Sunday, 30 July 2017

Do I have enough to retire?




For many people who spent a working lifetime accumulating wealth in order to retire to the sunset, the decumulating phase represents a major challenge. Is the $1 million or $2 million that I had saved enough to last me during retirement? What if the stock market collapses like it did back during the credit crisis in 2008 and my portfolio decline more than 30 percent?

Based on the Trinity study by three professors and earlier work by William Bengen CFP, and Larry Bierwirth, using historical stock, bonds and inflation data, they have determined a safe withdrawal rate as a percentage of your initial investment. By withdrawing 4% each year, plus adjustment for inflation the following year, the portfolio can last more than 33 years or more regardless of the stock performance. Mind you, they have been some significant market correction during the time periods used for the studies, including 1929-1931, 1937-1941, and 1973-1974. In each instances, through proper  asset allocation of equity and fixed income, the portfolio had withstood the test of times. Moreover, the stock market has proven time and time again that it always recovers after a major decline.

Too often, many people, myself included, are preoccupied with thinking if we have saved enough to retire. Consider the following points to determine your retirement income:


1)      Using the Trinity study, and assuming your retirement period is 30 years, if you have accumulated $1 million by the time you retire, you can withdraw $40,000 per year. If you have saved $0.5 million, withdraw $20,000.

2)      Government pension, i.e. CPP (Canada)  – maximum approx. $13,000 per year (2017) X 2.

3)      Old Age Pension –maximum amount approx. $ 7,000 per year (2017) X 2.

4)      Defined Benefit (DB) pension plan – if applicable

5)      Part-time work


Assuming $0 for DB and no income from part-time work total pretax income of $80,000 from 1) to 3) should be more than sufficient for a couple in their 60s to last until 90 years of age.  Note that items 1-3 are also adjusted for inflation. Remember, when you are retired, you should not have to be concerned about paying down your mortgage or saving for your education costs. Lastly, when you are retired, you do not have to worry about having to save for retirement again. In fact, various studies have concluded that retired couple live comfortably on less than $50,000 per year.  The major disclaimer is on health costs. I thank God for living in Canada, which has one of the best and affordable health care system in the world.

Friday, 28 July 2017

When is your time up?

Unless you have been working for a long time for a company, you would probably not understand this.  In these days of constant corporate restructuring, when you start reading announcements about long serving employees departing, you often wonder when your turn would come.  Such is my predicament. Do I wait for the tap on the shoulder to indicate that my time is up or do I be brave enough and walk out the door myself instead?  I can’t help but recollect the times I worked together with people who have recently left the company (mostly not by choice).

My advice to those who just join the workforce is to not think that you can work for one company for the rest of your life. Instead, spend the first couple of years making sure that you benefit from your experience at the company that you work for.  And don’t hesitate to hop to another job when the opportunity arises, especially when you know that you are constantly being passed over from a promotion that you deserved or when you do not get along with your supervisor.

At the end of the day, it is always about business, and also whom you know (or suck up to) in the leadership chain. This is why it is important to plan for your financial future early enough in your career so that you are always in control, and not be controlled. Beef up the emergency cash fund in the event that you are out of a job.  Think about what else you can do with your skills. What if you are the sole breadwinner and your spouse and children are dependent on you for financial support. I don’t have the answer. Based on my experience, we always fear for the worse, and the reality is not even remotely close to being what you initially thought.


I am lucky enough to escape the multiple corporate restructurings, but my fellow colleagues who did not escape the chop always ended up doing better in their next endeavor.  Most companies are fairly generous with the severance packages, and most people who found jobs later use their severance packages to pay down the mortgage on their homes. 

Thursday, 27 July 2017

Canada Food Guide


The new and improved Canada's Food Guide is now available. Do check it out. I find it much easier to determine the variety and amount of food to consume on a daily basis.

Vegetables and fruits are labelled GREEN, YELLOW is for Grain products, Milk is BLUE, and anything in RED is for Meat lovers,

Serving sizes are also provided. For example, 1 slice of bread equals 1 serving size. I am not sure about Texas toast, though (maybe 1.5 servings?)

Remember, key to a healthy lifestyle begins with eating right and exercising.

Cheerios!

