How Shopping For A Financial Advisor Can Go Wrong

As part of my continuing education program, I recently attended a seminar that highlighted new research which shows why an advisor who may be good for some investors, may be far from ideal for others.

I’ll start with an example that was used by the speaker: 

Let's presume you have a health problem and you visit two or three internists. Chances are good you would receive a similar diagnosis and treatment from each doctor. 

But if, for argument’s sake, you take a financial problem, or your retirement goals, to two or three financial advisors the results would be surprising. New studies show that you're unlikely to get the same, or even similar, recommendations about what investment products to buy or what strategy to pursue. And that could make a big difference in your financial future. 

According to a recent report from Cogent Research LLC, a market-research firm in Cambridge, Mass. , retirement-savings recommendations vary greatly based on the type of firm for which a financial advisor works.

For instance, registered investment advisors or planners, who own their own firms lean toward using the products offered by mutual-fund companies, Cogent says. By contrast, advisers who are affiliated with independent broker-dealers often suggest insurance products like annuities of one flavor or another, the report says, while advisers who work for the big national brokerage firms tend to suggest both insurance products and a mix of other investments, but mostly stocks and bonds. 

Meanwhile, a report from GDC Research in Sherborn, Mass., and Practical Perspectives in North Andover, Mass., says advisors in different channels use not only different products but also different strategies to generate retirement income for their clients. 

Some use the same investment strategy for both building and tapping a nest egg. For instance, they will adjust the mix of stocks, bonds and other assets in a portfolio as the client approaches and enters retirement, but they won’t introduce a new asset class in retirement. Others will make bigger adjustments, putting some assets needed for short-term expenses in safe investments like money-market accounts while leaving assets for long-term expenses in riskier investments like stocks. And some like to buy annuities to generate a steady income to cover essential costs or a desired standard of living. 

The findings of the two studies illustrate the need for older investors to exercise caution when searching for a retirement-focused advisor, and to consider interviewing professionals from at least three different types of firms: a registered investment advisor or planner, an advisor affiliated with an independent broker-dealer, and perhaps an advisor with a national brokerage firm before selecting one. 

At a minimum, experts suggest asking potential advisors how they are compensated, because that can affect their approach. For instance, some advisors might not recommend annuity products as part of a retirement-income plan, even if it might be appropriate, because they aren't licensed to sell such products and thus don't earn a commission on them. Other advisors, meanwhile, might not recommend mutual funds because the compensation they receive for selling an annuity is greater. 

Experts also suggest asking potential advisors for samples or actual retirement-income plans for clients whose financial profiles and goals are similar to yours. That's because what works for one person might not work for someone with different resources, assets and lifestyle. For instance, retirees who have sufficient assets and resources to fund 30-plus years of retirement can use what's called a systematic withdrawal approach, taking a certain percentage of your money out of your nest egg annually to produce retirement income while investing the portfolio largely in dividend-paying stocks or mutual funds. But retirees with few resources might need a different strategy and products, such as immediate annuities. 

Experts also emphasize that retirement-income plans and retirement-savings plans are very different things. The latter tend to invest, diversify and wait, which is fine if you are 20 or 30 years from retiring. The former, ideally, will assemble a group of investments that produce both steady income and long-term growth. 

I would suggest that those either in or approaching retirement seek an advisor who has a strong commitment and focus on retirement-income planning and has access to a broad range of products and services to suit those needs.

The 5 Golden Rules of Investing Success

There are many more people watching share prices than investing in stocks. Most realize that investing is the way out of living from paycheck to paycheck, but do not know where to start. Stocks and shares seem to be the reserve of the rich; a risky business where the novice loses their shirt. But there must be away to get started without getting burned? Here are five rules to stock market investing success to get you started.

Rule 1. Get online and research not only the companies that you would like to invest in, but also the investment firms that you may want to partner with.

Many websites and investment firms provide investors with free stock market tools that a few years ago would not even be available to the professional fund manager;
     Real time share prices.
     Fundamental information.
     Portfolio tracking.
     News.
     Opinion.
     Many more free services!
These free services let you make highly informed financial decisions on what share to buy and when to sell them.
Researching your stock market investments might seem like work. That is because equity investing is work.
Sadly investing is not a short cut to wealth, you need to treat it like any other way of making money -with focus and determination. Hopefully you will find it a lot of fun and more like a pastime than a chore.
Just as you cannot do a crossword without a pen, you shouldn’t invest without the best stock market tools which are online these days.
Fortunately, fully-integrated investment firms such as Global Securities Corporation can help you with equities, fixed income, commodities and risk management products.

