The Real Danger In Overstating Returns (Like PIMCO)

Originally in ForbesAs if PIMCO needed any more bad press, The Wall Street Journal reported this week that the Securities and Exchange Commission is investigating whether the bond giant “artificially boosted the returns of a popular fund aimed at small investors.” While we should all be attentive to the results of this probe—because I’d bet my lunch money that its implications will be felt beyond just PIMCO—there is an even deeper issue to consider. And this issue has a more direct impact on our individual portfolios and money management choices. The real danger in overstating returns, and indeed the root of most financial missteps, is self-deception.

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“How’s your portfolio?”

Who among us wants to feel like a failure? We’ll generally avoid experiencing this sensation at all costs. So, absent conspicuous success, we permit ourselves to believe that we’ve at least not failed, frequently through self-deception.

The Top 10 Places Your Next Dollar Should Go

Originally in ForbesThere is no shortage of receptacles clamoring for your money each day. No matter how much money you have or make, it could never keep up with all the seemingly urgent invitations to part with it.

TOP 10 DOLLAR

Separating true financial priorities from flash impulses is an increasing challenge, even when you’re trying to do the right thing with your moola — like saving for the future, insuring against catastrophic risks and otherwise improving your financial standing. And while every individual and household is in some way unique, the following list of financial priorities for your next available dollar is a reliable guide for most.

Once you’ve spent the money necessary to cover your fixed and variable living expenses (and yes, I realize that’s no easy task for many) consider spending your additional dollars in this order: 

My bad! I was wrong about rising rates and bonds

Originally published CNBC

“I was wrong.”

There are few words strung together that possess such power to free us. In less than a second, we’re able to reconcile the inconsistency between our previous conviction and the apparent truth. Humbling, yes, but also strangely euphoric.

Well, I’ve earned the opportunity to claim said euphoria, as I must confess that I had bought into the most prevalent myth du jour surrounding bond investing. You’ll forgive me, I hope, because this misconception—like all of the most powerful ones—is especially deceptive because it’s grounded in half-truth.

bondpit

Let’s be quite clear: Rising rates simply do not guarantee negative bond returns.

Why Beating The Market Is An Uphill Skate

Originally in ForbesIt is absolutely possible to beat the market, just as I’m sure it’s possible that someone could climb Mt. Everest in a pair of roller skates.

It is so improbable, however, that it’s rendered a fruitless, if not counterproductive, pursuit.

After 16 years in the financial industry and seeing countless great investors eventually humbled by market forces they could not control, I’ve finally relinquished my skates.

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What You Can Learn From Bill Gross And PIMCO’s Troubles

Originally in Forbes“Trouble. Trouble, trouble, trouble, trouble.” Reading all the news about Bill Gross and PIMCO, I keep hearing that Ray LaMontagne song in my head. (Go ahead—give it a listen while you read this, just for fun.)

The king of bonds isn’t yet abdicating the throne, but it’s been a rough stretch since PIMCO came down from the mountain to translate the etchings on the “New Normal” tablets. It was, of course, hard to argue the logic in 2009, that U.S. markets would struggle under the weight of a sluggish economy hampered by high unemployment and systemic government debt. But as it often does in the face of supposed certainty, the market defied man’s expectations.

EGO

Allocating Your Most Valuable Asset—You

Originally in ForbesWhat is your most valuable asset? Your home? Not likely, even back in 2006. Your 401(k)? Doubtful, even when it was 2007. No, if you’re not yet glimpsing your retirement years, it’s likely that your biggest asset is you—and not just metaphorically.

Let’s say you’re only 30, with a degree or two and some experience under your belt. You’re making $70,000 per year. If you only get 3% cost-of-living-adjustment raises, you will crest a million in aggregate earnings in just the next 13 years.

Over the course of the next 40 years, over which you’ll almost surely continue working, you’ll earn more than $5.2 million.

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Time Is More Precious Than Money

As the Fed has taught us through the money-printing machine cloaked as quantitative easing, the potential supply of U.S. dollars is limitless. Even for most of us individually, we are capable, to varying degrees, of generating and regenerating money through work, investment and happenstance.

