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Independent Financial Advice For Everyday Use - Since 1981

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Opportunities In A Volatile MarketKeith Richards P.14

RRSPs 102: Beyond the Basics - Part 2 Colin S. Ritchie P.9

DIVIDEND & COMPANY NEWS • ETFS • TOP FUNDS • DRIPS • ASK THE EXPERTS

Looking Under The Hood Of Investment Vehicles-

Split Share Corporations

Michael Southern P.6

MAY 2016

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EDITOR-IN-CHIEF - Peter HodsonMANAGING EDITOR: Lana SanicharCONTRIBUTING EDITORSEd Arbuckle, Margot Bai, Robert Barney, Dan Bortolotti, Ian Burns, Bruce Cappon, John De Goey, Donald Dony, David Ensor, Ken Finkelstein, Derek Foster, Benj Gallander, Robert Gibb, Andrew Hepburn, Shelley Johnston, Robert Keats, Cynthia Kett, Ken Kivenko, Camillo Lento, Marie-Josée Loiselle, Alan MacDonald, Brenda MacDonald, Gina Macdonald, Robert MacKenzie, Ross McShane, Ryan Modesto, Caroline Nalbantoglu, Tim Parris, Peter Premachuk, John Prescott, Kyle Prevost, Brian Quinlan, Wynn Quon, Rino Racanelli, Colin Ritchie, Scott Ronalds, Norm Rothery, Stephane Ruah, David Stanley, John Stephenson, Brian Tang, Angelo Vicere, Becky Wong.

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Canada Post Publication No. 40035485

MAY 2016, Volume 35, Number 7

REGULAR FEATURES Shareclubs 4

Sharing With You 4

Dividend & Company News 5

Model ETF Portfolio 5

Point Of View 23

Coming Events 27

Letter to the Editor 33

Money Digest 36

Canadian DRIPs with SPPs 37

Ask The Experts 39

Top Funds 40

Canadian ETFs 42

SPECIAL FEATURES

At-A-Glance: Split Share Corporations (Part 1 of 2)

Michael Southern 6

RRSPs 102: Beyond the Basics - Part 2

Colin S. Ritchie 9

Baby Boomer Retirement Planning

David Townsend 12

Opportunities In A Volatile Market

Keith Richards 14

Disability Tax Credit – Adaptive Functioning Alert

Ed Arbuckle 17

It Ought To Be A Snap!

David Ensor 19

Guaranteed Income–For Life: What You Should Know About Life Annuities

Ivon T. Hughes 21

What Investors Need To Know About Benchmark Indices

Gail Bebee 24

Bearish On Berkshire Hathaway? Don't Bet Against Buffett

Richard Morrison 28

Parking Pitfalls For Commercial Tenants

JeffGrandfieldandDaleWillerton–TheLeaseCoach31

Is Now The Time To Use Currency Hedging?

Dan Bortolotti 32

Navigating The Markets In 2016

Matt McCall 34

Two items this month: First, an interesting research piece crossed our desk recently. According to S&P data, there is more than $1 trillion in

short sale positions right now in the US market. One. Trillion. It’s a big number. The note goes on to say that this is a larger short position than at the depth of the financial crisis, in March 2009.

The conclusion most investors might assume is that this is bad. For that much money to be betting against the market surely must mean bad things are about to happen. If the ‘smart money’ is worried, maybe you should be as well?

Well, the article concludes that this level of negativity is, in fact, very good for the market. $1 trillion in future buying power. If you think about it, during the financial crisis there was lots of short selling as well. All those short positions needed to be covered and shares needed to be bought, when, yet again; the world did not in fact end. Glass half-full or half-empty? You decide. But we have not, in 40 years of investing, met that many successful bearish investors.

Second, but similar, we often stress to investors the importance of not panicking. However, nothing we can say can work any better than actually looking at the market itself in the first three months of 2016. There was total panic in January, with the market down 12% or so, the worst start to a year—ever. Now, 95 days into the year (at the time of writing) the TSX is up 2% year-to-date. All those who panicked missed a big rally. Just sayin’.

Sharing With You ShareClubs

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Blake Hoo Ajax/Pickering [email protected] Attobelli Bolton 905-857-6527Ken Kyer Cornwall [email protected] Piccoli Georgetown [email protected] Prescott Guelph [email protected] Thai Hamilton [email protected] Matthew Moore Kincardine/Port Elgin 519-371-6592Francis Savage Kingston [email protected] Gerson Kitchener-Waterloo [email protected] Gauld London 519-657-4393Dipen Parekh Milton 647-745-2420Paul Drummond Mitchell 519-348-9724Linda Sopoco Delfin Mississauga 905-858-5555Mark Nizio Newmarket [email protected] Matsdorf North York I [email protected] Pun North York II [email protected] Hogenhout Orangeville 519-942-0220Tom Loftus Oshawa 905-725-1979Andre Albert Ottawa 613-741-2828Volunteer needed Peterborough [email protected] Mintha Port Hope 905-885-8659John Mills Scarborough 416-267-7993Jeff Danby St. George 519-753-7414Gary Poxleitner Sudbury [email protected] Zhang Toronto-Central [email protected]/Susan Marrier Thunder Bay 807-768-5321Henry Lamasz Unionville/Markham [email protected]

ALBERTA, BRITISH COLUMBIA

William Wood Calgary SE, AB [email protected] Tremblay Fort McMurray, AB [email protected] Lum N. Edmonton, AB [email protected] V. Kelowna/Okanagan, BC [email protected] Hicks New Westminster, BC 778-875-2615Brian Pearson Prince George, BC [email protected] Karefoe Queen Charlotte Is., BC [email protected] Lines Salmon Arm, BC [email protected] & Vic Parks Salt Spring Island, BC [email protected] Groom Sidney, BC [email protected] Lee Ctrl. Vancouver , BC [email protected] Gibb Victoria, BC [email protected] Page Victoria/Sanich, BC [email protected]

NEW BRUNSWICK

John Richards Fredricton [email protected]

NOVA SCOTIA

Bill Macgregor Halifax 902-717-8153

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Frank Driscoll Charlottetown 902-569-3601

PeterPeter Hodson

Canadian MoneySaver z https://www.canadianmoneysaver.ca z MAY 2016 z 5

MoneySaver DIVIDEND& COMPANY NEWSIn this column we list recent news, events, dividend income news and any other relevant information for

MoneySavers. News items are those received after our last publication date.

• Surge Energy (SGY) cuts dividend by 50%.

• Dollarama (DOL) raises dividend by 11%.

• Amaya (AYA) CEO charged with insider trading.

• Power Financial (PWF) raises dividend 5.3%.

• Black Diamond (BDI) cuts dividend by 50%

• Pembina Pipeline (PPL) increases dividend by 4.9%.

Canadian MoneySaver MODEL ETF PORTFOLIOETF SYMBOL CATEGORY PRICE # OF

UNITSTOTAL % OF

PORTFOLIO

iShares 1-5 Year Laddered Corporate Bond CBO FIXED INCOME $19.16 506 $9,694.96 8.7%

iShares DEX Universe Bond XBB FIXED INCOME $31.74 166 $5,268.84 4.7%

iShares S&P/TSX Canadian Preferreds CPD FIXED INCOME $12.16 460 $5,593.60 5.0%

iShares S&P/TSX Capped Composite XIC CDN. EQUITY $21.35 980 $20,923.00 18.8%

iShares S&P/TSX Cdn. Div Aristocrats CDZ CDN. DIVIDEND $23.77 886 $21,060.22 18.9%

iShares S&P/TSX Global Gold XGD CDN. EQUITY $11.41 471 $5,374.11 4.8%

Vanguard FTSE Emerging Markets Index VEE EMERGING MARKET $27.04 194 $5,245.76 4.7%

SPDR EURO STOXX 50 FEZ GLOBAL EQUITY $32.23 144 $4,641.12 5.4%

SPDR S&P 500 SPY US EQUITY $205.52 33 $6,782.16 7.9%

Vanguard Div. Appreciation Index VIG US DIVIDEND $81.25 83 $6,743.75 7.9%

iShares Russell 2000 Growth IWO US GROWTH $132.61 69 $9,150.09 10.7%

Exchange rate 1.30

US Prices converted to C$ $108,672.75 Total Distribution $2,942.09

Starting Value October 18, 2013 $100,000 Gain(Loss) $11,614.83 Gain(Loss)% 11.61%

Prices are at market close on March 31, 2016

*Individual prices and distributions are not converted to CAD

**Total portfolio value, total distributions, '$ Gain' and '% Gain' reflect USD values converted to CAD

OTHER NOTES: Keep in mind all investors are different. This portfolio is designed as a guide in setting up your own personal portfolio. Unique considerations and adjustments need to be made to reflect your personal situation. Please perform your own due diligence before making investment decisions.

Returns are before transaction costs.

Please direct portfolio questions to [email protected]

• Fiera Capital (FSZ) raises dividend by 7%

• Stella Jones (SJ) raises dividend by 25%

• Polaris Infrastructure (PIF) declares initial dividend of $0.10 per share.

• Premium Brands (PBH) raises dividend by 10%.

• Tricon (TCN) boosts dividend by 8%

• Liquor Stores (LIQ) cuts dividend 63%


Investment Insight

At-A-Glance: Split Share Corporations (Part 1 of 2)Michael Southern

The split share is a unique investment vehicle that offers investors an enticing rate of return, superior to conventional income products. At the cost of higher return of

course comes higher risk and split shares are not the exception. Investors need to perform thorough due diligence, look under the hood of these vehicles and understand the prospectus clearly.

The first article in this series is designed to be a primer on split shares, how they are structured and whom they are appropriate for. The second part in the series will look closer at performance and examine the finer details of the prospectus.

What Is A Split Share Corporation?

A split share corporation (SSC) is established to invest in a portfolio of dividend-paying common stocks. The underlying stock(s) can be from a single company, from several companies in the same sector, or across multiple sectors.

To finance the stock purchase, the SSC raises money by offering a unit of the corporation, similar to a mutual fund. This unit is then split into two classes of shares - capital split shares (CSS) and preferred split shares (PSS). The SSC does have a maturity date with most arrangements maturing after five to ten years.1

Preferred Split Share Versus Capital Split Share

The PSS is geared towards income-oriented investors with the objective of generating fixed, preferential dividends and to return the original investment.2 The PSS has first claim on the dividends from the underlying portfolio. At maturity, the SSC will pay principal on these shares first, up to the issue price of the PSS. Because of these built-in protections, the PSS typically provides a higher level of safety, but minimal upside potential.3

The CSS is geared towards high-risk investors with the objective of participating in any capital appreciation (or depreciation) in the underlying stock. Often, the CSS also has a targeted payment amount and may pay special dividends. These units are entitled to all of the value in the underlying portfolio over and above what the PSS is entitled to. The structure of the SSC means the CSS uses leverage to generate enhanced returns compared to the underlying common stock. Of course, the CSS holder can also realize magnified losses.4

The process of splitting the common stock into the PSS and CSS allows the risk-reward component of common stock to be broken down and allocated based on risk tolerance. The CSS has a higher level of risk than the underlying common stock and the PSS has a lower risk than the underlying common stock.

Funding Payments

The dividends received on the stocks held in the SSC portfolio are used to fund the fixed payments made to the PSS. Excess dividend income plus option premium received from covered call writing is used to fund the targeted CSS payments. However, the CSS payment is a target and not fixed. If the NAV falls below a quoted threshold level, CSS payments can be missed. On the other hand, if the portfolio has realized gains, the CSS may be entitled to special distributions on top of the target payment. The objective is to pay mostly Canadian eligible dividend income to the PSS and a combination of dividends and capital gains to the CSS. In either case, the monthly payments are tax-efficient compared to bonds.

Performance Characteristics

Let us look at two scenarios to demonstrate how performance differs across the PSS and CSS structure and how leverage is employed. Assume the SSC raises


value of the preferred share is impeded.6

Split shares do come with special characteristics that make them superficially attractive to investors. However, they tend to be far more profitable for brokers. Once commissions and split share fees are deducted from performance, it’s unlikely that you’ll wind up with performance that appropriately reflects the risk taken.7

Actively managed split shares can easily have fees in excess of 1.0%. Some common fees in the prospectus include: sales fees payable to the agents, an annual fee payable to the acting investment manager and trust manager and a trailer fee paid to each dealer for clients who hold a specified minimum percentage of the total CSS units at the dealer. On top of this is of course the commission for each purchase and sale.

Additionally, split shares make heavy use of covered call writing. Looking at the holdings of a typical split share portfolio, the investor will likely recognize most positions, as they are often large, blue chip-type stocks. The split share yield however, is often much

higher than that of the underlying stocks. To make up the difference, the SSC aims to increase income by writing call options on the portfolio’s securities. Selling calls also tends to diminish any capital gains that its portfolio might generate and leave the fund with more losers than winners as the latter are called-away. This at the expense of the CSS.

Given the varying purpose and degree of risk between the PSS and CSS, the two are not created equal when it comes to advantages and disadvantages. Overall, the PSS is ‘relatively safe’ and there have been few instances of default on the shares. Investors in PSS are often attracted to the shorter life span of the securities, which again, can vary anywhere from five to ten years in most cases. When interest rates change, the relatively short maturity results in less volatile price swings compared to long-term fixed income investments. Finally, split preferreds often have higher yields than traditional preferred shares of similar credit quality. This is partly because most split share issues are too small to be included in preferred share indexes.8

However, this smaller size does also expose the investor to liquidity risk, as a PSS is thinly traded.

In many cases, the PSS distribution is cumulative; if the SSC is forced to cease distributions, missed payments to the PSS are accumulated and must be paid before any additional payment can be made to the CSS. A SSC would not suspend its distributions to the PSS unless the portfolio had deteriorated drastically. For example,

capital to buy one unit of common stock, which trades at $25 and has a yield of 4.0%, or $1. The SSC issues a PSS for $10 and a CSS for $15. One year later, the corporation matures.