Rule 2. Limit the size of any individual investment.

Until you own at least 30 different companies’ shares, never buy more than $10,000 worth of any share.
Risking too much on any stock investment is a recipe for disaster, even for the sophisticated stock market investor. Keeping your individual share investments small keeps your capital pot safe and lowers the stress that can make investing unpleasant. Once you have 30 stocks you can grow the scale of each investment, but until that day stay diversified.

Rule 3. Diversify. Build a stock portfolio of at least 30 different investments.

Take no notice of the people that say put all your eggs in one basket. A portfolio gives you a certainty that bad luck won’t hurt you and that your choices on average will deliver the return your share picking deserves. This portfolio return over the years will outperform anything a bank will offer you on deposit and will compound.
A diversified portfolio will mean you will miss out on good luck, but investing isn’t about good luck. Bad luck and good luck cancel out over time but if you have too much of your money in too few shares then bad luck can knock you out of the game.
This is called ‘gambler's ruin’ and the way to avoid by having a portfolio.

Rule 4. Use research reports and your own common sense.

Unsurprisingly, the markets are fluid and there are many different ways to analyze investments. To be successful you need to be constantly on the lookout for new methods; old ones are always eaten away by the efficient market.

Rule 5. Invest in shares for the long-term.

Buy shares you think you will hold for three or more years. When the world’s most successful investor, Warren Buffett, claims sloth as his most profitable investing trait you should take note. Slow and steady wins the stock market investing race.
Value investing is a great skill to learn.
Put your investing money in an RRSP or TFSA and let the profits roll up tax free. While interest from the bank is taxed, using these tools can protect your stock market profits and dividends from tax; one more reason to let the long-term take hold.
Just remember, by the time you can afford a Ferrari from stock investing you will be too old to want one.
You think that’s bad? Perhaps you should wonder if you have any other way to get Ferrari rich at all, before you worry how long it will take.
If you can see stock market investing as a part time job from now until retirement you will do very well indeed from it; it is the short-term speculators that usually get burnt.

Investing is how the average investor can get rich slow. It is one of the few ways available to an average fellow, but because it takes hard work, discipline and time, not many people sign up for it.

If you really care about your finances and your long term prosperity it is always a good time to start investing. It is a long road, but a profitable one.

Are Stocks Still A Bargain?

With global stocks up approx­i­mately 25% from their Fall 2011 low and many market watchers from various financial media sources endorsing equities in recent weeks, it’s hardly sur­pris­ing that investors are won­der­ing if stocks are still a good bargain.

While some mea­sures of sen­ti­ment – notably abnor­mally low volatility levels – could be inter­preted as flash­ing yel­low cau­tion signs, val­u­a­tions and fun­da­men­tals still favor global stocks over the long term.

Cur­rently, equi­ties look rea­son­ably priced on an absolute basis. Devel­oped mar­ket equi­ties are trad­ing at around 14.5x trail­ing earn­ings, while large emerg­ing mar­kets are trad­ing at roughly 12x earnings. These val­u­a­tions are sig­nif­i­cantly above those touched dur­ing last year’s trough, but both emerg­ing and devel­oped mar­ket stocks are now trad­ing at a significant discount to their long term averages.

The rel­a­tive case for stocks, how­ever, is even more com­pelling as equi­ties look very cheap com­pared to bonds. While equity val­u­a­tions are mod­estly below their long-term aver­age, bond val­u­a­tions are sig­nif­i­cantly above theirs when mea­sured by vir­tu­ally any metric.

Nowhere is this more evi­dent than in the U.S. Treasury Market. Late last year, the yield on the 10-year Trea­sury note dipped below the level of core infla­tion for the first time since 1980. Rather than pay­ing investors the typ­i­cal long-term aver­age real yield of 2.5% to 3%, the US gov­ern­ment is now pay­ing a neg­a­tive real yield to bor­row. As a result, unless the US is slid­ing toward Japan­ese style defla­tion – and so far there is lit­tle evi­dence of this – US Trea­suries look extremely expen­sive and investors in 10-year notes are accept­ing a loss in pur­chas­ing power and no real income. In addi­tion, because coupons are so low, the dura­tion or inter­est rate risk of Trea­suries is at or near a his­toric high.

