Retirement Action's Peter Benedek included a link in the Nov.8 ediction of his excellent weekly summary to the scary article The Financial Toll of Alzheimer's Disease, in which is explained the vulnerability of people with Alzheimer's to financial mistakes or fraud. The article mentions a number of useful protections.
Another defence not mentioned is simply to have a steady, reliable, lifetime, non-tradable/non-withdrawable/non-stealable source of income about which no decisions have to be made ... like the CPP.
Alzheimer's (and other forms of dementia) is a significant issue now and it will grow much worse. Increasing longevity will mean an increasing number of people getting Alzheimer's as pointed out in the appropriately-named report Rising Tide: The Impact of Dementia in Canada from the Alzheimer's Society of Canada.
CPP simplifies retirement finances. As such, it can help avoid financial problems by requiring fewer complex, people- and time-intensive legal and family protections.
Monday, 8 November 2010
Book Review: Behavioural Technical Analysis by Paul Azzopardi
This book is a rationalist's attempt to make sense and investing use, through technical analysis, of the often irrational behaviour documented in the field of behavioural finance. Two-thirds of this book is brilliant and the other third is disappointing.
The brilliant part: Azzopardi provides the best explanation and summary of behavioural finance concepts that I have come across to date. Not only does he explain simply and clearly with entertaining examples each individual idea like framing, representativeness, anchoring etc, he classifies and organizes it all and turns a bunch of seemingly random and contradictory ideas into a cohesive, sensible structured whole. His two groupings – the first is Complexity, Perception and Aversion and the second is Self, Society and Gender – really succeed in fitting together the disparate concepts. I found this material to be very helpful in reflecting on my own money and investing actions, to figure out what I'm doing wrong and right, which will allow me to make improvements.
In this regard, the book is a better and more satisfying read than more famous books in the behavioural finance pop charts like Dan Ariely's Predictably Irrational, Jason Zweig's Your Money and Your Brain and Terry Burnham's Mean Markets and Lizard Brains (my review here).
The disappointing part: The case for being able to successfully apply the undoubted truths of behavioural finance and the assumed efficacy of technical analysis isn't convincing. While there is no doubt that emotions and faulty thinking affect stock markets, the problem is the difference between ex post prediction and ex ante explanation. After the fact, everything is clear and periods when the crowd of investors has been irrational can be pinned down, as Azzopardi does do, to the stock price charts and technical indicators. But how do we know today what optimistic or pessimistic behavioural finance impulse is driving the market? As he writes on page 158, “It is always hard to tell what the reaction will be and the market often reacts to the same kind of news in a different manner.”
A surprise for me in this book was to find a reference to a research paper by William Brock, Josef Lakonishok and Blake LeBaron that supports a conclusion that at least some technical analysis trading rules – all of which are entirely mechanical and have no behavioural finance shaping - were successful in generating true excess trading profit. I looked the paper up and indeed their research does state the technical analysis methods tested (moving average and trading range break) did “... provide strong support for the technical strategies”. It will be interesting to look into this stuff for a future blog post!
Another feature I like is the fact that the book provides the detailed reference to this paper and many other research papers and books cited in the book. Its website at http://www.behaviouraltechnicalanalysis.com/ also has online links, within a password-protected area (the password is in the book), to the actual documents.
Rating: This book is worth buying for the excellent first part alone but my rating for it suffers due to the second part – (5/5 x 2/3) + (2/5 x 1/3) = 3.5 out of 5 total.
The brilliant part: Azzopardi provides the best explanation and summary of behavioural finance concepts that I have come across to date. Not only does he explain simply and clearly with entertaining examples each individual idea like framing, representativeness, anchoring etc, he classifies and organizes it all and turns a bunch of seemingly random and contradictory ideas into a cohesive, sensible structured whole. His two groupings – the first is Complexity, Perception and Aversion and the second is Self, Society and Gender – really succeed in fitting together the disparate concepts. I found this material to be very helpful in reflecting on my own money and investing actions, to figure out what I'm doing wrong and right, which will allow me to make improvements.
