Billionaire investor Warren Buffett and music mogul Jay-Z both met at a diner in Omaha recently to discuss business, getting started early and how to cope with change in today's markets in a discussion with Steve Forbes. Forbes magazine has some of the transcripts and there's certainly a lot to be learned from both people.
Buffett, arguably the world's most successful investor, has made a career of buying and holding great businesses at discounted valuations through his holding vehicle, Berkshire Hathaway. Jay-Z is a rap artist turned music mogul who now runs Roc Nation - a music management and publishing company that has all hands in the promotional aspect of a musician's career. This interview is great reading for all people but would especially appeal to, and benefit, Gen Y.
Thursday, September 30, 2010
Wednesday, September 29, 2010
Gold Prices & Gen Y
I'm always interested in all types of investment and economic indicators. Watching gold futures prices hit an all-time high yesterday told me that most people are still worried about inflation (gold, as a hard asset, protects against this evil) as well as general economic malaise.
It's amazing how we can get conflicting economic numbers and statistics telling us a recovery may be near and then see gold prices skyrocket to over $1,300 an ounce. To me, that means investors are still skittish and we have a long way to go before we're going to see serious economic growth again. The signals gold is giving us proves that all types of indicators are important when watching the economy. I've been following these indicators now more than ever because the longer the economy takes to recover, the longer jobs growth will take to recover, which in turn has drastic implications for Generation Y.
It's amazing how we can get conflicting economic numbers and statistics telling us a recovery may be near and then see gold prices skyrocket to over $1,300 an ounce. To me, that means investors are still skittish and we have a long way to go before we're going to see serious economic growth again. The signals gold is giving us proves that all types of indicators are important when watching the economy. I've been following these indicators now more than ever because the longer the economy takes to recover, the longer jobs growth will take to recover, which in turn has drastic implications for Generation Y.
Tuesday, September 28, 2010
Why Timing the Market is a Bad Idea
Over the weekend, The Wall Street Journal's James B. Stewart wrote an article entitled, "How to Time the Stock Market". Naturally, I'm skeptical of any system that pledges to consistently "outperform a simple buy-and-hold index approach" as the article states. With that said, Stewart goes through a system which he describes as follows:
"Here is how the system works: When the market is dropping, I buy stocks at intervals of 10% declines from the most recent peak. When it is rising, I sell at intervals of 25% gains from the most recent low. These figures are roughly one-half the historical average losses of 20% in bear markets and gains of 50% in bull markets since 1979. They are round numbers and the math is easy to do in your head."
Here's the problem: there's an emotional aspect to this "system" that will ruin most investors who engage in it. Not all people will be as disciplined as Mr. Stewart is in implementing his system and the result will be severe underperformance for investors who do not have the discipline to stick to the system and instead incur high fees and trading costs which eat profits.
Worse still, if any of your stocks have rapid movements and you're forced to buy/sell often, you'll incur short-term capital gains taxes, which, depending on your tax bracket, can be as high as 35%! This will quickly destroy any of the value such a market timing system would have for you. Lastly, who has the patience to market time? It's unlikely that Gen Y wants to be bothered with setting up models to help them determine which stocks are rising and falling from valleys and peaks. More importantly, we have bigger obligations like school and work to deal with. With that said, it's best just to buy the entire market via an indexing strategy that's low-cost and won't keep you up at night.
Here's the problem: there's an emotional aspect to this "system" that will ruin most investors who engage in it. Not all people will be as disciplined as Mr. Stewart is in implementing his system and the result will be severe underperformance for investors who do not have the discipline to stick to the system and instead incur high fees and trading costs which eat profits.
Worse still, if any of your stocks have rapid movements and you're forced to buy/sell often, you'll incur short-term capital gains taxes, which, depending on your tax bracket, can be as high as 35%! This will quickly destroy any of the value such a market timing system would have for you. Lastly, who has the patience to market time? It's unlikely that Gen Y wants to be bothered with setting up models to help them determine which stocks are rising and falling from valleys and peaks. More importantly, we have bigger obligations like school and work to deal with. With that said, it's best just to buy the entire market via an indexing strategy that's low-cost and won't keep you up at night.
Monday, September 27, 2010
Flurry of M&A Activity May Help Gen Y
This morning's flurry of M&A activity - Unilever NV (UN) purchased Alberto-Culver (ACV), Southwest Airlines (LUV) bought AirTran (AAI) and Wal-Mart (WMT) acquired a South African consumer goods company - indicates that an economic recovery may come sooner rather than later. After all, the aforementioned companies are excellent barometers for the overall economy because Unilever and Wal-Mart both sell consumer goods and Southwest is in a very cyclical industry. In fact, the biggest news may be that Southwest - one of the leaders in the airline industry - was willing to put up $1.4 billion to buy AirTran, even as other rivals are cutting routes and in some cases, filing for bankruptcy.
To see these companies putting up billions to acquire other firms is a sign that they are comfortable with getting rid of some of the cash on their balance sheets that they had hunkered down with to help combat the recession. Any large outlay of a cash by a firm for an acquisition at this point of the economic cycle is a sure sign that they are confident enough in their ability to generate cash from operations going forward to help fund it.
