Showing posts with label Index funds. Show all posts
Showing posts with label Index funds. Show all posts
Wednesday, March 6, 2013
What is an Index Fund?
Before they downturn in 2008, now commonly referred to as the Great Recession, indexed mutual funds were used mostly by the conservative investor and the investor new to the experience. These two groups found the experience of investing with other mutual funds disconcerting.
Read the full article here.
Monday, March 4, 2013
Index funds: The mutual fund for most investors.
Recently, Etrade began advertising their mutual fund selection. They boasted an inventory of 8,000 mutual funds. Choosing among those available mutual funds can be a daunting task for even an experienced investor. You will need to know not only who you are but what you hope to achieve.
You can read the full article here.
Wednesday, December 21, 2011
Your Retirement Plan in 2012
This article originally appeared at BlueCollarDollar.com and was written by Paul Petillo
"Time is free, but it's priceless. You can't own it, but you can use it. You can't keep it, but you can spend it. Once you've lost it you can never get it back." Harvey MacKay
One of the key elements in any financial transaction is time. If you want to retire, you must consider the amount of time. If you want to borrow, how long you have to pay it back can be translated into dollars and cents. Investing; timing they suggest can't be down but is important nonetheless.
If you are twenty, time is on your side. If you are thirty, there is time left. If you are forty, time is of the essence. If you are fifty, time is running out. If you are sixty, where has the time gone. And older than that, time is no longer on your side. It accompanies us through life like some dark passenger. It reflect back on us from the mirror. And when we look at our retirement plan, it stares at us without guilt or shame. Time is the truth.
When I first began writing these predictions, and I've been churning out these year end ditties for over a decade, many were laced with optimism, some with an urging that we learn the lesson and move forward armed with knowledge of past mistakes, and still others were exercises in reality. In 2012, we have some opportunities and some problems awaiting us, left on the table as we symbolically turn the calendar wiping out 2011. But it won't leave quietly.
So I have a few thoughts about what you can do - resolutions of sorts but not the drastic sort we make and break almost within hours of promising ourselves at midnight.
Increase your contribution I start with this obvious chant for two reasons: you aren't making a large enough contribution and two, I would be remiss in not telling you this right from the start. And I'm not just speaking to those with a 401(k).
There are the millions of you who are forced to (and because of that are not likely to) finance your own retirement through an individual retirement account. We lament at the worker who literally only has to sign up at his workplace and doesn't. And far too often, we say little about the person who has to sign-up (after finding a fund), commit with a fortitude that is somewhat lacking and to contribute some of their paycheck via direct deposit every week or month. That effort, it seems is a much more involved hurdle.
In 2012, the investment world will be little changed. It will roil and confuse and gyrate and possibly even nose dive - just as it has for decades. It will react to news - if not from Europe form China or even the presidential elections (which ironically tend to be excellent years to invest). This will have you second-guessing your investments. But this will only apply if you have no idea how much risk you can take.
Pay attention to diversification You may not be capable of rebalancing, the act of making sure that your investments are directed evenly across many investments. This is much harder than it seems. As long as you are involved - and that is YOU in capitals - the struggle to keep balance will not get any easier.
For the vast majority of us, mutual funds will be the investment vehicle of choice. These investments will see more movement towards fee reductions. Which is a good thing. Fees will and always have been a subtraction of gains. This makes an excellent argument for indexing.
Choosing six index funds across the following cross-sections of the markets will not solve the problem of rebalancing (some will do better than others) but it will provide diversification. Index the largest companies (an S&P 500 fund), a mid-cap fund (the next 400 companies in size), small-caps (the next 2000), an international fund (an index of the largest countries (those with established banking systems even if they are currently troubled and will continue to be so in 2012), an emerging market fund (after international funds, the most risky) and a bond index (one that covers as much fixed income as possible).
Some of you will wonder if exchange traded funds (ETF) wouldn't be just as good if not better than simple indexing. In 2012, ETFs will continue to drill down ever deeper into sectors of the markets that add risk along with the illusion of an index. ETFs will become more actively managed in 2012 offering you more risk at a lower cost. Cheap doesn't mean better. 2012 will be year of the ETF. If you are unsure what these investments are, consider this conversation I had with David Abner of Financial Impact Factor Radio recently to help explain what these investments are and how they work.
Focus on your financial well-being This refers to your credit score. It continues to impact your financial future and will become increasingly harder to ignore. A new credit rating service agency will add to the difficulty in 2012 and not only will the current scoring impact costs such as insurance, it will seek to trace the breadcrumbs of your financial life more thoroughly that the big three do.
There is little likelihood that the job market will increase as many of our returning troops will flood the marketplace, taking numerous jobs from your kids just out of college. Which means another year with your kids at home. The only answer to this problem is to continue to tighten down your budgets in 2012. As I mentioned earlier: "If you are forty, time is of the essence. If you are fifty, time is running out. If you are sixty, where has the time gone."
And you must do this understanding that inflation - not the reported number but the real number in your grocery bill - will still chip away at your wealth. This means you will move in two opposite directs in 2012: saving and investing more for your fleeting future (at least 6% but 10% would be best) and spending less in the present (easy of you don't use credit).
And the housing market will improve for those who have repaired any damaged credit or who have saved enough of a down payment to buy a house. people are still buying and selling. These people have found that while the market is not accessible to all, it is for those that have done right by their personal finances.
Do all of that this may not seem like a new year - but it will be a better year!
Monday, August 8, 2011
Perhaps it is time to review index funds
I thought it would be a good idea to rebroadcast an episode of my radio show just as the stock market is tumbling. Larry Swedroe is my guest on the Financial Impact Factor Radio show and a full-time advocate of index fund investing and as every Boomer should know, they are well worth considering.
Listen to internet radio with financialimpactfactor on Blog Talk Radio
Also consider listening to Larry's take on the recent turmoil in the markets by clicking here.
Paul Petillo is the managing editor of Target2025.com/BlueCollarDollar.com
Wednesday, July 6, 2011
The Distorted Reality of Performance: Mutual Funds
For the vast majority of investors - mutual fund investors in particular, watching the major indices and judging your performance against them distorts the reality of not only where you should be but where you could have been. If you were to look only at the difference between the former highs the markets hit in October 2007 and those at the most recent close on last Thursday (the Dow Jones Industrial Average DJIA +1.36% is around 12% below its all-time high of 14,165, and the S&P 500 index SPX +1.44% is nearly 16% below its October 2007 high of 1,565.) you might be considering jumping back in.
But you would have been much better off had you done absolutely nothing. Back in those desperate times, many people did what the rest of the herd did as stocks began to tumble. You sold. But three years later, that would have proved to be the wrong thing to do. During that period, most folks fled the actively managed mutual fund, particularly the domestic issues in favor of bond funds and in far too many instances, to target date funds.
Let's consider the indices that are often compared to the riskier funds, a benchmark that has proven to be less than accurate in terms of performance. The Dow and the S&P 500 track the largest companies, a group that has struggled to assure the investor that dividends and size were enough to best the market. Turns out, that picking and choosing, as actively managed funds do, would have been the better approach.
Two things come into play. One, these funds tend to have higher fees. Less those fees, you would have still found yourself in a better position than had you simply put your money in a benchmark S&P 500 index.
And secondly, there is the liquidity issue that comes with buying mid-cap and small-cap companies. Liquidity refers to the amount of stock available in smaller companies weighed against the amount of stock held by the principals. This makes these companies more volatile and even under-purchased in indexes that track those larger markets (the Wilshire 5000 for instance may track all available stocks but the indexes crafted based on this index only own.
To complicate matters somewhat, the Wilshire 5000 actually has 5700 stocks in the index, Wilshire 4500 is the Wilshire 5000 without the S&P 500 stocks in it. A Wilshire 5000 index fund (usually called total market index) will probably own around 4000 stocks. A Wilshire 4500 index contains those same stocks less the top 500 companies.
As Mark Hulbret noted in a recent column for Marketwatch, "According to a report produced earlier this week by Lipper (a Thomson Reuters company), 45% of the domestic-equity funds for which they have data back to October 2007 were, as of the end of May, ahead of where they were on the date of the stock market’s all-time high."
So the indexes are lower than where you would have been had you stayed put - of course this is based on the assumption that many of you where using actively managed funds in your 401(k) plans, that many of those funds did not have indexes available and the post 2007 products such as target date funds or even ETFs, weren't a consideration or even an option during those days. You embraced risk and ignored fees and looking at your portfolio, that was probably seen as a good thing.
Does that mean index funds shouldn't be part of your portfolio? The simplest answer is no. Index funds still provide a low cost and low turnover environment to invest in. More importantly, the largest cap indexes add dividends to the mix. This brings these investments closer to the domestic out-performance over the last half of the year.
Diversity in this investment environment, which is still far more volatile than anyone would like it to be, with global issues remaining a major concern, means taking a little less - in terms of performance. You should be in index funds now. To do this would be considered a defensive move for those that kept the actively managed faith.
A portfolio of five, perhaps six index funds, tracking sectors from the S&P 500, a mid-cap index, a fund tracking the small-cap, an international index (which tracks the companies of what is considered the developed world), an emerging markets index (contains investments from countries like China, India, Russia, Brazil and others) along with a bond index. This sort of diversification keeps the low cost features of index funds and avoids any crossover investment (owning the same stocks in different funds).
You can be proud of your investment accumen in getting back to those 2007 highs and perhaps beyond. But show your real prudence and protect what you have done. This economy, both domestic and globally is far from recovered and the stock market is painting a better picture than reality suggests. Being a little defensive at this juncture will keep you in the game without risking what you have gained.
But you would have been much better off had you done absolutely nothing. Back in those desperate times, many people did what the rest of the herd did as stocks began to tumble. You sold. But three years later, that would have proved to be the wrong thing to do. During that period, most folks fled the actively managed mutual fund, particularly the domestic issues in favor of bond funds and in far too many instances, to target date funds.Let's consider the indices that are often compared to the riskier funds, a benchmark that has proven to be less than accurate in terms of performance. The Dow and the S&P 500 track the largest companies, a group that has struggled to assure the investor that dividends and size were enough to best the market. Turns out, that picking and choosing, as actively managed funds do, would have been the better approach.