In the first scenario, assume the common stock trades for $30 upon maturity. The PSS receives $1 in dividends and $10 in returned principal. On an investment of $10, this is a gain of 10.0%. The CSS receives $20, which is the capital remaining after the PSS has been paid ($30 - $10). On an investment of $15, this is a gain of 33.3%. Notice the effect of leverage in the CSS unit vs. the common stock holder who earns a return of 24% on the capital gain and dividend. Leverage of course goes both ways and the opposite would be true if the stock were trading at a loss when the SSC matures. See below.

Advantages And Disadvantages

As with any investment, there are always benefits and risks. We feel that in the case of split shares, the negatives outweigh the positives and we would rather invest for total return via the common stock or an ETF product. The concept of the split share is straightforward; less so is the process of understanding the fine details. As Brian McChesney, head of Scotia Capital’s structured products division, said, “In a lot of these products, the devil is in the details.”5

The main risk with split shares is a dividend cut. The PSS payment is a flow-through of distributions received on the portfolio of stocks held. A dividend cut, or an event that impairs the portfolio’s ability to receive income will cause both the PSS and CSS to fall in price. The PSS will then fall in price to a yield level where new investors feel adequately compensated for the risk of either another dividend cut, or, the possibility that they will not receive par value for the PSS at maturity.

If the underlying portfolio falls substantially in price and remains at those levels until maturity, the investor may not receive the par value of their investment. Reviewing a split shares’ downside protection is one approach to assess the risk level of the investment. Downside protection is the amount by which the market value of the underlying portfolio may fall before the ability to repay the PSS par

Common Stock CSS PSS

Selling Price $30 24% 33% 10%

Selling Price $11 -52% -93% 10%


MoneyTip

TD Returns To The ETF Market

Toronto-Dominion Bank is returning to the exchange-traded funds market after a decade-long absence with six ETFs, tapping an industry that’s almost doubled in four years. TD Asset Management unit started selling ETFs tied to fixed-income and equity markets in Canada, the U.S. and abroad. Management fees are from 0.07% to 0.18%. The funds trade on the Toronto Stock Exchange.

Toronto-Dominion joins Bank of Montreal and Royal Bank of Canada in selling its own ETFs. TD was the first Canadian bank to offer the securities in 2001, before shutting down the business in 2006 due to lack of investor interest. About C$88.9 billion ($68.1 billion)

of ETFs are now traded in Canada, with BlackRock Inc.’s iShares Canada the leader with a 51% market share, according to February data from the Canadian ETF Association. That’s up from C$47.9 billion in February 2012. The two main characteristics of the new offerings are passive management and low fees. All six are based on market-cap-weighted indexes. Three of them are TD duplicates of ETFs offered by well-established competitors.

TD S&P/TSX Capped Composite Index (TTP), for instance, employs the same market benchmark as the $1.2-billion BMO S&P/TSX Capped Composite Index (ZCN) and the $2.4-billion iShares Core S&P/TSX Capped Composite

assume that the market value of a portfolio has dropped 80% from its initial value and the dividend yield earned on the portfolio assets has been cut to close to zero because of changes in dividend policies of the underlying stocks. The SSC could suspend its dividend payments to the PSS to avoid having to sell portfolio stock to meet distributions. In suspending distributions, the issuer would be aiming to benefit as much as possible from a subsequent rebound in the prices of the portfolio’s stocks. If the portfolio appreciates enough in value, the issuer will be able to repay the preferred shareholders all unpaid dividends along with the full return of principal.9

James Hymas, a preferred shares strategist and president of Hymas Investment Management, recommends preferred shares over capital shares. “The preferred shares are very often a good investment for a fixed income retail investor looking for a short-term investment. Capital shares are almost always a poor investment.”10 He points out that the PSS unit is the easy half to sell. “They could sell as many as they would like. Capital units are relatively difficult to sell and are the limiting factor in how much of these things come out.” He points out that the CSS unit has little place in the investment portfolio on the grounds of high fees, high leverage and absent dividend.

We do agree that the drawbacks of the CSS far outweigh the advertised benefits. However, for the

truly aggressive investor who is interested only in gains, the CSS may be appropriate. For example, if such an investor has a strong conviction that the financial sector is going to outperform and wants leveraged exposure to this possibility, a CSS fits the bill. Other than margin lending, which many investors choose to avoid, there exist limited routes the investor could otherwise take to set up such a strategy.

Michael Southern is an Analyst with 5i Research in Kitchener, Ontario.

1 http://business.financialpost.com/uncategorized/opt-for-dividend-half-of-split-share-companies

2 http://www.tmxmoney.com/en/research/closed-end_funds.html3 http://www.theglobeandmail.com/globe-investor/investor-

education/ups-and-downs-of-doing-the-splits/article622696/4 http://www.tmxmoney.com/en/research/closed-end_funds.html5 http://www.investingintelligently.com/index.php?s=preferreds6 Scotia Capital “2015 Guide to Preferred Shares”7 http://www.tsinetwork.ca/daily/stock-investing/investing-in-

stocks-split-share-corporations/#addcomments8 http://www.theglobeandmail.com/globe-investor/investor-

education/ups-and-downs-of-doing-the-splits/article622696/9 http://www.dbrs.com/research/250166/rating-canadian-split-

share-companies-and-trusts.pdf10 http://business.financialpost.com/uncategorized/opt-for-

dividend-half-of-split-share-companies

continued on page 13...


Legal And Big Picture Planning

RRSPs 102:Beyond the Basics

Part 2

A lthough the 2015 RRSP deadline is now but a fading memory, getting the most out of your RRSPs often involves thinking several years ahead, rather than just doing

what you can when the end of February comes nigh. Accordingly, even though the flowers are blooming and the sounds of baseball season are in the air, I present to you the second part of my series on RRSP planning. This article continues to explore methods of wringing every last after-tax dollar out your existing and future RRSP contributions in the hope that your most pressing February concerns during retirement will be about things like what tropical vacation paradise do I want to explore next or is the year that the Leafs actually do make the playoffs.

I suspect many of you reading these words already have a firm grasp of the fundamentals. In fact, in my mind’s eye, I may even have seen a couple of you nod off or zoom ahead a few times while reading my first article (although I hope you didn’t skip the funny bits). For those of you who haven’t read the first article, however, and who don’t regularly talk about marginal tax rates while on the social circuit, I would suggest checking out my last piece in order to set the scene for the information below. As an added bonus, I did include a couple of advanced RRSP techniques that in the right hands can result in dangerous levels of tax savings.

Today’s piece continues looking at some of the advanced RRSP planning techniques designed to milk every last drop of tax savings from your RRSPs. In some ways, RRSP planning is like clothes shopping: one size does not fit all. Accordingly, I don’t expect all the options below to suit every financial situation. Also like shopping, however, sometimes all the hassle and energy of hunting through truly egregious ties or blouses better suited to

Colin S. RitchieLIND

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wipe up cat sick is more than justified when you find the perfect garment (at a deep discount, of course). Likewise, even if only one of the techniques below fits your financial shape and contours, the results can still be magical. Let’s get the journey started…

Using RRSPs To Level Out Unpredictable Incomes

Although the second “R” in RRSPs suggests that they are designed for retirement savings — and yes, that is their most common use — it isn’t as if this is etched in stone; sometimes you can reap huge tax savings in years when your retirement is still but a pinprick on a distant horizon. Does your income vary wildly from year to year, do you strongly suspect you will never use up all your RRSP room, or are you simply not an RRSP believer? If so, sit up straight, down a bit more coffee, and read on.

The basic idea is as follows. During high-income years, sock away extra money in your RRSP above and beyond what you’re earmarking for retirement. During lean financial years or when you finally take that year off to write your memoirs or travel the world in outrigger, pull out those extra dollars and pay tax on them while in a lower tax bracket. For example, if you’re in the highest tax bracket in B.C., you’d put away as much as you could in order to get a 47.7% tax refund now. If things are leaner the next year, it might be possible to pull out a bunch of money at a substantially lower rate. For example, any income up to just over $90,500 would be taxed at no more than 32.79%. Thus, every $10,000 contributed in the first year and withdrawn the next (such that total taxable income was $90,000) would generate more than $1,500 in savings, as some of this $10,000 would be taxed at rates lower than 32.79%.


Of course, when considering this strategy, it’s important to remember that it will mean less room to contribute to RRSPs later. As a result, you may want to ensure that you’re still keeping some of your RRSP funds intact for those days when you’re done working for good.

Pre-Retirement Dump-InAre you approaching retirement, have lots of unused

RRSP room and expect to be at a lower tax bracket when you retire? Even if funds are tight, consider dumping in a bunch of money during your last good-income year, even if you plan on pulling it out as soon as humanly possible thereafter. Even if you’re not in the higher tax brackets, the savings can be significant. Funds tight? Consider an RRSP loan. Although the interest on such loans is not tax-deductible, the tax savings from withdrawing the money at lower tax brackets can easily pay the carrying charges.

For example, assume you live in Vancouver and borrowed $10,000 in December of your final work year to bump up your regular RRSP contributions, reducing your taxable income from $87,000 to $77,000 and resulting in a tax refund of $3,100. If you pulled it out the next year so that your taxable income increased to $40,000, you’d have to pay tax of $2,006 on it. Assuming you had to borrow the money for three months at 4% interest, you’d be out $100. When the dust settled — assuming you didn’t earn a penny on your money — you’d still be up $1,000, and your only downside would be that you’d burned $10,000 in RRSP room (that you were never going to use anyway). Not a fan of borrowing money? Another option is to withdraw money from your TFSA in order to make this final RRSP contribution before the end of the year. Since you are always allowed to replace your TFSA withdrawals the next calendar and onward, you’d be able to use the tax refund from your original contribution, along with whatever is left after tax when withdrawing the $10,000 the next year (after having some of this withheld for that year’s taxes).

RRSP Homebuyer’s PlanFor those of us living on the west coast, coming up with

a down payment for that first home can be a daunting task. Furthermore, many of us want to come up with at least 20% of that amount so that we’re not stuck paying CMHC mortgage insurance. Fortunately, our friends in Ottawa want to help the cause, which is where the homebuyer’s plan comes into the equation. Everyone who hasn’t owned a home in more or less the last five years (or slightly less in some cases) can borrow $25,000

from their own RRSP to put toward a home. You need to pay yourself back eventually (at least 1/15 of the original amount must be paid back each year starting about two years after your purchase) or that amount is added to your taxable income that year. Since you already received a tax refund on the RRSP money when you contributed prior to your purchase, you don’t get another when you repay yourself in the future. Accordingly, if you have to choose between making fresh contributions and repaying the homeowners’ grant loan, repay the minimum only so that more of your money can be allocated toward new contributions that generate additional tax savings.

If you’re part of a couple and one of you isn’t working or there is a large disparity between your incomes, consider having the higher-income spouse make spousal RRSP contributions (assuming he or she already has or will still be able to contribute enough to come up with his or her own $25,000) so that the lower-income spouse will have a separate $25,000 to contribute to the cause. Obviously, this might take a few years of planning. If you are interested in this option, I suggest looking into the details before proceeding, as I have simplified things slightly in the name of readers’ mental health (and my own).

Post-Retirement RRSP Contributions And Spousal RRSP Planning

When you retire, your unused RRSP doesn’t retire with you. As a result, you are theoretically allowed to continue making contributions to your own RRSP until the end of the year in which you turn 71, provided you have the contribution room. Even better, for those of you with younger spouses, you are allowed to continue making spousal RRSP contributions until the end of the year in which your spouse reaches that milestone. For many of us, the prospect of making further RRSP contributions during retirement makes as much sense as wearing stripes with plaid — this is the time when we are generally withdrawing money from our registered plans rather than squirrelling away more for a rainy day. As well, the knowledge that whatever is left in your RRSP or RRIF at the last spouse’s death will be added to your taxable income that year is enough to give pause to many of us when stroking a cheque for yet another RRSP contribution. In many cases, these are compelling reasons to put your cheque-book back into your pocket. However, that is not always the case, and below are a couple of exceptions.


First, consider using up RRSP room when liquidating taxable assets that would push you into a stratospherically high tax bracket for that year — such as when selling a cabin or rental property, shares in a private company, or that stock market darling that will always have a warm place in your heart. Even if you pull out the extra money over the next few tax years, you could be well ahead in the tax game by spreading out the tax hit. When looking into this, however, you may also need to take into account things such as how your OAS pension might be affected down the road when you receive larger RRIF payments. Consequently, this strategy often works best if you are still a few years away from collecting and can pull out the money from your RRSP before triggering your OAS, or if you can put the money into an RRSP for a spouse with a much more recent birth certificate than your own. As well, keep in mind that it is now possible to defer the start of your OAS pension up to five years past the regular start date in exchange for higher payments later. Consequently, for some of us, it might make sense to take our friends in Ottawa up on this offer and whittle down the size of these registered plans during this period in exchange for higher OAS payments later (while also eliminating or at least reducing the amount of clawback coming your way when the government cheques do start arriving).

Second, if your income in early retirement is more than you expect in your later years — such as if you are working part-time or if you are a Sun Life advisor receiving personally-paid commission cheques (known to those in Sunlandia as “Core Payments”) for the first ten years after selling your block of business — it might make sense to continue growing your retirement war chest in some situations. This strategy becomes even more appealing if the tax deduction you receive allows you to get back some of your OAS pension (or at least reduce the clawback). Of course, deferring your OAS pension, and perhaps your CPP as well, during the early days might also make sense unless you’re not particularly bullish on the state of your health.

Third, spousal RRSP contributions during retirement can be a great way of deferring your day of reckoning, getting back some of your OAS Pension, and income-

splitting down the line if there is a significant age difference between spouses. Since spousal contributions can continue until the end of the year in which the receiving spouse turns 71, it is possible that someone in his 90s can still put money into a spousal plan provided he has the room and his better half ’s 72nd birthday is still at least a year away. For instance, the older spouse might use the minimum required RRIF payments he receives each year to fund an identically sized spousal RRSP

contribution. Not only would the contribution offset the tax hit from the RRIF payment, the money in the spousal RRSP can continue to compound until the younger spouse triggers her RRIF. Even better, at that point, 100% of the income can be taxed in her hands (although up to 50% can still be allocated back to the spouse who originally funded the account if this produces a better tax result).