With that said, this news also has plenty of importance for Gen Y because the potential for an economic recovery means that the job market may recover sooner rather than later. Granted, the recent employment reports have indicated prolonged sluggishness remains, but the confidence on the part of large companies in expending billions of dollars to buy other firms suggests that the next logical step will be the creation of new jobs both at those companies and across the broader economy.
To see these companies putting up billions to acquire other firms is a sign that they are comfortable with getting rid of some of the cash on their balance sheets that they had hunkered down with to help combat the recession. Any large outlay of a cash by a firm for an acquisition at this point of the economic cycle is a sure sign that they are confident enough in their ability to generate cash from operations going forward to help fund it.
With that said, this news also has plenty of importance for Gen Y because the potential for an economic recovery means that the job market may recover sooner rather than later. Granted, the recent employment reports have indicated prolonged sluggishness remains, but the confidence on the part of large companies in expending billions of dollars to buy other firms suggests that the next logical step will be the creation of new jobs both at those companies and across the broader economy.
Friday, September 24, 2010
Economic News is Getting Better
This morning's durable goods report - the report regarding the investment companies make in capital assets like machinery, equipment and the like - showed that for the third time in four months, businesses were getting more optimistic about investing in capital assets. The AP recount of the report says that "The 4.1 percent increase to capital goods in August signaled a rebound in business spending after orders fell 5.3 percent in July." As a result, the S&P 500 is up about 1.60% on the strength of the report.
It's hard to read too much into daily economic reports because each one measures a drastically different area of an incredibly large U.S. economy and because we're so often given conflicting reports about what the actual state of the economy is. Suffice it to say, the news is getting better, albeit slightly, so going into your weekend, remain optimistic that the economy is one step closer to picking up steam.
It's hard to read too much into daily economic reports because each one measures a drastically different area of an incredibly large U.S. economy and because we're so often given conflicting reports about what the actual state of the economy is. Suffice it to say, the news is getting better, albeit slightly, so going into your weekend, remain optimistic that the economy is one step closer to picking up steam.
Thursday, September 23, 2010
Where are Gen Y's Billionaires?
Today, Forbes magazine released its annual list of the richest 400 people in America - the much-anticipated Forbes 400 list. This list is the standard by which most extremely wealthy Americans tend to measure themselves. Granted, much of a billionaire's empire is hard to value given that wealth can be tied up in illiquid private securities or other assets, but Forbes does a pretty good job overall of estimating wealth.
Robert Frank at the Wall Street Journal points out something that should be obvious to anyone taking a good look at the list - there's a lack of young money. Indeed, the nouveau riche that was long talked about does not seem to be coming into fruition. Instead, we're seeing a continuation of old money and what Frank describes as "a hardening of the plutocracy". Yes, facebook's "Big Three" made it onto the list and the youngest member of the Forbes 400 is 26. Ultimately, though, it's clear that Gen Y is making little headway in reaching the upper echelons of wealth in this country. As Frank concludes, there were "no new billionaires from tech, or the Green Economy, or biotechnology or any other revolutionary product or industry" in the list.
Given the fact that any millennial who becomes a part of the list would have had a drastically shorter time frame to build such a vast amount of wealth, it may be a little while before their empires register on the Forbes 400 scale. By that time, perhaps they will constitute a new plutocracy.
Robert Frank at the Wall Street Journal points out something that should be obvious to anyone taking a good look at the list - there's a lack of young money. Indeed, the nouveau riche that was long talked about does not seem to be coming into fruition. Instead, we're seeing a continuation of old money and what Frank describes as "a hardening of the plutocracy". Yes, facebook's "Big Three" made it onto the list and the youngest member of the Forbes 400 is 26. Ultimately, though, it's clear that Gen Y is making little headway in reaching the upper echelons of wealth in this country. As Frank concludes, there were "no new billionaires from tech, or the Green Economy, or biotechnology or any other revolutionary product or industry" in the list.
Given the fact that any millennial who becomes a part of the list would have had a drastically shorter time frame to build such a vast amount of wealth, it may be a little while before their empires register on the Forbes 400 scale. By that time, perhaps they will constitute a new plutocracy.
Tuesday, September 21, 2010
The Billionaire Who Bought Burger King
Yesterday, Bloomberg had an interesting article on Brazilian billionaire Jorge Paulo Lemann, the 71-year old investor behind investment firm 3G Capital which just purchased fast food giant Burger King for $3.3 billion. Lemann's story is inspiring because he has had an entrepreneurial spirit his whole life, having founded an investment bank in Brazil at age 32 that was dubbed the "Brazilian Goldman Sachs". Besides his role as a banker and his recent acquisition of Burger King, Lemann was also an active player in InBev's purchase of Anheuser-Busch as he owned a substantial stake in InBev (and still does).