Time, however, is a different story.

Thanks to Emily Rooney for permission to feature her artwork

Thanks to Emily Rooney for permission to feature her artwork

It brings to mind these lyrics: “Where you invest your love, you invest your life,” croons Marcus Mumford in the song “Awake My Soul” on Mumford & Sons’ debut album, “Sigh No More.”

Sure, musicians are notorious for writing lyrics because they sound self-important, or maybe simply because they rhyme, but Mumford has earned a reputation for lyrical brilliance and offers us something deep and meaningful here to apply in our lives and finances.

No matter how much we strive, delegate and engineer for efficiency, there are only 24 hours in each day. We are unable to manufacture more time, and once a moment has passed, it is beyond retrieval.

Of these 24 hours each day, if we assume that we will sleep, work and commute for approximately 17 of them, that leaves us with a measly seven hours to apply ourselves to loftier pursuits. After an hour at the gym, an hour to eat and another hour to decompress with a book or TV show, we’re down to four hours to personally affect those for whom we are presumably working and staying healthy—the people we love.

Our human capacity to love also has its limits.

While not measurable, we can all acknowledge that our capacity to love, in the four hours each day that we have to invest it, is affected by how we’ve invested the other 20 hours. By the “end” of many days, we are just beginning our four hours, and we are already spent. Even if we wanted to, we have nothing left to give—no love left to invest.

I am a chief offender of misallocating my love.

I often allow the four hours I have to give to my wife, Andrea, and two boys, Kieran (10) and Connor (8), to shrink to three, two or even one. In whatever time is allocated, I often serve leftover love, having over-invested myself throughout the day. Then I steal from their time, interrupting it with “important” emails and calls.

I must acknowledge that these are choices I make.

We have the choice to order our loves, to acknowledge the limited nature of time and our own capacity, and to prioritize our work and life.

It’s entirely appropriate to love our work and the people we serve through it. It’s entirely appropriate to love ourselves and to do what is necessary to be physically, fiscally, psychologically and spiritually healthy. It’s entirely appropriate to love our areas of service and civic duty, and to serve well. Therefore, almost paradoxically, it’s entirely appropriate to spend 83 percent of our daily allotment of time in pursuits other than the direct edification of those we love the most.

But what would our lives look like if we engineered our days to make the very most of the other four hours?

Would we have a different job? Would we live in a different house or part of the country? Would we drive a different car? Would we say “no” to some people more and to other people less? Would we invest our time and money differently?

Would you invest your love differently?

I’m excited to be part of a contingent of financial advisors asking these questions of our clients (and ourselves).  We don’t believe that the only way to benefit our clients is through their portfolios, and we believe that asset allocation involves more than mere securities.

This isn’t a particularly new concept.  Indeed, the second phase of the six-step financial planning process, as articulated in the Certified Financial Planner™ (CFP®) practice standards, is to “determine a client’s personal and financial goals, needs and priorities.”  But thought leaders like Rick Kahler, Ted Klontz, Carol Anderson, George Kinder, Carl Richards and Larry Swedroe are persistently nudging the notoriously left-brained financial realm to reconcile with its creative and intuitive side for the benefit of our clients.

With statistics suggesting that as many as 80% of financial planning recommendations are not implemented by clients, it’s officially time to recognize that personal finance is more personal than it is finance.

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Study Reveals Investing Is Hazardous To Your Health

Investing Hazard-01I don’t need to inform you that investing is dangerous business.  You already know in your gut what Joseph Engelberg and Christopher Parsons at U.C. San Diego found in their new study, that there is a noticeable correlation between market gyrations and our mental and physical health.

But when do you think the financial industry will get the point?

Shortly after I became a financial advisor, I was given a book to commit to memory.  It told me what my role in life would be: To make a very good living helping approximately 250 families stay in the stock market.

The text insisted that regardless of my client’s age or risk temperament, it would be in their best interest to be—and stay—in stocks, exclusively and forevermore.  I was the doctor; they were the patients.  I was the ark-builder; they were the—you get the point.

