Month: September 2018

Di-worse-i-fi-ca-tion?

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Diversification or concentration? To create wealth, concentrate; To preserve it, diversify. A concentrated portfolio can produce huge gains, if you own the right stocks. Of course, if you own the wrong ones, your wealth will be wiped out. Buying the right sector, at the right time, at the right price requires multiple factors, most of which are out of your control. The primary ingredient for consistently picking a winning stock is luck.

Let’s look at the best performing sectors for the last 10 years and the returns they generated.

2008: Long term bonds = 33.92%

2009: Emerging Markets = 76.28%

2010: Real Estate = 28.37%

2011: Long term bonds = 33.96%

2012: International Small Cap Stocks = 21.28%

2013: U.S. Small Cap Stocks = 41.32%

2014: Real Estate = 30.36%

2015: International Small Cap Stocks = 9.10%

2016: U.S. Small Cap Stocks = 26.61%

2017: International Small Cap Stocks = 32.73%

2018 U.S. Small Cap Stocks = 14.47%

It might appear easy to pick the winner in advance, but this is not the case. For example, the emerging markets rose 76% in 2009, but lost 51% in 2008. How many investors had the courage or wisdom to invest in emerging markets in 2008? If they did, they were rewarded handsomely one year later.

International small-cap companies have been the best performing sector for 3 out of the last 10 years, so it would make sense to allocate some money to this sector. However, it does come with risks because it generated negative returns in 2008, 2011, and 2014.

Warren Buffett prefers a concentrated portfolio and it doesn’t pay to argue with the greatest investor of all time. Mr. Buffett concentrates his wealth in Berkshire Hathaway stock. Is Berkshire a concentrated or diversified holding?

Let’s look at some of the holdings listed in the 2017 Berkshire Hathaway annual report.[1] Berkshire owned the following publicly traded companies: American Express, Apple, Bank of America, Bank of New York, BYD Company, Charter Communications, Coca-Cola, Delta Airlines, General Motors, Goldman Sachs, Moody’s, Phillips 66, Southwest Airlines, U.S. Bancorp and Wells Fargo.

In addition, Berkshire also owned several privately held companies, including: Acme Brick, Ben Bridge Jeweler, Benjamin Moore, Brooks, Borsheim Jewelry, Burlington Northern, Clayton Homes, Duracell, FlightSafety International, Fruit of the Loom, GEICO, General Re, Helzberg Diamonds, Johns Manville, Jordan’s Furniture, Justin Brands, Kraft Heinz, Lubrizol Corporation, Marmon Holdings, McLane Company, MidAmerican Energy, MiTek Industries, NetJets, Nebraska Furniture Mart, Oriental Trading Company, Pampered Chef, Precision Castparts, Precision Steel Warehouse, Scott Fetzer Companies, See’s Candies, Shaw Industries, and Star Furniture.

Is his portfolio concentrated or diversified? I’ll let you come to your own conclusion, but I think it’s the later.

A balanced portfolio of 60% stocks, 40% bonds generated a 6.93% return for the past 10 years – including the sharp drop in 2008. A million-dollar investment on 8/1/2008 is worth $1.97 million today.[2]

It would be great, and financially rewarding, to always invest in the best investment but this is not possible. For most investors, a diversified portfolio of low-cost mutual funds is recommended. Your portfolio will benefit from the long-term growth generated from global markets.

I am not saying this because I am in need, for I have learned to be content whatever the circumstance. ~ Philippians 4:11

9/27/2018

Bill Parrott is the President and CEO of Parrott Wealth Management firm located in Austin, Texas. Parrott Wealth Management is a fee-only, fiduciary, registered investment advisor firm. Our goal is to remove complexity, confusion, and worry from the investment and financial planning process.

Note: Investments are not guaranteed and do involve risk. Your returns may differ than those posted in this blog.

 

[1] http://www.berkshirehathaway.com/subs/sublinks.html

[2] Morningstar Office Hypothetical – 8/1/2008 – 8/31/2018. IVV, IJR, EEM, EFA, AGG. Returns are gross of fees and taxes.

