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Posts from the ‘Investing & Savings’ Category



It is important for you to understand your tolerance for risk and capacity to recover from investment losses.  Financial professionals need to understand this also.  It is part of the understanding needed to help develop a foundation to guide you through your life’s journey. 

Risk tolerance is your capacity to withstand a loss.  Your capacity to withstand a financial loss is your ability to recover from or absorb a financial loss and still be able reach your financial goals. If the probability of an investment portfolio is too low, then the person does not have the capacity to withstand the loss.

If you do not have the tolerance or capacity to withstand a loss, something else may need to be changed.  It may be any combination of actions including: increasing income, lowering expenses, increasing savings, or lowering financial goals.   

The reliability of your sources of income is another factor to consider.  If have a good job with a strong reliable company in a growing industry, you are in a better position to withstand investment losses.   However, if you are not satisfied with your employment you are not in as good of a position to withstand investment losses. 

Age and health are two other factors to consider.  If you are in the earlier stages of you career, you have more time and resources to recover from investment losses.  The existence of health issues generally reduces the ability and flexibility to withstand losses. 

Future plans to start a new business and to travel extensively are two other factors to consider.  These plans may reduce your ability and flexibility to recover from investment risks. 

This discussion is an introduction to an understanding of your risk tolerance and capacity.  Without this understanding, your financial planning may not be achievable.
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“Protect Your Capital: Never Chase High Yield”

Donald Cassidy’s article in the July 2013 issue of the AAII Journal provides timely insights in today’s low interest environment.  Following is the beginning and conclusion of the article.  The message is clear.

“Higher current yield reflects greater risk. This is true across asset types and among securities within the same type. Investors who chase yield are gambling, knowingly or naively, that the market is wrong and that their principal will not be significantly impaired. In the current artificial low-yield climate, risk to capital is real but is being ignored more than usual, as investors seek to replicate the income streams available pre-2007.”

His “article covers several income-oriented asset types: high-yield bonds, preferred stocks, so-
called hybrid preferreds, real estate investment trusts (REITs), master limited partnerships (MLPs), closed-end funds and utility common stocks. While the capital soundness differs by asset type, one key caution is equally true for all: High yield means high risk.”

“Unfortunately, some securities salespeople gravitate to high-yield offerings since they are an ‘easy sell’ to clients, who seldom ask penetrating questions about attendant risks. Such pitches should be refused, as they are clues to the offerers’ character. The aftermarket, readily accessed via numerous screening tools, can be just as dangerous for do-it-yourself investors without a salesperson making titillating offers.”

“The market, while not reliably efficient, is not dependably stupid. Income vehicles trading at higher yields within their asset classes do so because of greater risk—of reduced income payments and the It is tempting but very risky to reach for yield. In some future business downturn, companies seeming to offer higher yields now are most at risk of reducing or skipping their payouts. Unless an investor is unusually prescient and adept at selling or has proven skills at finding lasting bargains among depressed securities, yield chasing is a losing game.”

“If you need more income than the present rate environment allows, accept lower yield with safety and growth, and sell off a couple of percent of assets annually as an income supplement. Always avoid yield chasing.”
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Dimming Outlook for Bonds May Require Some Rethinking.

The above is the title of an article by Carla Fried. The article appeared in The New York Times, Sunday, July 7, 2013 Mutual Funds Report. 

Bonds, interest rate, yield, etc are topics appearing very frequently in the media. This article contains concise statements that may help understand what all the comments are about.  Following is a sampling from the article.

We have been hearing warnings about falling bond prices in the last few years. “…we got an early whiff of what may be ahead.”  During May the Federal Reserve considered reducing efforts to keep interest rates low.  The result was bond yields increased.  Bond prices dropped “…Because the prices of bonds fall as rates rise…”

Quoting Christopher Vincent at William Blair & Company “We’re at the change point where it’s no longer about making money, but preserving capital…”

The article also quoted Rick Ferri, founder of Portfolio Solutions.  “Who cares if you earn just 2 percent or even a small negative return over the short term when rates rise quickly?…Bonds …are an antidote to a falling stock market.  Remember what bonds are for…  When the stock markets are down 20 percent, 30 percent or 40 percent, a high-quality bond portfolio will keep from panicking.  And if you think cash is a better alternative, today’s measly savings or money market rates mean that you also get a negative return after factoring inflation.”  

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Past performance

The Securities and Exchange Commission (SEC) requires a disclaimer “past performance does not guarantee future results” on when mutual performance is advertised.   The SEC notes that the long-term investment performance of a fund will depend on factors such as: fund costs (charges, fees and expenses), your tax consequences, the fund’s risk, and operational changes.

Carl Richard equates “Investing based on past performance” with “Driving while looking in the rear view mirror”.  Both “cause a lot of accidents”.

“Despite the SEC warning and pretty conclusive evidence that past performance has very little predictive value, most of us still use performance as the predominate factor in choosing our investments.

This is one of those times in investing when our experience in other areas of life works against us. “

“When it comes to mutual funds, however, the past has almost no predictive value. “  “It turns out that fees are the only factor that reliably predicts a fund’s performance.  The higher the expense ratio –the cost of owning the fund-the worse the performance for shareholders.  This is a case where you actually get what you don’t pay for.”

“Trying to figure out which fund will lead the pack…is a fool’s game.  Focus instead on finding a low-cost investment that you can stick with over the long haul.”

