DIY Newbie - Portfolio Analytics-Part 3

At this point, as described in yesterday's post, we've got our model and we want to track our portfolio allocation. Let's look at an actual portfolio. Get into Schwab and click "Portfolio Analytics." This gets you to :

(CLICK TO ENLARGE) This is actually a 401k for a young person. She works for a small firm. Because it has less than 100 employees,, it can offer what is called a self-directed simple IRA. For the simple IRA the company is required to make a contribution. Thus, the portfolio manager knows when money is coming in and approximately how much. In this particular box, accounts can be combined--obviously important in getting an holistic view of assets.

Click "Edit" and then "View/Edit Portfolio." This brings you to a list of the holdings in the portfolio: (this is useful for later)

( CLICK TO ENLARGE) As you can see, the holdings are low cost, low turnover exchange traded funds. The portfolio is well diversified and participating in many markets. ,If individual securities are your style you would probably have many more holdings listed here .


Now we are set up to analyze the portfolio. Click "analyze portfolio" and "View Table in %":
(CLICK TO ENLARGE)

The right-hand column indicates changes that need to be made to bring portfolio into conformance. "Large Cap Equity" needs to be reduced and "Fixed Income" needs to be increased. "Cash Investments" can also be brought down to zero.
,
Next we'll look at specific trades that will accomplish the rebalancing.

If you can't wait, figure them out yourself using the securities held in the portfolio.

It hopefully, goes without saying that all of this takes considerably longer to explain and go over the first time than it actually takes. This is a 15-minutes-a-week operation once the portfolio is set up and you've been through it a couple of times.

DIY Newbie-Portfolio Analytics-Part 2

Yesterday we ended up with the model selection provided by Schwab. If you are going to manage your own money, it is important, I believe, that you go through this process with your own broker (whether it be TD Ameritrade, Fidelity or whomever). The fact that all of this is free and at your fingertips is a benefit that wasn't available until fairly recently. The model selection is
:

(CLICK TO ENLARGE) Model selection is critical. It defines your risk tolerance. It has to be an allocation that you have to stay with pretty much through thick and thin. You are going to ride it through some really choppy waters. Spend time with them, think about them, and pick carefully. Can you change models? Sure-you just don't want to be changing frequently. In particular, if you go to a more conservative model every time the market hits a rough patch and vice-versa, it obviously defeats the purpose.

Notice that, as you move left to right, you move from most conservative to most aggressive. Notice that each model has a time horizon listed. Notice that each model has comments about your ability to withstand volatility.

Let's pull out the "Moderate Plan" and take a closer look:(CLICK TO ENLARGE). The important information is the model's portfolio allocation. This model is basically 60%stocks/40% bonds, with 5% of the bond position in cash. Notice that "large cap" is targeted at 35%, "small cap" at 10%, and "international" at15%. As stated, these are targets. You have to come up with a rule to determine how much deviation from target you will tolerate. 5% is the typical allowable deviation. When a sector gets more than 5% away from target, either over or under, the portfolio is rebalanced.

Tomorrow we'll look at an actual account, see how it is positioned relative to its model, and figure how to bring it back into balance.

Disclosure: I am a Schwab client and have clients that are Schwab clients. I do not get compensated in any way from them. The only compensation I receive is from my clients.

DIY Newbie-Portfolio analytics

For the DIY Newbie, this is a look at portfolio analytics. This may be a little bit scary for you, but it has a huge payout. For some, it can make the difference of a few years extra retirement when they realize the cost savings from utilizing that tools are available to help them.

Number 1 huge tip: futz around the online portfolio tools that are probably available with your 401k. The more you play around with them, the better off you will be when you roll over your 401k and manage it yourself. Think of it as your part-time job that you work at 2 hours a week. Believe me, the payoff is huge compared to paying a professional to manage your money.

OK...off to analytics land. I'll use Schwab (Disclosure: I have no affiliation with Schwab) for my explanation, but all the big brokers have similar analytics . If you have a rep at your work, sit down with him or her and go through this.

