Foresight - Summer 2023

On June 7^th the Bank of Canada (BoC) raised its key overnight lending rate 25 basis points to 4.75%. The move surprised market-watchers and quickly produced renewed forecasts for an impending recession in Canada. A tremendous amount of angst has been created by a .14 of 1% interest rate increase. Why did the BoC feel it was necessary to jolt the market with a largely unexpected interest rate increase? The most recent inflation data showed a slight uptick of .1 of 1%, which hardly warrants alarm, other than, technically, it moved in the wrong direction! The Canadian housing market is showing sign of resurgence. The Canadian labour market remains very strong, with historically low unemployment rates. The Canadian export market is strong too. A strong economy and strong jobs market sound pretty good overall! Accordingly, we find it difficult to believe that the BoC’s goal is to cool the economy down and see Canadian households unemployed!

In fact, we believe the issue resides on the Supply Side of the Supply/Demand equation. Whether it be housing, employees or materials, we just don’t have enough supply. With limited supply meeting robust demand, prices have only one place to go and that is up. This is a concern for the BoC, who is tasked with keeping inflation in check. It continues to have a difficult job ahead, convincing households and businesses to rein in spending (Demand) without causing the economy to tailspin into a recession or even depression. We believe the most recent rate increase (quite likely with another 25 basis point increase in July) is designed to throw a little cold water on this hot economy now, without having to resort to far tougher measures later if inflation accelerates.

For our portfolios, the increase in bond yields over the last year will have a significant positive impact for returns going forward. For far too long we have been receiving near-zero yields for short term bonds and cash, and only 1.5% for longer term bonds (See both Perspective articles inside). Today we are enjoying 4-5% across the bond curve from cash deposits (through High Interest Savings ETFs) to short term GICs and long term bonds.

Although equity markets continue to be volatile month-over-month, the trend is up year-to-date. Japan leads the way—up 22%, the US S&P 500 is up 12%, Europe up 10% and Canada lagging at up 4.2%. Although the US S&P 500 is still down approximately 8% from its all time highs set at the end of 2021, it is up 27% from the February 2020 then all-time highs set just before the global pandemic. Capital markets have provided very acceptable 3 year annual, compound returns for those investors who have remained patient and fully invested (See “More Perspective” article). Going forward, our strategy and discipline remain the same… stay fully invested and rebalance portfolios to each asset allocation plan as our monthly reviews identify. Most recently, we have been executing a sector rebalancing betwixt technology, industrial and financial services.

JUST FOR FUN

A.F.T. Trivest Management is pleased to announce the revival of our annual travel event, open to our clients and their friends. Trivest Travels will sail up the Nile, and visit Cairo and Petra through Egypt and Jordan. See the more detailed information enclosed with this issue.

 PERSPECTIVE

We tend to like NUMBERS...they look crisp and clean, and easy to help us create information from which we can form opinions. They can be daunting, too...251,681,994 is the HUGE number of kilometers to Mars. We recognize each of those digits; however we can’t begin to fathom how far that really is, nor can we understand what is involved in travelling to Mars! Thus, we are intimidated in trying to understand Mars. Next we see a much smaller, recognizable number, like 7.26, which turns out to be the percentage return on a portfolio: the report card on your portfolio’s performance distills to that one simple number. Because it is a much smaller number, we are instantly more comfortable understanding it. But do we really cognate what it means? We don’t see any ads enticing us to travel 251,681,994 kms to Mars. But the media bombs us daily with rate of return statistics, which we internalize to make judgments and decisions. How is my portfolio doing with 7.26%? And how is my future life going to unfold?

Turns out, that 7.26% isn’t just last year’s return ; it is the annual, compound return over 29 years of a real portfolio. Simplistically, building wealth over a life-time can be attributed to two things: making a habit of saving and believing in compounding. That “little” number—compounded over 29 years—caused the investor’s saving contribution of $225,000 to compound into $825,000 of portfolio income to total $1,050,000. That translates that his saving discipline contributed only 21% of that $1,050,000; the other 79% was portfolio income. So, we judge a LITTLE number – 7.26 - which is the cause of a BIG number—$1,050,000. Like preparing to travel to Mars, there are a lot of moving parts that drive that return of 7.26%….

Rates of return in the media

Bonds	Stocks
· What is the term to maturity?	· Is the return price-only? Or does it include dividends?
· How secure is the borrower?	· Is the security thinly traded?
· Are the funds liquid, or locked in to ·  maturity, or liquid with a penalty?	· If not listed domestically, the native return has to be adjusted to the currency of the investor
	· Is there a lot of fluctuation between the two cross-currencies?

Internal:

• What is your strategic asset allocation?

• How much tolerance for risk—and variability - is attached to that allocation plan?

• Were you fully invested throughout the period, or holding significant cash?

• What’s your inclination to hit the panic button?

• How much “design” is embedded in your portfolio? 

• Is 7.26 just the current year’s return? 2 years? 3 years? Investing life-time?

