Category Archives: Strategy

Financial Planning 12 Step Process

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A financial plan creates a roadmap for your money and helps you achieve your financial goals.

The purpose of financial planning is to help you achieve short- and long-term financial goals like creating an emergency fund and achieving financial freedom, respectively. A financial plan is a customized roadmap to maximize your existing financial resources and ensures that adequate insurance and legal documents are in place to protect you and your family in case of a crisis. For example, you collect financial information and create short- and long-term priorities and goals in order to choose the most suitable investment solutions for those goals.

Although financial planning generally targets higher-net-worth clients, options also are available for economically vulnerable families. For example, the Foundation for Financial Planning connects over 15,000 volunteer planners with underserved clients to help struggling families take control of their financial lives free of charge.

Research has shown that a strong correlation exist between financial planning and wealth aggregation. People who plan their financial futures are more likely to accumulate wealth and invest in stocks or other high-return financial assets.

When you start financial planning, you usually begin with your life or financial priorities, goals or the problems you are trying to solve. Financial planning allows you to take a deep look at your financial wellbeing. It’s a bit like getting a comprehensive physical for your finances.

You will review some financial vital signs—key indicators of your financial health—and then take a careful look at key planning areas to make sure some common mistakes don’t trip you up.

Structure is the key to growth. Without a solid foundation — and a road map for the future — it’s easy to spin your wheels and float through life without making any headway. Good planning allows you to prioritize your time and measure the progress you’ve made.

That’s especially true for your finances. A financial plan is a document that helps you get a snapshot of your current financial position, helps you get a sense of where you are heading, and helps you track your monetary goals to measure your progress towards financial freedom. A good financial plan allows you to grow and improve your standing to focus on achieving your goals. As long as your plan is solid, your money can do the work for you.

A financial plan is a comprehensive roadmap of your current finances, your financial goals and the strategies you’ve established to achieve those goals. It is an ongoing process to help you make sensible decisions about money, and it starts with helping you articulate the things that are important to you. These can sometimes be aspirations or material things, but often they are about you achieving financial freedom and peace of mind.

Good financial planning should include details about your cash flow, net worth, debt, investments, insurance and any other elements of your financial life.

Financial planning is about three key things:

  • Determining where you stand financially,
  • Articulating your personal financial goals, and
  • Creating a comprehensive plan to reach those goals.
  • It’s that easy!

Creating a roadmap for your financial future is for everyone. Before you make any investing decision, sit down and take an honest look at your entire financial situation — especially if you’ve never made a financial plan before.

The first step to successful investing is figuring out your goals and risk tolerance – either on your own or with the help of a financial professional.

There is no guarantee that you’ll make money from your investments. But if you get the facts about saving and investing and follow through with an intelligent plan, you should be able to gain financial security over the years and enjoy the benefits of managing your money.

12 Steps to a DIY Financial Plan

It’s not the just the race car that wins the race; it also the driver. An individual must get one’s financial mindset correct before they can succeed and win the race. You are the root of your success. It requires:

  • Right vehicle at the right time
  • Right (general and specific) knowledge, skills and experience
  • Right you…the mindset, character and habit

Never give up…correct and continue.

Effectively, the first step to financial planning and the most important aspect of your financial life, beyond your level of income, budget and investment strategy, begins with your financial mindset and behavior. Without the right mindset around your financial well-being, no amount of planning or execution can improve your current financial situation. Whether you’re having financial difficulty, just setting goals or only mapping out a plan, getting yourself mindset right is your first crucial step.

Knowing your impulsive vices and creating a plan to reduce them in a healthy way while still rewarding yourself occasionally is a crucial part of a positive financial mindset. While you can’t control certain things like when the market takes a downward turn, you can control your mindset, behavior and the strategies you trust to make the best decisions for your future. It’s especially important to stay the course and maintain your focus on the positive outcomes of your goals in the beginning of your financial journey.

Remember that financial freedom is achieved through your own mindset and your commitment to accountability with your progress and goals.

“The first step is to know exactly what your problem, goal or desire is. If you’re not clear about this, then write it down, and then rewrite it until the words express precisely what you are after.” W. Clement Stone

1. Write down your goals—In order to find success, you first have to define what that looks like for you. Many great achievements begin as far-off goals, that seem impossible until it’s done. Though you may not absolutely need a goal to succeed, research still shows that those who set goals are 10 times more successful than those without goals. By setting SMART financial goals (specific, measurable, achievable, relevant, and time-bound), you can put your money to work towards your future. Think about what you ultimately want to do with your money — do you want to pay off loans? What about buying a rental property? Or are you aiming to retire before 50? So that’s the first thing you should ask yourself. What are your short-term needs? What do you want to accomplish in the next 5 to 10 years? What are you saving for long term? It’s easy to talk about goals in general, but get really specific and write them down. Which goals are most important to you? Identifying and prioritizing your values and goals will act as a motivator as you dig into your financial details. Setting concrete goals may keep you motivated and accountable, so you spend less money and stick to your budget. Reminding yourself of your monetary goals may help you make smarter short-term decisions about spending and help to invest in your long-term goals. When you understand how your goal relates to what you truly value, you can use these values to strengthen your motivation. Standford Psychologist Kelly McGonigal recommends these questions to get connected with your ideal self:

  • What do you want to experience more of in your life, and what could you do to invite that/create that?
  • How do you want to be in the most important relationships or roles in your life? What would that look like, in practice?
  • What do you want to offer the world? Where can you begin?
  • How do you want to grow in the next year?
  • Where would you like to be in ten years?

Writing your goals out means you’ll be anywhere from 1.2 to 1.4 times more likely to fulfill them. Experts theorize this is because writing your goals down helps you to choose more specific goals, imagine and anticipate hurdles, and helps cement them in your mind.

