Driven by Fear and Greed
Mike Strathdee
Someone once said the investment world is driven by fear and greed. Recent events have shown that to be true. Big losses in world stock markets can be traced back to ill-considered, repeated behavior rooted in greed.
The seeds of the “sub-prime mortgage crisis” were sowed by people getting fat commissions giving mortgages to borrowers who never should have been approved. NINJA (No Income, No Job, No Assets) families were told: “No problem.” Just sign here and you can have a large, variable rate loan. These junk loans were repackaged, given exotic names like asset backed commercial paper, and resold to the largest financial institutions in North America. When interest rates rose, home values decreased and borrowers walked away from their properties. The smart money didn’t look so clever.
Cue the multi-billion dollar write downs, firings, and layoffs. The average Joe and Jane saw their past couple of years worth of retirement savings gains vaporized in a matter of weeks.
It’s depressing to sift through these complex stories and realize just how large, and foolish, were the gambles taken by highly-paid, supposedly brilliant, people. Finance books explain the relationship between risk and reward. Generally, that’s true. What is stunning in this case is just how much imprudent risk was taken for relatively little promised reward.
One Canadian bank blew up a lot of its profits, not to mention credibility, for the prospect of one-tenth of a percent higher earnings than it would have earned in a more stable investment. In another case, a decision that put millions of dollars at risk was based on the possibility of earning three-hundredths of a percent extra.
Sadly, this riverboat gambler mentality has infected the charitable
world as well. In recent years, a sizable industry has sprung up:
promoters promising people that they could give to “charity” and get
back tax savings equaling or even exceeding their original investment.
These complex, leveraged products, also called tax shelter gifting
arrangements, appeared to work – for a while. I’ve met people who say
they’ve used these products for several years without problems, so why
should anyone be concerned?
Our federal tax collectors, the Canada Revenue Agency (CRA), are
generally three years behind in auditing questionable situations.
Sadly, promoters seem to be able to dream up new schemes, and find
lawyers willing to attest to their validity, faster than the federal
government can act in closing loopholes.
CRA has investigated 100,000 people in connection with these shelters, denying more than $1.4 billion in claimed donations. Decisions are pending on hundreds of millions more. CRA says they will flag and audit each one of these cases. An accountant I spoke with last fall told of a client who was re-assessed and penalized for claiming donations to one of these schemes on her 2004 income tax return. She was quite upset with her advisor’s insistence that she not submit similar receipts for subsequent tax years. In Luke 12, verse 15, Jesus warns us to be on guard against all kinds of greed. It’s as true now as when he spoke those words thousands of years ago. More than ever, we need wise and objective counsel to help make financial decisions. Ask people how they get paid. Think it over, and if it seems too good to be true, get a second opinion, or maybe even a third.
First Published 2008