When you log on to Schwab, you come to a page with the following:


( click to enlarge) Click "portfolio analysis". This brings you to:




Click on "Portfolio Reports" and come to:

Click "View All"








Finally you come to:

( Click to enlarge) This is what you are after. These are the models from which you need to select that model that best reflects your risk tolerance, and then you can track your investments relative to the model, rebalance, etc.

Tomorrow we will look at an actual account.


Homework: Try the same with whatever broker you are using.

Unchartered Waters

Does anyone know an expression for when we are beyond uncharted waters?

QE2 is on the way, according to 70% of a recent CNBC survey of 67 economists, analysts, and technicians. It will likely add a chunk (is $1 trillion meaningful anymore?) to the Fed's balance sheet and supply an ever-growing pile of excess reserves - the fuel for printing money. The Fed's policy is to inflate our way out of our economic malaise.

The trigger point, according to Mark Zandi of Moody's.com, will be a rise in the unemployment rate to 10%. He believes QE2 will begin in December.

I think we should skip all this interim stuff and just have the Fed use their unconfined fiat money checkbook and add 20% to the bid for any house sale. The faster the Fed can get house prices ramping up again at a double digit rate and homeowners borrowing against their equity, the faster we can get back to the good ol' days of 2006. Who knows - we might even create a couple of jobs in the process, at least temporarily.

Can You Stand the Heat?

The single biggest hurdle for the DIY investor is handling emotions. Depending on the volatility of the market and the size of the portfolio, investors translate a portfolio downdraft into losing the equivalent of a new car, a nice vacation, or their kid's college tuition over a short period of time. Second guessing then eats away at the DIYer psyche. This also works on the upside. After a good week or month, you can't help but focus on the fact that, if you cash in recent "winnings," you can take the profits and buy a big screen TV for every room in the house. The next thing you know you're in la la land dreaming of the things you can get. That's until you run head on into the next 4 x 4.

The away around all the angst ( at least according to those who have opined on the sub market performance of individual investors) is to get a plan and pretty much stick with it through thick and thin. This requires careful thought on how to allocate assets (what percentage to invest in each asset class) among the major asset classes. A truism of the investment world is that this decision is a primary determinant of long-run performance. In previous posts, I have examined questionnaires and quizzes to provide some guidance in arriving at appropriate percentages. I have urged readers to consider how they have reacted in past volatile markets - of which we have had plenty since the start of the decade. How did you feel when the S&P 500 reached an all time low in 2007? How about in March of 2009 when it hit the bottom after free falling for 15 months? Did you hold in, capitulate, or see it as a buying opportunity of a lifetime?

Analyze your feelings and behavior during volatile markets, and it gives you excellent feedback on your capability for taking risk. Also, take into account that, when you answer risk tolerance questionnaires, you are somewhat biased. Answer the same questionnaire in late 2007 when the S&P 500 has had a good upside run and then again in March 2009 when there was "blood in the streets" and you'll come up with different assessments. You'll score higher as a risk taker after a positive market environment.

The bottom line is that personal risk tolerance isn't a fixed immutable number, as is sometimes projected. The more times we venture out of the cave without running into a woolly mammoth, the more of a risk taker we become and vice versa.


An excellent discussion of the influence of recent markets on perceived risk tolerance is covered nicely by Jason Zweig in "Your Money & Your Brain" - a must read for every DIYer.

Want $600/month for life?

Well, if you're 65 years old and have $100,000, that's what you can get with a single premium immediate pay annuity as discussed in this previous post. Experts now are debating whether this should be a standard option for individuals leaving a company.

In my view, it is an option that should be understood by every retiree. The number 1 fear of seniors, as shown in poll after poll, is running out of money; and, of course, a single premium immediate pay annuity is a way to eliminate this fear.

As it stands now, retirees can buy them on their own. They just need an education in the pros and cons of the product. This is what companies should provide. This is low cost and doesn't put the company in a fiduciary straight jacket. In fact, retired benefit specialists would probably do pro bono work to produce a national fact sheet that tells retirees exactly what they need to know and update a list of low cost, fiscally sound companies such as TIAA/CREF/Metropolitan Life etc. that retirees can go to.