Wednesday, 26 July 2017

Health and Retirement Years

The doctor finally uttered the word “Remission.” All I could felt was joy beyond comprehension. After being on medication for over a year and a half to treat my hyperthyroidism, I can finally stopped taking the tapazole medication to lower my overactive glands. However, I will still need to have T3 and TSH blood testing done to ensure that the recovery is a permanent one.

I truly believe now that the greatest wealth is one’s health. There was a study that recently concluded that money can buy happiness, but the happiness is only limited to material purchases that are not everlasting.  As I contemplate embarking my journey towards my retirement years, I feel that I am in better health than ever. I feel  10 years younger physically. I am rejuvenated. I am more confident than ever. I work out constantly , doing both cardio and resistance training five to six days per week averaging 45 minutes per session. I even ran a 5K race with people half my age and finished in the top ten despite a strenuous hill climb..  According to health experts, we should be averaging 150 minutes of exercise per week.

There is also a strong correlation between one’s health and happiness. And this is so true, especially since we are blessed with living in one of the best countries in the world -Canada.  The healthcare and the social safety net systems are among the best in the world.   You can get your blood tested, go to see your doctor, and you don’t need to pay a cent! You can also retire penniless-and yet the Canadian government will provide you OAS and GIS for the rest of your life! And there are other benefits, too such as the Trillium Drug Plan, rebate for hydro usage, GST rebates and others.

My personal goal is to try and be disease free until I am at least 70 years old, or about 17 years from now. I feel that it is an achievable goal given my current fitness regime and being conscious about my diet to not overindulge. True, I can’t escape calamities such as being stricken with cancer all of a sudden, but that is life and that will be a card I have to deal with when the time comes.

Too often, we only focus on the financial aspect of retirement. It is great to be able to travel around the world, but you have to be healthy enough to do so.


So, what are your retirement goals?

Tuesday, 25 July 2017

Do you need life insurance for estate planning?

Being an insurance professional, I always try to approach the topic carefully, especially with friends and relatives because they are afraid that I am trying to sell them insurance policy. I feel the same way too,  sometimes, that I am no different from an ordinary salesman or another annoying telemarketer.  The cold calls that I made to prospects that the insurance agency had purchased from a reliable source ultimately proved once and for all that people genuinely dislike dealing with life insurance phone calls.

I hate to use the word “I told you so”, but for the people that realize later the importance of having purchased either a life insurance policy, critical insurance , disability or health insurance has renewed my faith in the profession.

Since I am also a CFP, I recently advised a close friend ,who is single, in her fifties, financially well-off, and planning early retirement.  The topic of estate planning came up. Since she has no dependents, she wondered what would happen to her assets once she pass away. Even though she has a will naming her niece and her sister as beneficiaries, she did not realize that certain assets such as her RRSP would trigger tax implications upon her death.  Since she is unable to roll-over her RRSP proceeds to her spouse  (she is single), taxes at the marginal rate (almost 45%) would be applied before the net proceeds are given to her sister and her niece. In summary, a $100,000 RRSP balance will be reduced to $55,000 once the tax authorities gets their hands on it.

If, for example, she had purchased a $50,000 10-year whole life insurance policy in her twenties and had named her sister and niece as beneficiaries, she would have only paid a total of $5,000 for the premium and have insurance for her whole life that could be used to offset the taxes on the liquidation of the RRSP upon her death (Annual premium $500 per year X 10 = $5,000).  You see, proceeds from life insurance policies are tax-free and can be a valuable tool in estate planning to help minimize taxes paid.

In addition, life insurance plays an important role when your children are young and you require the assurance that their needs can be taken care of in the event that you die suddenly. In addition, life insurance is also useful when you have a mortgage that can be paid off in the event that you passed away prematurely.

So, before you brush off someone who tries to sell you life insurance the next time, think carefully. 
Yes, the sales person is being compensated when he or she sells you the policy. But he or she is also doing you a favor that you may not realize immediately.


And finally, remember, it is best to purchase life insurance when you are younger and healthier as the premiums escalates exponentially once you gets older and sicker!

Monday, 24 July 2017

Preparing for a Market Crash during Retirement Years

What is the best preparation for a stock market crash? Unless you have a crystal ball in front of you, I don’t believe anyone can predict when that will happen. I know for sure it will happen one day, just like the meteorologist that predicts rain will eventually get it right one day.

