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FINANCIAL FACELIFT: Can an uncertain investment help this 60-year-old retire early?

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Below you will find a real life case study of a woman who is looking for financial advice on how best to arrange her financial affairs. Her name and details have been changed to protect her identity. The Globe and Mail often seeks the advice of our VP, Wealth Advisor, Matthew Ardrey, to review and analyze the situation and then provide his solutions to the participants.

gam-masthead
Written by: DIANNE MALEY
Special to The Globe and Mail
Published October 19, 2018

Turning 60 got Sylvia thinking about a time when she will no longer have to work for a living – and hoping it will come soon.

She earns $75,000 a year in a middle-management job and is single with no dependants. Her postwork income will come from her savings and investments, including from the Saskatchewan Pension Plan, a defined-contribution pension plan open to all Canadians. She also has an annuity that she took instead of a cash payout when a previous work pension plan was wound up.

The wild card in her retirement plan is her equity interest in a private corporation. The investment has paid well, yielding her $15,000 a year in dividends over the past five years, but this is not assured. The future value of the shares is uncertain because they are not readily marketable.

“Basically, I have no control over this investment, but it has turned out to be an excellent investment for me even if I never get another penny from it,” Sylvia writes in an e-mail.

She wonders whether she can retire from work early, whether her investments will generate her target income of $45,000 a year after-tax and when she should start drawing government benefits.

We asked Matthew Ardrey, a vice-president and financial planner at TriDelta Financial in Toronto, to look at Sylvia’s situation.

What the expert says

Sylvia has almost $750,000 in investments saved to date, Mr. Ardrey says. Of that, $200,000, or 26.67 per cent, comprises shares in a private corporation. “In Sylvia’s estimation, they could be worth more than this, less or nothing at all,” the planner says. “This is a potentially significant risk to her retirement plans.”

Sylvia contributes $6,000 a year to a defined-contribution pension plan, $8,400 to her registered retirement savings plan and $5,500 to her tax-free savings account. She has a cash surplus of about $7,000 a year, including her RRSP refund.

Sylvia plans to work part time for another few years after she retires, earning about $3,000 a year. Her annuity will pay her $6,036 a year starting at 65. In drawing up his plan, Mr. Ardrey assumes Sylvia retires at 62 and begins taking Canada Pension Plan and Old Age Security benefits at 65.

Sylvia plans on spending $45,000 a year, plus another $3,000 a year for travel until she reaches 80. She will need a new car before long at a cost of $22,000. “All expenses are indexed to inflation, which we assume is 2 per cent a year.”

Looking at her portfolio, Sylvia has slightly more than 25 per cent of her investments in cash and guaranteed investment certificates. “This is placing a significant drag on her portfolio performance,” the planner says. She has an average net return on her investments of 4.1 per cent a year.

Still, if she is able to realize the $200,000 value on her private shares, Sylvia will reach her retirement spending goal and be able to retire at 62, Mr. Ardrey says. With a 4.1-per-cent rate of return, she would have a cushion of $6,000 a year over and above her target of $45,000.

“My concern with her plan is it all is riding on the private shares being worth what she hopes they are worth,” Mr. Ardrey says. “If they fall to 50 per cent of her expected value, all of her spending cushion will be eliminated,” he adds. “If they end up being worthless, then she will fall short of her goal, running out of investment assets by her age 80.” She would still have her CPP and OAS, her annuity income and her home.

“Sylvia should be looking for a strategy to divest herself of the private shares,” Mr. Ardrey concludes.

Sylvia’s asset mix is 27 per cent private shares, 25 per cent cash equivalents, 30 per cent Canadian equities, 8 per cent bonds and 10 per cent U.S. and international equity, held in various accounts. Excluding the private shares from the total, her asset mix becomes 34 per cent cash equivalents, 41 per cent Canadian equities, 11 per cent bonds and 14 per cent U.S. and international equity.

“If we improve Sylvia’s investment strategy across all her accounts to 50 per cent geographically diversified equities, 25 per cent fixed income and 25 per cent alternative investments – strategies such as private debt, global real estate and accounts receivable factoring – she should be able to achieve a conservative net return of 5 per cent,” Mr. Ardrey says.

This would improve her returns (because alternative investments tend to yield more than her fixed-income holdings), and lower her equity risk because the alternative investments tend not to move in lockstep with the stock market.

If, instead of getting her current 4.1-per-cent return on investments, Sylvia could achieve that 5-per-cent rate of return, she would meet her retirement spending goal, though without a cushion for extra spending. “This is a vast improvement over running out of investment assets at age 80.” If the private shares can be sold for $200,000, and she earns 5 per cent on her investments, then she would have a spending cushion of $12,000 a year, over and above the $45,000 target.

Client situation

The person: Sylvia, 60

The problem: Is she on track to retire before 65 with $45,000 a year?

The plan: Rejig portfolio for greater diversification with a target return of 5 per cent a year. Explore ways to sell the shares in the private company.

The payoff: If all goes well, not having to keep her nose to the grindstone until she is 65.

