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Vanguard says Balanced portfolios still offer best chance of success as Inflation gets beaten back

While the traditional 60/40 balanced portfolio has suffered its worst year in decades, and Recession is likely in 2023, the Vanguard Group is optimistic that balanced portfolios will thrive beyond 2023 and over the rest of the decade.

“A balanced portfolio still offers the best chance of success,” is one of the top conclusions that will be unveiled Monday:  Vanguard Canada is hosting its Economic and Market Outlook for 2023, with a global virtual press conference scheduled at 11 AM [Dec. 12].  It includes Vanguard economists such as Global Chief Economist Joe Davis.

Below, received last week under embargo, are highlights of a report titled Vanguard Economic and Market Outlook for 2023: Beating back inflation. It runs about 60 pages, including numerous charts.

The text below consists mostly of excerpts from the Vanguard report, with the use of an ellipsis to indicate excisions, so there are no passages in quotation marks. Subheads are also taken from the original document. Apart from a handful of charts reproduced below, references to numerous other charts or graphs have been removed in the excerpts selected below.

Base case for 2023 is Disinflation

Our base case for 2023 is one of disinflation, but at a cost of a global recession. Inflation has likely already peaked in most markets, but reducing price pressures tied to labor markets and wage growth will take longer. As such, central banks may reasonably achieve their 2% inflation targets only in 2024 or 2025.

Consistent with our investment outlook for 2022, which focused on the need for higher short-term interest rates, central banks will continue their aggressive tightening cycle into early 2023 before pausing as inflation falls. As such, our base case has government bond yields generally peaking in 2023. Although rising interest rates have created near-term pain for investors, higher starting rates have raised our return expectations for U.S. and international bonds. We now expect U.S. and international bonds to return 4%–5% over the next decade.

Equity markets have yet to drop materially below their fair-value range, which they have historically done during recessions. Longer term, however, our global equity outlook is improving because of lower valuations and higher interest rates. Our return expectations are 2.25 percentage points higher than last year. From a U.S. dollar investor’s perspective, our Vanguard Capital Markets Model projects higher 10-year annualized returns for non-U.S. developed markets (7.2%–9.2%) and emerging markets (7%–9%) than for U.S. markets (4.7%–6.7%).

Global inflation: Persistently surprising

Our base case is a global recession in 2023 brought about by the efforts to return inflation to target … growth is likely to end 2023 flat or slightly negative in most major economies outside of China. Unemployment is likely to rise over the year but nowhere near as high as during the 2008 and 2020 downturns. Through job losses and slowing consumer demand, a downtrend in inflation is likely to persist through 2023. We don’t believe that central banks will achieve their targets of 2% inflation in 2023, but they will maintain those targets and look to achieve them through 2024 and into 2025 — or reassess them when the time is right. That time isn’t now.

Global fixed income: Brighter days ahead

The market, which was initially slow to price higher interest rates to fight elevated and persistent inflation, now believes that most central banks will have to go well past their neutral policy rates — the rate at which policy would be considered neither accommodative nor restrictive — to quell inflation.

Rising interest rates and higher interest rate expectations have lowered bond returns in 2022, creating near-term pain for investors. However the bright side of higher rates is higher interest payments. These have led our return expectations for U.S. and international bonds to increase by more than twofold. We now expect U.S. bonds to return 4.1%–5.1% per year over the next decade, compared with the 1.4%–2.4% annual returns we forecast a year ago. For international bonds, we expect returns of 4%–5% per year over the next decade, compared with our year-ago forecast of 1.3%–2.3% per year.

Global equities: Resetting expectations

The silver lining is that this year’s bear market has improved our outlook for global equities, though our Vanguard Capital Markets Model (VCMM) projections suggest there are greater opportunities outside the United States.

Stretched valuations in the U.S. equity market in 2021 were unsustainable, and our fair-value framework suggests they still don’t reflect current economic realities.

Although U.S. equities have continued to outperform their international peers, the primary driver of that outperformance has shifted from earnings to currency over the last year. The 30% decline in emerging markets over the past 12 months has made valuations in those regions more attractive. We now expect similar returns to those of non-U.S. developed markets and view emerging markets as an important diversifier in equity portfolios.

Within the U.S. market, value stocks are fairly valued relative to growth, and small-capitalization stocks are attractive despite our expectations for weaker near-term growth. Our outlook for the global equity risk premium is still positive at 1 to 3 percentage points, but lower than last year because of a faster increase in expected bond returns

Continue Reading…

Canada’s Real Estate Affordability Battle

 

By Dale Roberts, cutthecrapinvesting

Special to the Financial Independence Hub

In my latest for MoneySense, I look at the affordability battle in Canada. Home prices are falling at the fastest clip in the last 20 years. But borrowing costs are also increasing. Mostly, it’s a wash. Even from the bubble peak in February of 2022 to July 2022, things have not improved for homeowner wannabes. Real estate is the most interesting and ‘exciting’ sector in 2022. Have a read of the real estate affordability battle in Canada.

