Tuesday, April 6th, 2010
The importance of global diversification is often discussed as important as an investor in today’s global economy, and with the MSCI World Index and EAFE (Europe, Australasia and Far East) Index both up about 27% in U.S. dollar terms in 2009, that message remains important. However, over the past few years, we’ve been reminded of the great investment opportunities in Canada.
More Than Just Resources
Canada has not gone unnoticed by investors abroad. A report last week indicated that Canada has benefited from record net inflows of foreign investment in Canadian securities.
By extension, demand for the loonie has also increased, and this is one of the reasons why the Canadian dollar currently sits near parity with its U.S. counterpart.
Foreign investors purchased $109 billion worth of Canadian securities in 2009, and another $11.8 billion in the first month of 2010. They were particularly keen on Canadian corporate bonds in 2009, purchasing nearly 80% of net new corporate issues. Meanwhile, Canadian investors were noticeably more conservative – nearly all bonds issued or backed by the Government of Canada stayed in Canada.
Why Canada?
There are good reasons for this renewed interest in Canadian investments. Canada has a highly educated workforce, a rock-solid financial system, and one of the strongest economies in the developed world. What’s more, the Canadian stock market has delivered some of the best returns in the world over the past 10 years. (Could this be a warning sign though?)
All of these points underscore the importance of having Canadian exposure as a core holding in a well diversified portfolio.
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Wednesday, September 2nd, 2009
As we head into the fall and we look forward toward next year, it is important to take a look at the general econimc landscape, assess the data that we have access to, and develop our views on the performance of our investments going forward.
The following are three high-level economic data points that we can use, along with our other tools, to further assist us determining our views on equity market investments.
1.) U.S. Housing
As the root of the credit crisis, healing in the U.S. housing market is a precondition for sustainable recovery. Recent data has confirmed that the worst is behind us and the residential real estate market is stabilizing.
The inventory of unsold houses while still high is heading in the right direction towards clearing and sales of existing homes have recently turned positive on a year-over-year basis. And an index which measures year-over-year price changes of houses in 20 major U.S. cities (the S&P/Case-Shiller Home Price Index) plunged 33.6% from its June 2006 peak to the April 2009 trough, but has now climbed 1.9% over the past two months.
2.) The U.S. Consumer
The resurgence of the U.S. consumer will be key to watch as recovery unfolds since consumption is 70% of the American economy. Despite the ‘hit’ that the housing crisis has exacted on their net worth, American household balance sheets are still in relatively better shape than they’ve been in the past due to the tremendous growth net worth over the last decade.
However, the process of deleveraging (winding down debt) has begun and this will impact spending patterns in the near-term.
3.) The U.S. Manufacturing
The level of manufacturing has historically followed an inverse path to the Fed funds rate but on a 6-month lagged basis – as the fed funds rate drops, six months later, manufacturing activity picks up.
However, in fall 2008, although rates declined to historically low rates, the credit crunch intensified and that typical relationship between low interest rates and increased manufacturing activity did not materialize. More recently, credit channels have opened up and the ISM (gauge of manufacturing activity) has improved, indicating the economy is finally responding to massive stimulus after a long lag.
And further improvement just yesterday with the latest ISM level better than expected at 52.9 – the first reading above 50 since January 2008 and hit the highest level since June 2007. This is further indication that while not yet normal, the economic environment is normalizing.
These are three key areas of the market to watch when assessing the high-level economic situation and it’s relationship to the stock market trends and valuations.
Of course this isn’t the be all and end all of data you should include in your due diligence, but it certainly plays a role as you calculate your risk tolerance moving forward.
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Wednesday, August 5th, 2009
Just a few days into August and markets seem to have picked up where they left off in July.
Here’s a summary of market action and key developments from last month, including monthly benchmarks.
- Investors saw more data indicating that healing is underway in the global economy. Increased optimism paved the way for a fifth consecutive month of gains across world markets.