Monthly net income: $4,535

Assets: Bank accounts and GICs $78,000; potential value of shares in private corporation $200,000; TFSA $69,000; defined-contribution pension plan $141,105; other RRSP accounts $256,915 (of which $112,395 is cash and cash equivalents); residence $250,000; present value of non-indexed annuity $85,070. Total: $1.08-million

Monthly outlays: Property tax $145; home insurance $40; utilities $240; maintenance, garden $100; transportation $285; grocery store $500; clothing $100; gifts, charity $200; vacation, travel $250; dining, drinks, entertainment $320; personal care $40; pets $75; sports, hobbies, subscriptions $100; health care $150; phones, TV, internet $180; DC pension plan $500; other RRSPs $700; TFSA $460. Total: $4,385 Surplus goes to savings.

Liabilities: None

Want a free financial facelift? E-mail finfacelift@gmail.com.

Some details may be changed to protect the privacy of the persons profiled.

Matthew Ardrey
Presented By:
Matthew Ardrey
VP, Wealth Advisor
matt@tridelta.ca
(416) 733-3292 x230

Q3 TriDelta Investment Review – TriDelta is Expanding, but What About the Market?

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Overview


We wanted to kick off the fourth quarter with some TriDelta news, by announcing the opening of TriDelta’s Edmonton office.

The office is led by Arlene Pelley, an industry veteran who is joining the firm and planting the TriDelta flag in Western Canada. Click here to learn more about Arlene’s background.

Turning from TriDelta growth to the markets, we see reason for some caution after a meaningful pullback to start October and negative returns for most equity and fixed income indices in September. Through this period, we have been holding higher levels of cash at approximately 10%-15% in the equity funds, and while we see more short term volatility this month, we will be lowering our cash position shortly as the pullback is bringing with it lower valuations and opportunities to buy good companies at cheaper prices.

What is causing the pullback and what are we doing about it

Looking at things from a purely 2018 point of view, the recent pullback has been caused by:

  • Rising interest rates – which lead to higher borrowing costs for companies, and higher returns on lower risk investment alternatives like GICs (although they remain low historically)
  • U.S.-China Trade Wars (and broader trade conflicts globally)
  • Fears of higher inflation
  • High US stock market valuations and difficulty in companies beating high earnings expectations

Of interest, the reason it is so hard to predict the exact timing of a pullback is that the factors listed above are not new. Interestingly, on the trade front, the signing of the new NAFTA deal (USMCA) should have somewhat lowered trade concerns in Canada, US and Mexico, but all of those equity markets are down since September 30. These have all been issues of concern for many months, yet for some reason early October has been the time for a meaningful pullback. It is worth noting that in a typical calendar year, equity markets experience at least two drops of 5% and one drop of 10%+, yet in the vast majority of cases, equity markets still return highly positive returns year over year.

Looking at things beyond 2018 and from more of a long term seasonal perspective, the timing of the pullback and heightened volatility is not unexpected. Also from this same seasonal perspective, the weeks ahead may bring solid investment returns.

The chart below is the VIX index, which looks at volatility in the U.S. markets. The chart shows that over the past 27 years, volatility has definitely peaked in October. Studies of the S&P/TSX in Canada have demonstrated similar high volatility levels in October.


Source: www.cboe.com/products/vix-index-volatility/vix-options-and-futures/vix-index

Of interest, high volatility does not necessarily translate into poor overall returns. In fact, for the S&P500 index in the U.S., since 1950, October has had an average monthly return of +0.78%. Historically, the two best months of the year are November +1.39% and December +1.53%. Over the past twenty years, the TSX has had the following returns over the same three months: 0.7%, 0.9% and 1.8%.

The chart below comes from equityclock.com. It looks at the TSX over the past 20 years from a seasonality perspective, meaning, when is the most and least productive times of the year to invest. Of interest, it suggests that one of the best times for new investment is around mid-October.

From a purely seasonal standpoint, it suggests that it is worth hanging on through the October volatility as there is often a strong payoff during the fourth quarter.

In addition, in both Canada and the U.S., the third quarter has historically been the worst quarter for returns while the fourth quarter has been the best.

Interest rates: one of the most talked about concerns for the stock market is the fear of rising interest rates. Over the past 30 years, there have been six periods of meaningfully rising bond yields as measured by the U.S. 10 year Treasury yield. During those periods of rising rates, the stock market actually performed very well – as the following two charts from a study for CNBC show.

The market rose big during five of those instances and only fell slightly during the one lagging period.

As the chart above shows, the S&P 500 rallied 23 percent on average in those time periods and the Dow Jones Index was up in all six periods.

The message is that rising bond yields often do not correlate directly with declines in stock market returns. It also should be noted that bond yields in the past week have been flat to declining.

When we factor in the reasons for the pullback, our expectations on earnings growth (which remain reasonably good), the history of similar pullbacks and seasonality effects, we think there are more reasons for optimism than pessimism.

In terms of TriDelta’s direction from here, we have been a little cautious on stock markets but we are feeling a little more comfortable in deploying more capital following the early to mid-October declines. We have reduced our weighting in non-North American and Emerging Market stocks in our Pension fund, and will be using some of that cash to soon add to Canadian and to a lesser extent, U.S. names.

We have been adding some money to Preferred Shares. There are many good quality preferred share issuers yielding over 5% in tax preferred income. In some cases, we even see the potential for some small capital gains opportunities to add to the 5%+ yields.

