The Cost of Advice

Everyone’s focused on the cost of investing, they should be looking at the cost of not having help.

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I regular question I receive is whether fees are to high. This isn’t a perplexing question, it always makes sense to see whether you could, or perhaps should, be paying less. But from a financial planning perspective the questions seem to dominate an awful lot of initial meetings that I have.

For clarity, I think its important to point out that within my own practice we’ve done a lot to increase transparency about our fees and have done what we can to make costs explicit and earn our keep. Years ago, while working for a mutual fund company, I was shocked to learn that some advisors never wanted their clients to know how they were getting paid, or how much. This always struck me as a poor business practice and given the public focus on the expense of financial advice means that I’m not alone in that assessment.

The focus on fees has also paid results to investors. While I have no data on Canada, in the United States mutual fund fees have dropped by nearly 50% since 2000. Canada has been following suit (to what degree I don’t know) but I haven’t had a meeting with a mutual fund company in the last few years that hasn’t spent time highlighting the cost of the investments, or a recent cut to MERs. Much of this has been aided by the arrival of ETFs (Exchange Traded Funds) which have also been on a mad rush to cut costs. Today there are even 0% cost ETFs, although the true costs of those products remains opaque.

And yet, much of this seems like a secondary problem. Costs have rapidly dropped but little attention is being paid to more worrying trends. Investors do badly without help, and financial advice is worth a great deal more than the cost of receiving it.

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The 2019 Quantitative Analysis of Investor Behavior is the most recent annual report produced by Dalbar (Dalbar is an independent provider of business practices in the financial space – you can learn about them HERE), which looks to compare investor behavior against market returns. Produced annually the report stretches back decades and its findings are conclusive. People do badly as investors, and frequently stay just ahead of inflation and well behind market returns. For instance, in 2018 the S&P 500 had a -4.38% return, while the average equity fund investor averaged -9.42%, and the Average Equity Index Fund Investor returned -7.22%.

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These results speak for themselves, but it shows that the greatest enemy to maximizing investor returns are not the fees, but the behavior of investors. Even when investors hold low cost index ETFs, they still underperform markets. The reasons for this are complex, but have much to do with the human mind and its limitations in facing an uncertain future (best captured by the growing field of behavioral economics). A good example of his is found in the report’s Guess Right Ratio, a ratio based around the inflows and outflows of funds to determine how often investors have correctly anticipated the direction of the market. You might be surprised to learn that investors have guessed correctly 50% of the time over the last 13 years, but that guessing right didn’t translate into more money, since investors guessed wrong in a larger magnitude than they ever guessed right (in other words people made bigger bets when guessing wrong) and one wrong guess would wipe out months of correct bets.

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If there is a place where investors and advisors need to improve, it is how much work is being done for investors at all. The rise of “Robo-Advisors” seemed to solidify a type of investor experience, one in which 75% of investors admit to only communicating with their advisor once or twice a year, and up to 68% never spend more than an hour with their advisor a year, and 31% of investors have never discussed their investment goals. That gap seems one worth closing, and one that cannot be capably done through automated systems, or through impersonal financial practices. The cost of good financial planning seems to be worth it if it improves your returns, gives you comfort in your long term planning and helps make your retirement a success.

As always, if you have questions about fees, performance or your financial future, please don’t hesitate to give me a call or send a message.

Information in this commentary is for informational purposes only and not meant to be personalized investment advice. The content has been prepared  by Adrian Walker from sources believed to be accurate. The opinions expressed are of the author and do not necessarily represent those of ACPI.

Donald Trump & The Federal Reserve

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In conversations the number one concern I’m asked to address is the effect of Donald Trump on markets. This isn’t surprising. He looms over everything. He dominates news cycles. His tweets can move markets. He is omnipresent in our lives, and yet curiously much of what he has done has left no lasting impression. His tweets about trade and tariffs cause short term market blips, but after a time, things normalize. In all the ways that Donald Trump seems to be in our face, his impact is felt there the least.