In this regard, the book is a better and more satisfying read than more famous books in the behavioural finance pop charts like Dan Ariely's Predictably Irrational, Jason Zweig's Your Money and Your Brain and Terry Burnham's Mean Markets and Lizard Brains (my review here).
The disappointing part: The case for being able to successfully apply the undoubted truths of behavioural finance and the assumed efficacy of technical analysis isn't convincing. While there is no doubt that emotions and faulty thinking affect stock markets, the problem is the difference between ex post prediction and ex ante explanation. After the fact, everything is clear and periods when the crowd of investors has been irrational can be pinned down, as Azzopardi does do, to the stock price charts and technical indicators. But how do we know today what optimistic or pessimistic behavioural finance impulse is driving the market? As he writes on page 158, “It is always hard to tell what the reaction will be and the market often reacts to the same kind of news in a different manner.”
A surprise for me in this book was to find a reference to a research paper by William Brock, Josef Lakonishok and Blake LeBaron that supports a conclusion that at least some technical analysis trading rules – all of which are entirely mechanical and have no behavioural finance shaping - were successful in generating true excess trading profit. I looked the paper up and indeed their research does state the technical analysis methods tested (moving average and trading range break) did “... provide strong support for the technical strategies”. It will be interesting to look into this stuff for a future blog post!
Another feature I like is the fact that the book provides the detailed reference to this paper and many other research papers and books cited in the book. Its website at http://www.behaviouraltechnicalanalysis.com/ also has online links, within a password-protected area (the password is in the book), to the actual documents.
Rating: This book is worth buying for the excellent first part alone but my rating for it suffers due to the second part – (5/5 x 2/3) + (2/5 x 1/3) = 3.5 out of 5 total.
Friday, 5 November 2010
British Airways Delivers Baggage Delay Compensation
On a recent holiday trip on British Airways to the lovely city of Barcelona, my wife and I got that sinking feeling on arrival when our bag did not show up. A day later, after we had gone shopping for essential bits of clothing and toiletries, BA did deliver the bag and everything was fine after that, including the bag's trip home, simultaneously with us.
Normally, this would not be worth noting. The big, and pleasant, surprise, which is worth a pat on the back to British Airways, is that the airline reimbursed all our expenses due to the wayward bag! Far different from the - how shall we say this politely - typical nasty treatment of passengers by such as Ryanair, who have to be coerced by the authorities to redress nasty behaviour e.g. here, BA dealt with our case quickly, politely and efficiently. Within five days of our return home, we had entered a claim online, sent in our invoices as requested by email and been reimbursed through an electronic deposit to our bank account. Well done British Airways.
What is all the more remarkable is that BA could have been a lot stickier with compensation. According to the AirTransport Users Council, the UK's consumer council for air travellers,
The European Commission has passed laws that put additional responsibilities on air carriers for passenger treatment in cases of cancelled or delayed flights, denied boarding and the like in Regulation EC No. 261/2004. The rules apply to international flights into or out of the EC.
Mishandled baggage still accounts for the 3rd highest number of complaints received by the AUC according to its 2009/10 annual report published in July, though the number was down slightly from the previous year (maybe just in keeping with faltering air travel from the recession?). The AUC's special 2009 report on luggage problems showed that many airlines are much more tight-fisted and mean than BA, with Ryanair apparently a leader in that department as it drew particular mention from the AUC: "Some airlines set their own limits on how much passengers can spend while their bag is delayed. For example, complaints to the AUC show that Ryanair often limits passengers to £15 whatever the length of the delay."
Now if BA would only be as good at delivering baggage in the first place as it is at providing compensation for delay, it would be top class.
Normally, this would not be worth noting. The big, and pleasant, surprise, which is worth a pat on the back to British Airways, is that the airline reimbursed all our expenses due to the wayward bag! Far different from the - how shall we say this politely - typical nasty treatment of passengers by such as Ryanair, who have to be coerced by the authorities to redress nasty behaviour e.g. here, BA dealt with our case quickly, politely and efficiently. Within five days of our return home, we had entered a claim online, sent in our invoices as requested by email and been reimbursed through an electronic deposit to our bank account. Well done British Airways.
