Archive | 2013

A Monte Carlo Case Study: Can I Retire Early?

Last week’s post about Monte Carlo simulations in financial planning sparked some interesting comments, so I thought a case study would help readers see how they work. Our real-life example comes from a past client of PWL Capital’s DIY Investor Service: the details were supplied by Justin Bender with the client’s permission.

Laura is 57 years old, single, and earning about $68,000 a year with expenses of $37,500. She socks away about $14,000 annually and has accumulated $330,000 in her RRSP and TFSA, as well as a rental property worth about $250,000. She has a defined benefit pension through her employer, though it is not indexed to inflation, and she’s eligible to receive full Canada Pension Plan and Old Age Security benefits in retirement.

Her investment portfolio was not very efficient: about a quarter of it was sitting in cash, and much of the rest was in narrow sector ETFs, individual stocks and corporate bonds. Some of the ETFs were in the wrong account types, resulting in unnecessary taxes.

Before Justin could rebuild her portfolio, however, he needed to make sure it was aligned with her financial goals. Laura’s primary objective was to determine whether she could retire before age 65—perhaps as early as 60—so she needed to know whether her investments would be able to generate enough cash flow after she quit work.

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Planning to Drive a Monte Carlo

One of the lessons I’ve tried to stress is that investing is not about choosing the right products. ETFs changed the game by giving the little guy sophisticated and low-cost investment tools—no doubt about that. But the fact is, whether you choose this fund from iShares or that one from Vanguard will likely have zero impact on your overall success.

That’s why I was pleased to read Chapter 4 of Larry Swedroe’s new book, Think, Act, and Invest Like Warren Buffett. The chapter is called “The Need to Plan: It’s Not Only About Investments,” and it explains why we need to look at the bigger picture.

“There is evidence showing the biggest drivers are your spending rate, your savings rate, and how long you work,” Swedroe told me in a recent interview. “They influence the outcome far more than an extra 1% return you might get if you are a brilliant investor—and we know active investors would kill for 1% or 2% of alpha. When you run a Monte Carlo you can see how much more important these factors are.”

What’s a Monte Carlo?

Running a Monte Carlo doesn’t mean driving a classic Chevy coupe.

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What Would Buffett Do?

When I set out to educate myself about investing, Larry Swedroe was one of the most influential authors I encountered. What I loved about his books (including The Only Guide to a Winning Investment Strategy You’ll Ever Need and, more recently, The Quest for Alpha) was that every argument was backed up by academic research.

So I was surprised to see his latest book, Think, Act, and Invest Like Warren Buffett, is a slim volume with only a few scattered footnotes. And knowing Swedroe’s passion for passive investing, I wondered why his title invoked the world’s greatest stock picker. I recently had the pleasure of speaking with Larry Swedroe via Skype, and he shared the backstory:

“I’ve learned over the years that relatively few people are interested in the evidence and the data. Maybe 10% of the audience wants that stuff: engineers love my other books, and they wouldn’t like this one. Then there are those you might call investment geeks who want all the research, and they will even read the original papers. But for the vast majority it’s, ‘Just tell me the answer,

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Revisiting the Couch Potato Model Portfolios

Before we get too deep into the new year, I’ve decided it’s time to review my model portfolios. Regular readers will know I’m reluctant to tinker with the portfolios, since new ETFs are launched all the time, and jumping from fund to fund is a bad idea for several reasons:

Transaction costs. It will cost you two trading commissions to sell an ETF and buy a replacement, and you’ll also lose a little more on the bid-ask spread with each trade. If the new ETF is only a few basis points cheaper, the cost of switching may not be worth it.

Tracking error on new products. When an ETF is created, its start-up costs are often borne by investors. As a result, a new ETF can take a year or more before it starts tracking its index closely. A low-fee fund may still have a larger tracking error until it builds some economies of scale.

Taxes. If you’re planning to switch ETFs in a non-registered account, selling your existing fund might generate a significant taxable gain. It doesn’t make sense to pay a lot in taxes to save a little in fees.

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Does a 60/40 Portfolio Still Make Sense?

For as long as I can remember, the traditional balanced portfolio has been 60% equities and 40% bonds. Indeed, all of my own model portfolios use that overall asset mix as a starting point. But a lot of industry folks are arguing that a 60/40 blend no longer makes sense.

In a recent article from the Associated Press, one fund manager put it this way: “One reason I’m skeptical about 60/40 is that it’s probably not aggressive enough, at least for a 40-year-old investor. You need to invest more in assets that are riskier than bonds if you want to meet your investment goals without having to save an extremely large percentage of your income.”

Historically, there’s no question this allocation served investors well. According to Vanguard, a portfolio of 60% stocks and 40% bonds would have returned 8.6% annualized from 1926 through 2011. Even if you subtract a full percentage point for costs, that rate of return would have been adequate to meet any reasonable retirement goal.