Two things come into play. One, these funds tend to have higher fees. Less those fees, you would have still found yourself in a better position than had you simply put your money in a benchmark S&P 500 index.
And secondly, there is the liquidity issue that comes with buying mid-cap and small-cap companies. Liquidity refers to the amount of stock available in smaller companies weighed against the amount of stock held by the principals. This makes these companies more volatile and even under-purchased in indexes that track those larger markets (the Wilshire 5000 for instance may track all available stocks but the indexes crafted based on this index only own.
To complicate matters somewhat, the Wilshire 5000 actually has 5700 stocks in the index, Wilshire 4500 is the Wilshire 5000 without the S&P 500 stocks in it. A Wilshire 5000 index fund (usually called total market index) will probably own around 4000 stocks. A Wilshire 4500 index contains those same stocks less the top 500 companies.
As Mark Hulbret noted in a recent column for Marketwatch, "According to a report produced earlier this week by Lipper (a Thomson Reuters company), 45% of the domestic-equity funds for which they have data back to October 2007 were, as of the end of May, ahead of where they were on the date of the stock market’s all-time high."
So the indexes are lower than where you would have been had you stayed put - of course this is based on the assumption that many of you where using actively managed funds in your 401(k) plans, that many of those funds did not have indexes available and the post 2007 products such as target date funds or even ETFs, weren't a consideration or even an option during those days. You embraced risk and ignored fees and looking at your portfolio, that was probably seen as a good thing.
Does that mean index funds shouldn't be part of your portfolio? The simplest answer is no. Index funds still provide a low cost and low turnover environment to invest in. More importantly, the largest cap indexes add dividends to the mix. This brings these investments closer to the domestic out-performance over the last half of the year.
Diversity in this investment environment, which is still far more volatile than anyone would like it to be, with global issues remaining a major concern, means taking a little less - in terms of performance. You should be in index funds now. To do this would be considered a defensive move for those that kept the actively managed faith.
A portfolio of five, perhaps six index funds, tracking sectors from the S&P 500, a mid-cap index, a fund tracking the small-cap, an international index (which tracks the companies of what is considered the developed world), an emerging markets index (contains investments from countries like China, India, Russia, Brazil and others) along with a bond index. This sort of diversification keeps the low cost features of index funds and avoids any crossover investment (owning the same stocks in different funds).
You can be proud of your investment accumen in getting back to those 2007 highs and perhaps beyond. But show your real prudence and protect what you have done. This economy, both domestic and globally is far from recovered and the stock market is painting a better picture than reality suggests. Being a little defensive at this juncture will keep you in the game without risking what you have gained.
Saturday, July 2, 2011
A Long Journey to Even: Mutual Funds at the Halfway Point in 2011
For the vast majority of investors - mutual fund investors in particular, watching the major indices and judging your performance against them distorts the reality of not only where you should be but where you could have been. If you were to look only at the difference between the former highs the markets hit in October 2007 and those at the most recent close on Thursday (the Dow Jones Industrial Average DJIA +1.36% is around 12% below its all-time high of 14,165, and the S&P 500 index SPX +1.44% is nearly 16% below its October 2007 high of 1,565.) you might be considering jumping back in.
But you would have been much better off had you done absolutely nothing. Back in those desperate times, many people did what the rest of the herd did as stocks began to tumble. You sold. But three years later, that would have proved to be the wrong thing to do. During that period, most folks fled the actively managed mutual fund, particularly the domestic issues in favor of bond funds and in far too many instances, to target date funds.
Let's consider the indices that are often compared to the riskier funds, a benchmark that has proven to be less than accurate in terms of performance. The Dow and the S&P 500 track the largest companies, a group that has struggled to assure the investor that dividends and size were enough to best the market. Turns out, that picking and choosing, as actively managed funds do, would have been the better approach.
Two things come into play. One, these funds tend to have higher fees. Less those fees, you would have still found yourself in a better position than had you simply put your money in a benchmark S&P 500 index.
And secondly, there is the liquidity issue that comes with buying mid-cap and small-cap companies. Liquidity refers to the amount of stock available in smaller companies weighed against the amount of stock held by the principals. This makes these companies more volatile and even under-purchased in indexes that track those larger markets (the Wilshire 5000 for instance may track all available stocks but the indexes crafted based on this index only own.
To complicate matters somewhat, the Wilshire 5000 actually has 5700 stocks in the index, Wilshire 4500 is the Wilshire 5000 without the S&P 500 stocks in it. A Wilshire 5000 index fund (usually called total market index) will probably own around 4000 stocks. A Wilshire 4500 index contains those same stocks less the top 500 companies.
As Mark Hulbret noted in a recent column for Marketwatch, "According to a report produced earlier this week by Lipper (a Thomson Reuters company), 45% of the domestic-equity funds for which they have data back to October 2007 were, as of the end of May, ahead of where they were on the date of the stock market’s all-time high."
So the indexes are lower than where you would have been had you stayed put - of course this is based on the assumption that many of you where using actively managed funds in your 401(k) plans, that many of those funds did not have indexes available and the post 2007 products such as target date funds or even ETFs, weren't a consideration or even an option during those days. You embraced risk and ignored fees and looking at your portfolio, that was probably seen as a good thing.
Does that mean index funds shouldn't be part of your portfolio? The simplest answer is no. Index funds still provide a low cost and low turnover environment to invest in. More importantly, the largest cap indexes add dividends to the mix. This brings these investments closer to the domestic out-performance over the last half of the year.
Diversity in this investment environment, which is still far more volatile than anyone would like it to be, with global issues remaining a major concern, means taking a little less - in terms of performance. You should be in index funds now. To do this would be considered a defensive move for those that kept the actively managed faith.
A portfolio of five, perhaps six index funds, tracking sectors from the S&P 500, a mid-cap index, a fund tracking the small-cap, an international index (which tracks the companies of what is considered the developed world), an emerging markets index (contains investments from countries like China, India, Russia, Brazil and others) along with a bond index. This sort of diversification keeps the low cost features of index funds and avoids any crossover investment (owning the same stocks in different funds).
You can be proud of your investment accumen in getting back to those 2007 highs and perhaps beyond. But show your real prudence and protect what you have done. This economy, both domestic and globally is far from recovered and the stock market is painting a better picture than reality suggests. Being a little defensive at this juncture will keep you in the game without risking what you have gained.
But you would have been much better off had you done absolutely nothing. Back in those desperate times, many people did what the rest of the herd did as stocks began to tumble. You sold. But three years later, that would have proved to be the wrong thing to do. During that period, most folks fled the actively managed mutual fund, particularly the domestic issues in favor of bond funds and in far too many instances, to target date funds.
Let's consider the indices that are often compared to the riskier funds, a benchmark that has proven to be less than accurate in terms of performance. The Dow and the S&P 500 track the largest companies, a group that has struggled to assure the investor that dividends and size were enough to best the market. Turns out, that picking and choosing, as actively managed funds do, would have been the better approach.
Two things come into play. One, these funds tend to have higher fees. Less those fees, you would have still found yourself in a better position than had you simply put your money in a benchmark S&P 500 index.
And secondly, there is the liquidity issue that comes with buying mid-cap and small-cap companies. Liquidity refers to the amount of stock available in smaller companies weighed against the amount of stock held by the principals. This makes these companies more volatile and even under-purchased in indexes that track those larger markets (the Wilshire 5000 for instance may track all available stocks but the indexes crafted based on this index only own.
To complicate matters somewhat, the Wilshire 5000 actually has 5700 stocks in the index, Wilshire 4500 is the Wilshire 5000 without the S&P 500 stocks in it. A Wilshire 5000 index fund (usually called total market index) will probably own around 4000 stocks. A Wilshire 4500 index contains those same stocks less the top 500 companies.
As Mark Hulbret noted in a recent column for Marketwatch, "According to a report produced earlier this week by Lipper (a Thomson Reuters company), 45% of the domestic-equity funds for which they have data back to October 2007 were, as of the end of May, ahead of where they were on the date of the stock market’s all-time high."
So the indexes are lower than where you would have been had you stayed put - of course this is based on the assumption that many of you where using actively managed funds in your 401(k) plans, that many of those funds did not have indexes available and the post 2007 products such as target date funds or even ETFs, weren't a consideration or even an option during those days. You embraced risk and ignored fees and looking at your portfolio, that was probably seen as a good thing.
Does that mean index funds shouldn't be part of your portfolio? The simplest answer is no. Index funds still provide a low cost and low turnover environment to invest in. More importantly, the largest cap indexes add dividends to the mix. This brings these investments closer to the domestic out-performance over the last half of the year.
Diversity in this investment environment, which is still far more volatile than anyone would like it to be, with global issues remaining a major concern, means taking a little less - in terms of performance. You should be in index funds now. To do this would be considered a defensive move for those that kept the actively managed faith.
A portfolio of five, perhaps six index funds, tracking sectors from the S&P 500, a mid-cap index, a fund tracking the small-cap, an international index (which tracks the companies of what is considered the developed world), an emerging markets index (contains investments from countries like China, India, Russia, Brazil and others) along with a bond index. This sort of diversification keeps the low cost features of index funds and avoids any crossover investment (owning the same stocks in different funds).
You can be proud of your investment accumen in getting back to those 2007 highs and perhaps beyond. But show your real prudence and protect what you have done. This economy, both domestic and globally is far from recovered and the stock market is painting a better picture than reality suggests. Being a little defensive at this juncture will keep you in the game without risking what you have gained.
Tuesday, March 15, 2011
The Weight of Indexing
Even simple is no longer so. And when it comes to index funds, that often suggested answer for everything an investor should do but doesn't, the boringly mundane investment that tracks rather than participates, the it-beats-actively-managed-funds choice of the passively prone, there are now choices. There have been for years in the form of exchange traded funds (ETFs) sold as shares of stock on the open market. But this might be different in ways that deceive rather than simply suggest there are nuances.
Index funds rely on the ability to price securities efficiently. Unfortunately, the markets are not as efficient as they should be with investors often making decisions that make little sense when it comes to determining what a security is worth. And when those bad decisions are made, other investors follow. But that flaw can be overlooked in favor of the low fees (no trading means no costs unless the index changes), low turnover (no trading means the portfolio stays intact) and good diversification (spread out across a wide swath of the market).