The volume of articles and research studies showing that past performance promises nothing about future performance continues to grow.  Understanding how an investment fits into your portfolio should be based on other factors, including those noted by the SEC.  Understanding the investment’s characteristics and how they relate to the other investments in your portfolio are critical to building wealth.




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A financial plan is essential for you to know how to invest your money.

To over simplify, financial planning is how you manage your finances and establish a path to reaching your goals.  Investment management is one part of managing your finances.  It is the part that determines how your savings will be invested.

Financial planning starts with your goals.  The amount and timing are critical.  Prioritizing your financial goals is necessary.   You can assign a priority of 1 to 10 or categorize your goals by what is needed, what is wanted and what is wished for.  This will be essential as you monitor your progress.  Life and unanticipated events are not controllable and may require adjustments.  Adjustments may result in changes to your goals, the timing of your goals, or your spending.

A reserve fund is needed to absorb unexpected events.   Reserves should be held so that they are quickly assessable, that is, liquid.   Six months of reserve are generally recommended.   As you approach each goal, the reserve fund should be increased.  This will avoid the impact of fluctuating investment values when the funds are needed.   The amount of liquid assets should be increased as you near retirement.  This minimizes the need to sell investments when the market is depressed.  Two years of liquid funds are generally recommended for retirees.  A portion of the funds for living expenses in retirement might be held in short-term bond funds or bonds.

Investments are purchased with the amount of your savings that exceed your reserves.  The amount that is used for investments must be sufficient to reach your goals.  Education expenses and health care are two categories of expenses that have exceeded what people anticipated.  Many people underestimate the amount they will need in retirement.  Because life expectancy has increased and people have retired early, many people will not be able meet their retirement goals.

The planning process needs to consider the above events and your ability to withstand losses.

The above has touched on cash planning, investment planning, education planning, risk assessment and retirement planning.  All the planning areas need to fit together.  How you manage your investments is dependent on the other areas of your financial plan.
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Do you know how much to save?

This is a question I am asked frequently.  I respond with “it depends” followed by a series of questions.  There are many rules of thumb used to answer this question.  A “rule of thumb” is a rough and easy estimation.  It is not based on a specific situation.

Following are some of the questions that should be asked.  What is the purpose of the expenditure? How important is the expenditure?  Is the expenditure something that is needed, wanted or just a wish?  What are the alternatives?  Is the cost known?  When will the expenditure be made?  An estimate can be calculated once the variables are identified.

The savings and the variables need to be monitored.  Life is a journey with many twists and turns.  There will be many unanticipated expenditures, opportunities and windfalls.  You need to identify what you did not plan for so that you can identify when you need to change what you are doing

Financial cycles may impact your ability to meet your expectations.  The available rates of returns will vary.  If you anticipated too high of a rate of return, you will save less than you planned.  If your earnings do not grow as much as you anticipated you will have less than you expected.  If your living expenses increase more than your income you will not meet you goals.   If the reverse happens you will save more than you planned.  That is easier to deal with than not saving enough.

You should monitor your savings and review your goals at least annually.  The sooner you adjust to adverse events, the easier it will be modify what you are doing and improve your ability to achieve your goals.
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Most under 45 underestimate their life expectancy.

This was the finding of a survey by the Society of Actuaries, as reported the Financial Advisor Magazine August 1, 2012.

Many people forget that the average represents the middle.  That is half will live longer and half will not live that long.  The life expectancy for newborn American males increased from 66.6 years to 75.7 years between 1960 and 2010.  During the same period the life expectancy for newborn American females increased from 73.1 to 80.8.

A majority say they would be very or somewhat likely to make significant reductions in their living expenses if they thought they would live 5 years longer than they expected.  “More than half of per-retirees would also use money they otherwise would have left to heirs or downsize their housing.”

The survey also found many underestimate their planning time-line when making major financial decisions.  Retires generally look 5 years into the future and per-retirees look 10 years into the future.

The report concludes this can result in underfunding for retirement.   Understanding the increased life expectancy, the current state of the economy and the volatility of the stock market require people to do a better job of managing their finances and planning for retirement.

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Insured cash deposits

Many people are moving funds to banks and credit unions as a result of the recent market volatility and increasing questions about money market accounts.
A primary reason is that their deposits are insured by The Federal Deposit Insurance Corporation (FDIC), an independent agency of the U.S. government.  Some banks are currently offering interest rate higher than some money market funds.
FDIC insures all deposit accounts, but not other products that are offered and banks.  Stocks, bonds, mutual funds, life insurance policies, annuities are examples of financial products that are not covered by the FDIC and are sold at many banks  
The standard insurance amount is $250,000 per depositor, per bank, for each account ownership category.
A couple could each have $250,000 in an individual account, and an IRA account (to the extent of deposit accounts in the IRA account).  Deposit accounts in revocable trust accounts depend on the number of named beneficiaries.  Generally if there are five or fewer beneficiaries, the coverage is $250,000 per owner per beneficiary.
The National Credit Union Administration (NCUA) insures deposit accounts for federal credit unions and qualified state chartered credit unions.
Additional coverage for deposit accounts can be obtained through the Certificate of Deposit Registry Service (CDARS).  This service will split a large amount of cash among several banks in its network.
Planning for deposit accounts includes: determining the ownership of the accounts, documentation for retirement and trust accounts, anticipating future interest earned on the accounts, accounting for future deposits and withdrawals, and determining if the financial institution is FDIC or NCUA insured.

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