Monday, 6 July 2015

Is it Worthwhile to Wait for Higher Interest Rates to Buy an Annuity?

Payouts on annuities are at all-time lows these days. The same lump sum payment buys a much smaller lifetime income than it did ten or fifteen years ago. The main culprit is the steady fall in interest rates in the last few decades. Money that the insurance companies receive from investors and then invest themselves in highly secure bonds to back up the annuities yield a lot less so the insurance companies can offer less.

That situation may cause some people to wait for higher interest rates to get a higher payout on an annuity. How worthwhile is this? In our last post on annuity buying tips, Annuitize now, or wait?, in tip #7 we concluded that the basic answer is that if you need to start taking income, it doesn't make sense to wait. It is tough to beat the return required to beat the annuity. But that assumed that interest rates stay as they are. Suppose they rise, as has been expected for years now, though it has not happened yet.

Annuity payout rates will rise much more slowly than interest rates
Using the actual data from 2000 to 2013 on the Individual Finance and Insurance Decisions Centre in the Payout Annuity Index, we can see the steady drop in actual payouts on annuities as interest rates fell from around 6% on Government of Canada 10-year bonds to the 1.77% available as of 26 June 2015. Payouts on the way down can give us a good rough idea of what would happen on the way up. We found the payout for every 0.25% or so interest rate level and came up with the following graph.

The annuity payout rate is simply the yearly income you get divided by the lump sum you pay over to the insurance company, e.g. on 26 June 2015, a 65 year old male RRIF single sex priced monthly income annuity averaged over the five highest insurance company quotations for a $100,000 lump sum came to $6,150 income per year, a 6.15% payout. In contrast the payout rate on 19 July 2000 when the 6% GOC rate prevailed was 8.83%, or $8,830. That's a substantial $2,700 more income per year.
(click on image to enlarge)

The graph shows how gradual the change in annuity payouts is compared to interest rates. A 4% difference in interest rates from 2% to 6% - a three times increase - produces only half that amount of change in payout, just over 2.3% from 6.5% to 8.8%.

Mortality credits, the return from people dying younger to those dying older, strongly influences the gentle slope of the graph points. As we noted in our previous post, interest return drives only part of the annuity income. Mortality credits are another large chunk. The 1.7% difference in payout rate between ages 65 and 75 also shows the powerful effect of mortality credits. It is much more worthwhile to look at getting older as a source of higher income than rising interest rates. And unlike interest rates, we definitely know which direction we are going in terms of age!

Continued rising life expectancy means the slope will be more gradual than the historical graph
The above graph over-states the steepness of the slope of changes to the annuity payout rate in response to interest rates. The reason is that life expectancy has continued to increase in the 15 years since 2000. The extra three or so years gained in longevity since 2000 means the insurance companies have to pay out for longer and so they offer lower monthly income. In addition, the insurance companies know about the actuarial projections which forecast a continuation of rising life expectancy. Since the oldest data and the higher interest rates are at the right end of the graph, that's where the greatest change in life expectancy has occurred and the payouts would be most reduced. The slope of the line is consequently reduced.

The relative attractiveness of annuities is greater at low interest rates than high interest rates
The higher are interest rates, the greater is the interest rate component of the annuity return versus the mortality credit component. The following chart shows the compression of the gap between annuity payout rates and interest rates / GOC 10 year bond rates the higher the GOC 10 rate.
(click to enlarge)

At the highest interest rates, other safe investments like the GOC 10s are much more competitive with annuity payouts. The payout rate for a 65 year old man when GOC 10 interest rates were 6% was only 8.8%, a gap of only 2.8% but the gap today at current 1.77% GOC 10 interest rates is 4.4%.

The investment funds that will be used to buy the annuity may be reduced by rising interest rates
If you as the investor waiting to buy an annuity hold a diversified portfolio of stocks and bonds, consider the reaction of those holdings to a rise in interest rates. For bonds, the answer is straightforward. They will fall in value. Investopedia explains how this works. The Duration metric indicates the sensitivity of a bond or bond fund to interest rate changes - e.g. as of 6 July 2015, the broad market Canadian bond ETF from BlackRock, the iShares Canadian Universe Bond Index ETF (TSX symbol: XBB) has a duration of 7.35 years. Thus, if interest rates were to rise 1%, XBB's value would fall about 7.35%. $100k of annuity money would drop to about $92,650. To recover that capital loss in XBB would require staying invested for the 7.35 year Duration (we described how this works in this post).  Meantime, for the annuity, that interest rate rise, judging roughly by the graph above, might bring about a 0.5 to 0.6% higher income payout. That's a much smaller gain than the XBB loss. In addition, XBB's return, aka yield, is only 1.65% net of fund expenses (1.98% portfolio yield minus 0.33% MER).

There are many shorter Duration, less interest-sensitive funds around, such as BlackRock's ETF with trading symbol XSB, but returns are even lower, such as the 0.8% net of expenses for XSB.

Stocks are usually also hurt by rising interest rates, especially in the short term, though in the long term, the businesses do adjust and stocks do ok. The price reaction of stocks and stock funds is much less predictable and more variable than for bonds, as we previously described. The investor is left with considerable uncertainty and the annuity purchase becomes very dependent on market conditions for the best annuity purchase timing.

Perhaps the best alternative waiting time investment is cash, whose value is completely insensitive and oblivious to interest rate changes. A High Interest Savings Account today can earn up to 1.95% (though the deposit protection may be less than the best, which is CDIC's). HISAs at major institutions with CDIC deposit insurance coverage currently earn about 1.0%. Nevertheless, while interest rates are steady, the opportunity cost metric Implied Longevity Yield, which we described last post, handily beats that return.

How long can you wait?
The final element to think about is how patient you can manage to be. In our previous post on which bond ETFs are most susceptible to interest rate changes, we wrote "Interest rates will inevitably rise when conditions improve, the only question being how soon that will happen. Be ready!". That was in 2010 - almost five years ago! It's a long time to hold one's breath. In the interim, the annuity payout rate for a female single life 10-year guaranteed RRIF-funded annuity fell from 6.7% to 5.7% as interest rates fell, instead of going up.