• What would it mean if that was your average, compound annual return every year across your entire investing life (as above)? 

• What mode are you in as an investor? Accumulating (meaning contributing saving to the portfolio), decumulating (meaning drawing money out in excess of portfolio income to fund life), sustaining (meaning drawing money out below the level of portfolio income) or stasis (meaning leaving the existing portfolio to grow on its own)

• Are you managing after-tax returns…”tax-smart investing”? Making use of tax deferred accounts (like RRSPs/RRIFs), tax-free accounts (TFSAs), marginal rate advantage (like kids’ RESPs and lower-tax rate partners). Understanding the two cornerstones of tax management– deferral and marginal rate advantage. Understanding the tax treatments of interest, dividends, capital gains, trust income and foreign-taxed income...as they are deployed across taxable, tax-free and tax-deferred investment accounts.

External:

• What is going on with interest rates-domestically, and world-wide

• This has a degree of correlation with inflation

• Both of these have correlation with foreign exchange rates

• Which has impact on the strength of economic activity

For 30 years, we have been accurately calculating annual rates of return for all of our portfolios. This has created a rich historical database. Three years ago, we tackled the complex task of separating the overall portfolio return into its two constituent parts: fixed income and equities. Due to the complexity, we decided to start building a database of twelve representative portfolios-one for each month-end in the year. Each of these have the total return parsed into the two components of their annual return.

This graph summarizes the data we have built since 2020. Each data point along the x-axis line graphs represents the one–year rolling returns (on the left scale), starting from January 2021 through March 2023 for: the combined return, the fixed income (D) portion and the equity (E) portion. The combined return is the result of the fixed income/equity proportions as shown in the bar graphs (and the right scale).

The first half of this period saw heady stock markets through, and despite, the advent of Covid: all hefty double-digits… leading to double-digit overall returns. The fixed income returns were 2-3% at the start of this period, but turned NEGATIVE in July 2021 and have remained so since. The hefty stock market returns buoyed the overall returns until March 2022. However, since then BOTH fixed income and stock market returns have been negative in half of those periods. This dual phenomenon has been extremely uncommon in almost one hundred years of investing experience, and occurred in 1931, 1937 and 1969. Since April 2022, the overall annual returns have been hovering around zero-to-small negatives (0% to –6%). The recent return to April 2023 climbed into small, positive numbers (3.15%); but more importantly, marked the first time since December 2021 that both fixed income and equities returned positive numbers! 

MORE PERSPECTIVE             

Last year in the Summer issue we reviewed clients who have an Annual Report with a fiscal period ending March 31st. Lets roll forward 12 months from then, when we last saw three interesting and diverse years from April 1, 2019 to March 31, 2022. Each of those years had its own story and each posted radically different annual returns...from slightly negative to hugely positive to fair-to-middling. The most recent year of 2023 was essentially a break-even zero year. The table below shows the simple annual return for each of those years, as well as the three–and five year,  annual compound returns, which are both reasonably robust, given all the worry-ladders that we have climbed. Note that these are returns on balanced portfolios…their proportions between fixed income and equities are shown on the far right.

 Annual compound:

—-——-———-—-March 31——————————-

Client	3 year	5 year	2020	2021	2022	2023	Allocation FI/E%
A	9.08%	5.05%	-5.30%	23.08%	6.77%	-1.25%	50/50
B	7.90%	6.26%	-1.01%	19.6%	3.98%	1.01%	35/65
C	7.85%	5.40%	-1.35%	18.97%	4.93%	0.49%	60/40
D	8.14%	5.34%	-2.24%	19.44%	4.66%	1.16%	50/50
E	8.22%	5.06%	-3.28%	19.19%	5.59%	0.71%	50/50

While oft-lacking in today’s world, the most important thing is the perspective of the long view (Read Richard Fisher’s excellent book of that title). The table above only visited the last five years for these investors. Lets look at the impact on their LONG term…. in other words, their long term, annual compound return. Client B has too short an investing history with us to be inciteful. Clients A and E have had mid-range histories and Clients C and D have had long range histories. The impact from these last four years has been minorly negative. 

Annual Compound Return:

Client	# years	To 2019	To 2023	Impact
A	14	7.35%	6.76%	-0.59%
C	23	5.97%	5.88%	-0.11%
D	28	6.92%	6.70%	-0.22%
E	12	5.67%	5.52%	-0.15%

The overall portfolio return is a blend of the two major components in the asset allocation plan: fixed income and equities. It is a complicated and time-consuming exercise to dissect the overall return into its two components.  Each month-end, we calculate it on a select portfolio in order to gain greater perspective on what is going on behind-the-numbers. Here is that data for Client A in the previous table.     

Client A	Total return (above)	Fixed income return	Equity return	Allocation FI/E%
2020	-5.30%	1.67%	-12.41%	50/50
2021	23.08%	2.63%	48.27%	55/45
2022	6.77%	-1.0%	13.3%	45/55
2023	-1.25%	0.49%	-2.34%	39/61