Tuesday, March 31, 2009

bond portfolio:
(these are the actual yields from the bond desk available via TD Waterhouse discount brokerage)

1. $40 000 invested in :
John Deere, due OCT 2010. current yield: 3.32902%

2. $40 000 invested in :
Wells Fargo, due FEB 2011. current yield: 4.93884%

3. $40 000 invested in :
John Hancock, due NOV 2011. current yield: 4.88717%

4. $40 000 invested in :
General Electric, due AUG 2012. current yield: 5.81205%

5. $40 000 invested in :
Bank of Montreal, due MAR 2013. current yield: 3.08474%

6. $40 000 invested in :
Molson Coors, due SEP 2014. current yield: 5.50514%

7. $40 000 invested in :
Wells Fargo, due JUNE 2015. current yield: 6.54449%

8. $40 000 invested in :
Shaw Cable, due March 2016. current yield: 6.63298%

the total investment is $320 000. this would leave you with $80 000 in whatever for you choose to keep in hard currency, for a rainy day in a PC Financial no cost, high interest savings account, whatever.
the earnings break down like this, pre-tax each year :
1. $1331.60
2. $1975.54
3. $1954.87
4. $2324.82
5. $1233.90
6. $2202.06
7. $2617.80
8. $2653.19

this is a total of $ 16293.78 in coupon payments every year.
if this was your investment portfolio as a pensioner, with no mortgage or outstanding debts, if this was your only source of income it would be taxed at about 9% or about $1500. leaving you with about $15 000 of after-tax profit to you. you can purchase new bonds, at higher yields whenever a bond comes due and your principal can be protected against inflation. plus your $80 000 in cash that can get you out of trouble no matter what.

the typical stock and bond portfolio?

many advisors will give clients a portfolio with too many stocks and therefore too much risk. however, here is a common list of some dividend paying stocks to be combined with the more conventional bond portfolio which is designed to balance the risks associated with purchasing stocks. the asset mix is approximately 40% stock, 35% bonds, 25% cash - considered a conservative but typical formula given by advisors.


1. $20 000 invested in
Pengrowth Energy Trust (TSE: PGF.UN)
current price: $7.10 current dividend per share: $2.50 %yield= 35%

2. $20 000 invested in
Royal bank (TSE: RY)
current price: $36.78 current dividend per share: $2.00 %yield= 5.4377%

3. $20 000 invested in
Enbridge (TSE: ENB)
current price: $36.35 current divdend per share: $1.48 %yield= 4.9587%

4. $20 000 invested in
Imperial Oil (TSE: IMO)
current price: $45.80 current dividend per share: $0.9523 %yield= 2.07925%

5. $20 000 invested in
Manulife Financial Group (TSE: MFC)
current price: $14.20 current dividend per share: $1.00 %yield= 7.04225%

6. $20 000 invested in
Cineplex Galaxy Income Fund (TSE: CGX.UN)
current price: $14.13 current dividend per share: $1.26 %yield= 8.91719%

7. $20 000 invested in
Encana Corp. (TSE: ECA)
current price: $51.60 current dividend per share: $1.60 % yield= 3.10078%

8. $20 000 invested in
Rogers Communications (TSE: RCI.B)
current price: $31.00 current dividend per share: $1.00 % yield= 3.2258%

1. $20 000 invested in
Government of Canada bond,
due JUNE 2013. current yield= 1.46247%

2. $50 000 invested in
Province of Ontario bond,
due MARCH 2016. current yield= 3.26047%

3. $75 000 invested in
Government of canada bond,
due JUNE 2033. curren yield= 3.6028%

total investment is $305 000, leaving you with $95 000 in an emergency fund, or to make investments when prices are attractive, etc. the yield, pre tax, works like this

for stocks
1. $7040
2. $1086
3. $814
4. $415.20
5. $1408.45
6. $1790
7. $619.2
8. $645

for bonds
1. $292.49
2. $1630.23
3. $2702.10

total income from investment pre-tax= $18442.67
if you were to have no job and rely solely on this income your total tax would be approximately $300 dollars, meaning you take home about $18 000 after tax.

my analysis and discussion will follow.

balanced vs. balanced portfolios

diversification has been spouted as the key to earning money in the stock market.
common sense, and age-old cliche's of putting our eggs in a basket on the way to grandma's house aside, there is considerable evidence that investing across the broad spectrum of the economy, domestically and internationally is a highly reliable strategy in terms of overall captial preservation. I agree with the simple logic of investing in something (eg. a sector of the economy) that makes money when another investment(eg. in a negatively correllated sector) is losing money- a straightforward way to understand and manage economic cycles and volatility.

