Advising clients with short careers

Investment bankers

In a typical case, the portfolio’s core is 80%, and alternatives take up the remaining 20%.

Core

The 80% core is 70% equities and 30% fixed income.

The equity basket is then divided into two parts: North American (Canada and U.S.) and global.

The North American allocation’s about 40%. “We pick these stocks using quantitative, qualitative and technical screens,” says advisor Rob Campbell. The quantitative screen cuts the universe of possibilities down to a shortlist. That basket has 20 to 25 names. Though concentrated, it’s still diversified across industries and sectors.

The global basket comprises the other 30%. “As much as we like to buy individual names, in the global context we don’t understand the financial reporting, speak the languages or have intimate knowledge of the economies, so we take a more passive approach.” Campbell uses index ETFs, and “we’ll combine that with the odd F-Class fund if we find a good global manager.”

On the fixed-income side, paltry yields on government bonds means he has to “get a little more active by adding more high-yield and convertible debentures.”

Alternatives

The alternatives bucket can include private placements and IPOs. Campbell also likes flow-through shares for their tax advantages. “If someone has a window of, say, five years where she knows she’s going to earn substantial income, we’ll put her in flow-throughs for a similar amount in each of those years.”

In any given year, the results may not be optimal, but returns will typically be strong over five years. These shares make up between one quarter and one half of the alternatives allocation.

Oil patch workers

A recent Vice documentary, “The bros of fracking,” profiled oil workers in North Dakota. It featured Colin Bennett, a directional driller, who said, “I made well over a quarter-mil last year and I have twenty grand in savings. I’ve been essentially blowing it all.”

Helping young oil patchers north of the 49th avoid that trap is Perry Little, a senior investment advisor at Canaccord Genuity Wealth Management in Edmonton, Alta.

His boom-town clients earn eye-popping sums for work that normally commands less. Welders and electricians can make more than $200,000. One woman, who’s a cafeteria cook, and her housekeeper husband make $250,000 between them.

“In a lot of cases they’re hanging out with people doing the same things and making the same money,” Little notes. “One friend goes out and buys an all-terrain vehicle and a new truck—it’s hard for the others to resist following suit.” Little doesn’t preach to these clients about long-term financial security.

“As with any young person, you need to get them to realize something and then pretend they figured it out for themselves.

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“The smart ones realize it won’t last forever. I’ve got a 26-year-old electrician who’s paid off the mortgage on her $250,000 condo and already maxed out her RRSPs and TFSAs for the year.”

The really smart ones, he adds, are planning what they’ll do when they end their careers because they can’t take the physical strain anymore.

One of Little’s welder clients is getting licenced as an inspector; another’s taking courses for a management role. These jobs can pay even more.

But, like hockey players, these clients can’t count on getting cushy second careers. So, Little’s projections assume they won’t.

He’s created a plan for Shane, a hypothetical 25-year-old oil worker making $250,000 a year (see “Registered investments for an oil worker,” below). Along with Anne Jackson, a wealth and estate planning specialist at Canaccord Estate Planning Services in Vancouver, Little also suggests Shane purchase a $1 million whole-life policy and make $50,000 contributions every year for six years.

Registered investments for an oil worker

The client: Shane, a 25-year-old oil worker who’s married with two children.

Assumptions: His spouse works part-time, so there’s no spousal tax credit. Figures are based on Alberta’s 2013 rates.

The clients need a balanced portfolio and long-term plan to ensure they have income through their retirement years.

This covers his insurance needs, and also allows for tax-sheltered growth (based on the insurer’s dividend scale) within the policy.

Shane’s young, so he’s locking in favourable rates and will never have to worry about insurability later on.

By the time he’s 55, he’ll have about $1.6 million of estate value (guaranteed death benefit plus cash value and accumulated dividends).

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If Shane needs cash for a new home or to supplement his retirement income, he can start an insured retirement program, say Jackson and Little. This means assigning the policy to a bank as collateral for a loan, which Little notes is structured essentially as a line of credit. The loan’s tax-free, and Shane can either repay it or allow the policy’s tax-free death benefit to cover it. In the latter case, the policy’s beneficiaries get the remainder.

Investments within the par policy are controlled by the insurer, and generally limited to income-oriented securities with low to medium risk. This makes up part of Shane’s fixed-income allocation.

Little uses registered accounts for fixed income, and non-registered for equities, including dividend-paying stocks. “For clients who understand and are comfortable with higher risk and volatility, we use flow-through shares for tax efficiency.”

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He’s currently bearish on stocks and says the market is overvalued. His equity allocation is biased to hard assets, such as infrastructure, gold and silver. He prefers global infrastructure to Canadian because valuations are more compelling. Little is also wary of high-yield bonds, saying the chase for yield will not end well. For the immediate term, he’s encouraging a mix of 50% equity, 25% cash and 25% fixed income.

Leveraged equity strategy

Rob Campbell, director of wealth management and portfolio manager at Bosch Campbell Investment Management in Edmonton, suggests a tax-advantaged leverage-based equity strategy for clients assured of ultra-high earnings over short time spans.

Here’s how it works. Say the offering firm loans the client $500,000 to buy a portfolio of four or five blue-chip stocks. “So he’s buying substantial positions in a small number of names, and is getting full [tax] deductibility on the expenses he’s paying for that financing,” explains Campbell.

The loan has a fixed term; an investment banker who plans to work for five years, or an NHL draftee with a multi-million dollar contract of the same length, would match the term to part or all of his working years.

For this to work, his employment income must be guaranteed.

The client has 100% downside protection, thanks to put options the offering firm buys on each stock, the cost of which is built into fees (4% to 5% per annum after tax). “This makes it much less risky to have such concentrated positions in a small number of stocks,” says Campbell.

The offering firm carries all counterparty risk on the options.

The client gets the upside, and if the stocks do poorly over the life of the loan, he’s only responsible for the lesser of either the value of the securities or the loan’s principal.

Dean DiSpalatro is a Toronto-based financial writer.