World Economy Trends from McKinsey: Long Slow Recovery in Progress

Consulting firm McKinsey Global Institute's Debt and deleveraging: Uneven progress on the path to growth tells us that the recovery from the global credit crisis, three years later, has only just begun and will still take many years to complete. That's the bad news. The good news is that this is in line with past similar crises.

Canada used to be so much better off than the USA in terms of total debt but now things are fairly equal as Canadians have added debt while Americans have shed it. Amongst major economies, the USA is going fastest in the right direction according to McKinsey. Breaking the debt down by sector, another chart (Exhibit E4) shows that Canadian financial institutions have considerably more debt proportionally than those in the USA.

Exhibit A4, copied below from the long version of the report, shows that counting unfunded US government pension and health benefits for retirees pushes the US debt burden up to 140% of GDP. That still leaves it no worse in total than countries like Spain and France. The two countries by far in the worst overall debt shape, both of which have not even started deleveraging, are Japan and the UK, yet their borrowing costs are not at crisis levels. Huh?

Takeaways for investors: 1) Canadians should not be smug and should not count out the USA (you don't get to be number 1 for no reason); 2) Expect 3-4 years more of uneven weak economic times before things get much better though the "getting worse" phase seems to be finished; 3) Opportunities will arise for companies in infrastructure and public sector projects since governments won't be able to add more debt to build them; 4) Consumer demand won't be strong.

Credit Crunch? Depends How You Look At It

An interesting direct mail advertising offer popped into our mailbox a few days ago. Provident Personal Credit is actively offering cash loans from £500 to £500. Huh? Everything one reads these days about credit is that no one can get a loan, even the most creditworthy. But Provident is gung ho seeking clients, even if "you have been turned down before, you have a poor credit history, you're not working at the moment"!

How can they do this successfully? As their flyer says, "We'll base your loan on your circumstances and how much you can afford to repay." The parent company Provident Financial's Interim Management Statement of October 22nd gives further clues to a tightly run operation:

"... all loans are underwritten face-to-face in the home, which provides a sharp assessment of each customer's character and current circumstances. Home credit loans are for small sums repayable over a short period of typically a year and agents visit each customer on a weekly basis to collect the repayments, thereby continually updating their view of customers' circumstances. Not only are customers and their circumstances well understood, but since agents are paid commissions based upon collections rather than on the credit issued, there is no incentive to extend credit that the customer is unable to afford."

There is none of the sub-prime mortgage loan nonsense of agents paid for originating loans that were then sold off in parcels to other banks far away who had no clue of loan quality or contact with the debtors.

And the results bear out the accuracy of management's words. The July 30th, 2008 Interim Results showed a 34% increase in Profits before tax and a 28% rise in earnings per share, with loans and customers also growing. The company is hiring too as these ads on MyJobSearch.com show, another sign of continued growth. No credit crunch here it seems.

Management's forecast is quite positive: "... Our conservative approach to lending, combined with the group's strong balance sheet and funding profile, means the group is well placed to continue to generate high quality customer and profits growth."

The share price (PFG on London Stock Exchange) is down only 3.8% over 1 year, a darn sight better than the minus 33.5% for the FTSE All-Share. Thanks to Google Finance for the graph below.

What's the catch? Depends on your viewpoint perhaps but the 183.2% typical APR interest rate exceeds the bounds of reasonableness. The rate is plainly and prominently visible on the ad and on the website home page, so no one can complain they don't know what they are signing up for. And considering that clients are often those who cannot qualify for, and do not have, loans elsewhere, maybe there is some value to those who borrow from Provident. Still, 183.2%!!!

The downside for borrowers is the familiar debt trap, where people get in and cannot get out, as this one tale from a Provident customer demonstrates with an interesting response from a Provident agent. Crunched by credit indeed.

Understanding the Turmoil - Credit Derivatives

Came across this clearly-written explanation by Daniel Amerman about the problem of credit derivatives, whose value is larger than the whole world economy. Very sobering. He includes a bit of his advice about to cope.

A Modest (and Cheap) Proposal for Solving the World Financial Crisis ;-)

The global financial crisis in its current phase apparently boils down to the fact that banks won't lend to each other, to businesses or to individuals as we are told by the BBC, Bloomberg, MarketWatch, the Times, MSN MoneyCentral, etc. Everybody agrees on the problem, even Socialist Worker!

