Category Archives: Asset Management

FIVE FACTS THAT PROVE AMERICANS ARE TERRIBLE AT MANAGING MONEY

I read this headline recently and wanted to share it with you.  Here’s the short version.

  1. About 1 in 4 literally have no emergency savings.
  2. We are more worried about paying for our next vacation than about saving enough for retirement.
  3. Millions of us hide money from our spouses and partners.
  4. We prioritize paying the wrong bills first.
  5. We’ve racked up $1 trillion in credit card debt — and that’s just a fraction of what we owe.

That’s troubling.

Very few of our clients suffer from these five issues, but we have had people coming through our doors who are searching for help to get out of debt and on the path to financial stability.

But even people who save and invest and have given serious though to retirement are not necessarily good at making investment decisions.

Having the right instincts and putting money in an investment account doesn’t mean that you are making the best decisions.  Navigating the complex world of modern investing is both a skill and an art that most people do not have the time or patience to learn.

That’s why more and more people are turning from brokers to independent Registered Investment Advisors (RIAs), fiduciaries who manage portfolios for a fee.  Turning the selection of investments over to an RIA, receiving regular reports of progress toward their financial goals, makes sense to people who understand the benefits of using professionals to accomplish complex tasks.

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7 Services that a Registered Investment Advisor (RIA) Provides

Investing is serious business.  How well you manage your investments can make the difference between a comfortable retirement and working ‘till you drop.  Most people use a financial advisor of some kind.

Back in the day, people opened an account with a major investment firm and used a broker who would call and make recommendations to buy or sell.  They were essentially stock and bond salesmen whose loyalty was to their firms.

That has all changed.

The trend now is away from the major firms and toward Registered Investment Advisors – RIAs.  RIAs are fiduciaries whose duty is to put their clients’ interests ahead of their own.  They help people plan their future and take over the every-day investing decisions for them.

What can an individual expect from an RIA?

  • Asset management. This means creating a portfolio appropriate to the client, making changes in the best interest of the client, and reacting to market conditions.
  • Financial planning. Organizing a client’s financial affairs.  Determining the best way of achieving the client’s objective.  Reviewing the client’s insurance and estate planning needs.
  • Reporting and record keeping. Maintaining the organization of finances.  Performance reporting.  Maintaining cost and purchase data.
  • Life planning. Helping the client uncover what they really want to accomplish and creating a roadmap to getting there.
  • Retirement planning. Providing a path to living well once the paycheck stops and people are dependent on fixed income sources and their personal savings.  Retirement is a major life change.  RIAs typically offer comprehensive retirement plans that help people decide when to retire and what how well they can live.
  • Estate planning. Leaving money to heirs and charities must be carefully planned or large portions of an estate can go to taxes or the wrong individuals.
  • Concierge services. This can include attending meetings with attorney, accountants or bankers.  It can include services such as buying cars, arranging for travel or hiring someone to pay bills.  Relations between an RIA and a client are often so close that they are even consulted on issues such are marriage or divorce.
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Aunt Jennie’s Talents

Image result for image of older woman giving money

The Parable of the Talents is known to everyone who ever attended Sunday school.  A man prepares for a long journey by entrusting three servants with heavy bags of silver (talents) while he is gone.  In those days coins were weighed and a “talent” was about 75 pounds.  He gave 10 talents to one, five to the second and one talent to the third.  The first two servants invested the silver.  The third, being fearful. dug a hole and hid the money for safekeeping.  When the man returned, the first two gave the man twice what had been entrusted to them.  But the third just gave the man his money back.  For this poor stewardship the third servant was cast out.

I was reminded of this story when a lady came to us after receiving an inheritance from her Aunt Jennie.  After being grateful for her good fortune she wondered what to do.  Banks today are paying a pittance on deposits, so putting it in the bank was not all that much different from digging a hole to hide the money from thieves.  She wanted to be a good steward of her inheritance.

She wanted to honor Aunt Jennie by taking care of her money wisely and not squander it.  Aunt Jennie worked hard for her company, spent a lifetime being frugal and made wise investments.  My future client knew her own limitations. She was not an experienced investor.  She had to decide if she wanted to spend her time learning investing from the ground up.  With all the information out there, which expert or school of thought do you listen to?  Did she want to spend her time reading fine print, studying balance sheets or did she want to continue doing those things she enjoyed by finding an experienced professional she could trust to shepherd the money for her.

