Book Review: No Hype, second edition by Gail Bebee

Almost four years ago, I reviewed the first edition of Bebee's No Hype book and gave it a high (by my standards) rating. The just-released second edition contains essential updates and excellent refinement of specific portfolio suggestions, which is probably what readers want most. The most notable addition is a new section on TFSAs, though there are also many revisions to organization names, website links, addresses etc that make the book practically useful for investors today.

There has also been reordering of material, such as moving the discussion of annuities into the retirement chapter alongside RRSP sections, addition of many more links and references to online resources, such as a list of useful blogs, (including my own I gratefully acknowledge!). Most of the links are available on her website www.gailbebee.com under Resources.

The Asset Allocation and Portfolio Building material has the most interesting updates.

• real return bonds added as a component of the fixed income asset class; they now get included as part of all suggested portfolios
• revisions (mostly downward) to guidance on what rate of return to expect, based on historical averages, as well as addition of figures for several very useful asset classes - Canadian vs US bonds, Canadian vs US vs Emerging Market stocks, real estate; all this allows better estimation of what various portfolios will yield and will be very useful as more and more investors are taking to the idea of diversifying beyond Canada
  
• completely ETF sample portfolios specified right down to percentage sub-divisions within asset classes e.g. 35% equities in the Large Income Focused portfolio broken down to 20% iShares S&P TSX 60 Index (XIU) and 15% Claymore Global Monthly Adv Dividend (CYH)
  
• all-in-one single mutual funds or ETFs that suffice as a good-enough ultra-simple portfolio solution
• one non-update is that the individual stocks suggested for the equities allocation in larger portfolios have pretty well remained the same; Bebee's picks from four years ago still seem to be holding strong!
  

Caveats: There are a few niggling typos and minor errors such as: the Balanced Portfolio in Fig. 25.2 that only adds up to 95% (it looks like the 5% Foreign Bonds that was in the 2008 edition got deleted; Fig. 10.1 confirms this supposition); some of the ETF tickers do not match the fund name e.g. in the Income Focused Portfolio the iShares S&P TSX 60 Index ETF has the XIC ticker when it should be XIU. I could not find, as the preface promises, expanded material, though there are updates in chapter 8, on how to resolve problems with financial service providers - was I looking in the wrong place?

To make this book even more convenient for the investor, maybe the next edition could combine the advice on what goes in RRSP vs TFSA along with sample portfolios e.g. take one of the more elaborate portfolios, like the ETF Growth Portfolio, which has 11 separate holdings, and lay out what should go where. For example, I just did this post - ETF Asset Allocation Across RRSP, TFSA and Taxable Accounts - about this topic on my other blog.

This book has established itself as a fine beginner's guide to investing that successfully bridges the challenge of a "good-enough" compromise between the practical simplicity that people will actually read and use and the ideal complete perfection of a thousand page brick that almost nobody would read or be able to apply.

Gail Bebee's website takes orders for the book directly, though it's also available from Chapters.ca.

My rating creeps up from its first edition four to 4.5 out of 5.

Disclosure: Gail Bebee provided me with a draft of the second edition (and a copy of the published version too - thanks Gail!) and I submitted comments and suggestions to her, some of which have been incorporated into it.

THE Priority for Improving Canadians' Personal Financial Success: Advisor Professionalism

Like it or not, bloggers like me, and even mainstream financial media like the Globe and Mail and the Financial Post, have little influence on the financial success of most Canadian adults over 35. Last February the Investor Education Fund's GetSmarterAboutMoney.ca website published the results of a survey with the tell-all title Advisors Top Source of Information for Older Canadians. People in that age group overwhelmingly rely on financial advisors (see Exhibit 1 in the study report for the over 34s) - and primarily those within banks or other financial institutions - as the experts to guide their financial decisions.

The report foresees more and more new advisor relationships being started up over the coming years so it is time to get going now. A higher degree of professionalism, such as doctors, engineers and accountants have, is what is needed.

Two things are required of those advisors and their recommendations to clients that really are not sufficiently the case today. They must be:

• broadly well-informed to give holistic or integrated recommendations - knowledge of investments, taxes, plan types (RRSPs, RESPs, TFSAs etc), mortgages, insurance;
• bound by fiduciary duty with strong sanctions and enforcement of ethics so that client interests come first.

The national priority is not financial literacy or a national securities regulator but better advisors. Few people have the time or the inclination to develop the skills to be DIY financially. Though we all can and should always bear the ultimate responsibility for our finances, just as we do for own health, it does not mean we should not expect to find ready availability of expert financial "doctors" to give us trustworthy impartial advice.

Btw, bloggers need not despair. The under 35s use the Internet extensively to find financial information. 48% read online forums and blogs according to chart C-1 in the key findings for the 20-34 age group.

Self-Regulation by Financial Advisors on Wrong Track

Fellow blogger and former financial advisor Preet Banerjee at WhereDoesAllMyMoneyGo has brought to my attention that financial advisors are threatened by more government regulation as a result of recent scandals and rip-offs by advisors. It is being suggested they self-regulate. Certainly preventing fraud by advisors is a primary concern because the client loses everything when that happens.

Whether it's government regulation or self-regulation, criminal fraud is not the only problem advisors have. The other big, somewhat hidden issue is what might be called abuse of fiduciary duty. Though seemingly not illegal, too many so-called advisors are nothing more than sales people in disguise, who fail in their moral obligation to do best by their clients by investing them in high-MER mutual funds on the basis of trailer fees and who provide little of value in the way of investing or financial advice. Advisors can be extremely beneficial for the investing public, but if the relationship is to be based on trust as the article says, then they need to work in the client's best interest first and not secondarily after their own fee income goals are met.

Reasearch Results on Whether Financial Advisors Help or Hinder

Sadly, the answer is that financial advisors hinder according to Do financial advisors improve portfolio performance?, a just-released study of German investors at Vox by university professors Andreas Hackethal, Michalis Haliassos and Tullio Jappelli. The reason is the old bugaboo - costs and fees.

Advisors add value but ... "Even if advisors add value to the account, they collect more in fees and commissions than they contribute." Apparently the authors found that richer, older people tend to use advisors more which accounts for a preliminary gross conclusion that "Investors who delegate portfolio management to a financial advisor achieve on average greater returns, lower risk, lower probabilities of losses and of substantial losses, and greater diversification through investments in mutual funds." They note that the financial industry would love to grab that statement for publicity. However, the net truth is completely opposite: "Once we control for different characteristics of investors using financial advisors, we discover that advisors actually tend to lower returns, raise portfolio risk, increase the probabilities of losses, and increase trading frequency and portfolio turnover relative to what account owners of given characteristics tend to achieve on their own."

Of course, that does not mean that all advisors are bad for your financial health. It does mean choosing carefully, however.

So, DIY investors, take heart. Follow sound investing practices and you too will succeed.