In the bond market, we have been adding to some names in the “belly of the curve”, the 5 year to 10 year maturity range. We have added recently-issued bonds from BMO and TD maturing in five and ten years respectively and currently paying in the mid-3% range. We also added a bond from first-time issuer Sysco Canada (a U.S. based food services company), with a seven-year maturity, paying 3.7%.

One of our beliefs is that there is a real possibility that the projected interest rate hikes from the Bank of Canada may not fully play out. The market is currently anticipating approximately four interest rate hikes by the Bank of Canada over the next 12 months. While we do expect a hike at the end of this month, we think additional hikes are less certain due to slowing housing activity and moderating inflation pressures. As a result, we are seeing some signs to be a little more bullish on bonds for the first time in a while.

In terms of currency, it was informative to see that the Canadian dollar climbed for only a very brief time and a relatively small amount upon the approval of the USMCA (or NAFTA for those of us who are resistant to change). We are fairly neutral on the dollar at this point, but would look to be more exposed to the Canadian dollar (i.e. sell some US$ back to CDN$) if we see our dollar get down under 76 cents.

How Did TriDelta do?

Overall, most clients had returns in the 0% to 1% range on the quarter, with more growth oriented clients having a weaker quarter based on the Growth fund’s negative return.
Looking specifically at the third quarter of 2018:

TriDelta Pension Pool 1.8%
TriDelta Growth Pool -1.8%
TriDelta Fixed Income Pool -0.4%
TriDelta High Income Balanced Pool -0.2%
Most Alternative Investments 1.7% to 2.1%

By comparison almost every equity and fixed income market outside of U.S. stock markets had a weak quarter – especially in Canadian dollar terms.

The TSX was down 1.3%.
Euro Stoxx was down 2.1% in Canadian dollars.
The UK Based FTSE was down 4.4% in Canadian dollars.
Hong Kong based Hang Seng was down 5.0% in Canadian dollars.
The Canadian Bond Universe was down 1.3%.
On the other end, the U.S. S&P500 was up over 5% in Canadian dollar terms.
The Canadian Preferred Share index was up 1.5%

These numbers do speak to the value of a portfolio that is diversified globally and by asset class. At TriDelta we talk a great deal about lowering volatility, and the third quarter of 2018 was a good example. While most of our clients were flat to slightly up on the quarter, the major individual stock markets saw returns ranging from up 5% to down 5%. By limiting the downside, we are better able to maintain our long term investment focus, and reduce the temptations to change course after markets decline.
Even with a fairly flat last quarter, most TriDelta clients are up around 5% over the past 12 months to the end of September.

Summary

By planning long term and adjusting a well-positioned investment mix a little along the way, we can avoid the pull towards major changes when people are most nervous. There is a lot of reason to believe that there are some good returns ahead between now and February, and you don’t want to miss them. This doesn’t mean that all is fine in the world and things will only go straight up. What it means is that your investment portfolios already have some pretty good shock absorbers. This should help you to avoid getting too aggressive in good times and too nervous in bad times.

We hope that you get to enjoy some spectacular fall foliage whether in Ontario, Alberta or other parts of the country, and we thank you for your continued trust.

 

TriDelta Investment Management Committee

 

Cameron Winser

VP, Equities

Ted Rechtshaffen

President and CEO

Anton Tucker

Exec VP and Portfolio Manager

Lorne Zeiler

VP, Portfolio Manager and
Wealth Advisor

What a couple of kids at the CNE can teach the government about budgeting

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In September everything is back in swing. Kids are back in school. Governments are back in session. Money will be spent on juice boxes and money will be spent on pipelines. Before the juice boxes get packed for school though, I had the pleasure of being at the CNE in Toronto with my son and my nephew.

As we walked among the crowded midway, I was asked a few times whether they could try this game or that. I said “not now” a few times until I eventually told them “I will give you $20 to share. It is your games budget. Once it is done, no more games.”

I immediately noticed an incredible transformation in their behaviour and approach to the games. No longer would they do the rope ladder game at $10 a pop that 30 minutes earlier they had been so interested in. The $5 whack a mole was no longer worth it, given the prizes. They suddenly became the ultimate in value shoppers. Each game was studied in terms of price, prizes, and perceived difficulty. Questions were asked of the people running the games, and even lengthy observations took place of the crowds playing to determine who was winning and what paddle, gun or ball they used to get there.

As I watched this transformation, it became perfectly clear. Their earlier requests required nothing of themselves. It wasn’t their money. It was from some mysterious and seemingly deep well of funds that you could ask for, and even if the answer was no, you knew you could try again at some point. Now it was different. This was their money. It was limited. Decisions and tradeoffs were required. They knew that they had to treat the funds with respect and care.

The end result of their game adventure was that the $20 had been spent, but they stretched it for a good hour, while managing to win a taco pillow and a hat that I think was a turd emoji (they are 11 and 12 year old boys after all). I recognize that with some kids, this transformation would not have happened, but in this case I found it fascinating. What could be learned from this? How can the CNE experiment be applied to the greater good?

Now I turn my attention to the federal government of Canada. They too are essentially back at school, actively running our country to the best of their ability. The question is whether they run this massive enterprise by asking their parents for money from a seemingly bottomless pit or do they act as if they have $20 and they have to make it work. I think you know the answer to that one.

