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Leveraging into Equities – The ONLY Source of Wealth?

Ed Rempel, a certified financial planner (CFP) and accountant, is a regular comment contributor to this blog. He is well known for his strong opinions on using leverage for financial gain. Here is an article that he has written on leverage.

I was browsing through Forbes latest list of the 400 richest Americans and it occurred to me that they almost all made it there the same way. Basically, the ONLY way they made it super-rich is by leveraging into equities!

Only 21 inherited it – the rest made it themselves. Many people might assume there would be celebrities, such as movie stars or athletes, but the only celebrity on the list is Oprah Winfrey. Essentially everyone else made it there by leveraging into equities – or inheriting it from people that leveraged into equities.

Most of them made it there by building a business. Nearly all of them started up a company and borrowed to invest in it. And then their business would borrow a lot more money, which is necessary to grow quickly. Making it rich without leveraging is not really possible.

Of the 400 richest, 37 made it there as mutual fund or hedge fund managers, and 22 are investors – all investing in equities. 28 made it in real estate, but really it was by building a real estate company. Even Oprah Winfrey built a media and entertainment business.

Businesses are equities. Whether they borrowed to invest in one business or many, the ONLY real way to major wealth is by leveraging into equities.

This leads to the obvious question – if leveraging into equities is the ONLY “yellow brick road” to wealth, why don’t more people do it?

The answer is fear – fear of leverage and fear of equities – both of which are partially well founded and partially highly exaggerated.

Talbot Stevens wrote that “Leverage is a power tool”, which describes it very well. Nobody questions that a power saw will cut a board quicker, straighter and cleaner than a hand saw. If you are uncomfortable with power tools, you may be scared to use it – and if you use it badly, you could hurt yourself badly.

Leveraging into equities is the same. You may be scared to do it and if you do it badly, then you could really hurt yourself. But in skilled hands, it builds wealth far more quickly and directly. By leveraging, you can make a lot of money with solid investments. Without leverage, you can only do it by buying very risky investments.

There are also all the facts about how terrible most equity investors. Based on the Dalbar study, the average investor averaged 3.5%/year for the last 20 years, while the funds they owned averaged 11%. Buy an average fund and hold it and you make 11%, but the average return of millions of investors is only 3.5%! Why – because most of us actually believe we can successfully market time.

The entire field of Behavioral Finance is very entertaining. It is all about all the cognitive errors we as humans are conditioned to continually make.

However, there are solid investment strategies. There are exceptional investors that beat the markets by wide margins over time. They constantly study the markets and they all can tell you why they beat the indexes. We call them “all-star fund managers”.

You can get over the fear of equities by having a solid strategy, continually studying the market and constantly resisting human tendencies – or you can just hire some of these “all-star fund managers”.

Leveraging into equities is also the main reason for the power behind the Smith Manoeuvre and the Rempel Maximum.

Bottom line – use leverage skillfully and invest either with or like the all-star fund managers – and you can get onto the ONLY road to wealth.

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About the author: Ed Rempel is a Certified Financial Planner (CFP) and Certified Management Accountant (CMA) who built his practice by providing his clients solid, comprehensive financial plans and personal coaching.

Ed has written numerous articles to educate the public and his clients on his unique insights into strategies that actually work, instead of the “conventional wisdom” common in the financial industry.

Ed has trained more than 200 financial advisors and is considered the Smith Manoeuvre expert in the Toronto area. He has received accolades from Frasier Smith in his book “The Smith Manoeuvre” for customizing this strategy for hundreds of clients. His extensive experience in tax and finance has placed him in high demand. Ed’s team collaborates on each of their clients to help them create financial security and freedom.

{ 47 comments… add one }
  • Canadian Capitalist May 3, 2007, 9:52 am

    I am sorry but I think this argument is a bunch of baloney. Millions of people start businesses and don’t end up on the Forbes 400 list. In fact, most start-ups fail miserably. Warren Buffett, one of the most successful businessmen/investor ever and #3 on the list has this to say about leverage:

    “The most dramatic way we protect ourselves is we don’t use leverage. We believe almost anything can happen in financial markets… [so] even smart people can get clobbered with leverage. It’s the one thing that can prevent you from playing out your hand.”