ConclusionI’ve said it before (although

perhaps not so poetically) and I will say it again: RRSPs are an incredibly valuable tool that can be the hammer and nails used for

building the retirement dreams of many Canadians. But, like many tools, how it’s used has a huge impact on results: a chisel in the right hands produced the David, while in other hands the outcome might rival the efforts of a hard-working but not particularly talented fourth grader. I’m hoping this drives home my point about RRSPs. Sound investment decisions are essential (a little luck helps too), but this is not the only implement in your toolbox for success. Knowing how to manage your tax bill and taking advantage of some creative funding or withdrawal strategies to squeeze out extra savings can spell the difference between being able to vacation in Tahiti or Toledo during your golden years. In short, my hope is that some of the ideas in the last two articles will put you squarely on the path to mai tai’s on the lanais.

Colin S. Ritchie, LL.B., CFP, CLU and FMA is a Vancouver-based fee-for-service lawyer and financial planner who does not sell investment or insurance, just advice. To find out more, visit his website at www.colinsritchie.com.

RRSPs are an incredibly

valuable tool that can

be the hammer and

nails used for building

the retirement dreams

of many Canadians


Retirement Planning

Baby Boomer Retirement Planning

David Townsend

Icongratulate those who have punched the clock for the final time and retired early. However, I suspect many like me did not take early retirement for various reasons. Some “retirees”

now work into their 70s and 80s. Freedom 55 is not a priority for everyone.

However, regardless of what form your retirement will take, age 60-70 is where the “rubber hits the road”. Not to downplay the investing years, which are also critical, but many important and sometimes irreversible decisions should be made between the ages of 60 and 70. The different choices can be overwhelming and many just assume default positions, which are not necessarily best for them.

The rules have also significantly changed in the last five years and it is very possible that the present government will tinker with them further. The following addresses the issues as of 2015-16, but watch for changes!

Others may disagree, but my view is that there are no general “rules of thumb” for this type of planning. Platitudes such as “defer as long as possible” and “use your tax-paid money first” do not work for everyone and can even be financially harmful in some situations.

This is not information that can always be plugged into a spreadsheet to produce the “correct” answer. As we all know, retirement planning depends on many very personal issues. Sources of income, health, inflation, rates of return, life expectancy, and family issues have to be considered. Do the analysis and make the best judgements for you based on the available information.

When Should I Take CPP?

This is a decision to be made at the age of 60. Many just go to the default position and wait until they are 65….then they can defer again to the age of 70 if they

want. If you take early CPP at age 60, your CPP benefit will be 36% less than if you waited until 65. If you delay again and wait until 70, your CPP monthly payment will increase 42% over your 65-year-old benefit.

Those percentages sound huge, but they do not factor in that the 60-year-old who takes CPP early will receive benefits for five or ten additional years! So do your own analysis and determine your break-even point. Usually it works out to be around 75. Is it more important to have the funds now or later?

Should I Continue To Pay CPP After 65?

CPP must be paid on salary income up to age 65—there is no choice on this now. If you are still receiving a salary after 65, you can file form CPT30 – Election to stop contributing to CPP. Make sure that your employer and CRA get a copy. If you do not file the form, you continue to pay CPP on your salary until age 70.

Paying CPP after 65 entitles you to a Post-Retirement Benefit. The table on the Service Canada website indicates that at the maximum level, you pay $2,458 in 2015 CPP deductions and are entitled to $408 of Post-Retirement Benefit in 2016. Obviously, your Post-Retirement Benefit will increase for each additional year that you pay CPP.

Again, do your own analysis, but at the maximum level, it will take at least six years (6 x $408 = $2,448) to recover the 2015 CPP deduction. If you are self-employed and have to pay both the employee and employer portion, the payback period will double.

Should I Defer Oas?

As you probably know, you can now defer OAS until age 70 and your benefit will increase by 36%. Again, the guaranteed increase is tempting and you may not need the funds. However, similar to CPP, you will forego


MoneyTip

receiving OAS for up to five years. Factor that into your calculations.

To complicate it further, there is the dreaded OAS clawback. In 2015, this kicked in at an income level of $72,809 and if your income exceeded $112,000, the OAS will be fully clawed back. My own view is that the OAS clawback is not as expensive as some would lead us to believe (see my previous article on “Understanding the OAS Claw Back”). And there are other considerations, i.e. RRSP accumulations, future withdrawals, health issues, changes in the tax rules. Analyze your cash position with and without the OAS and make your best judgment.

It makes sense to defer if you are still working and over the clawback threshold, but expect to be below it when you retire. If you can control your income level and keep it below the clawback level, it may make sense to take OAS now. Note also that if you originally choose to defer, you can later reapply for up to eleven months of retroactive OAS.

When Should I Start Withdrawing From My RRSP Or RRIF?

An RRSP must be rolled over into a RRIF in the year the taxpayer turns 71. However, there is no withdrawal required until the next year (when the taxpayer turns 72). Many will defer as long as possible and then withdraw the minimum amount. The conventional wisdom is to leave funds in the RRSP-RRIF to grow tax-free as long as possible.

However, there is also an estate planning consideration. Many taxpayers pass away with large RRIFs, which are fully taxable. Depending on province of residence, the tax rate at this point can be 50% or more!

Therefore, if you have accumulated large amounts in your RRSP (or RRIF), you should consider withdrawing a larger amount sooner... especially if tax rates are going up. This was a huge issue in Alberta in 2015 when the 2016 top rate increased by 8%!

Also, note if you are 65, you can receive $2,000 annually from your RRIF and it will be offset by the pension credit. In other words, you get $2,000 out of your RRIF annually tax-free. This will not work for everyone…perhaps you are already drawing pension income and using the pension credit. But it is worth considering.

Final Comments

Many “retirement specialists” are available to advise and help with this. To reinforce what I said previously, however, there are no hard and fast rules. Be proactive, do your own due diligence and use your best judgment. Good luck!

David A. Townsend, C.A., C.F.P. has been providing accounting and tax services in Calgary since 1990. Clients include a wide variety of individuals, trusts, estates and private companies. For further information, check out www.datownsend.com

TD Returns To The ETF Market ...continued from page 8

Index (XIC). The new TD entry is also at a slight disadvantage in terms of management fees, since its fee is two basis points higher than the five basis points that BMO and iShares charge.

In the U.S. Equity category, the 10 basis points charged by TD's two S&P 500-based ETFs (unhedged and currency-hedged) matches its BMO and iShares competitors. But the lowest cost provider of TSX-listed ETFs that track the S&P 500 is Vanguard Investments Canada.

In international equities, an unusual aspect of TD's two new ETFs is the choice of a market benchmark that excludes South Korea. The chosen index is the S&P EPAC Ex-Korea LargeMidCap Index. On a positive note, TD's management fee is 18 basis points, which makes it the cheapest in the International Equity category.

Source: Bloomberg


Investor Awareness

Opportunities In A Volatile Market

Imust admit that the early January correction caught me off guard. At ValueTrend, we held 10% cash, remaining 90% invested coming into the January correction, given our expectation of

the traditional “Santa Clause Rally”. The setup was good, but then along came China….

We have spoken with very savvy traders and technical analysts who are in the same boat- having been blindsided by the January volatility. However, when one gets blindsided by an unforeseen event, this does not give one permission to stare into the abyss with no trading plan. It is my opinion that bounces should be used as an opportunity to lighten equity positions, and dips can be used as selective buying opportunities.

While the above suggests that I am predicting doom and gloom for the markets, I actually view this market as a range-bound corrective wave within a larger bull market, rather than entering into a bear market. I’d like to suggest there isn’t a lot of danger of a major crash this year, beyond rallies and corrections. However, there isn’t much hope for a new up leg in the bull market on the S&P500 at this time either. A new leg in the bull market will eventually break out, but it may take several months to happen. Breakouts need a catalyst – in either direction. While a breakdown may occur from the pressures surrounding China, I am not convinced this will be the catalyst to bring on a bear market in North American markets. Meanwhile, I cannot see a positive catalyst to push the markets up from this point either. In other words, there is much more volatility to come, in my opinion, but probably not a crash.

Keith Richards

The Good NewsIt is my opinion that we are still in a secular bull market

which should carry us until 2020 or much later. See the 100 year chart of the Dow Industrials (courtesy www.freestockcharts.com) below where I’ve notated the secular sideways and bull markets. It is clear that the US markets have broken into a secular bull phase. However, it is also clear that US markets are in a corrective wave within that secular bull. That corrective wave started late 2014 and has shown sideways movements since. The bull market, in my opinion, will break out again –but not without a catalyst – as mentioned above.

That catalyst hasn’t appeared yet. So we should assume more sideways (big up / swings) patterns until proven otherwise.

I’m looking at a few opportunistic trades in the current volatility – which are listed below. Please be advised that I may or may not enter into any of these trades. At this point, they are merely ideas on our ValueTrend watch


In any case, we may execute short termed swing trades (in and out) in gold and gold equities to counter stock market volatility.

Short ETFs

Like gold, a short ETF can trade in a negative direction to stocks. Short ETF’s sell short a basket of stocks. My favorite, Ranger Bear ETF (HDGE) shorts about 40 overpriced stocks. It tends to have an almost perfect negative correlation to the S&P500. Thus, like gold, it can help counter stock market volatility if traded on the downswing. The red line is HDGE (note how it went down when the market went up, and how it began moving up when market fell in January). The bottom pane on

list. We look for specific technical criteria before buying a sector or market. At the time of writing, the securities mentioned below have not yet triggered our “buy” signals, and there are no assurances that our indicators will signal positively on any of them. The list below, therefore, can be viewed as potential opportunities, not outright buys at this point:

The Euro

As the European economies recover from the malaise that has hit them in recent years, I note that the Euro has been stabilizing of late. Given a potentially overbought US dollar, the Euro could benefit as a value play on world currency markets. I’m less interested in European equities than in the Euro itself – although this is not to say that I am avoiding them. At this point, I am reviewing Euro currency ETF’s, such as the one shown in the chart below. Note the base on this chart after the Euro’s decline in 2014. Should the Euro move up and out of this base, that would suggest a new uptrend may begin.

Oil

Oil tends to have a seasonal bounce from mid-February into the spring. Given its oversold nature, a move out of the current downtrend and into a base would potentially inspire me to execute a trade in this commodity. We need to see that base before becoming too optimistic, but there is a case for an oversold bounce sooner or later. Oil tends to become seasonally attractive in late February and into the spring. Such a trade could be realized through an oil ETF that trades against the commodity, or an energy sector ETF that trades against the energy stocks.

Gold

Gold has returned to acting as a negatively correlated security vs. the stock market. In other words, it zigs when stocks zag. We have noticed a possible basing action on the charts for this much unloved commodity—although at this point it is too early to be overly optimistic on its upside.


MoneyTip

this chart is a correlation line. The lower that line is, the more perfectly HDGE is offsetting the S&P500. You can see it tends to migrate around -0.90 to -1.0 – meaning it is 90% to 100% perfectly negative in relationship to the stock market. That makes it a very good hedge.

S&P500 Swing Trading

As the US market moves up and down through its current sideways trading range, there will be opportunities to trade in and out of an S&P500 ETF and / or a Dow Jones Industrial Average ETF. I will likely favor a currency hedged version on either of these plays, given our questions regarding continued USD strength.

Keith Richards, Portfolio Manager, can be contacted at [email protected].

Keith Richards may hold positions in the securities mentioned. Worldsource Securities Inc., sponsoring investment dealer of Keith Richards and member of the Canadian Investor Protection Fund and of the Investment Industry Regulatory Organization of Canada. The information provided is general in nature and does not represent investment advice. It is subject to change without notice and is based on the perspectives and opinions of Keith Richards only and not

necessarily those of Worldsource Securities Inc. It may also contain projections or other “forward-looking statements.” There is significant risk that forward looking statements will not prove to be accurate and actual results, performance, or achievements could differ materially from any future results, performance, or achievements that may be expressed or implied by such forward-looking statements and you will not unduly rely on such forward-looking statements. ETFs may have exposure to aggressive investment techniques that include leveraging, which magnify gains and losses and can result in greater volatility in value, and be subject to aggressive investment risk and price volatility risk. ETFs are not guaranteed, their values change frequently, and past performance may not be repeated. Please read the prospectus before investing. Every effort has been made to compile this material from reliable sources; however, no warranty can be made as to its accuracy or completeness. Before acting on any of the above, please consult an appropriate professional regarding your particular circumstances.

Has The Concept Of Benchmarking Destroyed Investor Value?

Almost every single advisor recognizes that their client will evaluate him or her to a benchmark. This creates a principal / agent conflict, where the principal (owner of capital) wants the agent (advisor) to compound their investments at the highest return possible for their objectives; however, the principal is going to assess the agent’s ability relative to a benchmark and the assessment periods are frequent (e.g., quarterly, annually, and so forth).

Consider the following example, where the agent (advisor) has two potential investment options:

• With 98% certainty, you are going to beat the index by 5% over the next 10 years. The other 2% of the

time, you will lose to the index by 1%. However, you know that three of the years you may lose by as much as 8%. So while the long run expected returns are quite high, the return path to get there is very noisy and volatile.

• With 50% certainty, you are going to beat the index by 1% over the next 10 years. The other 50% of the time, you will lose to the index by 0.50%. In any given year, you will be +/- 0.25% relative to the index. Here, the long run expected returns are comparatively lower, but the return path is stable.

continued on page 20...


Tax Matters

Disability Tax Credit – Adaptive Functioning Alert

Indirectly, CRA has broadened its definition of mental functions for the Disability Tax Credit (DTC) criteria in form T2201 and the attached Information Guide. This fairly recent change

may not have come to the attention of taxpayers and it is important.

The Income Tax Act itself has not changed but the CRA publication wording has broadened as far as mental functions are concerned. To me, this opens up an opportunity for individuals with certain mental issues to now apply for the DTC whereas it was more difficult under the previous wording.

