.gif) |
|
|
|
|
|
|
|
May 7th, 2012
I come across investment bloopers all the time in my line of work – I’m a
Fee-Only (no products sold) Certified Financial Planner®. From what I can see,
many bloopers are a “perfect storm” – a combination of opportunistic product
sales combined with a lack of understanding by clients. How does this happen?
The standard of care by brokers and some advisors who sell products is a
“suitability” standard – not the better fiduciary standard that requires an
advisor to put a client(s)’ needs first. According to the “suitability”
standard, products are fine if they’re “suitable” for the client – but
“suitable” is a slippery slope that leads to investment bloopers.
Note: These investment bloopers are true; identifying information and
situations have been completely changed.
Blooper #4: Dan and Miranda don’t know how much their broker charges
them each year – and why he’s keen to recommend certain
investments:
Dan and Miranda have $2,000,000 of investment accounts with an advisor. They
don’t know anything about A, B and C mutual funds – they don’t pay attention to
the “A,” “B” or “C” alongside the name of each mutual fund holdings. Their
broker invested $500,000 in “A” shares – these generated up to $28,750 (5.75%)
in front-end commissions to the broker (note: fees were deducted from Dan and
Miranda’s initial pool of funds – they weren’t aware the initial $500,000 seed
money began at $473,750 because of the 5.75% front-end loads). Their broker
invested another $500,000 in “B” shares – they didn’t know B shares have a
surrender penalty so they’re stuck another 3 years and can’t move out of these
investments without penalty. Finally, their broker put the $1,000,000 balance in
”C” shares – these pay $10,000 each year to their broker (1% fee on $1,000,000
- again, fees are deducted from their net return so they don’t see or feel
them).
Conclusion: Pay attention to “A,” “B” and “C” designations mutual funds. Make
sure you understand what they cost you – brokers say they explain fees to
clients but this couple has no memory of having these explained to them.
Unfortunately, confusion about fees is very typical.
Blooper #3: Jerry has variable annuities he wasn’t aware he
owns:
Jerry has IRA accounts with a friendly advisor who sells products. Jerry told
the advisor he was worried about outliving his retirement assets. The advisor
agreed to “help provide a comfortable retirement” and explained these
investments are “safe.” Jerry didn’t really understand what he was signing but
he trusted his advisor.
When Jerry engaged an independent advisor to review his investments, he was horrified to discover he had purchased variable
annuities with surrender penalties! The advisor who sold these to Jerry did NOT
tell Jerry she earned a tidy $8,000 in commissions by putting him into $200,000
of variable annuities (4% commission on $200,000 = $8,000) and did NOT tell
Jerry these annuities would cost him 3% per year in fees that are deducted from
his investment return (= $6,000 per year on $200,000 – deducted from his
return).
Conclusion: Jerry was advised by his new independent advisor Jerry to exit
these variable annuities when the surrender penalty ends in 2014. Once he
unwinds these annuities in 2014, his funds remain in his IRA but now Jerry has
access to low-cost investment alternatives.
Blooper #2: Susan ended up in a hedge fund she doesn’t
understand:
Susan’s brother, a Fee-Only Certified Financial Planner® took a look at her
brokerage statement and discovered Susan had 25% of her investment portfolio in
an obscure hedge fund that has declined by more than 1/3 vs. her initial
purchase price. Susan will retire in 5 years – the broker obviously didn’t pay
attention to Susan’s comments that she can’t stomach much investment risk.
Conclusion: Susan confirmed this investment is free of surrender penalties;
she has decided to cut her losses due to the high risk. Since this position is
in a taxable account, Susan can “harvest” the investment loss (use it to offset
capital gains elsewhere — or carry over $3,000/year for the rest of her life).
If Susan retained this fund in her IRA, she would consider the pros and cons of
selling in consultation with an independent investment advisor.
Blooper #1: Janice and Bill don’t know what their ideal portfolio
should be (e.g. 40% stocks, 60% bonds/cash) and they don’t know how their
current portfolio is positioned:
Broker XYZ provided Janice and Bill with a patchwork of various investments.
They don’t understand what they’re invested in, and don’t know if their
portfolio is too risky for them. Janice checks the value on statements each
month and is pleased if the portfolio is “up” for the month. She trusts Broker
XYZ to handle things.
