Developed or Emerging: Classification Systems

Before we can consider in detail the question of how much should be invested in different international markets, and how, it is necessary to be clear on what we mean by terms like emerging and developed. Markets are classified by the major index companies. As an investor it is important to know what index your passive ETF or index mutual fund follows, and which countries are, and are not, included in that index.

MSCI Classification

MSCI (Morgan Stanley Capital International) provides one of the major classification systems used in the index investing world.  They divide equity markets into Developed, Developing and Frontier divisions (there is also a Standalone market index. with national exchanges not included in any of the previous three; this mainly includes very small or very isolated exchanges). You can see the details of which country is in which classification here.

FTSE Classification

The other primary classification system is provided by FTSE (now part of the combined FTSE-Russell). FTSE stands for Financial Times Stock Exchange. They divide markets into Developed, Advanced Emerging, Secondary Emerging and Frontier. You can see current country inclusion in the categories of the FTSE here. Of particular utility is their Matrix of Markets that lists stock markets by country against index segments.  This is a simple way to see if a particular country is in an index based ETF.

Things Change

The indexes are periodically reconsidered - for example FTSE update their list usually in March of each year. The process of deciding if countries should be moved to another category is complex.  Metrics are established for that process, looking at aspects such as transparency, accountability, liquidity and size of the market.  FTSE-Russell explain their process in a white paper available here. In the MSCI classification Pakistan will move from Frontier to Emerging in May 2017.

Should We Be Doing This?

Many have commented that the term emerging economy is obsolete and should be abandoned.  Certainly markets like China and India are rapidly growing and are similar in many ways to the markets in the developed category. While five characteristics are claimed to represent emerging economies and markets, application of these descriptors is difficult.

Also, there is a problem with any category system in that two stock markets with only slight differences might result in inclusion in different indexes. For example, why are Poland and the Czech Republic included in developing, yet those economies are similar in life style, economy and political environment to neighbouring European countries that are in the developed category? There appear to be similar discrepancies in Asia.

But we do need some way to lump together economies and stock markets that share similar characteristics.  One option might be to assign a grade to each stock market on a scale (say 0 to 100) based on how developed it is.  Then we could have indexes that track only markets with a score in a certain range.  While the result might be almost identical to the current system, there would be better transparency of results.

Final Thoughts

The Vanguard ETFs follow the FTSE index, while generally speaking the iShares ETFs follow MSCI. Vanguard have a really nice listing that links ETF products against the index they follow all on one page.

While the country inclusion is pretty similar in the MSCI and the FTSE, there are differences.  For example, FTSE place South Africa in developed, while MSCI do not. The Chinese stock market is divided into A and B categories, historically on the basis of whether foreigners were allowed to invest on that market. How the A Chinese stock markets are handled affects international index funds.

In a future posting I will I discuss the fraction of global equity assets in different markets, and the implications on how we should invest globally.

This posting is intended for education only and should not be considered investment advice. The reader is responsible for their own financial decisions.  The writer is not a professional financial planner or investment advisor. For major financial decisions it is always wise to consult skilled professionals. While an effort has been made to be accurate, any statements of fact should be independently checked if important to the reader.

Disclosure:  No compensation by any company, organization or individual has been offered, requested or received for writing this column.

Review: Portfolio First Aid

I picked up a copy of Portfolio First Aid at my local public library, intrigued by the title and impressed by the author team. Micahael Graham, PhD (Economics) was Chairman of the Board at Toronto investment firm Heathbridge Capital Management Ltd. at the time the book was published (2005), and had worked in investment industry for more than 40 years. He currently runs MGIS.  Co-author Bryan Snelson is a Vice-President and Investment Advisor at RBC Wealth Management.

What I Liked

Any investment book is only as good as the quality of the advice it offers. Given the expertise of the authors, one can have confidence in this book. An investment book also needs to be clear and engaging, and I would give this book high marks in both.

The writing is clear and precise.  I liked the use of boxes to draw attention to important points. The titles of these. In both these boxes and in sections titles effectively draw the reader in. By current standards the 2005 book is somewhat lacking in illustrative material, but the black and white visuals and tables explain key ideas effectively.

Perhaps it will not appeal to all readers, but I like how we come to know the authors through commentary throughout the book.  For example, on pg. 8 Michael relates the experience of flying to Winnipeg on Oct. 19, 1987, Black Monday, for a pre-planned meeting with investors. What do you say the day after markets have lost 23% in one day?

I particularly liked Chapter 7 Show Me The Money: Investing for Income. You will find coverage of dividends, real return and corporate bonds, laddered bonds, income trusts, dividend funds, preferred shares and much more.

