Fighting the new ‘normal’

Jonathan Chevreau, Financial Post · 

The topic of a “normal” retirement age is getting more than usual media attention lately because of the increasingly violent French protests about pushing theirs back to 62 from 60. Pity hard-working Germans, who retire at 65 but are being asked to wait until 67.

In the United States, normal retirement for Social Security purposes is already 67 for those born after 1959 [66 for those born between 1943 and 1954; 65 if born before 1938], but early reduced benefits can start as early as 62. Even then there are fears it can remain viable once the Baby Boomers retire en masse.

Here in Canada, there is no longer a mandatory retirement age. Until various provinces removed it, many otherwise willing workers were forced out the door at 65. That’s still considered “normal” retirement age by employer pensions. It is also the age Old Age Security benefits commence and the usual age to start receiving Canada Pension Plan (CPP) benefits.

True, you can take CPP as early as 60 (with reduced benefits) and many employers provide “early” retirement on their pensions, especially public sector defined-benefit plans. That’s the only place the pipe dream of Freedom 55 becomes reality, outside London Life commercials (or its successor, Freedom 55 Financial).

You can also delay CPP benefits to as late as 70. There will be more incentive to do so once new rules are fully in place in 2016. Early

CPPers once took a 30% benefits cut, while late CPPers got a 30% benefits sweetener (relative to taking it at 65). By 2016, taking early CPP at 60 will mean reducing benefits by 36%, while postponing it five years (to 70 from 65) will boost it by 42%.

BMO Retirement Institute director Tina Di Vito says the maximum monthly CPP benefit will be $1,326 for those who wait until 70, plus inflation adjustments. Compare to Social Security, which pays US$1,790 for those waiting till age 67 and US$2,370 for those who wait till 70, according to Vancouver-based financial advisor Adrian Mastracci.

BMO has released a report — When to Retire, Age Matters — that may cause Canadians to emulate Germany and keep working as long as possible. This is counter to a brief vogue when Canadians sought earlier retirement. In the 1970s, the median retirement age was 65, which fell to 60.6 by 1997. But it edged up to 61 in 2005.

Most public-sector workers can retire in their mid to late 50s, while those in the private sector keep going well into their 60s. No surprise that, as pension consultant Greg Hurst notes, 85% of public-sector workers have employer pensions, versus 25% for private-sector workers.

This is why the pension-less must save as much as possible inside RRSPs and TFSAs. But as financial planner Jim Otar shows in his books, private savings can soon be depleted, either by bear markets like 2008 or by withdrawing at too high a rate.

BMO ran a scary chart showing how $250,000 in an RRSP performs if you fully retire at age 55, semi-retire at 55 or keep working till 65. They assume conversion to an RRIF with withdrawals of $25,000 a year, taxable at 20%, investment growth of 6%, 2% inflation and life expectancy of 90.

Those who start drawing down an RRSP at age 55 run out of money by 65 (although OAS would then kick in and GIS if no other pension or investment income). Those who postpone withdrawals or keep adding to the RRSP run out of money much later or not at all, if markets co-operate.

Note the implied 10% withdrawal rate is more than double the “safe” rate of about 4% (adjusted to inflation) suggested by U.S. financial planner William Bengen. The only failsafe retirement plan is to “just keep working,” preferably adding to savings throughout rather than depleting them. This not only reduces the number of years money must last, but lets you save more and gives portfolios more time to grow.

Also, the longer you wait, the better your pension payouts, whether from employers or government. There are several proposals to broaden pension coverage, most based on enhancing the CPP.

Ms. Di Vito agrees with Morneau Sobeco actuary Fred Vettese, who argued in a paper that the simplest fix would be to raise — perhaps double — the base annual earnings on which CPP is calculated. Currently, it’s around $47,000. Doubling it to $94,000 would almost double benefits but not the required contributions from employees and employers.

Do that and Europeans will be directing their pension envy to Canadians.

Bank of Australia surprises with rate rise  Wayne Cole, Reuters  SYDNEY – Australia’s central bank surprised markets by raising its key cash rate to a two-year high of 4.75% on Tuesday, saying a modest tightening was needed as a pre-emptive strike against inflation.

The local dollar shot a cent higher after the Reserve Bank of Australia (RBA) lifted rates by 25 basis points at its monthly policy meeting. The central bank had already led the developed world in hiking 150 basis points between October and May.