Yet if it were only that simple. Those low fees can vary wildly over various index funds and those same index funds may appear to be the same. Buy an S&P 500 index fund you so often hear experts suggest and although they make no effort to hide the average-ness of this investment, in fact, heralding its mundaneness as the very reason you should buy it, that isn't enough.
Traditional index fund are market weighted. This simply means that these funds have holdings that are based on the amount of investor dollars each holds or the company's capitalization. The top 10 companies in an index fund often make up the lion's share of the invested index (20%). So if a market swing like the one that happened in 2008 occur, the whole index stumbles, brought down by the behemoths at the top. That can be problem and it can impact the investor's interpretation of average.
So enter the revamped index fund. The "alternate-index" fund hopes to realign the weighting in these funds to equal, offering the investor an equal share of every stock in the top 500. That means that the largest stock would only get 0.2% of the invested dollar while the stock on the cusp, the one that barely has a presence in the weighted index, would also have 0.2%.
These funds hope to keep the image of low cost and low turnover (considered a tax advantage) in place. By equally weighting the fund, the goal is to outperform the weighted index. There are other entrants to the index world, all hoping to take advantage of what is seen as flaws. That's right, in order to sell the idea that one ndex fund is different than the other, you must point out why.
The alternate index fund arena has spawned other types of funds that offer indexed stocks based on the dividends they pay or even the earnings they post, sometimes even as a combination. The chase to out-perform might seem like a worthwhile idea, but the reality is quite different. When you begin to slice these indexes in different fashions, you expose different opportunities for volatility. And keep in mind, this is the stock market we are talking about.
Unlike their weighted brethren, many of the alternative-index funds rebalance more often due to shifts in stock prices. They also benefit over traditional index funds when the marketplace favors the mid-sized and small-cap companies in the index. if the investor is seeing opportunity in smaller more nimble members of the index, the index does better. Quarterly rebalancing shifts the index back to its 0.2% of each strategy but in doing so, sells winners (losing the tax advantage somewhat and increasing turnover during incredibly volatile times).
Are these worth a look? Possibly if you believe the value will remain in the smaller and mid-sized members of the index. If you are anticipating a large-cap rally, the the traditional index fund will prevail. The question is: do downturns such as the most recent one favor one or the other? In terms of raw numbers, yes. When the markets stumble in tandem, the alternative-index funds tend to do worse, even with a mostly short-term record. But even though the fall is equally as difficult to stomach, it is the recovery that most investors focus on. And during a recovery, the alternative-index fund tends to do better.
Just when you thought the index fund was your friend, it turns out that it has a split personality. Does this mean you should avoid index funds? Not at all. In fact, if you do want to own them, I suggest (which is different than advise) you do so in a Roth IRA rather than in a 401(k) type of account. Their tax efficiency is not worth the trouble in a tax-deferred account as long as capital gains taxes remain low.
Index funds rely on the ability to price securities efficiently. Unfortunately, the markets are not as efficient as they should be with investors often making decisions that make little sense when it comes to determining what a security is worth. And when those bad decisions are made, other investors follow. But that flaw can be overlooked in favor of the low fees (no trading means no costs unless the index changes), low turnover (no trading means the portfolio stays intact) and good diversification (spread out across a wide swath of the market).
Yet if it were only that simple. Those low fees can vary wildly over various index funds and those same index funds may appear to be the same. Buy an S&P 500 index fund you so often hear experts suggest and although they make no effort to hide the average-ness of this investment, in fact, heralding its mundaneness as the very reason you should buy it, that isn't enough.
Traditional index fund are market weighted. This simply means that these funds have holdings that are based on the amount of investor dollars each holds or the company's capitalization. The top 10 companies in an index fund often make up the lion's share of the invested index (20%). So if a market swing like the one that happened in 2008 occur, the whole index stumbles, brought down by the behemoths at the top. That can be problem and it can impact the investor's interpretation of average.
So enter the revamped index fund. The "alternate-index" fund hopes to realign the weighting in these funds to equal, offering the investor an equal share of every stock in the top 500. That means that the largest stock would only get 0.2% of the invested dollar while the stock on the cusp, the one that barely has a presence in the weighted index, would also have 0.2%.
These funds hope to keep the image of low cost and low turnover (considered a tax advantage) in place. By equally weighting the fund, the goal is to outperform the weighted index. There are other entrants to the index world, all hoping to take advantage of what is seen as flaws. That's right, in order to sell the idea that one ndex fund is different than the other, you must point out why.
The alternate index fund arena has spawned other types of funds that offer indexed stocks based on the dividends they pay or even the earnings they post, sometimes even as a combination. The chase to out-perform might seem like a worthwhile idea, but the reality is quite different. When you begin to slice these indexes in different fashions, you expose different opportunities for volatility. And keep in mind, this is the stock market we are talking about.
Unlike their weighted brethren, many of the alternative-index funds rebalance more often due to shifts in stock prices. They also benefit over traditional index funds when the marketplace favors the mid-sized and small-cap companies in the index. if the investor is seeing opportunity in smaller more nimble members of the index, the index does better. Quarterly rebalancing shifts the index back to its 0.2% of each strategy but in doing so, sells winners (losing the tax advantage somewhat and increasing turnover during incredibly volatile times).
Are these worth a look? Possibly if you believe the value will remain in the smaller and mid-sized members of the index. If you are anticipating a large-cap rally, the the traditional index fund will prevail. The question is: do downturns such as the most recent one favor one or the other? In terms of raw numbers, yes. When the markets stumble in tandem, the alternative-index funds tend to do worse, even with a mostly short-term record. But even though the fall is equally as difficult to stomach, it is the recovery that most investors focus on. And during a recovery, the alternative-index fund tends to do better.
Just when you thought the index fund was your friend, it turns out that it has a split personality. Does this mean you should avoid index funds? Not at all. In fact, if you do want to own them, I suggest (which is different than advise) you do so in a Roth IRA rather than in a 401(k) type of account. Their tax efficiency is not worth the trouble in a tax-deferred account as long as capital gains taxes remain low.
Thursday, December 30, 2010
Using Mutual Funds in 2011 for Investment Success
Everyone wants investment success. And everyone has the tools at their disposal to do so. If that is the case, why aren't our retirement plans doing far better than they are?
You have mutual funds if you have a 401(k). Individual Retirement Accounts (IRAs)hold mutual funds as the primary investment and despite their use throughout the world of investment and retirement planning, too few people have a positive attitude about what this tool can do for them. Most of the negative propaganda comes in spite of the ease of use, often lower expenses than any other investment tool, accessibility, better transparency (or well on the way to providing better insight) and often, tax efficiency. Some do this with great effort; others revamp their portfolio only when an index is restructured.
So what are mutual funds and how can they improve your life in 2011? There are only two types: actively managed or those indexed to a specific grouping of investments. From there, it gets complicated but getting from there is where the whole traffic jam of ideas begins. It makes no matter, which school of thought you ascribe to if you do at all: everyone needs and actively managed group of mutual funds and a passive group if you expect to do anything worthwhile in 2011.
In the coming year, one which is predicted to be quite good despite my doubts, which I will put forth in couple of days with my year-end look at 2011, diversity will deliver more than simply chasing one ideology of the other. The "indexers believe that these sorts of funds are all you need to succeed in any year. Offset by relatively low costs, these funds make up for hoping that that through diversity they can achieve better than average returns for those who invest in them.
As a group, index investors are a fervent bunch. They espouse this investment as the be-all-to-end-all tool and in doing so, give those who chose the other camp - the actively invested mutual fund - to wonder if they may be right. There are reams of research that indexers point to as the reason why they believe this approach. But passively sitting back and letting the market determine your investment outcome is not for everyone.
Actively managed mutual funds are structured in the same way as index funds: a portfolio of investments (stocks, bonds or both), a manager (be it one, more than one or a computer), disclosure and regulatory rules that they must abide by, and performing as billed, if not better. The difference in who picks what is in the fund. Index funds are determined by an index published by such notables as Standard and Poors or Russell or Wilshire. Actively managed funds contain investments picked by management.
Both bring like-minded investors together to pool their money and in doing so, offset the risk and cost of having to build a similar portfolio on your own. Actively managed funds try and outperform their index counterparts in large part because it is these indexes, right or wrong, in which their performance is gauged and graded. If they do better than an index, investors notice, add their money and create increased opportunities for the fund manager to increase those returns with additional acquisitions.
It doesn't always work and some comparisons are unjust (how can you compare a fund with fewer than 100 holdings to one where 500 are held?) and do not paint a true picture of performance. But in tandem, they might work for different reasons for everyone interested in a more profitable 2011.
In times of turmoil, everyone feels pain. When the whole of the marketplace dropped precipitously in 2008, no investor escaped. Some were damaged more than others but as a group, we all felt pain in some form almost at the same time. Investors who simply plowed money into a 401(k) or loaded up on their own company's stock and thought that investing was a world of do-no-wrong, were given a rude awakening. Those that traded actively on their own and were beginning to feel some invincibility creep into their results were caught unaware as well.
And in the past year, investors in US stock funds did what they had done in the previous three, withdrew more than they invested, Called outflows, they impact mutual funds harder than the selling of shares from your own portfolio. These outflowing funds are produced with the sales of a portion of the portfolio. And every such move impacts the remaining shareholders in the mutual fund.
Inflows, or your money pouring into a mutual fund comes automatically in a 401(k), through deductions into an IRA and self-deposited by individual investors. Yet only a handful of people I speak with everyday likes the idea of a mutual fund as an investment and if last year was any indication, think fund focused on the US stock market alone is not the path to financial success.
Why? We want simple things to work extraordinarily well. Nothing does but we expect it of mutual funds. We want low fees, we want moderate risk and we want to know that our money is safe from market interruptions and taxes. And at the same time, we want growth, to retire early and to have our investments perform without hiccup for decades. Only mutual funds can do this - even if we dislike the idea.
Low fees, moderate risk, safety and tax efficiency is a tall order with three of the four fitting the index fund bill. Safety is subjective and safer, even more so. But no equity index fund alone can do this. No bond index fund alone can do it either. Target date funds, hybrids of other equity and bond funds (and often a basket of such funds from the fund family) promise all of the above but have yet to prove they can deliver.