Higher rates take on falling home prices on MoneySense.

In this post I will offer up a few of the important charts, but check out that MoneySense post for the wider perspective.

Average home prices down 22% in July

Home prices are falling fast. After a strong COVID-inspired real estate run, prices are now in a free fall. After peaking at $816,720 in February 2022, the national average house price fell 18.5% to $665,850 in June. The average price fell again in July, settling at $629,971—nearly 22.9% below the peak.

The average national home price in August increased to $637,673.

CREA

The national average price is heavily influenced by sales in Greater Vancouver and the GTA, two of Canada’s most active and expensive housing markets. Excluding these two markets from the calculation cuts $114,800 from the national average price.

Real estate ridiculousness

And here’s some longer term history using average Toronto home prices as an example. It was a crazy run.

  •  Average Toronto home price in 2000: $243,255
  •  Average Toronto home price in 2010: $431,262
  •  Average Toronto home price in 2021: $1,095,336

Rates are going up, up, up

In that battle against runaway inflation, central bankers are raising rates. Borrowing costs mostly follow suit. Here’s the path in Canada for fixed and variable rates mortgages.

And of course, on Wednesday September 7, the Bank of Canada increased rates another 75 bps, or 0.75%. Variable is getting more expensive.

  • A 5-year fixed will now run you about 5.04%.
  • A 5-year variable will increase to about 4.90%.

The B0C offers that they’re not done yet. There are more rate hikes to come.

Given the outlook for inflation, the Governing Council still judges that the policy interest rate will need to rise further. Quantitative tightening is complementing increases in the policy rate. As the effects of tighter monetary policy work through the economy, we will be assessing how much higher interest rates need to go to return inflation to target. The Governing Council remains resolute in its commitment to price stability and will continue to take action as required to achieve the 2% inflation target.

Bank of Canada

Variable rates will automatically follow Bank of Canada rate hikes. Fixed rates will follow the bond market, and the bond market will make a guess about the near and future path of rate hikes. The rate hike on September 7 was mostly already priced into the bond markets.

The money chart on affordability

In the MoneySense post you’ll find the telling table comparing costs for variable and fixed rate mortgages, for 10% and 20% down payment scenarios. Here was the working copy table. Continue Reading…

Learn why you should Buy This, Not That

By Mark Seed, myownadvisor

Special to the Financial Independence Hub

Let’s face it, saving and investing should be simple.

  1. Save, automate your savings to buy stocks.
  2. Invest in stocks and/or low-cost products that invest in stocks to avoid mutual fund salespeople.
  3. Disaster-proof your life by having some cash stashed.
  4. Rinse and repeat.

But simple is not easy.

All too often, we humans love to make things far more complex than things need to be.

We’re wired that way unfortunately. Egos often get in the way. 

Given many people continue to struggle with personal finance, every day, there are tens of thousands of books published out there on this subject – building and maintaining a responsible investment portfolio is only part of the personal finance success equation…

Learn why you should Buy This, Not That

Sam Dogen (aka Financial Samurai) knows a thing or two about personal finance success.

Sam founded FinancialSamurai.com in July 2009 during the depths of the global financial crisis.

Sam’s goal through that site was to deliver and share a cathartic way to make sense of the chaos at the time. Fast forward to today, more than 90 million people have visited Financial Samurai, and tens of millions more have read his work on publications such as CNBC, Yahoo Finance, and Business Insider.

Sam was previously at Goldman Sachs and Credit Suisse for 13 years – but he’ll share more details below!

When Sam is not writing or playing with his kids, you can find him on a tennis court or softball field in San Francisco, or on My Own Advisor giving away a book!

Sam is a graduate of The College of William & Mary and received his MBA from UC Berkeley.

I got a chance to chat with Sam recently about his new book: Buy This, Not That – How to Spend Money Your Way to Wealth and Freedom.

Here is our interview below before Sam:

Sam, welcome to the site – I know you’ve left a few comments over the years and nice to see you back!

Mark, a pleasure. I enjoy reading about your personal finance independence journey in Canada and seeing you help others with their journeys at the same time as well!

Sam, maybe not everyone is aware of your financial journey and Financial Samurai beginnings. Can you share a bit of your bio with my readers? Where do you live, what have you invested in, and “how did you get here” to writing this book?

Sure thing, Mark.

I grew up in The Philippines, Zambia, Japan, Taiwan, and Malaysia before coming to America for high school and college at William & Mary. My parents were in the U.S. foreign service.

