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Archive for April, 2012

Now THAT’s a Tax Loophole!

April 25, 2012 1 comment

The problem with simple taxation systems is that they are unfair, taking too much tax from some people and not enough from others. So we add some subsidies and exceptions, and end up with a complex tax system. The problem with complex tax systems is that with so many subsidies and exceptions there are more opportunities to avoid taxes, even on the things that are most deserving of taxation. So we always need even more exceptions to correct this.

John Kay highlights a proposal in the UK to make sure that taxes are applied correctly based on whether food is served hot or cold. Hopefully that will reduce the incidences of Cornish-pasty-based tax avoidance . Just be thankful that doing your taxes doesn’t involve an instant-read thermometer… yet!

Learn How to Invest Like Old Money

April 19, 2012 Leave a comment

A commenter on another blog pointed to this article from the US News and World Report, where James Rickards examines how “Old Money” families hold on to their wealth. He seems to be an expert on Old Money and how to become New Money by charging them high fees for advice which is really just making them feel better about doing the wrong thing.

As the article says,

When one inquires of family members and representatives as to what it takes to preserve wealth over centuries and not just cycles, the frequent reply is “a third, a third, and a third.” This is shorthand for dividing one’s wealth into one-third land, one-third gold, and one-third fine art.

So you really don’t need to bother with all these liquid assets that you can sell on the day you need the capital for something else. Instead you could hold things that take 20 years or more to sell so you have more time to appreciate the finer points of your portfolio. After all,

the basic idea that land, gold, and art outlast and outperform riskier assets such as stocks, bonds, and cash seems sound when viewed from the perspective of centuries and not just years or decades.

In the end, who needs something that can grow 10x or 100x in a lifetime when you can own an asset that will merely preserve its value over the next 300 years? In fact, the old money might have to stop holding so much land. After all if it’s in the right place and it’s managed well (though a lot isn’t) they might move from preserving wealth to enhancing it.

Sure, you can point to people who have risen from earning money with a newspaper route to being the richest person in the world in only 50 years and ask why the Old Money didn’t manage to top that level of wealth since they had a big lead in time and assets. But what is that really worth when

Buffett’s Berkshire Hathaway stock when priced not in dollars but in ounces of gold has declined in value by about 75 percent since 2000 from 280 ounces per share to 70 ounces per share. Put differently, someone who bought gold rather than Berkshire in 2000 could today buy four times as much Berkshire stock using the same gold.

Apparently we need to correct the story. Old Money didn’t invest in gold at all until the year 2000. How could they buy gold at such a good time if they already owned it (and had lost vast amounts of wealth when it declined from its peak in real value 30 years ago and has never risen that high since)? In the 70s and 80s they saw how well it was doing and started to sell their art collections so they could invest in gold by 2000 when it was at a low point because no one wanted it.

So forget all your modern ideas about investing in financial securities available to everyone and “getting rich quick” in only 40 years. The real path to wealth is to patiently wait around until a dictator takes something by force and gives it to you in return for passive-aggressively supporting them (you really had no choice since supporting anyone else had a higher chance of getting you beheaded), and then to pin all your hopes on those specific assets. You will mostly preserve your level of wealth, by guaranteeing that it doesn’t increase over time.

As your initial wealth slowly erodes over generations and gets divided up between increasingly irresponsible offspring who can’t manage investment returns (let alone working income) to match their spending, they can still pretend that they really own the old estates by using advanced methods to hiding their spending and debts. And no one knows what the asset is really worth when you can only sell it once per generation. Since the valuation is unknown so you can re-inflate your portfolio every year by declaring that your assets have increased in value. You can even set up a fictitious market and trade assets with other Old Money families at these imaginary prices so you can mark to market (as the kids call it these days).

And that’s how you “preserve” wealth so that one day your descendants can desperately cling to the last remains of faded glory from 200 years ago while giving it all to lawyers to decide who gets more of nothing. Who’s with me?

Banks Should Offer Forced Savings Plans

April 17, 2012 2 comments

Around this time of year lots of people talk about interest-free loans to the government. While it’s true that you can do better than getting a tax refund it’s not all bad as Preet Banerjee points out again in the Globe and Mail. Many tax refunds get wasted, but it’s a bit harder to waste a few thousand dollars once a year than it is to waste a few hundred dollars every month.

In fact some research I saw a few years ago pointed out that many people in poor countries and even here do similar things that cost money but let them work with larger amounts that they are more careful with and wouldn’t normally have access to every month. For example buying lottery tickets isn’t all that bad if you tend to spend bits of cash under $10 on silly things, but you have a chance to win $2000 and you would use at least half of it for something worthwhile like purchasing an appliance you need. The money you spent on the tickets would have been wasted anyways but the amount you win could lead to something better.

It strikes me that banks should really be offering an alternative. It’s clear that many people need the ability to turn a stream of small monthly or daily payments into a large amount that they can access all at once at irregular intervals, because they take notice of the large amount and they are more cautious. The economics of a lottery are terrible, and I’m sure that a bank could offer something better while making a profit.

From what I hear there used to be something called a “christmas account” that paid out once a year, but it seems very rare now and December is a more dangerous time to get access to a large amount. People really need an option that pays out every 1-3 years at a time that can change, but can’t be changed after they put the money in. It would have to have some kind of big penalty if you took out the money earlier (maybe paying in lottery tickets). It would be even more powerful if the payout time and amount was randomly determined since that would be a lot like a lottery and people would actually get hooked in to do it more.

Instead of advertising that “you can spend more than you think” banks could actually do something useful that helps people. What do you think? Is there any chance of that happening? Is this a business opportunity for someone to operate in the same market as the payday-loan / check-cashing places?

Are Stocks Cheap or Expensive Now?

April 14, 2012 Leave a comment

One common fact going around recently is that stocks have a relatively low P/E but this is because they have record earnings. If those earnings were to fall back to lower levels in the near future, the value of the stocks would actually be less than it seems to be now.

I recently saw an alarming chart to this effect, showing that US quarterly corporate profits rose from around $375B in 1988 to $825B in 1997, and then a few years later started a roller-coaster ride shooting up to $1875B in 2006, falling down to $875B in 2009, and then going back over $1900B now. Such a quick rise would seem a bit too fast and they might fall again.

So which is it? Are stocks cheap because of their relatively low P/E ratio or expensive because the earnings are too high? This chart based on 50 years of S&P 500 data might help to get a better look:

(Data obtained from http://pages.stern.nyu.edu/~adamodar/New_Home_Page/datafile/spearn.htm.  Yields are on the left side and all other numbers are on the right side.)

It shows that as of the end of 2011, the earnings were barely above trend after hitting a peak around 2006 and falling until 2009. The earnings yield looks relatively good on here too, almost the opposite of what it was in 1999. The dividend yield seems to be at a fairly low level though.

The index level has risen since the end of the year and things may be a bit less attractive now, but it doesn’t look like the S&P 500 earnings are unusually high so it still seems reasonable to measure prices relative to that.

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