Why Pros Will Not Automatically Outperform DIY Investors

On August 22nd, Larry MacDonald published a note about another investment pro David West dumping scorn on the ability of DIY investors, following on the one put out in July by Avner Mandelman. Various commenters and blogger CanadianCapitalist rebutted the fallacy of professional outperformance in the simplest fashion - it generally is not true! Duh!

There's a fundamental reason why professional stock and bond pickers cannot and almost certainly will never be able automatically to do better than individual DIY investors - investing outperformance requires the successful prediction of the future and the future is complex and very uncertain. Too many factors and events, including especially the decisions and actions of that most bizarrely partly rational and unpredictable animal, the human being, make it extremely difficult for anyone to be able to reliably and repeatably pick the winning (or losing) investments. Investing is NOT like accounting or lawyering, two professions often cited as examples where the professionals' expertise produces better results that an amateur can do. These professions work within a body of knowledge, and a large one at that (which fact alone makes it impossible to do as well as the pro) which gives the pro the advantage. You can actually learn all that you need to guarantee success. Results are most always predictable according to the actions. Not so with investing. Having a Chartered Financial Analyst diploma (the gold standard of investing knowledge) and faithfully applying those methods does not ensure success.

[Part of the problem with discussing DIY investing is that financial planning gets mixed into the investment picking - the tax body of knowledge can influence net investing results and there the pros do have an advantage when things get more complicated. For the average RRSP Joe, things are likely so simple that a couple of high school courses on managing your money could suffice. The point is that financial planning ≠ investing.]

Some commentators like Nassim Nicholas Taleb in his book Fooled by Randomness, maintain that stocks and markets are essentially and inherently unpredictable and that therefore no one can presume to always beat the market. Less well known but far more informed and serious scholars such as Richard Lipsey, Kenneth Carlaw and Clifford Bekar in their opus Economic Transformations argue that society-altering technologies "cannot have unique pre-determined results"(p.16). At a macro level winners and losers cannot be predicted and so will that be the case at the micro level of the companies that develop and use the new technologies to make profits (e.g. Microsoft). With different conditions, it could have been Corel. It isn't hard to believe the plot device in Sliding Doors, where someone's whole romantic future depends on whether she catches or barely misses a subway train home.

The Necessity of Monte Carlo for Financial Planning

On Monday in my review of Preet Banerjee's book RRSPs, I praised his use of Monte Carlo simulation to project investment returns. Below is a simple illustration of why this is so important in financial planning. There is growing use of Monte Carlo in retirement planning but it should apply equally in the accumulation phase since you may not end up where you thought you might after 30, 40 or 50 years of saving unless you take this into account and implement some appropriate measures in your investing strategy. Using a straight 8% annual growth rate to project your investments may be grossly misleading!

Monte Carlo simulation more closely models the way the stock market actually works, where each year's return is different from the last and where some years are negative while most are positive. For a clearly written introduction to Monte Carlo, read this series of inter-linked articles on Investopedia. This where I got the basic example, which I have expanded a bit.

Click on the spreadsheet extract above and follow along. The examples all show investing for five years using different rates of investment return, either with an initial amount of $100 left alone for the five years, or with yearly contributions of $20.

In the upper left is Case 1, the Base Case. The left hand column of returns vary each year, more like the stock market, going up and down, while the simple case of the same return every year (here 10%) is to the right. Note first that for an initial investment of $100 left alone for five years, even when the arithmetic average of returns (simply adding up each year's return and dividing by five) is the same 10%, the fact that returns go up and down through the five years means the end result is quiet different - $161.05 for the constant growth rate and a lesser $157.32 for the varying returns. The real compounded rate of return (CAGR), which is the relevant return, is obviously less than 10%, it is actually 9.49%.

Cases 2 and 3 down the left side show that when the exact same set of yearly returns occurs in a different order (in fact it is only the minus 5% year in the red box that I have moved around), the average is of course still the same 10%. An initial investment of $100 always comes out the same at $157.32. In other words, the compounded return is still the same too. The pattern doesn't matter in these instances, though the amount in each year along the way is not the same in each case.

In Case 4 at the bottom I kept the CAGR/final amount constant (an investor of $100 at the start would still end up with $157.32) but made the yearly swings more pronounced. The arithmetic average for the years now goes up to 10.2778%. So much for the helpfulness of "average rates of return".

Things become more interesting when a more realistic investing pattern is added, in these examples the $20 per year. In all cases five years of investing $20 (total $100) begets less, much less, than $100 salted away at the beginning, no matter what the sequence of returns (well, it could be more if every year was negative). This another illustration of the oft-noted powerful effects of compounded returns. The same CAGR of 9.49% every year produces only $132.34 (table in the right-most column) after five years of investing $20 per year.

Isn't it interesting how the application of the varying pattern of returns to the $20/year contributions in case 1 produces more than the CAGR rate, namely $132.98, reversing the results for the same sequence of returns applied to the single initial investment? Modeling the real way that investment returns occur begins to acquire some importance.

Now comes the really fun part. Note how Cases 2 to 4 of the $20 contributions produce markedly different end total values. Cases 2 and 3 use the exact same set of yearly returns, only in different sequences. In Case 2, when the negative year of minus 5% happens earlier, the total value is appreciably higher. in Case 3, where it happens later than in the Base, the net is much lower. When you are investing on a regular basis the pattern of returns matters and it matters a lot!

In Case 4, the very same CAGR of 9.49% ($157.32) for an initial investment but with a broader range of yearly returns (I changed the last year to minus 10% then fiddled with the preceeding year till is gave me the same CAGR) creates an even lower value of $123.75. Wider market swings can be bad for your financial health. If on the other hand, the minus 10 occurred early in the sequence, the positive end result would be greater than any of the other. Bigger year to year swings magnify the possible end results up or down. They do not necessarily cancel each other out.

Crestmont Research has published a table and graph of the Dow Jones Industrial Average called Distorted Averages that illustrates the above principle with real data. Between 1900 and 2008 the DJIA had an average annual return of 7.0% but the compounded return was only 4.6%.

Since most people would say that an unexpectedly lower net result after a lifetime of saving in the accumulation phase or many years in retirement in the drawdown phase - think of it, would you rather be forced back to work at age 80 because you have run out of money or chance the pleasure of a round the world cruise at that age? - my suggestion is that big swings are more bad than good.

What can be done about it? Certainly one cannot control the market swings, the yearly returns. But one can control and reduce volatility to a fairly significant degree by diversification, that is picking a set investments that do not move in perfect unison - that are non-correlated, or better, negatively correlated. So, to the TSX or the S&P 500 equities we add things in a portfolio like international equities, bonds, real estate/REITs, and commodities. Take a look at my model portfolio at the bottom of this blog. Most holdings have gone down but my commodity DJP and international equity VWO are up a bit, while bonds in AGG are close to breakeven (it's only because of the rising C$ and the not-shown cash distributions I have received that they are not) and my Canadian bond ladder is up considerably.

