As a financial advisor and portfolio manager, investment performance is probably the most important part of my job. After all, a financial plan isn't worth the paper it's printed on if your investments aren't holding up their end of the bargain. In this post, I will try to give a few tips and tricks when measuring the performance of your investments.
Tip #1 - The start date is key
As you can imagine, looking at how well an investment has done depends almost entirely on the time period you measure it by. Stocks go through peaks and valleys as part of a normal cyclical effect. If you look at the performance of a stock or index, starting at the bottom of the 'valley' and ending at the top of the 'peak', you might think that you are looking at an incredible investment. however if you had started measuring performance from the a 'peak' and measured through to a 'valley', then the exact same investment might look very unattractive.
One of the most common time periods for measuring portfolio returns is 5 years. It is said that a portfolio manager who is looking for a promotion better have some excellent 5-year numbers. That's what makes today so interesting. We are now at the end of February, 2014. That means our 5-year performance of investments would take us back to March 1st, 2009. Remember? It was probably mere days from the absolute bottom of the market after the financial crisis - the absolute perfect 'valley' of our time.
Here's an example, using a popular exchange-traded fund in Canada: XIU. It mirrors the return of the 60 largest companies in Canada. If you look at its 5-year return from today, you see the share price went from return of 99.78% over 5 years. That works out to
Friday, February 28, 2014
Tuesday, June 12, 2012
RESP Time
Attention young families! You've just added a new member to your clan and now it's time to figure out how you're going to save for THEIR future, let alone your own.
In Canada, we have the Registered Education Savings Plan (RESP). This plan is a tax-free way of saving for education in the future. I will answer a few questions about RESPs so you can decide if one is right for you or someone close to you.
Why do I need one? - If you want to help your child/grandchild save for their education, the RESP is the best way to do it.
Week 23 - Quantitative Easing
Here is another post that I just realized I hadn't actually 'posted'...
I wanted to discuss something you may have read about in the news over the past few years; the US housing market. Many economists consider the health of the housing market the most important factor to the overall health of the economy. Recently, the US Federal Reserve has taken steps to keep mortgage rates very low, by buy long-term government bonds. The process is called quantitative easing. I will do my best to first explain why the U.S. would do this and how it is supposed to help the economy recover.
Mortgage Lending
To start, we need to take a look at the process of bank lending for mortgages. When you go to the bank to get a mortgage for your house, the bank will lend you that money at a certain rate. This rate isn't an arbitrary number that they pull out of the air, however. It is based on the rate that the bank can borrow the funds from the central bank (the federal reserve in the US) in order to lend to you. The bank makes its profit by making the rate they charge you higher than the one they have to pay the central bank.
For example, let's say you bought a house and need to borrow $200,000. You want some security on your interest rate, so you decide to get a 5-year fixed rate mortgage at 4% interest. That means that the bank will lend you the money for 5 years and guarantee you will pay a rate of 4% to the bank. So, the bank now needs to come up with $200,000. They go to the Central Bank and ask for a 5-year loan. The central bank posts their lending rates and in this case, they are lending for, say, 1.5% for 5-year paper. So the difference is 4% - 1.5% = 2.5% which is the profit for the bank. 2.5% per year x $200,000 x 5 years = about $25,000 (excluding compounding)... nice to be a bank...
House Prices
As you can imagine, the easier it is to get a mortage, the easier it would be to buy a house. If rates were 0%, in theory we could keep borrowing money and buying property, as long as our credit was good enough. That's why in times of very low interest rates, house prices tend to rise. More people can afford the lower mortgage payments that go along with low interest rates.
That's what happened in the US about 8 years ago. In an effort to stimulate the economy, the Federal Reserve decided to cut interest rates to near-record lows, which made it easier to borrow money. Everyone borrowed money. Some people even borrowed enough money to buy multiple houses. Why not? It was a self-fulfilling prophecy; the cheaper the money, the more the value of your house increased. If your house increased in value, you could re-finance your mortgage and borrow more to buy another house. This demand for houses then fuelled the continued increase in house prices.
As the economy improved, inflation crept back into the system. Unemployment was nice and low. This usually spells time for the government to increase interest rates again, to make sure inflation doesn't continue to rise. When this started to happen in 2006, people would then go to refinance their mortgages and realize that they would not be able to afford the payments. Instead of getting that 5-year fixed rate mortgage at 4%, it was now costing them 7% or more. They realized they would have to sell their house. This lead to a large decline in house prices, as many people began downsizing into houses they could afford. This had a domino effect. It meant that there was less demand for new homes being built, which lead to more workers getting laid off, which lead to higher unemployment. Never mind that the banks nearly overrode the entire financial system in 2008. That's fodder for another post.
