Carl’s Comments

Market volatility is both upward and downward. You can’t have one without the other. For years I have encouraged people to look at balanced funds (which historically have lower rates of return than pure equity funds, but also much less volatility) with the idea that investors wouldn’t panic and would hold on to the balanced funds and actually achieve the long term rates of return posted. Pure equity investors, being unable to stomach downward volatility, would bail out and not enjoy the long term averages posted.

I am often amazed to see clients’ reactions to market pull backs. I’ve heard statements like “I’ve lost $20,000.” I say that’s impossible. My numbers indicate that you have made well in excess of 10%. “Yes, but I had $200,000 two months ago and now I only have $180,000.” Yes, but you started with $100,000, therefore you made $80,000. Markets do hit high water marks and yes they will fall off those marks only to rise above them in the future.

Clients buy into long term investment funds and then get crazy about daily volatility. Volatility is now exaggerated by the constant bombardment of the media. Television, the Internet and newspapers all promote the worst news they can find. Case in point, they focus on Britney Spears who makes the absolute worst role model for a teenage daughter. Bad news sells. It’s that simple.

Believe it or not, we have endured a lot of snow this winter. I have enjoyed a fair amount of skiing and I feel I have improved dramatically. One thing I now do is to focus further down the mountain as opposed to focusing on what is directly in front of me. I believe investors should do likewise. Pick your investments or your managers, slip into a coma like Rip Van Winkle and let them do their job. The averages will work out. Just take a long term view of things.

I have looked at the funds on the last page and have come up with some interesting information. One-third of the funds in a one year span are positive. 100% have positive three and five year numbers. Incidentally, the average return of all 32 funds over five years was 14.05%. So why do we focus on last year’s average return of -2.78%!

Canadian Equity Market: Earnings Continue To Slow

In April 2007 we stressed that underlying the Canadian equity market’s strong performance was slowing earnings growth, a large skew to commodities and a fully-priced market.

Over the past 8 months lower commodity prices and a higher currency have negatively affected Canadian corporate earnings and they will finish the year in the 6% range. 2007 will be the fifth consecutive year of a rising multiple for Canadian equities. Barring a move into over-valued territory or a significant reduction in short term interest rates, the prospects for a further increase in multiple on the TSX Composite Index are muted.

US Equity Market: It’s No Longer Only About The Domestic Economy

The effects of the recent Sub-prime “Crisis” are unfavorable. A quick look at the Adjustable Rate Mortgage Reset Schedule shows that, although we have now reached the peak of Sub-prime renewals, we are definitely in the midst of a long-tailed economic impact. However, it is important to note that the effect on the US equity markets may have already occurred. In the November 2007 report, the Organization for Economic Co-operation and Development (OECD) updated its estimate of the total Sub-prime losses to be approximately US $300 billion. It also highlighted the fact that share price falls at major banks and lenders since June 2007 have exceeded this amount. Therefore, it suggests, equity markets appear to have absorbed the losses and discounted a similar if not slightly higher number.

In the short term, we believe that the sub-prime effect will constitute a convenient scapegoat for all market ills. While some players in sectors such as investment banks, regional banking, real estate, private equity, hedge funds and consumer cyclicals will have issues to deal with, other agents such as investors with good credit ratings, firms with no debt or high cash rates, opportunistic players, US exporters and prudent risk aware investors will remain largely unaffected. Over the longer term, global economic fundamentals remain quite favorable and are well balanced across many regions.

Global Markets: This Is Not The End Of The Growth Cycle

Similar to our April 2007 outlook, we continue to see a strong global economy, despite concerns about the US domestic economy and global credit market health. In the October World Economic Outlook, the IMF maintained its global growth forecast at 5.2 percent for 2007 (up from 4.8 in April 2007). Both are well above the average growth over the past 3 decades.

As seen below, global liquidity also remains plentiful. Liquidity in developed markets is near all time highs. Global cash reserves are plentiful and emerging markets coffers are full. Perhaps most importantly, we continue to observe strong global demand driven by emerging markets. We believe emerging markets have become the driving force of the strong global growth today. For example, China, with a projected growth of 10-11% over the next two years, has replaced the US with projected growth of 1.9% (down from 2.4% in April 2007) to become the largest contributor to overall world economic growth. With average projected growth twice of the developed markets, emerging markets have boosted their domestic demand and reduced reliance on developed countries.

Spousal RRSP Remains A Valuable Tool

A spousal registered retirement savings plan (RRSP) continues to be an important financial planning tool for couples of all ages. Even though the federal government recently introduced pension splitting for couples, spousal RRSPs can still play an important role in planning for retirement. In general, spousal RRSPs may offer greater flexibility than the new pension splitting rates.

The pension splitting rules restrict the splitting of funds to a maximum of 50 percent of eligible income, which may not be sufficient to fully balance the couple’s total income equally between them. Secondly, the new rules depend on individuals having the right type of income at certain ages.

Income from a spousal RRSP can be withdrawn at any age, which allows a couple to retain the ability to withdraw income using a balanced approach regardless of age.

For younger couples, utilizing a spousal RRSP can mean that each spouse has an RRSP and each could take advantage of the Home Buyers’ Plan.

Lastly, spousal RRSPs can be important in financial emergencies, in that income tax can be minimized if the lower income spouse withdraws money from an RRSP.

The federal government’s new pension splitting rules are good news for those couples that do not have time to accumulate investments in a spousal RRSP or whose retirement income will be heavily dependent on pension income. It allows flexibility in rebalancing taxable income between spouses on a year-to-year basis in retirement. However, the new rules should not be taken as a sign that a spousal RRSP is no longer necessary; indeed, a spousal RRSP remains a unique vehicle that offers a great deal of flexibility in managing a couple’s after-tax retirement income.

Highlights Of The 2008 Federal Budget

The 2008 Federal Budget contains a number of important initiatives that will be of particular interest to Canadian investors and financial advisors. These include:

Notes: Combined federal-provincial tax savings, based on a $200 monthly contribution for 20 years and a 5.5 per cent rate of return. For unregistered savings, a 21 per cent interest rate on investment income is assumed (based on 40 per cent interest, 30 per cent dividends and 30 per cent capital gains and a middle-income earning account holder).

Source: 2006 Federal Budget document

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