LET'S BOND!

Spread ‘em

2010-04-13T13:43:00.002-04:00

I previously posted that 3.60% would be a benchmark for 2010 with respect to the Canadian bond market.

Recently, the 10-year benchmark has surged passed this yield- higher than 3.7%- and is currently sitting at 3.66%.

What does it mean to me? Do I think interest rates are clearly on a path upward? Do I need to sell my longest maturity bonds in order to avoid destruction in my net worth?

1) It means a great deal, I believe that the Canadian bond market and bond markets around the world are still sitting at the turning point created by the financial crisis.

2)I think it's wrong to predict with certainty the direction of this and that security. I think the shape of the yield curve is just as important as the nominal benchmark yields

3) I don't need to sell any of my bonds because I don't have any maturities longer than 9 years right now and I own only a moderate allocation (less than 10%) of my portfolio at those longer maturities.

At the end of March, the US Fed Reserve Bank ended its purchasing of housing bonds and other short-term bonds, and US bond markets sold off dramatically. The US 10-year yield moved from close to 3.6 to 3.98% in a matter of weeks and there was worry about the ability of the US to finance its debt with elevated rates and premature economic growth. The next week a hugely subscribed auction reinforced positive sentiments in US treasuries and the 10-year benchmark is currently trading closer to 3.84% and has been rallying to head back below 3.8%.

Canada is still tied to the US and so are all the financial markets. Thankfully, Canada is not tied to Greece and Europe. But when the fundamentals and the perception in the US changed with respect to the 10-year, it did likewise in Canada (the 1-year and 2-year have behaved in a different manner previous to the US sell-off, along with the currency).

Since the end of March, yields have moved from close to 3.5%, past my previously mentioned benchmark of 3.6%, and are now to closer to 3.65% over the past week or so.

Was 3.7% a good time to buy? Compared to December when 3.6% seemed like a lot, I suppose, but only if you are buying solely government bonds. I'll talk later about why this change wasn't the buying opportunity for corporate bonds that December 2009 was.

It all relates to a crucial factor that amateur investors, advisors and even some professionals routinely miss.

It has nothing to do with the stock market, though it is related to corporations.

The spread between all the various sectors of the corporate bond market have reacted in an enlightening fashion for the astute observer.

Clearly, the central bank has changed its intention with respect to interest rates and the Canadian dollar. The gradual ascent of the Loonie has allowed many businesses to cope with the currency exchange and to retool and increase productivity for the first time in ages. The markets have demonstrated anticipation of a 50pbs rate hike on short term Canadian treasuries within the next six months. If the economy and currency continue to enjoy a post-Olympic golden aura and the price of energy and commodities continue to rise, its possible short term interest rates could rise more than a full percent, or at least 100 bps. In this scenario 2-year could = 2.8-3.3%, 10-year = ?

The 3.6% benchmark that I called in December is important because 10-year benchmarks haven't had the same dramatic shift that Canadian 2-year yields and US 10-years have had.

The key feature to focus on is the average yield of 10-year corporate bonds and their spread from the government benchmark. Back in December, the spread was still contracting about 20 bps every three months. Meaning on average corporate 10-year investment grade bond yields were declining .2% in interest payments. Now, that spread has stopped contracting.

If you purchased a bond in the recent sell-off, you were not being rewarded any extra capital gain for keeping your money in 'riskier' corporate bonds, though the value of your bonds has held up even stronger than the 10-year government bond if you already held a 10 year bond.

This is important for my bench mark prediction, because when the 10-year reached 3.6%, it's the same moment when yield spreads on corporate and government debt stopped contracting.

While the value of long-term bonds has been decimated this month, my corporate bonds have all kept their value, suffering 1-2% declines at most. Industrial and real-estate bonds have increased in price almost 5% during this time. Will they keep rising for those wishing to build a portfolio now? It's possible, but it's better to observe and understand the market before investing.

Understanding the spread changes (or lack of) tells me that things are about to change in the bond market. My intuition tells me rates won't necessarily rise as much or as evenly as people currently think. 100bps is a lot of central bank tightening to do in 12 months. But Australia has a 4.5% short-term government rate... nothing is impossible with a resource-rich, stable, diverse, robust and productive economy- Canada, eh.

Does it mean buy, sell, hold? I've said since December that holding off from buying bonds unless the deal was too sweet is prudent. The bond market has been giving the signal to wait (the signal is when you have no idea what the signal is) and I think it remains a wise strategy. Still, intuition tells me there will be periodic buying opportunities. Likely around end of May, June or July when older debt matures and corporations seek to roll over the debt, and when a rate hike is being talked about as if it's already happened in the news. As for selling, do it if you own something longer than 10 years in maturity. There is hidden risk in 20 and 30+ year debt that the average investor doesn't consider. In my opinion, long-term bonds have as much risk in this economic climate as hedge funds, mortgage backed securities, derivatives, ACBP, CDOs, etc. There are simply too many unknowns in every market place to plan past a possible 2^nd Obama term. My intuition and the evidence point me to believe that interest rate hikes will be slowly incorporated into the global recovery, allowing for short and medium term bonds to simply mature before reinvestment.

But just imagine if short term rates rise to 3%, and you purchase a 10 year bond this year for 3.5%? In one year you would have a 9-year bond, yielding 3.5% when it's possible that a 3-year bond could offer a similar yield. The value of your bond would be adjusted to match the equivalent 9-year market prices and yields. If the yield curve remains steep, long term rates will rise and if you tried to sell, you could be decimated.

Just be careful, and for the love of god, don't buy a bond fund.

Ahead of the curve

2010-03-03T15:04:00.003-05:00

The Globe and Mail has now reported the recent bond sale by Brookfield Asset Management.

I just learned from this article these bonds can be redeemed if the company suffers a credit rating downgrade.

That's a pretty safe feature and highlights another 'can't-lose' aspect to this bond issue which made it so attractive for individual investors.

The fact that I can report this story on my blog the day before a major financial reporting blog, with more detail and context, is due to two factors.

First, a skilled, experienced and involved investment advisor is a necessary precondition for developing a deeper knowledge of the investment community.

Second, my own willingness to follow the flow of information in fixed income markets and a willingness to interact and work with my investment advisor.

A skilled and connected advisor has years of experience working with markets and traders. They manage hundreds of millions and sometimes billions of dollars over decades. They protect the wealth of their clients during market crashes and they earn real, positive returns over the long term. In essence, they have seen people make millions and seen people go broke. They have survived and grown a large book of clients because they are stable wealth managers. They have the best ability to contextualize a clients personal needs and the financial environment within which they are living (ie. They understand better than most, through hands on experience, how the yield curve and interest rate cycles affect prices and yields for products and securities).

Having your own passion for knowing about the bond market isn't the easiest thing to have. It's something that usually happens late in life when you've finally tried every crazy scheme to make money and failed. Following the bond markets opens up a new world of medium and long-term investing where risk and return have inverted meaning compared to the mass-marketed, stock-market oriented education materials. The hidden world of Over-The-Counter (meaning corporate bonds are sold to retail customers privately- there is no central exchange to list sale prices for corporate bonds) fixed-income securities might seem to resemble a shadow cult, capable of mobilizing vast sums of money and deploying them for purposes of world domination. That might seem like something ridiculous, boring or unappealing for many forward thinking and capital gains/dividend-growth oriented individuals. The mainstream press would have you absolutely convinced half your savings must be in stocks and that bonds cannot be risked against stocks and must be kept in government securities. You must go out of your way and work to understand how you can personally take advantage of the bond market.

Without the willingness to reject a path-of-least-resistance way of thinking and investigate the real nature of the financial markets, and then applying that knowledge with a carefully selected advisor, the DIY investor will always be a day behind the headlines. Any individual who takes the time to find a skilled advisor (they can be young and well-trained, too), to educate themselves about the bond markets, and build a successful relationship with their advisor is truly ahead of the curve.

BAM!

2010-03-02T18:54:00.001-05:00

A-rated and BBB-rated investment-grade corporation.

5.2% interest for 6 years, a 5 year GIC yields approximately 3%. If interest rates remain relatively low, even if the bank of Canada raises its key lending rate by .25% every 8 weeks until it reaches 4% or 5%, this bond is of such a short term that it will likely never trade lower (at least not significantly lower) than it's par value.

http://www.reuters.com/article/idUSN0217288420100302

http://www.financialpost.com/news-sectors/story.html?id=2632465

Brookfield Asset Management has emerged from the global recession as a relatively strong company, according to recent press.

The executives of Brookfield are using their position of liquidity and prosperity to make up for previous losses and generate increased revenue and profits in the future. In order to increase profits they are buying properties from distressed and bankrupt sellers in the hopes of obtaining deeply undervalued properties and companies.

Some of the distressed properties and companies that Brookfield is pursuing carry long term debt. Servicing and repaying that debt was part of what led to the failure of these properties and corporations. Since a smaller, insolvent company cannot borrow money at any reasonable rate for any reasonable amount of time, the executives of Brookfield can use their investment-grade credit rating to roll-over the outstanding debt at a rate that satisfies the demands of fixed-income investors while keeping the debt service payments that Brookfield is assuming from rising. In this situation both the lender and borrower benefit and more economic activity is sustained overall and more money is made for all parties, than if the bond market had not been utilized.

Unless of course, the new properties and businesses that Brookfield purchases turn out to be less profitable than they anticipate. In that situation, Shareholders would realize dramatic decreases in earnings per share and suffer steep losses. Bond holders would keep their senior notes for 6 years and take their guaranteed interest payments and evaluate the company again when the bonds mature.

It hasn't been reported, but I know for a fact that this bond issue was sold out in approximately 3 minutes. That's all the time that the different banks not named RBC and CIBC had to decide if they were going to take a piece of this action. In this modern age of instant information, 3 minutes is hard to contextualize. Normally, new issues will be available for days or weeks (depending on market volatility and credit ratings). Compared with other 10 year bonds, yielding similar coupon payments that were floating around in December without a buyer in sight, 3 minutes tells you that there was zero doubt that this was an attractive investment product for any prospective buyer.

How do you get in on a deal like this? You have to have a good advisor who understands and works with the fixed-income desk regularly. Equally important, you have to work with your advisor regularly so that they are thinking about your account and your needs when new issues arise.

February blues... Bombardier is waiting for you to ask for less money... wait for them to capitulate.

2010-02-16T14:18:00.006-05:00

The US indexes are at flat price levels since the beginning of the fall of '09 while the US dollar rises in value as European investors are feeling the effects of unsustainable debt levels post-meltdown.

The TSX has remained above 11000 while the benchmark 10 year government of Canada bond is trading with a yield as low as 3.35% (on February 8^th 2010) and as high as 3.6% just a few weeks prior to that. It's clear that the end of the year (around Christmas) was a buying opportunity relative to the past 6 weeks and will likely be a benchmark for the year ahead among bond vigilantes.

The governor of the Bank of Canada has reaffirmed there is no need to raise interest rates because of the high value of the Canadian dollar and the weak demand from our largest trading partner, the US.

So what to do if you missed out on a chance to buy bonds when they were on sale at the end of 2009, you don't have confidence investing in the stock market and you don't consider yourself a 'gold-bug'?

Taking a look at the corporate debt market in Canada on a regular basis is a necessary ingredient to constructing a top-performing and investment grade portfolio. I've expressed often the need to wait for the right opportunity to strike and the ability to accept having missed buying opportunities. Here is a link to an article about the current pullback from borrowers who are immediately facing higher costs.

Waiting for the next right opportunity is critical. Often, unsophisticated and sophisticated investors alike will regret their inability to make an attractive purchase. Faced with this deficit of opportunity cost, the unwise investor is prone to seek out the "next-best" alternative. Be it a competitor or an 'uncorrelated' security. The unwise view their time and labour as wasted the moment they become aware of a missed opportunity. This emotional response then triggers a panic reaction, where no further time can be allowed to waste while cash is "sitting on the sidelines" and "earning you nothing". Once the emotional responses have kicked in for the unwise investor, they are on a self-fulfilling path of hasty decision making.

The "next-best" choice is one which is typically not on the radar of those who miss an opportunity but quickly becomes the sole focus of the unwise investors' attention. Because there is this view of opportunity and time already having been lost, a clear decision has to be made as soon as absolutely possible and hence little time is given to the vigorous research that was given to the original opportunity.

Needless to say, an investment that is not prudently researched and investigated is not called an investment, it is called speculation. Unwise investors doom themselves to poor returns because of a failure to properly understand the nature of what they are investing in and the current market conditions within which they find themselves. The sophisticated and experienced investors of this world take a different perspective on the nature of the time they devote to selecting their particular investments.

To the wealthy and powerful, the reality is that most deals- be they good, bad, awful, average or fantastic- most deals simply cannot be finalized. Staying power is a necessary precondition to achieving your objectives for this reason. If you seek to create a sustainable development project, if you wish to run a hedge fund or sell commercial real estate- the only way to truly be considered a success is to be able to self-perpetuate your operations indefinitely and withstand the missed opportunities that occur. Staying power is a tool for a successful life, investment career or business because of the dynamic nature of society, where opportunity is continually (though irregularly) available.

back to the Canadian bond market:

My investing strategy with respect to provincial, municipal and inflation-protected bonds has shifted dramatically from last year. At the height of the financial meltdown, provincial bonds with a 10 year maturity were available with interest rates approaching 6%. Currently the yield on most provinces is around 4% for a 10 year bond. Consequently I'm enjoying a period of my life where I would rather trust my savings and investments with bonds in investment-grade corporations rather than governments. The current situations with Europe and Greece and Dubai have all confirmed the ongoing frailty of the entire global system of finance and the frugality with which every investment must be vetted. Canadian government and agency debt (though safe) is extremely expensive (meaning substandard future returns) relative to historical standards.

Strategically, I'm currently holding more interest bearing cash (no money market funds of any kind, just cashable GICs or equivalents that offer total security, liquidity and some positive return, however minimal by historic standards). I'm watching as companies like Bombardier are waiting for the right time to enter the bond market. Some will be forced to come to the market for various reasons and it will be interesting to see how willing corporations will be to sell bonds. If it's possible to gain 5-7 year bonds from corporations like bombardier that are paying close to 8.5% in coupon payments, it is a tempting offer- just not for Bombardier shareholders. It would mean that they would be forced into setting aside millions of dollars of extra cash for interest payments, which would have an overall effect of reducing earnings for years.

Rising interest rates are bad for borrowers (corporations and individuals alike) and good for lenders. While you might face a financial statement that has dropped in value if you already own a large amount of bonds, if you have a lot of cash on hand, you will not have to realize any losses and your entire principal is still promised to be returned upon maturity.

Typically I would anticipate that corporations and governments alike will begin to capitulate throughout the remainder of the year. Credit is like the blood flowing through the organism that is the global economy. Greece, Dubai, Europe, America- They all run consistent deficits. The only way they can remain functional states is through selling bonds every year (corporations typically sell bonds for extra 'no questions asked' cash that they can use for any purpose management deems fit). As complex rescue packages, austerity programs and corporate downsizing all continue to improve short-term growth, they can't overcome the reality of historic losses and record debt that require significant financial restructuring.

The lesson should be self-evident as it is a self-reinforcing principle of human psychology and behaviour. As time goes on, and the difficult choices and legislative reforms are slowly and bluntly moved forward, the negative environment will continue to reinforce lenders' attitude that the inability to fully resolve debt increases the risks associated with that debt. Increased risk requires increased reward; it's as simple as that, it's why I find myself largely waiting out the winter, and why corporations are leery of selling bonds when they see their competitors are now required to pay more to borrow. The only problem is that enterprises need credit just like cells need blood. Eventually, every corporation and state with debt will seek out financing as a necessity of its daily or future operations. If you are patient enough to wait, you can seize an opportunity to buy bonds that clearly benefit the lenders, while simply satisfying the need of the borrower. The prime caveat is that you need to also have the confidence your borrower will be able to pay every coupon on time and ultimately repay your principal on the date of maturity.

You should be aware that in the above situation, an investor in common shares, or someone who now buys an ETF that mimics the major indexes, will likely see zero earnings growth, zero capital appreciation and a small dividend that increases at or below the level of inflation.

The slippery slope of the yield curve

2009-12-24T11:44:00.002-05:00

The year end market activity and news around the world is fascinating right now.

The benchmark 10 year yields for Canadian savings bonds has moved from approximately 3.25 to around 3.6 today. The move has taken about two weeks. Central bankers have confirmed that they will set overnight borrowing rates at near zero for at least 6 months to a year, so we should expect long term interest rates to remain low. They also expect inflation to be a non-existent factor for the average citizen.