In short, waiting for rising interest rates likely is not worth it. Waiting while you get older is a better way to think about it.  But if you need to draw income and you can cover you can cover basic needs with an annuity even at today's low rates, it's likely not worth waiting at all.

Disclaimer: This post is my opinion only and should not be construed as investment advice. Readers should be aware that the above comparisons are not an investment recommendation. They rest on other sources, whose accuracy is not guaranteed and the article may not interpret such results correctly. Do your homework before making any decisions and consider consulting a professional advisor.

Copyright 2015 Jean Lespérance All Rights Reserved

Sunday, 21 June 2015

Buying a Life Annuity - Tips

When buying a Life Annuity it is especially important to get the best deal since it is a one-time decision that lasts a lifetime. Here are some points to consider in making the purchase.

1) Shop around, use a broker
Make sure you cover all the life insurance companies that sell annuities. As the listing of current rates on the Globe and Mail annuity table and our comparison table below show, the company offering the highest income usually differs according to your sex and age. The highest quoting company also change constantly. The best way to shop around is by using a good broker who deals with all the companies, such as (Ivon Hughes) and Canadian Annuity Broker Services (John Beaton).

There is a wide range between the highest and the lowest income quotes - anywhere from 3% to almost 30%. The range widens the longer the deferral period between purchase and income start date e.g. hi-lo quotes in our table below on the eight and a half year deferral to age 71 for a 62 year old span more than 20% for all types of life annuities for both men and women.

(click on image to enlarge)

2) Mind which account you use to buy the annuity
Men should buy with RRSP/RRIF funds first, and locked-in funds (LIRA/LIF/LRIF) funds second, for pension money regulated in all provinces except Quebec and Newfoundland & Labrador. Women should do the opposite and buy with locked-in funds first and RRSP/RRIF funds second.
That will obtain the most annuity income for both men and women. The reason is legislated mandatory unisex rates, which came into effect during the 1980s and which apply to all locked in pension money but not to RRSP/RRRIF funds. Under unisex rates, insurance companies are not allowed to price annuities differently for men and women, which would entail paying higher amounts to men and lower amounts to women in recognition of the fact that men die sooner than women and thus do not collect their lifetime annuity for as long.

The result, as our table shows, is that unisex-rated income lies somewhere in between the single sex-priced income for men and women, anywhere from 3% to 8% above - for women - or below - for men - the single sex income level. Men lose and women gain with unisex. Quebec still requires, and Newfoundland & Labrador still allows, single-sex annuity pricing in locked-in accounts. Standard Life has created a detailed table on pension legislation, part of which covers sex discrimination provisions across Canadian jurisdictions.

Most online sources of current annuity quotes seem to publish only the single-sex prices so getting unisex quotes for locked-in money will require contacting a broker.

3) Men - Unlock to get more income
Men should take advantage of unlocking privileges to be able to use single-sex pricing. Locked-in pension savings may be moved to unlocked accounts, like an RRSP or RRIF under certain conditions, including becoming non-resident, financial hardship, small remaining balances and reduced life expectancy as explains on Unlocking Your Locked-in Pension Accounts. The most generous provisions are under Federal (see FAQ here), Alberta and Manitoba jurisdictions, which allow a one-time unlocking of up to 50% of account value upon moving the funds from a LIRA or LRSP into a LIF or LRIF. Once inside the RRSP/RRIF the funds can be used to buy higher income single-sex annuities instead of unisex annuities. The same amount of original locked-in money will buy higher income.

4) Check out a short guarantee period
Choosing a guaranteed payment period of 5 or 10 years may offer higher income than a no guarantee period. This is a bit of a surprise. It would normally be expected that when the deal is that the insurance company stops paying out an annuity immediately upon the annuitant's death instead of guaranteeing to continue paying (into the estate after death), it would offer higher income. But due to the segmentation of the annuity market and the choice of some providers to offer only products with or without the guarantee, it seems to happen regularly that the highest income comes with a guarantee. For example, in the upper left area of our table, the unisex rate offered by Equitable Life with a 10-year guarantee is $5796 per year while the best no-guarantee rate is from Desjardins at $5760. The Equitable annuity would ensure getting back at least $57,960 of the $100k premium. It's an easy choice to buy from Equitable instead of Desjardins. Checking both guarantee and no-guarantee options at the time of purchase is worth it.

5) Check out the return of premium option 
Choosing the option that offers return of premium (to your estate) when you die before the income start date may offer higher income than no return of premium. Again, it is a quirk of the market segmentation but in many of the quotes in our table as highlighted in red text and numbers, the income from return of premium insurers was higher than the no-return offers. This is especially valuable for the long-deferred-annuities, where the income may start eight years or more down the road. Dying before the income start date without receiving a penny for the large premium handed over would be galling. Of course, the insurance company does not lose out by making the guarantee since it only hands back the premium whose value diminishes from inflation and in the meantime it is able to use the capital to invest and gain returns for itself.

6) Index income to offset inflation?
Indexation of income to try to match inflation seems to be of dubious value. Our first table above shows much lower income compared to non-indexed annuities from annuities indexed to rise by 2% a year to match the current best guess rate of many economists, which also happens to be the official target rate of the Bank of Canada.