2. Create a net worth statement—To create a successful plan, you first need to understand where you’re starting so you can candidly address any weak points and create specific goals. First, make a list of all your assets—things like bank and investment accounts, real estate and valuable personal property. Now make a list of all your debts: mortgage, credit cards, student loans—everything. Subtract your liabilities from your assets and you have your net worth. Your ratio of assets to liabilities may change over time — especially if you pay off debt and put money into savings accounts. Generally, a positive net worth (your assets being greater than your liabilities) is a monetary health signal. If you’re in the plus, great. If you’re in the minus, that’s not at all uncommon for those just starting out, but it does point out that you have some work to do. But whatever it is, you can use this number as a benchmark against which you can measure your progress.

3. Review your cash flow—Cash flow simply means money in (your income) and money out (your expenses). How much money do you earn each month? Be sure to include all sources of income. Now look at what you spend each month, including any expenses that may only come up once or twice a year. Do you consistently overspend? How much are you saving? Do you often have extra cash you could direct toward your goals?

4. Zero in on your budget—Your cash-flow analysis will let you know what you’re spending. Zeroing in on your budget will let you know how you’re spending. Write down your essential expenses such as mortgage, insurance, food, transportation, utilities and loan payments. Don’t forget irregular and periodic big-ticket items such as vehicle repair or replacement costs, out of pocket health care costs and real estate taxes. Then write down nonessentials—restaurants, entertainment, even clothes. Does your income easily cover all of this? Are savings a part of your monthly budget? Examining your expenses and spending helps you plan and budget when you’re building an emergency fund. It will also help you determine if what you’re spending money on aligns with your values and what is most important to you.  An excellent method of budgeting is the 50/30/20 rule. To use this rule, you divide your after-tax income into three categories:

  • Essentials (50 percent)
  • Wants (30 percent)
  • Savings (20 percent)

The 50/30/20 rule is a great and simple way to achieve your financial goals. With this rule, you can incorporate your goals into your budget to stay on track for monetary success.

5. Create an Emergency Fund–Did you know that four in 10 adults wouldn’t be able to cover an unexpected $400 expense, according to U.S. Federal Reserve? With so many people living paycheck to paycheck without any savings, unexpected expenses might seriously throw off someone’s life if they aren’t prepared for the emergency. It’s important to save money during the good times to account for the bad ones. This rings especially true these days, where so many people are facing unexpected monetary challenges. Keep 12 months of essential expenses as Emergency Fund or a rainy day fund.  If you or your family members have a medical history, you may add 5%-10% extra for medical emergencies (taking cognizance of the health insurance cover) to the amount calculated using the above formula. An Emergency Fund is a must for any household. Park the amount set aside for contingencies in a separate saving bank account, term deposit, and/or a Liquid Fund.

6. Focus on debt management—Debt can derail you, but not all debt is bad. Some debt, like a mortgage, can work in your favor provided that you’re not overextended. It’s high-interest consumer debt like credit cards that you want to avoid. Don’t go overboard when taking out a home loan. It can be frustrating to allocate your hard-earned money towards savings and paying off debt, but prioritizing these payments can set you up for success in the long run. But, as a rule of thumb, the value of the house should not exceed 2 or 3 times your family’s annual income when buying on a home loan and the price of your car should not exceed 50% of annual income. Try to follow the 28/36 guideline suggesting no more than 28 percent of pre-tax income goes toward home debt, no more than 36 percent toward all debt. This is called the debt-to-income ratio. If you stick to this ratio, it will be easier to service your loans/debt. Borrow only as much as you can comfortably repay. If you have multiple loans, it is advisable to consolidate all loans into a single loan, that has the lowest interest rate and repay it regularly.

“Before you pay the government, before you pay taxes, before you pay your bills, before you pay anyone, the first person that gets paid is you.” David Bach

7. Get your retirement savings on track—Whatever your age, retirement planning is an essential financial goal and retirement saving needs to be part of your financial plan. Although retirement may feel a world away, planning for it now is the difference between a prosperous retirement income and just scraping by. The earlier you start, the less you’ll likely have to save each year. You might be surprised by just how much you’ll need—especially when you factor in healthcare costs. To build a retirement nest egg, aim to create at least 20 times your Gross Total Income at the time of your retirement. This is necessary to keep up with inflation. But if you begin saving early, you may be surprised to find that even a little bit over time can make a big difference thanks to the power of compounding interest. Do not ignore ‘Rule of 72’ – As per this rule, the number 72 is divided by the annual rate of return on investment to determine the time it may take to double the money invested. There are several types of retirement savings, the most common being an IRA, a Roth IRA, and a 401(k):

  • IRA: An IRA is an individual retirement account that you personally open and fund with no tie to an employer. The money you put into this type of retirement account is tax-deductible. It’s important to note that this is tax-deferred, meaning you will be taxed at the time of withdrawal.
  • Roth IRA: A Roth IRA is also an individual retirement account opened and funded by you. However, with a Roth IRA, you are taxed on the money you put in now — meaning that you won’t be taxed at the time of withdrawal.
  • 401(k): A 401(k) is a retirement account offered by a company to its employees. Depending on your employer, with a 401(k), you can choose to make pre-tax or post-tax (Roth 401(k)) contributions. Calculate how much you will need and contribute to a 401(k) or other employer-sponsored plan (at least enough to capture an employer match) or an IRA.

Ideally, you should save 15% to 30% from your net take-home pay each month, before you pay for your expenses. This money should be invested in assets such as stocks, bonds and real estate to fulfil your envisioned financial goals. If you cannot save 15% to 30%, save what you can and gradually try and increase your savings rate as your earnings increase. Whatever you do, don’t put it off.

