Private Counsel Portfolio ManagementSimple + Modern

Frustrated Investors


ARE YOU FRUSTRATED?

The Index House is passionate about helping frustrated investors achieve better results by applying good consumer and investor practices.

Frustrated investors say…

  • The world is more volatile.
  • I no longer trust the stock market and the economy in general.
  • I do not want to take risk.
  • I am frustrated by my investment returns.

Our response…

  • If the world is more volatile…what changes are you making to defend yourself?
  • Your returns may not seem good, but do you know what they are?
  • Are you aware of the significant costs and inefficiencies in your portfolio?
  • What are you doing? Is your strategy achievable?

In my experience investor frustration is a function of two things:

  • The unpredictable nature of investment markets and returns.
  • Poor consumer practices.

We obviously have control over only one of these. Better investment results require you to think and invest differently, which begins by choosing an achievable strategy.

Frustrated Investors should ask…

1. Am I trying to beat the market?

The Index House recognizes how difficult it is to accurately and consistently predict the best securities (stocks, bonds, mutual funds, etc.), which money manager will outperform, or when to be in or out of the market–as is the traditional approach to managing portfolios. Really, what does your advisor know that every other advisor doesn’t or couldn’t know?

If traditional efforts don’t produce more than market returns do, why bother with all the research, recommendations, and transactions? Exactly. That’s why The Index House takes a modern, non-predictive, indexing approach to managing client portfolios.

Fixing broken portfolios begins with the realization that producing returns that are greater than the market is difficult while achieving the market return is relatively easy. Better investment results require you to think and invest differently, which begins by choosing an achievable strategy.

The Index House offers:

  • Market returns without relying on predictions
  • Less risk by reducing or eliminating uncompensated risk
  • Lower fees that are disclosed at inception and throughout our provision of services
  • Less tax by aligning investment incomes with your account types
  • Better reporting by disclosing returns, fees, and holdings quarterly

2. Do I know my portfolio return? Am I outperforming or underperforming?

You may not be happy with your returns, but do you really know what they are? Very few investors know their portfolio return over any time period.

Investors should insist on a single consolidated rate of return–after fees are deducted–for all accounts quarterly, yearly, and since inception.

Portfolio returns will be lower during market declines and higher in years when markets rise, but how do you know if you’ve done well or poorly? How can you tell if you should keep doing what you’re doing or change strategies?

Comparing your portfolio to common benchmarks is the best way to assess its performance. If investors actually did this, it would become crystal clear that they are not capturing the full potential of the market over time. In other words, they are leaving precious money on the table!

Common Benchmarks:

S&P TSX Composite Index: This index consists of approximately 234 Canadian companies chosen from 10 industries. It is an indicator of Canadian stock market performance.

S&P 500 Index: This indicator of U.S. stock market performance consists of approximately 500 U.S. companies. It is one of the most widely followed stock market indices and considered the leading indicator of the U.S. economy.

Russell 3000 Index: This index measures the performance of the largest 3000 U.S. companies representing approximately 98% of the investable U.S. equity market.1

Morgan Stanley Capital Index, (MSCI EAFE): This index is a sampling of 1,500 small, medium, and large capitalization stocks selected from the stock exchanges of 22 developed countries located in Europe, Australasia, and the Far East. It measures stock market performance from developed countries around the world, excluding securities from Canada and the U.S.

MSCI Emerging Markets Index:This index measures the stock market returns of 26 emerging market economies around the world: Argentina, Brazil, Chile, China, Colombia, Czech Republic, Egypt, Hungary, India, Indonesia, Israel, Jordan, Korea, Malaysia, Mexico, Morocco, Pakistan, Peru, Philippines, Poland, Russia, South Africa, Taiwan, Thailand, Turkey, and Venezuela.

DEX Universe Bond Index: With over 1,000 bonds represented, this index has broad representation from investment-grade bonds issued by Canadian companies and by government-sector issuers. It is an indicator of Canadian bond market returns.

3. How much am I paying in fees? Am I even aware of all the types of fees that I pay?

What have you paid in the past for the management of all of your accounts? Few investors know this. Pat yourself on the back if you do! The investment industry doesn't necessarily hide this information, but they rarely total it up for you either. You keep the return that is left over after those fees, so it's in your best interest to know this information.

Did you know about the charge associated with mutual funds: the "management expense ratio" (MER)? What about the "trading expense ratio" (TER), which is charged in addition to the MER? Did you know that bond trades include a fee that is not reported on your contract? Ever notice that new issues you purchased at $10 per unit "without a commission" begin trading at $9.50?

Wise consumers know costs and fees directly reduce investor returns. All-in costs as high as 3% of your money invested is a primary reason that investors achieve weak results.

4. What is my advisor doing to reduce tax on investment returns?

Improperly structured portfolios and frequent trading create unnecessary tax, which further reduce investor returns.