Effective diversification may reduce returns by a little but it will cut volatility/risk by a lot. Check out this chart at IFA Canada to see how their portfolio approach creates the desired effect.

Another lesson from this simple example is that to the extent one can control retirement date, it is best not to do it in the middle of a big market downswing when investment net holdings could be driven down by a lot. Turning investments into annuities at that moment could lock in 30 years of retirement at a much lower income level.

Monte Carlo in actual financial investment planning use does not give a single deterministic answer of how much your portfolio will be worth after five or fifty years. Rather, it gives a picture of a whole series of possible outcomes, depending on which of many possible sequences of returns happen in the market or in your portfolio. Varying the assumptions about the expected return and the volatility produces ranges of possible outcomes, as shown in the graphs on this post on RRSP vs Mortgage in WhereDoesAllMyMoneyGo. You don't get certainty, you get realism with Monte Carlo.

Is Monte Carlo beginning to sound useful?

Two excellent articles with examples and explanation of the reasoning behind Monte Carlo simulation can be found at William Bernstein's The Retirement Calculator from Hell and William Sharpe's Financial Planning in Fantasyland. I found the links to these articles on the MoneyChimp site, always an excellent resource for learning about investing principles.

Figuring Out When You Are Going To Die: Life Expectancy

One of the biggest challenges of retirement planning and figuring out how much money will be needed, how much you need to save, is deciding for how many years you will need income, in other words, estimating when you will die.

This somewhat macabre exercise has become necessary with rising life expectancy and the decline in defined benefit pensions. The success of medicine, public health and improved nutrition in the 20th century is reflected in the vastly increased life expectancy of people in all developed countries like Canada, the USA and the UK. As Sherry Cooper outlines in her new book, The New Retirement (which I will review soon), when the retirement age of 65 was first introduced few people died much older than that. Even as recently as 1951 (for people my age that's recent!), this Maclean's article What's the Magic in 65? says that average life expectancy was 67 for men and 71 for women.


Those figures are far higher today and they are still climbing as the table below from the Statistics Canada website shows. Baby boys born in Canada in 2005 could expect to live to age 78, while baby girls would get to 82.7 on average. It is amazing to me that in a mere five years from the year 2000 to 2005, life expectancy would rise by 1.4 years for males. More pertinent for retirement planning, is that those men age 65 in 2005 could expect to live another 17.9 years, i.e. to age 82.9, while women would get to 86.1.


Three important points come out of this for retirement planning:

1. you can live many years in retirement - 20 or more years; and remember that's only the average so about half will live longer (? not sure how close the average age is to the median, which is the true dividing line in terms of half the number of people above and half below)
   
2. if you get to 65, there are more years left than you might have thought (most of the weak, the foolish and the unlucky have disappeared from the statistics)
   
3. the number of years you will live is still creeping steadily upwards, though there must be a limit somewhere we don't seem to have reached it yet

With respect to point three, this UK report from Which says that by 2050, men reaching 65 could expect to live to 91. Wow! ... update Feb.19 ... This is not a joke. In this BBC report Warning on Pensioners' Longevity, the Pensions Regulator is quoted as saying that pension administrators should assume men aged 65 today will live to age 89. Further on, the article quotes a pension consultant to the effect that many companies are not factoring in the extra longevity into their pension calculations. In other words, they are being too generous to pensioners today; the question will inevitably be "at what cost tomorrow?"

Point two surprised me. The older you are, the longer you can expect to live. It goes up steadily as this other table from Stats Can shows.

Since I am around 55 and if I retire I would need to plan for at least 25 years of income as a start. When I first did my retirement planning at my birth around about 1951, per the Macleans figures, I only needed to consider living to 67, or 12 years. This suggests a need to regularly re-evaluate retirement income plans upwards as one gets older. If you have died along the way that isn't necessary!

The story doesn't end there, however. Those averages can be refined. If you take care of yourself in various ways (being fit, not fat, drinking less, not smoking, eating food not processed junk, having a pet, mental stimulation, a neutral worldview, friends, cuddles for the women and sex for the guys) you will live even longer. The Sherry Cooper book recounts that taking care of yourself is especially effective in prolonging life expectancy when you get older.

How much longer you ask? What I could find on-line is sketchy and incomplete. Here is a UK report from Channel 4 that discusses the factors and provides some estimates of their impact. Then there is this life expectancy calculator from the University of Pennsylvania where you select your own circumstances from drop down boxes to get a prediction of your own life expectancy. You can use it to do trade-off analysis - if you like driving fast, how much is it worth in years to keep to speed limits? Should you bother sleeping more if that means missing that great late night poker show on TV? Trade-off pleasure for years ... shades of Dorian Gray! Another simpler calculator is at Death Timer. The Northwestern Mutual longevity calculator, based on US data, has a 12 question amusing quiz that shows how each factor adds or subtracts years as you answer each question. The Foundation for Infinite Survival (ambitious goal, huh?) has a lengthy and seemingly actuarily-founded life expectancy calculator too. Canadian Business' MoneySense offers this calculator for Canadians. Finally, you could simply predict your own death; if I understand this academic gobledygook by Siegel, Bradley and Kassel at Gerontology, it seems to say that people are pretty accurate in predicting when they will die.

What is needed:
Since the only way to know for absolute certain when one is to die is not palatable, something better is needed. As Moshe Milevsky pointed out in his book Insurance Logic, the financial challenge is to not run out of money, to mitigate the so-called longevity risk. I wish the discount brokerages or maybe our governments would put up a proper death calculator on the web to develop good individual estimates. This should include what is missing from all the above - confidence intervals, such as, "if your are 65 and you have the following charactersitics and lifestyle, your life expectancy is 81 years; there is 99% probability you will die by 87 years, a 95% probability of dying by age 85" and so on. Then we could plan effectively.

Alas, we cannot follow W. Somerset Maughan's admonition on WisdomQuotes: "Dying is a very dull, dreary affair. And my advice to you is to have nothing whatever to do with it."

Book Review: No Hype - Straight Goods on Investing by Gail Bebee

This is a brand new book from an unusual source - a person from outside the financial industry who is largely self-educated on investing. That brings about a few of the major advantages of this book: unbiased opinions and advice; a practical, direct, simple approach to a vast subject matter. Bebee does not shy away from saying when she feels a financial product is not worth it ( e.g. principal protected notes) or is worth the money.

With a length of less than 200 pages, there is not a lot of detail or explanation - the chapter on taxes and inflation is all of seven pages - but there is enough to get started and most often links and references on where to obtain further information. This book is ideal for a (Canadian) person new to investing, or someone like the author, a person who wakes up one day after years of inattention buying mutual funds by rote and decides to take control of his/her own investing destiny. After reading this book, such a person will also know whether he/she really wants to manage the DIY way or find a good advisor (and the procedure to do the latter is covered as well).