Foundations

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A home built on rock can withstand countless storms.

Most people, I think, would agree building a home on solid ground makes sense. Today, if a home doesn’t have a solid foundation, like rock, a builder will fortify it with cement, rebar, steel, or some other material to make sure it stood for generations.

It doesn’t make sense for a person to build a home on sand or some other porous material that will be washed away when the next storm arrives. Why would someone build a home that might be destroyed by rain or wind? They could be looking for short cuts or trying to cut costs by using cheaper and lower quality products. In their haste, they ignored all the warning signs which will eventually bring disastrous results.

Investors who build portfolios on feeble foundations look for quick rich solutions by by-passing traditional planning practices. They will chase the latest investment fad in hopes of short-term trading profits by purchasing bitcoin, dot com companies and pot stocks only to see their results go up in smoke.

If you’re a successful investor, you probably have a financial plan. Your plan is your foundation. It will give you guidance for your future. It will help you identify and prioritize those items most important to you and your family.

During a storm, your plan will give you peace, hope and security. It will be your fortress against making rash decision that will have long-term consequences on your financial goals. When the stock market is acting violently or performing poorly, you should refer to your plan often so you don’t get distracted during the dark days.

How can you fortify your financial foundation? Here are three suggestions.

  1. Create a financial plan. I would recommend working with a Certified Financial Planner™ who can help you visualize and dollarize your goals. Planning for retirement? Paying for college? When should you apply for Social Security? Do you still need life insurance? These questions, and many more, can be answered through your plan.
  2. Review your financial plan. After your plan is complete, an annual review is recommended. Are your stated goals still important to you and your family? Did you reach any of your goals? Do you have new ones? An annual review with your planner will make sure your plan is still on solid footing.
  3. Invest according to your plan. Your asset allocation and investment selection should reflect the design and result of your financial plan. If your portfolio is aligned to your goals, you’re more likely to stay invested during good times and bad.

A solid foundation should be at the cornerstone of your investment plan. The more fortified your finances are, the better your results will be.

For I know the plans I have for you, declares the Lord, plans for welfare and not for evil, to give you a future and a hope. ~ Jeremiah 29:11

9/25/2018

Bill Parrott is the President and CEO of Parrott Wealth Management firm located in Austin, Texas. Parrott Wealth Management is a fee-only, fiduciary, registered investment advisor firm. Our goal is to remove complexity, confusion, and worry from the investment and financial planning process.

Note: Investments are not guaranteed and do involve risk. Your returns may differ than those posted in this blog.

Life Sentence

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In Shawshank Redemption, Andy Dufresne was sentenced to life in prison for a murder he didn’t commit. He declared his innocence and spent hours digging a hole in his cell wall, so he could eventually escape. On a stormy night he finally escaped through the tunnel he dug to enjoy a life of freedom on a beach in Mexico. In some way, his character explains the life of an “investor” who owns a permanent life insurance policy like universal life or whole life.

In a recent Wall Street Journal article, Universal Life Insurance, a 1980s Sensation, Has Backfired, the author describes a product that delivered less than stellar results.[1]

What is universal life insurance? It’s a permanent form of life insurance that allows you to invest in a fixed rate policy or one that delivers variable rates of return. The variable policy gives you the option to invest your premium in stocks and bonds. Since it’s a permanent form of life insurance you’ll pay your premium for your entire life.

In the article referenced above, a few of the policy holders have seen their premiums increase by 300% to 400% and some have reduced their death benefit to afford their policies. These insurance policies are injected with high fees, and higher redemption charges – a major reason for their underperformance.

One reason people buy permanent life insurance is to build a cash value reserve they can later use it to live on. The cash value can be withdrawn from the policy on a tax-free basis as a loan, a key benefit to the policy holder.