Monday, September 20, 2010
WSJ: Financial Planners Pursue Gen Y
Today's Wall Street Journal had a refreshing article on how financial planners are actively pursuing both Gen Y and Gen X accounts "banking on their ability to help today's young investor become tomorrow's "big" client." This is great news for Gen Y because it means that certified financial planners - those with the official CFP designation - will continue to offer services to us at attractive rates. Since millennials are just beginning to receive steady streams of income from their first jobs/careers, CFPs are looking at us as attractive targets because they realize how much wealth we have the potential to accumulate over a lifetime. By becoming our advisor early on in life, the CFP realizes that they more wealth they help us build, the greater advisory fee they will earn when our assets grow.
CFPs are a great resource because it's very difficult for most investors with little time or energy to manage their assets appropriately. Investors should stick with fee-only advisors - those who are paid a flat-rate rather than via commission like a stockbroker may be. This helps align the CFP's interest in formulating an investment policy with your own interest in building wealth because it eliminates potential conflicts of interest arising from commission-based advisors who prefer to see you more active as that activity helps generate revenue for them (but not necessarily for you).
The only disconcerting part of the article came when I read the following, "Young investors tend to be focused on their immediate financial needs, he says, such as buying a house for their growing family or booking their next vacation. Retirement is important, too, but it's not foremost in these clients' minds."
It's never too early to think about retirement, and by saving and planning for it today, you eliminate any potential problems or headaches you may experience down the road if you decide to wait too long to get started.
CFPs are a great resource because it's very difficult for most investors with little time or energy to manage their assets appropriately. Investors should stick with fee-only advisors - those who are paid a flat-rate rather than via commission like a stockbroker may be. This helps align the CFP's interest in formulating an investment policy with your own interest in building wealth because it eliminates potential conflicts of interest arising from commission-based advisors who prefer to see you more active as that activity helps generate revenue for them (but not necessarily for you).
The only disconcerting part of the article came when I read the following, "Young investors tend to be focused on their immediate financial needs, he says, such as buying a house for their growing family or booking their next vacation. Retirement is important, too, but it's not foremost in these clients' minds."
It's never too early to think about retirement, and by saving and planning for it today, you eliminate any potential problems or headaches you may experience down the road if you decide to wait too long to get started.
Friday, September 17, 2010
College Football's Most Valuable Programs
It's Friday so I've decided to offer up some light weekend reading. Last year, Forbes listed the "Most Valuable College Football Programs" which includes my very own LSU Tigers who come in 7th out of 20. The greater Baton Rouge area rakes in about $8.2 million every home game weekend and the team is valued at about $86 million based on revenue generation and the ability to generate fan spending. Not too shabby at all!
Tomorrow is our first home game of the year against Mississippi State and I couldn't be more excited. As the number one tailgating spot in all of college football, even though it's not game day just yet, it's still time to get ready! As we love to say, Geaux Tigers!
Tomorrow is our first home game of the year against Mississippi State and I couldn't be more excited. As the number one tailgating spot in all of college football, even though it's not game day just yet, it's still time to get ready! As we love to say, Geaux Tigers!
Thursday, September 16, 2010
So, This Professor...
Over the weekend, The Wall Street Journal had an interesting piece on new exchange-traded fund (ETF) offerings based on the theories and academic research of university professors and other academics. The article cites University of Pennsylvania's Jeremy Siegel as being a co-founder of Wisdom Tree Investments in 2006 which issued ETFs focusing on dividend paying stocks. Another example given was SummerHaven Investment Management LLC which last month started a commodity ETF driven by the research of Yale University's Geert Rouwenhorst.
When I saw this article, my interest was piqued because I had heard of WisdomTree but hadn't looked into their offerings much. After reading on their website that the LargeCap Dividend ETF follows their own fundamentally weighted index, I began to understand the problem with their lackluster returns. Besides their heavy weighting in financial stocks during the crisis, the use of the term "index" with the word fundamental preceding it scares me off. After all, the purpose of an index is to include a broad-based representation of a large group of assets without any bias towards fundamentals. In this case, including an entire universe of dividend-paying stocks, rather than those that simply meet a pre-determined fundamental threshold may have been more appropriate.The slippery slope towards a manager taking an active role in stock selection under the guise of indexing is possible.
I greatly respect Professor Siegel and his work. His focus on dividends is one that I can agree with completely. After all, dividends are ultimately what drive returns on stocks. However, I'm quick to shy away from any ETF or index fund offering that has too flashy of a personality behind it (yes, Siegel even publishes a newsletter) or invests according to a fundamentally-weighted index. Index fund and ETF investing should be boring and the goal is to invest in both to capture the returns of an entire universe of securities, not an "index" of cherry-picked securities.
When I saw this article, my interest was piqued because I had heard of WisdomTree but hadn't looked into their offerings much. After reading on their website that the LargeCap Dividend ETF follows their own fundamentally weighted index, I began to understand the problem with their lackluster returns. Besides their heavy weighting in financial stocks during the crisis, the use of the term "index" with the word fundamental preceding it scares me off. After all, the purpose of an index is to include a broad-based representation of a large group of assets without any bias towards fundamentals. In this case, including an entire universe of dividend-paying stocks, rather than those that simply meet a pre-determined fundamental threshold may have been more appropriate.The slippery slope towards a manager taking an active role in stock selection under the guise of indexing is possible.
