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Anthony Layton MBA, CIM

Chairman & CEO, Portfolio Manager

Peter Guay MBA, CFA

Portfolio Manager
Contact
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  • F514.875.9611
  • Place Alexis Nihon
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  • Montreal, Quebec H3Z 3B8
June-28-18

Should I borrow to invest? Part 2

 

In my last blog, I spoke about borrowing against your home to turbo-charge your retirement savings. I went through some of the conditions you want to have in place and the mechanics of the strategy. In this post, I’ll go through some of the pitfalls you want to watch out for if you do decide to go ahead with this strategy. 

HELOC or Fixed Rate Mortgage?

So, you’re ready to pull the trigger and implement the strategy. What decisions do you need to make first, and what do you need to know? 

You first need to decide what kind of loan to take. Do you want a Home Equity Line of Credit or a fixed rate mortgage? Well, there are advantages and disadvantages to both. A Home Equity Line of Credit allows you to unwind the strategy at any time, without penalty. On the other hand, you’re exposed to potentially rising interest rates. With a fixed rate mortgage, say for a 5-year term, you lock in your interest rate, but you might have to unwind the portfolio at a specific point in time, in other words, at the maturity of the mortgage, which may not be the best time to sell the investments. 

That said, I prefer the fixed rate option for two reasons. First, interest rates are generally rising and bond market expectations are for this to continue gradually over the next few years. Second, you can always roll the mortgage into a home equity line of credit when it matures if you don’t want to unwind the portfolio at that particular time. You could even roll it into another fixed rate mortgage if the interest rates are low enough to make that interesting.

Where to Invest Your Loan Funds

You’ll also need to decide how to invest the proceeds of the loan. How much risk do you want to take with these funds? You can’t simply buy a portfolio of bonds because you won’t make much more than the interest you’re paying on the debt. You also probably don’t want to buy an all-stock portfolio, because the potential of a serious market drop would be pretty nerve-rattling in relation to the amount you owe on the debt. The final decision lies somewhere in-between and it will be a function of what other investments you may have and the level your income relative to the cost of the debt.

Things to Consider Before Borrowing to Invest

There are a few more caveats to doing this, and it’s important that you go into it eyes wide open, so here they are:

  1. Don’t put the proceeds of the loan into your TFSA or RRSP. If you do that, you can’t deduct the interest from your income on your tax return. I’m generally not in favor of borrowing to invest in your RRSP or TFSAs no matter what the banks say.
  2. Don’t use the loan for anything but investing. For instance, if you borrow $100,000, don’t put $50,000 in your portfolio and use $50,000 to renovate. From Canada Revenue Agency’s perspective, that muddies the water when you deduct the interest on your taxes. Keep the loan for investing and nothing else. 
  3. As I mentioned several times in my previous video, don’t borrow so much that a rise in interest rates and a drop-in stock markets would squeeze your ability to make the payments on the loan. You don’t want to be forced to collapse this strategy at the wrong time.

I hope all this has given you food for thought on how to leverage your home to turbo-charge your retirement savings. 

By: Peter Guay | 0 comments
June-22-18

Tony’s Take: Selling in-house funds leaves a bad taste in clients’ mouths

You’ve probably noticed on your trips to the grocery store that in-house brands take up ever more shelf space. Grocery chains promote their private labels because they earn them higher profits while shoppers choose them for their lower prices.

That’s a good deal for everyone as long as the quality of the in-house brand is equal to or better than name brands. The proof is in the eating, of course. If you’re not satisfied with a product, you can simply go back to your favourite brand or try something else.

Unfortunately, it’s not so easy when it comes to private label investment funds—those manufactured by Canadian banks and life insurance companies for sale to their own clients.

The shopper, in this case, is a retirement saver who is trying to navigate the complex world of investing. The seller is an investment advisor whose firm earns extra profit by selling their own funds over the offerings of third-party fund companies.

Clients rely on advisors for unbiased advice

Poor-quality investments are not something you can taste or smell. That’s why most investors depend on their advisor’s recommendations when it comes to purchasing funds.

But when those recommendations are coloured by conflicts of interest like selling your own firm’s proprietary products, you have a problem that merits attention.

Indeed, Canada is the only jurisdiction where advisors can sell proprietary products. In the U.S., for example, the practice is forbidden, according to a recent article in Investment Executive newspaper.

Yet, some big Canadian firms push it even further by paying incentives to advisors for selling in-house products, even though the practice is against the rules.

The situation is driving sales of poorly performing investment funds in Canada, says Darcy Hulston, president and CEO of independent mutual fund manager Canoe Financial. Hulston told Investment Executive he believes regulators may eventually respond by cracking down on the sale of proprietary funds.

Regulators shy away from sweeping change

I’d love to see that happen, but I’m not holding my breath. So far, regulators have shown little inclination to take on industry heavyweights by making that kind of sweeping change.

But that doesn’t mean we should stop pushing to get conflicts of interest out of the investment industry. We have to keep up the pressure up until Canadians enjoy the same fundamental protections as in other parts of the world.

My bet is the investing public will like the way that tastes a whole lot better.

By: Anthony Layton | 0 comments
June-12-18

Should I Borrow to Invest?

 

You bought your dream house, you stuck to your mortgage payments and now you have some equity built up in the value of your home. But is there a way to better leverage your assets to improve your bottom line?

