The Supreme Court Decision against the single regulator made me happy.  Would this have been anything other than the Ontario Securities Commission ruling the whole country?

Myth vs. Reality in the Global Economy – Stephen Johnston from Mises Institute of Canada on Vimeo.

On a number of different levels, it is a time to look at alternatives. Both in our energy consumption and the way we invest.  According to Dalbar Dalbar Mutual Fund Study the average balanced mutual fund investor made 2.56% over the past 20 years.  Inflation was 2.57%.  And we are all familiar with the environmental impact of our energy consumption.  This fund will help address both these issues.

An Ugly Tuesday Likely On Wall Street – Forbes.

This is a typical headline that we have seen in the financial papers over the last few years.  The market has become increasingly volatile and bonds offer no long-term possibility of strong returns.  Moreover, the different asset classes have become increasingly correlated and diversity among these asset classes has become increasingly meaningless.

I feel that in a situation like this advisors have a moral responsibility to seek out alternatives for their clients.  Up till now this has been difficult.  There were only two regulated investments available: stocks and bonds.  So it was understandable that advisors were not offering alternative investments.

It is now easy to add alternatives to your portfolio.  They have been regulated and dealerships have opened up to train and regulate their representatives.  The securities they offer are not correlated to traditional asset classes and generally follow the pattern of being simple, secure and high return.

Now that alternatives have become regulated and easy to access, there is no excuse for an advisor not to integrate them and create a well diversified portfolio.

This person has a beautiful analogy:

In a football game there are actually two games going on: there is the game they players are playing where they are trying to score touchdowns and then there is the betting on who is going to win.  In business there are actually two things going on.  There is the actual business where the company is creating things of value and then there is betting that goes on behind the scenes (the stock market).

They suggested that there is a problem when the betting starts to dictate what goes on in the game.  This is exactly what we feel and that is why I would suggest not investing your money in the market, but rather invest it in real profitable businesses.

BBC – BBC Radio 4 Programmes – In Business, Crunching the Crisis.

An “Accredited Investor” (as defined in NI 45 106) is:

1. a person registered under the securities legislation of a jurisdiction of Canada, as an adviser or dealer, other than a person registered solely as a limited market dealer under one or both of the Securities Act (Ontario) or the Securities Act (Newfoundland and Labrador); or
2. an individual registered or formerly registered under the securities legislation of a jurisdiction of Canada as a representative of a person referred to in paragraph (a); or
3. an individual who, either alone or with a spouse, beneficially owns financial assets having an aggregate realizable value that before taxes, but net of any related liabilities, exceeds $1,000,000; or
4. an individual whose net income before taxes exceeded $200,000 in each of the two most recent calendar years or whose net income before taxes combined with that of a spouse exceeded $300,000 in each of the two most recent calendar years and who, in either case, reasonably expects to exceed that net income level in the current calendar year; or
5. an individual who, either alone or with a spouse, has net assets of at least $5,000,000; or
6. a person, other than an individual or investment fund, that has net assets of at least $5,000,000 as shown on its most recently prepared financial statements; or
7. a trust company or trust corporation registered or authorized to carry on business under the Trust and Loan Companies Act (Canada) or under comparable legislation in a jurisdiction of Canada or a foreign jurisdiction, acting on behalf of a fully managed account managed by the trust company or trust corporation, as the case may be; or
8. an investment fund that distributes or has distributed its securities only to (i) a person that is or was an accredited investor at the time of the distribution, (ii) a person that acquires or acquired securities in the circumstances referred to in sections 2.10 of NI 45 106 [Minimum amount investment] or 2.19 of NI 45 106 [Additional investment in investment funds], or (iii) a person described in paragraph (i) or (ii) that acquires or acquired securities under section 2.18 of NI 45 106 [Investment fund reinvestment];
9. a person acting on behalf of a fully managed account managed by that person, if that person is registered or authorized to carry on business as an adviser or the equivalent under the securities legislation of a jurisdiction of Canada or a foreign jurisdiction; or
10. a person in respect of which all of the owners of interests, direct, indirect or beneficial, except the voting securities required by law to be owned by directors, are persons that are accredited investors (as defined in NI 45 106); or
11. an investment fund that is advised by a person registered as an adviser or a person that is exempt from registration as an adviser.

