As the old year winds down and a new year begins, we take this opportunity to reflect on the investing year behind and the investing year ahead. The Viewstone Investment team spent some time during the month of December hearing from market strategists, portfolio managers and product manufacturers. There is nothing remarkable about this, as we do this throughout the year, as well as in a concentrated manner at the end of each year. Our role as advisors is to ensure that we are well versed in the issues of the day, able to provide actionable insight in the everyday financial realities of life, and to looking to the future to identify risks and opportunities that are both hiding and staring us right in the face. It is a task that I relish and look forward to. The outcome of this concentrated review is our outlook for the year ahead, identifying risks, opportunities, and to determine the asset allocation(s) we will be advising our clients towards in the coming year.
Over the past year, investors have faced a cacophony of noise, intrigue, rumour and news. The following is a shortened list of the market impacting news of 2017;
Highlights & lowlights of 2017:
Some, like the NAFTA talks, sabre rattling between the US and North Korea, and Brexit should have (in our opinion) caused more fear or caution in the markets, and yet despite these tensions, markets either stayed resilient or rose.
Other noise (and then news) was the US Corporate Tax debate, and the partisan approach to ‘debate’ of this hot topic. One favorite saying in the investment markets is to ‘Buy on rumour, sell on News’. In this case, could the US market’s rally have been based on the rumour of a coming tax cut and the expectation of the benefits to corporation that cause the markets to rise? Now that the Trump administration has its corporate tax victory, is this already priced into the market, leaving no further impetus for upside?
History, and in particular, economic history tells dramatic stories of brief periods of ingenuity and disruption followed by extended stages of new application, productivity improvements and commoditization. This is true of very many manias that have afflicted the investment markets over the years. Disruption and productivity improvements pose both risks and opportunities. The mania of Bitcoin, Bitcash, Ethereum and other cryptocurrencies resulted in often very risk averse investors to speculate on the further meteoric rise of a ‘currency’. Due to the number of inquiries we were receiving (not many, but enough) about this issue, we undertook to better understand these currencies which resulted in an article “What is ‘The Blockchain’?” which is to be published.
The rise of cryptocurrencies, we find, is eerily similar to the dot.com bubble of 1997-2000 which peaked on March 10, 2000 at 5132.52 on the NASDAQ. The NASDAQ would require 16 years 5 months before it would surpass its previous high, and achieved this in August 2016. It is vital to note that while the dot.com bubble crashed and burned, it spawned major commercial ventures that are now darlings of the investment markets. Good riddance to Pets.com, webvan.com, drkoop.com, AOL, etc. etc. etc. Welcome to Amazon, Facebook, and Google which were able to survive and then ultimately thrive when the ‘world wide web’ did not die in the midst of the crisis, but came of age during the proliferation of the technology we now call ‘the internet’.
So while we loudly proclaim ‘Buyer Beware’ for those who seek to speculate on the selection and rise/fall of whatever cryptocurrency is in vogue today, we do believe that the foundation on which cryptocurrencies rely (the Blockchain) will be a significant and meaningful disruptor in the years to come. In fact, the Blockchain seems to be the new ‘internet’ frontier. HOW we invest in the Blockchain is still a work in progress, and history suggests that there is plenty of time for research and consensus to build before the investment opportunity passes us by.
Pot, weed and medical marijuana are an entirely different story. In Canada, the federal government wants to take the illegitimate sale of marijuana out of the shadows and into the light of regulation and taxation. Whether the plan actually accomplishes its goals, the question for investors is whether there is a legitimate long-term investment opportunity. Investors need to be aware of and concerned about profit margins, because margins are what lead to profits, and profits drive long-term returns. With a market ripe for copycat manufacturers, distributors and retailers, we believe that profit margins are bound to shrink. As long-term investors, this suggests an investment landscape likely to go up in smoke.
However, there are plenty of other opportunities that may arise from this controversial move to legalize marijuana, including investments in regulatory equipment (breathalyzer equipment for police) or logistics (tracking and determining good weed from bad), or enhancements into the effective management of pain relief via pharmaceutically developed medicines. Again, this is an area for potential opportunity, but no obvious investment candidates have evidenced themselves yet.