To judge whether this is worth it, we calculated how long it would take for the indexed income to reach the same level as the non-indexed annuity. As our second table shows, it takes eleven years, till age 73, before the 2% indexed annuity reaches equality for a man buying today aged 62. With rising age of annuity purchase the levelling off happens sooner and sooner but then you have many fewer years of life expectancy to worry about inflation eating away at purchasing power. We believe's method for offsetting actual inflation, in which you set aside and reinvest a portion of the annuity income each year, offers a better solution. Instead of a one-time forever guess at inflation, you reinvest depending on actual inflation.
(click on image to enlarge)

7) Annuitize now, or wait?
It's almost surely not worth waiting to annuitize if you have retired and need to start taking income. Whether to wait or not is a trade-off between the investment return from a portfolio less withdrawals and the certain, steady income from an annuity. Annuity expert Professor Moshe Milevsky of York University has developed a formula to guide the choice. The formula is called Implied Longevity Yield (ILY). It measures what rate of return a portfolio or other investment would have to achieve to beat the annuity while withdrawing the same income as the annuity. ILY takes into account the fact that deferring purchase means you will be able to pay less later for the same annuity income because your remaining life expectancy will be lower. ILY also assumes interest rates remain the same as today. Below is a table of ILY calculations from as of June 2015.
(click to enlarge image)

Even at relatively young ages in the 60s, it is hard to beat an annuity. Certainly, investments with the same rock solid triple A equivalent rating, like term deposits or Government of Canada bonds, can provide nowhere near the same return. Even broadly diversified portfolios of stocks and bonds, which can and do fluctuate and have no guarantee of producing a return, would be hard pressed to beat the ILYs in the above table. These days especially, expected future portfolio returns are likely to be muted compared to historical actuals i.e. not likely to exceed the ILYs of age 70+. We must remember that if interest rates were to move up and more attractive returns from investments were to be available, the annuity payouts would rise too and thus the ILY as well. Back in June 2000 interest rates were much higher - Government of Canada 10-Year bonds yielded 5.9%, but the ILY for a 65 year-old male at 6.9% and a 65 year old female at 6.4% both beat that per Milevsky's IFID research centre table.

The underlying reason why life annuities will always be very competitive with any type of portfolio investments is that annuities have the additional source of return from the forefeited funds of those annuitants who die sooner than expected, the so-called mortality credits. The following chart from Sun Life in the document Payout Annuity - Overcoming Objections. shows how large the mortality credits, which it calls insurance credits, become the older you get.
(click to enlarge)

Unfortunately, the latest ILY figures are available only from CANNEX and thus by contacting an insurance broker. shows on this webpage how to do a simplified "good enough" approximation.

Disclaimer: This post is my opinion only and should not be construed as investment advice. Readers should be aware that the above comparisons are not an investment recommendation. They rest on other sources, whose accuracy is not guaranteed and the article may not interpret such results correctly. Do your homework before making any decisions and consider consulting a professional advisor.

Copyright 2015 Jean Lespérance All Rights Reserved

Wednesday, 10 June 2015

Retirement Investing - How an Annuity Complements an Equity-Fixed Income Portfolio

Retired investors face a challenging set of financial and investing risks. Several are not faced by those in the accumulation stage of life and are unique to the retirement withdrawal phase. Traditional portfolios of equities and fixed income, such as systematic withdrawal plans like the 4% rule (see posts here and here), can succeed in the face of such challenges. But they can do so more easily if combined with guaranteed lifetime income sources such as defined benefit pension plans, Canada Pension Plan (& OAS) and lifetime annuities.

Complementary Roles - Systematic Withdrawal Plan vs Lifetime Guaranteed Income
The table below shows how the two categories of income sources complement each other very well. Against most of the risks and the beneficial features, where one falls short with a NO, the other copes well with a YES. Only for inflation and tax minimization does neither type provide an ideal mechanism.
(click on image to enlarge)

Annuities fill a gap for retirees without a DB pension
Most retirees will get CPP and OAS but they max out at $12,780 and $6,765 (2015 figures) respectively, which probably is not enough to meet basic living expenses. Since fewer and fewer Canadians have defined benefit pensions and are saving in RRSPs, TFSAs or defined contribution retirement savings plans, all of which consist of equity-fixed income portfolios, the annuity can fill a significant gap.

One of the worst dangers of retirement, when money is being taken out of a investment portfolio for living expenses, is that withdrawals may be too high and the portfolio expires before the retiree, leaving the unfortunate person high and dry, usually at an advanced age when going back to work to make a shortfall is no longer possible.

An annuity is an investment income insurance product in which an investor hands over a lump sum to an insurance company and then receives a fixed, guaranteed, regular (monthly, quarterly, semi-annually or annually) income for life. In the plain vanilla version, the income continues only as long as the person lives (or the second of a couple to die, in the case of a joint annuity) and there is no return of principal at death.

Since many people balk at the idea of losing the whole principal if they live only a short time after the annuity starts paying - imagine handing over $100,000 of your lifetime savings to the insurance company and living only long enough to receive the first monthly cheque of $530 or so (per the Globe and Mail's table for single life 65 year old male as of June 10, 2015). Being dead you wouldn't be upset, but your heirs might be! The annuity purchase is irreversible. Consequently, insurance companies offer options to guarantee payments to the estate or a beneficiary for 5, 10 or even 20 years. Such guarantee options do come with the downside of lower payments.

Contrary to what some may imagine, the insurance company does not keep all the money of investors who buy a plain no-payout-guarantee annuity and then die early. The insurance company does keep some of the money of those who die early for its costs and profit margins, but this is kept in check by the fact that the annuity market is competitive amongst insurance companies. Given the guarantee of income provided by Assuris in Canada, most investors can safely opt for the best quote aka highest income so the companies are unable to profiteer. Instead, the bonus money, called mortality or insurance credits, goes to other investors who live a long time. The insurance company is able to calculate very accurately the average remaining lifespan for a population of retirees (and even that of retirees who buy annuities, which happens to be longer than retirees as a whole), which enable it to price out a payment level for everyone based on the average and to offer it for as long as you might happen to live. Live long like Merle Barwis, you win!

