All posts by Financial Independence Hub

How will you react to the 50% Incorrection?

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By John De Goey, CFP, CIM

Special to the Financial Independence Hub

Words are important.  Not only because of what they say, but also what they imply without saying.  The finance business is full of such words and phrases.

Today, we’ll look at one of my (ahem) “favourites” – the word “correction.” Within the field of finance, a correction is when the stock market drops by 10% or more.  A more precise term might be a drop of more than 10%, but less than 20%, because a drop exceeding 20% is no longer a correction, it is a bear market.  Got that?

The finance industry presumes markets always rise

Here’s the thing about industry Bullshift.  The presumed direction, when speaking about the future, is pretty much always up. Every prognostication from everyone who does a prognostication for every asset class under all circumstances is that ‘the market’ (whatever index or asset class is being discussed) will go up this year.  I have literally never seen a major industry player predict a year-over-year drawdown in any asset class: ever.

As people must surely know, most financial predictions are made about the stock market.  The data on the subject is quite clear: markets the world over go down about 3 times every 10 years.   Many prognosticators hedge their predictions by allowing that, of course, a ‘healthy correction’ of about 10% could happen at any time and for almost any reason, including no discernable reason whatsoever.

An ‘Incorrection of Epic Proportions?’

My question to you is about symmetry and consistency.  If a drop of 10% or more is a “correction, it must logically follow that a gain of 10% or more is an “incorrection.” Who decides what is correct or incorrect, anyway?
Continue Reading…

Mix business with pleasure – maximize the benefits of your second home

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By Salvatore Presti

So, you’ve spent decades building up a nest egg to help provide you with a financially stable and comfortable retirement. The unpredictability and risks involved in many kinds of financial investment so you prefer not to base your entire portfolio on the markets. You want something more tangible, with the possibility of steady growth, and that you can leave to your family when you pass away.

If this describes your approach, then investing in a second home makes perfect financial sense.  Property values tend to increase over the long term, so your capital is growing, despite any shocks the financial markets might experience.  Not only that, you’ll have the option of generating rental income as an additional rental stream.  And, if you choose, you can use your second property as a vacation home for yourself and your family, thereby avoiding the costs typically associated with leisure travel, hotels, etc.

Before you proceed, it’s important to be clear about your principal aim in buying a second home.  Financial growth as part of your portfolio?   Opportunity to enjoy a change of scenery? A place where the family can vacation together?

Types of property

First of all, consult an investment /tax advisor to help you understand the financial implications of second home ownership: not only in terms of your initial purchase, but also whether there are tax advantages due to the ongoing costs, and the eventual sale.

If you decide that second homeownership is definitely for you, the next step is to consider the type of property that best suits your needs, and why.

Let’s consider the options, and the pros and cons of each.

Condominiums

Condos have several advantages. They’re more secure than an individual property, maintenance is easier to arrange, and there’s no upkeep of external areas involved.  You’ll be able to show up, move in and enjoy your home, and then lock up and leave without much effort. That’s great if you want a vacation home for yourself and your family.

However, there are also some disadvantages if you want to generate an income. Many management associations have the right to approve or reject potential tenants, so letting may not be so easy and your property may sit empty at times.  There are likely to be many restrictions in the lease – in terms of noise, use of public areas, etc.  These clauses may make it more difficult to use the property for lucrative short-term or Airbnb -style, without violating the terms of your lease.

Individual properties

With an individual property, you’ll have more freedom to rent it out (subject to city regulations), whether on a long- or short-term basis. Whichever type of tenancy you go for, unless you’re living close by and want to be heavily involved with the day-to-day issues as they arise, you’ll likely need to pay for a property management company.  They’ll liaise with your visitors for you, and handle the headaches associated with maintenance and repairs (at a cost of course). This will increase your expenses considerably. Continue Reading…

Master your Mortgage for Financial Freedom

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By Michael J. Wiener

Special to the Financial Independence Hub

Many people have heard of the Smith Manoeuvre, which is a way to borrow against the equity in your home to invest and take a tax deduction for the interest on the borrowed money.

It was originally popularized by the late Fraser Smith, who passed away in September 2011.  Now his son, Robinson Smith, has written the book Master Your Mortgage for Financial Freedom, which covers the Smith Manoeuvre in detail for more modern times.  Smith Jr. explains the Manoeuvre and its subtleties well, but his characterization of its benefits is misleading in places.

The Smith Manoeuvre

In Canada, you can only deduct interest payments on your taxes if you invest the borrowed money in a way that has a reasonable expectation of earning income.  Buying a house does not have the expectation of earning income, so you can’t deduct the interest portion of your mortgage payments.

However, if you have enough equity in your home that a lender is willing to let you borrow more money, you could invest this borrowed money in a non-registered account and deduct the interest on this new loan on your income taxes (as long as you follow CRA’s rules carefully).  A common mistake would be to spend some of the invested money or spend some of the borrowed money.  If you do this, then some of the money you borrowed is no longer borrowed for the purpose of investing to earn income.  So, you would lose some of your tax deduction.