I greatly respect Professor Siegel and his work. His focus on dividends is one that I can agree with completely. After all, dividends are ultimately what drive returns on stocks. However, I'm quick to shy away from any ETF or index fund offering that has too flashy of a personality behind it (yes, Siegel even publishes a newsletter) or invests according to a fundamentally-weighted index. Index fund and ETF investing should be boring and the goal is to invest in both to capture the returns of an entire universe of securities, not an "index" of cherry-picked securities.
Wednesday, September 15, 2010
Retirement on Hold? A Lesson for Gen Y
Today, CNBC reports that a new study by Boston College's Center for Retirement Research says that Americans are $6.6 trillion short of what they need to retire. Yes, you read that right! Trillion.
So, what can we blame this on? For starters, a declining stock market and falling home values have hindered the plans of many Americans near retirement age who no longer have the inflated value of those assets to tap into. Investors have seen their 401(k)s, IRAs and a bevy of other retirement accounts pummeled in the last few years as the financial crisis put downward pressure on debt and equity of all stripes.
The CNBC article says, "The $6.6 trillion figure is based on projections of retirement and income for American workers ages 32-64. The study's authors say they arrived at the amount using conservative assumptions, including a 3 percent rate of return on assets and no further cuts in pension coverage or increases in the Social Security retirement age." While the market may return better than 3% on average (probably closer to 7% after inflation) over the next couple of decades, it's better that this type of study displays just caution given the extreme dislocation we've seen in the financial markets since 2007.
If anything is a call to action for Gen Y investors, this is it! "Right Here, Right Now", the hit 1990 song by British rock group Jesus Jones had a great line that's quite applicable to today's Gen Y investors. Indeed, we can say that like Jesus Jones, we're "Right here, right now, watching the world wake up from history."
Many Gen X'ers and Baby Boomers are coming to the realization that their retirement assets are not what they expected. This is the perfect time for Gen Y investors to start socking away even more money into savings and investment plans. We are lucky to be so young in that we can learn from the financial mistakes of older generations! The writing is on the wall courtesy of the Boston College report. It's time to save and invest even more to realize our retirement goals.
So, what can we blame this on? For starters, a declining stock market and falling home values have hindered the plans of many Americans near retirement age who no longer have the inflated value of those assets to tap into. Investors have seen their 401(k)s, IRAs and a bevy of other retirement accounts pummeled in the last few years as the financial crisis put downward pressure on debt and equity of all stripes.
The CNBC article says, "The $6.6 trillion figure is based on projections of retirement and income for American workers ages 32-64. The study's authors say they arrived at the amount using conservative assumptions, including a 3 percent rate of return on assets and no further cuts in pension coverage or increases in the Social Security retirement age." While the market may return better than 3% on average (probably closer to 7% after inflation) over the next couple of decades, it's better that this type of study displays just caution given the extreme dislocation we've seen in the financial markets since 2007.
If anything is a call to action for Gen Y investors, this is it! "Right Here, Right Now", the hit 1990 song by British rock group Jesus Jones had a great line that's quite applicable to today's Gen Y investors. Indeed, we can say that like Jesus Jones, we're "Right here, right now, watching the world wake up from history."
Many Gen X'ers and Baby Boomers are coming to the realization that their retirement assets are not what they expected. This is the perfect time for Gen Y investors to start socking away even more money into savings and investment plans. We are lucky to be so young in that we can learn from the financial mistakes of older generations! The writing is on the wall courtesy of the Boston College report. It's time to save and invest even more to realize our retirement goals.
Tuesday, September 14, 2010
The Importance of Delayed Gratification
This morning I read an interesting article entitled 5 Ways to Teach Your Kids About Money. Since this blog is for Gen Y investors, it may seem like there are few if any practical applications for us when it comes to financial advice given to children. Looking a little deeper, there are certainly areas where we can learn from the article.
The biggest piece of advice from the article that I think is quite beneficial to millennial investors would be #4: Delayed Gratification. Few, if any younger investors (millennials, included) are satisfied with delayed gratification. I tend to think that the Baby Boomers and generations before them are able to delay gratification because they grew up during wars, severe economic recessions and vast periods of inflation that also included a lackluster job market. In short, they were taught to save now and enjoy the fruits of those savings later.
When it comes to Gen Y, we tend to want all of the benefits of an activity now. While this may not be unrealistic given how much our economy and business landscape has changed, it doesn't necessarily bode well as the recipe for a successful investment plan. Instead, if we take time to recognize that by saving and investing today, the odds are very good we will have a secure financial future to look forward to our generation will be vastly better off!
The biggest piece of advice from the article that I think is quite beneficial to millennial investors would be #4: Delayed Gratification. Few, if any younger investors (millennials, included) are satisfied with delayed gratification. I tend to think that the Baby Boomers and generations before them are able to delay gratification because they grew up during wars, severe economic recessions and vast periods of inflation that also included a lackluster job market. In short, they were taught to save now and enjoy the fruits of those savings later.