The writing style is accessible and understandable, the explanations straightforward and simple. It will appeal to those like my wife whose eyes glaze over at long-winded explanations, who say "never mind all the background, just tell me what to do".

The content covers the gamut of personal investing topics: education, financial advisors, brokers, complaints, DRIPs, wrap accounts, asset classes and allocation, stocks, bonds, mutual funds, ETFs, IPOs, fees and commissions, segregated funds, real estate, foreign currency, hedge funds, RRSPs, RESPs, annuities, retirement, RRIFs, LIRAs, a series of model portfolios, reviews and record-keeping etc.

I found myself agreeing with about 95% of Bebee's opinions and recommendations (either we are both stupid or both smart!) so I can confidently say no one will go far wrong just investing blindly the way she recommends. The major areas in which I disagree are that I don't believe in either market timing (e.g. I'm quite convinced there is a pretty nasty recession coming but I'm not about to sell all my equity holdings and put everything in t-bills - who says I'm smarter than the market, whose prices implicitly incorporate the average of everybody's expectations in that regard) or in technical analysis. There are also some non-critical quibbles about certain statements in the text but they can be the subject of some good blog postings. One I will mention immediately, however, is that she doesn't identify blogs as a worthwhile source of investing information and views - harrumph! ... Update ... apologies to the author, as she pointed out to me in an email after this post was originally published, there is a mention of blogs as a source of investing information on page 23, though she doesn't say and it would be interesting to know which ones she recommends or likes.

My rating is four out of five stars. Buy it at the author's website at www.nohypeinvesting.com, or at Chapters/Amazon.

Have a look at Jonathan Chevreau's interview with Gail Bebee, part 1 and part 2.

Retirement Sense and Nonsense from Fidelity Investments

Yesterday, journalist Jonathan Chevreau published an article and a blog post about a report just released by Fidelity Investments Canada, available here under the title The Changing State of Retirement in Canada, which claims that Canadians need to aim to replace 80% of their pre-retirement income in retirement. The post and article do a good job debunking the nonsense aspect of the report, namely the 80% figure, which is too high for a number of reasons:

• in their fifties, most people finish paying off their mortgage and their kids finish school/university, get a job and move out, all of which significantly reduce the expense side of being able to ''maintain the same comfortable lifestyle'', a fact not addressed in the report
• that this is so may be indirectly reflected in the report's survey results, which showed that the 55+ age group are on track to have a significantly higher ratio of income replacement - i.e. I would guess they suddenly started to be able to save at a much higher rate and decided to do it
  
• since when does need = comfortable? comfortable is perhaps a worthwhile goal but it shouldn't be presented as a minimal/hardship level of income
  
• other sources of retirement income are discussed but dismissed - home equity (a much more prevalent form of retirement income here in the UK than in Canada), inheritances (where are all those billions in the preceeding generation to disappear to?) and working in retirement; Fidelity documents the fact of people over 65 (17.8% of those in that age group) continuing to work (primarily because they enjoy it) but doesn't factor that into its calculation of retirement income

Along with the nonsense, there is much sense in the report and several recommendations worth heeding.

• for individuals: 1) Save!! (duh, but how many people actually don't do it); 2) Plan - try to figure out and budget what you will need, which gives you much more confidence than any rule of thumb, whether it be 80, 70 or 60% income replacement rate; 3) Learn about finances and supplement this with help from a professional planner if you find it overwhelming, to which I would add make sure he/she is a good, unbiased, fee-based planner
• for government, employers and the financial services industry: public education, including through the school system; higher specialized training and skills related specifically to retirement amongst planners as often there is too much emphasis on the pre-retirement, accumulation phase of investing and planning
  

Consultants Advise on Ways to Pluck Us Financial Chickens

Came across this fascinating study by the hot-shot consulting company McKinsey as publicized in a pr piece on the CTV website. The study discusses retirement anxieties of consumers in the United States, at least some of which one might presume would also hold true in Canada, and suggests ways for the financial industry for ways to either better serve us consumers, or if you have a suspicious outlook, to pluck more of our money. It's interesting to see how the industry looks at us consumers.

The report contains this too-true observation about the financial industry, which is almost certainly also the case in Canada and probably the UK:

'' ... our research uncovered a widespread belief among consumers that
financial advisors are primarily interested in "pushing products," as opposed
to providing unbiased retirement advice, and are placing their own
compensation objectives above the interests of their customers.''

It says that comprehensive (holistic and integrative covering all the financial elements not just one at a time), high quality (knowledge of products and alternatives) and neutral/unbiased advice is lacking, with the exception of independent financial advisers. The attached chart from the McKinsey report is spot on as far as I'm concerned. Let's hope that financial companies take the analysis to heart and improve those dimensions of their current offerings. The thought struck me that the report doesn't say anything about the Internet and bloggers - perhaps the growing popularity of such information channels partly reflects the inadequacies of the financial industry.

The recommendations include simplifying offerings but then gives an example of a structured product that sounds much like index linked GICs, something that is generally not a good deal for the investor. Simplification is a laudable aim but it should not be a cover for products that raise costs for the consumer and extract more hidden fees and commissions. One major recommendation is to push reverse mortgages as a way for retirees to stay in their homes while using some of the equity to fund retirement. If that is to be the aim, the high costs of reverse mortgages would have to come down.

Book Review: The Canadian Retirement Guide by O'Donnell, McWaters and Page

The Canadian Retirement Guide, published in 2004, aims to be a comprehensive handbook on aging, retirement, care-giving and health by setting up ''... a process by which we can plan for retirement as a family, taking into consideration the retiree, the spouse and those who depend on them''. The book is like a 298 page checklist of questions to answer, of issues to consider and of situations that may arise as one gets older. The net effect is to raise awareness rather than to offer enough information to develop a solution. Particularly in the legal and financial sections, there is the constant refrain, ''go consult a specialist'', and indeed, there are thirty pages of appendices with checklists of information to prepare to meet with a financial advisor or lawyer and questions to ask of them. There is almost no reference information to specific books or websites that provide further detail on the topics covered. This book is somewhat like the old joke about statistics: statistics are like a bikini - what they reveal is interesting, but what they conceal is vital.

Here is a typical example of the level of depth and manner of treatment of subjects. Regarding sex, ''While sexual activity does tend to decline with age, there are tremendous individual differences. Chronological age isn't the critical factor in sexual activity or physical intimacy. Neither age, nor illness, nor dementia necessarily diminishes or extinguishes sexual desire. It's a normal and healthy part of of being human, at all stages of life.'' That's it - no further references, no further mentions throughout the book. Would that be helpful to you?