Activities Of Daily Living

The DTC is available to people who are markedly restricted in one or more of the following activities of daily living:

• Speaking

• Hearing

• Walking

• Eliminating (bowel or bladder function)

• Feeding

• Dressing

• Mental functions necessary for everyday life

Form T2201 And Its Information Guide

Better wording is now used throughout the T2201 Information Guide and the application form itself. For example, each of the seven activities is supplied with some good examples and there is even a helpful self-assessment questionnaire. Form T2201 is shorter and laid out better

Ed Arbuckle

for medical practitioners to complete and for applicants to understand. Cheers for the CRA.

DTC Opens Doors To Other Benefits

The DTC provides a tax credit of about $1,700 a year to people with a disability and their families, and opens the door to several other tax benefits and non-refundable tax credits. This Alert will not go into those details because there are too many to discuss here. However, there are two that warrant special attention because they are highly beneficial to individuals with disabilities:

• Qualified Disability Trust (graduated tax rates for income of a trust arising on death);

• Registered Disability Savings Plan (up to $90,000 in tax free government support).

DTC Change

When I recently read the CRA material, I became excited about the new wording describing mental functions because it differs from what was there a few years ago. Previously, the CRA allowed the DTC for the following three categories of mental functions:

• Memory

• Goal setting

• Problem-solving, goal setting and judgment, taken together

I suspect that many taxpayers have had a hard time convincing CRA that they met the second test or perhaps even the third one. Form T2201 has now changed goal setting in criteria two to adaptive functioning and leaves goal setting as part of criteria three. Presto! A much broader criteria has been added.


Form T2201 now describes the three types of mental functions as follows:

• Adaptive functioning (for example, abilities related to self-care, health and safety, abilities to initiate and respond to social interaction, and common, simple transactions);

• Memory (for example, the ability to remember simple instructions, basic personal information such as name and address, or material of importance and interest);

• Problem-solving, goal-setting, and judgment, taken together (for example, the ability to solve problems, set and keep goals, and make appropriate decisions and judgments).

Community Living Centre Material

In the course of my review I found some helpful material published by Community Living Centre – British Columbia. It defined adaptive functioning as how well a person handles common demands in life and how independent they are compared to others of a similar age and background. The material assesses adaptive functioning in three areas:

• Practical skills:

- How you manage your home and personal care

- How you manage money

- How you use the telephone

- How you get from place to place

- How you stay safe and healthy

- How you follow schedules and routines

- How you work

• Social skills:

- How you behave, talk to and understand others

- How you feel about yourself

- How you solve problems

- Whether you make your own mind up about things or whether other people influence you

- How you follow rules, obey the law and whether you are easy to take advantage of

• Conceptual skills

- Are you able to plan and organize?

- Can you use abstract concepts like time, money, numbers?

If [an individual has] significant limitations in adaptive functioning, it means that: you may do some things as well as or better than others who are the same age or background (for example: ability to remember numbers or play the guitar) and at the same time you have extreme difficulty coping with most other areas of life.

This is helpful information but does not exactly align with CRA’s criteria. Nevertheless, it is useful in preparing your application if it involves adaptive functioning. I suggest that an adaptive functions assessment be prepared and submitted with form T2201.

CONCLUSION

Page 5 of form T2201 indicates that it is mandatory that a doctor describe the effect of your patient’s impairment on his or her ability to perform each of the basic activities of daily living that you indicated are or were markedly or significantly restricted. I also suggest that the applicant attach a summary from their personal knowledge and perspective.

To support your application, your doctor should submit any medical information on file such as copies of medical reports and diagnostic tests. The applicant may also have additional medical information and this should be included as well if it could be helpful.

Do the very best T2201 application that you can and add supporting information that you have in your files. Applications can be rejected because they are missing details and it’s a complicated and time-consuming process to file an appeal.

J. E. Arbuckle Financial Services Inc. 30 Dupont St. E., Suite 205, Waterloo, Ontario N2J 2G9 Phone: 519-884-7087 Fax: 519-884-5741 Email: [email protected] www.personalwealthstrategies.net


Managing Risk

It Ought To Be A Snap!

M any, if not all, of Canadian MoneySaver readers do not have the luxury of being so wealthy that they can: a) not be concerned about their financial future

and retirement; nor, b) pay a team of advisers to focus on wealth preservation, tax and estate planning. In other words, they are hard-working Canadians who worry about outliving their resources and about how to plan and optimize across various potential scenarios.

Of course, they can go to their bank or talk to their broker for advice; or employ a financial planner—preferably someone who is fee-for-service, not commission-based. However, many of the tools and techniques that such people use are “proprietary”, opaque or somewhat generic in that they try to “fit” an individual into pre-determined categories, risk appetites and tolerances. They are better than nothing but they are not optimal.

So, in an ideal world what would an individual or couple wish to be able to do and see when they seek financial advice?

Here is a non-exhaustive list of what I believe each of us would wish for in being provided with advice that will help determine our financial future and help us achieve our goals:

➥➥ It should be impartial; and based upon what I would term the “fiduciary mindset”, i.e., the adviser should only have his or her clients’ interests in mind, not the financial reward that might come from any particular outcome;

➥➥ The process should be customized and tailored to the individual’s exact circumstances, including age, taxation and stated goals;

➥➥ It should be intuitive and “real-time”, so that

David Ensor

scenarios and assumptions can be changed, updated and immediately provided;

➥➥ It should be graphical, as well as verbal and numerical, i.e., outcomes should be produced in ways that enable the reader to grasp immediately the implications of a particular scenario;

➥➥ As well as answering questions, it should raise further ones and challenge both adviser and client to think more deeply;

➥➥ It should encompass all Canadian provinces and territories, and take account of federal and provincial tax rates, CPP and OAS;

➥➥ It should be able to distinguish between registered and non-registered investment accounts, as well as Defined Benefit, Defined Contribution and Employer-sponsored pension plans;

➥➥ While inflation may not be a topic of particular concern for Canadians right now, being able to make assumptions and see the difference between real and nominal outcomes is crucial;

➥➥ We should be able to adjust expected returns by asset class, e.g., cash, fixed income and equities;

➥➥ Many will wish to “downsize” and adjust their level of accommodation, so we should be able to make assumptions not only about the future value of property and the repayment of mortgage debt, but also about the impact of a future sale and then re-purchase;

➥➥ It should cover business or rental income, as well as that from employment. In addition, other sources of income should be integrated


MoneyTip

easily, e.g., rental income or income ownership or investment in a business;

➥➥ It should also enable us to test different strategies for capital accumulation and/or make withdrawals to maximize wealth;

➥➥ We may well wish to be able to leave a legacy and so wish to “solve” how we could manage our expenses and capital in order to do so, taking into account estate taxes;

➥➥ We should be able to understand what level of nominal income we will need to maintain our purchasing power in real terms;

➥➥ As many of us live longer, we may wish to see whether, if we live to be 100 or even longer, we may outlive our resources, and how making changes to our expectations will produce more sustainable outcomes;

➥➥ Ideally, we should be shown both how to test different investing strategies, as well as how to draw down on income and capital in pursuit of the most tax-efficient alternatives;

➥➥ We should be “nudged” to make rational, rather than emotional or sub-optimal decisions, while being free to decide for ourselves.

I am sure I could go on, and that readers can think of other factors which I have overlooked. As I said, the list is not meant to be exhaustive.

In an ideal world, we would be able to work with a trusted adviser to define our goals, create scenarios, view outcomes, and make informed decisions.

It ought to be a snap because conceptually such a framework and system should exist and be available to an individual Canadian or couple, given the now virtually unlimited availability of on-demand computing power and inexpensive data storage, and continuing enhancements to algorithms capable of fulfilling many tasks.

However, much if not most of the existing software is either not sufficiently comprehensive, is too “broad brush”, has non-intuitive design, or makes it difficult for adviser and client to change assumptions and inputs and be sure that the outcome is coherent and consistent.

Is it possible to find such user-friendly, customisable, real-time resources that would allow your adviser to provide you with advice that meets a fiduciary standard and allows you to work in partnership to design a financial plan that meets your goals and needs, rather than those of some standardized category?

That, Dear Reader, is for a further article. Suffice it to say, that I believe that there is at least one plausible candidate.

David Ensor- Risk Management Consultant- [email protected]

Has The Concept Of Benchmarking Destroyed Investor Value?...continued from page 16

Expected Value = (0.98%)(5%) + (2%)(-1%) = beat index by 4.88%

Expected Value = (0.50%)(1%) + (50%)(-0.5%) = beat index by 0.25%

Any rational long-term investor would pick option 1. However, the agent knows that picking option 1 is risky, as he/she might lose a job if the principal (owner of money) loses faith in the strategy in the short run.

Being pegged to a benchmark causes principal/agent problems that make truly active investing difficult. Indeed, benchmark requirements coupled with short-term horizons, ironically, serve as poison for investors who allocate to active funds. The only solution is to marry active strategies with investors who are educated and can internalize the fact that sustainable active investing has to be difficult.

Source: Alpha Architecthttp://blog.alphaarchitect.com/2016/03/24/has-

benchmarking-made-us-bad-investors/#gs.null


Annuities

Guaranteed Income–For Life: What You Should Know About Life Annuities

The traditional old-fashioned pension plan—the one where employers rewarded decades of employee loyalty with an income for the worker and his or her family for life after

retirement—is hard to come by anymore. As the economy globalized, more and more private employers, both in the United States and Canada, were forced to reduce or eliminate traditional defined benefit pension plans. They were just too expensive for employers to maintain while still remaining competitive with leaner companies that did not have to support so many retired workers out of their own revenues.

The decline of the traditional pension plan is too bad, though, because ordinary working families loved them. Together with Old Age Security Benefits, pension plans benefited Canadians because they represented guaranteed income for life.

If you’re in or approaching retirement, and are not fortunate enough to be covered by a traditional pension plan, you need to be very careful. The average Canadian is living decades into retirement—and the catastrophic risk is that you could eventually outlive your savings, even if you use all the tax advantages of registered plans. That’s a risk nobody can afford to take.

So what can you do? The answer is to create your own pension.

Generate Income For LifeGenerating income for life is the objective of any

responsible retirement plan. The combination of your personal savings, company pension plans, Old Age Security Payments and home equity must, ultimately, generate an actual income you can use to live on.

All these assets have an important place. But there is only one financial instrument on the market that is specifically designed to generate an income stream for you to live on, month in, month out, regardless of what

Ivon T. Hughes

happens to the stock market, regardless of real estate values, and regardless of what happens to interest rates. That instrument is the life annuity.

The Basics

A life annuity isn’t a stock or bond or direct ownership of shares in a mutual fund. Instead, it is simply a contract between you and a life insurance company. Here’s the arrangement: You contribute a sum of money, called the premium, to the insurance company. In exchange, you receive the contractual guarantee of a certain amount of money each month, each quarter or each year—whichever you select—for the rest of your life.

• If you live much longer than you expected, the income will continue.

• If the insurance company’s investment officers make some bad investments, that is not your problem. Your monthly or annual income will continue.

• If real estate prices collapse, or interest rates are slashed in half, your promised income will continue.

• If the stock market crashes, your promised income will continue.

Because of the unique guarantees that a life annuity provides—guarantees that no other financial product on the market can match—the life annuity is a critical ingredient in nearly every Canadian family’s retirement security plan. Because the income is guaranteed, no matter what, the life annuity can essentially take longevity risk—the terrifying risk that you or your spouse will outlive your income—and make it practically disappear.

As such, the life annuity is an essential tool from both the income-planning and risk-reduction perspective.


Joint Life Annuities – Because You Love Your Family

If you’re married, you will naturally want to take care of your spouse or partner—even long after you are gone. With a joint life annuity, you can ensure that if one of you dies, the income payments will continue to the survivor, as promised, as long as he or she lives.

This is true even if your survivor is much younger than you are.

You just have to make sure you purchase the correct type of joint annuity.

How Much Income Will You Receive?

The precise amount of income you will get from a life annuity is very individual and depends on a variety of factors:

o Your sex; o Your age; o Your spouse’s or partners’ sex and age (for joint annuities, see below);

o Your health (Regular life annuities work best for those in good health. However, if you have health challenges, call us and we will get you a special quote that may get you a higher income based on your potentially reduced life expectancy);

o Prevailing interest and bond rates at the time of purchase;

o The insurance company; o Inflation protection desired; o Any other riders you want.

Tax Considerations

In Canada, annuity income receives very favourable tax consideration. Depending on whether you fund your annuity using registered funds, or with outside money, your after-tax income from an annuity may well be much higher than you would otherwise get with comparable lower-risk investments—investments that don’t come with any kind of lifetime guarantee.

If you buy the annuity using registered or before-tax dollars, then the payments withdrawn will be fully taxable.

If you purchase your annuity with non-registered dollars, the annuitant gets back benefits equal to the contributions paid in on a tax-free basis since those funds have already been taxed. So your payment can be virtually tax free.

At more advanced ages, your annuity income may be completely tax-free. This can also help lower your reportable income overall, reducing your income tax rate on your other sources of income, as well. Furthermore, to the extent annuity income is tax-free, and it does not count against you when calculating eligibility for Old Age Benefits, which the government would otherwise begin to claw back because the taxable portion of your income is too high.

Uses Of Life Annuities

The most basic use of annuities is to secure a basic standard of living, no matter what. Many of our clients calculate their minimum acceptable income, and then lock that in with an annuity sufficient to pay their rent or mortgage, groceries, medical and transportation expenses, and basic living expenses. That way, no matter what happens to the stock markets, they know their basic expenses will be taken care of.

Often we build an inflation hedge right into the contract. That means that the scheduled payments will increase each year as inflation does its work. You would accept a slightly lower initial payout, but with the guarantee that your income will keep pace with general inflation.

Some of our customers opt for a guaranteed life certain feature. This means that even if both joint annuitants have passed away, income will continue for a specific number of years. This can be long enough to see a grandchild through college, for example, or to take care of a financial promise or obligation.

The Guarantee

The promises of any annuity or life insurance contract are as strong as the insurance company’s extremely conservative investments.