Here are the basics for the federal government:

2018 Projected Total expenditures: $338.5 billion

2018 Projected Total revenue: $323.4 billion

2018 Projected Deficit: $18.1 billion (including a $3 billion adjustment for risk).

These figures are for just the one year.

The federal government’s market debt — the debt on which Ottawa pays interest — topped $1 trillion in March of this year.

In a year where the economy is in relatively good shape, how can we project an $18.1 billion deficit? To learn from the CNE example, how about this ‘You have $323.4 billion to spend, and that is it. Once it is done, there is no more money.” How hard is that? This isn’t 2009. There is no economic crisis. This is a year where there is absolutely no excuse for running an annual budget deficit.

How about the debt? How would I talk to my kids about that one? I would tell them that you are very fortunate to be able to go to the CNE and have fun. You have $20 for games, but I really think you should set aside $2 from that and use it to give to someone that isn’t as fortunate, or to save it for something later this year that you might want to spend it on.

I know this isn’t a perfect analogy, but my son and nephew don’t owe anyone $1 trillion. However, I know someone who does. Guess what that group plans to do in 2018 instead. They plan to add another $18 billion to the amount they owe. If my son and nephew did owe someone $1,000, guess what they wouldn’t have been doing at all. They wouldn’t be using $20 for games at an amusement park. The $20 would have gone to paying down that debt.

I know that it isn’t right to compare federal government spending to games at an amusement park, but maybe it isn’t so far off. In the small category of questionable government spending, we have the $155,000 that was spent last year to have a red couch travel the country by RV to celebrate Canada150. In the large category, we have the $4.1 billion that has been provided by the Federal Government to Bombardier in the form of grants, loans and other investments since 1966 — a significant amount of which took place in the past three years.

I understand that setting budget priorities is a very difficult job, and even the examples above can be argued as to whether they were appropriate or not. The key point is that if federal government employees had some feeling that this was their own money being spent, it is hard to imagine these and other expenditures would have happened.

So where does this leave us?

Whether it is with your kids or our elected officials and their staff, there needs to be a greater connection to and ownership over spending. Perhaps with the federal government, there could be a reduction in government pension contributions equal to 3 per cent of annual budget deficits. As an example, for 2018, if we end up with an $18 billion deficit, there would be a $540 million deduction in government pension contributions. That would at least be a start when it comes to helping all federal government employees feel like it is their money being spent.

As it stands today, it often feels as though our government’s spending discipline is like a kid asking for money to play the ring toss game at the fair.

Reproduced from the National Post newspaper article 10th September 2018.

Ted Rechtshaffen
Written By:
Ted Rechtshaffen, MBA, CFP
President and CEO
tedr@tridelta.ca
(416) 733-3292 x 221

FINANCIAL FACELIFT: Great savers, not so great at investing

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Below you will find a real life case study of a couple who are looking for financial advice on how best to arrange their financial affairs. Their names and details have been changed to protect their identity. The Globe and Mail often seeks the advice of our VP, Wealth Advisor, Matthew Ardrey, to review and analyze the situation and then provide his solutions to the participants.

gam-masthead
Written by: DIANNE MALEY
Special to The Globe and Mail
Published August 31, 2018

Logan and Tina are clear about their goal: to retire in four years with more money in their pockets than they are spending now. He is 63, she is 54. They have two grown children, a house in Southwestern Ontario and no debt.

Both have good jobs, he in education and she in an office. Together, they bring in about $187,000 a year. Logan has a defined benefit pension plan, indexed to inflation, and Tina a defined contribution pension plan, where the benefit depends on the performance of financial markets.

They’re prodigious savers, contributing regularly to their various investment accounts as well as their pension plans. They also have a substantial amount of money sitting in the bank. They keep the cash partly because “we are uncertain about a potential market crash, so are holding this until the market is on firmer footings,” Logan writes in an e-mail.

When they retire, they plan to sell their city house and move north to a place on Georgian Bay. They plan to take one big trip every five years. Are they on track?

We asked Matthew Ardrey, a vice-president and financial planner at TriDelta Financial in Toronto, to look at Logan and Tina’s situation.

What the expert says

Altogether, Tina and Logan have a total of $1.4-million in investment assets and savings, Mr. Ardrey says. They add to these investments regularly, making the maximum $5,500 TFSA contribution each year. Logan maximizes his RRSP – he has $6,185 of contribution room this year – and also contributes about $11,600 to his defined benefit pension plan. Tina makes $9,700 a year in defined contribution pension plan contributions and receives an employer match of $6,480. She also saves $10,320 a year in her employee share purchase plan.

“Even after all of these savings, they still have substantial surplus cash flow,” Mr. Ardrey says. This money goes to a combination of their investment and the bank savings accounts.

When Logan retires from work, he will get a pension of $34,100 a year, indexed to inflation, with a 75-per-cent survivor’s benefit. He can split his pension income with Tina. Tina will begin collecting Canada Pension Plan benefits at the age of 65 and Logan at the age of 67 in Mr. Ardrey’s plan.

“They are currently spending about $37,000 per year and expect to increase that to $70,000 in retirement,” Mr. Ardrey says. “They want increased financial flexibility and to ensure they never have to worry about money.”

