I live in the City of Toronto which is in an urban region of 5.5 million people. In other words, it is big. And it is plain B-R-O-K-E. Some of the financial woes are self inflicted and others structural. However, our local fiscal issues are common throughout large urban region. Chicago has its own fiscal problems. The City of San Jose, in the heart of Silicon Valley, struck up a Budget Shortfall Advisory Committee such was the extent of the issue. The City of Las Vegas, one of the fastest growing cities in the U.S., has to trim $16 million off its budget. I cite these examples to show that these are not rust belt vs. sun belt, east vs. west, north vs. south issues. There are structural impediments large cities everywhere are facing that our agricultural based constitutions never contemplated.

Several weeks ago, through much political and bureaucratic bundling, a trial balloon (subsequently spun that way at least) was floated by the City of Toronto on raising user fees to keep property tax increases to a moderate 3.8%. In some cases, the user fees were going to be raise approximately $20 (or the price of a movie and parking for one person) but opponents focused on the percentage increase of 20% plus to raise enough furor for City Council to revisit the issue.

Here’s the issue though- all cities have very little revenue generating power outside of the following:

1. property taxes
2. user fees (paying to access the city pool, renewing a library card etc.)
3. development charges (which never cover the true life cycle of infrastructure costs associated with supporting any new development)

Property taxes are very inefficient taxes- they are levied on property values and not the owner’s ability to pay and, depending on the assessment method, do not capture 100% of the true value of the property regardless. They are seen to hit the poor in the pocket book harder than the rich (i.e. they are a regressive tax). Thus, I found it ironic that the left leaning media in the city opposed user fees so vigorously. At least with a pay as you go system, those who can pay will play. User fees, however, are opposed by those who promote access as a priority.

However, said that, this is not a political issue. It is really, stripped of the emotional attachments, how best to get the bang for the buck in the current system we live in. I don’t live under the illusion that one can have its cake and eat it too by having low property tax, no user fees and gold-plated municipal services. As in all things, it comes down to choice and the options in the current system are really:

1. Low property tax, user fees reflective of the cost of the service
2. High property tax, no user fees since these costs are borne by the property tax
3. Low property tax, no user fees, minimal municipal services

Again, my assumption is that nothing is going to change; a city will not be granted its own municipal taxes (like New York City) or the Province/State will not share tax points with it. I also take it as a fact of life that even the most fiscally prudent cities will have some “fat.” Democracy is naturally inefficient from a finance perspective- access and profit are two different imperatives. A solution to remove the “fat cats at city hall” is only a temporary one at best and cities come back to the structural issue that they have tax vehicles which aren’t very efficient relative to the senior levels of government.

Given those assumptions, I have to take #1 since you have a “fairer” property tax regime in that property taxes are being used to service property and certain city building events and not for services which everyone may not necessarily use such as the local municipal pool or skating rink. I will add one exemption though- seniors and children under 12 would be exempt from many user fees.

The other alternatives are too ugly- high property taxes would cripple too many low income earners and the vulnerable. A city with low taxes but no municipal services is just not a city at all; it would be soul-less. I met a couple of business men from Singapore (well regarded as being very pro-business) and I asked them about how they lived living there after hearing all these great things about the efficiency of the city (and having been there myself)- surprisingly, they didn’t like it. They found it cold- the city operated like a business and nothing else; there were no services provided by the city other than to accommodate businesses. I want to live in a city that has reasonable taxes that they use to service property and makes the citizens of a city feel human; I would like my garbage picked up for street festivals.

I am not sure there is a perfect solution (or mine is the right one). But my one grip about the debate on this issue is that politicians of all political strips are selling us a dream that, over the low term, is not sustainable- pay low taxes but get lots of services. I wish the debate was framed with some degree of reasonability and a semblance of setting out realistic options that we can prioritize. Right now, I get the sense that our elected politicians think we are too stupid to prioritize if given clear choices or there just isn’t the collective political courage to meet this issue head-on in a constructive manner. Instead, our elected officials resort to name-calling, a hue and cry to the heavens and general whining.

Just my two cents, Thoughts?

Several months ago, I entertained investing in a rental property. After much thought, meetings, spreadsheets and more meetings, we decided to take a break from looking for a rental property (I don’t use “we” in the royal sense; I had several potential partners; if you are one of my American readers, lest you think I have lost my senses, Canadian real estate has managed to hold its value- for now although things are really softening- and we started looking when values were still relatively high late last year). It was more a matter of timing than the concept itself. We may come back to looking at investing in real estate.