Since the last major correction that ended in March 9, 2009, the S&P 500 has climbed from 676.53 to almost 2,500 in July 2017, or almost 270%  in total returns, including dividends reinvested.  Average annual return is more than 30%. No wonder there are so many early people who have achieved Financial Independence by investing almost at the bottom of the market.  Conversely, people who withdrew their investments at the trough would not only have lost almost a third of their fortune, but also the opportunity cost of staying the course, and waiting for the market to recover, and finally profit from waiting.  This, my friend, is the essence of investing for the long-term.

Even though we are closer to a major market correction now than before, it is important to not time the market by making major moves with your investment strategy. Stick to an asset allocation strategy appropriate to your risk profile and your retirement timeline. My experience with overseeing the company pension plan assets tells me that this strategy works best over time. When the equity markets do well, the pension plan tends to underperform due to exposure in the fixed income. And vice versa, during the market crash in 2008, the pension plan was able to escape the worst due to investment in fixed income, which thrived due to shift to government bonds and lower interest rates.

Having said that, I am a little concerned that the current bull market may be slightly overextended due to the following reasons:

Central bankers are starting to raise interest rates beginning with the Federal Reserve Bank of the United States, and now the Bank of Canada. Despite benign inflation rates, I think it is time to unwind the balance sheet of debt.

There is a glut in oil supply. The Saudis are suffering, even though their cost of production is the lowest. Higher cost producing countries such as Canada, the U.S., Norway, will suffer the most.

The stock market has been on a tear for the past 8 years, which surpassed the longest bull market run on record.

Company earnings may be peaking. As measured by S&P 500 trailing P/E ratio, it is almost 27. Normal average is less than 20. Note however, that stock market’s performance is driven by future expectation, and not historical data.

Market is driven primarily by a handful of high tech companies, notably FANG (Facebook, Apple, Netflix and Google (Alphabet).  Emerging FANGS include Amazon, Microsoft, and Tesla. Leadership is definitely lacking. Just so you know, the S&P 500 is a weighted index, and the top 5 companies above comprised 20% of the market capitalization.

A lot of companies are shedding their workforce in order to meet the earnings estimates. Top line growth or sales or decreasing.

Global housing prices have reached an unaffordable level.  Look at the correction that the Toronto GTA market is experiencing now- down almost 18% from the peak in April 2017.

I am not a firm believer that politics drive stock market returns. There may be  few hiccups due to Trump’s presidency in the United States or even impact from terrorism, but markets usually shrug them off.

Here are some of the steps that I am taking to reduce my risk in the equity market:

Start buying precious metals, preferably physical gold. History has shown that the precious metal has a negative correlation to stock market performance. Gold prices were up 25% during the 2008 market correction. And to a lesser degree, gold stocks, too. I would say no more than 10% of your total portfolio should be allocated to precious metal.

Review your asset allocation. Stick to a more conservative portfolio by investing more in fixed income -government and high quality corporate bonds with staggered maturity dates to hedge against interest rate risks. . Even though the current yield is about 3%, it is better to preserve your principal rather than losing 30% in an equity market downturn. Plus, with interest rate rising, you should be able to get a 4% yield. Depending on your investment horizon, I would say no more than 40% should be invested in fixed income.

Keep at least 1 year of living expenses in cash. I have to say that I found this while reading some of the personal Finance blogs, and I must say that this is a great tip. Assuming you have $50,000 in either savings or fixed deposits.  This avoids the need to tap into your portfolio and sell the stocks while they are down due to a market correction.  Assume this is 5% of your total portfolio of $1 million.

Lastly, your equity selection should yield at least 3% in dividends. Including interest from fixed income above,  your $1 million portfolio should provide an estimated 3% return in cash or $30,000 - $160,000 dividends and $14,000 interest per year. Assuming you intend to harvest 3% of capital gains from your equities, which will provide another 3% or $12,000, your total portfolio should provide $40,000 a year in cash, which should be sufficient for a basic retirement lifestyle if you add in CPP and OAS (or even private pension plans) .

In summary, here is my ideal portfolio to ride through a market correction and basically a portfolio for all seasons:




For full disclosure purpose, I have initiated some of the steps above, but have yet to reach my targeted mix.