If a problem should occur, a not-for-profit organization called Assuris designated by the federal government will pay promised benefits, up to $2000 per month in income, or 85 percent of promised benefits.

The life insurance and annuity industry has a long track record of keeping their promises to annuitants, widows and orphans, a record that is unmatched by any other industry.

Ivon T. Hughes is a leading expert on life annuities. His website, lifeannuities.com, launched in 1999, provides advice and online quotes across Canada.His latest worry is what happens to his clients if our banks go to negative interest rates as Japan did on January 29th this year.


••• POINT OF VIEW •••

The Index Card Challengeby Ellen Roseman

Back in 2013, a University of Chicago social science professor said the correct financial advice for most people could fit on a small index card and

was available for free at the library. When challenged to share his best advice, Harold

Pollack pulled one of his daughter’s index cards out of her backpack, picked up a pen and wrote down some simple and basic rules he and his wife had been living by for a decade. His handwritten index card went viral. So, Pollack

wrote a book with journalist Helaine Olen, The Index Card Challenge: Why Personal Finance Doesn’t Have to be Complicated, published by Penguin in January 2016.I love the idea of formulating a financial plan on a

three-by-five-inch card. But I disagree with one of the book’s nine rules.“Never buy or sell individual stocks,” Pollack said. “The

person on the other side of the table knows more than you do about this stuff.” The authors talk about a few stock picks that bombed.

Olen watched both Amazon and AOL go public in the late 1990s and invested in the wrong one – with the memorable catchphrase, “You’ve got mail.” They saw the Zero Hedge website and TV host Jim

Cramer endorse GT Advanced Technologies, which made a component for the iPhone 6, in August 2014. Less than two months later, the company filed for bankruptcy and the stock fell below $1.“When you invest in individual stocks, you are

essentially trying to time the market,” they write. “You are trying to buy assets when they are undervalued, holding on until they run up in price.”Their preferred strategy: “Buy inexpensive, well-

diversified indexed mutual funds and exchange-traded funds.”Indexing is wildly popular, recommended by most

personal finance writers. But when everyone agrees, I get nervous.

Here’s my view: Buying good stocks is not that hard to do. And it’s not necessarily a recipe for disaster. What hurts is having a short-term view, trading too

often and getting carried away by your emotions. You can blow your brains out by buying and selling

index funds based on predictions and hunches, just as easily as with stocks.You need patience and perspective to succeed as an

investor – and you need to tune out the media noise (Yes, I’m a journalist, but I know we can distract people and make them lose focus.)Is it possible to beat the market as a stock picker?

Not if you hop onto growth stars without any earnings. Not if you follow hot tips without checking out the fundamentals. I believe you can prosper by searching out reliable,

long-term stock performers and buying them on price dips.

You can prosper by choosing blue-chip dividend payers with a record of dividend growth and reinvesting your dividends.

In my career as a columnist, investing instructor and founder of a Canadian MoneySaver share club, I’ve met many smart, successful stock pickers who keep up with the indexes.

My own mostly Canadian stock portfolio is up 8.13 per cent a year since inception in 2006, surpassing the 4.36 per cent gain for the S&P/TSX composite index (and coming close to the 8.89 per cent gain for the S&P 500 U.S. index).

As I said, I love the idea of writing your personal finance beliefs on an index card. Everyone should try it.

But instead of Olen’s and Pollack’s advice not to buy or sell individual stocks, I prefer the Motley Fool’s index card rule (Aug. 7, 2015): “Invest in a diverse portfolio of stocks with the intention of staying invested for decades.”

◆


Canada's Independent Voice On Personal Finance

What Investors Need To Know About Benchmark Indices

A benchmark index is a standard group of investments that can be a useful tool to measure the performance of other investments. They are frequently

referenced in the investment world.

For example:

• The profile of a mutual fund on the Globe Investor website shows the returns of an “Index” alongside the fund returns;

• The description of an exchange-traded fund (ETF) states that the ETF seeks to track the performance of [XYZ] Index after fees and expenses;

• A newspaper article reports that the Canada Pension Plan Investment Board measures its performance against a market-based benchmark.

You have likely encountered benchmark indices, but do you really understand them? Who creates them? How are they constructed? How are they used? What makes a good benchmark index? What should you consider when assessing benchmark index data?

Financial services companies create benchmark indices. The major players in this space are S&P Dow Jones Indices, Morningstar Indexes, MSCI Inc., Barclays Indices and FTSE Russell. Such index manufacturers license their products for use in measuring investment performance, or as the basis for constructing exchange-traded funds, mutual funds and other investment products.

Indices have been developed for the main asset classes found in many investors’ portfolios—cash, fixed income, stocks, real estate—as well as other asset classes. Indices that incorporate multiple asset classes are also available.

Gail Bebee

There are equity indices based on country, geographic region, style, sector, company size, dividend history, investment themes, or such factors as stock volatility. Bond indices may be defined by such aspects as issuer (government or corporate), investment quality, time to maturity or such factors as being priced below par. There are real estate indices delineated by geography, company size, volatility or yield, among other factors. And the list goes on.

The number of benchmark indices that have been developed is well in excess of 160,000. Some of the most well-known ones are shown in Table 1. New indices are built regularly as investors’ needs evolve. For example, in January 2016, in response to the concern of large institutional investors regarding short-term thinking in the capital markets, S&P Dow Jones Indices launched the S&P Long-Term Value Creation (LTVC) Global Index.

But with so many indices available, how do you know which ones are worthwhile?

Characteristics Of A Good Benchmark Index

The characteristics of a good benchmark index from the point of view of an individual investor are listed below, along with an assessment of how one well-known Canadian benchmark index (the S&P/TSX 60 Index) measures up. (The information regarding this Index has been drawn from http://ca.spindices.com/indices/equity/sp-tsx-60-index.)

• The index has a precise objective.

The S&P/TSX 60 Index from S&P Dow Jones Indices is designed to benchmark the large-cap market segment of the Canadian equity market.


• The methodology used to build the index is comprehensive, transparent and objective, and produces an index with holdings that represent the intended objective.

The S&P/TSX 60 Index methodology is covered in the 34-page document, S&P/TSX Canadian Indices Methodology. The eligibility criteria for the S&P/TSX 60 Index are clearly explained. The index is a subset of the S&P/TSX Composite and has 60 constituents that represent Canadian large cap securities. Market capitalization, liquidity minimums and ineligible securities are defined. There are rules designed to match the sector balance of the S&P/TSX Composite. The process for determining the weight of each index constituent, modified market capitalization, is set out.

• Given that investments which meet the eligibility criteria of virtually any index will change over time, there is a well-defined process for maintaining and rebalancing the index.

A committee reviews the S&P/TSX 60 Index constituents quarterly, and rebalances the index after the close of trading on the third Friday of March, June, September and December. As well, there may be ad hoc changes such as the removal of an index constituent which has stopped trading due a corporate takeover or bankruptcy.

• The index construction methodology and the list of investments comprising the index are publicly available.

The methodology, constituents and sector breakdown of the S&P/TSX 60 Index are published on the index manufacturer’s website.

• Index performance is clearly measurable. If an investment is difficult to value (e.g., private equity investment or a stock that trades infrequently), index performance could be difficult to measure.

The S&P/TSX 60 Index performance is measurable. All index members trade on the Toronto Stock Exchange and meet liquidity minimums.

• The index has a track record. An index may tout theoretical performance based on returns which occurred before the index was launched, but actual data is more reliable due to hindsight bias in index construction.

The S&P/TSX 60 Index was launched December 31, 1998. More than 15 years of actual performance data is available for review.

• The index is appropriate for the intended purpose.

If you wanted to benchmark the performance of your portfolio of large cap Canadian stocks, the S&P/TSX 60 Index would be a reasonable benchmark.

Table 1 Some Well-known Investing Benchmarks

Canada

S&P/TSX Composite Index – the broad Canadian equity market

S&P/TSX 60 Index – the large company sector of the Canadian equity market

S&P/TSX Canadian Dividend Aristocrats Index – Canadian companies that consistently increase their dividends

FTSE TMX Canada Universe Bond Index – the broad Canadian investment grade government and corporate bond market

U.S.

Dow Jones Industrial Average – the U.S large cap industrial sector

S &P 500 Index – the U.S. large cap equity market

NASDAQ 100 Index – the largest, most actively traded companies on the NASDAQ stock exchange, considered a technology benchmark

Russell 3000 Index – the entire U.S. stock market

Barclays Capital Aggregate Bond Index – the broad U.S. investment-grade government and corporate bond market

International

MSCI Europe Australasia and Far East Index – large and mid-cap equities of developed markets in Europe, Australasia, the Far East, excludes U.S. and Canada.

MSCI Emerging Markets Index – equity markets of emerging market countries in Europe, the Middle East & Africa


Methods of Index ConstructionThere are several approaches to constructing a

benchmark index.

1. Market Capitalization-weighted Indices

Market capitalization was one of the earliest methodologies used to construct benchmark indices and is still in wide use. Investments are chosen based on criteria defined by the index manufacturer. The percentage of each investment is based on its market capitalization or market value (number of shares issued multiplied by the stock price). Rules may be set to modify this weighting (e.g. a limit on the weighting of any one index constituent).

Market cap indices tend to over-weight companies with large share issues and high share prices.

In the case of bond indices, the market capitalization is based on the dollar value of the bond issue. Therefore, in some bond indices, the most heavily indebted issuers end up being a larger proportion of the index. Given this, the credit quality of the debt is typically factored into the construction of a bond index through the use of minimum credit quality criteria.

Let’s investigate a well-known example of a market capitalization index: the S&P/TSX Composite Index. This index is intended to benchmark the broad Canadian equity market. Financial, energy and materials firms account for over 66%. The top three holdings are all huge Canadian banks. The market cap of the smallest index member is $385 million. Small Canadian companies and certain sectors of the Canadian economy are not well represented in this index.

A large constituent of a market cap index could be so heavily weighted that any price change would have a considerable impact on the index performance. To counter this, some indices impose limits on the size of any one holding. For example, the weighting of any one constituent in the S&P/TSX Capped Composite is capped at 10%.

2. Price-weighted, The Dow Jones Industrial Average (DJIA) Index

The Dow Jones Industrial Average is the grand daddy of benchmark indices: it was launched in 1896. The Index consists of thirty large, publicly traded American

companies chosen by a committee based on company reputation, track record for sustained growth and public interest. The weighting of each constituent is based on its share price. This is not the best indicator of how the overall stock market is doing because each dollar change in any one company’s stock, no matter the size of the company, changes the Index by the same amount.

3. Equal-weighted Indices

Equal-weighted indices often use the same constituent selection methodology as other types of indices, but the weighting of the constituents is different. The signature feature of this type of index is that all holdings have the same weighting. This methodology overcomes some of the aforementioned shortcomings of market cap indices, although it can introduce other shortcomings such as higher trading costs to rebalance the index and higher weightings to smaller stocks.

Index suppliers have manufactured equal weight versions of some popular market cap indices, such as the S&P/TSX Composite Equal Weight Index and the S&P 500 Equal Weight Index. The Dow Jones Canada Select Equal Weight REIT Index is another example of this approach. It benchmarks Canadian-listed REITs, a popular way to invest in Canadian real estate assets.

4. Factor-based Indices

These indices use rules based on factors related to individual investments to determine the index constituents and their weightings. The intent is to improve on traditional market cap indices. These are sometimes called fundamental, alternative or smart beta indices.

One such approach selects index constituents based on financial characteristics. For example, the FTSE RAFI U.S. 1000 Index is composed of the top 1,000 U.S. listed companies chosen and weighted by their fundamental value. This is determined by evaluating four factors: total cash dividends, free cash flow, total sales and book equity value. The index is re-balanced annually.

Factors such as share price momentum have also been used in index construction. The Morningstar Canada Target Momentum Index includes 30 TSX-listed Canadian issuers that are selected based on above average return on equity, upward revisions on earnings estimates, and positive price momentum. The index is equally weighted and rebalanced quarterly.


Benchmark Indices And Exchange-Traded Funds

Most exchange-traded funds are based on a specific benchmark index which will be named in the fund prospectus and other descriptive material. The ETF objective is typically described along the lines of “seeking to deliver the performance of the [benchmark index], after expenses.” The ETF attempts to do this by owning the investments in the reference index in the same proportions as the index.

The earliest ETFs were based on well-known benchmark indices such as those listed in Table 1. The recent trend is for an ETF supplier to ask an index manufacturer to build an index tailored to her vision for a new fund, and then launch an ETF based on the new benchmark.

Some ETFs fully replicate their benchmark indices (i.e., own all the members in the index). ETFs which are based on indices with many constituents may use statistical sampling to select a subset of constituents that the ETF will actually own.

Prospective ETF purchasers should confirm that an ETF of interest is based on a good benchmark index, as described above. If an ETF uses statistical sampling, the ETF’s performance should be checked to confirm that it does indeed track its benchmark index.

Assessing Portfolio Performance Using Benchmarks

Benchmark indices can be used to evaluate the performance of your portfolio. Given the volatility of some investments over the short term, benchmark indices

are more appropriate for evaluating longer term (at least a year) investment returns.

One important thing to remember about benchmark indices is that the published returns do not include the management fees, trading costs or administrative expenses involved in managing a portfolio. Your portfolio is likely to underperform its benchmark index due to these costs.

To gain a realistic measure of performance, your portfolio should be compared to a well-constructed benchmark that reflects the investments you own. Your financial advisor or brokerage firm may be able to provide what you need. You could check out the returns of various indices at the websites of index manufacturers. A reference benchmark index may be published on your investment account statement.

If you are unable to find an appropriate benchmark index, you may be able to create a customized one using indices for each of the asset classes in your portfolio. For example, say you own a portfolio that is 20% Canadian large cap equities, 20% U.S. large cap equities, 20% developed equities outside North America and 40% Canadian bonds and you want to assess its performance over the last five years. To create a suitable benchmark index, you would tally up 20% of the 5-year return for each of the following indices: S&P/TSX 60 Index, the S&P 500 Index and the MSCI Europe Australasia and Far East Index, and then add 40% of the 5-year return of the FTSE TMX Canada Universe Bond Index. The asset mixer at fellow Canadian MoneySaver writer Norm Rothery’s website (www.ndir.com) will do the math for you.