But as we were looking, we started getting into a real conceptual debate about what was a greater priority- cash flow or appreciation.  I believe we found the right urban area to target (Waterloo/Cambridge/Kitchener- home of Research in Motion and the real Silicon Valley North- sorry Ottawa) which, assuming the assumptions are correct, appreciation would take care of itself since a sufficient amount of people would be moving into the area to raise demand. The concern was increasingly becoming that the acquisition price kept going up but the rental rates were not increasing at the same rate. If you are an owner, this is great since your house is appreciating but, assuming interest rates do not rise significantly on a variable rate mortgage, your debt to income ratio (% income to cover debt) remains relatively constant. Without increasing costs, you have a paper gain.

But the game is different in real estate investing. Low interest rate environments are bad for real estate investors- it means that there is a low barrier of entry into the housing market which decreases the rental pool as renters become owners and an increasing number of people, with cheap mortgages, are bidding up real estate prices. Decreasing renter base + increasing property prices = unhappy real estate investor. An investor ends up getting less bang for the buck as it costs more to acquire a property renting for approximately the same amount as the year previous (remember that as the number of renters decrease, rents decrease as well; in Toronto, landlords are giving out free LCD TV’s to entice renters since everyone started buying condos instead of renting and, you guessed it, property prices in the “good” parts of the city began to reach unaffordable levels for most middle class families).

Ideally, a real estate investor wants to avoid the south Florida housing trap- lots of real estate being bidded up, no real renter base relative to the number of new homes going up and an over-supply of most types of housing (I may call this the Vancouver trap in a few years). No one is happy- home owner or real estate investor.

The other approach we looked at was to look purely at a cash flow property. This meant looking at old dumps (I believe that’s the technique term) with multiple units which could be rented out or duplexes and triplexes which were not dumpy (again, a technical real estate term). For duplexes and triplexes, we ran into the same issue- appreciation was too high even with multiple units. We had to put a lot down and still not yield that much rental income relative to acquisition costs. The issue with trying to purchase duplexes and triplexes in appreciating areas is that purchasers are buying for both appreciation potential and the cash flow multiple renters provides which adds a premium to pricing. Whatever gain you get from multiple sources of rental income is being off-set by the amount of money you have to put up to acquire the property. With respect to investing in a dump and becoming a slumlord, no one wanted the headaches. Enough said. Perhaps, we were looking too soon and with the market softening, a wait and see attitude may be the most prudent one.

…and so we wait for the market to hopefully soften….and I may fall into the arms of my old reliable of dividend yield stocks (yes, even the banks). If you are interested in become a real estate investor, try this blog on real estate investing. To be continued?

Today’s federal budget introduced the concept of a tax-free savings account of up to $5,000 per year. Canadian Capitalist described the tax-free savings account in his usual eloquence.  Being the entrepreneur that I am, I am going to look at the tax-free savings account in a different manner- how to profit from its creation (and all indications are that the budget will pass) and operation starting in 2009. You guessed it- the usual disclaimers apply- this is for informational purposes only and not advice. Given the tax-free savings account is literally less than 12 hours old, I am being very speculative in my thinking. Thus, please seek your own professional advice.

The government’s brochure (found in the link above) has the following buzz words- “savings” (mentioned 4 times in 8 headlines) and “tax-free.” Lots of tax-free savings that need to be protected eh?…  I can see the financial industry’s marketing material now: “What to protect your tax-free savings account? Buy a Principal Protected Note…” Principal Protected Products (PPN’s) are being flogged like hot cakes (I am dating myself- flogged like iPod’s?) given the market has become so unpredictable so what do you think is going to happen when we have tax-free savings account? We are going to be sold to death on making sure we protect our contribution with the requisite selling on fear. Cue more PPN’s, high interest savings accounts and other “secure” investment vehicles, like money market mutual funds, with built in fees.

It appears from preliminary review that the tax-free savings account will be administered by the same people who administer our RRSP- the banks and large financial institutions. Thus, the two sets of players to benefit the most from tax free savings accounts are:

1. Banks who have great retail operations and can capitalize on their existing clientele and attract new clients to open tax-free savings accounts; and
2. The big mutual fund companies and wealth management companies (who are basically one and same) who can create a myriad of PPN’s and more funds or will manage these accounts for seniors (who stand to benefit the most since there is no claw back against pension payments).

Who exactly are these players?

On the banking side, Royal Bank of Canada (RBC) and TD (known as the “Big 2″) are traditionally known as having the best retail banking operations- they are noted for being savvy marketers (at least for bankers) and attracting money from new sources. For example, when RBC launched its high interest bank account, it attracted $1.6 billion from outside its existing clients in the first 90 days of its launch.  TD, with its Canada Trust customer-friendly lineage, is well known for having great retail operations such as its long hours. Expect to see a lot of blue and green when the tax-free savings accounts are opened in 2009 (I own stock in both banks).

