Reducing Bond Exposure

Screen Shot 2013-08-21 at 10.58.09 PMBond performance has significantly lagged behind North American equities over the last 12 months.  Bonds are down 5% in the past 12 months, while the S&P500 is up 25%.  This is a 30% divergence.

I believe that my bond investments might represent dead money.  Accordingly, I am selling my bonds and moving those funds to my S&P fund.

  • Buy S&P Fund @ $150.6674
  • Sell Bond Fund @ $220.0189

This is a deviation from my Asset Allocation policy and my core Investment Policy.  It’s worth noting that I failed the last time I tried actively manage my equity to bond ratio, back in the Summer of 2011.  I wonder if I will learn the same painful lesson again!


A month after making this trade it seems to be a bad call.  The S&P Fund that I bought is down 1.75% while the Bond Fund that I sold is down only 0.56%.  That’s a loss of 1.19% on the trade.  Given that the bond component of my portfolio had previously been 32.8%, this loss equates to 0.39% of my entire portfolio.  Another expensive lesson.  I will rebalance my portfolio back to include my customary bond component.

01-Aug-13 03-Sep-13 Change
S&P Fund $150.67 $148.04 -1.75%
Bond Fund $220.02 $218.78 -0.56%

A New Asset Allocation

I have decided to get back to more fundamental value investing.  Accordingly I have reviewed my Investment Policy and have decided upon a new Asset Allocation.

My basic stance is that I should set the percentage of bonds to be equal to my age, which is 42.  Current highish market levels, especially in the US, indicate that I should lean slightly more towards bonds, but low bond yields indicate that I should lean towards stocks, and dividend yields also suggest a bias towards stocks. On balance I have decided to set my bond component to 33.5%. This is halfway between Benjamin Graham’s recommended minimum of 25% and the age-based 42%.

So, my new Asset Allocation will be 33.5% bonds and 66.5% stocks.  Also, I will not deploy all of my stock funds (the 66.5%) immediately.  I will wait until opportunities arise that offer a sufficient margin of safety, such as Power Corp and Teck Resources.  Accordingly, I expect to hold a considerable amount of cash where I cannot find value stocks to invest in.

Rationalizing my Portfolio

I wrote recently that I have parted ways with my Financial Adviser.  This has prompted me to reassess my portfolio.  As long ago as May 2012 I saw that my portfolio was not performing as well as a simple portfolio of indexed ETFs, which I refer to as the TI Index.  Since then I have persevered with investing in individual stocks, but the overall performance has been marginal: my portfolio was beating the TSX by 3%, but lagging the TI Index by 7% (see chart below).

Screen Shot 2013-02-21 at 12.24.53 PM

So the logical conclusion is to actually adopt the TI Index, or something like it.  The TI Index is:

  • 30% weighting in SPY: An S&P 500 ETF, denominated in US$
  • 25% weighting in XBB.TO: A broad bond fund
  • 35% weighting in XIU.TO: A TSX ETF
  • 10% weighting in PHY-U.TO: A gold trust

I propose something similar, but more diverse:

  • 20% weighting in Canadian equity ETF
  • 20% weighting in US equity ETF
  • 20% weighting in Global equity ETF
  • 25% weighting in bonds
  • 5% weighting in gold
  • 10% in speculative investments

I have included an allocation of 10% for speculation.  I have discussed my approach to speculation before: I am comfortable with a controlled amount of speculation.  This will be used to buy a broad range of equities that are either:

  • Small Cap (e.g., smaller Canadian firms such as StanTec or WiLan);
  • Special Situations (e.g., troubled stocks such as BP or SNC-Lavalin); or
  • High Growth (hot stocks such as Whole Foods or Lululemon).

Implementing this portfolio will require a lot of buying and selling, which I will attempt to conclude before the end of the month.  Happily one side effect of parting with my Financial Adviser is that my investments are now with TD Waterhouse’s Direct Investing services, which charges only $10 per trade; rather than TD Waterhouse Institutional Services, which charged $25 or $29 per trade.

Moving into Europe

I currently have around 20% of my portfolio invested in an S&P500 fund.  The fund is doing well and I expect it to do well through the end of the year.  However, European and other global indices have lagged the US this year by a large margin: US  stocks are up around 16.7% while Europe, Australia and Far East (EAFE) stocks are up only around 8.6% (see chart).


I think that fears about a Euro-zone meltdown are receding now and we can expect some acceleration in European and other global stock markets.  Accordingly I am moving half of my S&P fund holdings to a EAFE fund to gain exposure to non-US stocks.

  • SELL S&P Fund @ $119.6038
  • BUY EAFE Fund @ $86.5027

The EAFE fund’s top holdings are:

  • Nestle
  • HSBC Holdings PLC
  • Vodafone Ag
  • Novartis AG
  • BP
  • Royal Dutch Shell PLC
  • Roche Holding AG
  • GlaxoSmithKline PLC
  • Toyota Motor Corp
  • Total SA


Writing today, 14th October, this looks like a good call.  The EAFE fund is at $85.9862 (down 0.6%) while the S&P fund is at $117.6261 (down 1.7%).  Moving money from the S&P fund to the EAFE fund has preserved more capital (1.1% more).