We have seen governments try every inducement - buying off the toxic debt, provide unlimited liquidity, nationalising banks, lowering interest rates. Nothing has worked.

"Nice" is not working. Time for a somewhat harsh solution, but hey, the world's future is at stake and in the past governments have not shied away from being somewhat heavy handed when the occasion called for it (here you can fill in your own favorite example, depending on which country you hate the most).

My solution rests on the fact, at least I believe it to be so, that the banks are run by people. Now, all people have emotions, even bankers, and the one emotion stronger than greed is, you guessed it, fear. Right now, bankers are afraid of lending. So we must replace the fear of lending with a greater fear of not lending.

All the heads of the various governments, being on a first-name basis with all the head honchos at the banks, or so we are constantly told, must therefore have their phone numbers and addresses. Therefore, George (Bush), Gordon (Brown), Stephen (Harper), Angela (Merkel), Nicolas (Sarkozy), Taro (Aso) ... should pick up the phone and "suggest" to bankers that they start lending. I'm sure their people and communication skills will be more than adequate to convey the "accidents" that might happen to them and their families should the bankers fail to change their destructive non-lending policy forthwith. Using certain specialist human resources to back up the suggestion, it would only take one unfortunate uncooperative banker for word to get around and things to change rapidly. Surely that would be a small human sacrifice compared to the untold misery facing millions of citizens who would suffer in the hard recession that is developing as a result of the banking freeze-up.

I don't know the going rates for such specialist resources but it surely is much cheaper than the several trillion dollars already spent by the US alone. And my fee for this suggestion is a standard investment banking rate, discounted by half as my contribution to these difficult times, only $0.001 trillion (and pay that in Canadian dollars please because I suspect the USD will soon be toast).

... later on ... Ha, ha ha! Just found this column by Robert X. Cringely in which he seriously suggests something similar - the heavy he suggests is Jack Welch, famous former CEO of GE.

"Bouncers" Author Interview

Back in December I posted a review of the fine book Learn to Bounce by Anita Caputo and Lee Wallace. The book gives valuable advice on how to overcome a job loss and again find fulfilling work.

Anita agreed to answer a few questions I had after reading the book. Here are the answers. There are some especially valuable comments about how to deal with finances before and during an unexpected job loss.

1) Why did you and Lee write this book? What was lacking out there that you felt it worthwhile to put all that effort into a book?

We wrote the book to provide hope and inspiration to people who are in job search mode. We decided to write the book when tens of thousands of people had been laid off when the bottom dropped out of the global high-tech industry. The unemployed had no productive outlet in a market that offered few, if any, jobs that suited their skills and experience. We wanted to restore people’s confidence and encourage them at a time when there was little good economic news. We wanted to highlight that some individuals did find work – not just any job, but work that fit them well. We wanted people to know that “If they can do it, you can do it!” even during the worst of economic times.

FYI, as the USA moves into recession and thousands of jobs are being lost, particularly in the financial sector due to the credit crunch, the stories and solid advice apply equally to anyone experiencing unemployment.

2) What surprised you the most, or differed the most from your preconceptions about the realities of being laid off?

First of all, I never imagined that it could happen to me. Isn’t that typical? And I still believe that if we had not had such a huge economic downturn, I would still be working in high-tech wondering what I would really want to do.

When I saw others being laid off, I always thought how lucky they were to be collecting a severance package and having time off, particularly if they were laid off during prime vacation times. Here is what I learned.
a) Being laid off is not a vacation. Finding another job is a full time job!
b) Severance/redundancy payments are not winning the lottery. If you are out of work for an extended period of time, and/or if you have large financial obligations, you will need every penny of what you were paid and maybe even more.
c) I find myself being more empathetic and I will “go out of my way” to help someone who is laid off. There is nothing like “walking a mile in another man’s shoes” to know what it is really like. Providing someone who is looking for work with connections to other people who can help them, or to potential jobs is very important to me.
d) I will treat someone who is laid off from a job the same way I would treat someone who has resigned from a job. When someone is laid off, I recommend you have a celebration, take them out for lunch or follow whatever ritual you would normally follow. Often when someone loses their job, they feel like they have done something wrong (even if/when they haven’t). Treating them equally helps to reduce the stigma a laid off person feels. It helps to bring proper closure to what was an important part of their life. There are two things people did for me are very memorable. One, a colleague that I worked very closely with sent me flowers saying “This is the first day of the rest of your life”. Secondly, when I went out for lunch with someone who was employed, I was very grateful when they volunteered to picked up the tab.

