Create Your Own Pension using an Immediate Annuity

The American Association of Individual Investors creates really wonderul articles that are well researched and free of bias (they take no advertising).

This article is appropriate for those in retirement who are fearful of terrible stock market returns wrecking their retirment. One idea is to take some of your invesment assets and purchase an immediate annuity that makes monthly payments to you for the remainder of your life. The payments are guaranteed by an insurance company.

Sometimes I advise clients to consider covering their basic living expenses with "safe" income sources. Social Security, pensions, and immediate annuities could fill this need.

See the article for details:
http://www.feesonly.com/rcfp/November_2009_AAII_-_Create_Your_Own_Pension_-_Immediate_Annuities.pdf

Valuation Metrics

This talk was presented to a meeting of the American Association of Individual Investors (a wonderful organization by the way) and since it is by one of my favorite investing groups, I attach it here for your perusal. Some of the charts are wonderfully educational. In particular, see page 7 of the presentation.

It will be of more interest to those particularly intrigued by market history. See the presentation:
http://www.feesonly.com/rcfp/AFAMI_AAII_Presentation_11.19.09.pdf

The Devil's Dictionary - Crisis Edition

The financial crisis of 2008-09 has created a real opportunity for newly minted acronyms, neologisms, and euphemisms. Matthew Rose of The Wall Street Journal has cooked up a hilarious modern version of Ambrose Bierce’s original “Devil's Dictionary."

AAA, n., obsolete. A rhetorical device used to dupe buyers into purchasing securities backed by shacks dressed as houses, and to secure the highest possible spot in telephone directories. common usage: AAA Septic Drainage and Mortgage Backed Security Services.

BAILOUT, n. First known use: Noah. Novel regressive taxation scheme whereby vast sums of capital are transferred from those citizens who didn't participate in the illusory Bacchanalia of the housing bubble to those who did and weren't clever enough to get out in time.

BANK, GOOD, n., archaic. Sober, conservative, risk-averse institutions designed to midwife customers' capital and enable prudent lending to deserving businesses and consumers. See Capra, F., the Bailey Building & Loan Association.

BANK, BAD, n. 1. Everyone else. 2. Especially Goldman Sachs.

BORROWERS, n. For liberals, the unwitting dupes of unscrupulous bankers and lenders whom one shouldn't blame for the crisis. For conservatives, irresponsible graspers with a credit-busting taste for cathedral-ceilinged entryways and 70-inch flat-screen televisions whom one should absolutely blame for the crisis.

CREDIT-DEFAULT SWAP, n. loose translation from the original Latin "ubi mel ibi apes," or "where there's honey there are bees." 1. A complex financial instrument vital to the functioning of a modern economy in the way it spreads risk among consenting parties. (Greenspan, A., pre-Sept. 2008.) 2. A complex financial instrument that nearly destroyed modern capitalism Greenspan, A., post-Sept. 2008).

For the rest of the list click here:
http://tinyurl.com/yz87op9

The link works only for a few days. If you can't access the article, let me know and I will try to gain access for another short period. rich.chambersABC@gmail.com Spam prevention: Remove the ABC from the email address before using it to email to me.

Your Credit Score

This is from out latest MoneyMinute. Let me know if you would like future MoneyMinutes emailed to you automatically (about monthly).

October 2009 MoneyMinute – Your Credit Score

By Julie Schatz, CFP(R)

Credit scores. We hear about them all the time, and if you’ve recently applied for a loan then you have felt their importance firsthand.

If you are curious to know more about what seems to be a ‘black box,’ then I recommend this excellent article by Karen Blumenthal at the Wall Street Journal, “Credit Scores: What You Need to Know Now.” This link will take you to the full article:
http://tinyurl.com/yczpcby The link works only for a few days. If you can't access the article, let me know and I will try to gain access for another short period. rich.chambersABC@gmail.com Spam prevention: Remove the ABC from the email address before using it to email to me.

Here’s the 30-second summary on what you can do to enhance your scores:

• Make all payments on time.
• Open as few new accounts as possible.
• Keep old accounts with good payment history open.
• Maintain balances that are less than 50% of credit limits.
  

Today, a good credit score matters more than ever. Lenders are requiring higher scores for their best interest rates, and they’re less likely to lend to borrowers with flawed credit histories. Because of that, treat your credit score like any valuable asset that needs to be monitored and maintained.

