Index Investing Downsides

Even though I do Index Investing (mostly) I do realize that with all investing plans there are downsides. I read an interesting article in the Kiplinger magazine (by Elizabeth Leary) that talked about the obvious Index Investing downside, you are investing in the Index. In these raucous days of market corrections, this is a concern to Index Investors

The best quote from the article is:

“By definition, index funds guarantee that you will suffer 100% of the next bear market’s decline,” — Jim Stack, president of InvesTech Research.

Given  you are an Index Investor, you already knew that, but for others the subtleties of the statement is lost. When the Indexes are in a Bull Market, you enjoy the low MER and growth, but when the Bear Market comes (and it has?) you will feel the brunt of the market drop. The argument that actively traded funds make are that they can react quicker to market corrections.

Index Investing

Both of those statements are true, but the losses you incur from Actively Traded funds MERs are usually not mentioned (especially during Bull Markets, so you lose some of your profits). Do all actively traded funds manage to stop-loss during market corrections? No (some do), and some might argue they are some of the market forces that cause the market corrections.

The other point folks forget is that the “Yard Stick” that most Index Funds use correct themselves as well. The S&P (and others) regularly update (add and drop) stocks from their Indexes, depending on what the Index is tracking. They don’t typically do this during a market correction, but the “bad apples” do eventually go away.

Ms. Leary points out that if you buy into the argument about Indexes and how active traders can be more nimble, you are assuming that your Mutual Fund manager are smart enough to deal with rapid market changes. This is a very big assumption to make, you must choose the wisely managed Active Trading Mutual Funds or risk being worse off than if you simply use well-defined indexes. The hard part is figuring out which funds are the wisely managed nimble ones.

My Opinion

I will stick with index investing for now. I tried to be an active investor myself and lost enough money to realize that Market Timing is not possible for an individual investor. Are there Actively Traded Mutual Funds that beat the market (i.e. out strip the Indexes)? Yes, however, it is interesting that it is rare to find any that can make that claim over 10 years.


Investment Risk Profile

As part of the opening of an investment account, usually, you must answer a set of questions finding out how risk-averse you are, called the investment risk profile. Different investment firms have different questionnaires, and this is standard for Mutual Fund based investment firm. The assumption seems to be if you are opening a stock market trading account where you can buy stocks or anything else, you love risk.

Investment Risk Profile

The irony of these questionnaires is that if you answer honestly most folks end up in a balanced environment, because rarely will people answer yes to questions like:

  • Do you enjoy running in the hallways  with  knives?
  • Does bungee jumping from  a hang glider  sound cool to you?
  • Have you ever held more than 30 lit sparklers at once?

Most of these questionnaires are biased towards pushing investors into the Balanced (and usually higher management fees) funds.

The irony for me is that when I did these questionnaires with TD Mutual Funds, I ended up with a “Balanced risk-averse profile”. This makes sense as I have been burned many times with Nortel and other investments that I have made. The irony is that if I then say, “But I want to invest in the E-series funds“, I am told those are very risky. My opinion is risk has little to do with it, the investment councillor does not  make as much selling the E-series funds is the  only risk I can see.

Usually I have to argue for a while with the investment councillor, who will eventually say, “OK if you want to buy these funds I will have to change your profile”. Suddenly I love risk, and I am allowed to buy the E-series funds. To celebrate I start using a straight razor to shave myself in the mornings.

Sometimes TD has blocked purchases, in fact, more than once,under the guise of saying, “Your profile says you shouldn’t buy these funds”. The other angle is that you need to redo the questionnaire every few years, in case you become an out of control risk-lover.

What is the Point of These Profiles

Why do these questionnaires exist? I have already stated the bias aspect (i.e. drive customers into higher MER funds), but my guess is that lawyers have mandated them. If I now return to TD and say, “Why did you let me invest in this crap?” they will simply pull out my investing profile and say, “You love Risk, so we let you cut your nose off to spite your face”.

As usual this is another: follow the money, and remember the lawyer’s, situation in financial planning.


RESPs and High Fee Mutual Funds

RESPs and high fee mutual funds seem to go hand-in-hand in Canada. Most RESPs, are set up with an “adviser” of sorts (usually at a bank), who makes helpful suggestions as to where your money should go. The question to ask, who profits from this advice? Sometimes both adviser and investor, but always the adviser.

Mutual Fund companies want you to buy high MER funds for 18 years, so they can profit from you. This does not mean RESPs and high fee mutual funds are inevitable.

High Fee Mutual Funds

Whether your investment goals succeed is not their goal. Their goal is to extricate as much money from you in fees and increase their profits. Mutual Funds are businesses, sometimes with shareholders, and employees who want bonuses, remember that and you will be fine. Who and how are profits made, is always the question to be answered.

I have friends ask me about RESPs, as they are aware that my kids have graduated from University, so they ask if I used the  program. My answer is yes, but  I start with warning them that when I set up these accounts they were Canada Trust Mutual Fund accounts. The CT Mutual Funds turned into TD Mutual Funds, but it was not until later that I learned about the TD E-series funds I should have used (and the bear trap in using them).