“The board concluded that the balance of risks had shifted to the point where an early, modest tightening of monetary policy was prudent,” RBA Governor Glenn Stevens said in a statement.

Many investors had thought the central bank would skip a hike for a sixth straight month, given data out last week had shown core inflation had moderated to 2.5%, in the middle of the RBA’s long-term target band of 2 to 3%.

The move also stood in sharp contrast to loose policy in major developed nations and comes just a day before the Federal Reserve is expected to announce a fresh phase of quantitative easing in the face of unbearably high unemployment.

Yet Mr. Stevens said surging export earnings and a lack of spare capacity in the economy meant inflation risks ahead were to the upside, no matter the recent benign outcome. Analysts took this to mean further moves ahead, though likely not until February. Interbank futures fell sharply across the curve but showed only a one-in-10 chance of a move next month. The RBA board does not meet in January.

“The Reserve Bank’s capacity to surprise continues,” said Michael Blythe, chief economist at Commonwealth Bank. “At this stage we’ve got the next hike pencilled in for February and we’ve got the cash rate at 5.75% by the end of 2011.”

The pace of official tightening could be slowed by leading home lender Commonwealth Bank of Australia’s decision to raise its own mortgage rate by 45 basis points. Other major lenders are considered likely to follow, citing higher funding costs.

Mortgage rates have a big impact on spending power in a nation obsessed with home ownership and where over 90% of home loans are on floating rates.

“We’ll still get another four hikes next year, that hasn’t changed,” said Stephen Walters, chief economist at JPMorgan.

Homebuyer Tradeoffs: What Will You Have To Sacrifice?

When you’re buying a home, whether it’s your first home or your third, you want it to be perfect. Your home affects every aspect of your life, from your financial stability to things you do in your free time to the people you spend time with. It’s also probably the most expensive purchase you’ll ever make. Yet it seems like you always have to sacrifice something when buying a home. Here are the tradeoffs that homebuyers most commonly face. 

1. Location
   Location is the one thing you can’t change about most homes. Where you choose to buy affects the job opportunities available to you, your commute, your safety, the resale value of your home, where your kids will go to school, how much peace and quiet you will have and dozens of other things.

   Since location is so important, you might be thinking that your ideal location is something you should never compromise on. However, people compromise on their ideal location all the time – they move further out into the suburbs even though they work in the city because they want a larger/newer/nicer house for a lower price, for example. Sometimes it’s worth making a tradeoff on location to get something else you want. 

2. Privacy
   The type of dwelling you choose – house, condo or townhouse – will have a major impact on how much privacy you have. Will someone always notice when you’re coming and going and whether you’re home or away? Will you be able to play your music at the volume you want, turn up the TV and have parties without disturbing your neighbors? Will your neighbors be able to see what you’re doing even while you’re indoors or in your backyard?

   Keep in mind that privacy goes both ways – do you want to be subject to the intimate details of your neighbors’ lives?

   If you buy a home in a multi-unit building, your level of privacy will vary with the overall size and layout of the building, the quality of construction materials used, your unit’s location in the building and the behavior of the community (do people keep to themselves, or does everyone know each other?). In a single-family house, factors such as lot size, number of stories, fence height, vegetation, the location of the home’s windows and doors and whether the home is on a cul-de-sac or in a gated community can all impact its level of privacy.

   A house will usually offer more privacy than a condo or townhouse, but not always. Homeowners who want to live near the heart of the city often trade off privacy for location since urban areas tend to be more densely populated than suburban areas. 

3. Dwelling Type
   Whether you choose a house, condo or townhouse will also affect your lifestyle, your home’s resale value and your monthly finances.

   If you choose a condo, it will be difficult-to-impossible to have a backyard barbecue or a nice patch of grass for the dogs – in fact, it may not be possible to have dogs at all.

   Condo life means your exterior maintenance responsibilities are limited – there’s no repainting the house, replacing the roof or mowing the lawn – but you’ll still have to pay for all of these things in the form of monthly homeowners’ association fees. You’ll also have to pony up extra cash if a major repair comes up and the homeowners’ association is short on funds. So while many people think that living in a condo alleviates the burden of having to suddenly pay for major home repairs, whether that ends up being true actually depends on how well your homeowners’ association is managed. 
   Also, condos and townhouses can be more difficult to command top dollar for when you go to sell because there may be other units for sale that are identical to or very similar to yours. The larger your building, the more true this becomes. The same can also be true in neighborhoods of tract houses, but even tract houses with the same floor plan will often have more distinguishing features than condo units within the same building.