After retiring, follow the ‘80% of the income rule’. As per this rule, from your investments and/or any other income-generating activity, you need to generate at least 80% of the income you had while working. This will ensure that you can take care of your post-retirement expenses and maintain a comfortable standard of living. So make sure to invest in productive assets.

8. Check in with your portfolio—If you’re an investor, when was the last time you took a close look at your portfolio? If you’re not an investor, To start investing, you should first figure out the initial amount you want to deposit. No matter if you invest $50 or $5,000, putting your money into investments now is a great way to plan for financial success later on. Market ups and downs can have a real effect on the relative percentage of stocks and bonds you own—even when you do nothing. And even an up market can throw your portfolio out of alignment with your feelings about risk. Don’t be complacent. Review and rebalance on at least an annual basis. As a rule of thumb, your equity allocation should be 100 minus your current age – Many factors determine asset allocation, such as age, income, risk profile, nature and time horizon for your goals, etc. But you could broadly follow the formula: 100 minus your current age as the ratio to invest in equity, with the rest going to debt. And, never invest in assets you do not understand well.

  • Good health is your greatest need. Without good health, you can’t enjoy anything else in life.

9. Make sure you have the right insurance—As your wealth grows over time, you should start thinking about ways to protect it in case of an emergency. Although insurance may not be as exciting as investing, it’s just as important. Insuring your assets is more of a defensive financial move than an offensive one. Having adequate insurance is an important part of protecting your finances. We all need health insurance, and most of us also need car and homeowner’s or renter’s insurance. While you’re working, disability insurance helps protect your future earnings and ability to save. You might also want a supplemental umbrella policy based on your occupation and net worth. Finally, you should consider life insurance, especially if you have dependents. Have 10 to 15 times of annual income as life insurance – If you are the bread earner of your family, you should have a tem life insurance coverage of around 10 to 15 times your annual income and outstanding liabilities. No compromise should be made in this regard. Review your policies to make sure you have the right type and amount of coverage. Here are some of the most important ones to get when planning for your financial future.

  • Life insurance: Life insurance goes hand in hand with estate planning to provide your beneficiaries with the necessary funds after your passing.
  • Homeowners insurance: As a homeowner, it’s crucial to protect your home against disasters or crime. Many people’s homes are the most valuable asset they own, so it makes sense to pay a premium to ensure it is protected.
  • Health insurance: Health insurance is protection for your most important asset: Your health and life. Health insurance covers your medical expenses for you to get the care you need.
  • Auto insurance: Auto insurance protects you from costs incurred due to theft or damage to your car.
  • Disability insurance: Disability insurance is a reimbursement of lost income due to an injury or illness that prevented you from working.

10. Know your income tax situation—Taxes can be a drag, but understanding how they work can make all the difference for your long-term financial goals. While taxes are a given, you might be able to reduce the burden by being efficient with your tax planning. Tax legislation tend to change a number of deductions, credits and tax rates. Don’t be caught by surprise when you file your last year’s taxes. To make sure you’re prepared for the tax season, review your withholding, estimated taxes and any tax credits you may have qualified for in the past. The IRS has provided tips and information at https://www.irs.gov/tax-reform. Taking advantage of tax sheltered accounts like IRAs and 401(k)s can help you save money on taxes. You may also want to check in with your tax accountant for specific tax advice.

11. Create or update your estate plan—Thinking about estate planning is important to outline what happens to your assets when you’re gone. To create an estate plan, you should list your assets, write your will, and determine who will have access to the information. At the minimum, have a will—especially to name a guardian for minor children. Also check that beneficiaries on your retirement accounts and insurance policies are up-to-date. Complete an advance healthcare directive and assign powers of attorney for both finances and healthcare. Medical directive forms are sometimes available online or from your doctor or hospital. Working with an estate planning attorney is recommended to help you plan for complex situations and if you need more help.

12. Review Your Plans Regularly–Figuring out how to create a financial plan isn’t a one-time thing. Your goals (and your financial standing) aren’t stagnant, so your plan shouldn’t be either. It’s essential to reevaluate your plan periodically and adjust your goals to continue setting yourself up for success. As you progress in your career, you may want to take a more aggressive approach to your retirement plan or insurance. For example, a young 20-something in their first few years of work likely has less money to put into their retirement and savings accounts than a person in their mid-30s who has an established career. Staying updated with your financial plan also ensures that you hold yourself accountable to your goals. Over time, it may become easy to skip one payment here or there, but having concrete metrics might give you the push you need for achieving a future of financial literacy. After you figure out how to create a monetary plan, it’s good practice to review it around once a year.

Additionally, take into account factors such as the following:

  • The number of years left before you retire
  • Your life expectancy (an estimate, based on your family’s medical history)
  • Your current basic monthly expenditure
  • Your existing assets and liabilities
  • Contingency reserve, if any
  • Your risk appetite
  • Whether you have adequate health insurance
  • Whether you have provided for other life goals
  • Inflation growth rate

A financial plan isn’t a static document to sit on — it’s a tool to manage your money, track your progress, and one you should adjust as your life evolves. It’s helpful to reevaluate your financial plan after major life milestones, like getting m arried, starting a new job or retiring, having a child or losing a loved one.

Financial planning is a great strategy for everyone — whether you’re a budding millionaire or still in college, creating a plan now can help you get ahead in the long run, especially if you want to make a roadmap to a successful future.

For additional financial planning resources to create your own financial plan, go to the MoneySense complete financial plan kit.