What is all the more remarkable is that BA could have been a lot stickier with compensation. According to the AirTransport Users Council, the UK's consumer council for air travellers,
"There are no set rules for how airlines must assess baggage claims. For delayed baggage, some airlines offer immediate one-off payments at a set amount to cover emergency purchases (such as toiletries or underwear). Some will pay a set amount per day up to a maximum of days. Others will not make cash payments at the time, but prefer to reimburse expenditure on essential items on seeing the receipts. But the general principle is to cover essential expenditure resulting from the delay to delivery of the baggage."The airline liability limit for lost or delayed luggage is 1000 Special Drawing Rights (IMF conversion table here) per passenger per the Montreal Convention. Or maybe not. There seems to be confusion about the amount, since BA itself says its liability is actually 1131 SDRs, or about £1000, as does Delta and the AUC, but the European Commission's Ireland section says it is 1000 SDRs, equivalent to about 1134 euros. FlightMole.com has informative articles here and here on the differences between what airlines may wish to offer as compensation and what are the legal liabilities of baggage delay and claim.
The European Commission has passed laws that put additional responsibilities on air carriers for passenger treatment in cases of cancelled or delayed flights, denied boarding and the like in Regulation EC No. 261/2004. The rules apply to international flights into or out of the EC.
Mishandled baggage still accounts for the 3rd highest number of complaints received by the AUC according to its 2009/10 annual report published in July, though the number was down slightly from the previous year (maybe just in keeping with faltering air travel from the recession?). The AUC's special 2009 report on luggage problems showed that many airlines are much more tight-fisted and mean than BA, with Ryanair apparently a leader in that department as it drew particular mention from the AUC: "Some airlines set their own limits on how much passengers can spend while their bag is delayed. For example, complaints to the AUC show that Ryanair often limits passengers to £15 whatever the length of the delay."
Now if BA would only be as good at delivering baggage in the first place as it is at providing compensation for delay, it would be top class.
Friday, 29 October 2010
Pension Income Shortfall a Problem for Only a Few - Is That So?
Some pundits and politicians like Alberta's Finance Minister Ted Morton oppose the expansion of CPP to give a bigger assured retirement income to Canadians on the basis that it isn't a big problem because it is "... limited to a small sector of the Canadian workforce ..." (as quoted in this News 95.7 report from June this year).
Perhaps he was looking at data such as that in the Retirement Income Adequacy Research Report of December 2009 which was commissioned by the federal and provincial finance ministers. Tables 2 and 3 cite research showing that retired 70-72 year old men and women in 2006 had average income replacement levels from about 70% on up across every single income level. Looks good doesn't it since 70% replacement is the common rule of thumb for maintaining a standard of living. Furthermore, that result holds whether or not the retiree had been a member of a Registered Pension Plan or not and to complete the picture, in all but the highest income quintile, the non-RPP retirees had higher incomes than the RPPs. That's true even when the employment earnings of the non-RPPs (since non-RPPs, unsurprisingly, still are working and have much higher employment earnings) are subtracted. Got that? Retirees without a pension plan had higher incomes. Shocker! What retirement income problem?
As report author Jack Mintz writes, "The results are thus quite striking but need to be interpreted with care." Enter the nit picking detail. Note the word average in the above paragraph. Consider this dumb statement - if you have one foot in the freezer and the other in the oven, then on average your feet are a comfortable temperature. The Stats Can researchers Yuri Ostrovsky and Grant Schellenberg who put together the original data in Pension Coverage, Retirement Status, and Earnings Replacement Rates Among a Cohort of Canadian Seniors realized the hidden danger of using an average and have since done a revealing follow-up in A Note on Pension Coverage and Earnings Replacement Rates of Retired Men: A Closer Look at Distributions (no, they did not look at the detail for women) of July 2010. By looking at the breakdown of replacement income percentage, they found that the non-RRPs had a much higher concentration of men at the low end of the income replacement scale. The RPPs are clumped in the middle of the replacement spectrum. The average came out the same because of an offsetting bunch of non-RPPs at the highest end of the scale. A few rich people counterbalance a bunch of poor people and the average looks the same. The graph below from the study shows this for the middle income group ($45,700 to $58,200 / quintile 3).