   Since condos and townhouses are often cheaper than houses, first-time homebuyers commonly make the tradeoff of choosing the former over the latter.

4. Price
   The cost of the home ranks at the top of most people’s lists in importance. A better location and nicer amenities will increase a home’s price. If you’re not wealthy, you’ll have to sacrifice some of the things you want to stay within your budget. Be realistic about what you can get for your dollar and remember to rely on your own calculations of what you can afford, not your lender’s estimate. 

The Bottom Line
It’s rarely possible to find a completely perfect home for your needs, tastes and budget, and it’s OK to make tradeoffs. Think about your priorities before you start your home search, but be flexible and willing to change your mind once you see what your true options are – viewing actual properties can shift your priorities. And remember that if you can only find places that require too many compromises, it’s OK to wait – new homes come on the market every day http://financialedge.investopedia.com/financial-edge/0810/Homebuyer-Tradeoffs-What-Will-You-Have-To-Sacrifice.aspx

An oft-cited 2001 study by York University finance professor Moshe Milevsky reveals that from 1950 to 2000, a variable-rate mortgage would have beaten out a fixed-rate mortgage almost 90 per cent of the time.

But with interest rates at incredibly low levels, many commentators are expecting rising rates from here on in. Does that mean it’s time to lock in at a fixed rate?

If we look at the last 30 years, interest rates have gradually fallen. In August of 1981, the bank rate was 21.03 per cent. By the end of 2009, it was only 0.50 per cent. It seems intuitive that if rates are falling, a variable-rate mortgage gets cheaper and cheaper. Compare that with the sucker who locked in at a higher rate, right?

It turns out there’s more to it than that.

Prof. Milevsky’s research concludes that borrowers pay a “premium for predictability.” Lenders tack on higher interest in exchange for locking in at a set rate. It’s like paying for insurance to protect you if interest rates go up.

Even if you could time the short end of the yield curve, which drives variable rates, it would be tough to use this to your advantage, Prof. Milevsky’s work suggests.

Suppose you had the foresight to accurately predict interest rates. Let’s assume your mortgage is amortized over 15 years, or three five-year terms. Let’s also assume you can switch from a variable-rate mortgage to a fixed rate once during each term.

How do you suppose you, the perfect market timer, did versus someone who simply stuck with a floating rate for 15 years? The perfect market timer beat out someone with a fixed-rate mortgage 83.3 per cent of the time. But someone who stuck with a variable-rate mortgage for the entire 15 years did even better: They beat out the fixed-rate mortgage 88.1 per cent of the time.

So with a premium for predictability, and an uphill battle to capitalize on timing the interest-rate market, does the “all variable, all the time” strategy still trump all?

Well, who better to ask than Prof. Milevsky, who told me, “The recent numbers haven’t changed any of the main 2001 study conclusions around the benefits of floating over fixed, although borrowers should be aware that regardless of the mortgage they select, they are now paying abnormally low interest rates. So, if they are amortizing their payments over 15 to 25 years, they should be made aware of the fact that at some point they will be paying more – and they better make certain they can afford it.”

Prof. Milevsky concludes: “What happened last week is yet another example of how difficult it is to time these moves. A few months ago, many people were predicting a steady increase in rates from the Bank of Canada. People were told to not go variable because the rates were going up. Low and behold, last Tuesday, the BoC [Bank of Canada] paused. People that locked in a few months ago in panic and concern now look back and wonder whether they overreacted. Bottom line: Don’t try to outguess the bond market or the BoC.”

While a variable-rate mortgage has the highest probability of outperforming a fixed-rate mortgage, the sensitivity to the borrower’s cash flow is of utmost importance. That’s why Prof. Milevsky calls it the “premium for predictability.”

Bank of Canada maintains overnight rate target at 1 per cent

 Angela Calla, AMP
Mortgage Expert
Host of “The Mortgage Show” on CKNW AM980 Saturdays at 7pm

Courtesy of The Globe and Mail

Mark Carney must feel like a parent trying to instill wise spending habits in a carefree kid heading off to university: all he can do is give his best advice and hope it sinks in.