Some investors have weighed the volatil­ity of stocks against the low yield on bonds and opted for a third choice: Cash. A tac­ti­cal move into cash is cer­tainly rea­son­able for brief peri­ods of time. But if you’re wor­ried about long-term pur­chas­ing power, hav­ing a sig­nif­i­cant, long-term allo­ca­tion to an asset pay­ing zero return makes lit­tle sense. Stocks are a more rea­son­able option to consider.

To be sure, invest­ing in equi­ties has its risks. Some have argued that equity val­u­a­tions are flat­tered by his­tor­i­cally high mar­gins. But in the United States at least, a com­bi­na­tion of just enough gross domes­tic prod­uct growth, ane­mic wage growth and low rates should support margins over the near term.

Among other risks, while US defla­tion looks unlikely, it’s pos­si­ble and it’s a sce­nario that would clearly favor bonds. Under the oppo­site sce­nario – higher US inflation – equi­ties would surely suf­fer thanks to lower mul­ti­ples. How­ever, in an infla­tion sce­nario, equi­ties would likely hold up bet­ter than bonds or cash.

In short, equi­ties may not offer the stel­lar prospects of the 1980s or 1990s, but absent a bout of defla­tion, stocks are likely to out­per­form the alter­na­tives over the long term.

AA Is The New AAA.

AA Is The New AAA.

In other words, Standard & Poor’s U.S. Debt downgrade doesn’t change a thing.

America’s loss of its Standard & Poor’s AAA debt rating on Friday will continue to provoke strong reactions, from markets and pundits alike. But nothing has really changed.

Now is not the time to give in to emotions and make rash moves. It's the time to take a few deep breaths and dispassionately set a sensible course for the future.

Let's start with a little perspective. Yes, the fact that U.S. debt no longer carries a top triple-A rating is troubling. But it's not as if S&P told investors something they didn't know before (i.e; that the country's long-term finances are a mess).

As for the economic effect the downgrade might have, that's far from clear. Ultimately, though, bond investors' expectations will be the primary determinant of the yields on Treasury bonds, not the opinion of the ratings agencies.

And, so far, investors seem to be rushing into Treasuries not away from them. So I think people may be overreacting to the whole downgrade thing.

That said, whether the sell-off was an overreaction to the downgrade, the growing sense that the economy may be weaker than previously thought or something else, investors have clearly shown they're extremely nervous about stocks.

But this isn't exactly news either.

Although we lose sight of it from time to time, the fact is that the stock market is and always has been a very volatile place.

The flip side of that volatility, though, is that stocks have also generated some pretty impressive long-term returns. If you look at the 56 rolling 30-year periods from 1926 through 2010 (1926-1955, 1927-1956, etc. through 1981-2010) the lowest annualized return stocks have delivered over a 30-year span is 8.5%, and the average 30-year annualized return for all those periods is 11.3%. For bonds, the numbers are 1.5% and 5.1%, respectively.

This doesn't mean stocks will generate the same gains over the next 30 years. I wouldn't be surprised to see them come in considerably lower.

But I don't see any reason why, over the long term, one would expect stocks to underperform bonds or cash, especially considering the current low yields on bonds and cash equivalents. Remember, just yesterday the U.S. Federal Reserve vowed to keep interest rates at close to zero for the next two years.

So it seems to me that the challenge for someone investing his nest egg today is still pretty much what it was before all the debt-ceiling-downgrade political drama: to participate in stocks' long-term growth without getting hammered too badly when stocks suffer their inevitable periodic declines.

There are two ways you can try to do that. One is to attempt to outguess the market — that is, capitalize on stocks when they're doing well and then move out of them into bonds or cash or gold or whatever to avoid downturns.

The other is to invest in a reasonable mix of stocks and bonds and basically stick to it, allowing the bond portion of your portfolio to dampen stocks' swings. The first approach — moving in, out and around various parts of the market — is difficult-to-impossible to pull off consistently.

