Investments – 7 Tips to Move Forward in 2010 an Audio Interview
RitaJanaky12-3-09_Pt1 Appoximately 23 minutes.
RitaJanaky12-3-09_Pt2 Approximately 25 minutes
I recently had the privilege to be interviewed by Laura Benjamin, (Laurabenjamin.com) a Colorado communication consultant, business and career coach, and strategic planning facilitator. The discussion, Part 1 and 2, focused on how we may begin to recover from the two bear markets that have destroyed value in so many portfolios, leaving investors worried about their future.
Summary
The bear markets of 2000-2002 (stocks lost 33%) and 2008 (stocks lost 37%) have reduced portfolio values in IRAs, 401ks, and personal accounts. There’s a lot of fear around what to do now, especially for retirees or soon-to-be retirees. Should they continue to own stocks? Or if they sold, should they get back in? Maybe they should invest only in bonds and avoid the stock market all together?
Fortunately the stock market has roared back since its low in March, but we’re still well below the highs of 2007.
I think there are some fundamental decisions to revisit as well as some investing ideas to think about as we move beyond today and plan for tomorrow.
1. Determine your investment horizon.
An important question for each person to ask is, “How long do I need my money to last?” In other words, estimate your life expectancy by considering your current health and the longevity of your parents and grandparents. Don’t make the mistake of thinking only of the years up to your retirement age, because you need your assets to last your life time.
The Census Bureau currently published life expectancy for men to be 75 years of age and women 80. If you are 50 with a desire to retire at 65 but you expect to live until your 85, you plan for 35 years. That’s a long time. You will likely be more willing and able to take more risk by investing a larger portion of your money in stocks when you’re 50, but even at 65 there is still 20 years left to plan for.
2. Be diversified in both stock and bond markets, including those outside of the U.S.
Stocks have performed better than bonds over the long-term. As one example, we can look at the past 10 years, which included 2 bear (declining) markets, and compare it to the past 20 years.
The short view: $10,000 invested on January 1, 2000 with all dividends and interest reinvested.
On October 31, 2009, almost 10 years later…
100% invested in stocks (S&P 500 index) worth $8,400 (drop in value of 16%)
100% Bond portfolio (Barclay Capital U.S. Aggregate Index) worth $18,500 (increase in value of 85%)
A longer view: $10,000 invested on January 1, 1990
On October 31, 2009, almost 20 years later…
100% in Stocks worth $45,000 (350% increase in value)
100% in Bonds worth $39,000 (290% increase in value)
The idea is that over longer periods of time, stocks have provided greater returns than bonds. So, if you are investing for ten years or longer, it is reasonable to consider investing some portion of your portfolio in stocks.
A 50% stock, 50% bond portfolio
A portfolio invested 50% in U.S. stocks and 50% in U.S. bonds, rebalanced each year back to those percentages would have increased from $10,000 on Jan. 1, 1990 to 46,000 on Oct. 31, 2009. That beat the 100% stock portfolio by $1,000 with a lot less risk.
The closer one gets to retirement and the years in which they will need to withdraw money from their portfolio, the general rule is to reduce the portion invested in stocks and increase the portion invested in bonds and cash.
3. Invest in dividend paying stocks and shorter-term bonds. Returns from dividend paying stocks and interest payments from bonds provide ongoing cash that make up a portion of the total return investors receive. The dividends and interest provide more certainty than capital gains, which are the changes in security prices. Securities to consider: utility stocks, preferred stocks, and bonds with short to intermediate duration.
4. Consider your other assets when deciding where to invest your money. For instance, if you own a business you already have exposure to small company risk. You may want to reduce or eliminate the amount of money you invest in small cap stocks.
Or, if you own commercial real estate or residential income properties, it may be best to avoid buying a fund that increases your exposure to that asset class.
5. If you are retired be realistic in how much you can spend.
- The 4% rule: Spend 4% of your portfolio each year. $500,000 portfolio relates to $20,000 available from the portfolio. If your money is in an IRA or pension plan that is taxed when you withdraw it, then the net amount available with be less than $20,000 after taxes.
- Spend more when the markets are up; reduce spending when the portfolio is under stress.
6. Costs do matter. They reduce returns. Costs include sales charges such as front-end loads on mutual funds, internal management expenses, and commissions. The average mutual fund cost is about 1.5% (1 ½ %). For broad diversification at a low cost, consider index mutual funds or exchange traded funds (ETFs), which are similar to index funds but trade like a stock. Expenses average .25% (1/4 %) plus ETFs are charged a commission for each trade. If you know what you want to buy or sell, use a discount broker rather than a full service broker to make your trades. For more on this topic go to my blog post, How do Investment Advisors and Stockbrokers Get Paid?
7. If you want to hire an advisor, know what you want that person to do for you. For example:
If you want someone to create a financial plan, then hire a person who specializes in financial planning.
If you want investment advice, hire an investment advisor with the appropriate education and experience to manage your money. You will greatly reduce the risk of being a victim of a scam if there is a 3rd party custodian, i.e. a company other than your advisor’s firm, that holds your investments and issues statements in addition to those produced by your advisor.
In summary,
- Invest your money in the U.S. and in foreign markets. Be diversified, keep costs low, and consider your time horizon to be your life expectancy.
- Take a realistic view of your current financial situation. Reduce expenses by deciding what you need versus what would be nice to have.