3)What was the greatest challenge in writing the book?

Getting it done! As we have often said, Lee Wallace and I had real jobs. We did not get paid to write. We had to make the money to pay for the book.

Staying motivated was also a challenge. Working as co-authors had many benefits. One significant benefit was “picking up the slack” or helping to motivate the other person as/when required.


4) What are the main financial bits of wisdom coming out of the experiences of the layoff-ees?

Save while times are good. Definitely save and cut back on expenses, particularly “if the writing is on the wall” and you think you may be laid off.
Pay off any debt that is not tax deductible, i.e. invest in something that makes you money. If you are debt free, you will have the financial flexibility to pursue the work and life style you want without feeling pressured. If required, have the courage to ask for financial assistance from family and friends.

The following tips are direct quotes from the people we interviewed in Learn to Bounce:

• Control your costs if you get laid off, to minimize your debt.
• Be prepared to start at the bottom if you go into a new field.
• Pay attention to your finances. A projection of expenses and income will tell you where you stand.
• Cut back expenses if necessary.
• Save and invest when times are good.
• Accept support from your family and friends.
• Don’t expect the same salary you were making in high tech before the downturn.
• Be prepared to start again from the bottom, if you are changing fields.
• Get your finances in order when times are good. Those who were prepared didn’t panic when they got laid off.
• Be financially prepared in case you get laid off. If you do, cut back immediately.

5) What proportion of the people in the book would still be happily in high tech if the meltdown had not happened?

Your guess is as good as mine. I suspect almost all. The reason I say that is that each and every one of the people we interviewed were relatively content with their work until the down turn happened. If you like challenge in your work and a positive work environment, which most people do, then the high tech environment satisfies your needs. High tech is a fast paced, challenging and exciting sector to work in. When people were laid off from high-tech during the early part of this decade, due to the terrible job prospects in the sector, people had the time, opportunity, and in some cases the financial means to explore other career options.

6) Is there any way to prepare people for a world of layoffs; who should do it - the employer, schools?

Interesting question. Being prepared for “a world of layoffs” is really being prepared for “a world of job change”. The only difference between being laid off and quitting a job is who chooses to initiate the job change. I think life experiences have prepared generations Y and perhaps X to live in a world of change and to expect a portfolio of careers. Younger workers typically do not expect to spend the rest of their life with one employer and certainly not in one job.

Regardless of who initiates a job change, the keys to landing another job quickly and easily are clarity of what you want to do next, and leveraging your social network to land the work of your choice.

7) Do you think there's a conflict between loyalty to the employer and loyalty to yourself?

Not at all. Loyalty to yourself is loyalty to your employer. Assuming that loyalty to yourself be working in an area of interest and doing work you are passionate about, then you will love your work. In turn you will do your best and your employer will love your work too! As long as what a person enjoys doing and the environment they like to work in, matches what an employer requires and what they offer, everyone wins.

8) Is loyalty to the employer an outmoded concept? How do you think people should manage the balance between what the employer wants you to do and what you want to do? Has your experience being self-employed influenced your perception of doing what you want vs what the employer wants? For instance, as a self-employed person are you able to do exactly what you want all the time?

Loyalty to an employer is not an outmoded concept. See #7. The definition of loyalty in the dictionary is “a feeling of devotion, duty, or attachment to somebody or something”. No where does it say for “how long”.

It is up to you to be clear about what you enjoy, what you want and what you don’t want in a job. Likewise it is up to an employer to be realistic and clear of the kind of work expected and the work environment it can offer. The key is to have a perfect match. If there is an aspect of a job that you perceive as not being totally aligned with what you think you want to do, it may be worth taking the risk and trying it. The reality is that until you actually try something, you really don’t know how much you may enjoy doing it. Recently a reporter told me and Lee Wallace a story of how she accidentally fell into a career of writing. She never thought she would enjoy writing until she did it.

