Invest Mess

We’ve heard President Obama speech to Congress, as well as the echoes and twists of the pundits , and we know what to do next. Or, do we? Those of you that read this on a weekly basis know that, when it comes to investments, I’m a big fan of discipline. Unfortunately, “staying the course” has cost me a lot of money over the past few months but I’ve not given up faith in our economic system or our ability to rise from this setback, albeit a huge setback. The question remains, what should we do now? You know my answer, we should follow our plan and make adjustments to that plan, if we find adjustments to be necessary.

A lot is written about investments. In fact, turn on CNBC for a few minutes – through a commercial break – and you will no doubt learn of a company, or two, that holds themselves out to be your financial savior, your retirement beacon, or your low cost provider of investment transactions. I have nothing against these firms or the people that work for them. Many people need advice and counsel and I firmly believe that there is not a single investment product that is wrong, or one that is right, for everybody.

We hear a lot these days about passive investing, where one places their money in index mutual funds, or funds that mimic index mutual funds, that are low cost. Many mutual fund companies have these. You, however, may have a 401k or 403b plan at work that limits your choices to mutual funds that have been picked by the plan advisor. Even so, these plans often have mutual funds in each of the following categories: cash, fixed income (bonds), large capitalized stocks, small capitalized stocks, international, and another category such as a real estate investment trust, gold, commodities, or other choice. You may, however, not know how you should diversify your investments across each of these categories and, I’m willing to bet, you probably haven’t checked to see if your original allocations continue to hold as one category may have grown, while another has decreased. (Most likely, over the past year, all of them have decreased but one or more may have decreased less than the others.) That is, of course, not true if your plan automatically rebalances to meet the targets on a monthly or quarterly basis.

The above are some suggested allocations for one’s total portfolio, depending on one’s investment goals. It is common practice for financial planners to advise people to be more aggressive when they are younger and less aggressive when they are older. If we take the categories above, and assign ages to them, we might say that an Income portfolio would be appropriate for someone in retirement, the Conservative portfolio would be appropriate for someone between the ages of 45 and 65, the Capital Appreciation portfolio for someone 35 to 45 years old, while the Aggressive portfolio, for the youngest employees with the longest time horizons.

As an example, across the total portfolio of financial assets, and using the Conservative portfolio as the example, one could have 10% in cash, 43% in fixed income government and corporate bonds, 12% in large cap stocks, 4% in small cap stocks, 16% in international stocks, and 15% in other assets such as commodities, gold, and real estate investments.

What this approach does is keep you invested in each of the broad categories of investments, while reducing the risk of your portfolio as you age. Why? Well ( I hate to break the news to you), that is due to the fact that the older you become the less time you have to recover from large losses. On the other hand, a long period of time prior to retirement for a young person, allows them to wait for markets to recover. Another strong point of this method is that by rebalancing to our targets, it forces us to sell at a high price and buy at a low price, without ever leaving our position in total.

In general, most people agree that markets are pretty efficient. What that means is that it is very difficult to “beat the market” and it is real easy to “lag the market”. The best way to avoid the latter and to find financial success is to “match the market”. The easiest way to do this is to use index mutual funds that replicate sectors of the market. Much has been written about this but, before I write a book instead of a tip, let me refer you the following three books on the subject.

Ellis, Charles D., Winning the Loser’s Game

Solin, Daniel R., The Smartest Investment Book You’ll Ever Read

Swedroe, Larry, Wise Investing Made Simple

- Robert O. Weagley, Ph.D., CFP(r)

Chair, Personal Financial Planning

University of Missouri

Columbia, MO 65211

Problem or Solution?

By Jeffrey Miller¹ and Robert O. Weagley

We’ve been hearing a lot about the Paradox of Savings the past few weeks. The phrase was coined my Lord Keynes to refer to the fact that, when the economy is in recession and the economy needs people to spend money, people often do the opposite and save money out of fear that times may be getting worse. Many of us are doing just that, reducing unnecessary expenditures while we try to save more for our future. And, yes, this will slow the recovery. What, however, should we be doing?

I am a great believer in the power of capitalism, built on the belief that the pursuit of self-interest will generate a society that is a reflection of the values of the citizenry. Given this belief, saving money for our future continues to be a positive for each of us. Trust me, when things begin to turn, people will begin to spend.

At some time in your life, each of you have heard someone say, “Investing and saving money is hard and complicated.” This is only true if you want it to be. You make it as hard and complicated as you want, by how you approach it. Saving money is like training for a race. If I told you that, tomorrow, you had to run a marathon you would probably say, “Impossible!”. (I know I would.) If, on the other hand, I said you had one year to train and condition yourself before you run the marathon, you might agree that it is possible to run a marathon, assuming you have the time and self-discipline.

The same goes for saving, all it takes is time and a little self-discipline and, like most things, the first step is the hardest. When we think about improving our net-worth, we don’t immediately to go out and buy $50,000 in stock. Most of us start small, with $10 or $20, and open a savings account at our local bank. So let us answer the question, “How do I start a savings plan?” in three simple steps: 1) Budget your money, 2) Set small goals, and 3) Have self-discipline.

1) Budget your money: First, before you start saving, you have to understand how much income you have coming into your household (or dorm room) and how much money you have leaving your household, as well as where it goes. Next, begin to budget your money with the highest priority being the category of savings. Stop spending all of your money, until the next payday allows you to do it again; week after week, month after month, and year after year. You have to be able to track both income and expenses. When you start this habit, it will work magic on your expenditures. As you track your expenses, write them down – all of them - for a period of a month. I know you will find ideas about where you can begin to save money and, typically, without lowering your satisfaction from life. For example, if you begin tracking your expenses and find out that you buy one soda every day at work for $1.00 per soda. If you do this for 48 weeks, you will spend $240. That is a lot of money and you will have nothing to show for it. (Well, maybe you do. If so, you now need a gym membership to get rid of it.)

2) Start with Small Goals. You have to set a goal for your savings. It is easier to “do without”, when you know “what you are doing it for”. When it comes to saving and setting goals, set a reasonable goal, say $20 or $30 dollars a month. (You can always increase the amount at a later date.) Set your goals and stick to them. Target savings toward something that is meaningful to you – like a downpayment on a house. You must be able to save month-to-month, before you can reach your goals of buying a house, a car, or a fulfilling retirement.

3) Have self-discipline. You must have self-discipline. When it comes to saving money, as training for a marathon, you need to apply yourself to your goals. If you have a goal of saving $20 a week and have budgeted for buying 5 sodas a week, do not allow yourself to buy soda number six! You must have self discipline. This is the same self discipline that one needs to train for a marathon. You will have times where you do not want to have discipline. These times are precisely the times you must have the strength to focus on your goal. As Dr. Weagley’s father used to say, “Quitting is always hardest the first time.” You have to make yourself achieve the goals you have set for yourself or, at least, fail knowing that you gave it your best.

We are not saying that this is easy. You will have setbacks along the way, but you will find that the feeling of accomplishment, from reaching your goals, is very powerful. If you train a year for a marathon, when you cross the finish line, you will know that you accomplished something. The same goes for saving money. You have to budget, set small goals, and have the self-discipline to stay on track and finish the race. When you save the money to buy your first house, buy a newer car, or provide yourself with a financially stable retirement, you will know that you have accomplished something great – Financial Success on your terms!

- Jeffrey Miller, Graduate Student and Robert O. Weagley, Ph.D., CFP^(r), Chair

Personal Financial Planning

University of Missouri

Columbia, MO 65211

Help! Man Overboard! Help!

Robert O. Weagley, PhD, CFP^®

The seriousness of the economic downturn has hit academia and universities across America are taking steps to reduce their costs, as a way of staying within their budget. Particularly hard hit are those institutions that rely heavily on endowments to provide income for their operations. In December of 2008, Stanford University announced a 10% pay reduction for its top administrators. In a similar vein, the prospects of employee furloughs have surfaced from Maryland to California, including being mentioned this week by the President of the University of Missouri System, Gary Forsee.

I’ve had people ask me what a furlough means. It is essentially a pay cut, for the employee is asked to take time off from work without being paid. On the other hand, it is different from a pay cut, because a furlough is temporary. Moreover, if you don’t have to go to work at, say, the university, you could actually find a temporary job, or self-employment, to enhance your income – while maintaining your benefits at your place of employment.

What should you do, if the prospect of you being thrown overboard as a cost saving measure looms on your horizon? The answer is relatively simple. You need to budget now to prepare yourself for additional cost-saving decisions should they become necessary. In that light, it is very important for you create and maintain an emergency fund to help you through this potential time of reduced pay.

To begin, you must budget your money. Some helpful worksheets and other information are provided on our Office for Financial Success website . You need to know where your money is going, if you are to have any hope of plugging the holes in your bucket, reducing expenses, and succeeding through these tough times.

An important part of this program is to establish an emergency fund. When you hear the word furlough, you have to wonder, “How long can I go without a paycheck”. Most financial professionals recommend you have from three to six months living expenses in your emergency fund.

We know that most families do not have an emergency fund. As a result, they pay more for insurances that have lower deductibles and they face greater stress when it comes to economic uncertainty. Most would agree that these are key areas to establish if you are able to enjoy your financial life. A liquid emergency fund of three to six months living expenses is a real key to financial success.

- Robert O. Weagley, Ph.D., CFP(r)

Chair, Personal Financial Planning

University of Missouri

Columbia, MO 65211

Bonds. (We're not talking about baseball.)

Robert O. Weagley, PhD, CFP®

The recent carnage in the stock market has increased interest in bonds as an investment category. While many corporations’ bonds have also been hit hard in the current economic malaise, many writers point out that the difference between the yields on bonds and Treasury bonds has not been this great for half a century. This is even true for municipal bonds, that are generally free from federal and, sometimes, state and local income taxes. Why is this and what should you know?

Municipal bonds have a reputation for safety. Municipal bonds, for example, that are general obligation bonds, have the full taxing authority of the issuing government behind them. So why, then, are municipal bonds packing after-tax yields of 8%. (This is greater than the 7% after-tax yield on stocks since 1926.) The answer, unfortunately, rests in the fact that the municipal bond market is rather fragmented and that most issuers use bond insurers – the same insurers that have been beat-up in the mortgage meltdown.

According to Jason Zweig, of The Wall Street Journal ($$$), another reason is the fact that many municipal bond mutual funds have invested in tender option bonds which take the bonds and create two separate products, the short-term fixed part and the long-term variable part. The long term variable part has examples where upwards of 50% of the value of the bonds has been lost in the past year.

So what’s an investor to do?

First, do not purchase individual mutual bonds, unless you’ve substantial assets to invest. Most municipal bonds have face-values of $5,000. Thus, an investor with $100,000 would purchase 20 different municipal bonds with his/her money. One default or mistake could easily cost you 5% of your principal. On the other hand, investors could purchase municipal bond funds. In fact, investors with state/local income taxes can often find municipal bond funds that only have bonds from their state to take advantage of this additional “no-tax” benefit. (Guess what, New Jersey, New York, and California are high income tax states with the law favoring in-state bonds. Would you like your municipal bond portfolio to be only invested in one of these states at this time? I don’t think so.)

Each time we think about investing in a mutual fund, remember to do some simple things:
· Try to only consider bond mutual funds with annual expense ratios of less than 0.5%, or lower. For stock funds, the threshold can be raised to 1%.
· Read the prospectus. Better yet, download it from the web, and then read it – first with the “find” option on your document editor. Look for key words:
o Tender
o Option
o Bond
o Derivative
o Inverse
o Ratings – see what the prospectus says are the “ratings” of these bonds. Remember BBB, or greater, are investment grade bonds. BB, or lower, are “junk” bonds.
o Make sure you know the expense ratio and that it is within reason (0.5%, or less, for bond funds)
o Turnover ratio should be 50% or less. More than 50% for a bond fund is excessive and adds to the funds internal costs which are passed on to the investor.
· Try to stick with fund families with stalwart reputations; Vanguard, T. Rowe Price, PIMCO, among others.
· Finally, read and study more about personal finance. Seek out programs offered by your local Extension office, on-line courses or informative websites, community college coursework, adult education programs, or your local university.

Yes, there appears to be investment opportunities in today’s market – a market that has slowed many a person’s quest for financial success. Look at these opportunities but do your homework and seek more information. While many people can manage their personal finances without the aid of paid assistance, others need assistance to help wade through the details of today’s investing world. If you’re one of these, pay someone to help you. Success rarely comes to one who sits and waits on her. Success prefers those who pursue her.

- Robert O. Weagley, Ph.D., CFP(r)
Chair, Personal Financial Planning
University of Missouri
Columbia, MO 65211