Research shows the annuity - SWP combination enhances retirement success > more income and less chance of running out
Economists are constantly puzzled by the relatively low rate of uptake of annuities because they are beneficial to retiree investors. Researcher Wade Pfau, Professor of Retirement Income at the American College of Financial Services on his blog has posted papers detailing the benefits of immediate and deferred annuities. Professor Mark Warshawsky of George Mason University compared life annuities head-to-head with the classic 4% portfolio withdrawal rule using US historical data in Government Policy on Distribution Methods for Assets in Individual Accounts for Retirees and found that annuities generally performed somewhat better for providing lifetime income during retirement. Canadian Associate Professor of Finance at York University Moshe Milevsky explains annuities in detail in the free 150 page Life Annuities: An Optimal Product for Retirement Income. He and co-author Alexandra Macqueen put forth a popularized exhortation to include annuities within a retirement income mix in the book Pensionize Your Nest Egg. David Blanchett, Head of Retirement Research at Morningstar in his Allocating to a Deferred Income Annuity in a Defined Contribution Plan even cites a source that found that investors with annuitized incomes were happiest! If money can't buy happiness, can it buy an annuity which can buy happiness?

Where to buy: Annuities are only available from insurance companies, so interested investors need to contact either a life insurance agent, who represents only one company, or better, a licensed broker who can source quotes from the whole market and get the best currently-available deal, which varies constantly amongst the various insurance companies. Specialized annuity brokers in Canada with an online presence are sparse - two we found (whose licensing claims check out as of June 2015) are (Ivon Hughes) and Canadian Annuity Broker Services (John Beaton).

Buying an annuity involves handing over a big chunk of money, so check that the agent or broker is licensed in your province:
- Financial Services Commission of Ontario
- Autorité des marchés financiers (Québec)
- Alberta Insurance Council
- Nova Scotia Superintendent of Insurance
- Insurance Council of British Columbia
- Insurance Councils of Saskatchewan
- Insurance Council of Manitoba
- Financial and Consumer Services Commission of New Brunswick
- Government of Prince Edward Island
- Newfoundland and Labrador
- Government of Nunavut
- Yukon Government

Disclaimer: This post is my opinion only and should not be construed as investment advice. Readers should be aware that the above comparisons are not an investment recommendation. They rest on other sources, whose accuracy is not guaranteed and the article may not interpret such results correctly. Do your homework before making any decisions and consider consulting a professional advisor.

Copyright 2015 Jean Lespérance All Rights Reserved

Monday, 2 February 2015

Best and Worst Canadian CEO Pay from the Investor Viewpoint

The recently released All in a Day's Work? - CEO Pay in Canada by Hugh Mackenzie questioned whether CEOs should be paid so much, especially in relation to the pay of an average worker. Others like Vincent Geloso of the Montreal Economic Institute came to the defense of high CEO pay, saying that CEOs live an ever-shortening and very risky existence. In between the blanket condemnation, or approval, sits the investor, merely trying to figure out whether individual CEOs are earning their pay in order to pick good investments. As might be expected, some CEOs and companies (since the Board of Directors are mandated to control CEO pay) have been plain terrible, while others are shining examples of superb performance for very reasonable pay. Let's see who sits where.

The Globe and Mail CEO Pay Tool
When we did this last year, naming the best performers and the most over-paid, we had to do our own data collection. Fortunately for us and all investors, in June 2014, the Globe and Mail posted the excellent (and free!) Interactive Pay-for-Performance graphic display tool created by Global Governance Advisors. It shows CEO pay for the 100 largest companies in Canada relative to other companies and to a series of seven key measures useful to an investor, starting with total shareholder return. It can also break down the various pieces of CEO compensation and show results of each company's Say-on-Pay shareholder voting. The screenshot below shows the possible selections and part of the output display.
(click to enlarge image)

We've played around with the tool to find the most consistently good or bad CEOs / companies across industries, across time from 2010 to 2014 (year-by-year vs averages) and across the various performance metrics. Our logic is that if a company always looks good, no matter the time frame, industry or market cap group comparison, or the measure of performance, that company's CEO pay must be well-aligned to investor interests, and a positive indicator that the company is well-managed. Clicking on the various options and watching the CEO dots move around gives an impression of evolution and sensitivity of results. It's fun to do!

The best performers are those furthest away from the diagonal line that shows where company performance and CEO pay are in perfect balance. We are looking for those in the bottom right quadrant where company performance is above average while CEO pay is below average - the best investor bang per CEO buck. The worst performers are those in the top left quadrant where high CEO pay is matched with below average performance - when investors are being taken for a ride by the CEO.  In general, below the line is favourable for the investor, above it not so.

Best CEO Performers - "Great performance, modest (relative to other CEOs) pay"
It's hard to choose between the first three below, they have all been consistently superb:
  • Constellation Software (TSX: CSU) - CEO Mark Leonard 2013 pay $2.7 million. The company is currently 62nd largest by market cap in the TSX Composite yet the CEO's pay was not even close to making it into the top 100 list of Mackenzie, where 100th place garnered $3.9 million. Screenshots below are taken from the tool.
(click on image to enlarge)
  • The Jean Coutu Group Inc (TSX: PJC.A) - CEO Francois Coutu 2013 pay $2.0 million. It is a smaller company at $2.1 billion market cap but look at the outstanding relative performance metrics below, which makes a clear leader amongst consumer staples companies.
(click to enlarge)

  • Canfor Corp (TSX: CFP) - CEO Don Kayne 2013 pay $1.4 million, which is the other company in the extreme bottom right corner.
(click to enlarge)

Using the same approach, here are fifteen other companies a good distance from the diagonal in the bottom right quadrant with a very investor-friendly link between CEO pay and company performance:

Consumer Discretionary
  • Dollarama (TSX: DOL) - CEO Larry Rossy 2013 pay $3.7 million
Consumer Staples
  • Alimentation Couche-Tard (TSX: ATD.B) CEO Alain Bouchard 2013 pay $7.2 million
  • Saputo Inc (TSX: SAP) CEO Lino Saputo Jr 2013 pay $3.3 million
  • Metro Inc (TSX: MRU) CEO Eric R. La Flèche 2013 pay $2.7 million
  • Vermilion Energy (TSX: VET) CEO Lorenzo Donadeo 2013 pay $3.6 million
  • Keyera Corp (TSX: KEY) CEO James Bertram 2013 pay $2.4 million
  • Peyto Exploration (TSX: PEY) CEO Darren Gee 2013 pay $2.5 million
  • Tourmaline Oil Corp. (TSX: TOU) CEO Michael Rose 2013 pay $2.5 million
  • CI Financial (TSX: CIX) CEO Stephen MacPhail 2013 pay $4.6 million
  • Intact Financial (TSX: IFC) CEO Charles Brindamour 2013 pay $4.2 million
  • First Capital Realty (TSX: FCR) CEO Dori Segal $2.0 million
  • Westjet Airlines Ltd (TSX: WJA) CEO Gregg Saretsky 2013 pay $3.1 million
  • Finning International Inc. (TSX: FTT) CEO Scott Thompson 2013 pay $4.6 million
  • West Fraser Timber Co. Ltd. (TSX: WFT) CEO Ted Seraphim 2013 pay $2.4 million
  • ATCO Ltd. (TSX: ACO.X) CEO Nancy Southern 2013 pay $1.5 million
Worst CEO Performers - "High pay, lousy performance"
This set of companies look more like the CEOs are getting rich at the expense of investors.

The top culprits here are:
  • Talisman Energy (TSX: TLM) CEO Harold Kvisle 2013 pay $9.5 million. The accounting metrics are as bad as they get and shareholder return has been a negative 9.6% per year over the past five years. There was no sign of improvement from 2010 to 2014 either.
(click to enlarge)
  • Onex Corporation (TSX: OCX) CEO Gerald Schwartz) 2013 pay $87.9 million, the most by far of any Canadian CEO (Mackenzie's $13.3 million figure appears to be for 2012). It's astounding pay yet results are insipid.
  • EnCana (TSX: ECA) CEO Doug Suttles 2013 pay $12.8 million. The shareholder return is awful at -9.4% per year for the last five years, as are the accounting metrics. Suttles was named as CEO in mid 2013 to clean up the previous mess, so the pay figure is a handsome welcome package. ECA is the green dot above Talisman in the previous chart. It is even further away from the diagonal in the 4-year average view we have used.But in 2013, when Suttles came on board, the dot moves a lot closer to the line, which is improvement. Nevertheless, should the company / shareholders pay in advance for performance?
Gold mining CEOs - The price of gold may rise and it may fall but the CEOs of the gold miners are making buckets of money no matter what happens to the company or shareholders. Click on the Materials drop down selection and see the top left quadrant is filled with gold stocks and CEOs:
  • Agnico-Eagle Mines (TSX: AEM) CEO Sean Boyd 2013 pay $9.3 million
  • Yamana Gold Inc. (TSX: YRI) CEO Peter Marrone 2013 pay $9.9 million
  • Goldcorp (TSX: G) CEO Charles Jeannes 2013 pay $9.7 million
  • Barrick Gold (TSX: ABX) Jamie Sokalsky 2013 pay $7.5 million
  • Eldorado Gold (TSX: ELD) Paul Wright 2013 pay $7.4 million
  • Kinross Gold (TSX: K) CEO Paul Rollinson 2013 pay $8.2 million
Other "heads I win, tails you lose" CEOs ....

  • Teck Resources (TSX: TCK.B) CEO Donald Lindsay 2013 pay $9.0 million
Consumer Discretionary
  • Thomson Reuters Corp (TSX: TRI) CEO James Smith 2013 pay $8.4 million. What's puzzling is that with well below average performance, this decidedly above average CEO's pay garnered a 98% approval rating from shareholders in a Say-on-Pay vote.
  • Valeant Pharmaceuticals (TSX: VRX) CEO Michael Pearson 2013 pay $6.7 million. The metrics are very inconsistent - shareholder return has been great, but accounting metrics like Return on Equity and Earnings per Share growth very poor. Are stock speculators over-enthusiastic?
This best vs worst list can be a help to company and stock analysis in determining which are well or poorly controlled by the Board of Directors. We have only discussed what we think are the best and the worst. The rest are somewhere in between. Being close to the median diagonal means a company CEO is being paid fairly, relative to peer performance.

Whether CEOs as a whole on average are too-highly paid is another matter (e.g. see the thought-provoking The World's Dumbest Idea paper by author James Montier, who argues long-term excessive CEO pay rises worldwide, not just in Canada, are a manifestation of the shareholder value maximization philosophy that serves investors and the economy poorly) and for consideration another day.

Disclosure: This blogger directly owns shares of TCK.B, IFC, MRU and FCR.

Disclaimer: This post is my opinion only and should not be construed as investment advice. Readers should be aware that the above comparisons are not an investment recommendation. They rest on other sources, whose accuracy is not guaranteed and the article may not interpret such results correctly. Do your homework before making any decisions and consider consulting a professional advisor.

Friday, 23 January 2015

Taxes 2015: Links & Resources for Canadians Filing 2014 Income Tax Return

Tax season is starting. The Canada Revenue Agency will soon open up the NETFILE online electronic tax filing service to receive returns electronically. It's time for Canadian investors to start getting ready for filing their 2014 income tax return. There can be a multitude of slips and receipts to assemble, not to mention older records to dig up and preliminary calculations to do in order to be ready in time for filing on or before the deadline of April 30. We therefore present a collection of resources that should cover the tax information and tools needs of Canadian online investors.

Tax-specific Websites

Key Dates -  see complete CRA list of dates for individuals
January - mid CRA pdf tax forms for all tax years 1985-2014 available to download and print
February - 9 CRA online filing service NETFILE starts accepting 2014 tax returns; last day is January 16, 2016
March - 2 RRSP contribution – last day for making contribution applicable to 2014 tax year
April - 30 CRA – last day to file 2014 return and pay amounts owing to avoid penalties
June - 15 CRA – last day to file 2014 return for self-employed though amounts owing deadline is still April 30
December - 31 RRSP – last day for making an RRSP contribution in the year you turn 71

continual CRA issues tax refunds, often within days, if return is filed electronically
TFSA contributions anytime during year for 2015 or missed past years since 2009

CRA dates are rigid; be late even by a day and you will miss out or suffer penalties. On the other hand the tax documents below relating to the 2014 tax year flood in progressively from mid-January to the end of March. There can be weeks or more of variation amongst companies that issue the slips and receipts.