If any of that is actually true or not is only verifiable in hindsight, but for the time being, it is what the best evidence leads one to believe. If the programs and expectations of the various central banks of the world develop more or less as they are anticipating, what does it all mean heading into the new year and what will happen to the bond market?

What will this mean for the DIY bond investor?

I previously mentioned that I turned down a 5% interest 10 year corporate bond. The bond has dropped 2% in value to 98.2 and the yield has subsequently increased to 5.3%. It's not a staggering change, but it's enough of a swing and in such a short period of time that it warrants attention.

Buying long-term bonds carries the increased risk that interest rates could rise rapidly in the short term and the relative value of your bond will decrease significantly in this situation. The 100 face value of your 5% bond is cut in half when there are new bonds on the market of similar duration that offer 10% interest. Your 100 dollar investment will be redeemable before maturity for only 50 dollars. If you are unable to hold to maturity, or if the dramatic decline in price of assets causes the issuer to default, you could lose big.

That's why I turned down any 10 year bond I was offered. I did once accept a bond that was investment grade, 10 years and yielded 7.95%. I don't care what happens, that is always a healthy rate of return and it's unlikely the value will ever fluctuate greatly, but that was a lucky break.

When speaking about the average DIY investor, trying to save up for his retirement, the strategy is simple. Credit spreads between corporate and government bonds and high yield bonds have all returned to pre-crisis levels. The yield curve is as steep as it has ever been and the past two weeks have returned the bond market to one of the steepest yield curves in history. The stock market, particularly financials and commodities (as this makes up most of the Canadian economy) have mostly kept the gains made from march-august but have mostly seen much more modest to zero gains since then. Natural gas prices have steadily, if unevenly reverted back to seasonal and cyclical price increases.

In this environment the DIY investor is wisest to stay away from investing in any long duration bonds. Corporate bonds are very expensive relative to the prices available last year and up until august 2009. With the United States treasury gearing up to roll over an estimated 2 trillion dollars of debt via auctions, it is likely that this recent rise in long term yields could be a precursor to a much more significant and long-lasting rise in interest rates.

If this is true, then the next sixth months could be a period to stay on the sidelines or to stay in cashable GICs, waiting for a better opportunity to present itself (and it will). During this time, the DIY investor should just stay informed and remain interested in the news and the various bench mark prices, yields and maturities. Further research into the debt structure of the corporations you hold bonds with will help further refine your criteria and ability to spot a bargain in the corporate debt market.

And if the DIY bond investor has managed to make some money with the stock market, it might be an interesting time to take a chance on some small-cap investments and look for capital gains. Investing in large cap, dividend payers, is a good idea unless you are buying at the top of the market. Because most indexes around the world have been relatively flat since august, that makes for a much riskier investment, though there are always countless exceptions.

50%+ return, guaranteed... in ten years

2009-12-11T23:06:00.002-05:00

Is it worth it to purchase an investment-grade bond that matures in December 2019, and pays 5.05% interest annually?

This is the question I faced recently. My advisor knew that I was interested in filling out the rungs on my bond ladder.

During a day of rising interest rates and hence falling bond prices he called to recommend taking a 5% holding in a single bond issue from a Canadian telecom company.

The bond is BBB with a stable or positive outlook. These companies have large subscription bases and steady cashflow. Default is unlikely or, more accurately, a very remote possibility.

So is this a wise investment?

Large money managers like pension funds and insurance companies love long-term returns in excess of 5% that are guaranteed because it makes covering their expenses infinitely easier.

Despite the difference in net-worth, the DIY investor faces a quality of life and peace of mind that comes from stable, guaranteed income that is similar to a profitable fund (manager).

While the large fund has pension benefits or liability claims that are often burdensome on the overall ability to create a profit, the DIY investor faces the many challenges of work, family, savings, trying to live and support a household, dealing with unexpected calamities, etc.

Both parties need stable income to overcome any ups and downs in the real world, and hence actually have a mutual affinity for the bond market and achieving yield in excess of the government benchmarks without being exposed to default risk.

But for the DIY investor like me, who has great bonds in the short and medium term and few bonds in the long term (5-10 years), I don't face the same pressures going forward that a large fund faces. I face the pressure of generating as much income from my employment as possible, protecting my savings from losing value, investing my savings in a way that will guarantee my principle contractually and include all interest payments.... that's all I need to be concerned with.

So this 10 year bond, 5.05% interest bond is sitting there, wondering if I'll put a relatively large sum of money in the company's hands for a full decade.

I decided to pass on the investment. While the cash is still sitting there perfectly safe and fresh and clean, it is not earning anything. I am ok with this. You can argue Canadian Dollars are worth 10% more now than they were a year ago, but that's not what we need to consider now)

Benchmark bond prices have suffered the occasional selloff and rally over the year and have provided some remarkable opportunities to make money using simple buy low sell high rules, trading the everyday bond issuers we see in Canada.

If this recent sell off is not part of a broader decline in bond prices, meaning inflation and/or market fears and debt fears are shaking, but not fundamentally shifting price support for bench mark bonds and industries and hence interest rates won't rise, I will have missed an opportunity. I will have missed at a chance to take advantage of a potential capital gains situation, or just simply enjoying a return that beats all the marketed products available.

If interest rates are really going up sooner and harder than we have expected, my money is now ready to be deployed to a medium term maturity and high interest rate, thanks to my ongoing study of the Canadian Bond Market.

If I had failed to study interest rate trends (once they hit bottom, they can only go up) and purchased a large bond issue right before interest rates start to rise, the value of my investment will be diminished. I'll likely never be able to sell without a loss before maturity because it will trade at less than 100 every day. To make it even worse, I wouldn't have as much money sitting around to purchase higher interest bearing bonds.

Be careful and remember: "he who fights and runs away, lives to fight another day"

IGNORE BOND FUNDS

2009-10-01T10:49:00.002-04:00

So if you like what you hear about guaranteeing the return of your principal and a 7% return, why not move more money into bonds.

This article will provide a brief overview of all the basics.

However, it's written for an American audience and I think there are a few important things to ignore:

1) ignore anything related to municipal bonds and professional management, the market place and advisors typically work in a different fashion in Canada with respect to the bond market

2) ignore the section which tells you that a minimum of $100 000 is needed in order to safely purchase individual bonds.

The reason for number one is simple: the tax codes are different in Canada and the US for municipal bonds- they are usually exempt from many taxes in the US.

As well, because the Canadian bond market is dominated by a small handful of financial institutions, the fee structure typically works differently for professional management. You typically pay a hidden fee that is included in the final price you pay per bond.

The reason for number two is the purpose of this post. If you pay attention to what I've written about here and here, I believe it is possible to safely purchase and invest individual investment grade corporate bonds in units as small as $5 000 for the individual DIY investor, using a discount brokerage.

The investor starting with approximately $5 000 - 50 000 dollars to invest in fixed-income will have two distinct advantages over any bond fund currently available in Canada

1) There are no bond funds which come with a guarantee to repay your principal by a specified date- this is a very important distinction if security, preservation of capital and the ability to sleep at night are a high priority for the investor (which they always should be, no matter how young).

2) Through careful and deliberate purchases of individual bonds (filling up one rung of the ladder each time you have new monies to invest), the overall performance of the investor's fixed income portfolio will exceed the yield offered by any bond fund by about 1%, or 100 basis points.

Number one is straight-forward, number two is a little more complicated but can be easily summarized:

1) Bond funds typically promote their suitability to retail investors because of their size, and their ability to diversify among issuers and therefore eliminate any credit risk or exposure to interest rate/inflation pressures. While this is generally correct, I've repeatedly made the case that laddering a portfolio of individual bonds can achieve the same effect.

2) Because bond funds are so large and because they are compelled to buy and sell more and more bonds, if not own all the bonds in the market (like some etfs), they always carry a large amount of bonds that are among the safest and therefore lowest yielding while incurring costs that are eventually passed on to investors, further diminishing yield.

3) The individual bond investor can safely ignore the lowest returning bonds in favour of lower-rated, but still financially stable (BBB investment-grade rated or above) corporations. Using a discount brokerage can reduce management fees to approximately 0.01 – 0.05% of your assets each year. It's simply not possible or worth your time to get high quality investments for less in any marketplace. The net result is a total higher yield for the DIY investor who chooses to ignore bond funds and engage in the often difficult and obscure task of building a rock-solid bond portfolio

Why are investors still sitting in cash- relevant to interest rate trends?

2009-09-30T13:32:00.002-04:00

During this period I've been holding more GIC's than usual, as I waited out a market collapse and restructuring.

During this same period, a great deal of investors, who suffered horrible losses due to poor investment strategy, exposure to margin calls and other various gambles; have been shifting money out of losing asset classes (usually in the form of mutual funds or etfs) and waiting in cash for a different approach.

This has been the typical scenario I have faced along with most if not all of the retail investors in Canada. Before the credit crisis and ensuing collapse of worldwide economies, GICs were always capable of generating some amount of short term interest. In the early 1980s, guaranteed deposits with banks could issue interest over 7-10% for a 1 year investment. Why would you ever just sit in cash, no matter how liquid the form, when you could earn 10% simply by not touching it? People have all different reasons for investing, but the logic is simple.

During the worldwide meltdown of the past year, central banks lowered the rates at which they lend money to approximately 0.25%, this has had the consequence of reducing the interest on the typical savings account or 1 year GIC to the lowest point in history. These products still offer an interest rate in the range of 0.5-0.7% and you can typically negotiate a price with a financial services representative. The important fact remains, once the fees for these products (and there are always fees, hidden or not) are deducted from the annual yield, you are left with a return of approximately 0%. You are being paid absolutely nothing to simply wish to preserve your cash.

The mainstream media is reporting that a great deal of investors are sitting in cash because those who have switched out of one investment or asset class always place the money in cash. Investment advisors and DIY investors rarely ever have any idea when and where to invest money. "Rules" of investing, typically apply only when you are reinvesting into a product, usually an interest payment, mutual fund or DRIP with common equity in which you reinvest whatever growth occurs in dividends or your savings at regular intervals. There is a much larger problem when you are forced to have your principal returned (like with a bond), you suffer such terrible losses or you are forced to liquidate your holdings (like with funds and stocks that offer poor long term returns and margin calls).

So here is the relevant fact to consider if you are being told you have missed a rally and are tempted to throw large wads of cash at the stock market: when economies experience deflation, which is what investors are witnessing at this time, interest rates are so low that a 0% return on a portion of a portfolio of investments is still technically a positive return. The logic is simple, if the purchasing power of your money does not decrease over a one-year or two-year period, you will not lose any money and have not missed any opportunities to make greater earnings in the future.

Investors chase poor investments because they feel pressure to earn returns on their investments that are equal or superior to the market, underperformance equates to the destruction of your wealth from this perspective. However, intelligent and informed fixed-income investors never fret over missed opportunities in market rallies. The nature of a laddered portfolio requires long-term discipline to evaluate macroeconomic fluctuations (ie. Interest rate trends) in order to locate where they likely are in any given economic cycle. This equates to having money on hand to always pick a valuable investment that will grow above any foreseeable inflation rate and preserves capital.

The unusual thing about this meltdown is that it has created a synergy of intention among panicked and savvy investors. The frightened are scared to do anything with their money because everything they have done so far has at best provided no long-term returns (at worst bankruptcy and foreclosure), however because of the scale of the meltdown, interest rates of tumbled so low, and banks allowed to get away with so much, that even the wealthy and conservative are given pause as to where to find the best medium and long term value.

In a situation of global deflation, there may be asset class rallies like we've seen in oil and the stock market, but it doesn't mean the value of your money has been diminished, there are just as many if not more long-term gains to be made so long as you have the patience to find them.

7 months later...

2009-09-24T20:08:00.002-04:00

Well, it's been about a year since credit markets were frozen.

Last year at around this time, the economy, bond market and stock market went into a dramatic freefall. After a brief rally, the so called 'bottom' of the decline in major stock markets was reached in March.

Throughout this time, the Canadian corporate bond market has been robust and bountiful to the interested and savvy investor.

The nay sayers, who would not alter course and abandon the common perception of bonds vs. Stocks and asset mixing as I've suggested here on this blog have experienced a whirlwind.

Imagine losing half of your portfolio in 6 months and regaining half of your losses over the next 6 months.

You would now be left with 75% from the peak of your net worth. After the rebound, a large amount of investors who follow the common asset mixes are looking at their portfolios and realizing, over the long term, a total return of approximately 0%. This means they have made up all of their losses but have experienced no long term return on all of their savings.

They are still on thin ice and are simply praying that the current market rally (which suffered a one day loss today in Toronto of about 2%) continues on an aggregate pace of 7-10% growth a year from this point till the end of Barack Obama's second term.

No one seems to have learned that they could have been guaranteeing that return at a minimum for the next ten years if they had focused on the corporate debt market in Canada through this past 12 months.

So what specifically has happened in the Canadian bond market that you haven't been hearing about in the mainstream press?

1) investment grade corporate bonds, which dropped to their lowest value in march, along with the stock market, have increased in average prices, from the bottom in march, (and dropped in average percentage yield of interest payments) by approximately 50%. This is already the largest one-time rally in the Canadian corporate debt market's history. It's still not as exciting as technology stocks, or the 100% return some Canadian Financial common stock investors have seen, but tech stocks rarely pay dividends and bonds offer a guarantee and security over and above any shareholder. Investment grade corporate bonds have also been paying interest rate coupons at comparable yields to common bank stocks in Canada.

2) Throughout the entire financial crisis, companies which came to the large financial institutions in Canada and asked to borrow money in the form of corporate debt (senior debt instruments, convertible bonds, callable bonds and to a certain extent preferred shares) were consistently able to secure large financing from every major bank. What this means is that every bank had enough spare money lying around to give it to a corporation that wanted to issue bonds (anywhere from $75 million to $3 billion). The banks, having received the bonds and the right to the interest payments in exchange for all that money would create a secondary market, where the large institutional investors had first bids on everything and the retail bond desks would be stocked with the remains which are divided amongst the different brokerage houses. Throughout this process the banks are able to extract commissions and fees, further lining their already government secured pockets. This is how the corporate debt market functions in Canada (and typically throughout the capitalist world) and it is important to note that throughout the entire financial crisis it continued to function in much the same way it always does.

3) The devil is in the details. You have to follow the news and be in contact with a competent financial advisor to truly understand the current situation we find ourselves in now and the situation described above leading up to the present time. Even if the bond market in Canada was able to withstand a sell-off and rebound sharply without freezing overnight, like in the US and throughout the world, it's important to know why the bond market was selling off and what the likely consequences were for all asset classes. You need to be able to act on your knowledge of interest rate trends if you want to get good quality bonds at a discounted price or attractive yields from undervalued companies.

4) i) If corporate bonds sell off dramatically (this is what happened in september-march): it means the investing world is deeply concerned about the future profitability of entire sectors of the economy, yields will rise- a good time to buy (especially if you don't want to put money into the stock market, you'll get guaranteed stock market sized returns (7%+) for 5-10 years. Ps. The people who are worried are not investors, they are speculators.

ii) If corporate bonds stage a dramatic rally, like they have from March until the present time: it brings companies into the marketplace which would have otherwise been intimidated by all the speculation to pay back extra capital in a time of recession. Essentially, companies have been looking at the actions of central bankers to provide financial institutions with emergency money and ultra cheap loans (sometimes financed by the printing of money in the case of at least the US and the UK) and have gained confidence that they will be able to make all the necessary interest payments and have enough money to repay or refinance the principal. The Canadian bond market is a prime example of this virtuous circle playing itself out. Now endangered companies like Air Canada and the airline rewards company Aeroplan have been able to come to the big banks of Canada (in coordination with other financial institutions), and ask for loans knowing the banks still have money to keep financing their operations through the recession. A good time to buy safe investments that offer higher interest payments than government bonds.

iii) While the stock market has provided the ultimate thrill of a lifetime for someone who bought and held a portfolio of common stocks in March or early April, for someone who had the misfortune to invest at anytime in the last ten year period, they are still at approx. 0% total return, despite the wild ride since March.

Where will corporate debt (and the stock market) move? If history is any indication (which it is often not) then the economy may very well resume a period of robust growth and the stock markets of the West may continue to rise. Debt markets will likely offer similar and slowly diminishing yields in Canada during the initial periods of recovery. Unfortunately, this could also mean that all the extra money that was created actually makes its way into the economy. Basically the cost of everything starts rising because there are simply too many corporations with too much money bidding up the price of their business inputs which leads to higher costs for the consumer. The federal bankers of the world are often quoted as saying that they have learned from the past and know now when to remove money from the economy (meaning they raise interest rates on government loans and bonds and end loan programs) They are now often being criticized for being too focused on inflation, when they have been ignoring asset bubbles, but that isn't the main point. The main point is that past experience has showed government stimulus to create growth but to also create inflation, which destroys wealth. We are essentially forced to take Ben Bernanke and Mark Carney at their word each time they talk about the economy and the intentions of their respective institutions.