References:

  1. https://www.pewtrusts.org/en/research-and-analysis/articles/2017/04/06/can-economically-vulnerable-americans-benefit-from-financial-capability-services
  2. https://www.forbes.com/sites/forbesfinancecouncil/2020/05/26/your-mindset-is-everything-when-it-comes-to-your-finances/?sh=22f5cb394818
  3. https://www.schwab.com/resource-center/insights/content/10-steps-to-diy-financial-plan
  4. https://www.principal.com/individuals/build-your-knowledge/build-your-own-financial-plan-step-step-Guide
  5. https://mint.intuit.com/blog/planning/how-to-make-a-financial-plan/
  6. https://www.federalreserve.gov/publications/files/2017-report-economic-well-being-us-households-201805.pdf
  7. https://news.stanford.edu/news/2015/january/resolutions-succeed-mcgonigal-010615.html
  8. https://www.investec.com/content/dam/united-kingdom/downloads-and-documents/wealth-investment/for-myself/brochures/financial-planning-explained-investec-wealth-investment.pdf
  9. https://www.sec.gov/investor/pubs/tenthingstoconsider.html
  10. https://www.nerdwallet.com/article/investing/what-is-a-financial-plan
  11. https://www.axisbank.com/progress-with-us/money-matters/save-invest/10-rules-of-thumb-for-financial-planning-and-wellbeing
  12. https://twocents.lifehacker.com/10-good-financial-rules-of-thumb-1668183707

 

Tax Savings in Retirement

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Tax planning keeps more money in your pocket in retirement.

In retirement, one of your top financial planning priorities is to maintain steady cash flow. One means to achieve steady cash flow is to pay as few taxes as legally possible in retirement. It’s important for you to think about how your retirement planning and cash flow are affected by taxes — both now and by potential increases in the future.

Taxes can be a burden for people on fixed incomes. These include federal, state and local income taxes and property taxes. Long-term tax planning is one of the best things you can do to boost your income and cash flow in retirement, however, it’s often overlooked. One way to change that is when your thinking about tax planning in retirement, you choose to think of it as tax saving instead.

Tax planning is one of the best things you can do to keep more money in your pocket in retirement.  And, you don’t need to be a tax guru to save money on taxes. The truth is that you have the power to lower your taxable income.

The good news is that most states offer some form of tax relief for retirees, whether through levying no tax on sales, income, Social Security or some combination. You might even qualify for a property tax exemption, depending on your age, income and where you live. But since these benefits vary depending on your location, it’s important to make a plan now to avoid an unforeseen tax liability later.

While everyone’s tax situation is different, there are certain steps most taxpayers can take to lower their taxable income.

Save for retirement

Starting small and starting now can make savings add up faster than you’d think.

Contributions to a company sponsored 401(k) or an Individual Retirement Account (IRA) can be a great way to lower your tax bill. The two most popular IRAs are Traditional and Roth, and the difference between them is when your contributions are taxed.

Company sponsored 401(k) plans are the most popular option, since many employers often match employee contributions to their 401(k) plans. Experts recommend contributing either the full amount allowed, annually ($19,500 for 2020 or $26,000 for taxpayers 50 and over), or – at least – the maximum amount that will be matched by your employer.

Traditional IRAs are usually pre-tax contributions, meaning your contributions are placed in your IRA before being taxed, lowering your taxable income for the current tax year. You won’t pay taxes on your contributions until you withdrawal the money.

Roth IRA or Roth 401(k) are tax-exempt accounts which offer tax advantages in the future. Your money is taxed before you contribute to the account, but you can withdraw it tax-free in retirement. Thanks to historically low tax environment right now, many Americans are converting traditional IRAs to Roth IRAs. You’ll pay taxes when converting to a Roth, which is why it may be wise to do a partial conversion. This way you’re only moving as much money as you’re able to pay taxes on this year and moving more money next year.

Contribute to your HSA

Pre-tax contributions to Health Savings Accounts (HSA’s) also reduce your taxable income. The IRS allows you to make HSA contributions until the tax deadline and apply the deductions to the current tax year. This means you can continue lowering your tax bill, even after December 31.

Setup a college savings fund for your kids

Originally created to help families save for college tuition, 529 plans were expanded by the Tax Cuts and Jobs Act of 2017 to cover savings for K-12 public, private, and religious school tuition. You can use up to $10,000 of 529 plan funds per year, per student, to pay qualified educational expenses.

  • The contributions you make to a 529 plan are not tax-deductible at the federal level, but part or all of them may be tax-deductible at the state level (the rules vary by state).
  • The earnings from a 529 account are not subject to federal tax, and the distributions are not taxed as long as they are used to pay for qualified educational expenses for the student named as the beneficiary of the plan.
  • Another option under the 529 program is use a pre-paid college tuition plan for a qualified in-state public institution. This allows you to lock in current tuition rates no matter how old your child is.

Make charitable contributions

Making charitable contributions is another great way to reduce your tax bill. Donating cash, toys, household items, appreciated stocks and your volunteer efforts to qualifying charitable organizations can provide big tax savings.

  • Time spent volunteering isn’t tax deductible, but expenses incurred while doing volunteer work may be deductible, such as the cost of ingredients for a donated dish and certain travel expenses when attending a charitable event (14 cents per mile in 2020.)
  • Your donations are only tax deductible if the organization you’re donating to is a qualified nonprofit organization.
  • You must itemize your tax deductions in order for charitable contributions to lower your tax bill.

Except that for 2020 you can deduct up to $300 per tax return of qualified cash contributions if you take the standard deduction. For 2021, this amount is up to $600 per tax return for those filing married filing jointly and $300 for other filing statuses.

Harvest investment losses

Taxable accounts include your brokerage and savings accounts. You are taxed on the interest you earn and on any dividends or gains. Investment accounts are an important part of your overall financial plan, especially during your working years as you grow and accumulate your savings for retirement.