When they move up north, they plan to buy a house in roughly the same price range. Mr. Ardrey includes moving costs of $38,200 in calculating their initial retirement income. As well, he has added $15,000, adjusted for inflation, to their retirement spending target in 2022, the year they retire, 2027 and 2032.

While Logan and Tina are great savers, they are not so good at investing. “Currently, Tina’s and Logan’s asset mix is almost 30 per cent in cash and cash equivalents!” Mr. Ardrey points out. “This is creating a substantial drag on portfolio returns.” The rate of return on their overall holdings is 3.87 per cent. In addition to the cash, they have a broad mix of mutual funds, some with relatively high fees, so their investment cost is 0.8 per cent.

Even with the modest return, the couple could meet their retirement spending goals because they have saved enough, Mr. Ardrey says. “They will have an estate of $3.3-million, including their real estate and personal effects, at Tina’s age 90.”

Still, Logan and Tina could benefit from simplifying their investments by moving from an investment dealer to an investment counsellor, a firm that has a legal duty to act in the best interests of its clients, Mr. Ardrey says. Investment counsellors charge an annual fee that is a percentage of the client’s assets.

For the fixed-income side of the portfolio, he suggests supplementing traditional fixed-income securities with some alternative income investments such as private debt, international real estate and accounts receivable factoring. This would improve fixed-income returns and lower overall risk because alternative investments are less correlated to the broader financial markets.

By changing their asset mix to 50-per-cent equities, 30-per-cent fixed income and 20-per-cent alternative income, and using the services of an investment counsellor, they should be able to achieve a return around 6.5 per cent with investment costs of 1.5 per cent, for a net return of 5 per cent a year, Mr. Ardrey says. “With an improved strategy, they could retire right now if they wanted to do so.”

Client situation

The people: Logan, 63, Tina, 54, and their two grown children

The problem: Are they on track for a prosperous retirement in four years?

The plan: Not much to do, but if they improve their investment returns, they could quit working tomorrow.

The payoff: The comfort of knowing they have more than enough.

Monthly net income: $12,615

Assets: Cash in bank $134,000; stocks $106,300; mutual funds $214,430; his locked-in retirement account $34,470; his TFSA $73,900; her TFSA $83,540; his RRSP $114,895; her RRSP $278,075; market value of her DC pension plan $364,520; estimated present value of his DB pension plan $784,300; residence $350,000; undeveloped land $30,000. Total: $2.57-million

Monthly outlays: Property tax $185; home insurance $60; utilities $185; maintenance, garden $125; transportation $410; groceries $650; clothing $125; gifts, charity $225; vacation, travel $35; other discretionary $40; dining, drinks, entertainment $250; personal care $50; pets $50; hobbies $10; subscriptions $50; other personal $210; drugstore $90; health, life, disability insurance $250; phone, internet $75; RRSPs $685; TFSAs $915; pension plan contributions $1,775. Total: $6,450. Surplus of $6,165 goes to savings and Tina’s employee share purchase plan.

Liabilities: None

Want a free financial facelift? E-mail finfacelift@gmail.com.
Some details may be changed to protect the privacy of the persons profiled.

Matthew Ardrey
Presented By:
Matthew Ardrey
VP, Wealth Advisor
matt@tridelta.ca
(416) 733-3292 x230

FINANCIAL FACELIFT: Home upgrade could saddle couple with too much debt to easily meet retirement dreams

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Below you will find a real life case study of a couple who are looking for financial advice on how best to arrange their financial affairs. Their names and details have been changed to protect their identity. The Globe and Mail often seeks the advice of our VP, Wealth Advisor, Matthew Ardrey, to review and analyze the situation and then provide his solutions to the participants.

gam-masthead
Written by: DIANNE MALEY
Special to The Globe and Mail
Published August 3, 2018

Roy and Leah are in their early 40s with three young children, a mortgage to pay off and a house in Toronto that is too small for a family of five. They want to add another storey at an estimated cost of $250,000.

Roy earns a healthy income in his information technology job, while Leah is working part-time. Together, they bring in about $166,000 a year. Their goal is to keep this work arrangement for as long as possible, Roy writes in an e-mail.

“Can we afford to do the house renovation with Leah still part-time?” Roy asks. The plan is for her to supervise the house renovation starting in the spring of 2019 and go back to work full-time in 2020. They’d have to borrow to finance the renovation.

They wonder what effect the additional debt will have on their retirement plans. “When can we comfortably retire?” Roy asks. He’s planning to work to the age of 65, although he’d naturally like to retire earlier. She plans to retire at the age of 60. They both have company pensions – his a defined contribution, hers a defined benefit.

We asked Matthew Ardrey, a vice-president and financial planner at TriDelta Financial in Toronto, to look at the couple’s situation.

What the expert says

Roy and Leah are facing the conundrum that many others in their position face, Mr. Ardrey says: balancing off life today with their retirement dreams of tomorrow.

“They want to find a way where Leah can remain working part-time, complete the $250,000 renovation to add a second floor to their house and still save enough for retirement.” There is little room in their budget for the added expense of carrying new debt, the planner says. That assumes the loan is amortized over 25 years at a cost of $14,000 a year, tilting them into a cash-flow deficit.