Personal finance writer, speaker and teacher Gail Bebee is author of No Hype - The Straight Goods on Investing your Money, now in its third edition. Visit www.gailbebee.com

Coming Events

EVENT/TOPIC PRESENTER DATE TIME

Webinar: Taxes, Wills, Estates and MoreCost: $3.00 (+TAX)

Colin Ritchie June 4, 2016 1pm-3pm EST

Webinar: The U.S. Stock MarketCost: $3.00 (+TAX)

Matt McCall October 6, 2016 11am-12:30pm EST

Please go to www.canadianmoneysaver.ca/events for more information and to register.


Sector Focus

Bearish On Berkshire Hathaway?Don't Bet Against Buffett

T he best mutual fund in the world carries a management expense ratio of zero. The fund’s brilliant manager, however, is 85 years old (and appears to subsist on junk food) while

his partner is 92.

Of course, Berkshire Hathaway Inc. is neither a mutual nor closed-end fund, but its diversified portfolio of businesses does make it look like a fund—one that has consistently outperformed the S&P 500 for 50 years.

Along with its main insurance and reinsurance businesses, Berkshire’s subsidiaries include a railroad, fast-food restaurants, utilities, a maker of aerospace components, retailers of furniture, candy and jewelry, auto dealerships, real estate brokerages and daily newspapers. The company also owns 15.6% of American Express Co., 12.6% of Moody’s Corporation, 10.5% of Phillips 66, 9.8% of Wells Fargo & Company, 9.3% of the Coca-Cola Company and 8.4% of IBM.

With a market capitalization of US$352.68-billion, Berkshire ranks fourth among the world’s largest companies, behind Apple Inc., Alphabet Inc.(formerly Google) and Microsoft Corp.

Warren Buffett, Berkshire’s famous chairman (the “Oracle of Omaha”) still lives in the same house he bought in 1955 despite having a net worth of US$73.8-billion, accumulated entirely by making shrewd and insightful investments.

Mr. Buffett’s age and the company’s size have provided ammunition for its detractors. These pessimists say they fear Mr. Buffett’s successor might botch things up, and/or that the company has grown so large that it will no longer be able to find acquisitions big enough to increase earnings. Both concerns appear valid on the surface, but only on the surface.

Mr. Buffett’s longevity cannot be attributed to his diet. In an interview with Fortune magazine last year, he said he drinks five 12-ounce cans of Coca-Cola a day (regular Coke

Richard Morrison

at work, Cherry Coke at home) often accompanied by a tin of Utz Potato Stix, a brand of shoestring potato sticks. It is not unusual for him to have a bowl of ice cream for breakfast. “I checked the actuarial tables, and the lowest death rate is among six-year-olds. So I decided to eat like a six-year-old. It’s the safest course I can take,” he told Fortune.

Quips aside, investors have serious concerns about who might replace Mr. Buffett when he’s gone.

“Essentially my job will be split into two parts,” Mr. Buffett has written about his succession plans in several recent annual reports. “One executive will become CEO and responsible for operations. The responsibility for investments will be given to one or more executives...All candidates currently work for or are available to Berkshire and are people in whom I have total confidence.”

The leading candidates are Ajit Jain, 64, president of Berkshire’s insurance group, and Greg Abel, 52, who heads Berkshire Hathaway Energy. Other possible successors are Berkshire investment managers Todd Combs, 45 and Ted Weschler, 54. Mr. Weschler was already a wealthy hedge fund manager when he anonymously bid US$2.6-million in a 2010 charity auction that gave winners the opportunity to have lunch with Mr. Buffett. Mr. Weschler, who tendered the winning bid in two successive years, so impressed Mr. Buffett that the Berkshire chairman urged him to help manage Berkshire’s money, and Mr. Weschler joined the following year.

Despite the strong lineup of successors, practically anyone could run today’s Berkshire Hathaway. The company’s portfolio of profitable businesses are so self-sustaining that a simple business journalist could sit at Mr. Buffett’s desk, drink Coca-Cola, eat shoestring potato sticks and play online bridge—and Berkshire would still outperform the S&P 500 most years. On the off chance any work needed to be done, Berkshire’s 13 owner-related business principles, first composed by Mr. Buffett in 1983 and contained in every annual report since then, provide a detailed blueprint for managing the company.


Berkshire’s huge size does make it more difficult for it to find accretive acquisitions, but there are still plenty from which to choose. The US$32-billion acquisition of Portland, Ore.-based aerospace component maker Precision Castparts Corp. in January, for example, means Berkshire will own 10.27 companies that would be in the Fortune 500 if they were stand-alone businesses. (Berkshire’s 27% holding in Kraft Heinz is the 0.27%), Mr. Buffett writes in the 2015 annual report.

“That leaves just under 98% of America’s business giants that have yet to call us. Operators are standing by.”

Berkshire’s A shares (which have never split) closed recently at US$214,000 (C$277,000), putting them beyond the reach of most individual investors. Only a few hundred of the A shares trade daily. The company’s B shares, however, are a relatively affordable US$142.46 after a 50-to-1 split in 2010. (My wife and I own 150 of these).

This year, for the first time, you can see the historical record of Berkshire’s share price in the front-page table in Berkshire’s 2015 annual report. Despite not paying a dividend, the shares have registered a compound annual gain of 20.7% since 1965, compared to the S&P 500’s 9.7%, even with dividends paid by S&P 500 companies reinvested.

“Market prices, let me stress, have their limitations in the short term,” Mr. Buffett writes in the report. “Monthly or yearly movements of stocks are often erratic and not indicative of changes in intrinsic value. Over time, however, stock prices and intrinsic value almost invariably converge. Charlie Munger, Berkshire vice-chairman and my partner, and I believe that has been true at Berkshire: In our view, the increase in Berkshire’s per-share intrinsic value over the past 50 years is roughly equal to the 1,826,163% gain in market price of the company.”

Over the years, Berkshire has gradually shifted away from big stakes in listed stocks toward outright acquisitions, and due to accounting rules, Berkshire must record all declines in the value of its controlled companies but not the gains.

“Today, the large and growing unrecorded gains at our “winners” make it clear that Berkshire’s intrinsic value far exceeds its book value. That’s why we would be delighted to repurchase our shares should they sell as low as 120% of book value,” Mr. Buffett writes. Berkshire’s book value at the end of 2015 was US$155,501, so Mr. Buffett’s remark, in effect, puts a floor under Berkshire’s A shares at U$186,600, or US$124.40 for its B shares.

Berkshire’s annual meeting will be held in Omaha, Nebraska on April 30. Last year more than 40,000 shareholders packed the city’s arena and adjacent meeting rooms, occupied all available hotels and emptied their wallets

at Berkshire-owned businesses such as Nebraska Furniture Mart, Borsheim’s jewellers, See’s Candies and Gorat’s steak house. This year the entire meeting will be webcast, which means the crowds should be thinner.

“Our second reason for initiating a webcast is more important,” Mr. Buffett writes. “Charlie is 92, and I am 85. If we were partners with you in a small business, and were charged with running the place, you would want to look in occasionally to make sure we hadn’t drifted off into la-la land.”

“Viewers can also observe our life-prolonging diet. During the meeting, Charlie and I will each consume enough Coke, See’s fudge and See’s peanut brittle to satisfy the weekly caloric needs of an NFL lineman. Long ago we discovered a fundamental truth: There’s nothing like eating carrots and broccoli when you’re really hungry —and want to stay that way.”

On a serious note, one proxy proposal asks what Berkshire is doing in response to the threat of global warming, which may trigger huge property losses for insurance companies. Berkshire Hathaway companies insure government authorities against the rebuilding costs associated with major hurricanes and earthquakes. Climate change has not yet produced more frequent or costly weather-related events covered by insurance, Mr. Buffett writes, and consequently the premiums charged have fallen, which is why Berkshire’s subsidiaries have retreated from the business. Should weather-related catastrophes become more frequent, the prices charged for insurance policies will be raised to reflect the changing exposures, which would actually benefit Berkshire’s insurance business, he writes.

“As a homeowner in a low-lying area, you may wish to consider moving. But when you are thinking only as a shareholder of a major insurer, climate change should not be on your list of worries.”

Mr. Buffett is the main attraction at the annual meeting, but not for all shareholders. My son, who’s taking computer courses at college and who idolizes Bill Gates, glanced at the Berkshire proxy statement that came in the mail and saw that a William H. Gates III is on Berkshire’s board and will be in attendance at the meeting, ostensibly to take serious investment questions from shareholders, but more likely to be playing ping-pong or bridge with them. On the off chance of being able to meet his idol at the meeting, my son plans to use some of his summer job money to buy a few Berkshire B shares. It will probably turn out to have been an excellent idea.

Richard Morrison, CIM, is a former editor and investment columnist at the Financial Post. [email protected]


MoneyTip

2016 TAX RATES ALERTThere has been a great deal of conversation about the recent changes to tax rates arising out of last year’s federal election campaign, changes that start in 2016.

Tax rates are different for each of the major categories of income as follows: • Salary, pensions, interest, etc. • Capital gains • Dividends from public companies

We will not deal with dividends from private companies to keep the alert of a more general nature.

In general, the following tax rate changes will occur to the three categories of income

in four different tax brackets:

Set out below is a chart showing the combined federal and Ontario tax rates in each of the four brackets. The chart only shows the rate within each bracket and does not show the average rate of tax on total income. That would be a more difficult calculation and would depend on an individual’s mix of salary, interest, dividends and capital gains.

It is difficult to make complete sense of the changes to each of the tax brackets using the attached chart because they are inconsistent to some extent. The reason for this is that federal and provincial tax brackets are not aligned and there are surtaxes and other factors that cut in at various levels.

INCOME PREFERENCE – INVESTMENT INCOME

If you are at the higher end of the income scale, you will prefer capital gains first, dividends second, and interest third. If you are lower down the scale, you will prefer dividends first, capital gains second, and interest third.

Source: J. E. Arbuckle Financial Services Inc.

Income Change

$0 – 45,000 No change

$45,000 – 90,000 Modest decrease

$90,000 – 200,000 No change

Over $200,000 Significant increase

TAX BRACKET

CHANGE FROM 2015 TO 2016

2016

Salary & Other

Capital Gains

Public Dividend

Salary & Other

Capital Gains

Public Dividend From To

O 41500 0.0% 0.0% 0.0% 20.05% 10.03% -6.86%

41500 45300 0.0% 0.0% 0.0% 24.15% 12.08% -1.20%

45300 73100 -1.5% -0.8% -2.1% 29.65% 14.83% 6.39%

73100 83100 -1.5% -0.7% -2.1% 31.48% 15.74% 8.92%

83100 86200 0.5% -0.7% -2.1% 35.89% 16.95% 12.24%

86200 90600 -1.5% -0.8% -2.1% 37.91% 18.95% 17.79%

90600 140400 0.0% 0.0% 0.0% 43.41% 21.70% 25.38%

140400 150000 0.0% 0.0% 0.0% 46.41% 23.20% 29.52%

150000 200000 0.0% 0.0% 0.0% 47.97% 23.98% 31.67%

200000 220000 2.4% 1.2% 3.4% 51.97% 25.98% 37.19%

220000 UP 4.0% 2.0% 5.5% 53.53% 26.76% 39.34%


Real Estate

Parking Pitfalls For Commercial Tenants

Do you have enough parking spaces for your visiting customers, you and your staff? It’s a common problem The Lease Coach sees with both new and established tenants. We’ve

discussed the problems with parking in our new book Negotiating Commercial Leases & Renewals For Dummies in greater detail but here are a number of factors to consider.

First and foremost, what is the availability of parking spaces? Does it appear that there are enough stalls for all to use? Where are these parking spaces—in front of, behind or at the side of the building? Parking spaces located behind or beside your place of business may not be conspicuously visible to visitors. Are the spaces “rush parking” (first come, first served) or assigned specifically for your use? These “designated” parking spots are desirable and discourage others from taking your space(s). If your business is located near a major grocery store, consider that the best available parking spots may be taken by food shoppers. Parking spaces located close to your door will be advantageous for seniors who do not like to or cannot walk too far.

For many commercial tenants, parking is free. But for some, monthly parking charges for staff vehicles can range from $85/month to several hundreds of dollars per month. Even if you are prepared to pay for parking, don’t assume it will be available. Consider any parking costs for visiting customers as well. With lengthy visits, this cost can increase dramatically and they may not be able to simply run outside and put more money in a parking meter.

In our experience with working for commercial tenants, we recall visiting a couple of tenants who had hired us to do a new lease in a property they had found and liked. When we arrived at the property, it was around ten a.m. and the parking lot was already packed with other cars. We pointed this out and questioned just how busy this same lot would be after the vacant units were occupied with more tenants. Hearing this advice, these two tenants wisely decided it would not be in their best interests to pursue

Jeff Grandfield and Dale Willerton – The Lease Coach

this leasing opportunity. We also well remember a couple of other tenants who had been doing business for almost eighteen years in the same property and who hired us to negotiate their lease renewal. These two tenants were very frustrated that their landlord had converted the property’s free parking lot into paid parking—this, of course, would cause greater inconvenience visiting customers. Our message here is to never assume that your parking situation will always remain the same.

As some final words of advice, always assume that the only parking rights you will have are the rights you get in writing in your lease agreement. Also, remember that it is best if the tenant’s customers can park in the best stalls while tenants and their staff can park elsewhere. Determine whether the landlord has a designated area for staff to park and whether there’s a parking policy that the property manager polices or regulates. Smart landlords require both tenants and staff to provide their vehicle license plate numbers to the property manager for this very purpose. If the landlord or real estate agent tells you that all parking is first come, first served, you may want to include a clause in the lease agreement stating that if (in the future) the landlord gives special parking rights or privileges to other tenants, that they will have to give those same privileges to you. Parking is often used as an incentive by a landlord trying to attract new tenants, and landlords have been known to unfairly divvy up the parking to suit themselves or to attract other tenants.

