Debt & Frugality

As Didi says in the novel (Findependence Day), “There’s no point climbing the Tower of Wealth when you’re still mired in the basement of debt.” If you owe credit-card debt still charging an usurous 20% per annum, forget about building wealth: focus on eliminating that debt. And once done, focus on paying off your mortgage. As Theo says in the novel, “The foundation of financial independence is a paid-for house.”

The Case for Bonds

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Outcome Metric Asset Management

By Noah Solomon

Special to the Financial Independence Hub

Historically, investors have held bonds to diversify and mitigate the volatility of their portfolios. Conventional portfolios have sufficient allocations to low-volatility bonds to weather periodic bear markets in stocks. During the tech-wreck of 2000-02, the global financial crisis of 2007, and the Covid-crash of early 2020, bonds not only held up well relative to stocks, but actually produced gains, mitigating the pain investors experienced from large declines in stocks.

Over the past few decades, bonds have not only provided ample protection from bear markets in equities but have also provided reasonable returns for the privilege. During the 40 years from 1982 to 2020, 10-year U.S. Treasuries produced an average annualized real return of 4.71%.

The Ugly Truth

By any measure, the bond market’s one-two punch of healthy returns and portfolio insurance over the past several decades has been impressive. However, this experience has been highly anomalous from a long-term historical perspective.

The 4.71% annualized real return of 10-year U.S. Treasuries over the 40 years from 1981 to 2020 compares favorably to the corresponding return of only 1.36% for the 80 years beginning in 1941. Their returns over the past four decades look even more out of place when compared to -1.89% annualized real return for the 40 years from 1941 to 1980.

Bonds can also be less stable than stocks and just as vulnerable to extreme losses. Since 1928, the maximum peak-trough loss in real terms of 10-year U.S. Treasuries was -54.3% vs. -56.5% for stocks. Over the same time period, the worst rolling 10-year annualized real return for 10-year Treasuries was -4.7% as compared to -4.06% for the S&P 500 Index.

Bond bear markets can also last longer than those of stocks. Investors who bought Treasuries at the end of 1940 had to wait 51 years before they broke even in real terms. By contrast, the lengthiest period in which stocks remained underwater was the 13 years following the peak of the technology bubble in late 1999.

The current near-zero yields on bonds are likely to be an excellent indicator of what investors can anticipate for future returns. John Bogle, founder of The Vanguard Group, pointed out that since 1926, the yield on 10-year U.S. Treasury notes explains 92% of the annualized returns investors would have earned had they held the notes to maturity and reinvested the interest payments at prevailing rates.

The perils of investing in bonds are well summarized by legendary investor Warren Buffett, who in his 2012 annual letter to Berkshire Hathaway shareholders warned:

They are among the most dangerous of assets. Over the past century these instruments have destroyed the purchasing power of investors in many countries, even as these holders continued to receive timely payments of interest and principal …. Right now, bonds should come with a warning label.

History also cautions against relying on bonds to mitigate portfolio losses when stocks decline. Notwithstanding that bonds provided much needed gains during the tech-wreck of 2000-2002, the global financial crisis of 2008, and the Covid-crash of 2020, stocks and bonds have been positively correlated in 55% of the 93 years from 1928 to 2020.

Putting history aside, the simple fact is that with current short-term rates at zero and 10-year Treasuries yielding 1.5%, it will be difficult for bonds to provide the same degree of protection (if any) in the next bear market. The math just doesn’t work!

From the beginning of 1928 through the end of last year, the annualized real return of the S&P 500 Index was 6.64%, as compared to 1.94% for 10-year Treasuries. Had you invested $1 in the S&P 500 at the beginning of 1928, by the end of 2020 it would have had an inflation-adjusted value of $396.03 vs. only $5.96 had you invested the same $1 in 10-year Treasuries. Put simply, the opportunity cost of maintaining a permanent allocation to bonds cannot be overstated.

Does this mean Bond Investors are Irrational?

The massive drag on portfolio returns over the long-term caused by a permanent allocation to bonds does not necessarily imply that investors who hold them are irrational.

Many investors may not have a sufficiently long investment horizon to weather crushing losses in bear markets and/or may be emotionally incapable of enduring large losses that can occur in portfolios that are heavily weighted in stocks. Continue Reading…

Canadians eager to continue pandemic budgeting habits through recovery

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By D’Arcy McDonald

Special to the Financial Independence Hub

In the last year and a half, Canadians have had to change almost every aspect of their lives. They have formed new habits to adjust to the many changes that the COVID-19 pandemic has brought. This includes how they have been dealing with their finances, and how much they have been spending and saving.

