Sometimes I wonder why people ask me for investment advice when they are completely incapable of hearing it, let alone implementing it. That’s what I thought when I met with Mr. “Yeah But”. You know this guy---the one who responds to every comment with the exasperating phrase, “yeah but…” and then goes on to refute anything you have said.
After encountering hundreds of these types (I called him Mr., but plenty of female incarnations exist!), you would think that I would not take his bait, but there I was, pleading with him to listen to why there were problems with his investment philosophy. I should know that there are plenty of do-it-yourselfers who fall in love with their abilities when the market rises and then never fully account for losses when the market turns against them. But there I was, engaging with a guy who was clearly only interested in validating his position.
During my thirty minutes with Mr. Yeah But, he told me that: “value investing is dead”; “I want to make more than the stock market”; and “my funds have done better than the index over the past five years”; and “I’m doing great this year.” These pearls of wisdom were in response to the advice that I provided about his portfolio, which in various ways boiled down to the fact that I thought he was assuming too much risk for a retired guy who needed to draw money from his investment accounts.
I eventually sent Mr. Yeah But on his way, because one can only take this type for so long. After he left, I started to dig around for information about his specific mutual fund holdings. (I know that this sounds completely compulsive, but I did get to write an article about it, right?) While the stock mutual funds were pretty good in general, only one of the five had beaten the return of the S&P 500 index over the past five years. And although Mr. Yeah But claimed that all of his funds were outperforming the index year-to-date, only one was, which meant that there is absolutely no way that his total portfolio was going to beat the index this year.
So here we go again, another investor who tells himself a story about his investing prowess and to what avail? This is like the guy who bragged about his technology holdings in 1999, the one who said that the investment environment was “different”, only to have a devastating bear market eat up 80% of his portfolio value from 2000-2002. Mr. Yeah But’s response to that point would be, “Yeah, but look at how well my technology holdings are doing this year!” To which a smart-aleck might respond, “Yeah, but the Nasdaq is only at 2750 today, not even close to 5,000, where it was at the top.”
Someone needs to explain to me why a guy like that wants to spend the time to talk to a professional if he already knows all of the answers. As I have said in this column and on the air, the best investors that I know are consistently testing their ideas and beliefs. I have a feeling that people like Mr. Yeah But will find the holes in their philosophies in a far more painful way than in a thirty minute meeting with an investment advisor.
Friday, October 26, 2007
Thursday, October 25, 2007
We’re Bonding
Earlier in the year, I got an earful from my client “Donald”, complaining about the bond positions that we owned. He said that his friend “had stuff that was paying way more” than the fixed income assets in his portfolio. I explained that his friend owned risky bonds that I did not think were appropriate for him. He begrudgingly agreed, but I don’t think that he was too happy with me.
Flash forward to yesterday, when I spoke to Donald again. He was practically effusive in complimenting me about his bond positions, but admitted that he just didn’t get what had happened and why his portfolio had done well. This made me think that there are so many people out there who really don’t understand how bonds work, so from time to time, I like to “bond” with readers about bonds.
When you buy a bond, you are lending a given entity (the US Government, a municipality or a corporation) money for a given period of time. For the use of your money, the entity will pay you a stated amount of interest (the coupon). Once the bond is issued, your interest payment will remain constant. While many investors think of bonds as safe havens, they are often surprised to discover that bond prices can swing pretty dramatically and sometimes they can lose value. You probably have heard the phrase “bond prices and yields are inversely related” and then thought “what the heck does that mean?”
Bonds become more or less valuable based on the prevailing interest rate environment. As an example, let’s take a look at what happens to a bond when the Federal Reserve changes interest rates. If you purchased a government bond many years ago for $1,000 and it pays 8%, you will receive $80 per year. Today, an 8% interest rate is great, so your bond will be worth more. That means that as prevailing interest rates decrease, the price of your bond will increase---an inverse relationship.
You may not care about the fluctuation in your bond price of you plan to hold the bond to maturity, but if you are considering a sale prior to that time or if you own a bond mutual fund, the change in price can be painful, as many investors found earlier this year when interest rates spiked (and bond prices fell). Of additional importance is that not all bonds are created equal. When Donald called me about his bonds versus his friend’s higher yielding bonds, he thought he was comparing like assets, but that was not the case. In fact, Donald’s friend probably was tired of low yielding government bonds and instead invested in higher yielding bonds that carried lower ratings. Unfortunately, with higher yields also comes more risk.