When it comes to Gen Y, we tend to want all of the benefits of an activity now. While this may not be unrealistic given how much our economy and business landscape has changed, it doesn't necessarily bode well as the recipe for a successful investment plan. Instead, if we take time to recognize that by saving and investing today, the odds are very good we will have a secure financial future to look forward to our generation will be vastly better off!
Monday, September 13, 2010
There's Nothing Certain in Life Except...
The old adage goes, "There's nothing certain in life except death and taxes". Today, I'd like to say that there's nothing certain in life except death and tax law changes!
2010 has proven to be a politically volatile year and much of the debate around the country today centers on tax policy. As it stands, President Bush's tax cut package in 2003 is set to revert on January 1, 2011 so that everything from higher marginal income tax rates, as well as dividends and capital gains tax rates are all set to increase if Congress doesn't act before the end of the year to extend them.
From the Gen Y investor's standpoint, the news is very disheartening because both dividends and capital gains taxes could be on the rise. Today, the top tax rate on capital gains is 15% (and most likely less for millennials in lower tax brackets) and this figure would rise to 20% in 2011 if nothing is done to extend the tax cut, or make it permanent. On the other hand, dividends taxes are currently maxed out at 15% and will rise to 39.6% next year if nothing is done by Congress.
Why This Matters: A capital gain occurs when you sell a capital asset for a higher price than you purchased it. When you do this, you trigger a taxable event that will result in a payment to the IRS the April after you sold your asset. On the other hand, dividends are distributions made by a company out of their net income. In the U.S., companies experience double taxation of dividends - when they earn their income and when shareholders report their personal income (even though the amount is from the company's after-tax earnings). Higher capital gains and dividends taxes discourage investment because more of the capital that should be flowing to you is instead flowing to the government. This in turn hurts economic growth because less capital is in the hands of investors who could use it to stimulate economic activity with spending.
With upwards of 60% of American households now owning stock, bonds, mutual funds or the like, higher capital gains and dividends taxes will affect all classes of people. Millennials will be hit especially hard because our long-term investment horizons will now have less of a capital base to compound upon as we pay more in taxes. For example, assume that you pay taxes at the highest marginal rate and earning $5,000 in dividends this year. Come April, you will cut a check to the government for $750 so you take in $4,250 after-tax. Next year, you would only take in in $3,020 as you will have to pay a 39.6% dividend tax!
What to Do: While the tax changes going into next year are still quite uncertain, if you are sitting on a large capital gain or two, consider selling some of your position so that you will pay a lower rate on that gain this year. However, make sure the capital gain can be classified as long-term (the security is held over 1 year), otherwise, you may have to pay even more. As for the potential dividend tax increase, it may be a good idea to hold any serious income-producing investments in a tax-free Roth IRA so that you will be shielded from a potential tax increase going into 2011.
2010 has proven to be a politically volatile year and much of the debate around the country today centers on tax policy. As it stands, President Bush's tax cut package in 2003 is set to revert on January 1, 2011 so that everything from higher marginal income tax rates, as well as dividends and capital gains tax rates are all set to increase if Congress doesn't act before the end of the year to extend them.
From the Gen Y investor's standpoint, the news is very disheartening because both dividends and capital gains taxes could be on the rise. Today, the top tax rate on capital gains is 15% (and most likely less for millennials in lower tax brackets) and this figure would rise to 20% in 2011 if nothing is done to extend the tax cut, or make it permanent. On the other hand, dividends taxes are currently maxed out at 15% and will rise to 39.6% next year if nothing is done by Congress.
Why This Matters: A capital gain occurs when you sell a capital asset for a higher price than you purchased it. When you do this, you trigger a taxable event that will result in a payment to the IRS the April after you sold your asset. On the other hand, dividends are distributions made by a company out of their net income. In the U.S., companies experience double taxation of dividends - when they earn their income and when shareholders report their personal income (even though the amount is from the company's after-tax earnings). Higher capital gains and dividends taxes discourage investment because more of the capital that should be flowing to you is instead flowing to the government. This in turn hurts economic growth because less capital is in the hands of investors who could use it to stimulate economic activity with spending.
With upwards of 60% of American households now owning stock, bonds, mutual funds or the like, higher capital gains and dividends taxes will affect all classes of people. Millennials will be hit especially hard because our long-term investment horizons will now have less of a capital base to compound upon as we pay more in taxes. For example, assume that you pay taxes at the highest marginal rate and earning $5,000 in dividends this year. Come April, you will cut a check to the government for $750 so you take in $4,250 after-tax. Next year, you would only take in in $3,020 as you will have to pay a 39.6% dividend tax!
What to Do: While the tax changes going into next year are still quite uncertain, if you are sitting on a large capital gain or two, consider selling some of your position so that you will pay a lower rate on that gain this year. However, make sure the capital gain can be classified as long-term (the security is held over 1 year), otherwise, you may have to pay even more. As for the potential dividend tax increase, it may be a good idea to hold any serious income-producing investments in a tax-free Roth IRA so that you will be shielded from a potential tax increase going into 2011.