As the economy improved, inflation crept back into the system. Unemployment was nice and low. This usually spells time for the government to increase interest rates again, to make sure inflation doesn't continue to rise. When this started to happen in 2006, people would then go to refinance their mortgages and realize that they would not be able to afford the payments. Instead of getting that 5-year fixed rate mortgage at 4%, it was now costing them 7% or more. They realized they would have to sell their house. This lead to a large decline in house prices, as many people began downsizing into houses they could afford. This had a domino effect. It meant that there was less demand for new homes being built, which lead to more workers getting laid off, which lead to higher unemployment. Never mind that the banks nearly overrode the entire financial system in 2008. That's fodder for another post.
The Role of the Fed
When this happened, the US Federal Reserve cut rates literally to 0%. But banks were still being very cautious about lending money. So the next step is quantitative easing. This is when the Fed literally turns on the printing press and starts printing new money for the system. They use this money to buy US long-term bonds, which has the effect of lowering the yield on the bonds. So when banks lend mortgage money and need to borrow government money, the interest they pay will be even lower. That means the interest we pay to get a mortgage will be lower as well, which in theory should create demand for housing again.
It has taken a while but this process seems to be finally working. House prices south of our border are slowly creeping higher, as more people are realizing they can afford a new mortgage. Hopefully this continues, as it will mean more jobs in the housing sector, which should mean more jobs elsewhere.
The Risks
The main risk of quantitative easing is that by continuously printing money, you are lowering the value of the money in the system, which could lead to hard goods costing more - this is inflation. The hope is that as the economy improves, the Fed will be able to reverse the process. They can sell the bonds they've bought, which will slowly cause long-term yields to rise again... which SHOULD put a slow-down on inflation. We shall see how this chess match plays out.
That is all. Hopefully you have somewhat of an understanding of quantitative easing (QE) now. Thanks for reading my post.
What week is this?
Well, it has been about 14 months since my last post.
In financial markets, one could say that not much has changed. Europe is still mired in debt, with seemingly a new country every month entering the headlines. The latest is Spain, who this past weekend announced that they would be receiving up to 100 billion Euros to bail out their banks. It is ugly.
Back in Canada, things look somewhat better. As the expression goes, if the US sneezes, then we get a cold. Well, it seems like the endless sneezing fits of the US are finally subsiding. Their housing market has actually improved lately for the first time in years. This is a positive because it means people will be less reluctant to walk away on a mortgage if their house has real value. Unemployment has also been on the decline. It seems that they are even seeing some manufacturing jobs return home after spending a long time overseas.
The one area of the investment world that continues to skyrocket upwards is the fixed income universe. The yield on the 10-year Canada bond is now well below 2% (remember, since the coupons on bonds are a fixed dollar amount, the yield will go down as the price of bonds goes up). It seems people have been burned so consistently by their stocks that they just want the safety of something that won't go down. Even though to buy it today means only getting 2% return on your money. But if you factor in inflation (i.e. the purchasing power of $1), the real return on your money is probably going to be close to 0% per year.
So if you are looking toward your investments for income, where do you turn? I believe the answer lies in owning a diversified portfolio of dividend-paying common stock. It is still possible to buy high-quality Canadian companies that will pay you over 4% in dividends each year. Yes, you will be subject to the ups and downs of the daily market but at the end of the day, you will get paid. Even as we speak, 4 of the 5 large Canadian banks have dividends that are at least 4% of their share price (the only exception being TD, at 3.7%). Compare that to bonds and you are getting almost a 100% raise in income... not to mention paying about 1/2 as much tax! It is a no-brainer.
If you do decide to stick with bonds in your portfolio, then keep them short-term. You don't want to be holding bonds that mature in 20 years and have interest rates start to rise. Why would anyone want to buy your bond that pays 2% when new ones are coming out that pay 4%? And guess what that will do to the price of your bond... not good. This is called interest rate risk and it is something that we haven't had to consider in Canada for almost 30 years. But it is real and it does cause bond prices to fall (sometimes dramatically) in value.
Anyway, it is good to be back blogging. I'll try to make my next update sooner than 14 months from now.
Thanks for reading.
In financial markets, one could say that not much has changed. Europe is still mired in debt, with seemingly a new country every month entering the headlines. The latest is Spain, who this past weekend announced that they would be receiving up to 100 billion Euros to bail out their banks. It is ugly.
