Scott wrote a great blog yesterday (highrockcapital.ca/scotts-blog/wealth-management-what-are-you-paying-for-and-what-are-you-getting-in-return) on the fees that investors pay and what you get in return for those fees. I wanted to touch on two more line items on Fees and explain why the fees High Rock clients pay is lower than most other wealth management services.
First of all, there are typically two types of fees that an investor pays when they have their money professionally managed:
If you own any funds, you should be well-aware of the TOTAL fees you are paying and be sure to ask why.
As Scott said yesterday, our disclosure on Fees could not be more succinct. We have a short Introduction video to our Private Client division on our website (highrockcapital.ca/private-client.html) and around the 4:38min mark you will see our full-disclosure on the fees our High Rock clients pay:
1) They pay us 1.15% as a Management Fee (this pays our operating expenses like rent, systems, modest salaries, food and red wine)
2) We actually don't have to divulge but we go above and beyond the regulatory requirement and state the weighted average MER that our clients will pay at ~.05% (depending on which model the specific client is in). We actually hear from quite a few new clients that their Adviser said "calculating the MER you pay is too complicated". Really? It's a simple weighted average calculation and you have every right to ask for it and receive it within a day of asking for it
3) Total Fees Paid by High Rock Clients - ~1.20% (give or take a few bps depending on model)
In mid-December, I was talking to an Auditor from our regulator, the Ontario Securities Commission (the OSC), and I described to her how we fully-disclose our Fee structure and referred her to the short video above. She said, "Wow, if every Portfolio Manager in the country did that, it would make my job a lot easier". Maybe they should change the rules on fee disclosure?
So lastly, why is it that High Rock clients only pay MER's of about .05% vs other clients, who may have an Adviser "managing" their money, are paying about 2.00%? Simple - High Rock MANAGES money. We started out in December of 2010 as an Institutional Asset Management firm managing four funds for Scotiabank. Personally, I have been managing my household (and my parents) money since Day 1 of my investment career. And my investment career spanned almost 18 years at Merrill Lynch Canada where I was paid to trade securities and manage risk for a living. I didn't get paid a commission, ever. I did get paid a bonus based on well I managed the capital allocated to me and those who worked for me. Tooting my own horn here but...18 years at a bulge-bracket Wall St firm culminating as the Head of Canadian Credit Trading is a long time so I suppose it is fair to say I am a decent investor (probably not the world's best salesman so if you want one of those, you may not find it here). Point being, I am an investor, first and foremost.
Back to the low MER's High Rock clients pay. Given High Rock is an Institutional Asset Management firm, and I have been an investor my entire career, we have huge synergies at High Rock where we don't have to "farm" out our client assets to other Institutional Asset Management Firms. Would I really pay some mutual fund manager 2.00% to manage my money? Albeit some of them are excellent managers, no I wouldn't as I am fully-capable of doing it on my own and saving the 2.00% they would charge in MER's. So our clients own more individual securities (stocks and bonds) on a "direct" basis. Take C$ high yield bond exposure as just an example. We have the capability to buy our Private Clients the exact high yield bonds we want them to own on a direct basis and avoid buying a high yield fund, like AHY.un, that charges 2.00%. And suppose an investor has a 10% weight to high yield (reasonable) and they save 2.00%, then on a net-fee basis, right there they are saving .20% in MER's (10% X 2% = .20%). Now do that math for exposure to Canadian stocks as well...say you have 25% in Canadian stocks = 25% X 2.00% = .50%. Now you are saving .70% total on a net-fee basis. That adds up. The only place we truly need to use low-cost ETF's (we will never own a mutual fund here at High Rock) is to gain exposure to areas where we are not experts like: the Far East, Emerging Markets, Europe and even the USA...although we currently own and have owned some direct US stocks, I am not picking stocks in the Far East, Emerging Markets or Europe...way out of my area of expertise. Our investment process is based on fundamental research and although I do a lot in Canada, I do 0 in any of those other jurisdictions, so we use low-cost ETF's to gain exposure to those markets. And that might add .05% to the overall cost of a client portfolio...almost deminimus in my opinion.