If you doubt that, just consider recent events. In the weeks leading up to August 2, investors' biggest fear was that Congress and the Obama administration might fail to raise the debt ceiling on time and thus spark a stock-market meltdown.

People were so convinced that this would threaten their portfolios that many considered moving their money into cash to protect against that possibility. When Congress and the White House reached a deal before the Tuesday deadline, the big market swoon everyone feared was averted.

However, two days later, while investors were still feeling good about dodging the debt-limit bullet, the Dow plummeted 510 points on concerns about the European debt crisis and the possibility of the U.S. sliding back into recession.

And then came Monday's wild 635-point Dow free fall in the wake of S&P's downgrades.
My point is that you can never really tell what might initiate a market decline — let alone know when it might occur.

The more sensible way to participate in stocks' long-term growth is to create a mix of stocks and bonds that gives you the benefit of the balance of probabilities at solid returns and offers at least some protection.

The longer away you are from retirement and the more your stomach can handle the value of your retirement savings taking the occasional decline, the more you can devote to stocks.

The closer you are to retirement and the more upset you get when your nest egg gets scrambled, the more you should tilt toward bonds and cash. If you're on the verge of retirement, that mix might be somewhere around half in stocks and half in bonds.

Taking the asset allocation approach and sticking with it (except for periodic rebalancing) won't immunize you against losses. But it can help you manage the downside risk of stocks without giving up all the upside.

And, more importantly, it gives you a rational way of dealing with the stock market's volatility and keeping downturns to a magnitude you can handle, rather than engaging in a never-ending guessing game.

By trying out different blends and seeing what sort of losses they incurred, you can get a better feel for what stocks-bonds allocation might be right for you.

Remember, though, if you go with too conservative a strategy to guard against market downturns, you limit your upside. So to get a sense of whether the asset allocation you choose will give you a large enough nest egg to support you in retirement, I suggest you use many of the excellent retirement income calculators available for free through many respected financial websites and investment companies.

I don't want to downplay the seriousness of the situation facing investors today. We could very well see lots more turmoil in the financial markets and further declines in stock prices.

But the fact is that there will always be something going on that investors will feel compelled to react to, whether it's the threat of a recession triggering a market meltdown or, in better times, rosy reports of economic growth and corporate profits suggesting the markets will soar.

But if you invest on the basis of hunches and speculation rather than setting a coherent long-term strategy and sticking to it, you'll put yourself at risk of selling after prices have already fallen and buying back in when prices are already inflated.

In the end, that will make it tougher for you to earn the returns you'll need to build a decent nest egg and harder for you to maintain your emotional equilibrium in tumultuous times like these.

2011 Outlook

“Prediction is very difficult, especially about the future.” -- Niels Bohr

While 2010 was a respectable year, and in a few instances an excellent one, for most financial markets, it came with the sobering realization that many of the global imbalances investors thought were behind us remain, albeit in a slightly altered form. Which leaves the question; will 2011 be the year when these imbalances re-erupt? I believe the answer is no, at least not during the next 12 months.

For 2011, I believe the overall global economic environment is likely to remain conducive for risky assets. I would expect developed markets to stage steady, yet uninspiring recovery. Growth should be subdued but positive, with inflation remaining low. While rates will rise over time, given low inflation and anemic demand for capital from everyone except sovereign borrowers, I believe bond markets will remain stable enough so as not to derail the equity market rally. In emerging markets, I would continue to expect outsized growth, although that growth is likely to slow as emerging market central banks wrestle with inflationary pressures.

For investors, this means considering an overweight to equities and continued exposure to commodities, particularly the more cyclically oriented ones. Within credit, investors should consider overweighting corporate credit versus sovereign credit.

While cyclical factors should support financial markets for another year, to be clear I don’t believe that the market’s bottom in 2009 marked the beginning of a new cyclical bull market. The debt problems that derailed the global economy in 2007 are largely still present; they have simply morphed from the private to the public balance sheet. Government unwillingness to address these issues, particularly in the U.S., leaves both equities and bond markets vulnerable in the long-term to wrenching fiscal austerity, unexpected inflation, or potentially both. Fortunately, that pending crisis looks like it can be postponed for at least another year.