Do you think this is a viable approach?

I Watched So You Didn't Have to

I tuned into CNBC yesterday at around 2 pm to watch the commentary up until the time of the FOMC announcement. As usual, the statement released by the FOMC was carefully scrutinized and opined upon.

Bill Gross, founder of bond giant PIMCO, argued that implementation of Quantitative Easing 1 (QE1) turned the stock market around and that the market stalled when QE1 was halted. This, understandably, got commentators foaming at the mouth and diligently searching for anything that could be read to imply that the Fed was ready to do QE2. Cramer, of course, did his schtick about cruise ships and Queen Mary and Carnival cruise line etc. -I wasn't really sure what he was saying as he hopped all over the set waving his hands and biting the head of a foam bull.

This is what they found in the statement:

"The Committee will continue to monitor the economic outlook and financial developments and is prepared to provide additional accommodation if needed to support the economic recovery and to return inflation, over time, to levels consistent with its mandate." My emphasis.

Commentators argued that this opened the door for QE2 and that it is imminent. The stock market , as usual, gyrated as investors tried to interpret implications for policy.

Sometimes I think that Erin Burnett is the only one on the show who has any economic sense. She kept trying to ask people whether maybe the Fed is hoping that they don't have to use QE2 and continue to flood the system with money. This fell on deaf ears. Everyone was hoping for QE2 as soon as possible and damn the long-run inflation consequences.

Do you think bringing down long-term interest rates by inflating the economy is a good idea?

Bill Gates' favorite teacher (from Fortune magazine)

If you are interested in new ideas, education, and how businesses develop, you'll probably enjoy this article on how the Khan Academy came to be. If you are a member of a teacher's union, you'll cringe and give all kinds of reasons why the academy is harmful. There's a famous quote which goes into how people have a hard time understanding logic when it affects their wallet. It applies here.

What I like about Khan is that he gives the basics. In education today, there is a huge push for group problem solving and critical thinking. Form a group and ask them to figure out how to solve the housing crisis. Sounds great. After all they will teach themselves! Make them produce their evidence etc., etc. There is one small problem with all of this - students don't know the basics! They don't know the difference between the Treasury department and the Federal Reserve. They don't know the difference between the National Debt and the Federal Deficit. They don't know the basics of exchange rate effects. You may as well go to a local bar and ask out loud why the economy is screwed up. It's like a carpenter trying to build a shed when he is clueless about measuring and sawing.

Again, this is where Khan comes in. He is great at teaching the basics in a non-frills way; and people are obviously responding. Apparently, some are responding to a greater extent than they are to their college professors which is, of course, a bit threatening. And unions are quick to pick up on any such threat.

In the same vein, I detect a negative reaction to blogging on the part of educators. The first response I hear is that there is a lot of misinformation. This is true, but it is also true that there is a lot of learning that is obviously taking place; and the fact of the matter is the formal education system is not increasing the financial literacy in this country.

Personal finance blogs are.

At least, that's the way I see it.

What is the FOMC?

DIY investors need to keep an eye on the Fed and, in particular, the committee that sets monetary policy - the FOMC. FOMC stands for "Federal Open Market Committee." By going to the Econoday calendar at the Bloomberg site, you see that, on Tuesday of this week at 2:15 pm (this is approximate), the FOMC will release a statement. The statement gives a short blurb on policy actions, if any, and short commentary on economic conditions the committee considered. It also will hint at which direction they are leaning - towards increasing or decreasing short-term interest rates.

If you are interested in the 3-ring circus surrounding this event, tune into CNBC at 2:10 pm, or so, to see the usual talking heads - bond gurus, ex. Fed governors, and economists - parse the Fed statement and make a huge deal out of any slight change in the Fed's wording.