So if we listen to what they say it's simple:

The economy has bottomed; there is some small growth in GDP expected in the future based on the current economic situation. There is still a great deal of printed money and government spending floating throughout the financial systems and trickling down into the general economy. The economy would likely not be growing and might still be experiencing a decline of unknown severity without government spending. The good news is that for the time being, the government spending has acted in the fashion that it was intended (to create movement of capital and stabilize businesses through debt instruments). This will likely bring renewed earnings, private investment and spending which will grow the economy with the hope of creating employment.

The difficulty lies in the removal of government spending. Too soon and credit markets could suffer- actually a good time to buy investment grade bonds again. Although it could mean ongoing unemployment, prolonged recession and another big downturn in the stock market. Too late removing money and raising interest rates and we wind up right where we were last year: unsustainable asset bubbles propped up by artificially low interest rates that suffer a bi-polar, calamitous and destructive collapse requiring radical intervention- a great time to buy, after the collapse.

I've never seen a central banker in the modern era that even remotely resembled Goldilocks to me. But we, as the citizens and investors of this world, are left with no choice but to hope they get it right.

You expose yourself unnecessarily to the risk of another decade of 0% or worse if you ignore the bond market.

interesting veiw from the PIMCO bond desk- keep learning about interest rate trends

2009-08-02T12:47:00.003-04:00

take a look at this article

http://www.bloomberg.com/apps/news?pid=20601087&sid=aPZx5kGyDavA

interesting to see what an insider, who performed very well this past year, what they expect from central banks moving forward.

As a Canadian bond market investor, we are possibly in for the same situation- mark carney will leave the benchmark rates largely unchanged, and there will be little economic forces acting to persuade him to change that.

what would it mean for our economy? well, previous economic history has shown that when the trend of interest rates to remain at rock bottom levels, for the yield curve to look very steep (meaning it's extremely easy to borrow short term money, and more expensive for long-term money)
In this sort of situation, banks will earn a great deal of profit. Why? because they are capable of borrowing capital from the government overnight, for about 0% interest and lending it to households and businesses for anywhere from 3-6%. This means by doing nothing they can earn a 5% return on a loaned asset. This has been called liquidity injections, monetary easing, whatever.

What it really is is allowing banks to borrow money for free. In this situation, the little guy who puts his money in his savings account will earn next to no interest. GICs will generate next to nothing. people will be more incentivized to either invest their money in physical assets which they feel will return higher than a bank account (buy a house, start a business, etc.) or they will want to put it in the stock market.

This situation is what people in the media these days are calling "the first signs of recovery", "is the recession over?"

and by all practical measures, it looks like we did avoid a total disaster... for the time being. Economies are just like ecosystems, they are resilient and yet exist in an extremely delicate balance. The stock market is booming, the housing market is bottoming and unemployment is slowing it's rise- not as many business are seeing unsustainable losses. In essense, the actions of the central banks of the world are working as they should.

In the Great Depression, the actions taken by the central banks of the world, including the raising of interest rates, had the exact opposite effect that they were originally intending their actions to have. When catastrophe was amplified by poor decision making, the public was further panicked and a negative, self-reinforcing spiral downward was continued for years on end.

In the current era, our leaders seem to have learned from the errors of the predessors and we are seeing the positive consequence of stabilizing initiative and aid.

So... coast is clear, right? recovery is on it's way? DOW 14000 by 2010? celebrate good times, c'mon?

If that were true, that we have restored a clear path to growth and that the stock market is on it's way back to the old highs, the central banks of the world would already have increased the benchmark interest rates.

The central bankers would see that the banks were making billions of dollars of of imaginary money that the government lent them, and they would see that business were making money from consumers who were willing to spend. This would have the consequence of triggering inflation- money would be moving around at a faster and faster pace- more and more deals means more and more profits, means more and more loans means higher and higher valuations for the underlying assets which are acting as collateral for loans
it seems like it's a positive, and self-reinforcing trend that makes everyone richer- which it is.
but the problem is the speed at which it happens. Some inflation means growth is occuring somewhere in the economy. But when money flies around for free, like it is now, and people spend it like it's free, which it is, all those seemingly positive things happen too fast and regular, little people can't earn enough money to keep up with the rising costs. Bingo, inflation is a big, big problem

So, if the current authorities have proven themselves capable of handling serious problems with the ability to learn from the mistakes of the past, why are they continuing this policy of free money?

look at what the guy from PIMCO is saying. If they raise interest rates now, it could recripple the financial institutions of the world, and we were just in that situtaion. The underlying economy is still fragile, it needs all the help it can get.

in this situation, inflation is still a possibility, but it's a possibility we still have to work to achieve.

understanding interest rate trends: contrarian history

2009-07-28T12:52:00.003-04:00

who knew that the recent economic super-bubble was built on a empire of easy money?
a small number of people who can now claim 20/20 hindsight.
how did they make their observations?
who are they anyway?

After doing a lot of research (reading books, the news and talking to experienced investors) I came to see that the people who understood what interest rate trends say about the overall economy were the ones who were predicting an impending calamity.

Hardly anyone got the timing of when catastrophe would break out in the financial markets and spread into the real economy. In fact, the few people who did move out of the stock market right before the crash were usually just lucky to have cashed out at the right moment.

But all of these people, who understand interest rate trends, were relatively protected from losing great sums of money in the crash, largely because before the economic crisis they were considered highly conservative investors.

At one point, some people do make large bets on the stock market and perform well. But overall, their personal savings (and their recommendations for the average Canadian retail investor) were always conservative.

Why were they conservative if they were experienced and educated with respect to interest rates and finance in general?

because they understand that falling interest rates are generally related to easy money. If it's easy for corporations to borrow and for banks to lend, this generally inflates the economy and inflates the value of the stock market.

So why be highly conservative?
Because if you do the extra homework required to understand international trade and debt you would have seen all along, how deeper and deeper into debt the entire western world was becoming- excessive and increasing debt is never sustainable.
you would have therefore focused on protecting the majority of your capital by ensuring it is repaid to you in full and that you are earning an amount of interest that is safely above the current inflation rate (a spread of 5%- or 500 basis points- from the rate of inflation to the amount of interest paid is generally considered an optimum return for investment grade bonds).
you would have (if you were so inclined) still put some money in play in the stock market, to enjoy the upside, but also perhaps taken a greater risk because the majority of your money is guaranteed to be repaid- this could be more profitable or much less- depending on your choices.

My point is that I follow the wisdom of those who enjoyed success and longevity of their successes. I maybe don't understand the lessons when they're first taught. Who among us has ever been told we need to understand interest rate trends, and immediately forgotten to make it our top priority?

it is certain, with respect to understanding interest rate trends, that you will educate yourself and see the world in a different way once you do.

ladder your portfolio- a.k.a. bondage gear

2009-07-27T00:37:00.003-04:00

We are likely witnessing a historic period in modern history.

Historic with respect to the movement of interest rates, inflation, exchange rates, employment, GDP growth, quality of life.

The key to outperforming market averages for the fixed-income investor comes down to preparation, discipline and execution.

preparation: this should be the easiest step

- plan 10 years into the future (this is the extreme long run, and should be the most flexible, least certain expectations)

- plan 5 years into the future (without the ability to plan and save with 100% certainty for at least 5 years you will not be able to meet or exceed the average market rates of return)

- once you have determined how much money you will be able to save and invest over the next five years (minimum), begin following the news related to interest rates, inflation and GDP

discipline: this requires the most concentration, understanding and synthesizing of information

- if you are living in a period of rising interest rates, it is to your advantage to avoid longer term and lower yielding bonds (you will not have sufficient cash on hand and will miss the chance to buy new issues at higher average rates)

- if you are living in a period of falling interest rates, it is to your advantage to buy and hold attractive medium to long term bonds ( you will already be outperforming new issues of similar duration),

i.e. if you buy a 5 year bond interest 6% and interest rates fall for 24 months (which they have in the past) , a newly issued 3 year bond may only yield 2.8%, buy you will already have a bond of similar duration (5 years minus 24 months) that pays more than double the new issue. even worse, new 5 year issues will yield only 4.5% interest

- credit ratings matter, you don't' need everything to be AAA, in fact you don't really need to be afraid of having nothing higher than AA (any provincial bond is rated AA).

-if you stick with AAA investments, you will be receiving the lowest yield for 'the most safety', but provinces in Canada will not go bankrupt either, fyi.

- you must avoid a high concentration of BBB, bbb issues and diversify among AA, A, BBB

execution: the most difficult step

- without an effective financial advisor, it is extremely difficult to be confident, informed, decisive, or savvy. An effective financial advisor confirms all of your expectations for how much money it is possible to safely earn, while occasionally exceeding those expectations to improve the quality of your life

- following through on the rules of creating a diversified ladder requires intuition and fact analysis eg. many thought that interest rates would never go lower than they were after 9/11. not only have they never returned to those levels, they have reached a point of essentially absolute zero- the central banks of the western world simply can't lower the interest rates any further. the point is, the investor needs to understand the way defeciet and debt affect the economy and what effect interest rates have on a debt situation (this is basic macro and micro economics)

-only through repeated experience or testing can an individual develop a savvy ability to understand the relationship between interest rates and the type of individual bond purchases they ought to make ( this doesn't mean you need to be a pro, but you will have to actually do homework to understand the nature of interest rate trends, and it's not the easiest, most entertaining topic)

I'm in Asia! learning stuff!

2009-07-11T06:41:00.005-04:00

granted there are lots of cost saving ways to travel in south east asia.

the downside? you have to travel for at least 24 hours and fly literally to the other side of the planet.

as well, depending on where you go, no one will understand english.

I'm in the philippines because it still is an undeveloped tourist destination: it's even cheaper than thailand or vietnam and many of the beaches and resorts are pristine.

the best part: everyone one here loves Americans (they don't distinguish between white people from north america) and everyone (even those with little or no education) can understand rudimentary english.

It's very easy to get around and no one will over-hustle you: they simply aren't used to a tourism industry like thailand or vietnam (depending on which city and region you choose).

So what am i doing here? well, i mentioned previously that i spend a lot of time looking for alternative investments since i left the world of traditional asset mixing. Just so happens that i have a personal connection with a fellow who is highly connectd with the asian development bank, head quartered in manila.

did i ask for a specific deal, strategy or investment opportunity? NO.
what i did is called networking. I took the effort and time to find this person and to simply have a conversation. In essence, it was a global cold call.

We talked at length about my personal background and i had the opportunity to seek his opinion on much of the global turmoil taking place. His views on what counts as stable, what counts as volatile and what counts as a bargain are all well informed and based in the real world of securing credit (from a multitude of central banks and global financial institutions) for medium to large size firms involved in import/export trade throughout all of asia.

What did i learn that i can relate to you?
a few basic opinions, with the caveat that my new friend admits even the most informed cannot predict the future.

but he did point out the long, protracted nature of the current recession.
he pointed out that there is still a great deal of bad debt that has not worked its way through the global financial system (credit card debt is now just starting to become a serious problem for global financial institutions).
when asked, he pointed out that automatically, the rest of the world has been moving away from the american dollar as the international currency.
a basket of international currencies used by large, global financial institutions for transactions, referred to commonly as "special drawing rights" (SDRs) are now gradually becoming the defacto world currency.
He also noted that among international central bankers, there already exists a consensus that the world will eventually eliminate free-floating currencies and create a single world currency.
THis is a very difficult thing to accomplish and will not be realized for years, perhaps decades (if ever- no guarantees on the future)

But he was very clear, the old currencies: the pound, the american dollar, even the euro are in for a very, very bleak future. If you hold investments in these currencies, if you attempt to trade with these currencies, you will be very stressed for a long, long time. you may even lose a great deal of money.

what does it mean for the canadian bondage freak?

a declining US dollar will destroy the majority of canadian exporters. this will completely overwhelm any short-term recovery efforts and likely drive up unemployment, drive down exports and delay any significant growth in the economy.

the consequence is lower earnings across the board. your mutual funds are not coming back. you will be lucky if they remain at their current levels.

your fixed-income? keep it 7 years max. and widely diversified

why? every central bank in the world is printing money. those who ignore history are doomed to repeat it. we're in for inflation (not a guarantee, but an educated guess). if you're strictly buy and hold, you have to avoid the long-term (even if it means taking a lower total yield). if you stick with a bond mutual fund or buy something 10-year, 20-year or god forbid 30-year, you could stand to underperform the market dramatically.

don't buy stocks, unless they are a totally dominant company that is having a down period, and don't overly invest in stocks.
keep buying bonds, but remember, inflation will be higher than people might expect and you need to be able to purchase new issues at higher interest rates, because interest rates will rise. the federal governments have done as much as they can to hold rates down for the time being, but if this really is the big bad unravelling of the empire of debt the West has built, it's going to be a long, slow, painful road to recovery

Rainy day money, why not double-down?

2009-06-20T15:38:00.001-04:00

For a young investor (say under 35).

You are starting out your investment career.

You are determining how much money you dream of having when you are an old fart.

You don't want to work very much or at all for spending money

You want to pass some money on to people (spouse, kids, and relatives) after you die.

You want to feel wealthy and independent (you want income to exceed expenses without busting your ass all the live-long day)

Wouldn't it be nice...

So what do you do?

Typically, you go to the people you've been banking with all your life (likely a service rep. at your local financial institution)

Or you can trust your parents to tell you what to do

Or you can trust someone who is older than you and followed a path to riches and is open and honest with you about money.

But you will typically know someone who works at a bank, and they will refer you to an investment advisor.

It's not entirely unlike asking someone if they know a good dentist- if they've ever been to a dentist, the odds are they know a relatively competent one.

Emphasis on relatively. With respect to dentists, relative means that from one certified dentist to the next, there may be a few perks like softer chairs or newer equipment, but the skill and dexterity of every dentist is extremely consistent across ages, areas, sexes, etc. for all dentists.

Relatively speaking, the 'average' competent investment advisor is competent relative to someone who throws darts at a board or bets on cock fights as a way of determining your investment strategy.

Relative to a skilled and honest investment advisor, the average advisor is no better at generating consistent returns than the average DIY investor.

What I'm speaking of relates directly to why I feel that young investors are told they are 'young enough' and 'therefore have a high enough risk tolerance' to invest heavily in the stock market. This line of reasoning introduces the theory that because the investor is so young, inflation, the rise in their wages, and taxation liabilities will require the need for immediate tax relief in the short- medium- and long-term.

Within this world-view of investment, bonds will never be profitable (even if they guarantee to return your money) because of historic returns of bonds vs. Stocks, inflation and taxation issues.

Sadly, this world-view does not correspond to reality. This world view makes sense only on the premise that stocks are capable of beating bonds by at least a factor of 2-1 and also relies on the notion that stocks will always be taxed at a rate that is almost 5-1 in favour of stocks (this changes completely once you retire and depending on rrsp and now tfsa context).

Tell someone to save up $500 000 (or better still save only $250 000 and borrow the rest at 5% interest), tell them they can get a 10% return, pay about 10% in tax because of the dividend tax credits you'll receive

Bingo, you are some old fart earning about $ 45 000 every year after tax. That should be enough to support a healthy and affluent lifestyle for a long time, still leaving a nice chunk of change to pay for your funeral, burial, headstone and give something to the kids, etc.

There are now millions of westerners who were sold this line of reasoning, told that they could sleep at night and are now facing the sad reality of impoverishment and never being able to retire.

This line of reasoning has earned thousands of investment advisors a steady income of anywhere from $ 75 000 - $125 000 every year. Every year that they were telling people not to worry, telling people that the bull market was on, telling people it was too late to sell, it goes on.

But there are always people who understand that excessive return means excessive risk. There are people who demand that they get their money back in less than 10 years, no matter what. There are people who understand some of the basics of macroeconomics and follow the news and history. These people are not afraid of inflation or taxes. These people instead focus on working hard, proving their worth in the world and getting compensated for a job well done. To these people, your best weapon against inflation and time is your own two hands. Your labour is what fights inflation because wages rise faster than stocks or interest rates in inflationary economies.

For these brave souls, these 'bondageers', there is but one simple rule: DO NOT GIVE AWAY YOUR SAVINGS!!!

If you intend to save something, it must never go down in value. That is why it is 'saved'- think evangelicals getting into heaven, they go only up.

High yields be damned, my capital is there for the future, for emergencies, it must never be allowed to fluctuate in value and must always be contractually guaranteed to be repaid in my name by whoever holds it as investment. Furthermore, never trust someone more than you can throw them. 20 years until you repay me? Forget it. 10 years? In this environment, it's a stretch.