A great source for information on credit scores and to obtain yours, go directly to the Fair Isaac Corp. (FICO) website: http://www.myfico.com/.

Lastly, if you are planning to buy or refinance a property in the next six months, then contact us for a referral to mortgage brokers we trust. They can guide you on making your score as good as it can be before the lender checks your credit.

Bear Market History

“The further we look back, the further we may see ahead.”
-Winston Churchill

“The only thing new in the world is the history you do not know.”
-Harry Truman

Let's review the bear markets in the post-WWII era. A bear market is defined as about a 20% drop in the stock market and we’ll use the S&P 500 index as a measure of the markets.


for a better view, click on the table

A few things to note from the data:

• The market has gone down an average of 30%, 13 times in 63 years. That’s one bear market about every five years.
• Even though economic events in some of the bear markets seemed to portend the end of life as we know it, every time the market has recovered and gone on to new highs.
• Because this chart is based on the price of the S&P 500 index and excludes reinvesting dividends, it makes both bear and bull markets look worse than they really were. Our media does not understand this detail and so they report a worse-than-reality scenario in the news.
• The S&P 500 is not very diversified so better portfolios should have better results.
  

When you use stock market investments, bear markets come and go with regularity. We all must be prepared for them and live through them.

Thanks to Nick Murray in his book, Behavioral Investment Counseling for the inspiration for this topic.

Quote - time the market?

"Don't try to time the market. It's very, very difficult to do. There may be a couple of people in the world who can do it, but if there are they're not telling you."
- Ben Bernanke

Quote - Socialism

"The problem with socialism is that eventually you run out of other people's money"
- Margaret Thatcher

Is Buy and Hold Dead? Part III

Part I - May 13, 2009
Part II - July 6, 2009

Can you name the 10 most successful market-timers? No, how about the top 5? One?

I can't and it's not for lack of searching. Market timing is a very attractive idea that has seen quite a resurgence due to this dreadful bear market. It's attractive and impossible.

As proof, I offer Joseph Granville who was considered to be the market guru of the 1980s. He made some very impressive market timing calls and at one point could actually move the market in one direction or another based on what he said that day. Joe sold his market timing advice via a newsletter.

Mark Hulbert publishes the well researched, Hulbert Financial Digest where he monitors the performance of 100s of investment newsletters. I've used the Digest to get an independent assessment of a newsletter's quality and I respect the data Mark provides.

Go read what Wikipedia has to say about Joseph Granville. Hulbert Digest data is mentioned there.
http://en.wikipedia.org/wiki/Joseph_Granville

Well -20% per year is so awful that it is not to be believed. So I looked it up in the Digest for myself and Granville's Traders Portfolio achieved -0.2% per year since mid 1980 (still awful). If you invested in the Wilshire 5000 (all domestic stocks) you earned +10.3% per year.

Starting with $1,000,000 29 years ago and compounding it at -0.2% annually, you end up with $943,595. In contrast, the Wilshire 5000 investment is worth $17,166,820.

You would think at least the Granville portfolio was less risky than the Wilshire 5000, but no, Hulbert says the Trader's Portfolio was 5% more risky.

Conclusions:
1) Market timing doesn't work and never will.
2) The only people who made money on the Trader's Portfolio were the people selling the newsletter!

P. S. if you compound $1M at -20% for 20 years you have all of $1,547 left.

Thanks to Harold Evensky and Financial Advisor Magazine for the idea for this article.

Why oh Why Do I Invest in Stocks?

Cick the chart for a better view.

This is why we invest in stocks. If government bonds seem "safe", then using "unsafe" large-cap stocks more than tripled the return after inflation. Using small-cap stocks caused the return to more than quadruple.

This makes a lot of sense. The returns from bonds are much more stable (reliable) than the returns from stocks. The market assigns returns based on an estimate of reliability. Bonds are more "reliable" therefore they must return less than the "unreliable" stocks.

To achieve their financial planning goals, most of my clients need returns that are greater than what can be provided by bonds or cash or CDs, etc. By mixing in an appropriate amount of stocks with the bonds, we hope to achieve the required return.

The disadvantage to using stocks is volatility and this can be very painful at times.

Right now we are in an extreme bear market that illustrated quite well that the pain of owning stocks is watching them go down, down, down. However, for most of my clients, cheaper stock prices are a good thing because they can buy more stocks at lower prices. For those nearer retirement, an adjustment to more bonds and less stocks may be an answer although the planning is complicated by spending patterns, Social Security, other sources of income, and perhaps the need to leave a bequest for the next generation.