Checklist and guide for interest, dividends and capital gains
If your investing involves … look for these documents … from these organisations ....

Borrowed money to invest Investment interest  expense  on statements from broker for margin, or bank for loan
Canada Savings Bond interest T5 slip (min $50 interest) from broker if held in a broker account or from Bank of Canada if bought directly from BOC;
GIC interest T5 slip (min $50 interest) from broker if held in a broker account or from bank or trust company if bought directly
T-Bill and Stripped Bond interest Annual summary of security transactions Interest = redemption/sale amount – purchase cost; for details see

T5 does NOT show it, even when over $50 e.g.
Mutual fund distributions T3/T5 slips mailed directly by Mutual fund companies, NOT brokers, even when fund is held in a brokerage account
Mutual fund capital gains (sales) Annual summary of security transactions from broker if held in a broker account 
from mutual fund company if held directly with the mutual fund company  click on links to fund companies at and then look for tax or Distribution info

Bond interest T5 slip (min $50 income) broker
Bond capital gain or loss (sale or maturity) Annual summary of security transactions broker provides statement at purchase year and at maturity or sale; for how to calculate see
Stock dividends T5 slip (min $50 income) broker
Stock capital gain or loss (sale) Annual summary of security transactions broker provides statement at purchase and at maturity or sale
ETF and REIT distributions T3/T5 slips broker
ETF, REIT, Income Trust, Closed End Fund capital gain or loss (sale) Annual summary of security transactions + own records broker for trading transaction summary

Investor must track own adjusted cost base – see

ETF providers publish tax breakdown of distributions on their website. ETF providers in Canada list and links at

CDS Innovations database of free downloadable spreadsheets by year at

Income Trusts and Closed-End Funds - ACB Tracking Inc has a pay service that simplifies the tracking
Split Corporation income T5 broker
Limited Partnerships
Foreign income, capital gains or assets
Exchange rate to Canadian dollar
Bank of Canada average rate for 2014 e.g. USD to CAD multiply CAD by 1.1044664, or rate on the particular day, per;
for T1135 Foreign Income Verification Statement, use rate on day of purchase
for capital gains, use rates on day of purchase and of sale
Note: Quebec residents receive a T5 and relevé3, or T3 plus relevé 16, or T5013 plus relevé 15.

Checklist and guide for account withdrawals, contributions
If your investing involves … look for these documents … from these organisations ....

RRSP contributions RSP Contribution Receipt RRSP account trustee, be it broker, bank, mutual fund company
RRSP contribution room various Canada Revenue Agency -
RRSP / RRIF / LIF / LRIF withdrawals T4 RRSP / RRIF slip RRSP/ RRIF account trustee
RRIF / LIF / LRIF withdrawal limits Evaluation letter or phone call broker
Annuity payouts T4A and T5 slips mailed by insurance companies, both for registered or non-registered annuities
RESP withdrawals T4A Educational Assistance Payment or Accumulated Income Payment slip brokers or financial institution where RESP is held
Non-resident taxpayer NR4 slip broker
TFSA interest, dividends, capital gains, contributions and withdrawals none None – happy days! No tax reporting to do
TFSA contribution room and contribution or withdrawal history phone call or online Canada Revenue Agency – see
Note: Quebec residents receive above T4s and relevé 2.

Tax News, Tips and Blogs - to remind us of the latest developments, the implications, the gotchas and possible strategies to legitimately minimize what we pay
 Books - buy them online, read them offline at leisure

Software - to prepare and NETFILE income taxes electronically; the best packages guide you and make suggestions to optimize your taxes
  • List of CRA-certified programs with links to the companies - old list from last year as of date of posting; certification is on-going through January and February, so check the link to each provider to see if it is certified yet.
  • Wikipedia - basic details on costs, versions, price, limitations, freebies  

HowToInvestOnline Tax-related Posts - our most popular and presumably most useful tax posts

Tax Calculators - for tax planning, what if scenarios and estimation
  • Canadian Tax Calculators - a Basic version, an Detailed version for all provinces except Quebec, one for Quebec, with all the tax credits and a special Investment Income version that compares different types of income, especially useful for retirees.
  • Ernst & Young - ultra-simple, enter your taxable income and it shows you by province total tax (using the basic personal tax credit only) as well as marginal rates on ordinary income/interest, capital gains and dividends;  very handy when you have a taxable and tax-sheltered investment accounts to see which types of securities should go in which account
  • RRIFMetic - sophisticated tool (not free, costs $99) for planning and optimizing for retirement income including taxes on types of accounts (taxable, RRIF, LIF, TFSA, RESP) and types of income (dividends, interest, capital gains) plus factors in non-investment cash flows; helps decide how much to take from which account during retirement.
Tax Discussions - read what other people are grappling with and learn from their experience or register and you can take part, ask questions and perhaps get good answers
These resources will make it easier to pay your taxes quickly with minimal frustration at the very least and probably to pay less as well.

Disclaimer: this post is my opinion only and should not be construed as investment or tax advice. Readers should be aware that the above comments are not an investment recommendation. They rest on other sources, whose accuracy is not guaranteed and the article may not interpret such results correctly. Do your homework before making any decisions and consider consulting a professional advisor.

Friday, 16 January 2015

Model Portfolios - 2014 Return and Risk Performance

2014 was a good year for investors holding any one of a selection of balanced, diversified model portfolios (One-Stop, Lifelong, Simple and Couch Potato, Swensen Seven and Smart Beta, Permanent Portfolio). The lowest return of any portfolio started at 7.5%. But the range extended to more than double, with a 16.0% return in one portfolio. Why the big range and what lessons can we draw, especially considering that all of the portfolios hold a roughly similar breakdown of 40% to 50% fixed income with the remainder equity?