    There is a less risky way: spend less than you earn and invest the difference regularly in a diversified portfolio. You won’t end up on the Forbes 400 list, but you will be able to live in your own house, send your kids to school and have a nice retirement.

  • FrugalTrader May 3, 2007, 9:54 am

    CC, I was wondering how long it would take you to respond to the article. :)

  • Canadian Capitalist May 3, 2007, 9:57 am

    Seriously, I’ve heard this before. It’s just like saying, “Look at Microsoft. Its up a billion percentage since IPO. You really should invest in stocks.”. Conveniently forgotten are the Pets.com and millions of other “can’t miss” investments.

  • Canadian Capitalist May 3, 2007, 10:01 am

    Oh, and for the record, I don’t fear of equities. I survived the last brutal bear market but I am not sure I would have survived it if I had used leverage. Also, I’ve done leverage (other than mortgage) occasionally, when an opportunity comes up that I think can’t be passed up. But its never more than 5% of our net worth.

  • Mike May 3, 2007, 10:14 am

    Great comment CC. If I can add one thing:

    Saying you need leverage to make the Forbes 400 is equivalent to saying you need to buy lottery tickets to win the big jackpot.

  • David May 3, 2007, 12:04 pm

    FT,
    It seem that your blog has ‘arrived’. You now have contributing editors providing initial content. Congratulations on growing your blog to the point where it is seen as a medium for the dissemination of information far beyond it’s original intent.

  • ThickenMyWallet May 3, 2007, 12:06 pm

    The issue with Ed’s post is that he makes a leap from leveraging to grow a business to leveraging for personal finances.

    For businesses (having run one myself), leveraging is necessary to grow. A Nobel Prize in economics has been awarded to someone who proved this theory. Business is, in and of itself, risky. Leveraging is part of that risk one takes in operating a business (as a side note, and without having read Buffet’s comment in context, insurance companies, like the one Buffet operates, are pure leverage plays- I suspect his quote is about how he pays for investments and not how an insurance company runs).

    However, there is quite a large leap to say that just because Rogers takes on millions of debt to build a wireless network, the “average” investor should do the same.

    This is where I think Ed’s commentary falls short. It is taking leveraging in one context (business), which is technically correct in its analysis, and attempting to apply those same rules to another context (personal finance) when most individuals have (i) not the risk tolerance of a business and (ii) are not playing with other people’s money like a publicly traded security.

    Risk is always in the eye of the by-holder. Ed’s using examples which are not conceptual comfortable for most.

    Interesting post nonetheless. Keep up the good work.

  • FrugalTrader May 3, 2007, 12:11 pm

    Thanks for the compliment David! What really keeps me motivated is the fact that you readers keep coming back and contributing.

  • Blain Reinkensmeyer May 3, 2007, 3:04 pm

    Solid post here, leverage is everything! I also like the last line,

    “use leverage skillfully and invest either with or like the all-star fund managers – and you can get onto the ONLY road to wealth.”

    it is definitely possible. :)

  • FinancialJungle May 3, 2007, 3:08 pm

    It amazes me how well Canadian Capitalist and Thicken My Wallet articulate their points. Great work.

  • Ed Rempel May 3, 2007, 7:13 pm

    Interesting comments. CC, my post was about leveraging to equities being the ONLY way to be a billionaire, but (although I’ve never found any studies) I’m sure this holds true for moderately wealthy people. My guess is that 98% of people worth $5-10 million made it by leveraging into equities, and probably at least 80% of those with $2 million.

    Of course, this does not mean everyone should leverage. But I think it is a power tool that should be far more commonly used. Fear of leverage is one of the main reasons most Canadians are not wealthy.

    Valid point about all the people that lose money, but that is really other topics – bad investing, not measuring or knowing the risk of your portfolio, or not thinking long term.