But that figure is based on an 86-year period where bond returns averaged 5.6%. In Canada, a diversified bond portfolio returned over 9% annually during the last 30 years as interest rates trended steadily downward,

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Updated Couch Potato Report Card

Last week I announced the 2012 returns for my model portfolios. Now it’s time to present the updated longer-term returns of the portfolios, with data provided by Justin Bender. This information covers the 15 years from 1998 through 2012:

Global Couch Potato (ETFs)
Complete Couch Potato

1 year

3 years

5 years

10 years

15 years

Standard deviation

Note these returns use actual ETF performance wherever possible. However, none of the funds has a 15-year track record (a few have been around for less than five years). So we have filled in the gaps using index data, minus the MER of the relevant ETF. It’s certainly not a perfect measure (no backtest is perfect), but it’s a reasonable proxy. Full details are provided in the PDF document, which is also linked on the model portfolios page.

A few observations about these numbers:

As I’ve discussed before, start and end dates mean an awful lot. Unlike the returns for the decade ending in 2010, the 10-year returns now look quite good—so much for the “lost decade,” which only applies when your start date is during the tech wreck of 2000–01.

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Couch Potato Portfolio Returns for 2012

I think we can safely say we are now almost four years into the most disrespected bull market in history, to borrow a phrase from Alexander Green. In a recent roundtable in The Wall Street Journal, the moderator opened the discussion by saying, “It’s been another very difficult year for investors.” Um, really? US stocks were up over 16% in 2012, and international equities did even better. If that’s a difficult year, I can’t wait for an easy one.

Indeed, last year was much kinder to investors than 2011, when the Complete Couch Potato returned just 2.36% and most of my other model portfolios did worse. In 2012, all of the model portfolios delivered remarkably similar performance, with returns between 8% and 9%.

The data below were gathered from fund websites whenever available: otherwise I used Morningstar. Returns for US-listed funds are expressed in Canadian dollars. Consider these unofficial results: when I have all the necessary data I will update the long-term Couch Potato performance report card. [Note: The updated report card is now available.]

Global Couch Potato (Option 1)

iShares S&P/TSX Capped Composite (XIC)

iShares MSCI World (XWD)

iShares DEX Universe Bond (XBB)


Global Couch Potato (Option 2)

TD Canadian Index – e (TDB900)

TD US Index – e (TDB902)

TD International Index – e (TDB911)

TD Canadian Bond Index – e (TDB909)


Global Couch Potato (Option 3)

RBC Canadian Index (RBF556)

RBC US Index (RBF557)

RBC International Index (RBF559)

TD Canadian Bond Index – I (TDB966)


Complete Couch Potato

iShares S&P/TSX Capped Composite (XIC)

Vanguard Total Stock Market (VTI)

Vanguard Total International Stock (VXUS)

BMO Equal Weight REITs (ZRE)

iShares DEX Real Return Bond (XRB)

iShares DEX Universe Bond (XBB)


Yield-Hungry Couch Potato

iShares S&P/TSX Cdn Div Aristocrats (CDZ)

iShares DJ Canada Select Dividend (XDV)

iShares Global Monthly Adv Dividend (CYH)

BMO Equal Weight REITs (ZRE)

iShares S&P/TSX Preferred Stock (XPF)

iShares DEX HYBrid Bond (XHB)

iShares Advantaged US High-Yield Bond (CHB)

iShares Advantaged Canadian Bond (CAB)



iShares Canadian Fundamental (CRQ)

iShares S&P/TSX SmallCap (XCS)

Vanguard Total Stock Market (VTI)

Vanguard Small Cap Value (VBR)

iShares MSCI EAFE Value (EFV)

iShares MSCI EAFE Small Cap (SCZ)

Vanguard Emerging Markets (VWO)

SPDR Dow Jones Global Real Estate (RWO)

BMO Mid Federal Bond (ZFM)

BMO Short Corporate Bond (ZCS)


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Calculating Foreign Returns in Canadian Dollars

Global diversification was a huge benefit to investors in 2012, as Canadian equities lagged well behind the rest of the world. Two core funds in the Complete Couch Potato are the Vanguard Total Stock Market (VTI) and the Vanguard Total International Stock (VXUS), and last year these funds delivered returns of 16.40% and 18.22% respectively.

But these figures are misleading, because they’re expressed in US dollars. A Canadian investor is likely to be more concerned about how their US-listed ETFs performed in terms of our own currency. And that information isn’t easily available, so you need to do the math yourself. It’s a two-step process:

1. Determine the annual change in the exchange rate. Your first step is to learn how much the value of $1 USD changed over the year. That means looking up the exchange rates on December 31 of both 2011 and 2012. There are several sources for these data, but I’ve used If you use another (such as the Bank of Canada or OANDA) you’re sure to get slightly different numbers: there are noon rates, closing rates,

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An Interview with John De Goey

On Monday, the UK implemented new rules banning embedded commissions on investment products. We’re still many years away from that in Canada, but it’s not for lack of effort on the part of John De Goey. For a decade now, the associate portfolio manager at Burgeonvest Bick Securities in Toronto has been a thorn in the side of the industry. Like almost all his contemporaries, De Goey started out selling mutual funds with deferred sales charges, but later become one of the early adopters of the fee-based, no-commission business model.

I chatted with John about his recently published book, The Professional Advisor III: Putting Transparency and Integrity First, a passionate plea for changes to the advice industry. Here’s an excerpt from our interview.

The first two editions of your book were published back in 2003 and 2006. A lot has changed in the investment industry since then.

JDG: When I wrote the first two editions, I knew more people in the advisor media—Advisor’s Edge, Advisor’s Edge Report, Investment Executive—and they were the ones writing about the book.

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