Private Family Wealth Management: February 2015

Saturday, February 28, 2015

Month End 60/40 Model Report

What's Working?

At the beginning of 2010, I built a series of portfolio models based on a Balanced Asset Allocation Strategy.

The base model was 60% Equity and 40% Fixed Income.

(derivative models of 30%, 40%, 50% and 70% Equity as well).

Fixed Income consisted of a Government Bond ETF, a Corporate Bond ETF, a Real Return bond ETF, a basket of Preferred Shares and a High Yield bond fund.

The Equity allocation consisted of a combination of Canadian (including REIT's), US and International (including Emerging Market) ETF's.

There was also a portion of the Equity allocation allotted to a "tactical" (more actively managed) fund.

There have been a few adjustments along the way (minor changes in % allocations to geographical and style):

The models have been rebalanced quarterly and cash (from distributions and dividends) have been redeployed.
Before any advisor fees and taxes (but including fund MER's) , A fully invested $100,000 in the 60% equity model on January 1, 2010 is now (as of Feb.27, 2015, or 5.16 years) worth $158,260 (without any additional contributions having been made).
A compound annualized return of over 11%.
Of course, past performance is not necessarily a guarantee of future performance.
However, long-term back-testing through the very volatile period of 2007-2009, revealed that a portfolio of similar composition should be able to achieve a target return of between 7-8% over a multiple year period.

click on the chart to enlarge.

The broad diversification of the model has revealed many different levels of performance for many of the different asset classes over the last 5.16 years:

in 2011, a very difficult year for equity markets, the International Equity allocation fell by close to 15% (emerging markets were the worst performer).
Canadian small cap companies were also very weak that year.
On the other side of the equation: Fixed Income assets as a group were up by almost 10% (inflation indexed bonds were higher by over 18%).
The REIT allocation was better by 0ver 20% that year.
It is the diversity that helped to limit the downside pressures on the portfolio that year.
2012 and 2013 were strong, above average total return years led by strong equity markets.
2014 was an average year, with mixed results : weak international equity performance, strong fixed income performance (after a weak Fixed Income year in 2013).

Thus far in 2015 (the Year to "Expect the Unexpected"):

Fixed Income:
Bond markets continue to out-perform, led by inflation indexed bonds.
Preferred shares are under performing as the Canadian Preferred Share index is down by approx. 4% thus far.
Equity:
REIT's are leading the Canadian Equity sector allocation.
While at record levels, US Equities are under performing on a relative basis.
International Equities (lead by emerging markets) are out-performing.

The important takeaway:

Different asset classes will out-perform and under-perform throughout time over multiple years.

Instead of trying to pick which ones will perform, have them all in your portfolio and reap the rewards of diversification.

What is working?

Diversification is Working

The views expressed are those of the author, Scott Tomenson, a Raymond James Financial Advisor, and not necessarily those of Raymond James Ltd. It is provided as a general source of information only and should not be considered to be personal investment advice or a solicitation to buy or sell securities. Investors considering any investment should consult with their Investment Advisor to ensure that it is suitable for the investor's circumstances and risk tolerance before making any investment decision. The information contained in this blog was obtained from sources believed to be reliable, however, we cannot represent that it is accurate or complete. Raymond James Ltd. is a member of the Canadian Investor Protection Fund.

Friday, February 27, 2015

Consumer Prices

The Consumer Price Index data for January in both Canada and the US were released yesterday, no real surprises as energy prices fell precipitously in the first month of 2015.

you will need to click on this chart to enlarge it.

Interestingly, without gas prices included, Canadian CPI has been fairly steady to slightly higher.
In fact 7 of the 8 major categories posted gains in January.
Some of this is attributable to the weaker $C and the increasing cost of imported goods.
The BOC monitors "core" inflation, which strips out the more volatile food and energy sectors, which is actually above the BOC's 2% target.
But we do all need to eat, drive and stay warm!

Similar (but different) story south of the 49th!

more here: http://www.bls.gov/news.release/cpi.nr0.htm


The all items index declined 0.1 percent over the last 12 months, the first negative 12-month change since the period ending October 2009.


The energy index fell 19.6 percent over the span, with the gasoline index down 35.4 percent.


The index for all items less food and energy increased 1.6 percent.