The bondage freak is into power. "I give you my money. You better repay me. Pay me back my money and give me points for every day that you have it. Don't like it? Too bad, there are all kinds of players out there who are happy to hold money, and make enough of it on their own to gladly give me points."

It is these people who fear not the economy, its mood swings, the rise of china, inflation, Caesar, Huns, Visigoths, it matters not.

Seek to protect what you have saved from this cruel world. Seeking growth from that which is the product of labour is to seek derivative output from a non-productive entity. This is akin to gambling. Gambling is what you avoid by saving money. Gambling is not what you do with saved money.

This is not happy news for anyone who plans around the 10% fantasy. You are more likely to go back in time and have sex with Bo Derek while on the set of '10' then achieve your financial goal.

How does a bondage freak fare when interest rates plummet?

2009-06-08T09:39:00.001-04:00

Bit of an unrelated article, but it's always interesting to see how George Soros is doing and what he's thinking.

George Soros, in case you were unaware, is a Hungarian born immigrant to the US of humble beginnings. Soros said that when he was young he wanted only to be a philosopher (a seeker and debater of truth and knowledge). In his twenties and without a family depending on him, Soros rationalized that if he was able to get a job on wall street, and frugally save up his salary over a ten year period, he should be able to save approximately $500 000 of which he could sustainably invest and draw upon as needed for the rest of his life. With that nest egg, Soros would then be free to write and comment on the world and hopefully earn extra income from becoming a published philosopher.

By the time the 10 year period was expired, Soros was a billionaire investor and worldwide guru. He was described as 'the man who beat the bank of England'- correctly predicting a sell-off of the British pound on the eve of major fiscal announcements.

So what lessons can we draw upon for the bond market investor?

Well, we are living in a time of historically low interest rates. This has frightened many retail investors away from bonds. They fear the boogie man of 'inflation down the road'.

Have you heard people in the media throwing this phrase around? It's not a legitimate fear. Economists understand that society actually needs a constant level of inflation in order for the entire economy to continue to expand. This is why all the intelligent analysts were more concerned with fighting deflation (which we are still experiencing). History has shown that preventing any form of inflation causes much more havoc than benefit.

So 'inflation down the road' is not only an expected thing, it's a good thing. This is counter-intuitive to what everyone in the media or the investment advising industry tells average retail investors.

But how can it be a good thing for a bond investor if interest rates, even long term, are declining and declining and declining? Surely this will expose an investor to the risk that inflation will rise more rapidly than it has in the past, while their bond investments are earning a very small yield- so small that it might be less than the inflation rate.

This is why you ladder your portfolio, and this requires you to change the way you think about earning money.

If interest rates plummet, and you have bonds coming due- you should follow the advice of what George Soros is talking about in the CNN article.

I'm not saying buy a mutual fund or etf for China (though you probably will make money with that investment), but you should find "the right assets rather than saying 'I'm not interested in investing'".

What this means for the bond investor is that you GO SLOWLY.

If interest rates for short term and long term bonds drop substantially, it may be in your best interest to take more short term bonds to provide flexibility in 1-3 years if inflation rises. It may be in your best interest to buy lower quality, but still investment grade BBB bonds that still pay interest that's around 6-7%. It may be in your best interest to move some of that returned money into the stock market (this spring was probably the greatest time to buy banks stocks in Canada ever).

Or you might buy any other asset that you feel is profitable.

When you keep over 90% of your money in guaranteed investment vehicles you can shift money around to 85% bonds 15% stocks, so long as you remain overall conservative, you can adjust to provide a steady cash amount of income every year.

But if you stick with bonds, and interest rates plummet and remain depressed, your overall portfolio will eventually start showing a lower total % yield, and this will eventually translate into smaller amounts of cash.

So what will this mean? So long as inflation and interest rates are at historic lows, the price for a great many of the goods and services we consume will remain at a steady and/or declining level. Your portfolio of diversified issuers and maturities will reflect the general growth and contraction of inflation and the economy. You will receive less total income, but your standard of living and ability to plan for your financial future will likely be completely unaffected.

Once the gradual rise in interest rates begins again, you will begin to buy new issues at higher rates, meaning you may be at the beginning of an economic cycle and earning less compared to new entrants into the market. However, the flexibility of a laddered portfolio will provide consistent opportunities to catch up and eventually rise above the average market returns.

10 percent is a fantasy

2009-06-07T19:01:00.001-04:00

People need to consider the difference between real and nominal.

Nominal is what you see, real is what it actually means

I've noticed that a lot of young investors, trying to plan for their retirement are using 10% as their expected annual return.

They expect that if they can earn a long-term average 10% annual return and reinvest everything, the power of compounding will eventually turn them into multi-millionaires.

Starting out with a house worth $ 400 000, a mortgage worth $300 000.

Savings from their job is about $ 150 000, imagine if they borrow an additional $100-150 000 to invest in the stock market.

Imagine they have to pay interest on all their loans at around 5%

Imagine someone tells them that they can get 10% return from their investments every year.

Seems like the investments might be able to pay off all the interest on your loans and then some.

After the loans are paid off, the investor is much wealthier than if they had not borrowed money to put in the stock market.

But how long does it take to pay off the principle? That makes a big difference in the time the investor ever actually sees any improvement in their standard of living (eg. Having a big wad of cash in your hands at all times).

But here is the most important thing: that 10% number is not guaranteed. In fact, in every document you ever read, it clearly states somewhere that there are explicitly no guarantees anywhere on anything in the financial industry.

So where does this 10% figure come from? From the article I linked last post, the argument is made that this figure is basically a fabrication of the investment advising industry. Why would an investment advising industry pick this figure and promote it as the way to make your retirement dreams come true?

Because it is double the average return of bonds, which averages around 5% annual return over the long run. I'll comment more in the future about this number, but it's also in my original post.

So what happens to people who sign over their money because an investment advisor is telling them it's a 'more efficient' way to make money?

They get convinced that they are 'young enough' and have a high-enough 'risk tolerance' to put most, if not all of their hard earned savings into mutual funds or the stock market. All products which do not promise to repay your capital.

Why do people buy into this? Greed is an obvious answer. So is the lack of good information on the real returns offered in the long-term for the various asset classes.

It's a simple rule: you can't make good decisions without good information. Investment advisors have promoted a long-term annual return from the stock market at 10%, 8%, 7%. It doesn't matter. The truth is, whatever the return has been it is characterized by extreme long-term volatility. You essentially have to hope (for your entire working life) to be lucky when you retire and begin to start drawing on your investments, ask anyone who is experiencing that now (old, tired, lost lots of money and can no longer afford to retire).

The bond market? It fluctuates along with economic cycles as well. But unless the issuer is bankrupt, your principal was protected the whole time.

Bonds have beaten stocks over the past 40 years. That is an entire working lifetime for the average middle class investor. What will the next 40 hold for us? Where should we really think about putting our money? And what should we really expect to earn for doing nothing?

Bonds are the new black.

2009-05-28T17:08:00.001-04:00

Time for a rant on what I've learned about the DIY Canadian investment blog community (if that is indeed a thing that can have a name like that), people posting online about what everyone else in their situation should do with their money (this is regardless if they are a financial advisor, some dude, or a big outfit), following this or that bit of information. Lots of times there is a nice little graph or a box of numbers next to another box of numbers.

Many people enjoy posting their own financial information. Not just their particular investments but their whole list of debts and assets, their jobs, incomes, how big is their family, etc.

I have no problem with people who want to share personal information, especially if their intention is to selflessly help others. However, most of what people consider to be their business is in fact just that- it's their business and no one else's. Privacy is about minding your own business. This isn't a rejection or defensive posturing, just a mutual understanding that my economic and social context is unique to me. It's what makes me 'me' and not 'you', the 'other'.

What am I talking about?

I'm talking about how I've learned to ignore information (like the analysis and trends and fancy equations and statistics) as the key to distilling, understanding and utilizing the underlying reality of the various investment strategies and attitudes.

This is what philosophy is all about. Those guys that people talk about- Plato, Aristotle, they were guys who had a holistic (if still primitive) view of what a person should do with their life (their view of the soul is like how we view our retirement nest eggs) and how to go about doing it in the best way possible.

What does philosophy really have to do with investing?

1) Philosophy is about the pursuit of truth.

2) Investing is about weighing risk with return.

3) Return is cash money in your hands; risk is the absence of certainty about that return.

4) If Philosophy is about truth (which is about validity and certainty) and investing is about risk (which is about the certainty of making money),

then

5) understanding certainty and using that understanding to our advantage will allow us to maximize return (cash money) while minimizing risk (uncertainty).

So what happens when, in a variety of quips, comments and suggestions, you present the consequences of this line of reasoning to the Canadian DIY financial community?

The answer is not much.

You see, when people have 'bought in' to a line of reasoning, and worse still, put their own financial nest egg behind a line of reasoning, it becomes a very touchy subject.

Though it's easy to divulge how much we have with who and where and how much we owe on this or that, it's actually much more psychologically (and philosophically) difficult to admit compete and total failure.

Indeed, it was Nietzsche who best espoused the idea that without the understanding and acceptance of complete and total failure, one can never enjoy true success. Though he lived a lonely and miserable life, he viewed humanity in organic terms and, wishing in an alternate life he could have been a gardener, Nietzsche argued that the failures of ordinary people are like the dirt and roots and worms and detritus. If they are understood and cultivated properly, they will combine and yield a beautiful flower. If they are mismanaged, they will rot.

This is an apt analogy for a flawed investment strategy. When the reality is that stocks do not always beat bonds, and over the last 40 years bonds have beaten stocks http://www.marketoracle.co.uk/Article9713.html, an individual who attempts to understand and accept reality will adapt.

A logical adaptation, if we attempt to remain consistent, would involve less effort attempting to make significant gains or investments in the stock market.

You see, this is essentially my line of reasoning before the market crash and I took it from my parents (who got it from their parents) before me and it meets a lot of static.

The static takes the form of people who believe that bonds are not available with high enough interest to beat inflation (consistently proven incorrect when dealing with a properly laddered portfolio), people who believe that investment-grade corporate bonds are at a significantly higher risk of default than a government bond (consistently proven incorrect over time), and (perhaps worst of all) people who view the return of capital as a burden- best avoided by purchasing a stock or mutual fund and holding it forever (this is a philosophical disagreement, I buy some equities but I love when I see I have cash waiting to find a new home in my accounts and argue it is never a burden if you always have the ability to wait for a good value investment).

I believe the accepted notion of a 30-70, 50-50 or 40-60 asset allocation, the belief of diversification, and professional management has been completely compromised and undermined by the real world experiences of ordinary people. People who could have been convinced of any asset allocation so long as it beat inflation and preserved a nest-egg, were lead into investment vehicles that charged a lot of money and in the end provided little or no protection from stock market volatility.

As a logical consequence, I have determined that the entire investment community is as flawed as the products they sell, analyze, discuss and throw their money behind. People who argue about the benefit of estate, tax and insurance planning do a disservice to the role an accountant provides (at a fraction of the cost and with no conflicts of interest) and exaggerate how difficult it is for the average person to determine their need for those things on their own for free.

Financial advisors are your best friend, but only when they understand how to treat you and your money with the respect you deserve. If you remain uneducated to the actual returns of the various asset classes that you can invest in, you will drastically increase the likelihood that you will unknowingly lose money when you think you are helping to 'grow' it.

There are some people, like 'NurseB911' who writes his blog about his financial journey, that are starting to catch on to reality.

The rest would rather refuse to look at their financial profile and continue to hope and pray the DOW magically goes back to 13000. The smart money has been slow and steady FOR ALL ETERNITY.

Is Obama Reading My Blog?

2009-05-18T17:40:00.001-04:00

NO.

But here are two articles that are consistent with the investing philosophy of the fixed-income investor. A.K.A. the bondage freak.

It is also totally contrary to what all DIY investors believe, but just look at the articles first.

http://money.cnn.com/2009/05/15/news/economy/obama-stocks/index.htm?postversion=2009051518

http://moneyfeatures.blogs.money.cnn.com/2009/05/18/obamas-favorite-mutual-fund/

So, there are two reasons I use the title space to ask if Obama is paying attention to my investing philosophy (which is by no means unique, and as this article shows is actually quite old)

Obama keeps approximately 90% of his family's savings in cash and bonds. The articles say that he keeps about 90% of everything in US Treasury notes and a chequing account. It does not disclose the maturities, or the specific nature of his treasury notes (we should assume Obama is getting a pretty good price and yield from his broker).
Obama had several mutual funds, but chose to put all the equity investments (about 10%) in a mutual fund, which is an index fund. It invests large amounts of the investors' capital in shares of companies that fit on a list of social issues that are an important part of the life and values of the Obama family.

I look at those two points which are featured in the article and it reinforces the attitude towards investments that I have been advocating on this blog and in my life.

The fundamental approach and attitude is that you need to protect and preserve your capital.

Once you have done this, you should be free and confident (and, in essence, obligated) in pursuing the accumulation of wealth through a successful career you enjoy (not through growth of an equity portfolio), as well equity investments can be made to reflect your interests and personality without overly risking capital.

If I can speculate about the investment strategy of Obama:

Best Case Scenario:

He is taking this conservative asset allocation strategy and using it as a way to provide the financial security to allow him to focus on his career. He can likely earn money above the inflation rate, and he can pay his taxes and this would provide enough money to support the quality of life he had enjoyed before he became "Chocolate Jesus". He's in the perfect position, after he serves the public, to accumulate and mobilize vast amounts of 'money capital' because of the tremendous amount of 'social and political capital' he will have created if his investments in his career strategy (aka. Domestic and foreign policy of USA) are successful.

Obama is prudent and imagines what would be his Worst Case Scenario?

His government is corrupted and ineffective. American influence, prestige and power are reduced along with the value of the US Dollar and the stock market. Obama is ushered out of office in a single term after Sarah Palin and the re-animated head of John McCain sweep the 2012 elections. In this worst of all futures, Obama is left with no fame (except failure, disappointment and disgrace), no connections and no or little ability to build and/or mobilize vast amounts of money.

If Obama starts his presidential life with about 1.2 million in investments and about 1 million in his home, and then follows most DIY investors, he could be looking at a 39% loss in his investment portfolio.

This could mean that his 1.2 million in investments could shrink to 750 000, with no job, no ability to earn big money, and two daughters who have high expectations about their future education. Obama would not be left with enough retirement savings....

However, follow Obama as he follows the age-old strategy, where you stay conservative with your cash and savings, and are aggressive and bold in your career- and your small equity investments, investing in whatever you are respectively passionate about. Even if currency depreciation afflicts the holders of American investment vehicles like treasuries, the highly liquid nature will allow Obama to move his entirely protected nest egg into higher-income earning vehicles. He won't have to worry about taxes, because Palin will eliminate all taxes as a way to eliminate all abortionists, gays and minorities.

Interest rate trends and GICs

2009-05-13T16:43:00.001-04:00

So I talk a lot about fixed-income investing and usually like to focus on investment-grade corp. Bonds.

But when I look at my investment portfolio and the changes that have taken place over the past few years, I think it's important to comment about interest rates.

Following the 'benchmark' bonds, issued by the federal government, that are used for bank to bank lending; following the medium and long-term 'benchmark' government bonds; and following the popular GIC rates is critical in becoming educated in the Canadian bond market.

If you visit http://money.cnn.com/markets/bondcenter/index.html this is an excellent resource for tracking US government issued debt.

Look at the "yield curve", this graph plots the various maturities according to their current market yield.

Two important facts:

The volume of bonds (government and corporate) that are exchanged on a day to day basis is roughly 10x greater than the value of the volume of cash exchanging hands via the stock markets of the world
Because there are so many different types of issues and different maturities of bonds from each individual issuer, it is uncertain and unlikely that individual bond issues will be traded every day. This is the 'liquidity risk' people refer to when holding bonds, when interest rates (or the price of your bond) fluctuate and they hope to sell their bonds in order to capitalize, only to find that selling their bonds is difficult.

Because of these two facts, it's possible to think of the bond market as a kind of ocean cruise-liner (please refrain from Titanic analogies), which parallels the vitality of the overall economy. When investors the world over have confidence in the economy, the government or bonds in general, it typically drives up the price of all bonds and when the government is encouraging growth, it typically lowers interest rates to encourage lending and ultimately lead consumers to avoid putting their money into savings. Governments can be like the captain, ordering to speed up or slow down the ship- lower interest rates typically encourages growth, higher interest rates encourage saving money and taking it out of the economy to curb inflation.