That’s a rough approximation of the tricky position the Bank of Canada governor finds himself in as he prepares to release his latest interest-rate decision on Tuesday.

The central banker is widely expected to suspend his tightening campaign after three straight increases, holding the benchmark overnight rate at a still-very low 1 per cent. On Wednesday, he’ll follow that up by producing a revised outlook for the Canadian economy, spelling out his analysis of why he (in all likelihood) believes there are too many unknowns right now to make a move.

The new figures, some of which will be in his Tuesday statement on rates, will include Mr. Carney’s latest thinking on when the recession-era slack in the economy will finally be gone. If the governor says that excess capacity is going to linger into 2012, that would confirm what financial markets are already predicting: that the cost of borrowing could stay put for several months.

But a prolonged period without rate hikes also creates a problem: it could lure households that shouldn’t borrow more into going deeper into debt.

Mr. Carney last month sharpened his warnings against using supercheap credit to pile up debt that won’t be affordable as rates return to more normal levels, using a speech and press conference in Windsor, Ont., to highlight that debt in Canada is at a record 146 per cent of disposable income and households, on average, have spent more than they’re worth for the past nine years.

He also lamented that an already slower economy could stay weak as some borrowers pull back. That would make it that much harder to raise rates, even as policy makers fret that as long as rates are low, the most overstretched Canadians may not get that they should scale back too.

“He’s making a valiant effort at conveying a very complex message,’’ said Chris Ragan, a McGill University professor who is leading the C.D. Howe Institute’s research on monetary policy. “He’s right to be giving both sides of the story: There are people out there for whom interest-rate increases will be a problem because they’ve got too much debt; at the same time there are others who are being excessively prudent, shall we say, and what they’d like is for them to go out and borrow more to keep the economy going.’’

Mr. Ragan, in fact, was in the hike camp late last week when C.D. Howe’s Monetary Policy Council voted 5-4 in favour of recommending a fourth straight increase, arguing there is still too much stimulus in the economy, regardless of the sharp slowdown of the past few months and the sputtering recovery in Canada’s main export market.

But most analysts say a pause, and possibly a long one, is in the cards.

After all, the economy shrank in July for the first time in almost a year and had a net job loss in September, and the most recent inflation readings came in well back of the central bank’s 2-per-cent target.

Perhaps the biggest driver of a pause is the mounting evidence that the U.S. Federal Reserve will act to boost the flagging U.S. economy, taking steps that would keep the American dollar down and send investors who want higher yields to currencies like the loonie.

A stronger Canadian currency brings advantages, like helping companies buy state-of-the-art foreign machinery that will boost their productivity. Still, should the loonie gain too much against the greenback too quickly, it could pour more cold water on the economy, especially the manufacturing sector. Already, Mr. Carney has said his new growth outlook for the second half of 2010 will be lower than his July forecast.

Overseas investors are attracted to the loonie in part because Canadian rates are higher than in the U.S., where the Fed’s main rate is still close to zero. As Mr. Carney said last month, there are limits to how much the two rates can diverge. So until the Fed’s “quantitative easing’’ plans and their effects become clearer, the prospect of them constitutes another big question mark in what Mr. Carney has repeatedly called an unusually uncertain environment.

“When you don’t know, you don’t take chances,’’ said Benjamin Tal, deputy chief economist at CIBC World Markets. “Given the uncertainty, they could give us a very good hint that they’re not going to move for a while.’’

However, should the central bank give such a signal, `Mark Carney: Financial Adviser’ will likely make another appearance this week too, reinforcing that as soon as conditions warrant, he will start hiking interest rates again.

Mortgage Shopping?

HERE’S SOME IMPORTANT TIPS ON HOW TO DO IT RIGHT!

First: Ensure you’re working with an Accredited Mortgage Professional that understands the business of Mortgages. This is likely the largest financial transaction of your life and it’s too important to put into the hands of someone that cannot advise you properly on the loan process.

There are 4 simple questions I recommend you ask your lender or advisor.  If they cannot answer any one of these 4 questions properly, you should reconsider dealing with them.

1)    What are Mortgage interest rates based on? Since mortgages are our business, it is critically important to know the answer to this question to ensure you’re dealing with a professional that knows the business and can therefore guide you properly prior to commitment and post funding.