Reporting losses on capital investments can also reduce your tax bill. “Loss harvesting” is considered to be a key year-end strategy. This is when you sell your investments to “realize” a loss(the act of selling at a loss). These losses can be used to offset capital gains taxes, dollar for dollar, reducing your overall tax liability.

  • When you have more losses than gains, you can use up to $3,000 of excess losses to offset ordinary income.
  • The remainder of the losses (in excess of the $3,000 allowed each year) can be carried forward year after year.
  • Keep in mind that the IRS doesn’t allow use of losses from a “wash sale”; when you purchase the same or “substantially similar” investment within 30 days before or after the loss.

Claim Tax Credits

When you claim tax credits, you reduce your tax bill by the dollar amount of the tax credit. For example, if you have a child under 17, you may qualify for the $2,000 child tax credit. That’s an instant $2,000 tax savings.

Take advantage of tax credits

There are many tax credits available, and it is essential to claim all the benefits you are entitled to. Credits are usually better than deductions because they can reduce the tax you owe, not just your taxable income.

For example, suppose you have $50,000 taxable income and $10,000 in tax deductions. These deductions reduce your taxable income to $40,000.

  • $50,000 taxable income – $10,000 tax deductions = $40,000 taxable income

In your tax bracket, that $10,000 of taxable income would have been taxed at a rate of 12%. As a result of your deductions, you would save $1,200 on your tax bill.

  • $10,000 taxable income x .12 tax rate = $1,200

Because tax credits reduce the amount of tax you owe, dollar for dollar, $10,000 in tax credits would mean $10,000 in tax savings instead of $1,200.

Some of the most popular tax credits are:

Maximize your small business expenses

Usually, small business owners and self-employed taxpayers are able to use a much wider range of tax reduction strategies than individual taxpayers because of tax deductible small business expenses. Some common small business tax deductions include,

  • Office rent,
  • Home office expenses,
  • Cost of acquiring and maintaining a vehicle for the business, and
  • Inventory.

The lower your net profit, the lower your self-employment tax will be, so writing off as many expenses as possible can help reduce your tax bill.  Claiming small business tax deductions can also lower both your income taxes and self-employment taxes, and you can deduct a portion of your self-employment tax payments on your personal tax return.

Countless retirees miss out on thousands of dollars in tax savings by not realizing how many expenses they can write off. With the proper tax advice, you can literally convert your personal expenses into small business expenses. The tax code is written for small business owners and investors to prosper, don’t let these savings escape your pockets.

Key Points:

  • Maximize your tax-advantaged accounts
  • Roth contributions to retirement accounts are post taxed
  • Traditional contributions to retirement accounts are pre-taxed

References:

  1. https://www.kiplinger.com/taxes/tax-planning/602272/5-strategies-for-tax-planning-now-and-in-retirement
  2. https://www.cofieldadvisors.com/post/5-financial-tips-for-small-business-owners
  3. https://www.kiplinger.com/taxes/tax-planning/602505/good-planning-can-reduce-the-chances-of-taxes-hurting-your-retirement
  4. https://turbotax.intuit.com/tax-tips/tax-deductions-and-credits/7-best-tips-to-lower-your-tax-bill-from-turbotax-tax-experts/L0frRUUVL
  5. https://www.kiplinger.com/retirement/602564/questions-retirees-often-get-wrong-about-taxes-in-retirement

Never invest in something you don’t understand.

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Many successful investors follow one extremely important rule of thumb: Never invest in something you don’t understand.

Selecting the right companies to invest is very difficult and the decision shouldn’t be taken lightly. When you invest in the stock market, you will be tempted often to buy companies or products that you don’t truly understand.

Consequently, if you can’t understand the investment and understand how it will help you save for the future, build wealth over the long term or achieve your financial goals, do not buy the asset. You need to resist temptation, and focus on the only question that counts:

“Do I understand the business of this company well enough so that I am reasonably confident that it is going to be a good investment?”.

Warren Buffett famously said he has three boxes for investment ideas: in, out and too hard. If a company’s business or product is too difficult to understand, it’s better to just file it in the “too hard” category and move on to another opportunity.

Investors should always remember that a share of stock represents partial ownership of a company. “Just as you would never purchase a private business from someone else without at least looking at its sales, profits, debt and trends of all three of those things at a bare minimum, you need to do the same thing before purchasing stock in a company,” Cornerstone Wealth chief investment officer Chris Zaccarelli says. “If you are doing anything else, you are just hoping what you bought will go higher – and hope is never a good strategy.”

Be sure to always read an investment asset’s prospectus or disclosure statement carefully. And, if you are still confused, you should think twice about investing.

The bottom line for investors is simple: If you don’t completely understand how an investment works, or creates revenue, earnings and cash flow, then don’t buy it.

References:

  1. http://www.mymoneyworks.de/back-to-basics/dont-buy-what-you-dont-understand/
  2. https://money.usnews.com/investing/articles/2017-05-11/never-invest-in-something-you-dont-understand

A Dividend-Growth Investment Strategy

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“Dividend stocks can provide investors with predictable income as well as long-term growth potential.”  Motley Fool

Dividend stocks have faced strong headwinds, including payout cuts and suspensions as efforts to fight the pandemic have hampered corporate cash flows.

Yet, investors who have a moderate risk tolerance should consider pursuing a proven dividend-growth investment strategy for income and return in volatile markets.  In volatile markets, protecting current income becomes more important than ever for investors.  But you also want to satisfy your need for current income and capital growth.

Dividend-paying stocks tend to provide more defensive protection in adverse market environments and they tend to grow over time and protect your real purchasing power. Dividend-paying stocks also tend to have more of a value orientation.

