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Monday, December 23, 2013

Wall Street 2014 forecasts = random dart throwing

Further support for my recent blog about Wall Street's stock market predictions for 2014.

Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.

Saturday, December 21, 2013

How much will you spend in retirement?

The Wall Street Journal just published a good article about retirement income.

I tend to be conservative in my planning, so I assume 100% pre-retirement spending, and spending 3.33% of savings per year, but the article highlights the more conventional view of 75% to 85% pre-retirement income and 5% per year spending.

The choice is really up to each individual, but I prefer a bigger rather than a smaller margin of safety.

If you were told you had a 1 in 20 of getting into a major car accident today that would cause debilitating injuries, you probably would elect not to drive.  But, when people are told they have a 5% chance of running out of money in retirement, they don't seem to grasp that 1 in 20 and 5% are the same odds.

Depending on the kindness of strangers--or worse, family members!--in your 80's or 90's sounds about as enticing as a debilitating car accident, to me.

The issue isn't so much what numbers you plan for retirement spending and saving, but that you think about it.  The article referred to above gives a great set of ideas to consider in your retirement planning.

Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.

Friday, December 13, 2013

2014 Stock Market Prediction! NOT!!!

It's that time of year again, when the public eagerly eats up articles, speeches and sound bites predicting where the stock market will close in 2014.

My problem with this annual ritual is that it's a ruse that distracts people from investing, and leads them instead into unprofitable speculation.

No one knows where the stock market will end 2014 any more than someone knows that one roll of a die will land on 6.  Someone may get lucky and guess 6 correctly, but everyone acknowledges it's luck and not skill.  

The skill with rolling a die is knowing that any one roll cannot be predicted, but that several rolls will converge on an average number of 3.5.

I just rolled a die 57 times.  On the 11th roll, the average converged above 3.  On the 57th roll, it had converged on 3.175.  If I kept doing it, it would converge on 3.5.

The same is true with the stock market.  Predicting one year's return is impossible, but knowing the trend over time leads to a converging solution.

By my estimates, I think the S&P 500 will return 0.9% over the next 5 years.  Now, that's not one roll of the die, but several.  

And, that could occur as 5 years of 0.9% returns, or as 4 years of 12% returns and one year of -33%, or as 2 years of -33% returns and 3 years of 33%.  You get the idea.

I don't know any one year's return, but I can understand the underlying nature of the system and predict where things will converge.  

The longer the period, the more confident I am in my prediction.  That 0.9% 5 year prediction doesn't carry a lot of confidence any more than 5 rolls of a die will end up averaging 3.5 with much confidence.  But many rolls makes me more confident in my prediction.

That is why I more confidently predict 4.4% returns over the next 10 years, and even more confidently predict 5.6% returns over the next 15 years.
Thinking about next year's return and acting on that "thinking" is pure speculation, and a sure-fire way to lose money over time.

Instead, focus on the longer run where the predictions are more accurate.  
The market isn't cheap, so don't expect high returns over the next 5, 10 or 15 years.  

But, that doesn't mean we won't have high returns in 2014.

Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.

Friday, November 22, 2013

Objective advice, or shady recommendations

Another great article in the Wall Street Journal: this one about how investors are confused about adviser fees and regulation.

The issues may seem nit-picky, but they have a big impact on investor outcomes.

On the one hand, you have fee-only advisers who are paid as a percentage of assets under management, a flat fee, a per hour fee, or a per task fee.  

On the other hand, you have fee-based advisers, who are paid by a combination of fees and sales commissions.  

If the issue seems trivial, let me explain.  A fee-only adviser will not get $5,000 for advising that you invest $100,000 in a particular mutual fund.  A fee-based adviser will.

When you ask a fee-only adviser for advice, you know they aren't steering you toward a lucrative product which may not be right for you or any good.  With a fee-based adviser, you don't know.  

Asking a fee-based adviser for advice is like asking a barber if you need a haircut--the answer will always be yes.

