Investor Emotions and Fund Fees Can Ruin Returns

Investors’ natural instincts are their worst enemy when it comes to investing. Invariably, investors let their emotions dictate their actions. They feel more confident when the market is high, and then lose their nerve and sell when the market is low. The impact of this market timing behaviour is illustrated in a study conducted by Dalbar, a leading financial services market research firm that investigates how much mutual fund investors’ actually earned on their money. The figure below shows data from a Dalbar study covering the 20 year period ending in 2010:

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Securities Industry Performance -Q4 2011

Operating revenue for Canada’s securities industry edged higher in 2011 totaling $16 billion, a 2% increase over 2010. Industry profitability, however, was adversely impacted by market conditions that continued to weaken throughout the year and mounting cost pressures. As a result, industry operating profit fell 11% on the year to $4.3 billion and down 29% compared to 2009 levels. Deteriorating market conditions in late 2011 dealt a blow to capital markets operations and proved particularly damaging to institutional firms heavily reliant on their trading businesses. Against the headwind, retail wealth management delivered another year of solid performance. Mutual fund commission, net interest and fee revenues all posted double-digit growth in 2011. ROE for the industry came to 13.3%, about 1%-point lower than last year.

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New insights into a financially healthy retirement

Russell recently partnered with the researchers at Harris/Decima to speak with more than two thousand Canadian investors. As a leading expert in retirement planning, we wanted to deepen our understanding of how Canadians are preparing for retirement, how current retirees are faring, and what we can do to improve the financial health of Canadians.

Despite the recent economic downturn, we discovered that many pre-retirees have remained steadfast in their retirement plans, and that most retirees continue to feel financially secure. However, we also uncovered critical misperceptions that could prevent many Canadians from reaching their best potential financial health. Here is a summary of our findings.

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2012 Mortgage Consumer Survey

As found in last year’s survey, mortgage consumers use a variety of resources, both on-line and off-line, when looking for information about mortgage features and options. Overall, about seven in ten (71%) consumers reported using online sources, up slightly from 65% in 2011. In addition, about one in three (31%, up from 22% last year) relied solely on the Internet to gather mortgage-related information. 

Interest rates dominated among topics searched on the Internet (86%) followed by mortgage options (73%). Other items sought included mortgage calculators and general information about mortgages. Generally, the mortgage-related information and tools found on the Internet were seen to be useful, with usefulness ratings above 80%. Of consumers going online, 71% used a mortgage calculator.

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Performance Universe of Pension Managers' Pooled Funs

As at March 31, 2012, the managers who contribute to the Univers, manage assets totaling approximately $470 billion, including pension fund assets of some $230 billion. Rates of return are calculated before deducting management fees and are in Canadian dollars. (% = Percentage return for the period; R = Fund's performance ranking within the group.)

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Why We Can’t Retire Early Anymore

By 2029, Old Age Security (OAS) pension will not become payable until age 67. After nearly half a century of steady improvements in government retirement programs, this is the first significant take-away that affects middle-income Canadians. It may not be the last. For the last four decades, demographics and capital markets have worked in our favour, enabling us to enjoy ever-longer periods of retirement. That era appears to be coming to an end. The change to the OAS retirement age is not the cause, it is a symptom.

Canada’s retirement situation in recent years has been a case of the glass being nine‑tenths full but described as one‑tenth empty. In spite of sub‑optimal levels of coverage in pension plans and RRSPs, Canada’s retirees have been doing well for the most part. Poverty rates among seniors are extremely low (see sidebar) and one way or another, most people in their early sixties have found ways to retire with at least adequate retirement income; a majority of them have the same discretionary consumption as when they were working if not more. 

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2012 Energy In Charts - Energy Industry Statistics

We need to change course and acknowledge that the current path of shrinking energy options won’t support the energy needs and economic growth required to ensure a better future for all Americans. We must not single out energy sources in order to promote one source of energy over another. We must abandon the energy rhetoric that pits one resource against another. We need all of our resources—oil and natural gas, coal, nuclear, wind, solar, biofuels and more. Only through smart, realistic deployment of all of America’s energy assets can we realize our goal of keeping this country energy secure.

It is time to take advantage of the many opportunities we have to determine our energy future, but to do so we
have to have an honest conversation about our currentenergy needs.

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Benchmarking Investor Knowledge

To be consistent with the investor focus of the work, fifteen of the 23 questions were clearly related to investment. An additional five questions related to financial planning, while three questions focused on borrowing. It should be clear that the focus of these questions is not financial capability, but rather a higher level of knowledge that one might expect from a well-informed citizen. 

Overall, people correctly answer 11.5 out of 23 questions on the survey (50%). If we consider 60% correct as a notional “passing grade”, then only 3 out of 10 Ontarians (29%) would be viewed as passing. Half of Ontarians answer fewer than half the questions correctly.

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Gold Demand Trends - 1st Quarter 2012

The World Gold Council's Gold Demand Trends (GDT) is the leading industry resource for data and opinion on world-wide gold demand. Our quarterly publication examines demand trends by sector and geography. The most recent review of the first quarter of 2012 comprises four sections;

Overview - Summary of the factors driving gold demand in Q1 2012, together with forward looking views and opinions on the dynamics and trends in the gold market at a regional and sector level.