When dividend stocks go up, you make money. When they don’t go up — you still make money (from the dividend). When a dividend stock goes down in price, it’s not all bad news, because the dividend yield (the absolute dividend amount, divided by the stock price) gets richer the more the stock falls in price.

Historically, stocks with rising dividends greatly outpaced the dividend cutters or non-dividend-paying stocks. Further, if you focused on rising-dividend stocks over non-dividend-paying stocks, you would have increased your investment by an average of 4.3% per year over this nearly 48-year study.

pexels-photo-164527

So, a $10,000 investment in non-dividend-paying stocks made at the beginning of this study, growing at an average annual return of 8.57%, would be worth over $500,000 today.

However, the same $10,000 investment in dividend growers over the same period at a 12.87% average annual return would be worth an incredible $3.24 million!

That’s not the only benefit. Returns from dividends have also exhibited a lower standard deviation, or variability, over time. Since the overall volatility of a stock’s total return is typically dominated by its price movements, dividends contribute a component of stability to that total return.

Looking for good dividend-paying stocks

Despite challenging economic times, certain companies have grown their dividends during previous downturns; there may be precedent for their willingness and ability to grow their dividends again.  While much remains uncertain, the highest-quality companies have proven their ability to grow their dividends over time.  They have demonstrated an ability to survive through a range of market environments, even raising dividends during and after previous recessions.

These companies prioritize sustaining dividends in challenging times. They are dividend-paying royalty.  However, it’s advised to avoid stocks with very high yields since they could be prone to dividend cuts or suspensions.  Seek dividend stocks with a fortress balance sheet providing solid cash flow, reasonable dividend payout yield, above average earnings growth and little to no debt.  Avoid companies with heavier debt loads, as measured by net debt (debt minus cash) to earnings-before-interest-taxes-deprecation-and amortization (EBITDA) ratios.

Investors seeking dividend sustainability need look no further than the Dividend Aristocrats: a list of companies within the S&P 500 index that have increased their dividend payouts consecutively for 25 years or more.  The 64 S&P 500 Dividend Aristocrats have raised their dividends in an era that spans the Iraq wars, the Sept. 11 terrorist attacks, the Great Recession, and now the novel coronavirus pandemic.

But while the Dividend Aristocrats list is a great place to start for identifying dividend stalwarts, you are advised to avoid the highest-yielding stocks—some of which can be value traps or worse.  It is okay to look for companies that are paying a decent amount of their earnings back in the form of income, but if the price moves too high and their dividend yield drops, then you’ll sell the stock and capture the gains.

Additionally, under the recently passed 2020 CARES Act, “companies that borrow money from the federal government may not repurchase stock, pay a dividend, or make any other capital distributions until 12 months after the loan is repaid in full,” according to Goldman Sachs.

Investors should always consider their investment objectives, their comfort level and risk tolerance before investing. And, they should keep in the forefront of their mindset that investment plans do not need to change in periods of high volatility since they should be based on five years or longer time horizon.

References:

  1. https://www.fool.com/investing/stock-market/types-of-stocks/dividend-stocks/
  2. https://www.aaiidividendinvesting.com/subscribe/diLP.html?utm_source=facebook&utm_medium=Facebook_Desktop_Feed&utm_campaign=all_leads&utm_content=DI%20Long%20Form%20DCO&adset=di_bundle&fbclid=IwAR1enL0oTxkF5E5phIBVJ1dGk4VYQ_OV6a2RCXNDh-lgeNOFtkxcoXWLJn0

Asset Allocation Strategy

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Asset allocation is designed to help an investor take short-term fluctuations more in stride.

When you divide your money among a variety of asset classes — stocks, bonds, real estate and cash — you can potentially smooth the ups and downs of financial markets. Diversifying your investments within the major asset classes and investment styles can help balance out a portfolio.

Asset allocation enables you to own a wide selection of investment types to potentially benefit when one asset class does well and limit the downside when another asset class does not. Once you create an asset allocation strategy as part of your comprehensive financial plan, it helps to keep a long-term perspective when the inevitable financial market volatility occurs.

It’s important to note that asset allocation and diversification do not ensure a profit or protect against loss. However, it makes sense to remember your long-term financial plan and asset allocation strategy, and stick with it, no matter how great short-term economic challenges may seem.

A long-term commitment to your asset allocation strategy doesn’t mean you shouldn’t take action during periods of uncertainty. The key is taking the right action. You may discover the original percentages you allocated to different asset classes and types of investments are not in sync with your strategy due to shifts in the market.

Your portfolio may be overly concentrated or under-represented in one area. If so, you can reallocate your assets and ensure your long-term asset allocation strategy is back on track.

Of course during times of market volatility and economic uncertainty, many investors are tempted to move out of stock investments, into the safety of cash positions. Yes, cash is an asset for investors, but understand that you earn nothing with this asset class…no return from cash.

As a result, investors tend to stay on the sidelines until financial turbulence settles, but this may be a costly mistake. One thing previous recessions and bear markets have taught us is that life goes on. In each of the most recent five bear markets since 1987, sell-offs and correction were ultimately followed by economic and market recoveries.

Thus, once stock markets unexpectedly rebound, as they typically have done in the past, you may end up getting left behind during what could have been a good opportunity to benefit from market rapid recovery and gains.

We live in a world fraught with headline risk and conflict, something that will be ever-present. This fact will always be an integral part of the investment landscape. Those who exit or try to “time the market” tend to miss a significant rally. Those who remained invested or rebalanced towards equities tended to boost their returns during a market rally.

The length of time an investor is in the market can make a difference in the amount they will save and invest to potentially grow their investments. If you sell assets while the market is declining, you risk missing upward trends that have historically followed. If you want to retire someday, start saving and investing now. It takes decades of long-term financial planning, saving and investing to get there. 

