Another Client Ready To Retire 

(Or "Re-wire") Ahead Of Schedule!

The excitement was palpable as we reviewed the updated Wealth Forecast and previewed the latest scenario: moving retirement up by four years. Not without one of these two folks still carrying a healthy degree of skepticism, but the new numbers we presented to them did not disappoint. It's not a full-on, we are going off golfing, feet up kind of retirement, but as these clients so appropriately suggested, it is a "re-wiring". No more commute downtown everyday, no more 5am alarm clock, no more walking back in the door at 6:30pm, but taking more control over a work-life balance at a significantly lower level of stress. Call it a graceful exit.

Client's of mine for close to 20 years (in a number of phases of my wealth management career). Two recessions (maybe another one on the horizon), never having shot the lights out (by taking too much risk, chasing out-of-reach returns), but taking the boring route of adding to savings when possible and maintaining a balanced approach to investing, while putting the focus on what they were good at: nurturing their family and pursing their own successful careers.

I love this part of my job. Bianca loves this part of her job!

More importantly, it gives me a soapbox to stand on and tell the rest of the world that our methodology works. The doubters think that they have to have stock market-like returns, year in and year out, to get to their goals. Perhaps they do because their goals are unrealistic.

However, the gamble of chasing stock markets can and may put your goals at risk. After peaking in 2001, it took the NASDAQ about 15 years to get back to that very peak. 

With current stock markets at levels that beg the fundamental question of true value:

Ask yourself, if you had to buy stocks, where do you want to be buying them? With Price to Earnings ratios at 10-15 or 20-25? Forget "multiple expansion", where is there less risk?

30 year bond yields are at record lows, we have to pay attention to what that is telling us.

I think it is clear that the Coronavirus is throwing a lot of uncertainty at us.

I think it is also clear that the current political situation in North America and around the globe is tenuous and fraught with potential twists and turns that can and may have potential destabilizing risk.

But, our clients still have to retire / rewire and if we can help them get there on or ahead of schedule, managing the risks and keeping the stewardship of their wealth on track, then our methodology, in spite of the skeptics, is working. If our aforementioned clients had stepped away from the plan we built for them or deviated significantly away from our designed strategy because of recessions or over-valued markets, wanted to chase returns and throw risk management out the window, then they might not be where they are today.

Consumer Prices And Your Cost Of Living

Statistics Canada just announced the most recent Consumer Price Index (CPI) data for January increased at 2.4% from Jan. 2019.

Why does that matter to you?

If your cost of living increases by 2.4% (which is going to vary from household to household, depending on what you consume, how much you consume and where you consume it) then that is going to erode your purchasing power (which is what drives your comfortable lifestyle).

In other words, in order to continue your comfortable lifestyle, you best be growing your money by a rate that is better than 2.4% (if, in fact that is your annual cost of living increase), after fees and taxes. For the purposes of our High Rock Private Client Wealth Forecast's, we assume a 2.5% annual cost of living increase (the long-term average increase for CPI in Canada is about 2%), unless our client wants to plug in their own specific number, which of course makes the Wealth Forecast much more accurate. It is an extremely important part of the plan. An increasing cost of living by more than the growth of your savings/investments could erode your comfortable lifestyle and put you at risk of running out of money.

With the risk-free rate of return (before fees and taxes) sitting at or about 1.6% (a 90 day Govt. of Canada T-bill), the likely after fees and taxes return is closer to 1% (or less).

If you want to get better than the annual increase in your cost of living, you need to take risk. How much risk can only be determined by creating a forward looking plan, like our Wealth Forecasts, to determine how and what kind of portfolio growth (and investment strategy) you need and ultimately how much risk you need to take. When we say that we manage risk first, that is what we mean. Taking too much risk can also put your Wealth Forecast (and your future comfortable lifestyle) in jeopardy. So we find the appropriate balance. Maybe it is 60 / 40, maybe not. Every client family has different circumstances and therefore their strategy should be unique to them. Definitely not a "one size fits all" approach.

Do you drive alot? If so, the recent data would suggest that the 11.2% (year to year, i.e. Jan 2019 to Jan. 2020) increase in gas prices would be impactful (if you are driving a gas powered vehicle, of course). Fresh tomatoes cost 10.8% more and all fresh vegetables were more costly by about 5%, driving all food prices up by 3.2%. Non-alcoholic beverages cost 5% more, but alcohol, tobacco and recreational cannabis only cost 0.5% more. And those are just national averages, not considering the "where" you consume variable.