Over the summer, concerns emerged that overextended homeowners and businesses would not be able to repay the loans they assumed, which meant that billions of dollars in bonds became vulnerable and the people who invested in risky bonds watched the values of their bonds lose money. All of the sudden the extra interest could not compensate investors for the losses in the bond values. Meanwhile, Donald, who owned “boring, low yielding” government bonds was the beneficiary of the problems, as worried investors redirected their risky bond investments into safer alternatives, and his bonds increased in value. After a number of months, Donald bonded with his stodgy fixed income holdings, and my extension, with me.
Flash forward to yesterday, when I spoke to Donald again. He was practically effusive in complimenting me about his bond positions, but admitted that he just didn’t get what had happened and why his portfolio had done well. This made me think that there are so many people out there who really don’t understand how bonds work, so from time to time, I like to “bond” with readers about bonds.
When you buy a bond, you are lending a given entity (the US Government, a municipality or a corporation) money for a given period of time. For the use of your money, the entity will pay you a stated amount of interest (the coupon). Once the bond is issued, your interest payment will remain constant. While many investors think of bonds as safe havens, they are often surprised to discover that bond prices can swing pretty dramatically and sometimes they can lose value. You probably have heard the phrase “bond prices and yields are inversely related” and then thought “what the heck does that mean?”
Bonds become more or less valuable based on the prevailing interest rate environment. As an example, let’s take a look at what happens to a bond when the Federal Reserve changes interest rates. If you purchased a government bond many years ago for $1,000 and it pays 8%, you will receive $80 per year. Today, an 8% interest rate is great, so your bond will be worth more. That means that as prevailing interest rates decrease, the price of your bond will increase---an inverse relationship.
You may not care about the fluctuation in your bond price of you plan to hold the bond to maturity, but if you are considering a sale prior to that time or if you own a bond mutual fund, the change in price can be painful, as many investors found earlier this year when interest rates spiked (and bond prices fell). Of additional importance is that not all bonds are created equal. When Donald called me about his bonds versus his friend’s higher yielding bonds, he thought he was comparing like assets, but that was not the case. In fact, Donald’s friend probably was tired of low yielding government bonds and instead invested in higher yielding bonds that carried lower ratings. Unfortunately, with higher yields also comes more risk.
Over the summer, concerns emerged that overextended homeowners and businesses would not be able to repay the loans they assumed, which meant that billions of dollars in bonds became vulnerable and the people who invested in risky bonds watched the values of their bonds lose money. All of the sudden the extra interest could not compensate investors for the losses in the bond values. Meanwhile, Donald, who owned “boring, low yielding” government bonds was the beneficiary of the problems, as worried investors redirected their risky bond investments into safer alternatives, and his bonds increased in value. After a number of months, Donald bonded with his stodgy fixed income holdings, and my extension, with me.
Wednesday, October 24, 2007
College Knowledge
We recently hosted an event for our clients focused on how to navigate college admissions. This was not about the financial aspects of higher education, but given the massive amounts of money that families spend on college, it was impossible not to touch on the monetary implications of the process. After reading a recent report about the cost of college, it is not surprising that any conversation about those four years would have to include the dollars spent on the experience.
According to the College Board, a non-profit education group, tuition and fees at four-year public universities are up a staggering 6.6% from a year ago, with the average price at $6,185. If your scholar attends a private university, the average cost is $23,712, up 6.3%. Of course that’s just the tuition---if you were hoping to get your kid out of the house and into a dorm with some food, the annual costs for public and private are $13,589 and $32,307 respectively. The past five years have seen the steepest rise in tuition and fees at four-year public colleges of any five-year period covered by the survey, which dates back 30 years.
Perhaps these trends are part of the reason that our guest speaker, Bill Caskey of AdmissionReady encouraged our clients to look beyond the “usual suspects for college”. He talked about state schools that offered excellent academic programs for gifted students and acknowledged that college is indeed a major investment which requires a fair amount of due diligence. From the perspective of a non-parent financial advisor, it was staggering to hear that despite the rising costs of education, the process is more competitive than ever. We saw it ourselves, when our program was sold out within a few days of the initial announcement!
If colleges were for-profit entities, their stocks would be soaring. After all, how many businesses have increased prices at about twice the rate of inflation and have not only maintained market share, but increased it? Unfortunately for many American families, the way to finance education is debt. A separate report on trends in financial aid from the College Board shows that over the past decade, increases in grant aid, or the money that students do not have to repay, have covered only about a third of the increases in the private college tuition and half the increases in at public four-year schools.