In the previously described situation, the world before the economic meltdown was fairly reflective of my description. After the meltdown, a flight to safety and the lowering of benchmark rates for intra-bank lending has created the perfect storm. Captain Bernanke has ordered all men to the coal furnaces; fire the engines, full steam ahead! Benchmark interest rates of all maturities have plummeted to the lowest point in history.

This is important for me, because when I moved my money into fixed income, I temporarily placed a lot of it in GICs. The strategy is simple: Most advisors recommend, and a common misconception is, that it's to your advantage to be fully invested at all times.

Conversely, the way the corporate bond market works, it's actually best to buy in increments (part of the reason laddering your portfolio so that 10% of your portfolio value is freed up each year for reinvestment). So as I moved out of equities and income trusts and into the fixed income market, 1 year GICs- cashable after 30s days without penalty- are an ideal holding point for my investments if I'm not sure what to be looking for right away.

Due to giving my attention to my own search for alternative investments and the way things worked out with the economic meltdown, I've ended up holding onto the majority of my GICs, I started holding cash at 3% and the last time I purchased any (in September of 2008) the yield was about 1.4%. Now that the Federal Reserve systems around the world have gone to work, the yield for a similar GIC is now literally 0%. It's getting close to the point where you have to pay for a GIC to hold your money....

This is a problem for me as the GICs will be due in September. Fortunately, I believe the credit markets have not collapsed and this has turned into the greatest time to purchase corporate bonds in recent history.

The moral of the story is what I will call the DNAGS dynamic multi-sector wealth factor.

DNAGS stands for DO NOTHING AND GO SLOWLY. The secret of wealthy people who have managed to preserve and grow their wealth is their staying power. Sure, it's important to be confident, aggressive and pursue opportunities as they arise. What is equally important is staying conservative and using a conservative philosophy to avoid being overly-committed or jumping in too early into an investment before verifying it's soundness (this has the consequence of typically looking for moderate total average yield- with the bonus of enhanced security and confidence in your investments).

So as it is, I have about 4 months until my last GIC is due, month by month, I've been moving out of GICs (starting with those which yield about 1-1.4%) and into corporate and some provincial bonds.

So far, I've been able to take money that was earning about 1% and turn it into investment-grade bonds (no maturity longer than 6 years, so far) that are yielding about 6%

This is at least a full percentage point (or 100 basis points) better than the corporate bond ETFs available in Canada. I paid my advisor an average one-time commission of 1% of the purchase price.

Microsoft now a defensive play?

2009-05-11T15:11:00.001-04:00

As an additional sign that the credit markets have not collapsed, the biggest and most historical software company of them all is offering its first debt issue.

This is an excellent example of the opportunities and frustrations that retail bond customers face.

http://www.financialpost.com/news-sectors/story.html?id=1585202

You read this article in the morning, and as the defensive investor the idea springs to your mind:

"I've always wanted to get a bit of the action from the Microsoft business, but the stock has done horribly these past few years and I'm too conservative, even with my speculative investments, to ever purchase common equity in the company I will likely use every day for the rest of my life."

"The currency risk was always too much to deal with to make the stock an attractive investment after the tech Bubble burst"

"Now that they have issued so many billions of dollars in bonds, I can grab an AAA-rated investment that yields interest of a full percent above federal bond rates of similar maturity, that's a good deal!"

"I should be able to call my broker, or I can use my discount brokerage to purchase some units... oh joy!"

So here is the sad reality, why some people are turned off from the Canadian bond market, and what you should do as the DIY Canadian investor.

When Microsoft issues this debt, they have already arranged for ALL of the billions of dollars to be purchased the moment it is issued.
This works the same way that underwriters work for IPOs. A very large financial institution (or a group of financial institutions) will put up the entire cash amount up front to Microsoft, who then has an additional 2 billion dollars of capital to play with. Microsoft is then responsible for paying the interest on this capital and returning the full amount on maturity
Once the major financial institution(s) have the bond issues in their possession, they will create a secondary market for them.
First, they will sell the bonds (with a slight mark-up to pay for overhead and sales commission) to institutional investors (these investors include pension funds, insurance companies, government investment funds, even smaller financial institutions).
Once the institutional investors have had their fill (the big boys eat the meat, the little guys get the scraps) they will retain the left-over bonds for you, the retail investor.
By the time you get to purchase these bonds, if you ever do, the mark-up, and fluctuation in price could reduce the spread above a treasury note of similar length to zero.

What does all this mean?

It means that if you follow the news about debt issues, you are likely to be disappointed. What is more important is following trends in interest rates (which typically reveals where in an economic cycle you find yourself). Specific companies are not the primary focus of the bond investor- assets, debts, revenue and expenses are the primary concern of the savvy bond investor.

The FP article is interesting because Microsoft has never had to issue bonds (maybe they're starting to run out of money) and the article points to the resiliency of the investment-grade corporate debt market throughout the financial crisis (this strength has been widely overlooked, I do my best to change that).

But this story is very little help if you are trying to establish your diversified bond portfolio. If you lack this insight into the bond market in Canada, your first reaction is probably disappointment

The bigger picture is that when the corporate bond market grows (with the highest-rated corporations, like Microsoft leading the way) it encourages every single competitor to do the same. This has the net result of increasing the yield offered to investors (both institutional and retail) in an attempt to lure more capital.

I asked Hank Cunningham, the sagely author of In Your Best Interest: The Ultimate Guide to the Canadian Bond Market, what the retail investor should do if they missed an opportunity to purchase an attractive yielding bond.

The appropriate response is simple: wait for another investment grade corporation to have a new bond issue. So long as there are investors seeking the reliability and solid return of corporate bonds, there will be investment grade companies that are more than eager to meet that demand.

2009-05-10T12:23:00.001-04:00

Checking out the new format as I learn to use office 2007 for the first time in 2 years.

The credit markets are not collapsing, as we had earlier feared.

http://www.theglobeandmail.com/servlet/story/RTGAM.20090507.WBstreetwise20090507073415/WBStory/WBstreetwise/

big time returns... a nice time but not a long time, so have a good time, your stock can't rise everyday.

2009-05-05T09:27:00.000-04:00

I've repeated on several occasions that I never keep more than 10% of my own net-worth in the stock market.
I'll just focus on how and why i came to take this attitude and why it's made me enjoy the stock market more even if my exposure is less and to look at equity investments for what they really are (at least through my jaded, hippy-hating eyes).

This view probably started out as an asset mix of around 20% (think pareto's principal- which i don't follow anymore), and from 2005-2008, became more and more conservative. It was mostly because i simply dislike extreme volatility in any aspect of my life where it's not absolutely necessary. Over the past decade the stock market had been booming, but it had also been busting and booming back at a very high rate. I disliked the constant boom and bust so much that i decided to get out of the market. The final sale i made was BMO. I purchased shares at about $62 in July 2006 and sold them in February of 2008 at $57.

at the time i felt like i was taking a beating but just happy to get out.
Everything in my portfolio for the remainder of 2008 was in bonds and GICs (luckily, i was able to buy 1 year GICs, cashable after 30 days, that yield 2.8-3%) Current GIC yields of similar duration are about 0%... I also kept a very small position in a major energy company.

So while i hated the market for what i perceived as volatility. The crashing housing prices in California and Florida and Arizona were in the news, and i was thinking maybe it's time to take the cash and just buy a nice vacation home, and finally be finished with Canadian winters.

I never put two and two together and luckily never bought any property (i had never been offered Mortgage backed-securities or asset-backed commercial paper) and i was just as surprised when the meltdown of October-March crippled the global economy.

That being said, i was also lucky enough to be doing a great deal of reading into macro economics, personal finance and DIY investing at this time. (i was so put off by the stock market, i was wondering if there was any other decent alternative to my bonds- which were earning quite nicely through it all..... the answer btw, so far, is NO).

When i finally rounded out my general investment knowledge by looking at the recent works by Nial Ferguson in "the Ascent of Money" and doing some further background that included Nasim Nicholas Taleb, author of "the Black Swan" among other books on chance and investing, i decided this blog was the next step.

This blog represents my conclusion that the whole notion of diversifying an equity portfolio, that you should balance 50% stocks and 50% bonds or anything similar to this, is a myth.

This blog is my attempt to verify or discredit the belief that the most efficient and safest way for your investments to not go down in value, beat inflation, earn a steady return and provide a fully customizable portfolio for your specific needs is.... BONDS (specifically investment grade corporate, provinical and even real-return government of canada bonds).

If you pay any advisor 1% or more of your capital every year just to manage your money, it is a myth that you need to pay that much just to preserve capital and create growth.

I started this blog with the idea that putting anything more than 10% of your assets in an allocation that does not promise to protect your capital is too risky- investing is about assumptions of what will happen in the future and these assumptions always contain risks we ignore or are unaware of and that is why people lose money when they don't have to.

Im happy that the rebound of march- april has restored an average of 25% people's retirement savings (for those that stayed invested). There are a lot of people who lost over 50% and have little to no chance of ever recovering from the peak, but this is why we call the market volatile and why i'm too scared to put a 1/4 of my money into that arena.

when i do put money in the stock market, i realize it's to my advantage to take more risk. I'm already prepared to take a loss so i want to take the most speculative risks. Do all those crazy trader strategies- buy the companies people are terrified of, buy the companies you like that no one has ever heard of and hedge like a mad man. That's the nature of speculation and it's the form of venture capitalism the stock market provides. If you are prepared for the downside of an unprofitable company, but you like their product and you personally believe in it (like some eco-small-cap-companies, or bio-tech, or whatever) you should enjoy the role of capitalist and your economic vote to increase the resources of whatever belief you attach to your preferred company. your money could, obviously evaporate completely, but when you take only 1% of your net worth and throw it away at a cause (which you had hoped would be profitable) you can also consider it a form of charity and the government does allow a tax credit for the loss if it all goes horribly wrong.

frankly, looking at the corruption and admitted failure to make any meaningful long-term progress from some large and established charities, i think the argument can be made that (specific, highly-speculative) investing in the stock market is an equally charitable form of donation.

buying a bond vs. stock in GE as a medium term investment (about 5 years)

2009-05-03T12:09:00.000-04:00

As a Canadian, this dilemma has a serious caveat.
If a Canadian investor wishes to add shares of General Electric Co. to their portfolio they must open a U.S. dollar account and purchase the shares on the NYSE in U.S. currency.
This means that you take the additional currency risk, with respect to the total cash distribution paid out each year, or when you sell all the shares, and convert the money back into Canadian currency (should you choose to do so).
If you want to spend the earnings of your US currency investment inside the states, this isn't a problem
It is still a factor to consider when making an initial purchase (dollar-cost averaging is an applicable strategy that can smooth-out the volatility of currency value, but more transactions also increase the total cost of transaction fees).
If you want to spend the money you earn form your GE shares in Canada you face the additional currency volatility (i.e. if you need money when the value of the Canadian dollar has sunk, it can drastically reduce the buying power of your earnings, hence lower actual cash yield).

taking those factors into account, GE is one of the most diversified, industrial, commercial, media and unfortuantely financial companies in America. The financial hoob-a-joob that took place within that branch of the company has taken the entire corporation to the brink of insolvency.
Fortunately, all major financial institutions in America and around the world are able to borrow money at about zero% and lend it at 5-6%. This is a guaranteed way to keep otherwise bankrupt companies in business during what can be called a mini-depression.

The price of each share was around $25-$35 US ever since it split in 2000. Then in March, when the S&P500 hit 666, it was at about $6.66. Since then, the S&P closed friday at 877 and GE shares were trading at $12.69. The last dividend payment was $0.31 and nobody is sure if it will be maintained or reduced going forward. If you buy the shares on friday, the average yearly cash distribution is (barring a dividend cut) 9.77%.

Can't lie, in the medium term, that is a very, very attractive offer. even if the dividend is cut by 50 or 60%- that's still a good offer, looking at the long-term value of the company (excluding any currency risk).

As an individual investor, look to see if you're willing to go on the roller coaster ride of the future with this company. the value of your capital ($10000-$20000) will be fully put on the line to thrive, survive or decline along with the future prospects for solid revenue growth and the value of the Canadian and US dollars.
If you like what you see, be brave, bold and determined.

Or, if you're just into the idea that instead of taking all the whopping big risks the company has to make for a juicy 9.7% return, you wanted to take an alternate path, providing a great more deal of stability when dealing with the future earning potential of this mammoth and wildly volatile company, avoiding the stock market entirely.

Currently their is a bond issue from GE circulating around most of the retail bond trading desks in Canda. The features of this bond currently are as follows: It matures in june 2014, the original coupon rate was 4.4% and currently is available at 5.3%.
this means that the bond was issued at units of 100 that cost $100 each. your minimum investment is therefore $10000.
But because of all the current global economic uncertainty and decline, investors who sold off their stock (sending the price plummeting an average of 60% from the highs) also sold their bonds, in the belief the company could go bankrupt because of the inherent weakness in the financial arm.
the difference in the sell-off of GE bonds is that the $100 unit price fell to as low as $90 and is currently sitting at around $95 per unit. This means the minimum investment is now $9500, which is why the yield is 5.3% for new investors and still 4.4% for anyone paying $100 per unit.

Also, when the bond matures you will have the additional capital gain. This means your capital will be returned to you in units of 100 that have a value of $100 each. The only reason the cost per unit was reduced was because of investor pessimism. This bond is still A-rated and considered investment grade. The sell-off of the GE Financial bonds was moderate and short compared with the stock. If you invested $9500 originally, $10000 would be returned to you at maturity on top of all the interest payments received before then.
Questions about the future remain, but any bank that can borrow at 0-1% and lend that out at 5-6% is going to make steady money. I also know that my bond payment (guaranteed to be cut only after common shares and Warren Buffets preferred shares) falls in that 5-6% range so it's likely they will be able to make my interest payments untill maturity.

If you feel safe and confident about the company, you press the buy order and the brokerage will transfer the money and you start to receive your payments. You are not dealing with any foreign currency. all of these transactions are available in Canadian dollars.
As the bond investor, if that looks like a good return (about 3% above a similar government of Canada bond) with little to no risk of taking a loss, why take the risk of a big loss just to get the big gain?
money is what you earn, investments are what keep your money safe.

interesting view on canadian banks

2009-05-01T08:19:00.000-04:00

http://network.nationalpost.com/np/blogs/tradingdesk/archive/2009/04/30/bank-ppes-ample-cushion-against-rising-loan-losses.aspx

how to purchase a bond

2009-04-30T14:31:00.000-04:00

step one: be a millionaire.

-sadly, this step is often the most difficult. However, once you finish step one, i promise all the other steps are very easy to accomplish.
- if you can't finish step one, don't worry there are alternatives to engaging in the retail investment grade corporate bond market, which i'll discuss in a bit
- the reality is, if you go to a large financial institution or any investment group, only the high-net worth individuals have the chance to work with the senior advisors. if your investments are at the $200k-500k range, or less than a million bucks, you still likely will get stuck with an inexperienced advisor who will likely not understand how the bond market works and suggest government of canada bonds, bond mutual funds or etfs exclusively and then try to put too much money in equities (this is different depending on your age/pension context)

step two: do a thorough investigation of investment advisors.

- You need to be willing to ask friends, family and colleagues (it can be awkward talking about finance) about their investment advisor or if there is someone experienced they can recommend.
-meet with a variety of investors (at least 4) and ask them about their strategy (never get talked into opening an account right away) and ask them what they think about bonds, what their experience has been buying bonds for clients, and ask them how they interact with the bond desk
- if they tell you that the bond desk can make life difficult for them- walk away. the advisor does not know how to effectively work the retail bond market
- if they tell you that the majority of their activity is with the bond desk and that they have a solid, and ongoing relationship with the bond traders, this is a good sign they know how to consistently get you safe bonds that have an attractive yield (the historical average for investment grade corporate bonds of a 5 or 10 year maturity is 3% ABOVE the government of Canada rate. much higher or lower yield should raise your attention to a risky/bad investment)
-NEVER, NEVER, NEVER trust a young, or inexperienced advisor if you want to invest in bonds. It takes years of experience and relationship building with a Financial Institution's (BMO, TD, CIBC, BNS, RBC, etc) bond desk in order for an investment advisor to be able to effectively structure a large and diversified, laddered bond portfolio
- The reason is also simple: young advisors, and advisors with a small amount of clients need to extract more commissions and fees from that smaller pool of clients than an established advisor with a large book of clients. In order for the established advisor to make his salary, he doesn't need to depend on large commissions of any one client, unlike the advisor who is just starting out and needs to churn his small number of accounts just to make money.
- even if you are lucky enough to get a senior investment advisor, you must still be educated in the corporate bond market in order to work on an even playing field with your advisor, which requires that you complete the final step.

step three: do some studying (you will not need to have any type of expert knowledge, but you will have to become knowledgeable) i.e. build your own fund of investment knowledge.