The point being is that your annual cost of living increase is an enormously important factor in your need for the growth of your money. It also will determine the amount of risk you need to take to grow it to get that comfortable lifestyle that you want to last through to the end of your days as well as possibly pass on any inheritance to those you may think are deserving.

Chasing investment returns and portfolio growth without taking all these important inputs into consideration could be a potential recipe for disaster. Make sure that you have the right folks guiding you along the way.

Over-confidence

Continuing within the theme of behavioral finance, which has become more and more relevant with all of the many variables being thrown at us portfolio managers these days as we try to deal with all of the new naratives (economic and political) being presented to us on an almost daily basis.

One of the great difficulties is determining which are true and which are false (or perhaps, "alternative truths").

In my Sunday blog, I alluded to a situation where expectations of somewhat unrealistic returns occurs because there is a belief that what has been over the last few years (stock market resilience) will continue on into the future indefinitely. That is where the narrative of "company earnings don't matter to stock markets, just central bank liquidity" resides. On yesterdays High Rock monthly video, we also brought up the story of a client who, in the violence of the plunge in stock markets in 2018, became so unglued as to request that their portfolio be moved to 100% cash. Clearly, both these situations involve(d) levels of confidence in their views that are / were off the charts (i.e. not considering the risks of either being overly invested in stocks or not invested at all, relative to their long-term goals).

Another Nobel prize winning economist, Daniel Kahneman, professor emeritus of psychology and public affairs at Princeton University's Woodrow Wilson School and who, in 2015, was listed as the seventh most influential economist in the world by The Economist has this to say:

Video link click here

People, he claims, are pulled in opposite directions: they have an aversion to loss, but are optimistic. Loss aversion and over-confidence work in opposite directions.

Confidence sells. That is why BMO's Brian Belski (Chief Investment Strategist) tells BNN/Bloomberg that he sees 10 more years of bull markets. They want your business and they want you to believe! BNN /Bloomberg wants you to believe too, because it keeps you tuned in. Excitement!

But Prof. Kahneman says he wouldn't want a financial advisor who was an optimist. (read: is a salesperson).

Why? Investment advice is not supposed to be exciting. It is supposed to be well thought out long-term planning that will get you to your ultimate financial goals. Rolling the dice with all your money in any stock index fund or ETF is nothing other than gambling. And we know the "house" always wins when it comes to gambling.

As I will always say: "why take risk that you don't have to?". Over-confidence may blind you from a proper assessment of risk.

Again, to reiterate from Sunday's blog: beware the agenda of the super confident, in their perspective lurks a boat-load of unaccounted for risk.

At High Rock, at least for our own portfolios and a good majority of our client's portfolios, we manage risk first. We prepare a Wealth Forecast from which we develop a long-term strategy. That strategy is always flexible, subject to review as circumstances change. Circumstances may include an increase in tolerance to risk. However, we will always present our informed opinions in order to properly coach and counsel client risk.

We are also held to the CFA Institute standard of suitability as per our Voluntary Code of Conduct which in its intent holds us accountable for ensuring that a client's portfolio is suitable for a client's financial situation.

Stepping Away From The Fray!

It is always refreshing to take a step back from the day to day push and pull of financial markets to try and re-frame your perspective. A couple of weeks away has hopefully helped me get a broader view of the big picture in the world of Wealth Management where I hang my hat. Of course we can never truly be "away" in my world. Looking after clients is always a 24/7, 52 weeks of the year kind of responsibility. However, looking on from a greater distance can open your eyes a little wider.

I did spend a little time thinking about "Irrational Exuberance",  a term coined by former U.S. Federal Reserve Chairman Alan Greenspan back in the 1990's. It was subsequently the title of a book by Nobel prize winning economist Robert Shiller:

"In explaining the origin and attributes of speculative bubbles, the author persuasively examines the structural factors - politics, technology and demography - underlying them, the cultural factors reinforcing them and the psychological factors driving market behaviour." 

Speculative bubbles, he insists, are very real, the result of the "combined effect of indifferent thinking by millions of people... motivated substantially by their own emotions, random attentions, and perceptions of conventional wisdom."

Which of course begs the question: is it my job to attempt to bring rational thought to a client who has no sense of risk, even if it might mean that she/he may otherwise move to a bank advisor or other (with no fiduciary responsibility) who will make promises that are dubious at best and just move her/his money into their in-house "growth" funds. My moral compass tells me that I must live true to my own sense of what is right.

These are the difficulties we face as portfolio managers in the late stages of a bull-market: too many years of above average returns impacting emotions. Behavioural finance will coin this as "recency bias", where human emotion takes over and we simply expect what has been happening for the last couple of years to automatically continue well into the future.