Yet three out of four isn't bad. Put this type of fund in a Roth IRA and put as much as you can in it, consistently over 2011 and you will do as well as this year has done (which looks to be two back-to-back years of double digit gains for the S&P500 index). Even if you do half as well as the 20% plus gain in 2009, you'll be way ahead of where you'd be otherwise.
In the other group, looking for growth, outsized returns and freedom from hiccups, look to your 401(k) where your employer may be retuning to offering a match in 2011. If they do, this is not so much free money as hedged money. A 6% match added to your 6% contribution gives you a lot more room to assume risk that you probably are. Retiring early is a dream even as we acquiesce to work longer. But it can be closer to a reality if two things happen: you invest more and use actively managed funds in your 401(k) to get there and the market corrects a little in the first half of the year. This means buying more for less and positioning yourself for a good 2011. Not 2010, but close.
Whatever your outlook for 2011, a tandem approach to investing - using index funds and actively managed mutual funds might be the best approach in the next year. Be cautious of only two things: this isn't advise and be careful you don't over-expose yourself in any one sector.
Next up, my predictions for 2011.
Paul Petillo is the managing editor of BlueCollarDollar.com/Target2025.co
Friday, January 8, 2010
Should You Shift Your Investment Style Now?
In any given year, a handful of active mutual funds will do better than the benchmark index fund. And investors are usually warned, and I obligated to as well, that what is hot today or last quarter, even over the past year in all likelihood will not be so after you invest. This is why it is always recommended to look much further afield, at least five years, ten is even better see how well a fund has performed.
Should you switch your investment style in your retirement portfolio as a result? Read more here.
Paul Petillo is the managing editor of Target2025.com.
Saturday, January 2, 2010
Five Investment Questions for 2010
Should you consider past results? By all means.
Is longevity important? Yes, but not necessarily the fund’s length of service.
Does size matter? How do you determine size would be of greater importance.
Who’s your Daddy? The larger the company the greater the likelihood your fund has orphan funds embedded in your portfolio.
How so do you diversify? A little of this, a little of that
Most of us look at the turn of a calendar year with the hope that the investment mistakes we made in the previous year will not be made in the new one. This is noble and in many cases futile. These attempts are usually too difficult to handle, which is why, in many cases you haven't done anything before this point.
But with little effort, you can change how you invest. For the vast majority of us, investing requires far too much time. It requires continued education (which I fully recommend), frequent monitoring (which can involve little more than opening your statement just to make sure your investments are going where you intended) and a clear-cut understanding of where you are on the timeline (beginning to invest or at it for awhile).
Altering bad investment habits is not that difficult. Five Tips for 2010...
Paul Petillo is the Managing Editor of Target2025.com
Is longevity important? Yes, but not necessarily the fund’s length of service.
Does size matter? How do you determine size would be of greater importance.
Who’s your Daddy? The larger the company the greater the likelihood your fund has orphan funds embedded in your portfolio.
How so do you diversify? A little of this, a little of that
Most of us look at the turn of a calendar year with the hope that the investment mistakes we made in the previous year will not be made in the new one. This is noble and in many cases futile. These attempts are usually too difficult to handle, which is why, in many cases you haven't done anything before this point.
But with little effort, you can change how you invest. For the vast majority of us, investing requires far too much time. It requires continued education (which I fully recommend), frequent monitoring (which can involve little more than opening your statement just to make sure your investments are going where you intended) and a clear-cut understanding of where you are on the timeline (beginning to invest or at it for awhile).
Altering bad investment habits is not that difficult. Five Tips for 2010...
Paul Petillo is the Managing Editor of Target2025.com
Friday, October 23, 2009
The Index Fund Conundrum Inside Your 401(k)
I do a popular radio show every Friday morning with Gina and Kat on MomsMakingaMillion. Each week, the topic progresses a little closer to a full understanding about your 401(k) – if that could ever fully happen!
This week, the ladies asked me: You talked about the risk of too little risk last week. This week I understand you want to take a look inside a 401(k) plan. A friend of yours was having a problem.
Yes we did discuss risk and the risk of too little risk. But the real risk might be lurking not in how you invest but in where you put your money in your 401(k). In fact, what your plan offers may be so limited that your choices boil down to good and not-so-good.
Let’s start with this: Most common, garden variety 401(k) plans offer index funds, lifecycle funds and if you are fortunate, actively managed funds. Plans can be big and small with thousands of options or just a few.
Life cycle funds represent a group of offerings focused on a particular target year that you would like to retire. These are essentially actively managed funds that shift, at least in theory, from aggressive to conservative investments over the course of your career.
Actively managed funds tend to pick a sector, such as large-cap stocks, and focus their investment prowess to the best possible return.
Index funds are designed to track an index of stocks (or bonds), ranging from the top 500 companies to indexes that track the smallest.
But before I tell you about how index funds can differ (which might seem odd, considering an index fund essentially attempts to mimic the published index) I want to talk about a person who wrote me last week. Although her email sounded panicked, she knew that there was little she could do about what her 401(k) plan was doing to her portfolio.
She told me she had chosen four funds in her 410(k) to invest in, the bulk of which was directed towards a small cap index and a mid-cap index run by Merrill Lynch. She believed, and rightly so, that this would be where the recovery would take place. These funds had always done well she told me, and when the markets turned sour and her funds were brutally beaten down, she kept her investment dollars streaming in.
Because markets do recover and her investments remained consistent, her portfolio value is now within a couple of thousand dollars of her year end balance in 2007.
Her concern was a change her plan sponsor was making in those funds, switching to another group of funds offered by Northern Trust. The reason according to a notice she received from her plan sponsor was the cost of fees.
Focused on Fees
In general, index fees should be as low as possible and here is why.
The idea is simple:
1.There is no trading to be done between the time the index is set and the next time it is adjusted;
2.There are no research fees;
3.And inside your 401(k), there should be no 12b-1 fees (the cost of advertising for new investors paid for by the current investors);
4. And lastly, because the company, in her case it was Kroger, the fiduciary responsibility (what a plan sponsor does is based on the assumption that it is best for the employee's future) demands the best deal.
That would be in a perfect world. Not to pick on her company's plan, but it doesn't fair very well when they are searched for using BrightScope, a retirement plan quantifier (information about their invaluable service can be found here) and this had her worried. Just because she has a plan, doesn't make it the best of all worlds, simply the one she has to live with.
Her plan was shifting her small cap index fund (with an expense ratio of 0.15%) to one that offered to track the same index but at 0.06%. At first glimpse, this seems like a good move. Lower fees are always good. Second glances however show how poorly the new fund offering has done compared to what she had before. Her new fund has a year-to-date performance of 12.52%; her old fund had chalked up a 29.83% return. Year-to-date, the Russell 2000 index of small cap stocks has racked up an impressive 22.43%.
Why would they do this, she asked? Other than being able to suggest that they are trying to do all they should for you, substituting one index for another based simply on fees, there seemed to be no clear answer. It is troublesome to be sure but not uncommon. It is also evidence that not all indexes are created equal or cost the same.
Index funds are subject to all sorts of influences. Fees run the gamut from absurdly low to ridiculously high. There is also the pesky probability of tracking error, a problem some fund managers get into as they try to outperform the benchmark. This tends to increase the expense ratio by forcing more trades and increased research. But it might also allow the index to outperform.
Keep in mind, your index fund does not buy every stock being benchmarked. An S&P 500 index generally has only about 75% of the stocks on the list in the portfolio. How much of each is often the reason for the disparity in returns. A Russell 2000 index fund has only about a third of the companies listed.
Most people think of Vanguard Group when they think of index funds. But their much-touted S&P 500 index fund carries an expense ratio of 0.15%. My friend’s small-cap index fund, the one that did so well, charged her the same as this less risky S&P 500 index fund cost.
Add to that, there is relatively poor information available to her even through her plan. A great many of the funds offered inside your plan are not offered to individual investors making information gathering difficult. Plan information is improving but comparisons are still hard to make. She was more upset that no one asked her if she would like to switch.
Not All Plans are Created Equal
Looking inside your 401(k) is never easy. For Boomers (and anyone focused on retirement), it can be especially difficult. You are torn in many cases between necessary risk and the fear of that risk. Your portfolio may not have recovered as quickly as my friend's did but consider the option of too little risk as one not worth taking.
There are basically only two ways of achieving the goals you may have set. You could increase your risk and/or increase your contribution. If you do the later, you can use the additional funds to purchase something more conservative while leaving your original contributions, the funds directed towards more risk, intact.
You should remember that if your plan offers only index funds and lifecycle funds (target-date funds), chose the index offerings. If your plan offers choices beyond index funds, choose the actively managed funds across a range of disciplines (large-cap, mid-cap, small-cap and international). In some cases, the fees might even be as competitive as the index fund that tracks them.
In the end, my friend did nothing. She had one of those not-so-good plans. Her only option was to increase her contribution to make up for the unrealized returns.
Paul Petillo
Managing Editor/BlueCollarDollar.com
This week, the ladies asked me: You talked about the risk of too little risk last week. This week I understand you want to take a look inside a 401(k) plan. A friend of yours was having a problem.
Yes we did discuss risk and the risk of too little risk. But the real risk might be lurking not in how you invest but in where you put your money in your 401(k). In fact, what your plan offers may be so limited that your choices boil down to good and not-so-good.
Let’s start with this: Most common, garden variety 401(k) plans offer index funds, lifecycle funds and if you are fortunate, actively managed funds. Plans can be big and small with thousands of options or just a few.
Life cycle funds represent a group of offerings focused on a particular target year that you would like to retire. These are essentially actively managed funds that shift, at least in theory, from aggressive to conservative investments over the course of your career.
Actively managed funds tend to pick a sector, such as large-cap stocks, and focus their investment prowess to the best possible return.
Index funds are designed to track an index of stocks (or bonds), ranging from the top 500 companies to indexes that track the smallest.
But before I tell you about how index funds can differ (which might seem odd, considering an index fund essentially attempts to mimic the published index) I want to talk about a person who wrote me last week. Although her email sounded panicked, she knew that there was little she could do about what her 401(k) plan was doing to her portfolio.
