home. My own path involved renting apartments, then renting a row house before I bought my first house.
The key while in the renting phase is to save money. Owning a home comes with property taxes and significant upkeep and repair costs. Renters should be able to build savings while they rent.
Another thing to realize is that renting doesn’t necessarily mean living in an apartment. While it makes sense to start out with cheaper rents, it’s certainly possible to rent row houses or even a detached home once your income can support the rental cost.
If housing prices remain high for some time, millennials my end up renting longer than my peer group did, but that could change. For anyone who rents and builds savings, a housing crash could be the perfect opportunity to jump into home ownership. But you have to be saving a down payment to be able to take advantage of lower house prices.
There is nothing wrong with building a career and savings while renting progressively nicer places to live. You might even choose to rent a nice place to raise children. There is no need to put off having a family because you want to own a home first. The important barriers are income and savings, not home ownership. At some point while building a good life based on renting, you may benefit from a housing crash and jump into buying a home.
It’s hard to imagine how housing prices can keep climbing as fast as they have been. Who could afford to buy homes at double today’s prices? I know that sounds dangerously close to making a prediction, but we’ve had many cases of house prices dropping in the past, and there is no reason to believe it won’t happen in the future.
Monday, July 11, 2016
No Fear: Tales of a Change Agent
Having worked at Nortel years ago, I was interested enough to read Tim Dempsey’s book, No Fear: Tales of a Change Agent, mainly for its alternative title, or Why I Couldn’t Fix Nortel Networks! I was hoping to get more insight into the causes of Nortel’s demise. Too many other accounts focus on Nortel’s final years when little could have been done to save the company. I was hoping for more insight into what went on in the final years of the tech bubble ending about the year 2000.
Unfortunately, the book only makes passing references to the excesses of that period when Nortel made a number of choices to please analysts and keep its stock rising. Nortel hired indiscriminately to meet growth expectations and describe itself as having “over 90,000 employees worldwide.” It also grew through numerous acquisitions. But likely the most damaging activity came from trying to meet revenue and profit expectations. Nortel built billions of dollars’ worth of telecom equipment and shipped it to “customers” who had little expectation of ever paying for it. This gave apparent immediate profits but ultimately led to enormous financial losses from which the company never recovered.
This book is primarily about Dempsey’s career in human resources at Nortel. He believes that Nortel’s “colossal collapse” came because he “was unable to effectively change the leadership system.” I doubt that a better management style would have saved the company. The top level of the company made conscious decisions to boost the stock in the short term to the detriment of Nortel’s long-term health.
In the Preface, Dempsey describes Nortel in September of 2000 as “soaring” with “$30 billion in sales.” Unfortunately, in later restatements, Nortel admitted to losing tens of billions of dollars in the early 2000s. All was not how it seemed before the bubble burst.
In discussing poor acquisitions, Dempsey explains that “an HR exec did some research on specific acquisitions that we made and discovered that we had never met the business case of a single one.” But I bet the stock price went up anyway.
At a Nortel executive leadership forum in 2000, “a long-term career Nortel employee ... gets up and expounds ‘The market’s not as big as marketing says it is; I don’t believe the numbers.’ ... he was no longer seen as a ‘team player.’” Sadly, being a team player in this case means helping to prop up the stock price by not pointing out obvious truths.
At one point Dempsey describes a conversation between a business unit CFO and a corporate executive. The CFO wanted approval for a “deal that would land a big order if we were willing to finance the whole package.” The word “finance” in this context is a euphemism for shipping equipment to a customer who would never pay and pretending the “deal” is profitable. Dempsey explains: “financing of deals led to a lot of pain. We need top line growth, so we find someone who is willing to take our money to buy our equipment, thereby driving up our forecasts and, at the time, our stock price. Many of these customers did not have established business models or track records, and some were never able to pay off these bills.”
At one point Dempsey refers to “accounting mishaps.” This is a very generous way to describe false financial statements. It may not be possible to prove anything about Nortel’s intent at the time, but it is naive to think that these were just inadvertent mistakes.
For anyone who has ever played buzzword bingo, one particular sentence in the book sticks out: “we led many projects, seeking numerous objectives, hopefully synergistically and reinforcing in a systemic way, to steer us to some tipping point that would make the change inevitable.” This sentence is a good reminder that the book is primarily a story of Dempsey’s career in HR and only small parts are directly related to Nortel’s business activities.
As the tech bubble inflated and the value of stock options held by executives grew astronomically, Nortel did what was necessary to keep its stock price rising. It hired recklessly, made acquisitions, and built billions of dollars’ worth of telecom equipment and sent it to “customers” who would never be able to pay for it. Dempsey thinks the problem was leadership style and other commentators think the important mistakes were made in Nortel’s later years. Why do we need to search for subtle problems within Nortel when its actions during the tech bubble were more than enough to destroy the company?
Unfortunately, the book only makes passing references to the excesses of that period when Nortel made a number of choices to please analysts and keep its stock rising. Nortel hired indiscriminately to meet growth expectations and describe itself as having “over 90,000 employees worldwide.” It also grew through numerous acquisitions. But likely the most damaging activity came from trying to meet revenue and profit expectations. Nortel built billions of dollars’ worth of telecom equipment and shipped it to “customers” who had little expectation of ever paying for it. This gave apparent immediate profits but ultimately led to enormous financial losses from which the company never recovered.