Trump’s real, and more concerning impact is in the slow grind he directs at public institutions that are meant to be independent and non-partisan. He’s placed people in charge of departments whose chief qualification is their loyalty to Trump, some of them no nothings and buffoons, others with disastrous conflicts of interest, with only a passing understanding of the enormous responsibility they’ve taken on. But where Trump hasn’t been able to overcome the independence of an institution, he wages tireless and relentless war against their heads. I’m talking about Trump’s yearlong obsession with the Federal Reserve and his desire for a rate cut.

The Fed, you may recall, is America’s central bank. It sets the key interest rate and uses it to constrain or ease monetary supply, the goal of which is to rein in inflation or stimulate it depending on the economic health of the nation (and world, it turns out). The Fed meets regularly and sends signals to the market whether it thinks it needs to raise or lower rates, and markets respond in kind. If the markets and federal reserve are on the same page, markets may respond positively to what is said. If markets and the fed disagree, well…

Last year the Fed was expected to raise rates to stave off inflation and hopefully begin normalizing interest rates to pre-2008 levels. Rates have been very low for the better part of a decade and with inflation starting to show itself through wages and a tightening of the labor market, the Federal reserve Chairman, Jerome Powell, was expected to make up to 4 rate hikes in 2018, which would add (about) 1% to borrowing costs. But then things started to get a bit “wibbly wobbly”.

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By the fourth quarter the overnight lending rate was between 2.25% and 2.5% following a rate hike in late December. That triggered a massive sell-off following a year of already disappointing market returns.  The Fed was seen to be to hawkish, and the market didn’t believe the economy was strong enough to support the higher lending rate. By January the Fed had relented, saying that it the case for higher rates was no longer as strong and that its outlook would be tempered. By March the consensus view was that there would be no rate hikes in 2019 at all.

By April things had turned around. US economic data, while mixed, was generally strong. Unemployment remained historically low, and wage inflation was positive. And then Trump said this:

Trump Tweets April 30

May was an interesting month in politics and markets. After four months of a resurgent bull market the breaks were put on in May following renewed concerns about the US and China and a trade war. By the end of May Trump was tweeting about using tariffs against Mexico to get results at the border. At this point markets had started to get nervous. The Dow Jones had shed about 2000 points, and the rumblings from Wall Street were getting pretty loud. Trump, who sees his popularity reflected in the value of the stock market, started to make noises that things were once again progressing with China and the tariff threat against Mexico was quickly put to bed. As is now typical in 2019, markets were assuaged by further tweets from the president, assuring that solutions had been found or that negotiations would begin again.

June saw a resumption of the bull run, with May’s dip largely being erased. But Trump still wanted his rate cut and increasingly so does the market. Where markets were satisfied by the promise of no new hikes earlier in the year, by June pressure was building to see an actual cut. This quarter markets have remained extremely sensitive to any news that might prompt looser monetary policy and have jumped every time its hinted that it might happen. On June 7th a weak jobs report got the market excited since it gave weight to the need for a rate cut. This past week the Fed has now signaled it may indeed cut rates as soon as this summer.

There are, of course, real concerns about the global economy. The IMF believes that if the various trade fights continue on unabated a full 0.5% of global growth could be wiped out (roughly ½ trillion dollars). That’s already on top of signs of slowing growth from Europe and Asia and at a time when markets are at all time highs when it comes to valuations. Trump is effectively saying that markets should be allowed to creep higher on the backs of cheap credit rather than on the back of real economic growth. It’s a bit like saying that you could be so much richer if you could easily borrow more money from the bank.

People with longer memories may recall that Trump, during the 2016 election campaign, had argued against the low rates of the Fed, and believed they should be much higher. Today its quite the opposite. But Trump’s chief issue is that his own pick for the Fed has continued to exert a significant amount of independence. Trump’s response, beyond merely bullying Jerome Powell over twitter has been to try and appoint more dovish members to the Fed, including a woman who used to advocate a return to the gold standard, but is now an avowed Trump supporter and of easier money.

                “Any increase at all will be a very, very small increase because they want to keep the market up so Obama goes out and let the new guy … raise interest rates … and watch what happens in the stock market.”

