Building Wealth

For the first 30 or so years of working, saving and investing, you’ll be first in the mode of getting out of the hole (paying down debt), and then building your net worth (that’s wealth accumulation.). But don’t forget, wealth accumulation isn’t the ultimate goal. Decumulation is! (a separate category here at the Hub).

Maintaining Balance in Volatile Markets

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Franklin Templeton/Getty Images

By Ian Riach, Portfolio Manager,

Franklin Templeton Investment Solutions

(Sponsor Content)

It’s been a volatile first half of the year for the world’s capital markets. In many countries, both equities and fixed income have declined, which has led to the second-worst performance for balanced portfolios in 30 years. Typically, bonds outperform stocks in down markets, but not this time. In fact, this has been the worst start to the year for fixed income in the past 40 years, thanks to higher inflation and the resultant rise in interest rates.

Supply-side inflation harder to tame

Central banks use rate hikes as a tool to curb demand for goods and services; but the current inflation is being driven more by supply-side issues stemming largely from the COVID-19 pandemic and exacerbated by the Russia/Ukraine war. Unfortunately, central banks have little influence over supply. All they can do is try to dampen demand with an aggressive interest-rate adjustment process, but they must be careful not to overshoot. Raising rates too quickly runs the risk of tipping weak economies over the edge into recession territory.

Canada’s most recent inflation imprint, released in June, showed an increase to 7.7% year-over-year. One negative consequence is that real incomes are being squeezed as inflation continues to accelerate.

Rates are rising quickly

Both the U.S. Federal Reserve (Fed) and Bank of Canada (BoC) have increased their overnight lending rates from essentially 0% prior to March of this year to 1.5%-plus in June. The Canadian futures market had priced another 75-basis point (bp) increase at BoC meeting in July, which ended up an even higher 100-bps with indications of more to come in September.

Rising interest rates are hurting several sectors of Canada’s economy, notably real estate — especially risky for the economy as housing and renovations have been leading Gross Domestic Product (GDP) growth for the past few years. A significant correction in that sector could lead to a recession.

If there is any silver lining in the current situation, it may be in the Canadian dollar versus its U.S. counterpart. Short-term rates in Canada have moved higher than in the United States. This differential, along with the direction of oil prices, affects the value of the Canadian dollar against the U.S. dollar. If the differential widens and stays higher in Canada, the loonie will likely benefit.

Recession risks are growing

The likelihood of recession is hotly debated within our investment team. Recession in North America is not our base case, but a soft landing will be very difficult. We are currently in a stagflationary environment and recession risks are increasing daily. Europe may already be in recession.

The stock market is a good leading economic indicator, and its recent decline indicates the risk of recession is rising. In addition, the yield curve is very flat, which typically portends an economic slowdown. These market signals have somewhat altered our team’s thinking. Given the current environment, we are reducing risk in our portfolios. In fact, we recently went slightly underweight equities.

Regionally, we are reducing the Europe weighting as that region is more exposed to the negative headwinds associated with war. We are slightly overweight the U.S. but acknowledge that valuations are subject to disappointment with declining earnings growth. We are overweight Canada, which continues to benefit from rising resource prices. Continue Reading…

App-based banking: the ‘new normal’ for Canadians

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By Vineet Malhotra

Special to the Financial Independence Hub

It has often been said that necessity is the mother of all invention, and if there’s anything the world has faced over the past few years, it was a lot of necessity. Whether it was how we exercised or worked from home, the pandemic forced the world to reimagine old habits and reconsider our ways of doing, well, everything.

Banking was not exempt from this re-evaluation, as evidenced by a recent survey by the Canadian Banking Association (CBA) which found that 65% of Canadians used app-based banking in the past year, up from 56% in 2018, and 44% in 2016. These numbers represent a massive shift in less than five years.

With limited banking options throughout the pandemic, consumers further embraced online and app-based bank platforms: not only did they experience the benefits, but they were also forced to redefine what services they thought were possible through an app. It was delivering the unexpected and hearing our clients say, ‘I didn’t know I could do that online!’ that helped push and motivate our team at Simplii Financial to offer more.

Through the pandemic, consumers saw firsthand just how much banking technology has evolved and experienced how easy it was to do things online like sending money abroad with Simplii’s Global Money Transfer or applying for a mortgage. They quickly came to realize that online banking was not just for simple money transfers, or deposits, but rather for more sophisticated financial transactions as well, all right at their fingertips.