The typical answers or comments that I get (that really cause my gears to grind) are:

  • I talked to my Manulife One guy and he helped set up the account for us.
  • While I was at the bank, I saw an adviser who set up some RESPs.
  • My insurance broker said they had a really good product for RESPs so I had her set it up for
  • Someone told me about these great Group RESPs, sounds like a great idea I usually go for a beer after hearing this stuff, and sometimes I just weep.

Let’s unwrap these malodorous gifts, first, your Manulife One guy is going to put you into Manulife Mutual Funds because that is where he (or she) makes their money. These funds have MERs that are far too high for a shorter term savings program like the RESP.

The same is true for your local bank. I once mentioned the TD E-series funds to my Bank’s “TD Mutual Fund Expert”, she looked them up and said that she couldn’t  actually  sell me those  funds. I asked why, the  answer, “they don’t let me”. So TD doesn’t allow their “Mutual Fund Expert” sell some  of their Mutual Funds? In fact you can buy only their I-series in your account, you cannot access their E-series, D-Series, O-series or any other unless you have a TD Trading Account).

Your insurance company’s RESP is going to be closed and the only thing you can buy is their High MER funds. I hope you are noticing a great deal of repetitiveness here.

The Group RESP thing, I had to go look up and then almost cracked a tooth while clenching my teeth. Group Scholarship trusts are throwbacks to before the day of the  RESP. They can work for folks, and their forced savings is a good thing for many folks, but read all the rules very carefully. What are the penalties if you take money out quickly (or early)? Are there penalties if your child doesn’t go to post­ secondary school? What are the rules about what is a post-secondary education.

If I could just hand someone a simple outline like say this article, this article or this article, I would, but I guess no one writes about RESPs much? Yes, that is sarcasm, why do people spend more time worrying about what organically grown kale they want to  buy, than this important  investment?  Rhetorical  question, don’t  answer that.

Are RESPs a Good Idea ?

An RESP is a great idea for your kids’ education, but don’t jump at the first one you see. Do some research; know what you are buying and how much it is going to  cost you. Mutual Funds and other associated firms are hoping you get confused in terms of how much you pay in management fees. It can get confusing especially with the grant money going into the account which can muddle your figures. Your goal is trying to pay the least in fees, and maximize your growth and grants received.


Wanting the Big Piece of Chicken in the Financial World

Michael James, inspired me to write another rant/commentary on the financial industry. He wrote about Mouths to Feed in the Financial Industry and it reminded me of a very funny monologue by Chris Rock: Bigger and Blacker (Amazon Link) about how Fathers don’t ask for much in life:

What does daddy get for his hard work? The big piece of chicken at dinner! My mamma would kill us if one of us ate the big piece of chicken by accident!

Daddy's piece of chicken

That is a BIG piece of Chicken

What does this have to do with the Financial System? Everybody in the financial system thinks they are Daddy, they all want the big piece of chicken.

  • Mutual Fund managers want you to pay the front-end, back-end and high MER fees because they are doing that much work to invest for you. That is a whole chicken, not just part of it.
  • Banks think they are the Daddy, just for taking care of your money. There are banks in Europe giving negative interest on your money. The money shrinks if you leave it in the bank.
  • Any Cell Phone Company (in Canada) is your Daddy, how much do you think their service really costs, but they are making sure you get quality service.
  • Internet Service Providers are plumbing, but they want a big piece of Chicken for the way they count your packets (and charge you if you use too many)

Let Daddy have that big financial piece of chicken? No way! They get enough, without taking the big piece of chicken too!

 Image courtesy of piyato. at



Is Your Toilet Flushing Hot Water ?

That is a very odd title, but it did happen. My Brother had just moved into a new town-home complex, and there were a few idiosyncrasies that he found in his new place, but he didn’t notice this issue for a little while after moving in. He really only noticed one day when he sat down and noticed the warmth emanating from the commode, and only then realized that his toilet was connected to the hot water system for his house (not a huge issue, but it would waste a little money for a long time).

toilet flushing hot water

No, it wasn’t that hot

Financially Flushing Hot Water?

Are you flushing hot water in your financial world? How many fees are you paying that you are unaware of, or worse, are ignoring? What kind of fees am I commenting about?

  • Bank fees, do you still pay those? There are so many banks that offer zero fee accounts, why are you flushing that hot water (money) down the toilet?
  • Entry fees, exit fees and high MER Mutual funds? Seriously, how many times do we (pretty much everyone writing about investing) have to write about this topic? Evidently, we have not hit the maximum count yet. They are called Index Funds, look it up.
  • What are you paying in Insurance rates? Are you shopping around? Remember that insurance is only for ” … in case stuff happens …” (to paraphrase Chris Rock).  If you are overpaying for insurance your money is flushing away.

Am I missing any other Financial Toilets that flush hot water ?


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