A client of mine once owned a variable universal life insurance policy that was purchased from a large insurance company. She paid a monthly premium of $995 for 14 years. After reviewing her policy, I decided to terminate it because it was not growing. When we cashed in her policy she lost 7.38%, or $11,740. Had she invested $995 per month in the Vanguard S&P 500 index fund, and paid taxes annually, she would’ve enjoyed a positive return on her investment and an extra $52,300!

My stance is to buy term and invest the rest in low-cost mutual funds. The cost of term insurance is cheap because all your doing is buying insurance coverage – no cash value added.

Of course, insurance should be purchased for need. For example, if you’re a young couple with children and a home with a mortgage it’s essential that you own a life insurance policy. When your children are grown, and your debt level has dropped, the need for life insurance declines. A 94-year old living on a fixed income does not need life insurance.

If you want to pass on a larger estate to your children or donate assets to charity, then a life insurance policy may make sense. You can also use life insurance to pay an estate tax if your estate is large enough.

What if you want to own a permanent life insurance policy? What choices are available? Fortunately, you can purchase low-cost life insurance from several carriers like TIAA. These carriers offer policies without a sales commission or back-end sales charge, and the internal expenses are much lower than broker-sold policies.

A meeting with a Certified Financial Planner™ can help you evaluate your life insurance requirements. They can determine the necessary amount of life insurance coverage for you as well as what type of policy to buy.

Before you make a lifetime commitment to an insurance policy, make sure it’s a good one.

Never ask a barber if you need a haircut. ~ Warren Buffett

9/20/2018

Bill Parrott is the President and CEO of Parrott Wealth Management firm located in Austin, Texas. Parrott Wealth Management is a fee-only, fiduciary, registered investment advisor firm. Our goal is to remove complexity, confusion, and worry from the investment and financial planning process.

 

Note: Investments are not guaranteed and do involve risk. Your returns may differ than those posted in this blog.

 

 

[1] https://www.wsj.com/articles/universal-life-insurance-a-1980s-sensation-has-backfired-1537368656?mod=trending_now_2, by Leslie Scism, 9/19/2018

The Mechanics of Moving Money

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For the past forty years or so, you’ve worked hard and, hopefully, saved a few dollars. While working, you probably contributed a portion of your pay to your 401(k), IRA, or investment accounts. Now what? Yesterday you were working, today you’re retired. It’s now time to enjoy the fruits of your labor.

A question I’m often asked is: “How do I take money out of my retirement accounts?”

The mechanics of moving money from your company-sponsored retirement plan to an IRA is a simple process. The transfer will occur on a trustee to trustee basis, so you won’t have to pay any fees, penalties, or taxes. To start the rollover process, you’ll need to contact your employer. They will give you a form or a link to a website to complete the process. Your company custodian will require you to have an IRA account number and mailing address for your new custodian. Once the information is entered, the rollover will be processed, and your money will be transferred to your IRA.

Of course, if you’re happy with your 401(k), you can leave your assets in the plan. You don’t have to roll it over to an IRA if you’re satisfied with your funds, returns, and fees. However, one of the main reasons to rollover your plan is to give you more investment choices.

What if you want to cash out of your plan and receive a big check? A lump-sum payout is an option, not a wise one, but it’s an option. Let’s say your current 401(k) balance is $1 million, and you decide to cash out and receive a lump-sum check. The distribution would be taxed as income at the state and federal level. If you live in California, 50.9% (39.6% for federal, 11.3% for state) of this distribution will be eaten up by taxes.

Once your funds have been deposited into your IRA, the process of moving money from your retirement account to your bank is also a simple process. Most people opt to have their money transferred electronically via an ACH (automated clearinghouse) transaction. The distributions can occur monthly, quarterly, annually, or as needed. Your income-distribution options are limitless.

Let’s look at a few pay-out options.

During a certain month, you may receive dividends and interest payments from several sources. At the end of the month we can total the amount and send the check to your bank. Your monthly income checks will be sporadic if you employ this strategy, especially if you own a large quantity of individual stocks and bonds.