The stronger $US keeping import prices down and the "core" CPI well below the Fed's targets.


Important takeaways for the "data dependant":


part of both central bank's mandates are to keep inflation within certain target ranges:
with core inflation above 2%, the BOC likely will keep the Bank Rate steady for the time being.
with US core inflation below 2%, the Fed can continue to be "patient" in beginning the normalization of interest rates.

 The views expressed are those of the author, Scott Tomenson, a Raymond James Financial Advisor, and not necessarily those of Raymond James Ltd. It is provided as a general source of information only and should not be considered to be personal investment advice or a solicitation to buy or sell securities. Investors considering any investment should consult with their Investment Advisor to ensure that it is suitable for the investor's circumstances and risk tolerance before making any investment decision. The information contained in this blog was obtained from sources believed to be reliable, however, we cannot represent that it is accurate or complete. Raymond James Ltd. is a member of the Canadian Investor Protection Fund.

Thursday, February 26, 2015

Positive Signals

Despite fairly high levels of uncertainty surrounding the global economy, there a some indicators that may be offering some optimism:

Copper is one of the metals that is followed closely for indications of the future direction of the global economy:

Since early 2011 copper has been trending lower from a high of close to 4.65.
In January of this year it plummeted, hitting a low of approx. 2.40.
The lowest level since 2009.
In December of 2008 it bottomed out at near 1.25.
It has rebounded through February back to near 2.70, a 12.5% recovery.
It is too early to tell if this is a new trend developing, but it is worth watching.

This morning Germany announced that unemployment fell more than was forecast in February, remaining at a 2 decade low 6.5% unemployment rate.
Higher wages have been bolstering domestic consumption and a lower Euro has been fuelling an increase in exports as the German economy continues to expand.
Chinese manufacturing data released yesterday showed a slight improvement.

Closer to home, RBC surprised with strong earnings results yesterday stating that despite lower oil prices and the resulting economic headwinds, some parts of the country were experiencing stronger than expected economic conditions.

The views expressed are those of the author, Scott Tomenson, a Raymond James Financial Advisor, and not necessarily those of Raymond James Ltd. It is provided as a general source of information only and should not be considered to be personal investment advice or a solicitation to buy or sell securities. Investors considering any investment should consult with their Investment Advisor to ensure that it is suitable for the investor's circumstances and risk tolerance before making any investment decision. The information contained in this blog was obtained from sources believed to be reliable, however, we cannot represent that it is accurate or complete. Raymond James Ltd. is a member of the Canadian Investor Protection Fund.

Wednesday, February 25, 2015

Embracing Uncertainty

On the heels of yesterdays blog (where I suggested that we not be paralyzed by uncertainty) comes BOC Governor Poloz's speech at the University of Western Ontario yesterday:

more here:

http://www.bankofcanada.ca/2015/02/lessons-new-old-reinventing-central-banking/

In his Conclusion, he states:

Our decision to lower the policy interest rate last month was intended to take out some insurance against both sets of risks. It gives us greater confidence that we can get back to full capacity and stable inflation by the end of 2016, instead of sometime in 2017, and it will cushion the decline in income and employment, as well as the rise in the debt-to-income ratio, that lower oil prices will bring.

Using the term “insurance” underscores that we are in a very uncertain setting, and what we are trying to do is to manage the risks we face, not eliminate them - we are not in a position to engineer the perfect outcome. The negative effects of lower oil prices hit the economy right away, and the various positives - more exports because of a stronger U.S. economy and a lower dollar, and more consumption spending as households spend less on fuel - will arrive only gradually, and are of uncertain size. Plus, the oil price shock itself is of uncertain size. So, the downside risk insurance from the interest rate cut buys us some time to see how the economy actually responds.

As you can tell, it’s an exciting time to be a central banker. Monetary policy-making is evolving in real time and, as I have argued, is deserving of true reinvention. We need to develop a monetary policy framework that integrates inflation risks and financial stability risks, both statically and dynamically, and captures much more accurately the uncertainties we face - in short, a true synthesis that takes full account of the lessons of the past, both new and old. Let’s get to it.

