Monthly Archives: July 2015

Stocks beat bonds, hands down: Bob Cable

Here at the Hub we like to present all points of view. On Tuesday, we ran a guest blog by author and chartered accountant David Trahair about the new second edition of his book, Enough Bull, which explained why he is 100% in fixed-income vehicles like GICs. Today, we do the same thing with a guest blog by Scotia McLeod’s Robert S. Cable, who argues almost the polar opposite in his new book, Inevitable Wealth. We’ll review both books formally in the coming weeks. Meanwhile, over to Bob! – – JC

Stocks beat bonds, hands down

Robert Cable

 By Robert S. Cable

Special to the Financial Independence Hub

All of the research I’ve carried out since I began doing this in 1980 and every piece of research I’ve seen comparing stocks to bonds– every single time comes to the same conclusion — that is that stock returns don’t just beat the returns of bonds, stocks clobber bonds. It’s absolutely no contest.

In my book, Inevitable Wealth, I compare 40 years of returns, from 1975 through 2014. I show $100,000 invested in Government of Canada five-year bonds, with money reinvested every five years, to the same $100,000 invested in stocks by way of the TSX Composite Index.

In 1975, those bonds yielded 7.25% so your annual income started out at $7,250. Stocks paid somewhat less, $5,360. Advantage bonds—initially. However just four years later, the dividends paid on stocks had moved higher to the point where the dividends paid on stocks was greater than the bond’s income.

But check out these numbers. In 2014, your bonds paid an annual income of just $2,770, down from $7,250, 40 years earlier. Talk about taking a pay cut! Meanwhile in 2014, stocks paid dividends of $49,560. Your stock income was more than 17 times what bonds paid.

What’s really interesting though is this: while stocks paid a much superior and growing income, they really aren’t income investments. The dividend income paid is simply a by-product of these companies sharing their profits with shareholders.

But as they say, that’s only half the story. We’ve looked at the income stocks and bonds produced. But what about the value of each of these investments over those 40 years?

Stocks beat bonds by 17 to 1 over 40 years

Well, that $100,000 you invested in bonds back in 1975 is still worth right around the same $100,000. If you took inflation into account, your $100,000 would actually be worth more like $15,000. The $100,000 invested in stocks? Well, not including the dividends, at the end of 2014 your stocks would be worth a bit more, $1,732,060. Continue Reading…

Protecting investment returns from Inflation

Prices Increase Showing Financial Report And Economy

By Robb Engen, Boomer & Echo

Special to the Financial Independence Hub

Earlier this year, the Financial Planning Standards Council (FPSC) updated the numbers it uses for projected investment returns and inflation. Financial planners use these numbers as guidelines when projecting retirement needs and income for their clients.

The FPSC’s latest guidelines for 2015 peg annual inflation at 2 per cent and make the following assumptions for investments returns (nominal returns, not adjusted for inflation):

  • Short term: 2.90 per cent
  • Fixed income: 3.90 per cent
  • Canadian equities: 6.30 per cent

Portfolio return assumptions

Planners (and investors) need to consider inflation in their retirement projections, so these numbers should be adjusted down by 2 per cent.

We also need to account for investment fees and expenses in order to calculate the net portfolio returns. The FPSC assumes the majority of Canadians are invested in mutual funds and therefore use a management expense ratio of up to 2.25 per cent for Canadian equity investments and 1.50 per cent for the fixed-income security portion.

This chart shows net portfolio returns (after fees, but before inflation) for three types of investors: conservative, balanced, and aggressive:

FPSC guidelines

Once adjusted for inflation these returns range from 0.80 per cent annually for the conservative investor to 1.70 per cent for the aggressive investor.

Do those numbers sound realistic? Conservative?

According to data collected by the Million Dollar Journey blog (and pulled from online financial resource, Money Chimp), the compound annual growth rate after inflation for the S&P 500 during any 30-year period dating back to 1950 was between 4.32 per cent and 8.42 per cent.

It appears as though the new FPSC guidelines are being cautious with future investment returns; although keep in mind they’re using Canadian equity markets in their assumptions, not U.S. or international markets. These guidelines also use the highest average investment expenses – which is unfortunately true for most Canadian investors – to calculate net portfolio returns.

Projecting returns for my clients

When projecting investment returns for my clients I use 5 percent annual growth for investments and a 2.5 percent annual target for inflation. That leaves a net return of 2.5 per cent annually: after inflation, but before investment costs.

Now keep in mind that most of my clients have switched from expensive bank mutual funds into low cost index funds or ETFs,  so their investment fees and expenses are a fraction of what the FPSC uses in its guidelines.