Opportunities to engage in pre-pandemic activities have increased as our economy reopens, including the return to work, international travel, and frequenting our favourite bars and restaurants. One may assume that Canadians are taking full advantage of the opportunity to save more and spend less, but that has not been the case.

Our latest Scotiabank Money Habits survey provides some interesting insights into Canadian’s personal spending habits. Despite Canadians having the freedom to reemerge into the retail and recreational world, many are not planning to return to pre-pandemic levels of spending.

In fact, the survey, driven by the responses of over 1,500 Canadians found that two out of three respondents (63%) say they do not plan to return to their pre-pandemic spending habits, while half indicate they plan to cut back (53%).

We found that the budgeting habits that Canadians developed while hunkering down are here to stay, including curbing their spending, keeping a closer watch on their finances, and refining their money habits.

Canadians pivoted and started taking up activities at home like baking and cooking, participating in online fitness classes, ordering in, and catching up on their favourite TV shows. Apparently, these habits are here to stay, respondents to the survey said they plan on continuing these activities this year to the same extent as they did last year.

These results reinforce our previous Money Habits Survey from Spring 2021 when Canadians were eager to get back to normal life. We have missed those dinners out with friends and international travel to warm and sunny beaches, but most Canadians are still not planning to return to their pre-pandemic spending patterns.

Despite best efforts, anxieties continue

Even with good financial habits, 42% of Canadians are still anxious about the future of their finances as we transition to the new normal.

We also know that the pandemic has disproportionately affected certain groups such as women and young people working in the service sector. It’s no surprise that The Scotiabank Money Habits Survey found that financial anxiety is higher among younger Canadians (51%) and women (48%).

Leaning on banking advisors will help Canadians develop the strategies and financial foundation to provide the peace of mind needed to face whatever the future brings. Canadians recognize the benefit of carrying less debt and spending less, allowing them to increase their savings contributions.

This is a great time for Canadians (especially young people) to figure out what they need to do now to accommodate their long-term goals.

Top Tips to Manage Financial Anxiety

1.) Don’t go at it alone: Seeking advice from an advisor can calm some of those post-pandemic finance anxieties. Scotiabank advisors can provide you with the support and financing that you need in the months ahead. Continue Reading…

The six phases of financial independence [Revisited]

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By Mark Seed, myownadvisor

Special to the Financial Independence Hub

I’ve recently updated this post to include more links to related content. I hope you enjoy it. 

The term “financial independence” has many meanings to many people.

To some, it means not working at all.

To others, financial independence covers all needs and many wants.

To others still, it means the ability to work on your own terms.

Where do I stand on this subject?

This post will tell you in my six phases to financial independence.

Retirement should not be the goal, financial independence should be

Is retirement your goal?

To stop working altogether?

While I think that’s fine I feel the traditional model of retirement is outdated and quite frankly, not very useful.

As humans, even our lizard brains are smart enough to know we need a sense of purpose to feel fulfilled.  Working for decades, saving money for decades, only to come to an abrupt end of any working career might work for some people but it’s not something I aspire to do.

With people living longer, and more diverse needs of our society expanding, the opportunities to contribute and give back are growing as well. To that end, I never really aspire to fully “retire” – cease to work.

Benefits of financial independence (FI)

In the coming years, I hope to realize my desired level of financial independence.

We believe the realization of FI will bring about some key benefits:

  1. The opportunity to regain more control of our most valuable commodity: time.
  2. Enhanced opportunities to learn and grow.
  3. Spend extra money on things that add value to your life, like experiences or entrepreneurship.

Whether it’s establishing a three-day work week, spending more time as a painter, snowboarder, or photographer, or whatever you desire – financial independence delivers a dose of freedom that’s hard to come by otherwise.

More succinctly: financial independence funds time for passions.

FI concepts explained elsewhere

There are many takes on what FI means to others.

There is no right or wrong folks – only models and various assumptions at play.

For kicks, here are some select examples I found from authors and bloggers I follow.

  • JL Collins, author of The Simple Path to Wealth, popularized the concept of “F-you money”. This is not necessarily financially independent large sums of money but rather, enough money to buy a modest level of time and freedom for something else. I suspect that money threshold varies for everyone.
  • Various bloggers subscribe to a “4% rule”* whereby you might be able to live off your investments for ~ 30 years, increasing your portfolio withdraws with the rate of inflation.