On the mutual fund side, the two largest mutual fund dealers by market share are IGM Financial Inc. and RBC (assuming you count Phillips, Hager & North’s market share which RBC is buying). IGM’s traditional lead is now approximately $2 billion over RBC which is not that great considering IGM is managing approximately $102 billion in assets (I own IGM indirectly through my holdings in PWF).

Assuming that these companies can capitalize on opening, managing or selling products to your and my tax-free savings account, they may not be bad stocks to own since sales will not occur until 2009 so there will not be an immediate impact on these companies’ bottom line. The good news is that these stocks are quite cheap relative to recent prices. The downside is that, for the banks, there may still be unknown subprime exposure. Thus, opportunity abounds with risk (or as the Chinese say, change equals opportunity). As usual, this is not a recommendation to buy or sell any stock- please do your own research.

I have spent most of this year emphasizing controlling costs than relying on the appreciation of investments. With the stock market the way that it is, I best to pay more attention to something which I can control than that which I cannot.  I do a budget on fixed costs but I have been worried lately about cost containment. I believe inflation is a growing issue caused by the increasing amount of currency the central banks are printing in order to avoid a mild recession (solve a small problem but creating a bigger one- yep, sounds like politics at its best). I have been focusing recently on these budget items:

TRAVEL

I have to drive to work- public transit is not an option. On Friday, I went to the gas station to fill up my car and the person before me had a $75 bill! Of course, I proceed to put $55 of gas into my car.  The only saving grace is that I do a lot of highway driving which has better fuel economy. This may be one budget item which is, unfortunately, unsolvable on the week days. On the weekends, I am trying to take more public transit. At least, I know what the costs are for a subway token.

FOOD

I throw away too much food every week. North American shopping habits encourage us to buy in massive bulk (”oh look honey, a 2L tub of mustard for $7.99! It will last us for 3 years!”) when we may save more money in the long run shopping like the Europeans- buy on the day of for the meal which is to be prepared. At the very least, the wastage factor would be reduced considerably.

I started shopping the European way; I have nothing in my fridge for dinner. I walk over the grocery store and buy only what I need.

CELL PHONE

I hate the Blackberry- it makes me accessible all the time, reinforces our increasing indifference to detail and it sucks up so much money in some many different ways (data plans, roaming charges, long-distance, text-messages).  If not for work, I would chuck the thing into the lake (other than doctors and other life or death service providers, why do we need this machine? Is the world going to fall apart if someone doesn’t have the opportunity to email me on a Saturday night about a business deal?). Some of it is covered by work but it can be a black hole expense sucking away dollars.

My choice is either to change my plan to cover charges not covered in my current plan or simply go low tech and get a plain old cell phone that does nothing but, shock and horror, act like a phone. I am afraid technology is being produced not to help our lives but to increase shareholder value.

What are you doing to budget better?

It may be too early to call it but 2008 is quickly becoming the year of the dividend increase. Look at the big names that have increased their dividends this year: Coca-Cola, General Electric, Kimberly-Clark, Abbott. These blue chip companies typically have annual dividend increase so it is not that surprising that the dividend train continues to roll. However, a series of other companies not known for paying or increasing dividends have chosen to become dividend payers; The Encana’s, Roger’s and Tim Hortin’s of the world have jumped into the dividend game by increasing their dividend dramatically. In some cases, the dividend increase is predictable- with the price of oil and gas being what it is, Encana is making too much profit not to put money back into their shareholder’s pocket. In other cases (i.e. Rogers), companies with large amounts of debt on the balance sheet are rising their dividends.

Reading between the lines, with the usual bastion of dividend paying stocks- banks- in such flux, non-traditional dividend payers are using this as an opportunity to attract a pool of investors that typically did not buy its shares.

However, are dividend increase necessarily always a good thing? I previously blogged about dividend yields being over-rated and Financial Jungle made the astute observation in commenting: “Don’t forget, earnings and cashflow aren’t the same thing. A cash poor company can still look profitable on paper. Just because a company has a low payout ratio doesn’t mean the dividend is safe. Not to mention companies fudge their earnings all the time.”

He seemed to hit upon something that others have studied. On Friday, John Heinzl’s from the Globe and Mail wrote about Thomson Financial’s study on dividend yield stocks since 1990 which found the following:

1. Companies with decreasing debt, increasing cash and a dividend payout ratio of under 60% (i.e. 60% or less of its profits are paid in the form of a dividend) and did NOT increase their dividend posted an average annual gain of 7.2%; and
2. Companies with increasing debt, decreasing cash and a raising dividend posted an average annual gain of 5.1%.

