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Posts from the ‘Investing & Savings’ Category

3
Aug

Do you know if you will owe tax as a shareholder of a company that completes an inversion?

“Inversions” are the subject of Laura Saunders August 1, 2014 article in the Wall Street Journal, “An ‘Inversion’ Deal Could Raise Your Taxes”.

An “inversion” is when a U.S. company merges into a foreign company.  Some U.S. companies (e.g. AbbVie, Applied Materials, Auxilium Pharmesuticals, Chiquita Brands International, Medtronic, Mylan, Pfizer, Salix Pharmaceuticals and Walgreen) have considered or are pursuing an “inversion” to reduce U.S. income tax.

It is expected that the “inversion” will be taxable to U.S. shareholders.  Technically the U.S. company is being acquired in a taxable transaction.  It is unlikely that the shareholders will receive any cash.

The tax consequences will vary based on each shareholder’s specific situation.
The net investment income tax (3.8%) will apply if your adjusted gross income (AGI) exceeds $200,000 if single and $250,000 if married filing jointly.

The long term capital gains rate is 20% if your AGI exceeds $400,000 if single and $450,000 if married filing jointly; 15% if your AGI exceeds $8,950 through $400,000 if single and $17,900 if married filing jointly.

The impact of the alternative minimum tax, itemized deduction phase-out and personal exemption are some of the other factors to consider.

Taxes will not be due if the stock is held in a traditional individual retirement account (IRA), Roth IRA, 401(k), or other tax-deferred vehicles.

Taxes are only on factor to consider, not the controlling factor, in deciding  if the stock of a company considering an “inversion” should be bought, sold or held.

“Inversions” will be especially unwelcome for long-term investors who were planning to hold their shares until death for estate-planning purposes.  At that point, there is no capital-gains bill, so some shareholders in firms doing “inversions” will owe taxes they would never have had to pay.”

The tax could be reduced if you have any unused losses from prior years.

Selling other stock or investments that have losses is a strategy to reduce tax from the “inversion”.

Gifting the stock to someone in a lower tax bracket (e.g. young child, grandchild, retired parent or grandparent)  is another stragey to reduce the tax.  The timing of the gift is important.

Contributing the stock to a charity is another approach if you have held the stock for more than a year and will have a gain.  The gain will not be taxed and the value of the stock may be deductible as a charitable contribution, subject to limitations.  Be sure to get a timely qualified acknowledgment.  Allow enough time to complete the transaction  before the “inversion”.

Among the other issues to be considered are: gift/estate taxes, “kiddie tax”, and possible retroactive legislation restricting “inversions”.

This is not intended as a complete discussion of all the factors and consequences to consider.  You should consult with your personal advisers to determine what if any action is appropriate for you.

 

 

 

 

 

23
Jul

Is your portfo as divesified as you think it is?

The following is taken fron an article in the July 2014 issue of Morningstar ETFInvestor.  Samuel Lee was the author of the article.

“Most investors understand that they should diversify a lot.  However, some hurt themselves by behaving inconsistently.  They diversify a lot while implicitly behaving as if they know a lot.  A big subset of this group is investors who own lots of different expensive funds.  Owning one expensive fund is a high-confidence bet on the manager.  Well-done studies estimate that the percentage of truly skilled mutual fund managers is in the low single digits.

It would be strange if your process for assessing mangers turns up lots and lots of skilled ones, because there aren’t many in the first place.  (If you see skilled mangers everywhere, chances are your process is broken or not discriminating enough.)  It  would be even stranger if you bet on many of them.  Doing so dooms you to getting index-like results while paying hefty fees.  It makes little sense to pay 1% or more of assets on an aggregate portfolio with hundreds of positions and marketlike behavior.

An exception is if you assemble a portfolio of extremely concentrated fund mangers.  Owning 10 funds with 10 stocks each put together will look like a moderately concentrated fund manager.  This is a model some successful endowments, hedge funds, and mutual funds use.

Most investors should own diversified, low-cost funds.  Those who believe they know something should concentrate to the extent that they’re confident in their own abilities.  A big dang is that humans are overconfident; many will concentrate when they should be diversified.”

Pay special attention to the above if you think it does not apply to you!

27
May

Pipe Dreams

Samuel Lee is an ETF strategist and editor of "Morningstar ETF Investor". His message is very similar to beliefs of many well known and respected individuals such as Jack Bogle, Warren E. Buffett, Larry E. Swedroe and Carl Richards. Researches by firms such as Morningstar, Vanguard and Dalbar have come to the same conclusions.

Investing is a zero-sum activity. If the seller is wrong the buyer is right. If you prefer, if the buyer is wrong, the seller is right. Each believes their decision to buy or sell is correct. Mr. Lee believes that close to 99% who try to beat the market will fail.

Costs are a significant factor in determining who will make money and who will lose money on any transaction. Trading increases cost and reduces the returns.

Mr. Buffett recently indicated his survivors should put their money in index funds and move on. His annual letter to Berkshire shareholders included the following: … "Both individuals and institutions will constantly be urged to be active by those who profit from giving advice or effecting transactions. The resulting friction costs can be huge and, for investors in aggregate, devoid of benefits. So ignore the chatter, keep your costs minimal, and invest in stocks as you would in a farm."

Warren Buffet is the exception to the rule. He has exceptional skills and access to information and resources not available to most people. Most active mutual funds also do not outperform the market.

John Bogle compares investing to farming. Mr. Bogle compares investing to gardening in his book "Common Sense on Mutual funds. The book references "Chauncey Gardiner" (played by Peter Sellers in the movie) Jerzy Kosinki’s book "Being There". "The seasons of the garden find a parallel in the cycles of the economy and the financial markets, and we can emulate his faith that their patterns …will define their course in the future."

Investing should be based on a plan to achieve your financial goals. It is a long-term process that requires research and patience. Passive investing will improve the returns for most people. Almost everyone believes they are better than most people. The Dalbar studies for the past 25 years are based on real investor returns. Most people think they did better than their actual results.

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26
Aug

Risk

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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18
Jul

“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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8
Jul

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.”  

READ MORE
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12
Apr

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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11
Mar

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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25
Feb

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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8
Aug

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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