If one cares to look, the phenomenon is the same in all three middle income quintiles, covering income of $32,800 to $76,100. In every income group except the very lowest (where OAS and GIS ensure that the bulk of men have pretty close to or more than their pre-retirement income) about half fall below 50% replacement rate of income. 50% replacement must be about the minimum for anyone to maintain a standard of living no matter how modest and probably it isn't near enough at lower income levels. Conclusion: pretty darn close to half the Canadian retired population of men must be unable to maintain their standard of living in retirement. A small sector of the workforce indeed, Minister Morton!
Perhaps he was looking at data such as that in the Retirement Income Adequacy Research Report of December 2009 which was commissioned by the federal and provincial finance ministers. Tables 2 and 3 cite research showing that retired 70-72 year old men and women in 2006 had average income replacement levels from about 70% on up across every single income level. Looks good doesn't it since 70% replacement is the common rule of thumb for maintaining a standard of living. Furthermore, that result holds whether or not the retiree had been a member of a Registered Pension Plan or not and to complete the picture, in all but the highest income quintile, the non-RPP retirees had higher incomes than the RPPs. That's true even when the employment earnings of the non-RPPs (since non-RPPs, unsurprisingly, still are working and have much higher employment earnings) are subtracted. Got that? Retirees without a pension plan had higher incomes. Shocker! What retirement income problem?
As report author Jack Mintz writes, "The results are thus quite striking but need to be interpreted with care." Enter the nit picking detail. Note the word average in the above paragraph. Consider this dumb statement - if you have one foot in the freezer and the other in the oven, then on average your feet are a comfortable temperature. The Stats Can researchers Yuri Ostrovsky and Grant Schellenberg who put together the original data in Pension Coverage, Retirement Status, and Earnings Replacement Rates Among a Cohort of Canadian Seniors realized the hidden danger of using an average and have since done a revealing follow-up in A Note on Pension Coverage and Earnings Replacement Rates of Retired Men: A Closer Look at Distributions (no, they did not look at the detail for women) of July 2010. By looking at the breakdown of replacement income percentage, they found that the non-RRPs had a much higher concentration of men at the low end of the income replacement scale. The RPPs are clumped in the middle of the replacement spectrum. The average came out the same because of an offsetting bunch of non-RPPs at the highest end of the scale. A few rich people counterbalance a bunch of poor people and the average looks the same. The graph below from the study shows this for the middle income group ($45,700 to $58,200 / quintile 3).
If one cares to look, the phenomenon is the same in all three middle income quintiles, covering income of $32,800 to $76,100. In every income group except the very lowest (where OAS and GIS ensure that the bulk of men have pretty close to or more than their pre-retirement income) about half fall below 50% replacement rate of income. 50% replacement must be about the minimum for anyone to maintain a standard of living no matter how modest and probably it isn't near enough at lower income levels. Conclusion: pretty darn close to half the Canadian retired population of men must be unable to maintain their standard of living in retirement. A small sector of the workforce indeed, Minister Morton!
Tuesday, 26 October 2010
Senate Weighs in With Some Useful Retirement Savings Suggestions but ...
Canada's Senate committee on Banking, Trade and Commerce announced a half-dozen recommendations on how the government could enhance retirement savings in its Oct.19 report Canadians Saving for Their Future: A Secure Retirement.
The recommendation that would likely have the most beneficial effect is the suggestion to establish a Canada-wide plan for retirement saving and investing. The new plan would entail setting up five or so professionally-managed, competitively-sourced investment funds into which savings deductions/contributions of Canadians 18 and over would go. It's a pretty good but incomplete plan. Why?
The recommendation that would likely have the most beneficial effect is the suggestion to establish a Canada-wide plan for retirement saving and investing. The new plan would entail setting up five or so professionally-managed, competitively-sourced investment funds into which savings deductions/contributions of Canadians 18 and over would go. It's a pretty good but incomplete plan. Why?