On paper this makes sense. If you are increasing a dividend but the amount of available cash is decreasing and debt is going up, a couple of different things are happening: (a) a business is using its money to pay its shareholders in lieu of reinvesting profits for further growth which, over the long term, is going to be problematic (unless the business is mature technologically); or (b) to paraphrase the Thomson Financial researcher, the company is using a rising dividends to distract shareholders from the fact it is not a great cash flow manager and, over the long term, the business is going to hit a wall.

To use a real estate investment analogy, it is like paying yourself more from profits but letting the emergency house repair fund decline and stretching out the amortization period on the mortgage. In the short term, you put more money in your pocket but you don’t have as much cash to put back into the house to sell for greater appreciation.

The study is looking at appreciation of stock and here is where one has to take a contextual analysis. A dividend investor who, contextually speaking, cares for nothing but the fact their dividend is paid (and not slashed) and is not worried about how much the share price is will not pay as much attention to these findings.

However, I am in a stage in my life where I want a little bit of both- a steady dividend and an appreciation in stock price. If you are like me, you want to see the balance between returning money to shareholders in the form of dividends and the business reinvesting profits in growth (which, if done properly, means greater cash on hand which allows greater dividend increases). In this case, I am worried about any business where cash is declining, debt is increasing and dividends are being paid regardless- it shows bad cash management which is particularly important as the economy slows.

Just remember though that increasing cash and decreasing debt is not, in and of itself, an indicator that a stock would go up in price. Look at Johnson and Johnson- its share price has gone sideways the last two years not because of bad management but because of other factors beyond its control (general slump in pharma, its business may be reaching a size and complexity where it is suffering from the dreaded “conglomerate discount”). However, over the long term, these well managed companies should go up in price.

As usual, the devil is in the details so make sure you look at the company’s cash flow from operations and cash on hand as well as the normal dividend indicators such as payout ratio, dividend increases over 5 years and dividend yield.

As a follow-up on an earlier post about scams, I wanted to dig a little deeper and give you an example of some common sales approaches for investment products which seems to be more prevalent when our stock investments and real estate investments are not performing that well. Given how a lot of our investment portfolios are more turbulent than the sinking Titanic, there are a lot of potential investors interested in these investment products. These types of products work well because they appeal to our sense of impatience, our need “to have it all now” and the fact we do not have to pay too much attention to the details (the sales approach actually wants you to forget about the details). I ended up on a couple of these email lists and the pattern is the same.

I have several caveats- I do not know for certain whether this is an investment scam but my spidey senses go off when I read about this great “opportunity.” For all I know, people could have made their investment back many times over but something just feels wrong about this product. Perhaps, I am a cynic.

I modified the below to be generic but kept the key sales points (as a general rule, I dislike paying lawyers to defend me against lawsuits). I hope you understand the gist of how this product works and the sales approach. The text is in italics and bold and my comments are in normal text.

THE INVITATION

Usually by email:

We are holding another of our great seminars at [insert random location] to discuss a great investment opportunity. We can explain the details at the meeting. Everything will be reveal there and we don’t want to write a long email. Members, please bring a guest.

THIS IS AN INVITATION ONLY EVENT SO PLEASE BRING YOUR GUESTS. WE LIMIT THIS GREAT OPPORTUNITY TO QUALIFIED MEMBERS AND THEIR GUESTS. WE DO NOT ADVERTISE SO PLEASE PASS THIS ON TO THOSE YOU FEEL WOULD BENEFIT FROM THIS OPPORTUNITY. YOU WERE ESPECIALLY SELECTED TO BE PART OF THIS LIFE-ALTERING NIGHT.

[location details and contact number inserted]

FIRST WARNING FLAG- LACK OF DETAILS. When you become a lawyer, several things happen to you. Your pact with the devil is now complete (just kidding) and your name gets sold to every investment advisor, insurance company and investment consortium in town. In every single approach, whether by email, phone, letter or fax, the pitching company always tells you want they are selling (insurance, some great new mutual fund, tax shelters, limited partnership units etc.) and how you can benefit. The investment industry has critics but, to its credit, it is regulated to disclose a reasonable amount of information (some say there is too little disclsoure but that is a topic for another day).

If the invitation immediately makes some mention not to mind the details, I mind the details. It goes against the rule for disclosure in the investment industry. Something is wrong already- the lack of disclosure sticks out like a sore thumb.

SECOND WARNING FLAG- EXCLUSIVITY. It makes us feel special like we are part of a secret investment society. However, the downside to exclusivity is, if something goes wrong, who can you complain to? You are supposed to be part of an exclusive club which means keeping your mouth shut so if, indeed you invested in a scam, you are rather isolated.

THIRD WARNING FLAG- “MEMBERS” and “INVITE A GUEST”: Investments do not have members. Investments have investors and purchasers. In isolation, bring a guest should not raise alarm bells but once there is mention that there are members who should bring guests, contextually speaking, it is starting to look like a ponzi scheme.