To conclude this long-winded blog, you can watch the short video again in the link above and stop at the 4.00min mark and the 5:00min mark and come to your own conclusion. Take control because it really matters, especially over longer periods of time.
And remember, Scott and I manage our client money exactly the same as our own money so there is an element of clients "piggy-backing" on our portfolios. Be our guest.
The Toronto Real Estate Board (Treb) just released their monthly data for Dec/17 so I thought I would give a quick snapshot on what happened.
As a reminder, residential real estate is such a huge part of our economy that it matters when it comes to estimating economic growth (GDP), what the Bank of Canada may or may not do with regards to raising interest rates, the over-levered consumer, etc. And with new regulations from the Office of the Superintendent of Financial Institutions (OFSI) on mortgage borrowing/lending called B20 coming into effect in Jan 2018, this all matters.
We track, the City of Toronto (not the GTA) across Detached, Semi-Detached and Condos (Apartment style). Here is what happened month-over-month (mom) and year-over-year (yoy) in each housing category:
Conclusion - Supply of New and Active Listings for the month of December was obviously lower than November for seasonal reasons but, as we can see in all housing categories, the yoy supply was higher. The other notable trend here is that Condo dynamics are stronger than Semi-Detached and Detached and I think it is all due to affordability. And with new mortgage rules hitting up starting this month, this trend to more affordable housing will likely continue. Clearly public policy has had and will continue to have a major impact on housing across the nation. We still maintain that over longer periods of time (and perhaps different leaders in government roles) that the intrinsic value lies in Detached (and to a lesser degree) Semi-Detached; simply by virtue of the fact that there is huge supply in the Condo segment while there is completely static supply of Detached (and Semi-Detached) due to public policy in 2005 which will lead to scarcity value.
Welcome back from the traditional holiday period. We wish you and your families health and happiness for 2018.
As some of you may know, government bonds in North America (and around the world) have been rising (prices falling) rather quickly since the Trump election. Money has clearly shifted out of government bonds (arguably the safest of assets) in favour of stocks (arguably the riskiest of assets). But at some point, it makes sense to compare the relative valuation between government bonds and stocks to see where the risk lies.
To make that comparison, the simplest thing to do it to compare the Dividend Yield (cash dividends/share divided by $ price/share) of the S&P 500 (SPX) and compare it to the 2 yr US Treasury Bond Yield. In keeping with the "Holiday Theme", you will see those two compared in the chart below where the SPX Dividend Yield is in Red and the 2 yr US Treasury Bond Yield is in Green.
So, as you can see, this hasn't happened in (almost) ten years. That is to say, the 2 yr Treasury Yield is now higher than the SPX Dividend Yield. To be fair, before the Credit Crisis, that was normally the case but since the Crisis, it has never happened.
What does this mean? It means that government bonds are now starting to offer a yield that is getting competitive with regards to a return. At almost 2.00%, 2 yr US Treasury Bonds are going to start looking enticing for certain investors who have no choice but to invest in bonds, namely Pension Funds, and they are a very powerful force in both stocks and bonds. It also means that the SPX Dividend Yield is getting quite low due to the fact that Stocks are rising while Dividends are not rising nearly as quickly which creates a lower dividend yield.
And if we look at a 30 yr chart of 2 yr US Treasury Bond Yields, we can see the Red trendline that lines up somewhere around this 2.00% area (give or take) as you can see below:
Not sure how this all plays out but one thing to watch very closely will be the flow of funds into government bonds around these levels. Watching flows in the bond market is quite difficult as bonds trade "over-the-counter" (unlike stocks which trade on a public exchange). The only way to watch what happens is to talk to Wall St firms and get some colour on what these mammoth pension funds are doing...they are the key.
Two weeks ago, I came across an interesting article on how the 30 companies that make up the Dow 30 Industrial Average had an effective tax rate that, in many cases, is already darn close to the newly passed corporate marginal tax rate of 21%.