Conclusion: Janice and Bill had a Fee-Only financial advisor review their
existing holdings, determine their risk tolerance, determine the kind of
portfolio that best funds their financial goals, weeds out inappropriate
investments and gets them on the right portfolio track. The advisor periodically
rebalances their investments so they stay on track.
Are you experiencing any of these investment bloopers? Get a 2nd opinion from
a knowledgeable financial advisor who doesn’t mix products with advice – a
Fee-Only advisor!
Copyright (C) 2012 by Eve Kaplan
Tags: A, B and C mutual fund loads, confusion about investing, fee transparency, variable annuities
Posted in Fee-Only Financial Planning, Investing, Investments | No Comments »
January 15th, 2012
Do your New Year’s Resolutions include “losing weight” and “getting more exercise”? Do they also include “better financial health?” They should! Getting a handle on financial health can be challenging, however.. Here are 2 things to consider:
1. Join my free January workshop to review steps toward financial health. This workshop will be held on Wednesday, January 25 at 7:30 pm at the Berkeley Heights Public Library.
2. Decide if you can get through these “financial health” steps on your own (a minority of folks) or if you need professional support.
Most folks can’t necessarily diagnose and treat their own medical conditions – and the same applies to financial planning.
Here’s an outline of the 12 Step Approach to Financial Health in 2012:
Step 1 (January): “Paper Chase”
• Create neat, organized files for your insurance, estate planning documents (if you have them), investments (after-tax and tax-deferred), etc.
Step 2 (February): “Location, Location, Location”
• Consolidate your brokerage accounts (12 is not better than 2).
• Consolidate investment accounts by identifying overlapping/redundant investments. I’ll review some resources (e.g. www.morningstar.com) to help in this area.
Step 3 (March): “Follow the Money”
• Add up all monthly or annual income sources (earned income, Social Security/pensions, other income), then deduct all expenses
• Are you in the Red? Black? Did you include mandatory savings if you’re not yet retired?
Step 4 (April): “Outliving Assets?”
• Add up your assets (property, investments, collectibles)
• Add up your current and future liabilities (mortgages, credit card debt, future obligations [e.g. college, possible support to other family members])
• Do you know if your net worth is sufficient to generate decades of retirement?
Step 5 (May): “Be Credit-Worthy”
• Track your annual credit score
• Consolidate and pay down CC debt in a way that makes sense
Step 6 (June): “Be Tax Savvy”
• Minimize taxes on investments by holding more of some investments in tax-deferred accounts (e.g. real estate, some bonds, commodities)
• Tax harvest before each year end to offset investment gains
Step 7 (July): “Insurance Wrap-Up”
• Do you have the best policies (life, disability, long-term care)to cover what you need – but don’t cost an arm and a leg?
• Is your family adequately protected from the risk of your unexpected illness or death?
Step 8 (August): “Sound Retirement Investing”
• Understand and utilize your employer retirement plan
• Roll up and consolidate plans from old employers
• How to utilize your retirement plans before and during retirement
Step 9 (September): “Investment Smarts”
• Know the A, B and Cs of mutual fund investing (different types of commissions)
• Retain more of your hard-earned money by paying a broker less (no more A, B and C charges!)
• Understand simply portfolio diversification techniques
Step 10 (October): “Estate Planning”
• What are the essential estate documents you need?
• How often should your estate documents be revised?
Step 11 (November): “Reality Check List”
• Has your financial health improved by taking these steps? Or did you fall off the wagon half-way through?
Step 12 (December): “Putting It All Together”
• Match realistic expectations with results
• Can you go it alone or do you need professional help? How do you find the right advisor for you?
Realistically, the majority of people cannot execute these steps alone. Review this list and see if you fall into that majority group. If you do, consider work with a Fee-Only (no products sold) advisor who will guide you through these steps in an objective manner that doesn’t mix advice with product sales. The right Fee-Only planner will access the situation, provide solutions to close planning gaps and hold you accountable to execute necessary changes.
Copyright © 2012 by Eve Kaplan
Tags: budgeting, cash flow, estate planning, insurance, retirement planning
Posted in Fee-Only Financial Planning, Fiduciary Standards in Financial Planning, Financial Planning, Investments, Retirement Planning | No Comments »
December 13th, 2011
How much money can you safely withdraw from your investments once you retire?