Subsection 1.1 of National Instrument 45-106 Prospectus and Registration Exemptions defines an “eligible investor” as follows:

“eligible investor” means
(a) a person whose
(i) net assets, alone or with a spouse, in the case of an individual, exceed $400,000,
(ii) net income before taxes exceeded $75,000 in each of the 2 most recent calendar years and who reasonably expects to exceed that income level in the current calendar year, or
(iii) net income before taxes, alone or with a spouse, in the case of an individual, exceeded $125,000 in each of the 2 most recent calendar years and who reasonably expects to exceed that income level in the current calendar year,
(b) a person of which a majority of the voting securities are beneficially owned by eligible investors or a majority of the directors are eligible investors,
(c) a general partnership of which all of the partners are eligible investors,
(d) a limited partnership of which the majority of the general partners are eligible investors,
(e) a trust or estate in which all of the beneficiaries or a majority of the trustees or executors are eligible investors,
(f) an accredited investor,
(g) a person described in section 2.5 [Family, friends and business associates], or
(h) a person that has obtained advice regarding the suitability of the investment and, if the person is resident in a jurisdiction of Canada, that advice has been obtained from an eligibility adviser;

Wouldn’t it be wonderful to live life as a barbarian? You would live every day in the present without a care for what might come to meet you from the future.  If it turned out to be a big problem, you would tackle it with your big muscles and big spirit.  You would never prepare for anything, but trust in your ability to improvise in the situation.  This is how many people run their financial lives.

At the battle of Alesia, Julius Ceaser was facing an army of “barbarians” five times the size of his own army.  Generally, being surrounded is a position of weakness for an army.  Vastly outnumbered and outflanked, Ceaser had to do something to even the odds.

Ceaser ended up constructing a fortress trapping half the barbarian army within his walls and another fortress holding the other half out.  To do so, he used engineering techniques that were advanced for the time.  He ultimately decimated the barbarians despite his considerable numerical disadvantage.  He did this through careful planning, meticulous organization and complete control over his men.

I had the good fortune of meeting a man who worked for the NATO High Command and we were considering the topic of how to be truly successful. He identified these same three principles: prepare, organize and control.

Does all of this apply only to success in military endeavours?  Oprah Winfrey has a famous quote that would suggest otherwise:

Luck is a matter of preparation meeting opportunity.
Oprah Winfrey

I don’t think it is a stretch to suggest from what we know of Oprah that having already prepared when she met the opportunity she would organize and control the situation.  So how do we use these principles in our own financial lives?

Prepare: figure out what you want to achieve in life, your financial obstacles and your financial resources.
Organize: come up with a plan to achieve your goals identifying how you will overcome your current and potential obstacles and optimize your current and potential resources.
Control: implement, monitor and adjust your plan as your life changes.

If you are feeling financially like you are surrounded by 300,000 barbarians right now, why not make a plan like Ceaser and take control over the situation?

One day an acquaintance met the great philosopher Socrates and said, “Do you know what I just heard about your friend?”

"The Death of Socrates" by Jacques-Louis David (1787)

“Hold on a minute,” Socrates replied. “Before you talk to me about my friend, it might be good idea to take a moment and filter what you’re going to say. That’s why I call it the triple filter test. The first filter is Truth. Have you made absolutely sure that what you are about to tell me is true?”

“Well, no,” the man said, “actually I just heard about it and…”

“All right,” said Socrates. “So you don’t really know if it’s true or not. Now, let’s try the second filter, the filter of Goodness. Is what you are about to tell me about my friend something good?”

“Umm, no, on the contrary…”

“So,” Socrates continued, “you want to tell me something bad about my friend, but you’re not certain it’s true. You may still pass the test though, because there’s one filter left—the filter of Usefulness. Is what you want to tell me about my friend going to be useful to me?”