Return vs Risk - The first thing to consider is how much risk the portfolio took on to achieve the return. We computed (using the calculator, which uses Yahoo! Finance data or Morningstar Canada price data e.g. TD Balanced Index Fund, for the portfolio funds) two risk  measures for each portfolio: 1) volatility (standard deviation) of daily returns for the year and, 2) maximum drawdown of fund value from a peak to a trough during the year. These metrics are a kind of "anxiety quotient". The less of each the better. To compare the portfolios, we calculated how much return the portfolio delivered per unit of volatility or drawdown - the higher the ratio, the better.

The Results Table - The best three funds for return, volatility and drawdown are shown in green numbers.
(click on images to enlarge)

Portfolio Return vs Volatility

Portfolio Return vs Maximum Drawdown
Lesson 1) Fund weighting scheme matters as much as asset allocation - The Smart Beta Portfolio delivered the best return by far. It's 16.0% return was 3% ahead of the next best Swensen Seven. The Volatility and Drawdown charts show the Smart Beta to be among the three best on those measures too (the top left corner is the best place to be where the most return for the least volatility or drawdown is achieved). The Swensen Seven differs from the Smart Beta in the choice of ETFs for each asset class - instead of the traditional cap-weighted funds of the Swensen Seven, the Smart Beta uses low volatility, equal-weighted and fundamentally-weighted funds. Compared to the cap-weighted benchmark Canadian equity TSX Composite ETF with symbol XIC, the red-highlighted 2014 return of the fundamentally-weighted fund PXC fell significantly short, but the low volatility fund ZLB more than compensated with its vast out-performance.

In a similar vein, the choice of long term federal government bonds (ZFL's 17.4%) and real return bonds (ZRR's 13.1%) in the Smart Beta, Swensen and Permanent portfolios provided a big return advantage over the broad market bond ETFs such as XBB (8.3%) in all the cap-weighted portfolios.

One year does make an investment lifetime and next year might not see the same all-round out-performance by the Smart Beta ... but it is the result that the research on long term data says to expect, as we reviewed in this post.

Canadian Couch Potato recently reported 2014 returns of a series of cap-weighted model portfolios. This similarity of construction of those portfolios resulted in a much narrower range of returns, only 9.8% to 10.8%. Investors who choose portfolios with different types of ETFs, like the Smart Beta, or others such as the Permanent Portfolio, with its 25% allocation to gold, should expect to diverge appreciably in returns year-to-year.

Lesson 2) Adjusting portfolio weights for volatility looks to be beneficial - Both the Swensen Seven and the Smart Beta, whose weights we adjusted for volatility, had higher returns and good to excellent return vs risk ratios.

The one-stop Tangerine Balanced Fund (mutual fund symbol INI220) and Mawer Balanced Fund (MAW104) performed as well as the Smart Beta on the return vs riskiness measures. The latter is especially interesting since it is actively managed, rather than a passive index fund. It's long term returns look excellent too. Perhaps this is one of the rare actively-managed funds that can and will do better than passive averages. But the passive Tangerine fund has done close to as well in 2014.

Lesson 3) Currency hedging matters - In 2014, when the Canadian dollar fell vs the US dollar, hedging hurt results. The currency-hedged Simple Recipe was clearly the worst on both return-vs-riskiness measures. The unhedged version of the Simple Recipe had a slightly higher return and lower volatility and maximum drawdown. The blue outlined cells in the table show the returns boost to the US-traded and USD-denominated funds in the Smart Beta portfolio. The fall in the Canadian dollar aka rise in USD vs CAD from the start to the end of 2014 provided 9.1% extra return to the three funds with symbols RSP, EFAV and PXH. In the case of PXH, currency turned a net loss in USD into a net gain in CAD. Most of the other portfolios do not hedge their US or international holdings and thus they also received the same returns boost.

Of course, when CAD appreciates, the opposite happens - unhedged foreign holdings' returns are lessened. In the long run, the indications are that hedging does not make a difference without considering costs and in the practical sense, where hedging costs enter the picture, hedging is likely a net negative to returns, as we have discussed in a number of posts under part 6 Asset Allocation and Portfolio Construction of our Guide to Self-Directed Investing.

Lesson 4) Bonds can contribute healthy returns even in a low interest rate environment - The bond component of all the portfolios contributed to the overall attractive portfolio returns as the prevailing low interest rates actually managed to fall (see the charts of various benchmark rates at the Bank of Canada website). When rates fall, bond prices rise and the funds holding the bonds gain in value in addition to receiving the bond interest.

Disclaimer: This post is my opinion only and should not be construed as investment advice. Readers should be aware that the above comparisons are not an investment recommendation. They rest on other sources, whose accuracy is not guaranteed and the article may not interpret such results correctly. Do your homework before making any decisions and consider consulting a professional advisor.

Friday, 9 January 2015

Which Canadian Companies are Earnings Steamrollers?

Earnings, i.e. profit, is the lifeblood of companies. It is what sooner or later drives stock prices and enables dividends. As in everything else in life, some companies perform better than others. Inspired by the discovery that TMX Money has begun publishing historical quarterly earnings results (under the Research tab for a company's stock quote e.g. Home Capital Group (TSX: HCG)) going back as far as 1994, we decided to find which Canadian companies can boast of being earnings steamrollers - those with steady, long-term growth of quarterly profits.

We uncovered thirteen companies (there may be more since there seems to be no handy stock screener that will quickly spotlight them - we had to find them by trial and error) with an amazing record of growth -
  • 10% or greater annual compound increase in earnings per share (EPS) 
  • through 15 or more years, 
  • in a quite predictable pattern, and 
  • no more than one quarter showing a net loss in that time. 
Through thick and thin of financial crises and economic recessions, such companies have powered ahead seemingly oblivious to obstacles, flattening them like a proverbial steamroller.

The Canadian Earnings Steamrollers
Surprising perhaps to some, it is a diverse group, with a mix of well-known and not-so-famous names, across a number of industry sectors. Our comparison table below shows the not-lucky-but-good thirteen.