THE PRODUCT

There is usually some blurb about the opportunity as follows:

I wanted to share a special opportunity to invest in a passive income vehicle that let me lead a life of financial independence.

Invest $10,000 and, within 30 days, get $500 back a week. You can ask for your money back within 30 days. Everybody wins. If you refer 5 friends, your investment can make 7% per month with opportunities to make more. The opportunities are endless and you can live the life you always wanted.

All the key terms are there- passive income, financial independence, win/win (this term seems to be hijacked by used car salespeople)- combined with the right comfort terms- “ask for your money back.”

BUT HOW EXACTLY AM I MAKING MONEY? As confusing as some conventional investment products may be, they do tell you how your money will be invested; perhaps in investment jargon but it is disclosed nonetheless. In these products, sometimes, there is some vague reference to the fact that money is invested by some Mr. X who resides in some far off jurisdiction (usually some island you have never heard of) in long/short positions on the NIKKI index with a currency hedge against the Argentinian peso and arbitrage on the price of beef in England vs. U.S.A. In other words, the investment is so complicated, it deflects all questions about detail (again, avoid the details) because how many of us could ask an intelligent question on that investment approach?

What worries me is the mention of referring friends- when an investment product requires friends to drive returns, it could be a sign of a ponzi or pyramid scheme. What is cleaver about some of the better approaches is the focus on a modest rate of return (people focus on the 7% and not the “per month” part; add it up and even on a non-compound basis, in my example, that is an 84% return). The person referring you probably is at or near the top of the scheme so they made out ok. You, you are just the poor sod they are taking money from (sometimes unknowingly).

As I said, some of these products may be legitimate and are being sold to avoid regulatory compliance (which makes it dangerous to the investor because there are no rights of recession stated and how exactly do you go after the sellers?) others may be nothing but scams. Look for the common patterns. In isolation, they may mean nothing but, taken together, I get very nervous. Specifically, look for these in combination:

1. Invitation Only
2. Lack of detail on how the money is used
3. Appeal to exclusivity and the fast buck
4. Multiple references to bringing friends and a differentiation between guests and members
5. A rate of return that increases as you refer more people in
6. A modicum of comfort words or phrases (”you can get your money back”)
7. The appeal is purely emotional (”gain financial independence…,” “you have qualified…”)

Lawyers, accountants and investment advisors have good sense of what exactly is above board and what isn’t. If nothing else, vet the invitation and product by them to see if it passes the “smell test.”

What do you think- scam or not?

One school of stock investing has always been invest in trends you see around you. Recently, I started noticing how many of my friends were having kids (I am told that women have physical urges to have kids once they reach a certain age which is around my age- umm… “urges” eh? My face loses all color as I write…). If you read various other financial blogs, there also seem to be a disproportionate amount of bloggers having kids, discussing child care credits, cloth diapers vs. regular diapers etc. etc. The contrarian in me thinks that maybe stock investing on demographics should not focus on the obvious investment in stocks based on an aging population but, perhaps, a mini baby boom.

This seems to be supported by the demographics. In 2006, the United States had the highest birth rate since 1971. Even more importantly, the U.S. fertility rate hit 2.1 children in 2006 which means, if this birth rate can be sustained over a period of time, there will be enough births to replace deaths. For policy purposes, this means there will be enough members of the next generation to support the retirement of the thirty-somethings like me. Keep in mind, however, that the 2006 birth rates have to continue over a long period of time for this to occur (come on urges! I don’t intend to work forever).

I dug a little deeper though to determine why someone may want to invest in the “baby industry” (for lack of a better term) based on the statistics. The 2000 U.S. Census revealed a spike in birth rates from 1991-1993; persons who are now entering College and/or University. If you are active in your University alumni club or live in a University town you know that this mini-surge in birth rates has lead to the construction of new dorms, student recreation centers etc.

But here’s what really interests me about the census. Take a look at the age of Mothers. The number of Mothers between the ages of 30-34 and 35-39 increases over the 1990’s with a corresponding drop in younger Mothers (20-29). The increase of Mothers between 35-39 is quite dramatic. Assuming that older Mothers are financially better off than their younger counterparts, it stands to reason that older Mothers may spend more on baby products. Even if the sheer number of kids does not increase, the amount of money spent could still be substantial as there are more older Mothers with the economic means to buy those $1200 strollers, $120 GAP kids snow-suits, $100 booties etc.