She chose us because of our caring professionalism.  We listened carefully to her objectives.  We explained the risks and rewards involved in the investing process.  We explained our investment process with the key focus on risk control and wide diversification.  We believe in wise investing, steady growth, and the assurance that your money will keep working for you. With over 30 years’ experience we have weathered all kinds of markets successfully.  Our knowledge and experience allows our clients to focus on those things they enjoy.  They know that their investments will be there for as long as they need them and beyond to help their children and grandchildren.

Aunt Jennie’s talents have grown and our client is happy.  Aunt Jennie would be proud.

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The most common investment mistake made by financial advisors

Bill Miller beat the S&P 500 index 15 years in a row as portfolio manager of Legg Mason Capital Management Value Trust (1991-2005), a record for diversified mutual fund managers.  He was interviewed by WealthManagement.com about active vs. passive management.

We have written a number of articles about the mistakes individual investors make.  But what about mistakes that financial advisors make?  We are, after all, fallible and make errors of judgment.  And like all mortals we cannot predict the future.

Here’s Bill Miller’s assessment about traps that financial advisors fall into:

One problem is how they deal with risk. There is a lot more action on perceived risks, exposing clients to risks they aren’t aware of. For example, since the financial crisis people have overweighted bonds and underweighted stocks. People react to market prices rather than understanding that’s a bad thing to do.

Most importantly, most advisors are too short-term oriented, because their clients are too short-term oriented. There’s a focus on market timing, and all of that is mostly useless. The equity market is all about time, not timing. It’s about staying at the table.

Think of the equity market like a casino, except you own it: You’re the house. You get an 8-9 percent annual return. Casinos operate on a lower margin than that and make money. Bad periods are to be expected. If anything, that’s when you want more tables.

We agree.  That’s one of the reasons we are choosy about the clients we accept. One of the foremost regrets we have is taking on clients who hired us for the wrong reasons.  One substantial client came to us as the tech market was heating up in the late 1990s.  He asked us to create a portfolio of tech stocks so that he could participate in the growth of that sector.  We accepted that challenge, but it was a mistake.  When the tech bubble burst and his portfolio went down and we lost a client.  But it taught us a valuable lesson: say no to clients who focus strictly on short-term portfolio performance.  Our role is to invest our clients’ serious money for long term goals.

Like Bill Miller, we want to have the odds on our side.  We want to be the “house,” not the gambler.  The first rule of making money is not to lose it.  The second rule is to always observe the first rule.

To determine client and portfolio risk we use sophisticated analytical programs for insight into prospective clients actual risk tolerance.  That allows us to match our portfolios to a client’s individual risk tolerance.  In times of market exuberance we remind our clients that trees don’t grow to the sky.  And in times of market declines we encourage our clients to stay the course, knowing that time in the market is more important than timing the market.

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Why do smart people use financial advisors?

What is the real value to hiring a financial advisor, and who uses them?  What is the value proposition?  What makes one car with four doors and wheels worth $300,000 and other $30,000?  Although we might have an answer, the answer differs from person to person.

People use financial advisors for many reasons.  Some use them because they absolutely need them, others because they want them. Paying a fee for advice and guidance to a professional who uses the tools and tactics of a CFP™ (CERTIFIED FINANCIAL PLANNER™) and an experienced Registered Investment Advisor who is a fiduciary can add meaningful value compared to what the average investor experiences.

Many middle-class investors are anxious about their finances and are not interested in learning the details of managing their money.  This anxiety often results with money left on the sidelines because they don’t know what to do or are afraid of making mistakes. That means earning a fraction of 1% at the bank when the Dow Jones Industrial Average (DJIA) is up over 25% in the last 12 months.

There are others who are interested in learning about investing and may want to hire an advisor to “look over their shoulder.”  They want to hire an “investment coach.”

A third category are people who hire professionals because they are busy doing things that are more important to them: building a career or a business, being with family, or living an active retirement.  They hire an expert to manage their money the same way they hire a lawyer for estate planning, a CPA to prepare their taxes, and a doctor to keep them healthy.

A fourth category is people who were making their own investment decisions but ended up making a huge financial mistake.  This leads me to a story about a really smart, highly paid high tech executive who is very knowledgeable about investing; but he hired an advisor:

It’s not because he lacks the knowledge or interest, obviously. Rather, he figured out he had behavioral blind spots and understood he was at risk of great financial loss. He’s paying someone just to take that risk off his plate.

Determining your goals, controlling risk, managing portfolios well, and knowing your limitations – knowing you have “blind spots” – has led many smart people to hire an advisor.