She told me she had chosen four funds in her 410(k) to invest in, the bulk of which was directed towards a small cap index and a mid-cap index run by Merrill Lynch. She believed, and rightly so, that this would be where the recovery would take place. These funds had always done well she told me, and when the markets turned sour and her funds were brutally beaten down, she kept her investment dollars streaming in.
Because markets do recover and her investments remained consistent, her portfolio value is now within a couple of thousand dollars of her year end balance in 2007.
Her concern was a change her plan sponsor was making in those funds, switching to another group of funds offered by Northern Trust. The reason according to a notice she received from her plan sponsor was the cost of fees.
Focused on Fees
In general, index fees should be as low as possible and here is why.
The idea is simple:
1.There is no trading to be done between the time the index is set and the next time it is adjusted;
2.There are no research fees;
3.And inside your 401(k), there should be no 12b-1 fees (the cost of advertising for new investors paid for by the current investors);
4. And lastly, because the company, in her case it was Kroger, the fiduciary responsibility (what a plan sponsor does is based on the assumption that it is best for the employee's future) demands the best deal.
That would be in a perfect world. Not to pick on her company's plan, but it doesn't fair very well when they are searched for using BrightScope, a retirement plan quantifier (information about their invaluable service can be found here) and this had her worried. Just because she has a plan, doesn't make it the best of all worlds, simply the one she has to live with.
Her plan was shifting her small cap index fund (with an expense ratio of 0.15%) to one that offered to track the same index but at 0.06%. At first glimpse, this seems like a good move. Lower fees are always good. Second glances however show how poorly the new fund offering has done compared to what she had before. Her new fund has a year-to-date performance of 12.52%; her old fund had chalked up a 29.83% return. Year-to-date, the Russell 2000 index of small cap stocks has racked up an impressive 22.43%.
Why would they do this, she asked? Other than being able to suggest that they are trying to do all they should for you, substituting one index for another based simply on fees, there seemed to be no clear answer. It is troublesome to be sure but not uncommon. It is also evidence that not all indexes are created equal or cost the same.
Index funds are subject to all sorts of influences. Fees run the gamut from absurdly low to ridiculously high. There is also the pesky probability of tracking error, a problem some fund managers get into as they try to outperform the benchmark. This tends to increase the expense ratio by forcing more trades and increased research. But it might also allow the index to outperform.
Keep in mind, your index fund does not buy every stock being benchmarked. An S&P 500 index generally has only about 75% of the stocks on the list in the portfolio. How much of each is often the reason for the disparity in returns. A Russell 2000 index fund has only about a third of the companies listed.Most people think of Vanguard Group when they think of index funds. But their much-touted S&P 500 index fund carries an expense ratio of 0.15%. My friend’s small-cap index fund, the one that did so well, charged her the same as this less risky S&P 500 index fund cost.
Add to that, there is relatively poor information available to her even through her plan. A great many of the funds offered inside your plan are not offered to individual investors making information gathering difficult. Plan information is improving but comparisons are still hard to make. She was more upset that no one asked her if she would like to switch.
Not All Plans are Created Equal
Looking inside your 401(k) is never easy. For Boomers (and anyone focused on retirement), it can be especially difficult. You are torn in many cases between necessary risk and the fear of that risk. Your portfolio may not have recovered as quickly as my friend's did but consider the option of too little risk as one not worth taking.
There are basically only two ways of achieving the goals you may have set. You could increase your risk and/or increase your contribution. If you do the later, you can use the additional funds to purchase something more conservative while leaving your original contributions, the funds directed towards more risk, intact.
You should remember that if your plan offers only index funds and lifecycle funds (target-date funds), chose the index offerings. If your plan offers choices beyond index funds, choose the actively managed funds across a range of disciplines (large-cap, mid-cap, small-cap and international). In some cases, the fees might even be as competitive as the index fund that tracks them.
In the end, my friend did nothing. She had one of those not-so-good plans. Her only option was to increase her contribution to make up for the unrealized returns.
Paul Petillo
Managing Editor/BlueCollarDollar.com
Monday, September 28, 2009
Rebuilding Your Wealth: What's Wrong with the 401(k)?
Your 401(k) is in trouble. While the concept of a self-directed retirement plan is, at least in theory a good idea, it was never meant to be all there is. So many components go into a the proper operation of such plans, it is hard to get a bead on which move is right and which might spell disaster.
So let's briefly examine some of the do's and don'ts of 401(k) investing:
Do: Participate. No matter how little your employer offers in the way of incentives, called matching contributions or even if they offer none at all, you need to be in the plan. Plan on a minimum contribution of 5%.
Don't: Believe that it isn't any good. There are a great many of these employer sponsored plans that are essentially worthless. They charge fees that are too high, offer too few good funds from which to chose, and lack good any real fiduciary responsibility (something the employer is required to do).
Do: Buy funds. There will, in almost every plan on the planet, be mutual funds to choose from in your 401(k). Mutual funds are essentially investors who feel as thogh the effort of pooling money spreads diversity and risk over a greater number of stocks than they would have been able to purchase individually. A fund manager is the person(s) you hire to make investment decisions for this group. The fund will charge fees for this.
Don't: Buy company stock. A lot of 401(k) plans are designed to force you to buy the company's stock. Some will do this by limiting any match to this purchase and prohibit you to sell those shares. This is still not a good reason to buy this stock or any other. When you put too much money into one stock (same goes for buying too specific of a fund in large quantities) you run the risk of jeopardizing your portfolio's overall performance. This is where many 401(k) plans got into trouble.
Do: Diversify. For many people, diversification is simply purchasing an index fund (a fund that tracks a particular sector be it the total market of the Standard and Poors 500 list of the top market capitalized companies. (Capitalization refers to the number of shares outstanding multiplied by the share price.)
Don't: Index funds/Target-dated Funds/ETFs. Index funds are very tax efficient and charge very low fees to manage. This is due to their passive nature. Once the index is bought, until the index is changed, there is no more trading. As money comes in from investors, it is simply used to purchase more stocks of the companies in the index. (Use index funds outside of your 401(k) and pay the taxes on them while the rates are still historically low). Target dated funds are a relatively new product and just about every 401(k) has something like this. They may call it a life style fund. These funds pick a date in the future when you would like to retire and the fund manager gradually alters the fund's focus from aggressive (although many are not too aggressive) to a conservative format as the fund gets closer to the target date (of your retirement). ETFs are not a good idea for 401(k) plans because they charge the employee each time they purchase more and in a 401(k), this happens every time you get paid.
Do: Pay attention. If you have built a portfolio that is diversified (some growth, some value, some international or emerging markets and further spread these funds to include large, mid and small cap areas) you will need to open your statement or check it online each month. Look for changes in fees, changes in the 10 largest holding and any statements that the fund manager might make.
Don't: Overreact. When markets rise, don't try to adjust your underlying funds to follow. When markets swoon, stay where you are. In a rising market, because of dollar cost averaging, you will buy less as the price goes up. In a falling market, you will buy more as the share price is discounted.
Do: Think first. Your 401(k) is your future, directed by you. Never withdraw money from this fund either by loan or by any other means. This single action will take years to fix. If you leave a company, roll your 401(k) into an IRA.
Don't: Panic. Things will get bad but they never stay that way. Your 401(k) is not a cash account and should not be eyeballed to save you from financial bumps in the road - even those bumps seem like they will last for a long time.
So let's briefly examine some of the do's and don'ts of 401(k) investing:
Do: Participate. No matter how little your employer offers in the way of incentives, called matching contributions or even if they offer none at all, you need to be in the plan. Plan on a minimum contribution of 5%.Don't: Believe that it isn't any good. There are a great many of these employer sponsored plans that are essentially worthless. They charge fees that are too high, offer too few good funds from which to chose, and lack good any real fiduciary responsibility (something the employer is required to do).
Do: Buy funds. There will, in almost every plan on the planet, be mutual funds to choose from in your 401(k). Mutual funds are essentially investors who feel as thogh the effort of pooling money spreads diversity and risk over a greater number of stocks than they would have been able to purchase individually. A fund manager is the person(s) you hire to make investment decisions for this group. The fund will charge fees for this.
Don't: Buy company stock. A lot of 401(k) plans are designed to force you to buy the company's stock. Some will do this by limiting any match to this purchase and prohibit you to sell those shares. This is still not a good reason to buy this stock or any other. When you put too much money into one stock (same goes for buying too specific of a fund in large quantities) you run the risk of jeopardizing your portfolio's overall performance. This is where many 401(k) plans got into trouble.
Do: Diversify. For many people, diversification is simply purchasing an index fund (a fund that tracks a particular sector be it the total market of the Standard and Poors 500 list of the top market capitalized companies. (Capitalization refers to the number of shares outstanding multiplied by the share price.)
Don't: Index funds/Target-dated Funds/ETFs. Index funds are very tax efficient and charge very low fees to manage. This is due to their passive nature. Once the index is bought, until the index is changed, there is no more trading. As money comes in from investors, it is simply used to purchase more stocks of the companies in the index. (Use index funds outside of your 401(k) and pay the taxes on them while the rates are still historically low). Target dated funds are a relatively new product and just about every 401(k) has something like this. They may call it a life style fund. These funds pick a date in the future when you would like to retire and the fund manager gradually alters the fund's focus from aggressive (although many are not too aggressive) to a conservative format as the fund gets closer to the target date (of your retirement). ETFs are not a good idea for 401(k) plans because they charge the employee each time they purchase more and in a 401(k), this happens every time you get paid.
Do: Pay attention. If you have built a portfolio that is diversified (some growth, some value, some international or emerging markets and further spread these funds to include large, mid and small cap areas) you will need to open your statement or check it online each month. Look for changes in fees, changes in the 10 largest holding and any statements that the fund manager might make.
Don't: Overreact. When markets rise, don't try to adjust your underlying funds to follow. When markets swoon, stay where you are. In a rising market, because of dollar cost averaging, you will buy less as the price goes up. In a falling market, you will buy more as the share price is discounted.
Do: Think first. Your 401(k) is your future, directed by you. Never withdraw money from this fund either by loan or by any other means. This single action will take years to fix. If you leave a company, roll your 401(k) into an IRA.
Don't: Panic. Things will get bad but they never stay that way. Your 401(k) is not a cash account and should not be eyeballed to save you from financial bumps in the road - even those bumps seem like they will last for a long time.