The specific rate they target is the federal funds rate. This is the rate banks charge each other to borrow and lend reserves. Banks with excess reserves can lend at this rate to banks deficient in reserves. The rate is important because rates are linked. A bank with excess reserves can do a lot of things with excess reserves: it can make a loan (at least they considered this in the past!); it can buy Treasury bills; it can hold the reserves at the Fed.

Longer-term rates are less influenced by the Fed's actions in the short-term market and are more influenced by inflation expectations. Thus, though the Fed's manipulating of the federal funds target will have some influence on 30 year fixed rate mortgages, the bigger influence will be the rise or fall of expected inflation - at least this is the way it used to be.

Today the Fed has pretty much run out of room on the federal funds rate with the target at 0.25% and has turned to what is called "quantitative easing"--the buying of longer-term mortgage-backed and Treasury securities in the market. If any kind of hint is given in the Fed statement on movement in this area, it will be news. On the rate front, market participants expect their posture of keeping rates low for an extended period (until employment shows meaningful improvement) will remain in place.

Stay tuned.

The Real Thing

Forget Gordon Gekko BS...here's the real thing. Watch all 6 trailers- "Inside Job." Mishkin is embarrassing.

The movie's thesis seems to be that the whole housing crisis/meltdown was engineered. This, I believe, is way off base. Were a lot of people stupid? Sure. Were there a lot of bad/illegal things done? Surely.

But was there a gigantic conspiracy? Hardly. Consider this:

The new owners loaded up with so much debt—$2.9 billion from Wachovia, $1.4 billion from Merrill Lynch (BAC)—that there was no room for error. They didn't expect the property to be cash-flow positive until 2011, according a private placement memorandum. Until then, they planned to cover interest payments—$262 million in the first year alone—from a reserve fund Verrone had arranged. Source: The Ballad of "Large Loan Verrone," Bloomberg/BusinessWeek.

Note that one of the owners was BlackRock--a huge player in the capital markets. The problem was the age-old problem of excessive arrogance, hubris, and greed. It wasn't a case of an elite group deliberately setting out to bring the system down.

At least, that's my take.

Revisiting two lovely gentlemen

It doesn't seem like that long ago when I stood on a football field watching the play move away from me, towards the other side of the field, when I got whacked on the side of the head, crumpling me to the ground (yes-you get whacked hard enough you do actually see stars). For me, that was a lesson quickly and forcefully learned. Ever after-wards I kept my eyes open, all around, on the football field.

I've tried to extend the lesson to the capital markets. Today, investors are focused on the U.S. economic recovery and Europe's debt problems. Markets seem to get a nice boost from surprisingly good results from one or two technology companies. But sneaking up behind us are currency concerns. And they could crumple this market.

Japan has intervened to stop the meteoric rise of the yen. Geithner continually admonishes the Chinese for holding down the value of the Yuan. The U.S. talks strong dollar but clearly prefers a weak currency. The Fed obviously gives this considerable weight.

When a currency drops, it, in effect, puts its goods and services on sale on world markets. I live near a circle where catty-corner to each other are competing gas stations. All one has to do is lower price 2 cents on regular gas below the other station, and it has lines at its pumps.

In difficult economic times, currency devaluation enables a country to export its way out of recession. It is part of a protectionist "beggar thy neighbor" policy.

The scary part is that there is a tipping point when countries retaliate. This played out in the 1930s with the passage of the Smoot-Hawley tariff.

As they used to say on Hill Street Blues, "... be careful out there."

Should Bernanke Be Fed Chairman?

7/29/2005Maria Bartiromo/CNBC
"Tell me, what is the worst case scenario if in fact we were to see prices come down substantially across the country"?

Ben Bernanke/Chairman Council of Economic Advisors to the President
"Well I guess I don't buy your premise. It's a pretty unlikely possibility. We've never had a decline in house prices on a nationwide basis."

2/28/2007 Ben Bernanke/Chairman Federal Reserve
"There is not much indication at this point that subprime mortgage issues have spread into the broader mortgage market which seems to be healthy."