• The correct answer for fixed rate mortgages is Bond Market Yields mainly determine the price of the mortgage.
• For variable rate mortgages the Bank of Canada determines the rate by setting its rate which then determines the Prime rates Banks charge their customers (you).

1. 2.     What is the next Economic Report or event that could cause interest rates to move? This is important for you to know if you’re in a variable rate mortgage.  Any professional mortgage advisor should have this information at their fingertips.  With my services you’ll obtain a monthly Economic Forecast that details upcoming events that may impact your mortgage interest rate/or the rate you may consider locking into.

1. 3.     When the Bank of Canada meets & changes interest rates what impact does this have on my mortgage? If you’re in a variable rate mortgage this is important because the rate the Bank of Canada charges will determine the rate your Bank will charge you.   A variable rate mortgage fluctuates with Prime and typically the Prime rate is 1.75% -2% higher than the Bank of Canada rate. This impact is immediate and may impact your next mortgage payment.

1. 4.     Do you have access to Daily Bond quotes? If a lender or mortgage officer can’t explain Bonds or how the bond quotes determine the rate charged on your mortgage, or the rate you may want to lock into if you’re in a variable, you should be  concerned.

Be smart… ask the right questions…. Make sure you get the right answers before signing on the dotted line!!

Kristine Owram, The Canadian Press
The Canadian Press, 2010

As the loonie flirts with parity for the second time this year, Canadians are becoming increasingly familiar with the effects of a higher dollar and are finding creative ways to take advantage of it.

The Canadian dollar was ahead 0.18 of a cent at 99.7 cents US near midday Thursday, backing off a gain that briefly saw it pass parity with the greenback for the first time since April.

Earlier in the morning it traded as high as 100.14 cents US.

The loonie has been gaining traction on weakness in the U.S. dollar and strength in commodity prices. Since last reaching parity in April, the dollar has approached the psychological barrier several times, only to fall back.

A high dollar has become part of everyday life for Canadians, and people are learning to get the most out of it.

Tim Kropp owns a UPS store in Lewiston, N.Y., bordering the Niagara region of southern Ontario. He said the vast majority of his customers are Canadians who have discovered they can get good deals by ordering goods online from American stores and having them shipped to an American post office box.

Having a mailbox south of the border not only allows Canadians to save on shipping costs and possibly customs duties, but also lets them order items from American stores where they are often less expensive. That’s because as the loonie moves higher, price drops often don’t keep pace in Canada, making it cheaper for Canadians to go cross-border shopping.

“We get a lot of Canadians ordering from Amazon.com, and I asked them: ‘Don’t they have Amazon.ca?'” Kropp said.

“But they said you either can’t get the item or the price difference makes it worth it to drive down and pick it up.”

Book prices, which are determined at the time of publication, can appear out of date when compared to the value of the loonie, which fluctuates on a daily basis. This is why there can be such a big discrepancy between the U.S. and Canadian prices listed on a book jacket, even when the dollar is at par.

But it isn’t just books Kropp is seeing delivered to his store.

“I just had a customer from Toronto the other day. She bought a big popcorn machine and she said it was $1,300 cheaper (to order it from the States),” he said.

Of the 150 mailboxes in Kropp’s store, only two of them aren’t used by Canadians.

“It’s definitely a trend we’re seeing at all the UPS stores along the border,” he said, adding that he’s seen his Canadian customer base increase by about 50 per cent since the dollar began to creep higher.

“We contacted UPS about a location, what’s available, and their whole main reason of telling us Lewiston was available was because they knew, based on what the other store up in Niagara Falls is doing, that they needed another location just to handle the Canadian customers.”

Economists say the dollar could hover near parity for a while, as signals mount that the U.S. economy is going to remain weak.

The American dollar has been pressured by speculation that the U.S. government will start injecting more money into the economy to give it another boost.

The most recent appreciation in the loonie followed the release of minutes from a U.S. Federal Reserve meeting which suggested the American central bank will further ease conditions through buying Treasury bills — so-called quantitative easing.

Quantitative easing is a way for the central bank to inject more liquidity into the economy without lowering interest rates, which are already as low as they can go in the United States.

That suggests U.S. central bankers are worried about the slow pace of the U.S. recovery and want to provide more cash to help jump-start stronger growth.