The book is written by a team of authors, each evidently handling specific chapters in their area of expertise: Jill O'Donnell, a gerontologist and registered nurse; Graham McWaters, from a major financial institution (un-named); John Page, a financial planning advisor and holder of the Certified Financial Planner certification which I mentioned in my recent post on financial planners in Canada; with contributions from Rev. Dr. George McClintock, a United Church minister who specializes in the pastoral care of elders (I don't know why but that word elder grates on me), Barbro E. Stalbecker-Pountney, a lawyer with special interest in elder issues and estate practice, Philip Crawford, an undertaker, and finally, Rick Page, another financial planner (but minus the CFP).

Subject Matter Covered

• growing older and life planning, personal mission statement (yup, they use that corporate jargon)
  
• health of body and mind, stress (unfortunately, neither pets, nor sex are prescribed as stress-relievers!)
• housing situations - house, apartment, retirement homes, living with family
• relationships with family, second marriages
• legal - wills, power of attorney, trustees, executors, family law
• death - funeral, burial, cremation
• care giving and dementia
• financial planning (about half the book) - financial plan, investments, diversification, risk, life & disability insurance, taxes, pensions, estate, annuities, reverse mortgages, financial advisers
  

Quotes

• ''... the longer you live, the sooner you are going to die.''
• ''If a family member's irritating habit is not destructive, try not to worry about it.'' (p.80) (of course, this stress-saving tip only applies to older folks ... ;-)
• ''A will speaks for you from the grave; powers of attorney speak for you from your hospital bed.''

Surprises

• most old, retired people, oops sorry ''elders'', live independently; less than 10% are in care or homes (p.66)
  
• a person who is paid to care for someone may not legally have power of attorney for that person (p.86)
• a guardian outranks someone with power of attorney (p.87)
  
• under family law, if you have supported someone, the obligation to continue the support will survive your death ... in other words, your cannot put whatever you please in your will and expect that it will happen, the courts may over-rule what you say (p.93)
  
• along the same vein, your executor is not legally bound to dispose of your household and personal assets as per your will (p.91)

My Take Away Action Points

• pre-pay up to $15k in funeral expenses, known as an eligible funeral arrangement (EFA) in tax-code speak, to a funeral home for funeral expenses; interest on the $15k, which is invested in GIC, is tax-free (p.105)
  
• continue writing this blog for mental stimulus, since it is not known if Alzheimer's is caused by genetics or whether deliberate mental activity can stave it off (p.142)
  

There are certain inaccuracies or mis-wordings in the financial sections that diminish the usefulness of the information, for it does provide a reasonable introductory over-view. For instance, this statement, ''If your portfolio were 100% fixed-income and interest rates dropped, your whole portfolio would suffer. '' Huh? If interest rates drop, then the market value of existing fixed income holdings would RISE and the value of your portfolio would increase, which is the opposite of suffering. Probably, the author means that over time as the fixed income investments matured and needed to be reinvested, the income stream from interest payments would drop and that would cause suffering for a retired person who lives off that income. That's exactly what happened through the 1990s. Unfortunately there are a number of other instances of sloppy language. Was there peer-review prior to publication that might have helped clear these up?

Many thanks to Mike at the publisher Insomniac Press for supplying a copy of the book for review.

My rating: 3 out of 5 stars.

You can buy it at Chapters.

Financial Advisers and Planners in the UK

Just as I was about to write this post on finding financial advice in the UK, a family member pointed me to the famous MoneySavingExpert website. It turns out that it has a great primer on that very subject. Part 1 is advice on when to use an adviser, how to find a good one and how to pay, while part 2 covers picking and paying for an Independent Financial Adviser (IFA).

While generally excellent and quite comprehensive, part 1 needs to do better than this comment about seeking Investment advice:

''While research helps, there's always an element of gambling when it comes to investment picking. If you go it alone, you get a head start because, do it right, and there are no charges (read Discount Brokers article). So the IFA has to pick substantially better than you to make up this difference.''

If one looks at investing as gambling, then one is likely to have the same success rate as gambling. The ''do it right'' is exactly the problem. Individual investors too often do it wrong (see Richard Deaves' book What Kind of Investor Are You? for citations of studies that prove this). The website does correct this bad piece of advice somewhat with the last comment, ''... planning, structuring and timing investments for events (e.g. funding university fees) can be very complex and here IFAs can come into their own.''

It's not just for events, however. It's all the time when investing. Much better would be a statement like this: ''Unless you understand, or are prepared to spend the time to learn, aspects of investment such as financial analysis, portfolio theory, diversification, risk and return characteristics of various investment alternatives, then getting the advice of an IFA is a good idea.''

In part 2 under the ''what qualifications do you have?'' question to ask a prospective IFA, it does not but could mention that the Certified Financial Planner designation offered by the Institute of Financial Planning offers almost the same extra qualifications as the Chartered Financial Planner mentioned - completion of the renamed AFPC (the new name is the Diploma in Financial Planning, but many planners still use the old term). To find a CFP in the UK here is the IFP's search tool.

There are also a number of other advanced qualifications, all approved by the Financial Services Skills Council, the body authorized by the national UK regulator the Financial Services Authority, to set and maintain qualification standards for anyone wishing to offer financial advice. The good thing about the regulatory set-up is that anyone offering advice may not pretend they have competence when they don't - if they haven't the necessary approved qualifications, they should refuse your business.

The FSSC-approved courses are offered by various bodies:

• Securities & Investment Institute - SII
  
• UK Society of Investment Professionals - UKSIP
  
• Chartered Insurance Institute - CII
  
• Chartered Institute of Bankers of Scotland - CIOBS
  
• IFS School of Finance - IFS
  

Some of them are:

Mortgages

• CeMAP and Advanced CeMAP (which adds competence in commercial mortgages and lifetime mortgages) (IFS)
  
• CeLM - Lifetime Mortgages (IFS)
  
• CF6 - Certificate in Mortgage Advice (CII)
  
• CF7 - Certificate in Lifetime Mortgage Activities (CII)
  
• MAPC - Mortgage Advice Practice Certificate (CIOBS)
  
• LMAPC - Lifetime Mortgage Advice Practice Certificate (CIOBS)
  

Taxation and Trusts

• G10 (old code but commonly used still) Taxation and Trusts; now, J01 Taxation and J02 Trusts or AF1 Personal Tax and Trust Planning seem to overlap and match G10 (CII)
  

Pensions

• G60 (old code) Pensions; now J05 Pension funding options and J06 Pension Income Options or AF3 Pension Planning provide this (CII)
  
• CF9 Pension Simplification (CII)
  

Insurance

• CF* Long Term Care Insurance (CII)
  

Investments

• G20 (old code) Personal Investment Planning and G70 Investment Portfolio Management; now replaced by J06 Investment Principles, Markets and Environment and AF4 Investment Planning (CII)
  
• CertIM - Certificate in Investment Management (SII)
  
• IMC - Investment Management Certificate (UKSIP)
  

Though it is not as breezy and informal as the MoneySaving Expert material, the Financial Services Authority itself has an excellent guide to finding financial advice. You can't get the rules, restrictions and rights wrong when the word comes from the horses' mouth. The last few pages of the guide includes a whole raft of financial organizations and websites, both government and private, on a very wide range of financial topics for consumers. A one sentence blurb says what each has to offer. The FSA's own consumer advice website called Moneymadeclear includes excellent material on savings, investments, mortgages, insurance, credit cards, loans, pensions and retirement, including calculators for mortgages, pensions, budgets and a product comparison tool for annuities (prices are not right up to date apparently), mortgages, savings accounts, ISAs and investment bonds.