Who would have ever thought that you might see the words "exciting" and "central banker" in the same sentence?
However, on a Global scale, central bankers have been steering economies with monetary policy trying to contain the aftershocks of The Great Recession.
They have been battling uncertainty and it is clearly having an impact on volatility:

The fight goes on....

Also yesterday (and continuing into today), US Federal Reserve Chairwoman, Janet Yellen was giving testimony before the Senate Banking Committee:

more here:

http://www.federalreserve.gov/newsevents/testimony/yellen20150224a.htm

the Committee judges that a high degree of policy accommodation remains appropriate to foster further improvement in labor market conditions and to promote a return of inflation toward 2 percent over the medium term.

The FOMC's assessment that it can be patient in beginning to normalize policy means that the Committee considers it unlikely that economic conditions will warrant an increase in the target range for the federal funds rate for at least the next couple of FOMC meetings. If economic conditions continue to improve, as the Committee anticipates, the Committee will at some point begin considering an increase in the target range for the federal funds rate on a meeting-by-meeting basis. Before then, the Committee will change its forward guidance. However, it is important to emphasize that a modification of the forward guidance should not be read as indicating that the Committee will necessarily increase the target range in a couple of meetings. Instead the modification should be understood as reflecting the Committee's judgment that conditions have improved to the point where it will soon be the case that a change in the target range could be warranted at any meeting. Provided that labor market conditions continue to improve and further improvement is expected, the Committee anticipates that it will be appropriate to raise the target range for the federal funds rate when, on the basis of incoming data, the Committee is reasonably confident that inflation will move back over the medium term toward our 2 percent objective.

It continues to be the FOMC's assessment that even after employment and inflation are near levels consistent with our dual mandate, economic conditions may, for some time, warrant keeping the federal funds rate below levels the Committee views as normal in the longer run. It is possible, for example, that it may be necessary for the federal funds rate to run temporarily below its normal longer-run level because the residual effects of the financial crisis may continue to weigh on economic activity. As such factors continue to dissipate, we would expect the federal funds rate to move toward its longer-run normal level. In response to unforeseen developments, the Committee will adjust the target range for the federal funds rate to best promote the achievement of maximum employment and 2 percent inflation.

Exciting Indeed!!

Tuesday, February 24, 2015

Information Overload

It is never an easy task to try and find the most pertinent information to pass along to my readers.

There is a constant barrage of loud headlines fighting for attention, most of these focus on very short-term issues:

In the financial media:

Greece's future in the Euro zone.
When will the Fed begin to raise interest rates?
Corporate Earnings results (for last quarter).
Consumer confidence.
The state of the housing market.
RRSP or TFSA?
Oil prices.
Deflation.
Russia and the Ukraine.
Financial market volatility.
Global economic growth.
Climate change.

It is hard to get through the noise:

It is true that some of these issues may have an impact on the long-term , but it is also important not to get paralyzed by the uncertainty that surrounds us.

Many folks that I talk to can find themselves so full of uncertainty that they have difficulty make important decisions that can and may be significant for their future.

We all want to be protected from uncertainty and volatility. It is human nature.

However, when it comes to managing our wealth, we need to continue to move forward, we must always be working toward an end result.

Finding a way to keep working toward our goals despite the current levels of uncertainty can be accomplished with solid investment planning:

Balanced asset allocation.
Diversification across many different geographical and economic sectors.

This investment style will under-perform when equity markets are strong, but it will out-perform when they are weak. It will help keep volatility to a minimum when uncertainty is high.

It will also provide confidence that will help you to overcome the paralysis that comes with being bombarded by too much information.

Friday, February 20, 2015

Drilling Down Into The US Inflation Story

More on Wage Growth:

http://www.bloomberg.com/news/articles/2015-02-20/the-kids-are-alright-as-u-s-job-wage-gains-reach-millennials

On the heels of my comments on expectations for future inflation from my Feb 19 blog, comes a Bloomberg story on wage growth.
Specifically focusing on the "Millennials": the age group from 16 to 34 (at the moment).

they are projected to overtake "Baby Boomers" as the biggest generation in the US in 2015.
This is expected to have a considerable impact on the US economy.
Especially because their incomes are growing again after suffering considerably through the Great Recession.
While total wage growth at approx. 2.2% remains below what the Fed would like to see (which is somewhere between 3-4%), the improvement in the Millennial's situation may start to impact the bigger picture in a positive way.
Wage inflation is one of components that has allowed the Fed to be patient on its next step of interest rate increases.
However, if signs of wage inflation begin to appear, the Fed may not be so patient anymore.
So we shall be keeping a wary eye on the outlook for wages in the US (and eventually Canada) for clues to FOMC and BOC monetary policy and future interest rate activity.