This is a subject of wide debate in the financial planning world as our country’s 78 million baby boomers start turning 65 this year. This “withdrawal rate” simply refers to how much you can tap from your investment assets to avoid running out of money before you die. The approach is designed to allow you to withdraw money each year while leaving your principal intact.
For example, if you start with $1,000,000 at retirement and withdraw 4% per year ($40,000), you skim a $40,000 annual gain off the top of your $1 million investment portfolio and always have the $1,000,000 principal until the end of your life. This implies the $1 million keeps growing by 4.2% each year (you need more than a 4% increase to return to $1 million).
Being able to live off interest while retaining your $1 million principal is valuable even if the purchasing power of your principal declines each year with inflation. In other words, your $1 million initial retirement account might only be worth the equivalent of $300,000 after 30 years, but having the equivalent of $300,000 is still a great financial cushion to help keep you from running out of money.
Unfortunately, we don’t live in the predictable world that facilitates an automatic 4% withdrawal rate because markets move up and down, tax rates change, your financial needs change and investments sometimes disappoint. You no longer can simply set the dial at e.g. “4% withdrawal per year” and be assured you won’t run out of money in 30 years.
Here are some things to consider, based upon recent research:
1. People are living longer and longer. It’s not overkill to assume you easily can live another 30 years if you retire at age 65.
2. You can’t control where markets will land the year you retire and begin tapping your investment nest egg. If you had a few bad years before you turn 65, you might start retirement with $900,000 instead of the $1 million you intended. How much you have at retirement also depends upon your portfolio mix in the years leading up to retirement. You should consult with a financial planner or investment specialist to determine your optimal mix.
3. Once you retire, you need to adjust your withdrawal rate “as you go” – depending upon how markets did the previous 3 years. The Wall Street Journal refers to this strategy as “the accordian strategy.” If the market hits a bear market bottom (note: this may not always be obvious), you trim your withdrawal amount by 25% for the coming 3 years. Michael Kitces, a planning strategist, recommends tracking the S&P 500 P/E (price earnings ratio) to determine if the market is overvalued, fairly valued or undervalued. On that basis, he increases or decreases recommended withdrawal rates within a 4.5% to 5.5% range. This approach has been effective in recent years when tested with a 60% stocks, 40% bonds portfolio.
4. Some specialists recommend an even lower withdrawal rate (as low as 2.5% for a moderately conservative 40% stocks/60% bonds portfolio). This means you withdraw $25,000 per year (2.5%) instead of $40,000 per year (4%). Of course we’re talking about pre-tax amounts.
5. One strategy at retirement is to set aside 3 years of cash reserves (what you otherwise would draw from your investments) so you always can suspend your annual withdrawals from your $1 million if markets hit the skids.
We haven’t discussed the fact that you need to pay taxes on what you withdraw (ordinary income tax rates if it comes from an IRA, or capital gains tax if funds come from an after-tax account). You may need significant other sources of income (social security, pensions, savings) to fund retirement. And then there’s the corrosive power of inflation; you need to withdraw more and more each year in order to keep pace with purchasing power. Finally, our example of $1 million doesn’t go very far toward covering retirement in more expensive parts of the country – you may need multiples of $1 million in addition to social security and a pension (if you’re lucky enough to have one).
As you can see, determining your ideal withdrawal rate is no trivial matter. If you’re calculations indicate you may be coming up “short,” alternatives include retiring later, adjusting your portfolio over time or spending less in retirement. It’s best to seek professional advice if you have doubts or concerns!
Copyright © 2011 by Eve Kaplan
Tags: withdrawal rates in retirement
Posted in Financial Planning, Investing, Investments, Retirement Planning | No Comments »
November 21st, 2011
by Eve Kaplan, Certified Financial Planner(R)
Do you – or someone you know – move in and out of investment holdings in order to “boost your return”? If you do, it’s worth considering the downside. Studies consistently show that market timing (you go into investments when they seem good, exit when they don’t) undermines your ability to make investment progress.
Consider the fact that retail (individual) investors typically flee from markets when the bad news already is reflected in prices, and typically try to climb back in when prices already have moved higher. Instead of buying low, selling high, individual investors tend to do the opposite.
I have an excellent graph that illustrates this point – but I’m not able to overcome technical difficulties and print it here (very irritating!)…so I’ll ask you to use your imagination. As you know, the market fell out of bed in September 2008 (good-bye Lehman Brothers, hello imploding mortgage market). The graph I can’t post shows a steady outflow of individual money in mutual funds as the S&P 500 hit bottom (March 2009) and continued to rise into 2011. As the market is rising, individual investors continue to bail out of stocks.