- study the credit history of the companies you wish to invest your money with (available at DBRS.ca).
- study your personal context and what kind of investments are you comfortable with making (sometimes you only want to be half invested and leave some in GICs or a savings account, sometimes you need dividend income, not interest income, sometimes you want to be fully invested- you need to figure what is the right mix for you)
- i personally believe, and from what i read from people like Niall Ferguson, Nasim Nicholas Taleb, and countless other wise souls, YOU CANNOT PREDICT THE FUTURE. Worse, you will never be able to predict the future and it's actually in your best interest to expect that the worst outcome is the most likely.
-expect and plan for the worst in all circumstance while still being hopeful that things will be rosy.
-this attitude leads me and others (counter to the popular DIY investor strategy)to believe your personal savings should remain in investments that promise to repay your capital and that any investment in equities should not total more that 10%. This way, your claim to future performance is only what you stand to lose (10%) and you have prepared for the worst while leaving hope for the best.
- Every day you need to read the paper and follow the news related to the companies you have invested in. Their respective industries, the state of global trade, finance and output, and the level of debt of nations and corporations are all things you need to at least have a basic understanding of.
If you:

1) read the paper everyday and

2) do a little extra homework on the company you want to buy bonds in (just knowing if they have too much debt, have good assets, steady revenue, etc.) and then

3) know the credit rating of your bonds,

this is all the extra homework you will need.
a good advisor will act as a way to reconfirm what you are already expecting.
In essence, you are paying your advisor to provide you with bonds that meet or exceed your expectations.

- following the news and the credit rating of your company will allow you to determine if it's best for you to keep your bonds in short term lengths to maturity or longer term, or which type to keep long term and which type to keep short term
- a bond portfolio is fully customizable to your particular context, so you need to know where you stand.

....

So, you don't have a million bucks to invest? well, you can still build a rock solid bond portfolio on your own that should have a similar average yield to the millionaire portfolio, just scaled down to your particular heights.

1- register with one of the big financial institution's online discount brokerages (TD and BMO offer the best bond inventory, tools for making a laddered portfolio on your own, current credit ratings, and the best prices). But, to get the discounted fees, you usually need to have at least $100 000. if you don't have that much, you may have to pay some additional costs to keep the account open. Other discount brokers may not have the additional costs, but they are less likely to have the variety, quality and prices of the big boys (TD and BMO).

2- go to the library or book store and get either edition (the 2nd is a little more up to date) of Hank Cunningham's book "In Your Best Interest: The Ultimate Guide to the Canadian Bond Market". Most of what i say is basically repeating his strategy. he also runs a website, where he takes questions directly from people- www.inyourbestinterest.ca
I have no personal connection to this man. It's simply my experience that the only book i would have needed to read (if i had no other experience, information or advice) in order to make safe investments was that one book. And i have read almost all personal investment books currently on the market. Hank is one of the most successful and most recognized 'bondies' in the business in the history of Canada and every single experienced investor and advisor i have ever talked to has talked about the exact same strategy time and again: laddered ten year portfolio of investment grade corporates and provincial bonds. If you want to know the secret of how rich people preserve their wealth and pass it on to the next generation, this is it.

3- follow the same strategy outlined before when it comes to knowing some of the basics of the companies you want to buy a bond from, the basics of your economic needs and the basics of the state of the current global economy. You simply don't need to be an expert. Most experts actually don't know about bonds and if they do, they admit that the average joe is just as capable of making the right choices for their investments if they just did the little bit of extra homework.

4- you will be the one creating your bond portfolio, not an advisor. so it's up to you to spread your money out. the simplest strategy is to put maximum 10% of your investment in each year up to ten years. That way, 10% of your money is freed up every year to reinvest. If inflation is rising, interest rates will also, likely, rise and that returned captial can be invested at the higher rates. the same process is repeated every year. Barring hyperinflation (which is a very remote but real possiblity), you have greatly reduced inflation risk to a fixed-income portfolio.

5- it's important to diversify a bond portfolio because any single issue for a company has some risk of default, or some bonds have a 'call' feature, where the company can decide to give you your money back whenever they want. This isn't a big problem if only say 1-5% of your capital is being returned, but what if you put 30% of your capital into one callable bond because you liked the yield and thought it wouldn't be called, and it's called at a time when interest rates are next to nothing (this is currently happening with some bank bonds).
for each company that i have a bond issue from, i put no more than 1-7% of my capital in that one company, as a way to avoid being overly invested in a single issuer.

6- once you have figured out the right mix of companies and the right amount of money to have invested, take some and put it into the stock market. I say this because once you have built your bond portfolio, that's it. it's finished. you can't tinker with it. the value won't fluctuate if you hold to maturity. in essence, it's a sleep-at-night portfolio. It's a boring way to make money, because it's slow and steady. Imagine the tortoise and the hare. Well, it's wonderful to be the tortoise because he's the hero of the story and he wins the race. But you are a human and you need something to keep you motivated and interested in your investments and not to forget when you have money coming due.
i put no more than 10% of my money in the stock market because i really like it when people promise to pay me back. no one in the stock market ever does that. But i still need some excitement and stock market-induced adrenaline in my life, so I put my money in canadian bank stocks (i know equity people who call these widow and orphan stocks, well these day's their downright speculative) and energy stocks (primarily as a hedge against the type of inflation triggered by rising oil and gas prices). IMO once you have protected the majority of your money, go crazy with the rest. if you want some dividend income, you should have fun on the stock market and see how you can fare. Your probably won't lose it all, but even if you lose over half through stupid investments and trades, you'll have learned the lesson without risking your life savings and you can write-off the capital losses on your tax statements.

no comments, no one reading

2009-04-29T18:19:00.000-04:00

maybe i need to provide a better layout or a different name or more 'about me' content on my bio page....
i think i've provided all the information any young DIY investor will ever need to make safe informed decisions that protect their money and earn a happy, reliable rate of return.
no one seems to notice.
worse, when i comment to other investor blog spaces on the net, i am shunned as being a radical or i am completely censored and none of my insights get shared with the online community.
i'm trying to help these people.
maybe i need to try harder and i'm open to suggestions.

income vs. income

2009-04-28T10:07:00.000-04:00

I recently read a blog called "eary retirement extreme"
this is the personal views and ramblings of a young person who lives in california.
i described this person as a hippy.
this person claimed that he didn't need to work more than 3 hours a week as a copy-editor because he worked for a few years before and saved all his money by never having expenses.
with all his savings he put it all in the stock market, and taking advantage of the tax breaks and his no-cost lifestyle, he feels he never has to work again.
he is now free to write his blog, work on some sort of book, he claims to be in the process of operating a 'startup' that has yet to produce anything specific. he likes to ride his bike and read books and generally not work a typical 9-5 life.

now, i don't live a typical 9-5 work life but i think that there are some people who excel with that structure as they have a large support network that allows them to maintain a personal balance of healthy diet, regular exercise and interacting with loved ones.

My point is that we have individual work context that make certain hours either easy or difficult. and if people find living a 9-5 schedual too hectic to maintain that healthy balance, they are free and in fact should try to find an alternative way to earn an income that restores that balance.

That last part, about restoring a natural balance is the key difference i have with this blogger and all ideologically blinded people whom I refer to as 'hippies'

from what i have understood, the hippy believes that much if not all of the consumerism and labour that has come to comprise and dominate our society is fundamentally flawed, ignorant to reality of humanity and unsustainable.

As a consequence, the hippy will seek not to engage in employment. Time and labour are what we exchange for money in a capitalist society (according to the 'hippy Confucius', Karl Marx). From his persepctive, the life of the hippy is of such a fine and intangible quality, that exchanging the time and labour of the hippy for employment income is a losing trade.

This hippy has used his wisdom to take advantage of the unsustainable and erratic society's economy. Because the hippy believes it is clever, it can use the basic principals of capitalism (investment and return) to his advantage. He can earn money without sacrificing his time and labour and now money has no meaning to him. he has no need for material goods and he does not need to consume.

These behaviours have the consequence of making the hippy feel as though they are very helpful to their environment. They demand less of all the bad things and they do not participate in the slave/master wage/labour economy, except on the master side.

I suppose i have no problem with earning income off an investment, that's what all of us want to do when we retire. I also don't have a problem with people who 'retire' early, even when they're in their twenties.

The problem i have is with someone who considers himself to be a source of information and insight actually just taking flawed principles of academia, investing and work, and reducing his future employable potential to such a low point that it's as if he was never employed to begin with. This person then goes on to argue that his example is one that people should model, and people thank him for showing them 'the truth about work'.

I believe so strongly that this person not only has made factual and logical errors, but is ultimately making moral errors, that i was willing to post comments on his blog about how his ideology was too rigid, was not realistic and contradicted the experience of the vast majority of the world.

Though, he initially responded on his blog with a comment about me being a banker and having my tie cut the blood to my brain and not being able to farm on my own and not understanding the value of being thrifty and being brainwashed into being a mindless consumer.

I was pleased to see that this person was willing to engage and debate my ideas on investment, and in this context employment income.

I responded with my belief that when you are young, and energetic and able-bodied, you should always do your best and work your hardest to have a professional attitude about your employment career. Even if you are able to live off only your investments, this is something you should only ever want to do for an extended period of time if your are old or injured in some way!

The reason i believe this attitude, of always wanting a good career you enjoy that can pay you well if you put the hard work in, is not only from my personal experience, but the experience of everyone i've ever known or read about who: is a)wealthy b)successful c)truly happy, fufilled and considered wise by all that know them; or any of the above.

The unforeseen benefit of having that attitude and putting in the effort is all the social connections we make through seeking a career. I believe that human beings are instinctively highly social creatures and that the more socialized a person is, the happier they are. I know the economy and family are much different for this generation than say 50 years ago, but having that ambitious attitude is not a work ethic common just to the WW2 generation in North America. that is the spirit that has driven ambitious people to create and build throughout the history of human experience worldwide. The greatest thing about our society is that young men were told (right or wrong) that they had to go and fight and die to protect that same freedom for their children and their grandchildren. They actually did just that so that we can all enjoy the same freedom and safety to pursue our ambition now.

Sadly, the wealth for society that was created through this waging of war and collective value of merit and achievement being rewarded in money, created a glut of people who were raised with too much of everything. In essence too much success too early in life. In my view, this is a phenomena of human behaviour consistent across societies across the ages. It's the rich kids, and middle class kids, who grow up never knowing the true hardship involved in creating stability in an inherently unstable world, that end up hating it the most. For they are the ones who have always been able to take it as granted. This sense of entitlement, falsely instilled in them since birth, creates a sub-culture of extremists. People who are so utterly convinced that the world that gave them everything is of such a ruddy and unsustainable nature it is best if everyone were to follow their lead, and simply walk away from everything, let the grasses and weeds retake the office buildings and live our lives as simple farmers, who have the internet.

I posted these thoughts with a perhaps more glib tone and they were posted on his website.
Yet something strange seems to have happened. I don't think this hippy enjoyed reading my notes. In fact, i'm pretty confident he hating seeing any criticism of himself or his selfish and sheltered ideology and lifestyle so much that he was willing to take down my posts. which he did.

He recently posted a blog talking about how he gets the occasional commentor who extols the 'duty of work' and 'duty to sacrifice' (i think he was referring to my comments). He comments that he considers these both protestant and collectivist ideas. Interesting point (not really)... Yet he goes off on more thought-garbage as to why not working is superior to working.

My fundamental point was not that you need to stay at your job if you hate it. you should quit your job if you look big picture and you say 'i hate this'. but you should always try to earn the most employment income you can that will still bring you satisfaction. The reason is simple: you don't know what the future will bring, what if you get sick? what if you need to be able to earn money if someone else you care about gets sick and needs money, too? You need employment because you cannot predict the future and your experience, skills and ability may be all that you have to get out of unforeseen trouble. That second last point, about trying your best, is where i'm critical of the hippy.

The hippy talks about working hard to lift weights, fix his bike, go for bike rides, write a blog, try to write a book. but all these things won't help him if he is trying to maximize employable income. the hippy is taking a passive role in his life and allowing the stock market and his ability to keep his costs at nothing to justify his 'environmentally sustainable' life.
But the hippy is investing nothing in his own productive capacity. He believes he needs only 3 hours a week of copy-editing. He is blind to the real opportunity to enhance his quality of life in the future and the quality of life of others by volunteering more often and trying to find gainful employment in alternative fields.
the fundamental point is simple: if you're young, you need to work. hard work is it's own reward. It is it's own reward because you never know what will happen in life and you never know what wonderful opportunities you could encounter when you are pursuing a career. conversely, if you never seek real employment, or do so without consistent, determined effort, you will never have the opportunity to know what opportunities you could have had....

The hippy doesn't want me to post those types of ideas or opinions, that's up to him. But it's ironic and very revealing that a hippy, who is all about his gay freedom of expression and shitty bongo music and being dirty and having ugly dreads and all that crap. he'll take down my opinions like's he's dick cheney, karl rove and big brother all rolled into a bong. just for the simple reason that i am so completely opposed philosophically to his philosophy.

that to me is the saddest form of hypocrisy (we all have some hypocrisy) but that is just so intellectually bland it makes me sad for humanity that people actually like the ideas this person is promoting. If enough people out there enjoy his stuff enough, he may even publish his unfinished book and make lots of money and have the last laugh. I remain skeptical it ever sees the light of day. I hope there are people on the internet who are able to see the underlying reality behind people's arguments (mine included)

He posted other responses to this blog post on my comments about 'hard work' and 'sacrifice', but not mine.
The link to his blog post about my comments (which he removed):
http://earlyretirementextreme.com/2009/04/a-duty-to-work.html
Here is a copy my response to this blog. maybe it was too harsh for the famously conservative internet blog forums.

"I'm going to suggest that there is a genetic reason why hippies are the way they are and refuse to recognize that they have lived a totally sheltered life.
But first, i'll just comment on the paradox of a subculture of upper-middle class, predominantly white, 2nd or 3rd generation westerners extolling the virtues of their choices. Then, before the facts, condemning virtually every principal, practice and value that their ancestors stood for (right or wrong) and which makes their sheltered universe possible to this day.
highlight this with the further paradox of now arguing that their lifestyle is something they must be given the freedom to choose without criticism (in fact, you think you should be praised) while they condemn people who seek a career on purpose as some sort of slave to a machine which has told them they have to do this even if they hate it.
yet many people actually like, and love, their jobs. they remain at their jobs because they have come to love their coworkers/employers and have come to be valued by their company (this doesn't always happen, but it's wrong to deny this positive symbiosis does actually happen regularly in our society to the benefit of many- think medicine and the sacrifice doctors and nurses must make- yet most love their jobs)
It makes me think you probably just lack sufficient levels of testosterone.
not because i think of you as less masculine (though you did just compare yourself to a housewife), but because i have read studies that show a correlation between men who prefer not to be aggressive when pursuing a career or some sort of material enhancement in their quality of life (lifting weights, an unpublished book full of your unrealistic ramblings, and an as yet un-started start-up don't count) and lower, naturally occurring, levels of specific forms of testosterone.

these same studies (they were reported on several major news outlets (not fox) so that's how i remember them), maybe you saw one in your scientific journals, showed that men who had higher normal levels tended to be more aggressive in pursuing a career they were interested in and seeking to 'get the most' out of their experience ie. being open to taking new opportunities as they arise.
men with higher natural levels of testosterone also took more risk, more frequently with their equity investments.
lower testosterone males tended to be methodical and slow moving in their equity investments.
the study was also done to include investment advisors and portfolio managers and it concluded that their respective testosterone levels were similarly correlated to the other test subjects. testosterone is not correlated to stock market performance, unfortunately.
what it all says to me (and i've been called a hippy and a corporate shill probably by the same person....) is that i should more than likely (not to conflate correlation and causation) give up. a hippy will likely never see the validity of a logic that is outside the domain of what they are willing to do with themselves. if they lack real ambition to have material improvement in their life, it's not so much a debate about the right choices to make, it's just the obvious choices that we are always predisposed to making.

