Monthly Archives: October 2020

Stop worrying about short term performance

Stop worrying about short term performance

 

As a financial advisor I see the financials of people from all walks of life. I see some people who have had amazing financial success. I also see people who are on the verge of bankruptcy.

 

There are always striking similarities between the various different people we work with. The one I want to write about today, is how often people focus on their short term investment performance, rather than focusing on the long term.

 

Short and long term investing

 

As I write this, we are a week away from a U.S presidential election. By all accounts it will drastically shift the way the world works depending on its results. Nearly every conversation or phone call I have with clients is them wanting to know how their investments will perform over the next 2 weeks to 6 months.

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Why the rich pay lower tax rates

Why the rich pay lower tax rates

 

In case you haven’t heard, the rich get far more tax breaks then middle class Canadians. The problem is twofold, that tax deductions are based on your marginal rate, and how different sources of income are taxed differently.

 

Neither of these seem fair to most people, but it’s not my job to decide on what is fair and what isn’t. Rather my job is to understand it and educate anyone willing to listen.

 

To start, let’s look at why the rich get better tax deductions.

 

When you deduct anything off of your taxes, it saves you tax based on what your marginal tax bracket is. What this means is that someone who earns $70,000 will save 28.20%. While someone who earns over $220,000 will save 53.50%.

 

Let’s just assume Bob earns $70,000 and Sarah earns $220,000. They both have $10,000 in deductions they are going to claim on their taxes. Bob’s claim of $10,000 saves him $2,820 in taxes, while Sarah’s claim saves her $5,350 in taxes. Whatever deduction you have, saves you taxes based on your marginal tax bracket. Since Sarah is paying higher tax on her income, she also saves more by reducing her income through a deduction.

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RESPs, How do they work?

 

If your goal is to save to help a child get an advanced education, there is no better method than the RESP.

 

The RESP, or Registered Education Savings Plan, is a tax-deferred investment account that the government will deposit grants into based on your contributions and income.

 

 

That sounds great, but it may not make sense to everyone, so I’ll explain it a bit better.

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LEM: Labour Expense Multiplier

Labour Expense Multiplier

 

There are four primary issues in our economy which contribute to a continual rise in inequality:

 

  1. The global supply of cheap foreign labour, resulting in the outsourcing of jobs from developed nations to developing nations.
  2. How our current tax structure rewards investment and discourages the hiring of and desire to perform labour.
  3. The global race to the bottom in corporate tax rates.
  4. The rise in automation and replacement of labour.

It is my belief, that the following new expense multiplier can alleviate all four of the primary issues above.

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Sequence of returns risk, what is it and how to manage it?

Sequence of returns risk can certainly be a retirees worst nightmare. Completely out of your control, and at the whims of the market.

 

To recap: sequence of returns risk is a portfolio risk that is based on the order of your returns, rather than your average return when in the decumulation phase of your investment strategy. You see, if you aren’t withdrawing, the order of your returns makes no difference, but if you are withdrawing the order of your returns makes a massive difference.

 

Let’s look at 4 simple examples. Each portfolio with $100,000 and averages 4.75% over the three yer period. The first will have no withdrawals and have bad returns first, the second will have no withdrawals and have good returns first. The third will have bad returns first with $10,000 per year withdrawn at the end of each year. The fourth will have good returns first with $10,000 per year withdrawn at the end of each year.

 No Withdrawals, Bad Returns First:

 

Table showing returns over the years

 

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Emotional Capitulation and Your Investments

 

We all know that investments go up and they go down. The problem is how we handle the emotional roller coaster of watching our investments decline in value. As I am nowhere near qualified to act as a psychologist, my thoughts and ideas are my own as to why this happens. I base this on having watched hundreds of clients experience this dilemma and have even experienced it myself multiple times.

 

Everyone’s heard of the fight or flight response. It’s that fear response that picks up any time we feel threatened. This can be a physical threat, emotional threat, or in this case a financial threat.

 

When you see your investments going down in value, this fight or flight response kicks in. We have this instinctive reflex to try to avoid as much pain as possible. Our emotional response is to try to do something, sometimes anything, when the rational and logical strategy would be to simply stay put.

 

It’s why we move on from underperforming investments at the worst times and chase the high flyers even though we know we should never sell low and buy high. It’s why when the market is plunging we desperately attempt to time the market and sell out as it’s falling, with an illogical hope of timing the bottom and buying back in.

 

 

Then what can we do about it, and how do we avoid it?

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