How does an investor benefit from these trends? I have often mused openly about starting a business aimed at the baby industry- the margins are impressive and no expense is spared (nor should it be) by the potential clients. From a stock investing perspective, take a look at Middle Class Millionaire’s list of stocks which will benefit from the aging population. Remove the financial companies and the same companies which sell to seniors also sell to the baby industry. What comes around goes around one supposes. The Johnson and Johnson and PG’s of the world capitalize from both ends of the demographic spectrum (it is also interesting to note the recovery of McDonalds after a rough late 1990’s coincides with the aging of the 1991-1993 baby boomlet).

At the very least, interesting food for fodder next time you change the diapers. As usual, please do your own due diligence before you decide to invest in the baby industry.

This tends to be one of those times of the year where we collectively do a lot of navel gazing into our financial lives. Will we have enough for retirement? What do I invest in now? How come my mutual funds perform so badly? Undoubtedly, as part of this internal dialogue, those of us with investment advisors begin to ask ourselves if we have the right advisor and whether they can really help us. There are a lot of horror stories about investment advisors but remember that the good ones never get press- only the bad ones attract attention.

There has been a lot of ink (bytes?) split on selecting a financial planner and/or an investment advisor (including my own two part piece on finding a good lawyer/accountant/financial advisor) but here’s the hard truth: you get what you deserve in life. Crying to the heavens that you have a bad investment advisor really isn’t going to help your portfolio’s performance. You have to take pro-active action.

Having said that, there seems to be a general perception that all investment advisors are bad. I would disagree. The individuals in the industry who actually advise and plan are key professional allies to have; they can, in some instances, be literally worth millions to you. The individuals who are nothing more than salesmen are bad since their primary motivation is to sell and not advise. How can you differentiate the two?

In the movie “Wall Street,” perhaps the seminal movie on the inner workings of 1980’s corporate greed, Martin Sheen’s character is a blue collar worker who keeps calling his son (played by his real life son Charlie Sheen) a “salesmen.” This really irritates Charlie Sheen’s character since he works on Wall Street, wears nice suits and talks the talk. But before he hatches an illegal insider trading scheme, his character is a salesmen- he works the phones selling to the vulnerable. Remove the suit and the ritzy office and his job was no different than selling encyclopedia sets (with all due respect to encyclopedia sales people).

The moral of the story is that it is not the looks, its the actions that define advisors from salesmen…

ADVISORS HELP you pick a long-term strategy and attempt to determine whether a particular product fits into that strategy.

SALESMEN SELL you product without regard to an over-arching strategy. This is how a portfolio ends up with 10 different mutual funds with over-lapping holdings and no regard to asset allocation.

ADVISORS REVIEW your portfolio at least once a year with the intention of seeing whether you are on the right track and not to sell you more product (if you don’t do this now- demand it. If they balk, you know if they are advisors or salespeople).

SALESMEN IGNORE you until they need the next commission and then they call to pitch you the product du jour. Thus, you either end up selling in a down market (since sales are drying up for your investment advisor and needs a quick commission) or buying in an up market (since the advisor is just piling on sales at that point).

ADVISORS DISCUSS the risks and rewards of each investment decision with you in order for you to gain a greater understanding of what exactly you are doing.

SALESMEN SAY “trust me, this product will be great” and attempt to sell on your emotions rather than on an analysis of the product (if there was truly a trusting relationship between two persons, why would someone say “trust me”? Wouldn’t it be implicit between the parties that one would look out for the other?).

ADVISORS CALL you during uncertain times (like now) to reassure you to stay the course and not to react emotionally and to keep the long term in mind (the best piece of advice I got this year was from my investment advisor who told me to stop over-thinking, stick my money in a high interest account and wait until whether the market is definitely going up or down).

SALESMEN HAVE disappeared because they sold you junk during good times (and are now hiding) or trying to create additional panic in order to induce you to do something (which will make them a commission). Be concerned if an investment advisor has moved cities several times in their career without a good explanation- they could be running from a mess they made somewhere else.

…it is said that a true mark of character is what someone does during bad times. This year may be a good litmus test for investment advisors everywhere on whether they are truly advisors or salesmen. But, to reiterate my initial point, it is your life and your money, take responsibility for it. An advisor is there to help you not to run your financial life for you.

Anyone care to share stories (good or bad) about investment advisors?

You know this is the prime selling season for the investment industry. All the silly products are being sold on the street promising great returns, no risks, early retirement and the utterance of “trust me, its a good product…” in brokerage offices all over the land. What has made this frenzy greater is that the markets are either falling or unpredictable. And, here comes inflation! Unpredictability for the average investor is reason to panic but, for their savvy counterpart, an opportunities to buy (although Buffet insists that a shrewd investor should park themselves on the nearest lazy boy and do nothing for now).

