Book Review: Enough Bull

Posted by Tim Stobbs on November 19, 2009

David Trahair is back again.  The author of Smoke and Mirrors is back with a new book called Enough Bull that suggests we should all tell the stock market to go to hell and put all of our savings into GIC’s.

To be honest I can understand the feeling that drives this book.  By investing in just GIC’s you may not get a huge return, but you will be guaranteed your principle back which given the pounding we all took in 2008 sounds damn good once in a while.  Yet the book isn’t strictly about avoiding the stock market.  Instead he lays out a six point plan which includes:

1. Avoid Financial Disasters – Where he points out you should never borrow to invest, never buy something you don’t understand and  if it sounds too good to be true it likely is.
2. You Don’t Need the Stock Market or Mutual Funds – The pro-GIC part of the book.
3. Buy a Home and Pay Off the Mortgage – Actually it’s fairly sound advice for most people.
4. Reducing Expenses Don’t Have to Be Painful – Go after the big stuff of interest on your debt and income tax.
5. Forget RRSP’s Until the Mortgage is Paid Off - If you follow the GIC method this makes more sense.
6. Ask Yourself if You Really Need an Investment Adviser – Again if you use just GIC’s this is obvious.

The one paragraph I like the most in this book was one where he stated you don’t have to follow everything he lays out in the book.  He points out use what you want in the six point plan and ignore the rest.  Good thing he said that or I might be a bit pissed off.  I do get his point of view, but I don’t agree with all of it.

Here’s my six point plan which I just corrected the points in his that I don’t agree with:

1. Avoid Financial Disaster – Yes never buy something you don’t understand and if it sound too good run away, don’t walk.  Yet borrowing to invest does make sense at some points and for some people.  I would agree that you should likely limit your exposure to perhaps 10 to 20% of your portfolio depending on your own comfort level.
2. You Need Much Less Stocks Than You Think in Retirement – People often grossly overestimate their ability to recover from a down turn in the market once you are retired.  Recall you will likely have no other income source so it pays to be way more conservative with it.  I typically would suggest that you set up your fixed portion of your portfolio to cover all of your basic expenses so you could have a 70 to 85% in fixed income with the balance in stocks to provide some inflation coverage.
3. Buy a Home and Pay off the Mortgage – if it makes sense in your local market.  If you don’t plan to retire there, then consider just saving up cash to buy a home elsewhere.
4. Reducing Expenses Don’t Have to Be Painful – Yes hit up the big things first: interest on your debt and taxes.  Then cut back on areas you don’t care about (power bill, water usage) to boost spending on those things you love.  Also consider free or low cost alternatives.  The idea isn’t to cheap, but rather frugal.
5. Don’t Panic Over Maxing Out Your RRSP’s – You don’t have to do this early in your career.  Focusing on student debt and credit cards makes a hell of a lot more sense.  When you income rises up to a higher tax level then start using the RRSP’s to cut back the government’s hand in your pocket.
6. Use an Investment Adviser if You Want To – You don’t have to use one for GIC’s or if you are using some index ETF’s.  If you do use one make sure not to give them everything, that way you will limit the damage if they mess up.

This book was useful for me to read for one little tiny piece of information on CPP.  If your spouse dies you get their CPP pension, I’ve always know that.   I didn’t realize that you can only get up the maximum pension amount for one person.  So if both of you are getting the maximum pension already and one of you dies then you lose all of the second pension.

So overall it was a short read and I learned something new.  So it is worth reading the book from your library.  You may not agree with all of it, but it does make you think.

The Average Return Fallacy

Posted by Tim Stobbs on August 26, 2009

It’s likely the most common error in every retirement plan in existence: the average return fallacy.  You just assume a straight line rate of return of 5% for your entire life.  Of course things don’t work that way in real life, often you get 5%, 2%, 9%, -10%, etc,  so the numbers never match your plan.  Yet since we can’t model future markets we are stuck with this problem. Now that provides two distinct challenges: one is saving for retirement and the other is while in retirement.

The first challenge of saving for retirement is more manageable in terms of impact.  If your assume 5% for a straight line return and you end up being a little short at your desired date you can obviously just keep working for an extra year or two to make up the difference.  Or the other way is you might find yourself at your goal a year early.  Essentially you let the dollars determine when your done rather than your desired date.  It means letting go of your perceived control of the situation, but otherwise it’s a manageable issue.

