Investment Help

If you are seeking investment help, look at the video here on my services. If you are seeking a different approach to managing your assets, you have landed at the right spot. I am a fee-only advisor registered in the State of Maryland, charge less than half the going rate for investment management, and seek to teach individuals how to manage their own assets using low-cost indexed exchange traded funds. Please call or email me if interested in further details. My website is at http://www.rwinvestmentstrategies.com. If you are new to investing, take a look at the "DIY Investor Newbie" posts here by typing "newbie" in the search box above to the left. These take you through the basics of what you need to know in getting started on doing your own investing.

Monday, December 31, 2012

Investment Costs

Those paying any attention to giants in the investment management field in 2012 are aware of the constant admonition to pay attention to investment costs.  Bogle, Ellis, Bernstein, Buffett - the list goes on and on.  These giants in the field have studied the impact of excessive costs over long periods of time on the bottom line returns of investors.  The impact can amount to several years of retirement spending.

This has also been hammered home on numerous occassions here.  In fact, it is one of the key reasons for going the low-cost, indexed fund approach.  Whether you do your own investing, choose funds from a list of 401(k) offerings, or hire an investment manager, paying explicit attention to investment management costs is important.

It is fitting, therefore, to end 2012 with an interview video from WealthTrack "Controlling Investment Costs" found at Biz of Life.  The video features Charles Ellis and Mark Cortazzo.



My position is that many investors can minimize costs by doing the investing themselves.  Alternatively, today they can find low-cost advisors.

This is not to say that the area of personal finance should be completely low cost.  Depending on your situation, you may want to pay up for a really good financial plan and/or an estate attorney.  Paying up in these areas can definitely be worth it.  In fact, a good financial plan sometimes pays for itself.  But these are areas to be expounded on in 2013.

I hope 2012 has been prosperous for you and your family and 2013 is as well.

HAPPY NEW YEAR!!!!!!!!



Thursday, December 27, 2012

Bond Market Sector Choice

A lot of ink has been spilled on the bond bubble theme and the concern that investors are in for a shock if yields rise sharply. Part of this involves extending duration and part is about going into riskier parts of the bond market.

The question here is:  is this a good time to add riskier sectors?  How do professional bond traders approach this question?

Close followers of the bond market contrast the present situation with the recent past.  In the past, the bond portion of an asset allocation could easily be satisfied with an index fund tracking Barclay's Aggregate Index.  This index is a market-weighted index comprised of investment grade issues having a maturity greater than one year.  It includes Corporate Bonds, U.S. Agency issues, Mortgage-Backed securities, and U.S. Treasuries.

But this was in the old days.  This was when the 10-year Treasury note yielded north of 4%.  Today the yield is 1.77%.  Furthermore, the duration on the index is 4.4 years and the index yield is 1.6% (SEC yield).  Also, as the U.S. Treasury has run chronic deficits exceeding $1 trillion, the U.S. Treasury portion of the index has expanded to comprise greater than 30% of the Barclay's index.

These developments are the culprit behind the well-publicized search for yield.  This search has led investors to high yield bonds, emerging market bonds, and other nooks of the fixed income market.

Professionals Trade the Spread

Professional bond traders look not just at maturity and duration but also at spreads.  They ask, for example, whether the yield spread on corporate bonds as a sector compensates for the incremental risk.

Recall that bond prices rise when yields decline.  Consider bond A (a corporate bond) and bond B (a similar Treasury note ).  Assume that Bond A yields 1.50% more than B, i.e., the spread is 150 basis points.  If the spread narrows to 1.20%, say, then that means that the price of bond A has appreciated relative to bond B.

Typically there is a big deal made about regression to the mean, so the idea is to buy when spreads are wide and sell when spreads are tight and then profit when spreads return to their mean.  This is not easy to do, as most professional bond traders will attest, but it is the objective.  Some are adamant that spreads are easier to trade than levels.  If you don't buy this, just recall that almost everyone in the market last year this time were absolutely certain that yields would rise in 2012!

So,what does a yield graph look like and what is it telling us?  CLICK IMAGE TO ENLARGE



This is a comprehensive spread graph.  It is for the overall investment grade market and adjusts for prepayment options and callability, etc.  See the description at the link for a complete definition.

The graph reveals that spreads are fairly tight, i.e, the bond market today isn't offering great compensation for taking on sector risk despite the low Treasury yields.

Some would argue that, if spreads tighten a bit more too close to the 1% level, it would be a good exit point.

You'll note that the best time to invest is, in fact, the scariest.  THERE'S NO FREE LUNCH HERE! Back in 2009, the spread exceeded 6%; but this was when the economy was imploding, bankruptcies were rampant, and corporate bond downgrades were on the rise.  The financial sector was especially taking it on the chin.

Disclosure:  This information is for educational purposes only.  Individuals should do their own research or consult a professional before making investment decisions.

Wednesday, December 26, 2012

Ameriprise - It's What They Do

Here's a news item on Amerprise workers bringing a lawsuit against the company for loading up the company 401(k) plan with its own expensive, underperforming mutual funds and charging employees excessive fees.

The article states,
The fees for the RiverSource funds that are current investment options are significantly higher than for comparable mutual funds in other 401(k) plans as well as the other options available in the Ameriprise plan, according to the complaint. For example, the fee for the RiverSource midcap fund around 2005 was a high 1 percent, and the comparable Vanguard fund charged 0.08 percent, the plaintiffs argue.
I can understand the ongoing business strategy of exploiting clients and plan administrators by over-charging for funds.  After all, it's what they do.  But...their own employees?  They surely understand they are a fidiciary as administrators of their employees' plan, which they are not as providers to other plans.

I would think this would be a wake-up call to plan administrators around the country.

Saturday, December 22, 2012

Bloodsuckers

Wear a long sleeve shirt!
I'm working with a client who has a broker that receives monthly contributions to put into a Fidelity Fund. The client deposits $166.66 at the 1st of the month; the broker takes $6.33 as a "sales and creation charge" (3.8%) and $1.50 as a "custodial charge."   The bottom line is that $158.83 gets invested in the Fidelity mutual fund.  Thus, before expense ratios or anything else, almost 5% is taken out.

This has been going on with the broker for a number of years.  Here is a press release from NASD on the censuring and fining of this upstanding broker.

A couple of points from the press release:

  • Using misleading sales scripts, inappropriate comparisons and omissions of important information, First Command sold hundreds of thousands of complicated and often enormously expensive plans to young members of our armed services, who are frequently inexperienced investors,” said NASD Vice Chairman Mary L. Schapiro.  I guess this is their way of thanking our military.
  • Under Systematic Investment Plans, an investor makes monthly payments for a fixed term, typically 15 years, which are invested in underlying mutual funds.  The purchaser is charged a 50 percent sales load on the first 12 monthly payments.
       Brings to mind Woody Guthrie:
                                    Yes, as through this world I've wandered I've seen lots of funny men; Some will rob you with a six-gun, And some with a fountain pen.
  • First Command told its clients that a benefit of the high first-year sales charge was to “instill discipline.”  However, First Command failed to inform its customers of the lost earnings potential as a result of the sales charges deducted from the customer’s first 12 months’ investments. For example, an investor who made monthly payments of $100, totaling $1,200 in the first year, would be left with an investment in the funds of only $600 for that year. How can these people sleep at night? Do they not have a conscience?
THEY ARE STILL IN BUSINESS!!!!!!  Brokers are not fiduciaries.  If you don't know what that means or implies, please find a registered investment advisor, get an hour's worth of consultation, and make sure your investments are in order.  IT IS NOT ILLEGAL TO RIP YOU OFF IN THE INVESTMENT WORLD!