Ins and Outs of Using a Financial Adviser in Canada

For some people the DIY approach to planning personal financial matters may not work, whether due to a lack of time, interest or knowledge. Many of my friends and family would rather do something else with their time than read up on tax laws, figure out investment alternatives or construct spreadsheet calculations to figure out if they will have enough to retire and not be sleeping under the bridge at age 75. That, I have to admit, is the reality, even when substantial improvements can be effected with the simplest actions - witness the large percentage of people who don't contribute to their RRSP ever year.

On top of that, it seems that the challenges of effective personal planning are growing. Financial instruments are getting more numerous and complicated while governments are always adding benefit programs and laws (funny how they rarely seem to be eliminated). Convenient and simple defined benefit pension plans are in decline and people are forced to provide on their own for their financial retirement future. In short there is a case and a place for professional help in personal financial planning.

So, for those people, I've taken a look at the professional financial planning situation in Canada (and will do so for the UK in a separate post; there are some interesting contrasts). I was hoping it would be a quick look, but unfortunately, there is a plethora of more or less overlapping and confusing titles and designations. Advocis, the financial planners of Canada's association, has an abbreviated list on its website. Here's an even longer list that includes US designations. Some of the titles are downright hilarious for their bombast and pomposity, e.g. the Chartered Professional Strategic Wealth or their careful political correctness e.g. Elder Planning Counselor. It is quite possible I have not uncovered all the possibilities despite several days of searching on the Internet! A good article from the Ontario Medical Association reviews the function of a planner and some of the alternatives out there.

The people with formal designations does not even cover the field since there is no regulation of financial planners in Canada, apart from the province of Québec (see L'Autorité des marchers financiers for their rules about what is required of a financial planner), to restrict those who can call themselves financial planners. Canadians shouldn't feel too bad since there is apparently no regulation of planners in the USA either. Note that such regulation in Canada would happen province by province due to the idiotic and laughable lack of a national financial and securities regulator. There is, however, across-the-country regulation of the provision of advice with respect to investment in securities. For instance, the Ontario Securities Commission regulates anyone who is what they term an Investment Counsel ''... in the business of advising others as to the investing in or the buying and selling of specific securities ... on the basis of the particular objectives of each client'' or a Securities Adviser '' ...in the business of advising others either through direct advice or through publications or writings, as to the investing in or the buying or selling of specific securities, not purporting to be tailored to the needs of specific clients.'' (see this page for details) Such people must register with the OSC, pass formal specific educational courses like the Canadian Investment Manager, the Chartered Financial Analyst and go through several years of supervised work experience. The Ontario Securities Commission has a database of people registered to work (in Ontario only) along with the type of services they are authorized to provide. The National Registration Database has a contact list of all the provincial and territorial securities regulators through which one can find out who is authorized to provide similar services in the other provinces.

The Canadian Securities Administrators website has a handy guide that explains what is and is not regulated in Canada. The guide also explains the difference between advisers in investments, sales people for mutual funds or insurance and financial planners. The essence of a financial planner is the ability to incorporate all aspects of a person's financial situation - income, budgets, investments, taxes, mortgage, investments, insurance, trusts, pension, retirement - into a coherent, balanced integrated plan that supports the person's life goals. The planner is somewhat akin to the general practitioner / family doctor. Some simple or common situations are treated directly, but it may be necessary to call upon specialists.

Financial planners have been trying to raise their occupation into a profession like that of accountants and lawyers. That's the stated aim of Advocis and the Financial Planning Standards Council (FPSC). To do this, they are setting requirements for education, experience and ethics, which seems to me to be a good thing, though I think there is some improvement to be made in the actual requirements as they exist today. This recent article in Investment Executive reviews the current status of the professionalization efforts.

The Certified Financial Planner title granted by the FPSC appears to be the designation with the most adherents in Canada (almost 17,000 according to the FPSC). As an apparent tactic to gather all planners into its fold, the FPSC accepts a multitude of training courses and other designations as adequate proof of meeting the educational requirement. However, everyone must still write the FPSC's CFP exam. That's a good step, I believe since it ensures everyone has the same knowledge base. The problem may be the depth of knowledge. If one starts from scratch with the Advocis course, there is perhaps 300 hours of study to pass all the courses. That's not much compared to what professionals like doctors and lawyers have to do. The fact that most of the education programs for the CFP are offered by community colleges attests to the fact that the assumed level of knowledge is not university degree level. When I look at the curriculum covered for investing ''Module 1: Time Value of Money Fundamentals'', '' Module 16: Investments - Products'' and ''Module 17: Investment Planning'', it looks pretty basic. I doubt very much it covers even a fraction of the content of the standard university level text on the subject, Investments, the 900 page tome (5th Canadian edition) by Bodie, Kane, Marcus, Perrakis and Ryan.

I can understand the challenge of the FPSC and Advocis in not reaching too high on the educational ladder, as such insistence would cause a revolt among practising planners who would have to go back to school in a major way. There's also the fact that planners can do a whole lot of good for people applying those basic techniques and strategies. I've certainly noticed that amongst my friends and relatives. The on-going requirement of 30 hours professional development per year that FPSC requires to maintain the CFP helps raise the level of knowledge somewhat.

Truth be told, other designations look quite similar in their educational requirements, so the above comments don't mean CFP is deficient. In fact, the CFP seems to be better in protecting the designation by policing its members and disciplining transgressors as seen on the front page of the FPSC website. I could not find any such indication of policing on the Institute of Canadian Bankers website, which hosts the competing designation, the Personal Financial Planner. Nor is there any mention of continuing education obligations to keep the PFP. The same goes for the Financial Management Advisor of the Canadian Securities Institute.

The CFP is the best of the lot but it has another element where it could use improvement. That relates to the disclosure of fees. A CFP is not necessarily a fee-only adviser, which is the most impartial type in my view - you pay only for the advice, no commissions or fees paid by mutual fund companies. In other words the adviser is totally on your side and has no incentive to have you buy anything, if that isn't good for your financial health (I'm thinking especially of insurance and mutual funds). I don't know what proportion of advisers in Canada are fee-only but it must be a small minority (see this discussion on the Financial Webring regarding the challenges of being a fee-only adviser) since the fact that the client does not actually see the commissions being paid in the background creates a psychological preference for that type of arrangement. All this to say this - although the ethics policy of the FPSC requires that the CFP disclose on what basis the adviser is being paid under rule 401, it does not, but should, require disclosure of the amount of the commissions and fees paid to the adviser by the companies. It is interesting that the consumer advice section of Advocis in its recommendations of questions to ask a potential adviser before signing up, says you should ask ''Can you give me a dollar estimate of what those fees and costs would be for someone with my needs?'' Why not require that disclosure of a CFP then?