While in retirement, the situation is much more serious.  Your portfolio could never recover from a string of bad years in a bear market since you have no new cash coming in to make up the loses from the down years. Also hiding in bonds won’t cut it since you could see your spending power cut down too far by inflation over the long term.  So what can you do?  Well here are a few ideas on managing the risk.

1. Save Some Extra.  Padding your numbers for a bit is not a bad idea to help reduce the risk.  One example is a three year spending cushion of cash beyond your basic capital requirement in a separate fund for the express purpose of being able to limit withdraws during a down market.   Some other people just add 10% to their spending to cover off some risk.  It’s really up to you how to pad your numbers.
2. Do Some Work.  Even if you don’t need the money for a very long retirement you might consider keeping some part time or contract work.  This has two fold reasons, you will increase your CPP payout when you qualify and second it offsets some cash withdrawals from your portfolio during your early years giving it a better chance to survive a down market later on.
3. Be Willing to Sell Other Assets.  If you have a vacation property you can sell or be willing to downsize your home it might be able to top up your portfolio if it gets too much of a drain early on from your withdrawals.  This has the risk of the local real estate market might fall on you so don’t depend on this one too much.
4. Reduce Your Spending.  Having a little fat in the budget is a good thing to allow you to cut back later on, but keep in mind depending on how bad the damage is to your portfolio you may be cutting back your spending permanently.
5. Buy Some Insurance.  An annuity might seem a bit odd of an idea, but it does transfer the risk to the insurance company from you.  As part of an overall plan this might make sense to buy a few smaller ones to stabilize a portion of your income.

In my own case I’m considering using all of the above to some degree.

• I’m considering moving my three year case reserve from inside the portfolio in the current plan to outside of it.  Yes I might have to work an extra year or two, but so be it.
• I’ve also planned on doing some work post retirement, so that also provides some backup.  I’ve never planned how much, I intend to play that by ear.
• I’m planning on downsizing my house at some point to reduce my bills (mainly property tax and heating) and because I won’t need the space once the kids are gone.
• I’m willing to give up my vacation fund if need be.
• I haven’t ruled out a smaller annuity to help manage my overall risk during my retirement years.  It’s not my first choice, but I’m willing to consider it.

So that’s my take on the problem.  It is a problem, but one you can cover off to a degree with a few backup plans.  Obviously I won’t know if I will have done enough until after I die with some money in the bank and then it’s not my problem.  So yes you need to manage the risk, but don’t let the gloom and doom talk keep you working longer than you need.  Some balance is required.

Pension Envy

Posted by Tim Stobbs on June 24, 2009

I amazed to some degree how this issue has been basically on the back burner for years until the boomers are finally close to retirement and are now getting pension envy for those civil servants that have defined benefit pension plans.

I suppose the issue only has recently come to a head after the market crash where those in defined contribution plans lost a lot while those in defined benefit will still have the exact same pension.  Yet those same defined benefit plans also have a major issue: huge make up payments funded by the taxpayer.

This blog post does describe the situation fairly well and I have to agree that there is a longer term legacy cost issue here for all levels of government.  In fact the true costs of these plans is why they have vanished from the private sector and perhaps it is time to do the same in governments as well.  My own employer, a crown corporation, wised up to this issue decades ago and switched all the new employees over to the defined contribution plan to cut down the costs involved in running the company.

The reality is that despite the fact the payouts of defined benifit plans are generous, there is a price to be paid for them.  They are really like golden handcuffs.  You have to work for that employer for so many years in order to get the full pension amount.  This is something I’m personally not interested in so in my mind I prefer the defined contribution plans, but I imagine there is a number of people looking at their retirement savings right now and who would be happy to put on some golden handcuffs.

So perhaps the key to this mess is two fold.  Start closing down those defined benefit plans for civil servants and switch the new people over to defined contribution and then open up a voluntary extension to the Canada Pension Plan (CPP) which would allow people to choose to contribute more in order to double their payments from CPP.  That way we could give people an option to have a more secure income for there retirement if they choose to do it.  I disagree with making everyone do it, as I don’t feel the need to fund the boomers retirement any more than I already will be via taxes for the next few decades.

Just my thoughts.  So do you have pension envy or are you happier in a defined contribution plan?