Thursday, December 20, 2012

Smart Guys versus the Dummies

Made Bad Choices
Channel surfing the other night, I came across a documentary titled "Broke" - part of the ESPN 30 for 30 series. I know many of the stories of athletes making humongous amounts of money and totally blowing it - mentioned some on this blog. Still, seeing this documentary was extremely depressing. Choosing to have 9 children by 8 wives, choosing to hand over large portions of their wealth without having any idea what was being done with it, choosing to fall for the bimbos who obviously have well-thought out financial plans to bleed professional athletes for every thing they can - it's really (to use an '80s expression) truly mind blowing.

In contrast, you've got the smart ones. This is the man-bites-dog part of the story.  These are the ones you don't hear much about.  Here's a video of Brandon Lloyd of the New England Patriots from Yahoo Sports!  The Lloyd video is followed by Alfred Morris, running back phenom for the Washington Redskins (Go Skins!).

Where's the $100,000 sports car?
Both of these young men, in contrast to the dummies mentioned above, are well grounded and have excellent financial sense.

I have often wondered why so many professional athletes go off the deep end with their finances.  They have access to the best advisors and, if they reflect for a moment, have to realize they don't have to prove anything to anybody - they've already accomplished a remarkable feat even if they have only played one game at the professional level!

The bottom line is that it is about choices.  I wish the nation's teenagers could watch these videos together and then talk about who they would want to model their lives after.  After all, it is a choice everyone faces as they leave their teens.

Tuesday, December 18, 2012

Observations on Fidelity's Freedom 2050 Fund

Mike Piper at the Oblivious Investor answers a really important reader question:  "Should I Use Fidelity's Freedom Funds in My 401k?"  (read this article even if you don't use Fidelity - the applicability is wider ranging).  To answer this question, he hones in on the Freedom 2050 Fund, a target date fund targeted at employees in their mid- to late-20s who plan to retire around 2050.  The expense ratio, as he notes, is on the high side at 0.77% versus .19% for Fidelity's Index funds.  But he also looks at the composition of the fund and raises an important question.

Before looking at the question, it is worth noting that very few employees have the investment savvy to analyze the holdings of a fund.  IMHO, this is a step the plan administrator, who chooses the provider, i.e., Fidelity in this case, should take.

The Freedom 2050 Fund is a fund of funds comprised of 20 different Fidelity funds!  This is a lot of funds.  The interesting question raised is whether the Fund's holdings are structured to the benefit of Fidelity or the 401k participant.  He shows in his post that one fund comprising the Freedom 2050 Fund, a real estate income fund, comprises .06% of the fund!  This obviously will have no discernible impact on performance but will, to the benefit of Fidelity, build participation in the real estate income fund!  One has to admire Fidelity's cleverness in increasing fund size in this manner, assuming this was their intent!  It can also be used to seed participation in new funds.

For completeness purposes, it is instructive to look at the performance of the Freedom 2050 Fund:

Source: Fidelity

CLICK IMAGE TO ENLARGE  As the right-hand column shows, the Fund has underperformed its benchmark by 1.66%/year over the past 5 years.  My reading of voluminous performance data tells me that the 401k participant has about a 20% chance of picking a non-index Fund that matches or exceeds their benchmark. The unlucky 80% of non-index fund holders can pay a hefty price, as in this case.

This particular post also took my thoughts back a few years when I was managing pension fund money and was interested in the process for introducing new funds.  One large well-known provider in the 401k market place allowed employees to present new fund ideas and, if adopted, the fund would run for 1 year with employees' money to get a track record before marketing to the pension funds and the public.  If the track record was poor, the fund idea was dropped, of course.  I often thought that funds with less than 5 years' real experience (not back-tested performance!) should come with a warning label so investors were clear the fund hadn't been around very long.

New funds on the market are, many times, based on what has been successful lately and on what investors are looking for as they look in the proverbial "rear view window."  Today is a good example, with investors desperately looking for yield and finding that new yield funds are the funds du jour.

Disclosure:  Post is for educational purposes. Individuals should do their own research or consult a professional before making investment decisions.

Sunday, December 16, 2012

Great Gift Ideas

It's getting late, so I'll cut to the chase.  Here are two great book gift ideas:


I say these books are "great" ideas because they are life changing. They teach investment savvy and frugality.  Why are these important? Simply because understanding them enables people to lead an enjoyable final third of their lives.

Those who lack the knowledge that these books provide tend to make two huge mistakes.  First, they line the pockets of high-priced investment managers and advisors or, at worse, fail to take advantage of appropriate retirement savings vehicles.  Many people have no idea what this is costing them.  Hallam's book will let them know.  Secondly, many fall victim to an economic system that thrives on getting consumers to dig themselves into a financial grave from which they never recover.  Both Hallam and Yeager spell out how to avoid this.  Both writers are story tellers, and both have terrific senses of humor.

Investment savvy, frugality, a better life - what better gifts are there?


Thursday, December 13, 2012

Nate Silver on Identifying a Superior Mutual Fund

Source: Amazon
For those of you who don't know, Nate Silver recently gained considerable notoriety for correctly predicting all 50 states in the recent Presidential election.  This is in contrast to Karl Rove, who denied the results even after they were in.

Understandably, Silver's recent book, The Signal and the Noise: Why So Many Predictions Fail -- But Some Don't,  has skyrocketed to the top of the business best seller list.  I plan to review it on the blog here someday but, alas, I'm 49 out of 114 on the Howard County Library waiting list.

I do have the next best thing for do-it-yourself investors - a review, "Nate Silver's Message for Financial Advisors" by Ben Huebscher and Michael Edesess from Advisor Perspectives, that mentions Silver's effort to find "...the next great mutual fund."

He looked at mutual funds’ performance from 2002 through 2006 and compared it with performance from 2007 through 2011, finding that “there was literally no correlation between them… there was just no consistency in how well a fund did, even over five-year increments.” His conclusion is that “you’re best off just selecting the one with the cheapest fees — or eschewing them entirely and investing in the market yourself.” If any more were needed, this provides further confirmation – from no less an authority than the “Lord of the Algorithm!” – that statistical methods are unlikely to work for finding a good active manager.
The "Lord of the Algorithm", so dubbed by Jon Stewart, is none other than Nate Silver himself.  Read the book and you'll find that Silver is adept at finding baseball talent but not so much at uncovering investment opportunities.

The tune 's the same, the singer's different.  Understand the role of "...cheap fees" in the investment process.

Tuesday, December 11, 2012

Reduce The Deficit

Here is an interactive graphic from the Wall Street Journal to enable you to get a deficit reduction plan on the desk of the president:  REDUCE THE DEFICIT.

Kudos to anyone beating the surplus the Grouch is sure to come up with.

My  disappointment is that some obvious revenue enhancing measures are not included.  For example, I propose a 75% maximum income tax on all members of the Council of Economic Advisers to the President retroactive to income earned since 1980.  As a matter of fact, I think most Americans would support an income tax surcharge of 15% on all economists in D.C. on the principle that, the more you tax something, the less you get.