7/18/2007 "Overall the U.S. economy appears likely to expand at a moderate pace over the second half of 2007 with growth then strengthening a bit in 2008 to a rate close to the economy's underlying trend."

BrightScope Again

A tsunami of retirees is about to hit the beach. And they aren't in a position to retire. And it is going to get worse. A big part of the problem is that retirees have poorly structured 401ks that they aren't contributing enough to.

BrightScope is a service that has taken on the monumental task of rating 401ks relative to peer plans. Every 401k participant can now look up the rating of his or her plan by going to www.brightscope.com.

If your plan is not rated, you should go to your human resources person and request that it be rated. If it is rated, you should look at the component ratings to ensure that you have good choices in your investment menu and low costs for the plan. You will notice that the site allows you also to do a personalized analysis of the costs you are bearing. Again, if the ratings are not satisfactory, you should ask the plan administrator why.

For too long, the costs of plans has been opaque, as Wall Street has hidden the excessive fees it charges.

Plan administrators are fiduciaries. As such, they are legally bound to provide plan participants with appropriate investment choices and educate plan participants in the investment process.

Full disclosure: I use the BrightScope data in counseling pension plans and pension plan participants.

Which 401k?

Here's the problem: a man and the wife each work at different companies, and, in total, they are saving less than the max allowed in their 401ks. For example, maybe, in total, they are saving $12,000/year. Whose 401k should they use?

One thought is to see how the 401ks are rated. A useful resource is BrightScope. If their plan is rated by BrightScope, the site produces a component assessment:

Click Image to Enlarge Comparing the plans side-by-side gives you an idea on which has the lowest fees, best investment menu, higher participation rate, etc.

Full disclosure: I counsel pension funds using the BrightScope data.

Location,Location,Location

You're probably thinking this post is about real estate. After all, this has long been the mantra in the real estate estate market - even during the housing bust.

But location is also important in investing. In fact, it is typically the most popular take away item from seminars because it immediately saves people money and is easy to implement.

Every individual's situation is a bit different, so the following shouldn't be taken as specific advice.

The first step is to get all your accounts out and sort them into non-qualified accounts and qualified accounts. Non-qualified accounts are typically your basic savings accounts. The key is that you pay taxes on any interest earned on these accounts as you earn the interest. For example, if you have a 3-year certificate-of-deposit (CD) at your local bank, you record the year's interest and pay taxes on it. If you are in the 33% tax bracket and earn $100 in interest, you get to keep $66. On the other hand, if the $100 was a qualified dividend, you would get to keep $85!

Your qualified accounts are your IRAs, 401ks, 403bs etc. These accounts are qualified under the Internal Revenue Code such that they are allowed to grow tax free. They are taxed when funds are drawn out - typically at retirement.

The strategy, then,, is very simple. To the extent possible, try to minimize the interest earned in non-qualified/basic savings accounts. Instead, seek long-term capital gains and qualified dividends in these accounts. On the other hand, use your IRAs and 401ks for your bonds, bond funds, CDs etc. , Let the interest stay in the fund and compound until it is withdrawn in retirement.

Thus, if your asset allocation is 60% stocks, 30% fixed income, 10% cash then locate your investments as follows: put cash in taxable accounts (at today's interest rates it doesn't matter!), put bonds and bond funds in your IRA/401k (and reduce this year's taxes), put stocks in both your taxable accounts(seeking long-term cap gains and qualified dividends) and qualified accounts.

As always, consult with your tax accountant and investment advisor to assess the appropriateness of investment advice for your specific case.

Is It a Scam?

One of the oldest and least creative scams in the book is as follows. Send out 200 postcards for a given small stock, and have half proclaim the stock will outperform and should be bought and half proclaiming the stock will underperform and should be shorted. The next month send out 100 postcards to the correct "prediction" using a different stock. Again, for half predict a rise, for half a fall. Repeat for the correct call and eventually a group of suckers are thinking you are a genius; and to them, for a fee, offer your picks - which you've demonstrated will make them unbelievably wealthy. You've got everything going on- naivety/stupidity/greed all wrapped up into one.