I was born and raised orthodox (much different than protestant) and my parents were refugees fleeing communist Albanians. i suppose that's where i get the idea of sacrifice from (though my family (of remote farmers) fled so they wouldn't be forced to sacrifice to the state...). But my parents could have been happy when they came to the west, living off welfare, working only for the bare necessities and making sure i got to go to school on government aid and i could have just grown lettuce in the back yard while lifting weights.
we wanted more for ourselves because this place, Canada or America, provided countless opportunities we never had before, provided we were willing to work for them. Now, this is not an advertising pitch called the American Dream. it's something people with ambition have called drive.
you give the example of a hunter/gatherer society. they don't need to work once they have their food and shelter because that's all they need. while this is true, life in a state of nature is short, hard and brutish. the average lifespan is 35. why would any high-functioning adult spend his entire productive life, knowing there were simple things that could be substantially improved (medicine, literacy,) choose instead to just hunt and fish forever? its because trying to actually improve things, and not being a total dick about it, is a full-time job that takes empathy, commitment and sacrifice. The idea that you, more than some other westerner, are somehow more in touch with reality or nature is a total lie and you are spreading a false doctrine that is infiltrating the minds of susceptible youth who could otherwise be doing something worthwhile for their community.
if you really wanted to make the world better and feel responsible for that in some way, end this blog and volunteer at a hospital, soup kitchen, elderly residence or street kid centre. I'm sure those people would get much more entertainment value out of your ideas than the value anyone else gets.

traineeinvestor makes a good point."

Nassim Nicholas Taleb david hume and your portfolio

2009-04-23T08:42:00.000-04:00

I suppose it's my fault for just listening to the lecture.
but i looked at the bio for Prof. Taleb, and it's quite fascinating.
With an MBA, he worked as a floor trader and senior trader at some of the biggest trading houses on Wall Street. During the course of his career, he earned a Phd. from the university of Paris.
What Taleb was concerned with was no esoteric formulas about the market, or how to hedge properly (though he did write a book called Dynamic Hedging). taleb is interested in one thing and one thing only: chance.

Not probability of an event, but the impact of the event will have on probability. He is much more capable of describing chance than I am. But I visualize it in this way:

For an investor, or trader or anyone in business or anyone trying to predict the future in any shape or form.

When you try to make a bet about the future, when you try to make a prediction based on passed observations, you are using a theory.

theory is very limited in it's use. why? because of chance. because of the fact that when it comes to social, cultural, political events, natural disasters, wars- we simply cannot predict when these things will happen.

these events that take place in the world really do have consequences for society. The market meltdown we have all just witnessed is the perfect example.

the vast majority of people put their faith in investment advisors, mutual funds and money managers, who had in turn put their faith in financial institutions that hand in turn put their faith in excessive borrowing and putting borrowed money into bad investments.

The danger is that when a cataclysmic event, like the credit crisis, hits, human beings are genetically and biosocially predisposed to reconstructing our original predictions and forecasts in the presence of new observations.
do people actually do this? well there is lots of clinical data to support the fact that when an individual or groups of individuals make predictions, observe the data, and then later reflect abou their predictions. it doesn't matter how wrong their predictions were from the observation. Clinical studies show people reconstruct their past beliefs to fit with the current reality. I know I'm guilty of shaping how I see many of my past experiences differently at different points in my life.

the point of saying all this highlights the fact that economic modelers, economic forecasters, people who take data from a year or the past century or whatever, and then try to use excel or some other fancy mathematics to extrapolate the past data into a model of what to expect are NO BETTER THAN ASTROLOGERS. This goes for the majority of investment advisors, money managers and do-it-yourself amateur investors. All of these people who use increasingly elaborate mathematical economic theory to predict what will happen in the market place lost a great deal of money over the past 6 months. So has every single person who followed the 'belief system' of the world that existed before october of 2008.

Before october 08 every single investor believed that equities were always on a one way ride up. There could never be a credit freeze again (we were too smart, regulators were too well-informed) and we just kept getting better at everything, winning in Iraq.

It made it easy to deal with paying 3x the amount for oil and natural gas than the year previous.
people didn't think about the long-term consequences of a massive and rapid run-up of energy prices. They didn't think about it because the last time it happened the stock market wasn't wiped out by half.

The Black Swan is not just a book, it is an ancient philosophical problem. Put in contemporary terms, it was a common phrase like 'when pigs fly' to say that something was as likely as a black swan. Well, this phrase was used before the British had discovered Australia, where they did indeed find black swans. David Hume called his the problem of induction. when we create a theory or law, based on repeated observations. The essential question proposed by Hume was: what is the real law or guarantee that just because i have observed the sun rising and setting every day of my life and for those who have ever lived they say the same thing. What hard and fast law says that it must rise tomorrow or that it must always rise every day? From a strictly philosophical point of view, he is correct. the problem of induction is one that philosophers have never answered and never posed seriously because it essentially undermines the entire academic world. the problem of induction says that we can essentially predict nothing. we can have no absolute rules for our world in any domain and therefore the world as we observe it is completely unknowable. it's not even just unpredictable or chaotic, it's unknowable.

Now, that logical conclusion is what led many great philosophers, who tried to tackle the problem of induction head-on, to become deeply religious men.

personally, i take a bit of a positivist attitude. There are real observations that we can make and there are limited theories and predictable measures of behavior across a large number of domains.

Taleb refers to two domains of knowledge and existence: mediocristan and extremistan.
mediocristan is all the stuff we learn in schools but is of no practical value
extremistan is like how the real world works, where only a handful of people control most of the wealth in the world and evey body else has only a smaller average.

mediocristan is the domain where if you get enough numbers and do enough calculations you should be able to do accurate models and predictions. This is the domain of dentists, where even the best dentist in the world, his income doesn't differ that wildly from the average dentist income.

extremistan is where warren buffet and george soros and a few other guys control half of Wall street and hundreds of billions of dollars and the millions of the rest of the investment world is trading in a few thousand bucks here and there.

the point about the difference between mediocristan and extremistan: we like to believe the world is like mediocristan (and in many aspects of our life it is that way) but we generally ignore and limit our understanding of the domain of extremistan.
we prefer, through listening to anyalysts and forecasters and gurus, to ignore the fact that extremistan is a real domain of life and it has very harsh realities. the realities that only a few dominate the average and that it is totally unpredictable as to who will be the dominant in extremeistan.
there is no financial model to predit the success and value of a google.
there was no financial model (outside of a few astute observers) for the recent financial meltdown, untill after the fact.
further evidence to the idea that extremistan (which is primarily the domain of economics and finace) is totally unpredictable, for even the most dominant, is Warren Buffet. he spent a princely sum of money on a giant oil company just before the giant crash in oil. maybe he did this on purpose, but that's unlikely in any scenario.

the lesson for your investments: if you think stocks and trading in other forms of equity-based investments are a safe place for the majority (or even bigger than 10%) of your savings, if you have been given this advice from an advisor or read it from an investment guru, it is the same as if you had taken the advice from an astrologer.
the data, as discussed by Taleb, shows that when it comes to economic forecasts and predicting what the market will do, human beings simply fail time and time again. Life and finance are too complicated to ever be able to know if or when the financial black swan will arrive.

therefore, look at my previous post and start to think about what's really in your best interest.
extremistan and the fact that i can't know anything about the future and that's the one thing i can know about it, makes one prone to the ultra-conservative with investments. prepare for the worst in all circumstances and take some money and go nuts with it.

the future ain't what it used to be

2009-04-21T10:05:00.000-04:00

This professor, author of the book The Black Swan, gives an hour lecture that explains everything about why we should never take advice from people wearing a suit and tie. Basically, we are being hypocrites when we are skeptical of our religious experts (the pope, bishops, ministers) aka athiests, and yet we trust in the stock market.

i found the entire lecture fascinating and insightful. He is a colleague of Nial Ferguson, author of The Ascent of Money, and offers great ideas about history, society, science, philosophy, everything.

for all those amateur investors, pay close attention to the section around the 1 hour 11 minute mark. He is asked if he buys stock, ever. His answer is that if you look at the investment data objectively, if you construct your portfolio as the average guy trying to save his income for retirement you need to rethink moderate risk.

- Take the vast majority of your savings and put them into investments that have zero risk to losing the principal.
- take a small percentage and expose it to securities that give you the maximum exposure to risk.
- a ratio of 93% in investments guaranteed to return your principal, 7% of the riskiest investments you are interested in. this represents a truly and objectively diversified and moderate exposure to risk.

- if you lose all of your riskiest investments (where your capital is not guaranteed to be returned) you still have only lost 7% of your net-worth, in what could only be described as a worst case scenario
- if a best case scenario results and you double or triple your 7% investment, you have still been able to capitalize on a high risk gamble while still risking minimal capital.

- every source of prediction (especially from finance, investing, analysts and forecasters) are based on fundamentally flawed data:

our understanding of the past is warped retrospectively (ex. the belief that WW1 was predictable and inevitable) and hence not useful in reliable predictions of the future, which simply do not exist and have never existed. predicting the future is for over-sized egos, outright thieves and messianic lunatics.

http://fora.tv/2008/02/04/Future_Has_Always_Been_Crazier_Than_We_Thought#chapter_22

buy and die

2009-04-19T08:25:00.000-04:00

http://www.financialpost.com/news-sectors/story.html?id=1507182

this is an interesting story about a dichotomy for the average investor. Do i buy an investment and keep it forever, or do i try to pick a time to take my profits and find something else?

this applies to all asset classes, stocks, bonds, mutual funds, GICs, real estate.....

What i like to do, as a reader, is probe deeply in this article. to see the hidden context behind this article and so many others like it.
manipulation. Though it is the deliberate attempt of no author, editor or publisher to undermine you and your confidence, this is exactly what happens when we begin to follow the advice published in the easiest places to find advice.

The problem lies not necessarily with the media, the editors, producers and researchers, though they have an important role to play. The problem lies with the interview subjects and how they are approached. These are people who are asked to give insight into an educational exposition on personal finance.
So the newspaper decides to interview the head of this or that mutual fund, this or that 'investment strategist'.
This seems like a logical thing to do. However this is where the newspaper becomes lazy and the interview subject becomes deceptive.

The newspaper has taken on an act of complicity by publishing an article, or opinion piece, and supposedly backed it up with the informed opinions of these interview subjects, whose credentials are given.
The problem is that not only are we given no insight into their past or present performance as experts in their respective fields, we are given ZERO context that these observations could pose a clear conflict of interest. They go off to their client and say "look, you don't need to believe me, I'm in the paper talking about how you need to sell the bank stock you inherited because clearly the evidence shows buy-and-hold is dead, and even the paper says I'm the authority"

This is just one average, and not particularly thrilling example from one average, and not particularly thrilling article.

But my wider point remains that the majority of 'education' on the field of personal finance and investing is largely miseducation. the analysis and breakdown of market activity is one of the worse forms of pseudo-science alongside with creationism. Taken in aggregate, it leads uneducated investors down a path of personal insecurity where questioning the reasoning, and motives of an investment advisor, strategist, or guru, is heresy and only ever allowed in hindsight- when half your money has already evaporated. In this situation the little guy is asked to sacrifice his savings and investments to the will of the strategist and the market.

Now that i think about it, investment strategists and creationists share quite a lot in common. Much like God, with all the power in His hands, could create the world and a beautiful garden within which Adam and Eve could freely spend their years. In our example, the forbidden fruit wouldn't be an apple, but acting in your best interest... or knowledge, i guess (i guess financial gurus have more in common with God than i thought). 'Investment strategists' believe that if an investment advisor is given all-powerful control over your financial universe they know how to create a garden of Eden of finance. If you are humble, and never question your mighty investment advisor and never seek the forbidden fruit of knowledge, then you can run around naked all you like, i suppose. Most likely, you and Eve will get foreclosed and evicted before the cable gets cut off.

favouritism

2009-04-18T09:02:00.000-04:00

To say I am a bond person.
I'm not trying to say i believe in only one type of investment and despise all other types of investment as decorated ponzi schemes.
a bond person has a different attitude toward money and a different theory about how to invest money.
a bond person focuses on relationships. The relationship with the investment advisor. The investment advisor's relationship with his bond desk. The bond desk's relationship with the Financial Institution. I look at the investment advisor's relationship with other clients and other advisors.
I study all these relationships because their nature will determine the choices that are made available to me when i am considering where to invest my money.
If all of these previously mentioned relationships are constructive, open and clear, than i can be confident i will invest my money in something considered 'investment grade' at an attractive yield and will have the highest priority in the corporate structure (only below pensioners) when it comes to having my distribution paid in full and receiving all of my money back on the maturity date.

That last point, receiving all of my money back on the maturity date. That is such a wonderful feeling. Knowing that I let an investment-grade company borrow my money, they paid me better interest than any bank GIC, and they paid every single penny back by the date they said they would. I truly believe investors have lost sight of this empowering aspect of fixed-income investing.

Rather than looking forward to the repayment of capital, it is seen as a burden. Having to choose a new investment vehicle that was capable of earning as generous a return might be impossible.
This has been the attitude sold to the small investor. The sense of urgency, the additional pressure of 'missing' some opportunity. and the famous 'buy and hold' strategy that liberates you from ever having your capital being returned to you (unless you hold for long enough that your distributions eventually exceed your total original investment sum).

my point is, everyone has a context which makes certain investment products appealing and others unappealing. There is nothing intrinsically right or wrong, good or bad about stocks, mutual funds, hedge funds. They serve a valid purpose for those who are interested. This doesn't change the fact that virtually all Canadians who look to save and invest their money participate in the fixed-income market. But i admit it's also fair to say just as many use the equity market for largely the same reasons.

Ultimately, this leads me to an observation: Small investors expend a great deal of energy trying to determine the appropriate price of a stock and are willing to use great energy to discover and devise principals, formulas, methods and strategies that attempt to consistently provide advantageous 'stock picks' that yield annual returns well about market averages.
History has unfortunately shown that when markets everywhere drop, no one is safe.

My experience shows me, that with a concentrated effort on understanding the Canadian bond market, and building a positive, informed relationship with your advisor- making sure they work with a large, reputable financial institution; You can avoid dealing with large investments in mutual funds, index funds or equities, and still earn a stable and in no way 'locked in' average cash return of approximately 5%. A laddered portfolio provides the opportunity of having appoximately 5% of your invested principal coming due roughly every 6 months. This allows you several regular opportunities to find bonds that are still considered investment grade but offer attractive yields of 7-9%. A good advisor, who understands your interest in corporate bonds will help you find these bonds when they're available. But you have to ask about the turnover in inventory. The bond desk is like a supermarket and if you want something specific the best way to get it is to ask.

this is not to say i hate buying common shares. I simply view all its actions, up or down, to be part of the highly volatile nature of the stock market.

I have expressed that i feel the stock market is run by big boys (sovereign wealth funds, mutual funds, pension funds, hedge funds, insurance companies) that control billions of dollars in trades on a day by day basis.

WEll, the exact same is true of the fixed income market. the vast majority of trades are run by the big boys of government institutions, pensions funds, insurance companies, etc. the crucial difference is that your investments in the fixed income market at least have a promise to repay 100% of your capital by a specific date.

If you put a lot of your money in picking stocks and mutual funds, your money is eventually always in someone else's hands. Worse still, no advisor ever advises to sell. If it's down, it's not a loss because it's only a loss if you realize it. So don't ever sell it. If it's up, great let the magic of compounding work for you. So don't ever sell it.

The little guy trades either stocks or bonds in the wake of the big guys. If this is reality, i'd rather take the option that offers a guarantee to pay back my principal.

this is just my views on stocks vs. bonds. i'm open to what other people think.

self-interest

2009-04-17T17:59:00.001-04:00

I realize no one reads my blog.
why would they? I'm an invisible person, as far as society is concerned.
but what i have is not quantifiable at any level. This has been my personal context my entire life, why should it be different on the net?
What has changed is my understanding of financial reality. My ability to comprehend savings and investment has been altered and accelerated through real world experience and relying on the sound advice of those with their own experience.
I am willing to share my knowledge of what I think you should do with your investments based on what i do with mine.
I believe no logical person is willing to freely give up their capital when it is not necessary.
I believe it is not necessary to sacrifice the full repayment of your capital to attain a real cash yield of 5% after tax.
I believe it is greedy, and involves taking on excessive risk for the non-millionaire, to expect annual yields to vary dramatically from a 5% average.
I believe it is necessary to pay attention to historical context.
For this last reason, I have been willing to purchase common equity in Canadian bank stocks. I have argued for the soundness of this investment, this week specifically, in another blog that more people read. I believe this 'money gardener' has been too concerned with 'playing a game' with his non-registered portfolio and i offer my comments and opinion on his blog.

http://themoneygardener.com/2009/04/canadian-banks-look-frothy.html

maybe there is a reason to everything in the universe and someone reads my blog and has the onions to post a comment. I'm also open to the idea that all of my decisions and opinions could be my ultimate downfall in only a few years. I'm mostly looking to exchange ideas, that's what freedom and the freedom of information is about. These forums are worth their electronic weight in gold. And i have no idea what that means, but it's hella true.

diversification is dead. Farmer and French are Frauds

2009-04-17T09:14:00.000-04:00

I like to shop around for advisors. mostly just to keep my advisor on his toes, but also to explore alternative investment strategies and to keep my mind open to new possibilities I might not otherwise have been aware of.