This is only half the story. the other half is the extra homework that the individual investor must do in order to understands how this concept of diversification applies to their specific context. Are you a young millionaire, who inherits a large steel conglomorate? are you a middle-aged construction site manager with a union-backed pension, 3 kids, and a mortgage on a house that just lost 7% of it's estimated valu? a young or old teacher? a lawyer with the government or a private firm?
all of these people have dramatically different investment needs that can be optimized not only for their earnings potential, but their overall sense of security in their investment. This security is not only psychological, but translates into garaunteed interest payments and return of capital. Diversification, with respect to preserving captial and providing opportunity for earnings growth, -for all of these different people- means different things.

it's difficult to create a portfolio for a sample, or imaginary person, because everyone in real life is so different, so here is what you should do if, at any age, you recieve a one-time windfall of $400000. maybe you had to payoff a mortgage and for kids to go to school and this is the life savings you are left with after you sell your house and move into a smaller place. maybe you are borrowing money on margin to invest. here's two ways to invest it and you can gauge the relative risks and rewards for yourself.
the first is a typical 'balanced portfolio' for someone with a long-term time horizon (10-15 years), which for some of these advisors is an eternity, and the other is for a 'balanced' bond portfolio. both would either allow you to reinvest the yield for the sake of compounding or could be counted as income.
both will be based on current price and yield quotes.

consider the real risks when investing stocks vs. bonds

To purchase a share of a company or to invest in a mutual fund is to say that you are taking a role as "owner" in the business you are the defacto part-owner of.

This sounds so lovely, that you can get the chance, through your investment of your savings, to get into "the game" with the purchase of equities. The demand for your wise investment will only increase over time as the earnings of the company continue to grow. The stable management team understands their marketplace, creates a great product and knows how to market it through all economic cycles.


Except that maybe something changed. A new competitor saw a different way to do the same thing the company you invested in does. suddenly people who you never saw before are telling you that your investment has been "overheated", over-valued, over-bought. Everyone is "taking their profits". you better be sharp or you'll get burned.

Or the Treasury Secretary of the United States announces that the entire economic system is hours away from total bankruptcy and the value of everything evaporates by over 50% in 6 weeks.

It's the same old tired story. One way or another. there are a million ways to make money in the stock market. Everyone loses money the same way- they were confident in placing a bet and they could not predict the future.

if you listen to investment advisors they tell you it's part of the learning process and mistakes are what will make you a better investor... maybe. but the great thing about learning is that you can avoid the mistakes that everyone before you made. The advisors, experts, gurus, talking heads, they ignore the fact that your life-savings are not something you can simply make a mistake with. If you can start out smart, why be stupid?

It's not stupid to buy stocks. If you make a lot of money, it's a great way to invest some of your extra income into a form of savings that will help you reduce some of your overall taxes. But the truth is, it's not much more than that. For years, mainstream culture repeated the idea that equities are the ideal savings vehicle for everyone. Only, for the average person, to understand the amount of fundamental statistical knowledge, historical and current market data, and all global, national and individual corporate revenue projections in the future is MONUMENTAL! it's a full time job. It's why people believe a mutual fund is a good idea. Except that your mutual fund likely lost just as much value as the overall stock market during the meltdown of 08-09.

The conclusion can be reached, from the performance of virtually all mutual funds, that a mutual fund will general perform no better than the overall stock market index. During good times it may outpeform, but will always suffer when the economy as a whole suffers. Is that important to you? I sure know that it is important information to think about when investing in something that charges a lot of money for the service it is supposed to provide.

you could have always been prepared to suffer minimal losses during the meltdown, and you can always avoid meltdowns if you first pick appropriate investments for your unique set of circumstances. Most banks, advisors, and institutions treat human beings like they are nothing more than their job, income and dependents. it's a fallacy and if you take control, educate yourself, and screen out the crap advisors from the good ones, you will invest wisely.

Sunday, March 29, 2009

why your principal investment will always be safe in bonds

Not just government bonds either.
Look at the statistics.
It's difficult to find hard data on the default rate of corporate bonds. They exist in two categories :

1) Investment-grade- meaning the highest ratings for a company's ability to pay back the debt on time with uninterrupted interest payments.
2) High-yield or Junk Bonds- meaning experts, analysts and investors have significant and/or legitimate doubts or concerns about the bond issuer's ability to pay back the debt and/or interest to all the bondholders at the specified dates.

Government of Canada bonds should likely be considered the safest place to protect your money on the face of the earth right now, even more so than US treasury notes.

However, i have looked and from what i can read about the American fixed-income market (i assume the data from Canada wouldn't be wildly different, but beware the difference), the statistics for high-yield, or junk bonds, are as follows:

In good years, the pessimistic estimate on junk bond default rates is one out of every three bonds that is available in the open market will default during the course of a year.

This view is contrasted with several other studies which analyze the data based on slightly different criteria and estimate that in times of relative stability and growth, junk bonds actually default at a rate of around 2-3%. Meaning about one out of every fifty junk bonds in the market during the course of a year will default.

Estimates for this year, based on the economic meltdown have predicted the default rate of junk bonds to be anywhere from 10%-30% for 2009-2010. No one really knows for sure, and the estimate was first around 30% and more recently revised downward to about 10-15%.

From this information, the conclusion can be reached that junk bonds are speculative and perhaps depend largely on the stability of the economy to avoid default.

