Tuesday, 24 July 2007
No, I haven't given it up.
Yes, the first week of July has come and gone with no new postings, but I will be back soon. Having been through the terrorist attack in Glasgow, a Canadian championship in highland dancing and a daughter's wedding, financial issues have fallen to the bottom of the priority list. Still managed to read one very good book (What Kind of Investor Are You? by Richard Deaves) which I will review in depth shortly.
Tuesday, 3 July 2007
Thursday, 28 June 2007
BMO Investorline and Foreign Exchange Trades in Registered Accounts
Little did I know when making this post complaining about BMO's policies regarding foreign exchange rates when buying and/or selling US securities in a registered account that much has already happened.
First, there was the $100 million dollar class action lawsuit launched back in August 2006 against BMO claiming that BMO has illegally forced customers to change foreign currency from Canadian dollars into US dollars or vice versa in registered accounts since June 2001 when the tax laws changed and began allowing foreign currency to be held in such accounts. You can register with the lawyers Paliare Rolland to be kept informed of the case's progress. Or you can sit back and keep an eye out for news, or just wait - I'm betting years - for a letter from BMO or the lawyer, saying the case has been settled for x amount and here is what you get.
The second development is the internal memo issued by BMO and reported by the Toronto Star in April this year to allow clients who trade in and out of US dollars on the same to take a single exchange rate for both the buy and the sell and thus avoid the buy-sell spread and/or any fees for the conversion. There is also a lower fee structure - down to 75 basis points (0.75%) or 70 basis points for all you folks who have trades over $30million. There isn't any notice or warning on the website about this situation, so BMO clients be aware - you must phone and ask for the single rate out of and into US dollars.
Maybe someday the big bank brokerages will manage to convince their software supplier to make the necessary changes to the program they all use in common to manage registered accounts. Apparently the bottleneck is the software and the supplier just won't change it (no it isn't Microsoft). Those of you at all familiar with the world of IT will not laugh and scorn but will quote the old saying, "God could not have created the world in seven days if he had had an installed base." Some who have had similar experience with the bugs that follow on new versions of software might just wisely note, "be careful of what you wish for, you just might get it."
First, there was the $100 million dollar class action lawsuit launched back in August 2006 against BMO claiming that BMO has illegally forced customers to change foreign currency from Canadian dollars into US dollars or vice versa in registered accounts since June 2001 when the tax laws changed and began allowing foreign currency to be held in such accounts. You can register with the lawyers Paliare Rolland to be kept informed of the case's progress. Or you can sit back and keep an eye out for news, or just wait - I'm betting years - for a letter from BMO or the lawyer, saying the case has been settled for x amount and here is what you get.
The second development is the internal memo issued by BMO and reported by the Toronto Star in April this year to allow clients who trade in and out of US dollars on the same to take a single exchange rate for both the buy and the sell and thus avoid the buy-sell spread and/or any fees for the conversion. There is also a lower fee structure - down to 75 basis points (0.75%) or 70 basis points for all you folks who have trades over $30million. There isn't any notice or warning on the website about this situation, so BMO clients be aware - you must phone and ask for the single rate out of and into US dollars.
Maybe someday the big bank brokerages will manage to convince their software supplier to make the necessary changes to the program they all use in common to manage registered accounts. Apparently the bottleneck is the software and the supplier just won't change it (no it isn't Microsoft). Those of you at all familiar with the world of IT will not laugh and scorn but will quote the old saying, "God could not have created the world in seven days if he had had an installed base." Some who have had similar experience with the bugs that follow on new versions of software might just wisely note, "be careful of what you wish for, you just might get it."
Monday, 25 June 2007
The Slippery Meaning of "Value" in ETFs and Indexes
Investing in Value stocks through an ETF brings diversification and higher returns to an equity portfolio. That has been proven in finance research published by Fama and French in their famous three factor model of stock returns, available in all its mathematical glory at the Social Science Research Network. The implications for investing are explained in english language at the Index Fund Advisors.
