May 222017
 

Some people are so debt averse they even refuse to borrow money when interest rates are at rock bottom. They save up for a 30% down payment for a home instead of 20% because they want to save on interest costs. This is despite the fact that Canadian mortgages only cost about 2.5% currently, or sometimes lower like in my case. These people also refuse to invest on margin. I’ve explained in the past how anyone with at least $10,000 can open an account with Interactive Brokers, put in some money, and safely borrow modest amounts of money at just 2% interest rate, with practically no risk of getting a margin call.

Can’t have it both ways

Yet, many people who are debt averse and won’t borrow money under any circumstances also believe in the 4% rule of investing. But this kind of thinking is contradictory. It’s silly to make the argument that paying down their mortgage is a guaranteed rate of return, but investing is uncertain and they can’t be sure they’ll make more than 2.5% return in the markets. While at the same time, also claim that the 4% rule is valid.

The four percent rule is a widely accepted rule of thumb used by many investors and financial experts. There are slightly varying definitions of it, but for the purpose of today’s post we’ll define it as the maximum sustainable rate of withdrawal from a retirement account each year without depleting the account itself. This is because 4% is considered a “safe” rate of withdrawal over the long run for a balanced and diversified portfolio.

So if a person really believes in the 4% rule and uses it as part of his retirement planning, then it would only be rational to consider borrowing money to invest if the cost to borrow is lower. The 4% rule says that this person will make at least 4% return on his investments per year on average. So if he always borrow money at less than 4%, then he is virtually guaranteed to profit in the long run! assuming the 4% rule holds true.

This is why I always buy properties using very low down payments, and use controlled margin borrowing to invest. Since I believe in the 4% rule, it would be illogical if I didn’t try to take advantage of low interest rates. If my margin or mortgage interest rate were to increase to 5% or 6% some day, then of course I would no longer take out new loans to invest. At that point it wouldn’t make sense to use leverage anymore. Sometimes it may seem like being debt free is more safe. But there is risk in being overly debt averse, the risk of not seeing perfectly good opportunities to earn higher investment returns.

Obviously just because a rule has held up in the past doesn’t mean it will continue to hold true in the future. Whether or not you think the 4% rule is valid is up to you. 🙂 But this principal can work with any other withdrawal rate. If you believe you can safely and sustainably withdrawal 3% a year, then you must also accept that your portfolio will return 3% a year minimum on average. You can then use this number as your reference point when deciding when to use leverage and how much.

 

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Random Useless Fact:

Some grocery stores have an aisle dedicated to strong, independent women. 😄

 

Jan 232017
 

Beating the market isn’t necessarily hard. We don’t have to outperform everyone else. We just have to do better than the average. By picking individual stocks my investment returns have either matched or beaten the S&P/TSX Composite index every year since I started investing. 😀 But in today’s post I will explain why that doesn’t actually matter.

When Using Debt to Invest Pays Off

Most readers can recall that my Saskatchewan farmland value has been growing at incredible rates year after year. I’ve disclosed my stock performance many times in the past. And owning real estate in Metro Vancouver for the past 8 years has also helped to boost my net worth. However, beating the market is easy when leverage is used during a bull market cycle. Borrowing money to invest will always increase one’s investment gains, as long as the investment returns are higher than the cost to borrow, which luckily has been the case for me since I began investing. 😉

But what kind of returns would I be getting if I hadn’t used any financial leverage? Since I no longer hold any leveraged accounts at TD, there is no margin to exaggerate this account’s performance. 🙂 I have not been meticulously keeping track of my portfolio’s internal rate of return (IRR.) However, we can use the next best thing, which is a performance chart from TD.

Here’s a look at my non-leveraged portfolio for the past 3 years. It appears that my annual return was 11.57%. 🙂

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Sep 222016
 

Lower Cost with Interactive Brokers

Everyone likes a discount, especially personal finance enthusiasts. We tend to get hyped over even marginal deals. 😀

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Speaking of margin-al discounts. I recently lowered my stock margin rate from 4.45% to just 1.95%. Hot damn! It’s even lower than my mortgage now, haha. 😁

One of the best things investors can do to increase our net returns is to reduce the cost of investing. When it comes to leverage, or borrowing money to invest, the best way to reduce our cost is to find a broker which charges the lowest interest rates. 🙂

In the past I have held my margin account with TD Direct Investing. The current interest rate they offer is 4.25% or 4.75% per year, depending on which currency investors borrow in.

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Although TD’s rates are already competitive relative to the other large banks in Canada, it is not the lowest. After doing some research online I’ve discovered that a U.S. based brokerage firm called Interactive Brokers offers the lowest margin rates, and has cheap trading commissions. So I recently transferred my entire margin portfolio from TD to IB to reap the benefits of lower cost borrowing. 🙂

Interactive Brokers Advantages

Here are 4 reasons why I switched to IB.