- Auto Enrollment - the report calls the plan "voluntary" but that means an optional opt-out, which few people will do. As the famous book Nudge explains (and as the use of the word in the report slyly suggest that the Senate committee is aware of the idea), the difference between voluntary opt-in and opt-out is huge and participation rates will be as good as universal, up in the 90+% range. Goodbye to the costly sales and marketing overhead cost of retail funds because it's a captive market.
- Fiduciary Duty Governance and Management and Competitive Sourcing - they call it a commitment to avoid "real and perceived conflicts of interest". Professional managers can add diversification, discipline and net value when the fees they charge are restrained - i.e. the gross investment return isn't sucked dry by the fees. Hello to much lower fees from the powerful negotiating position that such a massive plan will have and hello to a resulting much higher net return to investors with much higher end value retirement savings.
- Optional RRSP or TFSA - it is valuable to have the flexibility of being able to contribute to the right account for one's tax situation / income level (the familiar question about whether your tax rate will be lower in retirement - RRSP better, or whether your absolute income is low - TFSA better) and retirement goal (if legacy desired, TFSA better).
- Savings Deduction Rate? - how much should it be? Maybe 9% would do, the same as for CPP, which aims to replace about 25% of pre-retirement income, so such a contribution rate in this plan would provide another 25%. A less desirable method would be to allow the contribution rate to be chosen by the contributor but then the new plan should have a default rate with option to change it (another nudge).
- Sequence of Returns Risk - the danger of a market plunge, such as happened in 2008, at the intended time of retirement is that the total available to purchase an annuity is vastly reduced and permanently low retirement income would result. The alternative of withdrawals from a RRIF would see much lower sustainable withdrawals. Of course, nobody would retire after a market crash if they possibly could and they would deal with the market returns risk by continuing to work however long it took for market and retirement savings recovery. That's not the only way to deal with this risk though. The method of the CPP is to have a defined benefit payment coming no matter what the state of the market - did the CPP announce a reduction of payments in 2008 even though its investment portfolio dropped about 20%? The reason the CPP can maintain payments is that it can, as a fund with a very long term investment horizon, smooth out market humps and bumps, knowing that savers continue to provide cash inflow. There is time risk sharing going on within CPP that the Senate's proposal lacks, which to my mind is a very important feature of making retirement saving feel secure and actually be so.
- Conversion to Retirement Income, Inflation Risk, Longevity Risk and Annuities - a retirement savings plan, such as the one proposed, must be converted into an income stream and the report does not consider how this will be done, except for brief off-hand references to buying an annuity. Yet the income conversion vehicle, its cost and its effectiveness in countering inflation and longevity risks determine the success of the whole retirement income exercise. This cannot be considered apart from the savings phase method with the assumption that all will be well. Choose an annuity and even low, normal 2% inflation eats away a huge portion of the value of a fixed payment annuity over the longer and longer retirement periods of today. Real constant-value CPI-adjusted annuities are almost absent from the Canadian marketplace. Most annuities on the market in effect provide income for life at a fast (high inflation) or slow declining standard of living. I bet that's not what people want or need. There is also the problem that the market is lop-sided - the people who want to buy annuities are those who figure they will live longer and not those who will die off sooner and whose cash helps maintain a higher standard of living for the survivors. (Those who believe this is unfair could be reminded that sharing the risk means everyone gets higher payments than if no one shares) The annuity-selling insurance companies know about likely-to-live longer annuity buyers of course, and so annuity payouts are even lower. Contrast that with CPP where everyone, early and late deceased, automatically and without choice to opt out, gets into the annuity payment stream. Choose the other option to generate income, a RRIF from which withdrawals are taken, people have the very hard job to figure out how much to withdraw given their uncertainty how long they will live and need income. Live too long and you run out of money. There is no longevity risk sharing. People can either be very cautious, withdrawing slowly, and perhaps live a much more restrained lifestyle than they might have liked, or they can live high, perhaps to discover that they must drastically reduce their spending later on. Pooled assets with no opt out (i.e. with longevity risk sharing) during withdrawal means higher payments for everyone and much less worry along the way. The prime example of a successful end-to-end solution is the CPP - you pay in a certain amount per year and you are guaranteed (by the most stable provider around, the Federal government) a certain inflation-adjusted amount for however long you live.
- Set a TFSA lifetime contribution limit of $100,000, which could be used immediately in full any time e.g. for an inheritance; helps present-day retirees with taxable accounts
- Remove the effect of RRSP withdrawals on means-tested benefits; makes things less complicated and less punitive
- Defer RRSP conversion age to 75; helps those who work longer
- Have the Financial and Consumer Agency of Canada do financial education and monitor investment advisors (I think they mean financial advisors, which is much broader than investment advisors) - pretty wimpy, they could and should have recommended that fiduciary duty for financial advisors be put into law with some body given policing powers
Friday, 22 October 2010
Cap-Weight vs Fundamental Portfolios: Q3 Update after DRIP
The live updated spreadsheet at the bottom of this blog, which shows the on-going contest between a cap-weight portfolio and its fundamental weight counterpart, has now been updated to include the automatic reinvestment of dividends where the ETFs offer that feature.
The DRIP purchases included the following:
Fundamental Portfolio
I'm going to substitute the new Horizons BetaPro TSX 60 tracker ETF (symbol HXT) in the cap-weight portfolio since its total return swap construction reflects implicit automatic DRIPing and I want to find out about the difference in weighting strategy not the effects of DRIP, which will always be beneficial to the ETFs that do it in rising market.
The net difference between the two strategies is pretty slim, with each one ahead in 3 holdings (I ignore the RWX since they both hold it and the Cap-weight is ahead merely and always because it holds one more share) and the Fundamental Weight portfolio is in the lead overall by only 0.1% or so ($171 on a $111,000 portfolio). It's a tie so far.
The DRIP purchases included the following:
Fundamental Portfolio
- CRQ - Claymore Canadian Fundamental Index Equity large cap - 6 extra shares
- ZRE - BMO Equal Weight REIT - 2 shares
- ZRR - BMO Real Return Bond - 6 shares
- ZRR - BMO Real Return Bond - 6 shares
I'm going to substitute the new Horizons BetaPro TSX 60 tracker ETF (symbol HXT) in the cap-weight portfolio since its total return swap construction reflects implicit automatic DRIPing and I want to find out about the difference in weighting strategy not the effects of DRIP, which will always be beneficial to the ETFs that do it in rising market.
The net difference between the two strategies is pretty slim, with each one ahead in 3 holdings (I ignore the RWX since they both hold it and the Cap-weight is ahead merely and always because it holds one more share) and the Fundamental Weight portfolio is in the lead overall by only 0.1% or so ($171 on a $111,000 portfolio). It's a tie so far.
Saturday, 9 October 2010
Crown Currency Exchange Collapse a Reminder of Need for Segregated Accounts
The plight of clients who stand to lose large amounts of money given over to the collapsed Crown Currency Exchange provides a harsh reminder that a key baseline requirement for considering any foreign exchange transfer company must be that customer funds be held in segregated accounts that are separate from the funds of the FX company itself. That way, client funds are protected from creditors of the FX company, which means you the client can get your money back instead of suffering the fate of some of the people in the BBC news account, who seem to be destined to lose an amount large enough to buy a house.
A perusal of the websites of various FX dealers reviewed in my initial post on the subject shows that many do claim they segregate client funds but some seem to make no mention of the subject, which probably means they do not. Here is what I found:
A perusal of the websites of various FX dealers reviewed in my initial post on the subject shows that many do claim they segregate client funds but some seem to make no mention of the subject, which probably means they do not. Here is what I found:
- CustomHouse - no information on how client funds are held
- XE Trade - no info
- Canadian/UK/NZ/Oz Forex - funds in segregated accounts; Barclays, Bank of Montreal, TDCanada Trust
- HiFX - segregated in Barclays, Bank of Montreal
- TorFX - funds in Barclays
- MoneyCorp - funds in account of clearing banks HSBC, Barclays or RBS
- WorldFirst - funds segregated, bank not specified
- CurrenciesDirect - no info
- Currency Solutions - funds held in “major UK banks”
- Interchange - use of own solicitor's account optional
- FirstRateFX - “specially designated” Barclays account
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