Tuesday, September 22, 2009
The Beginning Investor's Dilemma
Where to begin? This question has stymied beginning investors since the time the market began. These days though, the question is twofold: why should I begin and where will I get the money?
Time remains the single best attribute to investing early and equally important, often. The powers of the equity markets are confusing unless you remember two basic rules:
There is risk;
And if you take no risk, there will be no reward.
That risk demands you put money somewhere. For the beginning investor, the best place is in a mutual fund. Your 401(k) at work is often a healthy list of choices. (Keep in mind, the number of choices available don't always signify the quality of the plan.) Among the most common types of funds in these defined contribution plans (so called because you define how much you will contribute) are index funds, growth funds, bond funds, balanced funds, and some combination of the lot.
Index funds track a broad index of companies in almost every instance, due to size. Growth funds may also be a type of index fund or one aimed at a particular group of companies. Bond funds invest in debt, which makes you a sort of lender (but in a mutual fund, without many of the problems associated with the transaction). Balanced funds look to provide some stocks and some bonds and usually tell you right up front how they allocate their investments.
The combination of the lot is represented by a growing sector called lifestyle funds or target-dated funds. These fund reallocate their holdings over the course of an investors career. The employee picks the date they would like to retire, say 2040 and the fund manager does the rest. As your holdings grow in tandem with your years in the plan, the fund gets more and more conservative.
Beginning investors are attracted to these because they are advertised as buy and forget. But they should be aware of the problems that may be associated with this type of investment. First, they don't have much of a track record. Even in the recent downturn, some very conservative funds (with short retirement dates targeted) did not beat the S&P500. Secondly, I worry that some fund families are using these new funds to prop up laggard funds that have done extremely poorly and lost many of its core investors.
While you are educating yourself on the subject, choose an index fund.
Now, where to get the money? If you set aside 5% of your income in a pre-tax situation (and 401(k) plans are just that), you will not feel a change in your take home pay. Do this even if your company doesn't match your contributions. (Some used to, some companies still do but to a much lesser degree and some never have added a contribution, usually dollar for dollar up to a certain percentage.)
If you have no defined contribution plan, use your tax refund (you know the one you plan on getting in about five months) to open an IRA.
No matter when you begin, waiting is no longer an excuse.
Time remains the single best attribute to investing early and equally important, often. The powers of the equity markets are confusing unless you remember two basic rules:
There is risk;
And if you take no risk, there will be no reward.That risk demands you put money somewhere. For the beginning investor, the best place is in a mutual fund. Your 401(k) at work is often a healthy list of choices. (Keep in mind, the number of choices available don't always signify the quality of the plan.) Among the most common types of funds in these defined contribution plans (so called because you define how much you will contribute) are index funds, growth funds, bond funds, balanced funds, and some combination of the lot.
Index funds track a broad index of companies in almost every instance, due to size. Growth funds may also be a type of index fund or one aimed at a particular group of companies. Bond funds invest in debt, which makes you a sort of lender (but in a mutual fund, without many of the problems associated with the transaction). Balanced funds look to provide some stocks and some bonds and usually tell you right up front how they allocate their investments.
The combination of the lot is represented by a growing sector called lifestyle funds or target-dated funds. These fund reallocate their holdings over the course of an investors career. The employee picks the date they would like to retire, say 2040 and the fund manager does the rest. As your holdings grow in tandem with your years in the plan, the fund gets more and more conservative.
Beginning investors are attracted to these because they are advertised as buy and forget. But they should be aware of the problems that may be associated with this type of investment. First, they don't have much of a track record. Even in the recent downturn, some very conservative funds (with short retirement dates targeted) did not beat the S&P500. Secondly, I worry that some fund families are using these new funds to prop up laggard funds that have done extremely poorly and lost many of its core investors.
While you are educating yourself on the subject, choose an index fund.
Now, where to get the money? If you set aside 5% of your income in a pre-tax situation (and 401(k) plans are just that), you will not feel a change in your take home pay. Do this even if your company doesn't match your contributions. (Some used to, some companies still do but to a much lesser degree and some never have added a contribution, usually dollar for dollar up to a certain percentage.)
If you have no defined contribution plan, use your tax refund (you know the one you plan on getting in about five months) to open an IRA.
No matter when you begin, waiting is no longer an excuse.
Tuesday, August 18, 2009
Which Recovery is Good for Your Retirement?
We are at or near or nowhere near a recovery. No one knows. But that doesn't stop the speculation and with good reason. Most investors try and position themselves near where they feel the seeds are planted - the green shoots if you will. 
But this recovery, which had devastating long-term effects not only on retirement plans but the investors who use them to secure the future, is different than previous returns to normalcy.
In the recent past, we have had three major blows to the economy. 1973 was a good example of an oil driven recession. Most Americans were caught completely by surprise. For many people, it was the first time they had ever felt globalization in their paychecks. And more than just the long lines at the pumps brought this realization to their front door steps.
The recession that began in the third quarter of 1973 was not initially inflation driven. In fact, it was the nominal interest rate of 10.2% and inflation rate of 7.4% (if they seem high compared to our current rates, they are), the collapse of investments, consumer withdrawal and the overall lack of spending that pushed the unemployment rate to almost 10%.
The recovery was spurred forward by a huge tax rebate engineered by Alan Greenspan. And while inflation seemed to come under control, albeit briefly, unemployment rose as some industries that are traditionally hurt during a recession - housing, manufacturing - took longer to recover. By 1980, the trouble with banks (deregulation led to riskier lending practices, higher federal deposit minimums) only added to the problem. By 1982, the prime interest rate was at 20%.
Banks failed, Savings & Loans collapsed and the corporate tax increase and the deficit spending by the government instituted by the Reagan administration all contributed to the length of the recession. But it was the contraction of available money (money supply) by the Federal Reserve that caused the downturn. And helped its recovery by 1984. By that point, inflation was down to 3.2% and two million Americans had returned to work.
The next recession hit the world as consumer confidence (which had soared, declined) and consumer spending (spurred on by unrealistic optimism) became global players. We had developed into a nation of consumers and the world was now our producer. When we stopped spending with the first Gulf War and the rise in oil prices, the rest of the world's economy (the exceptions were Japan and Germany) fell.
The recession that began in 2008 is well documented and still lingering. But the signs of recovery are beginning to poke through. The problem is, what and when will it end and when it does, what will the new post-recession economy look like?
The credit shocks that the economy has felt are still reverberating. Bondholders will be offered riskier high yield bonds to help alleviate this debt burden. Current bondholders will be asked to lengthen the maturities on the bonds they currently hold and job creation will be the last piece of the puzzle needed to see any meaningful recovery.
Business are still testing their limits, stretching what few resources they have in an effort to position themselves for their shareholders. This pressure will keep job regrowth to a minimum as businesses figure out what to do next. Just as many investors have removed risk from their portfolios, so have the businesses we invest in (whether it be directly through stock purchases or indirectly, through mutual funds).
This makes planning for a retirement in this environment doubly difficult. Those close to retirement will have little time to bring their portfolio losses back to pre- 2008 levels quick enough to make a significant difference (the economy needs retirement in order to create jobs for people entering the workforce).
Those looking at a retirement ten-years and beyond have lowered their risk significantly as well, opting for index funds and indexed ETFs or by lowering their investment contributions. Both of these will force retirement further into the future.
Although consumers won't see raises for many years to come, the slowdown is allowing many banks the opportunity to work through the bad loans still on the books. Businesses will begin capital spending but only barely in the next year.
The key to benefiting from this recovery involves more than increasing your savings (which is considered an economic inhibitor) and getting your financial house in order (refinancing during these low lending rate events and realigning spending). The key is still investment and a healthy dose of investment risk. Confidence in the fact that you may not lose your job, you will keep your house and possibly even build that emergency savings account for the first time leaves the average person with a risk gap that only stocks can fill.
If you do not maintain at least a 5% contribution level and keep it in actively managed funds, those looking to pick stocks in this sort of market, you will miss out on some unusually attractive opportunities at rebuilding what you may have lost.
In other words, 90% of Americans will feel the recovery long before any other part of the economy will. They just won't realize it.
But this recovery, which had devastating long-term effects not only on retirement plans but the investors who use them to secure the future, is different than previous returns to normalcy.In the recent past, we have had three major blows to the economy. 1973 was a good example of an oil driven recession. Most Americans were caught completely by surprise. For many people, it was the first time they had ever felt globalization in their paychecks. And more than just the long lines at the pumps brought this realization to their front door steps.
The recession that began in the third quarter of 1973 was not initially inflation driven. In fact, it was the nominal interest rate of 10.2% and inflation rate of 7.4% (if they seem high compared to our current rates, they are), the collapse of investments, consumer withdrawal and the overall lack of spending that pushed the unemployment rate to almost 10%.
The recovery was spurred forward by a huge tax rebate engineered by Alan Greenspan. And while inflation seemed to come under control, albeit briefly, unemployment rose as some industries that are traditionally hurt during a recession - housing, manufacturing - took longer to recover. By 1980, the trouble with banks (deregulation led to riskier lending practices, higher federal deposit minimums) only added to the problem. By 1982, the prime interest rate was at 20%.Banks failed, Savings & Loans collapsed and the corporate tax increase and the deficit spending by the government instituted by the Reagan administration all contributed to the length of the recession. But it was the contraction of available money (money supply) by the Federal Reserve that caused the downturn. And helped its recovery by 1984. By that point, inflation was down to 3.2% and two million Americans had returned to work.
The next recession hit the world as consumer confidence (which had soared, declined) and consumer spending (spurred on by unrealistic optimism) became global players. We had developed into a nation of consumers and the world was now our producer. When we stopped spending with the first Gulf War and the rise in oil prices, the rest of the world's economy (the exceptions were Japan and Germany) fell.
The recession that began in 2008 is well documented and still lingering. But the signs of recovery are beginning to poke through. The problem is, what and when will it end and when it does, what will the new post-recession economy look like?The credit shocks that the economy has felt are still reverberating. Bondholders will be offered riskier high yield bonds to help alleviate this debt burden. Current bondholders will be asked to lengthen the maturities on the bonds they currently hold and job creation will be the last piece of the puzzle needed to see any meaningful recovery.