While I am at it, I have to ask why future economic policy makers and their teachers have to put in the public domain their obvious lack of rhythm:  Harvard Holiday Party.  One would think that, after screwing up the economy, they would keep a low profile.

What's a P/E ratio?

Source: Capital Pixel
The story is told of  René Descartes getting a flash of brilliance as a young teenager that led to the Cartesian co-ordinate system that brought together algebra and geometry.  Young Descartes gave a visual depiction of algebraic equations by plotting points relative to an origin.  In this, he developed a concept that belongs in a broader family of concepts that compare and classify things - something that humans love to do and that is necessary for any type of analytical work.

Here's another example:  suppose one basketball player makes 79 of 112 foul shots and another made 57 of 89.  Who has the better record?  The comparative device here--the device that puts them on the same footing--is the percentage calculation.  The first player made 70.5% of his or her shots and the second player made 64 percent.  Percentages make comparisons of these types simple, and they are used almost without thinking.  Take a stroll through Costco and you'll see people with calculators figuring the per ounce cost of 2 different cans of tuna.

For investment analysts, the most widely-used comparative metric is the P/E ratio.  Ask whether stock ABC is a better value than stock XYZ and, invariably, the very first number you will get is the P/E ratio, where P is price and E is earnings.  In fact, as you read views on the likely direction of the overall market, you will frequently see references to the market P/E relative to historical P/E.

So let's back up and think about this.  Suppose I told you that stock ABC is earning $1.50 per share and stock XYZ is earning $.75 per share.  Is ABC the better value?  When you reflect on this a bit, you realize that you really can't say.  ABC may have a price of $30 and XYZ a price of $10.  The price of ABC is 3 times the price of XYZ, but its earnings are only 2 times as much.

All of this is equalized and put on a comparative basis by the P/E ratio.  For our example, ABC has a P/E ratio of 20 and XYZ 13.33.  We say that for ABC "you have to pay $20 per dollar of earnings," etc.  Thus, from this perspective, it is easy to see that ABC is more expensive, i.e., you have to pay up for a dollar of earnings for ABC.

But this is just the first step.  It may very well make sense to pay up for ABC.  It depends on its expected growth.  Studying P/Es is just the first step.  But it is a huge first step.

As you study P/Es, you quickly come to realize there are various measures.  There are P/Es based on trailing earnings (ttm stands for "trailing 12 months") and there are P/Es based on expected earnings. There are also P/Es based on normalized earnings that use adjustment techniques to get at the underlying trend.

Here, for example,  is what you get on Yahoo! Finance for Johnson & Johnson:

Source: Yahoo Finance


CLICK IMAGE TO ENLARGE   Check that the P/E ratio of 23.08 is correct by taking the price 70.45 and dividing by EPS of 3.05.

P/Es are also used to classify investment approaches.  For example, value managers focus on lower-than-average P/E stocks whereas growth managers focus on stocks that have higher P/Es whose earnings are growing faster than average. 

As mentioned above, P/Es are also used to assess the overall value of the market.  One of most popular is the Shiller P/E 10 ratio.  This measure uses 10 years of earnings adjusted for inflation.  It is used by so-called tactical asset allocators and market timers to assess entry and exit points in the U.S. stock
market.  Here is an update Shiller P/E ratio graph from gurufocus:




Homework Problems:

1. Find the P/E ratios of VZ, MON and MSFT.  Which of these stocks do you believe is the value now?  (Hint:  go to Yahoo! Finance and put in ticker symbols.)
2. According to the Shiller Price/Earnings Ratio, is now a good time to invest in U.S. stocks?



Sunday, December 9, 2012

A Neat Calculator

Thinking about downsizing and moving when you retire?  Wondering about the different cost of living across states and for different cities?  Here's a neat calculator from Sperling's Best Places that can answer some of your questions.

Source: Sperling's Best Places
CLICK IMAGE TO ENLARGE Note that you have just 3 inputs: the two cities and the dollar amount.  The dollar amount, shown here as $70,000, would be the amount you have figured as your retirement income.  Next, just hit the compare button.





CLICK IMAGE TO ENLARGE As you can see, from a "cost of living" viewpoint, $70,000 in Silver Spring is equivalent to $45,627 in Murfreesboro, N.C. - useful info for the retiree contemplating such a move.

The calculator indicates that, in Murfreesboro, you will likely be able to get a much nicer house for the same money.  Interestingly, the calculator indicates that medical care is pretty much the same if not a bit pricier in Murfreesboro.  Those looking at the two areas would want to investigate further.

Keep in mind, as you play around with the calculator, that it represents averages.  All cost-of-living indices as well as consumer price indices need to be taken with a grain of salt.  A particular individual's situation could be completely different from the results implied by an index.  The last thing I would want is for you to come after me because it costs more than you figured ;)

Friday, December 7, 2012

Is Market a Ponzi Scheme?

Charles Ponzi
I enjoy reading comments on other sites in response to how to prepare for retirement or how to invest or just on the capital markets in general.  It is obviously a good way to see immediate reactions from readers on various proposals and ideas.

There is, however, a certain group of commenters who are decidedly negative on whatever positive proposal is being made and on the economic system in general.  And I have to admit that I just don't understand them.  I get it that investing isn't for everyone.  I get that the volatility in markets leaves some a bit squeamish.  What I don't get is that so many (and it seems like a lot) are so negative on the whole investment process and that they, of all people, even read investment posts.

Here are two examples from a recent blog post :

Commenter #1: The stock market is a Ponzi Scheme. Anybody involved is a muppet or a muppeteer - the truest fools are the ones who do it to themselves and willingly. Get out before it is too late!

Commenter #2: Why do we invest in the market at all, other than that is what everyone else does? The more I think about it, the less it makes sense to buy stock in a public company. The point in owning stock is (1) you get a voice in management and can vote (2) you get a share of the profits through dividends and (3) you get a piece in liquidation or if the company is purchased. None of that stuff is real. All we are doing is buying something we think someone will pay more for in the future that really has no underlying intrinsic value. How is is different from buying tulip bulbs?

People will say: "Look at Apple, it has great profits, makes great products and has a lot of cash." Sure, but even with the annual $10 dividend per share, on a $600 share that is 1.4% and its the first dividend in 17 years. The only reason to buy Apple is other people are buying Apple. There is no connection to the underlying profits or assets of the company. I don't have an alternative, but I just don't get it other than it is illusory group-think.
The first commenter claims the stock market is a "Ponzi scheme."  A Ponzi scheme simply pays out more than it is earning.  I pay my "investors" $10 when I only make $2.  How do I do that?  By using funds obtained from new investors.  The scheme depends on constantly coming up with new suckers    à la Madoff.  It is hard for me to understand that anyone sees the stock market as doing that.  Just take   a look at dividend payout ratios, and it is easy to see that corporations pay out much less than they earn.

The second commenter brings up "tulip bulbs" and lists profits and dividends, mentions "no intrinsic value," and then goes on to talk about Apple Computer, of all companies.  I have to assume that he or she responded to the blog post on other than a Mac.  I would suggest that the commenter take some time and visit the Apple store at Columbia Mall, near where I live.  He or she will find that the store is crowded and difficult to even get into on just about every day of the week.  I don't know what gets more real than that.