- International stocks advanced. The MSCI World Index returned 8.4% (in $US terms). Since March 9th, the MSCI Asia Index has risen about 58% in local currency terms.
- Commodity prices rose. Copper is up more than 80% year-to-date supported by increased demand from China. The S&P/TSX Composite Index benefited, adding 4%. The S&P/TSX has climbed 45% since hitting a five-year low on March 9th.
- In the U.S., stocks made up more ground. The Dow Jones Industrial Average (DJIA) had its best month since 2002, up 8.6% . The S&P 500 Index advanced for the fifth consecutive month (the longest streak since 2007) gaining 7.6% . The S&P 500 is now up more than 40% since March 9th and Monday, it closed above the 1,000 level for the first time since November 2008.
- Volatility continued to be a key theme in currency markets. After falling more than 6% against the U.S. dollar in June, the Canadian dollar appreciated by 7.4% versus its U.S. counterpart in July. This cut into returns on investments denominated in $US. Case in point, the 7.4% gain on the S&P 500 was essentially wiped out when converted back to C$.
With much of the latest economic news continuing to look less bad (over 70% of companies beat expectations last quarter and it appears US housing may have found a bottom), the economy looks to be on the mend.
However, we must realize that the rate of recovery that we are seeing is not normal and likely cannot be maintained long-term. That said, as an investor looking out 5+ years I belive valuations in the equity market are still low and the potential remains for double-digit returns heading forward over a 5+ year horizon.
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Thursday, July 16th, 2009
If you’re still standing on the sidelines in cash at the moment, here are three good reasons that you should be invested in stocks right now.
- An investor’s choice of asset allocation is the single largest factor that will influence the probability of long-term success. Historical evidence suggests that cash investments return the least amount over the long run.
- There is significant upside potential in equities for long-term investors right now. Stock valuations are, despite Q2’s rebound, well below their highs and have a long way to go to be back in line with what we consider to be fair value.
- Sustained low interest rates and dramatic increases in money supply combined with increased deficits have many fearful of the inflationary impact once economic recovery takes hold. Money market investments, non-market linked CD’s and high interest savings accounts offer little protection against the wealth eroding effect of inflation.
That is not to say that there is no downside. In fact, there is an inherent risk when investing in equities. However, I beleiive the risk vs. reward payoff still favors the equity investor at this time.
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Thursday, April 2nd, 2009
In a downturn of this magnitude, before things start to look ‘good’ we first look for them to be ‘less bad’ than they have been over a broad number of indicators. Although not necessarily over a broad range of indicators, the ‘less bad’ theme is becoming more evident as we move into the second quarter of 2009.
Below are a few summary points including a couple of references to the ‘less bad’ concept.
U.S Housing
Real estate, which has been at the root of the credit crisis, needs to stabilize before a sustainable recovery can happen. Here are some things to consider with respect to the current situation:
- Housing to Income ratio: At its peak, the ratio of house prices to household incomes in the U.S. was 27% above its long-term average. It is now down 30% from that peak. While seemingly ‘ugly’, this has brought housing prices back to their equilibrium level. That in itself doesn’t generate new buying, but it does create “capacity” – something that’s important for recovery. With housing affordability at its best level in a generation, once household balance sheets are restored and confidence returns, people will then take advantage of this more ‘normal’ house price to income relationship and go back to buying houses.
- Housing Sales: Although existing housing sales are still falling – they are falling at a much slower rate compared with last year, which suggests that the situation is getting ‘less bad’.
Corporate Balance Sheets
One of the bright spots in the decline of the economy until now has been the health of corporate balance sheets – things like corporate debt to equity ratios and ability to cover interest payments on outstanding debt. With continued contraction in the economy, we are now starting to see meaningful erosion in corporate balance sheets as business profits continue to come under pressure. However, despite this erosion, corporate balance sheets are still relatively healthy.
Manufacturing
The U.S. manufacturing index (ISM) tends to respond favorably six months after interest rate cuts. This is because manufacturing orders are dependent on consumer demand, which is stimulated by low interest rates. Although possibly a long way off, there’s some evidence that we may be seeing a positive response to historically low interest rates.