It makes for a difficult conversation when we know that there will come a reckoning in which we, with a fiduciary duty to our clients, must protect them. Should we let our client's take on unreasonable risk just to keep them as clients?

Prof. Shiller's latest work is titled Narrative Economics where he explains that we are victims of a set of narratives or stories where "Adherence is probably even worse when it comes to following advice from more controversial economic pundits or financial planners. But where does advice end and speculation begin? And how do we distinguish informed speculation from confabulation or fiction? The slope is slippery. Ultimately, a story's contagion rate is unaffected by its underlying truth. A contagious story is one that quickly grabs the attention of and makes an impression on another person, whether that story is true or not."

Something to consider in the world of financial media and investment blogging / social media. As I have said on many occasions in the past, beware the writer's agenda and motivation.

On the plane, on my way home, I came across this analogy for current market sentiment from a usually middle of the road economic commentator:

Ready to get back into the fray, armed with my updated level of knowledge of the psychology of markets and the ongoing battle to bring the best possible me to the management of our clients and our own collective wealth.

Emotions Are A Key Reason Why People Do Not Make Rational Choices

As members of the human species, we are subject to cognitive biases that enter into our decision making processes that might test the boundaries of what some might consider to be logical. 

I have a 5 hour (plus) flight coming up on Thursday, my RBC Avion visa rewards got me a flight for $0.00 (43,671 points). That is one way, economy. When I went to book my seats yesterday, Air Canada, in their kindest and gentlest sales manner, offered me a Business Class seat for an additional $700. Visions of leg room, bigger seats, no hassle luggage,  free beverages, easy exit, etc. (creature comforts) dangled in my conscious thoughts, tempting me to be completely irrational, defeating the whole purpose of accumulating those points.

Behavioural economics: those that wish to sell to us know exactly how to get us (most of us).

As humans we are vulnerable to pain: physical and emotional. The minute we have an ache we are off to the doctor, the drug store or the massage therapist or the psychotherapist.

But lurking in behind all the logical remedies to pain, or perceived pain, are the folks that have something to sell you and it is not necessarily medical.  Some will certainly be legitimate, real solutions to your challenges. However, there will be others wishing to exploit your pain or anxiety or need for something that they think that you will want (but not necessarily something that you need). 

Now bring that to the world of financial advice.

What is your pain?

For many, it would be the ability to ensure that they had enough money to live in the desired level of comfort that they wished for until the end of their days (i.e. not running out of money). Others might have generational and charitable goals for their legacies. 

But what is enough?

It is personal and specific. Everybody's needs and challenges are going to have different variations. So you have to determine what it is that you want and how you are going to best achieve it. It requires planning. If I let Air Canada convince me that my end goals and plans will be benefited by paying an additional $700 for some additional creature comforts in the short-term (that were not in my original plan) then I have taken a detour which will require something additional (sacrifice) to get me back on track sometime in the future.

If I let a financial advisor convince me to alter my long-term plan with something more exciting for some short-term, immediate gratification (risk be damned approach), I am going to leave myself more vulnerable to not reaching my goals. We  have to be very careful of what is motivating them. I can tell you from experience, if they are proposing a "one size fits all" type of portfolio, they are not looking out for your best interest, only theirs (because it is easier to manage and build scale and commissions). Beware of their conflicts of interest.

The fundamentals tell us that stocks are expensive. If 2019 GDP growth of about 2% was only able to generate 0.2% in 2019 S&P earnings growth. What kind of GDP growth will be needed to generate the analysts expected 9.5% of earnings growth required to justify that which is already built-in to stock prices for 2020. The International Monetary Fund is calling for 2020 U.S. GDP growth of just 2%. So the (rational) math does not quite seem to work.

If stocks are expensive, in time, they will return to being governed by fundamentals. That is rational. Jumping on the "you have got to own stocks because they keep going up" bandwagon is emotional.

Choose wisely.

Bad Advisors Coast To Coast

If you like juicy tales of  the bad element getting caught in their "cheatin' ways", try scrolling through the Investment Industry Regulatory Organization of Canada (IIROC) disciplinary cases for your entertainment pleasure. Here is one that caught my attention, just with the sheer number of allegations and the time period through four, count em', four different financial institutions: Wellington West, National Bank, Industrial Alliance and Aligned Capital and their respective compliance departments over a 7 year period. 22 pages of riveting tales of not knowing the clients, making unsuitable and unauthorized trades and losses in the vicinity of $1,000,000. All with clients  born before 1950 (i.e. older than 70 now).

