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moneysense.ca, 20/02/09
This and That: Canadian common sense edition
- Instead of the usual “blame Canada” game, Canada is receiving some positive press for its “common sense” that would help in surviving the financial crisis.
- Jason Zweig finds out which companies and sectors did best after the Great Crash of 1929.
- The New York Times asks if two successive severe bear markets are spawning a generation of risk-averse investors.
- It has been a quiet RRSP season so far but tax expert Tim Cestnick has some suggestions on what your RRSP strategy should be this year.
- Canadian Financial DIY digs up a fascinating report, titled Credit Suisse Global Investment Returns Yearbook 2009 that updates the long-term market data found in Triumph of the Optimists.
- Thicken My Wallet wrote a neat post on who will find Quicken’s Audit Defence of value.
- Million Dollar Journey is giving away three QuickTax Online tax returns.
- Michael James shows that Warren Buffett’s terrific long-term record is unlikely to be a fluke.
- Much of the angst about portfolio returns (or the lack of it) can be traced to improper asset allocation. The Dividend Guy posted on some thumb rules for asset allocation.
- As you know, I’m not a big fan of leveraging. But I agree with the Financial Blogger’s opinion that it’s a good time to do some leveraged investing.
moneysense.ca, 20/02/09
Great links as usual! But you have some explaining to do
Let me get this straight, one of the ongoing themes of this great blog (one which I don’t entirely agree with) is that market timing does not work and when I wrote in a comment that I mostly got out of the market at the beginning of 2008, I was simply written off as “lucky”. But now, you agree (#10) that it is a good TIME for leveraging into equities, which is essentially a form of MARKET TIMING! The title itself gives it away, “The Perfect Timing For Leveraging The Market”.
So, is the rule that it is OK to market time the bottom, but not the top? Or Market Timing works when interest rates are low? Please explain…
Confused in Kanata.
Thanks for the mention. I was very surprised by Tim Cestnick’s article. He seemed to be advising people to borrow money and fill up their RRSPs with fixed-income products. This is terrible advice. To owe money and lend money to a bank simultaneously just loses you money on the spread. If confronted, I’m sure that Cestnick would stress that the loan should be paid off in less than a year, and only the portion of you portfolio that is fixed income should be in your RRSP, but he didn’t say these things in his article. It came off to me as pandering to people’s fears that causes them to buy and sell stocks at the wrong times. Zweig’s advice to buy junk food stocks may not have been completely serious, but it is probably better than Cestnick’s.
Thanks for the mention. I suspect Cestnick’s advice comes from the tax angle of minimizing tax rather than the advisor angle of proper asset allocation, risk tolerance, investment horizon etc. But Michael is right, he seems to be running with the herd on this one.
Thanks for the mention CC! Enjoy the weekend!
thx for the mention!
will you give it a try?
Michael: I don’t think Cestnick is suggesting borrowing money and investing the entire proceeds in fixed income inside a RRSP. Rather, he does say qualify fixed income holdings inside a RRSP by specifically stating “to the extent your asset allocation includes fixed income”. I do agree with that borrowing money and investing it in fixed income (other than corporate) is a terrible idea, whether it is held in a RRSP or not. I’m not very fond of the idea of borrowing for a RRSP contribution and repaying it over five years either.
Dave: My comment should be seen in the context that there was tremendous enthusiasm for leveraged investing, Smith Manoeuvre etc. early last year when stock valuations weren’t all that attractive (even using what, in hindsight, turned out to be peak earnings) compared to fixed income. Today, with stock prices cut in half, a much better case can be made for leveraged investing. Still leveraging comes with its own set of risks and is best avoided. But if an investor wants to take that risk, the risk-reward equation looks much better now.
FB: Not a chance. I’m happy just investing what I can save. I suspect that should produce satisfactory results for most people provided they pay attention to the basics.
As someone who’s been teetering on the fence since January about whether to take out an RRSP loan to reduce some of my contribution room, I can offer a few thoughts:
1. If you know your marginal tax rate and are sure that taking out a loan won’t bump you into a lower one (thus causing you to overestimate your return), you can take out a loan equal to the amount of your expected refund and then pay it off all at once when your refund comes in. So for example if I’ve contributed $10K of my own money to my RSP in 2008 but I have $20K of contribution room, I could take out a $10K RSP loan to use up my limit. The “I” were talking about here is someone like me whose marginal tax rate is 48.2 percent. So I’ll get a nearly $10K refund and can use that to pay off my loan all at once.
2. As for market timing, we don’t know if the market has hit bottom yet (my guess is no, not by a long shot, we still have some ways to fall…) but we do know for sure that it’s low compared with recent history. Therefore we know that $10K today will buy a lot more shares than $10K a year ago could have. So in that sense I feel like a leveraged investment to buy index funds right now could be smart. Of course if you waited for the market to go even lower you could buy even more shares, but THAT’s really market timing. I just feel that everyone agrees that the indices are low right now so it’s an opportunity to get more shares for your money and hope that it’s a strategy that pays off in the future.