There is always “stuff” that we prefer not to do. For some it can be the basics of caring for yourself, like cooking, cleaning or exercising. If you feel like you are leading a fulfilled life, you are finding a way to get the necessary things done, while staying focused on the things that fulfill you; doing the things you value and enjoy most. Work is part of living your life in a manner that fulfills you.

With respect to myself and self-employment, self-employment gives me flexibility in my schedule that suits my family life most of the time. I am usually here for my teenage daughters, the other relationships that I value, and for my volunteer activities. That being said, there have been many times that I have missed parent teacher interviews or other important school events because I was out of town. Those important responsibilities get completed at another time that suits my schedule or my husband is able to fulfill a responsibility for us. Just like everyone else, I am always managing my life and my schedule to strike that right balance.

9) Any more book projects on the go or in your head?

There is definitely more to come. We live in a world filled with opportunity. The challenge is choosing the work/project that I want to do next, the work/project that I am passionate about, and the work/project that will provide the financial rewards and life style that I desire. The beauty and challenge of self-employment is that the choice is mine. That choice comes with 100% responsibility for the results too.

As I write the answers to these questions, I am leveraging my network to determine what I will be doing next and how.

Manulife One: a Mortgage-Banking Combi Product to Like

So often one comes across financial products that sound good in principle but are not good value for money. It looks to me that Manulife's ONE Account is a winner that every aspiring homeowner should have a good look at. Back in 2007, Million Dollar Journey did a review of Manulife One and generally seemed to like it, though not as much as me.

How It Works: The account combines a mortgage with a normal chequing and savings bank account. Every day, Manulife sums the positive amount on deposit on the bank side with the negative amount in the mortgage to arrive at a net amount borrowed, and then calculates interest at the mortgage rate on the net amount. There is no interest paid on the savings while the mortgage is not yet paid off and the daily balance is negative. Meanwhile the bank account can be used like any normal chequing account to pay bills, write cheques, withdraw cash at ATMs, the whole bit. If you ever suddenly need to spend extra, and go overdrawn, that is possible too, up to 90% of the appraised value of your home according to Manulife.

As an aside it is surprising that these types of accounts are not more prevalent in Canada. In the UK they have been around for many years and are commonly known as offset mortgages or current account mortgages (because the savings offsets part of the debt).

The Key - Staying Positive: The account works best when there is a positive bank balance however small and variable, because this accelerates paying off the mortgage. It does so not just by a bit but by a surprisingly enormous amount, in many cases years off the time it takes to pay off the mortgage. Manulife has a calculator on its site in which you can plug in your own numbers to see by how many years and how much interest is saved. If you have your pay deposited into the account and then use it till the next pay for normal household spending, then there could/should be a net balance throughout, which reduces the net debt and the interest charged.

Earning a Higher Rate with Savings: One of the neatest aspects is how a positive bank balance works in your favour. Instead of having your money sitting earning around 0.5%, the going rate these days on many chequing accounts, and which is taxable (perhaps taking another third off that, making it more or less zero), it saves interest at the much higher mortgage rate, currently around 4.75% for variable mortgages, which is after-tax dollars by the way. That's the equivalent of earning 4.75% on your bank balance. Getting no interest paid to you on the bank balance even saves the hassle of reporting the puny interest to the CRA of your annual tax return.

Multiple Applications: Manulife suggests several other uses of the account

• debt consolidation and reduction of net interest costs by moving higher rate credit card debt, car loans, personal loans into borrowing against the secured debt of the mortgage, which is the cheapest rate available
• access to home equity or reverse mortgage replacement for retired people
• emergency savings fund instead of keeping this in a savings account, term deposit or GIC, which will earn less than the interest saved on the mortgage
  

Life on Autopilot: The great feature of the account is the combination by Manulife makes it all happen automatically. So many good plans for paying down a mortgage early never happen through neglect or being too busy with life.

Value for Money: All these benefits would be lost if the pricing was bad, the mortgage rate too high, the options too restrictive or the account fees uncompetitive. Happily, Manulife's pricing seems to be very comparable and competitive all round.
Mortgage rate - the open variable rate at prime 4.75% matches the big lenders and the 1 year seems to be the lowest around (see table from Cannex that I downloaded today)

Banking fees - the $14/month fee looks roughly comparable to big bank chequing options e.g. Bank of Montreal's Performance Plan charges $13.95 per month unless one keeps a minimum $2500 balance, which earns a princely 0.5% per year; Scotiabank's PowerChequing is better at $3.95 month unless a $2000 minimum balance is maintained, which earns exactly 0%. Nevertheless, even at $10 / month extra, the thousands saved in mortgage interest more than makes up for it.

