Investing for Retirees Part 1

1. Investing for RetireesPart 1 Construct a low fee, tax efficient, diversified, income producing portfolio Seventh Edition, February, 2019

2. Disclaimer • The Ottawa Branch of the National Association of Federal Retirees and the facilitator of this seminar do not in any way offer financial orinvesting advice. • This seminar and the information in this PowerPoint presentation are provided for education purposes only. • Investing involves risk. Any personal investing decisions should be made only after individual due diligence and/or with the assistance of a registered financial adviser or broker. • Ottawa Branch takes no responsibility for any investment decisions that participants may make. • By attending this seminar and signing the disclaimer provided, you are signifying that you understand and agree to these conditions. Please note that the Ottawa Branch provides information on issues, products and services of general interest to its membership. It does not endorse a particular position on a product or service, as being suitable for individual members, but brings them to the members' attention so that they can make up their own minds

3. 1. Focus on what you can control

4. In conclusion: F T D • Control what you can: • Minimize Fees • Optimize Taxes • Diversify to reduce risk through asset class and geography

5. The point is, we don’t know what we don’t know • The world economy is more complex than 99% of us comprehend. • The next great market downturn will be caused, according to the “experts”, by the end of the Debt Supercycle. • Canada has the highest total debt load (Personal, Govt, Business) as a percent of GDP in the developed world • We have to design an investment portfolio knowing that we don’t know what is coming.

6. A great strategist once said: • There are known knowns. • There are known unknowns. • But there are also unknown unknowns - the things we don’t know we don’t know. • Loosely translated from Donald Rumsfeld, U.S. Secretary of Defence, 2001-2005

7. Unknown unknowns – an example Denver 2004-2007. • Many beautiful, vacant houses for sale. • At the same time, radio ads offering: 1% Adjustable Rate Mortgages NINJA (No income, no job or assets) mortgages • Stock market peaked October, 2007 • Housing market bottomed October, 2011

8. 4 rules for long term investing success • Develop and stick to a low cost, diversified asset allocation strategy • Focus on time in the market rather than timing the market • Keep it simple – complexity is not a benefit • Rebalance annually

9. DiversificationXIC (Canada ETF) vs VUN (S&P 500 C$ ETF)

10. Develop the allocation strategy that is right for you • Income vs growth • Most investment plans and vehicles are designed for accumulation, not decumulation • Dividends for income • Capital gains for legacy • Diversification for safety

11. Components of an Allocation Strategy • Equities (Stocks) • Canada • US • International • Emerging • Real Estate • Real property • REITs • Fixed Income • GICs • Bonds • Preferred Shares • Cash • Pension

12. Quiz True or False • The best investment managers can predict within six months the next market crash • We know when the Debt Supercycle will end and what impact it will have • Donald Trump‘s next actions regarding Canada are clearly known • The Canadian stock market is one of the best performing in the world over the past ten years • The Canadian economy has outperformed the US economy over the past five years.

13. 2. Time in the market and diversification

14. Time horizon is key • Age is not the key factor – time horizon is • If you need funds within 5 years, keep those funds out of stocks and medium-long term bonds • No return without risk • “Ask yourself one question. • Do I feel lucky?” • Dirty Harry, 1971 This Photo by Unknown Author is licensed under CC BY-SA

15. S&P 500 Average Historical Returns90% of ten year periods had positive returns – but not all • Including Dividend Reinvestment: • Time period: 50 Years 30 Years 20 Years 10 Years • Average Return 9.389 % 9.425 % 9.301 % 9.158 %

16. 9% Average stock market return hides a lot of variabilitySource: AWealthofCommonSense.com

17. S&P 500 (SPY ETF) 26 yearsNote 2000-2002 and 2008 crashes vs long term $100k invested in 1992 worth $940k today

18. 10 - 2 Year US Treasury Spread1989, 2000, 2007 negative spread predicted market crash

19. Key to determining your asset allocation • Be fearful when others are greedy, and greedy when others are fearful. • Warren Buffett, October, 2008 • Buffett’s company, Berkshire Hathaway currently holds over US$100 Billion in cash

20. The more decisions we make, the worser we do • Amateur investors woefully underperform the market. • Trying to beat the market is a fools game. 90% of the pros can’t do it. • Design an asset allocation strategy that is right for you, and stick with it. • “An investment portfolio is like a bar of soap. The more we handle it, the smaller it gets”.

21. Investment types and risk today

22. Real (inflation adjusted) bond returnsaverage 4%Source: AWealthofCommonSense.com

23. The benefit of a diversified portfolio

24. Rebalancing is critical to a successful strategy and removes emotional decisionsRebalance when: • Annually • When new funds become available • When funds are removed • Markets tend to over and under shoot – don’t want to limit upside

25. Quiz True or False • The US S&P 500 has had historical returns of over 9% per year including dividends. • A negative 2 year bond – 10 year bond interest rate spread has predicted the last three stock market crashes. • Market timing produces consistent market beating returns. • Rebalancing of assets back to the original portfolio strategy allocation forces you to sell high and buy low. • Warren Buffett’s company Berkshire Hathaway currently holds over US$ 100 billion in cash because Buffett cannot find suitable investments.