3. I actually have in my hands an offer from ING Direct to take out an RSP loan at 4% interest, and they suggest I use it to invest in GICs at 3.5% interest. It’s kind of amazing when you think about it. But in fact if you can get your refund before the first loan payment is due and pay it off all at once, it might make sense.
4. After months of pondering, I decided to not take out an RSP loan after all. Ultimately I am so resistant to the idea of paying interest to a bank that I just can’t stomach the possiblity that I’d have to pay interest on an RSP loan if my refund doesn’t come in time to allow me to pay it off all at once. And the way loans work, that first payment is nearly all interest so I’d be out a lot of money. And besides, debt just makes me nervous. It’s bad enough having a mortgage, that’s enough.
Hmmm, read through Cestnick’s article and don’t see him at advocating anything untoward.
Just looked up corp bond rates on http://www.pfin.ca and the BNS 6% 2013Mar27 is yielding 5.07%. So if we can borrow $5k at 4% from Scotiabank for 4 years then put it into TFSA (NO tax vs RRSP which is taxed on withdrawal), then are we not ahead of the game by 1%? It ain’t a lot of tax money saved and we must have cash flow to pay the loan and BNS might default but still…
Glad to know you”re still stopping by CC. Thanks!
Brad said “I am so resistant to the idea of paying interest to a bank that I just can’t stomach the possiblity that I’d have to pay interest on an RSP loan if my refund doesn’t come in time to allow me to pay it off all at once. And the way loans work, that first payment is nearly all interest so I’d be out a lot of money.”
You’re so averse to paying interest that you’d rather forgo a $10,000 tax refund to avoid $33 or so in interest costs? Wow!
DAvid
Is buy and hold dead?
No.
But the question all (all being those of us 100% invested) of us are asking is how long is the hold?
http://emagazine.credit-suisse.com/app/_customtags/download_tracker.cfm?logged=true&dom=emagazine.credit-suisse.com&doc=/data/_product_documents/_shop/254094/research_institute_yearbook.pdf
For 1984-2008, the equity risk premium of Canadian stocks versus Canadian bonds has been -2.9%.
@David: yes I know I’m being irrational but perhaps not quite as irrational as you make it out to be. On a 1-year $10,000 loan from ING at 3.98%, the total interest paid would be $217. Because interest is front-loaded in repayments, my first payment would be mostly interest. Not $217 but not $33 either (I don’t have an amortization scheduler handy to verify the exact amount, but it doesn’t matter). ING requires the first payment to be made one month after the advance date. I know my accountant, and she’ll barely have filed my tax return by that date, so I definitely won’t have my refund in hand.
But I think for most people this kind of scenario would make sense…I’m not opposed to this kind of leveraging I’m just avoiding it for my own irrational reasons.
Whoops, belay that last comment. I remembered that I have an amortization tool and just took a look and David is right. The interest portion of the first payment about be about $33. This makes it look like a no-brainer…so maybe I’ll change my mind and go for it!
brad: Borrowing $10K when you are expecting a $10K refund doesn’t sound risky to me. If your accountant E-Files you should have the refund in about a week, so we’re only talking a maximum of 2 month’s interest. Especially since you are already in the highest bracket, it makes sense to contribute now.
CC (and David): thanks…I will take your advice. After you titled your post the Canadian common sense edition; in the spirit of that I might as well use some common sense.
I have the opposite problem where I have my next 2 yrs worth of RSP & TFSA contributions sitting in an ING account making a pittance of interest that is fully taxable. And that’s totally separate from my “rainy day” account which is in an Alterna savings account which is just in case I get laid off work (which is a strong likelihood). That last point is the reason why I have definitely become a more conservative investor of late.
Interesting on how we differ in our views. I’m a huge advocate of leveraged investing… But these days the momentum is still with the bears. The auto industry is still collapsing, manufacturing jobs are disappearing, the housing market is still in hot water, friends and acquaintances are getting laid off from non-automotive non-manufacturing jobs. Why on earth would anybody plough borrowed money into the stock market when it is likely to continue to fall as the unemployed have to continue to sell their investments to cover their costs of living? The people who are still selling in this bear market are people who don’t have a choice. It’s a choice between riding the market while starving, or taking a loss and having food on the table.
Brad,
Could you explain what you mean by “Front-Loaded Loans”?
I have seen Front Load Mutual Funds, but I’ve not heard of a front load bank loan.
DAvid
DAvid, I think that brad mean that in general when a loan is amortiized over aa set number of years the payment early in the amortization schedule have a higher interest portion than the payments closer to the end of the amortization schedule.