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Archive for February, 2011

27
Feb

Target-Date Funds may not be what they seem to be.

Concerns about the use of Target Date Funds (TDF), also known as life-cycle funds, have been asked since they were introduced.  The U.S. Government Accountability Office recently issued a report, GAO-11-118, discussing some of these issues.  Wide variations exist in the structure, objectives and philosophies among the providers of these funds.  As a result the allocation to various asset categories; before retirement, at retirement and after retirement are materially different.  Other differences relate to the use of alternative assets and complex investment strategies. 
“Between 2005 and 2009 annualized TDF returns for the largest funds with 5 years of returns ranged from +28 percent to -31 percent.”  A February 16th article in the Wall Street Journal focused on the wide range of costs.  A table of TDFs with the highest and lowest average expenses reflected a range from 0.18% to 1.68%.  The 11 TDFs with the lowest average expense ratios ranged from 0.18% to 0.85%.  The 11 TDFs with the highest average expense ratio ranged from 1.18% to 1.68%.
“Fees are important because every dollar spent on investment management translates directly into lower returns.”
Since the long term returns may vary greatly, an investor must look into the details of the various funds.  An investor must determine among the alternatives TDFs that is closest to their financial needs, risk of loss, risk  of fluctuations, etc.
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19
Feb

Lessons learned from shortfall of “boomers” 401(k)s

An article in the Weekend Wall Street Journal (Feb. 19-20, 2011) highlights some of the reasons that many baby boomers retirement plans are nor adequate.  As a result many people are postponing retirement, moving to less expensive homes, reducing expenses and adopting more aggressive (risky) investment styles. 
One reason given is that people did not have adequate competent advice.  Without dwelling on the events that caused this situation, lets look at some lessons everyone should have learned from the current situation.
The sooner people start to save, the better off they will be.  This provides the opportunity to maximize the power of compounding.  The sooner savings are invested the sooner income and/or gains can be reinvested to increase their investments.  Savings should be increased when income increases, when bonuses are received, when investment gains are recognized, etc.  Adequate liquid reserves should be maintained for unanticipated events.  The reserves can be used rather than being forced to liquidate investments when the markets are down or in stress. 
Contributions to qualified retirement plans is a good way to save.  By stretching to contribute more, the power of compounding is increased, as the income and gains are not reduced by income tax.  With all the advantages of retirement plans, investment assets outside of retirement plans will be needed.    
A proper mix of investments is needed so that it is not necessary to trade or make frequent changes.  A properly constructed portfolio will loose less in down markets and recove faster.  This should help provide the strength not to get out of the market when it goes down and get back in when it goes up.  Investors that sell generally miss the time to get back in before the market recovers.
Another cause was not recognizing that there are financial needs throughout life.  Before sending children to more expensive colleges or repaying student loans people should provide for their retirements.  
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7
Feb

Behavior Biases

Did you know behavioral biases have very little to do with how smart or educated a person is?  The research relating to behavioral financehas has been growing, especially in the last 10 to 15 years.  The biases are significantly the result of how we are “wired”.  Independent and objective guidance can help identify biases and make better decisions. 
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4
Feb

The need for a stable, liquid account

Everyone should have an emergency fund.  The amount, however, varies from person to person.  Try to identify the reasons that could cause you to need immediate financial resources.  Then, try to think of things you did not consider.  No matter how many events you considered, there are more you did not consider.  Yes, I did read the “Black Swan”.

You then need to consider the amount needed.  If you maintain a budget, you can quickly identify the expenses that you would have to cover.  The obvious types of expenses include: utilities, rent/mortgage, loan repayments, food, etc.    

Subtract the stable reoccurring items of income.  Before you consider your wages as a stable source of income, consider that a reduction or loss of wages is one of the events that require a reserve fund.  For some, the reduction or loss of a bonus could be a reason to have a reserve fund.

A common rule of thumb is three to six months of liquidity

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