This book is primarily about Dempsey’s career in human resources at Nortel. He believes that Nortel’s “colossal collapse” came because he “was unable to effectively change the leadership system.” I doubt that a better management style would have saved the company. The top level of the company made conscious decisions to boost the stock in the short term to the detriment of Nortel’s long-term health.
In the Preface, Dempsey describes Nortel in September of 2000 as “soaring” with “$30 billion in sales.” Unfortunately, in later restatements, Nortel admitted to losing tens of billions of dollars in the early 2000s. All was not how it seemed before the bubble burst.
In discussing poor acquisitions, Dempsey explains that “an HR exec did some research on specific acquisitions that we made and discovered that we had never met the business case of a single one.” But I bet the stock price went up anyway.
At a Nortel executive leadership forum in 2000, “a long-term career Nortel employee ... gets up and expounds ‘The market’s not as big as marketing says it is; I don’t believe the numbers.’ ... he was no longer seen as a ‘team player.’” Sadly, being a team player in this case means helping to prop up the stock price by not pointing out obvious truths.
At one point Dempsey describes a conversation between a business unit CFO and a corporate executive. The CFO wanted approval for a “deal that would land a big order if we were willing to finance the whole package.” The word “finance” in this context is a euphemism for shipping equipment to a customer who would never pay and pretending the “deal” is profitable. Dempsey explains: “financing of deals led to a lot of pain. We need top line growth, so we find someone who is willing to take our money to buy our equipment, thereby driving up our forecasts and, at the time, our stock price. Many of these customers did not have established business models or track records, and some were never able to pay off these bills.”
At one point Dempsey refers to “accounting mishaps.” This is a very generous way to describe false financial statements. It may not be possible to prove anything about Nortel’s intent at the time, but it is naive to think that these were just inadvertent mistakes.
For anyone who has ever played buzzword bingo, one particular sentence in the book sticks out: “we led many projects, seeking numerous objectives, hopefully synergistically and reinforcing in a systemic way, to steer us to some tipping point that would make the change inevitable.” This sentence is a good reminder that the book is primarily a story of Dempsey’s career in HR and only small parts are directly related to Nortel’s business activities.
As the tech bubble inflated and the value of stock options held by executives grew astronomically, Nortel did what was necessary to keep its stock price rising. It hired recklessly, made acquisitions, and built billions of dollars’ worth of telecom equipment and sent it to “customers” who would never be able to pay for it. Dempsey thinks the problem was leadership style and other commentators think the important mistakes were made in Nortel’s later years. Why do we need to search for subtle problems within Nortel when its actions during the tech bubble were more than enough to destroy the company?
Tuesday, July 5, 2016
Possible Ban on Trailing Commissions in Canada
The Canadian Securities Administrators (CSA) has issued a proposal to ban mutual fund embedded commissions. This would force financial advisors to charge their clients directly instead of getting commissions from the mutual funds that hold their clients’ investments. Whether this makes sense depends on how we view the mutual fund industry.
There are two extreme narratives that characterize the fund industry in Canada. Which one you think is closer to the mark will likely decide whether you support CSA’s proposed changes.
Narrative 1: Financial advisors are hard-working professionals who must be paid for the initial work they do for their clients and must be paid a lesser amount each year for their ongoing work helping their clients. Paying the advisors out of client assets within mutual funds is just a convenient way to complete the transaction with a minimum of hassle for clients.
Narrative 2: Mutual funds that pay trailing commissions know that investors are clueless about costs and have conspired with advisors to increase fees to punishing levels and split the spoils. The embedded commission model is designed to keep investors in the dark.
Obviously, there is some truth in both narratives. But which one dominates? As the latest changes to the Client Relationship Model (known as CRM2) come into full effect, no doubt reality will be pushed somewhat away from Narrative 2, but how much? Is CRM2 enough or do we need to ban embedded commissions entirely?
My own opinion is that there is too much truth in narrative 2. There are certainly some good pockets within Canada’s mutual fund industry, but banning embedded commissions is needed. If it happens, it will cause big changes.
There are two extreme narratives that characterize the fund industry in Canada. Which one you think is closer to the mark will likely decide whether you support CSA’s proposed changes.
Narrative 1: Financial advisors are hard-working professionals who must be paid for the initial work they do for their clients and must be paid a lesser amount each year for their ongoing work helping their clients. Paying the advisors out of client assets within mutual funds is just a convenient way to complete the transaction with a minimum of hassle for clients.
Narrative 2: Mutual funds that pay trailing commissions know that investors are clueless about costs and have conspired with advisors to increase fees to punishing levels and split the spoils. The embedded commission model is designed to keep investors in the dark.
Obviously, there is some truth in both narratives. But which one dominates? As the latest changes to the Client Relationship Model (known as CRM2) come into full effect, no doubt reality will be pushed somewhat away from Narrative 2, but how much? Is CRM2 enough or do we need to ban embedded commissions entirely?
My own opinion is that there is too much truth in narrative 2. There are certainly some good pockets within Canada’s mutual fund industry, but banning embedded commissions is needed. If it happens, it will cause big changes.
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