Students are footing more of the bill with private loans from banks and student-loan companies. Undergraduate private borrowing increased 12% to $14.5 billion 2006-07 and borrowing from private sources has increased tenfold over the past decade. As a result, the typical student with an undergraduate bachelor degree from a public university will graduate with over $15,000 in debt, while the private school student will accumulate close to $20,000 in loans. Those loan amounts are the average, which means that many students are graduating with the equivalent of a hefty mortgage payment.
The good news is that college still remains a good long-term investment—workers with college degrees earned almost two-thirds more than those who held high school diplomas. But like any investment, to be as successful as possible, college funding requires a plan. Regardless of where you are in the planning stages, you can benefit from thinking about these issues. Given the trend, the one thing you know is that education costs are likely to continue rising in the future, so get going right now!
According to the College Board, a non-profit education group, tuition and fees at four-year public universities are up a staggering 6.6% from a year ago, with the average price at $6,185. If your scholar attends a private university, the average cost is $23,712, up 6.3%. Of course that’s just the tuition---if you were hoping to get your kid out of the house and into a dorm with some food, the annual costs for public and private are $13,589 and $32,307 respectively. The past five years have seen the steepest rise in tuition and fees at four-year public colleges of any five-year period covered by the survey, which dates back 30 years.
Perhaps these trends are part of the reason that our guest speaker, Bill Caskey of AdmissionReady encouraged our clients to look beyond the “usual suspects for college”. He talked about state schools that offered excellent academic programs for gifted students and acknowledged that college is indeed a major investment which requires a fair amount of due diligence. From the perspective of a non-parent financial advisor, it was staggering to hear that despite the rising costs of education, the process is more competitive than ever. We saw it ourselves, when our program was sold out within a few days of the initial announcement!
If colleges were for-profit entities, their stocks would be soaring. After all, how many businesses have increased prices at about twice the rate of inflation and have not only maintained market share, but increased it? Unfortunately for many American families, the way to finance education is debt. A separate report on trends in financial aid from the College Board shows that over the past decade, increases in grant aid, or the money that students do not have to repay, have covered only about a third of the increases in the private college tuition and half the increases in at public four-year schools.
Students are footing more of the bill with private loans from banks and student-loan companies. Undergraduate private borrowing increased 12% to $14.5 billion 2006-07 and borrowing from private sources has increased tenfold over the past decade. As a result, the typical student with an undergraduate bachelor degree from a public university will graduate with over $15,000 in debt, while the private school student will accumulate close to $20,000 in loans. Those loan amounts are the average, which means that many students are graduating with the equivalent of a hefty mortgage payment.
The good news is that college still remains a good long-term investment—workers with college degrees earned almost two-thirds more than those who held high school diplomas. But like any investment, to be as successful as possible, college funding requires a plan. Regardless of where you are in the planning stages, you can benefit from thinking about these issues. Given the trend, the one thing you know is that education costs are likely to continue rising in the future, so get going right now!
Tuesday, October 23, 2007
Diamond Investment Lessons
With the World Series between the Boston Red Sox and the Colorado Rockies ready to kick off tomorrow night, it’s time for two of my favorite activities to come together: sports and investing! I have found that baseball can reveal useful reminders about how to navigate turbulent markets.
Stay loose and remember what got you to this point. One of the most admirable aspects of the World Series Championship Red Sox team of 2004 was their ability to stay loose, even when they trailed the Yankees 3-0 in the ALCS. This concept did not elude the Sox as they found themselves down 3-1 to the Cleveland Indians in the ALCS this year. Instead of throwing in the towel, they fought back, remembering that they had a fine team and a young ace in Josh Beckett.
Investors are sometimes thrown a curve ball when markets drop unexpectedly. Last week’s action was a great example of emotions infringing on sound investing. Instead of worrying about selling when everyone else was spooked, diversified investors looked at the landscape and recalled that portfolios that are distributed among various asset classes can weather volatile markets. With a clear mind, these same investors could analyze the situation without fear or panic and determine whether the economic landscape had changed and then make a decision about any action to take.
Try to ignore the crowd. Everyone told me not to worry about the Mets-they had a seven-game lead with just 17 games remaining in the season. But I kept thinking, “I love these guys, but they are just not that good.” As we now know, the Mets really were not that good, but Colorado was. On September 16th, the Rockies trailed National League wild-card leader San Diego by 4½ games, and Philadelphia and the L.A. Dodgers each by 3 games. From the outside, the Rockies were seen as a contender only mathematically, but not realistically. Today, the Rockies are the National League champions as winners of 21 of 22 games, arriving to the playoffs with a 14-1 run and then sweeping Philadelphia and Arizona in the first two rounds to get to the World Series.