  • Donald Trump

As with all things Trump, there is always some normal rational behind the terrible ideas being pursued. Trump’s tariffs, arguably a poorly executed attempt to punish China, is hurting US farmers and is a tax on the US citizenry. Its also done nothing to change the trade deficit, which is the highest its ever been. But nobody is under the illusion that China is a fair operator in global trade that respects IP or doesn’t manipulate currency.

There is also a very secular case to be made for a rate cut. Global markets are weakening and that traditionally does call for an easing of monetary policy, and globally many central banks have reversed course on hiking rates, returning to lower rates. For the United States there is a legitimate case that a rate cut serves as a defense if the trade fight with China draws on, and can be reversed if it is brought to a speedy conclusion.

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Those points run defense for Trump’s politicization of a critical institution within the economy, and we shouldn’t forget that. Underlying whatever argument is made for cutting rates is Trump’s own goals of seeing the stock market higher for political gain, regardless of the long term impact to the health of the economy. We should be doubly worried about a politics that has abandoned its critical eye when it comes to cheap money and Wall Street greed. Individually Wall Street insiders may think that too much cheap money is a bad thing, but in aggregate they act like a drunk that’s been left in charge of the wine cellar.

Lastly, we should remember that after Trump is gone, his damage may be more permanent than we would like. Structural damage to institutions does not recover on its own, but takes a concerted effort to undo. Does the current political landscape look like one that will find the bipartisan fortitude post-Trump to rectify this damage? I’d argue not.

All this leaves investors with some important questions. How should they approach bull markets when you know that it may be increasingly be built on sand? What is the likely long term impact of a less independent Federal reserve, and what impact does it have on global markets as well? Finally, how much money should you be risking to meet your retirement goals? They are important questions the answers should be reflected in your portfolio.

The next Federal Reserve meeting is on July 30th, where the expectation is that a 25bps rate cut will be announced.

As always, call or send a note if you’d like to discuss your investments or have questions about this article.

Brexit & My Writer’s Block

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I hate to admit it, but I’m stuck.

I have writers block, and not being a professional writer have had no experience to force myself through it.

Time and again I sit down to write something, only to find that the subject has changed, some new development has altered the facts and the effects are so sudden that I have to discard everything that I thought I was going to write and start over.

Its demoralizing.

Take Brexit for instance. Several times I’ve sat down to write something on it, but Brexit is now best explained like a Homeric poem, involving political intrigue, shadowy figures manipulating citizens for their own ends, and battles for leadership. That’s not how this began, but over time a politically mismanaged attempt to lance a populist boil from within the conservative party ranks has metastasized into a full blown crisis. To date Brexit has cost two Prime Minister’s their job, it has left one of the oldest democratic institutions in complete gridlock and has fractured the two leading political parties in Britain.

Currently the Tory party in England is choosing the next head of the party (and next Prime Minister of the country) with high expectations that it will fall to a man who spent the bulk of the Brexit campaign lying about the benefits of a leave vote and who had no intention that his side should actually win.

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This is Boris. Boris is a politician. Here is Boris standing in front of a bus with a promise to put more money in the NHS if Britain votes to leave the EU. Boris was lying about putting this money into the NHS. Lie Boris lie

Meanwhile the core issues surrounding Brexit remain unresolved. So badly has this been handled that the British government has been granted two extensions so they don’t leave the EU without a deal (which would be bad for everybody). However having been granted those extensions Britain remains no closer to resolving the core matters that divide the various camps of various Brexiteers.

I could go on like this for some time, but there are whole books written about Brexit now (I recommend “A Short History of Brexit” by Kevin O’Rourke), covering in far greater detail all of the issues surrounding the attempts to leave the EU, how it has come about as a movement, and why the problems remain intractable and will likely not end well.

What I think we are witnessing is how political issues become political crises, and how it becomes increasingly difficult to predict what happens next. In functioning democracies political disputes resolve in a compromise in which neither group gets precisely what they want but recognize that not reaching a compromise would be worse. Today’s current political climate has become anathema to compromise and various groups would rather risk everything and get nothing than lose some of their standing. Historically this hasn’t been a good sign for countries.