After college, I joined Goldman Sachs in NYC in their international equities department. It was a dream job, except for the fact I had to get in at 5:30 am and often leave after 7 pm! As a result, I decided to save and invest 50% of my after-tax paycheck so I could one day have options to escape.

In July 2009, I started Financial Samurai and helped kickstart the modern-day FIRE movement. It’s been great to see so many people embrace their financial independence journey since then. My definition of financial independence is having enough passive investment income to pay for your basic living expenses.

I decided to write Buy This, Not That because I felt it had to be written. When I started Financial Samurai, there weren’t a lot of personal finance bloggers with finance backgrounds. I noticed when I first got my book offer in early 2020, there weren’t many finance authors with finance backgrounds either! So, I decided to fill this hole and provide my perspective.

Instead of scratching the surface, I decided to go deep into many financial topics. I then tackled some of life’s biggest dilemmas many of us all face.

Learn why you should Buy This, Not That! Sam Dogen

Great stuff.

Sam, in your book, you wrote:

“My first hope with Buy This, Not That is to help you let go of the fear of making a wrong financial choice. Let that sink in: there are no wrong money choices, just as there are no perfect choices, only optimal or suboptimal.”

Talk to me about your investing and wealth-building journey. What mistakes did you make? What successes did you have? What did this teach you and what do you hope to pass along to others in the book?

Mark, I made the suboptimal choice of buying a vacation property I didn’t need in 2007. I got it for 15% off, but it ended up declining by another 40% during the financial crisis! Luckily, most of its value has recovered and I’ve been taking my kids there since 2018.

Not extrapolating my income into the future was my biggest lesson learned. I was paid very well in 2007 and thought my income was just going to go higher. Life is full of ups and downs. Therefore, please be conservative with your income and return forecasts.

One of the key takeaways from the book is to encourage readers to think in probabilities, not absolutes. Don’t think you need 100% certainty to make a choice. Otherwise, you’re going to miss out on a lot of great opportunities.

In The Psychology of Money, Morgan Housel wrote effectively:

You don’t have to be a perfect investor. Getting wealthy and staying wealthy is “about consistently not screwing up.”

I agree with this/have always agreed with this and this aligns nicely to your 70/30 decision making philosophy. Can you explain that for readers and why is that framework so important to you to convey in the book when it comes to investing and wealth-building?

Use my 70-30 decision-making framework to build wealth and make more optimal choices. The framework states that if you believe there’s a 70% probability or greater your choice is the correct one, go for it, while having the humility knowing that 30% of the time, you’re going to get it wrong. And when you do, you will learn from your mistakes and get better.

Once you start approaching everything with a probability matrix in mind, you’re going to gain a tremendous competitive advantage compared to those who don’t.

I like that.

Sam, I personally equate the definition of Financial Independence (FI) as your investments generate enough passive income to cover your day to day living expenses. I’m not into this Barista FIRE, etc. What’s your take? Agree? Disagree? Why?

Yes, since 2009, I’ve stated that being financially independent means having enough investment income to cover your basic living expenses. However, I think Barista FIRE is a reasonable stop gap where you can earn extra income and receive subsidized health care while working a traditionally lower-wage job.

But at the end of the day, don’t fool yourself. If you still need to work, then you are probably not financially independent.

When I left work in 2012 at age 34, I had about $80,000 a year in passive investment income. I knew I wouldn’t starve, but I also wasn’t 100% confident I was doing the right thing. Therefore, I had my wife, who is three years younger than me, keep on working until age 34. If everything worked out with my new adventure, she could join me. In 2015, she was also able to negotiate a nice severance and hasn’t been back to work since.

So, when did you realize FI (Financial Independence)?

In 2012 when I was 34. At the time, I had a net worth of about $3 million that generated about $80,000 a year in passive income. But the biggest catalyst was negotiating a severance that paid for 5-6 years’ worth of regular living expenses. My severance paid all my deferred cash and stock compensation over the next three years. I also had a private investment made in 2010 that wouldn’t come due until 2017 that was fully paid out. Continue Reading…

The 5 most important factors In your Decision to Retire

By Fritz Gilbert, TheRetirementManifesto

Special to the Financial Independence Hub

A few years ago, I was working through my decision to retire. I was pretty obsessive about it and documented the many factors I was evaluating on this blog (stored in chronological order for your convenience).  After doing my homework, I decided to make the jump in June 2018.

In the four years since I’ve never regretted my decision.

The decision to retire is complicated and there are many factors to consider.  Consider them you must, however, so I’m listing the factors I consider most important and one which I consider essentially irrelevant.  To make your best decision on when to retire, it’s important to recognize all of the things that matter, as well as those that don’t.  Under each factor, I’ve included links to relevant posts for those of you who’d like to dig deeper.