EPS data: In blue text columns are the start year of the quarterly EPS data and the compound annual growth rate. In some cases the percentages come from directly calculating the growth from the earliest to latest EPS. In other cases, where there is evident seasonal fluctuation, an estimate from an exponential curve fitted to the data looked more appropriate.

Dividend data: For three companies we show the progression of dividends to illustrate how dividends go up with earnings. All companies but CGI Group pay dividends. Other columns contain data from various free online sources (see table footnotes) that we refer to in our discussion below.

Data warning: Readers should note that the TMX data contains many gaps and some errors, usually because adjustments for past stock splits have not been made. In those cases we have had to go back to the original authoritative online source for such data,, where the companies are required by regulation to file all their financial statements. Sedar filings go back to 1997.

(click on table image to enlarge)

Here are the graphs for individual companies showing their quarterly EPS progression.

Home Capital Group (TSX: HCG)
The dark blue line is EPS. The orange line is dividends.
(click to enlarge)

CGI Group (TSX: GIB.A)
(click to enlarge)

Stantec (TSX: STN)
(click to enlarge)

Saputo (TSX: SAP)
(click to enlarge)

Suncor (TSX: SU)
(click to enlarge)

Canadian National Railway (TSX: CNR)
(click to enlarge)

Metro Inc (TSX: MRU)
(click to enlarge)

Power Financial Corp (TSX: PWF)
(click to enlarge)

Canadian Western Bank (TSX: CWB)
(click to enlarge)

(click to enlarge)

Empire Company (TSX: EMP.A)
(click to enlarge)

National Bank (TSX: NA)
(click to enlarge)

Royal Bank (TSX: RY)
(click to enlarge)

What else can we glean from our data?

1) Strong consistent EPS growth is possible in many sectors - Our list includes some expected sectors like banks, financials and utilities , but also an industrial, an oil and gas company, a food manufacturer, an information technology company, a consulting firm and grocery retailers. Though none of these companies is tiny, several are quite small, as the range of market caps shows.

Perhaps more surprising is that Canada's largest company, the Royal Bank, has managed to grow its EPS at such a fast pace for so long. The 2008-2009 financial crisis caused considerable turbulence in its results but the steadier and rapid growth seems to have resumed.

2) The stock of most EPS steamrollers is more volatile (see Beta in our table above) than the market average (Beta of 1.0); some have quite high volatility, like HCG and Suncor. Investors and speculators in the market are obviously constantly guessing whether the amazing past growth will continue. We only have to read the media to see the kind of speculation about the future as daily events unfold with the current hot topic being the effects of the enormous drop in oil prices.

3) Total stock return in the long term, such as 15 years in our table, has reflected the EPS growth and it has far outstripped the TSX Composite average. But the shorter the term, the more variable the return, as the 1- and 5-year total return columns show. On a 1-year basis, five of our EPS powerhouses have lagged the TSX Composite. This reflects a major caveat of our results - no matter what the past, the future is not assured and market prices reflect expectations of the future. In the course of our search, we did find companies that for years were on the EPS growth trajectory and then lost their way.

4) High EPS growth doesn't only happen at high dividend payers. Some in our list pay a healthy dividend, some have a low yield, though their dividends have grown strongly over time e.g. our top dog HCG only pays a 1.8% yield but has increased its dividend 2.37% annually since 2004, when it started paying a dividend. CGI Group pays no dividend at all, reinvesting all the earnings to grow the company. Investors who have held shares since 1998 probably aren't complaining.

It is interesting that some companies with a high dividend policy like REITs do not figure in our list at all. We looked at two leading REITs, Canada's largest, RioCan (TSX: REI.UN) and H&R (TSX: HR.UN) but both have had uninspiring long term EPS growth of around 3% only. Similarly, telecomms companies like BCE (4.3% annual EPS growth since 2002) and Telus (4.6% since 1994) were not near the top achievers.

5) Poor 1-year returns and lower Price-to-Earnings (PE) figures suggest some potential buying opportunities to investigate - CGI Group, Stantec, Power Financial and Canadian Western Bank in particular. When the PE is less than the EPS growth rate and/or the 5-tear average PE, it is a positive sign. has an excellent graphical 10-year display of PE and other valuation measures benchmarked against the TSX Composite under the Valuations tab for a company stock quote (e.g. for HCG here).

There is a group of worthy runners-up with EPS growth rates of 6% to almost 10%. The following companies often showed more erratic growth; some had more quarterly net losses.

  • Scotiabank (TSX: BNS) - 9.8% annual compound EPS growth since 1994
  • TD Bank (TSX: TD) - 9.7% since 1994
  • Canadian Tire Corp (TSX: CTC.A) - 9.7% since 1994
  • Enbridge (TSX: ENB) - 9.4% since 1995
  • Fortis Inc (TSX: FTS) - 9.0% since 1994
  • Industrial Alliance Insurance (TSX: IAG) - 8.8% since 2000
  • Canadian Utilities Ltd (TSX: CU) - 8.0% since 1996
  • Great West Life (TSX: GWO) - 7.9% since 1994
  • Bank of Montreal (TSX: BMO) - 6.1% since 1994
  • TransCanada Corp (TSX: TRP) - 6.0% since 1999

All in all, there is a good range of companies from which to form a portfolio. Some may falter or have temporary problems but as a group, the track record suggests most will continue to steamroll onwards and upwards for investors' benefit.

Disclosure: This blogger, as well as indirectly owning all these companies through broad market ETFs, directly won shares of stock symbols SU, CNR, MRU, ACO.X, EMP.A, NA, RY, BNS, FTS, CU, BMO, TRP and BCE, as well as REI.UN and HR.UN.

Disclaimer: This post is my opinion only and should not be construed as investment advice. Readers should be aware that the above comparisons are not an investment recommendation. They rest on other sources, whose accuracy is not guaranteed and the article may not interpret such results correctly. Do your homework before making any decisions and consider consulting a professional advisor.