After I finish reading a nonfiction book I always ask myself these four questions.  One is, was my time invested in the book, time well spent? Do I have confidence in the validity and balance in the presentation? Was I engaged in the book? What were the author's motives in writing the book? To the first three I could confidently answer YES for this book.

With respect to the last question, I suppose any author team always have mixed motivations for a book, but I do feel that in the case of this book there is an authentic desire to contribute to the well being of investors. The authors write in the preface

"There is nothing worse than having to inform an investor that his or her hard-earned savings has been badly mauled-sometimes irreparably"

They feel that with careful analysis and attention to a portfolio the odds of that can be lowered, while retaining reasonable returns.

Not That Book

One of the online reviews of the 2009 version of this book, a very negative review, complains that the book has little specific advice to offer, and emphasizes use of professional advisors more than it should. While I feel that the reviewer has been unfairly harsh, it's true that Chapter 4 You Need Financial Help! and Chapter 5 It's Always About You: Working With Your Advisor assume that the correct choice for most is to work with a financial advisor, rather than DIY investing. Perhaps because of this assumption, as the negative reviewer noted, little in the book that is detailed enough to guide the DIY investor in specific decisions.

I view this book as contributing to understanding the big picture of investing.  A recipe book for do it yourself investors it is not. Discount brokerage accounts are mentioned on only four different pages in the 2005 book, and not as a recurring theme.  Exchange traded funds (ETFs) find mention on only five different pages in the book.

That is not to say the book does not get involved. Chapter 9 Running With Scissors: Prescriptions for Managing Risk, for example, covers bond ratings, market risk, interest rate risk, default risk, lost-opportunity risk, purchasing power risk, stop-loss orders, options, calls, short-selling, puts, hedge funds and covered calls. They urge individual investors to avoid many of these financial instruments, however.

Concluding Thoughts

I liked this book and recommend it to Canadian investors for inclusion in a list of your first 10 investment books. I should point out that I reviewed the 2005 book, but an updated book on the same theme,  by these authors plus Cindy David, CFP. You can get the 2009 book at Amazon.ca in printed or kindle formats. You can pick up the 2005 edition from Amazon.ca and independent booksellers and you can probably find it at low cost from used bookstores, or free from a public library.

While no on can predict the future, there are many worrisome signs about the investing landscape these days.  It's a perfect time to consider how you can guard against the catastrophic losses, and this book will help.

Toronto based freelance financial journalist Jade Hemeon wrote the following in his review of the 2005 book on Amazon.ca.

"A useful and entertaining tour of the investment world that hits all the significant ports of call. Written by two veteran financial advisors in a vividly descriptive fashion, it offers sage advice enhanced by personal anecdotes and humor. This book will help investors avoid costly mistakes and develop a strategy that can withstand the drama of shifting market moods."

I could not say it better! Give this book a read, and you will come away with a deeper understanding of the investment world.  But don't expect the book to be a step by step guide to DIY investing, or you will be disappointed.

This posting is intended for education only and should not be considered investment advice. The reader is responsible for their own financial decisions.  The writer is not a professional financial planner or investment advisor. For major financial decisions it is always wise to consult skilled professionals. While an effort has been made to be accurate, any statements of fact should be independently checked if important to the reader.

Disclosure:  No compensation by any company, organization or individual has been offered, requested or received for writing this column. We do however belong to affiliate programs for some of the links that you find in our articles, details available upon request.

Books for Review: I will not promise a positive, or even any, review, but if you wish to submit your investment book for me to consider, contact me rhawkes (at) chignecto.ca. I am particularly interested in Canadian books.

Your Plan Starts With Goals

Financial planning experts agree that having a plan is essential, and that it is important to periodically revisit that plan. As with many things in life, it is never too late to start with a financial plan.  My main point in this short post is that your plan should not start money, but rather with your life goals. It works best if your plan is in writing.

Life Goals

Start with the big picture. Each plan will be unique, since each of us is unique, but the following questions may be helpful.

• Who are the most important people in your life?
• What in life is most important to you?
• Who else are you, or might you be, responsible for, and what are their needs?
• What organizations and causes do you want to support?
• What are your career aspirations, and what do you need to get there?
• What age do you hope to retire, and do you see retirement as a partial or full retirement from paid work?
• What makes you happy?
• What special needs to do you have?

Getting There

After you have your life goals established, the next step is to make a reasonable series of financial estimates of what you will need to achieve your goal.  For example, if you want to fully retire at a certain age, make reasonable estimates of how much you anticipate needing. Keep in mind that OAS and CPP will get you part way there.  Then use a calculator such as this one from Financial Post to estimate how much you need to contribute each year to meet your goal. 