Volatility

A little over three years ago, the Dow Industrials and the TSX hit an all time high and the list of established Wall Street firms still included Lehman Brothers, Bear Stearns, and Merrill Lynch. In the summer of 2008, most financial participants believed the worst of the subprime crisis had been experienced, world equity markets had recovered, and the US Federal Reserve (Fed) was grappling with the highest inflation in decades. A little over a year ago, financial leaders struggled to prevent what seemed like an inevitable slide toward the first global depression in 80 years.

Three years, three different market environments that experts were mistakenly confident would continue. Extrapolating from the past is a dangerous exercise during even the best and most stable of times. During periods of volatility, it is simple folly. Today, it is no illusion that the world has become more volatile. Consider the following: 10-year trailing U.S. inflation volatility is at a 50+ year high, over the past two years dollar volatility is the highest on record, and gold prices are the most volatile they have been since the mid-1980’s.

Nor is the recent volatility limited to financial markets. The volatility in asset prices has coincided with – orguably been caused by – a similar spike in political instability. The U.S. Congress has changed hands --- Republican to Democrat and back again – twice in a six-year period. This has not happened since the 1950s. At the same time, the U.S. Federal Reserve has tripled the size of its balance sheet over the past thirty months, and plans to continue this exercise through at least the middle of 2011. Outside the United States, the tenure of Japanese prime ministers is starting to resemble that of Italian ones, and an indecisive election in the United Kingdom has produced the first coalition government since the Second World War. Canada and Ireland have minority governments. Politically, economically, and financially we are living in an age of renewed volatility.

The one unqualified prediction that I will make for 2011 is that economic and political volatility will continue. There are three reasons to believe this.

First, many of the global imbalances which precipitated the previous crisis are still around, albeit in slightly altered forms. Instead of a pending subprime meltdown, we have the growing risk of sovereign debt, which will be further exacerbated by aging populations and unsustainable entitlement spending in much of the developed world.

Second, the aftermath of financial bubbles is characterized by slow, anemic recoveries in both economic growth and housing. Both of these will contribute to overall economic and political volatility.

Finally, the ongoing economic shift from developing to emerging markets will be a slow process, one that is likely to play out over decades. As it does, there are likely to be accompanying growing pains.

The good news for investors in the near term is that many of the longer-term imbalances still facing the global economy are unlikely to erupt over the next 12 months. So my baseline view for 2011 is a temporary lull followed by a lackluster but steady recovery in the developed markets with continued low inflation. In the emerging markets, we would expect continued strong economic growth. All things considered, not a bad environment for global equity markets.

Bonds are likely to hold up, at least through the first half of the year, but given valuations and supply issues they don’t appear to offer the best value.

It is important to note that the relatively sanguine outlook for next year does not imply that the global economy has put its troubles behind it. On the contrary, many of the structural imbalances that pushed us into the global crisis are still with us, albeit in an altered form. Ironically, many of the policies that are likely to promote a decent year for economies and markets, i.e. extension of the Bush tax cuts and maintaining transfer payments to individuals (employment benefits in the U.S.), will exacerbate the longer-term imbalances. At some point, the strain is likely to begin to show even on the largest and richest nations, but that is probably not an issue for 2011.

Demographics, Growth and Investments.

The Alternative To Growth Is Decline. Europe Is Proof.

A shrinking population and inflated expectations are a damaging mix.

Growth, whether it is economic growth or population growth, has almost become a swearword in the modern lexicon. It now needs to be qualified by the adjective "sustainable", or no one will subscribe to it.

Whenever a phrase is so self-evidently correct that no right-minded person would call for the opposite, it is usually a good indication that it is meaningless.

This is true for "sustainable growth", because no one would call for unsustainable growth. It is also true for "moving forward", as only some crustaceans prefer going backwards, and for "real action", because few voters would opt for "fake action" instead.

Apart from these semantic peculiarities, it is remarkable that the idea of limiting growth is striking a chord with voters in many Western countries, or at least with focus groups in those countries. Canadians seem quick to judge our American cousins with their seeming preoccupation with growth (at any cost). Will this hubris cost us down the road?

After one of the longest periods of growth in Canada's recent history, it seems that many Canadians have obviously forgotten that there is only one thing that's more unpleasant than dealing with the side-effects of growth. It's dealing with the side-effects of decline. In order to remind ourselves about this, we should look at Europe.