Another option is to pay ’em as you get ’em. For example, if you receive a dividend payment from Pepsi today, we can send you the check tomorrow. This option is rarely chosen because of the volume of checks.

The option most retirees choose is to receive a flat dollar amount regardless of how much income the investments generate monthly. For example, let’s say you want to receive $5,000 per month. At the beginning of each month you’ll receive $5,000 regardless of how much income was generated in your account. This is a popular strategy because it helps with the budgeting process.

What about taxes? When you remove money from your traditional IRA account, or any tax-deferred account, you’ll owe taxes on the distribution. Let’s say you want to receive $5,000 per month or $60,000 a year. After consulting with your CPA, you decide to withhold 20% from each check to cover the tax. You’ll receive $4,000 and $1,000 will be sent to the IRS. At the end of the year, your 1099-R will reflect $60,000 in total distributions – $48,000 to you, $12,000 to the IRS.

For forty years you automatically deposited money into your 401(k). Now that you’re retired, we will establish an automated systematic withdrawal, so you can receive monthly income and enjoy life!

Often when you think you’re at the end of something, you’re at the beginning of something else. ~ Fred Rogers

9/19/2018

Bill Parrott is the President and CEO of Parrott Wealth Management firm located in Austin, Texas. Parrott Wealth Management is a fee-only, fiduciary, registered investment advisor firm. Our goal is to remove complexity, confusion, and worry from the investment and financial planning process.

Note: Investments are not guaranteed and do involve risk. Your returns may differ than those posted in this blog.

Where Do Stock Returns Come From?

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Peanut butter and jelly. Thelma and Louise. Calvin and Hobbes. Fish and Chips. Wayne and Garth. Some things are better in pairs!

Stock returns consist of two components: dividends and price appreciation. Dividends are paid to shareholders on a quarterly basis from the company’s profits regardless if the stock is up, down or sideways. In addition, investors can profit from price appreciation. Your total return is a combination of the two.

For example, you decide to purchase ABC company at $40 per share. If ABC pays a $1.00 dividend, your current yield will be 2.5% ($1/$40). If you sold your stock at $50, you made 25% ($10/$40). Combining your dividend income with the price appreciation, your total return was 27.5%. If you purchased 1,000 shares, you received $1,000 in income and gained $10,000 giving you a total return of $11,000.

Let’s look at a real-world example. Let’s say you purchased $100,000 worth of Coca-Cola (KO) stock on 8/1/1988 and held it through 8/31/2018. In this example, you generated an annual return of 12.66%. Your $100,000 investment grew to $3.62 million and you received $1.1 million in dividend income. Your dividend income accounted for 31.5% of the total return.

Currently there are 1,269 stocks with a dividend yield of 2% or more. Dividend Aristocrats are companies that have paid, and increased, their dividend for at least 25 years. A few companies on this elite list include: Aflac, Coca-Cola, McDonald’s, Pepsi, Procter & Gamble, Sherwin Williams, Target, and Walmart.

Of course, there are plenty of excellent companies that don’t pay a dividend. Two of the more popular ones are Amazon and Berkshire Hathaway. They plow their profits back into their company rather than pay them to you, the shareholder. In this case, the entire gain comes from price appreciation.  Amazon has generated a 10-year average annual return of 38% while Berkshire has returned 10.5% per year over the same time frame.

The key term to focus on is total return. It doesn’t matter how you make money, so long as you make money.

 two and two, male and female, went into the ark with Noah, as God had commanded Noah. ~ Genesis 7:9

9/12/2018

Bill Parrott is the President and CEO of Parrott Wealth Management firm located in Austin, Texas. Parrott Wealth Management is a fee-only, fiduciary, registered investment advisor firm. Our goal is to remove complexity, confusion, and worry from the investment and financial planning process.

Note: Investments are not guaranteed and do involve risk. Your returns may differ than those posted in this blog.

