Deflation and your portfolio

"Some of the world’s leading investors are becoming more worried about deflation and are re-shaping their portfolios to prepare for a possible period of falling prices. Bond-fund heavyweight Bill Gross, investment manager Jeremy Grantham and hedge fund managers David Tepper and Alan Fournier are among the best known investors who are bracing for deflation, a development that could cripple global economies and world stock markets. The investors cite weak economic figures and a mounting consensus that global policy makers are reluctant, or unable, to take further steps to boost economic growth as reasons for their market positions."

"...preliminary signs of deflation are spurring Mr Gross and the others to take on huge positions of interest-bearing investments such as bonds and dividend-paying stocks..."

Gregory Zuckerman, From: The Wall Street Journal, August 02, 2010 11:30AM

Uncertainty is the rule at the moment and uncertainty tends to drive investors to safer investments. However as the pundits do, so do the investing public and emotion tends to drive investor psychology.

Most of the recent negativity entered the market in late April when volatility (created by the uncertainty) spiked and equity markets dropped between 15-20%. In other words, the sentiment was quickly built into the market. The media are usually the last to the party and only after the big hedge funds have positioned themselves accordingly do they start talking in hopes that the general public will get motivated to follow their course and provide instant profitability to their (the hedge funds/portfolio managers) new positions.

We build our portfolios to, as best as possible, immunize our clients from this volatility: diverse, balanced portfolios. We use asset allocation strategy : for example, in a 60% Equity (a large portion of which are dividend paying) and 40% Fixed Income, this model retracted less than 5% during the late April to early July period and while equity markets remain in negative territory on the year, that portfolio has returned approx. +6% on the year (to date).

Late last year we moved our retired, more cash flow oriented clients to more income driven portfolios with 60-70% fixed income (adding preferred shares with approx 6% dividend yield) thinking that over the next couple of years equity markets may move sideways at best.

With our younger, still working, families who do not require income from their portfolios for the next couple of years (at least) we remained 60-40 (Eq/FI). We still want to have a growth component, but we have actually been focusing on Asia and the emerging economies more for future growth.

In Bill Gross' piece, he focuses more on the developed (G8) countries, mostly on the demographic issues of slowing population growth. We see the global economic engine of growth shifting towards emerging economies where there is significant wealth being created and demand for more developed goods and services as well as above average population growth.
The battle among G8 countries now is who can provide these goods services and who will have the cheapest currency with which to be more competitive. Canada and Australia have the resources, so we focus a little more on those economies as well, but trying to maintain an international bias.

I will not ever discount the intellect of the great economic minds as they ponder the economic future, but I do question their timing and covert intentions when they engage the media.

I think we have taken the long-term approach to reduce volatility and taxes as best as is possible : you should ensure that you have TFSA's set up and maxed: $10,000 (each) now and $5,000 (each per year going forward).

While we think equity markets will move sideways (in a range) for the next little while, we also are not going to be able to time the next growth leg accurately so that any change in asset allocation should be considered with long-term implications based on future cash flow needs.

That being the case I am happy to discuss your cash flow needs, the benefits of perpetual preferred shares and any other asset allocation issues whenever you have the time.

www.jstomenson.ca