The book might even be right.

But…

The Behavior Gap

My friend and New York Times contributor, Carl Richards, has been drawing a particular picture for years.  He’s struck by the research acknowledging the noticeable difference between investment rates of return and what investors actually make in the markets.  (Investors make materially less.)

Investors, it appears, allow emotions to drive their investing decisions.  A desire to make more money causes them to choose aggressive portfolios when times are good, but a gripping fear leads them to abandon the cause in down markets, missing the next upward cycle.

Investors buy high and sell low.

Well-meaning advisors, then, including the author of the book I referenced, have claimed their collective calling to be the buffer between their clients’ money and their emotions.  Unfortunately, it’s not working.

Maybe it’s because the intangible elements of life are so tightly woven into the tangible that we can’t optimally segregate them.

Maybe it’s because we’re not actually supposed to forcibly detach our emotions from our rational thought.

Maybe it’s because financial advisors and investing gurus should focus less on blowing the doors off the benchmark du jour and more on generating solid long-term gains from portfolios designed to be lived with.

Livable portfolios.

Portfolios designed to help clients stay in the game.

Portfolios designed to help clients (and advisors) avoid falling prey to the behavior gap.

Portfolios calibrated with a higher emphasis on capital preservation.

How much less money do you make, anyway, when you dial up a portfolio’s conservatism?

The Same Return With Less Risk

In his book, How to Think, Act, and Invest Like Warren Buffett, index-investing aficionado, Larry Swedroe, writes, “Instead of trying to increase returns without proportionally increasing risk, we can try to achieve the same return while lowering the risk of the portfolio.”

Using indexing data from 1975 to 2011, Swedroe begins with a standard 60/40 model—60% S&P 500 Index and 40% Five-Year Treasury Notes.  It has an annualized rate of return of 10.6% over that stretch and a standard deviation (a measurement of volatility—portfolio ups and downs.) of 10.8%.

Next, Swedroe begins stealing from the S&P 500 slice of the pie to diversify the portfolio with a bias toward small cap, value and international exposure (with a pinch of commodities).  The annualized return is boosted to 12.1% while the standard deviation rises proportionately less, to 11.2%.  (Remember, this is still a 60/40 portfolio with 40% in five-year treasuries.)

But here’s where Swedroe pulls the rabbit out of the hat:  He re-engineers the portfolio, flipping to a 40/60 portfolio, proportionately reducing all of his equity allocations and boosting his T-notes to 60% of the portfolio.  The net result is a portfolio with a 10.9% annualized rate of return—slightly higher than the original 60/40 portfolio—with a drastically lower standard deviation of 7.9%

Same return.  Less Risk.

This, of course, is all hypothetical.  This happened in the past, and for many reasons, it may not happen again.  These illustrations are not a recommended course of action for you or your advisor, but instead a demonstration that it is possible—and worth the effort—to work to this end.

Because we can’t keep hiding from the following logical thread:

1)   Volatile markets increase investor stress (even to the point of physical illness).

2)   Heightened investor stress leads to bad decisions—by both investors and advisors—that reduce investor returns.

3)   Market analysis suggests that portfolios can be engineered to maintain healthy long-term gains, while at the same time dramatically reducing the intensity of market gyrations.

How could we not, then, conclude that more investors would suffer less stress, thereby reducing (hopefully eliminating) their behavior gap, thereby allowing investors to hold on to more of their returns?

Isn’t that the point?

If you enjoyed this post, please let me know on Twitter at @TimMaurer, and if you’d like to receive my weekly post via email, click HERE.

Don’t Bet Your Portfolio On The Twitter IPO

Twitter Announces Plan To Float On Stock MarketConsider keeping your social media activity on your computer, phone or tablet—and out of your portfolio.

People seem to either love or hate Facebook and Twitter, with emotions ranging high, like rooting for our favorite sports teams.  Personally, I’m unlikely to win any football or basketball office pools because I’m so biased toward my favorite teams.

