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May the source be with you, but remember the KISS principle ;-)
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This is ad-hoc bibliography collected mainly from mainstream (you can call it "yellow", if you wish ;-) press. Recommendations including expressed on this page should treated very critically.
Among mainstream media recommendations I would like to single out John Waggoner, a personal finance columnist for USA TODAY. He has nice no-nonsense approach and some of his recommendation not only have perfect sense but were extremely well timed. For example, he recommended to cut the share of high yield bonds in Dec 2006. High-yield market "crushed" in summer of 2007: spreads widen dramatically due to "subprime" mess (actually a solvency crisis).
Robert Shiller in the past made several pretty accurate forecasts of major economic events and it might make sense to read his columns.
| "It is well enough that people of
the nation do not understand our banking and monetary system, for if
they did, I believe there would be a revolution before tomorrow morning."
Henry Ford |
November 11th, 2009 | The Big Picture
Here’s something that oughta give the marketing wizards at traditional Wall Street firms a heart attack: Timing beats buy and hold, according to a study by finance professors at the New York University Stern School of Business.
I doubt its pure timing — my best guess is, the fund managers involved more likely used aggressive risk management tools and capital preservation strategies. To the unknowing, these look like timing but are not.
The profs found that fund managers who invest based on macroeconomic trends — and are willing to adjust their portfolios as those trends change — are the managers most likely to add value for investors.
How you define “macroeconomic trend changes” and the basis of portfolio adjustments is a key factor — one that is not delineated all that clearly:
“By analyzing data from January 1980 through December 2005, the study identified the top 25% of actively managed equity mutual funds based on their ability to select stocks during expansionary economic periods. The report noted that this same group showed proficiency at market timing during recessions as well.
This group outperformed other funds in both risk-adjusted terms and after expenses, according to the study.”
Cash has beaten stocks for the past 10 years; Even worse, Bonds have beaten Stocks since 1966. To me, this suggests that an active asset allocation program (rather than pure market timing) is the way to go for most high net worth investors.
Despite the weak stock performance, expect massive pushback on this from the long-only, fully-invested, fee-based actors on the street.
Already, we see critiques from Morningstar. Russel Kinnel, the director of mutual fund research, carped that “the 1980s were littered with funds that blew up because managers tried to follow macroeconomic trends.”
The Street will this line of thought tooth and nail, but given the horrific performance if the LOFIFB firms, they have their work cut out for them . . .
The article below first appeared in our Washington Post column yesterday. I’m reproducing it in full here because there is an important correction, thanks to a response by Andrew Biggs. I’ve fixed the mistake and added notes in brackets to show what was fixed. Also, I want to append some additional notes about the data and some issues that didn’t fit into the column.Recent volatility in the stock market (the S&P 500 Index losing almost 50% of its value between September and March) has led some to question the wisdom of relying on 401(k) and other defined-contribution plans, invested largely in the stock market, for our nation’s retirement security. For example, Time recently ran a cover story by Stephen Gandel entitled “Why It’s Time to Retire the 401(k).”
However, the shortcomings of our current retirement “system” predate the recent fall in the markets, will not be solved by another stock market boom. The problems are more basic: we don’t save enough, and we don’t invest very well.
We ran several scenarios of what a typical two-adult household that entered the job market last year at age 22 might expect to receive on retirement at age 65 in 2051. For each scenario, we assumed that our household would earn the median amount for its age group every year. We began with data from the U.S. Census Bureau on 2008 earnings by age group, and assumed that real incomes would grow by 0.7% per year (the average growth rate for the 1967-2008 period). According to analysis by Andrew Biggs, medium earners typically accumulate Social Security benefits equivalent to 52% of their pre-retirement income, which comes to $40,265 per year. (All figures are in 2008 dollars.) For our scenarios, we used different estimates of the household’s savings rate and of the rate of return it would earn on its savings. [Correction: I initially used the online Social Security Social Security benefits calculator, which says it provides estimates in "today's dollars," but actually uses wage-indexed dollars. See Biggs's explanation of the difference.]
For the first scenario, we assumed the average economy-wide savings rate of 2.4% over the last ten years (1999-2008) and a real rate of return of 6.3% — the long-term average real return for the stock market. (In his book Stocks for the Long Run, Jeremy Siegel calculates the annual real rate of return from 1871 to 2006 as 6.7%; updating that figure through 2008, we get 6.3%.) At retirement, this yields accumulated savings of $298,064. Today, a 65-year old couple could convert $298,064 into a joint life annuity of $18,467 (we did an online search for annuity rates), meaning that they would receive that amount each year (not indexed for inflation, however) as long as either person were still alive. (Anything other than buying an annuity is gambling that you won’t outlive your money.) $18,467 is only 24% of the household’s income at age 64. Combined with Social Security, the couple would receive $58,732 per year, or a respectable 76% of its pre-retirement income of $77,432. [Correction: Originally this was 59%; all later figures were also 17 percentage points too low.]
Savings were unusually low over the past decade. The current savings rate (first three quarters of 2009) is 3.6%. Plugging this into our spreadsheet, we get an annuity of $28,092 and retirement income of $68,357, or 88% of pre-retirement income.
But this overlooks the fact that people do not earn the rate of return of the stock market. Even assuming that people are investing in stocks, most do so via stock mutual funds which, on average, do worse than the stock market as a whole. For example, in the 1990s the average diversified stock fund had an annual return 2.4 percentage points lower than the Wilshire 5000 Index (which reflects the performance of the overall market). The main reason for this underperformance is that mutual funds have to pay fees to their managers — who, on average, do not earn those fees through superior stock-picking (to put it mildly).
If we use a 3.9% annual return instead of a 6.3% annual return, now our annuity is only worth $15,347 per year, and combined with Social Security our household is only earning 72% of its pre-retirement income. But wait — it gets worse.
The average investor in mutual funds does not even do as well as the average mutual fund. The reason is that investors tend to chase returns. They take money out of funds that have recently done badly and move it into funds that have recently done well. Because of mean reversion (the tendency for trends away from the average to return back to the average), this means they take money out of funds that are about to go up and put it into funds that are about to go down. Among large blend stock funds (the category that includes S&P 500 index funds), research from Morningstar shows that the gap between mutual fund performance and investor performance ranges from 0.9 to 2.2 percentage points, depending on fund volatility. (It can be much higher — over 10 percentage points — for other types of funds.)
Taking an average gap of 1.6 percentage points, our expected annual returns are now just 2.3%. Now our cumulative savings are only $172,853 and our annuity is only $10,709; combined with Social Security our household is only earning 66% of its pre-retirement income.
Now, you can get close to that 6.3% expected return through a simple strategy: buy a stock index fund and don’t touch it. But this has another problem — you are 100% invested in stocks, the riskiest of the major asset classes. Whatever your expected cumulative savings, there is a 50% chance that your actual savings will be lower, and they could be a lot lower.
Since we’re talking about survival in old age, ideally our household would not take any risk at all. The closest you can get to this is to invest in inflation-protected Treasury bonds. 20-year TIPS (Treasury Inflation-Protected Securities) currently yield 1.96% on top of inflation. [Note: In the Post column I used 2.4%, the yield at the latest auction; however, that was back in July, and long-term bond yields have come down since then, so this is the current yield according to Bloomberg.] This provides a final annuity of $9,925; combined with Social Security, that’s 65% of pre-retirement income. That’s not very much. And the only way to get higher returns is by taking on risk.
Bear in mind that we’re assuming that Social Security will be around in its current form, as will Medicare (or else seniors will have sharply higher health care costs than they do today). Also, we’ve made a number of optimistic assumptions along the way: that life expectancies do not increase by 2051 (this would reduce the annuity you can get with the same savings); that median-income households save money at the average rate for all households, which is untrue (richer households save at a higher rate, making the average savings rate higher than the median savings rate); and that the savings rate is constant over age (since older people in fact save at a higher rate, the money has less time to build up). In addition, we haven’t started talking about below-median households, who save at a lower rate. [Note: I assumed you can get an annuity yielding 6.2%, from this online site; Biggs, who probably knows better than I, uses 5.4%, which yields lower annuities for the same amount of savings.]
The problems, in short, are that we don’t save enough and we don’t invest very well. One could argue that these are a matter of choice. People could save more, and they could make smarter investing decisions. But given that they don’t, we could very well see tens of millions of seniors without enough money to live decently in retirement. Given that prospect, perhaps we should question leaving retirement security to individual choices and free markets.
***
Andrew Biggs argues that the numbers show that the retirement system is doing OK. After all, if you assume just a 2.4% savings rate and a 6.3% real return, you get 76% of your pre-retirement income. The system is doing better than I thought it was before Biggs pointed out my error, but that’s almost entirely due to Social Security. Social Security is replacing 52% of pre-retirement income (not 35% as I initially calculated) and private savings are replacing anywhere from 13% to 24%, depending on the scenario. I think the 13% scenario is the most accurate, since is the lowest-risk option; anything else is not retirement saving, it’s retirement gambling.
Biggs also thinks (email to me) that my savings rates are too low, especially with auto-enrollment into 401(k)s on the rise. This is a plausible point; we don’t really know where the savings rate will end up after this recession. If the median worker is auto-enrolled in a 401(k) — and, even better, if he gets an employer match — he may be OK. Then we may be talking about a problem that affects a significant number of lower-income households (who are less covered by 401(k)s and employer matches than higher-income households), though not the median household.
This is the spreadsheet with the scenarios. WordPress.com won’t let me upload an Excel file, so I embedded it in a Word file and uploaded that.
There’s a legitimate question about 2008 vs. 2051 living standards. For example, in our most pessimistic scenario, we still end up with an annuity of $50,190 in 2008 dollars. That might not seem so bad. After all, median income in 2008 was only $53,303, and this is all in real terms, right? However, I don’t think that’s the right approach to take. Living standards will improve on average between now and 2051, and therefore an income of $50,190 2008 dollars will feel very different in 2051 than it felt in 2008. This is why I think the right comparison is to pre-retirement income; that tells you the drop in living standards that people will suffer at retirement. (In practice, most people probably won’t buy annuities, and won’t adjust their living standards down immediately — but that just means they have a higher chance of outliving their money.)
Another possible objection is that we’re leaving out capital gains from housing. Even if the average return that investors get from stock mutual funds is only 2.3%, the fact is that many people invest in their houses and seem to get higher returns. However, I think that we can’t count on these higher returns. First, these returns are largely a product of leverage and subsidized interest rates; real housing prices underperform the stock market. Second, a given house doesn’t really change in real value (the utility it provides to people), even if its price changes; in general, its value goes down, unless you put money into it for maintenance and improvements. If the price of equivalent houses goes up in real terms, that just means that (on average) one generation of home owners is taking money from the next generation of home buyers in the form of higher prices. In other words, it’s a multi-generational Ponzi scheme that can’t go on forever. Third, of course, not everyone owns a house.
In doing the research for this column I came across a paper by Andrea Frazzini and Owen Lamont called “Dumb Money: Mutual Fund Flows and the Cross-Section of Stock Returns.” They find that, at least when looking at historical data, you can make money by doing the opposite of what investors do with their mutual funds. That is, money flowing into mutual funds is a valid predictor that the stocks in those funds will, on average, go down relative to the market. The real beneficiaries are corporate issuers of stock, who are able to issue stock at high prices when demand for it is high. I also like the way they put their findings into context: “These facts pose a challenge to rational theories of fund flows. Of course, rational theories of mutual fund investor behavior already face many formidable challenges, such as explaining why investors consistently invest in active managers when lower cost, better performing index funds are available.”
Finally, I hate making mistakes. So I wholeheartedly endorse Biggs’s call for the Social Security Administration to fix its misleading calculator.
By James Kwak
spencer
By using current real data you are ignoring inflation that would make the situation worse than you describe.
You are assuming a savings rate of 2.4%.
If you ignore inflation that yields a constant saving stream in real terms.
But in an inflationary environment of for example 2% to 3% annually, and go back and apply a 2.4% savings rate to nominal earnings some 20 years the dollar savings you get are only about half of current earnings in real terms. To achieve the 2.4% average real savings in an inflationary environment in savings rate in earlier years has to be higher to offset the impact of inflation on averages wages.jake chase
When you assume the financial future will be roughly like the past, you disregard the sea change in financial markets caused by swaps and OTC derivatives: over leveraged risk is a guerrila army bearing nuclear grenades moving in quantum jumps through the investment landscape. They can blow up anywhere, any time. Exposure is entirely hidden. No published financial statement of any bank or public corporation is anything but a trap for the gullible, a convenient fiction, an outright fantasy. Any investment decision is nothing but a bet, and we might as well all be monkeys throwing darts at the financial pages.
In the past ten years, a stock index fund returned nothing. To the extent corporations achieved growth in profits, the dough was siphoned off in executive stock options. Today, you get nothing in government bonds, unless you want to take thirty year risk. If you want a good investment, buy a laundromat (and a gun).Tom S
I think the biggest mistake in your estimate is that you assume people will begin saving at age 22. From what I have seen of the typical college graduate, they will often spend maybe six months unemployed and often spend the first couple of years paying off debt and getting on their feet. Alternatively, there are many young people (like myself) getting graduate degrees which means more years of no saving. If I did such a calculation I would assume no saving begins until at least age 25, maybe 28. This will really crunch your already low values.
Even after suffering significant losses last year, many remain overly optimistic about their investment returns and the ability of their savings to fund their expenses after they stop working.
... ... ...
Perhaps even more startling is the extent to which their savings are falling short of their goals. On average, these pre-retirees expected they would need $800,000 to fund their retirement. However, most had only saved about $300,000.
Despite their inadequate savings, nearly two-thirds of the group lack any formal plans for retirement savings or spending strategies.
Of the 35 percent of those who had a written plan for retirement, only slightly more than half — about 52% percent — say they had updated it in the past year during the market downturn.
A friend sent this along, and we thought it was worth publishing an extended excerpt. This is Part 1 of the essay, and we look forward to Part Two – Managing Your Own Money – Take Action Now.
That is really the challenge isn't it. Most people are financial non-specialists. Their lives are full enough as it is, with things that they understand and that are important to them.
Too often the call to 'take control of your own money' is a prelude to 'and buy into my advice, what I wish to sell to you.'
Financial advice is a difficult thing to provide in a blog. It would be like a doctor writing a prescription for the public at large, fitting for some, inappropriate for others, potentially deadly for a few. This is why I do not do it. Ever.
The prescription I use for my personal situation is the most that I will share, in addition to general opinions and analysis of the markets and the economy. I am 58 years old, and have amassed a fair amount of savings over the past twenty years. My general rules for the current period now are:
1. Get liquid. Have little or no debt. Be in cash and diversified. Reduce living expenses to essentials.
2. Get as far away as you can from Wall Street and riskier assets as is practical.
3. Put something you can spare from discretionary retirement savings into long term assets that are not directly contingent on anyone else whom you cannot trust:a. Personal food production, preservation, and preparation4. Above all be flexible. If this stagflation we are in becomes a protracted deflationary spiral or an emerging hyperinflation, both possible outcomes, we will see it happening and may need to adjust. This is where being light on debt and long on liquidity is most helpful. There is no one right plan for the unexpected, ever.
b. Precious metals as insurance against monetary inflation / breakdown
c. Essentials for daily living and personal health care
d. Investments in practical education
e. Personal infrastructure and efficiency
f. Have a contingency plan for a systemic shock.
If you have 401k plans you cannot cash in, you might consider some very long term 'leap' puts to hedge them. But Cash or short term Treasuries is preferable. I have all my discretionary cash scattered across several very highly rated banks within FDIC limits. I have some money available for investment in foreign currencies although I have cashed in my loon and aussie dollar positions now. I have sold some 'collectible assets' that might have done very well if we get a prolonged period of high inflation similar to the 1970's in order to raise cash levels. I may regret this, but so be it. The cash can be deployed as the situation develops. Cash can otherwise be kept your home currency which you use on a daily basis, as long as it is safe and liquid.
If you wish raise your voice or to peacefully demonstrate, be prepared with a simple set of coherent positions and specific demands, avoiding anger. The mainstream media likes nothing better than to portray demonstrators as cranks or fools. In general they are not sympathetic to the less powerful. They will not lead change, but they will eventually follow.
Try to avoid squabbling amongst yourselves. When the reformers fight over fine points and petty egotistical issues, the status quo rejoices, often formulating and encouraging the bickering. Debate television where no serious discussion occurs, but plenty of sound bites and ad hominem attacks get thrown, is the model for media distraction. But it 'works' for the short term opportunists, and generally adds to the bread and circuses atmosphere masking an historic wealth transfer and the decline of an empire, as it has done in the past.
And as always, the banks must be restrained, and the financial system reformed, and balance restored to the economy before there can be any sustained recovery.Reality Arbiter
The Extinction of Ethics in Finance – The Falloutby Greg Simmons
October 13, 2009
"...To revisit my original intention in writing this article, I cannot stress to you the importance of understanding exactly what is going on in the world. No one is to be trusted with your money. Not Wall Street, not the banks, not the government – nobody is to be trusted! Does the investing public not realize that Wall Street almost lost every penny of American wealth? Now we’re supposed to believe they’ve saved the day? I beg to differ. Those parasitic liars nearly took us to zero. Who knows, they still might.
The grossly deluded public has been at the mercy of brokers, financial advisors, Wall Street, the Fed, congress, and the US Treasury far too long. This moral hazard and subsequent uneven playing-field created by the current financial structure (the trifecta of the Fed, Treasury, and the “Banksters”) wherein the scales of balance tip only upward, hence siphoning this nation’s wealth into the coffers of those that create such hazards. Their current solutions to this crisis, a crisis of their own making, is nothing more than a replication of the same idiotic practices that got us here in the first place; corporate bailouts, homebuyer tax-rebates, foreclosure moratoriums, cash-for-clunkers, all designed to forego the inevitable sanctification of sins past and deliver them on to the US taxpayer.
The difference between the past and present is that now we have a government willing to set up shop and take over entire industries; mortgage lending, auto, banking, and who knows going into the future. Just wait, we’ll be in the airline business in no time. I feel like I’m in a perpetual state of Déjà vu - with a repeat of September 2008 barreling headlong around the next bend.
That we exist in a quasi public-private financial system wherein the government in collusion with the Fed and the “Banksters” take your money essentially by force (specifically through the leverage of ZIRP) or otherwise and shove it into new toxic instruments, bailouts, and ill-conceived stimulus programs that even these so-called best-and-brightest have no concept of the inherent risks, or hazard of unintended consequences, is proof that the entire game is rigged against you.
It is time to take control of your money.
Now, with regard to the subject of managing one’s own money, the rules of the game have officially changed. The EXTINCTION OF ETHICS in today’s financial markets IS the new rule. You must take total responsibility for the management of your own money and you must do it now! I don’t know how to make it any more clear. I could probably write an entire thesis about the utter abandonment of morality by today’s so-called investment community. I mean, does everybody have to cheat each other to make a dollar? The subject literally brings into question the human thread that binds our social fabric together.
Given the dire state of the global economy and the fact our collective economic situation has gotten significantly worse, not better, creates an opportune time to shift any misplaced philosophy of trust in a corrupt system and recognize that we’re in the middle of a COVER-UP, NOT A RECOVERY!
A comment I always appreciated and have tried to take credit for but know I plagiarized from somewhere is this; ANTICIPATING BAD LUCK IS GOOD LUCK; DEPENDING ON GOOD LUCK IS BAD LUCK. This so-called recovery is merely a papered-over facade made possible by trillions of newly created dollars. The time to prevent getting thrown back into the ditch is now. Remember, do not fall victim to the CNBC-induced epidemic of economic amnesia."
Can you make the risk of stocks go away just by owning them long enough? Many investors still think so.
"Over any 20-year period in history, in any market, an equity portfolio has outperformed a fixed-income portfolio," one reader recently emailed me. "Warren Buffett believes in this rule as well," he added, referring to Mr. Buffett's bullish selling of long-term put options on the Standard & Poor's 500-stock index in recent years. (Selling those puts will be profitable if U.S. stocks go up over the next decade or so.)
As the philosopher Bertrand Russell warned, you shouldn't mistake wishes for facts.
Bonds have beaten stocks for as long as two decades -- in the 20 years that ended this June 30, for example, as well as 1989 through 2008.
Nor does Mr. Buffett believe stocks are sure to beat all other investments over the next 20 years.
"I certainly don't mean to say that," Mr. Buffett told me this week. "I would say that if you hold the S&P 500 long enough, you will show some gain. I think the probability of owning equities for 25 years, and having them end up at a lower price than where you started, is probably 1 in 100."
But what about the probability that stocks will beat everything else, including bonds and inflation? "Who knows?" Mr. Buffett said. "People say that stocks have to be better than bonds, but I've pointed out just the opposite: That all depends on the starting price."
Why, then, do so many investors think stocks become safe if you simply hang on for at least 20 years?
In the past, the longer the measurement period, the less the rate of return on stocks has varied. Any given year was a crapshoot. But over decades, stocks have tended to go up at a fairly steady average annual rate of 9% to 10%. If "risk" is the chance of deviating from that average, then that kind of risk has indeed declined over very long periods.
But the risk of investing in stocks isn't the chance that your rate of return might vary from an average; it is the possibility that stocks might wipe you out. That risk never goes away, no matter how long you hang on.
The belief that extending your holding period can eliminate the risk of stocks is simply bogus. Time might be your ally. But it also might turn out to be your enemy. While a longer horizon gives you more opportunities to recover from crashes, it also gives you more opportunities to experience them.
Look at the long-term average annual rate of return on stocks since 1926, when good data begin. From the market peak in 2007 to its trough this March, that long-term annual return fell only a smidgen, from 10.4% to 9.3%. But if you had $1 million in U.S. stocks on Sept. 30, 2007, you had only $498,300 left by March 1, 2009. If losing more than 50% of your money in a year-and-a-half isn't risk, what is?
What if you retired into the teeth of that bear market? If, as many financial advisers recommend, you withdrew 4% of your wealth in equal monthly installments for living expenses, your $1 million would have shrunk to less than $465,000. You now needed roughly a 115% gain just to get back to where you started, and you were left in the meantime with less than half as much money to live on.
But time can turn out to be an enemy for anyone, not just retirees. A 50-year-old might have shrugged off the 38% fall in the U.S. stock market in 2000 to 2002 and told himself, "I have plenty of time to recover." He's now pushing 60 and, even after the market's recent bounce, still has a 27% loss from two years ago -- and is even down 14% from the beginning of 2000, according to Ibbotson Associates. He needs roughly a 38% gain just to get back to where he was in 2007. So does a 40-year-old. So does a 30-year-old.
In short, you can't count on time alone to bail you out on your U.S. stocks. That is what bonds and foreign stocks and cash and real estate are for.
In his classic book "The Intelligent Investor," Benjamin Graham -- Mr. Buffett's mentor -- advised splitting your money equally between stocks and bonds. Graham added that your stock proportion should never go below 25% (when you think stocks are expensive and bonds are cheap) or above 75% (when stocks seem cheap).
Graham's rule remains a good starting point even today. If time turns out to be your enemy instead of your friend, you will be very glad to have some of your money elsewhere.
Write to Jason Zweig at intelligentinvestor@wsj.com
Comments
The hypothetical scenario of an investor with a $1 million portfolio who retired at the peak of the market in 2007 assumes that he was invested entirely in stocks and was taking monthly withdrawals by liquidating stocks month to month at a 4% withdrawal rate. This would be ill advised under any situation, as the article implies.
Retirees planning to draw down their portfolios must maintain at least three to five years of withdrawals in cash or short term bonds (ideally, using a bond ladder over five years). This reduces, but does not eliminate, the risk of having to liquidate stocks at a bad time. Once this is accomplished, all that remains is the need to not panic during market declines and avoid the temptation to sell out at lows.
If the investor with a $1 million portfolio simply had a ladder of bonds representing spending for years 1 to 5 in the amount of $200K in total (five years of $40K withdrawals), he could have invested the remaining $800K in more volatile assets without risk of having to liquidate at the March 2009 lows. [ Why take additional risk if you a million ? -- NNB]
I believe that this is precisely why Ben Graham stated that investors should have a limit of 75% stock allocation - he knew that having more than that in a portfolio intended to be drawn down over time could result in poorly timed forced sales of stock.
This was a very timely article and maybe in the future the five year ladder concept could be fleshed out in more detail. That would be a practical example and actionable plan for retirees concerned with volatility.Well said. If you pay 1.4% to a fund you are giving them 14% of your expected return of 10%. Most people don't tithe that much to their church, why give it to a big financial firm that is not going to equal the indexes.
If someone is afraid of individual stocks, look at plain vanilla index ETF's.
Note: The Supreme Court is getting ready to rule that investors don't have the right to object to obscene fees in court; that its the exclusive jurisdiction of the directors appointed by the people charging the obscene fees to decide if the fees are "fair" even if twice what they would charge in a competitive situation. Oh and you have to pay a 12b-1 fee too to pay for the marketing to lure in new investors so that the firm doesn't have to pay its own marketing costs.
The 10% average return is a compound geometric return which is only achieved by reinvesting all dividends, something the average financial advisor failed to understand in the 1990's. Once you start taking distributions you do not have reinvestment. The long term rate of return for appreciation only, without reinvesting dividends is only about 6%. Financial planners have been arguing the rate of return you can "safely" withdraw since the 2000 crash. If you don't get it from a dividend or interest payment you shouldn't spend it unless its an emergency because you are dipping into principal.
The next big issue may be bonds for those that buy bond mutual funds which never mature. If interest rates spike, holders of long-term bond funds will have losses similar to that of stocks. With the huge budget deficits and the rest of the world getting tired of the ever shrinking vallue of the dollar, some smart people think its when, not if. If you want bond income, do not buy funds, buy individual issues so that you know when you will get your principal back.It's important to note that almost all financial advisers would like to bury this column under the Titanic - and for good reason. The mantra of buy-and-hold has been a financial fiction for as long as I can remember. And I agree the the last two sentences offered by Dean Anderson. I'll take it one step further: Insist that your market broker or financial adviser place either stop-limit or stop-market orders on your entire stock portfolio. The sad truth is that many brokers and advisers failed to protect client accounts from the catastrophic market sell-off in March. If your broker or adviser can't - or won't - service your accounts properly, it's time to fire them and find a new one that can. Fool me once, shame on you. Fool me twice, shame on me.
With today's agency society arrogating to itself far too large a share of market returns, the outlook for future individual retirement savings is dire.
The amazing disappearance of the individual stockholder as the backbone of the U.S. stock market has been one of the least recognized but most profound trends of the last half-century. As shown in the chart nearby, direct ownership of stocks by American households has declined from 91% in 1950 to just 32% today. The 9% ownership stake held by financial institutions in 1950 crossed the 50% mark in 1983, and now totals 68% of all stocks. It is hard to imagine that our earlier society dominated by individual stock ownership will ever return.
![[Going, Going...]](http://s.wsj.net/public/resources/images/ED-AD435_bogle10022005160412.gif)
Of course, individual investors remain major participants in the stock market, but now do so largely through mutual funds and public and private pension plans. But such participation lacks the traditional attributes of ownership such as selection of individual stocks and engagement in the process of corporate governance.
* * *
But aren't our financial institutions owners of stocks? Not really. They are owners in name -- agents, in fact, with a duty to act on behalf of their principals, including our mutual fund owners and beneficiaries of our retirement plans. Today's agency-dominated investment society is overwhelmingly composed of those two groups of underlying owners.
At first, the march toward institutionalization was led by pension plans. Holding less than 1% of all stocks in 1950, they shot up to 19% in 1980 and 27% in 1989-95, only to ebb to today's level of 21%. Growth in mutual-fund ownership, on the other hand, was stagnant in the early years, holding at 3% in 1950 and 1980 alike, rising to just 8% by 1990. Since then, fund ownership of stocks has risen relentlessly to a record high of 28% currently. Within the pension segment, public plans are holding steady while private pension plans are gradually receding. But the secular decline in defined-benefit pension plans has been matched by an offsetting rise in defined-contribution thrift and savings plans in which mutual funds are the major component. So today's dominant stock ownership by mutual funds seems destined for continued growth.
Institutional investing is now largely the business of giants. America's 100 largest money managers alone now hold 58% of all stocks. When such a relative handful of professional managers substantially displaces a diffuse group of millions of inchoate individual investors, one might have expected the managers to more aggressively assert their rights of stock ownership and demand more enlightened corporate governance focused on shareholder interests. With few notable exceptions, however (some state and local pension plans, unions, and TIAA-CREF), our institutional investors have refrained from active participation in corporate affairs.
What explains the passivity of these institutions that in fact hold effective control over corporate America? First, too many of our financial agents have their own interests to serve, often conflicting with the interests of their investor-principals. It is a truism that principals are likely to watch over their own money with far more care than they take in watching over the assets entrusted to them as the agents of others. When there are many masters to serve, it is the master who pays the servant whose interests are most likely placed front and center. Corporate pension plans, for example, are controlled by the same executives whose compensation is based on the earnings they report to shareholders. During the 1990s, they arbitrarily raised their projections of future pension plan returns, enhancing operating earnings to meet "guidance" targets, even as interest rates tumbled and prospective returns eroded.
Similarly, mutual fund managers are compensated by separate corporations seeking to maximize the return on their own capital (i.e., to enhance their own wealth), in direct conflict with their duty to maximize the returns on the capital entrusted to them by their fund shareholders. The excessive advisory fees, expenses, hefty sales loads, and huge commissions on portfolio transactions paid to brokers in return for their sales support consumed something like 45% of the real returns earned on fund portfolios during the past two decades.
Second, unlike their predecessors in the '50s and '60s, financial institutions focus on investment strategies that emphasize short-term speculation in evanescent stock prices, rather than traditional long-term investing based on durable intrinsic corporate values. From 1950 to 1965, equity mutual funds turned over their portfolios at an average rate of 17% per year; in 1990-2005, the turnover rate averaged 91% per year. The old own-a-stock industry could hardly afford to take for granted effective corporate governance in the interest of shareholders; the new rent-a-stock industry has little reason to care.
To further complicate matters, today's typical giant private financial institution -- managing both pension plans and mutual funds -- faces serious conflicts in its exercise of the rights and responsibilities of ownership. When a proxy proposal is opposed by the management of a corporate client, the money manager is unlikely to vote in its favor. It is not surprising, then, that governance activists among large private money managers are conspicuous not merely by their scarcity but by their absence. And it gets worse. Today, it is difficult to separate the owners from the owned. Through its defined-benefit pension plans, corporations own 12% of all stocks, and dominate another 11% through defined-contribution savings plans. What is more, most of our largest money managers are themselves now owned by giant financial conglomerates. Arguably, this circularity of ownership allows corporate America to control itself.
The problems created by this new and conflicted world of financial intermediation are hardly trivial. Excessive return projections for pension plans have played a major role in creating the current shortfall of $600 billion in private pension plan liabilities relative to plan assets. The shortfall in public plans has been estimated at $1.2 trillion, bringing the total deficit to $1.8 trillion, and rising. Individual retirement savings are also at dangerously low levels. Only 22% of workers participate in 401(k) savings plans and only 10% in IRAs (9% have both). Despite having had a quarter-century-plus to build assets in these tax-sheltered plans, investors have accumulated balances of but $33,600 and $26,900 per participant respectively, a trivial fraction of what would be required for a decent retirement.
With today's agency society arrogating to itself far too large a share of market returns, the outlook for future individual retirement savings is dire. A citizen entering the work force today has an investment horizon of at least 60 years. If the stock market were to earn an average nominal return of 8% per year, $1,000 invested today would then be worth $101,000 -- the magic of compounding returns. But if our financial system consumes 2.5 percentage points annually of that total return -- a conservative estimate of today's reality -- that $1,000, growing now at 5.5% net, would be worth just $25,000, a minuscule 25% of the accumulation that could have been obtained simply by owning the stock market itself. The magic of compounding returns, it turns out, is simply overwhelmed by the tyranny of compounding costs at today's exorbitant levels.
The serious shortfalls in retirement reserves that represent the backbone of the nation's savings have arisen importantly because our manager-agents have placed their own interests ahead of the interests of the investor-principals they are duty-bound to serve. Our financial institutions have failed to exercise the rights and responsibilities of corporate citizenship; to adequately fund pension reserves; and to deliver to fund shareholders their fair share of the returns generated by the financial markets themselves.
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Why? Largely because the radical change from an ownership society dominated by individual investors to an intermediation society dominated by professional money managers and corporations has not been accompanied by the development of an ethical, regulatory and legal environment that requires trustees and fiduciaries, as agents, to act solely and exclusively in the interests of their principals. In addition, we have developed a patchwork of tax-deferred retirement programs -- Social Security, corporate and public pensions, deferred compensation plans, 401(k)s, 403(b)s, individual IRAs, and Roth IRAs -- and are now considering the addition of Personal Savings Accounts to the list. We need to undertake a careful appraisal of this often costly mix, and develop an integrated retirement system that will enhance savings.
The overarching need is for a clearly enforced public policy that honors the interests of our citizen-investors and puts these beneficiaries in the driver's seat where they belong. The ownership society is over. The agency (or intermediation) society is not working as it should.
Mr. Bogle, founder and former CEO of Vanguard, is author of "The Battle for the Soul of Capitalism," published this week by Yale.
Living-standard shock
Of course, people's retirement outlooks vary widely. Some 20 million workers still participate in a traditional pension plan, and employers pay pension benefits to millions more retirees (that doesn't even count government-sponsored public plans), according to Boston College's Center for Retirement Research.
Those workers are sitting a lot prettier than the more than half of U.S. families who aren't covered by any kind of pension at their current job, according to the Employee Benefit Research Institute, a nonprofit, nonpartisan group. Still, even a well-prepared person may get thrown off by a job loss or unexpected health-care costs. (Average medical costs in retirement can run into the six figures even for those covered by Medicare, according to EBRI.)
And those lucky people with traditional pensions likely are wondering how long the money will last as the financial crisis shreds employers' ability to fund such plans for the long haul. See related story on PBGC.
Defined-contribution plans such as 401(k)s have largely taken the place of traditional pensions: 67% of workers say they have a DC plan, up from 26% in 1988, while 31% of workers participate in a traditional pension, down from 57% in 1988, according to EBRI.
But, while lower-income workers face a worrisome retirement reality all their own, middle- and upper-middle class workers likely face the biggest living-standard shock. That's because lower-income people can replace a good chunk of their preretirement income with Social Security, and high-income people generally have enough personal savings. But middle-class workers may see their relatively comfortable life change drastically come retirement.
July 20, 2009 | http://globaleconomicanalysis.blogspot.com
From the 2002 bottom until the 2007 market top it was hard to go wrong no matter what you did. Everything from junk bonds to commodities to emerging markets to the major market indices were all headed up. This made people feel they were protected from harm. It was an illusion.
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Off To The Races?
People are expecting it's off to the races again with the rally since May. Not so fast.
Fundamentally the market is very overvalued here. Expected earnings growth is unlikely to happen for many reasons. Clearly that does not preclude a further rally, but the above chart shows what happens to market rallies based on speculation as opposed to fundamentals.
Perhaps the market has bottomed, but perhaps it hasn't. Even if it has bottomed, where is it going? Consumers are 70% of the economy and consumer attitudes toward debt, consumption, and risk taking reached a secular peak. Moreover unemployment is still rising and consumer balance sheets are in shambles.
Nearly 30 years ago James Fries at Stanford University School of Medicine put a ceiling of 85 years on the average potential human life span. More recently a team led by Jay Olshansky at the University of Illinois at Chicago said it would remain stuck there unless the ageing process itself can be brought under control. Because infant mortality in rich countries is already low, they argued, further increases in overall life expectancy will require much larger reductions in mortality at older ages. In Mr Olshansky’s view, none of the life-prolonging techniques available today—be they lifestyle changes, medication, surgery or genetic engineering—will cut older people’s mortality by enough to replicate the gains in life expectancy achieved in the 20th century.
That may sound reasonable, but the evidence points the other way. Jim Oeppen at Cambridge University and James Vaupel at the Max Planck Institute for Demographic Research in Rostock have charted life expectancy since 1840, joining up the figures for whatever country was holding the longevity record at the time, and found that the resulting trend line has been moving relentlessly upward by about three months a year. They think that by 2050 average life expectancy in the best-performing country could easily reach the mid-90s.
Rises in life expectancy have been habitually underestimated because it seemed unlikely that the improvement could go on for ever, and just as regularly the figures have had to be revised soon afterwards. Some experts now think there may be no theoretical limit at all, pointing to the huge rise in the number of centenarians in the past few decades. In America they are the fastest-growing section of the population, with an increase from 3,700 in 1940 to over 100,000 now.
Why are people living ever longer? Robert Fogel at the University of Chicago, a Nobel prize-winner in economics, reckons that improved medical care and technology are only part of the answer. Another part, he thinks, is something he has dubbed “technophysio evolution”. Over the past few centuries humans have developed more resilient physiques because they gained unprecedented control over their environment and their living conditions. Western people’s average body size has increased by 50% over the past 250 years. Larger body size (but not obesity), Mr Fogel’s research has shown, is associated with better health and longer life.
But modern life has its downsides too. Stress is often seen as a life-shortening factor—though perhaps the effects are not as lethal as some people think, or else the Japanese, who are famous for working long hours, would not have the highest life expectancy in the world.
Another hazard of affluence is getting fat. Around 10-20% of the adult population in many rich countries, and over 30% in America, are now clinically obese. Overweight people are at greater risk of cardiovascular and respiratory diseases, cancer, type-II diabetes and other life-shortening ailments—though it is not yet clear whether the effects are strong enough to cancel the trend to greater longevity.
And life expectancy can go down as well as up. In much of eastern Europe it started dropping in the 1980s in response to the upheaval in the region, and despite a subsequent slight recovery it has still not regained the level of the 1960s.
People almost everywhere could extend their life spans further just by doing a few sensible things, such as not smoking, drinking only in moderation, eating lots of fruit and vegetables and taking regular exercise. Educated folk are better at keeping to such rules, and as a group they live markedly longer than those with only basic schooling. Richer people, unfairly, also live longer than less well-off ones, even in the developed world.
But all this is tinkering at the edges. Mankind’s dream has been to conquer ageing altogether, and scientists are working on it. Spare-part surgery to replace worn-out bits of the anatomy is already well-established and will get better with the use of stem-cell technology. For a more general effect, experiments on rodents have shown that a severely restricted but balanced diet can increase their lifespan by about 30%. But nobody knows whether this would work in humans, and even if it did, there might be few takers.
The longer-term hope is to find a way of switching off the ageing process by manipulating the appropriate genes, which in theory could make people near-immortal (though they could still die of accidents and diseases). But if that were feasible, the consequences would need to be carefully thought through. In Jonathan Swift’s “Gulliver’s Travels”, the hero meets a tribe of immortals, the Struldbruggs, who far from being wise and serene turn out to be a miserable lot: “Whenever they see a funeral, they lament and repine that others have gone to a harbour of rest to which they themselves never can hope to arrive.”
Hale and hearty
People in the rich world can now expect to live, on average, more than a quarter of a century longer than they did 100 years ago. Is that a blessing or a Struldbruggian curse? Clearly it depends on whether they become old and frail at the same age as before and just limp on for much longer, or if the extra years are hale and hearty ones.
Most of the evidence supports the more cheerful view. Research led by Kenneth Manton at Duke University found that in recent years disability above the age of 65 in America has been falling significantly. In other rich countries the picture is more mixed. When the OECD recently looked at 12 member countries, it found clear signs of a recent decline in disability in elderly people in only five of them (including America). But other studies produced more optimistic results.
By and large, people do now seem to remain in good shape for longer. Moreover, the period of ill health that usually precedes the final goodbye has got shorter in the past few decades, which demographers call “compression of morbidity” (as a rule of thumb, the bulk of spending on an individual’s health care is concentrated in the last year or two of life, and particularly in the final six months). This compression has a variety of causes, including the shift from manual to physically less demanding white-collar work, rising levels of education and much-improved health care and medical technology, from keyhole surgery to heart pacemakers. Eighty, it is said, is the new 65.
But even fairly fit older people need more health care than younger ones, not least because they often suffer from chronic diseases that are expensive to treat. In the EU, one estimate puts health-care spending on the elderly at about 30-40% of total health spending. So will the better health of an ageing population, good as it has been for so many, impose unaffordable costs on public-health budgets?
Over the past few decades all OECD countries have seen their health spending grow considerably faster than their economies. Ageing populations will add further momentum to that growth. Howard Oxley, a health-care expert at the OECD, reckons that increased spending on health and long-term care for the elderly could amount to an extra three-and-a-half percentage points of rich countries’ GDP by the middle of the century—and a lot more if spending on medical technology continues to go up at current rates.
Measured by spending on health care as a share of GDP, America already tops the list, shelling out the equivalent of more than 15% of GDP (see chart 4). The American government’s health-care spending will be hugely affected by ageing because of Medicare, the state-funded health-care programme for the elderly and disabled, and Medicaid, the programme for the poor (and often also old, because it covers long-term care).
President Barack Obama is determined to reform his country’s health-care system to improve coverage and, eventually, drive down costs. More money does not always produce better results. People in America are less healthy and die sooner than in Britain, which proportionately spends little more than half as much on its health care. According to David Cutler, an economics professor at Harvard who has advised the president on the reform, even doctors believe that around 30% of money spent on health care in America is wasted.
Peter Orszag, head of the Office of Management and Budget, has recently been praising the work of a group of medical experts at Dartmouth Medical School, led by Elliott Fisher, which has been compiling an atlas of regional variations in American medical practice and health-care spending, mainly for people on the Medicare programme. It found that in 2006 Medicare spending varied more than threefold across American hospital referral regions. Again, higher spending does not seem to result in better care or greater patient satisfaction. Because the system has encouraged the provision of lots of doctors, specialists, hospitals and expensive diagnostic kit, all of them are kept busy without much regard to results.
The trouble with health care in America, says Muriel Gillick, a geriatrics expert at Harvard Medical School, is that people want to believe that “there is always a fix.” She argues that the way Medicare is organised encourages too many interventions towards the end of life that may extend the patient’s lifespan only slightly, if at all, and can cause unnecessary suffering. It would often be better, she thinks, not to try so hard to eke out a few more hours or weeks but to concentrate on quality of life.
Take care
But long before they get to that point, growing numbers of old people will become less able to look after themselves and need more care. Across the OECD, spending on long-term care is already equivalent to around 15% of total health spending and is rising fast. The great bulk of that care—an estimated 80%—is still provided by family and friends, the traditional source of support for the elderly. But more women are going out to work, so fewer of them have time to look after old folk and formal help is becoming increasingly important.
In most developed countries only a small minority of over-65s—between 3% and 6%—live in institutions. Keeping old people in nursing homes or hospitals is expensive, staff is hard to find, and in any case most people would much rather be looked after at home. Many countries are now providing grants to adapt homes, paying families for the care they provide and supplying helpers to give a hand with things like dressing and bathing.
With far more people reaching a great age, a lot more such care will be needed in future. How will it be paid for? A few far-sighted countries—including Germany, the Netherlands, Luxembourg and Japan—have already introduced mandatory long-term-care insurance schemes. Others may have to follow.
Jun 11, 2009 | WSJ
Want to know why GM stock is above zero? Look to hedge funds and short-term trading.
Long before the June 1 negotiating deadline, it became quite clear that General Motor s Corp. was headed for bankruptcy. Its debtholders were going to get crushed. The shareholders were wiped out.
Except that they weren't. As the deadline neared, shares of GM did a funny thing: They kept trading at more than $1 each. They didn't disappear.
Last month, shares rose a few pennies during a given trading day and fell a few pennies the next. Taken as a whole, GM shares reflected nearly $1 billion in value that did not exist. Even today, with GM in bankruptcy, the automaker's shares are trading around $1.50.
Market analysts seem baffled, but trading in GM reflects the sea change that's taken place in the markets during the last decade. Simply put, the market has slowly given itself to short-term traders. The traders control volume, and whoever controls the volume controls the price.
The old notion that profitable companies with good growth prospects should have rising share prices -- and that failures like GM should be gone, or at least trading in the pennies -- is history.
Today, a hedge fund investing billions using a quantitative formula can stall a stock; a couple hedge funds aligned can turn a profitable company into a Dow laggard. Toss in a few short sellers and you have the great Wall Street collapse of September 2008.
It wasn't always this way. Before the machines and the shorts took over Wall Street, stocks were evaluated by an underlying company's prospects. Buy-and-hold investing ruled the day. Investors such as Warren Buffett and Bill Miller were the models.
Those fellows are a far cry from this generation's masters of the universe. Traders are in charge now. They rule the market. They dominate volume. That stock you bought because you thought the company was in good shape? It's a pawn in the hands of a computer model or some supertrader like Steven Cohen at SAC Capital Partners or Bridgewater Associates' Ray Dalio.
To move a security, they don't need to own it. They can have a short position. They can put an order to sell 1 million shares in a dark pool, those anonymous marketplaces that operate outside the walls of the exchanges. They can own options or futures contracts. Buy enough GM puts and watch the price begin to fall under the pressure.
Simply having a retirement account is not enough. Much of the discussion this past year has focused on getting more workers to open a 401k. The problem is that the big majority of retirement accounts don't really hold nearly enough money.
According to Bogle's numbers, the median IRA has $55,000 in it. By his calculations, that's enough to provide a steady income of $2,200 a year -- less than $200 a month. That's it.
The typical 401k holds only $15,000. Bogle argues that to reach the level of income they hope for in retirement, Americans need to put 15% of their earnings in retirement accounts for their entire working lives. Very few do.
One of the biggest differences between individual accounts and traditional pension plans is that they transfer what Bogle calls "longevity risk" from pension funds to individuals. What that means in practice is that you need to save more -- a lot more -- in your account than a pension plan would include in order to cover the chance that you'll live to a very old age.
Right now, we have no good solution to this. In theory, you should be able to put your money into an annuity at retirement that'll cover this risk. But as Bogle points out, there are virtually no annuities that will let you do this at a low cost. So now your underfunded retirement account looks even worse.
Selected Comments
UberVandal#4
Wednesday, May 27, 2009 3:07:13 AMOne large elephant in the room that was not discussed is inflation and/or taxes.
All of the money that is being printed by the Feds for various bail outs, stimulus, budget deficits, is going to lead to either higher taxation, or printing of more and more paper ruined with green ink.
In my opinion, I expect to see inflation that will make either Zimbabwe or the Wiemar Republic look fiscally responsible in the near future.
So, what is a discipline anyway? Here are the standard definitions:
- A system of rules of conduct or method of practice.
- The trait of being well-behaved.
It's a process of continually educating yourself and improving your techniques. The truth is that knowledge is power, and, in the world of investing, it's also money.
- Training to improve strength or self-control.
Now, more than ever, we all need to learn to be nimble and flexible. There is no room for lazy portfolios or blindly followed tips. We can't afford to fall in love with any one idea or one stock; cut your losses early, when they're no more than annoyances.
Several financial planners recommend shorter-term fixed-income investments, or at the least making sure your bond investments aren’t heavily tilted toward long maturities, because they are mos.132/search?q=cache:0C86fJ3VQS8J:www.gabrielrobet.com/my_weblog/2008/11/correlation-pitfalls-naive-diversification-and-asset-allocation-strategies.html+naive+asset+allocation&cd=8&hl=en&ct=clnk&gl=us"> Gabriel Robet Correlation pitfalls, naive diversification, and asset allocation strategies
Correlation pitfalls, naive diversification, and asset allocation strategies
Correlation is the heart of modern portfolio theory and most asset allocation strategies, where it measures dependence between financial assets under the assumption of multivariate normally distributed returns, an assumption almost always violated in real life. Kat (2002) shows that for correlation to be a good measure of the dependence structure between the variables involved, it is not enough that each variable is normally distributed, but one must also verify that their joint distribution is normal.
If correlations don't work, investors may employ comparatively unsophisticated strategies for their asset allocation, such as naïve diversification (also called 1/N heuristics: invest the same amount in each asset). Naïve diversification is appealingly simple and usually results in reasonably diversified portfolios. So how well does naive diversification perform against portfolio optimization models? DeMiguel, Garlappi and Uppal (2004) test static naïve diversification against several models of optimal asset allocation and show that the optimizing models have a higher Sharpe ratio in-sample, but naive diversification has a higher Sharpe ratio out-of-sample: the gain from optimal diversification relative to naïve diversification is typically smaller than the loss arising from the error in estimating the inputs to the optimizing models.
Kat (2002). The Dangers of Using Correlation to Measure Dependence.
Download pdf
DeMiguel, Garlappi and Uppal (2004). How Inefficient Are Simple Asset-Allocation Strategies?
Download pdf
What mix of fixed income and equity funds should companies offer in their 401(k) savings plans to prevent participants from investing too conservatively or too aggressively? And how should plans deal with differences in risk aversion across the participant population? Should plans offer different funds based on age of participants, allowing young workers to select aggressive, stock-rich portfolios of funds and older employees to gravitate toward fixed-income funds?
A crucial decision facing retirement savers is how to allocate their savings across broad investment classes, including the choice of how to divide investments between domestic and foreign holdings. This study investigates whether cross-border investing would have been advantageous to U.S. retirement savers in the past. The analysis is based on empirical evidence on asset returns in eight industrialized countries that have reliable historical time series data on stock and government bond returns. The goal is to determine whether U.S. workers would have obtained higher expected retirement incomes, with smaller risk of catastrophic investment shortfalls, if they invested part of their retirement savings in foreign stocks and bonds without hedging the currency risks of their overseas investments. The results show that workers could indeed have increased their expected pensions if they included unhedged foreign assets in their portfolio and if the portfolio were selected from one on the efficient frontier. Under many naïve investing strategies, however, increasing workers’ allocation to overseas assets will not reduce the risk of catastrophically poor investment performance. The tabulations show that the risk of obtaining a very low pension replacement rate actually increases if workers allocate a sizeable percentage of their savings to overseas investments.For executive summary in PDF
For full paper in PDF
NYT
“If another decline in the market is going to bankrupt you or put you out of business or destroy your retirement account, you should not go back into the stock market,” said John C. Bogle, the founder of Vanguard and viewed by many as the father of index investing. “It’s not complicated. The stock market can go up and down a lot and nobody really knows how much and when.”
What’s worked for Mr. Bogle may not work for you, but his method isn’t a bad place to start. “I have this threadbare rule that has worked very well for me,” he said in an interview this week. “Your bond position should equal your age.” Mr. Bogle, by the way, is 80 years old.
... ... ...
As to those investors who got out of stocks, Mr. Bogle said it might be time for some of them to get back in. “But I would take two years to do it,” he said. “Maybe average in over eight quarters, and do an eighth each quarter. I am just not in favor of doing things in a hurry or emotionally.”
And then? “Don’t touch it,” he said, emphatically. “One of my rules is don’t do something. Just stand there.”
... ... ...
There are different ways to invest your cash and bond holdings.
Rick Rodgers, a financial planner in Lancaster, Pa., invests 10 years of annual expenses in a bond ladder, with an equal amount coming due every six months. The ladder can include high-quality corporate bonds, Treasury notes, certificates of deposit or municipal bonds, depending on the retiree’s tax bracket. Mr. Simon takes a similar approach using a 15-year ladder of zero-coupon bonds. He says that investors can start building the ladder in their 50s, with the first rung coming due the year they retire.
Through the end of April, the 10-year annualized return on the S&P 500 was negative 2.5%, according to Standard & Poor's.
Meanwhile, an index fund tracking long-term U.S. Treasury bonds, Vanguard Long-Term Treasury Fund, gained 7.2% annualized over the same period.
There are a handful of options for minimizing 401(k) or IRA early withdrawal penalties, but navigating the rules can be tricky.
May 18, 2009 | Angry Bear
Middle aged men and pensions in the industries. Much wealth has vanished...I notice a lot of apathy among employees such as teachers whose state plans have not declared losses yet except generally. The MA plan declared a 29% "loss" in value, but I have yet to see a clear statement about what the "loss" implies, how much is perhaps permanent as in owning worthless paper, and how current revenue can handle the next few years of retirements of boomers. Can anyone help out in this evaluation?
Selected comments
Noni Mausa replies:
“Jay said: "...It is better for one person's mistake with other people's money to affect thousands of workers, rather than one person's mistake with their own money..."
There's so much wrong with this brief comment that I hardly know where to start.
Chief among them, though, is that it wasn't "one person's mistake" that lost Americans a quarter of their 401(k) investments. It was a network of liars and thieves and incompetents and ideologues, regulated by Lady Justice blindfolded and swordless.
Some companies, it's true, scuppered their pension plans under chapter 11 as the only alternative to complete failure. But many went into chapter 11 as the "neutron bomb" option -- wipe out (their debts to) their people, while leaving the buildings standing. And some never maintained their pension funds in the first place, or raided them for quick cash when they felt like it.
The single key to the mass collapse of the money system was the reduction of fiscal governance in almost all levels and domains.
Now, it is true the market will take care of itself over time. But it won't take care of us. The sea always seeks the lowest level, but this doesn't help when you're drowning.
What will Americans do now, to try to avoid a future skinning like this? They've been shown that in a "I will gladly pay you Tuesday" scenario, Tuesday never comes -- that cash-in-hand is the only pay they can be sure they will get. How would you bargain, Jay, in such a work environment?
Noni
Two notable articles point to a less-than-shapely recovery, while a third leaves at least one reader stirred, if not shaken.[Related content: stocks, investing strategy, economy, gold, Bill Fleckenstein]
By Bill FleckensteinMSN Money
Recently I read three extremely thought-provoking articles. Although none made me want to rush out and buy stocks, they're certainly worth bringing to the attention of my readers.
The first: Jeremy Grantham's latest quarterly letter, headlined "The Last Hurrah and Seven Lean Years" (.pdf file). I encourage everyone to read it, save it and read it a few more times. This is one of the best investment articles I've encountered in my 30 years as a money manager.
Imagining the outcomes
Grantham does a particularly good job of explaining why trying to come up with guesses about market outcomes -- a fool's game that those of us in the business are always engaged in -- is more difficult now than it has been at many junctures in the recent past.I won't try to paraphrase his view on where we are right now because, as he notes, in light of the environment, one has to give one's best ideas a wide berth.
More from MSN Money
- Where you'll see real recovery first
- Why gold prices will keep rising
- Swine fluke or real market change?
- Got gold? You're right on the money
- Thank Uncle Sam for the rally
That said, Grantham does present his own probabilities for various outcomes. He also shares some really interesting insights regarding investment "rigor mortis," a very seductive and dangerous trap that catches nearly everyone on occasion and keeps them from moving when it's time for action.
In addition, he introduces the concept of a recovery that has a "VL" shape, which I find quite interesting. This is an economy "in which the stimulus causes a fairly quick but superficial recovery, followed by a second decline, followed in turn by a long, drawn-out period of sub-normal growth."
Regarding all the stimuli government is handing out, Grantham makes a point that I have thought about but not expressed: Stocks react to stimuli a lot more quickly than the economy reacts.
His expansion of that belief: "If the stock market is many times more sensitive to financial stimulus in the short term than the economy is, then we could easily get a prodigious response to the greatest monetary and fiscal stimulus by far in U.S. history."
May 4, 2009 | msnbc.com
For more than two decades, as income inequality increased and job security decreased, Americans lapped up personal finance columns, books, and television shows. We thrilled to stock tips and swooned at sensible strategies for using dollar-cost averaging to invest in no-load index funds. Buy and hold, my friends! The annualized gain for the S&P 500 stock index over time is more than 10 percent! You, too, can turn into the millionaire next door. Carpe diem, folks! Seize the financial day!
The advice proffered by the vast majority of analysts, would-be gurus, and television pundits came down to one word: stocks. Some, like CNBC's infamous Jim Cramer, advocated stock-picking strategies. Others encouraged mutual funds. But very few — at least of those that could get publicity via mainstream outlets — doubted the efficacy of the market.
That our personal finances weren't fully ours to seize didn't seem to occur to many of us until recently, when the stock market plunged almost 40 percent in a mere year, housing went into free fall, and the unemployment rate began to climb perilously toward double digits. All these facts suddenly left the personal finance industry facing a conundrum of its own making. The backbone of the self-help complex is the idea that you can do it. You. Singular. But what happens when you lose your job and can't find a new one before your six months of recommended emergency savings runs out? Or a good chunk of your retirement income is in the form of a pension from your former employer — and that employer is named Chrysler? What then?
"Personal finance has come to substitute for the role government should play for people," observes Nan Mooney, author of (Not) Keeping Up with Our Parents. "In the past 20 years the myth of the person succeeding on their own has gotten bigger and bigger. This myth is dangerous. It tells you if you can't balance everything and you are in debt, it is your fault."
Sounds harsh, but if you are laid off and at the end of your resources, what other message can you take away from people like mega-personal finance guru Suze Orman, who continues to argue that people's main problem with money is ... emotional. (Orman also urges people to invest for retirement in the stock market, while admitting the bulk of her savings is in municipal bonds.)
Or Jean Chatzky of everywhere from NBC's Today show to Oprah's couch, who helpfully tells people in her latest book, The Difference: How Anyone Can Prosper in Even the Toughest Times, "Overspending is the key reason that people slip from a position of financial security into a paycheck-to-paycheck existence." (Note: Italics original to Chatzky.)
Chatzky forgets to mention that studies have demonstrated the problem most likely to land one in bankruptcy court isn't an addiction to designer clothes but, instead, overwhelming health care expenses.
CNBC.com
"Buy and hold" is an age-old investment strategy that made many people money in years past, but some investment advisers now say that philosophy is a losing proposition. Gerald Jordan, of Hellman Jordan Management; and Jack De Gan, of Harbor Advisory; and Doug Kass, of Seabreeze Partners, discuss.
“We’ve long had a buy and hold strategy, but that’s a strategy only in a secular bull market, which we’re not in right now,” said Jack DeGan of Harbor Advisors. He suggested investors be "more opportunistic around valuations and trade in a core position."
Years ago, when I wrote a popular financial makeover feature for a major national newspaper, one of our subjects asked if he should be plowing his more than $50,000 in savings into gold. It was 1997 and gold was trading at a little more than $300 an ounce. The financial planner assisting with the piece laughed dismissively, and the question never made it into the final write-up. Well, my bad. As I write, gold is hovering around $900 an ounce.For more than two decades, as income inequality increased and job security decreased, Americans lapped up personal finance columns, books, and television shows. We thrilled to stock tips and swooned at sensible strategies for using dollar-cost averaging to invest in no-load index funds. Buy and hold, my friends! The annualized gain for the S&P 500 stock index over time is more than 10 percent! You, too, can turn into the millionaire next door. Carpe diem, folks! Seize the financial day!
The advice proffered by the vast majority of analysts, would-be gurus, and television pundits came down to one word: stocks. Some, like CNBC's infamous Jim Cramer, advocated stock-picking strategies. Others encouraged mutual funds. But very few—at least of those that could get publicity via mainstream outlets—doubted the efficacy of the market.
That our personal finances weren't fully ours to seize didn't seem to occur to many of us until recently, when the stock market plunged almost 40 percent in a mere year, housing went into free fall, and the unemployment rate began to climb perilously toward double digits. All these facts suddenly left the personal finance industry facing a conundrum of its own making. The backbone of the self-help complex is the idea that you can do it. You. Singular. But what happens when you lose your job and can't find a new one before your six months of recommended emergency savings runs out? Or a good chunk of your retirement income is in the form of a pension from your former employer—and that employer is named Chrysler? What then?
"Personal finance has come to substitute for the role government should play for people," observes Nan Mooney, author of (Not) Keeping Up with Our Parents. "In the past 20 years the myth of the person succeeding on their own has gotten bigger and bigger. This myth is dangerous. It tells you if you can't balance everything and you are in debt, it is your fault."
Sounds harsh, but if you are laid off and at the end of your resources, what other message can you take away from people like mega-personal finance guru Suze Orman, who continues to argue that people's main problem with money is ... emotional. (Orman also urges people to invest for retirement in the stock market, while admitting the bulk of her savings is in municipal bonds.) Or Jean Chatzky of everywhere from NBC's Today show to Oprah's couch, who helpfully tells people in her latest book, The Difference: How Anyone Can Prosper in Even the Toughest Times, "Overspending is the key reason that people slip from a position of financial security into a paycheck-to-paycheck existence." (Note: Italics original to Chatzky.) Chatzky forgets to mention that studies have demonstrated the problem most likely to land one in bankruptcy court isn't an addiction to designer clothes but, instead, overwhelming health care expenses.
All in all, these might not be the right messages just now. While Orman's book, no doubt propelled by her continuing celebrity and television show, remains at the top of the New York Times best-seller list, Chatzky's book is languishing listless, a very different fate than the one met by her last book, which was released in a different era—2006, to be precise.
In the current economic climate, a new group of au current advisers is coming to the fore. Many of them, like Peter Schiff, received their initial boost of fame by predicting various aspects of the current meltdown and are now trying to make money by telling people how to survive and thrive in the post-crash world. Schiff's Crash Proof, currently in its 11th printing, urges consumers to buy gold to hedge against coming hyperinflation. At the other end of the spectrum is Martin D. Weiss' recently published The Ultimate Depression Survival Guide. Weiss, a Florida-based investment adviser, advocates that many people should cut their stock losses and sell off, as we are entering a period of deflation.
Online gurus are also seeing spikes. ITulip.com's Eric Janszen says he received 12,000 new subscribers last year. George Ure, a business consultant who runs the free site UrbanSurvival.com and the subscription site Peoplenomics, makes predictions about future events based on a linguistics theory applied to Internet postings and has seen an increase of more than 20 percent in unique visitors year over year. Nonetheless, it's not looking like the new gurus will be any more helpful than their more conventionally minded peers. After all, the online world has been abuzz with accusations that many of Schiff's personal clients suffered losses of between 40 percent to 70 percent in 2008.
Which leads to another question: What's next for personal finance? The past two years have demonstrated over and over again that bad things can happen to good savers and investors. Very few of us have the wherewithal to fund both retirement savings and a large enough emergency fund to sustain us through a bout of unemployment lasting, say, more than a year. No one, it turns out, really knows what an individual stock, mutual fund, or commodity like oil or precious resource like gold will be worth in six months, never mind six years.
Nonetheless, personal finance is unlikely to crawl away and die anytime soon for a simple reason: We think we need it. "We're kind of screwed but we don't have a choice but to take care of ourselves because no one else is helping," admits MSN's personal finance columnist, Liz Weston.
A number of personal finance gurus have been moving, some ever so slowly, over toward the idea of pressuring the government for change. Weston, who has written extensively about what should be and isn't in pending congressional legislation putting brakes on the credit card industry, is begging her readers to contact their representatives about the plan. Others have gotten more ambitious. Schiff used his burst of fame to endorse presidential candidate Ron Paul. Weiss is currently circulating a petition to stop further bank bailouts.
Me, I'd settle for a few mea culpas from our finance gurus. After all, I am aware I owe my gold-loving dude an apology. Unfortunately, I know the planner assigned to the case won't be eating crow any time soon. I recently received a copy of his latest book in the mail. It's all about how if you can just identify your money archetype, financial success will be yours. Oh, and one other thing. The press release quotes him as advising, "Don't rush out to buy gold."
Executive Summary
Impact varies by account balance: ... those with more than $200,000 in account balances had an average loss of more than 25 percent.
Impact varies by age and job tenure: 401(k) participants on the verge of retirement (ages 56–65) had average changes during this period that varied between a positive 1 percent for short-tenure individuals (one to four years with the current employer) to more than a 25 percent loss for those with long tenure (with more than 20 years).
Short-term vs. long-term: While much of the focus has been on market fluctuations in the last year, investing for retirement security is (or should be) a long-term proposition. When a consistent sample of 2.2 million participants who had been with the same 401(k) plan sponsor for the seven years from 1999–2006 was analyzed, the average estimated growth rates for the period from Jan. 1, 2000 through Jan. 20, 2009, ranged from +29 percent for long-tenure older participants to more than +500 percent for short-tenure younger participants.
Recovery time and future stock market performance: This analysis also calculates how long it might take for end-of-year 2008 401(k) balances to recover to their beginning-of-year 2008 levels, before the sharp stock market declines. Because future performance is unknown, this analysis provides a range of equity returns: At a 5 percent equity rate-of-return assumption, those with longest tenure with their current employer would need nearly two years at the median to recover, but approximately five years at the 90th percentile. If the equity rate of return is assumed to drop to zero for the next few years, this recovery time increases to approximately 2.5 years at the median and nine to 10 years at the 90th percentile.
Near-elderly with very high equity exposure: Estimates from the EBRI/ICI 401(k) database show that many participants near retirement had exceptionally high exposure to equities: Nearly 1 in 4 between ages 56–65 had more than 90 percent of their account balances in equities at year-end 2007, and more than 2 in 5 had more than 70 per-cent. As a result of the Pension Protection Act of 2006, many 401(k) plan sponsors appear to be offering lifecycle/ target-date funds, which automatically rebalance asset investments into more "age appropriate" allocations. Had all 401(k) participants been in the average target date fund at the end of 2007, 40 percent of the participants would have had at least a 20 percent decrease in their equity concentrations, and consequently, may have mitigated their losses, sometimes to an appreciable extent.
April 24, 2009 | ETFguide.com (Yahoo! Finance)Millions of mutual fund investors have been sold a pipedream and they don't even know it. Others know it and they simply don't care. If you own mutual funds, isn't it time you found out how your funds have really performed versus corresponding index funds and ETFs?
To that end, Standard & Poor's has just released its analysis of active mutual fund managers compared to S&P indexes. And the data is a stunning blow to all would-be market beaters.
S&P's research discovered the majority of active funds in 8 of 9 major stock categories failed to beat corresponding S&P stock indexes. The S&P 500 (NYSEArca: SPY - News) beat 71.9% of active managers while the S&P MidCap 400 (NYSEArca: MDY - News) and S&P SmallCap 600 (NYSEArca: IJR - News) outperformed 79.1% and 85.5% of managers in matching categories. The data was recorded over a five-year period ending in 2008.
'The belief that bear markets favor active management is a myth,' stated the S&P report. The analysis also revealed similar results of bear market underperformance by mutual fund managers during the last downturn from 2000 to 2002.
What does all of this mean?
It means the statistical evidence continues to show that investors would be better off investing in dumb index funds and ETFs than investing with dumb fund managers.
Rewarding Failure
One of the key problems with mutual fund management is their convoluted business practices of rewarding failure. Instead of punishing bad behavior, they reinforce it. For example, in 2008, Mario Gabelli vacuumed in a $46 million paycheck from GAMCO Investors (NYSE: GBL - News) even though client assets at the firm fell by 33%. Despite the worst economic and market conditions of our generation, Wall Street's fund executives are still cashing in like a bear market never happened. Mr. Gabelli is a Barron's roundtable contributor and he presides over funds such as the Gabelli Equity Trust (NYSE: GAB - News) and the Gabelli Asset Fund (Nasdaq: GABAX - News).
'Having a mutual fund management company is like having a toll booth on the George Washington Bridge all for yourself,' is what Marty Whitman, manager of the Third Avenue Value Fund (Nasdaq: TAVFX - News) told Forbes Magazine. If that's true, it looks like John Bogle's 'Designing a New Mutual Fund Industry' will have to wait a few more decades. Sorry Jack. In the meantime, all investors should immediately start re-designing their own investment portfolios to avoid getting victimized.
Who's Protecting Who?
Instead of protecting mutual fund shareholders as they should be, mutual fund titans have resorted to 4th grade techniques, namely, finger pointing. In a recent letter to mutual fund shareholders, the Chairman of Fidelity Investments Edward C. 'Ned' Johnson III, gave the financial services industry a severe verbal licking.
'Although we ended 2008 better than a number of financial firms, it was a year of painful experience for the financial services industry, a period laced with toxic investment waste and the casual use of other people's money by a number of institutions,' Johnson said.
What Johnson failed to mention in his criticisms was the most interesting of all.
Did you know that Fidelity's fund managers more than doubled their ownership stake of floundering bailout kid, Citigroup (NYSE: C - News) during the fourth quarter of last year? As Citi was sinking, so were Fidelity's equity mutual funds. In 2008, 64 percent of the firm's stock funds were beaten by its peers. I wonder if this is this the 'toxic investment waste' Fidelity's Chairman was referring to.
In contrast, index funds and ETFs have been 'protecting' their shareholders during this vicious bear market. How? Quite simply, by not doubling and tripling up on dead-beat stocks like Citigroup. Now that Citi's market cap has collapsed, so has its rotten-apple influence on the performance of major stock benchmarks that contain it. By design, stocks with the lowest market capitalizations have the least amount of influence on the performance of an index.
The Performance Chasing Mafia (PCM)
There are others who claim they can find mutual funds that do beat the market. I classify them as official members of the performance chasing mafia or 'PCM' for short. They remain utterly defiant (and aloof) about the relevant statistical facts, because they know better.
Take for example, Adam Bold, founder and chief investment officer of The Mutual Fund Store, a chain of 70 fee-only financial advisers. He recently told Bloomberg, 'I'm a believer that by indexing, you're accepting mediocrity. There are a limited number of people who have shown an ability to consistently beat the market year after year.' Earth to Adam! Earth to Adam!
The problem, which Mr. Bold doesn't address, is that it's next to impossible to accurately pre-identify top performing fund managers before they become top performing fund managers. That leaves people like Bold with one choice: To chase historical performance. Investors almost never get what they bargained for and performance chasing advisors get lots of fees. Nevertheless, Bold has made himself a very successful Wall Street career in helping people to identify yesterday's winners, as his $4 billion monstrosity illustrates.
Finding Better Alternatives
Index ETFs are the solution to avoiding underperforming mutual funds. If you don't want to be limited to ETFs that follow S&P stock indexes, there are other excellent choices to consider.
For example, Vanguard's ETFs follow MSCI constructed indexes, which generally tend to be broader and more diversified because they own more securities. See the Vanguard Large Cap ETF (NYSEArca: VV - News), the Vanguard MidCap ETF (NYSEArca: VO - News), and the Vanguard SmallCap ETF (NYSEArca: VB - News). All of these Vanguard ETFs charge rock bottom annual expenses that range from 0.07% to 0.13%.
If you need ideas on how to build a successful all-ETF portfolio, check out ETFguide's Ready-to-Go ETF Portfolios. Our ETF Portfolios just finished their third straight year of outperforming major benchmarks like the S&P 500 and MSCI EAFE (NYSEArca: EFA - News) stock index. Which ETFs can help you reach your investment goals? Take the time to learn more.
April 22 | Yahoo
Mutual funds have provided a wide variety of investment styles and strategies for many years. In fact, the number of mutual funds has almost eclipsed the actual number of stocks traded in the stock market. This broad offering of products has presented a challenge to both retail and institutional investors, as they try to determine the best funds to reach their desired results in each respective asset class.
The mutual fund rating business has blossomed from a quarterly rating service to a multimillion dollar industry. Rating agencies provide a valuable service to customers and keep the fund managers on their toes with constant scrutiny, which can make or break a fund's success. Still, while the ratings are important to investors, they can be deceiving. In bear markets, a high-rated fund can perform just as well (or a badly) as a low-rated fund can, regardless of strong performance in a bull market.
The Lipper Rating System
Lipper provides mutual and hedge fund reviews, commentary and tools used for screening and analyzing data. While Lipper services the institutional and asset management industry, its mutual fund services are provided in detail for retail investors of all levels. Lipper's proprietary rating system, Lipper Leaders, covers more than 80,000 funds and uses consistency, capital preservation, peer performance and expense management as its tenets, among other factors. The Lipper ranking system is based on a scale of one to five (with five being the highest rating). Lipper Leaders are the funds that rank in the top 20% of their peer ratings, with the next 20% receiving a rating of four, and so on.
The Morningstar Rating System
Morningstar also uses a ranked system, but it uses stars instead of numbers as the rating standard. Also similar to Lipper, Morningstar offers both online and hard copy reports tailored to specific investors' preferences. Morningstar also created a nine-square style box for both equity and fixed-income funds, which depicts styles and size categories. Morningstar presents breakdowns for equity funds into 12 industry groups inside three primary economic sectors to compare weighting decisions.
Chasing Performance
Performance is likely the most recognizable component of mutual fund ratings. This component by itself is easy to follow and does not require in-depth knowledge of the market. However, "chasing performance" has led many investors into what is known as the "performance trap." This is when money flows heavily into a fund that was highly rated in the previous year. More often than not, that same fund does not repeat such impressive numbers in the following period. In this situation, consistency comes into play and rating firms add some value. Ratings firms will apply expertise and evaluate a fund's performance on a relative and absolute basis.
Because different investing styles tend to display varying results over market cycles, new styles can be extremely important to an investor. The rating companies can add much value here, as it is not a good idea to leave style analysis up to the fund manager.
The Downside of Ratings
One of the biggest problems with mutual fund ratings is that during a long-term bull market, investors and those who rate funds can easily become complacent. During volatile market times, mutual funds managers are susceptible to any temptation to try to increase performance or protect against downside risk; both factors can lead to rogue trading, or even fraud.
Also, due to the lengthy process of becoming a highly-rated fund, up-and-coming funds may not be recognized in time to make a substantial investment in their early period.
The Bottom Line
The business of evaluating mutual funds has evolved into an industry in itself. Mutual funds are evaluated on many levels beyond just performance, including peer group comparisons, sector weightings and cash holdings. Though not infallible, ratings systems can provide investors with relative guidance and direction that can lead to decent returns.
naked capitalism
Ed Mendel of Capitol Weekly writes that public pension funds’ rosy forecasts pose problems:
Pension funds have been hit hard by the stock market crash, losing about a third of their value in some cases, and there may be another problem.
Before the crash, some financial experts warned that pension funds were making overly optimistic projections of investment earnings in the decades ahead, often assuming about 8 percent a year.
Investment earnings, the heart of a modern pension system, are usually expected to provide two-thirds or more of the revenue needed to pay retiree benefits in the future.
In public employee retirement systems, a rosy forecast of future earnings means that fewer taxpayer dollars have to be spent to provide generous retirement benefits.
The giant California Public Employees Retirement System assumes annual earnings averaging 7.75 percent in the decades ahead. The California State Teachers Retirement System assumes 8 percent.
Lowering the projection of earnings by even a percentage point or two would create a funding gap of tens of billions of dollars.
CalPERS, an industry leader, warned its 1,500 local government members last fall that their employer contribution rates may increase from 2 to 5 percent of payroll in July 2011 if the stock market does not recover by June 30, the end of the current fiscal year.
Beyond raising rates to plug the big hole punched in pension funds by the stock market crash, the problem could get even bigger if forecasters decide that the critics are right, lowering projections of future earnings.
After the big drop in the stock market last fall, the CalPERS investment portfolio, once a high flier, had an average annual return of 3.32 percent for the last 10 years, well below the forecast of 7.75 percent.
A prominent critic of the high earnings forecasts, David Crane, was a rare appointee to a pension system board, CalSTRS, with a big-league background in investments.
Crane, an adviser to Gov. Arnold Schwarzenegger, helped build a small San Francisco business, Babcock & Brown, into a global investment firm, becoming personally wealthy along the way.
After the governor put Crane on the CalSTRS board and he had served almost a year, the Senate refused to confirm the appointment in June 2006, ousting a board member who had repeatedly questioned the 8 percent earnings forecast.
Legendary investor Warren Buffet, in his annual letter to Berkshire Hathaway shareholders in February of last year, questioned the 8 percent earnings forecast common among the pension funds of major corporations.
“How realistic is this expectation?” Buffet said. “Let’s revisit some data I mentioned two years ago: During the 20th Century, the Dow advanced from 66 to 11,497. This gain, though it appears huge, shrinks to 5.3 percent when compounded annually.”
[Note: On the above calculation, a senior pension fund manager wrote me: "Don't believe everything you read, take out your calculator."]
The founder of Vanguard mutual funds, John Bogle, told a congressional hearing on retirement security last month that corporate pension funds raised their assumed earnings from 6 percent in 1981 to 8.5 percent by 2007, far above historical norms.
“And the pension plans of our state and local governments seem to be in the worst condition of all,” Bogle said, adding parenthetically: “Because of poor transparency, inadequate disclosure, and non-standardized reporting, we really don’t know the dimension of the shortfall.”
The plight of the public employee pension funds has drawn a creative proposal from U.S. Rep. Gary Ackerman, D-New York, to shore up two of the nation’s troubled institutions.
Public pension funds would pool some of their money and buy $50 billion to $250 billion worth of stock in banks. In exchange, the federal government would guarantee the pension funds an annual return of about 8.5 percent.
Earnings forecasts were not a problem in the early days of California public employee pension funds, when investments were limited to fixed-income bonds and mortgages.
In 1966, a ballot measure, Proposition 1, allowed the pension systems to put 25 percent of their funds into blue-chip stocks. Advocates said the change would enable increased retirement benefits and lower employee and taxpayer contributions.
A measure to allow 60 percent of pension funds to be invested in stocks, Proposition 6, was rejected by voters in 1982. But two years later voters approved a far broader measure, Proposition 21, simply requiring that investments be “prudent.”
The ballot pamphlet argument said the measure, still in effect today, is similar to federal law covering private pension funds and is needed to prevent inflation from eroding the value of pension funds.
The ballot argument said pension fund trustees are “personally liable” if they invest funds without “the degree of care expected of a prudent person, who is knowledgeable in investment matters.”
The lifting of the restrictions on investing in stocks in 1984 came a few years after legislation allowed public employees to form unions and bargain collectively for labor contracts, which usually include retirement benefits.
A state labor law in 1968 covered local government employees. Teachers were added in 1975 under the Educational Employment Relations Act, state employees in 1977, and University of California and California State University employees in 1978.
Many public employee labor unions went on to negotiate contracts providing generous benefits — up to 90 percent of the final salary at age 50 for some police and firemen — that are expected to be paid mainly by pension fund investment earnings.
Retirement benefits provided by a labor contract have strong legal protection. In a widely watched test case, the City of Vallejo declared bankruptcy last year and asked a federal bankruptcy judge to overturn its labor contracts.
In hindsight, after a historic market crash that may force taxpayers to bail out pension funds, was it prudent to lift the restrictions on investing in stocks?
Calpensions asked an expert, Alicia Munnell, director of the Center for Retirement Research at Boston College.
“In the old days (before the mid 1980s), many public plans had limitations on equity investments,” Munnell replied by e-mail. “Virtually all have eliminated those constraints. Allowing more freedom to the investment managers is probably a positive development.
“The controversial area is the rate of return assumed in the actuarial valuation of pension plans. Public sector sponsors tend to assume high returns (8 percent or more), which makes the taxpayers’ commitment for future benefits seem small and encourages major expansion.
“Bottom line: a free hand for investment managers is a good idea; more cautious assumed rates of return would help check major benefit expansions.”
I always wondered where that 8% came from. With long-term bond yields at historic lows, this figure is pie-in-the-sky because pension funds will be lucky to get 8% a year in the next few years.
In fact, Reuters reports that fund investors see the slump continuing to 2010:
Investors overwhelmingly hold negative views toward credit rating agencies and the Securities and Exchange Commission, and they expect the market slump will continue into next year, a survey by the Greenwich Roundtable and Quinnipiac University found.
The survey of 89 wealthy private and institutional investors in late January and early February found confidence in regulators and in hedge funds was shaken during the credit crisis. It will take six to 12 months of healthier markets before investors jump back in, the survey reported.
"Leverage, liquidity and lack of confidence are still keeping the sophisticated investor on the sidelines," Steve McMenamin, executive director of the Greenwich Roundtable, said in a statement.
As a result, he said, unprecedented numbers of limited partners refuse to make new commitments to alternative investments, such as hedge funds.
Greenwich Roundtable is an organization for investors who allocate capital to alternative investments, with members representing more than $6.4 trillion in assets.
Among other findings, more than one-third of those surveyed said they lowered allocations to hedge and private equity investments during the past quarter, though more than one-half left allocations unchanged.
One-third reported that as many as 40 percent of their fund managers suspended redemptions, while close to one-quarter were dissatisfied with the way redemption gates were currently structured. Ten percent of investors complained gates were being abused.
These LPs should have checked those gait clauses more carefully before committing the big money to hedge funds. It's too late to whine about it now!
If investors want cheap exposure to hedge funds, they can now invest in Deutsche Bank's new exchange-traded fund (ETF) giving investors direct access to hedge funds through a managed account platform.
[Note: I am skeptical of any hedge fund ETF that charges 0.9% per year. Investors should ask who is on this platform and how they performed over the past 12 months. A better solution for investors looking for "passive" liquid exposure to hedge funds is to replicate hedge fund indexes using a few futures contracts (this is tricky too; contact me for more details).]
But that 8% projection of investment earnings needs to come down. Pension funds and their stakeholders need to reassess their growth projections and realize that overly optimistic projections will only aggravate their pension deficits.
March 13, 2009 | Kiplinger
Your best bet is to keep on contributing, stick with stocks and try not to raid your account.
The economic funk has made virtually everyone anxious about retirement. In fact, 83% of Americans worry that the recession will have a major impact on their retirement plans, according to a recent poll by the National Institute on Retirement Security.
More from Kiplinger.com:
• Quiz: How to Revive Your Retirement Plan
• What the Stimulus Means for You
• The Top Savings Tips for 2009Don't let economic jitters change your savings habits. Sticking with the tried-and-true practice of socking away as much as possible in your 401(k) or IRA -- or both -- should still put you on track for retirement. But we don't blame you for being concerned that your 401(k) has turned into a 201(k). We answer some common questions about how to pump up your depleted accounts.
My employer has stopped contributing to my 401(k). Should I stop contributing, too?
Absolutely not. Particularly now, with Standard & Poor's 500-stock index down 33% over the past year, you don't want to miss the chance to pick up stock-market bargains. Plus, if you stop putting money in your 401(k), you'll miss out on a valuable tax deduction. Say you're in the 25% federal tax bracket. If you contribute $4,000 to the plan, you'll save $1,000 in income taxes -- and even more when you include state tax savings.
I've already lost so much in my 401(k). Wouldn't it be better to keep my savings in cash until the market bounces back?
You're in good company. Nearly one-third of those who participate in a 401(k) plan lost 30% or more last year, reports Mercer, a consulting firm.
But if you sit on the sidelines and venture back into the market only after it turns around, you risk missing out on the market's top-performing days, which tend to come at the beginning of a recovery. For instance, if you were fully invested in the S&P 500 from December 31, 1997, through December 31, 2007, you would have received an annualized return of 4.2%. But if you missed out on the index's 30 best days during that time period, you would have suffered average annual losses of 7.2%, according to an analysis by T. Rowe Price. No one knows exactly when the market will recover in the future, so it is better to keep your long-term money invested in stocks for the long haul.
I thought my tolerance for investment risk was pretty high -- until the stock market collapsed. What should I do now?
Investing and risk go hand in hand. How much volatility you can stand depends on your age, your investment goals and your ability to sleep at night. If you are within a few years of retiring or close to reaching the dollar goal you've set for your retirement kitty, lock in your savings by reducing your risk, says Richard Ferri, chief executive officer of Portfolio Solutions, an investment adviser in Troy, Mich.
For instance, if you've determined you need $1 million by the time you're 65 and you have accumulated $900,000 by age 60, take your foot off the gas and cut your portfolio's stock holdings by 10%. You'll feel as if you're taking action, but, in reality, the move won't affect your portfolio that much. Then don't touch it again for at least a year. "There's nothing you can do about a bad economy except wait for it to get good again," Ferri says.
The volatile market has left my retirement portfolio completely out of whack. How do I rebalance?
Decide on a rebalancing schedule -- quarterly or annually works well -- and stick to it. By rebalancing at regular intervals, you avoid subjective decisions based on emotion. Plus, you force yourself to sell investments that have performed relatively well and buy laggards to re-establish your original asset allocation. About half of all employer-based retirement plans offer an automatic-rebalancing feature, according to a new study by Hewitt Associates, an employee-benefits consulting firm.
Or consider investing in a target-date retirement fund, which adjusts automatically as you approach retirement. More than three-fourths of employers now offer target-date funds in their 401(k) plan, Hewitt says. Although these funds suffered in the market meltdown, too, they generally beat the S&P 500.
My retirement portfolio fell 35% last year. How long will it take for it to recover?
Unfortunately, it could take years. Let's assume you had a portfolio of $250,000 that fell 35%, to $162,500. If you don't add anything and earn pretax annual returns of 5% -- about half of the stock market's long-term rate of return -- it would take more than nine years for your account to recover, according to calculations by T. Rowe Price. However, if you add $4,000 a year and your investments earn 5% annually, your account would rebound to about $250,000 in six and a half years. Higher investment returns and larger contributions would produce faster results and a bigger nest egg.
I have both a 401(k) and a Roth IRA. Is that too many retirement accounts?
No. It's actually a good idea to have both types of retirement accounts to diversify your future tax liability. With a traditional 401(k), you enjoy an upfront tax deduction, but future withdrawals will be taxed at your ordinary tax rate (not the lower capital-gains rate reserved for most investments). With a Roth IRA, you pay taxes now instead of later. But to contribute, your income can't exceed $120,000 if you're single ($176,000 if you're married) in 2009. Nearly 30% of employers offer Roth 401(k)s, which provide the same tax-free income in retirement but without income-eligibility restrictions.
I need to borrow money from my 401(k). What are the pros and cons?
If you're facing a financial emergency and your only choice is between borrowing from your 401(k) plan or making a hardship withdrawal, it's an easy decision: Take the loan. You'll avoid the taxes and penalties that come with a hardship withdrawal. Most 401(k) plans allow you to borrow up to 50% of your vested account balance or $50,000, whichever is less.
Although the money and interest you repay go back into your account, a 401(k) loan can still be costly. Money not invested will stunt the growth of your retirement savings. And if you fail to repay the loan on a timely basis -- usually within five years (longer if you use the money to buy a first home) -- you will owe state and federal income taxes, plus a 10% penalty if you are younger than 59. Together, the taxes and penalty can wipe out 40% or more of your balance. And if you lose your job, you usually have to repay the loan within 60 days or it will be treated as a taxable distribution. "If you take a loan, make sure you'll be staying at your job a while," warns David Wray, president of the Profit Sharing/401k Council of America.
Is there a way to avoid the 10% penalty if I tap my 401(k) before I turn 59?
Yes. There's a special rule for workplace-based retirement accounts. If you leave your job when you are 55 or older, you can tap your retirement funds without paying the 10% penalty, although you will still owe income taxes. This early-out rule does not apply to IRAs, so if you roll over your 401(k) to an IRA, you lose penalty-free access to your money.
The attitudes and values of boomers heading into retirement are changing. They have to.
In the wake of a stock market and home price collapse, most boomers are not prepared for the future. Let's explore that idea with a look at Is the Future Going Down the Drain? Baby Boomers Going Bust.Millions of baby boomers born into the dawn of the most spectacular economic expansion in history are being forced to re-imagine their retirement futures. Few news outlets have failed to seize upon the low-hanging pun: the boomers have gone bust.Wealth of the Baby Boom Cohorts After the Collapse of the Housing Bubble
Among the adjustments forced by the new circumstances, perhaps the cruelest twist for many boomers is the need to join younger generations in the roommate queue. The housing crash has forced record numbers of late-middle age homeowners to take in boarders or risk becoming boarders themselves. From California to Vermont, home-share organizations founded to assist the elderly are scrambling to meet the demands of newly bust boomers.
“In the last few months we've experienced explosive growth in interest by homeowners age 50-plus to find rooms and roommates,” says Jacqueline Grossmann, Chicago coordinator for the National Shared Housing Resource Center. “The trend now is getting younger and younger. People in their 50s and 60s are losing their nest eggs and increasingly willing to give up their privacy in exchange for rents of $500, $600 a month.”
Boomers are maximizing room occupancy for the same reason that their kids in their 20s and 30s are still competing for the best group rentals on Craigslist: they're broke.
The extent to which boomer wealth was based on home values is highlighted by a new report from the Center for Economic and Policy Research, entitled "The Wealth of the Baby Boom Cohorts After the Collapse of the Housing Bubble."
The report details how the collapse has left the majority of those around retirement-age almost completely reliant on entitlements. The net worth of median households in the 45 to 54 age bracket has dropped by more than 45 percent since 2004, to just over $80,000. Households headed by those aged 55 to 64, meanwhile, have lost 38 percent of net wealth.
The result is that many baby boomers will only have entitlements to rely on in their retirement.”
Make that entitlements, roommates, and each other.
As more and more boomers scale down their retirement plans and consider alternative living arrangements, it's worth asking: Is shared housing such a bad thing for aging boomers? Does a return to the Communal idea, borne of economic necessity, also have emotional, social, and environmental benefits? Why wait for the retirement home or hospice to live with other people? With the nation full of worthless, ridiculously large, and mostly empty houses, why not fill them with the newly penurious and like-minded boomers in need of housing?
Terry S., a 62-year-old self-employed divorced psychologist in Pittsburgh, is one boomer considering the cooperative housing route. Until the crisis hit last year, Terry planned to spend her retirement between Europe and New York City, living off her IRA and savings. But the crash saw her wealth plummet by 60 percent. “My friends and I feel betrayed because we are now in the same or worse position than those who never saved their money, but may have a pension,” she says. The crisis forced her to rethink retirement, and she now plans to buy a house with her friends. She explains the logic:
Some of my friends and I shared a communal house in the 70s. We first came up with this idea [of doing it again] when we were talking about the possibility of having to live in assisted living or nursing homes, and we decided it would be far better to all live together in a big house with friends we knew and loved and hire a nurse and a cook. One of my friends owns a construction firm and he says he can put an elevator in any home for less than $100,000. We have looked at several homes. One was a beautiful house that backed onto a huge city park and had a pool decks all around and could easily be converted into four private residences. It was $600,000, which would only be $150,000 per unit. Much less than the $4,000 a month to have half of a dingy room in a nursing home that smells like urine.
If the deepening economic crisis does lead the boomers back to Countercultural values, a generation will have come full circle. Whether they end up living in a group house, a shared apartment, or a full-on hippie-style commune, studies show that they will live longer and more fulfilling later lives. “The results here are truly amazing,” says Kirby Dunn, pointing to studies that gauge the effects of shared housing. “Across all programs and age-brackets, people say they feel safer, are less lonely, happier, and sleep better. They also call their family less often for help.”
Inquiring minds are reading Wealth of the Baby Boom Cohorts After the Collapse of the Housing Bubble by the CEPR, Center for Economic and Policy Research.Three ScenariosThis paper makes projections of wealth for 2009 for the baby boom cohorts (ages 45 to 54 and ages 55-64) using data from the 2004 Survey of Consumer Finance. It updates an earlier paper on this topic from June of 2008 using projections for housing and stock values that are more plausible given the sharp downturn in both markets over the last 8 months, and creates three possible scenarios from best to worst-case for baby boomers’ wealth in 2009.
The projections show:
1) The median household with a person between the ages of 45 to 54 saw its net worth fall by more than 45 percent between 2004 and 2009, from $172,400 in 2004 to just $94,200 in 2009 (all amounts are in 2009 dollars). If the median late baby boomer household took all of the wealth they had accumulated during their lifetime, they would still owe approximately 45 percent of the price of a typical house and have no other assets whatsoever.
2) The situation for early baby boomers is somewhat worse. The median household with a person between the ages of 55 and 64 saw its wealth fall by almost 50 percent from $315,400 in 2004 to $159,800 in 2009. This net worth would be sufficient to allow these households, who are at the peak ages for wealth accumulation, to cover approximately 90 percent of the cost of the typical house, if they had no other assets.
3) As a result of the plunge in house prices, many baby boomers now have little or no equity in their home. According to our calculations, of those who own their primary residence, nearly 30 percent of households headed by someone between the ages of 45 to 54 will need to bring money to their closing (to cover their mortgage and transactions costs) if they were to sell their home. More than 15 percent of the early baby boomers, people between the ages of 55 and 64, will need to bring money
to a closing when they sell their home.
These calculations imply that, as a result of the collapse of the housing bubble, millions of middle class homeowners still have little or no equity even after they have been homeowners for several decades. These households will be in the same situation as first-time homebuyers, forced to struggle to find the money needed to put up a down payment for a new home. This will make it especially difficult for many baby boomers to leave their current homes and buy housing that might be more suitable for their retirement.
Finally, the projections show that for both age groups, the renters within each wealth quintile in 2004 will have more wealth in 2009 than homeowners in all three scenarios. In the second and third scenarios, renters will have dramatically more wealth in 2009 than homeowners who started in the same wealth quintile.
Homeownership is not everywhere and always an effective way to accumulate
wealth. For those who owned a home in the last few years, the collapse of the housing bubble led to the destruction of much or all of their wealth.
The "Three Scenarios" mentioned above relate to projections of the Case-Shiller housing index looking ahead.
Scenario 1: -21.1%
Scenario 2: -25.0%
Scenario 3: -32.9%
The first scenario assumes that nominal house prices decline no further from the level reported in the November 2008 Case-Shiller 20-city index to the 2009 average. The second projection assumes that nominal house prices in 2009 are on average five percent lower than they were in November 2008. The third scenario assumes that nominal house prices fall fifteen percent in 2009.
Already we know the first scenario is out. Moreover it is possible that even scenario 3 is optimistic. So much for the idea the way to accumulate wealth is through real estate.
Buying real estate may have helped one to accumulate wealth if one paid off the mortgage rather than continually borrowing against the equity to take vacations, buy cars, or to "put the money to work".
Nearly everyone attempting to put that money to work has gotten clobbered doing so.
Net Worth - Households Aged 45-54 in 2004 vs. 2009
click on chart for sharper image
Only those boomers in the top quintile have close to enough money for retirement. And that is the group hit hardest by the recent selloff. Think that group is going to be vacationing as much as they thought, eating out as much as they thought, golfing as much as they thought, etc.?
I don't.
Moreover, those in the first through fourth quintiles are not prepared for retirement at all. The fourth quintile was arguably close in 2004. They are no longer prepared.
Note: There are 14 sets of figures in the CEPR article. It's well worth taking a closer look.
Structural Demographics Poor
The structural demographics are very poor. Please see Demographics Of Jobless Claims for still more details. Here is a key clip.
Structural demographic effects imply that prospects in the full-time labor market will be poor for those over age 50-55 and workers under age 30. Teen and college-age employment could suffer a great deal from (1) a dramatic slowdown in discretionary spending and (2) part-time Boomer reentrants into the low-paying service sector; workers who will be competing with younger workers.A structural shift in consumption to savings or at least reduced consumption, is in store for boomers. Meanwhile job prospects are looking pretty grim for some time to come across the entire economic spectrum. This economic backdrop is deflationary.
Ironically, older part-time workers remaining in or reentering the labor force will be cheaper to hire in many cases than younger workers. The reason is Boomers 65 and older will be covered by Medicare (as long as it lasts) and will not require as many benefits as will younger workers, especially those with families. In effect, Boomers will be competing with their children and grandchildren for jobs that in many cases do not pay living wages.
Attitudes towards debt and consumption have changed.
Moreover, the above data suggests those attitudes, particularly among the key boomer group who now needs to draw down on accumulated wealth, are not changing back anytime soon. And it is attitudes, not Fed actions that will determine how long the deflationary period we are in lasts. I touched on the importance of attitudes many time, most recently in All Manias Leave Something Undervalued. Please take a look if you haven't already.
Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Rita Hritz knows several people who have lost more than $100,000 in the stock market recently, and she's not taking any chances.
She pulled out of the market in 2005 because she was tired of the ups and downs, and she has no plans to invest in anything again except real estate.
"I would like to invest in the future, but it's so volatile, I don't know that I would," said Hritz, 50, an ultrasound technician in Chardon, Ohio. Hritz submitted her story to CNN's iReport.com.
Hritz is just one example of an American who has lost confidence in the stock market, which has plummeted in recent months. Confidence among investors as a whole is a key factor in determining how the market behaves, economists say; when investors collectively lose confidence in the market, it is more likely to drop.
In fact, confidence is an example of an "animal spirit," a term referring to the psychological factors that move the market. British economist John Maynard Keynes coined the term.
"One of the reasons this recession was not foreseen was that people didn't perceive the role of animal spirit in how the economy works," said George Akerlof, winner of the 2001 Nobel Prize in economics and co-author of the new book "Animal Spirits: How Human Psychology Drives the Economy, and Why It Matters for Global Capitalism."
Stories about the nature of the economy that pass from person to person are another reason why markets go up and down, he said.
The stories that friends tell one another or that are propagated through the media influence people's confidence in the market and therefore affect the market itself, he said.
For example, in the late 1990s, the "story" was that there was a dot-com bubble: People bought stocks in Internet and technology-related companies that seemed to be rising in value rapidly. When people realized that they'd been overconfident and that some of the stocks were overvalued, the bubble burst.
"These stories get passed from one person to another, and because they get passed from one person to another, it acts like an epidemic," Akerlof said.
Another animal spirit is "money illusion." Capitalism produces not only what people want but what people think they want, Akerlof said.
A person seeking to buy medicine in the 19th century might end up buying snake oil, a product without curative properties. Similarly, "snake oil" financial instruments are often sold in unregulated markets.
"We've just been through a period in which people have been buying assets on the basis that they were overconfident," he said. "They had too much trust."
It's only now that people are seeing that they had made poor investment choices, he said.
Where's the bottom?
Some people, like David Lowery, recently decided that they've had enough of losing money in the market. The 56-year-old truck driver in Euless, Texas, closed his IRA on Thursday. He had cut his 401(k) contribution from 7 percent to 1 percent of his paycheck Monday.
"What money you've got, better get it out and put it under the mattress," said Lowery, who also shared his views on iReport.com. Read his iReport
Lowery had hoped to retire in nine years, but now he thinks he may have to work until age 70. He may put his money in bonds or CDs instead of stock-based funds.
Some economists say you should take a good look at your job security before making investment decisions.
People who are facing layoffs or are unemployed should be more careful with their investments, but those with secure jobs can afford to take greater risks, said Lubos Pastor, professor of finance at the University of Chicago.
"People should not succumb to their fears. They should rationally assess whether they are able to bear the risk of the stock market," he said.
But while it's anyone's guess when the market will pick back up again, rest assured that it most likely will not hit zero.
"It's implausible that it would be zero unless we're hit by a comet or the government nationalizes everything," Pastor said.
Expecting history to repeat
Experience with recessions also affects people's investment behavior, some economists say.
Hritz got laid off and went bankrupt in 1981, a year that saw a recession. Her previous financial struggle has made her more cautious about putting money in the market today, she said. Read her iReport
Her experience is consistent with research that shows people who lived through the Great Depression tend to be more cautious with their stock market allocations, but younger people who did not live through that recession are more optimistic.
That means that, after this current recession, everyone will be more cautious than before, Pastor said.
Those who do stay in the market will reap the benefits of any future rebound, Pastor said. In fact, the market will rally several months before the end of the recession, but those who sell everything will miss out on that.
"Going just by on your instincts by fear and by your confidence, that is usually misleading," he said. "That type of investing leads people to buy at the peak and sell at the bottom."
As for Hritz, she maintains a cautious distance from the stock market. Her husband, Jim Schaefer, was originally going to retire this month, but he has no plans to stop working, she said.
"We're seeing a decline in value of the house we're in, but I'm not panicking like I would if I would have played the stock market," Hritz said.
Drink-and-dashers notwithstanding, thrift has been essential to survival over time. "I don't think you and I would be here if there weren't frugal people 100,000 years ago," Lastovicka says. "It's why we've done really well as a species. Someone figured out that we need to save some of the crop so we can eat in the winter."
... ... ...
That's the conclusion of a forthcoming study in the 'Journal of Positive Psychology'. Ryan Howell, assistant psychology professor at San Francisco State University, asked participants to reflect on a time in the past three months that they used money to make themselves happy with both material and experiential purchases. (Experiential purchases were defined as those in which you get nothing but a memory at the end -- concert tickets, dinners out, a weekend away, etc. Material items were defined as tangible objects in their control -- shoes, jeans, electronics -- but excluding pricey purchases such as homes and cars.)Participants were then asked to reflect on 26 different questions that had to do with psychological needs satisfied by the purchase. "On a scale of 1 to 7, both material purchases and life experiences were in the positive category," says Howell. "It's just there were sizable differences between material and life experience. The idea is you're happy with a material purchase but you're thrilled with a life experience."
In addition, experiential purchases made people around the buyer happier as well. "People felt closer to friends and family as a result of the purchase," Howell notes. "We were also surprised in that experiential purchases made them feel a higher sense of vigor; they felt more alive because of the purchase."
MSN MoneyThe mortgage and credit sickness that brought banks and brokers to their knees has now infected the companies that insure our lives and protect our families.
The life insurance companies that millions of Americans entrust to help protect their families or pay the bills in their golden years are caught in a downward spiral eerily similar to the one that has brought down banks and brokers.
Like Bear Stearns and Lehman Bros. (LEHMQ, news, msgs), life insurers Hartford Financial Services (HIG, news, msgs), Principal Financial Group (PFG, news, msgs), Lincoln National (LNC, news, msgs) and many others all have significant exposure to mortgage-backed securities and other risky debt instruments.
They're reporting huge losses that -- if they continued -- could trigger a meltdown.
That could wipe out shareholders, who already have suffered declines of 20% to 40% in the past week alone. Customers with annuities or insurance policies might have to turn to state insurance backstop funds and settle for only a portion of the money they were expecting.
Health, auto and property insurers are better off. But based on how far life insurance stocks have fallen, investors are worried many won't survive at all.
What are the chances this doomsday scenario will play out?
"To know that, you have to gauge how bad this market will get over the next six months, which none of us know," responds Jim Ryan, an analyst with Morningstar (MORN, news, msgs). It all comes down to how much worse things could get for the economy and for the debt instruments and stocks that life insurance companies hold.
"We're telling people to be more careful, particularly if you are going into longer-range products that involve significant upfront funding like annuities," says Bob Hunter, the director of insurance for the Consumer Federation of America.
"You want to make sure that the company is actually around when you want to get the money out. I'd say there's a good likelihood some of them will go under."
The investment implication is clear, according to Mr. Kritzman. “It is very hard, if not impossible,” he wrote in his study, “to justify active management for most individual, taxable investors, if their goal is to grow wealth.” And he said that those who still insist on an actively managed fund are almost certainly “deluding themselves.”What if you’re investing in a tax-sheltered account, like a 401(k) or an I.R.A.? In that case, Mr. Kritzman conceded, the odds are relatively more favorable for active management, because, in his simulations, taxes accounted for about two-thirds of the expenses of the actively managed mutual fund and nearly half of the hedge fund’s. But he emphasized the word “relatively.”
“Even in a tax-sheltered account,” he said, “the odds of beating the index fund are still quite poor.”
October 14, 2008 | Washington Post Writers Group
401(k)s are the contemporary version of the get-rich-quick scheme. They place retirement in the shaky hands of the market.More stories by Marie Cocco
The essential fallacy of the 401(k) has been exposed. It took a historic market collapse -- one that threatens to impoverish workers already in retirement and those who are nearing it. But then, crushing hardship is often what's required to usher out an era of ideological illogic and unconscionable greed.
The advent of the 401(k) in the late 1970s and early 1980s was a leading indicator of what became a political mania for shifting the risk and responsibility for life's big challenges -- health care, an adequate income in retirement -- from employers and other broad-shouldered institutions to the narrower, weaker backs of individuals themselves.
It was never sold this way, of course. The pitch for the 401(k) was a contemporary version of the get-rich-quick scheme: The promise of strolling along a sun-dappled beach in retirement would be realized with ease, so long as workers regularly contributed modest amounts to the accounts, then let the compounding magic of the market work. To hear the mutual fund companies and the media tell it, only fuddy-duddies and dinosaur employers would be foolish enough to opt for the old-fashioned defined-benefit pension, the type employers paid for and professional managers oversaw, and which guaranteed monthly payments in old age. The type that gave the hard-boiled men and women of the industrial age security, but would never reward them with riches.
The offer seemed good to media observers, and to the politicians who nurtured the do-it-yourself retirement with successive legislative schemes. During the stock market boom of the 1990s, esteemed business publications published breathless articles featuring manufacturing workers who would use their lunch breaks to track their mutual fund balances and ponder the possibilities of the loan they would take out for a cabin on the lake or an anniversary trip to Hawaii.
But despite the hype, the data on 401(k)s have never -- ever -- shown that these accounts were creating a mass of workers who would be able to retire with security, let alone luxury.
The 401(k)s didn't expand the proportion of the work force with pension coverage, notwithstanding claims that shifting to accounts that required workers to contribute would make employers more willing to offer the benefit. Less than half of workers have any type of pension coverage from their current employer at all, according to the Center for Retirement Research at Boston College.
For those who do have retirement accounts, the bottom line has long been grim. In 2004, the last year for which data are available, the median balance in IRA and 401(k) retirement accounts was $35,000, according to the Federal Reserve. For those nearest to retirement -- households headed by someone between 55 and 64 -- the median balance in 2004 was $60,000. That's enough to generate about $400 a month in retirement income, according to the research center.
These numbers reflect balances before the current market meltdown, which wiped out about $2 trillion in retirement assets when losses in individual accounts as well as employer-based pension funds are tallied. How did this happen? Like so many other political experiments of the last three decades, it was good for the corporate bottom line -- and therefore, supposedly good for America. The 401(k) plan was first promoted to supplement, not replace, traditional pensions, according to Alicia Munnell, director of the Boston College center. Over time, as new businesses were formed, they opted to provide only these accounts, eschewing traditional plans.
More recently, even companies with healthy, traditional pension systems have frozen those plans (effectively abandoning their pledges to longtime workers) and replaced them with 401(k)s. Why? "Shifting from a defined-benefit plan to a 401(k) plan will reduce required employer contributions from 7 to 8 percent of payrolls to the 3 percent employer match," Munnell and a team of researchers wrote in a 2006 paper.
This was never about empowering workers to reap the rewards of financing their own retirement. It was about reducing corporate costs.
"I think what has become clear is that we just can't have a system where people are exposed to this type of market risk," Munnell told me in an interview. Nor, in the age of global competition, can American businesses solely shoulder pension costs that in other countries are at least partially borne by governments.
Some new system that might be called "Social Security-plus" must be developed. Remember that in a year or two, when politicians try to sell us on the supposed need to "reform" Social Security with something that really amounts to Social Security-minus.
(c) 2008, Washington Post Writers Group
January 28, 2009 | Washington Post
Millions of American workers lost an average of 27 percent of their 401(k) retirement savings in 2008, according to a study released this morning by Fidelity Investments.
The average 401(k) balance went from $69,200 in 2007 to $50,200 last year because of dramatic market declines, the study found.
Despite such losses, Fidelity's analysis of 11 million participants in more than 17,000 corporate plans showed that employees continued to contribute to their retirement savings and took out fewer loans against the plans than the previous year. In fact, they added an average of $5,600 in pre-tax earnings to their accounts, a slight increase from the year before.
"Employees are staying the course and I think this is very good news because I think it really shows that employees recognize these savings dollars are a need to have, not a like to have," said Scott B. David, president of Workplace Investing for Fidelity Investments. "This is a necessary savings for their financial well-being."
But in a sign that workers are struggling financially, the Fidelity study showed a slight increase in the percentage of workers who took so-called hardship withdrawals, from 1.6 percent in 2007 to 1.8 percent in 2008. Unlike 401(k) loans, hardship withdrawals require proof of a severe financial need and come with a hefty tax bill.
David said the people who took hardship withdrawals most likely did not have the option to take a loan against their plans. Historically, those who take hardship withdrawals have taken out loans first and many employers restrict the number of loans allowed.
"Once you've taken the loan, the next likely step is the withdrawal, which is a terrible thing to do because of the tax implications and the penalties," David said.
The average hardship withdrawal amount decreased slightly in 2008 to $6,000, but David attributed that to the fact that workers had less money to pull out of their accounts.
The report comes at a time when the 401(k) concept is under intense scrutiny from lawmakers, academics and economists. The stock market's collapse has revealed the vulnerability of America's retirement system. Increasingly, employers have abandoned traditional pensions, forcing workers into 401(k)s which tend to have more exposure to market forces. Many lawmakers also pushed 401(k)s, approving rules in recent years that, for instance, make it easier for employers to automatically enroll their employees in such plans.
David said 401(k)s are still a good retirement savings vehicle but should not be the only one that an employee relies on.
"They were designed to be one of several savings vehicles," he said. "To look at 401(k)s as the only form of retirement savings is not appropriate."
Selected comments
pjc8300892 wrote:
"To look at 401(k)s as the only form of retirement savings is not appropriate."
When the 3-5% we put into our 401K is all we can afford, and when our home also decline 25% in value, what alternatives do the common worker have? With unemployment zooming and most people either out of work of not sure they will have a job tomorrow, what do these experts suggest.
With assets decreasing by 30% a year, income decreasing by up to 90% and expenses increasing in double digits, just what should people do?
A. Wait for the banks to help us with the billions in tax dollars they have received?
B. Wait for our law makers to find a miracle cure?
C. Burry our head in the sand?
D. Blow our brains out before our insurance lapses?
E. All of the above!
January 25, 2009
If you have a 401(k) retirement plan at work, you don’t need us to tell you that you’ve taken a hit in the past year. The really bad news is that the damage to your retirement security is likely worse than what the numbers say on your statement. Many Americans didn’t have enough savings coming into the downturn. And employers are increasingly cutting back or suspending their 401(k) match. FedEx, Eastman Kodak, Motorola, General Motors and Ford, among others, have announced such moves.
There’s also no guarantee that today’s battered 401(k)’s will rebound powerfully. People close to retirement don’t have time for a do-over. Even for those still far from retirement, there’s no telling how stocks will perform in the future.
They could post impressive gains, especially in the near term, from their current low levels. But they could also struggle. The last 25 years was a time of low inflation rates and low interest rates, which boosted stock prices. Going forward, inflation and interest rates have nowhere to go but up, which would be bad for stocks.
It wasn’t supposed to be this way. Over the last several decades, businesses and government used matching contributions and tax breaks to encourage the proliferation of 401(k)’s. They lauded them as a way to harness the market to create wealth and increasingly viewed them as replacements for traditional corporate pensions.
In 1983, 62 percent of workers with retirement coverage had a traditional pension only, while a mere 12 percent had 401(k)’s. Today, approximately 20 percent have a traditional pension and about two-thirds have only 401(k)’s.
The shift to 401(k)’s also shifted investing risks and responsibilities from employers to employees, but as long as participants generally made money and recovered losses quickly, the risks seemed reasonable. Now many Americans are inevitably having second thoughts.
So far, the cumulative wipe-out of household retirement savings totals about $2 trillion, and no one believes that the downturn is anywhere near over. As a result, participants in 401(k)’s are in greater danger than ever of coming up short in retirement.
That grim reality calls for an expanded approach by policy makers to retirement issues. Traditionally — and correctly — an important focus has been on lower-income Americans who lack the means to save and tend to work for employers who do not offer retirement plans.
During the campaign, President Obama supported a better savers’ tax credit to encourage savings among lower-income Americans. He also supported universal I.R.A.’s, which would make a 401(k)-like account available to all workers. Those good ideas should be pursued. There are also good ideas for improving 401(k)’s that deserve attention, such as helping people manage their retirement withdrawals so that the money lasts a lifetime.
The wipeout in 401(k)’s has made it clear that it is not enough to get more people to save more. There needs to be a better way to reasonably ensure that a lifetime of savings can’t be undone by forces beyond one’s control. The Center for Retirement Research at Boston College, a leader in retirement policy, is advocating a new savings account — in addition to Social Security and 401(k)’s — that would enable risks to be shared among workers, retirees and the government.
After decades of promoting and improving 401(k)’s, in which employees bear substantial risk, that’s a new and difficult reality for policy makers to grapple with. The sooner Mr. Obama puts his team on the issue — his budget director, Peter Orszag, is one of the nation’s top retirement experts — the better.
October 12 2008 | FT.com
Last week’s dizzying rush of events and economic and market data threw up one number which can serve as your Rosetta Stone for understanding what impact the global financial crisis will have on American society: $2,000bn (€1,500bn, £1,200bn). That is the amount Americans have lost from defined-contribution 401(k) pensions over the past 15 months. Peter Orszag, director of the Congressional Budget Office, cited the figure in public testimony last Tuesday, so today the vanished retirement savings will be even greater.
The hit to the 401(k)s – nearly triple the amount Hank Paulson asked for to rescue Wall Street and more than double the cost of the war in Iraq – most directly connects what had been a crisis of financial institutions and esoteric financial instruments with the lives, and old-age security, of millions of middle-class Americans.
The credit crunch has been gnawing away at the world’s financial sector for more than a year, but as recently as a fortnight ago – the date the House Republicans defied their own party and voted against Hank Paulson’s bail-out plan – it still did not have much traction with Main Street America. That started to change even as members of Congress were casting their no ballots – because the US equity markets plunged in response. In the two subsequent weeks they have plummeted further, with the Dow closing on Friday at 8451.19, bringing the week’s decline to 18.2 per cent, its sharpest drop ever.
The Dow matters to the Joe Six-Packs of America because this is a society of shareholder capitalism. Until this month’s sell-off, more than 60 per cent of Americans owned shares, up from just over 10 per cent in 1980. The result is a culture in which business television reporters are celebrities with photo spreads in Vanity Fair, Warren Buffett is a national hero, and the group Republican strategists call “the investor class” forms a majority of the population.
In boom markets, that is a good thing. But it means that a market sell-off is felt beyond Wall Street. What you might call the 401(k) effect has had two political consequences and, in the medium term, will probably have two even more powerful social ones.
The first impact is a shift in the public’s appetite for radical government action. The same constituents who besieged their members of Congress, calling on them to oppose a “Wall Street bail-out”, are now demanding to know why the government has not acted more decisively.
The second result has been a big shift in the polls in favour of Barack Obama, who seemed to be faltering a month ago but is now predicted to be heading for a landslide victory. Months of a slowing economy, falling house values and petrol prices spiking above $4 a gallon were not enough decisively to shift the political debate to “the economy, stupid”, the field on which the Democrats yearned to play. But the plunge in the Dow – computed with terrifying exactness in the 401(k) statements millions of Americans receive every month – has, and barring a war or a domestic scandal it will likely propel Senator Obama to the White House.
The third, social consequence is not yet being felt, but it soon will be. The culture that gave us the term “retail therapy” seems about to rediscover the virtues of thrift. The assets that Americans measured to calculate their net worth – their homes and stock portfolios – have fallen sharply in value. And the personal credit they used to keep up with the Joneses in a society where so many people seemed to be getting so rich has dried up. One sign of the Zeitgeist: Gawker, the popular, waspish media blog (published by a friend and former FT colleague) this week offered recession-busting survival tips for hip New Yorkers, including buying lunch from street carts and cooking at home.
The fourth consequence of the 401(k) effect hangs in the balance, and its resolution could affect not just the US but the rest of the world. Shareholder capitalism was a vital part of how America connected its most important political tenets – capitalism and democracy which, since the fall of the Berlin Wall, it has been exporting around the world with success. Now that the markets have turned on America’s Main Street capitalists, the question is whether their faith will be shaken. Watching TV stock-pickers enthusiastically suggesting we now have a buying opportunity, it seems the answer, for now, is not yet.
Retirement Savers Lost $2 Trillion October 8 | Yahoo (U.S.News & World Report)Stock market turmoil has wiped out roughly $2 trillion of Americans' retirement savings over the past 15 months, according to the Congressional Budget Office.
The value of pension funds and retirement accounts dropped by roughly $1 trillion, or almost 10 percent, in the year ending June 30, the CBO told the House Education and Labor Committee Tuesday, citing Federal Reserve data. Since then, asset prices have dropped even further. The CBO says that retirement assets may have declined by as much as $2 trillion over the past 15 months."To the extent households view balances in defined-contribution plans as part of their overall portfolio of wealth, a decline in those balances could lead people to reduce or delay purchases of goods and services," says Peter Orszag, director of the CBO. "It could also lead some workers to delay their retirement." The CBO says this multitrillion-dollar loss in retirement wealth could further slow the ailing economy.
Individual 401(k) participants' average losses ranged from 7.2 percent to 11.2 percent in the first nine months of 2008, according to an Employee Benefit Research Institute analysis of 2.2 million participants. Over two thirds of the assets in 401(k)-style defined-contribution plans are invested in equities, either directly or through mutual funds. During the first nine months of 2008, stocks were down, with the S&P 500 index losing more than 19 percent. Fixed-income investments fared better, with the Lehman Aggregate index gaining 0.63 percent and three-month treasury bills gaining 1.54 percent.
The recent market turmoil may be disproportionately affecting older Americans. Older employees generally have less of their money in stocks and stock funds than do younger workers, which shields them somewhat against catastrophic losses. But older workers' average account balances are markedly higher, so they have more to lose in a significant downturn and less time to recoup losses before retirement. "In the last few weeks, we've been confronted with older workers' and retirees' lives being turned upside down; their panic tops off an already existing state of chronic anxiety about retirement futures," says Teresa Ghilarducci, a professor of economic policy analysis at the New School for Social Research.
Two potential solutions to retirement losses offered by the CBO are working longer to offset financial declines and sensibly allocating your assets to avoid bearing the risks associated with tumultuous markets as much as possible. For example, most workers should invest in diversified index funds rather than individual stocks.
Here's another potential strategy to insulate yourself against stock market risks.
Oct. 14 | Bloomberg
Swan' Investors Post Gains as Markets Take Dive
Investors advised by ``Black Swan'' author Nassim Taleb have gained 50 percent or more this year as his strategies for navigating big swings in share prices paid off amid the worst stock market in seven decades.
Universa Investments LP, the Santa Monica, California-based firm where Taleb is an adviser, has about $1 billion in accounts managed to hedge clients against big moves in financial markets. Returns for the year through Oct. 10 ranged as high as 110 percent, according to investor documents. The Standard & Poor's 500 Index lost 39 percent in the same period.
``I am very sad to be vindicated,'' Taleb said today in an interview in London. ``I don't care about the money. We're proud we protected our investors.''
Taleb's book argues that history is littered with high- impact rare events known in quantitative finance as ``fat tails.'' As the founder of New York-based Empirica LLC, a hedge- fund firm he ran for six years before closing it in 2004, Taleb built a strategy based on options trading to bullet-proof investors from market blowups while profiting from big rallies.
Mark Spitznagel, Taleb's former trading partner, opened Universa last year using some of the same strategies they'd run since 1999. Pallop Angsupun manages the Black Swan Protection Protocol for clients and is overseen by Taleb and Spitznagel, Universa's chief investment officer.
``The Black Swan Protection Protocol is designed to break even 90 to 95 percent of the time,'' Spitznagel said. ``We happen to be in that other 5 to 10 percent environment.''
Options Strategy
The S&P 500 dropped 18 percent last week, its worst week since 1933, on concern that the credit crunch would cripple the financial system and trigger a global recession.
``We got a lot of giggles when we said we're targeting 20 percent moves,'' Spitznagel said. He and Taleb declined to confirm the investment returns listed in the documents, which were reviewed by Bloomberg News.
Taleb's strategy is based on buying out-of-the-money options -- puts and calls whose strike price is either lower or higher than the market price of the underlying security. A put option gives the buyer the right, though not the obligation, to sell a specific quantity of a particular security by a set date. A call option gives the right to buy a security.
The Black Swan Protection Protocol bought puts and calls on a portfolio of stocks and S&P 500 Index futures, along with some European shares. The Black Swan Protocol doesn't rely on commodities, currencies or insurance on bonds known as credit default swaps, Taleb said.
``We refused to touch credit default swaps,'' Taleb said. ``It would be like buying insurance on the Titanic from someone on the Titanic.''
White Swan
The Black Swan strategies are designed to limit losses to a few percentage points. Some investors did better than others depending on when they decided to lock in profits, Taleb said. The returns have enabled Universa to line up more money from investors in the next month, Taleb said.
As a trader turned philosopher, Taleb has railed against Wall Street risk managers who attempt to predict market movements. Even so, Taleb said he saw the banking crisis coming.
``The financial ecology is swelling into gigantic, incestuous, bureaucratic banks -- when one fails, they all fall,'' Taleb wrote in ``The Black Swan: The Impact of the Highly Improbable,'' which was published in 2007. ``The government-sponsored institution Fannie Mae, when I look at its risks, seems to be sitting on a barrel of dynamite, vulnerable to the slightest hiccup.''
Taleb said the current crisis is a ``White Swan'', not a Black Swan, because it was something bound to happen.
``I was expecting the crisis, I was worried about it,'' Taleb said. ``I put my neck and money on the line seeking protection from it.''
Taleb is angry that Wall Street is continuing to use traditional tools such as value at risk, which banks use to decide how much to wager in the markets.
September 23, 2008 | usnews.com
Older Americans with their nest egg in the stock market right now may be watching secure retirement dreams crumble before their eyes. Retirees and baby boomers near retirement age may have lost a hefty chuck of their savings at an age when many have little time or ability to recover.
Avoiding and recouping large financial losses is a long and tedious process without a quick fix. Strategies advanced by financial advisers and retirement experts include delaying retirement until the market improves, reducing withdrawals from retirement accounts for a few years, leaving your asset allocation intact and hoping the market corrects itself, or changing your investment allocation to become more conservative as you age.
I recently spoke with Bill Losey, a financial planner and author of Retire in a Weekend! The Baby Boomer's Guide to Making Work Optional, about a method he advocates that, in theory, would allow baby boomers to weather temporary market slumps. Losey calls his approach the "safe-money benchmark strategy," which calls for the liquidation of assets when they exceed a predetermined benchmark the investor chooses.
For example, an investor with $400,000 invested in index funds or ETFs might sell high whenever those investments hit a $425,000 benchmark. The $25,000 in profits is stored in ultrasafe investments like certificates of deposit, bonds, treasury bills, or even cash so that investors can never lose those profits unless they choose to spend them. Ideally, a retirement saver accrues three to five years' worth of living expenses in this "safe money area" in the years leading up to retirement by always selling high during upswings and taking the spoils out of the market. Once retired, you can use this liquid cushion to weather periods of flat growth or negative returns. "If a normal market correction lasts two or three or four years, you will never have to withdraw from a declining portfolio balance," Losey says.
If you've employed any of these strategies, please tell us about it below.
The weak economy is forcing older workers to rethink their retirement.
After watching their nest eggs crack under the weight of falling stock and home prices, some workers who were about to quit the daily grind have put those plans on hold. And some retirees have even returned to work.
"They've crunched the numbers and concluded they can't head to the lake after a 20 percent loss in their net worth," said Monique Morrissey, an economist at the Economic Policy Institute. "Now is no time to pick leisure over labor."
A recent survey by AARP found that one in five workers ages 55 to 64 intends to delay retirement because of the economic downturn. Most blame stock market losses, while others cite declining home values.
And only 18 percent of workers and 29 percent of retirees now feel very confident about having enough money for a comfortable retirement – the smallest percentages in at least a decade, according to the Employee Benefit Research Institute.
Neal Ator retired in September and began collecting Social Security in December.
But the 65-year-old McKinney resident has since taken a part-time job as a loan officer to supplement his retirement income.
Drawing on his experience as a credit counselor, he sells reverse mortgages out of his home. He hopes the paycheck will offset the losses from his investments and pay for some travel with his wife.
"Many of my neighbors have also come out of retirement," Mr. Ator said. "Besides the satisfaction we get from our jobs, we're all trying to make sure our nest eggs last as long as we do."
The ups and downs of the market will play an even bigger role in retirement decisions as workers depend less on traditional fixed-benefit pensions and more on 401(k)s and individual retirement accounts, experts say.
"This is just the beginning of a long-term trend. The changing nature of retirement income will make boomers more and more vulnerable to market downturns," said Richard Johnson, an economist with the Urban Institute.
Employers' decisions to scale back or drop retiree health benefits, coupled with rising health care costs, have also compelled workers to remain on the job at least until they qualify for Medicare at 65, he said.
'Stress test'Scott Daily of Carrollton figured he had had enough of the corporate world last year after going through his fourth downsizing. He was looking forward to kicking back, riding his motorcycle and tinkering with old cars.
"I talked to my financial planner, who thought I could afford to do those things, even though I'm only 60," he said. "I'm debt-free – I don't even have a mortgage. And I've been able to save for my retirement."
Then the market took a nosedive, slashing 30 percent from Mr. Daily's portfolio and sending him in search of a job again.
"I'm not hurting, but I'm wondering whether the economy will deteriorate further," he said.
Over his career, Mr. Daily managed dozens of construction projects across the country, traveling more than 3 million miles. He's now trying to find an employer who values that hands-on experience.
Gary Brownfield, a certified financial planner with GB Financial Services in Plano, said he often gives his older clients a "financial stress test."
"We look at what would happen to their nest egg if the market collapsed the day after they retired," he said. "Then we see whether they'd have enough time to recover and enough money to live on throughout retirement."
The exercise sometimes convinces his clients that they need to continue working and add muscle to their portfolio, Mr. Brownfield said.
Many people make the mistake of overestimating what they can afford to withdraw from their nest egg and underestimating inflation's effect, said Viktor Szucs, a certified financial planner at Quest Capital Management in Dallas.
"Anyone who withdraws too much in a bear market, especially early in retirement, will outlive his money," Mr. Szucs said. "A good rule is to take out no more than 4 percent a year. That should keep a portfolio going for many years."
The past decade of tame inflation also lulled older adults into thinking that they didn't have to worry about their dwindling purchasing power, he said, but today's high gas and food prices have jolted them back to reality.
Extra income
Peter Laux, who's 65 and lives in Plano, works as a management consultant four days a week because he believes he can't afford to take much from his shrunken nest egg, which has lost 20 percent in a year.
"If the market were better, I wouldn't work at all," he said. "But my cardiologist tells me I may live to be 95, and my mutual funds certainly aren't giving me the kind of returns I'll need to last that long."
Mr. Laux, who took an early retirement package from Texas Instruments Inc., intends to draw Social Security when he reaches 66. But his consulting income lets him enjoy a more comfortable lifestyle.
"Because I don't see myself sitting at home and eating cat food, I will keep chasing consulting jobs," he said.
Depressed housing prices have also shaken older workers' confidence in retirement, Mr. Szucs said, since some boomers had figured they'd sell their homes, downsize and use the profits in retirement.
"Even those who don't plan to move after retirement are still psychologically affected by falling home values," he said. "They look at their net worth on paper and feel poorer, so they continue working."
But the topsy-turvy housing market may also allow a few people to realize their retirement dreams sooner than they had expected, Mr. Szucs said.
"Dallas has fared better than most housing markets, so clients of mine who had wanted to move to California or Florida but been priced out of those once-booming markets can now afford a place on the beach," he said.
"It's the one silver lining."
May 13, 2008 | Angry Bear
Tom's working on explaining Savings 101, so this is specifically to deal with the "issue with" retirement accounts.
Via Lawrence G. Lux, we find the A.P. (and maybe the NYT) highlighting a "study" by an investment management firm that "discovers" problems with the way people manage their 401(k)s:
Some of the diversification problems stemmed from concentrated holdings of company stock. Experts urge savers to hold no more than 10 percent to 15 percent of their accounts in company stock, pointing out that they could sustain significant losses if the company runs into trouble or goes bankrupt.
The Financial Engines study found that among savers eligible to receive company stock, more than one-third had more than 20 percent of their holdings in the company's shares. Some older workers had more than half their holdings in company stock, and workers with salaries under $25,000 also held a disproportionate amount of company stock, the study found.
On the level of savings, the study found that just 7 percent of 401(k) participants were saving the maximum allowed.
Much of that is common sense. (Think Enron: the time when your company stock will be least value to you also will be the time you may need to borrow against your retirement account.)
Some of it, likely, is the way the plans are offered. (Again, think Enron.) Public companies tend to offer their stock as part of a "retirement plan," and many "investors" are told to invest in "what you know."
However, the absurd claim in the lede of the AP piece ("Despite extensive efforts to educate workers about saving for retirement") is belied by two realities. One is noted by Lux:
Look, Maw, those damned Kids don’t know how to manage their (401)k Funds. When are they going to learn that they have to spend 20 hrs. per Week evaluating good potential Investments. Listen to them complain that they don’t have the time–between raising children and working a 50-hour Workweek. (italics removed)
the other comes from anyone who knows a bit of history and remembers that pensions have been historically underfunded (or raided) by management. If trained money managers couldn't do a good job in the Glory Days of Defined Benefit (and, make no mistake, a literal reading of economic theory would lead anyone to believe those were the glory days), then expecting people who do not specialize in managing money to allocate "appropriately" should be, on the face of it, absurd.
Finally, some of the problem likely is due to constraint optimization issues. (Short version: You can only save what you don't have to spend.) Let us rewrite this paragraph:
Nearly two-thirds of those earning less than $25,000 a year don't contribute enough to get the full company match, the study found. But 24 percent of those earning $50,000 to $75,000 a year and 12 percent of those earning more than $100,000 a year didn't get the full match, either.
as
Only slgihtly more than one-third of those earning less than $25,000 a year have enough disposable income to get the full company match, the study found. Meanwhile, 76 percent of those earning $50,000 to $75,000 a year and 88 percent of those earning more than $100,000 a year were able to qualify for the full match.
But that makes it clear, as divorced one like Bush noted in a comment to vtcodger's post:
You don't invest in the market until you have money you can afford to lose.
And a lot more people making $50,000-plus-a-year have money they can afford to lose than those making less than $25,000 p.a. Which is what the data shows.Read More on "Blaming the Badly Allocated for Choices Not Necessarily Their Own"
Comments
Mcwop
Don't take this too seriously. it is the coberly investment plan:
There is a reason they pay all that interest. money now is more useful than money later. Spend it while you are young on things that will make you happy (a big tv or a big car will NOT make you happy).
when you get to be about 45 or 50, and the kids are grown and the house is paid for, start saving like mad. you are making peak earnings, you are too old for ski trips, and you have learned how to be happy while spending almost nothing. In five or ten years you can save about as much as you were going to get putting away that hundred dollars a month at 3% or less over inflation.worked for me.
coberly | 05.12.08 - 5:16 pm |===
Whenever someone complains that the typical investor doesn't work hard enough on optimizing their investment plan, I point at that there is an entire class of people who do nothing else but manage investment plans. They subscribe to every known data source for investment plans. They have real time feeds to all sorts of financial data. They have research staffs and budgets for hiring specialized consultants. They have all that, and they still consider it good performance if they can track the market indices. No, Joe Employee cannot do better than the typical fund manager, so if he is lucky, he'll track the market indices.
There used to be a reason for buying your own company's stock under an ESOP plan. In the 1980s, at least, the deal was that you could buy stock every six months, but you got a price 15% off the lower price at either the start or end of the period. In other words, you were guaranteed at 15% one time return, even if the company was heading for the sewer. Otherwise, I tended to avoid my own company's stock, except when I had no choice. I was lucky in this. My company was sold, and the pseudo-shares I had been buying turned into real money.
Kaleberg | Homepage | 05.12.08 - 8:15 pm | #
===
The discontinuance of the defined pension plans, as potentially bad as they may have been, the rise of the 401K and IRA as alternatives has been a boon to the investment community, especially the mutual fund industry. I don't see that we individual workers have done any better under this revision. Why would we expect to do better if even the social security component were revised in the same manner?
If memory serves me correctly, IRAs were initially created for the benefit of those who did not have access to a defined pension plan. The 401K had a similar beginnig, but intended for employees of businesses too small to provide an adequate defined pension plan. As soon as both systems were in place the defined pention went bye-bye and the investment managers found themselves closing in on Nirvana.
By Andrea Coombes, MarketWatch
Last update: 12:02 a.m. EDT May 12, 2008
SAN FRANCISCO (MarketWatch) -- Is more than half of your 401(k) invested in your own company's stock? In an ideal world, retirement savers would scoff at that question. But the world of retirement savings is far from ideal, as revealed by the results of a new study released Monday of almost 1 million workers' 401(k) portfolios at 82 large firms.
One-fourth of 401(k) participants closest to retirement -- those 60-years-old or older -- invest more than half of their workplace retirement plan in their company's stock, according to the study by Financial Engines, a Palo Alto-based registered investment advisory firm that provides advice and account management services to retirement-plan participants at large firms.
Some of those older workers take even bigger risks: 15% of 60-year-old or older workers invest more than 80% of their portfolio in their company's stock. About one-third of the 82 companies in the study offer unrestricted stock as a 401(k) plan option.
Lower-salaried workers also tend to rely on company stock, with more than half -- or 54% -- of those earning $25,000 or less holding more than 20% in company stock.
In comparison, about 31% of those earning $25,000 to $75,000 hold more than 20% in company stock, and 27% of those earning $75,000 or more do so.
"One of the reasons people have a lot of company stock is when you're looking at 10 [investment] options, none of which you recognize, but you work for the company, familiarity makes it feel safer," said Jeff Maggioncalda, chief executive of Financial Engines, in a telephone interview. He added that studies have shown investors, when asked whether their company's stock or the S&P 500 is more risky, consistently point to the S&P 500.
Maggioncalda said the study's findings point to the importance of automatic 401(k) plans, in which savers are automatically enrolled in specified investments and their contribution rates automatically rise each year. Right now, most employers adopting automatic enrollment plans generally include only new hires rather than existing savers.
The report, Maggioncalda said, shows that "people have issues they need help with. Employers should not just apply the automatic 401(k) for the lucky people who are just starting out as new hires. They should have automatic enrollment options for existing participants who have problems right now ... and who have less time to fix those problems."
Investing in a single company can lead to dire consequences for retirement savers, according to Financial Engines. Taking a sample $30,000 invested for 40 years, a saver with 80% or more in one company's stock would end up with 66% less money, on average, than a saver who invested 20% or less in company stock, according to Financial Engines' analyses of workers' accounts.
Losing the match
Another red flag: Many workers are failing to claim free money offered by their employers, with 33% of plan participants failing to save enough to get the full matching contribution from their company. Of the 82 companies studied, 62 offer a match, and the average match is 50 cents per dollar contributed, up to 6% of salary.
And younger and lower-income workers are likelier to have low savings rates: The portion of savers failing to get the full match jumps to 48% for savers under age 30 compared with 35% of savers in their 30s, 31% of those in their 40s, 26% of those in their 50s and 28% for savers 60-and-older.
Looking at workers by salary level, 63% of those earning less than $25,000 a year fail to save enough to get their company's full match versus 24% of those earning between $50,000 and $75,000 and 12% of those with salaries of $100,000 or more per year.
"It's really tough to see folks making less than $25,000 who could effectively get a 3% to 6% raise" if they slightly increased their savings rate, Maggioncalda said.
According to a Financial Engines analysis, if a worker saving 1.9% of salary with a median account balance of $5,872 continues contributing at that same rate (and thus receiving a partial company match), that saver will have $46,779 after 20 years. But if the same worker increases the contribution to 6% of salary (thus receiving the full employer match), the expected account balance would be 158% higher, at $120,905 after 20 years.
Older workers tend to save a higher percentage of their salary than younger workers: Savers under age 30 save an average of 5.2% of their salary, according to the study, compared with an average of:
Risky business
- 6.3% among those in their 30s,
- 7% among those in their 40s,
- 8.5% among those in their 50s, and
- 9.1% among those in their 60s or older.
While some workers are holding a dangerous level of company stock, others are overly concentrated in a single asset class, or are choosing overly conservative allocations, among other potential investing mistakes, according to Financial Engines' analysis, which assessed risk level and efficiency for each individual portfolio based on the saver's time horizon and other criteria.
And, while 53% of those with incomes below $25,000 were found to be making investing mistakes, they weren't alone. Workers in higher income brackets made similar mistakes, according to the study, including:
- 37% of those earning $25,000 to $50,000,
- 34% of those earning $50,000 to $75,000,
- 31% of those earning $75,000 to $100,000, and
- 33% of those earning $100,000 or more.
Of course, in some cases, an investor's penchant for a more risky, or less risky, portfolio might not fit exactly into any one definition of best practices. For instance, a young investor could opt to stick to very safe investments.
"It could be the case that ... you're a really conservative 25-year-old," Maggioncalda said. That's O.K., he said, "as long as you know you're taking a lot less risk, which means you'll have much lower expected growth, which means you'll have to save a lot more money than someone who has more equity exposure."
The good news: 23% of those earning $25,000 or less had appropriately diversified portfolios, as did 31% of those earning $25,000 to $50,000, 33% of those earning $50,000 to $75,000, 36% of those earning $75,000 to $100,000, and 37% of those earning $100,000 or more.
Andrea Coombes is an assistant personal finance editor for MarketWatch, based in San Francisco.
December 27, 2007
There's some great investing advice out there, and of course, there's some pretty bad advice as well. If you've ever heard "It doesn't matter how high the price is -- buy all the Enron you can," that probably falls into the latter category.
While you can spend all day listing smart and useful investment advice, I got to thinking about great advice that is limited to four words.
Let's check the results.
"Buy what you know"
This is probably the second-most-famous four-word piece of investing advice. It comes from, or is at least most popularly attributed to, Peter Lynch's One Up on Wall Street. In a timeless article from several years ago, Jeff Fischer writes at great length about this phrase:[I]t is most often read to mean buy the brands that you know, buy the companies that make products that you like, and buy the company names that you always hear in daily life.
When large-cap stocks are soaring, this strategy, simple as it is, appears brilliant. "If I just buy Coca-Cola (NYSE: KO), General Electric, and Hershey, I could double my money every three years!" Of course, when large caps go into long periods of rest or retraction, the strategy requires patience and offers less-than-blistering returns, especially if you "bought what you knew" as it was hitting a seven-year peak.
Buy what you know is one-dimensional advice for three reasons. First, what you know may not be worth investing in. Second, the practice of buying what you know is rarely interpreted to mean buy the business model, the cash flow statement, and the balance sheet that you know backwards and forwards. It too often is seen as "buy your favorite brand." Period. If you happen to know and love Kmart, but you didn't learn about its financials, you [were] in a sorry situation because you were an uninformed investor. Third, I've never heard the term "buy what you know" coupled with anything regarding valuation. It seems to be "buy what you know -- at any price."Thank you, Jeff. "Buy what you know" may help new investors get comfortable with the process, but it simply won't help you pick particularly good stocks if you don't get into the valuation side of the equation. Plenty of people bought Krispy Kreme because they "knew it," and that was a disaster. Alternatively, in the late '90s, plenty bought Microsoft because they "knew it," but, because of the valuation back then, they haven't been well rewarded despite the accomplishments of the company in the interim. Plenty of other people have bought Starbucks because they knew it, and that's worked out fantastically. Simply put, acting on "buy what you know" doesn't lead you anywhere in particular.
"Buy low, sell high"
I'm pretty sure this is the most famous four-word piece of investing advice ever, and as guidance, the phrase is unarguable ... yet largely useless. By definition, if you succeed in buying low and selling high, you've made a profit. Any purchase is made with the expectation -- or at least hope -- that in absolute dollar terms, you're going to be selling at a higher price than what you've bought for. But since the advice itself gives no guidance as to what is "low" and what is "high," it can't be used without a whole lot of addendums. Buy stocks with low P/Es, or at 52-week lows, or during bear markets, or any number of other interpretations of "buying low." Selling high might or might not be useful advice. After all, as Philip Fisher has famously written and as adopted by Warren Buffett, the best time to sell a stock, if it's properly researched, may be almost never.We can all tell plenty of stories about someone selling a stock at a quick profit that seemed high but turned out to be several hundred or thousand percent below what they could have made by holding onto the stock. Tom Gardner frequently mentions Daktronics (Nasdaq: DAKT), Websense (Nasdaq: WBSN), Dell, and Whole Foods when confessing his own bad calls. Not to pick on Tom -- his results speak for themselves. But these were mistakes that came out of the "buy low, sell high" mold.
"Buy an index fund"
This is the most actionable, most mathematically supported, short-form investment advice ever. If you look up The Motley Fool in the encyclopedia -- or at least on Wikipedia -- you'll find that we are "famous for [our] view that, for the majority of people who have little time to keep track of stocks, the best investment strategy can be summed up in four words: 'Buy an index fund.' "And that remains true. If you've got little time to keep track of stocks, this really is the best investment advice around. It's not perfect -- after all, you might be asking, "Which index fund?" And then you'd want to specify certain characteristics, such as:
- No load.
- Low annual cost.
- Low turnover.
- Broad index.
That means a fund like Vanguard Total Stock Market Index (VTSMX), or the Vanguard Total Stock Market ETF (AMEX: VTI), which coincidentally may hold a lot of what you know, including GE, Microsoft, Coca-Cola, Hewlett-Packard (NYSE: HPQ), Verizon (NYSE: VZ), and Procter & Gamble (NYSE: PG).
When cornered at cocktail parties for investment advice, this is the one piece I usually provide. After all, barely 25% of mutual funds beat the relevant market index over time. I don't think that you can really improve on this advice if you're stuck using four words or fewer.
But you can spend more than four words on investment advice, and as with the other four-word mantras above, doing so usually yields even better advice. Like the classic index fund, a managed fund can have no load, low costs, low turnover, and strong diversification. It can, on rare occasions, have managers capable of properly allocating capital and valuing businesses, thereby adding value beyond the overall increases of the market. When you combine all of these factors, you get a fund that improves on its index -- and helps you make money.
Such funds are out there. They take more than four words' worth of work to find, but Motley Fool Rule Your Retirement has uncovered a number of them. Along with a selection of exchange-traded funds that it recommends, as well as index funds beyond the S&P 500, our retirement newsletter focuses on inexpensive, diversified ways to save and invest for a healthy and happy retirement.
For much more on planning for retirement, including tools, investment recommendations, and a suite of discussion boards where you can ask questions to your heart's content, try Rule Your Retirement for the next 30 days, free of charge.
This article was originally published on Jan. 13, 2006. It has been updated.
Bill Barker does not own shares in any of the companies mentioned in this article. Whole Foods, Starbucks, and Dell are Motley Fool Stock Advisor recommendations. Microsoft, Coca-Cola, and Dell are Inside Value selections. The Motley Fool has a disclosure policy.
Lies, damn lies and (retirement) statisticsReluctant retirement savers may be scared straight by these data
By Robert Powell, MarketWatch
Last update: 7:14 p.m. EST Dec. 26, 2007
BOSTON (MarketWatch) -- What's the best way to motivate Americans to save, invest and prepare for retirement? Some behavioral finance experts suggest using the carrot. Others suggest using the stick. And still others suggest using a combination of carrot and stick.
As for me, I suggest the use of statistics. Consider just a sampling of the numbers that have been released this year:
IRAs and 401(k)s
There's $4.23 trillion in individual retirements accounts, but that figure hides the fact that very few Americans contribute to an IRA and even when they do the amount is small.
On average, just 10% of eligible Americans contributed to an IRA for the years 2000 to 2002, according to the latest issue of EBRI Notes. And in 2004, the median contribution to a traditional IRA was just $2,300, according to the Investment Company Institute. The maximum you could contribute to an IRA in 2004, by the way, was $3,000 or $3,500 for those 50 and older.
Now you might say that's not so bleak given that working Americans are presumably saving for retirement using an employer-sponsored plan, such as a 401(k), 403(b), 457 or Thrift Savings Plan. But again, the numbers are somewhat depressing.
There are nearly 100 million Americans age 21 to 64 working full-time, full-year. But of that number, just 60% or 58.4 million work for an employer that sponsors a retirement plan, and only 52.7%, or 50.8 million participate in a retirement plan.
That means roughly half of all working Americans don't participate in a retirement plan or don't have an employer-sponsored plan in which to participate. It also means that a huge number of adult Americans -- by my estimate 150 million of a potential 200 million -- aren't saving for retirement in any meaningful way, if at all.
Retirement risks
According to the Society of Actuaries' 2007 Risks and Process Retirement Survey, roughly half to 60% of retirees worry about three things: the cost of health care, the effect of inflation on their nest eggs and not being able to maintain a reasonable standard of living for the rest of their life.
Those worries are justified given the lack of savings in America. But what's really bothersome is the degree to which those who aren't worried should be.
Consider, for instance, health-care costs. Fidelity Investments estimated earlier this year that a 65-year-old couple retiring today would need $215,000 set aside just to pay for medical expenses over a 20-year span. And if that wasn't depressing enough, other estimates are even higher.
Paul Fronstin of the Employee Benefit Research Institute, for instance, said a 65-year-old couple retiring today would need, assuming average life expectancy of 82 for men and 85 for women, more than $300,000 set aside to pay for health-care costs (premiums and out-of-pocket expenses) in retirement, and more than $550,000 if the couple lives to age 92.
What's even more depressing is that neither the EBRI nor Fidelity estimates factor in the cost of nursing homes, long-term care or assisted-living facilities, or home health aides. And those costs are staggering.
According to the MetLife Mature Market Institute, it costs $69,000 per year for a semiprivate nursing-home room, $35,628 per year for a unit in an assisted-living facility, $19 an hour for a home health aide and $61 per day for an adult day care center. Where's that money going to come from?
Retirement expenses
Retirees and would-be retirees are also right to fret about maintaining their standard of living. Consider, for instance, these numbers: The median household income (half above, half below) in America is $48,451 and the average is $65,527, according to the U.S. Census Bureau. But in retirement, income falls dramatically.
The average total income for those 65 and older in America is $25,610, and the median was a meager $16,770, according to EBRI Notes. That means retirees are living on roughly one-third of their preretirement income. And that's a far cry from the 70% to 80% income replacement experts suggest Americans need to maintain their preretirement standard of living.
Besides not having the income to maintain a similar standard of living, retirees will face expenses that are certain to rise faster than the average rate of inflation.
Consider, for instance, the results of the 2002 Consumer Expenditure Survey. On average, retirees spent 32.6% on housing, 14% on food, and 13% on health care. But that's the average. What's interesting is the degree to which money spent on health care in retirement changes over time.
For instance, those 55 to 64 spend 6.8% on health care, those 65 to 74 spend 11.2% and those 75 and older spend 15.1%. That percentage rises in part because the cost of health care is rising twice as fast as the core rate of inflation (less energy and food), 5% vs. 2.3%, according to the U.S. Bureau of Labor Statistics. But it also rises because older retirees tend to spend more on health care than younger retirees.
Source of retirement income
So where do retirees get their income once in retirement? Again, the numbers are depressing (and deceiving). On average, retirees get 39.8% from Social Security, 23.7% from earnings, 19.4% from pensions and annuities, 15.4% from assets (IRAs and the like) and 1.9% from other sources, according to EBRI Notes.
But the composition of the income changes dramatically based on income. Retirees in the bottom fifth of income, those with less than $8,261 in 2006, got 87.6% of their income from Social Security while those in the top fifth of income, those with greater than $34,570, got 36.4% from earnings, 22.6% from pensions, 20.5% from assets, and just 18.5% from Social Security.
The moral of story
If you are among the 150 million who are not saving for retirement, now would be a good time to do so. If you are among the 50 million who are saving for retirement, now would be a good time to save more.
If you are among those who aren't worried about health-care costs, inflation or maintaining a standard of living in retirement, now would be a good time to start worrying.
If you are among those who worry about retirement risks, now would be a good time to do something about it: Set aside money for health care, for instance.
And if you are among those who don't know what your sources and composition of retirement income will be, now would be a good time to figure that out. After all, waiting to see how things might work out isn't the world's best plan.
Robert Powell has been a journalist covering personal finance issues for more than 20 years, writing and editing for publications such as The Wall Street Journal, the Financial Times, and Mutual Fund Market News.
CNBC anchor Mark Haines stated on air today at 11:00 am: “The two people I don’t trust are realtors and car salesmen. Not that they are dishonest. They just have a vested interest in keeping spirits up.”
Doesn’t that take the cake?
With respect to Mr. Haines and the subject of “keeping spirits up”, readers know my views.
CNN calls themselves “The most trusted name in news” and CNBC is all about “The greatest story never told”. It’s all a crock that nobody believes, so why they play this mindless game is beyond me.
But -- and this is important -- it’s only been in recent years that Wall Street has permitted their best people to speak their minds -- as long as they cover themselves with disclaimers. We need to encourage that.
Wall Street is full of brilliant minds, and these professional players don’t all agree with their colleagues, or with Talking Heads. We need to hear their differences of opinion, directly.
From the media, many of whom are on the sidelines cheerleading advertisers and promoters and their friends, we need to tune out. If they were simply journalists, we should listen.
If you view CNBC as 50% entertainment with some factual information as background, it isn't so bad.
Anyone who blindly invests based on what they hear or read, without doing some of their own analysis, is doing themselves a disservice -- they should get someone else to make their investment decisions. But your main thesis here is right on. Analysts provide value by providing insight into why they think a stock should be valued at some level, and we as investors are free to weight or reject those varied opinions. A difference of opinion could result from a variety of different assumptions, and our assessment of those assumptions is what makes markets move.====
Yes, Wall Street is "full of brilliant minds". You can witness this by the "brilliant" performance of the in-house mutual funds that the brokerages cram down the accounts of their hapless customers. While this is a travesty, even worse is the current move afoot by the SEC and Congress to prevent the retail investor or pension plans from putting any money into funds that can short the market or use leverage.
The S&P 500 only recently recovered back to even after six years and a 40%+ drawdown. Of course, that represents a excellent investment choice according to the regulators and the index fund distributors. Just buy and hold into the sunset.
Q: I am in a quandary regarding my 401-K portfolio allocation. I am 56 years old and understand that in my age category I should have a 60%-40% mix between stocks and bonds in my portfolio.
For the past couple of years, I have been mostly invested in equities but recently shifted to the recommended 60-40 split --- except that right now the 40% is currently in a Money Market fund. This is because investing in bond funds has seemed to be more speculative than equities in these times.
My company 401-K plan provides me with 5 choices and a none of them includes owning bonds directly. Our bond fund return cannot keep pace with the Money Market return. The best choice has been the Equity Index Fund which is an S&P 500 Index Fund.
What do you recommend for people in my situation?
---B.D., Houston, TX
A. Your judgment has been excellent. Bond fund figures for the last three years have been dismal and cash has been a better choice.
You might consider some research by Peter Bernstein. Disappointed with bonds, he found that a 75/25 stocks/cash allocation produced the same volatility as the traditional 60/40 stocks/bonds allocation. In other words, if you hold cash instead of bonds, you can afford to hold more stocks because the cash is more stable than bonds.
Another option would be to look among your fixed income choices and try to find a fund that was what some analysts call "near cash"--- a very short term fund with an average maturity of 1-3 years
1) Very high internal expenses
2) Outrageous surrender penalities (for the first several years) that handcuff you to the product
3) The insurance is nearly worthless
4) The tax deferral aspect is WAY over-rated since index funds accomplish virtually the same thing at a fraction of the cost
5) Money taken out of an annuity is taxed as ordinary income versus the lower (usually) cap gains tax rate
6) Poor estate planning tool b/c the assets don’t receive a step up in cost basis at death and are taxed at the beneficiary’s ordinary income tax rate
Socking away money for retirement is a great idea, but how much do you really need to save? How long do you need to work to set yourself up comfortably in your golden years? Enter your information below, the charts and numbers on the right will change as you go along, so try a few different numbers and see how different scenarios might play out for you.
All amounts are calculated using today's dollar values. The rate of return on investments is adjusted for a 3% inflation rate.
Here are the results of your profile questionnaire. The possible allocation models are Very Defensive, Defensive, Conservative, Moderate, Moderately Aggressive, Aggressive, and Very Aggressive. Your risk propensity suggests a Conservative portfolio allocated with the following mix:
Cash Fixed Income Equity 5% 45% 50% 5% Money Market 20% Domestic Fixed Income 15% International Fixed Income
10% Mortgage Backed10% Large Cap Growth 15% Large Cap Value
10% Small/Mid Cap15% International Equity
February 17, 2008 | The New York Times
IT has been a time to worry even the savviest investors. The credit markets have been in a crisis, the domestic stock market has been shaky and overseas markets haven’t been much better.
David F. Swensen manages investments for the $22.5 billion endowment at Yale.What should an individual investor do?
Don’t try anything fancy. Stick to a simple diversified portfolio, keep your costs down and rebalance periodically to keep your asset allocations in line with your long-term goals. That is the advice of David F. Swensen, who has run the Yale endowment since 1988, relying on a complex strategy that includes investments in hedge funds and other esoteric vehicles. The endowment earned 28 percent in its last fiscal year, which ended June 30, beating all other endowments. It finished the year with $22.5 billion.
For most people, he recommends a very basic approach: use index funds, exchange-traded funds and other low-cost instruments, and stick to your long-term asset allocation — even when the markets are in tumult.
Don’t be distracted by market forecasts, he said. “You have to diversify against the collective ignorance,” he said. “I think nobody is in a position to react to these big macro-issues. Where is the dollar going to be or what is G.D.P. growth going to be in China? For every smart person on one side of the question, there is another smart person on the other side.”
For most individual investors, he said, copying the strategies of institutions like Yale is virtually impossible: big investors have access to fund managers and arcane strategies that are beyond the reach of most people.
“The only people who should get involved are sophisticated individuals who have significant resources and a highly qualified investment staff,” Mr. Swensen said.
“Most people do not have the resources and time to pick market-beating managers” of hedge funds, private equity funds or funds of funds, he said. And he said that the techniques used by hedge funds often result in higher taxes than those of index funds.
So he advocates another approach, which he outlined in the book “Unconventional Success: A Fundamental Approach to Personal Investment” (Free Press, 2005). He proposes a portfolio of (what a genius, this portfolio los more then 30% in 2008 --NNB Jan 26, 2009):
- 30% domestic stocks,
- 15% foreign stocks,
- 5% emerging-market stocks
- 20% in real estate
- 15% each in Treasury bonds and Treasury inflation-protected securities, or TIPS.
The real estate investment can be made through real estate index funds. Though the real estate market has declined and your portfolio is below its target allocation to it, he said, don’t try to time the market. Go ahead and rebalance because no one really knows where the market’s bottom is.
Diversification will buffer a portfolio from declines in specific asset classes. For example, he said: “If the dollar declines dramatically, you have foreign and emerging-market equities. And a declining dollar may well be associated with inflation, but a diversified portfolio would include TIPS,” to provide a hedge. “That means if any of these scenarios play out, an investor has sizable chunks of his portfolio that protect against them,” Mr. Swensen said.
When possible, he said, rebalancing should be done in a tax-sheltered account, like an I.R.A. or a 401(k), to avoid tax liabilities. “When you are putting fresh money to work,” he said, “you put it in an asset class where you are underweight and take money out of a class that is overweight.”
He says it is fruitless for individual investors to pick stocks. “There is no way that an individual can go out there and compete with all these highly qualified and compensated professionals,” Mr. Swensen said.
... ... ...
Mr. Swensen says investors should forget market timing entirely. Once an individual sets up a program, it should be rebalanced quarterly or semiannually, he said, “but it should be disciplined.”
When the markets decline, try not to pay attention, he said. “Let yourself off the hook,” he said. “If you pursue the sensible long-term policy, look at it over a 5- to 10-year period. Don’t look at five months.”
12/13/2007 | USATODAY.comSometimes, the questions we don't ask are more important than the ones we do.
Had someone asked, for example, "Can he hit?" the Red Sox might never have traded pitcher Babe Ruth to the Yankees. Had someone asked, "Do we really need a New Coke?" we wouldn't still be making New Coke jokes.
One question every investor needs to ask is, "How much money can I lose?" It's a particularly urgent question in uncertain economic times — now, for example. So for the second column in our series on dealing with stormy financial markets, we're going to talk about how to make your portfolio as recession-proof as possible.
Let's start with the proposition that the more narrowly focused your portfolio, the larger the potential gains or losses. Suppose, for example, you had invested in the Hey, Boy & Howdy fund, which owned five stocks. If one of its stocks had been Google, then you would have made a great deal of money. But if one of those stocks had been Enron, then you'd be sitting on some big losses.
Highly concentrated funds, particularly those that focus on one sector, enjoy the biggest potential for outsize losses and gains. If you're worried about a downturn, you should look for funds with many holdings. You'll give up the chance for a 100% gain in one year, but you probably won't lose 70%, either.
One easy choice would be Vanguard Total Stock Market Index, which holds 3,685 stocks and tracks the MSCI US Broad Market Index. (Vanguard's rival, Fidelity, offers the Fidelity Spartan Total Market fund, which has 3,411 holdings and tracks the Dow Jones Wilshire 5000 index.)
These funds will protect you somewhat if one stock, or even one whole sector, takes a bruising. Keep in mind, though, that they're still stock funds and will follow the stock market faithfully — even if it walks off a cliff. If you want further protection, you have to invest in something that might not move in lockstep with the broad stock market.
You can use two statistical measures to determine how closely one type of fund tracks another. The first is a fund's statistical correlation with another fund or a broad index. A 100% correlation is a perfect match; a 0% correlation means the two funds' movements are unrelated. A negative correlation means the two move in opposite directions.
Consider, for example, the Lipper large-cap core fund index, which measures the performance of the largest funds in that category. The index has a 98.9% correlation with funds that track the Standard & Poor's 500-stock index. If you own an S&P 500 fund and a large-company core fund, you're not getting much diversification from owning the two funds.
Another measure, called r-squared, shows how much one fund's movements can be traced to the movements of a benchmark, such as the S&P 500. The closer the r-squared is to 100, the more the returns from the fund are attributable to the returns from the benchmark. The Lipper equity-income fund index, for example, has an r-squared of 95.4% with Lipper's index of S&P 500 index funds. Again, pairing the two types of funds in your portfolio won't give you a great deal of added benefit.
You can find both these statistical measurements at www.morningstar.com , and many funds' websites provide the information, as well.
What types of funds don't correlate with the S&P 500? International funds have only a 75% correlation with S&P 500 index funds. Still, you should remember that when the U.S. stock market melts down, foreign markets melt right alongside us. Among sector funds, the lowest correlations with the S&P 500 have been among gold funds, natural resources funds and Japan funds.
But you get better diversification if you mix in funds that invest in different asset classes, such as money market securities or bonds. Over the past three years, funds that invest in Inflation Protected Securities, or TIPS, have had a negative correlation with S&P 500 index funds. So have government securities funds. Municipal bond funds also have a very low or negative correlation with S&P 500 index funds.
Some experts also consider real estate funds to be a separate asset class. In the past three years, real estate funds have had a 53% correlation with S&P 500 funds.
If we were to construct a Cowardly Portfolio, then, we might consider a 20% allocation each to a mix of U.S. stocks, international stocks, real estate, bonds and money market funds. In broad terms, this gives us 60% in stocks, 20% in bonds and 20% in money market securities, or cash.
For ease of calculation, we used Vanguard funds for a low-cost model portfolio. You can create your own cowardly portfolio with funds from different managers, if you like.
The portfolio performs brilliantly in down markets and reasonably well in up markets. Had you invested, for example, in the Vanguard Total Stock fund on Dec. 31, 1999 — the eve of the 2000-02 bear market — you'd have gained about 21% through the end of November. By contrast, the Cowardly Portfolio would have gained 86%, thanks to gains in its other holdings, particularly real estate. The past 12 months, however, the Cowardly portfolio has trailed the Vanguard Total Stock portfolio.
You can adjust the degree of cowardice in the portfolio by adjusting the proportions of your total portfolio that you hold in the different funds. You can also improve your returns by rebalancing periodically. The best method: Rebalance the entire portfolio if one holding rises to 30% of your holdings, or falls to 10%.
If you have a long-term outlook (20 years or more) then you probably shouldn't build a portfolio based on short-term gloom. In the long term, stocks will fare best. But if the question you're most worried about is, "How much will I lose?" then consider a Cowardly Portfolio.
December 17, 2007 | CNNMoney.com:Instead of panicking and dumping stock funds in a downturn, be cool and rethink your strategy, says Money Magazine's Walter Updegrave.
Question: I'm 56 and have my most of my nest egg in stock funds. But with the stock market crashing so much lately, I've become concerned and am considering switching out of stocks. Do you think this is a good idea? - Sharon Bollmann
Answer: I certainly understand your apprehension about the stock market's behavior this year.
After reaching an all-time high in May, the Standard & Poor's 500 stock index - which is a better barometer for stocks overall than the more often watched Dow Jones Industrial Average - has undertaken a series of white-knuckle ups and downs that's made investing in stocks a bit like riding one of those loop-de-loop roller coasters.
More from Money on CNNMoney.com:
• High-Yield Stocks for Retirement
• Fraidy Cat Wants Out of This Stock Market
• Protect Yourself From the Dollar DropAnd with a seemingly unending litany of bad news on the economic front - declining housing prices, ongoing subprime woes, a slowing economy - you can't help but wonder whether we're in for another stomach-churning dive from which it may take many months to recover.
This kind of situation is unsettling for all investors, but even more so for people like yourself who are nearing the end of their careers. After all, the last thing you want is to see the money you've worked so hard for, saved so diligently and invested so carefully get whacked with a big loss just when you're in the home stretch to retirement.
But this isn't the time to give in to fear. Rather, it's a time to re-assess your investing strategy and consider what you need to do to remain on track toward a secure retirement.
If you're like most people in their mid 50s, you probably have a good 10 or more years before you can realistically think about retiring. During that time, you've got to pull off a bit of a balancing act.
On the one hand, you don't want to do anything to unduly jeopardize the savings you've accumulated in 401(k)s and other retirement accounts. But you still need to make that money grow. It's not as if you'll only be investing until age 65.
After calling it a career, you'll probably spend another 20 or more years in retirement. Which means you still need to bulk up the value of your nest egg so it can generate enough income to maintain your purchasing power until you're well into your '80s or even longer.
So even though your gut may be telling you otherwise, you don't want to abandon stocks. Nor do you want to embark on what may seem like a plausible strategy of getting out now with the idea of jumping back in at a more opportune time in the future.
As I pointed out in a recent column, that sort of market timing is very difficult to do and can easily backfire. A better strategy is to decide on a mix of stocks and bonds that's likely to get you the long-term growth you need, but that also offers enough protection so that your nest egg isn't totally scrambled should stocks take even more of a hit.
The blend of stocks and bonds that's right for you will depend on a number of factors, including the size of your nest egg, the value of other resources you have to draw on (Social Security, a pension, home equity, cash value in life insurance policies, etc.) and how much risk you're comfortable taking.
But generally someone your age should have roughly two-thirds of your retirement portfolio in a diversified blend of stocks and the rest in bonds.
It's also important that you continue to contribute to 401(k) and other retirement accounts in the last stages of your career. That may not seem like a very sensible thing to do when the stock prices are falling and the economic outlook appears iffy.
But remember, the shares you buy while the stock market is down will likely be the ones that will have generated the biggest gains a decade or more down the road. And the money you invest during market setbacks could very well provide the spending cash you'll need in your later retirement years.
One final note. While I've tailored my answer to people like you who are nearing the end of their career, the fact is that a tumultuous market like this one presents a challenge no matter where you are in your retirement planning.
So for those of you out there who have more than 10 years before you'll call it a career, you can get a suggested retirement portfolio blend by clicking here, while anyone who's already retired can get a recommend mix by clicking here.
But whatever stage of retirement you're in, remember: no matter what the market is doing, you're always better off setting a reasonable strategy and following it rather than letting your gut or your emotions lead the way.
Copyrighted, CNNMoney. All Rights Reserved.
November 29, 2007 | Kiplinger
Build tax-free retirement income. Contribute to a Roth IRA while you're working. If you're 50 or older next year, you and your spouse can each contribute up to $6,000 to Roth accounts--$5,000 in basic contributions plus a $1,000 catch-up-as long as you meet income requirements (in 2008, your income can't exceed $169,000 if you're married filing jointly or $116,000 if you're single). [link to Roth stories]
November 28, 2007 | WSJ
The toughest questions. The best calculators. The coolest strategies. And a lot more.
Starting in January, the first of an estimated 78 million baby boomers turn 62 years old and become eligible for Social Security.
Time to reach for the aspirin.
Now in its eighth decade, Social Security is arguably more important -- and certainly more complicated -- than ever before. Boomers, for the most part, are on their own when it comes to planning for later life; pensions and related safety nets are disappearing from the workplace. Thus, Social Security checks -- the closest thing to a sure bet in most retirement budgets -- are expected to play an ever-larger role in older Americans' financial security.
More from The Wall Street Journal Online:
• Customizing Cookie-Cutter Funds
• A Nervous Investor's Guide to Overcoming Market Jitters
• Returning to Work Can Affect Social Security PaymentsThe process of getting that check, however, is sure to cause headaches for boomers and bureaucrats alike. The Social Security Administration's 1,300 offices nationwide already see 850,000 visitors each week and field about 68 million telephone calls a year. Would-be retirees, meanwhile, are about to discover that many factors -- taxes, a spouse's earnings history, life spans -- can muddy decisions about how and when to file for benefits.
You can, of course, keep things simple and take the plunge on your 62nd birthday. (About half of workers do.) Even if that's your plan, you owe it to yourself -- and your spouse -- to learn about Social Security and how to get the most out of the system.
"Don't let Social Security just 'happen,' " says Joseph Matthews, a lawyer in San Francisco and author of a guide to the program. "There really are a number of variables that people should consider before they start."
The basics are available from the Social Security Administration. (More about that in a moment.) But to supplement your education, consider the following -- some of the most interesting, obscure, misunderstood and surprising parts of the 72-year-old program:
The most frequently asked question at the Social Security Administration
"How much can I earn and still receive Social Security benefits?" Based on a survey of visits to the agency's Web site, more people -- 315,847 in the first six months of this year -- wanted the answer to that question than any other.
The question refers to the agency's "earnings test" and the apparent penalty for collecting a salary and Social Security at the same time. It works this way: If you are under your "full retirement age" (the age at which you qualify for full benefits) when you first receive Social Security payments, and if you have earned income, $1 in benefits will be deducted for each $2 you earn above the annual limit. In 2008, the limit is $13,560.
In the year you reach your full retirement age, the "penalty" shrinks: $1 in benefits is deducted for each $3 you earn above a higher limit, $36,120 in 2008. Then, starting with the month you reach your full retirement age, the deductions end.
What most people don't realize, says Andrew Biggs, deputy commissioner for Social Security, is that once they reach full retirement age, the agency recalculates their future benefits to compensate for any benefits lost due to the earnings test. For most people, Mr. Biggs adds, "the earnings test isn't a 'tax' so much as a delay in benefits, and so they shouldn't stop working or limit their earnings in order to avoid it."
The most frequently asked question about Social Security in financial advisers' offices
"When should I file for benefits?" Invariably, that's the question planners hear first.
When it comes to the answer, the conventional wisdom is changing. Where many advisers once recommended grabbing benefits at age 62 (at which point your monthly check is reduced permanently by as much as 25%), experts today say extended life spans and the demise of traditional pensions argue for waiting until your full retirement age, or later, to collect a paycheck. (You get your largest possible benefit at 70.)
Even "foolproof" strategies are no longer looked upon as foolproof. "Let's say your doctor tells you that you have six months to live," says Bruce Schobel, a New York actuary who worked in the Social Security Administration in the 1980s. "So, it's obvious: You take benefits at 62, right?" Maybe not. Because of Social Security rules involving spousal benefits, Mr. Schobel says, "taking a reduced benefit at 62 could serve as a cap on the surviving spouse's payout, reducing that person's future benefits by tens of thousands of dollars."
"So even an apparently simple decision becomes complicated," he says.
Calculators, of course, can help. (We discuss some of the better ones below.) But first, take a few minutes to read a new report: "Rethinking Social Security Claiming in a 401(k) World," written by James Mahaney and Peter Carlson, retirement specialists at Prudential Financial Inc. It's the best discussion we've seen about filing for benefits and possible strategies for doing so. (Note to the give-me-my-money-at-62 crowd: The authors conclude that changes in Social Security in recent years "make the value of delaying the receipt of...benefits greater than in the past.")
The report, published in August, can be found at the Pension Research Council, part of the Wharton School at the University of Pennsylvania. (Go to pensionresearchcouncil.org and click on "Working Papers" and 2007. Registration is free.)
Coolest strategies you've never heard of for claiming benefits
One way many couples can maximize Social Security benefits over their lifetimes is for wives to claim benefits at age 62, and for husbands to delay filing until almost 70, says Alicia Munnell, director of the Center for Retirement Research at Boston College. (That's based on a number of factors, including income levels, life spans and survivor benefits.) You can find Dr. Munnell's research in the June issue of the Journal of Financial Planning. (See fpanet.org/journal and click on "Past Issues and Articles.")
Of course, 70 is a long time to wait for Social Security. So, here's a way -- courtesy of Steve Potter, a retired public-affairs specialist at Social Security -- to avoid the wait and still get a sizable benefit at age 70.
The scenario: George, at his full retirement age of 66, expects a benefit of $2,000 a month. His wife, Martha, at her full retirement age of 66, expects a benefit of $1,000 a month.
The strategy: Martha files for a reduced benefit on her own at age 63, or $800 a month. George, at age 66, files for just a spousal benefit, based on Martha's earnings. He would get $500 a month as Martha's spouse. (Yes, Social Security allows George to get half of what Martha was projected to receive at her full retirement age.) Then, at age 70, George applies for benefits based on his earnings history. With the "delayed retirement credit" (the additional dollars one receives for waiting until age 70 to claim Social Security), George's benefit would be 32% higher, or $2,640 a month.
Social Security would stop George's spousal benefit of $500 a month because he's entitled to the $2,640, based on his own earnings, at age 70. Again, for this to work, George must wait until his full retirement age or later to file for a spousal benefit.
The nice part about this strategy is that George -- if he's trying to maximize his and Martha's combined benefits -- doesn't have to wait three or four years beyond his full retirement age for a paycheck; he can start collecting benefits at 66 based on Martha's earnings history -- and jump to a considerably bigger benefit at age 70. As far as the "break-even" point goes -- the age at which the accumulated value of benefits from this strategy will start to exceed the accumulated value from both spouses filing for full benefits at age 66 -- it's 79. Beyond that age, the 63-66 strategy yields a larger total return. (This example assumes George and Martha are the same age.)
Note: Some Social Security representatives we spoke with weren't aware of this strategy. If you try this at your local Social Security office -- and if the staff balks -- ask them to confirm the strategy with Social Security headquarters in Baltimore, which confirmed it for us. >
Best calculators and sources of information
Start with the Social Security Administration and its Web site, ssa.gov.
The calculators alone are worth the visit. Three benefits calculators -- "Quick," "Online" and "Detailed" -- estimate payouts using different retirement dates and levels of future earnings. (Click on "Calculate your benefits" on the home page.)
In addition, an "Earnings Limit" calculator illustrates how a salary -- if you file for benefits before full retirement age and are still working -- might affect your monthly check from Uncle Sam. A "Retirement Age" calculator shows how retiring early reduces your monthly payout (as a wage earner or spouse). And a "Break-Even" calculator shows the age at which the accumulated value of higher benefits -- for a person who claims Social Security, say, at age 66 -- will start to exceed the accumulated value of lower benefits for a person who opts for Social Security, say, at age 62.
More from The Wall Street Journal Online:
• Customizing Cookie-Cutter Funds
• A Nervous Investor's Guide to Overcoming Market Jitters
• Returning to Work Can Affect Social Security PaymentsThe site also provides extensive lists of frequently asked questions in 24 categories; offers access to dozens of forms and publications; and, perhaps most important, allows you to perform a number of tasks online -- including filing for benefits (and, thus, avoiding a trip to the Social Security office). In all, a very valuable tool.
Another useful resource is analyzenow.com, a Web site devoted to retirement issues. Started by Henry K. "Bud" Hebeler, a retired aerospace executive and author of two books about retirement planning, analyzenow features a number of helpful articles about Social Security and two calculators that can help users determine the best age to file for benefits.
Two other online resources: The National Committee to Protect Social Security and Medicare, a Washington advocacy group, has a spot on its Web site called "Ask Mary Jane" (www.ncpssm.org/maryjane). There, you can email a question to Mary Jane Yarrington, a congressional caseworker who joined the group in 1986 as a senior policy analyst. (Before you write, check the archives for earlier questions and answers.)
Second, Stanley A. Tomkiel III, a New York lawyer, is the author of the "Social Security Benefits Handbook" -- the contents of which are available free at socialsecuritybenefitshandbook.com.
Finally, if you prefer print, Mr. Matthews, the San Francisco lawyer, is co-author of "Social Security, Medicare and Government Pensions," one of the best general guides to the program.
Biggest myth -- and most misused words
The biggest myth is that Social Security will go "broke" or "bankrupt" in coming decades.
The Social Security Administration, in its annual report to Congress this year, identified three important dates regarding the health of the program. First, starting in 2017, the agency will begin paying out more in benefits than it collects in revenue. Second, in 2027, Social Security will have to tap the principal in its "trust fund" (its savings account, if you will) to meet its monthly obligations. (The trust fund itself is a flash point in debates about the health of the program. Some observers, including President Bush, say the fund, which lends excess revenue to the federal government and receives special-issue bonds in exchange, is simply a box full of IOUs. But it's a safe bet that when Social Security needs to draw on the trust fund, future Congresses and presidents will make sure the Treasury doesn't default on those bonds.)
Finally, in 2041, the trust fund will be exhausted, at which point the agency will be able to pay only about 75% of promised benefits.
It's certainly not a pretty picture. But at no point will Social Security collapse. Uncle Sam, it's safe to assume, will continue to collect taxes in 2041 and beyond. Part of that revenue will go to Social Security, which will continue to write checks. Again, starting in 2041 (as things stand now) beneficiaries will wind up with payouts worth 25% less than current rules call for. And that's grim.
But broke? Bankrupt? No.
Best source of information on how to fix Social Security
Earlier this year, the Center for Retirement Research at Boston College published "The Social Security Fix-It Book." The cover of the 52-page booklet describes it as "everything the earnest but over-burdened citizen needs to know. Cheerfully narrated and handsomely presented."
That quirky beginning belies what follows: the single best guide we've seen that explains why Social Security is in the mess it's in -- and the leading proposals for restoring it to health. You can download a copy free at crr.bc.edu. Keep it handy when presidential candidates hold forth on their plans to fix Social Security.
Most arcane, but important, debating points
Speaking of presidential politics, the following issues could well figure in the fine print of any "solutions" involving Social Security. Depending on a candidate's stance on these issues, his or her particular solution could end up sounding very painful -- or just painful. Try dropping these nuggets into the conversation at your next dinner party:
Time Horizons: Some policy makers argue that we should look ahead 75 years when estimating the shortfall in Social Security's finances -- in which case, about $4.7 trillion is needed to close the gap. Others argue for adopting an "infinite horizon" -- in which case about $13.6 trillion is needed. (A trillion here, a trillion there...)
Changing Work Force: Some evidence suggests that older workers are remaining in, or rejoining, the work force in greater numbers. If so, and if the trend continues, it could ease (somewhat) the coming strains on Social Security. But there's no telling what baby boomers actually will do in retirement.
Buying Power: Annual cost-of-living adjustments in Social Security are based on the CPI-W, the consumer price index for urban wage earners and clerical workers. But groups including the Senior Citizens League argue that adjustments should be tied to CPI-E, an experimental index for the elderly started in the 1980s. This index tracks expenditures among individuals age 62 and older and better reflects (theoretically) this group's higher spending on health care and other goods and services.
Biggest misunderstanding
The biggest misunderstanding is that your particular tax dollars are being set aside for you at Social Security.
Social Security is not, and never has been, a savings account. " 'Your' money is not in 'your' account," says Dennis Oliver, a retired Social Security Administration manager who now works as a Social Security consultant in Cookeville, Tenn. Rather, Social Security is largely a pay-as-you-go system, in which your tax dollars are used to pay current benefits. (Since the mid-1980s, Social Security has been running annual surpluses that have gone into the trust fund.)
Consider Ida May Fuller, who received the very first monthly Social Security check in January 1940. She was 65 at the time. Ms. Fuller worked for three years under Social Security before retiring, and the taxes on her salary totaled $22.54. By the time she died in 1975 at age 100, she had collected $22,888.92 in Social Security benefits.
Biggest surprises
In 1983, Congress raised the age at which people qualify for full Social Security benefits. Once pegged to age 65, the threshold is increasing gradually until it hits 67 for workers born in or after 1960.
The problem: According to a survey earlier this year by the Employee Benefit Research Institute, 30% of all workers think -- incorrectly -- that they will be eligible for unreduced benefits at age 65. Worse, 21% think they will be eligible for unreduced benefits before age 65.
Separately, for all the discussion about claiming benefits at age 62 or at full retirement age, the decision isn't an either-or proposition. You can take benefits at any point -- any day, month or year -- after 62. The longer you wait, of course, the smaller the reduction in your benefits.
If your full retirement age is 66, and if you file for benefits at 62, your monthly check will be reduced about 25% from your full benefit; file at 63, the reduction is about 20%; file at 64, the reduction is about 13.3%; file at 65, and the reduction is about 6.7%.
Best day of the year to visit a Social Security office
The Friday after Thanksgiving. Yes, the agency's local offices are open on that day -- and are usually very quiet.
--Mr. Ruffenach is a reporter and editor for The Wall Street Journal in Atlanta and the editor of Encore.
Clients often come to me with this same question, and I can't answer it without knowing how much they are spending. Some clients making $100,000 per year are only spending $50,000, while others are earning $110,000 and getting further in debt.
More from Money on CNNMoney.com:
• Extra Boost for an Extreme Saver
• Retirement Savings Doomed by High Fees
• Planner's Promise Too Good to Be TrueSo you should really ask, What percent of my current annual expenditures should I expect to spend in retirement?
The best place to start is determining how much you are spending in pre-retirement. If you're not doing advanced tracking with a software program, then at least have a look at your checking account.
Your current annual expenditures amount to all your income (take-home pay, dividends, etc...) less what you put into savings.
Then you should think about what adjustments you'll make in retirement. Here are just a few life changes that might dramatically reduce expenditures:
Housing: Did you just pay off the mortgage or are you going to downsize the house? The savings could really add up here.
Education Expenses: Are you paying college for the kids and is this an expense that's about to go away?
Auto expenses: Kiss that long commute goodbye, not to mention the bundle you'll save in fuel and maintenance.
Clothes: Maybe you have no more expensive suits to buy and clean frequently.Unfortunately, retirement can bring about changes that increase our expenditures as well. All of that new found time away from the office also brings additional opportunities to spend money.
Travel: I've found many retirees traveling across the country and the world. In some cases, their pre-retirement expenditures can actually double.
Entertainment: Now we've got more time to golf or whatever we enjoy. If what we enjoy costs money, we need to add it to our budget.
Healthcare: Maybe you're lucky and have an employer that pays healthcare insurance. For the rest of us, we need to take into account insurance premiums, Medicare supplemental plans, out of pocket costs and the like. And these costs are going up much faster than general inflation. Make sure you factor this in to the retirement budget.
There are also some good tools out there to use in this process, such as the AOL Money and Finance Retirement Estimator. They can give you a better idea of what your retirement expenses might be.
After I go over this with clients, I typically see that they are spending just as much after retirement as before. That's just fine as long as you've built up the portfolio to support it.
There are times I'll show a client that their portfolio is not adequate to support their desired retirement expenditures. The response I often get is that they won't continue to spend at this level as they get older. This assumption can be risky since we often find other things to spend money on later in life.
My advice is to figure out what you think you will spend in retirement based on your specific needs and desires. Once you have this amount, add 10 percent to it, because we always seem to have these unexpected expenses that come up.
I take a very conservative stance in this area with my clients. I tell them I'd much rather have them come to me in 10 years and say they wish they had spent more, than have them tell me they are out of money and ask what they do now.
Ask Money Magazine's undercover financial planner a question. Send e-mails to: themole@moneymail.com.
Copyrighted, CNNMoney. All Rights Reserved.
It reminds me of the index funds. You're buying 500 companies in the S&P 500 and whether there's an Enron in there or whatever, you're holding it until you're forced to sell or S&P has finally decided to eliminate it from the index.
...More turbulence, in other words, is a distinct possibility. And, collectively, investors are heading into this uncertain period with highly aggressive portfolios.Employees in 401(k) plans recently held nearly 70 percent of their accounts in stocks, marking their biggest bet on equities since July 2001, according to Hewitt Associates. And, many of those portfolios have gravitated toward some of the riskiest types of stocks.
The average account balance for a person in their 60s who makes between $80,000 and $100,000 a year is just $230,000, according to Hewitt. One unexpected event and that nest egg could be wiped out.
Vanguard LifeStrategy Income (NASDAQ:VASIX - News)
This is a fund of funds that keeps most of its money in fixed-income portfolios: Vanguard Total Bond Market (NASDAQ:VBMFX - News) and Vanguard Short-Term Investment-Grade (NASDAQ:VFSTX - News).
But its equity stake can vary from 5% to 30% depending on the asset-allocation calls of Tom Loeb and his team at Vanguard Asset Allocation (NASDAQ:VAAPX - News), which gets 25% of assets here (Vanguard Total Stock Market Index (NASDAQ:VTSMX - News) accounts for the rest of stock holdings).
Loeb uses quantitative models to figure out how much of his portfolio to devote to S&P 500 stocks and the Lehman Brothers Long-Term Treasury Index, and his calls have been consistent and accurate over the years. (Currently Loeb's fund has about three fourths of its assets in stocks, so this fund's equity allocation hangs around 20%.)That give this conservative fund a little upside potential, but it's really designed to preserve capital and generate income. The fund's bear market rank is better than 97% of its conservative-allocation category peers and in the third quarter through Aug. 28 it eked out a small gain that put it ahead of 96% of its peer group.
Investors who are further away from their goals or who are more risk tolerant can check out Vanguard LifeStrategy Conservative Growth (NASDAQ:VSCGX - News) and Vanguard LifeStrategy Moderate Growth (NASDAQ:VSMGX - News), which devote more money to equity funds and have done well in bear markets relative to their peers.
Vanguard Wellesley Income (NASDAQ:VWINX - News)
A colleague of mine recently told me that this portfolio, which keeps most of its money in bonds, was the first fund she ever bought. My first reaction was to say that it seemed awfully conservative for someone whose retirement was still decades off. She retorted that she was looking for a one-stop fund that wouldn't burn an inexperienced investor. Since then she has built a more age-appropriate asset-allocation plan around this fund, but she has never regretted her first purchase because the fund has been so reliable. It has lost money in just three of the last 20 years, has done better than 97% of its peers in bear markets, and has succeeded in delivering a steady stream of income with a portfolio of undervalued, high-yielding stocks and high-quality (mostly corporate) bonds. That the fund has held up well (better than nearly 90% of its conservative-allocation peers for the third quarter through Aug. 28) in the middle of a credit crunch with such a large corporate bond stake is testimony to the security-selection skills of long-time fixed-income manager Earl McEvoy and his team from Wellington Management. Wellington's John Ryan on the equity side is no slouch either. He's leaving the fund next year but has a seasoned understudy lined up in Michael Reckmeyer III. My colleague argues that there are worse newbie-investor mistakes than buying this fund, and I'd have to agree.Vanguard Short-Term Tax-Exempt (NASDAQ:VWSTX - News)
This fund is cautious and consistent. Longtime manager Pam Wisehaupt-Tynan keeps the portfolio's duration, a measure of interest-rate sensitivity, low and its credit quality high. Low expenses allow the fund's conservative approach to work in its favor over time. Put too much of your portfolio here and you could run the risk of not keeping up with inflation or not seeing enough appreciation to meet your goals, but it can take the edge off a taxable portfolio. It's done better than 96% of its peers in bear markets and outpaced almost 80% of them in the current quarter through Aug. 28.Vanguard Balanced Index (NASDAQ:VBINX - News)
Once again, simplicity and low costs work in a Vanguard fund's favor. A mix of 60% MSCI U.S. Broad Market Index (essentially Vanguard Total Stock Market Index ) and 40% Lehman Aggregate Bond Index has produced reliable absolute returns. It's done better than 86% of its peers in bear markets and has bested about four fifths of them so far in the third quarter. The fund's correlation with the overall market is higher, but it's still a solid core holding.Vanguard Wellington (NASDAQ:VWELX - News)
This is another old stalwart managed by the redoubtable Wellington Management. In June, my colleague Chris Davis highlighted this one of Morningstar's favorite "sleep-at-night funds", or offerings that don't keep you awake at night wondering what they are doing. Since then the fund has acquitted itself relatively well. It posted a 1.9% loss for the third quarter through Aug. 28, but that was still better than 82% of its moderate-allocation peers. Its long-term bear market rank also is still better than 86% of its rivals. And like its sibling Wellesley Income it has delivered consistent absolute results, losing money in just three of the last 20 calendar years.Read more about Vanguard funds in our Vanguard Fund Family Report. To view a risk-free trial issue, click here.
Dan Culloton does not own shares in any of the securities mentioned above.
Sep 10, 2007 | MarketWatch
SAN FRANCISCO (MarketWatch) -- In the past several years, retirement plans have been busy adding mutual funds and expanding investment options. But more isn't always better.
"There are still very few 401(k) plans with a lot of investment options we'd enthusiastically recommend," said Paul Merriman, of Merriman Capital Management, a registered investment adviser in Seattle.
So what if your defined-contribution plan at work features a lineup of mutual funds that seems lackluster
"I've never run across a 401(k) plan so bad that I would discourage someone from using it completely," said Raymond Benton, a longtime Denver-based adviser. "You should at least be able to find one fund to invest in." And that's important, as Merriman says, because "you want to take advantage of any matching contributions by your employer."
So rather than compound the problem by making lousy choices within a lousy 401(k) plan, you can make the best of your situation. Here are five suggestions:
1. Use a target-date or life-cycle fund only
Within 401(k) plans, many advisers suggest target-date retirement or life-cycle funds. These include stocks and bonds, both international and U.S. Target-date funds fine-tune portfolio allocations along preset timelines. As you get closer to retirement, they'll gradually reduce stock exposure in favor of bonds.
Life-cycle funds are a bit different. An example is Vanguard LifeStrategy Growth Fund (VASGX ) . An investment board sets allocations between stocks and bonds with more aggressive investors in mind. Sister funds are offered aimed at more conservative investors.
"Life-cycle funds stick with more static allocations depending on risk tolerance and investment time horizons," said Valerie Antonioli, another Denver-based adviser. "You've got to actually move out of one fund and into another if you become more conservative or aggressive."
Both types of funds might be best-suited for investors with smaller accounts, she added. "They generally offer fairly basic choices in terms of diversifying a portfolio," Antonioli said.
By automatically leaving allocation and asset class choices up to fund companies, you're also sacrificing an ability to make tweaks as your circumstances change.
Of course, that might not be such a limitation, given that investors tend to make the wrong moves at just the wrong time, says Antonioli.
"For people with more saved up in their 401 (k) accounts, target-date or life-cycle funds alone probably aren't going to be optimal," she said. "But these types of funds are better options than just putting everything in something like a large-cap value fund or a real estate fund. They're a good place to start."
The popularity of such options means that in all likelihood, some form of one-stop shopping is in your plan. At least 50% of all defined-contribution plans now have either target-date retirement or life-cycle funds, according to the Profit Sharing/401(k) Council of America.
2. Use a balanced fund
The odds improve if your plan has a more traditional umbrella fund. Such so-called balanced funds include stellar long-term performers like Dodge & Cox Balanced Fund (DODBX
)
and American Funds Income Fund of America (AMECX ) . "Balanced funds of some sort are in almost all plans today," said David Wray, the profit sharing council's president.But they usually offer less diversification than most target-date and life-cycle funds, says Patrick Geddes, chief investment officer at Aperio Group in Sausalito, Calif.
3. Stick to the index funds
Aperio, which develops and runs portfolios for advisers around the country, suggests that investors consider creating their own simple portfolios using low-cost index mutual funds.
Stock index funds found in some 401(k) plans include Fidelity Spartan Total Market Index Fund FSTMX) and Vanguard Total International Stock Fund Index (VGTSX ) .
"You can really build a good, long-term oriented and well-diversified portfolio with three basic index funds," Geddes said. "One should cover a broad range of top U.S. stocks, the other provide exposure to foreign stocks and a third to bonds."
The same tack can be applied to actively managed funds. Although managers can shift into different corners of the market when cycles change, they're also typically much more expensive than index funds. Actively managed funds are also less transparent than index funds, says adviser Merriman.
4. Get help with your picks
While your own company or plan provider isn't the best place to turn for advice since they are the ones that saddled you with the poor options in the first place, there are outside sources of aid.
For example, Merriman's Web site, FundAdvice.com, contains a 401(k) help section that reviews more than 80 different corporate retirement plans, including U.S. government options. Some of the private companies listed include Microsoft Corp. (MSFT
Microsoft Corporation.There is also a money-market option that figures into the mix of the moderate and conservative portfolios.
The site notes that the plan covers U.S. large-cap and small-cap growth stocks. But it also says that value offerings are light in small-caps, both internationally and domestically. The plan also lacks a dedicated emerging markets fund, point out the analysts. "It's rare we see a perfect plan," said Mark Metcalf, an adviser at the firm. "But most 401(k) plans have at least one good role player you can use as part of a larger diversified portfolio." Focus on an overall allocation plan and build from there, Metcalf adds. "Look for strong support players instead of a lineup of home-run hitters," he said.5. Work all your accounts into the mix
And don't forget to include Individual Retirement Accounts and possibly a separate taxable account into the mix, says Bryan Lee, a Plano, Texas-based adviser.
"People have a tendency to focus on their 401(k) plans," he said. "But they can also take advantage of other types of accounts like IRAs."Says Metcalf: "Pick and choose from the best in each asset class across all of your different accounts, from IRAs to 401(k) plans." That way, he adds, even if your 401(k) leaves something to be desired your overall portfolio will still be solid.
Murray Coleman is a reporter for MarketWatch in San FranciscoYahoo! Personal Finance You're not a kid. Stop investing like one by Dan Kadlec
You're not a kid. Stop investing like one
September 6, Money Magazine
How do you know when you've crossed the invisible line and you're not young anymore? Maybe it's the first time you look at Billboard's top 20 list and don't recognize a single name. Or when your kids start staying out later at night than you can keep your eyes open.
Or maybe it hits you when you realize that if the stock market falls 30 percent, as it does from time to time, you'll lose the equivalent of a year's pay, not a week's, and you don't want to have to work forever to make the money back.In the last case at least, there's a silver lining. It means you've managed to put away a substantial sum, reaping the benefits of 30 or so years of steady saving and compounding returns.
But that's a once-in-a-lifetime deal. You will never get those 30 years back. If you're a boomer, in other words, the math has started to work against you: Whether you're 49 or 56 or 60, odds are you have more to lose than ever and less time than ever to recover if something goes wrong.
So your age demands that you become more risk-averse. And with the market coming off record highs, the housing market taking forever to find a bottom and a host of other troubling financial signals, you've got reason to worry about stock prices tumbling.
Yet with many good years still in front of you, getting out of the market isn't an option either. You need your savings to keep growing to outpace inflation and reach your goals.
How are you supposed to do all of these contradictory things at once?
Get some perspective
Although it may not feel like it, you probably have time to ride out a decline. Consider the bear market that started in 2000, one of the worst ever. Standard & Poor's 500 dropped 49% over nearly three years, and the index took more than seven years to fully recover.
Do you have seven years before you'll start drawing down your savings? Plus, you're not going to withdraw the whole shebang on Day One but rather over 20 to 30 years or more.
Keep this in mind too: Drops of that magnitude occur only about every 30 years. Declines of 20% to 30% are more typical, and on average the S&P 500 gets back to even 3.5 years after a pullback begins, says Sam Stovall, chief investment strategist at S&P.
In every market drop of less than 15% since 1970 (there have been many), the index has fully recovered within a year.
Do a gut check
That doesn't mean you shouldn't take action to minimize your losses in a pullback, especially if you reach for the Tums every time you listen to the financial news.
"If you're worrying because you can't accept a market drop, now - before there's another big one - is a great time to adjust your asset allocation," says Steven Sheldon, president of SMS Capital Management in Houston.
To assess your age-appropriate tolerance for risk, ask a few simple questions. How much longer do I want to work? Has my health declined? Do I have any large expenses fast approaching, like college tuition or elder care for a parent?
These will give you an idea of how much money you'll need fairly soon and how securely it should be tucked away.
Pick an asset mix that suits you - the sooner you need the money, the less you should hold in stocks - then rebalance once a year to maintain that blend.
For help, check out the Asset Allocator tool. A conservative recommended mix for someone who doesn't need current income and will retire in about 10 years: 40% large stocks, 15% small stocks, 15% foreign stocks, 25% bonds and 5% cash.
Minimize the downside
You want to spread your money among the broad asset classes of stocks, bonds and cash, obviously, but you should also diversify within them. Your stocks or stock funds, for instance, should include foreign shares and a mix of small, medium and large companies, especially big companies that pay a dividend and have consistently grown earnings.
Your bonds should be Treasuries and high-grade corporates. An inflation hedge like gold or Treasury Inflation-Protected Securities (TIPS) wouldn't hurt either.
How effective is broad diversification? Consider the Vanguard Wellington fund, which takes such an approach. In the last bear market - one of the worst ever - this fund actually rose 2.4%. It has lagged the S&P 500 since then but by only a small amount.
Then too, in the seven or so years that the large-cap S&P 500 was falling and clawing back to even, foreign stocks rose 30%, small stocks doubled and real estate investment trusts more than doubled.
The amazing truth: Folks who had properly spread their bets back in 2000 didn't feel much of a pinch at all.
Don't sell after prices fall
When today's bull market finally ends - and it will - don't give in to temptation and sell. It's not easy to stand firm. But selling after a drop almost always backfires.
In fact, if your nerves can stand it, buy more shares while prices are down. Although making a big bet on a market bottom is reckless, a regimen of investing the same dollar amount every paycheck, month or quarter lets you actually benefit from dips, corrections and bear markets.
This discipline can't work quick magic on large losses, but it virtually guarantees that you'll bounce back faster. So instead of worrying about the next bear market, get ready for it and sleep well - at least until the kids get home and wake you.
Yahoo! Personal Finance
"... limit it [your company stock --NNB] to ~10 percent of your portfolio."
Under a law passed last year, you can even sell shares that your employer contributed to your account, as long as you've been there for three years.
Being too conservative
Plowing too much money into low-risk choices like stable value, bond and money funds may seem safe since it protects your 401(k) from market setbacks.
But it's dangerous in the long run because your savings won't grow enough to provide you with an adequate income in retirement.
A better approach: Create a blend of stocks and bonds that provides a cushion against price drops but also gives you a shot at the gains you'll need to amass a sizable nest egg.
For help setting the appropriate mix for your age, check our Asset Allocator tool.
Doin' the smorgasbord thing
In an attempt to diversify, some people spread their money evenly across all the options on their 401(k) menu.
That doesn't produce a well-rounded portfolio any more than scarfing every item at a buffet assures a balanced meal. You might wind up with too big a helping of growth or bonds, depending on your plan's options.
What to do? First plug your choices into the Instant X-Ray tool at morningstar.com to see how your portfolio breaks down by the major asset classes - large and small stocks, bonds and foreign shares.
You can then compare your current mix to the blend our Asset Allocator recommends and, if necessary, rejigger your choices to get your 401(k) on track.
Avoiding these errors won't guarantee you a giant nest egg. But you will be making the most of every penny you set aside. And in the long run, that will pay off.
When a Simpler 401(k) Is Just Dumb
Employers have long hoped that simpler 401(k) plans would entice more workers to save. But for more-savvy investors, that may not be good news.Many companies have pruned the number of investment options in their plans to keep workers from feeling overwhelmed by too much choice. General Motors Corp. and Delphi Corp., for instance, recently cut these options by nearly half. Meanwhile, other companies have loaded up their plans with a slew of target-date funds -- one-stop shopping for retirement savers -- while shrinking the variety of other funds.
But simple isn't always better. In paring choices, companies may be reducing workers' ability to diversify their assets, leaving them exposed to the downdrafts that sometimes roil stocks and bonds simultaneously.
[Jul 31, 2007] Retirement at risk: Who's falling short By Jeanne Sahadi
July 31, 2007 | CNNMoney.com
How would you feel about doubling or tripling your 401(k) contributions? For some people, that may be the only solution if they want to maintain their current lifestyle in retirement. The Center for Retirement Research (CRR) estimates that 36 percent of high-income households - those with a median income of $117,000 - won't be able to live as well in retirement as they do today.Among middle-income households, 40 percent are at risk of having to downsize, while 53 percent of low-income households are likely to fall short.
That hasn't always been the case. "We're at the tail end of the golden era of retirement," said CRR Director Alicia H. Munnell.
In a report released Tuesday, CRR notes that only 20 percent of those who were between ages 51 and 61 in 1992 were at risk of falling short of money in retirement. Today, 32 percent are.
Why the increase? Munnell points to the shift from traditional pension plans to 401(k)s. Plus, she notes, people are living longer, and Medicare and taxes will take a bigger slice out of Social Security checks.
Reviews 'Economic with the truth' by John Kay Prospect Magazine October 2000 issue 56
One of the problems faced by economists is that everyone knows about economics. Most people are ready to accept that a physicist, or a lawyer, or a historian knows something they don't. Economists encounter no similar deference. If you introduce yourself as an economist, you will probably be asked for a prediction about what is going to happen to interest rates, which the recipient will-rightly-not take very seriously.
Politicians regularly express views on economic matters. Not just on the objectives of economic policy, but on technical questions such as the relationship between the money supply and the level of output. When they express similar opinions about questions in hard sciences-as with Stalin's adoption of Lysenkoism or Mbeke's opinions on Aids -- it is understood that they have overstepped the mark. Not so in economics.
Maybe economists do not deserve the professional respect accorded to physicists, lawyers or historians. Perhaps economics is tosh, like spiritualism or scientology; perhaps what students learn in-demanding and sought-after-undergraduate and postgraduate courses is mumbo-jumbo: perhaps the language of economics is useful only in talking to other economists. But if I were writing an...
Blogs
Evaluating My Parent’s 401k Portfolio, Part 1 » My Money Blog
- Yeah, annuities are one of the biggest rip-offs in the financial services industry. Here are some reasons why:
1) Very high internal expenses
2) Outrageous surrender penalities (for the first several years) that handcuff you to the product
3) The insurance is nearly worthless
4) The tax deferral aspect is WAY over-rated since index funds accomplish virtually the same thing at a fraction of the cost
5) Money taken out of an annuity is taxed as ordinary income versus the lower (usually) cap gains tax rate
6) Poor estate planning tool b/c the assets don’t receive a step up in cost basis at death and are taxed at the beneficiary’s ordinary income tax rate
Economic Rebalancing - interesting views on current imbalances and hedge funds industry...
The Mess That Greenspan Made
Calculated Risk
Economist's View
Econbrowser
The Big Picture by barry ritholtz
RGE
Angry Bear
thehousingbubble
housingpanic
globaleconomicanalysis
iTuilip Asset allocation
- Asset allocation - Wikipedia, the free encyclopedia
- Rebalancing (investment) - Wikipedia, the free encyclopedia
- Nobel Laureates
- Five Top Mistakes of 401(k) Investing Money & Happiness - Yahoo! Finance
- How Can Employers Improve Defined Contribution Plans - Knowledge@Wharton
Pensions problem
401k Revenue Sharing Controversy There are two big points in a recent article in Kiplinger.com on the topic of hidden 401k fees. The first is the issue of “revenue sharing” between a 401k fund choice and the 401k’s plan administrators. Apparently what happens is that large investment companies are essentially offering a “kickback” to a plan administrator if they recommend the use of their funds. Last fall, insurance giant ING settled, without admitting wrongdoing, an investigation by New York Attorney General Eliot Spitzer into payments to a New York teachers union to endorse and promote ING annuities in the union’s retirement savings plan
- Retirement Rip-Off
- Quinn A Requiem for Pensions - Newsweek Jane Bryant Quinn - MSNBC.com
- How Americans mess up their 401(k)s - Cracked Nest Egg - MSNBC.com the overall 401(k) saving picture is “very depressing.”
- Will you ever be able to retire - Cracked Nest Egg - MSNBC.com Traditional defined-benefit pensions spread that "longevity" risk among a large pool of workers, using actuarial research on predicted life spans. Now annuities sellers will fleece individuals: with individually managed plans, the longevity risk falls fully on each retiree.
- Think you know what you need to retire Think again. Financial News - Yahoo! Finance -- should be read with a grain of salt (there are definitely trying to sell annuities in this paper); this is a nice example of how much CNN is hostage to financial industry, the most promising candidate out of three classic candidates into class of parasites (FIRE - financial industry, insurance and real estate)
Recommended Links
In case of broken links please try to use Google search. If you find the page please notify us about new location
- www.peterlbernsteininc.com
- Wall Street magicians battle for 'prestige' of taking your money - MarketWatch by Paul Farrell
- B.S. is Wall Street's official language by Paul Farrell, MarketWatch. Jul 3, 2006
- American Casino
- The Bubble Maestro's House of Cards in the market Casino by Gaurang Bhatt, MD
- The Wall Street Casino Remarks by John C. Bogle Founder and Former Chairman, The Vanguard Group
The New York Times August 23, 1999The Chinese Stock Market A Casino with 'Buffer Zones' MacroScan - The Stock Market as Casino Prudential to pay $600 million penalty The Casino Economy Capitalism's Casino Irrational Exuberance
Definition of Irrational Exuberance
The term "irrational exuberance" derives from some words that Alan Greenspan, chairman of the Federal Reserve Board in Washington, used in a black-tie dinner speech entitled "The Challenge of Central Banking in a Democratic Society" before the American Enterprise Institute at the Washington Hilton Hotel December 5, 1996. Fourteen pages into this long speech, which was televised live on C-SPAN, he posed a rhetorical question: "But how do we know when irrational exuberance has unduly escalated asset values, which then become subject to unexpected and prolonged contractions as they have in Japan over the past decade?" He added that "We as central bankers need not be concerned if a collapsing financial asset bubble does not threaten to impair the real economy, its production, jobs and price stability."
Immediately after he said this, the stock market in Tokyo, which was open as he gave this speech, fell sharply, and closed down 3%. Hong Kong fell 3%. Then markets in Frankfurt and London fell 4%. The stock market in the US fell 2% at the open of trade. The strong reaction of the markets to Greenspan's seemingly harmless question was widely noted, and made the term irrational exuberance famous. It would seem to make no sense for markets to react all over the world to a question casually thrown out in the middle of a dinner speech. Greenspan probably learned once more from this experience how carefully someone in his position has to choose words. As far as I can determine, Greenspan never used the "irrational exuberance" again in any public venue. The stock market drops around the world that occurred after his speech on December 6, 1996 have all been forgotten, eclipsed by bigger subsequent events, but it was those stock market drops that focussed public attention on the phrase irrational exuberance and which caused it to enter our language.
The term irrational exuberance became Greenspan's most famous quote, out of all the millions of words he has uttered publicly. The term "irrational exuberance" is often used to describe a heightened state of speculative fervor. It is less strong than other colorful terms such as "speculative mania" or "speculative orgy" which discredit themselves as overstating the case. I chose this phrase as the title for my book because many people know instantly from this title what this book is about.
Often people ask me whether I coined the term irrational exuberance, since I (along with my colleague John Campbell and a number of others) testified before Greenspan and the Federal Reserve Board only two days earlier, on December 3, 1996, and I had lunch with Greenspan on that day. I did testify that markets were irrational. But, I very much doubt that I am the origin of the words irrational exuberance. Actually, Greenspan is quoted in a Fortune Magazine article in March 1959, long before he became Federal Reserve chairman, about "over-exuberance" of the financial community. Probably, "irrational exuberance" are Greenspan's own words, and not a speech writer's, and probably Alan Greenspan had written a draft of his 1996 speech even before I testified.
Robert J. Shiller
Cowles Foundation for Research in Economics
and International Center for Finance
Yale University
30 Hillhouse Avenue
New Haven, CT 06511
robert.shiller@yale.edu- Irrational Exuberance
- Stock market crash - Wikipedia, the free encyclopedia
- Stock Market Crash! Blog
- Can Crashes be Forecasted
- The Effect of Market Cycles
- Amazon.com Unexpected Returns Understanding Secular Stock Market Cycles Books Ed Easterling One of the strongest points emphasized by the book is that interest rates and inflation have never been stable for long, and the recent condition of low inflation price stability is a historical anomaly. The author uses a plethora of graphs and charts to prove that "buy and hold" doesn't always provide the best returns. Obviously, then, it's better to pull out during the bear markets, but that's easier said than done
Rising inequality
- BBC NEWS Business The end of the American dream -- notes about rising inequality in the USA
- [Sept 22, 2006] Samuelson Growing Economic Inequality Threatens U.S. Values - Newsweek Robert Samuelson - MSNBC.com The rich are getting an ever-bigger piece of the economic pie. In 2005, the richest 5 percent of households (average pretax income: $281,155) had 22.2 percent of total income, reports Census. In 1990, the share was 18.5 percent; in 1980, 16.5 percent. These figures exclude capital gains—profits on stocks and other assets—that have most benefited the richest 1 percent. With capital gains, their pretax income averaged about $1 million in 2003. That was about 20 times the average income of households in the middle of the economic distribution. In 1979, the ratio was 10 to 1.
- SustainableDevelopment Japan's Role
Structural problems in mutual funds industry
- networkideas.org - A Scam on Workers Savings in the US
- Financial Warfare to lead to demise of Central Banking
- Citigroup after the Merger
- Online NewsHour Mutual Funds Fraud -- November 3, 2003
- Fool.com Come See the Parasites [Commentary] September 5, 2003
- Miller Risk Advisors Uncle Possum's Handbook of Mutual Fund Scams
Please note that CCM Capital Appreciation C was not involved in the SEC charges of fraudulent market-timing aimed at PIMCO nor was Bill Gross, PIMCO's chief investment officer, who opines in this month's Investment Outlook that the high fees charged by hedge funds make them "generally overpriced." Bill Gross manages PIMCO's humongous Total Return Institutional Bond Fund, which has an expense ratio of 0.43% and tracks the comparable Lehman index with an R-Squared of 95%. Vanguard has an institutional fund that closely tracks the Lehman index for a 0.05% expense ratio. Therefore, Mr. Gross gets about 0.38% for the active 5% of the fund, which is a "true" expense ratio of 7.8%. It must be said that Mr. Gross delivers an impressive alpha of 0.84 on that active 5%, so he could have a bright future in hedge funds.
Etc
FSO Editorials Tainted Research Lysenkoism - American Style by Antal E. Fekete 06-10-2003
by Antal E. Fekete,
Professor Emeritus, Memorial University of Newfoundland
June 10, 2003Unfortunately, the use of "Lysenkoism" as an epithet has been degraded by overuse, especially in absurd situations. I propose to restrict "Lysenkoism" to circumstances where a clear case can be made for coercive enforcement of the belief system from outside the system (e.g., by state patronage). For example, if a concept spreads concurrently among the scientific communities of several countries, it is almost certainly not Lysenkoism. One might feel like calling it that, but the analogy with Lysenko would fail to apply.
Copyright © 1996-2009 by Dr. Nikolai Bezroukov. www.softpanorama.org was created as a service to the UN Sustainable Development Networking Programme (SDNP) in the author free time. Submit comments This document is an industrial compilation designed and created exclusively for educational use and is placed under the copyright of the Open Content License(OPL). Site uses AdSense so you need to be aware of Google privacy policy. Original materials copyright belong to respective owners. Quotes are made for educational purposes only in compliance with the fair use doctrine.
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Last modified: November 11, 2009
401(k)s Hit by Withdrawal Freezes
Investors Cry Foul as Some Funds Close Exits; Perils of Distressed Markets
By ELEANOR LAISE
Some investors in 401(k) retirement funds who are moving to grab their money are finding they can’t.
Even with recent gains in stocks such as Monday’s, the months of market turmoil have delivered a blow to some 401(k) participants: freezing their investments in certain plans. In some cases, individual investors can’t withdraw money from certain retirement-plan options. In other cases, employers are having trouble getting rid of risky investments in 401(k) plans.
When Ed Dursky was laid off from his job at a manufacturing company in March, he couldn’t withdraw $40,000 from his 401(k) retirement account invested in the Principal U.S. Property Separate Account.
That fund, which invests directly in office buildings and other properties, had stopped allowing most investors to make withdrawals last fall as many of its holdings became hard to sell.
Now Mr. Dursky, of Ottumwa, Iowa, is looking for work and losing patience. All he wants, he said, is his money.
“I hate to be whiny, but it is my money,” Mr. Dursky said.
The withdrawal restrictions are limiting investment options for plan participants and employers at a key time in the markets. The timing is inconvenient for the number of workers like Mr. Dursky who are laid off and find their savings inaccessible.
Though 401(k) plans revolutionized the retirement-savings landscape by putting investment decisions in the hands of individuals, the restrictions show that plan participants aren’t always in the driver’s seat.
Individual investors mightn’t even be aware of some behind-the-scenes maneuvers causing liquidity problems in their retirement plans. Many funds offered in 401(k) plans lend their portfolio holdings to other investors, receiving in exchange collateral that they invest in normally safe, liquid holdings.
The aim is often to generate a small but relatively reliable return that can help offset fund expenses. But in recent months, many of the collateral investments have gone haywire, prompting money managers to restrict retirement plans’ withdrawals from the lending funds.
Some stable-value funds also are blocking the exits. These funds, available only in tax-deferred savings plans such as 401(k)s, typically invest in bonds and use bank or insurance-company contracts to help smooth returns. But in cases of employer bankruptcy and other events that can cause withdrawals, these funds can lock up investor money for months at a time.
Investors in the Principal U.S. Property Separate Account said they understood the risk of losses, but didn’t think their money could be locked up for months or years. Most participants in the 15,000 plans holding the fund haven’t been able to make any withdrawals or transfers since late September.
“To sell property at inappropriately low prices in order to generate cash for a few would hurt the majority of investors and violate our fiduciary obligations,” said Terri Hale, spokeswoman for Principal Financial Group Inc., the parent of the fund’s manager. The fund, which had $4.3 billion in net assets at the end of April, still is making distributions for death, disability, hardship and retirement at normal retirement age.
As of April 28, redemption requests that had yet to be honored totaled nearly $1.1 billion, or roughly 26% of the fund’s net assets. Principal doesn’t anticipate that it will make any distributions to investors who have requested redemptions until late 2009 or beyond, Ms. Hale said. Meanwhile, the fund continues to fall, declining 25% in the 12 months ending April 30.
Some investors have lost hope of recovering their money. Judith Sterner, a 69-year-old part-time nurse, had more than $12,000 in the fund when she tried to transfer that balance to a money market last fall. But her transfer was denied, and her stake has since declined to less than $10,000.
“This $12,000 represents a year of my retirement money that I don’t have,” said Ms. Sterner, of Morton Grove, Ill.
Principal still allows new investors into the fund. It categorizes the U.S. Property account as a fixed-income investment, alongside much stodgier funds holding high-quality bonds. New investors are warned of potential withdrawal delays, Ms. Hale said. As for the fixed-income categorization, she said, “a substantial portion of the account return is based on income streams from rents, and its returns have been comparable to fixed-income funds.”
While the problems selling real-estate investments are relatively straightforward, withdrawal restrictions related to securities lending stem from far more obscure practices.
Funds often lend out portfolio holdings, through a lending agent, to other investors. These borrowers give the lender collateral, often amounting to about 102% of the value of the securities borrowed. Some of the collateral pools in which funds invest this collateral held Lehman Brothers Holdings Inc. debt and other investments that plummeted in value or became hard to trade in the credit crunch.
Though agents who coordinate funds’ lending programs share in profits from securities lending, the risk of such collateral-pool losses falls entirely on the funds that have lent the securities and, ultimately, retirement plans and other investors holding those funds.
The problems have limited retirement plans’ ability to get out of securities-lending programs, though participants’ withdrawals generally haven’t been affected.
Retirement plans offered to employees of energy company BP PLC last fall tried to withdraw entirely from four Northern Trust Corp. index funds engaged in securities lending. Certain holdings in Northern’s collateral pools had defaulted, been marked down, or become so illiquid that they could only be sold at low values, according to a BP complaint filed in a lawsuit against Northern Trust.
The BP plans halted new participant investments in the funds and asked to withdraw their cash so it could be reinvested in funds that don’t lend out securities.
But under restrictions imposed by Northern Trust in September, investors wishing to withdraw entirely from securities-lending activities would have to take their share of both liquid assets and illiquid collateral-pool holdings, according to a Northern Trust court filing. BP rejected that option, and the companies still are trying to resolve the matter in court.
Northern Trust’s collateral pools are “conservatively managed” and focus on liquidity over yield, the company said.
State Street Corp. in March notified investors of new withdrawal restrictions in its securities-lending funds. Until at least the end of the year, plans can make monthly withdrawals of only 2% to 4% of their account balance, the notice said.
Plans wishing to withdraw entirely from lending funds will have to take a slice of beaten-down collateral-pool holdings.
“Given the current state of the fixed-income market, we felt it was prudent to put some well-defined withdrawal parameters in place,” said State Street spokeswoman Arlene Roberts.
Write to Eleanor Laise at eleanor.laise@wsj.com