I'm not posting a source for this info because you should not take my word for it and find out the real risk of a corporate bond defaulting for yourself. I believe this is an accurate estimate only and an outfit like Standard & Poor's should likely have some data- just search "corporate bond default rates" in Google- you will find some reliable (meaning peer-reviewed or widely syndicated) information. It will take searching, so be patient and filter out the misinformation and marketing ploys.

As for investment-grade corporate bonds? What are their typical default rates?
Well, from what i have read, it is typically much, much lower than the default rate of junk bonds.
How low? well, it all depends on the company you decide to purchase a bond from. But the numbers are basically .1% to .01% according to the conservative and optimistic research, respectively.

No investment has a 100% guarantee. Not even the government of Canada can say that absolutely a government of Canada bond is 100% safe. An asteroid could strike the earth, a massive synchronized global terror attack could take out every financial centre on earth, nuclear war could break out. All those terrible, largely unpredicatble and unstoppable events (meaning once it's coming you can't stop it, just try to run and hide) could easily force the Canadian and American governments into default.

What about deposit insurance on a GIC? It's the same concept. If the system fails, the insurance system will fail. If the government defaults, the government insurance agency will likely be forced to do the same thing.
If you read carefully about the FDIC in the USA, during the height of this crisis it was actually, technically on the brink of insolvency. Place that argument in context- it is very, very, very, very unlikely to happen. but nothing is impossible- absolute 100% guarantees on your principal simply do not exist when it comes to investing (or life in general but that's another matter)

But consider also, that some governments that issue bonds and some companies that offer corporate bonds are considered at such a low risk of default (either because of a stable, growing revenue stream or because the company already sits on a great deal of assets) that if you buy one of their bond issues there will be essentially NO RISK OF DEFAULT! More accurately, you will have essentially the same risk of default in an investment-grade corporate bond as you will in a government bond.

Many corporations that issue bonds actually have more revenue and assets than some countries that do not default on their loans. Remember, Wal-mart is one of the biggest economies in the world. Investment-grade companies make it a corporate habit to always honour their debts first and foremost. It's how and why they get the title 'investment-grade' in the first place.

Again, you need to look for yourself to find this information. Don't take my word for it. Or better yet, prove me wrong. I believe the above statements reflect the past, present and likely near and distant future economic reality for investors in the investment-grade corporate, provincial and municipal bond markets.

Friday, March 27, 2009

stocks are for suckers!

Think about it. Why are they called 'common' shares, or 'preferred' shares? because you are just a commoner. or you 'prefer' to be treated like a dog begging for interest rates to remain depressed.

The reality is that equities (a.k.a. the stock market) is dominated by big boys.

mutual funds, pension funds, hedge funds, foreign investment funds. They control billions of dollars in cash on a minute by minute basis. THEY EFFECTIVELY CONTROL THE PRICE OF INDIVIDUAL STOCKS! with their gigantic trades in the hundreds of thousands of units, what effect, if any, will the individual investor have, taking his measly $500-$15000, against a mammoth trade from a corporate pension fund that trades in the millions of dollars per trade?

This market decline is dramatic and has exposed ALL, and I repeat ALL finanacial advisors and gurus who tell people to get into stocks as a wise form of savings and investment as fraudsters!

i'm not trying to be alarmist. The reality is that the stock market is simply a very risky arena for your personal savings. The exact same can be said about starting your own restaurant or becoming a professional poker player. you need a very large bank roll to withstand the dramtic ups and downs in your net worth. It's an area of investment for people with millions of dollars in asstes who also have jobs that already bring in large amounts of steady income.


ONLY these types of people can truly afford to invest large sums of money in the stock market. It is simply too risky if you do not earn at least $100 000 a year from your current job. regardless of your age, if you are someone who does not have a large inheritance and has had to work for your home, your education and to pay for your children and your retirement, you will ALWAYS have a great deal of anxiety if you invest your savings in the stock market. The past 6 months have shown us that anyone is vulnerable to losing 100% of their capital and net worth if it's overly invested in common stocks.

The reality is that everyone loves the idea of a 10%-15% return on their investment. It means that saving 10-15 thousand dollars a year will lead to a more affluent life when you are older. But this is only an average number, people who think that this is the typical return from the stock market take this average too literally. A literalist would put one hand in a pot of scalding water and the other in a pot of freezing water and tell you that the average temperature was nice and warm.

A laddered bond portfolio (investment grade corporates, provincial and municipal) will provide healthy, stable and secure returns. EVEN IF INFLATION RISES you will be able to purchase new bonds, at elevated interest rates.

Remember, when infaltion was at or around 8% in the 70s and 80s, interest rates on investment grade bonds were over 11%. inflation has recently (since the early 90s) been at or around 1-2%. the average yield of a properly constructed laddered bond portfolio is anywhere from 4-7%.

Don't be greedy, 5%. it's the magic number people. your investment will be safe, you can sleep at night, you can pay your taxes and yes, you can even retire.