Or for more harrowing tales, you can visit the Mutual Fund Dealer's Association of Canada Enforcement page and have a look at the bad things that some of those folks have been getting up to.

Do you know the one thing that each of the institutions under the self-regulating bodies have in common? They are not under any fiduciary obligation to the client. That means good luck getting any part of your losses returned to you in any kind of reasonable time frame. Even if the bad advisors are sanctioned and fined, the record of payment is dismal.

In an April 2019 press release, the Small Investors Protection Association (SIPA) stated: " Canadians are losing their savings due to systemic fraud and wrongdoing by a financial services industry that does not put clients' best interests first, disregarding laws or rules and regulations. It has been possible to defraud tens of thousands of clients for up to a decade as indicated by recent No Contest Settlements by paying fines to avoid admitting responsibility and litigation."

The Canadian Foundation for Advancement of Investor Right's (FAIR), "strongly believes that a statutory best interest standard is necessary, desirable and feasible, with respect to securities advisers, dealers and individual registrants in their conduct towards retail investors." but that current proposed amendments by the Canadian Securities Administrators (CSA)

"will not achieve the profound shift necessary to ensure Canadians receive the objective, professional financial advice that is needed and rightfully expected".

The CSA has their own enforcement division if you are interested in more investigative reading.

The point is, that unless your wealth management team is a discretionary portfolio manager (as we are at High Rock), you are going to be vulnerable and must pay extremely close attention to the advice that you are being given. Even if it is suitable at the purchase point, once past that, your advisor only need take a "standard of care", which does not legally bind him or her to ensure continuing guidance. In other words, once you buy it, you as the investor are now liable for whatever happens next. Losses are on you, not your advisor (unless of course the investment was unsuitable in the beginning).  Even if it was unsuitable, it could be years, if ever you are able to recover.

 What happens to your retirement then?

We know that our High Rock client readers understand this and hold us to our code of conduct. For all of you other friends that take the time to check in on my perspective (ranting, drivel, whining, etc.), give it some thought. The potential implications are huge.

It Is The Destination, Not The Journey

5 Years ago I made a change. I wanted to build a wealth management company that created a client experience that was a different and better alternative to the standard and antiquated bank and financial services industry.

I purchased a half interest in a Portfolio Management  company called High Rock Capital Management with the goal of creating a Private Client Division that would do just that. My business partner, the original founder of High Rock, Paul Tepsich and I had a very similar philosophy: We would invest our money in a way that we were comfortable with, that would see us to our end goals. Then we would invite those who wished to join us on our journey to come on board. A group of my clients chose to take this same path with us and as we approach our 5th year anniversary, we are thrilled to have grown our private client business by about four times its original size. We still have some room for those who have the desire for something different and better.

Our philosophy is simple: each client and client family have very specific and distinct goals, therefore their investment portfolios should reflect this. While our mandate is to invest for our clients in the exact same assets as we would own for ourselves, the percent weightings may differ to reflect the individual nature of each client strategy. This strategy is determined after an in-depth analysis of their financial circumstances and their long-term goals and is presented in a Wealth Forecast prepared by our Certified Financial Planning professional (Bianca Tomenson).

Most importantly we (at High Rock) have signed off on and adhere to the highest levels of integrity available to the investing public with our Voluntary Code Of Conduct For The 

Stewardship Of Your Wealth.

Friends, this is not exciting stuff. As I suggest on my Twitter profile (https://twitter.com/JSTomenson) : "Wealth and portfolio management is not about shooting the lights out. It is about slow, methodical planning to reach long-term goals". So if you want instant gratification and excitement, as the advisor and media cheerleaders offer, we are likely not for you. Paul, Bianca and I do not like to take risk outside of the parameters for achieving our goals and unless our clients express the desire for taking greater amounts of risk, specifically, our tendency will be to manage the risk first and let performance be determined as a function of the risk that we take. 

When stock markets are strong, as they were in 2016, 2017, 2019, we will under-perform them (because we run balanced portfolios). When they are weak, as they were in 2015 and 2018 we will out-perform, thereby protecting our clients from volatility and the more difficult to catch-up periods following significant down-side moves to asset prices. However, as per the chart above, we will out-perform over longer periods of time on a return per unit of risk taken basis (red circle). Oh and by the way, despite all the hoopla about stock markets in calendar year 2019, markets are up considerably less from September of 2018, just a few months earlier (but whatever, just a very small part of the much longer journey):

If you want to focus on the stewardship of your wealth which will take you to your destination, give it some thought. Personally, I would rather the journey be comfortable (you can sleep at night) rather than exciting, with a greater chance (less risk) that I will get myself to where I want to go.