Why the surge in app-based banking specifically?

The two main reasons for the rise in app-based banking come down to convenience and time.  The desire and the need for convenience have taken over our lives: more than ever we expect we can do things from wherever we are, whenever we want.  Whether it’s depositing a cheque, transferring money, or making bill payments, many Canadians now understand that an app makes all those tasks easier and faster. Even more complex services are starting to move into the digital space – like mortgage applications which can now be completed digitally, or by phone.

Who is driving the surge of app-based banking?

App-based banking now comes second only to digital banking in use and we expect it to grow. According to the CBA, the surge is largely due to Gen Z and Millennials. Nearly half of Gen Z (46 percent) and well over one-in-three Millennials (37 percent) are using app-based banking as their primary banking method. Continue Reading…

How to avoid the 7 Biggest Mistakes that Entrepreneurs Make

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Why picking stocks is so hard: Lessons from a stock market analyst

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By Anita Bruinsma, CFA

Special to the Financial Independence Hub

Picking stocks is really hard.

If you’re a DIY [Do It Yourself] investor, buying individuals stocks is risky. Even if you own 15 or 20 stocks, which will give you some measure of diversification, you have to choose the good ones. Which stocks do you choose from the 1,500 available on the Toronto Stock Exchange and the 2,400 on the New York Stock Exchange?

There are so many factors that influence how a stock performs and the average investor doesn’t have the time, skills, or inclination to consider all of them, or even most of them.

Casual stock pickers appear to focus on the current trend or outlook for the company’s product. For example, electric cars (Tesla), at-home workouts (Peloton), and e-commerce (Amazon).

It might feel “easy” to pick a stock based on this trend factor. You can see that electric cars are getting more attention and are part of the solution to the climate crisis. When Beyond Meat was gaining new restaurant customers like McDonald’s with its Beyond Burger, excitement and optimism was high. Seems like an easy decision: go with a company that has momentum.

The temptation to buy stocks on this premise is understandable. You can make a lot of money over a very short period of time. Easy riding. But often these stories die out and reality sets in. It could be that the cost of making the product is too high, demand for the product slows, or the company over-extends itself and runs into cash-flow problems. When optimism meets reality, stocks plunge.

After becoming a public company, Beyond Meat rose 400%. It subsequently crashed from US$234 a share to about $25 today. It’s down 83% over the past year alone. Similarly, Peloton rose by 550% during the pandemic due to the frenzy around at-home workouts, but has fallen 90% since its peak at sits at about $11 a share. Reality set in.

Professional stock analysts and money managers with long-term perspectives look beyond this surface-level excitement. It’s important that demand is there, but there are a myriad of other factors to go deeper on.

In my 15 years picking stocks for a large Canadian bank, I learned an incredible amount about equity research. Here are just a few of the things that professional analysts consider:

Demand: The demand for the company’s product is one of the first things to look at since revenue is the lifeblood of any business. Whether the product is women’s clothing, running shoes, fast food, oil, electricity, or credit cards, you need to have a view on what future demand will be. Although you can develop a theory, nobody actually knows what will happen, making this seemingly simple metric unknowable.

Profit margins: How does the company’s profit margin compare to peers in a similar business? Are margins expanding or contracting? What are the main drivers of profit margin and are there risks to those drivers? For example, how would a 10% rise in fuel prices impact the margins of Air Canada? How do currency fluctuations change the profits of importers like Dollarama?

Balance sheet: There is a lot of crucial information to be gleaned from a balance sheet such as inventory levels, cash in the bank, and how much is invested in hard assets like factories. Most importantly, the balance sheet shows you how much debt a company has and how it has changed over time. High levels of debt have taken down many companies.

Track record: Investing in a company with a track record reduces your risk significantly. Looking at revenue growth over a period of 5 or 10 years will tell you how sustainable the company’s product sales are. Analyzing the change in profit margins tells you whether the company has a scalable business and whether the management team is properly managing its costs. Newer companies lack this information and looking at only two or three years’ worth of data does not give you enough information.

Qualitative information: Companies that trade on the stock market are required to publish certain documents like the Annual Report and Annual Information Form. These documents have a ton of information about how the company operates, the risks it faces, and how it reports its earnings. These documents can reveal risks that you might not be comfortable with. For example, you might learn its main manufacturing facility is in an unstable country, or that it gets one of its main inputs from just one supplier.