Recall the rule:

*Based on research conducted by certified financial planner William Bengen who looked at various stock market returns and investment scenarios over many decades. The “rule” states that if you begin by withdrawing 4% of your nest egg’s value during your first year of retirement, assuming a 50/50 equity/bond asset mix, and then adjust subsequent withdrawals for inflation, you’ll avoid running out of money for 30 years. Bengen’s math noted you can always withdraw more than 4% of your portfolio in your retirement years however doing so dramatically increases your chances of exhausting your capital sooner than later.

In some ways, the 4% rule remains a decent rule of thumb.

Are there levels of FI?

For some bloggers, the answer is “yes”:

  • Half FI – saved up 50% of your end goal (e.g., $500,000 of $1M).
  • Lean FI – saved up >50% of your end goal; income that pays for life’s essentials like food, shelter and clothing (but nothing else is covered).
  • Flex FI – saved up closer to 80% of your end goal (e.g., $800,000 of $1M). This provides financial flexibility to cover most retirement spending including some discretionary expenses.
  • Financial Independence (FI) – saved up 100% of your end goal, you have ~ 25 times your annual expenses saved up whereby you could withdraw 4% (or more in good markets) for 30+ years (i.e., the 4% rule).
  • Fat FI – saved up at or > 120% of your end goal (in this case $1.2M for this example), such that your annual withdrawal rate could be closer to 3% (vs. 4%) therefore making your retirement spending plan almost bulletproof.

There is this concept about “Slow FI” that I like from The Fioneers. The concept of “Slow FI” arose because, using the Fioneers’ wording while “there were many positive things that could come with a decision to pursue FIRE, but I still felt that some aspects of it were at odds with my desire to live my best life now (YOLO).”

They went on to state, because “our physical health is not guaranteed, and we could irreparably damage our mental health if we don’t attend to it.”

Well said.

My six phases of financial independence

With a similar line of thinking related to Slow FI, since we all have only one life to live, we should try and embrace happiness in everything we do today and not wait until “retirement” to find it.

After reviewing these ideas above, among others, I thought it would be good to share what I believe are the six key phases of any FI journey – including my own.

Phase 1 – FI awakening. This is where there is an awareness or at least an initial desire to achieve FI even if you don’t know exactly how or when you might get there.

FI awakening might consider self-reflection questions or thoughts like the following:

  • I would love to retire early or retire eventually…
  • I can never seem to get off this credit card treadmill…
  • I wish I had some extra money to travel…
  • Wouldn’t it be nice to buy X guilt-free?

(I had my awakening just before I decided to become My Own Advisor, triggered by the financial crisis of 2008-2009.)

Phase 2 – FI understanding. This is the phase where people are getting themselves organized; they start to diligently educate themselves on what their personal FI journey might be.

In this phase, they might set goals or get a better handle on what goes into their financial plan. Even if your plan is not perfect, it’s a start.

They might start asking some deeper questions like:

  • Why is money important to me?
  • What is my money for?
  • How do I know I’m doing it right?

I would say it took me until my mid-30s to get my financial life in order through more financial education and improved financial literacy. It was a process that took a couple of years although I’m always continuously learning and improving. I don’t pretend to know it all.) Continue Reading…

JP Morgan, RBC on post-Covid Retirement trends

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A couple of recent surveys from J.P. Morgan Asset Management and RBC shed a fair bit of light into recent Retirement trends in North America in the wake of the ongoing Covid-19 pandemic. Summarized in the October 2021 issue of Gordon Wiebe’s The Capital Partner newsletter, here are the highlights:

First up was J.P. Morgan on August 19 in a study focused on de-risking for investors approaching retirement and about to draw down on Retirement accounts.

The study was quite comprehensive, drawing on a data base of 23 million 401(k) and IRA accounts and 31,000 Americans. 401(k)s and IRAs are similar to Canada’s RRSPs and RRIFs.

De-risking is quite common, with 75% of retirees reducing equity exposure after “rolling over” their assets from a 401(k) to an IRA. These retirees also relied in the mandatory minimum withdrawal amounts.

Of those studied, 30% received either pension or annuity income, and the median value of Retirement accounts was US$110,000. The median investable assets were roughly US$300,000 to US$350,000, with the difference coming from holdings in non-registered accounts.

Not surprisingly, the most common retirement age was between 65 and 70 and the most common age for commencing the receipt of Social Security benefits was 66. (Coincidentally, the same age Yours Truly started receiving CPP in Canada.)

The report warns that retirees who wait until the rollover date to “de-risk” or rebalance portfolios needlessly expose themselves to market volatility and potential losses: they should consider rebalancing well before the obligatory withdrawal at age 71.