The chatter was so loud about the Mets and so quiet about the Rockies, that it was hard not to get swept up (or down) by it. The same thing can happen to investors. You may know that your portfolio is not well-balanced, or that fundamentally, you are taking too much risk, but it’s so hard to tune out the market cheerleaders who are blathering on about the upside. This is especially true when markets are trading higher. If you can ignore the crowd’s cheers and concentrate on what is most appropriate for you, chances are, you will be better off.
Forget the short-term. This is a tough one, because it requires you to shut down some very real human emotions like fear and greed. When we are plagued with these feelings, we often make bad decisions. For example, when the Yankees were at a loss during the season and were fearful, they made an emotional decision to bring back former superstar Roger Clemens, rather than work with the young talent that already existed in their organization. As it turns out, the Yanks coughed up $175,000 per inning to Clemens and he flamed out in the playoffs.
In the investment world, the ability to push aside those feelings of fear and greed may help you avoid mistakes that are difficult to repair later. The best of example of this is when I speak to an investor who says that he is taking lots of risk in his portfolio because he doesn’t have a lot of time before retirement. This behavior is trying to make up for a lack of prior saving or the unwillingness to work longer. While it may work in the short-term, it is a very risky proposition on which to base your long-term planning.
There are so many more lessons to cover, but for now, you are should be ready to play ball, both on and off the diamond!
Stay loose and remember what got you to this point. One of the most admirable aspects of the World Series Championship Red Sox team of 2004 was their ability to stay loose, even when they trailed the Yankees 3-0 in the ALCS. This concept did not elude the Sox as they found themselves down 3-1 to the Cleveland Indians in the ALCS this year. Instead of throwing in the towel, they fought back, remembering that they had a fine team and a young ace in Josh Beckett.
Investors are sometimes thrown a curve ball when markets drop unexpectedly. Last week’s action was a great example of emotions infringing on sound investing. Instead of worrying about selling when everyone else was spooked, diversified investors looked at the landscape and recalled that portfolios that are distributed among various asset classes can weather volatile markets. With a clear mind, these same investors could analyze the situation without fear or panic and determine whether the economic landscape had changed and then make a decision about any action to take.
Try to ignore the crowd. Everyone told me not to worry about the Mets-they had a seven-game lead with just 17 games remaining in the season. But I kept thinking, “I love these guys, but they are just not that good.” As we now know, the Mets really were not that good, but Colorado was. On September 16th, the Rockies trailed National League wild-card leader San Diego by 4½ games, and Philadelphia and the L.A. Dodgers each by 3 games. From the outside, the Rockies were seen as a contender only mathematically, but not realistically. Today, the Rockies are the National League champions as winners of 21 of 22 games, arriving to the playoffs with a 14-1 run and then sweeping Philadelphia and Arizona in the first two rounds to get to the World Series.
The chatter was so loud about the Mets and so quiet about the Rockies, that it was hard not to get swept up (or down) by it. The same thing can happen to investors. You may know that your portfolio is not well-balanced, or that fundamentally, you are taking too much risk, but it’s so hard to tune out the market cheerleaders who are blathering on about the upside. This is especially true when markets are trading higher. If you can ignore the crowd’s cheers and concentrate on what is most appropriate for you, chances are, you will be better off.
Forget the short-term. This is a tough one, because it requires you to shut down some very real human emotions like fear and greed. When we are plagued with these feelings, we often make bad decisions. For example, when the Yankees were at a loss during the season and were fearful, they made an emotional decision to bring back former superstar Roger Clemens, rather than work with the young talent that already existed in their organization. As it turns out, the Yanks coughed up $175,000 per inning to Clemens and he flamed out in the playoffs.
In the investment world, the ability to push aside those feelings of fear and greed may help you avoid mistakes that are difficult to repair later. The best of example of this is when I speak to an investor who says that he is taking lots of risk in his portfolio because he doesn’t have a lot of time before retirement. This behavior is trying to make up for a lack of prior saving or the unwillingness to work longer. While it may work in the short-term, it is a very risky proposition on which to base your long-term planning.
There are so many more lessons to cover, but for now, you are should be ready to play ball, both on and off the diamond!
Monday, October 22, 2007
Ode to Ben Stein
October 22, 2007
I have met the lawyer, writer, actor and economist Ben Stein a couple of times when we both appeared as guests with on Fox’s “Cavuto on Business”. I was a little star-struck at first, but after a few minutes of chatting in the green room, I realized that he was closer to my investment philosophy than that of the other guests. While they were salivating over individual stocks, he and I were happy to talk about boring old exchange-traded funds based on the value of major indices.