“If they could find a way to reduce their spending by $10,000 a year, both the renovation and the part-time work can co-exist,” Mr. Ardrey says. This seems unlikely. Instead, he looked at a more feasible option in which they delay the renovation until 2023 after Leah has returned to work full-time. “Or they could do the renovation now and Leah could return to full-time work now.”

In both scenarios, Mr. Ardrey included $2,500 a year for each child for education savings, a contribution of 6 per cent of salary to a defined contribution pension plan for Roy with a matching contribution from his employer and a top-up to his group registered retirement savings plan at work of $2,940 a year. Leah retires at the age of 60, as planned, with a pension of $59,725 and a bridge benefit of $7,642 from the age of 60 to 65, indexed to inflation. The planner assumes they will begin collecting full Canada Pension Plan and Old Age Security benefits at the age of 65.

In Scenario 1, where the renovation starts in 2023, they will have taken on substantial new debt, so their focus will be on paying it back, Mr. Ardrey says. “Being debt-free is a cornerstone to financial independence.”

All surplus will be directed toward debt, except for a pause between 2030 and 2032, when they will stop making additional mortgage payments and instead focus on their children’s postsecondary education costs because the registered education savings plan funds will be running out. That assumes education costs of $20,000 a year for each child, rising at 4 per cent a year or double the rate of inflation.

Lump-sum additional mortgage payments continue in 2033 until the debt is paid off in 2038. Roy retires the following year at the age of 65 and the cash flow surplus from that one year of $37,000 is saved in his tax-free savings account.

Their retirement expenses are $84,000 a year after tax in current dollars, plus $10,000 for travel to the age of 80. If they wanted to spend all their savings, leaving only their house, they could increase their retirement spending by $9,600 a year, rising with inflation, Mr. Ardrey says.

In Scenario 2, where Leah returns to work now, the focus would again be on debt repayment. By the time their children are in university, the mortgage will be lower so they will be able to make reduced lump-sum payments while they catch up with the education expenses.

“Paying down the debt earlier has a positive effect on Leah and Roy’s cash flow,” Mr. Ardrey says. They are debt-free by 2034, ahead of target. Roy can retire three years earlier than planned at the age of 62. Between 2034 and 2036, they use their surplus cash flow of $21,000 each to contribute to their TFSAs. They meet their retirement goal. If they wanted to leave only real estate behind, they could increase their spending by $6,000 a year. Although that is less than Scenario 1, Roy does retire three years earlier.

“Unfortunately, there are no magic bullets in retirement planning,” Mr. Ardrey says. “It usually comes down to working longer, saving more, spending less or investing better.”

Client situation

The People: Roy and Leah, both 43, and their three children, ages 7, 9 and 11.

The Problem: Can they afford to add a second storey to their house with Leah continuing to work part-time for a few more years?

The Plan: Either postpone the renovation until after Leah is back full time, or do it now and have her return to work immediately.

The Payoff: They avoid overextending themselves financially and having it affect their retirement plans.

Monthly net income: $10,610.

Assets: Cash in bank $1,000; his RRSP $58,735; his employer pension plan $182,600; estimated present value of her DB pension $208,890; RESP $111,815; residence $800,000. Total: $1.4-million

Monthly outlays: Mortgage $1,410; property tax $350; home insurance $85; utilities $285; maintenance $280; transportation $625; groceries $2,055; child care $400; clothing $200; line of credit $10; gifts, charity $350; vacation, travel $345; other discretionary $1,000; dining, drinks, entertainment $660; sports, hobbies $275; subscriptions, other $40; prescriptions $25; life insurance $140; phones, TV, internet $255; RRSP $115; RESP $625; pension plan contributions $1,040; professional association, group benefits $127. Total: $10,697.

Liabilities: $317,180; line of credit $4,000. Total: $321,180.

Want a free financial facelift? E-mail finfacelift@gmail.com.
Some details may be changed to protect the privacy of the persons profiled.

Matthew Ardrey
Presented By:
Matthew Ardrey
VP, Wealth Advisor
matt@tridelta.ca
(416) 733-3292 x230

Q2 TriDelta Investment Review – Global Trade: Long Term Problems or Short Term Worries

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OVERVIEW

As we languish in summer heat, we feel anguish in summer Tweets.

If there has ever been a larger global megaphone than President Trump’s Twitter account, we don’t know what it is. While we try our best to ignore most of it in order to prevent overreactions when it comes to investing, the prospect of a major shift in U.S. global trade policy could have major investment implications.

In this report we will look at the risks but focus on why we believe the heightened trade tensions are temporary and not a long term structural change to the markets. We believe that NAFTA will get resolved with some notable wins for the United States, and most other ‘trade wars’ will settle down without significant changes.

We also review how TriDelta did and what we see going forward.

Global Trade – Where it is headed and who will be the winners and losers

Changes to the global trade order may start with President Trump, but the facts on trade will determine how it all ends.

Our views on what will happen to global trade are based on two key items. The first is the facts on trade; who the U.S. trades with, the respective trade balance with each of these countries and how reliant they are on one another for trade. Secondly, we look at how reliant each country is on the United States.
The second focus helps to truly understand President Trump’s end goals and negotiation strategies. So let’s review.

The United States has five major trading partners. The EU, China, Canada, Mexico, and Japan. These five partners represent 69% of all US foreign trade, and 86% of the U.S. trade deficit.

From the list below you can see the high level details.