Focus report - Turkey - A review of this key gold market, its history and background, recent developments and future prospects.

Global gold market - First quarter 2012 review - demand and supply synopsis.

Gold Demand Statistics (GDS) - Gold demand and supply statistics for the quarter. These statistics are supplied by Thomson Reuters GFMS.

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World Official Gold Holdings - May 2012

This table was updated in May 2012 and reports data available at that time. Data are taken from the International Monetary Fund's International Financial Statistics (IFS), May 2012 edition, and other sources where applicable. IFS data are two months in arrears, so holdings are as of March 2012 for most countries.

The table does not list all gold holders: countries which have not reported their gold holdings to the IMF in the last six months are not included, while other countries are known to hold gold but they do not report their holdings publicly. Where the WGC knows of movements that are not reported to the IMF or misprints, changes have been made. 

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The Credit Overhang: Is A $46 Trillion Perfect Storm Brewing?

The global "wall" of nonfinancial corporate debt maturities coming due from 2012 to 2016 is not new to market observers. Less discussed is the incremental financing that corporate debt issuers will need over this period to fund capital expenditure and working capital growth. Standard & Poor's Ratings Services estimates the total amount of refinancing and new money requirements over the next five years at between $43 trillion and $46 trillion. This demand for funds will potentially compound the credit rationing that may occur as banks seek to restructure their balance sheets, and bond and equity investors reassess their risk-return thresholds. These factors, amid the current eurozone crisis, a soft U.S. economic recovery following the Great Recession, and the prospect of slowing Chinese growth, raise the downside risk of a perfect storm for credit markets, in our view.

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The Rebalancing Reward

Rebalancing is one of the important keys for effective risk management. According to a study by Ibbotson Associates, if an investor had 60% in stocks and 40% in bonds, and over the past 25 years rebalanced this mix at least annually, they would have reduced their risk by 25%. Despite the potential rewards, some investors may ignore rebalancing, primarily due to their uncertainty regarding this relatively simple procedure. In light of these concerns, investors may find it helpful to consider the following factors:

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Spending patterns in retirement

More important than what one earns in retirement is what one needs to earn in retirement—and that need may only be addressed once expenses are fully understood. It’s absolutely critical to have enough income to cover the Essentials of retirement, such as food, shelter, and transportation. And virtually all retirees also want to have enough income to cover the Lifestyle expenses that make retirement enjoyable, such as travel and dining out.

Our analysis shows that, on average, a little more than 50% of household income in retirement comes from government transfers, such as the Canada Pension Plan and Old Age Security. However, these transfers are generally not sufficient to cover the Essentials of retirement—less than 70% coverage for the average retiree, and as little as 39% for higher-income retirees.

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Better than 20/20 hindsight: a 35/65 asset mix for retirement

Recent market volatility has hit retirees and those saving for retirement especially hard. Now more than ever, Canadians are concerned about outliving their money.

Proper planning and having enough savings will help with this concern, but one of the most effective ways to ensure your financially healthy retirement is to have the right asset mix.

A portfolio invested in 35% equities and 65% fixed income provides the ideal balance of capital preservation and income potential for those who are in retirement or those saving for retirement.

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Global Insight Weekly - May 4, 2012

However, North American equities subsequently lost ground on disappointing European manufacturing and services activity and lackluster U.S. employment data (see page 3). U.S. small-capitalization stocks were among the biggest losers of the week. European equities also performed poorly and were dragged down by bank stocks.

Despite the sell-off, equity trading was generally quiet—not surprising since it was a holidayshortened week for parts of Asia and Europe. Institutional investors mainly stood on the sidelines again. However, selling and hedge-fund shorting picked up on Friday in the U.S.

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Joe Debtor: The Face of Bankruptcy

When you hear a news story about the rise in the number of consumer bankruptcies you cannot help but wonder “could this be me?” Well, it could be. The typical person that we see is just like the average Canadian. They are hard working individuals trying to provide for their families that (for various reasons) end up in financial ruin.

As required by law, we gather a significant amount of information about each debtor who files with us. We know their income, family size, age, gender, assets, and debts. Hoyes, Michalos & Associates examined 8,000 insolvency filings from debtors we assisted over the two year period from 2009 to 2010. Our analysis reveals that the average bankrupt looks very much like the average Canadian.

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A Closer Look at TSX Seasonality

Using data back to 1956, we find that a simple trading rule to own stocks in the November through April period and switching into bonds in the remaining months yielded an annual return of 13.5%. This compares with a return of 9.2% for a buy-and-hold strategy for stocks and 7.7% for bonds. Furthermore, the beat rate of this switching strategy outperforms a longonly TSX strategy in 35 of the 55 years under study.

For investors constrained to equities, we also found a simple and effective trading rule at the sector level. Holding cyclicals in the November through April period and defensives in the remaining months generated annual excess returns of over 300 basis points with a success rate of 65% over the past 32 years.

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