Earlier this year, the manufacturing index in the U.S. (the ISM) was moving sideways instead of falling and yesterday, data showed that the ISM improved modestly in March. While the ISM data was still weak, recent trends suggest that the health of manufacturing is not getting any worse (i.e. the situation is ‘less bad’ than has been previously been the case).
Inflation
Although inflation may likely have to be dealt with longer-term, it’s not a near-term issue for policymakers. There is risk of “transitory/temporary deflation” (the opposite of inflation and a situation where prices of goods are declining over time) but we believe it is unlikely to develop into a sustained period of falling producer/consumer prices. As the credit crunch and deepening recession continue to dominate policy, rates are expected to hold at rock bottom levels.
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Tuesday, March 17th, 2009
Yes, we all know that past performance is not an indication of future returns. However, the only information that we have to make decisions on investing is from the past. Therefore, this information is better than no information at all.
Some Important Stats on Stocks
Here are some current relevant statistics for those who want to know if they should be investing in stocks right now:
- 30, 19 – Since 1950, the average U.S. bear market has lasted about 13 months and on average, has declined 28%. At the end of February, we were 18 months into the current downturn and U.S. stocks were off by more than 50% from their October 2007 peaks. On average, when bear markets end the return on U.S. stocks 12 months later has been about 30% and investment losses through previous bear markets were typically restored an average of 19 months thereafter (although it’s important to keep in mind that the breadth of the current decline has been worse than the average).
- 80, 16 -When the S&P 500 is trading below fair value and inflation is at or below its long term historical average of 4.2% (conditions that exist today), the return on stocks is positive more than 80% of the time. The average one year return during these periods is about 16% versus an average loss of 7% during instances where returns were negative (less than 20% of the time).
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30 – On North American exchanges, more than 30% of stocks are currently trading below book value.
What These Statistics Mean
No, these statistics are not the be all and end all of investing. Nor are they to be used as a roadmap for your own investing decisions. However, they are useful in illustrating the fact that bear markets end just as our last bull market ended.
The climb will not be as drastic or sharp as the fall, but there will eventually be another bull market and stocks are surely closer to a bottom now than they are to a top.
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Saturday, February 21st, 2009
Yes, I used it…the dreaded “M” word.
To be honest, I am sick and tired of everyone and their dog running around spouting off about the housing market and sub-prime mortgages etc. Aren’t you?
The fact of the matter is that for the average person, the only mortgage that actually matters is their own!
A mortgage is a tool used for financial leverage. In fact, it is one of the best wealth creation tools available to the general public. It’s true…if you don’t believe me just try to go to your bank and borrow $100K to invest in the stock market.
Furthermore, the majority of the general public could not afford to “buy” a home without the assistance of a mortgage. A mortgage is a contract between you and your financial institution that says you promise to make the payments in certain intervals for a certain period of time and that you are using the real property as security for that contract.
It is really pretty simple when you break it down.
The key component of the mortgage lies in the fact that it is a financial tool of leverage. You are leveraging the power of your own funds (down payment) and the bank’s funds to purchase real property.
Leverage Can Be Good Or Bad
The leverage that a mortgage provides can be good for you when home prices are rising because if you sell your home for more than you purchased it for, the bank just wants the original mortgage paid off. In this instance you are left with a tidy profit (one that also has tax advantages…but we’ll leave that for another day).
Let’s say we purchase a home for $200,000 and decide on a 5% down payment. Our investment in the home is now $10,000 (plus some incidental closing costs etc.). If home prices were to rise by 10% and we decide to sell our home for $220,000 ($200,000 + 10%) we are left with a profit on the sale of $20,000. A 10% return isn’t that bad! But wait…we actually only put in $10,000 of our money to start with, so we actually doubled our money! This illustrates the positive power of financial leverage.
(please note that this is a very basic example)
Let’s take a look at the negative effects of leverage.