    Thick, if leverage is smart for businesses, why is it not smart for individuals? Most people are uncomfortable with it and many for good reason (because they would implement it badly), which is exactly why I wrote this post.

    Businesses also have an optimal level of leverage. If you can invest in your business and make 20%, then you should leverage more highly. And companies often issue more shares to pay off loans, or borrow to buy back shares, depending on the optimal level of leverage. I think there is an optimal level of leverage for most people as well.

    Ed

  • The Money Diva May 3, 2007, 8:12 pm

    In today’s post, my accountant told me to “Make sure that you are doing good investing and making money rather than simply structuring for tax effectiveness.”

    The same advice could apply to leveraging. FIRST make sure you are doing good investing, THEN consider applying leverage to increase the benefit of this good investing.

    MD :)

  • Q Cash May 3, 2007, 8:26 pm

    The Money Diva has it right.

    Find the good investment, then decide if leverage is right for you.

    I am at a point where I don’t want to leverage as I see it as taking on unnecessary debt to buy something that may or may not go up in value. Could I buy more of the investments I hold if I leveraged? Of course. Will I sleep better? No.

    I used leverage to purchase real estate (that is what a mortgage is, right) and I have borrowed against paid off real estate to buy other realestate. So I am not against it.

    However, I think you have to look at your overall portfolio strategy to decide whether you want to take on any debt and how best to utilize it.

    Q

  • Canadian Capitalist May 4, 2007, 12:13 pm

    Ed: I’ll accept that the majority of moderately wealthy people got that way by starting a business (Millionaire Next Door makes this point). But you cannot make the link that starting a small business is the same as leveraged investing.

    Leveraged investing depends on how much extra returns you make over your borrowing costs. Borrowing costs today are around 4% accounting for a tax break. Future equities returns are likely to be modest in the 7% range (6% after taxes). To earn 2% on money you don’t have, you are taking the risk that equity returns will be more than your borrowing costs. Not an appetizing risk/reward scenario in my opinion.

  • Wolf Stone May 4, 2007, 11:18 pm

    Since i rarely hear or read about people discussing leverage, i especially like the discussion FT, Canadian Capitalist, FinancialJungle and others have going.

  • Ezboy May 5, 2007, 12:44 am

    This is a great post.

    For those of you not too comfortable with leveraging on equities, but took out a mortgage to buy your home, do you know that in the last 25 years or so, the annualized prime rate was about 10%, the TSX total return was about 11%, but real estate price only grew by 5% to 8% depending on which city you are in?

    By the way, FT, this may be a candidate for a new topic.

    My banker just sold an investment to my Dad. It was the index linked GIC. The nice thing about it is that the bank is willing give you a credit line for the full principal amount. The issuer gaurantee the principal at maturity (in my Dad’s case, it is the bank who make the gaurantee). For a 3-year maturity note, the return cap is 20%, for a 5-year maturity note, the return cap is 60%.

    Beside the return cap, you don’t collect any dividends which you would get for investing in the corresponding index fund. On top of this, according to the banker, any return you get at maturity need to be reported as interest income to CRA.

    Despite these shortcoming, this type of investment looks really attractive to retirees who fears losing the principal. All you can lose is the interest. It is also “attractive” to leverage investor, it give you another highly effective collateral for leveraging.

    EZ

  • Mike May 5, 2007, 1:30 am

    EzBoy – you are forgetting about the “dividend” part of the real estate equation. Ie you can live in your house for free, so that equates to a monthly dividend equivalent to rent. I think that would change the numbers a LOT!

  • Ed Rempel May 5, 2007, 1:30 am

    Interesting comments.

    CC, regarding the risk/reward scenario, the breakeven on leverage is much lower than most people think. Based on studies by Talbot Stevens, the breakeven point for leverage in general is 2/3 of the loan interest rate over 5 years, or 1/2 the interest rate over 15 years. So, if your HELOC is at prime, you only need to make 4% over 5 years or 3% over 15 years to break even. This is because of the different tax treatments and because the investment growth is compound growth while the loan interest is simple interest. (This assumes a 100% tax-efficient investment.)

    I see investing in a business and leveraging into equities as degree differences of the same strategy. What the super-rich do is generally not recommended. They mostly leverage heavily into only one company. Bill Gates leveraged heavily into 1 tech stock, which is of course, highly risky.

    However, for the average person, leveraging into a diversified, professionally-managed portfolio for the long term is a reasonable way to build wealth. And leveraging into equities is the main way and the easiest way to become moderately wealthy – as long as they invest well.

    So why not be satisfied with playing it safe and having less money? While we talk a lot about various leverage strategiess, SM and Rempel Maximum, the main thing we actually do is help Canadians achieve their financial goals, especially retirement.

    Most Canadians want to retire at their current lifestyle, assuming the mortgage is paid off and the kids have left, plus a bit for travel. Given that inflation will double the cost of living before most of us retire and at least double it again, the nest egg needed to retire at your current lifestyle is far higher than most Canadians realize.

    Assuming you can average 8% on your investments for life, most Canadians will need $1-1.5 million in financial investments to have enough to maintain their current lifestyle. We worked this out in detail for well over 1,000 families and most will need this much, and many will need far more.

    This is why leveraging into equities should be far more common than it is – as a vital part of their retirement plan.

    Fear of leverage usually is only lack of confidence in the investments or the investment strategy. This is the main reason most Canadians are not wealthier. The focus needs to be on how to invest effectively.

    I’ll add more to these issues in future posts.

  • Ed Rempel May 5, 2007, 1:48 am

    Hi EZ,

    I’m not a fan of index-linked GIC’s, especially for leverage. First, you give up all the tax advantages, since it is fully taxed as interest. You lose the capital gains tax advantage and the nearly permanent tax deferral you can get with equities.

    Second, the formulas to calculate your profit end up giving you only about half the growth of the market. They take a percentage of the growth and then the final price is the average price in the final year. If the market makes its 8-10% average, you only get 4-5%, which is about the same as any other GIC and less than your cost of leverage. Unless we are in a bull market, you will lose money leveraging into index-linked GIC’s.

    I don’t really believe in guarantees, since they always cost money and rarely protect you against anything that would actually happen. If you must have a guarantee, however, go with seg funds. Their extra cost is much lower than what you lose with GIC’s.

    I understand your point about it being easier to use GIC’s for collateral, but mutual funds and seg funds are easier to leverage than most people realize.

    Good point about real estate. Mike pointed out that you didn’t include the “dividend” from living there, but the off-set is that you also didn’t include the costs of living there – mortgage interst, loss of growth on the down payment, utilities, taxes, and repairs & renovations (which rarely add much to the home value). So, I think your point is valid.

    Ed

  • Ezboy May 5, 2007, 2:45 am

    Mike: “You are forgetting about the “dividend” part of the real estate equation. Ie you can live in your house for free, so that equates to a monthly dividend equivalent to rent. I think that would change the numbers a LOT!”

    Mike, you are right, I left out the rental income part. But the difference is not that big. One can expect a 6% or 7% gross on rental income, but the cost in property tax, maintenace, insurance vacancy and agent fee add up to about 3% to 4%. On top of that, the transaction fee for real estate sale is somewhere between 3% to 5%. So, put that back into the equation, one would only match the TSX total return at best.

    Ed Rempel: “I’m not a fan of index-linked GIC’s, especially for leverage.”

    Ed, I am not a fan of it either. But, that product seems so attractive to those principal protector. By the way, my Dad used to use term deposit as collateral.

    EZ

  • FinancialJungle.com May 5, 2007, 2:56 am

    The index-linked GIC (Principal Protected Notes??), doesn’t seem to make sense to me because the 8-10% market return is realized by the bank in the form of capital gains, while your share of the 4-5% is taxed at the full personal income rate. Not a fair proposition. The banks won’t leave free money on the table. They’re simply repackaging what’re already available. I’m sure you can contruct your own index-linked GIC with a combination of traditional GICs and index funds without the extra fees.

    Regarding the use of GIC as collateral, why would anyone lend money to the bank and only to borrow it back at a higher rate? Moreover, your GIC income is taxable, while your interest expense is not tax-deductible if it’s for personal use.

    Ed: “the investment growth is compound growth while the loan interest is simple interest.”

    This may be over my head, but doesn’t simple interest have the element of coumpounded lost opportunities? In other words, every dollar used to pay off the simple interest this year is a lost dollar plus interest for next year, the year after, and so on.

  • FinancialJungle.com May 5, 2007, 3:11 am

    “But, that product seems so attractive to those principal protector.”

    Someone has to research the holdings inside this index-linked product to get a realistic anticipated return.

    Excluding taxes (inside RRSP?), you can allocation 80% to a 5-yr 4.46% GIC, and the remaining 20% to a TSX index fund. Here you have your custom made index-linked GIC that guarantees your principal, and the performance is linked to the market.

  • Ezboy May 5, 2007, 5:35 am

    Ed Rempel: “Second, the formulas to calculate your profit end up giving you only about half the growth of the market. They take a percentage of the growth and then the final price is the average price in the final year. If the market makes its 8-10% average, you only get 4-5%, which is about the same as any other GIC and less than your cost of leverage. Unless we are in a bull market, you will lose money leveraging into index-linked GIC’s.”

    Ed, the one my Dad get into is better than most of the index-linked GIC in the market. It has no return gaurantee, but the maturity price will be calculated by the closing price of the index on the previous settlement date. There will be no price averaging rip off. The principal gaurantee is for real too. Think about it, you don’t collect the stock dividends, so the bank pick up that 2% to 3% dividends. That is enough to cover the seg fund premium.

    The real turn-off is the tax reporting part, one has to report the earning as interest and pay twice amount of tax. It stings. On top of that, one has to report all the earning for 5-year on the maturity year. This double stings.

    But, they protect your principal.

  • Ezboy May 5, 2007, 6:31 am

    FinancialJungle: “The index-linked GIC (Principal Protected Notes??)”

    FJ, actually, the product is called Market Growth GIC by that bank.

    FinancialJungle: “Regarding the use of GIC as collateral, why would anyone lend money to the bank and only to borrow it back at a higher rate? Moreover, your GIC income is taxable, while your interest expense is not tax-deductible if it’s for personal use.”

    Even for personal use, there is advantage to this strategy. When the interest rate yield curve is normal, that is, the long term interest rate is higher than the short term interest rate, this strategy save you money.

    Now, the interest yield curve is inverted, this strategy has only limited used. One can only use it to get rid of the checking account. Plus the non-interest earning minimum balance or the service charge that come with a checking account.

    EZ

  • Mike May 5, 2007, 11:34 am

    Regarding the real estate “dividend”…you guys are right – I kind of forgot about the other expenses of owning a house. Interest, taxes, repairs etc etc etc. Makes me wonder why I’m not renting…

  • Ed Rempel May 6, 2007, 1:21 am

    Hi EZ & FJ,

    I guess my biggest issue here is that I rarely consider guarantees to be worth anything at all. With these products, the only reason anyone would use them is because of the guarantee.

    Seg funds don’t limit your upside at all and guarantee your principal after 10 years, but again I don’t see any benefit in the guarantee.

    The markets are rarely down for long periods of time. Since 1940, the S&P500 has been down over 5 years only 2 times and never down over 10 years. The fund managers we use in leverage portfoliios are more consistent and have never had even a 3-year negative period.

    Also, if you are looking for a guarantee, you aren’t looking for the “all-star fund managers” that beat the markets by wide margins over long periods of time.

    From my perspective, the guarantee is worth zero. So why even consider a market-linked GIC that limits the market upside and where we lose all the tax benefits of investing in equities?

    Ed

  • Ed Rempel May 7, 2007, 1:43 am

    CC & Thick,

    I just want to make sure my point here is clear. The super-rich made it by leveraging heavily (including Warren Buffett) usually into one business. For the average person, the main road to moderate wealth is by leveraging, but usually into a bunch of businesses – which is an equity portfolio or mutual funds. This is the easiest road and almost the ONLY road to moderate wealth.

    Leveraging into 1 business and leveraging into a bunch of businesses are obviously similar strategies.

    The main difference is that leveraging into mutual funds (a bunch of businesses) is clearly far less risky than into just 1 business.

    I’m NOT saying everyone that does leverage becomes wealthy. In fact, most invest badly or their business goes under.

    I’m also NOT saying leveraging is for everyone. Most people don’t really want to do what it would take to be wealthy. Most Canadians are happy with a middle class lifestyle and don’t want to be worried about financial strategies or work hard in a business.

    However, if you do want to become wealthy, you need to do what the moderately wealthy do – which is to leverage into equities (either 1 or a bunch of businesses).

    Moderate wealth can be in several categories:

    -2-4 million: Beer and pretzels millionaires (can live comfortably on beer and pretzels for life).
    – 4-10 million: Champagne & cavear millionaires.
    – Over 10 million: Butler & chauffeur millionaires.

    Accumulating $1 million over 20 years with a moderate amount of leverage is relatively easy – if the investments are effective. Higher amounts require more leverage or more time.

    Ed

  • ezboy May 8, 2007, 7:14 pm

    Ed: “I guess my biggest issue here is that I rarely consider guarantees to be worth anything at all. With these products, the only reason anyone would use them is because of the guarantee.”

    Ed, I surely agree with you on this. Guarantee worths nothing. However, you and I believe in this just because we took the trouble to analyze the historical return of major indexes. For the average person, like my Dad, the guarantee means quite a lot to them.

    Talking about seg funds, I remember what my investment advisor told me when I asked about it. He said, for a relative conservative fund like the TSX 60 index, bank index or Canadian dividends fund, the premium of 1% to 3% of the seg funds is just a waste of money. For an aggressive fund, like high tech and pharmaceutical, the premium will burn you. After the tech bubble of 2000, a lot of seg tech fund raise the premium to above 10% to cover the loss. That totally defeat the purpose of a seg fund.

    EZ

  • Wealth Building Lessons May 14, 2007, 3:45 pm

    interesting observation (although not too popular!).

    But I tend to agree with you, leverage really does boost your investing performance.

    I bought a house for rental purposes. I borrowing 100% and paid $5k in closing costs. I was negative $100/mo for 12 months before I sold it. I was in it for $5k + $1200 = $6.2k.

    I made a profit of $75k on it in about 12 months. Try turning $5k into $75k in a year without leverage. Its next to impossible.

    Of course, leverage cuts both ways. A wrong financial decisions can destroy wealth just as fast.

  • Adventures In Money Making May 14, 2007, 3:52 pm

    Leverage definitely helped me pull myself out of debt and put me in a position where my net worth is 10x my annual salary in 4 short years.

    The next step to leverage is use other people’s money to invest and take a cut of that. just like the hedge fund managers do. they’re amongst the most highly paid people on the planet.

  • FinancialJungle May 14, 2007, 9:48 pm

    Leveraging with negative cash flow is dangerous. If someone is still willing to pay more than what you paid, that person is a greater fool. This can’t go on forever, and eventually someone’s going to get hurt.

  • Adventures In Money Making May 14, 2007, 10:54 pm

    FinancialJungle,

    I totally agree with you. which is why I sold it and now rent that same condo back from the new “investor”.

    unfortunately for my landlord, in the past 2 years, the condo lost 70k of its value, bringing it close to what I paid for it!

    however, on another note, if you buy a property with 100% financing, you shouldn’t expect it to cashflow.

  • FinancialJungle May 14, 2007, 10:58 pm

    Brilliant! Hope your landlord isn’t reading this blog. :D

    Wish I can say the same with the Vancouver real estate. When is it going to crash? Hmm… Maybe I’ll write an article on that.

  • Adventures In Money Making May 14, 2007, 11:06 pm

    well my landlord definitely can’t blame me. Her niece was the real estate agent and I paid her a 3.5% buyers agent commission. (2% was typical at the time)
    So if she has any issues she can take it up with her agent ;-)

    don’t know about Vancover but I visited Toronto 2 yrs ago and it definitely did not seem cheap!

    Timberwolf is a timber company which owns substantial amounts of vancouver island. i might be a buyer of that stock on pullbacks.

  • falconaire@sympatico.ca: Sandor June 8, 2007, 8:14 pm

    I would like to refute my friend CC’s argument in post #1.

    It is about the evils of leveraging and CC’s argument goes like this:

    I am sorry but I think this argument is a bunch of baloney. Millions of people start businesses and don’t end up on the Forbes 400 list. In fact, most start-ups fail miserably. Warren Buffett, one of the most successful businessmen/investor ever and #3 on the list has this to say about leverage:

    “The most dramatic way we protect ourselves is we don’t use leverage. We believe almost anything can happen in financial markets… [so] even smart people can get clobbered with leverage. It’s the one thing that can prevent you from playing out your hand.”

    Well, I looked up Warren Buffet’s consolidated balance sheet and found that in 1998 they borrowed $2,385,000,000 for investment purposes.
    This is the address:
    http://www.berkshirehathaway.com/1998ar/statements.html

    In the year 2000 the same liability was $2,663,000,000.
    (http://sec.edgar-online.com/2001/03/30/0000950150-01-000114/Section14.asp)

    Which means to me that they not only refused to practice what he preaches, but also they increased their borrowing by 278 million in two years.
    Admittedly, in view of the company’s success this debt is just a pittance, but they surely wouldn’t have borrowed if the reason were not there. But it was there, they found it reasonable to borrow.

    Sandor

  • oOKitijimaOo July 26, 2007, 10:20 am

    Personally, I love leveraging into Equity, maybe because I have not been burned by it yet. Or Perhaps I have properly diversified my portfolio to include Leveraging.

    I am not saying I know everything but if you can comfortably utilize leveraging to your advantage without causing the great ship to sink then this is something you might want to consider growing your assets.

  • Cannon_fodder August 20, 2007, 7:13 pm

    Ed,

    I’ve continued to enhance my calculator originally created to help me understand the Smith Manoeuvre. I’ve attempted to add a checkbox for the Rempel Maximum. But, I’ve run into a conundrum.

    If I use typical scenarios where the LOC interest rate is > than the mortgage rate, and if you borrow up to an amount dictated by the principle paydown of the 1st mortgage payment, you quickly run into a negative cash flow impact – in other words, you have to come up with additional money. I’ve also tried it a different scenario where you borrow an amount that requires absolutely no additional cash flow through the entire process and is timed to balance the LOC interest costs with the original mortgage payment.
    I’ve put in your numbers using the example above and the cash flow turned negative at the end of the 10th month and grew to require an additional $173 per month once the mortgage was retired.
    Of course, one could dip into the anticipated tax refund to help fund the additional cash required.
    I’d like to hear from you, the inventor of the process, so that I can properly adjust my calculator.

  • The Rat September 5, 2008, 9:20 pm

    Great article FT.

    I love leveraging and anything even remotely associated with the discussion of it. There should be more information out there about leveraging as a tool. Its interesting how you mention Talbot Steven…I just ordered a used book by him through Amazon just this past week for $2.95 and looking forward to the read.

    Regarding your article, I did not read it to attempt to make a debate out of it; I took it for what it was and the spirit of what leveraging CAN do for an individual’s personal finances and/or business.

    Good job in my view. It highlights the reality just how leveraging can be used to one’s advantage and hence ‘shave off time’ for reaching one’s end-goals.

    Cheers,
    The Rat
    P.S. Hit me up on my new site if you get a chance and let me know what you think or post a comment to a post

  • aolis November 19, 2009, 3:35 pm

    Ed,

    “All-star fund managers” are a myth. I have trouble undertsanding how you can publicly claim to be able to identify them without any proof. If it was so clear, you would certainly be able to give a list?