I had a meeting on Monday with this hedge fund manager from New York and we discussed this same topic so I thought I would show you a quick peak from an article in MarketWatch with Factset data. It shows the 30 companies and their median effective tax rate over the last 5 quarters (3Q16, 4Q16, 1Q17, 2Q17 and 3Q17). Here they are:
Hard to read, I know, so expand it a bit but here are some observations:
Well, we all know, from watching the US stock market rise to "newer-highs" on a daily basis as the two levels of US Congress passed their legislation...each day, the Dow would rise and rise. Clearly this tells us the market was building in the expectation of a corp tax cut. But when about half of the Dow 30 already pay an effective tax rate of the new marginal tax rate of 21% of lower, what's the big deal?
To be honest, these effective tax rates include state and local taxes paid as well as federal taxes and taxes in other jurisdictions outside the USA. The idea that these large multi-nationals have kept significant funds overseas due to lower marginal tax rates in those other jurisdictions vs the USA, tells us that they will likely repatriate some of those funds back to the USA over time. The repatriation of this capital from overseas could, over time, lead to capital expenditures in the USA that will drive cash flow, which will be taxed at a lower rate of 21% vs 35%.
The power of fiscal stimulus.
It's been awhile since I wrote a blog. Let's see if I can remember how to do this. Thank God Scott writes them often (and way better).
A quick look at why the C$ is weakening even in the face of higher oil prices. What gives?
WTI in orange and the C$ (CAD/USD...not how it trades in the market but certainly the way the press reports it along with how most retail investors view it) in white.
There has been a reasonable correlation between the price of oil and the C$ over time but since about Sept/17, it seems to have broken down. Why?
Here are my Top 10 reasons why the C$ is weakening while oil is rising (well, nothing on oil really but suffice to say our view all year has been that OPEC/Saudi Arabia need the price well north of $60 per bbl):
So, how have we invested our money with some of these negative views on the C$ and Canada in general?
Past performance is no guarantee of future performance.
I was a Guest Host on the early morning BNN show, The Street with Paul Bagnell, yesterday morning. For those of you who were smart enough to sleep in and NOT get up to see the 6-8am show live (I had to get up at 4:30am to shave, shower and get to the studio for slightly less make-up than I normally require...which I see as a positive!), I thought I would provide you with a recap of what the topics were and to elaborate further on my thoughts. Keep in mind that this show is really a two hour discussion of very topical news and my role was to "chip in" and ask questions and participate in some interviews with some other guests. I enjoyed the show, Paul and the other guests. So, in point form and, no particular topic order, here goes:
The Fall Budget Update
Economic Growth in Canada
The Bank of Canada (BoC)
Baytex Stock, Baytex Bond and Oil
Industry Sectors to be Avoided
The US Stock Market
There may have been more but that covers most of it. Hope you pvr'd the show as opposed to the early rise. If you care to discuss any of these topics, feel free to reach out. Happy to expand on any and more of these topics.
On Monday I wrote a blog (highrockcapital.ca/pauls-blog/corporate-bond-investments-the-best-part-of-high-rocks-private-client-division-part-i) about why our ability to invest directly in corporate bonds (specifically high yield bonds) is so important to our Private Client division. I used our recent purchase of Yellow Media's new issue of 10% 2022 as a good example. In fact, we bought another high yeild bond new issue yesterday as well to be allocated to our Tactical Model (as was Yellow Media).
The simple fact that High Rock is able to transact this way in the Institutionally-traded corporate bond market is, as I say in the title of these two blogs, one of the best parts of our Private Client division. But if that is not enough, I am going to describe in detail how we trade and allocate bonds across all of our Private Client accounts once the trades are done. I will continue with the Yellow Media example.
Trade Allocation Policy
First, I need to describe a regulatory requirement that is placed on all Portfolio Management companies (like High Rock) by the Ontario Securities Commission (OSC) stating that we need to fill all client accounts first before employee accounts and all accounts get filled on a pro-rata basis according to what their original needs were on a percentage basis.
First Trade in Yellow Media
Our first trade in Yellow Media was the new issue buy order for $2mm bonds at the new issue price of $98.00. We only got filled on $1mm bonds at $98.00 (cutbacks due to such high demand from buyers).
Second Trade in Yellow Media
Our second trade in Yellow Media bonds was to buy another $1mm bonds immediately in the aftermarket or secondary trading market. I think we were the first trade out of the blocks and were immediately filled on $1mm bonds at $99.25.