Obviously this is low class "Boiler Room" kind of stuff.

Instead, become a mutual fund giant and start 10 funds with different styles. The empirical evidence shows that over the long run 10%, or in this case, 1 fund will typically outperform the market. For that fund, take out a full page ad, with a graph showing its performance relative to an index, its Morningstar 5 star rating, and in small font, at the bottom of the page, verbiage stating the usual disclaimers.

My question: Is this a scam?

Fixing the Economy

Caroline Baum of Bloomberg has an interesting piece this morning on how to fix the ailing economy. What I like is that she explicitly cites Federal Reserve policy in 2003 as the prime cause of the housing market debacle and recession that has pushed unemployment close to 10%. Too few people understand or admit the role of the Fed, and the leaders at the Fed have successfully deflected the blame elsewhere. They point to rating agencies, banks investing in collateralized debt, and even the excessive saving rate of other countries as culprits and causes of the housing debacle. Little mention is given to their policy decision to lower short-term rates to 1%.

In fact, Chairman Bernanke gave a speech recently on the causes of the downturn, and you have to search through the speech for the role that policy played. His take on what triggered the debacle was "...the most prominent one was the prospect of significant losses on residential mortgage loans to subprime borrowers." He doesn't seem to understand the role that 1% short-term rates played in the build up of subprime loans. And he's an expert on the Great Depression?

What needs to be understood and put out front is that the only way to prevent future melt downs is to recognize explicitly the cause of the last one. Bringing Bernanke and his ilk in front of Congress to testify on the causes is asking the fox about the dead chickens in the farm yard. Bernanke played a key role as a spokesperson going around the country giving a "Chicken Little" speech on the dangers of deflation and calling for low rates and is, therefore, as culpable as Greenspan in laying the groundwork for a seriously flawed policy.

Only by getting at the cause of the last meltdown can the present bond bubble buildup resulting from a 0.25% federal funds target rate be understood.

The Fed is destablizing the economy. This is not why it was set up in 1913.

"When the Towers Fell"

This is an awesome poem written by Galway Kinnell on the 9/11 attacks and presented on "The Biz of Life" site yesterday.

It is worth reading to,, and with every young person in America.

Google Trends and Pundits

An interesting post by Justin Paterno examines David Rosenberg (former chief economist at Merrill Lynch) searches using the Google Insight tool, introduced in a previous post. Using the tool, a case can be made that David Rosenberg is a useful contrarian indicator.

But looking at Rosenberg's charts and thinking about what we are supposed to do as investors versus what the pundits tell us to do gives us better direction. Consider the following:

CLICK IMAGE TO ENLARGE Question: when is a good time to get involved in the market--when we have a normal recovery and everything is climbing apace or when the economy is still struggling many months after the end of the recession? Let me restate this: do you want to buy after prices have made a strong surge upwards or after they have bounced along at low levels, considerably below their highs?

I believe that investors should put ear plugs in and look for really lousy macro economic charts and that is the time to get in. This presupposes you are a market timer. But all the evidence shows market timing is futile, and I accept the evidence.

The Rise in Treasury Bond Rates

Do-it-yourself investors are closely watching Treasury bonds and wondering whether the recent rise in yields is the beginning of the often forecasted upward move or merely a blip that will shortly reverse. As part of this process, observers pay careful attention to the Treasury bond auctions. As shown on the Bloomberg calendar, this past week has been a heavy week in Treasury issuance, culminating with yesterday's 30-year Treasury (the so-called "long bond") auction. The results, as reported by Bloomberg, were not so good:

Results are very weak for the monthly 30-year bond auction which tailed by two basis points. The auction stopped out at 3.820 percent vs. a 1:00 ET bid of 3.798 percent. Coverage wasn't bad at 2.73 but dealers got stuck holding a 55 percent share of the $13 billion offering, the largest share in nearly a year. Given the recent run of less downbeat economic news, today's results point to investor expectations that rates at the very long end may begin to rise. Demand for Treasuries is easing following the results.

