Fee vs. Commission?
If one invests in mutual funds for example, they might expect some diversification and professional management. Since a commission would be a one time charge it would be cost effective for a buy and hold investor over time. On the other hand, a recurrent management fee would be better if one changed funds more frequently. There is obviously more depth to each argument and to be fair there are a few who sit at the extremes of each side. While everyone’s financial situation is different both sides of the issue at least have some merit.
Although there are some younger people that would prefer to have as little market risk as possible, conventional views have espoused that asset allocation should gradually go to a more conservative stance as we get closer to the end of our working years. Traditional allocation models may inherently encourage some diversity but are by no means a safety net.
A correction of the stock market is defined as a drop of ten percent or more of its value, but a drop of over twenty percent defines a bear market. We have experienced nine bear markets since 1933. Except for the last decade, we have had at least one bear market every decade since the early 1900s (likely due to the 4.9 Trillion dollars of quantitative easing). Those with limited investment experience have never seen a bear market, often contributing to an irrational exuberance.
As market fundamentals return following the quantitative easing, a there are fears of inflation as the bubble of the Treasury unwinds from the 75 billion per month of freshly printed dollars being pumped in. As bond interest rates rise, stock volatility if not a correction or bear market are likely.
Considering the quantitative easing and the downgrade of the US credit rating by Standard & Poors with recent warnings by the other financial rating services; the basic instability of the bond markets had thrown a wrench in the works of the income portfolio concept that is commonly used by conservative (or older) investors for current expenses. You can imagine a financial salesperson on the phone with Grandma telling her to hang in there when she has resorted to a decision between food and medicine.
Understanding your Personal Risk Tolerance
Prevailing wisdom has espoused that ones asset allocation should gradually become more conservative as we approach the end of our working years. The type of savings or investment vehicles we use will often change along with our risk tolerance. While the choices for a safe guaranteed way to grow our savings may seem limited there are some viable alternatives that are often overlooked.
In our grandfather’s day, a worker often received a “pension” that paid a certain amount of money every month for the rest of their life. If they were married they normally had the “joint and survivor” option which would continue to pay a monthly check to their spouse after they had passed away. These traditional pension plans are called “defined benefit plans”. Traditional defined benefit plans provide a guaranteed benefit. They “define” how much the worker will receive each month based on their life expectancy and the amount of the funds accumulated. Some non-traditional pensions have been mismanaged experiencing problems and even become insolvent due to the use of non-guaranteed investments and real estate holdings.
The “defined contribution plan” sets how much you contribute each year but generally is equity based like a 401k for example and not guaranteed with exposure to market risk and fluctuation.
Self Directed Investing
Considering the roller-coaster volatility and risk of the investment markets; the following question has been asked about money strategies: Are you tolerant enough to wait through another seven to ten year market cycle to get back a paper loss of 20 to 50% after a substantial market correction?
While most financial salespeople will gloss over the fund administration and expense charges (and 12-b1 fees for no-load funds); the most common area of neglect is making sure that people like you are maintaining proper asset allocation with regards to your personal risk tolerance. How do you know if your asset allocation strategy is in tune with your personal risk tolerance?
Unlike expensive brokered funds that execute the sell order at the end of the business day regardless of when you call your broker, they will not talk about exchange traded funds that have lower fees and trade immediately upon execution for $4.
Opinions of Media Personalities
The subject of insurance and finance can be complex but it doesn't have to be. There are some media experts that have exploited the situation by telling you what they think you want to hear. Media personalities are good at broadcasting their opinions on many subjects. It's bad enough they are using TV airtime on the subsidized public education channels airing infomercials pushing their book and DVD sales, but using talk radio getting kickbacks from the fund companies spewing out blanket financial advice is what we see as the biggest conflict of interest.
However; the subject of your financial security is in a whole different league than dealing with mortgage lenders, credit cards, and cell phone providers. More importantly they are not accountable to you or anyone else! Trusting a media personality with your life savings could be compared to using an auto mechanic for brain surgery.
While they may have good intentions; all they are really doing is selling you their opinion without regard to your individual financial situation and risk tolerance. Giving out open blanket financial advice for everyone to follow is not only irresponsible but it can be dangerous to someone on an individual basis. How you handle your exposure to certain types of financial and market risk is different from everyone else.
The next time you are in a large group of people, ask them to finish this sentence, "The greater the risk, the greater the"... (the reward, or return, in investment jargon). You will find that almost everyone replaces the blank with the word “reward or return” as if somehow risk assures a better return. Almost no one will say, the “possibility of loss or injury.”
Even today, financial authors like Dave Ramsey give excellent advice about getting out of debt but Mr. Ramsey curiously continues to talk about mutual funds that earn between 11% and 12% over the long haul. Let’s do a little reality check here. This 11 ½ year rollercoaster ride that has ended with a resounding thump at the bottom. Investors using mutual funds have not come anywhere near double digit returns.
Even worse; those who systematically supplement their income from these mutual funds have watched a tremendous amount of their wealth deplete with no chance of a return. Mr. Ramsey launched his ‘Financial Peace” concept in 1992. During his entire career since then, the S&P 500 has not even come close to his story of an 11% to 12% return. The actual performance has been half of these numbers even before subtracting fees and trading costs.
Why is Dave Ramsey recommending mutual funds constantly? Because mutual funds are huge sponsors of his website, advertising, radio and television show. All of Dave’s “Wealth Coaches” are required to sell for these mutual funds as a condition of being named as a “Wealth Coach.” Dave Ramsey has been an excellent lead generating tool for mutual fund companies and their sales representatives because he continues to rely on people’s long memory of the past and lack of understanding of the future. Now please don’t get me wrong. Ramsey’s ideas on eliminating debt are absolutely fantastic. The claims he makes about mutual funds are not. Savers must stop looking at the period from 1980 to 2000 as something that is going to happen again in the stock market.
Early Withdrawal Penalty vs. Surrender Charge...
Let's say we had 10k in a bank CD. If we took out ten bucks it would trigger an early withdrawal penalty on the entire amount, forfeiting any interest earned, "breaking" the CD, releasing the bank from any further obligation of interest crediting.
Where as if we take money out of a fixed annuity using the ten percent free withdrawal feature (or, as a Required Minimum Distribution, RMD) there would be no surrender charge and the plan would continue with no interruption.
If we took out money out in excess of the the ten percent free withdrawal feature, the surrender charge would only apply the amount in excess of the ten percent, and the plan would continue with no interruption.
We hear from the experts at a the brokerage firms when the market goes down, it's just a paper loss if you stay in,.. but you never hear it's a paper gain when the market is up. If the market was down considerably and we needed some money right then, the surrender charge even at the highest percentage would be better than taking a potential market loss of up to half of our money.
In our current financial climate people with Index annuities holding their savings that are getting higher rates of return usually have no intention of taking the money out so the surrender charges are never a factor.
Having an expert in your corner makes all the difference in the world.
Captive agents (i.e.- often your Fidelity, Schwab, or Edward Jones brokerage types) can only represent their primary company or employer and are restricted to a limited number of approved products offered on a list. Their business plan is to fit you into their product line regardless of your financial needs and interests.
The independent brokerage concept allows more objective recommendations. There are many companies and financial services to choose from, with a variety of options. Without knowing the details of the clients situation, we can’t be sure what is best for them, or what they would even qualify for. Only after asking a few questions can we really find out what is important to them and find out the details of their situation. The best way to do that is to schedule a confidential meeting. If you would like to visit, and go through the fact finding process we would be willing to take the time to help you learn about your alternatives.