Always remember…

Learning to manage money. You need to learn and understand core principles of financial planning — long-term investing, risk management, diversification, asset allocation, retirement, estate and tax planning.

Asset allocation and diversification do not ensure a profit or protect against loss in declining markets.

All investments involve risk including loss of principal. Certain investments involve greater or unique risks that should be considered along with the objectives, fees, and expenses before investing.

References:

  1. https://im.bnymellon.com/us/en/individual/articles/letter-from-the-lion/spring-2020/stick-with-a-plan-in-uncertain-financial-markets.jsp

Estate Planning

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“I want to leave my children enough that they feel they can do anything, but not so much that they do nothing.” ~ Warren Buffet

Your Estate Plan

Although estate planning can be a complex task, a well-informed plan can make a big difference in what is left for your loved ones.

Source: Fidelity Investment

Here are a few steps you can take to begin thinking about your estate plan:

  • Gather important documents, and make sure that key family members know where they are.
  • Gather a list of all the things you own, noting any liabilities (like your mortgage) as well. Record the value of each asset (properties, collectibles, jewelry, etc.). Print copies of your most recent statements from your relevant accounts. Note the values and benefits from insurance policies.
  • Consider and write down your objectives for your estate plan. Who should get which assets? Who should get them if something should happen to your beneficiaries? Do you have minors who need care if something were to happen right now? Who should handle your assets if you become unable to make decisions about them? And so forth.
  • Review your will, if you have one in place.
  • Review and update the beneficiaries of your retirement accounts or insurance policies.
  • Review and update powers of attorney for matters of health care or other affairs.
  • Consider if you want to establish a trust, and prepare to talk to an attorney and experienced financial adviser about it.

We never know what could happen tomorrow. But we do know that having a solid estate plan can help ease the burden of your passing on your loved ones.

Revocable vs. Irrevocable Trusts

A trust is a fiduciary arrangement that allows a third party, or trustee, to hold assets on behalf of a beneficiary or beneficiaries. Trusts can be arranged in many ways and can specify exactly how and when the assets pass to the beneficiaries.

Since trusts usually avoid probate, your beneficiaries may gain access to these assets more quickly than they might to assets that are transferred using a will. Additionally, if it is an irrevocable trust, it may not be considered part of the taxable estate, so fewer taxes may be due upon your death.

Assets in a trust may also be able to pass outside of probate, saving time, court fees, and potentially reducing estate taxes as well.

Other benefits of trusts include:

  • Control of your wealth. You can specify the terms of a trust precisely, controlling when and to whom distributions may be made. You may also, for example, set up a revocable trust so that the trust assets remain accessible to you during your lifetime while designating to whom the remaining assets will pass thereafter, even when there are complex situations such as children from more than one marriage.
  • Protection of your legacy. A properly constructed trust can help protect your estate from your heirs’ creditors or from beneficiaries who may not be adept at money management.
  • Privacy and probate savings. Probate is a matter of public record; a trust may allow assets to pass outside of probate and remain private, in addition to possibly reducing the amount lost to court fees and taxes in the process.Trusts are a powerful and beneficial tool when properly used.

There are two types of trusts: a revocable living trust and an irrevocable trust. Some other terms associated with trusts include “grantor” and “non-grantor” — which are the parties creating the trust.

With a revocable living trust, you still control the assets, can change the trustee at any time, or sell your assets while you’re living, because the grantor — the person who created the trust — is normally the trustee as well. The only benefit a revocable living trust provides is to ensure your assets bypass probate. It does not provide any immediate tax benefits. In fact, income from a revocable living trust is taxed to the grantor.

An irrevocable trust is completely different. It can be used when “gifting” assets in order to reduce a grantor’s taxable estate. Be aware that once you transfer assets to an irrevocable trust, changes are permanent and cannot be undone — or at best — can only be made through a lengthy process. You no longer have any control to sell investments inside the trust and will have to ask your trustee — typically your children or grandchildren — to do so. Since you don’t legally own the assets any longer, they’re either taxed at trust income tax rates or your beneficiaries’ tax rates.

By using a will or trust to legally ensure that you will not only protect the things you worked hard to achieve, you will have the final say about those assets — taking care of the people you love when you’re no longer here. That means not leaving such decisions to attorneys, state governments or the IRS.

References:

  1. https://www.kiplinger.com/article/retirement/T021-C032-S014-estate-planning-is-more-important-than-you-think.html
  2. https://www.fidelity.com/life-events/estate-planning/basics
  3. https://www.fidelity.com/life-events/estate-planning/trusts

10 Steps to a DIY Financial Plan | Charles Schwab

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  • Key Points
      • A financial plan isn’t only for the wealthy and it doesn’t have to cost a penny.
      No matter how much money you have, you can start with a DIY financial plan that will set you up for future success.
      With a good foundation in place, you can feel more confident about your finances and, when the time comes that you might need the help of a professional, you’ll be that much farther ahead.

    Did you know that 78 percent of people with a financial plan pay their bills on time and save each month vs. only 38 percent of people who don’t have a plan? That’s a pretty powerful statistic if you ask me. Or would it surprise you to learn that 68 percent of planners have an emergency fund while only 26 percent of non-planners are financially prepared to cover an unexpected cost?

    When I hear stats like these that were recently reported in a Schwab survey, it just reinforces my belief that everyone—no matter their financial situation—can benefit from a financial plan. So why aren’t more people planners? Usually it’s because either they don’t think they have enough money or they think a financial plan costs too much. But, as I’ve said many times, neither is the case.