To gain some perspective on yields, a useful source is the "Daily Treasury Yield Curve Rates" published by the U.S. Treasury.

Treasury issuance, although a big part of the puzzle, is not the only part- there is also supply from other areas. In the corporate sector:

Investment-grade companies issued $33.1 billion of new notes on Tuesday and Wednesday, with the latter's $19.2 billion one-day total the highest daily volume for U.S. high-grade bonds in 19 months, according to data provider Dealogic (Holdings) PLC.

Alas, nobody said this was easy. In effect, we are trying to put together a puzzle where we don't have the picture on the box. My feeling is that yields will go a bit higher - 10-year yield slightly above 3% - but the overriding factor will be, as always, how the economic data plays out.

Where do you think yields are headed?

Related post: When Will Interest Rates Rise?

Soccer and Personal Finance

Soccer, personal finance and creativity - what's not to like? Rupee Manager shows how the different parts of a soccer team relate to the different parts of a financial game plan.

In my opinion, it is a terrific way to turn on the light bulb for many people who focus on only one part of their finances and think they have all the bases covered - like the soccer team with excellent strikers but glaring weaknesses elsewhere.

My posts from the last 2 days are related, especially the bottom line showing the impact of increasing your saving rate, working slightly longer, and getting a bit higher return on your investments. Many times, it's not about just doing one thing well but doing several things in small increments.

I believe Rupee Manager's succinct post is worth sharing in the classroom with young people learning the basics of financial literacy. What do you think?

Work More Years, Increase Saving, Invest More Aggressively?

Yesterday's post was a question of which 3 events would impact an investor's nest egg the most under assumed conditions. The 3 events were: work an additional 2 years, increase savings rate from 8% to 10%, or increase return on assets from 6% to 8%.

Kevin at "Invest it Wisely" first guessed #3 - increase return, but then changed his answer to #2 - increase savings rate. Actually he was right the first time. Before everybody starts tsk tsking and thinking, "yeah, that's what always happens when you change your answer," actually behavioral scientists find that changing answers on tests (better known as second guessing) actually improves scores.

Anyways, for the example, the person will have a nest egg of $420,000 if he doesn't change his behavior. The respective options work as follows (according to "Fiduciary Benchmarks" data):

1. work 2 more years $490,000
2. Increase savings rate from 8% to 10% $540,000
3. Increase return from 6% to 8% $ 560,000.

What if all 3 options are taken? Then the nest egg would more than double to $850,000! It is worth pointing out that working extra years and increasing the savings rate are under the control of the person. For return, he is somewhat at the mercy of the market. It illustrates the importance of asset allocation. From a financial planners point of view, if the so-called "number" required for retirement was $800,000 or so, a bigger allocation to stocks would typically be recommended.

Do You Know Biggest Impact On Retirement Savings?

Adapted from Kiplingers 10/2010, chart 50, taken from Fiduciary Benchmarks.

A QUIZ:

First the assumptions:

-45 years old
-earning $50,000/year
-contributes 6% of pay and employer matches 50%
-investment return equals 6%/year
-retires at 65

Suppose he can do one of the following:
1. work 2 more years, i.e. until he is 67 years old,
2. increase saving rate from 6% to 10%,
3. increase return from 6%/year to 8%/year.

Which of the 3 do you think would have the biggest impact on his retirement savings?

Would You?

As evidence I read pretty much everything, I will admit to reading "Date Lab" just about every Sunday in The Washington Post magazine. It brings together people judged to be compatible, pays to send them on a date which they then rate, and ends up following up to see if they got back in touch.

Anyways...this week the guy featured in Date Lab is a 22-year-old financial consultant; and I got to thinking that this guy was not even born when the 1987 crash occurred, was 14 during the dot.com bust, and still in college when the 2008 meltdown occurred.

My question is pretty simple: would you take financial advice from a 22-year-old?

Who's Afraid of the Big Bad Wolf?