Currently Brexit is scheduled for October 31st. That extension was granted because Theresa May had begun negotiating with Jeremy Corbyn (another populist) and the Labour Party to find votes for her Brexit deal. This negotiation looked to find votes for May’s existing deal with the EU, which would have resolved the issue surrounding the Irish border and kept Britain in the Common Market while also opening the door to a second referendum. Her party balked at this treachery and thus ended her tenure as PM. Boris Johnson, the man currently on track to replace Theresa May has said that he wouldn’t “rule out” proroguing parliament if MPs attempted to block a “No Deal” or “Hard Brexit.” I imagine that the EU wonders why it has invested all the time it has trying to help the UK.

All of this is silly, dangerous and maddening. For investors it means that there continues to be a ticking time bomb on the global stage, and like Donald Trump and his tariffs, anything could happen. And amazingly it continues on unabated, no closer to a compromise and no closer to a solution.

Hopefully this means I’m over my writers block.

“The opinions expressed are those of the author and may not necessarily be those of Aligned Capital Partners Inc (ACPI).  ACPI is regulated by the Investment Industry Regulatory Organization of Canada (www.IROC.ca) and member of the Canadian Investor Protection Fund (www.CIPF.ca).  This commentary is for general information only and not meant to be personalized investment advice.”

Wealth in all Stages of Life

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My associate, Kimber, frequently points out that my bookshelves contain a number of real “downer” books on death. She’s not wrong: I have an abiding interest in what it means to grow old and how we die. My bookshelves creak under the weight of Greek and Roman philosophy texts, medical studies about aging, and financial guides for estate planning and preparing heirs. This interest goes back years for me, as part of a philosophical question about what it means to not just live, but also die well.

I’m not alone in this seemingly macabre fascination. Many others, including other philosophically minded people, ask similar questions regarding the difference between being rich and being wealthy. In simple terms, being rich is relatively easy (okay, maybe not easy – but certainly easier to define) while being wealthy asks us to consider what it is that makes us happy beyond material acquisition.

In one respect, this has been the great achievement of Western societies. By enshrining a key number of rights and making them central to our society, we have removed barriers to free association, free movement, freedom of religion and freedom from oppressive institutions. To get up every morning and know that the government isn’t going to seize your lands, punish you for your beliefs or race, or force you to pick up and flee your home in the night is the path towards building wealth. It’s possible to be rich in China, but it is not possible to be wealthy in the same way.

Being wealthy in life also grants the possibility of being wealthy in death. To know that your affairs are in order, to choose what happens to your physical remains, to be able to bequeath in confidence your assets to another generation and even help your children or grandchildren are all things that, until relatively recently, did not always reside in one’s control.

When we were choosing our new trade name, I briefly toyed with the name Walker FINANCIAL Management. But given our 25 year history, the things we’ve helped people do or try to do, limiting our scope to merely the finances of our clients seemed narrow and imprecise. While its true that my role in people’s lives is to help accumulate and save, my job is to help people save for things. I manage money so that children can get an education without leaving school encumbered by massive debt;to help people buy homes and pay down mortgages faster; to help families travel; to help retirees enjoy their time free from worry; and even to facilitate one generation helping another. We’re in the wealth business, not the financial business.

Which brings me back to my abiding interest in dying. I periodically like to point out that we, as a society, are getting older. Demographically, we will feel the effects of a population age across multiple aspects of our society. From health care to real estate, our greying society will challenge us in unique and surprising ways. How we face those challenges will determine how well we preserve our wealth, and it will mean tackling tough questions around independence, lifestyle, and even death.

So, while Kimber looks at my bookshelf and thinks I’m a bit of a downer, I look at it as the next big stage in building and preserving wealth. That’s why we’re Walker Wealth Management of ACPI.

If you have questions about wealth and aging, please give us a call! We can provide retirement planning, help you to find good solutions for Wills, Trusts, and Estates, and walk you through the different questions you should consider when considering passing on assets to heirs.