Data Source: Morningstar 2008. Thanks to Nick Murray in his book Behavior Investment Counseling for the idea for this article.

The Economy Has Hit Bottom

I like this article because it concentrates on fundamental truths -- economies do recover, sometimes with surprising gusto.

From the Wall Street Journal, 7-23-09 by Alan S. Blinder

"How’s the economy, you ask? I have the proverbial good news and bad news, but in this case, they’re exactly the same: The U.S. economy appears to be hitting bottom.
First, the good news. Right now, it looks like second-quarter GDP growth will come in only slightly negative, and third-quarter growth will finally turn positive. Compared to the catastrophic decline we recently experienced—with GDP dropping at roughly a 6% annual rate in the fourth quarter of last year and the first quarter of this year—that would be a gigantic improvement.

Furthermore, there is a reasonable chance—not a certainty, mind you, but a reasonable chance—that the second half of 2009 will surprise us on the upside. (Can anyone remember what an upside surprise feels like?) Three-percent growth is eminently doable. Four percent is even possible. Surprised? How, with all our economic travails, could we possibly mount such a boom? The answer is that this seemingly high growth scenario isn’t a boom at all. Rather, it follows directly from the arithmetic of hitting bottom."

For the entire article: http://tinyurl.com/msbhcj The link works only for a few days. If you can't access the article, let me know and I will try to gain access for another short period. rich.chambersABC@gmail.com Spam prevention: Remove the ABC from the email address.

Government Intervention and Stock Returns

An informative presentation by Dimensional Fund Advisors. They have a superlative research team.

"Should equity investors be alarmed by the prospect of greater government intervention in the US economy? Weston Wellington looks at examples of US intervention in the past and examines the record of stock returns around the world over the last thirty-nine years. The evidence suggests that government intervention is just one factor among many affecting stock returns, and that an above-average degree of intervention is not necessarily associated with below-average returns."

For the rest of the presentation: http://www.dfaus.com/library/videos/governme/

The Fight Over Who Will Guard Your Nest Egg

Another interesting article similar to the post just below, "Wary Investors Are Seeking Out Objective Voices ". Both argue that registered investment advisors have a fiduciary obligation to their client vs. the less stringent "suitable" standard provided by most other financial advisors.

From the Wall Street Journal, 3-28-09:

"A power struggle in Washington will shape how investors get the advice they need.

On one side are stockbrokers and other securities salespeople who work for Wall Street firms, banks and insurance companies. On the other are financial planners or investment advisers who often work for themselves or smaller firms.

Brokers are largely regulated by the Financial Industry Regulatory Authority, which is funded by the brokerage business itself and inspects firms every one or two years. Under Finra's rules, brokers must recommend only investments that are "suitable" for clients.

Advisers are regulated by the states or the Securities and Exchange Commission, which examines firms every six to 10 years on average. Advisers act out of "fiduciary duty," or the obligation to put their clients' interests first."

For the entire article: http://tinyurl.com/cd2bdb The link works only for a few days. If you can't access the article, let me know and I will try to gain access for another short period. rich.chambersABC@gmail.com Spam prevention: Remove the ABC from the email address.

Wary Investors Are Seeking Out Objective Voices

From the Wall Street Journal, 7-29-08:

"In the aftermath of the financial-market crisis, investors are leaving Wall Street to sign on with independent investment advisers.

Last year, registered investment advisers brought in more than $108 billion of net new assets into the three largest custodians, according to Charles Schwab Corp., which holds roughly $500 billion in assets for such advisers. By contrast, the four major Wall Street brokerage firms saw an outflow of $8 billion in 2008.

Investors seeking to repair their damaged nest eggs say the chief lure of independent advisers is more-objective guidance."

For the entire article:
http://tinyurl.com/m9x8b3
The link works only for a few days. If you can't access the article, let me know and I will try to gain access for another short period. rich.chambersABC@gmail.com Spam prevention: Remove the ABC from the email address.

Quote - Economics as a Profession

“Economics was the only profession where a person could be considered an expert without having once been right.”

- George Meany

All-bond allocation unwise despite equity jitters, says Ibbotson

A short article noting that while bond and stock returns were both about 8.5% over the past 40 years, expected future bond returns are 3 to 4% (annually) due to low current interest rates. A balanced portfolio of 60% stocks and 40% bonds returned 9.1% over the same 40 year period.