The total of $2mm bonds filled all of our internally-managed accounts (including the BNS high yield fund we manage).
So now comes the time to allocate those two different purchases. First, we need to fill all non-employee accounts at the first trade of $98.00. Once they are filled, then we allocate the second $1mm piece across client accounts so they get their "full fill" allocation and then we start filling employee accounts (Scott, Bianca and my households) with the second $1mm at the price of $99.25.
So, as you can see, our client accounts get filled at the preferential price of $98.00 first before employees. Once client accounts got their full allocation, their average price ended up being ~$98.58. It may not seem like much of a difference from the weighted-average cost of $98.625 but...it matters to us. Sure we employees would have liked to have bought these bonds in our personal accounts at $98.00, given they are now bid at $101.25, but not to the disadvantage of our clients. So clients own these bonds in their accounts at ~$98.58 and employees own them at $99.25.
Three years ago this December, I decided to start a Private Client (PC) division within High Rock to manage my household/family money more efficiently and effectively. I told Scott what my plan was and he ended up joining me in February 2015 and we officially launched our Private Client division to third party investors on April 1st 2015 (highrockcapital.ca/private-client.html).
One of the biggest reasons for starting the PC division was to take advantage of the synergies that came with managing funds for a division within Scotiabank. At the time, we managed four funds totalling $250 million and most of it was focused on high yield corporate bonds. This was, and still is, our Institutional division. You see, High Rock started out as an Institutional Asset Management firm and the reason why this is so important is that it provides us with certain privileges and benefits that retail advisors do not get.
So to be clear, an Institutional firm could be defined as follows - manages funds or pools of capital on a large scale basis. They get "covered" or have relationships with Institutional traders, salespeople and analysts at all of the big banks/dealers. They get Institutional pricing (especially important in bonds which do not trade on a visible exchange like stocks do). They are invited to conferences, get one-on-one meetings with company management teams, etc.
Whereas as an investment advisor works for one bank/dealer and does not get the same level of access to pricing etc that an Institutional firm does. They are largely beholden to the offerings of their own firm, certainly on the bond side, which is not terribly efficient.
And as an example of the difference between Institutional and retail pricing and why I started the PC division I give you the following - I would call up an advisor at CIBC WG that I have had for ions (great guy and old friend). I would say, "I want to buy $125,000 of XYZ corporate bond across my household accounts". He would go to the retail trader at CIBC and get an offer at $102.00 ($100 is called PAR on bonds). Now I don't believe my advisor friend was marking the bonds up in price on me but rather, that was the price the retail trader gave him. Now because we were/are an Institutional firm, I could call the Institutional trader at CIBC and buy the same XYZ corporate bonds at $100.00, about 2% less, but only for the BNS funds. Imagine that? But for my household/family, I couldn't get them into my personal accounts at $100, only for the Scotiabank funds. 2 points on a bond like that is 2%...some of these bonds only yield 4-6% so paying up 2% is insane. So starting the PC division provided me with the opportunity to buy the bonds simultaneously for the Scotiabank funds and our PC division...same bond, same price. Efficient and Effective.
Now to last week and why I think this key difference between Institutional and retail pricing is one of our greatest strengths.
Last Tuesday, I got a couple of emails and phone calls from both BMO and National Bank (both banks were "lead" banks running the new issue process) on news (anticipated) that Yellow Media (Pages) was going to refinance an existing corporate bond. What this means is that the company (the Issuer) was going to "call" or "redeem" an existing bond and pay for it by issuing a new bond. I owned the old bond in the BNS fund and knew I would want to replace it with the new one. But I also decided that it would be a good fit and opportunity to add the new bond to our PC accounts.
Now a couple of very key points to understand about this particular bond (and most high yield bonds) is that:
So I spent all day Tuesday and Wednesday ripping thru the OM (reading thru an OM ain't easy nor is it exciting but it is a must as this forms our legal rights), making notes, on the Institutional conference call the issuer hosted and trying to figure out what weight I wanted to own in both the BNS fund and in our PC accounts. My credit work was already up to date as I have been invested in the existing bond for quite a few years and I run a robust excel model on the name.