I met with one advisor who seemed to have a fail-proof system. He said he didn't believe in directly investing in the stock market. He argued that when you go to a large financial firm, they give you a list of the dominant companies in the Canadian economy. By owning a firm in the form of common equity, you are essentially taking on all the risks of that company. The same being true for every different holding in an equity portfolio, the actual risks of losing capital is higher than the investor is really aware of.

On the face of it, the logic is clear and the argument is fairly convincing. If i am not qualified to run the business i am defacto part-owner of, I am abdicating my responsibilities to properly manage this company in my role as part-owner, because I only want to invest my money and earn income. In this scenario, the only work the investor is interested in is ascertaining the likelihood of earning money with their investment. Without factoring in the passive role as share holder, leaving the operation of the actual business to other people, there is technically a hidden additional risk to directly purchasing common shares.

his pitch then went on.
Seeing as inflation makes canada savings bonds only a place to store money, lacking the ability to 'grow' money, they are only to be used as a strict way to hold cash for a better opportunity to buy into equities. (this had me puzzled, as he just told me the hidden risk of equities)
No, not equities in any traditional sense. What the advisor was offering was a NEW WAY TO BUY STOCKS! This was a model created by two Harvard economists, that won the Noble Prize in economics.... about 15 years ago.

These genius economists, worked very hard and did the best job ever by any economists to look at what types of stocks go up in price more than other stocks.

(I had to stop there, this was ground-breaking stuff!- No it wasn't and i was just letting him go on hoping it would be short)

So what these two, very hard working, very bright economists did is publish a paper. a wonderful paper. It has a graph, and a spiral thingy. And the best part about this paper and it's graphy and spiral thingy, is that it tells you which stocks to buy so you can make more money than everybody else.

He went on. It wasn't going to be short.

you see, individual money managers may perform well in one year, but it's very difficult for them do so for 2,3,4 or 5 years in a row. Only if you could use academic data for knowing which stocks were good and which stocks were bad, you wouldn't need to rely on those old mutual funds and their archaic way of letting one guy pick all the stocks the fund holds.

Well, these bright, wonderful, Nobel prize-winning economists did develop a formula to buy stocks that will always out-perform the market. They called it the value-growth and asset-value growth system. It's increadible. Here's how it works:

1) you put 75% of all your money in 3 mutual funds right away.
2) you put the other 25% in a long-term canada saving's bond (on the basis that you could sell it if you really need the cash)
3)pay the advisor only .75% of all your assets every year, regardless if you make a positive return of not
4)sorry, forgot to mention, the mutual funds have an additional fee of .75% of all your assets
5)the mutual funds don't let you recieve a distribution, so if you need cash just sell your bond or get a job.

So now the funds go to work, they systematically only choose companies that have a lot of assets, but the stock price is lower than that reflects. They look at small emerging companies and find the ones that have the potential to grow into really big companies.

Wow, what a novel technique. What a revolutionary strategy. It reminds me of a famous Inuit saying about the baby seal skin trade with the Hudson Bay Company. Something like "buy low... sell high". In fact, maybe that mutual fund should see if they can copyright that phrase and maybe a baby seal logo.

This has attempted to be a sarcastic blog.

That advisor, or salesman, showed a chart of what accounts for 'growth' in an equtiy portfolio. he said the evidence shows that 'diversification' is what is responsible for 90% of the growth in any portfolio. If you think about this carefully, it is a hollow description.

My point is, the mutual fund I was being sold was supposed to be the 'next generation of diversification' literally thousands of stocks from all over the globe to be held and traded 24/7, based on some computations from 1996.

The fundamental flaw: all of his charts only went to 2005. I sat down with this salesman in 2009. Why didn't he have more recent data? all of the 1996-2005 data showed the fund consistently beat the average mutual fund by 2-5% every year.

After I met with this salesman, i went to the website of the mutual fund. EVERY SINGLE FUND LOST 60-70% during the past year. Since 1997, the average return of all the different funds was only 3%. that amounts to .25% growth a year. The salesman didn't mention that. He didn't mention that while analysts are in general consensus that small cap growth and asset value companies can routinely outperform general market indexes, they are also much more vulnerable to dramatic and lasting downturns, bankruptcy and buy outs.

He called me later on, hoping i would still open an account. I told him i'm sticking with my bonds. He warned me against inflation. I laughed. Not with a properly laddered investment-grade portfolio. I'm too educated to fall for the sales pitch now. I hope everyone else is as lucky.

Insider Information

2009-04-15T16:59:00.001-04:00

The truth is that stocks are part of wealth management. When you have a High-Net Worth, you often earn at least $100000 a year in interest if you simply put your money in a canada savings bond or left it in a variety of no-fee savings accounts. even if all you bought were conservative GIC's and you were earning the most conservative yield on your savings, you would likely be in the highest tax bracket. 40% of all your interest income would be taxed.

This is not good. What is good, is investing a large portion in investments that put your money into something that the government considers as putting your capital to work in the economy (and hence won't tax you nearly as heavily).

But that is not enough of an argument when it comes to investing the wealth of an individual. What about preserving the captial that you put to work in the economy? The argument is made, since the dawn of the investment advisor, you need an experienced professional investment guru who spends all day studying businesses, the economic trends, cycles, blah blah blah. You pay someone a fee to pick companies that will not lose all your capital and they offer you the chance, based on other peoples experience, to 'grow' your captial. Your capital is preserved when the share price does not lower from your buying price and rises over time above inflation.

Is that logic enough, to justify a millionaire putting half of his money (regardless of age) into the stock market? This is the general recommendation spread throughout our society. He will pay relatively little taxes. He will pay a fee to an advisor or portfolio manager who will claim to have the experience and ability necessary to pick investments that will preserve his capital.

If you believe in your advisor, if you believe in your portfolio manager or mutual fund(s), than you will likely follow their advice and immediately put half your money "to work" in the marketplace and probably put the rest in a long-term canada savings bond.

If the economy is stable and growing, the stock market does well and the stocks do well. If inflation skyrockets, the stock market usually skyrockets. Does that mean the overall return to the millionaire will skyrocket?

while it is likely that a managed or mutual fund portfolio will often report annual returns of 10%, 15% even up to 25%, this number skyrockets lower when talking strictly realized returns in cash in the hands of the investor. consider that mutual funds have low, if any, distributions. The management fee is anywhere from 1-3%, there may be hidden fees when returns exceed expectations and there are almost always penalties and hidden fees when you try to take your money out of the mutual fund.

consider also, that longer-term savings bonds are subject to much greater price, interest rate, and inflation risks. If you or your advisor doesn't understand how to properly construct a laddered portfolio (even if just in canada savings bonds) than you risk either having all your money invested in a bond when interest rates for new issues rise (if you want to cash in and buy the higher yielding bond, you are forced to sell your bond at a loss) or risk having all your principal come due when interest rates are crashing (like now).

BUY AN INDEX FUND! it does all the same work of a mutual fund, tracking the various sectors of the equities (and fixed income) markets with only a fraction of the fees. the shares of an index fund do fluctuate, so your captial is still no more protected than if you chose the companies inside the index fund yourself. Index fund, Mutual Fund, it doesn't matter. Any type of equity always carries the risk of reducing your invested capital to zero.

This should be old news. I know for some people they simply never think about these things. Reality is that at some point in your life you will have to make at least one decision about investing money. If you don't have someone knowledgeable acting on your behalf you need to be informed. better to be smart when you don't have to be stupid. Saving money is instrinsically about preserving captial and the idea of earning a return on your capital is what prospective investments are offering you in return for your capital. Invesment advisors and financial institutions, the powers that be, they have used marketing and sales to convince an entire generation that the stock market is the ideal retirement income generation and capital preservation vehicle.
How is that working out for everyone who bought into it? This strategy placed the primary goal of captial preservation into a secondary status behind income generation. Due to the favourable tax status of equities, invesment advisors were able to claim the ability to out perform a bond portfolio. After the market crash, this just simply is no longer the reality. The average investor is down anywhere from 25%-50%. With the crash in resource prices, distributions have been slashed or suspended across the marketplace (not everywhere, but about half of the typical portfolios distribution have been suspended).

Investing your capital with an individual or business or government is saying something. It's saying that you trust or value that person, business or government. In economics, our dollar is our vote. And your investment is your vote for the brightest future for your money and you.
Personally, when i let someone know that i trust them, I do so knowing that they will reciprocate that trust. that's what real trust in life and relationships is built on. trust is a mutual obligation and care for the point of view of the other in that relationship.

When i say that i trust a company and i want to vote for that trust with my money to the tune of $100 000, I like to know that the company will be grateful and will return the favour of my trust. they will not only agree to pay me back all of my money by a certain date, they will pay me a competitive rate of interest for as long as they have my money. Wow... but wait, there's more. if business goes bad, and they start earning less money, the business will promise to cut the money it pays to all the other investors BEFORE they ask me to stop recieving my payment. In fact, My payment is the very last (behind pensioners) they will ever cut and if they go out of business (god forbid) they'll sell off whatever assets they have to at least give me back some of my original investment (again, only behind pension plans in priority).

wow, what company issues stock like that? it must be GOOGLE or APPLE or some amazing new eco-energy company based in the rainforest, that has a fair-investor holisitic spiritual corporate culture.
WRONG, HIPPY!!!!!

It's a bond, it's the biggest, oldest and safest form of investment and you better educate yourself on the intrinsic advantages of investment grade corporate and provincial bonds or you will be like one of the many in this economic downturn who has lost 50% of their retirement savings. i will continue in my modest, informed and trustworthy habit.

5 is greater than 7 when 7 becomes 3

2009-04-11T19:23:00.000-04:00

Yes. It is possible. This is what happened to many people this year. They had a great deal of money invested in energy stocks, financial products and mutual funds. Not only have the mutual funds lost massive amounts of value, some of the financial products are completely bankrupt. Now, energy stocks, in an effort to keep the company alive, have slashed or suspended dividends. In the previously demonstrated portfolios, a 50% reduction in the dividend payouts would mean that the total earnings on the 'stock' portfolio investment would be set at roughly $12000.

contrast that with the 'bond' portfolio which still pays the same $15000 but because this meltdown has created a buying opportunity for corporate bonds, the chance to increase the return with some invesment grade longer term bonds (average duration of 6 years) is substantial. AND YOU HAVE 100% of your captial. you lost nothing in the meldown, provided you hold all your bonds to maturity.

i can't make the case any simpler than that. i hope some novice investors out there or even some experienced investors who have been doing things the wrong way find this blog and think about it. go read around on the internet and go to the library and look for books on the canadian bond market. IT IS "IN YOUR BEST INTEREST" TO DO SO!

why 5 is greater than 7

2009-04-10T19:41:00.000-04:00

looking back at those two portfolios. they are modest, six-figure portolios that could represent an inheritance, a personal pension, a life-time of savings or just one part of a larger portfolio. but for argument's sake, let's say your old, retired and have paid off everything, your home, kids, medical bills. your healthy, active, retired and free. well, it's possible that $15000-$18000 would be enough to pay all your bills and even have some extra to reinvest every year (consider the left over cash in this case to be spent on grand kids or vacations etc. if you were married and your spouse had worked and saved, you would likely be even more than able to pay the bills, have something left over and avoid spending any of your principal.
So, why not go with the portfolio that offers more money.
that is the line of reasoning people have been fed for the past 30 years. and given the current prices it's hard to argue against that logic. placed in historical context, the difference in the two portfolios becomes clear.

the 'stock' portfolio has the following advantage:
-currently, the cash return is higher
-the taxes are greatly reduced
-the possiblity exists for the share price and dividend to increase
-almost half the principal is fully protected in government savings bonds

the 'bond' portfolio has the following advantage:
- the return is still high enough to pay the average cost of living for an individual who owns their own home in canada for a year
- the cash return is guaranteed*, ahead of preferred shareholders and common shareholders
- the principal is guaranteed* to be returned at the specified dates
- choosing longer maturities with each return, will result in the real growth of cash return
*remember, real guarantees are not absolute and homework must still be done to have confidence in an investment grade bond not defaulting

on face-value, the danger of interest rates falling too low seems to put the bond portfolio at a disadvantage. while it is true interest rates are very low, this information should be considered in the context of our current economy, which is experiencing deflation. meaning gas is cheaper than last year, food is cheaper, electronics, cars, and homes are cheaper. it really is possible to pay all the bills with that amount of money- provided you are in good health and/or have effective medical coverage (not expensive in canada).

Regardless, these are current prices and yields and all those stocks represent buying opportunities right now.

But what if it wasn't right now. What if it was a year ago, with those prices and yields.. and suddenly the market tanks. It loses 35% of it's value. the revenue streams of several of your stocks have been hit hard and will continue to have trouble until the economy bounces back to growth (which everyone thinks is a long way off). what happens when the face value of the stocks dips 35%, the dividends become too expensive for many of the companies that relied on a growing economy. earnings and dividends could be cut in half.

where does this leave the two portfolios?

Disadvantage of the 'stock' portfolio:
- face-value of your investment is at risk to go all the way to zero
- common shares are the first to have their dividend reduced or stopped all-together
-interest from canada bonds is not enough to pay cost of living without dividends.
-long-term bonds are much must susceptible to inflation and interest rate risk

disadvantage of the 'bond' portfolio:
- lower returns means less income
- higher tax rate
- some interest rate risk and hyperinflation risk

the risk for the bond portfolio if the economy is in recession and the stock market crashes, is that interest rates go down and inflation rises. in this type of environment it is next to impossible to earn a return that will pay the bills.

the risk for the stock portfolio is that half your investment could get literally wiped out. in this situation 35% of the value of your stocks was evaporated. meaning now you only have $235000 of your $300 000 and the dividend has been cut in half overall. you would be left with the same inability to pay your bills with your return and you would have lost 65000 into thin air.
i apologize if the math is wrong, i'm just trying to illustrate a point about what happens when you experience significant losses.

which is a worse worst case scenario? which is a better best case scenario? what does that mean about the correct way to invest money?
you probably know my feelings on the those issues, but i'll elaborate in my next posting.
anybody reading this?

its so sad to see people waiting for their IA these days

2009-04-10T18:37:00.001-04:00

i've been experiencing something new whenever i visit my investment advisors. Usually, i am not in the reception area alone, and there are typically a few of, what look like to be, fellow account holders with the financial institution. As i wait for my advisor (he's older and slower than most...) i see a few more of these people coming and going, sitting and shuffling.

This initself is nothing new. What is new is their expression. The furrowed brows, the wringing hands, the tapping toes. These people are feeling desperate. if you began your investing career with the goal of a seven-figure portolio, if you were reaching retirement just as you seemed destined to reach that goal, only to lose half.....

I hate to say this, but seeing these people suffer- if only in my head and for a brief moment-brings a great deal of satisfaction. Knowing that i was not jealous when these same people likely bragged of a 15% return on their foreign exchange mutual fund. never mind that their advisor-recommended hedge fund, which charged a m.e.r. of 25% of all earnings and 3% of the invested assets, is now broke.
I never got interested in the products they used to brag about. i never minded when people looked at me like i was the most conservative person they'd ever met when i told them i hold no more than 10% of my assets in equities. For me, the knowledge that bull market, or bear market, i would still earn my steady, approx. 5% return AFTER TAXES AND FEES has always helped me sleep at night. if i make 4.5%, if i make 6.5%- that's the way the economic cycles will go and (if the world economy doesn't totally collapse) i will always able to plan and live without spending any captial.

my satisfaction comes not from the losses that these people have suffered, but from the verification of the knowledge which i always hoped to be true in a situation like the current economic meltdown: proper investing means dealing with neither the exuberant and lucrative gains nor the crippling and impoverishing losses. If you really did your homework as an investor, like i did, you would have NOT LOST A SINGLE PENNY DURING THIS RECENT MELTDOWN!!!! In fact, i still consider things to be business as usual. Is that valuable information to you? to me it's priceless.

i say this because it's important to understand that yield is not necessarily tied to risk. the appropriateness of your investment to your investment needs is the crucial factor in understanding how to invest your money and avoid taking a 50% loss of your net-worth (like the weary-eyed waiting-room people at my financial instiution). It is also necessary to understand this same point about yield and risk when discussing the previously posted "bond" vs "stock" portfolio.

2009-03-31T17:02:00.000-04:00

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.

stocks

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%

bonds
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

2009-03-31T16:19:00.001-04:00

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

2009-03-31T15:26:00.000-04:00

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.

Terrific.

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.

why your principal investment will always be safe in bonds

2009-03-29T08:18:00.000-04:00

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.

stocks are for suckers!

2009-03-27T18:21:00.000-04:00

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.

BE REALISTIC.

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.