I thought about Mr. Stein recently after receiving a few calls on the radio show from investors who were ecstatic about one stock or another. I know that this is not a popular position, but frankly, I am not that intrigued by individual company stories. Yes, we know that your brother in-law’s cousin was the first guy to buy Microsoft, but in twenty years of doing this, I have rarely encountered any retail investor who consistently beat the stock market index with a portfolio of individual holdings. It’s worth mentioning that rarely does an investor regale you with the story of his most embarrassing losers; rather he seems only to talk about the winners.
I acknowledge that are some incredibly brilliant people with resources far greater than mine who are truly gifted stock pickers. But given that 90% of a retail investor’s return is derived from the top-line asset allocation decision (i.e. the choice of stocks, bonds, commodities and cash), doesn’t it make more sense on concentrating on that part of the analysis than to hoist that dart towards a board filled with individual stocks? Ben Stein recently underscored this concept in the New York Times (“Sound Investing and Peaceful Sleep” October 14, 2007) when he stated clearly: “Avoid individual stocks. The data on this is as clear as a bell, and has been compiled by high-end thinkers ranging from Nobel laureates to the best friend the ordinary investor has ever had, John C. Bogle of Vanguard. Basically, you and I cannot pick stocks.”
Mr. Stein then points out what I have been saying for some time---that it has never been better to be a small investor! The advent of open-ended, no load mutual funds, index funds and exchange-traded funds have opened up opportunities that have never been possible in the past. You can now select assets to create a well-diversified portfolio without paying boatloads of money or worrying about company-specific risks. “The evidence that this form of investment does better over long periods than trying to pick stocks is simply staggering…Just as you might stop to gamble $300 as you pass by the craps table at the Mirage on your way back from the meeting to your room, feel free to take a flier on a few stocks just for laughs. But keep it limited.”
It’s worth noting that I’ve been around a lot of talented traders in my time. It is interesting to note that almost every one of them, ranging in ages has abandoned individual stocks in favor of exchange-traded funds. When they want a little “action” on a particular stock, they dabble with small amounts in their retirement accounts. If it’s good enough for these stars and Ben Stein, maybe you should try it too!
I have met the lawyer, writer, actor and economist Ben Stein a couple of times when we both appeared as guests with on Fox’s “Cavuto on Business”. I was a little star-struck at first, but after a few minutes of chatting in the green room, I realized that he was closer to my investment philosophy than that of the other guests. While they were salivating over individual stocks, he and I were happy to talk about boring old exchange-traded funds based on the value of major indices.
I thought about Mr. Stein recently after receiving a few calls on the radio show from investors who were ecstatic about one stock or another. I know that this is not a popular position, but frankly, I am not that intrigued by individual company stories. Yes, we know that your brother in-law’s cousin was the first guy to buy Microsoft, but in twenty years of doing this, I have rarely encountered any retail investor who consistently beat the stock market index with a portfolio of individual holdings. It’s worth mentioning that rarely does an investor regale you with the story of his most embarrassing losers; rather he seems only to talk about the winners.
I acknowledge that are some incredibly brilliant people with resources far greater than mine who are truly gifted stock pickers. But given that 90% of a retail investor’s return is derived from the top-line asset allocation decision (i.e. the choice of stocks, bonds, commodities and cash), doesn’t it make more sense on concentrating on that part of the analysis than to hoist that dart towards a board filled with individual stocks? Ben Stein recently underscored this concept in the New York Times (“Sound Investing and Peaceful Sleep” October 14, 2007) when he stated clearly: “Avoid individual stocks. The data on this is as clear as a bell, and has been compiled by high-end thinkers ranging from Nobel laureates to the best friend the ordinary investor has ever had, John C. Bogle of Vanguard. Basically, you and I cannot pick stocks.”
Mr. Stein then points out what I have been saying for some time---that it has never been better to be a small investor! The advent of open-ended, no load mutual funds, index funds and exchange-traded funds have opened up opportunities that have never been possible in the past. You can now select assets to create a well-diversified portfolio without paying boatloads of money or worrying about company-specific risks. “The evidence that this form of investment does better over long periods than trying to pick stocks is simply staggering…Just as you might stop to gamble $300 as you pass by the craps table at the Mirage on your way back from the meeting to your room, feel free to take a flier on a few stocks just for laughs. But keep it limited.”
It’s worth noting that I’ve been around a lot of talented traders in my time. It is interesting to note that almost every one of them, ranging in ages has abandoned individual stocks in favor of exchange-traded funds. When they want a little “action” on a particular stock, they dabble with small amounts in their retirement accounts. If it’s good enough for these stars and Ben Stein, maybe you should try it too!
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