The answer: Yes.

Borrowing against your house to turbo-charge your retirements savings can be a great investment strategy. However, just like any financial move, you need to know if it makes the best sense for your situation.

Let’s look at the ups and downs of borrowing to invest, and why it may or may not make sense for you.

Conditions for borrowing against your home

First, let’s talk about some of the conditions you’ll want to have in place before you consider this strategy. To start, you have to be willing to take on more debt in the first place. If having debt keeps you awake at night, then this definitely isn’t for you. The math is irrelevant if you’re not comfortable with debt.

Second, your mortgage should generally be less than half the value of your house. That’s because the bank will only lend you between 65% and 80% of the value of your house. So, if your mortgage already accounts for most of your house’s value, you won’t be able to borrow a significant amount against it.

Now, you may be asking why I’m only talking about borrowing against your home. That’s because for most of us, it’s the only way to get credit at a reasonable interest rate. By reasonable, I mean close to the bank’s prime rate, which is around 3.5% right now.

Third, you want to have a high and stable enough income, relative to your monthly expenses, so that you can comfortably afford the extra interest cost of carrying this new debt. I say this because in the worst-case scenario of interest rates going up while stock markets crash, you don’t want to be forced to unwind this strategy because you get pinched on your monthly cash-flow. For me, that essentially sets an upper limit for how much you want to borrow.

The steps you need to take to borrow to invest

So, having set the stage, what does the process look like? You start by going to the bank, to see how much they’ll lend you over and above your existing mortgage.

Once the bank has confirmed how much they’ll lend you, and it’s an amount you’re comfortable with, you take the proceeds of the loan and invest it in your investment account. The investments grow over time, provided you’ve invested them in a well balanced and low-cost portfolio. Meanwhile, you make the payments on the debt.

Now make sure you track how much interest you’ve paid each year. You can deduct this interest against your income each year when you file your tax returns. This is one of the main advantages of doing this: If you’re in the top tax brackets, your interest cost essentially falls in half because you can deduct it against your income at tax time.

The benefit to you is the fact that you’re hopefully earning investment returns around 5% or 6% per year over the next 5 to 10 years, while only paying an after-tax interest rate of about 1.75%. I say 1.75% because the tax deduction gives you about half of the interest back on your tax return. So, the difference, about 3.25% to 4.25%, is what you’re creaming off the top. More simply put, for every hundred thousand dollars you borrow, you’ll be making about $3,000 to $4,000 per year.

Understand the risks involved

It is really important to realize that there is no guarantee that you’ll make this amount. If markets have a bad year, you’ll have to wait for them to recover, before getting back to an average return of 5% to 6% over the period that you have this strategy in place. If markets have a great year to start, you might make more. That’s the nature of investment risk, a topic I could write a whole other post about!

By: Peter Guay | 0 comments
June-01-18

Tony’s Take: Clients first!

It’s time for client interests to come ahead of sales targets

I didn’t think a recent report on sales practices at Canada’s big six banks got enough attention in the investment industry. Its conclusions are a wake-up call for those who think we don’t need tougher investor protection in this country.

In the report, the Financial Consumer Agency of Canada warns that the banks’ culture “is predominantly focused on selling products and services, increasing the risks that consumers’ interests are not always given the appropriate priority.” 

“This sharp focus on sales can increase the risk of mis-selling and breaching market conduct obligations.”

Bank employees tell horror stories

FCAC’s report came after the CBC reported horror stories from bank employees being pressured to upsell, trick and even lie to customers to meet unrealistic sales targets. The CBC was flooded with 1,000 emails from bank employees after an initial report about practices at TD.

The sales practices referred to in the CBC reporting and the FCAC study covered the full range of retail financial products offered by the banks, including their very large businesses selling mutual funds and other investment products.

The FCAC report comes at a time when other investment industry practices have come under fire. 

The Ontario Securities Commission handed hefty fines to three mutual fund companies for giving away trips, tickets to concerts and sporting events, and other lavish gifts to investment advisors to encourage them to sell their funds.

And the investment industry self-regulatory agency recently moved to stop discount brokers from selling mutual funds carrying commissions normally paid to financial advisors. Discount brokers aren’t allowed to provide investment advice. Investor advocate Ken Kivenko estimates discount brokerage clients have been overcharged about $190 million a year.

A rule to put client interests first

Clearly there’s a systemic problem, and it’s time to deal with it. The best way to do that is with a rule requiring advisors to put their clients’ interests ahead of their own.

Acting in clients’ best interest is known as a fiduciary standard, and you might be surprised to learn Canadian investment advisors aren’t already held to it. Instead, they are held to a “suitability standard” that requires them only to ensure that any investment recommendations are suitable given the client’s profile and objectives.

Acting in the clients’ best interest would require advisors to avoid or disclose conflicts or interest like those freebies from mutual fund companies and ensure fees and expenses are optimized so investors aren’t gouged like those clients were by discount brokers.

A fiduciary standard is not some wild-eyed scheme. It’s the law in in the U.S., Australia and Britain.

Action is needed

In the absence of a fiduciary requirement for all types of investment advisors, responsibly minded firms, including PWL, are obtaining independent accreditation as fiduciaries. We are accredited by CEFEX.

The need for a clients’ best interest rule has been debated for years. Recent events show it’s time for action. 

By: Anthony Layton | 1 comments