Friday, September 10, 2010
Watch for High-Fee Advisors (Even if Indexing)
Index fund expert Richard Ferri has an excellent article on Forbes.com where he points out that of the 20,000 or so fee-only advisors who manage portfolios for individuals like you or I, roughly 3,000 or so advocate index investing.
Ferri in turn lambastes some of those same fee-only advisors for being hypocrites:
"Unfortunately, many passive advisors talk the talk but don't walk the walk. They preach low-cost, but it doesn't apply to their own advisor fee. Many passive advisors will berate the brokerage industry and the fund companies for charging high fees, and then stick their clients with the same high fees for investment advice and portfolio management."
Basically, if you're investing with a fee-only advisor to avoid the onerous brokerage commissions and transaction costs associated with a stockbroker or pay-as-you go financial "advisor", then you should expect to pay a reasonable, flat fee. Ferri explains that, "A fair fee for servicing a $1 million client should be no more than $5,000 annually, which is 0.50%, and that includes basic personal finance advice."
I agree with him here and any fee nearing 1% seems outrageous to me. After all, in a portfolio that's almost entirely indexed, you'll likely have most of the legwork done once your investment policy is implemented, provided you re-balance yearly and stick to a passive strategy.
Passive investing is key because you can invest in a cost-efficient, headache-free manner. There will be no reason to constantly call your advisor inquiring about a falling stock position or what to do if you feel that you are overweighted in a certain asset class. Provided you formulate an investment policy that works well for you, the advisor's job will be to provide a quarterly and/or annual review and to manage the portfolio (which will take up less time with an indexed portfolio). Thus, Ferri is right - there's no reason to pay an exorbitant fee to a fee-only advisor who advocates passive investing since there's little further value added in the process!
"Unfortunately, many passive advisors talk the talk but don't walk the walk. They preach low-cost, but it doesn't apply to their own advisor fee. Many passive advisors will berate the brokerage industry and the fund companies for charging high fees, and then stick their clients with the same high fees for investment advice and portfolio management."
Basically, if you're investing with a fee-only advisor to avoid the onerous brokerage commissions and transaction costs associated with a stockbroker or pay-as-you go financial "advisor", then you should expect to pay a reasonable, flat fee. Ferri explains that, "A fair fee for servicing a $1 million client should be no more than $5,000 annually, which is 0.50%, and that includes basic personal finance advice."
I agree with him here and any fee nearing 1% seems outrageous to me. After all, in a portfolio that's almost entirely indexed, you'll likely have most of the legwork done once your investment policy is implemented, provided you re-balance yearly and stick to a passive strategy.
Passive investing is key because you can invest in a cost-efficient, headache-free manner. There will be no reason to constantly call your advisor inquiring about a falling stock position or what to do if you feel that you are overweighted in a certain asset class. Provided you formulate an investment policy that works well for you, the advisor's job will be to provide a quarterly and/or annual review and to manage the portfolio (which will take up less time with an indexed portfolio). Thus, Ferri is right - there's no reason to pay an exorbitant fee to a fee-only advisor who advocates passive investing since there's little further value added in the process!
Thursday, September 9, 2010
How to Post Good Results in a Recession
Today, fast food giant McDonald's (MCD) announced that their U.S. sales metric was up 4.6% in August as consumers flocked to the Golden Arches to buy McDonald's new frappe and fruit smoothie lines. As an investor, this news interests me for two main reasons: 1). In July, McDonald's saw U.S. sales rise 5.7% so they are continuing to post great sales figures even in the face of extremely slow economic growth 2). Both consumers and investors are "buying what they know" when they purchase the new menu items at McDonald's, as well as shares of its stock.
McDonald's is a great example of a company that produces goods that are price inelastic - consumers will not change their buying habits when it comes to Big Macs, frappes and the like even though prices increase. These goods are seen as convenient and McDonald's has been tremendously successful at integrating their new line of McCafe items to compete with the likes of Starbucks and the other big coffee chains.
The old investing adage goes "buy what you know"; basically, this theory says that you should stick to investing in companies which make products that you both understand and use on a daily basis. It seem as if the recession led investors to do just that, as McDonald's is up 56.4% (excluding dividends) since the heart of the financial crisis in September 2007. On the other side, consumers are doing the same thing in devouring McDonald's new McCafe line and buying large numbers of hamburgers and french fries as today's U.S. sales numbers indicate.
McDonald's is a great example of a company that produces goods that are price inelastic - consumers will not change their buying habits when it comes to Big Macs, frappes and the like even though prices increase. These goods are seen as convenient and McDonald's has been tremendously successful at integrating their new line of McCafe items to compete with the likes of Starbucks and the other big coffee chains.
The old investing adage goes "buy what you know"; basically, this theory says that you should stick to investing in companies which make products that you both understand and use on a daily basis. It seem as if the recession led investors to do just that, as McDonald's is up 56.4% (excluding dividends) since the heart of the financial crisis in September 2007. On the other side, consumers are doing the same thing in devouring McDonald's new McCafe line and buying large numbers of hamburgers and french fries as today's U.S. sales numbers indicate.