As the old saying goes, there's many a slip between the cup and the lip. When the research-proven notion of Value, which is simply that the price of a stock is cheap based on the ration of the stock's market price to the company's book value (p/b)(book value is simply assets minus liabilities in the financial statements), the meaning of Value gets transformed and expanded by index providers. Index-based ETFs need to have a reference index and they take them from such providers as Morningstar, Russell, MSCI, Standard & Poors and Dow Jones/Wilshire.
The best explanation of the way Value, and other indexes such as large vs small cap are constructed, is here at the Moneychimp.
So what do we find that the index providers have added to the original p/b measure? First, there are additional historical price measures like price/earnings, price/sales and dividend payout ratio. That might not be so bad as the basic principle that the stock is somehow low-priced compared to a fundamental historical measure is still respected. But where the definition of value really starts to take on hocus-pocus falsity is those indexes that include forecasted of such numbers as earnings! What lunacy! That replaces the best guess, as expressed in the price, of the market, whose guess is better, as shown time and again by research, with the guesses of analysts who are more wrong than right,
How do the index providers stack up?
The Bad
As the old saying goes, there's many a slip between the cup and the lip. When the research-proven notion of Value, which is simply that the price of a stock is cheap based on the ration of the stock's market price to the company's book value (p/b)(book value is simply assets minus liabilities in the financial statements), the meaning of Value gets transformed and expanded by index providers. Index-based ETFs need to have a reference index and they take them from such providers as Morningstar, Russell, MSCI, Standard & Poors and Dow Jones/Wilshire.
The best explanation of the way Value, and other indexes such as large vs small cap are constructed, is here at the Moneychimp.
So what do we find that the index providers have added to the original p/b measure? First, there are additional historical price measures like price/earnings, price/sales and dividend payout ratio. That might not be so bad as the basic principle that the stock is somehow low-priced compared to a fundamental historical measure is still respected. But where the definition of value really starts to take on hocus-pocus falsity is those indexes that include forecasted of such numbers as earnings! What lunacy! That replaces the best guess, as expressed in the price, of the market, whose guess is better, as shown time and again by research, with the guesses of analysts who are more wrong than right,
How do the index providers stack up?
The Bad
- Russell - "...the Price-to-book ratio and the I/B/E/S forecast long-term growth mean"; affects IWM, IWW
- MSCI - p/b, dividend yield and 12-months forward earnings /price; affects VBR, VTV
- Morningstar - 50% weighting on forecasted estimates; affects JKL
- Dow Jones/Wilshire - uses p/b and p/ projected earnings (see the Moneychimp link above); affects XCV
- Standard & Poors - uses p/b, p/cash flow, p/sales and dividend yield; affects IJS, IJR, RZV
Friday, 22 June 2007
ETFs, ETNs and Commodities Reading Material
Inside the Research Magazine Guide to ETF Investing 2007, there are a couple of articles I found to be quite useful for a deeper understanding of my portfolio holding in DJP the iPath DJ-AIG Commodity ETN. One article on page 10 compares ETFs to Exchange Traded Notes (ETN) and the other on page 12 describes and compares the various commodity funds one can buy. Good stuff for those who want to include commodities within their portfolio. Barclays Bank iPath website also describes ETNs and its own products.
Don't Tell Your Wife!
Came across this amusing slide in a downloadable presentation by Moshe Milvesky, given recently at the MFC Global Expo 2007 in Hong Kong. Guys, better make sure you keep your wife very happy!
The rest of the slides are, as usual for material from Mr. Milevsky (see my reviews of his books), full of interesting and thought-provoking material on financial issues of retirement.
Thursday, 21 June 2007
Mortality Swaps aka Back-to-Back Annuity and Life Insurance
In a comment on my latest book review Insurance Logic, Mike asked what a Mortality Swap is. The insurance industry apparently uses another term for this investment strategy - Back-to-Back Annuity and Insurance.