More On US Interest Rates :

In past blogs I have talked about how the bond markets and the "yield curve" can give us some insight into how markets are building in expectations for the future (Feb 8 blog):

After the market has had time to digest the latest Federal Open Market Committee (FOMC) meeting minutes (see yesterday's blog for more on this), we have, subsequently seen some subtle shifts in the yield curve in the US, but lets look at what the "tea leaves" are suggesting:

(click on this chart to enlarge)

The Fed's "patient" stance (for the timing on raising interest rates) has left shorter maturity dates on US Government Bonds pretty much unchanged.
However this more "dovish" stance has created some concern about future inflation for bond investors in the longer dated maturities.
As a result we are seeing a "steepening" of the yield curve, with bond investors demand higher yields for longer dated maturities to give them a cushion above their expectations of future inflation.
We must, also keep in mind that the Fed is going to be "Data Dependant" for the timing on future interest rate moves.
The economic data released this week was generally weaker than anticipated and inflation (at the producer level) was still below target.

Next week:

home sales (new and existing)
consumer confidence
consumer price index
durable goods orders

We and many others will all be watching developments in this data and making determinations about next steps for the Fed.

Stay tuned!!

Thursday, February 19, 2015

What is "Data Dependant"?

Yesterday the US Federal Reserve (the "Fed") Federal Open Market Committee (FOMC) released the minutes of its January meeting:

You can view all 21 pages by clicking on this link:

http://www.federalreserve.gov/monetarypolicy/files/fomcminutes20150128.pdf

Most folks are probably not inclined to read through the whole thing, but we who know that the keys to future monetary policy (timing on interest rate increases) and the FOMC's deliberations are buried in here monitor their thinking closely for clues:

Here is the summary:

The Committee agreed to maintain the target range for the federal funds rate at 0 to ¼ percent and to reaffirm the indication in the statement that the Committee’s decision about how long to maintain the current target range for the federal funds rate would depend on its assessment of actual and expected progress toward its objectives of maximum employment and 2 percent inflation. Members agreed to continue to include, in the forward guidance, language indicating that the Committee judges that it can be patient in beginning to normalize the stance of monetary policy. Members agreed that their policy decisions would remain data dependent, and they continued to include wording in the statement noting that if incoming information indicates faster progress toward the Committee’s employment and inflation objectives than the Committee now expects, then increases in the target range for the federal funds rate would likely occur sooner than currently anticipated, and, conversely, that if progress proves slower than expected, then increases in the target range would likely occur later than currently anticipated.

At the moment core inflation (taking out the volatility of energy and food prices) data remains below the Fed's 2% lower target band.
While employment continues to grow.
So the data that the Fed will be monitoring closely will be developments in inflation indicators and how they are being impacted by other economic stimulus.
One element that has failed to yet show any significant growth (and would be instrumental in future inflation expectations) is wage growth.
So expect the Fed to be monitoring wage growth as as one of the key data points that they will be dependant on.
The strong $US, makes prices for imported goods cheaper (the US runs a large trade deficit, as it is a significant importer of goods) and this too is an important determinant of inflationary pressures.

For the time being, the Fed is prepared to be "patient" on the timing for raising interest rates. However, it will monitor the economic data releases (US and International) as it assesses its next steps.

And so shall we!

Wednesday, February 18, 2015

Failing to Plan...

According to the 25th annual RBC RRSP Poll:

30% of respondents had not yet started saving for retirement.

more here:
http://www.rbc.com/newsroom/_assets-custom/pdf/20150217-havent-started.pdf

The annual RBC poll also indicated that women are particularly unprepared for retirement:

Three quarters (75 per cent) don't have a retirement savings goal (compared to 62 per cent of men);
Two thirds (67 per cent) responded that they have not done any retirement planning (compared to 55 per cent of men);
60 per cent don't have a financial plan (compared to 54 per cent of men);

Why not?

