Three Questions for Bill Richardson Part 10

Question 1:  In a recent discussion, you mentioned that your approach is “multi-factor” whereas most ETFs are single factor.  Can you explain in more detail?

Let’s start by looking at ETFs and one very good one in particular – BMO Low Volatility Canadian ETF (ZLB).  Their mandate is quite simple – identify Canada’s 100 largest companies and then choose the 40 lowest volatility companies from that list.  Then, they rebalance mid-year and then run the screen again annually.  This ETF has performed ok over the past 5 years, returning 6.89% per year but is down 4.41% over the past year.  Over the past five years it has slightly under performed the TSX 60 Index, which has produced a return of 7.36%. Its three biggest sector holdings are Financial Services (22%), Utilities (16%) and Consumer Defensive (16%).  (source: Ycharts)

Single-factor ETFs produce great returns when the factor upon which they are based is trending positively.  From 2011 to 2015, ZLB returned 86% to investors but that was during a period of a falling Canadian Dollar.  During that period, the Canadian Dollar dropped 28% so we can attribute a big part of the total return to currency gain.  A drop in the Canadian Dollar generally adds to performance.  Ten-year interest rates dropped from 3.11% to 1.39%.  As financial services and utilities do well during periods of falling interest rates, a portfolio that holds high percentages of these companies will perform well.  It produced a total annualized return of 17% over this period.

Since 2015 and without these tailwinds, ZLB has produced a total return of 42% or roughly 8% per year which isn’t bad but during 2020, it dropped 34% which might not be a result that an investor who bought a low volatility ETF might expect.  With interest rates at historically low levels, performance of this factor may not be the optimal positioning (keeping in mind, rising interest rates are generally a headwind to financial services and utilities).

We follow a multi-factor approach.  We start with a twelve-factor screen – looking at such things as stock performance, earnings growth, profit margins, return on equity and company size.  We then look for companies with a medium to long term track record of strong earnings growth and where stock analysts believe that this trend will continue.  Then, we look for companies trading at reasonable prices and use technical analysis as it helps to spot where a company may have problems in the future. 

Multi-factor should help improve returns and reduce volatility over time.


Question 2:  Yogi Berra described baseball as “being 90% mental and the other half is physical”.   How important is the psychological aspect of investing?

I think Yogi’s statement may very well apply to investing in some cases but not all.  If you are a short-term trader, psychological factors play an important role as it hinges on gambling and risk.  If a trader just took a $100,000 loss, his confidence may be shattered and this may lead to a series of poor trades, just like a baseball player who is in a slump.

For most investors, there are periods of low stress when every quarter you open your statement and the total value of your investments is higher than the month before.  During periods like this, it is not uncommon that when we call to book a review, we get a response that everything is fine and there is no need to meet.

Where psychology plays a much greater role is when equity markets are in turmoil, like earlier this year when COVID-19 hit markets hard.  Many investors, who were nervous investors to start, sold out right at the lows and many will stay out until stocks are ready to peak again and then they can’t take the heat that they are missing strong returns and they will jump back in  just before markets turn down again.

As advisors, our job is to not get too excited when times are great and not too stressed when times are bad.  We try to understand our clients and steer the nervous, shorter-term investors to more conservative and less volatile investments and hold the hands of more aggressive investors when things get rocky. 

The best time to assess your reaction to stressful periods is during stressful period.  Your goal should always be to find the right combination of potential returns and risks so that you can sleep at night and take psychology right out of the equation.


Question 3:  As we enter the fourth quarter of the year, what are some tax preparation steps that we should take?

Here is a list of some things that you should consider:

  • Open or top up a Registered Education Savings Plans (RESPs) for your kids or grandkids
  • 2020 has been a tough year for charities due to COVID-19.  Help them out by making contributions by year-end
  • Doing some tax-loss harvesting (selling losing positions when stocks are down to recapture some capital gains paid).  The challenge with this strategy is if you have a good company with strong fundamentals and sell that stock to generate a capital loss, you (or your spouse) can’t buy it back for 30 days, otherwise the capital loss will be negated.  The problem arises, if you sell the stock and it jumps up by 10-15% you would miss out on that, so are you really any further ahead?  Check your situation to see if this is a good strategy for you.
  • Check your marginal tax rate (the rate at which you pay tax on additional dollars earned) to see if there is an opportunity to reduce your taxable income below a marginal tax threshold and save some tax money.  Alternatively, if you are in a lower tax bracket this year, you may want to consider triggering a capital gain or redeeming some RSPs to take advantage of the lower tax rate.


There are others.  Give me a call to see if there are opportunities for your specific situation.

Until next time, have a great day!