Overall, the CFP seems a reasonable place to start. Advocis provides a search tool to locate an adviser, oops, advisor (why can't they even agree on a spelling!?). However, the key is to find someone on your wavelength and whom you can trust.

UK Portfolio - Part 2 - Principles & Constraints

Before taking any actions and making any decisions regarding the revamping of the portfolio of my UK friend, it is important to spell out the principles and constraints that will drive the portfolio and its management for the indefinite future. So here they are:

KISS (Keep It Simple Stupid) - The over-riding organizing principle is that the portfolio and its on-going management should be as simple as possible. In the immortal words of Albert Einstein who seemed to have mastered KISS with his famous formula, "Everything should be made as simple as possible, but not simpler." Simplicity is in keeping with the desire of the person owning the portfolio to not spend large amounts of time on managing it. The principle will also enable the owner to understand and to track the portfolio and to make the changes without intervention by anyone else.

Consistent with Financial Theory - The portfolio should accept and adhere to the results of the massive amount of financial research, i.e. that is scientific and generally accepted, conducted in the last 80 years. Perhaps this is too obvious to state but it dictates that market timing be avoided and that diversification be pursued. A standard finance textbook like Bodie et al, Investments, is a good source for seeing what is generally-accepted.

Passive Investing with Index ETFs or Funds - The portfolio will therefore take a passive investing approach, rather than active management, and this includes avoiding ETFs or funds that have active managers. Financial theory says that one cannot and should not try to beat the market so buying the market in the form of funds that track the market is the way to go.

Low Number of Holdings - Too many different holdings will add to confusion and will make it more cumbersome and difficult to do the required re-balancing, especially across the four account types that will need to be used for tax reasons. On the equity side, that arbitrarily will mean no more than ten holdings. This factor is less important than the diversification requirement, which is at the heart of the portfolio approach. Thus, if effective diversification had required more than ten holdings, the number would have to be bumped up. Fortunately, this is not the case. There was a certain iterative process I found in doing this whole exercise where the initial objectives and principles needed to be reviewed and somewhat revised when later steps showed something didn't work quite right and slightly revising an earlier decision made it all fit better.

Implementable / Investable - A good example of this iterative revision happened when I tried to later on find the actual ETFs/funds to purchase for the portfolio and discovered that the UK doesn't have anywhere near the depth and breadth of choices in ETFs or low-cost funds that a Canadian can buy in the US market. UK discount brokers generally don't offer the ability to buy such US-traded funds, with the result that some particular holdings like international value and small cap ETFs are simply not readily available to UK investors. I eventually did come across TD Waterhouse UK, which does offer an account that enables full, direct access to US exchanges (NYSE, Amex, NASDAQ) but by then implementation had already started with another brokerage and it would have been a lot of bother to back and start over. It has been said many times that an imperfect plan properly executed now is better than a perfect plan next month.

Long Time Horizon - The investment assumption for the most part is an investment horizon of many years, twenty or more. That's because the person has a salary more than adequate for today's needs, and a pension that will be sufficient to live off without this portfolio's profits. It will be possible to be patient to ride out the inevitable downs of multi-year equity market dips. As Moshe Milevsky notes in his books and articles, time in retirement can easily reach 25-35 years so that's a good investment planning horizon for this person. The reference to the "for the most part" is the possibility that there will be a desire to help out a child financially, for example, to assist making a housing purchase in the very pricey UK market. That explains why in the preceding Diagnosis post, a fairly high allocation in liquid cash was deemed ok.

Tax Minimization - This is a goes-without-saying objective. A guaranteed tax saving is like an extra risk-free return. Not paying 20% tax on interest-bearing investments increases the after-tax net return by that amount. Putting money into tax-exempt accounts/plans like an Individual Savings Account (see here for how they work) or holdings, like tax-exempt bonds (see National Savings and Investments) within the overall portfolio plan, will be pursued in the revamping.

Cost Minimization - Perhaps not as obvious as minimizing taxes, but paying high annual fees on the 1.5% on the existing funds is to be avoided if possible. A target would be 0.5% as desirable and under 1% the maximum. It has been shown that, on average, higher cost funds produce lower returns for the investor (though I cannot find the link as a reference at the moment). The same goes for brokerage account management and trading fees, though the impact is less (unless one would go to a full service broker who charge a percentage of the assets held). A simple portfolio that can be self-managed on-line lends itself well to lower cost discount brokerages.

Annual Re-balancing - The portfolio will be re-balanced once a year in mid-April. The asset allocations will be re-stored by selling and/or buying the same ETFs or funds already in the portfolio. If there is only a small deviation of the order of less than 1% from the total portfolio target a holding will be left alone. The annual re-balancing frequency has been chosen because research such as here at the Journal of Financial Planning and here at William Bernstein's website indicates it gives close to the best investment results vs risks. Once a year, after tax year-end of April 5th here in the UK, is a convenient time to move investments or put new money into the tax-exempt ISAs. Finally, it becomes a file-and-forget item that makes it easy for this well-organized person to schedule into the agenda.

Diversification - The single most critical element is that the portfolio will seek diversification benefits of higher returns and lower volatility. This is accomplished by selecting holdings that are either uncorrelated or negatively correlated with each other (see explanations such as IndexInvestor.com, and William Bernstein, linked above plus books like that of Richard Ferri which I previously reviewed). This apparently is not an exact or perfect science since such correlations vary considerably from year to year and for many years diverge from long-term averages but the benefit is very considerable over long time periods when such variations even out (thus the importance above of adopting a long planning horizon). That means acquiring holdings among equities in real estate, in small cap companies, in value (i.e. measures of "cheap stock price" according to accounting stats) companies and in international markets.

UK Portfolio Revamp - Part 1 - Diagnosis

Recently I have spent considerable time helping a UK friend restructure an investment portfolio and thought it might be of interest to talk about how I've gone about it. Maybe someone out there would have good ideas on what else can be done.