Business are still testing their limits, stretching what few resources they have in an effort to position themselves for their shareholders. This pressure will keep job regrowth to a minimum as businesses figure out what to do next. Just as many investors have removed risk from their portfolios, so have the businesses we invest in (whether it be directly through stock purchases or indirectly, through mutual funds).
This makes planning for a retirement in this environment doubly difficult. Those close to retirement will have little time to bring their portfolio losses back to pre- 2008 levels quick enough to make a significant difference (the economy needs retirement in order to create jobs for people entering the workforce).
Those looking at a retirement ten-years and beyond have lowered their risk significantly as well, opting for index funds and indexed ETFs or by lowering their investment contributions. Both of these will force retirement further into the future.
Although consumers won't see raises for many years to come, the slowdown is allowing many banks the opportunity to work through the bad loans still on the books. Businesses will begin capital spending but only barely in the next year.
The key to benefiting from this recovery involves more than increasing your savings (which is considered an economic inhibitor) and getting your financial house in order (refinancing during these low lending rate events and realigning spending). The key is still investment and a healthy dose of investment risk. Confidence in the fact that you may not lose your job, you will keep your house and possibly even build that emergency savings account for the first time leaves the average person with a risk gap that only stocks can fill.
If you do not maintain at least a 5% contribution level and keep it in actively managed funds, those looking to pick stocks in this sort of market, you will miss out on some unusually attractive opportunities at rebuilding what you may have lost.
In other words, 90% of Americans will feel the recovery long before any other part of the economy will. They just won't realize it.
Tuesday, August 11, 2009
The All ETF 401(k)
Exchange Traded Funds, like many new products that have hit the investment market in the last ten years or so, have made steady inroads among hardcore investors looking to use these often specifically indexed funds to "park" money as a hedge against other trades or as way to take advantage of a broader market bet. These are professional maneuvers that come with costs and are probably not good for the average investor.
avc_2009_rt.jpg)
First off, let me explain what an ETF is. Exchange Traded Funds are basically index funds. Index funds are basically passive in nature, mimicking a published list of the stocks grouped together, such as the top 500 companies (published by Standard and Poors) allowing the investor to purchase a fixed group. They can also be broken down further to include numerous other indexes from mid-cap, small-cap and indexes of stocks from around the world. These funds, like their mutual fund counterparts have sliced and diced the world into segments.
For instance, if you think India is the next big hot spot. There is an ETF that buys the broad market along with some smaller regions in that country. Do you believe that Latin America will recover first? There is an ETF that allows you to play that economy. Perhaps you feel as though a stake in a commodity such as oil or gold is the next best place to invest. There are ETFs for that as well. Even bonds are covered.
ETFs, because they fall outside the realm of mutual fund regulation, also offer some savvy investor the ability to short (borrowing shares in the hope that the price will fall and then, buying the less-expensive shares) or leverage (using some stocks as collateral for purchasing more shares) or buy real estate without the REIT.
And while that sounds like a world we should all play in, for most of us it simply won't work.
Because Exchange Traded Funds are traded throughout the day, investors using them can buy and sell a position without waiting for the 4pm close that mutual funds have. The downside: ETFs also create brokerage charges in and out of the position and because of that, do not give the impression that this is a park and hold investment. The double downside: this create volatility that rattles the market in the hour before the close.
There is also a transparency and a legacy issue. Despite the publicized passivity of the fund, there is not always a good indication of just what the index represents at any one given moment. They also have not been around long enough to compare to mutual funds. New ETFs pop up everyday as the world gets chopped up into increasingly smaller chunks. And this creates a problem as well. Index funds stick to the index they track or the index they claim to mimic. ETFs can have some style drift within the fund making them difficult to pinpoint with any real accuracy.
ETFs are index fund cheap as well. An upside for any investor looking to keep the overall expenses of investing at a minimum. They rarely mention the cost of trading these funds, just the convenience.
The question is: do they belong in your 401(k)? Sharebuilder thinks so and has announced their launch of a new program for advisers to sell. Designed to make the interaction small businesses have with these registered investment advisers (RIAs) easier and more seamless, low cost ETFs will make up 100% of what these plans offer.
According to ShareBuilder these "investment offering consists of a preset line-up of 16 ETFs from popular funds offerings like a S&P 500 ETF to important fixed asset categories like treasury inflation protected securities (TIPs) not common today in most plans. ShareBuilder 401k also provides five model portfolios to help make it easy for participants to get off on the right foot."
Once again, is this right for your retirement portfolio? While we have discussed how fees can eat up a great deal of the potential profits an investor might expect. And if they are hidden as they so often are (the fees I am referring to are more from the adviser end of things) as little as a one percent increase over what a small business is paying could impact returns over the course of a working career as much as 17%. Sharebuilder promises that this new plan will be less expensive to operate with features such as auto-enrollment and auto-rebalancing thrown in for good measure.
But by making the plan completely ETFs, the risk level drops considerably. The average employee will relinquish more control to index funds than is needed to raise your portfolio's earning potential. Small plans will have a limited number of the these index-type offerings narrowing the potential for better-than-average results. In fact, your results using only ETFs will be average.
ETFs can be used as a tool for investors. But to have them solely as a tool for those planning on retiring, seems to serve the adviser more than the client.
avc_2009_rt.jpg)
First off, let me explain what an ETF is. Exchange Traded Funds are basically index funds. Index funds are basically passive in nature, mimicking a published list of the stocks grouped together, such as the top 500 companies (published by Standard and Poors) allowing the investor to purchase a fixed group. They can also be broken down further to include numerous other indexes from mid-cap, small-cap and indexes of stocks from around the world. These funds, like their mutual fund counterparts have sliced and diced the world into segments.For instance, if you think India is the next big hot spot. There is an ETF that buys the broad market along with some smaller regions in that country. Do you believe that Latin America will recover first? There is an ETF that allows you to play that economy. Perhaps you feel as though a stake in a commodity such as oil or gold is the next best place to invest. There are ETFs for that as well. Even bonds are covered.
ETFs, because they fall outside the realm of mutual fund regulation, also offer some savvy investor the ability to short (borrowing shares in the hope that the price will fall and then, buying the less-expensive shares) or leverage (using some stocks as collateral for purchasing more shares) or buy real estate without the REIT.
And while that sounds like a world we should all play in, for most of us it simply won't work.
Because Exchange Traded Funds are traded throughout the day, investors using them can buy and sell a position without waiting for the 4pm close that mutual funds have. The downside: ETFs also create brokerage charges in and out of the position and because of that, do not give the impression that this is a park and hold investment. The double downside: this create volatility that rattles the market in the hour before the close.
There is also a transparency and a legacy issue. Despite the publicized passivity of the fund, there is not always a good indication of just what the index represents at any one given moment. They also have not been around long enough to compare to mutual funds. New ETFs pop up everyday as the world gets chopped up into increasingly smaller chunks. And this creates a problem as well. Index funds stick to the index they track or the index they claim to mimic. ETFs can have some style drift within the fund making them difficult to pinpoint with any real accuracy.
ETFs are index fund cheap as well. An upside for any investor looking to keep the overall expenses of investing at a minimum. They rarely mention the cost of trading these funds, just the convenience.
The question is: do they belong in your 401(k)? Sharebuilder thinks so and has announced their launch of a new program for advisers to sell. Designed to make the interaction small businesses have with these registered investment advisers (RIAs) easier and more seamless, low cost ETFs will make up 100% of what these plans offer.
According to ShareBuilder these "investment offering consists of a preset line-up of 16 ETFs from popular funds offerings like a S&P 500 ETF to important fixed asset categories like treasury inflation protected securities (TIPs) not common today in most plans. ShareBuilder 401k also provides five model portfolios to help make it easy for participants to get off on the right foot."
Once again, is this right for your retirement portfolio? While we have discussed how fees can eat up a great deal of the potential profits an investor might expect. And if they are hidden as they so often are (the fees I am referring to are more from the adviser end of things) as little as a one percent increase over what a small business is paying could impact returns over the course of a working career as much as 17%. Sharebuilder promises that this new plan will be less expensive to operate with features such as auto-enrollment and auto-rebalancing thrown in for good measure.
But by making the plan completely ETFs, the risk level drops considerably. The average employee will relinquish more control to index funds than is needed to raise your portfolio's earning potential. Small plans will have a limited number of the these index-type offerings narrowing the potential for better-than-average results. In fact, your results using only ETFs will be average.
ETFs can be used as a tool for investors. But to have them solely as a tool for those planning on retiring, seems to serve the adviser more than the client.
Thursday, May 21, 2009
Retirement Planning: Do You See What I See (in your 401K)?
Last year, Rep. George Miller, a California Democrat and chairman of the House Education and Labor Committee was not sure that folks understood how much their 401K plans were costing them over the lifetime of investing. He introduced a bill to the committee, interviewed mutual fund heavyweights like John Bogle of Vanguard Group, and eventually tried to get the legislation through Congress. He failed.
Now he is taking the same bill and trying again. Rep. Miller believes that it is what you don't know about that retirement account that could harm you more than the possibility of a market downturn. He acknowledges that the downturn stripped a great deal of wealth from many retirement portfolios. But he feels as though the hidden costs in these plans took them down further than they needed to go and, even as they fell, these fees continued to cost the investor.
Your 401K may be paying fees not only for the administration of the plan but also for the funds in the plan. This can often be hidden from investors when the markets are doing well. The problem for employers is much the same for the individual investor: although much of the language has become easier to read, it still has a long way to go to achieve full transparency.
Over a 20-30 year working career, these costs can deeply impact a retirement plan. Trading fees, investment fees, advisory fees or stewardship fees according to John Bogle's testimony last year can strip up to 75% of the plan's balance if unchecked.
Fixing this problem is not as easy at it sounds. Mutual funds continue to be less than forthright when discussing fees, shifting them to administer plans while declaring that their overall expenses are lower. Turnover rates within the fund, the presence of other funds with in the fund (often the case with life style or target-dated funds) hide other fees within fees, and the fact that what is often considered value funds may in fact be something much more risky all give the investor a veil of cost-effectiveness that might not be there.
Mr. Miller is shooting for disclosure first but openly shows his disgust for what is happening to these accounts, good markets or bad. In his opinion, and this blogs as well, the fees come after the average investor dutifully invests their money.