26. 3. Fees & taxes erode performance

27. Costs seriously erode your gains • Market returns predicted to average 6-7% • 2% MER for managed mutual funds + 2% inflation leaves you 2-3% • Taxes take another 20-54% in non registered accounts

28. Projected investment returns • Some of the country's top financial minds think you should expect to make 6.3-per-cent a year in Canadian stocks over the long term and 3.9 per cent in bonds. • Rob Carrick, Globe and Mail, June 5, 2017

29. How 2% fees erode your gains over timeAfter 10 years, you could have 16% more, after 20, 44%

30. Why it is so hard to beat the market • More mutual funds and ETFs than stocks – 9500 funds in the U.S. in 2016 vs 4000 listed companies. • Fees – Canadian Mutual Fund fees some of the highest in the world • Active average 2.17% vs 1.2% in U.S. • SPIVA • Trading costs • Many funds have 100% turnover per year • Taxes • High turnover = high taxes

31. Most Canadian managed mutual funds underperform their Index • SPIVA research: % of funds beating the index over 5 and 10 years 5 years 10 years Canadian equity 10 11 Canadian dividend 40 0 US equity 7 2.5 International equity 10 5 As of June 30, 2018 www.ca.spindices.com

32. Buffett’s Index Bet Pays Off • Warren Buffett bet $1 million that an index fund would beat a basket of professionally chosen hedge funds over ten years • Buffett chose Vanguard’s S&P 500 index ETF (VOO) • He won the bet this January and donated the proceeds

33. Active (Managed) versus Passive (Index) Investments • Active Management: • Paying someone to select stocks or other investments • Goal is to beat the Index • Can be in a Mutual Fund, Exchange Traded Fund (ETF) or Personal Account • Passive Management: • Buying all of the stocks or investments in an Index • US = S&P 500, Russel 2000 • Canada = TSX 300 • Rest of the developed world = EAFE • Emerging Markets • Bonds • Preferreds

34. Index (passive) funds have lower fees and taxes • Typical Canadian equity Index MF fee is 1% or less • Index ETF fees are lowest: .05% • Passive (Index) funds now equal 15% of U.S and 5% of Canada markets • G&M January 27, 2018

35. John Bogle, the father of Index Investing • “In investing, you get what you don’t pay for. • Costs matter. So intelligent investors will use low-cost index funds to build a diversified portfolio of stocks and bonds, and they will stay the course. • And they won’t be foolish enough to think that they can consistently outsmart the market.”

36. Mutual Funds versus Exchange Traded Funds (ETFs) • Mutual Funds can be Active or Passive • Sold through brokers or financial advisors • Usually have annual trailing commissions up to 1% • Fees can be high: • .5% - 2.5%+ • ETFs can be Active or Passive • Sold like stocks through brokers • No trailing commissions • Often half the fees of an equivalent Mutual Fund: • .05% - 1%

37. Exchange Traded Funds (ETFs)have lowest fees and taxes • ETFs are mutual funds sold like stocks • Active ETF MERs range from .50 – 1.0 % • Passive (Index Tracking) ETF MERs range from .05 - .50 % • Passive funds do little trading, so produce little capital gains tax • See: Rob Carrick’s ETF Buyers Guide, Globe and Mail

38. Canada’s big banks are plotting to dominate the ETF world • 2010, 91 per cent of investment funds went into mutual funds, • 2018, over 50% per cent of fund sales are going toward ETFs • Canadian Banks and major Mutual Fund companies are all creating ETFs, many active with higher fees • As usual, financial service industry taking a good idea and making it into a money maker – for them • RBC & I Shares ETF joint venture • Soon ETFs will be available through Bank Branches

39. Your bank “Advisor” may not be your friend • Bank Advisors are basically salespersons with no investment qualifications • An “Advisor” is NOT a “Financial Adviser” • The majority of bank managed mutual funds underperform the market because of fees • All Canadian banks offer Discount Brokerage services online

40. Effective Ontario marginal tax rates after age 65 by type of income (including clawbacks)

41. Tax benefits of dividends and capital gains • Dividend tax rate = 70% or less of interest or income rate, depending on tax bracket • Effective after tax Dividend yield = 1.2-1.3 or more times interest income • Capital Gains = 50% of interest or income rate, depending on tax bracket • Effective after tax Capital Gain yield = 1.4-1.5 times interest income

42. US$ income poses unique issues • US dividends taxed like regular income • US withholding tax 15% in non retirement accounts (incl TFSA and RESP) • Solution- Canadian listed companies that pay US$ dividends if held in US$ side of account (Banks, pipelines, miners) • Brokerage accounts offer both US$ and C$ sides (except RESPs) • Result: US$ income at no tax if held in a TFSA & no exchange fees when US$ needed

43. Quiz True or False • Canada has some of the highest Mutual Fund fees in the world. • Active management of specialty sectors can sometimes beat passive (index) investing. • Between $46,000 and $75,000 taxable income, the income tax on Canadian dividend income in Ontario is 9% versus 33% for interest income or RIF/RSP withdrawals. • US Dividend Income is taxed at the highest tax rate, the same as interest income. • A number of co-listed Canadian companies (Banks, Pipelines, Resources) pay Canadian dividends in US$ if held in the US$ side of an investment account.