For a complimentary copy of our CD, Leasing Do’s & Don’ts for Commercial Tenants, please e mail [email protected].

Dale Willerton and Jeff Grandfield - The Lease Coach are Commercial Lease Consultants who work exclusively for tenants. Got a leasing question? Need help with your new lease or renewal? Call 1-800-738-9202, [email protected] or visit www.TheLeaseCoach.com.


Smart Moves

Is Now The Time To Use Currency Hedging?

W e’re not quite in “northern peso” territory yet, but the Canadian dollar has taken a beating recently, reaching depths not seen since 2003.

Any time there is a significant move in the markets—whether it’s stocks, interest rates or currencies—investors tend to second-guess their strategies. Of course, the financial media is always there to support them with hyperbole, overreactions and short-term thinking.

Investors might now be wondering if they should reposition their portfolios in light of the dollar’s weakness, and the subject of currency hedging inevitably arises. Let’s start with a refresher on how this strategy works.

When you hold US or international equities, you are also exposed to foreign currency risk: the exchange rate between the Canadian dollar and these other currencies will affect your returns. ETFs and mutual funds that use currency hedging (these typically have “CAD Hedged” or “Currency Neutral” in their name) attempt to eliminate the effect of exchange rates and deliver the returns of foreign equities in their local currencies. For example, if the S&P 500 returns 10% for US investors, a currency-hedged S&P 500 should also deliver 10% in Canadian-dollar terms, regardless of whether the loonie rose or fell during the period.

A Falling Loonie Is Good For Your Foreign Equities

Over the last year or so, I’ve received questions from investors who worry that the Canadian dollar will fall further, and wonder if they should switch to currency-hedged funds for their US and international equities. But this is getting it exactly backwards. Currency hedging protects Canadian investors from a rising loonie, not a falling one.

Dan Bortolotti

This is actually quite intuitive. When we speak of the Canadian dollar “falling,” this implies an increase in the value of foreign currencies by comparison. So if you are exposed to US and international currencies in your portfolio, you will benefit from that increase. The worst time to use currency hedging is when the loonie is plummeting.

Now, if you believe the Canadian dollar has neared its bottom and will begin moving back up, then it makes theoretical sense to use currency hedging, because a rising loonie would otherwise harm returns. For Canadians who held unhedged foreign equities, the worst period in recent times was 2002 through 2007, when the Canadian dollar soared from about $0.63 to over $1.02 USD. During those six years, the S&P 500 returned more than 6% annually in US dollars, but lost about 2% a year in Canadian-dollar terms.

Why Hedging Disappoints

I stressed the word theoretical for a reason. Currency-hedged index funds have a long history of high tracking error, which means they may not behave the way you would expect them to. One reason is the cost involved in maintaining the forward contracts (the tools used to implement the hedging strategy), although this is relatively small. The biggest factor is simply the volatility of currencies. Funds reset their currency hedges once a month, but big moves in the exchange rate frequently occur during the intervals. Moreover, if the fund has large inflows or outflows during a short period, the fund may end up under- or over-hedged for the month. All of which is to say that hedging is not very precise. As The Globe and Mail’s Rob Carrick once described it: “Hedging is like playing hockey with a baseball bat. It can be done, but the results are clumsy.”


The upshot is that a currency-hedged ETF or mutual fund may not even protect you during a period of strong appreciation in the loonie. As my colleague Justin Bender found when he looked at the currency-hedged iShares Core S&P 500 Index ETF (XSP), the strategy delivered no benefit at all from 2006 through 2011, even though the Canadian dollar rose more than 14% from about $0.86 to almost $0.99 during that period. Had the hedging worked perfectly, investors in XSP would have earned an annualized return of 2.3% before fees over those six years. But the fund actually lost 0.1% per year, almost identical to the return of the unhedged iShares S&P 500 Index Fund (IVV).

That’s why it’s not correct to say that the hedging decision should even out over the long term. Currency fluctuations might even out over the very long term,

but unhedged funds will almost certainly track their benchmarks more precisely. Therefore, during periods when the Canadian dollar falls in value, you get the full benefit with an unhedged foreign equity ETF. But during periods when the loonie rises, the benefit of hedging may be muted, or even non-existent.

It would be ideal if we could turn currency hedging on and off at the right times. But in the absence of this magical power, a better strategy is to keep your foreign equities unhedged and simply use a rebalancing strategy to smooth out the ride.

Dan Bortolotti, CFP, CIM, is an investment advisor with PWL Capital in Toronto and the creator of the award-winning Canadian Couch Potato blog.

Letter to the Editor

Rebuttal by Warren McKenzie

In the article, 21 ways to reduce Investment Management Fees, Mr. Mackenzie made several errors. For the sake of brevity, I will restrict my comments to point 17, "Avoid Segregated Mutual Funds".

Perhaps Mr. Mackenzie is unaware, there is no such thing as Segreagted Mutual Funds. I can only assume this was an error on his part and not done intentionally to try and confuse your readers. Mutual funds fall under the bank act in On-tario. Segregated Funds, fall under the Insurance Act. They're two different investments completely.

Second, Mr. Mackenzie is also incorrect in his statement that MER's are usually over 3%. MERs are very competitive and start as low as 1.5% in some cases. True, some funds have higher MERs for more aggressive/specialty funds, but this is the same in Mutual Funds.

Mr. Mackenzie's assertion that "a guarantee that only gives you back your capital in 15 years is of questionable value" is a dangerous statement. How many clients were decimated in 2008? Their funds in many cases have still not returned to the value before the drop. Is Mr. Mackenzie suggesting that all clients will be made whole? That is a guarantee I think your readers would be very interested in.

Sure maybe over the long term most funds will be up. However one cannot predict this, and what if a death occurs? If you pass away during a down market you are leaving less money to your loved ones. Many clients who passed away in 2009 left 20-30% less to their beneficiaries. Unless they were in Seg Funds.

Building wealth for some clients may not be enough, protect-ing money can be just as, if not more important. For example,

Business Owners, concervative clients, investment loan clients, retirees and pre- retirees

Finally, don't forget about the fact Seg funds allow you to name beneficiaries on non-registered contracts. You can't do this in mutual funds.

Overall, Segregated Funds may offer excellent value for the MER, depending on the client.

David ReevePresident, Davlyn Financial

Segregated Funds—or more formally Variable Annuity Contracts—are the proper terms. Putting the term ‘mutual’ was technically incorrect. That said, segregated funds (or “seg funds”) are pooled investment vehicles that look and function like mutual funds in many respects.

The claim that mutual funds “fall under the Bank Act in Ontario” is fraught with misunderstanding. The Bank Act is a Federal statute—i.e. there is no Ontario (or any provincial) bank act. Moreover, mutual funds fall under the jurisdiction of securities regulators in Canada—not Federal bank regulations.

Mr. Reeve accurately points out that—as insurance policies —seg funds fall under insurance regulations. While there are distinct differences between the two, there are many similarities. For example, the Income Tax Act defines both vehicles as trusts (seg funds are considered inter-vivos trusts while mutual funds are mutual fund trusts).

(continued on page 38...)


Investing

Navigating The Markets In 2016

S tocks closed out last year with a small loss and 2015 went down in the books as the worst year since 2008. Even though the S&P 500 only fell by 0.7%, it felt much worse for

the average investor. Individual stocks and sector ETFs struggled as the easy money in the bull market is more difficult to identify. That being said, there are a lot of reasons to remain bullish on U.S. stocks for 2016 and beyond.

A snapshot of the first week of trading in the U.S. stock market would suggest investors partied a little too hard on New Year’s Eve. By Friday the S&P 500 had already dropped by over 5% in 2016—the worst start ever to a year! On top of the 2016 struggles, the Dow and NASDAQ also moved into correction territory, defined by a 10% pullback. This is significant because until August of last year the major indices had not experienced a correction in over four years.

Why Are Stocks Falling?The headline of every newspaper, website, etc. will

have you believe the reason for the stock market sell-off is the economic numbers out of China. That is the easy answer to a more complicated question. Granted, the Chinese stock market triggering circuit breakers with 7% losses two times in one week is significant. But we need to look at why the Chinese stock market crashed.

The Chinese economy is slowing, but it has been slowing for over a year and it is not as if investors woke up after partying for the New Year and took notice. Selling was exacerbated by the fact the Chinese government was devaluing the Yuan in attempts to increase exports. A very similar action took place in August 2015, sending the

Matt McCall

Chinese stock market into a bear market and U.S. stocks into their first correction in over four years.

There are other stories that could be more worrisome to investors who are already ready to jump off the stock-market train. The geopolitical situation has been a bigger concern since the Paris attacks, and the New Year kicked off with two headlines I felt were a bigger reason for the global stock sell-off. First the tensions between Iran and Saudi Arabia are heating up and nobody around the globe wants to see an escalation between the two long-term rivals.

Then there is North Korea who has claimed to have successfully tested a hydrogen bomb. Most experts question the reports out of the small dictatorship that the bomb was successful. Whether it was or not may never be known; what is known is that the report adds fear to investors who are already scared of their own shadows.

Diversification Is KeyThe fear-mongering so-called “experts” are taking their

short-lived time in the media as they tout the coming of the next apocalypse. Everything from gold to buying land in Bolivia will be thrown at investors as a strategy to escape the inevitable death of the stock market. Last time I checked, the 130-year chart of the U.S. stock market moves in one clear direction – up!

During times of panic selling, it is difficult to find a sector or asset class that will completely avoid the scared investors who are hitting the sell button. The gold bugs will argue that the precious metal is the best safe haven investment in the market. They may be correct for a week or two, but the chart of the price of gold shows a distinct


downtrend since 2011. Gold is down over 40% from its highs and during the same time the S&P 500 is up over 70%. The numbers do not lie—gold has been a losing bet as a safe haven for five years.

The key is not to shift a portfolio to safe-haven investments, but rather to have a diversified portfolio during a time when corrections are more likely. Attempting to time the market by rebalancing a portfolio from week to week is not as easy as it is on paper or as the late night infomercials will lead you to believe.

The yield on U.S. Treasuries remains well below historical levels even though the Fed has begun its rate-hike cycle. Therefore, companies with stable balance sheets and solid dividends will be considered safe havens during a market correction.

The water utilities are a niche group that I feel are the best positioned during a pullback as well as a market rebound. There are only a few companies traded on major exchanges and they typically have a beta below 0.50, suggesting they have little correlation to the S&P 500.

One example is small-cap Connecticut Water Service (CTWS), which has a beta of 0.2 and a dividend yield of 2.8%. Even more impressive is the fact the stock is beating the market by 800 basis points in the first week of trading.

Another strategy is to search for stocks that were able to outperform during the last bear market. In 2008 the S&P 500 lost 38.5% and nearly every stock in the index was down for the year, except Wal-Mart (WMT). The country’s largest retailer closed out 2008 with a gain as investors assumed a terrible economy would mean every American would be shopping at Wal-Mart, looking to save money.

Could the same thought process be going through the minds of investors again? The mega-cap retailer is up over 5% through the first week of 2016, beating the S&P 500 by approximately 10%.

Stay The CourseSince the beginning of the bull market in March 2009

there have been 19 pullbacks of at least 5% in the S&P 500. The pullbacks ranged from 5.1% to 21.6%. The market last topped out on November 3 and since that time the index is down 8.4%, which just happens to be the median decline of the 19 occurrences. All signs are indicating the current stock market pullback is a garden-variety correction, nothing less, nothing more.

Another way to look at the big picture is by examining how investors are affected by missing out on the best single-day gains in the stock market. Since 1985, investors who followed the buy-and-hold strategy with the S&P 500 have gained 8.4% annually. If an investor missed the best five days in the stock market over the last 30 years it would lower the annual return on the portfolio to 6.69%; missing the best 25 days takes the annual gain to 3.06%.

It is unlikely that investors would miss the 25 best days, but the reason this is significant has to do with when the best days occur.

A sharp sell-off in stocks is often followed by a snapback rally that turns out to be some of the best one-day gains for the market. When investors panic-sell, they miss the snapback rally and thus lower their long-term gains.

The bottom line is that investors need to stay the course and think big picture. An old-timer on Wall Street once told me that every day you wake up there are numerous reasons not to be invested in the stock market. Considering the stock market has been the number one wealth creator for the average American for over a century, please put your fear aside.

Matt McCall, founder of Penn Financial Group, an investment advisory group serving individual and institutional clients from coast to coast. Author of two best selling books, “The Next Great Bull Market” and “The Swing Trader’s Bible”. Regular guest on Fox News Channel, Fox Business Network, CNN, and GBTV with over 1000 TV segments in the last 5 years. Writing contributor for the International Business Times, The Blaze, Benzinga, and Index Universe.

Since 1985,

investors who

followed the

buy-and-hold

strategy with the

S&P 500 have gained

8.4% annually.


This column offers excerpts from published and online sources to provide other viewpoints.

Investment Recommendation

We are reiterating our BUY recommendation and increasing our target price to C$37.00 (from C$33.00) on Cara Operations (CAO) following the March 31 announcement of the acquisition of St-Hubert.

Investment Highlights

• This morning, Cara announced a transformational acquisition of St-Hubert, Quebec’s largest full-service restaurant chain and the fourth-largest in Canada, for $537 million. The transaction is anticipated to close in summer 2016.

• The transaction price equates to ~12x trailing EBITDA, based on St-Hubert’s ttm EBITDA of $44.8 million. The company has identified $10 million in synergies, expected to be achieved over the next 3 years, primarily related to procurement and cost reduction initiatives. This would reduce the post-synergy transaction multiple to 9.8x. St-Hubert also owns the real estate to 26 of its restaurants and both manufacturing facilities.

• Our calculations suggest the transaction is 11% accretive to our 2017 EPS estimates. That being said, we believe the synergy targets are conservative, as there should be ample room for “revenue” synergies as Cara should be able to leverage a new platform in Quebec along with St-Hubert’s strong retail foodservice presence.