Wednesday, September 8, 2010
Millennials Shun Stocks...To Their Detriment
Yesterday, CNNMoney highlighted a recent report by the Investment Company Institute that concluded, "Today, only 22% of investors under the age of 35 say they're willing to take on a substantial level of risk" and therefore prefer investments like low-yielding certificates of deposit (CDs) and government bonds over stocks.
Nothing could be more disheartening to me as a Gen Y investor advocate because this means that Gen Y lacks fundamental investing knowledge that will result in long-term financial success. First and foremost, investing in stocks via a diversified basket of index funds should not be considered "substantially risky" - in fact, if millennials approach this correctly, they could erase almost all non-systemic risk inherent in their portfolios. Yes, all forms of investing carry some type of risk, but stock investing via index funds mitigates a large amount of that risk because the portfolios are well-diversified, low cost and eliminate the potential for individual investors to make bad individual stock picks.
Secondly, by parking their capital in CDs and government bonds, millennials are foregoing precious years of investment compounding that could be occurring and instead will see much of their interest gains erased by inflation should they stay in these securities for the long-term. Think about it this way. If you start out with $10,000 and the stock market returns 7% on average for the next 50 years, you will end up with $294,570 before expenses and taxes. If you instead invest that $10,000 in a combination of CDs and bonds and only earn 2% on average over the next 50 years (after inflation), you will end up with $26,916! The difference is stark!
Lastly, this story indicates to me that most respondents were completely scared out of stocks due to the recent financial crisis. Instead, just the opposite should have occurred: investors should have taken the opportunity to add to their existing index fund positions at a vastly lower entry point than what they initially bought in at. Sure, there will be some bumps along the way as we saw beginning in late 2007. In the future, we will experience prolonged downturns, recessions and events that we may never have anticipated. However, what hasn't changed is the fact that the stock market remains the greatest wealth creator available to individual investors provided we utilize it appropriately and keep costs low.
Gen Y still lacks the basic investing knowledge required to establish a secure financial future. This article and the study by the Investment Company Institute that it highlights should spur Gen Y into action but helping them recognize their own mistakes. Now is the time to be investing for your future - via index funds and a well-diversified portfolio of dividend-paying stocks - not by parking a large amount of cash in a savings account.
Nothing could be more disheartening to me as a Gen Y investor advocate because this means that Gen Y lacks fundamental investing knowledge that will result in long-term financial success. First and foremost, investing in stocks via a diversified basket of index funds should not be considered "substantially risky" - in fact, if millennials approach this correctly, they could erase almost all non-systemic risk inherent in their portfolios. Yes, all forms of investing carry some type of risk, but stock investing via index funds mitigates a large amount of that risk because the portfolios are well-diversified, low cost and eliminate the potential for individual investors to make bad individual stock picks.
Secondly, by parking their capital in CDs and government bonds, millennials are foregoing precious years of investment compounding that could be occurring and instead will see much of their interest gains erased by inflation should they stay in these securities for the long-term. Think about it this way. If you start out with $10,000 and the stock market returns 7% on average for the next 50 years, you will end up with $294,570 before expenses and taxes. If you instead invest that $10,000 in a combination of CDs and bonds and only earn 2% on average over the next 50 years (after inflation), you will end up with $26,916! The difference is stark!
Lastly, this story indicates to me that most respondents were completely scared out of stocks due to the recent financial crisis. Instead, just the opposite should have occurred: investors should have taken the opportunity to add to their existing index fund positions at a vastly lower entry point than what they initially bought in at. Sure, there will be some bumps along the way as we saw beginning in late 2007. In the future, we will experience prolonged downturns, recessions and events that we may never have anticipated. However, what hasn't changed is the fact that the stock market remains the greatest wealth creator available to individual investors provided we utilize it appropriately and keep costs low.
Gen Y still lacks the basic investing knowledge required to establish a secure financial future. This article and the study by the Investment Company Institute that it highlights should spur Gen Y into action but helping them recognize their own mistakes. Now is the time to be investing for your future - via index funds and a well-diversified portfolio of dividend-paying stocks - not by parking a large amount of cash in a savings account.
Tuesday, September 7, 2010
Beware of Correlation Risk
I've long touted the benefits of diversification - spreading your "eggs" (assets) over many baskets (asset classes/securities) so that the destruction of one does not bring down your portfolio of "eggs" as a whole. One thing Gen Y must keep in mind is that there can be plenty of correlation risk in the assets that you hold. When the financial crisis hit in late 2007, investors realized that when both the financial markets and economy take a dramatic turn for the worse, a majority of assets are going to suffer together. As a result, they will likely move in tandem for a decent amount of time before the correlations begin to fade as the problems clear up.
Thus, take today's post as a quick reminder to avoid buying too many assets that have strong correlations. By this, I mean that it's a good idea to spread your money around a variety of different asset classes whose correlations may not be that strong. For example, if you buy the Vanguard Total Stock Market Index (VTSMX) for exposure to domestic equities, it may not be a bad idea to add an international index fund which traditionally has lower correlations with domestic equities. As we saw in 2007, this strategy won't always be perfect, but as a disciplined long-term investor, it will help shield you from any short-term blip dragging your broader asset allocation down for the long-term.