The financial crisis has hit Europe hard. It mercilessly exposed the weaknesses of Europe's social and economic model. Over the past decades, Europe had developed into a place in which governments took on an ever-increasing role, consuming more and more of the national economic output.

Taxes were no longer sufficient to satisfy politicians' appetite for more generous spending commitments, so deficits had to fill the gap between tax revenues and political ambitions.

At the same time, Europeans ceased to reproduce. In industrialised nations, the birthrate needs to be 2.1 children per woman in order to keep the native population stable. In many European countries, however, it has been far below this figure.
In the worst year so far, Italy recorded a fertility rate of 1.19. It has since recovered a bit, but with birthrates in the region between 1.3 and 1.4 in countries such as Germany, Italy or Spain, it is still far from the level at which these countries would remain stable.

A shrinking population would be a challenge in itself, but in Europe's case the problems are multiplied by rapidly improving life expectancy. Although arguably today's older generations are far healthier and generally more active than previous generations, it is nevertheless true that older populations mean relatively fewer taxpayers, more pensioners and more people in need of health care.

The mix of high-spending governments, increased life expectancy and lower fertility had for a long time produced a Europe that was a rather pleasant place to live.

However, it was not economically sustainable. After the shock of the financial crisis, Europeans are slowly waking up to the fact that they have created a continent that is on the verge of shrinking, with regard to its economic significance and its overall population.

As a whole, Europe will lose more than 60 million people over the next five decades. The remaining population will be much older than any other population in world history. In terms of demography, Europe is entering uncharted territory. What it will mean to live in country where there are as many people over the age of 80 as there are people under the age of 20 is hard to imagine, but many Europeans countries will soon find out.

The challenges of this demographic change are going to be enormous. Fewer taxpayers will have to shoulder an unprecedented increase in healthcare facilities. Qualified labour will be in short supply as working-age populations are already shrinking across Europe. This in turn will push up wages and prices; inflationary pressures are increasing.

Meanwhile, it will become more difficult to service the existing debt burdens.

The European example is a clear indication of what happens if a society enters into the no-growth zone. It sucks the energy out of the economy, and politicians are condemned to managing the decline with little room for manoeuvre.

When comparing Canada's growth chances to the European predicament of shrinking and decline, it should not be hard to decide which path is more tempting.

Growth is not everything, but without growth everything is more difficult.

Until investors realise this, they won’t be offered "truly forward-moving real action" on investment choices.

Year End Review

Looking Back - and Looking Forward

2009 was one of those years that reminded us what a roller coaster the stock market can be – and also of the dangers of conventional thinking.

After the collapse in global financial markets last fall and the resulting pummeling taken by stock markets around the world, the consensus in January was that the worst was behind us. That was a sharp reminder of the danger of conventional thinking – by early March, markets in Canada had declined by a further 15% and the U.S. was down by 25%.

At that point, the consensus shifted and there was growing sentiment that we might be entering a long period of economic stagnation; that’s when we heard respected economic forecasters talk about a one in five chance of another depression. It was precisely at this point that the coordinated stimulus spending by governments around the world finally had an impact and we began seeing signs of an economic recovery. From the market’s bottom on March 9 to the end of November, global markets were up by 50% to 65%.

Thus, 2009 was a sharp reminder that it’s impossible to predict short term market movements.

Instead we need to focus on two key questions:

1. First, what do the prospects for economic and profit growth look like in the mid term – 12 to 18 months and beyond?
2. Second, to what extent are these prospects for growth accurately reflected in today’s prices of stocks and bonds?

Mid-Term Prospects For Growth

In building portfolios, we have to start with some core assumptions about the environment we’ll be in going forward.

Noted British historian Paul Johnson has written that at every given point in time, you can always point to good news and bad news – the only difference is the balance between the two and what the media pays attention to.

In early 2000 (at the height of the tech bubble) and the beginning of 2008 (at the top of the real estate and finance bubble), all we read about was good news – almost no attention was paid to any offsetting concerns. By contrast, during market bottoms at the end of 2003 and early 2009, all we saw was the bad news – it’s as if there were no positives on the horizon.

Despite the recovery in the global economy and markets since the early part of this year, the general sentiment and confidence level among many people today is quite negative. Much of that is driven by concerns about the U.S. economy – still the engine of global growth.