Back in Canada, things look somewhat better. As the expression goes, if the US sneezes, then we get a cold. Well, it seems like the endless sneezing fits of the US are finally subsiding. Their housing market has actually improved lately for the first time in years. This is a positive because it means people will be less reluctant to walk away on a mortgage if their house has real value. Unemployment has also been on the decline. It seems that they are even seeing some manufacturing jobs return home after spending a long time overseas.
The one area of the investment world that continues to skyrocket upwards is the fixed income universe. The yield on the 10-year Canada bond is now well below 2% (remember, since the coupons on bonds are a fixed dollar amount, the yield will go down as the price of bonds goes up). It seems people have been burned so consistently by their stocks that they just want the safety of something that won't go down. Even though to buy it today means only getting 2% return on your money. But if you factor in inflation (i.e. the purchasing power of $1), the real return on your money is probably going to be close to 0% per year.
So if you are looking toward your investments for income, where do you turn? I believe the answer lies in owning a diversified portfolio of dividend-paying common stock. It is still possible to buy high-quality Canadian companies that will pay you over 4% in dividends each year. Yes, you will be subject to the ups and downs of the daily market but at the end of the day, you will get paid. Even as we speak, 4 of the 5 large Canadian banks have dividends that are at least 4% of their share price (the only exception being TD, at 3.7%). Compare that to bonds and you are getting almost a 100% raise in income... not to mention paying about 1/2 as much tax! It is a no-brainer.
If you do decide to stick with bonds in your portfolio, then keep them short-term. You don't want to be holding bonds that mature in 20 years and have interest rates start to rise. Why would anyone want to buy your bond that pays 2% when new ones are coming out that pay 4%? And guess what that will do to the price of your bond... not good. This is called interest rate risk and it is something that we haven't had to consider in Canada for almost 30 years. But it is real and it does cause bond prices to fall (sometimes dramatically) in value.
Anyway, it is good to be back blogging. I'll try to make my next update sooner than 14 months from now.
Thanks for reading.
Sunday, March 13, 2011
week 22 - Registered Education Savings Plans
Attention young families and new parents! By now, you have probably heard about the Registered Eduction Savings Plan as an option for helping your child with their post-secondary education studies. This will give you a guideline as to RESPs and how they work.
What is an RESP?
As mentioned, a Registered Education Savings Plan is an account that gets opened by a contributor, namely a parent, grandparent or guardian and has one or more beneficiaries, who can use the money for post-secondary education. Any growth or income resulting from investments within the plan is accumulated tax-free, like an RRSP. It is THE best way to save for a child's future education.
How do I open one?
You can go to any bank, investment firm or financial planner to fill out the documentation to open your plan. One thing to keep in mind: the child must have a social insurance number (SIN number) already.
What next?
Once the plan is opened, you contribute funds to the plan, like an RRSP. Although there is no tax write-off for RESP contributions, the Canadian government has created the Canada Education Savings Grant (CESG);
"No matter what your family income is, Human Resource and Skills Development Canada (HRSDC) pays a basic CESG of 20% of annual contributions you make to all eligible RESPs for a qualifying beneficiary to a maximum CESG of $500 in respect of each beneficiary ($1,000 in CESG if there is unused grant room from a previous year), and a lifetime limit of $7,200."
If we do the quick math, that means you can contribute $2,500 per year to your RESP to get the maximum amount of grant money from the government.
What kinds of investments can I buy in the RESP?
The rules for eligible investments are basically the same as your RRSP; stocks, bonds, mutual funds are all acceptable. I would probably stick to one or two balanced mutual funds to start with. This makes it easy to save monthly and have an automatic investment of a certain dollar amount that could be pulled right from your bank account. Then the government grant money also comes into the account automatically too! Free money is a beautiful thing.
I would also recommend adjusting your RESP as your kids get older. You want to make sure that all the money is there when they need it and not cut down by rocky market conditions. This doesn't mean buying all bonds; it just means being smart.
How do I get the money out?
When your son/daughter starts school, you will need to provide a letter of acceptance and an invoice for tuition as proof that there is a need for the funds. As mentioned, the education must be considered to be at a post-secondary level.
A post-secondary educational institute includes:
- a university, college, or other designated educational institution in Canada;
- an educational institution in Canada certified by Human Resources and Skills Development Canada (HRSDC) as offering non-credit courses that develop or improve skills in an occupation; and
- a university, college, or other educational institution outside Canada that has courses at the post-secondary school level, as long as the student is enrolled in a course that lasts at least 13 consecutive weeks.
What if my son/daughter doesn't want to pursue any post-secondary education?