US Trade in 2017 – Top 5 Trading Partners (according to the International Trade Administration) in USD millions.

Rank Country/District Exports Imports Total Trade Trade Balance
World 1,546,273 2,341,963 3,888,236 -795,690
1 European Union 283,269 434,633 717,902 -151,363
2 China 129,894 505,470 635,364 -375,576
3 Canada 282,265 299,319 581,584 -17,054
4 Mexico 243,314 314,267 557,581 -70,953
5 Japan 67,605 136,481 204,086 -68,876

When it comes to Donald Trump’s approach, he wrote about his 11 winning negotiation tactics in his 1987 book The Art of the Deal.

His first one was:
Think big

“I like thinking big. I always have. To me it’s very simple: if you’re going to be thinking anyway, you might as well think big.”

He has said consistently that he believes that the U.S. has been taken advantage of on trade and that he will put a stop to that. If he is going to do that he will focus on his biggest trading partners and he will start by asking for everything.

Another key item on Trump’s list is pretty common for most negotiations. He wants to find points of leverage and during negotiations to act as cool as possible – showing no interest or worry about resolving matters.

Use your leverage

“The worst thing you can possibly do in a deal is seem desperate to make it. That makes the other guy smell blood, and then you’re dead.”

If the U.S. wants leverage from its trading partners, the two easiest countries on the top 5 list would be Mexico and Canada. For Mexico, 81.0% of its exports go to the U.S.. For Canada, the number is 76.4%. Mexico and Canada need the U.S. in a big way.

On the flip side, the percentage of U.S. exports going to Canada is 18% and it is 16% for Mexico.

Percentage of a countries exports that go to the United States:

Mexico 81.0%
Canada 76.4%
Japan 20.2%
China 18.2%
India 16.0%

Another of Trump’s tactics is:
Get the word out

“One thing I’ve learned about the press is that they’re always hungry for a good story, and the more sensational the better…The point is that if you are a little different, a little outrageous, or if you do things that are bold or controversial, the press is going to write about you.”
Clearly, Trump can use the media to get his side of the story out in a loud and large way. For us it remains important not to put too much stock in individual comments that Trump makes when it comes to trade issues. He will say anything to keep the focus on him and his issues.

Fight back

“In most cases I’m very easy to get along with. I’m very good to people who are good to me. But when people treat me badly or unfairly or try to take advantage of me, my general attitude, all my life, has been to fight back very hard.”
This can certainly explain his reaction to Trudeau and others. It is par for the course with Trump, and while the personal attacks are unseemly, they are not likely to lead anywhere as long as there is real negotiation leverage to fall back on.

This now brings us to China. For China, the U.S. is its largest trading partner, and represents 18% of exports and 9% of imports, but as you can see from these numbers, the Chinese economy is fairly diverse and not overly reliant on the U.S. In fact, 80% of China’s GDP is from domestic consumption. Purely based on the numbers, the United States doesn’t have nearly as much leverage with China as it has with Canada and Mexico. To top it off, China is the largest foreign holder of U.S. debt at over $1.5 trillion. Needless to say, the United States needs to be careful in its negotiations with China.

Basically, we see NAFTA as something that will end up being resolved, likely with some clear wins for the United States. The threats, loud complaints, and the personal attacks do not worry us. They are all on the Trump negotiating tactic list. If we had to guess, one potential loser from a NAFTA agreement will be the Dairy Industry in Canada as it has been the centerpiece of many Trump attacks and one that he will most want to raise as a sign of victory. Keep in mind that many Canadians themselves criticize the structure, high costs and unfairness of the Canadian dairy industry.

At the end of the day, Canada and Mexico are negotiating from a point of weakness and ultimately may give more than they want in order to get a deal done. But it should be noted that despite no tax cuts in Canada and with the uncertainty of trade, Canadian GDP growth is expected to be quite strong in the second half of the year.

When it comes to China and trade imbalances, the United States simply does not have the leverage to win this trade war. Where Canada and Mexico need the U.S. more than the other way around, that simply isn’t the case with China. If only 20% of China’s GDP are exports, and the U.S. is 18% of its exports, that means the U.S. market represents only 3.6% of China’s GDP. Because he holds the loudest megaphone, Trump can still claim victories along the way, but when it comes to China, the U.S. is fighting a battle that they won’t win. The one exception is in technology and intellectual property as is evidenced by the action against Chinese giant Tencent. China is reliant on US technology, particularly semiconductors, to fuel its growth and this is an area where concessions can be earned.

We think their discussions with the EU may be a little more productive, but will most likely end up closer to status quo than see any major wins for either side.

This leads to one of Trumps final negotiation tactics:
Maximize the options

“I never get too attached to one deal or one approach. I keep a lot of balls in the air, because most deals fall out, no matter how promising they seem at first.”
This tells us that while Trump may go after every big region to try and negotiate a better deal, he recognizes that he won’t win them all. From an investment risk perspective, it means that we should be less worried about Trump fighting five different trade wars at once. Once he has a big win he can ‘Trump-et’, the others may fade.

TriDelta’s View of the Risk of Global Trade Wars

In summary, we believe that NAFTA will get resolved and Trump will claim a big trade victory, but it should only negatively impact a few select sectors. He can use this as proof that he is a good negotiator and that he is winning points for America. This may take pressure off of him on other global trade deals that the U.S. can’t win to any great extent.