Read the entire article:
http://tinyurl.com/n5t8ny

Home Ownership Was Never a Road to Riches

There is a good article in the Wall Street Journal about this topic. The author (Neal Templin) starts out:

"My wife and I have sold all of our four previous homes for more than we paid for them—sometimes a lot more.

We’ve been pretty lucky. We’ve never overpaid much for a house, we’ve always bought in good school districts and decent neighborhoods, we’ve lived in neighborhoods where prices soared during the real-estate bubble, and we’ve been hurt but not decimated by the bursting of that bubble.

When I constructed a very basic cash-flow model for our home-buying history—selling price minus purchase price, renovations and repairs—it showed a roughly 3.5% annualized return on investment, from 1991 through the summer of last year. That’s when we sold our last home and bought our current one."

For the rest of the article:
http://tinyurl.com/m4xylp
The link works only for a few days. If you can't access the article, let me know and I will try to gain access for another short period. rich.chambersABC@gmail.com Spam prevention: Remove the ABC from the email address.

P.S. the number one reason home ownership does not lead to riches is that you have to live in it! Since you can't "spend" your home, it becomes wealth for your heirs but not for you. While it's true that some people can downsize and spend a portion of their home, it's quite rare when this is actually done in my experience. And yes, you can get a reverse mortgage, but this results in a significant wealth transfer to the reverse mortgage holder.

Should You Annuitize Some of Your Retirement Assets?

Everyone has found out how extreme stock market volatility can be! One way to avoid the highs and lows of stock investment and to obtain a lifetime benefit, is to use income annuities.

As an example, suppose you have $1,000,000 of investments in a balanced portfolio starting at the stock market peak Oct 7, 2007. At the bottom on March 9, 2009, your portfolio is worth a lot less, about $420,000 less*. Even if the stock market fully recovers (it always has), you might not want to experience such a emotionally wrenching drop again.

A reasonable approach is to purchase a lifetime income annuity so that your Social Security income and the annuity income cover you basic living expenses. Let's assume that takes $500,000 for the annuity. You can see about how much an annuity pays by going to:
http://www.incomesolutions.com/AnnuityCalculator.asp
For a female age 65, the annuity pays $38,280. The apparent return is 7.7%. Not bad for guaranteed income for life. The income stream will be very comforting in the next bear market.

If you kept the $500,000 invested in a balanced portfolio, a safe withdrawal rate is about 4% which is $20,000. The annuity pays a lot more!

It seems like a no-brainer to go with the lifetime income annuity. But what are the disadvantages?

1. You income is dependent on the ongoing success of the underlying insurance company.
2. Once you give the $500,000 to the insurance company, you cannot get it back. If you die the next day, your heirs get nothing. If you need more cash for an emergency, the insurance company will not give it to you. You or your heirs can get everything that is left in the investment portfolio.
3. The income stream is not inflation adjusted. The withdrawal rate from the investment portfolio is inflation adjusted. At 3% inflation, the withdrawal from the investment portfolio is projected to exceed the income from the annuity in year 23 (your age 88). So if you live a long time, inflation could become a problem. However, the insurance company guarantees to pay the income for your lifetime no matter how long. The investment porfolio provides no such guarantee.
4. There is no upside potential with the annuity while the investment portfolio could do better than expected permitting larger withdrawals than we projected. Of course the investment portfolio could do worse.

Should you annuitize? As always, "it depends" on your need for stability, your need to provide an inheritance, your life expectancy, and your concern about inflation.

*using DGSIX (DFA Global 60/40) as a proxy for a balanced portfolio. It was down -42% from 10-7-07 to 3-9-09:

Avoid Being Scammed!

You can hardly blame clients of investment managers for having a real sense of mistrust these days. How can they be sure their investment manager isn’t going to disappear with their hard-earned assets? In many life situations, it is difficult to know who to trust, especially in the choice of an investment manager.

This issue affects our clients, and it affects the people working here. The phone hasn’t been ringing so much these days with calls from prospective clients. Partly this is due to the gruesome bear market we have experienced, but much of it is that prospective clients don’t know who to trust. Getting a 2% CD rate begins to sound good compared to the possibility of being duped out of your money, as portrayed in the daily news cycle.