If you need help, get it!
But make certain that you get good help: from a Certified Financial Planner (CFP).
Make certain that when you interview your financial planner that they do not have any conflicts of interest.
Often there may be a "sales" aspect to getting a plan, in other words the "planner" may want to sell you insurance or mutual funds that (may or may not fit your plan and) will pay them a commission.
Because the insurance company or mutual fund company could be paying the planner (commission and trailer fees), it could create a conflict of interest.
Fee-based advice (the advisor is only paid by you) may be a way to eliminate any conflict.

If you have a plan:

You will sleep better.
You will be able to see how you are going to be able to successfully get to your goals.
You will know what steps you need to take to make certain that you get there.
You will be able to monitor your plan along the way and make adjustments should you be required to do so.
Having a trusted advisor to assist you and ensure monitoring and appropriate adjustments will help make the process easier.

Tuesday, February 17, 2015

Volatility slips to it's lowest level in 2015:

Back to my ongoing theme that Central Bankers (folks below) do not like volatility:

Confidence in equity markets has returned as Central Bankers have spent the first part of 2015 adding monetary stimulus that has pushed global interest rates (except the US) lower.

The US (S&P 500), German (DAX) and Japan (Nikkei) all have made new highs. Investors must be rather confident.

Safe, 10 year Government Bond yields are at near record lows in some spots:

Germany: 0.35%

Japan: 0.43%

Canada: 1.43%

In the US, yields have moved off their lows as the expectation of continued economic strength has bond investors less worried about deflation there.

Earnings of S&P 500 companies, with 391 having reported for Q4 so far, are growing at a rate of 3.1% (vs. expectations of 1.7% at Dec 31,2014).

Current Price to Earnings (P/E) ratios are close to 18 (vs. the historical average of 14.7).

And despite the expensive P/E, the trend, at the moment, remains intact: higher highs and higher lows:

We shall continue to monitor this closely.

Cheap money is driving stock prices higher, it never pays to "fight" the Central Bankers. It is their trend now.

What happens when the "music stops"?

Be diversified!

Friday, February 13, 2015

Rational or Irrational?

Traditional Finance Theory assumes that markets are efficient and that market participants are rational in their trading / investing behaviour.

Behavioural Finance, on the other hand, is based on the theory that market participants can have psychological / behavioural biases that can trigger less than rational trading / investing behaviour:

Lets look at a few of these behavioural biases:

Traders / Investors:

Overestimate their ability and the accuracy of the information that they have.
Assess situations based on "past experience" (superficial characteristics) rather than the underlying current reality.
Overstate the probability of an event reoccurring because it has been a recent experience: after the crisis of 2008, many expected a "double dip" in 2010 and 2011.
Allocate wealth into separate compartments instead of viewing it as one large pool: "house money", "retirement money", "education money", "risk money", etc.
Fear making decisions that will lead to regret : selling losing positions because "someday" they might return to profitability.

And there are many more....

Active managers wish to exploit these irrational tendencies when markets create "value" through prices that are skewed to reflect less rational expectations.
In other words, market timing can possibly present opportunities.

A possible conclusion?

Perhaps a combination of a portfolio of "core" indexes (with ETF's) and smaller portion dedicated to more active, tactical management.

As always, this strategy should be approached in the context of your long-term goals and objectives and the level of risk that you are comfortable with.

Back to Risk Adjusted Returns:

(Tuesdays blog: When Boring Is Good!)

Thursday, February 12, 2015

Active vs. Passive Investing?

This is an ongoing argument that is yet to be resolved:

(and I thought that on the heels of yesterday's blog that this might be an appropriate topic to follow)