The concept is relatively straightforward. Here is an excerpt from the research paper titled Mortality Swaps and Tax Arbitrage in the Canadian Insurance and Annuity Markets by Narat Charupat and Moshe Milevsky:
"We show that by engaging in seemingly counter-intuitive transactions involving two insurance products, one can create a risk-free portfolio whose after-tax return is greater than that of available risk-free securities. The two insurance products in questions are (i) a standard term-to-100 life insurance policy; and (ii) a single-premium fixed immediate life annuity with no guarantee period.
Consider an individual who invests $100,000 in a fixed immediate life annuity, and then uses part of the periodic income from the annuity to pay the premium on a life insurance policy whose death benefit is also $100,000. This 'back-to-back' transaction, which we shall henceforth refer to as a "mortality swap", will create a constant periodic flow of income and will return the original $100,000 upon the death of the policy owner. This payoff pattern is similar to that of a risk-free investment such as a bank deposit whose principal is redeemed (by the individual's estate) at the time of death."
Another description is here.
The Insurance Logic book provides an an example for a 65 year old female based on actual quotes from insurance companies at the time. The risk-free rate of return pre-tax for the assumed 50% marginal tax bracket was 8% and was described as "much higher than comparable bond yields". The rate of return for this strategy was higher the older the age of the woman, using a joint and last survivor policy with the spouse and using leverage (i.e. borrowing to buy the annuity. The basis for the profitability of the whole thing is apparently that only a "relatively small portion" of a prescribed annuity is taxable.
This strategy came up for discussion in the Financial Webring - see the post by jiHymas on Dec.29, 2005 for an opinion on some cons. I had an amusing time phoning the CCRA today trying to get information to confirm whether this is still a kosher strategy but no one over there seems to have heard of it. They suggested asking an insurance company. Guess that would be the logical next step since they are the ones selling this, though an insurance broker who could arrange the two sides (insurance and annuity) from the required two separate companies would also likely be a good source.
Overall it seems that this could form part of the low-risk part of a retirement cash flow, replacing T-bills or money market funds.
The concept is relatively straightforward. Here is an excerpt from the research paper titled Mortality Swaps and Tax Arbitrage in the Canadian Insurance and Annuity Markets by Narat Charupat and Moshe Milevsky:
"We show that by engaging in seemingly counter-intuitive transactions involving two insurance products, one can create a risk-free portfolio whose after-tax return is greater than that of available risk-free securities. The two insurance products in questions are (i) a standard term-to-100 life insurance policy; and (ii) a single-premium fixed immediate life annuity with no guarantee period.
Consider an individual who invests $100,000 in a fixed immediate life annuity, and then uses part of the periodic income from the annuity to pay the premium on a life insurance policy whose death benefit is also $100,000. This 'back-to-back' transaction, which we shall henceforth refer to as a "mortality swap", will create a constant periodic flow of income and will return the original $100,000 upon the death of the policy owner. This payoff pattern is similar to that of a risk-free investment such as a bank deposit whose principal is redeemed (by the individual's estate) at the time of death."
Another description is here.
The Insurance Logic book provides an an example for a 65 year old female based on actual quotes from insurance companies at the time. The risk-free rate of return pre-tax for the assumed 50% marginal tax bracket was 8% and was described as "much higher than comparable bond yields". The rate of return for this strategy was higher the older the age of the woman, using a joint and last survivor policy with the spouse and using leverage (i.e. borrowing to buy the annuity. The basis for the profitability of the whole thing is apparently that only a "relatively small portion" of a prescribed annuity is taxable.
This strategy came up for discussion in the Financial Webring - see the post by jiHymas on Dec.29, 2005 for an opinion on some cons. I had an amusing time phoning the CCRA today trying to get information to confirm whether this is still a kosher strategy but no one over there seems to have heard of it. They suggested asking an insurance company. Guess that would be the logical next step since they are the ones selling this, though an insurance broker who could arrange the two sides (insurance and annuity) from the required two separate companies would also likely be a good source.
Overall it seems that this could form part of the low-risk part of a retirement cash flow, replacing T-bills or money market funds.
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