But most of our clients can’t afford to retire on CDs. Earlier generations could get by with CDs because their pension and Social Security incomes provided for most of their spending needs. These days there are few pensions to be had and many of these are under pressure. It’s now required that each individual save and invest intelligently in order to produce adequate retirement income. So who to trust?

The Securities and Exchange Commission’s website posts a list of questions to ask any financial professional. Could these be used to detect a scam artist?

• What experience do you have, especially with people in my circumstances?
• Where did you go to school? What is your recent employment history?
• What licenses do you hold? Are you registered with the SEC, a state, or FINRA?
• What products and services do you offer?
• Can you only recommend a limited number of products or services to me? If so, why?
• How are you paid for your services? What is your usual hourly rate, flat fee, or commission?
• Have you ever been disciplined by any government regulator for unethical or improper conduct or been sued by a client who was not happy with the work you did?
• For registered investment advisers, will you send me a copy of both parts of your Form ADV?

While these are good questions to ask, the Madoffs of this world can pass this test with flying colors. Thus these questions alone aren’t adequate to protect you from someone conniving to steal your money.

We submit that it is the investing environment that provides aid and comfort to the scam artist. So in addition to asking about the investment manager’s credentials, you must also understand where your money is and who can access it.

What do you need to protect yourself? We believe the following is extremely useful:

• Always use a third-party custodian.
• Use investments that are priced daily in a public market.
• Use investments that you understand.
• Avoid anything that sounds too good to be true.
• Avoid anything that is proprietary, secret, or touted as exclusive.
• Know how much the fee is and how it is paid.
• Lastly, trust with verification.

Always use a third-party custodian:
A third-party custodian gives you another layer of checks and balances. The custodian is legally required to protect your assets from everyone – including your investment manager. For example, Schwab prevents investment managers from withdrawing unreasonable management fees. Additionally, the custodian should send statements directly to you at least quarterly (the statements must not pass through the investment manager’s firm). Choose your custodian well. (Schwab is well-respected.)

Madoff did not use a third-party custodian for his clients. Therefore all the money went through his hands. He was able to fake statements and investments since no independent parties were watching.

Use investments that are priced daily in a public market:
If you can independently evaluate your portfolio any day you wish, then you have eliminated a major source of fraud. Some fraudsters create fake statements with any values needed to keep you convinced the portfolio is doing well. Publicly traded securities are easily valued so the fraudster prefers to avoid them.

Use investments that you understand:
It’s much harder to fake returns and statements for securities that are easily understood and verified independently. Stocks, bonds, and mutual funds are all easy to monitor. Hedge funds and private equity deals are not.

Avoid anything that sounds too good to be true:
Promises of future returns are the ultimate warning sign. No one knows the future, and if they did, they sure wouldn’t be telling us. Promises of positive returns under all conditions are just lies for anything other than risk-free securities: Savings accounts, CDs, and Treasury bills are about it.

Just by following the news you can get a good idea of how the investment markets are doing. Your investments should be performing in a similar range, otherwise, beware.

Part of Madoff’s mystique was that he had delivered positive monthly returns for decades with almost no exceptions. This must be a huge red flag to any sensible investor. Don’t let greed get in the way of common sense. Anytime someone offers you profits that sound exceptionally good, you should:

1. Wonder why me instead of his best friends and family?
2. Wonder why not keep the process a secret so it won’t get copied and possibly ruined?

Avoid anything that is proprietary or touted as exclusive:
This goes along with using investments that are priced daily in the open market and easily verified. Propriety and exclusive implies investments or a strategy that are hidden in a black box and unverifiable.

Know how much the fee is and how it is paid:
It should be very clear how much your investment manager is paid and how she/he is paid. If you don’t know for sure, ask.

Lastly, trust with verification:
After you have found an investment manager that passes all the above tests, you need to trust them so the relationship works for all. However, you must verify that the relationship stays honest.

• Review your monthly statements from the independent custodian for anything unusual like mysterious investments. Contact your custodian right away if you see any withdrawals you didn’t make or authorize.
• Monitor your performance and make sure it is about what you should expect from the types of investments you are using. If you are making money in a year when most others are losing, you should be suspicious not gleeful.
  

Buying High and Selling Low

"Last year, investors made a bad situation worse in the bear market by trying to time when to get into and out of stock mutual funds. As a group, they would have lost less money had they simply held onto whatever funds they owned when the bear market began."