Monday, 17 July 2017

Options Trading

Stock Options in the forms of call and puts can be a great tool for risk mitigation. Call it a form of insurance. The auto or house premiums that you keep paying ensure that you are compensated in the event your car is involved in an accident or that your house catches fire.

Definition of option as follow from Investopedia

An option is a financial derivative that represents a contract sold by one party (the option writer) to another party (the option holder). The contract offers the buyer the right, but not the obligation, to buy (call) or sell (put) a security or other financial asset at an agreed-upon price (the strike price) during a certain period of time or on a specific date (exercise date).

Applying it to practice takes effort, patience and paying tuition fees upfront (i.e. pay the price initially and learn from mistake).  I find that my most successful options trades are not the one that are speculative in nature (i.e. banking that a stock is going to increase significantly by buying calls or thinking that a stock is going to tank by buying puts), but the option strategy that works best is writing covered calls.

Writing covered calls basically means that I own a stock, say 1,000 shares of TD Bank.  To further generate additional returns, I write a call for 10 contracts of TD Bank (1 contract = 100 shares) to sell at a strike price of $70 in 3 months (current price = $65 per share).  In return, I received a premium of $1,000 (or $1 X 10 contracts X 100 shares). 

My assumption is that since the stock has already appreciated 30%,   the stock has already reached its upside, and in the short term I assume that the stock will either decline or remain unchanged. If the share price stay below $70 for the next 3 months, the option will expire worthless. If the share price is above $70 prior to expiration, the buyer of the call will receive the shares at $70.  Regardless of the outcome, I still keep the premium, and therefore I am able to increase my return by another $1,000. There is obviously commissions involved.

In summary, there are various options that can be employed such as the basic buy or sell puts, writing calls and puts, to more exotic strategies such as straddles, collars, and etc. However, they can be quite costly for the inexperienced investor to participate in. 

Thursday, 13 July 2017

Funding Your Retirement

When planning for retirement, it is important to estimate where your sources of income are coming from.  You would also need to determine how much you expect to spend. Take a look ath list below, try to estimate how much you would get and need.
Sources of Income (assuming age 65 and above and maximum benefit as of July 1, 2017):
Canadian Pension Plan (CPP) per month:1,114
Old Age Security (OAS):                            584
   Total CPP and OAS                             1,700

Guaranteed Income Supplement (GIS) if applicable: 524.85 maximum
Defined Benefit (DB) Pension Plan if applicable
Annuities
Dividend or interest income from investment portfolio
Part-time work if applicable

Monthly Expenses for 1 assuming frugal lifestyle:
Housing, transportation, food, clothing, and misc (basic lifestyle):            (1,700)
Add: another $800 for travel, dining and other lifestyle needs

If your sources of income exceeds your expenses, congratulations!

If your only sources of income consist of CPP and OAS (total $1,700), you may be able to still afford a minimalistic lifestyle (Expenses = $1,700).  I know I can live like a King! In addition, there are other social benefits that one can qualify at that income level, which would include GIS, hydro rebate, Ontario Trillium drugs and healthcare benefits and others.  

This just goes to show that you should not just blindly be led to believe that you need $1 million dollars in the bank to be able to afford to retire. But of course, we want to retire and travel the world, and live in luxury! This is when the extra planning and savings during your working years will pay off in the latter years. 

Saving an extra $100 per month for 40 years assuming a 5% annual return would provide $150,000. The same $150,000 when used to buy an annuity from a life insurance company would provide a monthly income of almost $700.


Alternatively, find a job with the government (local, provincial or federal), work for 30 years, and you can qualify for at least a  $4,000 a month pension for life! In order to receive $4,000 a month at retirement, one would have to save almost $800,000 lifetime and use the amount to buy an annuity to generate the same $4,000 income.  I know what I will do. Hope you do as well. Problem solved! And good luck getting the public servant job unless you know someone internally. 