Taking all of these factors into consideration (and allowing for a plethora of wildcard factors), an analyst will come to a conclusion about the quality of the company. If they like the outlook, it goes on the “maybe” list. But that’s not the end of it: the analyst then needs to decide how much the stock is worth. This is the realm of valuation, and valuation is a combination of math, art, and clairvoyance.

And finally, there’s all the stuff we don’t know. Despite regulatory requirements to disclose all “material information,” there are a lot of things going on within a company that we will never hear about. When talking with investors and the public, the management team’s objective is to pump up its story to get more people to invest – always apply this lense when you hear a CEO or CFO talking.

Let me share my experience with two companies that demonstrates the importance of doing proper research before buying. This is a story of two companies that made their sales numbers look great using fraudulent tactics: Valeant Pharmaceuticals and Luckin Coffee. In one case, I did extensive research and analysis and decided I didn’t believe the numbers, and in the other, I didn’t do the required work and chose to believe the story. Continue Reading…

Stop checking your portfolio

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We’re halfway through 2022 and the year has not been kind to investors, to say the least. Global stock markets are suffering their worst prolonged losses in recent memory. The S&P 500 is down about 18.5%, international stocks are down about 17%, and emerging market stocks are down about 15%. Domestic stocks have fared better, but the broad Canadian market is still down about 4% this year.

Meanwhile, bonds have not been a safe haven as rising interest rates pushed bond prices down. A broad Canadian bond index is down almost 13% this year, while short-term bonds are also down about 5.5%.

What’s an investor to do?

For starters, stop checking your portfolio so often. Investors who focus too much on short-term performance tend to react too negatively to recent losses, at the expense of long-term benefits. This phenomenon is known as myopic loss aversion:

“A large-scale field experiment has shown that individuals who receive information about investment performance too frequently tend to underinvest in riskier assets, losing out on the potential for better long-term gains (Larson et al., 2016).”

Loss aversion is a cognitive bias – the idea that a loss is psychologically more painful than the pleasure of an equivalent gain.

Think of the your portfolio returns over the past three years (2019-2021). It felt good to see your investments increase by double-digits. Here are the returns for Vanguard’s Balanced ETF (VBAL) during that time:

  • 2019 – 14.91%
  • 2020 – 10.24%
  • 2021 – 10.27%

Fast forward to 2022 and VBAL is down 10% on the year. Loss aversion tells us the pain of these losses is felt twice as powerfully as the pleasure of the previous years’ gains.

Myopic loss aversion fails to consider the bigger picture

With myopic loss aversion, we focus too narrowly on specific investments without taking into account the bigger picture. You’ve experienced this if you’ve ever checked your portfolio a short time after a recent purchase and cursed your luck if the investment is down.

Professor John List was a recent guest on the Rational Reminder podcast and he co-authored a paper on myopic loss aversion. The paper found that, “professional traders who receive infrequent price information invest 33% more in risky assets, yielding profits that are 53% higher, compared to traders who receive frequent price information.”

When asked how often investors should check their portfolio, List said, “as rarely as possible”:

“I would say once every three, six months is fine. But the reason why I don’t want you to look at your portfolio is, because when you do and you see losses, even though they’re paper losses. You say, “My gosh, that hurts.” And you’re more likely to move your portfolio out of risky assets and into less risky assets. And as we all know, just look at the data. The data over long periods of time, that’s the equity premium puzzle, is that you get much higher returns, if you’re willing to bear some of that risk. Now, if you look at your account a lot and you have myopic loss of version, you’ll be much less likely to bear that risk. So, you’ll move out and you’ll be in inferior investments.”

This applies to both novice and experience investors. I coach clients regularly on the benefits of sticking to their investment strategy and ignoring short-term market fluctuations. But it’s hard when the daily news headlines are screaming in your face about how bad the market is doing and why it’s only going to get worse.

My worst moment was during the March 2020 crash. I had just quit my job three months before, and my investments were down 34% in a short period of time. It was a rough time when even I was questioning what to do. It didn’t help that I had no RRSP or TFSA contribution room – so I couldn’t even “buy the dip” to make myself feel better.

Related: Exactly How I Invest My Own Money

What did I do? I stopped checking my portfolio. I had no reason to log-in anyway, since I wasn’t making regular contributions. I reminded myself that my investments were long-term in nature, and that markets go up most of the time. Periodic declines are the price of admission for risky assets like stocks. Continue Reading…