Take a Broader View

But let's step back and take a broader view.  Think about where you came from.  In my situation, I know my grandfather came to America in the early part of the 20th century.  He came from Krasnopol, Poland.  I believe that, if you were to be back in the Krasnopol area 400 years ago, you'd find a windowless hut with a family who eats food we couldn't stomach today, facing unbelievably harsh weather conditions, and eking a living from the land.  Probably they were pig farmers.

Historians tell us that they probably didn't travel more than 50 miles from where they were born and, if they lived past 30 years old, they were considered old.

Today, in America and other nations with highly developed capital markets, life is much different.  In these countries, people travel all over the world, eat great food, drive automobiles, have unbelievable entertainment at their fingertips, and generally lead very easy lives.  My contention is that the difference between these two scenarios is the result importantly (not solely, but importantly) of the highly developed capital systems that have evolved over the centuries.

I would bet that the two commenters and most of their ilk are considerably closer to the second scenario than the first.

From risky endeavors, that supported sea-going operations enabling those willing to take the risk of losing their entire investment in return for the possible riches of precious metals from the new world, to today's raising of capital by companies involved in everything from cell phones to pharmaceutical drug research, the capital markets have come a long way.  And they have played an important role in financing the production of much of what we value in making our lives easier and more enjoyable.

Participants in this process who have followed some very basic principles have made out very well. Over the past 20 years, well-diversified portfolios that followed a basic asset allocation have more than quadrupled in value.

Are there bubbles?  Are there people who invest mindlessly just on the belief that someone else will pay more for their stock?  Of course.  This is all the more reason to follow widely-accepted principles of investing.  In fact, bubbles, where prices are driven to the sky, are dealt with appropriately by those who understand rebalancing.  But that is the subject of another blog post.


Wednesday, December 5, 2012

Can You Do This?

Source: Capital Pixel
What if I said to you, "You need to increase your large cap equity position by 2%."  Could you do it?

First, you would need a good handle on the market value of your assets.  Let's assume you have that at your fingertips - for example, you may be doing your annual rebalancing - and let's assume the total market value of your accounts is $800,000.  Then, by advanced calculus, you figure that 2% of $800,000 is $16,000.

Secondly, you would need to understand that it is coming from somewhere--some other asset class is over-weighted and will have to be reduced.  Or, maybe there are a couple of asset classes that have to be reduced.  To keep our problem simple, we'll assume that cash is over-weighted and that's, therefore, where the $16,000 will come from.

Step 3 is to figure out what to invest in to bolster the large cap position.  Depending on your investment approach, this could be stocks (for example, IBM and/or other large caps), it could be a mutual fund like the TIAA-CREF large cap index fund, or it could be an exchange traded fund that tracks the S&P 500 like SPY.  What it is depends on your overall investment philosophy and what's available to you.

Next, and finally, you need to get the price of what you need to buy and do some simple arithmetic.  For example, if you are buying a mutual fund and the price is $26.17, you divide $16,000 by $26.17 and find that you need to buy approximately 600 shares.  If, instead, you are making the adjustment in your 401(k), all you need do typically is go online and change your allocation - there is no need to do the actual trade.

If you're doing the trade, then you need to go to the broker site and enter the trade.

If you're sitting back and thinking that this is pretty easy, or even if you are thinking that you sort of get it, then I believe you can manage your own investments.  In the second case, it is usually a matter of sitting at the terminal and seeing a couple of trades done.  When all is said and done, this takes longer to explain and appears more complicated than it is.  And it is a big deal because over the years, if you can manage your own investments, it can make a meaningful contribution to your nest egg - to the tune of being able to retire a few years earlier!

Makes Sense to Sit Down With An Advisor

Having said all of this, I highly recommend that most people sit down with an advisor and go over the whole process.  There are some nuances.  You want to make sure the location of investments is appropriate.  For example, you pay taxes on interest and dividends in your taxable account.  Thus, holding bond funds in your 401(k) and IRAs makes more sense than in the taxable accounts.  You want to make sure you understand the expense ratios on any funds you own and ensure you are minimizing costs for what you are trying to do.  At the trading level, you want to observe the difference between the bid and ask spread and know how to see if a fund is trading at a premium or a discount.

In a major repositioning or rollover of an account, you want to understand if your funds have loads and whether gains are long term or not before you sell and reposition.

Depending on your familiarity with all of this, it pays, I have found, for most people to sit down with an advisor (on an hourly fee basis) and go over the investment philosophy and its execution.  More times than not, this process points out something that may have been overlooked.  Just make sure the advisor is just giving advice and is not selling products.

DIY Investment Management Sites

Here is a recent article, with the engaging title "You're Investing Like an Idiot," that looks at online investment management sites that enable individuals to manage their own money.  The article is a good place to start to see some different approaches that are out there.  Each site is different and will fit different investors.  MarketRiders, for example, enables you to select a broker (preferably a discount broker) and tells you what low cost funds to buy.

Betterment actually invests for you.  One difficulty I have is that, according to the article, Betterment invests the bond portion solely in U.S. Treasuries.  At least for me, this is a non-starter because Treasuries are so low-yielding.  Over time, this sacrifices considerable return.

The final site, Personal Capital, sounds intriguing.  According to the article, it has a free service that brings together all of your accounts - something that many investors ask about.  Managing assets holistically is important.





Monday, December 3, 2012

What's a Basis Point?

Source: Capital Pixel
One time, a few years ago, I was explaining to a couple the importance of diversification and why I prefer exchange traded funds to mutual funds and how different funds are used to satisfy an asset allocation.  Basically, an explanation I had given numerous times.  As usual, I ended up by asking if there were any questions. The man said "Just one - what is a mutual fund?"

This taught me the basic lesson that most advisors (but not all!) learn at some point, which is that the jargon that we so glibly use is not familiar to a lot of people.  Furthermore, I'm convinced that it is the single most important point fund reps making 401(k) presentations could work on.  I've attended presentations where reps have droned on and on, enamored with their power point graph, about Sharpe ratios to groups comprised mostly of people who have no idea of the importance of the risk/return tradeoff in portfolio construction much less the ratio between a risk-free rate and a standard deviation.  These meetings remind me of a time when I wandered into a conference seminar on "Advances in Linux" - or something like that.  As far as I was concerned, it could have been a seminar on speaking Swahili - unlike the rest of the audience, I had no idea what the presenter was talking about.

One term that could confuse the layman is "basis point."  We like to say, for example, that a single-A corporate bond yields 111 basis points more than the corresponding U.S. Treasury note.  What the heck does this mean?

A basis point is simply one one-hundredths of a percent.  If one bond yields 5% and another bond yields 5.25%, then the difference is 25 basis points.  You can easily see that talking in terms of basis points is better and more convenient than saying the bond yields 25 one one-hundredths more. Sometimes basis point is shortened to "bips" as in "the bond yields 25 bips more."

Basis Points and Investment Costs

An important area where basis points comes up is in thinking about investment costs.  Investment costs is an aspect of investing that an investor can control.  As is often pointed out, there are parts of the investment process that people obsess over that they, in fact, can't control.  The prime example is the markets.  No amount of gnashing of teeth and towel wringing will change what the market will do.  It is better to focus on what you can control.