Vanguard, the hugely successful purveyor or no-load mutual funds (that appeal to do-it-yourselfers) estimates that a financial advisor is worth about 3% net in annual returns.  They attribute this to the seven services that a good advisor provides:

  1. Creating a suitable asset allocation strategy.
  2. Cost-effective implementation.
  3. Rebalancing
  4. Behavioral coaching
  5. Asset location
  6. Spending strategy.
  7. Total return versus income investing.

If you have an advisor but he is not meeting your objectives, ask us for a second opinion.  If you don’t have an advisor but may want one, we offer a free one-hour consultation to see if we are compatible.

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What does “diversification” mean?

 

Diversification is key - Wealth Foundations

To many retail investors “diversification” means owning a collection of stocks, bonds, mutual funds or Exchange Traded Funds (ETFs).  But that’s really not what diversification is all about.

What’s the big deal about diversification anyhow?

Diversification means that you are spreading the risk of loss by putting your investment assets in several different categories of investments.  Examples include stocks, bonds, money market instruments, commodities, and real estate.  Within each of these categories you can slice even finer.  For example, stocks can be classified as large cap (big companies), mid cap (medium sized companies), small cap (smaller companies), domestic (U.S. companies), and foreign (non-U.S. companies).

And within each of these categories you can look for industry diversification.  Many people lost their savings in 2000 when the “Tech Bubble” burst because they owned too many technology-oriented stocks.  Others lost big when the real estate market crashed in late 2007 because they focused too much of their portfolio in bank stocks.

The idea behind owning a variety of asset classes is that different asset classes will go in different directions independent of each other.  Theoretically, if one goes down, another may go up or hold it’s value.  There is a term for this: “correlation.”  Investment assets that have a high correlation tend to move in the same direction, those with a low correlation do not.  These assumptions do not always hold true, but they are true often enough that proper diversification is a valuable tool to control risk.

Many investors believe that if they own a number of different mutual funds they are diversified.  They are, of course, more diversified than someone who owns only a single stock.  But many funds own the same stocks.  We have to look within the fund, to the things they own, and their investment styles, to find out if your funds are merely duplicates of each other or if you are properly diversified.

You need to look at a “portfolio x-ray” which will show you how much overlap there is between two or more mutual funds.

Only by looking at your portfolio with this view of diversification can you determine if you are diversified or if you have accidentally concentrated your portfolio without realizing it.

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Dow Breaks the 20,000 level

The Dow Jones Industrial Average reached another milestone today.  The Dow broke through 20,000 as traders cheered.

For a little perspective here’s how the market reached past milestones.

dow-jones-milestones

A few points to remember.  There have been long periods when the Dow treated investors like riders on a roller coaster:  lots of swoops and slides only to end up where you began.  During those periods people made money with astute stock selection, not by buying “Mr. Market.”  We believe that those times will come again.

  • It took from 1929 to 1954 for the Dow to regain its previous high.
  • It took ten years – from 1972 to 1982 – for the market to break through the 1,000 level.

Keep in mind that the 1,000 point move in the Dow at the current level is just a little over 5% and is therefore not nearly as meaningful as a move from 1,000 to 2,000, a move of 100%.  But it’s still an important psychological barrier that had to be broken for the market to move higher.

The move makes sense from both a technical and fundamental standpoint.  Both retail and institutional investors are positive, as we have noted in the past.

The incoming Trump administration has moved with amazing speed to demonstrate their desire to increase the level of economic growth as a way of increasing job and wage growth.  They have expressed policy preferences for lower taxes, reducing regulations that stifle business development, and have been encouraging companies to build their businesses in the United States rather than overseas.

The trend is clear.  The only thing that could derail this train is a massive change in consumer sentiment or an external factor such as a war or other calamity.  The latter are known as “Black Swan” events and we must always keep in mind that they can occur.  We manage our portfolios with those possibilities in mind.

Eventually, valuations will get too high and the inevitable correction will occur.  In the meantime, we enjoy the ride while keeping a close eye on events.

What’s Your Risk Number?

risk

Defining how much risk someone is willing to take can be difficult.  But in the investment world it’s critical.

Fear of risk keeps a lot of people away from investing their money, leaving them at the mercy of the banks and the people at the Federal Reserve.  The Fed has kept interest rates near zero for years, hoping that low rates will cause a rebound in the economy.  The downside of this policy is that traditional savings methods (saving accounts, CDs, buy & hold Treasuries) yield almost no growth.

Investors who are unsure of their risk tolerance and those who completely misjudge it are never quite sure if they are properly invested.  Fearing losses, they may put too much of their funds into “safe” investments, passing up chances to grow their money at more reasonable rates.  Then, fearing that they’ll miss all the upside potential, they get back into more “risky” investments and wind up investing too aggressively.  Then when the markets pull back, they end up pulling the plug, selling at market bottoms, locking in horrible losses, and sitting out the next market recovery until the market “feels safe” again to reinvest near the top and repeating the cycle.