We can also suffer from some of these polarizing bias issues with individual stock selections—and especially social media stocks bearing the names of the most recognizable thumbnail icons of our time.

There will be winners and losers with Twitter, as with any stock, but I’m content to be an observer.  This is for a couple specific reasons:

1)     I am biased.  Unlike Facebook, which I dumped as a personal social media outlet (for seven reasons that were important to me), I really like Twitter.  I hope Twitter continues to do well so that those of us who are fans will continue to benefit from its many uses well into the future.  In other words, I’m biased.  I’m vested, and that detracts from my ability to be the best investor.

2)     Another reason that I’m tentative about this whole Twitter IPO business is that, well, the company has never made a profit.  One of the reasons for its cult following is that you don’t get slapped in the face by endless ads hunting for the content you seek (unlike some other social media platforms).  You don’t have to be a stock picker to know that Twitter will have to access “as-yet-untouched monetization levers,” according to Jeff Bercovici at Forbes, in order to reach the upper end of its anticipated price range.  That means they’ll have to find new ways to sell us, and if you’re anything like me, you’re probably hoping to be an untouchable monetization lever.

This is not investment advice—it’s gambling advice, because at this stage of the game, it’s anyone’s guess whether or not Twitter is going to successfully remake its loyal followers into a money-printing machine, 140 characters at a time.

TWEETABLE: Consider keeping your social media activity on your computer, phone or tablet–and out of your portfolio. #TwitterIPO

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The Only Lesson You Need To Learn From The Debt Ceiling Debacle

Executive Summary-01Few of us would argue that the government shutdown and this year’s debt ceiling debacle are issues of importance, but over the course of your lifetime, which do you think has a bigger impact—the decisions the government makes or your own personal decisions?

We tend to spend more time bemoaning the action and inaction of those with less of a direct influence in our lives—especially legislators and Presidents—than those who most directly impact our lives: US.

You are an entity.  You and your spouse (if you’re married) and your children (if you’re a parent) are certainly beholden in part to other entities, like companies, cities, states and countries, but you also enjoy a great deal of sovereignty.  You decide where to live, what to eat, whom to befriend and marry, how to derive an income and how to spend it.

Please allow me to disabuse you of a few “It’s their fault!” self-deception anthems especially common in the realm of personal finance:

  • The arc of your career is not your boss or company’s responsibility. Good bosses and companies create environments in which good employees can flourish.  Bad bosses and companies inspire good employees to join better companies or create new businesses.  Bad employees play lots of video games.  At work.
  • Regardless of your levels of income or net worth, your financial success or failure will be predicated primarily on the effectiveness of your cash-flow management system.  This is most commonly and disdainfully referred to as a budget.  I recommend YNAB to college students and millionaires alike.  You can never be too rich or poor to budget.
  • Your long-term success in investing is not the responsibility of your financial advisor or investment manager (although they can help or hurt).  There are innumerable (good and bad) variations on the portfolio creation and management theme, but if all you ever did was establish a reasonably diversified, indexed, balanced portfolio (call it the “minimum effective dose”), you’ll likely outpace most of your peers and many professional investment managers.
  • Your ability to retire comfortably will be impacted by many factors—especially the three you just read—but none more so than your willingness to make regular contributions equal or greater to 10% of your annual income.

Although politicians and pundits may attempt to convince us otherwise, the long-term trajectory of our lives are more a consequence of impulsion than compulsion—UNLESS we give someone or something else that control. If you rely more on outside influences than those within your control, you have ceded too much.

If we worry more about that which we can’t control (governmental bumbling, short-term volatility, the outcome of the World Series) than acting on that which we can, we do so only to our detriment.  And maybe—just maybe—the reason we gripe so much about that which is holding us back is that we fear the consequences of being held accountable for our own decisions, our own lives.

[tweetable]Control what you can, and worry far less about that which you can’t.[/tweetable]

 

If you enjoyed this post, please let me know on Twitter at @TimMaurer, and if you’d like to receive my weekly post via email, click HERE.