The Exciting New Field of Recession Prognostication

PsychicI wish to inform you about an exciting new profession, currently accepting applicants. Accurate recession prognostication and divination is an up and coming new business that is surging in these turbulent economic times! And now is your chance to get in on the ground floor of this amazing opportunity!

I am of course being facetious, but my satire is not without precedent. As 2018 has devolved into global market chaos, finally losing the US markets in October, experts have been marshalled to tell investors why they are wrong about markets and why they should be more bullish.

Specifically analysts and various other media friendly talking heads have been trying to convey to the general public that the negative market sentiment that has driven returns down is misplaced, and have pointed to various computer screens and certain charts as proof that the economy is quite healthy and that in this moment we are not facing an imminent recession. Market returns through the final quarter of 2018 indicate this message has yet to find fertile ground among the wider public.

Dow Jones Dec 31
The Dow Jones has had a wild ride this year, with significant declines in February, October and finally in December when the markets ended the year lower than they began.

While these experts, analysts and financial reporter types may not be wrong, indeed the data they point to has some real merit, I don’t think that investors are wrong to heavily discount their advice. For the wider investing audience, being right 100% of the time is not a useful benchmark to strive towards with investments ear-marked for retirement. Instead a smarter approach is to be mindful about risks that can be ill-afforded. Investment specific risk, like that of an individual stock may be up to an investor (how much do I wish to potentially lose?). On the other hand, a global recession that is indiscriminate in the assets that suffer may be more risk than an investor can stomach.

TSX Dec 31
The S&P TSX has had another dismal year, and is currently lower than it was in 2007, marking a lost decade. Making money in the Canadian markets has been a trading game, not a buy and hold strategy.

The experts have therefore made two critical errors. The first is assuming that what is undermining investor confidence is an insufficient understanding of economic data. The second is that there is a history, any history, of market analysts, economists and journalists making accurate predictions of recessions before they happen.

This last point is of particular importance. While I began this article with some weak humor on prognostication and divination, it’s worth noting that predicting recessions has a failure rate slightly higher than your local psychic and lottery numbers. That so many people can be brought forth on such short notice to offer confident predictions about the state of world with no shame is possibly the worst element of modern investment culture that has not been reformed by the events of 2008.

2008 Predictions vs reality
These are the economist predictions for economic growth at both the start of Q3 and Q4 in 2008. Even as the collapse got worse, economists were not gifted with any extra insight. 

This doesn’t mean that investors should automatically flee the market, listen to their first doubt or react to their gut instincts. Instead this is a reminder that for the media to be useful it must think about what investors need (guidance and smart advice) and not more promotion of headline grabbing prognostication. The markets ARE down, and this reflects many realities, including economic concerns, geopolitical concerns and a host of other factors outside of an individual’s control. It is not a question of whether markets are right or wrong in this assessment, but whether good paths remain open to those depending on market returns.

A Canadian Story of Woe

 

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A Canadian homeowner going for a relaxing swim in his mortgage…

 

One of the challenges of being a financial advisor is finding ways to convey complex financial issues in simple ways to my clients and readers. I believe I do this to varying degrees of success, and I am informed of my failures by my wife who doesn’t hesitate to point out when I’ve written something boring or too convoluted.

One such subject where I feel I’ve yet to properly distill the essential material is around the housing market. While I’ve written a fair amount about the Canadian housing market, I feel I’ve been less successful in explaining why the current housing situation is eating the middle class.

In case you’re wondering, my thesis rests on three ideas:

1. The middle class as we know it has come about as a result of not simply rising wages but on sustained drops in the price of necessities.
2. The rise of the middle class was greatly accelerated by the unique historical situation at the end of the Second World War, which split the world into competing ideological factions but left the most productive countries with the highest output and technological innovation to flourish.
3. A global trend towards urbanization and a plateauing of middle-class growth has started reversing some of those economic gains, raising the cost of basic living expenses while reducing the average income.