Taxes resulting from portfolio turnover can cost more than commissions or management fees. John Bogle, founder of the Vanguard Group of Index Funds, estimates the average (hidden) cost of mutual fund portfolio turnover to be between 0.5 percent and 1.0 percent. He believes that all actively managed mutual funds should carry the following disclosure.

“The fund is managed without regard to tax considerations, and given its expected rate of portfolio turnover, is likely to realize and distribute a high portion of its capital return in the form of capital gains which are taxable annually”2

The solution for frustrated investors is to minimize trading and to structure portfolios in such a way as to minimize costs and taxes.

5. How am I protecting my portfolio against wild fluctuations in value?

If the world is more volatile today, how have you changed your approach to investing? Modern portfolio theory (or MPT)3 is about minimizing risk. Introduced by Harry Markowitz in 1952, this theory says that it is insufficient to look at investments in isolation, such as is done by the traditional approach of security selection. Rather, you will get better returns and take less risk if you seek out combinations of securities, or "efficiently diversified portfolios."

Most frustrated investor portfolios are merely a collection of investments rather than a properly diversified portfolio. Don’t confuse investments that make you feel comfortable with a diversified portfolio.

6. Do I encourage conflicts of interest?

Are you paying for advice or for transactions? Advisors who charge a fee per transaction may be tempted to move your money more often than do those who charge for advice. Paying a fee for advice, in contrast, removes this temptation and aids transparency.

To minimize the potential for such conflicts of interest, it is important to work with an investment counsellor who charges a disclosed fee for advising you, managing your portfolio, and properly reporting results.

7. Do I have an Investment Plan?

Do you make investment decisions according to what looks good at the moment? Such purchases are opinions that are influenced by emotion or bias rather than wisdom. A predetermined, diversified, carefully considered, long-term investment strategy is preferable. Here’s why:

In studies of investor behaviour, investor returns were significantly lower than the returns of the mutual funds in which they were invested. How could this be?

From 1989 – 2008, the average U.S. Equity mutual fund earned a yearly return of 5.50%, while the average investor in those U.S. Equity mutual funds earned a mere 1.87% per year4. Investors sabotaged themselves by trading too often or at the wrong time. It's no surprise that mutual fund holding periods are in decline. It is estimated that investors held a mutual fund for an average of 2.9 years in 2000 down from 5.5 years in 1996. Frequent trading helps the investment industry and less so the investor.

Here’s the kicker. Over the same time period the S + P 500 index earned 8.40% per year.

An Index investor with a disciplined investment plan captures the full return of the market and significantly outperforms the average mutual fund return and their undisciplined followers.

Here in lies a kernel of investor culpability. You blame the investment industry and you say markets are too volatile yet; you keep doing the same thing, getting the same result.

You allow advisors to make predictions with your portfolio when common sense and our experience tell us predictions are often wrong. You take too much risk. You manage your accounts separately, without a plan, and you don’t even know what you’re earning or what it costs.

Most successful businesses know their yearly revenue and what it cost to earn it. Yet individual investors often approach their life savings like they would a hobby rather than like a business worth managing properly. Poor consumer practices yield poor portfolio results.

Better results require you to think differently and invest differently. The Index House offers frustrated investors a sensible solution to the high cost, predictive approach of traditional portfolio management.

Six Steps to Better Results:

  1. The Index House works with each client to determine your reason for investing.
  2. We will recommend an appropriate mix of asset classes for your portfolio, according to modern portfolio theory and your unique situation.
  3. We will provide you with a game plan called an investment policy statement, which documents Steps 1 and 2 and describes how your portfolio is to be managed. This eliminates guesswork and rushed decisions.
  4. We will implement the asset mix safely and efficiently by researching and purchasing the appropriate index fund.
  5. The Index House is responsible for managing this portfolio. Periodically, we will rebalance the holdings in order to maintain the customized asset mix.
  6. We will send you a quarterly portfolio report, which outlines current holdings, their market and book values, the customized asset mix, rates of return (after fees are deducted), and fees. Monthly statements are available from the custodian, which also provides online access 24/7/365.

footnotes

  1. Russell Indexes:  http://www.russell.com/indexes/data/fact_sheets/us/russell_3000_index.asp
  2. High Standards of Commercial Honor, John Bogle, p. 225
  3. Harry Markowitz, "Portfolio Selection", The Journal of Finance, Vol. 7, No. 1 (New Jersey: Wiley-Blackwell, 1952), pp. 77-91, at http://www.jstor.org/discover/10.2307/2975974?uid=3739392&uid=2&uid=3737720&uid=4&sid=21101411859767
  4. Dalbar; Quantitative Analysis of the Investor Behavior 2009 Study. The QAIB study uses data from the Investment Company Institute, Standard and Poor’s and Barclay’s Capital Index Products to compare Mutual fund investor behavior with the returns of appropriate benchmarks over the period Jan. 1,1989 through Dec. 31, 2008.