    If they “can tell you why they beat the indexes”, certainly everyone would be able to do the same? Wouldn’t the indexes themselves rise as all these companies started doing so much better?

    Much of your advice is very strong so it really suprises me when you pull this out. Is this because getting people to invest with fund managers is how you get paid?

  • Ed Rempel December 14, 2009, 2:40 am

    Hi Aolis,

    I hope you understand why we prefer to keep our specific fund managers confidential. They do exist, however. For example, our core Canadian equity fund manager has earned a cumulative return of 240% this decade vs. only 67% for the TSX60 TR.

    It’s standard deviation (risk measure) is 20% lower than the index as well.

    Most of their methods are known, but still not followed. For example, Warren Buffett noted 20 years ago that most of the top investors are value investors, but there still is no move toward value investing. If anything, value investing is becoming less popular today, as many investors are focusing more on short term trading and following trends. This is true even though most top investors don’t use graphs or active trading models.

    People seem to prefer overly-simplified methods, such as looking at a graph and making an easy (but dumb) trade. Value investing takes work to do properly – but has a much higher chance of long term success.

    The long term success of many value investors is well documented. Why isn’t everyone doing it?

    Why would the indexes rise because someone is a better stock-picker? Most top investors have portfolios significantly different than the indexes.

    You do seem to still really believe the Efficient Market Hypothesis. In recent years, academics have found more and more flaws in it to the point that it is generally believed to be only somewhat true. It seems there are all kinds of documented inefficiencies and ways to beat the indexes.

    Robert Shiller from Yale says the EMH “represents one of the most remarkable errors in the history of economic thought.”

    Ed

  • Ron September 4, 2011, 8:42 pm

    Ed – you are confusing equities with a business. The wealthy people you referred to who build wealth through their business indeed leverage their equity but they also control their equity. When you invest in an exchange traded stock, you are a minority shareholder with absolutely no power or influence or control over your investment. If the executives decide to pilfer the company’s profits or dilute your shares, you have no say on the matter. With mutual funds, it is even worse. Here, the fund managers will take a management fee regardless of the profits and you have absolutely no control over that. For instance, if the average return per year on a fund is 5% and they are taking 2.5%, you are giving them 50% of your profits with them bearing none of the risk and you bearing all of the risk. Why would anyone leverage in that scenario? The successful business owners I know were all majority owners of the their equity with complete control (or at the very least they were partners with a great deal of control over their investment).

  • Ed Rempel October 3, 2011, 2:02 am

    Hi Ron,

    Equities are businesses. Having your own business gives you control, but you still have many risks. In most cases, they are far more risky than large mature companies on the stock market.

    The returns of mutual funds are always shown after all fees. If the fund averaged 5%, then it actually made 7.5% before fees. That is low by long term equity standards, but not bad in the last decade.

    That is enough to make the SM quite profitable long term.

    You do need to do your due diligence, but we find that the top fund managers are easily worth their fee. It takes a lot to identify the most skilled fund managers, but there are some that beat the indexes by wide margins over long periods of time after all fees.

    Ed

  • hold February 17, 2012, 12:21 am

    Ed,

    You make a comment about identifying a star manager.

    “I hope you understand why we prefer to keep our specific fund managers confidential. They do exist, however. For example, our core Canadian equity fund manager has earned a cumulative return of 240% this decade vs. only 67% for the TSX60 TR.”

    I would like to know if you were using this same fund manager ten years ago?

  • Ed Rempel July 13, 2012, 12:11 am

    Hi Hold,

    This particular fund manager has been our core Canadian equity fund manager for 7 years.

    Identifying All Star Fund Managers is not as difficult as you think. Fund managers with real skill tend to maintain it. We have been using most of our fund managers for more than 5 years.

    You have to know what to look for, though. You have to avoid “closet indexers” and you can’t chase returns by just going with high recent performance.

    The most in-depth study on this topic is called “Active Share”. There are several articles on MDJ about it, such as: https://www.milliondollarjourney.com/truly-acitve-managers-outperform-being-different-is-key.htm .

    Ed

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