Thursday, 6 July 2017

Another reason why you should opt for commuted value payment from Defined Benefit Pension plan

As I reiterated before, it is best to receive lump sum payment or commuted value (CV) from the defined benefit plan when you leave the company and invest in annuity. Note that there are some taxable events to consider. Sears Canada, which filed for bankruptcy protection, recently filed a motion with the courts to suspend certain monthly payments to its pension plan and post-retirement health and life insurance benefits, citing cash constraints. At stake is $3.7 million worth of cash payments to various DB plans, postretirement health and benefit plans.
Such issues are not uncommon. U.S. Steel Canada in Hamilton, Ontario filed similar motion with the courts to reduce pension and other benefit payments. Nortel Network, which has long been bankrupt, recently resolved its pension payment issue, resulting in a huge reduction of benefits to pensioners.
Just so you know, and I repeat, DB pension payments, despite being ‘guaranteed’ are not truly guaranteed.  If a company defaults on its payments to pensioners, the Pension Benefit Guaranty Fund (PBGF) essentially guarantees pension payment up to $1,500 (assuming the latest pension reform). If you are entitled to $5,000 a month payment, and the company that you worked work declared bankrupt, you may only get $1,500 from PBGF, thus losing $3,500.

FYI, the $1,500 a month that you finally receive after months or years waiting are also essentially a return of principle in most cases. Recall that you have been contributing approximately 5% of your pay into the pension plan each year. Assuming your average pay over the years was $100,000 and you have worked 40 years, and the rate of return was 6%, you would have accumulated almost $800,000 by the time you retired. And if you have invested $800,000 purchasing an annuity with an insurer, you would have received a monthly income of $4,000 a month - GUARANTEED. This is because ASSURIS ,which acts as an insurance fund, guarantees the higher of $2,000 of the amount or 85% of the promised benefits. 

Wednesday, 5 July 2017

Defined Contribution (DC) Pension Plan

For the unfortunate majority of workers who do not participate in company sponsored Defined Benefit (DB) pension plans, but instead contribute to DC plan instead, below are a couple of watch-outs. The typical DC plan includes a 50% matching contribution from the Employer up to 5% of salary (or 2.5% Employer + 5% Employee).  This is great because you get to double your money from get go.  However, unlike a traditional DB plan where future benefits are promised, you have to roll the dice with a DC Plan and select your own investments, ranging from targeted benefit investments to various equity and fixed income funds. And the biggest drawback is that future benefits are not certain despite the constant belief that the stock markets have always provided an average return of 10% or so. Tell that to the folks who suffered a 30% haircut in 2008 during the U.S. credit crisis when they were about to retire.

What I wanted to discuss further is actually the Management fees, or also known as MER, IMF and a host of other names. These are fees charged by the investment managers to operate the fund, regardless of whether the fund returns are positive or negative. The fees can range from a low of 0.1% to more than 2%. 

What I finally realized from looking at the fund prospectus is that in a typical DC Plan, the average fund in a DC plan is higher by at least 0.3% compared to a similar Exchange Traded Fund (ETF) as illustrated below. This, despite the promise that there are savings to be generated. The truth of the matter is that there are other fees tacked on to the MER besides the typical MER in a similar ETF.  I am not exactly sure what these fees are, but will try to find out.

On many  occasions, one can even leave the funds in the DC Plan when one retires.  But if I can make a suggestion, you would be best served if you move the money to a self- managed ETF. For a $1 million portfolio below, there are savings of at least $3,500 per year pre-tax by doing so. It may appear insignificant at first, but the amount adds up if you consider the fact that you will live an additional 20-25 years to live assuming you retire at the age of 65.

ETF
DC Plan
Savings in Fees
TSX Composite Index (70%)
$700,000
$700,000
Management Expense Ratio (MER)
0.050%
0.335%

  Fees
$350
$2,345
$1,995
Canadian Corporate Bonds Index (%)
$300,000
$300,000
Management Expense Ratio (MER)
0.090%
0.345%

  Fees
$270
$1,035
$765
Assume 70% Equity/30% Bonds
$1,000,000
$1,000,000
Management Expense Ratio (MER)
0.062%
0.338%

  Difference in Fees on a $1M portfolio
$620
$3,380
$2,760
     Assume 20% tax on $60,000 income, annual pre-tax income on savings in fees
$3,450
ETF - Exchange Traded Funds, managed by individuals, commissions may apply
DC Plan - Company sponsored, management and OTHER fees (MER) paid by employees

The Wealth Effect

I watched a documentary on TV Ontario last night called “The Super-Rich and Us.”  Shot mostly in London, England, Jacques Peretti investiga...