The newsletter observes that 61-year-olds represent the peak year of baby boomers in Canada and cautions that if they all retire and de-risk en masse, “Canadian equity markets will likely undergo increased downward pressure and volatility. Retirees should consider re-balancing or ‘annualizing’ while markets are fully valued and prior to an increase in capital gains or interest rates.”

The report includes several interesting graphs, which you can find by clicking to the link above. The graph below is one example, which shows average spending (dotted pink line) versus average retirement income (solid green line.) RMD stands for Required Minimum Distributions for IRAs, which is the equivalent of Canada’s minimum annual RRIF withdrawals after age 71.

EXHIBIT 4: AVERAGE RETIREMENT INCOME AND SPENDING BY AGES Source: “In Data There Is Truth: Understanding How Households Actually Support Spending in Retirement,” Employee Benefit Research Institute & J.P. Morgan Asset Management.

RBC poll on pandemic impacts on Retirement and timing

Meanwhile in late August, RBC released a poll titled Retirement: Myths & Realities. The survey sampled Canadians 50 or over and found that the Covid-19 pandemic has caused some Canadians to “hit the pause button on their retirement date.” 18% say they expect to retire later than expected, especially Albertans, where 33% expect to delay it.

They are also more worried about outliving their money, with 21% of those with at least C$100,000 in investible assets expecting to outlive their savings by 10 years. That’s the most in a decade: the percentage was just 16% in 2010.

Sadly, 50% do not yet have a financial plan and only 20% have created a final plan with an advisor or financial planner.

Those near retirement are also resetting their retirement goals. Those with at least $100,000 in investable assets now estimate they will need to save $1 million on average, or $50,000 more than in 2019. 75% are falling short of their goal by almost $300,000 on average.

Those with less than $100,000 have lowered their retirement savings goal to $533,153 from $574,354 in 2019, and the savings gap is a hefty $472,994.

To bridge the shortfall, 37% of those with more than $100K plan stay in their current home and live more frugally, compared to 36% of those with under $100K. 31% and 36% respectively plan to return to paid work, 31% and 23% plan to downsize or move, and 3 and 5% respectively intend to ask a family member for financial assistance.

 

 

7 ways Investors are capitalizing on Low Interest Rates

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What is one way you are capitalizing on low-interest rates?

To help you take advantage of low interest rates, we asked seven finance experts and business leaders this question for their best insights. From refinancing existing debts to looking into preferred securities, there are several suggestions that may help you benefit from the low interest rates in the current market. 

Here are seven tips for capitalizing on low-interest rates:   

  • Work with a Finance Broker
  • Get into Commercial Real Estate
  • Refinance Existing Debts
  • Consider FHA Loans
  • Maximize your Return on Investment
  • Set up a Line of Credit
  • Look into Preferred Securities 

Work with a Finance Broker

As a commercial finance broker, we work with our clients to make sure they can take advantage of low interest rates based on a thorough financial analysis of their company. By analyzing your credit and financial health, we act as an advisor to clients for the best financing options available. We also build leases and loans that are competitively priced and intelligently structured for an optimal plan that works for the client and incorporates the best rates possible.  — Carey Wilbur, Charter Capital

Get into Commercial Real Estate 

If you’ve been wondering whether or not to buy commercial real estate, I think it is time to take advantage of the “perfect storm” of low borrowing rates. You’ll save a lot of money on interest payments long term. Now is the perfect moment to acquire real estate for assets as an income-generating resource. So whether you need a warehouse, brick-and-mortar store outlet, or even commercial property to place on the rental market, this might be one of the best times to get in the market. Renting your commercial property will provide you with consistent income, and you might also benefit from tax advantages on depreciation and capital gains, to name a few. — Allan J. Switalski, AVANA Capital

Refinance Existing Debts 

I suggest you consider refinancing your small business loan, mortgage, or student debt, which entails paying off your existing loan by taking out a new one. The new loan will have a reduced interest rate. Ideally, opt for a fixed-rate loan to lock in the lower rate. To qualify, you’ll need strong credit, but if you do, you’ll save a lot of money on interest fees. — Sundip Patel, LendThrive

Consider FHA Loans

FHA Loans are a great low-interest lending option that is offered by the Federal Housing Administration. These loans are intended to increase homeownership access to those who may not have the ideal credit score required by other financing options. This can be a great option for prospective real estate investors. — Than Merrill, FortuneBuilders

Maximize your Return on Investment

When interest rates are low, borrowing is much more convenient. Continue Reading…