- Mark Hulbert, New York Times 7-12-09

To read the entire article:
http://www.nytimes.com/2009/07/12/business/mutfund/12stra.html

We're becoming socialist. Should we get out?

"The degree of government intervention is just one of many factors affecting expected stock returns, and investors should be cautious in assuming it is a principal factor."

- Weston Wellington, Dimensional Fund Advisors

Quote - Confessions of a Former Mutual Funds Reporter

"Mutual funds reporters lead a secret investing life. By day we write 'Six Funds to buy NOW!' We seem to delight in dangerous sectors like technology. We appear fascinated with one-week returns. By night, however, we invest in sensible index funds."

- Anonymous Fortune writer, Fortune 4/26/99

Quote - The Big Tease

"What many of us foget is that all these diverse media vying for your eyes aren't trying to offer you advice, nor are they trying to influence you into making a rational decision. They are selling advertising."

- Jane bryant Quinn, Newsweek, "The Big Tease" 8/7/95

Quote - What's a bear market?

“A bear market is an extended period of time during which people who think this time is different sell all their investments to people who understand that this time is never different.”

- Unknown

Is Buy and Hold Dead? Part II

I found some thoughtful quotes on the topic:

From John Bogle (former CEO of Vanguard):“Our emotions tend to lead us in the wrong direction. We are usually optimistic when the market is high and pessimistic when the market is low. So the odds of being able to time the market are not good. The stock market isn’t a place for betting. The place for betting is Las Vegas.”

From Don Phillips, Managing Director of Morningstar:“No one’s used market timing successfully in a mutual fund over time.”

From Janet Bodnar, Editor Kiplinger’s Personal Finance
“With so many of us eager to make up market losses, we’re sitting ducks for new products and strategies – or new twists on old ones - that promise to recover lost ground quickly. Lately I’ve spent time on the road listening to what financial engineers and others in the profession are cooking up, and this is my advice: Proceed with caution. For instance, after the “lost decade” it was inevitable that buy-and-hold investing would be declared dead and that some pros would try to revive market timng. But at the Morningstar investment conference, nearly everyone seems happy to let market timing rest in peace. ‘It’s really dangerous,’ warns Chris Davis, the respected manager of Selected American Shares”.

From Jeremy Siegel, Professor at the University of Pennsylvania's Wharton School
"Stock-market investors are an unhappy bunch. Standard & Poor's 500-stock index is no higher than it was 12 years ago, and over the 10 years ended in May, stocks have returned a dismal minus 1.7% per year. So it's no surprise that investors wonder whether 'buy and hold' and 'stocks for the long run' are discredited concepts.

The short answer is that stocks are still the best long-term investments. As bad as the past decade has been, there have been other ten-year periods during which stocks have recorded even bigger losses. Yet over periods of 20 years or longer, stocks have never lost money, even after inflation. Including the latest bear market, stock returns have averaged 7.8% per year over the last 20 years and 11% annually over the past 30."

Target Date Mutual Funds - Ever wondered how they work?

I am a long-term member of the American Association of Individual Investors (AAII) and this month's AAII Journal has very good coverage of target date mutual funds. These can be useful as default choices for smaller accounts such as a new 401k account or a custodial account since all the rebalancing and allocation adjustments are done by the mutual fund company.

The five mutual fund families reviewed are American Century, Fidelity, Schwab, T. Rowe Price, and Vanguard. The article discusses the important facts that you need to consider when choosing a target date fund. If you would like to see the article, email me: richc@feesonly.com with Target Date Funds article in the subject line. I won't use your email for anything else.

BTW, AAII is a wonderful organization. If you are interested in an unbiased education in investing and personal finance, join and attend the monthly local chapter meetings and read the monthly AAII Journal. AAII is a non-profit and they accept no advertising.

Home Equity Loans - Pros and Cons

A home equity line of credit (HELOC) used to be easy to get and probably will be again once the mortgage mess clears up and home values begin to appreciate.

Having a home equity line of credit can be useful for emergencies especially since using it costs so little. The interest rate on mine is 2.25% currently. Instead of using a margin loan at Schwab, I took out a loan against the equity line saving about 5%.

The trick with using the equity line is to make the interest deductible. Most of you know interest on the first $100,000 of a home equity loan is deductible. What you may not know is that the interest is subject to Alternative Minimum Tax (AMT) and since most of my clients are paying AMT every year, then their HELOC interest is not reducing the income taxes owed.

One way to avoid the AMT issue is to use the home equity loan proceeds for something that makes it deductible. Examples are:

• use the proceeds for rental property
• use the proceeds for investment
• loan the proceeds to your LLC or corporation

Using the HELOC for these ideas requires tax planning and perhaps a formal election. Check with your tax preparer before taking action.

A few more pitfalls:

• home equity loan interest is not deductible to the extent that all the home loan debt exceeds the fair value of your home
• itemized deduction phaseouts may reduce the value of the HELOC interest deduction even if you are not subject to AMT

Having a large and permanent home equity loan balance is not advisable because the interest rate is variable and if you can't pay the loan back easily, then big increases in the rate could take a surprisingly large chunk out of your cash flow.

Ridiculous Headline: "Investors beware: Rally may not last, MFS strategist says"

Today's ridiculous headline implies that investors should beware and that the rally may not last.

This information is useless. Investors (we assume they mean stock market investors) should always beware. Stock market investments are volatile and may go down a lot with no notice. Similarly they may go up for no apparent reason. It's unpredicatable. The rally may not last? Of course it may not last. If the author had any guts he would say it won't last, not it may not last.

More quotes from the article:
“We may be on the way to a secular bull market,” Mr. Swanson said. “But I think the sustainable bull market will begin during the summer sometime. This may not be it. It could be liquidity driving stock prices up. Investors should be wary."

Totally useless. The bull market may begin in the summer? It's June 3rd. Summer starts in 17 days!

Yeck, ignore this kind of useless blather.

Highest and Best Function of an Investment Advisor

"Consider the possibility that the highest and best function of an investment advisor isn't economic commentary or market prognostication, but simply in saving his clients from the media...and from themselves." Nick Murray

Diversification - Always in Style

In a bear market as severe as ours, all the nuts come out. You can read about how buy and hold is dead and how asset allocation doesn't work.

Recently an article in Wealth Manager caught my eye, one paragraph in particular that summed up the asset allocation issue nicely.

"Since the end of 2007, the broad-based fall in equities has drained a mind-numbing 30 trillion of value from the stock market. Worse yet, amid the economic meltdown of 2008, investors were punished across essentially all asset classes -- regardless of the level of diversification. Not surprisingly, then, reasonable people have been asking the question: Does diversification still work? Yes, and unequivocally! It's just not a hedge against short-term loss." - J. Gibson Watson III


Roger Gibson is a very famous (to us) asset allocator. He has several books worth reading. My favorite for clients is "Simple Asset Allocation Strategies: Easy Steps for Winning Portfolios". You may need to search for a used one as it may be out of print.

Peregrine falcon fledglings

My earlier, May 13 post about banding has turned into all 3 of this year's nestlings having fledged. This is a shot of Liwa, a female that has landed on a window ledge on a building near the nest site (in San Francisco).

Volunteers keep watch for about 2 more weeks in case the fledged bird ends up on the ground and unable to get back into the air. The parents continue to feed them and teach them how to hunt during this period. Then the fledglings are on their own and usually disperse geographically.

To see more about the group that follows these magnificent birds: http://www2.ucsc.edu/scpbrg/index.htm

Post-recession rallies

I don't care for USA Today's title "Stocks poised for powerful rally?"; you can find just as many articles saying that the recent rally won't last. I do like the chart from the article, it's a good history of the gains have happened in the stock market after past recessions.

When will the economy be improved?

When will the economy be improved? It's sort of like baseball!

First, credit markets must improve more and yield spreads need to tighten. Currently corporate bond yields compared to treasury yields are the highest since 1932. With rates this high, it's more difficult for companies to make a profit. Another measure is high-yield bond spreads. Currently high-yield bonds trade at 17% above treasuries. Even in the Great Depression, the spreads were not that large.

Second, equity markets need to improve. Stock markets have had much higher than average volatility in the recent past. A bullish indicator is when volatility (VIX) is 20-30. It has been above 30 consistently since September 2008. Last week it was 33.1. In addition, price earnings ratios normally dip into single digits (the current P/E is about 13 to 16 right now) before a bull market takes off. Keep in mind, P/E can decrease because earnings increase or because prices drop.

Third the economy begins to improve. So unemployment decreases instead of increases and the economy grows instead of shrinks.

Feel free to add comments.

You Know you are Living in 2009 When ....