Another issue is fiduciary duty.  An investment adviser (a regulatory designation: Investment Adviser's Act of 1940) must put the interest of clients' above their own.  A broker/dealer (Securities Exchange Act of 1934) has no such obligation.

When you see fee-based, think broker/dealer and barber.  When you see fee-only, think advice in your best interests.

Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.

Friday, November 15, 2013

Investors are their own worst enemy

Jason Zweig had a excellent article in the Wall Street Journal about how investors get worse returns by chasing hot performance right before it disappears.

Essentially, investors get much worse returns than the funds they invest in.  The reason: they sell what hasn't been doing well and buy what has been doing well.  If they held the same fund over time, they'd get the same returns as the fund, but they buy and sell at the wrong time and get worse returns.

It's not just individual investors who are prone to this--professionals investors do it, too.  The problem is that investors are paying professionals to do the same thing they would do, but then they end up even farther behind because they've also paid a professional fee.

Investing is simple, but not easy.  To get good returns, you need to choose the right principles, and then follow them through thick and thin.  That's hard to do for most investors, especially because they pick professionals they like instead of the ones who are competent.

So was it ever.

Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.

Friday, November 08, 2013

How NOT to pick a mutual fund

The Wall Street Journal had an excellent article recently about how NOT to pick a mutual fund:

1. Focusing too much on past returns.  Separating luck from skill is extremely difficult, so you don't know whether the fund with excellent past returns is going to do well going forward or blow up.

2. Not understanding how the money is invested.  The process of investing generates results, so you need to focus on the cause, not the effect.  If you don't understand the process, there's no proof it works, or it's too narrowly focused on what has worked well recently, stay away.

3. Diversification in name only.  Diversification is only worthwhile is if it's truly diversified and if it's very low cost.  If diversified means 5 different mutual funds focused on gold, you're toast.  If it means you buy 5 full cost (1% annual fees) mutual funds that cover large, small, value, growth, bonds, etc., then you're throwing your money away.

4. Chasing headlines.  If you buy something because it's in the headlines of the news, then you'll almost certainly get crushed over time. The smart money has already bought and sold before it's in the headlines.

5. Buying on ratings alone.  If you focus on the ratings/stars that most mutual funds advertise (there's a reason why they are advertising that fund now, and not at other times), then you'll likely get bad results.  Most returns aren't persistent (they don't continue in the future), so if you buy what has done well recently, you'll probably lose money.

Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.

Friday, September 27, 2013

Ray Dalio explains how the economy works

Perhaps a little over-simplified, but an excellent explanation of how the economy works by Ray Dalio.  

Credit is not created out of thin air, as he says, but by those willing to save instead of spend (except for demand deposit accounts, but that's getting into details of how banks create credit apart from saving/investment, and still depends on people being willing to save/not spend).

Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.

Tuesday, September 24, 2013

Fee-only in name only

If you receive advice or asset management services, ask how you provider is compensated.

Some asset managers are compensated as a percentage of assets under management.  This is how most mutual funds work (and how I'm compensated).  This compensation is referred to as a fee.

Some asset managers are compensated by a flat fee.  They charge by the hour or a flat rate $500) for services provided.  This compensation is also clearly a fee.

Other financial planners or advisers are paid commissions.  In such arrangements, the professional is compensated when a transaction occurs.  For example, when you buy or sell a stock or bond, the stock broker gets a commission for the trade.  Or, when a financial planner recommends certain mutual funds, they receive a sales commission from the mutual fund (frequently as high as 5% of your money).  Or, when an insurance agent sells you life insurance or a variable annuity, they are paid a commission for the product they sell you.

Fees tend to be more transparent than commissions.  It's very hard for advisers or managers to charge fees without clients knowing because they send a bill or the client has to write a check.

Commissions, however, are harder to see.  When a mutual fund pays a sales commission, the client may not even realize that such a fee has been paid.  Commissions must be disclosed, but you must read the fine print and it's not as obvious as an invoice.