Downside - Debt Temptation: The only downside I can see is that anyone with a tendency to get too easily tempted to use the borrowing margin and increase debt instead of paying down the mortgage will find this account too convenient and easy to abuse.

Other than that, I say kudos to Manulife for a smart, flexible and good value product that enables Canadians to pay down their mortgage much faster and with money that they are actually using for their everyday expenditures.

Bumpy Landing Ahead in the UK for the Caisse de Dépôt?

Our massive Canadian pension funds like the Ontario Teachers, the Ontario Municipal Employees and the Caisse de Dépôt nowadays routinely look beyond the public equity markets to invest Canadians' pension savings. They get into private equity deals and buyouts, such as the current hot item, the takeover of BCE by the Ontario Teachers.

Back in 2006, the Caisse was a minority partner (a 29% stake) in the buyout of BAA plc, which runs a bunch of UK airports, including Heathrow, Gatwick and Stanstead around London and Glasgow, Edinburgh and Aberdeen in Scotland. The deal was led by an ambitiously expanding Spanish company Ferrovial. The words "ambitiously expanding" should give you the clue to what comes next and what explains the looming problem. Yup, you guessed right, the deal was largely financed with the cheap debt available at the time, about £9 billion worth, or $18 billion CAD (give or take a few hundred million depending on the exchange rate). The buyout consortium is snowed under by debt! Unfortunately, debt doesn't eventually melt like snow does.

Now the new owners are finding out that leverage is risky, as the bursting of the credit bubble means they cannot find cheap financing, their borrowing costs are going up and there is no prospect of reasonable terms in the next few years when the bulk of the refinancing will need to happen. The gory details are well laid out in this posting on the Aviation blog. (I love the posting's likening of Heathrow to "the only building site in Britain with its own airport" - amusing and all too true.) As the article relates, BAA's debt rating is now at junk level. How the debt problem will get resolved is not yet clear amongst the possibilities of sale of some airports, cuts in the capital expenditures, or new equity injections. Whatever the way out, the original partners, the Caisse among them, will end up losing. How much of a hit the Caisse ends up taking is an open question. BBC economics editor Robert Peston speculates that the buyout consortium's equity stake could even get wiped out. So far, nothing on the Caisse website or in the annual report even mentions BAA apart from the original announcement of the deal; maybe they aren't worried about the c.$5 billion at stake given their $155 billion in assets, or maybe they haven't noticed BAA among the 3000 companies it boasts of having invested in around the world.

In aviation terms, the Caisse is on a plane bound for the UK. There is very bad weather awaiting at destination but the plane must land eventually and it hasn't enough fuel to divert to another airport.

I'd guess the bottom line for air travellers will be slower construction and continued chaos that causes so much discomfort and delay. The presence of regulators to limit BAA's charges to customers (like airlines) will hopefully prevent the costs from being passed too quickly to consumers but eventually we end up carrying the can when such essential facilities run into trouble.

Free Seminar on Personal Debt Management with Gail Vaz-Oxlade

Monty Loree over at Canadian-Money-Advisor.ca is hosting a free teleseminar with author and TV show debt advisor Gail Vaz-Oxlade on March 4th, 8PM EST. This is your chance to get answers to your questions on the subject as the show will include audience interaction. Gail has her own website so you can check out her bona fides. From what I can tell, her viewpoint is sensible so I am happy to promote this event.

Monty is donating some extra seats to the event, so if you are interested in attending for free, leave a comment on this blog entry by the end of this week, 5pm on Friday, February 22nd. I will pick someone randomly (fortunately don't need to use the Monte Carlo simulator for this) and announce the winner through posting a comment here at which point I would need to get in touch by email (don't worry I won't sell your name to the devil or anyone else). On your comment, should you feel inspired, tell me the difference between good debt and bad debt.

Canadian-Money-Advisor is also running its own free-seat giveaway at this page. The site also warns " Each winner will call the teleseminar number given at their own expense. Long distance charges may apply."