If it’s true the best game wardens are reformed poachers, then Larry Bates’ tips for beating the big Canadian banks should be invaluable for many average Canadian investors. Bates spent 35 years working for the four major financial pillars and in his new book, Beat the Bank (Audey Press, 2018), the ex-banker lays out three wealth builders and three wealth destroyers.
The wealth builders are the amount of money saved (capital), time in the market and rate of return. The three killers are high investment fees, taxes and inflation.
The antidote to the most insidious of those three evils will be familiar to most do-it-yourself (DIY) investors. Bates—who, far from viewing himself as a reformed poacher, describes himself as “The Enlightened Banker” —counsels investors to dump high-fee mutual funds for low-cost Exchange-traded Funds (ETFs) and otherwise beating the banks at their own game. And that includes being the banker: Canadian bank stocks have been such consistent wealth generators he recommends buying their stocks.
In both the interview and the book, he describes how well the banks he used to work for have done for investors: if you had bought $10,000 worth of TD Bank stock in April of1978, it would be worth almost $4.3 million today, after reinvested dividends. Talk about beating the bank at its own game!
I first met Bates over lunch in March of 2018, as his manuscript was nearing completion, where he expounded on what he called the “two Bay Streets.”
Most experienced investors will have encountered Old Bay Street at some point. This is the traditional investment industry: the commission-based mutual fund and brokerage industry, insurance company reps, investment “specialists” in the bank branches and various salespeople who call themselves “advisors.”
The New Bay Street includes providers of low-cost index funds or Exchange-traded Funds (ETFs) or online robo-advisors that automate the purchase and rebalancing of ETFs along with setting asset allocation.
At 62, Bates is well into his own “Victory Lap,” leaving employment for self-employment. Actually, his New Bay Street model isn’t all that new, as it describes models similar to what I myself described back in 1998 in my own financial book, Findependence Day. My version consists of buying ETFs at a discount brokerage and using a fee-for-service financial planner. The same year, similar principles were also described in Stop Buying Mutual Funds!, by Mark Heinzl, now a Globe & Mail stock market columnist.
Bates asserts that long-term investors can double their returns by escaping the clutches of Old Bay Street. His three rules of fees for beating the banks is simplicity itself: Find Fees, Reduce Fees, and Repeat Steps 1 and 2.
Bates concedes that the pure do-it-yourself model provides the lowest fees of all, especially if investors eschew even ETF MERs and buy stocks and bonds directly, as he does himself at least in the Canadian market. He has fashioned something he calls T-REX scores. This is an acronym for Total Return Efficiency Index Score. A T-REX score of 100% would be paying absolutely no fees at all, no matter how long your time horizon.
Mutual funds with 2% annual fees would have T-REX scores of 54% over 20 years and true fees of 46%, but the longer you hold, the worse the performance; thus, over 40 years the T-REX would be 41% and the true fee 59%. Fees of 3% inflict even more damage. This is the basis for his statement that long-term customers of Old Bay Street lose half their money to fees. You can find more on his website.
The pure DIY model of buying individual stocks or bonds at a discount broker yields the highest scores: a T-REX of 96 to 99%. (Obviously, the higher the better, with 100 being perfect).
There is some delicious irony in that all the banks themselves have discount brokerage divisions and many also sell their own ETFs.
Slightly below the pure DIY model of individual securities is what he calls AIY, which stands for Assemble It Yourself, which in practice means buying ETFs or index mutual funds. These produce T-REX scores of 90 to 95%.
And third is robo-advisors, which are still much cheaper than Old Bay Street but which are more expensive than pure DIY or AIY models because the providers have to tack on extra fees of about 0.5% levied on top of the underlying ETF fees. As a result, most robo-advisors have T-REX scores of 70 to 90%.
Throughout, Bates doesn’t mince words in describing Old Bay Street. They certainly understand the wealth formula but their goal is to make themselves rich, NOT their clients. “Recognize that Old Bay Street does not create wealth: Old Bay Street extracts wealth.” Or (on page 84): “Old Bay Street’s interests are not just misaligned with Canadian investors’ interests—they are directly opposed to them.”
Herein lies the “paradox” of Old Bay Street: “The very products upon which Old Bay Street relies doom their customers to failure … Old Bay Street bosses require the vast majority of their national salesforce to offer only products with high, and often hidden, fees.”
Bizarrely, Old Bay Street advice “most likely will exclude the single most important piece of investment advice there is: minimize costs!”
Financial planning “advice” that fails to address costs cannot really be termed advice: “It is merely a sales pitch,” Bates says. And they get away with it because Old Bay Street is primarily policed by “self-regulatory” organizations like the Investment Industry Regulatory Organization of Canada (IIROC) and the Mutual Fund Dealers Association of Canada (MFDA).
To avoid such tainted advice, Bates recommends investors find true fee-for-service advisors who don’t sell investment products and therefore are not influenced by commissions on investment products. The client pays a fee-for-service advisor directly at an agreed rate based on time spent (often hourly) or the delivery of a specific service (like a comprehensive financial plan).
How about the other wealth destroyers: inflation and taxes? Bates is clearly a believer in the long-term wealth creation attributes of stocks and devotes a chapter to them. He is especially fond of quality North American stocks. Apart from being more likely to beat inflation, stocks are more favorably taxed than fixed-income outside registered plans.
But Old Bay Street knows it makes almost no money at all if everyone buys only individual stocks at discount brokerages, a scenario Bates describes as “Bay Street’s worst nightmare.” Rather, Old Bay Street is well aware of the shift from mutual funds to ETFs, so predictably is pushing actively managed ETFs, which have higher fees than plain-vanilla index ETFs. This results in annual fees of 0.5 to 1% and T-REX scores in the 70s and 80s.
Bates includes a chapter on bonds but notes that at today’s still paltry interest rates, bonds are “virtually useless at building wealth.” Most investors don’t need to buy individual bonds but can get by with bond index ETFs or GICs*, he says. And investors should ignore corporate bonds and preferred shares, he adds in an appendix.
In short, while most of the principles contained in Beat the Bank have long been well known to consumer advocates and the media, it’s refreshing to get affirmation of them from someone who was inside the system for almost four decades.
MORE BY JONATHAN CHEVREAU:
- Why the CRA is targeting some TFSA accounts in court
- Investing tips for retired Canadians
- Retirement fitness involves mind and body, as well as money
- Here’s how I’m transitioning into retirement