“Any fool can know. The point is to understand.”
~Albert Einstein
Welcome to 2019! Let’s dive right in: The market volatility in December, particularly around Christmas, was an overreaction, which is what happens when greed turns to fear. Remember, both fear and greed make fools of us all. As I write this in early January, we are now seeing markets regain some stable footing.
My job is to focus on fundamentals and process and tune out unnecessary noise. We do this so that you can focus on what matters to you – family, friends, retirement, business, dreams, or all of the above, confident that your money is in good hands.
Strategy Update Highlights
- Conservative positioning mitigated December’s US market correction and 2018’s TSX (-8.60%) and the EAFE (-9.02%) drops. Please call us if you have questions – market ups and downs are unsettling but they are part of investing and we are here to help.
- Interest rate hikes are on hold in Canada and we are uncertain that US rates will continue to rise at their current pace.
- We are looking to use the current volatility to selectively buy fixed income and equities with excess cash.
Fixed Income:
Given recent economic challenges in Canada, from trade issues and oil price drops to the housing market and stretched consumer, the Bank of Canada has paused its interest rate hike plans. The Bank of Canada and RBC still predict the bank rate settling between 2.5% to 3.5% but this will take longer than previously thought.
In the past quarter, I added short-term bond holdings instead of fixed-income indexes, mutual funds, or closed-ended trusts. These bonds are high quality and more tax efficient than other types of fixed income or staying in cash.
Purpose Premium money market, for example, was added to the portfolios. It pays a tax-efficient deferred capital gains yield of 2.05%. That is an interest equivalent yield of up to 3.38% for Ontarians in the maximum tax bracket.
I’ve been reducing portfolio risk by way of short-term fixed income and cash exposure. This deflected many of the negative impacts of the interest rate hikes. I may extend terms as I get a better picture of where medium-term interest rates may end up.
Equities:
The higher cash holdings also reduced volatility and equity risk. While I expected increased market volatility, none of us expected a month like December. Cash helped protect the portfolio, along with being underweight in Canadian, US and International equities.
Major contributors to equity volatility included tensions around China/US trade, the US government shutdown and weakening economic data.
Over the past two years, I’ve anticipated this increased volatility and a broader market correction. Of course, it’s impossible to know precisely when they will begin and end. Following a disciplined pension style selection process is key. Let me outline it here:
Our Canadian and US equity selection process focuses on: (a)conservative lower volatility companies with growing dividends, (b) companies growing earnings per share and return on equity (EPS & ROE), and (c) a few growth companies.
About 70% of these equities have lower-than-average volatility, five years of increasing dividends and a dividend payout ratio less than 80% of expected earnings. I screen for 21 other quantitative attributes before I consider the more qualitative aspects, such as management, politics, commodities, and global trends.
I select 13 to 15 profitable, dividend-paying Canadian companies. Other than a few growth companies, the remaining 25% to 28% equities (8 to 10 positions) are bought by researching earnings per share growth, share price changes, liquidity, and moving averages. These equities can be sold to provide a cash buffer. The same holds true for the US companies.
I expect our Canadian and US equity returns to be better than their corresponding indexes in down markets and to perform slightly worse in up markets. I want to avoid large market volatility within my clients’portfolios. If we can deflect large drops, we are more likely to have good long-term returns.
This proven process has served my clients well in the past and I expect it will continue to serve you well in the future.
Conclusion:
We take a disciplined wealth management approach, encompassing your investing, insurance, business planning, and estate planning. All of these should be considered together. My team and I continue to work hard to serve your needs. If you would like your wealth management projection or you have an upcoming change, such as a new job, retirement or selling your business, please call or e-mail us and make an appointment.
We very much value your trust in us and look forward to continuing to serve you in 2019!