I received some questions from a potential client based in Calgary recently; for the interest and edification of other potential clients, I am transcribing the questions and answers here:
What do you see as the advantages/ differences of investing in the fund or having my own account managed? I know the fees are higher for the managed account. I plan to invest under $100k I would be interested in your perspective. Since I am entering the market now is there an advantage today for one or the other?
The major advantage to an investment in the fund vs. a segregated account is size. Small accounts are difficult to trade, because the perils of a partial fill are magnified – the fund can, for instance, offer 4,000 shares at a certain price; if it only gets filled for 500, that still leaves enough of a position that it may be efficiently traded.
If a smaller account offers 700 shares and gets that fill of 500, that leaves the uncomfortable option of either changing the order to a market order – to clear out the position, but getting a worse price than hoped – or of keeping the 200 shares on the books, which will be relatively expensive to trade.
Do I have the fees correct 1% for the fund and 1.5% for managed account for an investment of under $100k?
Yes, your understanding of the fees is correct; but note that I cannot currently offer you a segregated account for an investment of under $100k due to registration expenses. You should also note that the fund also incurs expenses of (currently) 0.5% [which are deducted directly from the fund prior to calculation of net asset value and performance; thus, the returns quoted on my site are before fees, but after expenses].
How are paid dividends handled in the accounts? Do they get paid out as cash according to their schedule?
Subscribers to the fund may have quarterly dividends paid in cash or have them reinvested in the fund (the same option applies to the annual capital gains dividend – which, unfortunately, will be zero this year unless something dramatic happens in the next three weeks!). For a segregated account, anything is possible by arrangement.
The shorterm, medium term and long term future that you see for preferred shares? I know this is a loaded question, especially with the current credit scare in the market. I would be interested in understanding your perspective of today versus history. For example, looking at previous years performance of the fund, there are years that have a higher performance compared to other years I would be interested in understanding how the economic environment contributed to the performance that year or lesser performance in some other years? I’m trying to understand the economic environment in which preferred shares do well. Are the main factors – decreasing interest rates and an experienced manager who can buy and sell opportunities? Are there other factors?
If you ever come to a solid understanding of the economic environment in which preferred shares do well, tell me quickly what it is, because I’d love to know!
Joking aside, preferred should normally behave much like long-term corporate bonds. They should do well in times when long-term interest rates decline (which is a bit related, but not 100%, to a decline in short-term rates). They should do better than this base in an expanding, happy economy (as perceived default risk declines) and somewhat worse during times such as this year, when there are worries (exaggerated, according to me, but what do I know?) of mass defaults.
I know “timing the market” is not realistic, however, since this is my first purchase of preferreds, I am interested in understanding if this is a reasonable time to enter? Is there any obvious reason to wait or to enter immediately?
Given the current spread of the interest-rate equivalent of discounted perpetual preferreds to long-term corporate bonds (now about 210bp – that is, the average investment-grade PerpetualDiscount issue now yields the equivalent of the long-term investment-grade corporate bond index plus 2.10%, given a tax-equivalency factor of 1.4), I have to say that now looks like a more attractive time than normal. However, there is no reason that the spread couldn’t go to 310bp, which would cause underperformance of such an investment.I talked a bit about spreads in my blog at:
http://www.prefblog.com/?p=1394
According to me, a spread of 100-150bp is “normal” – whatever “normal” means!My advice is to come up with an asset allocation that makes sense for you over the long term and not vary it much – for instance, 60% stocks, 20% bonds, 20% referreds, with the stocks further subdivided by sector and geography; and all numbers based on how much risk you, personally, can live with, which will be based on both your portfolio objectives and your personal comfort with risk.
I would not adjust these allocations without a compelling reason; for instance, you might say your fixed income will be 50/50 bonds/preferreds when spreads are more than 100bp, but 75/25 when spreads are below this figure; with similar rules applying to your estimated long-term returns on stocks & bonds.
I cannot receive your preferred letter, as I reside in Alberta. However, I am curious: do individuals follow your recommendations and manage their own accounts or even for those that can get the letter, do you still recommend the fund?
A number of subscribers to PrefLetter are market professionals, who use the recommendations either as their primary source of recommendations to their clients or as a ‘second-opinion’ on their own or their firm’s views. (As a matter of fact, I had been toying with the idea of offering this service for quite some time; then a financial advisor with a national firm called me and demanded that I offer it!)
Others are individual investors who want full control over every aspect of their portfolio, but do recognize that advice from a specialist is a useful thing. Some individual investors have very specific portfolio objectives and risk tolerances that mean, really, that they are the only ones who can possibly manage the account.
From a perspective of pure returns, I recommend the fund since the market is examined constantly with fresh results from my analytical programme and trading is efficient.