There is a new tool available that help people define their personal “risk number.”

What is your risk number?

Your risk number defines how much risk you are prepared to take by walking you through several market scenarios, asking you to select which scenarios you are more comfortable with.     Let’s say that you have a $100,000 portfolio and in one scenario it could decline to $80,000 in a Bear Market or grow to $130,000 in a Bull Market, in another scenario it could decline to $70,000 or grow to $140,000, and in the third scenario it could decline to $90,000 or grow to $110,000.  Based on your responses, to the various scenarios, the system will generate your risk number.

How can you use that information?

If you are already an investor, you can determine whether you are taking an appropriate level of risk in your portfolio.  If the risk in your portfolio is much greater than your risk number, you can adjust your portfolio to become more conservative.  On the other hand, if you are more risk tolerant and you find that your portfolio is invested too conservatively, you can make adjustments to become less conservative.

Finding your risk number allows you to align your portfolio with your risk tolerance and achieve your personal financial goals.

To find out what your risk number is, click here .

 

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Why Re-balance Portfolios?

The market rarely rings a bell when it’s time to buy or sell.  The time to buy is often the time when people are most afraid.  The time to sell is often when people are most optimistic about the market.  This was true in 2000 and 2009.

Rather than trying to guess or consult your crystal ball, portfolio re-balancing lets your portfolio tell you when to sell and when to buy.

You begin by creating a diversified portfolio that reflects your risk tolerance.  A “Moderate” investor, neither too aggressive or too conservative, may have a portfolio that contains 40 – 60% stocks and a corresponding ratio of bonds.

Checking your portfolio periodically will tell you when you begin to deviate from your chosen asset allocation.  During “Bull” markets your stock portfolio will begin to grow out of the range you have set for it, triggering a need to re-balance back to your preferred allocation.  During “Bear” markets your fixed income portfolio will grow out of its range.  Re-balancing at this point will cause you to add to the equity portion of your portfolio even as emotion urges you in the opposite direction.

If properly implemented and regularly applied, this will allow you to do what that old Wall Street sage tells you is the way to make money: “Buy Low and Sell High.”

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Diversification and Emerging Markets

A well-diversified portfolio typically includes emerging markets as one of its components.  “Emerging markets” is a generic term to identify those countries whose economies are developed, but still smaller than those of the world’s superpowers (i.e., USA, Europe, Japan).

To professional investors, a well-diversified portfolio includes many asset classes, not just the most obvious: U.S. Stocks (the S&P 500) and a U.S. bond fund.

The following illustration is a great illustration of the relative performance of some of the major asset classes.

callan-periodic-table-of-investment-returns

Here we have ten key indices ranked by performance over a 20-year period.  The best-performing index for each year is at the top of each column, and the worst is at the bottom.

It is natural for investors to want to own the stock, or the asset class that is currently “hot.”  It’s called the Bandwagon Effect and it’s one of the reasons that the average investor typically underperforms.  The top performer in any one year isn’t always the best performer the next year.

A successful investment strategy is to:

  • Maintain a portfolio diversified among asset classes,
  • Stick to an appropriate asset allocation for your particular goals and objectives,
  • Rebalance your portfolio once or twice a year to keep your asset allocation in line, essentially forcing you to sell what’s become expensive and buy what’s become cheap.

In other words, re-balance your portfolio regularly and you will benefit from the fact that some assets become cheap and provide buying opportunities and some become expensive and we should take some profits.

Which brings us to emerging markets, which have been a drag on the performance of diversified portfolios for several years.

“It was a summer of love for investment in emerging markets,” according to the latest MSCI Research Spotlight.  For example, Brazil, Taiwan, South Africa and India have all been big winners, MSCI said.

The MSCI Emerging Markets Index ended August up for the year 15 percent compared to a loss of 20 percent the prior year.

“We are seeing very strong performance,” Martin Small, head of U.S. i-Shares BlackRock, told the conference.

Emerging market equities “have outperformed the S&P so far this year by more than 800 basis points and the broader universe of developed markets by almost 1,000 basis points,” according to the October BlackRock report, “Is the Rally in Emerging Markets Sustainable?” The report said EM outperformance “is likely to continue into 2017.”

For investors who have included emerging markets in their portfolios, their patience and discipline is being rewarded this year.  For those who want to have a portfolio that’s properly diversified but don’t have the expertise to do it themselves, give us a call.

 

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