Supposed now that we purchased the same home for $200,000 and decided again on a 5% down payment of $10,000. In this instance home prices drop by 10% and we are forced to sell the home for $180,000. In this instance, not only have we lost the $10,000 down payment, but we still owe the bank $10,000! ($200,000 purchase price – $10,000 down = $190,000 mortgage)
As you can see, the mortgage is a VERY powerful financial tool and has the ability to create exponential wealth if used correctly. It also has the power to decimate wealth as well.
Margin Vs. Mortgage
Leverage can be utilized when purchasing stocks as well; this is called “margin”. Margin has the same basic effect as a mortgage, but is not nearly as much of a concern to the general public. Margin, as a tool of financial leverage is granted to those investors who have proven themselves to be worthy of such credit.
What makes mortgages so dangerous is that they are granted to most anyone in the general public regardless of any evidence of knowledge of the effects of financial leverage. Sure there is a credit check and the bank assesses your capacity to make the payments, but when banks start offering interest-only ARMs and other product to try to make homes affordable, there is bound to be trouble.
Know The Score
In fact, a lot of your ability to qualify for a mortgage and the interest rate you will pay is based on your credit score. The banks have access to your credit score and place a lot of faith on that number when making decisions. Qualifying for a mortgage and getting a great rate can be easy when you have a good credit score. However, the average person doesn’t even know what their credit score is – let alone how to improve it.
Do you know what your credit score is? If you don’t, you can access it here for no cost through Experian. I highly suggest that everyone identifies what their credit score is and learns how to maintain and/or improve it.
On The Other Hand
It is unlikely that large stock brokerages will offer enormous margin accounts to “Joe Common” because he decides it’s “time I started investing in stocks”. Why then should mortgage lenders offer up hundreds of thousands of dollars in “leverage” simply because Joe decides it’s time to buy a house. Or, to make this worse Joe decides…”Buying a house is a great investment”!
I’m not going to tackle the subject of whether or not one’s home should be viewed as an investment; that is best left for another day.
However, if you’re itching for some good discussion, you can read a great debate on this subject at Ramit’s I Will Teach You To Be Rich and a breakdown of the financial decision to Buy vs. Rent from Jim at Blueprint for Financial Prosperity. Trent over at the Simple Dollar also unleashed a similar discussion while reviewing Rich Dad Poor Dad.
Posted in Investment News | 8 Comments »
Thursday, January 15th, 2009
Over the past few months many investors have been questioning their methods of building wealth for the future. With the markets being more volatile than at any time in history, there is no doubt that many people simply feel like running for the exits.
With that in mind, here are three questions that many investors are asking along with answers based on historical statistical evidence.
Why am I still investing in the U.S.?
The message that history has taught us is a simple one. Analysis shows that in the past, when the S&P 500 was trading below fair value and inflation was less than 4.2% which is certainly the case today, there is an 83.3% chance of achieving a positive return.
All the signs and tools that we have to work with indicate that coming out of this crisis there will be significant upside in the U.S. equity market.
How can I keep investing when the economy is in the tank?
This one is easy, stock markets are leading indicators and as such stock markets will likely recover before the ensuing economic recovery. While it is impossible to identify when these recoveries will begin, missing out on the sharp returns that often occur in the early stages of a stock market recovery, is a mistake that investors make very frequently.
How am I ever going to bounce back?
We must remind ourselves that, as a long term investor, it is important to continue to follow the forward looking strategy that was implemented before they felt the emotional pressure of daily market volatility. A very compelling fact to reference is the asymmetrical nature of bull markets vs. bear markets.
The average bull market gain of 79% far outweighs the average bear market decline of 28%. And the length of the average bull market is 34 months long vs. the length of the average bear market of only 11 months.
While these questions are not intended to completely sooth anyone’s concerns about the health of thier portfolio, it is always nice to know what history has shown. Even though history cannot predict the future, it is the best information that we have to qualify our decisions with.
Posted in Investor Education | 3 Comments »