With each mortgage payment, you pay down some of the principal of your mortgage, and assuming the lender was happy with your original mortgage size, you can re-borrow the equity you just paid down for the purpose of investing and deducting any interest on this new loan.  Some lenders offer mortgage products with two parts: the first is a standard mortgage, and the second is a line of credit (LOC) whose limit automatically adjusts so that the amount you still owe on your standard mortgage plus the LOC limit stays constant.  So, after each standard mortgage payment, your LOC limit goes up by the amount of mortgage principal you just paid, and you can re-borrow this amount to invest and deduct LOC interest on your taxes.  This is the Smith Manoeuvre.

Smith describes a number of ways of paying off your mortgage principal faster (that he calls “accelerators”) so that you can borrow against the new principal sooner and boost your tax deductions.

Compared to a Standard Mortgage Plan

Ordinarily, mortgagors pay off their mortgages slowly over many years.  Their risk of losing their home because of financial problems is highest initially when they owe the most.  This risk declines as the mortgage balance declines, and inflation reduces the effective debt size even further.

With the Smith Manoeuvre, the total amount you owe remains constant (declining mortgage balance plus LOC balance) or may even increase as your house value increases and your lender is willing to lend you more money against your house.  So, your risk level as a function of how much you owe doesn’t decline in the same way as it does with the standard mortgage plan.  You could argue that your financial risk does decline somewhat because you’ve got your invested savings to fall back on in hard times, but your risk certainly doesn’t decline as fast as it does with the standard plan.

Leveraged Investing

Smith likes to say that the Smith Manoeuvre isn’t a leveraged investment plan.  He justifies this assertion by saying that you’ve already borrowed to buy your home, and you’re now slowly converting this mortgage that isn’t tax deductible to an LOC debt that is tax deductible. Continue Reading…

The Long View: Follow the Herd?

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By Jeffrey Schulze, CFA, Director, Investment Strategist with ClearBridge Investments, a Specialty Investment Manager of Franklin Templeton

(Sponsor Content)

There are times to follow the herd and there are times to stray away from the pack. Investors must learn this lesson. Sometimes, it can be beneficial to follow a larger group, but there are moments when it can make sense to chart one’s own course. In the early and middle stages of an economic expansion, running with the herd can be a beneficial and safe proposition.

As the U.S. recovery unfolds, some investors may be tempted to break off, worried about the formation of a bubble. Indeed, many investors are concerned that the market may be overheating, based on metrics such as the forward earnings of the S&P 500 Index.

Importantly, an increase in equity multiples is not uncommon during the early stages of an economic expansion. Following recessionary troughs, market returns tend to be driven by price-to-earnings (P/E) multiples during the initial market rally (approximately nine months) as investors anticipate an eventual earnings rebound. As the recovery matures over the subsequent two years, the opposite dynamic occurs, with multiple compressions on the back of stronger earnings growth. Put differently, earnings typically make a significant contribution toward stock returns during this second phase of the rally and declining P/Es become a modest drag on returns (see Exhibit 1 below).

Exhibit 1: Multiples vs. Earnings Data as of Dec. 31, 2020. Source: JP Morgan.

As we move through 2021 and eventually into 2022, we expect this same pattern to unfold; however, multiples may remain elevated.

Higher multiples not uncommon early in Expansion

Valuations are elevated in part because investors correctly sniffed out the budding U.S. economic recovery. Unprecedented stimulus actions (both monetary and fiscal) short-circuited the typical bottoming process, as policymakers formulated a response that rapidly ended the economic crisis and fueled an upturn in financial markets.

ClearBridge Investments has been tracking the scope of this improvement, and we see an overall expansionary green signal since the end of the second quarter of 2020. In our view, it has become clear that a durable U.S. economic and market bottom has formed, with the S&P 500 up 67.9% from the lows and a third-quarter GDP rebound of +33.4%, as of December 2020. Continue Reading…

6 things you can do to stay out of Debt

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By Sia Hasan

Special to the Financial Independence Hub

No one wants to be in debt, but the good news is that you don’t have to be if you make smart financial decisions. Here are six ways you can change your habits and stay out of debt.

Create a monthly budget

Creating a monthly budget can help you visualize how much money you have coming in and how much typically goes toward expenses such as electricity, Internet and maintenance. There are plenty of apps that can help you get started, or you can go the old-fashioned route and use a pencil and paper. After about a month, you’ll be able to see how you can cut down on your expenses, such as canceling subscriptions that you don’t need or use.

Go Green

Not only can you go green on a budget, but it can actually save you money in the process. The next time you’re low on food, try going to the local farmers market instead of the grocery store. Contrary to popular belief, one study found that farmers markets are 10 to 20% less expensive than grocery stores. While you’re at it, bring your own reusable bag with you when shopping. Some stores will give you a refund, which can add up to $10 of savings a week. If you’re looking for another way to go green, installing solar panels in your home can be a great way to help the environment and save money at the same time. Although the initial investment may be large, you’ll actually end up cutting electrical costs in the long run. One study found that you can save up to $30,000 in the first 20 years after installing solar panels. If you’re interested in going solar, Loanpal can provide you with financing options.

Leave your credit cards at home

Unlike a credit card, you can’t overspend cash once it’s gone. Before you go on your next trip to the grocery store, bring only the amount of money that you think you’ll need. This way, you can stick to your list and you won’t be tempted to buy any extra treats or unnecessary items. Credit cards can make it difficult to know how much you’re actually spending, which can lead to costs rapidly accumulating. Continue Reading…