This distinction is not simply academic.  Advisers who claim to be fee-only are seen by many investors as more clearly and justly compensated, so many seek out "fee-only" advisers.

Shadier planners and advisers, however, have caught on to this designation and used it against clients.  It turns out many supposedly "fee-only" advisers are actually compensated with commissions.  See Jason Zweig's article in the Wall Street Journal from last weekend.

Not surprisingly, many of these "fee-only" advisers work at brokerage houses.  Surprising to me, many carry the CFP or Certified Financial Planner designation.  So much for professionalism.  

If you don't know how your planner or adviser is compensated, ask the question.  It may seem like an $800 fee for a plan is good money spent, that is until you find out your "planner" earned a $5,000 commission when you invested $100,000 in the mutual fund they suggested. 

Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.

Monday, February 18, 2013

Above average returns are almost never comfortable

Every investor dreams of steady, 10% returns. That burning desire generates poor results because most can't tolerate the discomfort that accompanies such good returns.

Jason Zweig makes this point nicely in his Wall Street Journal article, Value Stocks Are Hot--But Most Investor Will Burn Out.

Excellent returns almost always require being out of step. But, straying from the herd is very uncomfortable. That discomfort tends to build over time until investors cry uncle to end the pain. Then they miss excellent returns.

Don't use steadiness or comfort to judge potential investments or your resulting returns. Great returns come in irregular lumps and from an uncomfortable place.

Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.

Wednesday, February 06, 2013

Forewarned is forarmed: save more, withdraw less

Most retirement and financial planners assume you can withdraw 4% of your nest egg per year and not have to worry about running out of money before you "shuffle off this mortal coil."  

This 4% withdrawal rate is based on a multi-year analysis of PAST returns.  But, the future will not look like that past.  

Bonds' historic return of over 5% will not recur when 10 year rates are 2%, 30 year rates are 3%, and future inflation will likely be higher than today's 2% (when inflation rises, bond rates rise, and that means bond prices fall--leading to returns likely worse than 2-3%).

Stocks are not selling at price to earnings multiples of 15 times or less, so equity returns will not resemble the 10% many have come to expect.  My expectation is for -3% to 9% returns from equities over the next 6 years.  

No matter what combination you use of 2 to 3% from bonds and -3% to 9% from stocks, it will not add up the numbers used to derive the 4% withdrawal rate. 

So, what rate should you use for the future?

In my 2nd quarter client letter, I argued for the rule of 30, which implies a 3.33% withdrawal rate and 30 times your annual spending in savings.

Recent research from Morningstar and an article on Marketwatch argue that I may be too optimistic, that a 2.8% rate is a smarter aim-point (to have a 90% chance of not running out of money).

Regardless of how you want to look at it, the reality is that people need to save more to reach retirement and should plan to withdraw less when they get there.

Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.

Wednesday, January 23, 2013

China syndrome

Some people think China will grow strongly forevermore.  That would lead to significant changes in both the political and economic landscape going forward.

Others think China will run into a brick wall because governments are terrible capital allocators.  That, too, would lead to significant changes on the political and economic front.

In other words, China will have a large impact on the future of politics and economics no matter what.  You can't think about the short, intermediate or long term without some attention to China.

With that in mind, I highly recommend a recent piece from GMO (a very good investment firm) regarding China.  

It points out the same problems highlighted in a book called Red Capitalism: that China's growth is built on a shaky and corrupt financial system.  

I hold the opinion that China is headed for trouble, although I have no idea when that trouble will come about (just like I saw the dot-com bubble and the housing/credit bubble coming, but couldn't predict when each would pop).  

China's trouble could be long term stagnation like Japan experienced over the last 20 years, or economic collapse like Europe and the U.S. experienced in 2008-2009, or outright revolution.  I really don't know.

But, I do know it's important to think about ahead of time.

Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.