The combination of these three trends has helped morph housing from an essential matter of accommodation into a major pillar of people’s investment portfolios and part of their retirement plan. The result is that homeowners are both far more willing to pay higher prices for a home in the belief that it will continue to appreciate into the future, while also attempting to undercut increases in density within neighborhoods over fears that such a change will negatively impact the value of the homes. In short, stabilizing the housing market is getting harder, while Canadians are paying too much of their income to pay for existing homes. All of this serves to make the Canadian middle class extremely vulnerable.

 

Household Debt
You may be tempted to think “Wow, debt levels really jumped through 2016” you should remind yourself that this chart STARTS at 166%!!!

 

Proving some of this is can be challenging, but there are some things we know. For instance, we know that Canadians are far more in debt than they’ve ever been before and the bulk of that debt is in mortgages and home equity lines of credit (HELOC), which means much of that debt is long-term and sensitive to hikes in interest rates. We also have abundant evidence that zoning restrictions and neighborhood associations have diligently fought against “density creep”. But to tie it all together we need the help of HSBC’s Global Research division and a recent article from the Financial Times.

FT Global Leverage

Last week, HSBC issued a research paper on global leverage. Providing more proof that since 2008 the world has not deleveraged one bit. In fact, global debt has settled just over 300% of global GDP, something that I wrote about in 2016. An interesting bit of information though came in terms of the country’s sensitivity to increasing interest rates. Charting a number of countries, including Canada, the report highlights that Canadians (on average) pay 12.5% of their income to service debt. A 1% increase in the lending rate would push that up over 13%. For a country already heavily in debt, a future of rising rates looks very expensive indeed.

It would be wrong to say that fixing our housing market will put things right. There is no silver bullet and to suggest otherwise is to reduce a complex issue to little more than a TED Talk. But the reality is that our housing market forms a major foundation of our current woes. A sustained campaign to grow our cities and reduce regulatory hurdles will do more to temper large debts that eat at middle-class security than anything I could name.

Beware the Rally

*At the time that I wrote this markets had just finished several positive sessions, however by the time it was ready markets had once again changed directions!

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I’m going to potentially embarrass myself and go on the record as saying we shouldn’t place too much trust in the current market rally, though the upturn is welcomed.

Rallies present opportunities for potential short-term gain, and with markets having shed roughly 10% over the month of October, there is certainly money to be made if you’re feeling sufficiently opportunistic and have a plan. For the rest of us, the rally is a welcome break the punishment the market has been delivering, and an opportunity to see portfolios stabilize and regain some ground.

S&P 500 Rally

The long-term viability of a rally, its ability to transition from opportunistic buying to sustained growth, very much depends on the fundamentals of that rally. Are markets sound, but oversold? Or are fundamentals deteriorating and represents more hopefulness than anything else?

Readers of this blog will not be surprised to find out I have no set answer to this question. As always, “it depends”. But as I look over the news that has supposedly rekindled the fire in the markets much of it seems at best temporary, perhaps even fanciful. Up against the wall of risk that investors are currently starring down, the best news currently available is that Trump had a phone call with Xi Jinping and has asked for a draft to be prepared to settle the trade disputes between the two countries.

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I’m of the opinion that a recession isn’t imminent, but it should be obvious that recessions happen and the longer we go without one, the more likely one becomes. That seems especially true in a world that is undergoing a seminal shift when it comes to international trade and multilateral deals. To take one example, in the last year U.S. soybean exports to China have dropped by 97%, with no exports for the last quarter. This is a trade war still in its infancy. Other market data is mixed. Even as job growth exceeds expectations it will also keep the Fed raising rates. Housing starts have dropped significantly below expectations, driven in part by rising costs.

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All this is to say that market rallies like the one we’ve just seen should be treated with trepidation. Investors should be cautious that a bottom has been reached and that this is a good time to rush into the market looking for deals, and we should keep an eye on the fundamentals. Rallies falter precisely because they can be based more on hope than on reality.

So what should investors do if they want to invest but are unsure about when to get into the markets? Come talk to us! Give us a call and help get a plan together that makes sense for your needs! Check out our new website: www.walkerwealthmgmt.com or give us a call at 416-960-5995!