A stronger loonie will make Canadian exports of everything from auto parts and furniture to newsprint and lumber more expensive for American customers. But it will also cut the cost of imported goods and make it cheaper to travel abroad.

TD Bank (TD-T74.940.100.13%) is revamping its mortgage program, making it easier for homeowners to tap into their equity and harder for them to switch to another lender when their mortgages come up for renewal.

At the heart of the overhaul is a switch to collateral-charge mortgages, which are similar to lines of credit. The bank is encouraging employees to approve customers at 125 per cent of a home’s actual value under certain circumstances, so the homeowner can easily borrow more money if their property increases in value.

Unlike traditional mortgages, the collateral mortgages are difficult to transfer from one lender to another, because they must be paid in full to be cancelled. That means if someone wants to change lenders, they need to renegotiate from scratch.

While other banks offer variations on the collateral mortgage, TD is the first to switch exclusively as of Oct. 18. Existing mortgages aren’t affected by the change.

The bank’s move comes as the housing market cools and fewer Canadians apply for mortgages. It’s an attempt to entice buyers who expect to tap into rising values and don’t plan to shop around for better rates in the future.

Competition for new business is intensifying; record low mortgage rates weren’t enough to stop a slowdown of new buyers in the market during the summer. Sales fell by more than 30 per cent in Toronto and Vancouver, sending lenders scrambling to secure new business with innovative products and even lower rates.

Bank of Montreal currently offers the least expensive five-year fixed term at 3.59 per cent, although only its best applicants are likely to qualify at the special rate. Bank of Nova Scotia offers its customers the ability to split mortgages into two or three different components, each with its own terms.

TD said its new offering will ensure customers don’t pay additional charges to tap into their rising equity, which it called “great news for both you and your customer” in an internal memo to its mortgage brokers.

“Customers may under many circumstances choose to register their collateral charge for more than the approved principal amount of the mortgage, up to 125 per cent of the property value,” the e-mail stated. “This will allow them to borrow additional funds in the future without having to re-register … eliminating any solicitor and in-house registration fees.”

A homeowner can’t simply call the bank and access the extra money they were approved for, however. The deal is dependent on values rising, and in each instance the bank said it would need to inspect the home.

“Part of our credit approval includes an assessment of the current value of the property – an appraisal of the property – to ensure the existing value can support the increased borrowing,” said spokesperson Kelly Hechler.

The move has sparked anger among the country’s independent mortgage brokers, who see the change as a direct shot at an industry that has been gaining market share from the big banks by competing fiercely on mortgage rates.

“Credit unions have always gone this route so it’s not like they are reinventing the wheel,” said Mike Averbach of Vancouver’s Averbach Mortgages. “People literally have to cash out if they want to change over, so it’s just another way for them to be handcuffed to the bank.”

Securing a rate hold is like having insurance on your mortgage rate – you no longer have to worry about mortgage rates increasing while you find your new home over the next 90-120 days. And if rates drop within that same period, so too will your pre-approved rate.

For instance, if you obtain a 3.75% rate hold and then global risks subside and the economy strongly recovers over the next three to four months, that 3.75% could easily jump to 4.50% or higher. In this case, your rate hold for 3.75% would have saved you three-quarters of a percentage point, which would translate to a savings of a significant amount of money over the term of your mortgage.

But a rate hold means nothing if you don’t meet the lender’s qualifications. By working with me to obtain a pre-approval and a rate hold, you can be confident you have access to mortgage financing and you will know how much you can spend before you head out shopping for a property.

It’s important to note, however, that there is a significant difference between being pre-

                 approved and pre-qualified. In order to obtain a pre-approval, the lender fully underwrites the deal, whereas with a pre-qualification only the most basic details are considered. Remember that many banks will only issue a pre-qualification.

There are several reasons why you may want to secure a rate hold, including when you:

*             Are thinking of buying a home in the next four months

*             Are considering locking in your variable rate to a five-year fixed if rates rise, but your lender won’t hold a good rate for you

*             Are casually thinking of refinancing but prefer to wait for fixed rates to rise so that your interest rate differential (IRD) penalty falls

*             You want to hold a rate on a different term than you were pre-approved for by a different lender

As always, if you have any questions about rate holds, pre-approvals or your mortgage in general, I’m here to help!