Most investors, with a small bit of effort, can reduce investment costs by up to 50 basis points (or bips-- your call on the jargon) by paying attention to expense ratios and talking to an advisor to see if 401(k)s can be rolled over to where less expensive funds are available, etc..

But is it worth it?  Well, consider $100,000 over a 25-year period.  50 bips over this period compounds up to 13.3%, i.e. $13,279 in our example.  Here's the kicker - that money will go into your nest egg or the broker's pocket - your choice.  Furthermore, most investors have a longer time frame - they just don't think it through.  Suppose you are 50 years old.  There is a real good chance that part of your nest egg will be funding your retirement even 35 years from now!

Homework Questions

1. How many basis points difference is the yield between the 10-year Treasury note and the 5-year Treasury note?  Hint:  Go to Bloomberg.
2. What is the basis point difference in the expense ratio between FLCSX (Fidelity large cap stock fund) and SPY S&P 500 exchange traded fund?  Hint:  Go to Morningstar.

Sunday, December 2, 2012

DIY Interviewed by Andrew Hallam

Andrew Hallam, author of best-selling Millionaire Teacher:  The Nine Rules of Wealth You Should Have Learned in School, has recently initiated a series on his blog profiling low-fee, passive index investors and has interviewed yours truly.

The highest compliments one can receive in any endeavor are from those they respect and hold in high regard in the field.  It is, thus, an honor to be included in the series.

As I have in the past, I highly recommend Andrew's book and blog for those seeking a clear path to a satisfying retirement.  This is a man on a mission.  He shows how a bit of frugality and investment knowledge achieves this goal, and he does it with interesting anecdotes and humor.

Tuesday, November 27, 2012

Recommended Holiday Gift - Latest Jeff Yeager Book

Source: Amazon
To me, experience counts for a lot.  You can have a PhD in family matters; but, if you haven't raised teenagers, you'll have a difficult time getting me to pay attention to your child-rearing theories.  For the same reason, I have a difficulty with investment advisors still wet behind the ears--I don't care how many designations they can put behind their name. But... that's the subject of another post.

A company I worked for, once upon a time, gave periodic presentations to people on the verge of retirement.  The financial planner guy would go over financial planning issues, I would talk about managing the nest egg and creating a paycheck in retirement, and finally the President of the company would pop up and answer questions.  This was the first half.

The second half would typically present a panel of retirees who had previously worked at the company.  They would tell stories on what retirement was like and hit upon their successes and what they would do differently if they had it to do all over.

Not surprisingly, the audience sat up a little straighter and blinked a few times to get refocused as the panel spoke.  This was them a few years down the road.  They were meeting their future selves.  By listening closely to the panel, the audience could very well get answers to questions they had been mulling over.  Broad questions like "can I retire early," "how do I know if I have enough to retire," "what will I do in retirement," etc.

My question to myself at the end was why this kind of thing isn't done more often.  I even thought about the "Scared Straight" program on TV where incorrigible teenagers on the path to becoming a menace to society are given a "tour" of Rahway State Penitentiary to get an insider view of prison life from the inmates.  What could be a better deterrent?

To me, experience counts for a lot.

 The Cheapskate Way

Jeff Yeager's latest book How To Retire The Cheapskate Way is filled with stories of people who are successfully going down a debt-free road, living within their means, and achieving a goal of what he calls "selfishly employed," i.e., employed doing what they want to do.  In fact, he is one!  This book is experience writ huge!

Most people who think about retirement concentrate on the income side.  I'll admit I am guilty of this.  I hammer away at investments and creating a large "nest egg."  I emphasize relating money needed to achieve an income based on what was needed in the pre-retirement years.  But retirement is different from pre-retirement - especially for people who pay attention to where their money goes.  And the financial expert guy (or gal) with "the big binder" isn't going to be a lot of help to people who truly understand their finances.  This is one of Yeager's main points!

In between the stories and Yeager's expressions that will get you to laugh out loud (not easy for authors to do, in my case), there is a serious challenge here for the financial planning profession.  He presents evidence questioning the widely-made assumptions on retirement spending needs.  In particular, if you are buying into the notion that you need millions to happily retire, Yeager will challenge your beliefs.

The focus in this book is on spending.  The stories show that many people have learned how to get along on much less than is conventionally presented.  It tells the story of people saving and creating income in unusual ways.  It tells of people thinking outside the box - one couple got their kids a dump truck load of dirt for Christmas.  The kids were thrilled!  And, you guessed it - the dirt was dumped at the low spot in the yard!

It gives some direction in dealing with the thorny issue of medical care for the early retiree.

Part way through, I was reminded of a presentation I attended put on by the local chapter of the American Association of Individual Investors.  A broker was going through a complicated explanation of what to do if a retiree's income wasn't sufficient when, all of a sudden, a hand shot up.  The audience member said that he would figure out his Social Security, his investment income, and his small pension and then do what he did his whole life--he would "live within his means."

This threw the presenter for a loop.  He clearly had not thought of the problem from this perspective. To him, if you had a shortfall, you automatically first considered taking on more investment risk.

Yeager loads his book with references to resources enabling the reader to follow the Cheapskate path. In case there is a question, Cheapskate doesn't imply that a person isn't generous.  Cheapskate Verna Oller replaced broken shoelaces with a zipper from an old jacket but in her death revealed a generosity that will surprise you.

Recommendation

I highly recommend this book for anyone on your holiday list past their midlife crisis.  For one thing, it is cheap.  For another, it will be available in January after all the holiday hooplah has died down and your giftees are looking for a good read to settle down in front of the fire with.  After they read it, they will thank you and hopefully lend it to you.



Wednesday, November 21, 2012

How Are Your Investments Performing?

One of my pet peeves is that most investors have no idea how their investment portfolio is performing on an absolute basis.

Most of the time when I ask people, I get a puzzled look and a response that suggests they'll know when they get their quarterly report in the mail.  Of course, the quarterly report will typically be at least a week old.

Sometimes people respond by saying they are doing great - their portfolio is up by $4,320 this quarter.  This, of course, is meaningless--in that it is great if they have a portfolio valued at $140,000 but not so much if they have a $1.0 million portfolio and it depends on how the markets have performed.

Furthermore, it begs the question of performance relative to a simple benchmark.

My frustration comes after years of fighting to get performance data even in managing assets for institutions, such as pension funds, not to mention individuals.

Thus, today when performance is readily available, I find it difficult to understand that investors do not actively seek it out.  In fact, it doesn't even seem to be that important to the investment community itself. This shows up when financial publications do their surveys to report on the top brokers.  These surveys, at least the ones I read, never report on whether brokers report performance and performance relative to a benchmark.  Instead they are concerned with commissions and quality of research and various aspects that concern active traders.  Typically, not even a mention of performance reporting.

Take a look at the present market.  Europe is walking the edge of a gurgling volcano, the U.S. is wily coyote suspended in air after running off a cliff, and the U.S. employment picture is the "Little Engine That Could" chugging up the hill.  Volatility is rearing its ugly head.  How are your investments performing?

One broker that I know of - Charles Schwab - provides performance reporting on a timely basis, on-line, and compares performance to a benchmark based on the client's pre-selected asset allocation model.  I know this is a mouthful, but this is what it looks like:

Source: Schwab
CLICK IMAGE TO ENLARGE Note the information available to the client.  It includes beginning value, ending value, dividends earned, and change in value of the portfolio.  Most importantly, it includes the return on the portfolio (last two lines) for various time periods as well as a return on a benchmark.