One area of obvious investment, which is apparently failing to capture the Canadian imagination, is debt repayment. You may be asking when debt repayment became an investment opportunity. Debt is repaid with after-tax dollars. This is a most important reality. A $75,000 income results in an average tax rate of 24% and a marginal tax rate of 31.5%. Marginal tax is most important and can be described as the rate of tax assigned to your next dollar of income. Tax rates are rising notwithstanding electoral promises to the contrary, and tax rates are rising notwithstanding whether you are part of the middle-class, desiring to be a part of the middle-class, or are being taxed into the middle-class. Governments are in debt up to their eyeballs and their most important and immediate source of relief is taxation.
At the time of writing, the Prime lending rate is 3.20%. The table below illustrates that at a tax rate of 31.50% the pre-tax return required to cover loan interest for a secured line of credit is 5.52%. Investors would need to invest in an 8-year bond issued by a high yield, speculative, non-investment grade issuer. This is like lending your cousin Louie $5000, who is already in debt to his bank, had to sell his house to pay his outstanding tax bill, and has already maxed out his credit cards, because he has a no-fail business idea. You just wouldn’t do that…. And yet, Canadians refuse to take the necessary steps to pay down debt.
There is a story in the Bible about Joseph who rises to prominence in Egypt by interpreting a dream from the ruler of the land. The dream indicates that there will be 7 years of surplus in the land followed by 7 years of famine. While I’m not inferring the current data to suggest a coming famine, we have had 7 years of ultra-low interest rates and it seems that in that time, Canadians have been trying to spend their way into the middle-class, rather than to save their way into the middle-class. Their ‘role models’ are governments who are spending their way (and ours) into oblivion. This, my friends and dear clients, adds to the already huge gap in income and wealth inequality that exists in Canada.
To quote one of my favorite Market commentators; “When history judges this moment, it will not be kind….. When the inevitable bust occurs, the public justifiably will reject corrective recommendations from those who have behaved so imprudently, thereby limiting the ability to re-stimulate.” * With interest rates so low, and markets achieving new highs, and speculative bubbles in cryptocurrencies and pot stock, there seems to be a shortage of an appropriate balance of fear and greed. It is with this in mind that we detail the areas in which we believe risks exist and opportunities abound.
With risks and opportunities in mind we have updated our Model Portfolio asset allocation for cash, bonds, and equities, and look forward to our discussions with clients in the coming months for annual reviews, and discussions on our recommendations for aligning client portfolios with our models, and the rationale for it. One of the things that we enjoy doing is educating and informing investors as to our process for making investing decisions.
*An Unhealthy Absence of Doubt & Fear, Doug Kass, Seabreeze Partners Management Dec 20/2017
The graphic beside serves to illustrate how we consider news, insight and information coming at us from various sources. Since our first priority is to protect capital, we must consider risks first and foremost. Only once risks have been discussed, can opportunities be considered. This leads to a perspective on asset allocation, which then provides the basis for model portfolio for different Investor risk profiles (balanced, growth, aggressive growth etc.). With our models now considered we can take an objective look at existing investments and prospective investments that would fulfill our asset allocation and investment model, determining what to add and what to remove. This finally leads to an action plan.
In closing, our team has been hard at work looking at how we can serve you better, today and tomorrow. In 2017 we have continued to inform and educate ourselves in order to provide the services that our clients need today and tomorrow.
In 2017 we:
- Added Matt Nellich to our team. Matt has been a summer intern for the past 4 years, and having completed his university degree, is now launching his career in financial services, enrolled in the Canadian Securities Course, with the goal of becoming a licensed advisor. He is our Business Intelligence Officer providing much needed assistance in research and analysis.
- Lara obtained her Financial Planning Standards Council Level 1 Certification towards Financial Planning. This has been a useful addition as more clients are seeking more clarity on retirement and estate planning.
- John obtained his Certified Executor Advisor (CEA) designation to assist clients who may be, or could be an executor/executrix of a will. An executor is often the most trusted person in a testator’s life (the one making the will), and have a vested moral and legal responsibility for a successful estate settlement. Yet often, they may not have the knowledge or expertise to execute the last wishes without guidance and assistance.
- We value the privacy of our client’s information and data and do not take this lightly. As such, we have made substantive investment in and enhanced our Customer Relationship Management software to increase encryption and obtained 4 levels of security through our service provider.