Other goals will be easier to estimate.  For example, perhaps you want enough for a down payment on a house of a certain price in five years time, or want to build up an emergency fund to cover 9 months of expenses.

Some may be more complex - for example you want to be able to quit your job and start up a business. You need a reasonable business plan not just for startup funds, and income replacement, but also to anticipate possible business losses in early years and a contingency fund.

Not Just One Plan

I think that having multiple parallel plans works best for many of us.  For example, have one retirement plan, another that is a plan for education savings, a plan to work toward a major housing goal,  a plan for helping causes important to you, etc. Clearly the different plans must make sense when taken together with your resources, but it is often simpler to establish the way forward when we view it as a series of parallel paths. Also, I think it is more encouraging to see that progress has been made in meeting some goals, even when we have fallen short on others.

Some argue that multiple plans add complexity, but I think the opposite is true.  It is simpler to look at our financial goals and progress as a series of parts, and then view the big picture as the sum of those parts.

Rebalance Your Life Plan

Just as we are advised to rebalance investments annually, you should revisit the life goal aspects of your plan periodically.  Evaluate whether your goals or circumstances have changed, and make changes to your plan. One advantage of your plan being in writing, even if as simple as a bullet list of items, is that it makes it easy to see whether you are on track, and where changes are needed.  I have never done this personally, but I know of people who set a date, like New Year's, for a formal reconsideration each year, and I think that makes a lot of sense.

Know When To Hold and When To Fold

While plans are important, they can and should be changed. As the Kenny Rogers The Gambler lyrics suggested

"You've got to know when to hold 'em  

Know when to fold 'em"

I think that some of us don't know when to hold them, when to stay firm to goals, even when things seem difficult. But some of us are also too resistant to change goals, even when, deep down, we know we should.

Maybe something that was important to you, is no longer so important.  Perhaps you have new priorities.  Maybe you have changed your mind and want to retire earlier or later. Sometimes conditions require us to change our plans - for example after the market crashes some had to postpone retirement, or make it a partial retirement.

Resources for Developing a Financial Plan

I don't personally like the financial priority and order in some of these processes, but the following are valuable background for developing your financial plan.

1. WikiHow have a clear and attractive article on developing a financial plan. I particularly like their emphasis on SMART.  Is it Specific, Measurable, Achievable, Rewarding and Timely
2. The Moneysense Financial Plan Kit is surely one of the most complete guides out there, and well thought out.  They provide a series of Word of PDF documents to help you create a plan in 11 steps.
3. Although not as prescriptive as the above, the finiki document on Creating a Financial Plan is Canadian with good information on a number of aspects of your plan.
4. Want to see what an award winning financial plan looks like? See this great Canadian financial plan here.

Closing Thoughts

Life is not about investments.  Investments are tools, nothing more (or less).  They are tools that allow you to care for others, to provide educational opportunities, to feel secure in your retirement, to allow independence, to support organizations and causes important to you.

Whether you want to engage a professional financial planner to assist you with the plan is a matter of personal preference.  If you are making the plan yourself, make sure that you use valid sources to help you with quantitative aspects of your plan.

For many it makes sense to start the life plan goals on your own, but then get a professional financial planner to help estimate how much you will need, and how to get there financially. You can find a CFP® (Certified Financial Planner) in your area here. I would not count on an advisor who has a stake in your investments to help you with a financial plan.

If you do use the services of a professional planner, always keep in mind that it is your plan and you must take ultimate responsibility for your plan.  She or he may help you develop the plan, but never ask (or let) an advisor to make the plan for you.

This posting has considered developing a life plan, and a little bit about the financial needs for that plan.  After that part of your plan is complete, you also need an investment plan, that will guide how to invest your savings consistent with your life plan.  We will cover investment plans in a future post.

Happy planning!

This posting is intended for education only and should not be considered investment advice. The reader is responsible for their own financial decisions.  The writer is not a professional financial planner or investment advisor, and reading this column should not be interpreted as obtaining individual financial planning or investment advice. For major financial decisions it is always wise to consult skilled, impartial professionals. While an effort has been made to be accurate, any statements of fact should be independently checked if important to the reader.

You Need a PFA!

A new food store opened in our neighbourhood.  I decided to check it out a number of months ago. As I walked through the doors of the modern palace, sunlight streamed through the windows. It certainly looked nice.

I started toward the first aisle, but was greeted by a very young man in a crisp dark business suit.

"Hello, and welcome to JBFE. Come into my office and we will discuss your food needs" he said, offering me a too firm handshake and a smile.