The Most Important Factors

1.) Do you have Enough Money?

The first thing most people think about when they’re making the decision to retire is whether they have enough money to last for the rest of their lifetime.  Fair enough, and I’ll concede it’s way up on the list.  I’d warn, however, that having enough money is a necessary factor, but far from sufficient.

I’ve written many articles on evaluating whether you have enough money to retire.  Below are four that I’d recommend:


2.) Are you Mentally Prepared for Retirement?

Almost everyone thinks about money when they’re making the decision to retire, but far too few consider the non-financial factors.  If I were to choose one point to make from all the things I’ve learned in the 7 years of writing this blog, it’s that the non-financial factors are the most important for putting yourself on track for a great retirement. Important enough that I wrote an entire book on the topic.

If you’re thinking about retirement, the best advice I can give you is to spend time thinking about what you want your life to be in retirement.  Think about it at least as much as you think about the “money stuff.”  Once you’ve retired, I suspect you’ll realize #2 is actually the more critical factor.

If you’re married, have you and your spouse talked about your mutual expectations for your life in retirement?  How are you addressing any misalignments?  Trust me, you have some.  Take the time to find them now, and discuss how you’re going to work together to live the best years for both of you in retirement.

What Purpose is going to fill your days when you no longer have a boss telling you what to do?  Where are you going to live?  What are you going to do?  Important stuff, all, and a topic on which I’ve dedicated thousands of words.  If you’re still working, do yourself a favor and take a “mini-retirement” to think about the things that really matter before you take the plunge.

3.) Have you made a Realistic Spending Estimate?

In its rawest form, the decision to retire is a simple math problem.  Multiply your assets times a safe withdrawal rate, add any expected income, and see if the total covers your expected level of spending.  Given the importance of getting the correct answer to that formula, it’s critical that you spend some time developing a realistic spending estimate for your retirement years.  Since you’ve thought about what you’re going to be doing in retirement (#2), it’s a necessary exercise to track your pre-retirement spending for as long as feasible (I did 11 months), then make any adjustments for how you think it will change post-retirement.  Too many people “take a swag” on this one, but I strongly encourage you to resist that temptation and give it a lot of focus as you’re making your decision to retire.

Best Canadian stocks are usually well-established Blue Chips with history of Stability & Dividend Payments

Good Canadian stocks of blue chip companies can give investors an additional measure of safety in volatile markets. And the best ones offer an attractive combination of moderate p/e’s (the ratio of a stock’s price to its per-share earnings), steady or rising dividend yields (annual dividend divided by the share price) and promising growth prospects.

We feel most investors should hold the bulk of their investment portfolios in blue chip investments. And most of these stocks should offer good “value” — that is, they should trade at reasonable multiples of earnings, cash flow, book value and so on. Ideally, they should also have above average-growth prospects, compared to alternative investments.

Find a middle ground with p/e’s  

One of the biggest mistakes investors make is buying low p/e stocks, thinking that will ensure they’re getting a “bargain.” Sometimes that’s true, but sometimes a low p/e stock is a sign of danger.

As for high-p/e stocks, we generally only recommend them as buys if we feel they have above-average investment appeal and deserve an above-average p/e.

Rather than focusing on low p/e stocks and avoiding high p/e stocks, you will generally make more money in the middle ground. That is, invest mainly in well-established stocks that have an appealing long-term growth record — and a moderate p/e. These are the stocks we favour in our Successful Investor approach. In our experience, they provide above-average returns in the long run. That’s because they provide nice gains in rising markets, and they also tend to hold up well when the market declines.

Buy shares in banks, which have a history of stability 

On the whole, the best Canadian banks to invest in trade at attractive share prices. Because they are growing, yet cheaper in many respects than other stocks, they give conservative Canadian investors a near-ideal combination of pluses: above-average dividend yields and track records; low to moderate per-share price-to-earnings ratios; and above-average long-term capital gains.

That’s why we’ve continually recommended buying Canada’s top five bank stocks since the 1970s. It’s also why that advice has paid off so nicely.

Canadian bank stocks have long been one of our top choices for growth and income, and we recommend that most Canadian investors own two or more of the Big-Five Canadian bank stocks — Bank of Nova Scotia, Bank of Montreal, CIBC, TD Bank and Royal Bank. That’s in large part because of their importance to Canada’s economy.

Canadian banks stocks have been some of the best income-producing securities.

  • Look for Canadian bank stocks with consistent dividends.
  • And remember bank stock dividends are a sign of investment quality.
  • They also can grow.

Look for value stocks with a history of success to add good Canadian stocks to your portfolio

At the core of the value investing approach is the ability to identify well-financed companies that are well-established in their businesses and have a history of earnings and dividends. Continue Reading…