Thus, take today's post as a quick reminder to avoid buying too many assets that have strong correlations. By this, I mean that it's a good idea to spread your money around a variety of different asset classes whose correlations may not be that strong. For example, if you buy the Vanguard Total Stock Market Index (VTSMX) for exposure to domestic equities, it may not be a bad idea to add an international index fund which traditionally has lower correlations with domestic equities. As we saw in 2007, this strategy won't always be perfect, but as a disciplined long-term investor, it will help shield you from any short-term blip dragging your broader asset allocation down for the long-term.
Friday, September 3, 2010
One of Wall Street's Worst Creations
Yesterday, The Wall Street Journal highlighted "130/30 mutual funds" that were popular leading up to the financial crisis in mid-2007 but have since fallen out of favor with investors, given their high amounts of leverage and lackluster track record.
I remember hearing about these funds back in 2007 and thought they defeated the purpose of what mutual fund investing should be: a low-turnover, disciplined implementation of an investment policy predicated on achieving long-term returns. Instead, 130/30 funds aim to invest $100 by going "long" in stocks, hoping they will rise, and shorting - betting against - $30 worth of stocks using borrowed shares. It gets much worse, though! The funds then take the proceeds from their $30 of shorts and go long $30 more worth of shares to make a total of $160 in bets on various stocks in two vastly different forms. You don't need me to tell you why that much leverage can seriously hurt you should the market turn sour.
Worse still, these expensive funds have had terrible risk-adjusted returns and investors are fooling themselves if they think that these funds offer anything more than a clever marketing ploy. For example, the MainStay 130/30 Core C (MYCCX) is just one of the options investors have should they choose to add the 130/30 model to their portfolio. It won't be fun trying to recoup the high expenses and 1% load, though. In light of these fees, this fund would need to earn 3.35% per year just to break even!
If the active portfolio managers of your typical mutual fund fail so often at beating a benchmark index, what makes people think that a juiced-up and riskier version of this costly model will succeed? It doesn't and it won't. The Journal says that, "From March 6, 2009, through Aug. 13 of this year, when the S&P rose 47%, the seven funds that weren't liquidated or merged out of existence gained an average of 41.2%, compared with 43.4% for their long-only siblings." That begs the question: What exactly are investors paying for?
I remember hearing about these funds back in 2007 and thought they defeated the purpose of what mutual fund investing should be: a low-turnover, disciplined implementation of an investment policy predicated on achieving long-term returns. Instead, 130/30 funds aim to invest $100 by going "long" in stocks, hoping they will rise, and shorting - betting against - $30 worth of stocks using borrowed shares. It gets much worse, though! The funds then take the proceeds from their $30 of shorts and go long $30 more worth of shares to make a total of $160 in bets on various stocks in two vastly different forms. You don't need me to tell you why that much leverage can seriously hurt you should the market turn sour.
Worse still, these expensive funds have had terrible risk-adjusted returns and investors are fooling themselves if they think that these funds offer anything more than a clever marketing ploy. For example, the MainStay 130/30 Core C (MYCCX) is just one of the options investors have should they choose to add the 130/30 model to their portfolio. It won't be fun trying to recoup the high expenses and 1% load, though. In light of these fees, this fund would need to earn 3.35% per year just to break even!
If the active portfolio managers of your typical mutual fund fail so often at beating a benchmark index, what makes people think that a juiced-up and riskier version of this costly model will succeed? It doesn't and it won't. The Journal says that, "From March 6, 2009, through Aug. 13 of this year, when the S&P rose 47%, the seven funds that weren't liquidated or merged out of existence gained an average of 41.2%, compared with 43.4% for their long-only siblings." That begs the question: What exactly are investors paying for?
Wednesday, September 1, 2010
Time to Dollar Cost Average?
Welcome to September! In watching this morning's pre-market futures action, I was taken with how much of a jump there was in the Dow & S&P 500 futures, even in the face of bad economic news on the home front. Will one month change confidence that much? This morning's sour domestic economic news was that the latest ADP payroll survey reported that 10,000 jobs were shed last month. If we were still in August, that type of news might hammer the market because investor confidence remains weak over the economic uncertainty.
Instead, in a sign of just how global our economy is, encouraging reports out of China and Australia about economic growth there have propelled stock prices this morning. Perhaps this morning's rally, however short, signifies that longer-term asset buyers are returning to the market (we can only hope!)
While I shy away from making any calls on the attractiveness of assets, it's hard not to point out that right now, conventional wisdom is very negative in the equities markets - many people think stocks are likely to fall further from the early July lows we saw on the S&P. The P/E on the S&P 500 ETF, the S&P 500 SPDR (SPY), stands at 13 indicating the equities are cheap on that basis. So, what's my advice? Now is as great of a time as any to dollar cost average (DCA) into an index fund portfolio that you are holding for the long-term.
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