I then put in an order with BMO (they were designated to cover High Rock on what is called an Institutional Exempt List of Institutional firms and BMO was the lead bank on the new issue) on Wednesday night as the bond was meant to price on Thursday. A little about this Yellow bond: New issue price was to be $98.00 (usually $100.00 but there are slight tax benefits to pricing below Par) with a coupon of 10%, a yield at new issue price of 10.52% and a security level of 1st Lien Secured debt. There are all kinds of intricacies in this bond I won't go into but I liked the bond structure (the OM) and I liked the pricing.
Thursday afternoon, BMO and NBF called all of their Institutional clients and gave them their "fills" (the amount of new issue bonds they would sell you at $98.00) and then it would start trading in the Institutional market. Fair to say no one get as many bonds at the new issue price ($98.00) that they wanted so there were what are called "cutbacks". I can tell you that, due to a good relationship with BMO and the trader there, we actually got a pretty good fill (I know other Institutional firms that got "0"). As good a relative fill we got, it still wasn't the amount I wanted to own. So once the new issue opened up to trade, I had a standing order with BMO to buy more at $99.25. Sure 1.25 points (~1.25%) higher but my view was this thing was going to go to $101 area and sit. And there were four ginormous accounts that owned the bulk and were not likely to sell so I didn't mind paying up a snick to get the right weighting. And I believe I was the first post-new issue trade as BMO somehow found me bonds at $99.25. They ended Friday at $100.75 bid. So High Rock PC's own this bond at an average price of ~$98.625. Not bad. Now remember, we did the exact same two trades in the BNS fund...each trade gets "split" according to our Trade Allocation Policy (more on this tomorrow in Part II).
To me, this is one of the biggest benefits to High Rock's PC division. None of us, not even me with 20 years of high yield bond experience and great relationships with traders at the banks, could possibly get bonds like this Yellow Media new issue into our own retail accounts if we did it individually.
Together, we can.
As a Credit Analyst (corporate bond analyst) and a Fixed Income (bond) Portfolio Manager, I am naturally skeptical about everything.
Think about it...you buy a bond at Par ($100.00) and hope to collect your coupon for the life of that bond and then get paid back at maturity. If the company's prospects improve and the bond moves higher in price, that is a bonus. What we question is how we could get !$^&%%$ if the company's prospects and cash flows decline and the price of the bond follows suit into the sewer. So as a credit analyst, we question everything and are naturally a dour group of folks more worried about the downside than the upside. Such is our lot in life.
With that dourness, comes a spoonful of contrarianism as well. It too comes with questioning everything a management group tells you, what conventional thought claims and what markets are saying.
This morning at 10am, the University of Michigan (Go Blue!) released it's Sentiment Indicators for mid Sept to mid Oct. Remember, these Sentiment Indicators are considered "soft" economic data as they are simply surveys, not "hard" economic data (even those are probably manipulated by various government agencies...there I go again questioning everything).
Within the various Michigan surveys reported this morning, they reported that respondent's confidence in a rising stock market (in the USA) for the next 12 months is the highest...ever! My contrarian senses kick up a gear when I see this type of sentiment from retail investors. Water sure feels warm...come on in:
We never know what the event will be that may knock a heated market lower but we can pay attention to conventional thought and be prepared.
No, not Trump, Weinstein, or even the NFL.
More importantly than all that "noise" is the US economy. Here we will look at US Initial Claims for Unemployment Benefits vs US Recessions.
Initial claims are reported weekly as the number of people who are filing jobless claims during the week for the first time. To be honest, I am not sure how accurate this statistic is week over week but we are going to look at it over the past few decades so I think it is safe to assume the numbers are valid. Jobless claims are shown in the graph below as the yellow line and are on the left hand scale in hundreds of thousands of people.
Recessions are defined as two consecutive quarters of negative economic growth (GDP) and are easily seen in the graph below as the shaded blue areas with a white outline.
A few things to note:
The dotted red arrow on the far right simply shows something to watch. I think after 8.5 years of economic expansion, it is time to look at recession indicators like jobless claims. To be clear, we are not trying to predict when a recession will happen (not that smart) but rather to begin to manage our risk appropriately in advance.