PPN, ETF, MIC, IPP, ABCP, GIC, M-O-U-S-E! What are we to make of all these products? There’s an old saying in the investing world- don’t buy what you don’t understand. If you don’t know what these acronyms stand for, don’t buy them. And always KISS- KEEP IT SIMPLE STUPID when it comes to investing. It sure sounds fantastic telling your friends you bought some derivative structured product at lunch but, if she’s holding a plain old blue chip dividend yield stock that keeps increasing its dividend every year, guess who has the money to pay for the bill?

My advisor has a “do not pass go” list of things we never discuss. Here they are with a short reasoning. Remember this is my list only. Feel free to invest in the products of your own choice after conducting your own due diligence.

PRINCIPAL PROTECTED NOTES (PPN)

In a nutshell, a PPN is a product which guarantees your principal if you hold onto to the note until maturity. This constitutes one part of your investment. The other portion is used to invest in other investment products such as a certain basket of securities, mutual funds or hedge funds.The gain in the other portion is capped to some % gain as a compromise to protecting your principal. For example, a PPN could invest in a basket of tech stocks and, after 5 years of holding on to the note, you are guaranteed your original investment back plus a portion of the gain on those tech stocks.

I avoid PPN like the plague. We, collectively, should take it as an insult that the investment community believes we are so uneducated that we could not protect our hard-earned money for 3-5 years (the typical maturity date of a PPN)? Putting my money in a high interest bank account would protect my principal and, depending on the interest rate, protect against inflation. There is no inflation protection in a PPN- at the very worse you get your principal back but inflation has eaten into the purchasing power of that money. Thus, in a worse case scenario, you have eroded the purchasing power of your money.

Fees are high, the upside on the note is capped, it is so confusing that the government has stepped in and is going to require greater disclosure rules to be given to investors. Here is the direct quote from the Finance Department when it issued the proposed new rules: “The complexity of such products can make it difficult for the average retail investor to fully understand the risks, fees and potential returns.” This is not exactly a ringing endorsement of the product- and this is from our government!

Reviews of PPN range from saying no to PPNs to PPNs give you the worst of both worlds (and this from a member of the investment community). And You can construct your own PPN without lining the pockets of the investment industry.

MUTUAL FUND OF FUNDS

I am not a big fan of mutual funds but really hate these variations. These are basically mutual funds that invest in other mutual funds. So…you can look at the marketing material, find out what mutual funds this fund is buying and do it yourself without paying higher fees. OR you can be lazy and lose tens of thousands of dollars in fees over the years for the manager’s skill in picking other funds which isn’t much of a secret since it has to be revealed in the offering documents.

Basically, the mutual fund manager is too lazy to actually pick stocks to buy and you decide to reward him for this laziness. Sounds like a great deal for the manager and a bad one for you.

I compare a mutual funds of funds to nightclubs that charge cover at one door and let people in free in the other door. Why exactly are you paying cover if you can get in for free?

SEGREGATED FUNDS

These are basically mutual funds which are offered by insurance companies. The funds are insurance products so they have the advantages of creditor proofing (creditors cannot attack insurance contracts in most cases but there are exemptions), estate planning (no probate is paid by the estate) and principal protection (if the funds are held for a certain period of time). Million Dollar Journey gives a more detailed summary on segregated funds.

Segregated funds suffer from the usual problems -fees are extremely high. Why would one want to pay such high fees to protect your principal when you can do it yourself (see my discussion on PPN)? If creditor proofing is a concern, the cost of a good lawyer to maintain and establish vehicles, such as family trusts, will be much less than the fees paid out over the life of a segregated funds (MER can be in excess of 5% in some segregated funds). It is a penny wise and pound foolish philosophy to purchase a segregated fund for creditor proofing purposes without paying for a professional’s time to discuss less costly alternatives over the course of one’s life- remember a professional’s cost may be a one-time occurrence but fees are constant.

Having said that, some people may be ideal investors for segregated funds. However, most employees, who have minimal liability risk, and those without massive tax liabilities at death (i.e. massive capital gains without an insurance policy to pay out taxes), would not fit into this category.

TIME-SHARES AND VACATION PROPERTIES AS “INVESTMENTS”

A time-share used primarily for vacation is great. But I would never buy it as an investment. All real estate suffers from liquidity issues- I can’t exactly sell my house on 1 day’s notice but I could liquidate my stocks tomorrow. Most time-shares I have seen have no liquidity; the contracts are quite tight as to what circumstances you can sell a time-share and many time-shares have veto rights even if you fall under one of the limited circumstances. Basically, you have to die before you can sell a time share. In other circumstances, time-share contracts assign the duty of selling the time-share to the management company who have no real incentive to sell the unit so it does nothing while telling you that it is trying oh so hard to sell your time-share.

Thus, even if the time-share was increasing in value, how exactly can you sell it if the terms and conditions conspire to lock you in for life? It is all a paper gain and it is hard to use it as collateral since, you guessed it, the contract prohibits you from doing that too.