While trade tensions may cause turmoil, we do not believe it will bring on impending market doom.

How Did TriDelta do in Q2 and over the first half of the year?

The TriDelta Growth Fund has had a strong run. It was up 3.0% in Q2 and up 5.6% over the first six months of 2018.

The TriDelta Pension Fund which focuses on dividend growing stocks and is a lower volatility fund, has seen slower growth after a couple of very good years. It was up 2.2% in Q2 and up 2.8% over the first six months.
The TriDelta Fixed Income Fund was up 0.4% in Q2 and 1.1% in the first six months.

The TriDelta High Income Balanced Fund was up 3.2% in Q2 and 3.3% in the first six months of the year.

Overall most clients are up between 1.5% and 4% year to date depending on their asset mix.

By comparison, the TSX was up 1.9% in the first half of the year, the Canadian Bond Universe was up 0.6% year to date to June 30th, while the S&P 500 in Canadian dollars was up 7.7%. Global equities outside of the U.S. have been mostly negative this year.

We continue to be pleased with how our portfolios have been able to smooth out much of the market volatility that we have seen over the past 6 months. Most clients experienced losses of less than 1% in February when the S&P500 experienced a short term loss of 13%. At TriDelta, the more we can avoid those declines in the first place, it makes it easier to stick to and achieve the long term plans. By reducing volatility, stress is reduced, and more rational investment decisions can be made.

Central Banks, Interest Rates and Bond Markets

Central Banks

Bank of Canada governor Stephen Poloz, with his extensive background in trade-related issues and global trade contacts from his prior post at the Export Development Corporation, is perhaps best suited of all the embroiled nations’ bankers to assess what the escalating trade war with United States means. The announced tariffs on metals and other goods between the two nations implies that consumer prices are set to rise in the coming months. As the anticipated “loser” in any trade battle with the US, the very real prospect of a weaker Canadian dollar could also be the source of further inflationary pressure as buying foreign goods becomes relatively more expensive. Typically, a central bank will raise interest rates to keep inflation at a comfortable level. In the past, however, the Bank of Canada has recognized that certain types of inflation are not responsive to adjustments in its overnight rate and is likely to regard tariff- and currency-related price increases as a one-time “supply shock”. Furthermore, as a relatively small and open economy that derives 25 percent of its economic activity from exports to the U.S., Poloz must also contemplate a downgrade to near-term growth estimates and be less likely to raise rates at the margin as a result.

The conundrum faced by the U.S. Federal Reserve is somewhat more complicated. With unemployment at a 20 year low, the economy expanding at a nearly four percent annualized rate in the current quarter, more fiscal tailwinds on the way and some inflation measures already at the high end of its comfort zone, the Fed has signaled its intention to continue to gradually raise interest rates.

Although the Congress is divided on the evolving tariff policy, it has shown a proclivity to tax cuts and spending and could opt for more of the same to cushion any economic drag – particularly as they are a few months away from what promises to be a hotly-contested mid-term federal election.

Bond Market Response

Understandably, risk appetite in fixed income markets diminished as the second quarter drew to a close. Nevertheless, corporate bonds in North America managed to approximately return their running yield (meaning little change on bond prices). Government bonds themselves, after a mid-quarter test of the three percent yield level on US government ten-year bonds, retraced their path to settle down slightly for the quarter. We anticipate some more volatility while the trade representatives work begrudgingly towards compromises that are politically palatable in their respective countries. Risks to that view include a meaningful increase in inflation expectations amongst US consumers, which might prompt the Federal Reserve to raise rates more aggressively. There is also the potential for China state-owned entities to sell US treasury bonds in large quantities as a means of retaliating against tariff action and defending its own currency, which has come under pressure in recent weeks.

Stock Markets

In the stock markets, given our belief that heightened trade tensions are temporary and not a long term structural change to the markets, we believe that there will likely be some relief rallies as trade news improves.

Despite this view, we stand ready to react if things do continue to escalate. We would increase cash and sell calls into higher volatility in order to generate income. This speaks to good investment management in general. You develop a core thesis and manage to that expectation, however, you always acknowledge that things change and you need to be ready to quickly change your investment approach as the facts come in.

As far as individual names or sectors are concerned, TriDelta has a disciplined process that starts with equity screens that focus on selecting companies with attributes that outperform over time. The increase in tariffs can artificially impact earnings (positive or negative). As a result, when we look at key factors such as earnings estimate changes, growth in earnings and earnings based valuation metrics, more scrutiny is needed when evaluating a company to determine if recent increases or decreases in these key variables are affected by the addition or removal of tariffs.

These are the key items and thinking that is keeping us busy on the investment management front.

SUMMARY

The biggest megaphone doesn’t mean the most important news. Today, global trade wars and threats are the loudest stories, yet by studying the situation a little deeper, we believe that we can be a step ahead of these issues as they develop.

We hope that you have a great rest of the summer, and we thank you for your continued trust.

 

TriDelta Investment Management Committee

 

Cameron Winser

VP, Equities

Ted Rechtshaffen

President and CEO

Anton Tucker

Exec VP and Portfolio Manager

Lorne Zeiler

VP, Portfolio Manager and
Wealth Advisor

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