The benchmark here is for the "Moderate" portfolio allocation model.  Schwab offers 7 different models for the client to choose from.

Here is what the benchmark is comprised of:

Moderate benchmark was composed of 5% Citigroup 3 month US T Bill (Cash Investments), 35% S&P 500 (Large Cap Equity), 35% Barclays Aggregate Bond (Fixed Income), 15% MSCI EAFE (International Equity), 10% Russell 2000 (Small Cap Equity). Source: Schwab.
Basically this is a 60% stocks/40% fixed income allocation.  Appropriate, typically, for someone who has just retired and who can take a bit of volatility.  For these clients, any performance exceeding 7% is usually pure gravy.

It is important to note that Schwab enables a client to combine accounts or look at accounts separately. Also, the periods examined can be customized--meaning that you can see performance between any two dates of your choosing.

All of this is by no means meant to argue that an investor should become obsessed with performance and check it too frequently.  It is important, though, I believe, to know it is readily available when you need it.  In fact, I believe it is critical to the whole investment process.

Disclosure:  I am not affiliated with Schwab although I do encourage my clients to use them.  Past performance is not indicative of future performance.

Sunday, November 18, 2012

2 Great Weekend Reads

Below are 2 pieces from 2 of my favorite bloggers:  Andrew Hallam and the intriguingly named Mr. Money Mustache (aka Pete). Reading these 2 bloggers will change most people's lives - to some extent.

Understand that you don't have to buy into their respective life style or investment philosophies 100% to benefit from them.

For example, Andrew Hallam is a 100% indexer and thinks hard about lifestyle.  His mission is to lay out a clear path to creating wealth.  To that end, he has written Millionaire Teacher.

I get it that indexing turns off some investors.  I understand that some people just can't buy into the idea that indexing will outperform most investors who actively seek to beat the market.  I've met a lot of people who have no doubt that they can pick high-priced mutual funds that will be in the 10% that will outperform the market over the long term after all fees.

And I know for a fact that most people have never been challenged on the frugality front.

On the investment front, many investors like matching wits with Mr. Market, like the challenge of analyzing individual stocks to try and pick winners, and bask in the adrenaline rush of timing the market.

But you can both index and invest actively. You can invest in line with Hallam's philosophy with 70% or 80% of your money (I always recommend at least 80%!) and try to beat the market with the rest - if that's how you want to spend your time.  By doing this, you can have the best of both worlds:  having the bulk of your assets invested with the odds on your side à la Hallam's approach and meaningful assets seeking to capture what the industry calls "alpha."  One thing Hallam will teach you, unambiguously, is how to avoid the cost of investing in high-priced funds and using high-priced advisors!

The second blogger, Mr. Money Mustache, is frugality (frugal, not cheap - he will teach you the difference) to the extreme.  In his strong language, engaging style, he provides a path for young people to be able to retire early by thinking hard about life style.  Again, you don't have to buy in 100% by, say, seeking to live close enough to your job so that you can bike to work.  I believe, however, after reading Mustache you will question why you're buying that huge flat screen TV for your small apartment when you have unpaid credit bills.

In fact, it wouldn't surprise me if most of you who read the piece below join the rapidly growing army of Mustachions!

This interview of Andrew Hallam, "How I Made My First Million," lays out the key points of his book Millionaire Teacher.  Here is a piece that lists his "Nine Laws to Financial Freedom."

Here is a piece, "Get Rich With:  Good Old-Fashioned Hard Work," by Mr. Money Mustache.  It is representative of his engaging style and includes (warning if you've got sensitive ears) strong language and a valuable lesson for young and old alike.

Enjoy!


Thursday, November 15, 2012

Dark Pools - A Book Review

I read a lot of books on finance and investment theories, etc.  And, at the risk of sounding arrogant, mostly I don't learn a whole lot from them that's new.  After doing something for 30 years, you get to the point, I guess, where there isn't a whole lot to learn.

Well, last month I was in Anchorage, Alaska visiting my first grand- child, little Nora Emily; and my son and I visited the Anchorage library as the women went off with Nora to see the midwife for Nora's two-week checkup.

First, let me say that Anchorage has an excellent library.  They are putting that pipeline money to good use.

As always, I gravitated to the new book section and lasered in on the investment section.  There I came across Dark Pools.  I hadn't intended checking anything out; but, after sitting in one of their cushy chairs and perusing a couple of pages, I saw that this book had a lot to teach me on the important topic of high frequency trading.

The author, Scott Patterson, takes you from the beginnings of high frequency trading, day trading, and machine trading and describes the people who were instrumental in building the key constructs.  He describes how algorithms are able to hide trades until the last minute and then jump in front of the line when there are sufficient limit orders (i.e., depth in the market) to ramp up the probability of achieving a gain while limiting the possibility of a loss.  You thought that because you were the first one to put in a order to buy Intel at $20.00 that you get first dibs when a trade goes off at that price?  Think again.

The pioneers in this market did accomplish a lot of good.  They hastened the demise of the trading in eights system that blatantly ripped off small investors.  They led to a system where, today, trades are executed fast and efficiently.  They forced lower brokerage commissions.

Still, many of the principals admit they created a monster and that steps need to be taken to regain control.  In fact, at this late date, there appears to be no definitive answer to what caused the May 6, 2010 flash crash and knowledgeable people in the book argue that it easily could happen again, in even a bigger way - a pleasant thought for Joe and Daisy retiree trying to live out their days in calm comfort, not to mention for investment advisors in Glenelg, Maryland!

The last part of the book will be of special interest to some readers.  It describes Alex Fleiss's work in creating a system called Star  - an attempt to create a digital Warren Buffett.  It describes how Star, an artificial intelligence system, analyzes massive amounts of data, computes their correlations, and determines what to buy and whether to be in the market.  If a falling Euro, an increase in the price of corn, and a drop in mortgage rates correlates with rising utility sector prices, Star will find it in short order.  It is a system that learns as it goes and discards trading approaches that don't work and keeps those that do.

Star started buying up stocks including financials in a big way in early 2009 to the dismay of Fleiss who felt, along with much of the investment community, that the world was coming to an end.

As we know, of course, Star turned out to be a Star (sorry...couldn't resist that) as markets roared upwards after March 2009.

All in all, I found Dark Pools to be a fascinating read, and I feel like I learned a lot about a subject I need to understand.

Here is a recent interview on high frequency trading with Dave Cummings, owner of TradeBot Systems, one of the people profiled in the book:

http://finance.yahoo.com/video/cnbc-29093777/the-business-of-high-frequency-trading-31129268.html


Wednesday, November 14, 2012

Some Market Returns

Here we go again!  This time it's the "fiscal cliff'' leading the way. Go into a decently populated bar and mention the markets, and you'll surely get a lively group discussion going about how smart people stay out of the markets - smart people buy certificates of deposit or bury their money in the back yard.