Lodestar

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Lodestar is the new buzzword for the year. It recently appeared in an anonymous New York Times Op-Ed article: “We may no longer have Senator McCain. But we will always have his example — a lodestar for restoring honor to public life and our national dialogue.”[1]

What is a lodestar? According to Merriam-Webster it means “a star that leads or guides; especially: North Star.” It adds, “one that serves as an inspiration, model, or guide.”

Should you follow a lodestar? In the financial services industry there are two: an advisor and a financial plan.

According to Vanguard, working with an investment advisor can help you increase returns. They found an advisor relationship can add 3% in net returns.[2]  Beyond investments, an advisor can help you with several types of planning, including financial, education, tax, estate, charitable, and much more.

In another study, it was found individuals who complete a financial plan have three times the assets of those individuals who do little or no planning.[3] Your financial plan will quantify and prioritize your goals. It will also determine your asset allocation and investment selection.

Here are a few ideas to guide you towards your financial destination:

  • Work with an advisor, preferably one who holds the Certified Financial Planner Designation. A CFP® will design a plan that is personalized for you and your family.
  • Invest your assets according to the results in your plan by utilizing a globally diversified portfolio of low-cost mutual funds.
  • Rebalance your assets annually. This will keep your investment risk and asset allocation intact.
  • Meet with your advisor to discuss your plan, goals, and assets. How often? As often as you need.
  • Adjust and amend your plan as your wants and needs change.
  • Think long term. Since 1871, investors in the U.S. stock market have always made money over 20-year periods, according to The Motley Fool.[4]

A star, map, compass, sextant, and GPS have all been used to help explorers navigate their travels. Working with an advisor and completing a financial plan can increase your odds of success of reaching your goals as both will keep you focused during good times and bad. Your advisor will use all their tools and resources to help pilot you to your financial promise land.

And behold, the star that they had seen when it rose went before them until it came to rest over the place where the child was. ~ Matthew 2:9

9/7/2018

Bill Parrott is the President and CEO of Parrott Wealth Management firm located in Austin, Texas. Parrott Wealth Management is a fee-only, fiduciary, registered investment advisor firm. Our goal is to remove complexity, confusion, and worry from the investment and financial planning process.

Note: Investments are not guaranteed and do involve risk. Your returns may differ than those posted in this blog. 

[1] https://www.nytimes.com/2018/09/05/opinion/trump-white-house-anonymous-resistance.html, Anonymous, 9/5/2018

[2] https://www.vanguard.com/pdf/ISGQVAA.pdf

[3] http://www.nber.org/papers/w17078

[4] https://www.fool.com/investing/2018/05/11/ask-a-fool-what-returns-should-i-expect-from-my-st.aspx, Matthew Frankel, May 11, 2018

Steak Dinners

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About twice a month I receive an invitation to a steak dinner at a local restaurant from two different investment firms. These firms are offering retirement planning seminars to make sure I don’t run out of money during my golden years.

As I scan their elaborate mailers, I drop my eyes to the bottom of the invitation to read the small print. These firms don’t offer investment, estate, or tax advice. What do they offer? Insurance. They come in under the guise of offering educational retirement planning workshops, but their real intent is to sell annuities and expensive life insurance policies.

These firms spend several thousand dollars to get a few people to attend their steak dinners. To get an audience of 50 people, they’ll send 10,000 mailers. The mailing will cost about $5,000 and the dinner will add another $8,000. If they host their event at a hotel, it may add another $1,000 to the cost. So, all in, it may cost $14,000 or more to host an event.

Why would these firms spend $14,000 per month to offer free retirement workshops? Because if they sell a few insurance policies, they’ll recoup their cost and make a substantial profit.  For example, if their guests purchase $1 million in annuities, the sales representatives will generate commissions of $50,000 or more!

Here are several questions to ask the speakers, and yourself, if you attend one of these gatherings.