• Cara had previously stated its intention to pursue an acquisition which would provide the company with a growth platform in Quebec, where, prior to today’s

announcement, Cara only had 6% of its restaurants located within Quebec. We cannot think of a better and more synergistic platform than the acquisition of the iconic St-Hubert restaurant chain, and expect this will allow Cara to bring additional Cara-branded restaurants to Quebec, in a more profitable basis than prior to today’s announcement.

• As a reminder, one of the keys to our positive investment thesis on Cara is its heavily franchised, asset light structure which allows the company to generate meaningful free cash flow. Today’s announcement further strengthens Cara’s competitive advantages, in our view, as the company acquired another highly franchised, high free-cash-flow business. Given the potential synergies that exist, not only on the cost side but also on the top-line, we believe Cara has only increased its positioning as the dominant restaurant operator in Canada, and as an attractive consolidator going forward.

Valuation

Our C$37.00 target price represents 13.4x our 2017 EBITDA estimate of $190 million. In our view, Cara’s clear organic growth profile, position as a leading consolidator, healthy balance sheet, robust return on equity, and strong management track record supports a premium valuation multiple vs peers.

Source: Canaccord Genuity

CARA IS NOT TOO CHICKEN TO TAKE A BITE!


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Letter to the Editor - Rebuttal (continued from page 33)

Regarding seg fund management expense ratios (MERs) my recent survey supports my statement that 3% is a very typical level of annual seg fund costs. Of the more than 6,000 seg funds (including many various incarnations of the same fund mandate), the median management expense ratio was 2.8% per year (source of all seg fund fee information is GlobeInvestorGold.com). MERs range from nearly 6% to below 1.5%. But when half of the universe sports total annual costs near 3% and above, it’s hardly a mischaracterization to cite 3% as a typical fee. Lower fee seg funds are available but they involve either weaker guarantees (e.g., 75% maturity guarantee) or a minimum investment of $150k to $500k. And at that level, non-insurance options are much cheaper than standard retail mutual funds so the additional costs for seg funds remains large.

I also stand by my claim that seg fund maturity guarantees have little real value, despite being a key selling point in client presentations (in my experience). This feature had more value in the days when you could hold a portfolio of seg funds with each individual fund held in separate policies so that each fund is guaranteed. Even though this is how seg funds are priced, insurers no longer allow this. If you have a RRSP with an insurer it can’t be divided into several accounts. The guarantee—while priced on each individual fund—will only apply to the entire account. Accordingly, many are already overpaying for the maturity guarantees.

The claim that investors in uninsured investments “…in many cases have still not returned to the value before the drop” is not supported by our experience or the general market data. Canadian stocks lost about half of their value between mid-2008 and early 2009. But those who held on recovered by early 2011. In other major markets, recovery didn’t take place until 2013. The round trip from peak, to trough through recovery took much less time than the length of seg fund maturity guarantees—which ranges from 75% to 100% so all of your capital may not be guaranteed.

I agree that the death guarantee is one of the more useful features of seg funds. But again, advisors that are doing right by clients should take a holistic approach to assessing whether seg fund features are actually useful to or needed by clients and assessing the cost-benefit tradeoff. The same can be said of the potential for creditor protection. Then again, RRSP

funds that have been invested for more than 12 months are generally protected from creditors so creditor protection is not an advantage for RRSP accounts.

Mr. Reeve also cites the ability to designate a beneficiary on non-registered seg fund policies—which can’t be done on a traditional investment account. But again the cost-benefit comes into play. Is it worth paying an extra 0.8% to 1% in ANNUAL COSTS to avoid a ONE-TIME 1.5% probate fee? In most cases I’d say no. If you want to provide for an individual outside of your spouse or children this can come in handy. But again, this is not a common need.

Mr. Reeve claims that seg funds can protect capital for business owners, conservative clients, investment loan clients, retirees and pre-retirees. Conservative clients should be aware that significantly higher costs can cause a double-whammy of reducing returns and increasing downside risk. With bond yields around the same level of the median seg bond fund’s MER it’s not clear how clients can benefit from anything other than a very stock-heavy portfolio.

For investment loan clients—i.e. those that borrow money to invest in seg funds—a similar issue arises. They’ll have to invest in equity-only seg funds – which sport a median MER of 3.2% - and the higher costs will stack the odds against success of such programs. The potential to make sufficient profits given the risks involved are not attractive given the return potential baked into stock prices today, the typical fee of equity seg funds and today’s loan rates.

Many of the aforementioned comments apply to pre-retirees. For retirees that are drawing on their savings to generate cash flow, seg funds are often mis-understood. In some circumstances withdrawals can reduce maturity and death guarantees by more than most people realize.

Reasonably-priced segregated funds with only necessary features can definitely make sense for the right situation. But everything involves trade-offs. And investors need to be informed of the extra costs so that they can compare the actual benefits with a true cost comparison so that they can make an informed decision. But those that hold no investment license (to advise or sell) are unlikely to be able or willing to provide such information to prospective clients.

Warren,Thank you for your kind words and attention. We obviously have many points we agree on. However one sticking point appears to be the guarantees and the usefulness of them. "If you have a RRSP with an insurer it can’t be divided into several accounts. The guarantee – while priced on each individual fund – will only apply to the entire account. Accordingly, many are already overpaying for the maturity guarantees."You are incorrect sir. I regularly split up RRSPs and other accounts inside of seg funds for the very purpose you suggest. It is not uncommon for a client of mine to have multiple contracts with a seg fund carrier. While the insurance companies don't advertise this, advisors with lots of experience know how to accomplish this. Otherwise I agree with your comments. Fitting clients with properly priced seg funds to fit their needs works! I believe seg funds to be a good value proposition when you factor in all the differences.

Thanks. —David


Q I have a rental property and want to return to principal residence status. Is it possible, and what are the procedures?—ACMSReader

A Yes, this is definitely possible. However, there are potential tax consequences that may cause you to rethink whether or not moving into your rental property is worthwhile.

The Canada Revenue Agency defines the above event as a “change in use”. When an owner converts a rental property from income-producing to personal use, or vice-versa, the owner is deemed to have disposed of the asset at fair market value and then to have immediately reacquired the asset.

Unfortunately, this deemed disposition can create a taxable capital gain if the property has appreciated in value. The capital gain is calculated by deducting the adjusted cost base of the property from the fair market value. Under the current rules, fifty-percent of this amount would be reported on your tax return as income.

Under certain circumstances however, a tax election can be made under section 45(3) of the Income Tax Act in order to defer the gain. The election can only be filed if no capital cost allowance has been claimed on the property for any year after 1984. This election would allow you to defer paying taxes on the gain until an actual sale occurs.

Tim Adams, CPA, CA is a partner at the Waterloo office of MAC LLP providing accounting, assurance and taxation advice to corporations, individuals and not-for-profits

You must accompany your inquiry with your

Membership Number (ID) and telephone number or

e-mail to have your question reviewed. Inquiries are

responded to directly and the Q&A may be published

here later. Hundreds of Q&As are found on www.

CanadianMoneySaver.ca

Q On Jan 28th, 2016, I noticed that PotashCorp (POT) announced they were cutting their dividend by 34% from $0.38 US/Q to $0.25 US/Q. Based on your guidelines for the BTSX strategy will you be selling that stock? —ACMSReader

A Yes, I did sell POT based on my unfortunate experience with companies that cut their dividends. I was hoping that POT would continue with the dividend as it was but it appears that business conditions are such that the management team has decided they cannot support the payment. POT was on the 2016 list at the price of $23.70. I sold it on Jan 28th for 21.25 for a 10.3% loss. I recalculated the BTSX list on that day and the next stock on the list was Bank of Montreal (BMO) so this will replace POT. BMO’s purchase price was $74.00.

This was not a good way to start off 2016 but it is with the action of the stock replacement that I hope to minimize the damage to the portfolio. TransAlta (TA) was the first dividend cutting stock that I commented on to CMS readers two years ago. They first cut their dividend in February, 2014 by 40%. Interestingly they just cut their dividend by a further 75% this month on January 15th. This double dividend cutting issue was exactly what I hoped to avoid when I sold TA 23 months ago. Although selling a dividend cutting stock at the time of the cut for a loss is painful, it is a lot less of a problem then selling it in the future for a much greater loss. As always it is up to each individual investor to decide what actions, if any, they want to take when faced with the dividend cutting scenario.

This change in the BTSX list leaves us with the following stocks. NA, CM, BNS, SJR.B, BCE, PWF, ENB, TRP, T, BMO. Hopefully all of these companies will maintain their dividends or increase them during the balance of 2016.

Ross Grant - Beating the TSX


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Specialty ETFsTOP EXCHANGE TRADED FUNDS RANKED BY FIVE-YEAR RETURNS AS OF MARCH 31st, 2016 Fund Name Ticker Mkt Tot Return

YTD(Current)

Mkt Tot Ret 1 Mo

(Current)

Mkt Tot Ret 3 Mo (Current)

Mkt Tot Ret 12 Mo

(Current)

Mkt Tot Ret 3 Yr

(Current)

Mkt Tot Ret 5 Yr

(Current)

Mkt Tot Ret urn Since Incept

(Current)

HorizonsBetaPro NYMEX Crd Oil Bear+ ETF HOD -3.73 -17.58 -3.73 46.81 54.41 26.89 -

HorizonsBetaPro NYMEX NatrlGas Bear+ ETF HND 46.60 -18.78 46.60 115.90 29.17 25.73 -

HorizonsBetaPro NASDAQ 100 Bull Plus ETF HQU -6.38 12.81 -6.38 1.92 33.16 25.25 -

BMO Eq Wght US HlthCare Hdgd to CAD ETF ZUH -7.09 3.26 -7.09 -7.70 18.71 17.38 -

iShares US Fundamental Comm CLU.C -6.41 2.43 -6.41 0.17 18.50 16.20 17.80

BMO Global Infrastructure ETF ZGI 3.53 2.92 3.53 -6.54 12.47 15.23 15.54

iShares US Fundamental Adv CLU.B -5.93 1.26 -5.93 -0.79 17.45 17.43 17.04

BMO NASDAQ 100 Equity Hedged to CAD ETF ZQQ -2.72 6.28 -2.72 3.70 17.80 14.66 16.13

iShares Global Water Comm CWW -2.64 3.60 -2.64 3.57 16.21 14.36 5.51

iShares Global Real Estate Comm CGR -2.92 5.34 -2.92 2.39 13.52 13.82 7.81

iShares Global Water Adv CWW.A -6.26 0.49 -6.26 0.26 14.02 13.35 4.42

iShares Global Real Estate Adv CGR.A -3.06 4.52 -3.06 2.83 13.00 12.81 7.01

Horizons Active Global Dividend ETF Comm HAZ -4.39 1.98 -4.39 2.68 15.16 12.35 -

iShares MSCI World XWD -6.17 2.35 -6.17 -0.81 15.60 12.51 12.21

HorizonsBetaPro S&P/TSX Cap F Bull+ ETF HFU 4.70 16.15 4.70 -1.36 17.24 10.85 -

First Asset Canadian REIT ETF Common RIT 6.61 5.40 6.61 12.96 10.08 11.91 -

iShares US Fundamental (CAD-Hedged) Comm CLU 0.79 5.88 0.79 -2.61 9.26 9.57 4.57

BMO Dow Jones Ind Avg Hdgd CAD ETF ZDJ 1.30 6.88 1.30 0.66 8.60 9.47 -

iShares US Fundamental (CAD-Hedged) Adv CLU.A -0.09 6.14 -0.09 -3.97 8.26 8.62 3.73

iShares Japan Fundamental (CAD-Hdg) Comm CJP -13.64 3.96 -13.64 -14.34 8.75 8.23 -4.51

BMO Long Corporate Bond ETF ZLC 2.86 3.24 2.86 -2.20 4.73 7.84 7.74

BMO Long Federal Bond ETF ZFL 2.28 -0.62 2.28 1.28 4.92 7.81 -

iShares Core Canadian Long Term Bond XLB 2.83 1.40 2.83 -0.42 5.31 7.79 7.07

First Asset Active Util & Infra ETF Comm FAI 4.91 4.86 4.91 -1.82 9.17 9.08 -

iShares Japan Fundamental (CAD-Hdg) Adv CJP.A -11.94 6.07 -11.94 -13.05 8.85 8.46 -4.85

iShares Equal Weight Banc & Lifeco Comm CEW 1.76 7.66 1.76 2.10 10.79 7.29 6.58

Horizons Seasonal Rotation ETF Comm HAC 1.38 6.84 1.38 6.43 7.89 7.23 8.43

iShares Global Completion Port Builder XGC -0.14 3.27 -0.14 -2.04 5.32 6.63 8.78

iShares US Small Cap (CAD-Hedged) XSU -2.29 7.31 -2.29 -10.53 6.63 6.79 2.97

iShares Global Agriculture Comm COW -3.99 -0.42 -3.99 -3.65 8.43 6.88 6.21

BMO Emerging Market Bnd Hdgd to CAD ETF ZEF 3.96 1.95 3.96 4.18 4.45 6.27 -

iShares Global Infrastructure Comm CIF 0.72 5.48 0.72 -4.97 5.44 6.67 4.10

iShares Equal Weight Banc & Lifeco Adv CEW.A 1.50 7.57 1.50 1.50 10.13 6.45 5.70

iShares US IG Corporate Bond CAD-Hdgd XIG 4.45 3.41 4.45 0.83 3.60 6.10 -

BMO Covered Call Canadian Banks ETF ZWB 4.12 8.39 4.12 3.92 8.22 6.04 7.26

BMO MSCI EAFE Hdg to CAD ETF ZDM -6.11 3.15 -6.11 -11.63 6.02 5.89 4.96

BMO Mid Corporate Bond ETF ZCM 2.01 2.77 2.01 1.38 4.19 6.03 5.75

Horizons Active Cdn Dividend ETF Comm HAL 4.63 5.78 4.63 -2.88 7.40 6.06 -

First Asset CanBanc Income ETF CIC - - - - - - -

iShares Global Agriculture Adv COW.A -3.15 1.33 -3.15 -3.04 8.23 6.29 5.59

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