Not to worry. You can convert your RESP to a Registered Retirement Savings Plan (RRSP). There is an option with RRSPs to use funds for education down the road, should they decide to pursue that option later in life.
I think the RESP is an excellent option for education savings. Anytime you can get money from the government to help you with anything, it's worth taking advantage of.
I hope you found this helpful.
Cheers.
Saturday, February 26, 2011
Guest Poster
Hi all -
This is from a guy that is interested in doing more financial writing, so he wanted me to post his material. I got no problem with it, so let me know what you think.
Canadian retirement planning options you must know
Retirement planning is a major financial task that most Canadians have to undertake.
Around 49% of the Canadian work force retires before they turn 60. Therefore, it is imperative to start retirement planning early in your life. The main aim of a retirement plan is to offer a regular source of income during your retirement years. Thereby, you don’t have to depend on your children financially. You can retain your self-respect and independence in the retirement years. Go through this article to know about various retirement plans available in Canada.
Canadian retirement planning options
Here are some of the Canadian retirement planning options that you must know:
1. Registered retirement savings plans: Most of the Canadians opt for this retirement plan. This plan permits you to save money in the RRSP account for your retirement years by making tax deductible contributions. However, you should remember that you have to pay tax on withdrawing money from the RRSP account.
2. Registered retirement income fund: This plan is quite similar to that of RRSP. The only difference is that you are required to take out a minimum tax-payable amount every year, according to your age. The remaining amount of money in the account becomes tax-free.
3. Registered pension plans: This is one of the most popular Canadian retirement plans. This is basically an employer-sponsored retirement savings plan. This plan offers a regular source of income to the employees of a company after retirement. However, in order to take advantage of this plan, both employees and employers are required to contribute to the plan.
4. Locked-in retirement account: If you have decided to leave your present company and to take out your retirement funds out of the company, then you have to transfer the funds into a locked-in RRSP, also known as locked-in retirement account or LIRA. As the name suggests, you can access the fund only after retirement.
5. Life income fund: This plan is just like a RRIF (registered retirement income fund), meaning you have to take out a certain amount of money each year. However, there is an annual limit on the amount of money you can withdraw. The amount of money that you can withdraw from this account depends your age and interest rates. The remaining amount stays locked so as to make certain that the fund is utilized for retirement purpose only. However, in case of emergency situations, certain provincial legislations permit you to withdraw a certain amount of money. You can set up a LIF account only when you are 55 years old.
Finally, you should choose a retirement plan according to your suitability. You should analyze the features of each Canadian retirement plan in order to determine which one will suit you best.
Retirement planning is a major financial task that most Canadians have to undertake.
Around 49% of the Canadian work force retires before they turn 60. Therefore, it is imperative to start retirement planning early in your life. The main aim of a retirement plan is to offer a regular source of income during your retirement years. Thereby, you don’t have to depend on your children financially. You can retain your self-respect and independence in the retirement years. Go through this article to know about various retirement plans available in Canada.
Canadian retirement planning options
Here are some of the Canadian retirement planning options that you must know:
1. Registered retirement savings plans: Most of the Canadians opt for this retirement plan. This plan permits you to save money in the RRSP account for your retirement years by making tax deductible contributions. However, you should remember that you have to pay tax on withdrawing money from the RRSP account.
2. Registered retirement income fund: This plan is quite similar to that of RRSP. The only difference is that you are required to take out a minimum tax-payable amount every year, according to your age. The remaining amount of money in the account becomes tax-free.
3. Registered pension plans: This is one of the most popular Canadian retirement plans. This is basically an employer-sponsored retirement savings plan. This plan offers a regular source of income to the employees of a company after retirement. However, in order to take advantage of this plan, both employees and employers are required to contribute to the plan.
4. Locked-in retirement account: If you have decided to leave your present company and to take out your retirement funds out of the company, then you have to transfer the funds into a locked-in RRSP, also known as locked-in retirement account or LIRA. As the name suggests, you can access the fund only after retirement.
5. Life income fund: This plan is just like a RRIF (registered retirement income fund), meaning you have to take out a certain amount of money each year. However, there is an annual limit on the amount of money you can withdraw. The amount of money that you can withdraw from this account depends your age and interest rates. The remaining amount stays locked so as to make certain that the fund is utilized for retirement purpose only. However, in case of emergency situations, certain provincial legislations permit you to withdraw a certain amount of money. You can set up a LIF account only when you are 55 years old.
Finally, you should choose a retirement plan according to your suitability. You should analyze the features of each Canadian retirement plan in order to determine which one will suit you best.
Hope you enjoyed the guest post! He wanted to remain anonymous.
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