For example, a portfolio of TD e-Series funds with 25 per cent allocated to each of the Canadian index, U.S. index, International index, and Canadian bond funds has an average MER of just 0.42 per cent. If we use those costs for the aggressive investor in the FPSC guidelines then the net portfolio return now equals 5.2 per cent after costs and 3.2 per cent when adjusted for inflation. Not bad.

Assumptions for my own portfolio

For my personal retirement planning assumptions I use an 8 per cent nominal return on my investments (remember, I’m 100 per cent in equities – both domestic and international – with my two-ETF solution).

The total costs for my portfolio each year is just 0.29 per cent, which leaves a net portfolio return of 7.71 per cent. I peg inflation at 2.50 per cent annually. That leaves inflation adjusted investment returns of 5.21 per cent for my retirement portfolio.

Why costs matter

The main takeaway from looking at these guidelines shouldn’t be which number to arbitrarily attach to your projected investment returns in order to boost your retirement income. Even inflation, although real, is largely out of your control.

What you can control is your investment costs. Fees matter; and the difference between a low-cost portfolio of index funds and a smattering of expensive bank mutual funds could mean the difference between your portfolio handily beating inflation over time or just treading water and barely keeping up.

What assumptions do you use when projecting investment returns and inflation?

RobbEngenIn addition to running the Boomer & Echo website, Robb Engen is a fee-only financial planner. This article originally ran on his site on July 26th and is republished here with his permission

China: Searching for a New Equilibrium

Michael Hasenstab, Templeton Global Macro

By Michael Hasenstab, Ph.D.
Chief Investment Officer
Templeton Global Macro

Special to the Financial Independence Hub

We find that most observers tend to fall into one of two camps on China: the die-hard skeptics and the perma-bulls. The skeptics are convinced that nothing about China—from the data to the banking system to the demographics—bears close inspection. This school of thought argues that the official numbers are too unreliable to follow, and the imbalances too large to warrant detailed analysis.

Skeptics envision an implosion of the Chinese economy, resulting from a bubble in the housing market, in local government debts, in the stock market—or frequently in all three. In their view, the collapse is impending, and has been for the last 10 years.

The smaller group of China bulls takes an extremely benign view of the country’s transformation. This group expects the China growth miracle to continue smoothly, with any moderation lasting only temporarily. This camp tends to shrug off concerns about imbalances, arguing that China has more than enough money, the right policies in place and an unparalleled control over its economy.

We try to take a few steps back and provide an objective assessment of where the Chinese economy currently stands, where we see it going and what risks we foresee in the period ahead.

Optimistic but cautious

Shanghai Lujiazui civic landscape of China national flags
Shanghai Lujiazui civic landscape of China national flags (DepositPhotos)

We take a more nuanced and balanced view than either the die-hard skeptics or the perma-bulls. On balance we remain optimistic about China’s outlook, but we recognize that the country faces formidable policy challenges and substantial risks that bear close monitoring. Continue Reading…

Why David Trahair is 100% in fixed income

David Trahair
David Trahair

By David Trahair

Special to the Financial Independence Hub

I have been writing about personal financial issues for over 12 years now. I have also been giving seminars to other accountants on my ideas since 2008.

Suffice it to say I have spent a large amount of time thinking about and analyzing the best way to get ahead financially and I have had a tremendous amount of feedback along the way.

And I still have 100% of my family’s investments in guaranteed fixed-income products.

Zero exposure to stock market

That’s correct, I have zero exposure to the stock market. It’s all in Guaranteed Investment Certificates (GICs) or provincial government bonds using a three-year laddered approach.

Sound crazy? Well I’ll tell you why it’s not.

First of all, the assumption is that you have to have exposure to the stock market because it’s the only thing that will give you excellent returns. But how good are those returns versus plain old GICs?

I have done an analysis for my Enough Bull course that will give you some idea. Continue Reading…

5 Pitfalls to Avoid on the Road to Retirement

Matt Ardrey

By Matthew Ardrey

Special to the Financial Independence Hub

One of the greatest things I can do for my clients is to reassure them that they’ll be financially independent when they’re ready to retire. Unfortunately, not everyone meets their financial retirement goals. When they don’t, it’s often because they’ve made one or more of the five following mistakes:

1.) Not understanding your spending habits

Most people know what they earn and what they save, but have no idea what they spend. As you approach retirement and your ability to earn income is more limited, understanding what you spend and where you spend it becomes crucial.

Not knowing what you spend can lead to living beyond your means. Spending more than you earn can result in debt accumulation and, ultimately, reduced savings. Think of savings as fuel for your retirement; if you don’t have enough in the tank, you might not make it to your final destination.

2.) Carrying debt into retirement

A cornerstone of financial independence is being debt free. Continue Reading…