“No, not really.”

“Well,” concluded Socrates, “if what you want to tell me is neither true, nor good, nor even useful, why tell it to me at all?”

So what does this have to do with money?  Let’s review the filters and see how they might apply.

Have you made absolutely sure this is true?

“Never invest in a business you cannot understand.” Warren Buffet

The core to investing successfully is understanding the investment.  To quote a modern wise man Warren Buffet: “Never invest in a business you cannot understand.”  Of course, we are not all meant to be investment analysts, but when investing here are some questions you might ask yourself:

• What have I done to understand my investments?
• Are my advisors qualified to determine an investment’s merits and its suitability for me?
• Do I have a process for understanding the risks I am taking and how I will be rewarded for those risks?
• If ‘no’, do my advisors have this process?

Is what you are telling me something good?

This is where you consider who you are.  Different people have a different notion of goodness.  It is important for you to consider what is important to you.  Whatever your answer, these questions should still resonate for you.

• Is the investment legal?
• Will I sleep at night knowing I am involved in this investment?
• Is the investment ethical?
• How is this investment in line with my core beliefs?

Is what you are telling me useful?

Everyone has different life goals and as a result everyone has different financial goals.  Money is only there as a tool to help achieve your goals.  Money without goals is useless.

• How is this investment going to help me achieve my financial goals?
• Could the investment be an impediment to achieving my financial goals?
• Is this the best investment to achieve my financial goals?

The next time you are faced with an investment opportunity, try the triple filter test and see how it works. I would love to hear if it was helpful.

"Text Messaging Costs" courtesy of CBC Marketplace

According to a recent CBC Marketplace study sending a text message costs us 15 cents while it costs the telecom company 1/3 of a cent.

Though we might not think of them this way, the financial products we buy are also consumer goods sold to us at the retail level.  Though not as extreme as cell phone charges, financial products are also marked up.

Many retail financial products have a specific value that we might be willing to pay for. For instance, many banking and insurance products are guaranteed, our local bank branch may be familiar and convenient or a mutual fund might have an incredible manager in a great market. There might be many good reasons for putting our money in certain retail financial products. However, before we give them all our money, we should ask ourselves the following questions:

1. What added value is this retail financial product providing?
2. Do I need this added value?
3. How is this value helping me achieve my financial goals?
4. What would I lose by switching to a cheaper alternative?
5. How much of my portfolio needs to be in this product?

Traditionally, sophisticated investors have had access to wholesale investments that are cheaper and consequently more lucrative than our retail financial products. Historically, the average investor did not have access to these investments. However, with the introduction of new regulation, financial advisors can become licensed to offer these investments to their clients.

Over the next few months, I will explain wholesale investments in this newsletter.  For now, here is the president of the Yale Endowment Fund, David Swensen, talking about how wholesale investments have helped him with the fund. This fund is currently 80.6% wholesale investments and at the time of this video, had had a 15.6% rate of return over 20 years.

Building a Diversified Plan
The key to having a well constructed financial strategy has always been diversification. There was a time where having a mix of different investments was considered sufficient to build a long-term sustainable financial plan. The times have changed and with the massive retirement of the baby boomer generation we have seen our understanding of diversification develop to such an extent that the old asset allocation strategies are only a small part of a well rounded financial plan. Over the last decade, developments have occurred primarily in the areas of asset allocation, product allocation, debt diversification, and temporal diversification.

Asset Allocation
Though asset allocation is still the cornerstone of a well diversified investment portfolio, with the work of financial strategists like Moshe Milevsky, the definition of asset allocation is expanding. Moshe Milevsky claims that we need to go beyond our current narrow concept where diversification using asset allocation means that we invest in different asset types like stocks and bonds. Stocks are more volatile but they have more potential to rise in value over time. Bonds are less volatile but the do not have the same potential as stocks. A well constructed portfolio will provide the greatest return for a prescribed risk tolerance. The underlying assets are also usually diversified and would not hold all the stocks in one company nor all the bonds with one institution. That way if one company or institution were to run into trouble, it would have a minor effect on the portfolio.