  1. Reduced margin rates for more cost-effective leverage. I currently have about $54,000 of margin debt. I was paying on average 4.45% a year for this massive loan with TD. But with Interactive Brokers I’m now paying only 1.95% on average because I have both US and Canadian dollars. This represents a difference of 2.50% between the two brokers, which translates into $1,350 of interest rate savings every year! 😀 “BM” in the table below refers to the benchmark rate set by Central Banks.16-09-interactive-brokers-margin-rates
  2. Cheaper trading commissions. TD and many other brokers charge a flat fee of $9.99 per trade when buying stocks. But IB charges 0.5 cent per share for U.S. accounts, and 1 cent per share for Canadian stocks. The minimum cost per transaction is $1. For example if I buy 200 Shares of BMO (Bank of Montreal) shares, then my total commission would be $2.00 CDN. My trades are typically worth between $1,000 to $3,000. This means I rarely buy more than a few hundred shares of anything because most companies I prefer to own are dividend growth stocks, which tends to be priced at $20 per share or higher.
  3. Access to global markets. This isn’t a big deal for most people, but for more advanced investors Interactive Brokers allows trading in foreign currencies outside of North America. This means we can buy European stocks in Euros, or Australian stocks directly from the ASX using Aussie money. 🙂 TD used to have a platform that lets Canadians like myself trade internationally, but they cancelled that service last year. 🙁 I’ve mentioned in a previous post, that I want to diversify into other countries and there could be some good opportunities in the U.K. after the Brexit event earlier this year. So having access to a global trading platform is important for my financial goals. 😉
  4. Great for options trading. $0.70 per contract; $1 minimum order; volume discount available. And in the unlikely chance that our open options are exercised or assigned, there is $0 assignment fee, unlike $43 for TD or BMO.

Disadvantages of IB

Here are a couple drawbacks with IB.

  1. Penalty for not being an active trader. If investors do not spend at least $10 in commissions per month, we will be charged the difference. Furthermore, there’s a $10 fee for real-time quotes each month which is waived if at least $30 in commissions is spent. I typically trade once or twice a month so I will be paying these fees.
  2. $10,000 USD minimum balance to open up an account. This isn’t an issue for me, but some investors might have trouble coming up with $10K.

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Aug 152016
 

Asset Allocation for the Wealthy

I don’t always recognize good investment opportunities when I see them. But I do know that we should never invest in funerals… because it’s a dying industry. But when I run out of investment ideas I usually turn to the wealthy.

I think it’s extremely important to follow what rich people do. It gives us insight about financial opportunities that we should be aware of. People with extremely high net worths tend to have either a natural knack for managing money, or are at least smart enough to hire the best advisors to invest on their behalf. Of course wealthy people don’t make the best investment decisions all the time, but their historical performance is consistently higher than the average Joe, which is how the rich continues to stay rich. 🙂

One way to track the “smart money” is to follow the quarterly member surveys from Tiger 21, an exclusive network of high net worth investors. To get into this private club all you need is to have a minimum net worth of $10 million. Easy right? 😛 This confidential and anonymous survey asks members about where they have their net worths allocated.

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Almost all participants are either self made investors or entrepreneurs with a good eye for business trends. With hundreds of members spread across North America, the results of the survey should represent a fairly accurate cross section of investment opinions from some of the most sophisticated millionaires and billionaires in the world. So what have the wealthy been doing during the last year? For the most part they have decreased their exposure to real estate and increased investments in private businesses. 🙂

Below we can compare the Tiger 21 survey results from the first quarter of last year with the same quarter this year.

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Mar 172016
 

Start Compounding As Early As Possible

I recently came across a retirement guide made by J.P. Morgan Asset Management. It includes a nifty comparison between those who starts investing earlier vs later. The results show how time can play a significant part when it comes to compound returns. 🙂

JPMorgan shows outcomes for 4 hypothetical investors who each invests $10,000 a year at a 6.5% annual rate of return over different periods of their lives:

  • Chloe invests for her entire career of 40 years, from age 25 to 65.
  • Lyla starts 10 years later, investing 30 years from 35 to 65.
  • Quincy starts to invest early but stops after 10 years, contributing from 25 to 35.
  • Noah saves for 40 years like Chloe from 25 to 65, but instead of being moderately aggressive he simply holds cash, term deposits, GICs or CDs, etc and receives a 2.25% average annual return.

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Let’s break down the results.

  • Chloe begins investing early, plus she’s consistent, which is why she has nearly $1.9 million at retirement. 😀
  • Even though Lyla started just 10 years later than Chloe, she only ends up with $920K, which means postponing investing for just 10 years while we’re young will cost us almost a million dollars once we’re old.
  • Quincy, who invests for only 10 years, still ends up with $951K at retirement, which is surprisingly more than Lyla’s portfolio, even though Lyla spends 30 years investing.
  • Finally Noah, who has a lower risk tolerance than the others, ends up with only $652K at retirement even though he contributed for 40 years.

Of course no one can guarantee a 6.5% annual return. The chart is for illustrative purposes only and does not represent a real life investment plan. It simply demonstrates how annual rates of return and the passage of time can effect the outcome of a retirement portfolio. The earlier we start investing, the better. 🙂 But just for fun, here’s a look at how the following asset classes performed over the past 10 years.

  • Canadian Equities – 3% annual return
  • U.S. Equities – 6%
  • Fixed Income – 5%
  • Canadian Real Estate – 12%
  • U.S Real Estate – 3%
  • Gold – 9%
  • Farmland – 12%

Depending on our asset allocation it’s possible to have made 6.5% annual returns with a moderately aggressive portfolio over the past 10 years.

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