Some of the options on the table include the index fund and its availability in the average 401K plan. But as we have found out, this is not always as clear an option fee-wise as some would believe. And with SEC investigating the target dated funds, the offering that has caught fire recently as investors sought to protect their money by moving into a fund that promises to adjsut risk over time, shooting for disclosure is the right first step.
In the meantime, here's what you can do. Stick to only a handful of funds, spreading your investment among three to four sectors such as large-cap, mid-cap and small-cap funds with a fixed income (preferably something encompassing as much of the bond market as possible. Keep your index fund investment on the outside of your 401K plan - better to pay those taxes now rather than later. And until target-dated funds fess up and disclose what they really are, stay away from them. A little time and diligence can provide you with the same type of investment at a far lower cost.
Now he is taking the same bill and trying again. Rep. Miller believes that it is what you don't know about that retirement account that could harm you more than the possibility of a market downturn. He acknowledges that the downturn stripped a great deal of wealth from many retirement portfolios. But he feels as though the hidden costs in these plans took them down further than they needed to go and, even as they fell, these fees continued to cost the investor.Your 401K may be paying fees not only for the administration of the plan but also for the funds in the plan. This can often be hidden from investors when the markets are doing well. The problem for employers is much the same for the individual investor: although much of the language has become easier to read, it still has a long way to go to achieve full transparency.
Over a 20-30 year working career, these costs can deeply impact a retirement plan. Trading fees, investment fees, advisory fees or stewardship fees according to John Bogle's testimony last year can strip up to 75% of the plan's balance if unchecked.
Fixing this problem is not as easy at it sounds. Mutual funds continue to be less than forthright when discussing fees, shifting them to administer plans while declaring that their overall expenses are lower. Turnover rates within the fund, the presence of other funds with in the fund (often the case with life style or target-dated funds) hide other fees within fees, and the fact that what is often considered value funds may in fact be something much more risky all give the investor a veil of cost-effectiveness that might not be there.
Mr. Miller is shooting for disclosure first but openly shows his disgust for what is happening to these accounts, good markets or bad. In his opinion, and this blogs as well, the fees come after the average investor dutifully invests their money.
Some of the options on the table include the index fund and its availability in the average 401K plan. But as we have found out, this is not always as clear an option fee-wise as some would believe. And with SEC investigating the target dated funds, the offering that has caught fire recently as investors sought to protect their money by moving into a fund that promises to adjsut risk over time, shooting for disclosure is the right first step.
In the meantime, here's what you can do. Stick to only a handful of funds, spreading your investment among three to four sectors such as large-cap, mid-cap and small-cap funds with a fixed income (preferably something encompassing as much of the bond market as possible. Keep your index fund investment on the outside of your 401K plan - better to pay those taxes now rather than later. And until target-dated funds fess up and disclose what they really are, stay away from them. A little time and diligence can provide you with the same type of investment at a far lower cost.
Wednesday, June 11, 2008
Retirement Planning and the Financial Professional
What do you do when, according to a recent post by Harriet Brackey of the Sun-Sentinel Tribune, professional advisers gather and one “thinks he can pick outstanding companies and beat the market” while another, “uses many studies to show that no one beats the market for long and so he favors index investments” and another offers an, “in the middle, putting the bulk of his clients’ money into an index-like investment, yet playing around the edges with active stock or bond picking, hoping to goose up the overall return of the portfolio”?
Why does this confusion seem shocking yet at the same time, not so much?
It seems that this group of professionals does not have a unified game plan for their clients for three good reasons.
There is money to made in confusion. If you can keep the theories shifting, the folks who pay for these services believe that they are doing better than their peers - and that brings me to my second point.
We spend far too much time creating benchmarks based on another person's idea of successful investing and retirement planning. Financial planners know this and try to "tailor" your investments accordingly, making them seem so personal.
The guy who suggests his client index should do exactly that. Perhaps a growth index (mid-cap or small-cap) a value index (large-cap) and emerging market and an international index would suit just about every investor's needs. Which makes the financial planner obsolete. Not only will that client save money in fees for the financial planner, they will also be paying less for the funds.
Why does this confusion seem shocking yet at the same time, not so much?
It seems that this group of professionals does not have a unified game plan for their clients for three good reasons.
There is money to made in confusion. If you can keep the theories shifting, the folks who pay for these services believe that they are doing better than their peers - and that brings me to my second point.
We spend far too much time creating benchmarks based on another person's idea of successful investing and retirement planning. Financial planners know this and try to "tailor" your investments accordingly, making them seem so personal.
The guy who suggests his client index should do exactly that. Perhaps a growth index (mid-cap or small-cap) a value index (large-cap) and emerging market and an international index would suit just about every investor's needs. Which makes the financial planner obsolete. Not only will that client save money in fees for the financial planner, they will also be paying less for the funds.
Thursday, June 5, 2008
Retirement Planning and Financial Professionals
What do you do when, according to a recent post by Harriet Brackey of the Sun-Sentinel, professional advisers gather and one “thinks he can pick outstanding companies and beat the market” while another, “uses many studies to show that no one beats the market for long and so he favors index investments” and another offers an, “in the middle, putting the bulk of his clients’ money into an index-like investment, yet playing around the edges with active stock or bond picking, hoping to goose up the overall return of the portfolio.”
Why does it seem shocking yet at the same time, not so much?
It seems that this group of professionals does not have a unified game plan for their clients for three good reasons.
There is money to made in confusion. If you can keep the theories shifting, the folks who pay for these services believe that they are doing better than their peers - and that brings me to my second point.
We spend far too much time creating benchmarks based on another person's idea of successful investing and retirement planning. Financial planners know this and try to "tailor" your investments accordingly, making them seem so personal.
The guy who suggests his client index should do exactly that. Perhaps a growth index (mid-cap or small-cap) a value index (large-cap) and emerging market and an international index would suit just about every investor's needs. Which makes the financial planner obsolete. Not only will that client save money in fees for the financial planner, they will also be paying less for the funds.
Additional reading:
Why does it seem shocking yet at the same time, not so much?
It seems that this group of professionals does not have a unified game plan for their clients for three good reasons.
There is money to made in confusion. If you can keep the theories shifting, the folks who pay for these services believe that they are doing better than their peers - and that brings me to my second point.
We spend far too much time creating benchmarks based on another person's idea of successful investing and retirement planning. Financial planners know this and try to "tailor" your investments accordingly, making them seem so personal.
The guy who suggests his client index should do exactly that. Perhaps a growth index (mid-cap or small-cap) a value index (large-cap) and emerging market and an international index would suit just about every investor's needs. Which makes the financial planner obsolete. Not only will that client save money in fees for the financial planner, they will also be paying less for the funds.
Additional reading:
Friday, May 30, 2008
Retirement Planning at 20-years-old
Retirement saving is best done early and consistently. Retirement planning, the roadmap to how you will spend your after-work life is not as easy especially when you are in your twenties.
Alyce P. Cornyn-Selby once wrote, "Procrastination is, hands down, our favorite form of self-sabotage." And who can deny that this is the single biggest hurdle we will need to jump in retirement planning.
As twenty-year olds, fresh out of school, whether it be high school, trade school, or college, we see the world in terms of the here and now. We are young and that youthful exuberance gives us the false sense that time is endless. We are undeterred, full of hope and rich in the belief that time is on our side. And in a way, it is.
We have our first job and with it, our first taste of financial independence. We divvy up our paychecks in terms of what it will buy: x-amount of dollars for rent, transportation, clothes and entertainment and not always in that order. Few twenty-year-olds are able to see the value of saving at this age. There are simply too many opportunities to seize and fun things to experience.
And your retirement plan should not take away from that time in your life. It should compliment it. But there are three things you must confront first before you begin the party that twenty is.
First, you need a financial mentor. This can be your parents, an uncle, aunt, grandparent or even a co-worker. This person will need to be older and wiser than you and someone you can trust.
This person will be nothing more than a sounding board for your financial decisions. They will, if they do the job correctly, play a sort of devil's advocate. Many of the big financial decisions we will make at this age will involve the use of credit. A financial mentor will allow you to ask yourself, while asking them, "do I need this now or can I wait until a time when I can afford it?" They will offer you a look at the mistakes they have made and what they would have done differently. Their experience becomes your lesson plan.
The second element of a retirement plan requires a clear understanding of how compounding works. When I am explaining compounding to beginning investors, I often tell use the story of the "Sultan'.
President Jackson once gave a gift to the Sultan of Muscat (now called Oman) after the ratification of a treaty between the two nations.
The gift was a silver coin with the minted date of 1804 (although the coin was actually struck in 1834) that was "sneaked" out of the country via secret emissary. Remarkably, the coin remained in its original condition for almost 150 years before it was purchased by the family of the late Walter Childs of Brattleboro, Vt. in 1945 for $5000.
The coin was then placed in a vault for the next 54 years. Until, of course, it was auctioned off for 4.14 million dollars!
Despite the "wow" factor of that fortune, many of you would be just as surprised to know, had that $5,000 been invested in a simple index fund that follows the S&P 500 (the 500 largest companies trading publicly in the US), you would have made $400,000 more than Mr. Child's family did when they took the coin to auction.
The key to compounding is beginning small, doing it consistently, and starting early. If your first job offers a 401(k) plan, a tax-deferred investment plan, sign up for at least a 5% deduction. In all likelihood, that small of an amount of pre-tax income will not affect your take-home pay.
The last thing you will need to do is avoid using credit for purchases under $500. That's right. Put the cards away until you absolutely need it.
At this level of borrowing, the purchase in more likely to be financed with a fixed rate, more apt to come after serious consideration, and it will probably be more of a necessity than a whim. A purchase of that size is much easier to add to your budget the available money you have to spend on your life¹s necessities.
The best thing you do at twenty is develop a retirement philosophy that let¹s you live within your means cash for everything that costs less than $500 to avoid unnecessary and unsustainable debt. When you do this while investing a small portion of your paycheck each week just a 5% deduction from your payroll, you will be on the right road to retirement. If your employer doesn¹t offer a tax-deferred plan, have $25 a week automatically deposited into a savings account that you can set-up for automatic deductions to an IRA.
We will return to our retirement glossary next week.
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