Take a look at what we've been through, the loudest voices will say!  Just over the last 10 years, we've had the tail end of the dot.com bust, the 9/11 terrorist attack that was predicted to end passenger air transportation, the housing crisis resulting from the housing market going bananas, a financial system that came within hours of going completely bust, and, to boot, Europe falling apart with the ongoing possibility of an end to the Euro.  Oh yeah...I almost forgot - throw in our  dysfunctional government and its never ending 3-ring circus of ineptitude.

Who would invest in this kind of a world?

Before we hyperventilate, maybe we should (gasp!) look at some numbers.  Here are 10-year annualized return results for the 10 -ear period ended 9/30/12 for basic asset classes:

Index                                                              Return
Barclay's U.S.  Aggregate Bond Index             +5.32%
Barclay's Global Aggregate Bond Index           +6.45%
Barclay's U.S. Corporate High Yield Index     +10.98%
JPM EMBI Global Diversified Index               +11.74%
S&P 500 Index                                               +8.01%

Source:  Morningstar

For the uninitiated, these are standard asset classes.  Each, in fact, can easily be invested in via low-cost, well-diversified exchange traded funds.  If you have a decent 401(k) or similar retirement account, you very likely have funds that track these indices available to you.

What I find interesting is that markets have done fairly well, and many don't know it.  There are a lot of people walking around thinking that markets have been a total bust over the past 10 years.  Here's some news:  at 8%/year, your money doubles in 9 years.

Here's some more news:  when markets implode, it represents an opportunity.  Most everyone in the market, including retirees, has money invested that they won't need to touch for at least 10 years.  What they care about is where the market will be 10 years from now.  This simple realization leads smart investors to look at market downturns as opportunities to pick up really good companies at attractive prices.
 





Tuesday, November 13, 2012

How Bonds Work - A Resource

If you're like most of my new clients, you don't know a lot about bonds and how they work.  You probably get that yields rise/bond prices drop and vice-versa idea - somewhat.  You have some idea that duration is a measure of how volatile a bond's price is and that there are various risks in buying bonds, like credit risk and interest rate risk - but you're not really clear on these concepts.

You come to understand that most bonds trade over-the-counter, which is very different from the way common stocks trade. 

I know all of this because I meet with clones of you.  I also read the financial press and ponder the ongoing national angst over flows into bond funds despite historically anemic yields.

I stress to new clients that bonds are an important part of the drive towards a successful retirement.  I stress the need to seriously think about the role of bonds in your portfolio - especially in today's world of excrutiatingly low yields.  I explain the different parts of the bond market - corporates, mortgage-backeds, Treasuries, etc.

And I see eyes glaze over, and that's when I pull back a bit.

What you don't see so much is that I am constantly on the lookout for resources that do a good job explaining how bonds work.  Every such resource makes my job easier.  Books are a good resource; but, in today's markets, they become dated pretty quickly.  This is one area where the internet has, IMHO, a distinct advantage.

A really good site I have recently come across and recommend is learnbonds.com.  This site offers basic instruction on buying bonds and covers, as far as I can see, all of the main topics that bond investors are concerned with, including issues of the day.  In addition, it also has numerous instructional videos. 

I believe that, if you visit the site and putter around a bit, you will return regularly just to keep up with the market.

Sunday, November 11, 2012

Recommended Reading For Harvard Undergrads

Greg Mankiw, Chairman of the Council of Economic Advisors under George W. Bush and author of  best-selling economics textbooks, recommended on his blog (number 1 rated economics blog) a recent interview of Eugene Fama - An Experienced View on Markets and Investing.  Mankiw recommended that the interview be required reading for undergrads studying financial markets.

As an aside, I would recommend Mankiw's blog and undergraduate text book (*buy used copy online - don't spend $235 new unless you're made of money) for anyone interested in economics or high school students aspiring to study economics. 

For those who might not know, Fama is generally referred to as the "father of modern finance."  His research forms the basis on which many portfolio theorists base their investment philosophies.

Interestingly, the bulk of the audience of Harvard undergrads for whom Mankiw recommends the interview will eventually end up in the higher end of the income spectrum.

Others who need to know this point of view are in high school playing the stock market game where they are trying to pick stocks that "beat the market."  They are playing games and hearing about investment approaches that enrich Wall Street.  They are indoctrinated into games that, at the end of their retirement years, will likely result in "nest eggs" significantly lower than they could otherwise have.  Most never hear about the evidence on building a portfolio using low-cost, well-diversified index funds.

Here are a couple of quotes from Fama in the interview:

After costs, only the top 3% of managers
produce a return that indicates they have sufficient
skill to just cover their costs, which means
that going forward, and despite extraordinary past
returns, even the top performers are expected to
be only about as good as a low-cost passive index
fund. The other 97% can be expected to do worse.

Asked what the conclusions are, he replies:

That an investor doesn’t have a prayer of
picking a manager that can deliver true alpha. Even
over a 20-year period, the past performance of an
actively managed fund has a ton of random noise
that makes it difficult, if not impossible, to distinguish
luck from skill.
Isn't it time that the low-cost, dividend approach to investing for retirement be explicitly incorporated into high school curriculums so that students understand an approach towards preparing for retirement?

*Even if you are made of money, buy the text used and send the difference to Children's Hospital.




Friday, November 9, 2012

Increase Savings Rate By 1%

Jim Blankenship at Getting Your Financial Ducks In A Row has asked financial bloggers to encourage Americans to increase their savings rate by 1%.  This is important because the nation faces a looming retirement crisis.  Simply, Americans in the red zone of retirement, 10 - 15 years away, have inadequate savings to support themselves when they exit the work force.

There are numerous "tricks" one can use to increase savings that even the frugally challenged can easily adopt, and some of these are detailed by Jim and his contributors.  The one I offer may be a bit challenging; but, if you try it for a while, it will very likely become a habit, and your mid-60ish self one day will surely appreciate your meeting the challenge.

My Ideal Client

Recently I had lunch with an ideal client at the *Eichenkranz restaurant in Baltimore.  Ed insisted on paying.  But this isn't why he is an ideal client.  The reason is that when the check came, he pulled out a small, spiral notebook along with his glasses from his shirt pocket and carefully scanned the bill.  He then picked up a pen and carefully entered the amount in his notebook.

Surely I have to go no further to convince you that Ed has a really good handle on where his money goes.  This goes a long way towards making him an ideal client.  When we sit down and talk about spending and saving, Ed has the figures at hand and I know they are reliable.

I know all of this is old school, and most people today can more easily do all this with tablets and smart phones and whatnot.  Whatever works is fine.  Knowing where your money goes is the crucial first step in managing finances.

The Challenge

But how can this help increase saving and where is the challenge?  Simply, do the following for 30 days:  when you eat out, note the cost of soft drinks and record it in a notebook, like Ed, but order water.  In other words, record how much you are saving each time you eat out by not ordering a Coke or a Pepsi.

I know - this is a huge challenge for most people.  If, like many Americans, you eat out often and with your family, you'll find you save a decent amount; and you'll be surprised at how much you spend on soft drinks - and your dentist will commend you!

You might consider giving the kids the choice between a soft drink and receiving $1 in spending money.

All is for naught, of course, unless you bank the amount saved each month!  It isn't money for spending elsewhere!

Admittedly this isn't easy.  And, 30 days is obviously arbitrary.  To me, it is long enough to make it a challenge and get most people to turn the behavior into a habit.

Addendum

*If you are in Baltimore and interested in the ethnic experience along with really good, reasonably priced food, visit the Eichenkranz .  The drive there will take you through an area that will give you a strong flavor of industrial America.




Thursday, November 8, 2012

Need Help Allocating 401(k) Investments?

source: www.capitalpixel.com
One of the good things about the financial services industry is that there are people who constantly seek opportunities to provide what the market needs.

One service desperately needed is objective advice on allocating 401(k) assets.  In fact, this is an important part of what I do.  Very basically, I look at the total asset picture of clients and manage their assets or recommend asset allocations for them.  I use an approach that stresses tracking markets using low-cost well-diversified ETFs and mutual funds.  My reading of the evidence is that this approach will outperform active managers over the long term after all fees are accounted for.

Many prefer an active approach.  From my perspective, that's ok. There is more than one way to skin a cat, and time will tell if an active approach will add value.

With this being said, there is a free, fund-specific service, Kivalia, that helps investors with asset allocation in their 401(k)s (and 403(b)s and 457s, etc.).  If a fund isn't presently in the more than 225 funds listed, it can easily be listed.

Once in the database, the service produces 3 recommended fund-specific asset allocations illustrating 3 risk tolerances as shown:

Source: www.kivalia.com
CLICK IMAGE TO ENLARGE  On the same page, clicking an icon will enable you to compare the asset allocation of your own portfolio.  Are you more aggressive or more conservative than you think?  Also shown is the performance of the portfolios along with relevant target date funds.

For those who like pie charts, the asset allocation is also shown as follows:


www.kivalia.com
CLICK IMAGE TO ENLARGE Once on the page, you'll also see useful risk and diversification metrics.

To get the full utility of kivalia (the website has the genesis of the word, which you'll find interesting), you have to putter around on the site.  You'll find the ability to be notified of alerts when changes are recommended and that there is a lot of guidance and useful information for those puzzling over the asset allocation decision.  I would suggest that plan administrators take the lead and advertise this service to employees.  They should be pro-active in getting their plans listed and promoting objective advice on investments.

The principals of Kivalia have strong credentials to provide the advice offered.  I would, however, like to see an explanation of how various factors are weighted in arriving at the recommendations.  For example, as readers know, I and many others emphasize costs of funds as an important long-term performance factor.

Disclosure:  I am not affiliated with Kivalia.  This post is for educational purposes only.  Individuals should do their own research or consult with an investment professional before making investment decisions.

Tuesday, November 6, 2012

Do You Care Where Your Money Is Invested?

If you care about social issues and such as it relates to investing, there are two basic schools of thought.  One is to do the best you can investing and then donate to the causes that are meaningful to you, and the other is to invest in socially responsible companies.  The first approach is obviously easier but may cause you to toss and turn as you see visions of companies producing cigarettes, military hardware, and engage in practices you view as destroying the planet and even unethical.

The second approach is a bit more challenging.  The easy way out is to use a socially responsible fund. By googling "social responsible funds," you can get a wealth of information on funds meeting various criteria.  They have periods where they outperform the market but, in general, have underperformed a bit.  One reason is that they tend to be high-priced in terms of expense ratios - understandable in that they require quite a bit of research and fairly intensive screening.

There are other ways to approach the problem, for those willing to do their own research, and they are laid out neatly in the book Low Fee Socially Responsible Investing by Tom Nowak.  The book recommends different approaches for various size accounts as well a screening approach.  Useful, also, are a databases for screening criteria.  The book can read in a weekend.

Here is a podcast of an interview of the author Tom Nowak by Jim Ludwick of MainStreet Financial Planning, Inc.

Monday, November 5, 2012

A Simple Asset Allocation Spreadsheet

At the bottom of this investment article from Rutgers University, directed to farmers, is a simple Excel spreadsheet one of my clients found for tracking asset allocation.  The spreadsheet is useful for bringing accounts together and determining when re-balancing needs to take place.  As has been discussed here frequently, asset allocation is the most important determinant of overall investment return.

The approach I, and many others, recommend is to identify an appropriate asset allocation and stick to it through market ups and downs.  In this way, the key emotional factors that investors struggle with are defeated.

Cash investments include money market accounts, certificates of deposit, savings accounts, etc.  Fixed income investments include bonds, bond mutual funds, and bond ETFs, etc.

Once you get the hang of it, you should break out equities into domestic and foreign.  Somewhere down the line, you may want to also break out large cap and small cap stocks.

Saturday, November 3, 2012

A Bucket Approach to Portfolio Allocation for Retirees

One of my important functions is to advise retirees on allocating assets--a perspective that shifts at retirement from nest egg accumulation to decumulation.  The retiree goes from hoping that markets fall so that he or she can buy assets cheaply to praying for rising markets to push their nest egg higher, from which they will generate a paycheck for the next 25 years or so.

The need to generate the paycheck and the increased sensitivity to declining markets raises the potential for emotional factors to derail the whole process for the retiree.  This was seen in 2008.  With a drop in stocks of 37%, it was easy to understand the fears of those living off their nest egg.

One approach to this problem is the so-called "bucket approach" to asset allocation.  This approach provides a structure for riding out market downturns.  Although it seems unique, it actually is not so different from a standard approach--as I'll explain later.  The bucket approach is very nicely described by Christine Benz, Morningstar's Director of Research in A Bucketed ETF Portfolio for Moderate Retirees.

This article lays out a specific allocation in terms of 3 buckets with recommended ETFs for each bucket.  This creates a nice visual effect for the retiree to understand the purpose of each part of the portfolio.  The first bucket is intended to meet expenditures over the first few years and is comprised of low-risk cash equivalent types of ETFs.  The second bucket is primarily fixed income and is positioned to meet the middle years, and the 3rd bucket is riskier stocks, high-yield bonds and commodity ETFs intended to produce growth.

The advantages of the bucket approach is that, as mentioned above, it should enable the retiree to weather market downturns and visually see how the portfolio replenishes its needs.  Furthermore, it is efficient and doesn't require retirees to spend their retirement managing their portfolios.  Ms. Benz argues that her recommended portfolio should enable a retiree to withdraw 5% of assets, inflation adjusted, over a 20-year time frame.

I believe that her article is useful reading for anyone in retirement or nearing retirement.

As mentioned above, though, the bucket approach is not much different from the standard asset allocation approach.  For example, for some of the retirees I manage assets for and advise, I use the 40% stocks/60% fixed and cash allocation model.  Ten percent of this allocation is cash; so, right off the bat, the usual approach will have the 2 years' cash needs met as in the bucket approach.  Also, the 10% allocation will be replenished on an ongoing basis via portfolio re-balancing.  The 40% stocks is, as above, intended for growth; but, if stocks do very well, they could be used to replenish the other parts of the portfolio and, in fact, could be used to meet cash needs.

One stipulation I put in for retirees drawing down their nest egg is that the yield on the overall portfolio be at least 60% of  cash needs.  Thus, if the retiree is drawing down 4%, the portfolio needs to yield at least 2.4%.  This may mean some jockeying into dividend ETFs, etc.  Thinking about this a bit, you'll realize that more than 2 years' protection is built in !

Furthermore, if the market is down, all cash flows go to cash.  We live in a world where markets have always recovered (at least in the U.S.) and, thus, people believe they always will.  Those in retirement need to be careful, I believe, in making this assumption.