Many academics will argue that the additional trading costs of trying to "out-perform" an benchmark index (and the potential for misses) tilt the case in favour of the Passive argument.
How then do the passive managers justify their fees?
Technically, passive portfolio managers should be able to match the benchmark index, before fees and taxes.
This is referred to as the "Beta", or the expected return.
Ongoing re-balancing (perhaps quarterly), whereby "over-weight" assets (that have out-performed) are paired back to the strategic allocation weight (taking profit on a portion) and using the cash generated to buy additional "under-weight" (under-performing assets).
This will add additional potential to return, over time as different assets will out-perform and under-perform over the course of the economic cycle.
The additional return, above the benchmark return, is referred to as "Alpha".
An active portfolio manager's goal is to increase "Alpha" with a more active trading regimen, trying to find anomalies in certain assets that have (in their opinion) given them additional value.
This is how a more active portfolio manager can justify a higher fee.
In some cases (especially with active "hedge funds") there may be an additional "performance fee".
It comes down to the argument of "efficiency" in markets: does a market immediately price in all the relevant information or is their a behavioural aspect that makes markets create "inefficiencies" that build anomalies in to a market?
Further, can a good active manager seek out and take advantage of these anomalies before the rest of market participants discover it?

(click on this chart to enlarge)

Tomorrow I will look into this topic using the arguments presented by "Behavioural Finance"

The views expressed are those of the author, Scott Tomenson, a Raymond James Financial Advisor, and not necessarily those of Raymond James Ltd. It is provided as a general source of information only and should not be considered to be personal investment advice or a solicitation to buy or sell securities. Investors considering any investment should consult with their Investment Advisor to ensure that it is suitable for the investor's circumstances and risk tolerance before making any investment decision. The information contained in this blog was obtained from sources believed to be reliable, however, we cannot represent that it is accurate or complete. Raymond James Ltd. is a member of the Canadian Investor Protection Fund

Wednesday, February 11, 2015

When Boring Is Good!

I have, in past blogs, talked about the best way to counter volatility in a portfolio by being balanced and diversified.

Why is volatility in a portfolio a bad thing, when higher degrees of risk can offer higher rates of return?

The more a portfolio's value goes down in times of financial market volatility, the longer it takes to recover:

(you will definitely have to click on this chart to blow it up)

This is a study of a number of model portfolios with various levels of balance and diversity over an 11 year period.
a 30-70 portfolio has 30% fixed income (various bonds and preferred shares) and 70% equity (exposure across various geographical regions: US, Canada and International markets).
With Return on the vertical axis and Risk (standard deviation) along the horizontal axis, as might be expected, the 30-70 portfolio has the lowest annual average return and the least amount of risk.
As is generally expected, as we move out the risk spectrum (higher degrees of risk) by taking on a greater % of equity and a lower % of fixed income, historically, on average, the portfolio models have produced a greater return.
However, as we get to the 70-30 portfolio, we can see that the "curve" has flattened and become slightly inverted.
This is the impact of the volatility caused by the 2008 financial crisis where the portfolio with the most risk has taken a greater deal of time to recover.
The portfolio that has performed the best, relative to the risk taken (what we refer to as "Risk-Adjuted Returns) is the most "efficient" portfolio.
This is not a portfolio that out-performs in times when equity markets are charging ahead, but it is also a portfolio that will have more limited downside when volatility is high.
This is when Boring Is Good!

Tuesday, February 10, 2015

As Goes Oil....

oil prices have "stabilized" after testing support at just below $45.
The down-trend is still intact, but there is some price "exploration" happening between $50 to $55.
It will take some significant buying to change the trend, but for the moment, there is some consolidation of price expectations.

So Goes the $C

As is frequently the case, in the short-run, the $US/$C relationship tends to trade with some synchronization.
In similar fashion, the $C has stabilized at or about 1.25 (or 0.80 $US)
As the US is Canada's largest trading partner, this is the most important relationship and certainly a key focus for the Bank of Canada.
This afternoon Deputy Governor Wlikins will speak and this may give some clues to BOC thinking going forward.

Interestingly, the C$ continues to improve vs. the Euro:

Travelling this summer?

Perhaps it is time to visit Europe!!

The views expressed are those of the author, Scott Tomenson, a Raymond James Financial Advisor, and not necessarily those of Raymond James Ltd. It is provided as a general source of information only and should not be considered to be personal investment advice or a solicitation to buy or sell securities. Investors considering any investment should consult with their Investment Advisor to ensure that it is suitable for the investor's circumstances and risk tolerance before making any investment decision. The information contained in this blog was obtained from sources believed to be reliable, however, we cannot represent that it is accurate or complete. Raymond James Ltd. is a member of the Canadian Investor Protection Fund

Private Family Wealth Management