Getting back into equities

Back in March I decided to move a portion of my portfolio to cash.  The summer has indeed been rocky for stocks.  But now it’s time to prepare my shopping list for the fall.  I want to be in best of breed stocks in each of the following sectors:

  • Canadian Banks
  • Canadian Insurers (I own Power Corp)
  • Canadian Utilities (I own TransAlta)
  • Canadian Energy (I own Canadian Oil Sands)
  • Canadian Telco (I own Telus)
  • US Information Technology (I own Apple and have ordered MicroSoft and Intel)

After analyzing the bank stocks I think that CIBC (CM.TO) looks the best.

  • BUY CM.TO @ $70.00

This, together with my orders for Intel (INTC) and MicroSoft (MSFT), make up my shopping list.  I have placed an order below the current price and will wait for a dip.


Today, 9th August, I updated my order:

  • BUY CM.TO @ 71.40


Today, 28th August, CIBC is at $76 with no sign of falling.  Seems I picked the right stock but was greedy with my bid.  I took the opportunity to re-evaluate the Canadian banks.  I judge that BMO is now the best value, especially since it upped its dividend today to a touch under 5%.  I cancelled the CIBC order and placed an order for BMO.

  • BUY BMO.TO @ $57.00


Today, 4th September, my BMO buy order was executed at $57.


Today, 4th October, this trade looks like a good call.  BMO closed at $59.06 today, up 3.6% in a month.

Getting into Microsoft and back into Intel

Back in May I identified Microsoft (MSFT) and Intel (INTC) as core positions.  I have been waiting for a pullback to get into these stocks.  Tech stocks are generally cyclical – peak in winter and trough in summer – and it looks like that pattern will hold true again this year.  Both are down since their recent highs and both fell around 3% today.  I have placed orders 10% below current market prices and I’ll wait for a bite.

  • BUY MSFT @ $26.75
  • BUY INTC @ $23.50


These orders were not executed as the price has remained too high.  Today, 23rd July, I have increased the bid prices.

  • BUY MSFT @ $28.55
  • BUY INTC @ $24.70


Today, 8th August, I updated these orders.

  • BUY INTC @ $25.90
  • BUY MSFT @ $29.60


Today, 23rd August, my Intel order was executed.  The price had fallen as Warren Buffett exited his Intel position.


Today, 10th September, the Microsoft order expired.  The price is simply too high for me.  I’ll wait to see how US markets perform in September (usually a bad month) before placing another order.


Today, 24th September, the Intel order looks like a bad call.  Intel opened today at $22.93, down 8%!!  Looks like it’s a bad idea to bet against Buffett.

Core Positions

The first level of my Investment Process is asset allocation.  My current asset allocation is:

  • 25% cash
  • 25% bonds
  • 6% gold
  • 44% stocks

I do not currently have any plans to change this.  The next quarterly asset allocation review is at the end of June 2012.

The second level of my process is the establishment of core positions.  My process requires that we perform a fundamental analysis of the stocks in my portfolio and my watch list.  So, how do we establish a watchlist?

Step 1: I want to begin with biggest stocks on the TSX (those with market cap of more that $5B).  I then remove any stocks that do not meet the basic criteria in my Investment Policy (dividend below 3%, P/E Ratio over 20).  This gives me a list of 24 stocks.

Step 2: Canada does not have a strong technology sector (Nortel and RIM are bankrupt and nearly bankrupt respectively).  So I prepare a list of all US technology stocks with market cap of more than $50B.  This gives me 13 stocks.

This gives me my watchlist:

Ticker Name
GWO Great-West Lifeco Inc
PWF Power Financial Corp
CM Canadian Imperial Bank Of Commerce
HSE Husky Energy Inc
REI.UN RioCan Real Estate Investment Units
BMO Bank Of Montreal
POW Power Corp Of Canada
COS Canadian Oil Sands Ltd
IGM Igm Financial Inc
ERF Enerplus Corp
BPO Brookfield Properties Corp
BNS The Bank Of Nova Scotia
BCE Bce Inc
NA National Bank Of Canada
SJR.B Shaw Communications Inc
RCI.B Rogers Communications Inc
RCI.A Rogers Communications Inc
TD Toronto Dominion Bank
RY Royal Bank Of Canada
CIX CI Financial Corp
IPL.UN Inter Pipe Fund Units
FTS Fortis Inc
AAPL Apple Inc
INTC Intel Corp
CSCO Cisco Systems Inc
TSM Taiwan Semiconductor Manufacturing ADR Representing Five Ord Shs
BA Boeing Co
IBM International Business Machines Corp
MSFT Microsoft Corp
GOOG Google Inc
ORCL Oracle Corp
SAP SAP Aktiengesellschaft ADR Rep 1 Ord Shs

When American Depository Receipts (ADRs) and duplicates (A/B shares) are removed from the list, our watch list contains 32 stocks.

Step 3: Using a spreadsheet I analyze the fundamentals to identify stocks with the best IRR using the method outlined in my Fundamental Analysis page.

Finally, for diversification I attempt to find the one or two best stocks in each major sector.  The resulting core positions are:

  • Bank of Montreal (BMO.TO)
  • Power Financial (POW.TO)
  • Canadian Oil Sands (COS.TO)
  • Intel (INTC)
  • Microsoft (MSFT)
  • Apple (AAPL) if it’s price falls a little
  • Telus (T.TO) (IRR is a little low but Gordon Return is high so I’ll accept it for diversification)
  • TransAlta (TA.TO) (IRR is a little low but Gordon Return is high so I’ll accept it for diversification)

I own all of these except Intel, Microsoft, Apple, and BMO.  I own Shaw but it is not a core position.  I will consider trading Shaw for BMO and might buy the others once I have more cash (e.g. when I change my asset allocation).