    In fact, you can map out your own financial plan. That way, not only won’t it cost you a penny, but you stand to reap the long-term benefits. Here’s how to get started mapping out your financial future with a DIY plan.
    — Read on www.schwab.com/resource-center/insights/content/10-steps-to-diy-financial-plan

    Financial Planning

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    It’s not about how much money you earn. It’s what you do with the money that matters.

    According to Schwab’s 2019 Modern Wealth Survey, more than 60 percent of Americans who have a written financial plan feel financially stable, while only a third of those without a written financial plan feel that same level of comfort. Those with a plan also maintain healthier money habits when it comes to saving and demonstrate good investing behavior.

    The goal of financial planning is to make your money goals a reality. Smart financial planning and long term investing involves in the utmost, spending less than you earn, saving and investing a modest amount each month, and accumulating wealth to end up with the financial assets to retire comfortably for 30 years or more.

    Developing a financial plan will require an investor to identify their short-, intermediate- and long-term goals, and to create a long term investment strategy for achieving them. Think of a financial plan as a written planning guide to remind you of what you want, where financially you want to be in the future, and what it will take to get there. Despite the benefits of planning, Schwab’s survey shows that only 28 percent of Americans have a financial plan in writing.

    Financial Self assessment

    A sound financial plan begins by outlining the investor’s goals as well as any significant constraints. Defining these elements is essential because the plan needs to fit the investor’s current reality. Before creating a financial plan, individuals should first perform a quick self-evaluation:

    • Are you currently spending more than you earn?
    • How much have you already saved?
    • What is your current net worth?
    • Have you created an emergency fund with three to six months of expenses?
    • Are you saving for kid’s college, retirement, or to purchase a home?
    • How much money is available for investing?
    • What is your risk tolerance?
    • Are you buying a stock for fundamental or technical reasons?
    • Which investing style do you prefer (e.g., growth or value, trend or countertrend)?
    • Determine your view of market sentiment: Is momentum generally tilted up or down?

    Simple Financial Plan

    “I believe that the biggest mistake that most people make when it comes to their retirement is they do not plan for it. They take the same route as Alice in the story from “Alice in Wonderland,” in which the cat tells Alice that surely, she will get somewhere as long as she walks long enough. It may not be exactly where you wanted to get to, but you certainly get somewhere.” Mark Singer, The Changing Landscape of Retirement – What You Don’t Know Could Hurt You

    Regardless of the reams of evidence of how critical planning remains, Americans are not spending the time or resources to plan for their financial future or plan for retirement. However, it is relatively straightforward to create a plan. A simple financial plan will include many of the following parts:

    • A personal net worth statement—a snapshot of what you own and what you owe. This will help you know exactly where you stand, and also give you a benchmark against which you can measure your progress.
    • Cash flow is essentially income minus expenses—exactly how much money comes in and goes out every year, and understand if it is sustainable in the long term. The foundation for a budget includes identifying fixed and what’s discretionary expenses and if necessary, devise a debt management plan.
    • A budget–helps to manage your money, to consider your immediate needs and wants, and to prepare you to achieve your long-term financial goals
    • An Emergency fund–ensure adequate cash on hand to cover three to six months of living expenses to handle any unplanned expenses or loss of income.
    • A debt management plan—is a crucial part of becoming financially responsibilities. Debt can be used smartly to achieve one’s financial goals, or debt can be used poorly to buy things a person may not need with money he or she does not have.
    • A retirement plan—specifying how much you need to save each year to achieve the lifestyle you and your family hope to maintain. This includes a recommendation on how best to maximize Social Security benefits, to incorporate any pension funds and to utilize personal savings.
    • An analysis of how current investment portfolio aligns with short, intermediate and long-term goals.
    • A plan for college education funding offspring.
    • A review of employee benefits, including equity compensation or deferred income planning.
    • A review of insurance coverage—the key is to make sure that you have the right types and amounts and that you aren’t paying for unnecessary coverage.
    • Planning for special needs—for a child, parent, or other dependent.
    • Recommendations for creating or updating your estate plan, including charitable giving and legacy planning

    Financial planning and managing your money:

    1. What are your long term financial goals including a retirement number and what does financial independence look like for you and your family lifestyle dream.
    2. Determine and track your financial net worth (assets – liabilities)
    3. Figure out your personal cash flow (income – expenses) that reflects the money coming in minus money going out…determine the source of money and where it is going…develop a budget.
    4. Align your financial goals to your spending.  Connect your spending habits to your priorities. Objective is to become financial independent in both the short and long term.
    5. Manage health, home owners, automobile, personal liability, long term care and life insurances to manage and mitigate your personal risks.
    6. Avoid debt and reduce taxes legally by starting your own business or investing in tax free or deferred assets.
    7. Create an investment plan and strategy for purchasing assets such as equities, real estate or a business. A plan helps an investor focus on long term goals and helps remove emotions (greed and fear) and bad behaviors from investment decisions.  Markets will always go up and down.  You only lose money if you sell assets and lock in the loss.  Buy real estate in great locations and companies doing sensible things and participate in global growth.
    8. Have a trust and estate plan in place to protect your assets. Ensure your goals and desires for your assets reflect your values and objectives.

    Retirement and Financial Planning and Goals 

    “Our goals can only be reached through a vehicle of a plan in which we must fervently believe, and upon which we must vigorously act. There is no other route to success.” Pablo Picasso

    The first steps of retirement planning are to define your long term retirement and financial goals, to establish your number, and write a retirement plan. 

    Any sound financial plan requires that you figure out your retirement expenses in advance. And, a retirement can now last 30 years. A retirement plan isn’t something you set up once and then leave unattended. A successful retirement plan takes patience, attention, and discipline.

    • Planning for retirement involves identifying assets and sources of income, and matching against retirement expenses.
    • