Monthly Archives: September 2015

Alain’s top four Investment principles


picknickI have been investing, speculating, and day trading in the stock market since the year 2000. Over the years I have made so many mistakes and repeated them over and over until I learned not to do them anymore. Finally this year, 2015, I have decided to become a buy-and-hold investor. My new philosophy is: set it and forget it. Well, actually I don’t forget, I just continue adding stocks with the objective of holding them over long periods of time.

What are some of the lessons I have learned?

Every investor has a risk tolerance and an investment objective. I have mine and everybody else have theirs.

A friend of mine wanted some exposure to the stock market and she asked me for my opinion to invest $1,000. I suggested to buy a Canadian index fund which represents the 60 biggest companies in Canada. Not too long after her purchase, the index went down a few percentage points. She felt uncomfortable with the volatility of the market and she sold. Obviously she had low risk tolerance and my suggestion was not well suited for her.

graphMy risk tolerance is high and my investment objective is to maximize returns. For anyone who has a similar mindset, here are some investment principles I have gathered throughout the years.

  1. Diversification is a free lunch
  2. Index funds are better than actively managed funds
  3. Stocks are better than bonds
  4. Small stocks are better than large stocks.
      1. Diversification is a free lunch. As an individual investor I only had the resources to buy a handful of stock, I felt that I was diversified but I was not and my returns were erratic. In contrast, when I started purchasing ETFs composed of thousand of stocks my returns were more stable. If my cost is the same, whether I buy one stock or an ETF composed of thousand of stocks, I am getting a free lunch by diversifying. I get stable returns without paying anything extra for it.
      2. Index funds are better than actively managed funds. Here is a sobering reality: 86% of actively managed funds do not beat the index. If your goal is to maximize returns, you will do better by investing in index funds than by investing in actively managed funds. How’s that? Well, running an actively managed fund is expensive: there are marketing fees, research fees, compliance fees, tax expenses, and salary expenses. All those expenses can add up to about 2% of the assets. On the other hand index funds’ strategy is to buy-and-hold. The funds are run by computers. There are no marketing fees, no research fees and there are minimal salary and tax expenses. The total cost of running an index fund is about 0.1%. It is this remarkable difference in cost which gives the upper hand to index funds.
      3. Stocks are better than bonds. Historically, stocks have always outperformed bonds. As an example, the average return for the past 10 years for the stock market has been about 8.1% while the average return for bonds has been about 4.6%. Here is my question: If a person’s objective is to maximize returns, why would they bother with bonds? Yes, bonds reduce short term volatility, but if our investment horizon is longer than 5 years, the benefits of decreased volatility are minimal and the opportunity cost of not being in stocks is significant.
      4. Small stocks are better than large stocks. Since 1926, the average return for small stocks has been about 2% higher than for large stocks. The drawback is that small stocks are more volatile. That means that your losses would be higher in those years in which the stock market is negative. If you can stomach the increased volatility an extra 2% of gains could represent the difference between accumulating a nest egg or a really big nest egg.

Investment is a statistics game. You want to stack the odds in your favor. Past performance is no guarantee of future returns, but if history serves us following these principles will increase your probabilities of winning.

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If you are counting on your pension plan, you’ll starve

Toastmasters group at our Summer Social. We met at Santropol Roulant.
Toastmasters group at our Summer Social. We met at Santropol Roulant.

It’s all the same

The Quebec Pension Plan and the Canadian Pension Plan are almost identical. Quebec found one more way to waste people’s money and time by having a pension plan all of its own. For brevity I will continue to mention only the Canadian Pension Plan (CPP) but all the same arguments apply to the Quebec Pension Plan, also known as Regie des Rentes du Quebec (RRQ).

Average benefit

The maximum benefit anyone can get from the CCP is $1,065 per month. But the average payout is about $550 per month. After all that money the government takes from your paycheck and from your employer’s payroll, that’s what you get, $550 per month. If you were to put the same amount of money the government takes for the CCP into your own investment account you could retire with a much higher income. This is another testament of the government’s inefficiencies managing your capital.

You have no choice

The government pension plan is compulsory. Your desire to participate or not to participate doesn’t matter. It starts at age 18. If your income is at least $3,500 per year you will be forced to make contributions. Any amount earned after $53,600 is not subject to CCP.  But then you are not off the hook because you will be at a higher income tax bracket and you will be paying more taxes. Our tax system is progressive. The more you earn, the more you are penalized.

This is how painful it is

The rate of contribution is 10.5%; half of it is taken from your paycheck and the other half is taken from your employer. This is one more reason why employers prefer to hire people in China or replace you with robots and automatization.

If you are self employed, you are responsible for both haves, the 5.25% as an employee and the the 5.25 as an employer. For the self employed, one way to mitigate the pain is by paying yourself as much as possible in the form of dividends and capital gains as opposed to a salary.

The average pension payout at age 65 is about $550. You can chose to retire at age 60 but your pension payment will be significantly lower (about $365 per month). On the other hand, you can chose to retire at age 70 and the payments will be higher (about $780).

But not everything is doom and gloom. The payout is increased every year to keep up with inflation. For example, the maximum payment was increased $27 from 2014 to 2015. Yay, don’t spend it all at once.

Conclusion.

You are being scammed by the government. The government is taking 10.5% from your labor and you are getting very little back.

Recommendations:

  1. Understand that the CCP willnot be enough for you to live on, so you have to set up your own plan. Start saving and investing as soon as you receive that first paycheck. If you save and invest 10% of each paycheck, you should be o.k.
  2. As soon as you can, try to shift your earnings from a salary to a dividend or capital gains.

Take control of your own finances. Don’t let the government mismanage your retirement.

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Getting 12% return on a simple real estate deal

You don’t have to be smart to invest in real estate

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The beauty of real estate is that you don’t have to be too intelligent to become wealthy. You need  a strong network of friends, some willingness to work, good credit, and some simple math skills.

I just bought another property. For the second time with no money of my own.

You can invest with other people’s money

I bought a property about 2 years ago. I borrowed 20% of the money from a friend to give the down payment, then I borrowed 80% from the bank. The rent payments that I collect are high enough to pay the taxes, condos fees, the mortgage, my friends and there is a bit left over for me.

About three months ago, I saw that the property next door was for sale. After some negotiation, the owner lowered the price a few thousand dollars. I’d like to emphasize that the price I paid ( $252,500 ) was a fair price, but I did not get a great deal.

I didn’t have the money to buy this property, so I borrowed some money from my family and I asked a friend to jump in as my partner.

12% rate or return

Through this example, I just want to show that the opportunities to make money with real estate are abundant and anyone can do it. Here are some details.

  • Our total cost was $256,150 ( Purchase price, notary fees, welcome tax)
  • We got a mortgage at 2.05%
  • Our down payment was $102,500
  • If I assume that the property goes up in value 2% per year, during the next 12 month it will gain $5,050( 252,500 X 2%).
  • The cash flow from the property after all the expenses are paid will be around $4,000
  • Each mortgage payment is a combination of interest expense plus capital repayment. The repayment of capital for the first year will be $3,660

For the first year my total benefit will be $12,410 (5,050 + 4,000 + 3660)

Return on Capital: $12,410 / $102,500 (our down payment) = 12.1 %

This is not a bad return. What I like the most is that every year the rate of return increases. We intend to increase the rent about 2% every year, so our cash flow will increase.  As we pay the mortgage every year, we pay more of the capital and less of the interest so our mortgage debt will be reduced more every year.

Advantages of investing in real estate

  1. Leverage: In real estate you can leverage other people’s money. You can borrow money from the bank and/or from friends with the hope of getting a higher return. This is where having good credit and good relationships is fundamental for your financial future.
  2. Part of your mortgage payment is tax deductible.
  3. Every time you pay the mortgage, you are paying down the principal.
  4. The property can appreciate in value, especially in trendy neighborhoods.
  5. You get cash in your pocket. After you pay all the expenses (mortgage, taxes, fees) there is a bit of cash left over. How good is that.

Hurdles of investing in real estate

  • The financial commitment is substantial. It isn’t like mutual funds where you can invest a few hundred dollars per month. Here we are dealing with hundreds of thousands of dollars in one shot.
  • Real estate is not passive income. You have to be involved, select good tenants, do house repairs, etc.

If you overcome these hurdles, the return can be substantial. As you can see in my personal example, my return is over 10% per year. It is hard to get that kind of return in the stock market.

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Financial Post: Guide to Investing and Personal Finance

postAs with most of my previous books, I found this one in the second hand store for $4. (regular price $26.95)

The book was put together by the Canadian newspaper “Financial Post” in an effort to help us understand all the information published in the newspaper. In spite of being a brilliant marketing effort, I never felt a pitch to subscribe to the newspaper. Bravo! In the past I have been disappointed when writers oversell their services on almost every page.

This book could be the equivalent of one or two years of university studies in finance. Each chapter is full of condensed information. At times I felt challenged and re-read the same chapter more than once in order to absorb everything.

Some of the subjects covered in the book were:

  • Understanding stock charts and company reports
  • How to buy and sell equities
  • How options, warrants, REITSs, commodities, and futures work
  • How to trade in currencies
  • Understanding mutual funds
  • How to build a portfolio
  • Understanding tax planning
  • How to plan for retirement
  • Understanding other personal finance subjects such as: credit rating, mortgage options, affording college education, and bankruptcy
  • Understanding insurance

The book felt disjointed. It was written by five different reporters/writers ( William Hanly, Patrick Bloomfield, Sonita Horvitch, Jonathan Chevreau, and Arthur Drache). There was no flow from one chapter to the other.

The major drawback from this book is that it was published in the year 2000. Many things have changed in the past 15 years.

Although the first edition was deemed a “runaway bestseller,” I don’t think this edition had many sales. I went to the Amazon page and I only found one review, my own.

Overall, although the information in this book covers all aspects of personal finance and a lot more, I would not recommend it. It’s not a good investment of your time. A great deal of the information is outdated and there is a lot of fundamental information missing.

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