The first Friday of each month, at 8:30 am EST, the Bureau of Labor releases the employment report for the previous month. Tomorrow's the day for August employment.

This is the "Big Bad Wolf" of the investment markets. Just about every month, but especially these days, traders hunker down in front of their terminals waiting for the release of the numbers. Some believe the whole future of the economy will be revealed by the number. And, of course, this goes on just about every month. What is our house made of - straw or bricks? Ooh...scary stuff.

If you watch CNBC, and the hype surrounding the number, you'll understand why the stock market is so volatile; and you'll be able to answer those who question why stock prices clearly rise and fall much more than the underlying values of the businesses they represent - something that many cite as evidence that the market can't be efficient.

The last I heard, economists are predicting that non-farm payroll will be down -100,000. If job loss is less or if, hard to imagine this, the economy added jobs, stocks should rally and bond yields increase. Part of the process, of course, is looking at other numbers in the report like the unemployment rate, hours worked, average wage and the number of long-term, chronically unemployed, which is setting a record.

Adding to the importance of the numbers, of course, is that we are in election season.

If you want to see the numbers and the report as it is released, you can go directly to the BLS site and see the report at 8:30 am. It is an interesting report in that it gives breakdowns in terms of demographics, ethnicities, and even industries - information that can be useful for the trader.

You'll notice that the unemployment rate and the number of jobs lost or gained are determined by separate surveys - a household survey and a business establishment survey.

So buckle up - here comes the "Big Bad Wolf."

Don't Bailout

I've been raising some pessimistic issues recently to see how people feel about the investment markets and to play the devil's advocate. Periods where negative news comes in waves test investors, especially do-it-yourselfers.

As I make my way around the blogosphere, I must say I am impressed with the number of young people commenting that today's market represents an opportunity. This shows, in my opinion, they have studied their market history.

I recently revisited some sites and decided that it is worth posting my response to an excellent post at Generation X Finance in response to a reader's question of whether he should get out of the market.

In the comment section I wrote:

In November 1972 I was 25 years old. The S&P 500 closed at 115.49 on my birthday. Today it is at 1022.58. In 1972 there were no cell phones, offices weren’t equipped with PCs, families drove station wagons. In 1972 our immediate threat was the Soviet Union. The threat of a nuclear war occupied the country. Viet Nam was raging and young people were viewed as out of control. In 1974 OPEC quadrupled the price of oil overnight and there were gas lines everywhere as gas was rationed. In 1987 the stock market crashed – the market dropped 24% in one day! I saw people quit the investment business that day. They just walked down the hall and turned in their resignations.

Moving into 2000 people predicted widespread computer crashes – planes weren’t supposed to be able to fly and mass transport was expected to break down. Corporate governance was at an all time low as companies manipulated their earnings. In 2001 we had the terrorist attacks. This resulted in two wars for the U.S. Some people predicted that people would never fly again.

Today everyone has cell phones, workers have PCs on their desks, incredible breakthroughs are being made in bio tech, houses are being revamped to be environmentally friendly. The car you drive 5 years from now will be vastly different from the car you are now driving.

Today is different. We live in an information age. Kids now have the capability to solve the energy crisis literally in their garage.

Do you think 35 years from now people will look back and say 2010 was not a good time to invest?

I won’t be around. so I’ll frame it in terms of 25-year-olds. You guys have no idea about what type of products are forthcoming and the companies that will be formed and the advances that will be made. This puts an investor at a disadvantage because he can always see the problems explicitly in front of him, but what can’t be seen are the industries and products that will be formed.

One thing is for sure, though – there will always be an excuse to not invest. If I was 25 years old, I would be in the market big time.

This type of exercise, trying to put the present into perspective, is useful, I think, when markets go down a lot - and even after they have risen to what might seem to be lofty levels.

The idea of what is seen and what is not seen is actually an important concept in economics and is getting some notoriety in behavioral economics. For those not familiar with the concept, you can read the original by Fredic Bastiat at "The Broken Window" , or view the youtube video to get a more modern version.