"I just came to sort of browse the store...." I mumbled.

With self-assured confidence he smoothly declared "I am Mr. Stuart Foodee, PFA, WKWE and I will be your Personal Food Advisor.  Now if you just step into my office, I will help you decide which of our foods are best for you."

I tried a few more objections. but soon I was sitting in his office, the other side of a glass desk, my eyes fixed on a painting of a carrot on the wall, right next to his PFA certificate.  I noted that the date on it was five days ago.

Mr. Foodee smoothly continued... "First, you need to fill out some surveys  before we can design your personal food plan and portfolio."

"My food portfolio? But I just wanted to look around today" I protested.

"Food is very important, literally a matter of life and death. You can't just rush in and buy things. You need a personal food advisor to help you make good choices.  Food is complex, there are literally hundreds of thousands of choices.  We at Elite Foods want to help you navigate those choices, and I am your Personal Food Advisor. Now let's get started, Bobby."

No one had called me Bobby since I was six.

"Now, how many meals a day do you usually eat, Bobby?"

"Uh... 3 I guess" I answered. "Very interesting" he commented.

The list of questions continued....

"Would you rate your food knowledge as novice, intermediate, expert or advanced?" I admitted I was novice.

"Do you prefer environmentally sensitive food choices?" I thought I should say yes.

"What is your monthly salary from all sources?"

I looked at him quizzically and protested "But I just want to maybe buy a few items here."

Mr Foodee did not skip a beat, "We can't help you make good food choices unless you are open with us, Bobby. Look around, you can trust us, we are professionals."

"Now we need to evaluate your food risk." he continued.

"Oh, like how concerned I am about pesticide residues?" I said, for the first time seeing some potential value in this conversation.

"No" my PFA replied "Let me get at your food risk through these questions.  Would you rather have fine delicacies on the first two weeks of the month, if it meant you had to eat less later in the month?"

I mumbled some reply, and he gave me a food risk tolerance score of 71.

Eventually the interview process was over, and Mr. Foodee declared that he was finished. The printer buzzed and he printed out some forms, but I was not allowed to see them.

With relief I turned to finally explore the store, but he firmly blocked the way.  "You don't need to enter the store, in fact we can't let people do that, I mean you need us to decide what your food needs are.  Food is complex."

"If you just sign these three forms, everything will be set up. Oh and we need your credit card and SIN for our records."

"Maybe I will come back, I'm not sure about this." I protested.

"Billy, we are professionals. I am your Personal Food Advisor. We offer hundreds of highly differentiated mutual food services here."

Eventually I signed the forms, and was given some pamphlets on thick glossy card stock. I left, not sure what had just happened.

A week later a courier arrived at my apartment, with a tiny food basket in crisp white lining.  I admit, it did seem exciting.  The custom labels looked nice, although the products really did not seem a good fit for what I liked to eat, at least the ones that I understood.

Also, when I looked at the receipt I was shocked by how expensive everything was. Plus I was charged 3% more for management fees, plus a front end food fee, I guess for the analysis of my needs by my PFA.  There was also a fee because apparently my account was a small one.  And a few other fees.

I went in the next month to cancel the food service, but somehow I got persuaded to instead meet with a Vice President Client Services.  Wow, a VP seeing me on my second visit, they did really care about me!  I admit, it all seemed very professional.

The Vice-President had me do another survey, or maybe it was the same survey over again,and gave me more glossy brochures, and I signed something else. I mean who was I to know about my food needs and all the choices?  I mean food is complex, you know.

Still, a month later, after seeing how much more expensive food was than at my old store, I went in, determined to cancel the service this time. I discovered that I had a DSC.  I had never heard of those before, but I guess they are standard in the food portfolio business. It turns out that if I cancel in less than 7 years I need to pay 6% of my annual food costs to cancel the service.  Food service is complex.

Oh well, those baskets are pretty nice.  And I did get to meet another Vice-President! They seem to have a lot of vice-presidents.

I pretty much just have enough money each month to cover my apartment and the food service, but really that simplifies my life.  No need to choose where to go or what to buy any more.  I can't believe that I used to manage without a Personal Food Advisor. I mean food is complex! It is calming to have  my PFA make all the decisions.

I realize you may have questions, but please ask Mr. Foodee, my PFA.  I lately, have had trouble thinking for myself.  Not sure when that started, a few months ago, I think.

I went to the library the other day to see if I could get a self-help book, but when I asked at the desk for a personal library assistant to select the book that was best for me and sign it out for me, they just sort of looked puzzled and referred me to the reference desk.  I went home without any book, feeling a little sad, but not sure why.

This posting should not be considered professional food advice.