  • Are they fiduciaries?
  • What is their financial planning process?
  • Do they own the investments they’re recommending?
  • If you do purchase the investment, what is the initial cost?
  • What is the fee to redeem your investment if you need access to your money?
  • Are there alternative, less expensive investments to the ones they are recommending?
  • Do you have to annuitize your investment to receive the highest possible interest rate?
  • Do they work with multiple insurance providers?

If you have questions about retirement or Social Security, meet with a Certified Financial Planner (CFP)® who charges a flat fee or hourly rate. CFPs are fiduciaries and are required by law to act in your best interest and disclose any conflicts of interests – not so with brokers or insurance agents. In addition, most CFPs offer a free consultation before starting the planning process and you are under no obligation to act on their recommendations.

The fall is seminar season so be on guard for elaborate mailers offering “free” dinners. If you live in a high-income zip code and you’re over the age of 50, you are a prime target for these mass mailings.

Caveat Emptor.

Beware of false prophets, who come to you in sheep’s clothing but inwardly are ravenous wolves. ~ Matthew 7:15

9/6/2018

Bill Parrott is the President and CEO of Parrott Wealth Management firm located in Austin, Texas. Parrott Wealth Management is a fee-only, fiduciary, registered investment advisor firm. Our goal is to remove complexity, confusion, and worry from the investment and financial planning process.

 

Note: Investments are not guaranteed and do involve risk. Your returns may differ than those posted in this blog.

 

 

 

Can You Save $500 Per Month?

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Saving money shouldn’t be difficult, but it is. Trying to find a few extra nickels to save at the end of each month is a challenge, but is it possible for you to find an extra $500?

Professionals often recommend strategies to help you reduce your expenses. Some of the more popular suggestions include taking your lunch to work, clipping coupons, or drinking less coffee. These are good ideas, but I believe you can have your latte and drink it too.

One way to start saving more money is to automate your contribution and treat it like a monthly expense similar to your car or mortgage payment. You can link your bank account to your investment account and once it’s established, your savings will start to pile up.

A mutual fund is the best investment for your monthly contribution. A stock mutual fund will give you the greatest opportunity to create wealth, but it will be volatile. If you don’t like volatility, a bond fund is a conservative option. A balanced fund is a combination of the two, giving you the best of both worlds.

If you start saving $500 per month today and earn 7% on your investment, you will have $86,542 after 10 years.

If you had invested $500 per month in the Vanguard S&P 500 index fund, here is what your account would have been worth at the end of 10, 20, 30, and 40 years.[1]

The value of your account after 10 years was worth $129,457.

The value of your account after 20 years was worth $325,530.

The value of your account after 30 years was worth $968,374.

The value of your account after 40 years was worth $3.7 million.

Why is it important for you to save money monthly? In a recent report by Northwestern Mutual, they found 50% of Americans have less than $75,000 saved for retirement.[2] I don’t want you to be part of this group.

What if you can’t save $500 per month? If you can’t, save whatever you can afford. After all, saving something is better than saving nothing.

After I graduated from college, I set up an automatic investment plan with a Franklin Mutual Fund. I started saving $25 per month and after my first year I had accumulated more than $300! I was on my way to financial freedom. I have not stopped saving money monthly and it has allowed me to build a nest egg, buy a home, pay for my daughter’s education, and so on. The key to my financial success has been the monthly contributions.

Can you invest $500 per month? I believe you can.

The creation of a thousand forests is in one small acorn. ~ Ralph Waldo Emerson

9/3/2018

Bill Parrott is the President and CEO of Parrott Wealth Management firm located in Austin, Texas. Parrott Wealth Management is a fee-only, fiduciary, registered investment advisor firm. Our goal is to remove complexity, confusion, and worry from the investment and financial planning process.

 

Note: Investments are not guaranteed and do involve risk. Your returns may differ than those posted in this blog.

 

 

 

 

[1] Morningstar Office Hypothetical, period ending 8/31/2018.

[2] https://www.cnbc.com/2018/05/15/how-much-americans-have-saved-for-retirement.html, Emmie Martin, 5/16/2018.