Having said that, there are some great time-shares that are more investor friendly. You have to shop around and you have to read the fine print. The devil is in the details.

I also want to differentiate a traditional time share from these hotel-condo investments going up in large cities. These are functionally different products.

ANY PRODUCT DESIGNED PRIMARILY AS TAX SHELTERS

These come in varies shapes and sizes- from flow through shares endorsed by the government to invest in mining and exploration companies to “traditional” tax shelters. They all share one basic characteristic-to save me tax and not to experience appreciation. Most of these are not eligible for your retirement account so the high selling season was before year end and not now.

I like saving tax but there are other ways to do that than buy a product which may not appreciate (most flow through shares are designed not to make you money). Considering we use on average 7% of our retirement contribution room (that is not a typo), the statistics seem to indicate that we focus too much on overly sexy and complicated products to reduce tax and ignore the fact that an average person had 93% contribution room left in their retirement account to reduce tax.

The regualtory risk on these types of products is also quite high. Putting aside the government endorsed products, there are a lot of tax shelters which get challenged by the authorities and the claimed deduction may be denied years later with interest and penalties accruing during that time (which, in some cases, is double the actual denied deduction).

Products designed primarily as tax shelters are too cute by half for my own liking.  There are much easier ways to reduce taxes like contributing to your retirement fully annually. Simple and elegant.

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This is my terrible 5 list.  Let me know what you avoid buying.

Last month I introduced a guest blogger, Mom2KG who is writing about her family’s quest to take control of their finances and become better money experts. Mom2KG is posting once a month and updating us on how her and her family are doing. January’s post can be found here. I am passing along her request to provide as many comments, suggestions and recommendations as possible since she found January’s comments so helpful.

Thanks to the readers of TMW who offered support and encouragement. It was interesting that the comments noted that my husband and I are doing more or better than a huge percentage of Canadians with our savings and investing. However, one can always do better, and our goal is to be as good at the planning and saving etc. as we can, not simply better than the masses.

One reason is that we have pretty lofty goals (I liked TMW’s blog on goals and tracking). The main one is to “retire” at age fifty, less than 20 years away. At that point, we’ll live off our savings while pursuing our “real” dreams. No doubt I’m going to get some flack for this plan. It’s a trite comment that the best way to make money is to find way to make money doing something you love. But we are conservative, with a combined fourteen years of postsecondary education we don’t want to “waste”. We are risk-averse, and simply not willing (or brave enough) to gamble on our incomes.

Having said that, the “dream” involves real estate, and we are getting on the road to investing in that area. We are progressing with one group in particular in a buy, rent and hold model. It’s slow going, but we are learning along the way.

We have gotten some basic stuff done, like maxing out the RESP contributions for the kids. We’ve been looking closely at our budget, and are determined to save a certain amount in cash each month as a priority. However, we keep blowing the budget and still have no idea how to control our spending. Seriously, we’re ramping up the potty-training with our kids so we don’t have to buy diapers anymore – is that ridiculous? Next I’ll be growing our own food in the backyard.

We will meet with our financial advisor next week, at which point I’m going to be pretty demanding about why in hell my RRSP portfolio (almost 100% mutual and money funds) has shown a dismal overall return of only 6% over the last 11 years! My husband started his only a few years ago and has consistently lost money (and his portfolio is in much less riskier funds than mine). And why hasn’t the advisor called about this? What’s going on? Oh yeah, I am ready.

I’m going to get out of mutual funds and into GICs for a bit. I like the “G” part of GIC. There’s no “G” in mutual funds. I note that if it were not for my newfound determination to involve myself more in personal finance, I never would have realized 6% ain’t so hot (actually, I probably wouldn’t have read my statements to realize this miserable fact). I used to think I just had to wait and wait and eventually I’d make money. [editors note: Mom2KG and I had a little discussion about asset allocation after I read she was going into GIC’s. Maybe that will be next month’s blog?!?]

As for our weekly money meetings, they’re going well. There was one moment involving an if-you-know-so-much-then-you-do-it. One great thing about having scheduled meetings is that any money issues coming up during the week can be noted and put away for our scheduled time. We’ve made some good progress in goal-setting (and achieving), both weekly and long-term.

TMW mused about whether men and women think about money differently. I’m not sure I can generalize based on gender, but I have noticed, among couples, that one tends to be the spender and the other is the anal retentive saver (no prize for guessing who is who in our marriage). No wonder couples divorce more over money than anything else. Notably, however, The Millionaire Next Door found that millionaire families almost invariably had partners with the same – frugal – attitude towards money. How nice for them. At least the rest of us support industries in second marriages, divorce law, and therapy.