And certainly there are lots of things to worry about in the U.S. – stubbornly high unemployment, a housing market that is still depressed (although no longer in decline) and Government deficits.

Without dismissing the short term challenges facing the US, it’s important not to lose sight of some important underlying positives.

In an August cover story on “The case for optimism” Business Week Magazine highlighted a number of reasons to be positive, among them the impact of technology and free markets in emerging economies.

Click here to read more about what Business Week had to say:
http://www.businessweek.com/magazine/toc/09_34/B4144optimism.htm?chan=magazine+channel_top+stories

And recently two respected columnists at the New York Times, Thomas Friedman and David Brooks, weighed in on both the positives in the U.S. and some of the challenges that America faces.

http://www.nytimes.com/2009/11/22/opinion/22friedman.html
http://www.nytimes.com/2009/11/17/opinion/17brooks.html

The bottom line is: In the mid term I believe the positives outweigh the negatives and that the dire predictions about America’s decline are overstated. It may not see the rapid growth we’ve seen in the past but it will see solid growth.

Today’s Valuation Levels

Being right on our midterm outlook for the economy only helps us if we buy stocks and bonds at attractive prices.

With regard to bonds, at current interest rates of about 3% it is hard to make a case for Government bonds as anything except a safe harbour against more market disruption.

The returns on corporate bonds are more interesting – especially toward the bottom of the investment grade category, which currently yield about 6%. Note that we do have to be very selective here, since companies with low investment grade ratings are susceptible to shocks and downgrades should the economy run into difficulty.
On the issue of valuation levels of stocks, there are lots of academics who have made a career of studying markets. Of these, I follow two in particular – Jeremy Siegel at the Wharton School at the University of Pennsylvania and Robert Shiller at Yale. Between them, they forecast both the technology and the U.S. real estate bubbles.

Robert Shiller believes stocks should be valued based on their average earnings over the past ten years, using what he calls the Cyclically Adujsted Price Earnings ratio (CAPE for short). Employing that measure, at the end of November Shiller calculates the U.S. market’s multiple is 19.5 x times average earnings for the past ten years, within the normal historical range (although at the high end of that range.)

Prior to 2008, you have to go back to 1992 to find the last time we saw this multiple consistently below twenty times average ten year earnings. Throughout the period from 1997 to 2001, this multiple was in the thirties and forties – when the multiple was in its forties, you were paying twice as much for a dollar of earnings as you are today.

Jeremy Siegel is the best known researcher on long term returns in the stock market and author of Stocks for the Long Run, often cited as one of the all-time ten most influential books on investing. Among his claims to fame is an article in the Wall Street Journal at the peak of the tech mania in early 2000, predicting that sector’s collapse.

In September, Siegel did two interviews on long term returns and current valuations, in which he talked about his research and his opinion that stocks offered good value at the time. You can see those interviews below:

Professor Jeremy Siegel on today’s market outlook:
http://www.clientinsights.ca/video/today-s-valuation-levels-and-market-outlook/type:investor

Professor Jeremy Siegel on long term stock returns:
http://www.clientinsights.ca/video/stocks-for-the-long-run-and-long-term-returns/type:investor

The bottom line from these two experts: While stocks are not as cheap as they were in March, by historical standards they do offer reasonable value.

While we can expect continued volatility in 2010, we do believe that returns on stocks in the period ahead will be in line with historical levels.

The Right Approach For Your Portfolio

While my team and I spend a great deal of time focusing on the big picture, the most important issue is how we adapt that view to each client’s individual portfolio.

For older clients, we have always been believers in maintaining conservative, balanced portfolios – that stance protected our retired clients from the worst of the decline in 2008 and early this year. Today, we are focusing on higher quality stocks, as we believe that these will provide the best risk return trade-off going forward.

In summary, we are cautiously optimistic about the American, Canadian and the global economy’s ability to work through some of the current issues they face – and believe that valuations on stocks will make quality stocks an attractive investment in the mid-term.

We look forward to continuing to work with you in 2010 to ensure you have the portfolio that is right for you – and thank you again for the opportunity to work with you over the past while.

As always, my team and I area always available to talk about any questions that you might have.

In the meantime, best wishes for a relaxing holiday season – I look forward to talking in 2010.