The spreadsheet image displays the portfolio as it was about a month and a half ago, the "before" shot. This was a portfolio that had evolved by happenstance - an advisor or someone from the bank would recommend an investment, money would be put in and then forgotten, the statements being merely filed away as they arrived in the mail. The person has had, and continues to have little interest in managing the investments ... a factor that will play into the re-design as a strict KISS principle. Anyhow, my observations of the portfolio were as follows:

Equity vs Fixed Income vs Cash - the 56% in equities overall is not unreasonable, well within the range of 25 to 75% equity allocation that I think, along with many financial luminaries, is reasonable, The person is very cautious and a lower equity allocation makes sense for now. Maybe down the road that could change but there are more pressing things to fix. The life insurance components, which I have called "savings", guarantee a certain return when they mature and function more or less like fixed income. The percentage in "cash" is too much above foreseeable needs and more than a six month cushion even. The person's employment benefits and salary provide a lot of protection for unforeseeables and things like health emergencies. In the larger scheme, later the person will also benefit from an inflation-indexed pension, providing a constant guaranteed cash flow through all of eventual retirement. That means equity volatility can be endured without actual reduction in lifestyle.

Taxes - Taxes are a considerable problem area. Way too much is being paid. The bank cash deposits are generating something like 2.5-3.0% interest before tax and the 20% tax means the net return is below inflation, meaning there is a net on-going loss in purchasing power. There has been no investment in tax-exempt accounts like ISAs (similar to Canadian RRSPs, except that the withdrawals are never taxed and the annual limits are lost if not used each year). The same un-necessary tax burden applies on almost all the equity investments - nothing has been put into equity ISAs except the PEP accounts, a precursor to ISAs that haven't been available for years.

Fees - The equity investments are all in the UK version of mutual funds, called OEICs, and the annual management fess of 1.5% are a drain on the returns. UK fund managers are no less immune to the oft-observed under-performance of the majority of actively managed funds than those in Canada or the USA. It is amusing to note that the retailer Marks and Spencer offers funds, which would be like The Bay doing so in Canada! Hey, why not Mcdonalds too!

Diversification - Despite their very different sounding names, all these funds hold UK equities and if one looks at their holdings, the same large company names appear over and over - HSBC, Royal Dutch Shell, Royal Bank of Scotland etc. Only the proportions seem to differ from fund to fund. In other words, there isn't any real diversification, they might as well be one holding. There is nothing international, there are no small company holdings, there is no real estate.

So the table is set for the next phase. asset allocation within the broad groupings. Stay tuned.

Book Review: All About Asset Allocation by Richard Ferri

Author Richard Ferri delivers what the subtitle of this compact (300 pages fairly large typeface) book promises: "the easy way to get started". It's a fine introduction that explains what asset allocation is and why it is so important to investment success for the average individual investor. It then shows in straightforward, practical terms exactly what to do, right down to listing the funds that one can choose to form a portfolio according to the asset allocation principles. The words I use to describe this book - "simple, practical and introductory" do not mean this is a dumbed down version or lacking in the theoretical grounding of modern finance.

Asset allocation is a very sure method for an average investor to ensure unspectacular but steady investment results with risk that is well managed through effective diversification. And it requires a minimum of time to maintain once the initial set up is done. As Ferri says: "Asset allocation eliminates the need to predict the future direction of the markets and eliminates the risk of being in the wrong market at the wrong time." (think technology stocks in 2001/2002) The fundamental concept of asset allocation is that different sorts of investment assets do not go up or down in sync. That property, and that property alone, allows one to combine those unconnected types of investments into a portfolio that both raises investment returns and reduces risk. That is true diversification, as opposed to the common misconception that merely having many stocks accomplishes diversification. The holdings required for real diversification and asset allocation, as it turns out according to Ferri, should include European stocks, Far East and Asian stocks, Canadian stocks (for natural resources), Emerging market stocks, US small company stocks, US total stock market, US value stocks, real estate and fixed income. Within the fixed income part of the portfolio, he recommends diversification as well, noting that this is often overlooked by financial advisers. Accordingly, he advises holding a combination of a total US bond market fund, US Treasury inflation-protected, US high-yield corporate bonds, Emerging market bonds and US municipal bonds. All of these stock and bond holdings he says are best obtained through low-cost index funds or ETFs, because of their market representativeness of the asset class, their savings on fees and their ease of re-balancing. What is reassuring is that in each case, he establishes through a review of the correlation of returns that there is indeed worthwhile non-correlation with other classes which creates a diversification benefit.

The book is structured into thirds. The first part lays the foundations and the principles that serve throughout - how risk works, how asset classes are determined, how diversification results from non- or negative-correlation, the importance of re-balancing. The second part examines each asset class mentioned above in turn, analyzes the correlation characteristics of each, including the possibility of alternative investments such as fine art, wine, collectibles. I very much like the fact that he addresses home ownership and finds it to be a worthwhile investment though he concludes that it cannot practically be part of an asset allocation investment strategy since one cannot re-balance when necessary by selling a part of one's house. The final third is devoted to discussing historical rates of return and variability/risk, building a portfolio adapted to one's real risk tolerance (as opposed to the over-estimate of risk tolerance most people apparently display when encountering a market downturn), dealing effectively with taxes, investment fees and financial advisers.

This is quite a complete book ... for US investors, for that is his audience. Canadian and UK or other non-US investors have to take the principles in hand and assume that the same kind of asset class relationships exist elsewhere. If I were to adopt his actual recommendations and invest mostly in US holdings, I would be incurring significant exchange rate risk of the Canadian dollar versus the US dollar. Mr Ferri only briefly notes the existence of such risk but does not recommend doing anything about it. Will re-balancing fix that problem? It would be better to see an explicit discussion and recommendation within the book.

Another recommendation that Mr Ferri does justify in a bit more detail but it could still do with more in my opinion is that re-balancing of the portfolio be done annually, as opposed to more or less often, or according to thresholds of departure from the target allocation percentages.

The presentation of the book is excellent. There are lots of helpful tables and charts, there are chapter summaries and key points, there are references and extra readings and a glossary of terms. The writing is clear, grammatical and engaging. Most useful of all and a great time saver, is a list of potential funds (from among the thousands available), at the end of each chapter.

Overall, this book could do the job perfectly well for a US investor. For Canadians and others, we need a "foreign" version, Mr Ferri but I still recommend it to everyone.

You can find another review of this book at the Chartered Financial Analysts Institute.

Buy this book at
chapters.indigo.ca

Excellent Personal Financial Planning Primer

The Financial Webring is already bookmarked on the right hand side of this blog as a discussion forum but I've discovered it also has a fine brief primer on personal financial planning. The advice is direct, understandable and sensible. It covers all the main areas one needs to be concerned with, namely:

• Day to day finances (budgeting, expense control, mortgages, other debt, emergency funds, etc.)
  
• Insurance (life, health, disability, property)
  
• Taxes (exemptions, deferrals, income splitting)
  
• Investments (asset allocation, security selection, risk management)
  
• Retirement (pensions, RRSPs, RRIFs, annuities, etc.)
  
• Estate (wills, powers of attorney, use of trusts, planned giving, etc.)

There are very useful links to further reading. Like everyone, there are areas in which I am fairly knowledgeable and others where I can use some improvement so the page is a good launching point for further investigation into those weak areas.