So who’s driving the market higher? It’s often institutional money (pension funds, professional money managers) who have clients with staying power. This institutional money effectively works to block the natural tendency toward panic selling The proxy for this staying power is Dimensional Fund Advisors but it could be any institutional investor who didn’t try to “market time.” (full disclosure: I use Dimensional Fund Advisors mutual funds for my assets-under-management clients).
Here’s another example of the damage others inflicted on their investment returns when they tried to time markets. Remember the Fidelity Magellan Fund? This fund returned a stellar 29% per year (1977-1990) under Peter Lynch’s tenure but Lynch apparently once said he felt more than half of the Magellan Fund shareholders lost money, based upon fund inflow/outflows. By now you must know the reason why… Smart money doesn’t exit when the going gets tough – it rides problems out, continues to invest for the future and racks up a better return over time.
Copyright © 2011 by Eve Kaplan
Tags: financial investing, investment returns, investment timing, market underperformance, trying to beat the market
Posted in Investing, Investments | No Comments »
August 25th, 2011
by Eve Kaplan, CFP(R) Practitioner
Imagine you’re on a train headed for California. You know the train ride will take some time. You know the train will slow or stop at stations, accelerate to a certain speed, ascend to higher elevations, descend again and hit some switchbacks.
You plan on riding all the way to California, but you get motion sickness when you hit a series of switchbacks and you feel the train descending rapidly. Do you: 1) continue your journey or 2) jump from the moving train mid-way?
I hope you answered “continue my journey” and didn’t say “jump from a moving train”! Or should I say – I hope you stick with your investment strategy and don’t bail (panic) by selling into lower markets when they begin to decline?! Because – like all journeys – investing in stocks (US, overseas markets) is not always smooth. However, stocks can get you to your destination: a nest egg that carries you through retirement.
Why not bail on stock markets when you hit a rough patch? For one, it may be easy to exit the market (jump from the train) but how do you get back on board? One of my investment rules of thumb is – don’t do what your gut tells you to do. When markets become choppy, volatile and uncertain, there’s certain to be an overabundance of negative news in the media. If you actually listen to it, your gut feeling will tell you “jump from the train!” But that’s exactly the wrong thing to do, at the wrong time, for the wrong reason.
Here are some things to ponder before you consider jumping from any train:
1. You will have a smoother ride if your portfolio is prudently constructed and well diversified. Exposure to various stock markets (US large, mid and small, international developed, emerging, growth and value) reduces the pain of hitting a speed bump. Add various types of bonds, commodities, real estate investment trusts and alternative investments, and your ride is relatively smooth.
2. Occasionally this system breaks down (e.g. during the 2008 meltdown) and it seems like there is no save place to hide. That experience is temporary because the benefits of diversification resurface.
3. If you live into your 90s, you may have 20-50 more years on your train ride. It makes no sense to jump from a moving train (react to the market short-term) if you’re in it for the long haul.
4. Studies show individual investors typically earn a fraction of their promised rates of return because they hop in and out of holdings –usually at the wrong time. Poor timing means they rack of transaction fees and end up “buying high and selling low.”
5. Rebalancing your portfolio (selling outperforming investments, buying more underperforming investments) can contribute to a smoother ride (better return). If your model portfolio is 60% stocks/40% bonds now, and market movements change this to 55% stocks/45% bonds, consider gradually buying more stocks/selling more bonds until you get back to your optimal 60% stocks/40% bonds portfolio.
If you work with a good investment advisor/financial planner, you’ll have someone prevent you from following your gut reaction to “jump from the train.” If you don’t work with anyone, consider utilizing professionally managed portfolios at Vanguard, Fidelity, T. Rowe Price, etc. Once you find the portfolio that’s right for you, stick with it through market turbulence. Having your investments rolled up in a one-stop-shop will help you avoid the temptation of jumping from the moving train.
Copyright © 2011 by Eve Kaplan
Tags: asset class diversification, dos and donts in investing, investing dos and donts, long-term investment planning, market timing, market volatility, rebalancing, staying the course in investing
Posted in Investing, Investments, Retirement Planning | No Comments »
|
|
Eve Kaplan, CFP®