Milevsky suggests that we need to take our own career into consideration when we are considering our asset allocation strategy. Some people lead very volatile lives and have a lot of potential to make a lot of money. Those people are stocks. On the other hand, some people lead very staid lives with very little upside potential. These people are bonds. If your life resembles a stock, you should be invested in bonds. If your life resembles a bond, you should be invested in stocks. This is a simplification of the argument but the underlying message is that we have to think a little more creatively and a little more holistically when we are constructing financial plans for people.

Here is Moshe Milevsky speaking on the topic.

Product Allocation
A recent article in the Globe and Mail outlined what many of us in and out of the financial industry have known for a long time: Canadians are not adequately prepared to fund their retirements. According to the article, the government is putting together a task force to try to come up with a way to stem this potential retirement income crisis. I was talking with my contact at Manulife recently and mentioned the article to him. He quipped that he didn’t know why the government was going to all this trouble as Manulife has already figured it out. Although he was speaking tongue in cheek, he was at least partially right.

Manulife has pioneered the area of product allocation. Product allocation takes the focus off how to most effectively accumulate assets and instead focuses on how to most effectively distribute assets and how to distribute those assets so they will last for the full retirement period. Retirement for some people will last up to one third of their entire lives. Manulife has coined the phrase RSQ (Retirement Sustainability Quotient) to express an individual’s likelihood of their money lasting the rest of their lives.

Typically, when a person retires, there are three main financial products that will provide them with a retirement income: SWPs (Systematic Withdrawal Plans), SPIAs (Single Premium Immediate Annuities) and more recently GMWBs (Guaranteed Minimum Withdrawal Benefits). All three of these financial products have different advantages and shortcomings. However, the various products are complementary in such a way that a well planned combination allows the retiree to take advantage of the benefits while minimizing the shortcomings. This is diversifying investments across product types.

There is a good case study video that shows how distributing assets differs from accumulating assets.

Upcoming Event:
“Product Allocation”
Presented by Carl Brodie
Saturday, June 27 2009
7:30 PM in Roberts Creek
Please contact me for details at 604 885 7660 or info@carlbrodie.com

Debt Diversification
Actually diversification is not desirable when it comes to debt. It is much better by far to consolidate debt. So what does it mean to consolidate our debt? The first step is to move all debt to the loan with the lowest interest rate and best terms. This is usually debt backed by real estate like a mortgage. We call this spatial consolidation as we are “moving” the debt to one “place”. However, there is another type of debt consolidation that is just as powerful: temporal consolidation.

We typically diversify our debt temporally. For example, we might get paid on the first of the month, pay our mortgage payment on the tenth and then use the leftover money at the end of the month from our bank account to pay down our line of credit. Our debt payments have been spread or diversified across the entire month. This is a very inefficient use of our money as our debt is allowed to accrue interest. We can consolidate our debt temporally by ensuring that all income is used to pay debt immediately.

If you want to find out how much interest you might save by consolidating your debt both spatially and temporally, try Manulife Bank’s calculator. You could win $500 just for trying it out.

Temporal Diversification
A recent study conducted by Ian Ayres, Barry J. Nalebuff of Yale University might be of no surprise to any of us. It found that people generally did the bulk of their saving at the end of their work lives. This is what we would consider a temporal consolidation, that is, people tend to consolidate their investment period to the time directly before they retire. We know that when it comes to investing diversification allows us to enjoy a greater return for less risk. Consolidating our investment period does the opposite. It increases our risk and provides a smaller return. Ayers and Nalebuff concluded that diversifying our investment period across the entire span of our working life would allow us much greater returns at a reduced risk. The most effective way to spread our investments over our work lives is to leverage our investments. In Canada we have the added bonus that structured properly, the interest portion of our leveraging payments are tax deductible.

The Story of Mike and Liz is the best explanation I know of investment leveraging.

Please contact me to find out more.