1. You accidentally enter your password on the microwave.
2 You haven't played solitaire with real cards in years.
3. You have a list of 15 phone numbers to reach your family of 4.
4. You e-mail the person who works at the desk next to you.
5. Your reason for not staying in touch with friends and family is that they don't have e-mail addresses.
6. You pull up in your own driveway and use your mobile phone to see if anyone is home to help you carry in the shopping.
7 Every commercial on television has a web site at the bottom of the screen.
8. Leaving the house without your mobile, which you didn't have the first 20 or 30 (or 60) years of your life, is now a cause for panic and you turn around to go and get it.
10. You get up in the morning and go on line before getting your coffee.
11. You start tilting your head sideways to smile. : )
12 You're reading this and nodding and laughing.
13. Even worse, you know exactly to whom you are going to forward this list.
14. You are too busy to notice there was no #9 on this list.
15. You actually scrolled back up to check that there wasn't a #9 on this list AND NOW YOU ARE LAUGHING at yourself.

Go on, forward this to your friends. You know you want to.
http://richfp.blogspot.com/

Personally, I am Getting a Life (I hope).
Thanks to Naima for communicating this list to me.

Now's a Good Time to Reasses Your Finances

Our friends at Bedrock Capital (in Mountain View) are good folks and very similar to ICM - fee only, independent, a small boutique firm.

Their Q2-09 newsletter was interesting this month and worth a read.
http://tinyurl.com/q83hrv

Let me know (via comments), what you think of it.

Is Buy and Hold Dead?

You can see this idea expressed in many, many articles these days.

Market Timing: getting in and out of the stock market in order to enhance returns by sidestepping downturns. Depending on the quality of the timing, can produce much higher or much lower than market returns

Buy and Hold: staying in the stock market through thick and thin. Produces market returns less expenses.

Market timing is a very attractive concept but the articles I've seen were disappointing since they had no practical suggestions for when to exit or reenter the stock market. There's a reason for that, it's impossible to do on a consistent basis. In my 37 years of stock market experience, I have not yet found anyone who could consistently time the stock market. Many have tried, all the ones I know of have eventually failed to beat buy and hold returns.

The bottom line for me is that, to borrow a phrase, buy and hold is a terrible form of investing, it's just better than all the others.

There's a lot to say about this important topic. What's your opinion?


More later.

Banding day for peregrine falcons

I don't know if any of you watch any of the peregrine falcon cameras (Google for peregrine cam) but yesterday was banding day in San Francisco. Here's one of the stills from the experience. No, she's not amused by this giant mammal that has invaded to nesting area (on a top floor balcony on the PG&E building).

There are three chicks and they will fledge in about 2 weeks. There is a whole group of volunteers trained to help out if any of the fledglings don't make their first flight to a safe place.

When returns are poor...

Our investment commentary for May 2009 is full of wisdom. Take a look and let me know what you think of it.
http://tinyurl.com/qz3kdw

Retirement (from the woman's perspective)

Twice the husband, half the income!

Build America Bonds

Perhaps you have heard about the Build America Bonds and have wondered if they would work as an investment for you?

Generally they would not, at least not yet. The first reason is that there is no active seconday market (meaning once you buy, selling would be a real issue). The second reason is that these bonds are generally long i.e., the maturity is 20 to 30 years. This is too long for the typical individual investor (10 years is about the maximum you should do).

The good news about these bonds is that they compete with other taxable bonds, corporate bonds in other words, but generally have far less default risk than corporate bonds. So good interest rates with lower default risk.

If a viable secondary market materializes and if shorter maturities are sold, then perhaps Build American Bonds would become attractive for individual investors.

Refinance Now

Now is a great time to refinance. We are paying down our mortgage by about 200k to fit into the high balance conforming category. We are getting a 5.0%, fixed-30, no points loan vs. our current 6% loan. The monthly payment is about $2,000 lower.

Bonds outperform Stocks over long periods?

You may have heard recently that bonds outperformed stocks for the last 20 years? It was true less than 10% of the time. The dark line is VFINX (S&P 500 index fund) and the red line is VUSTX (long-term Treasury bonds). The time period is 5/1/89 to 4/27/2009.

Myths of Market Underperformance

My latest MoneyMinute, "Myths of Market Underperformance": http://tinyurl.com/clvkhz, discusses the ways the media misunderstands or distorts long-term returns from the stock market.

Bear Market Discussion

Of all the discussion about the bear market, this is the best. Takes about 30 mins. http://www.dfaus.com/share/whatshou/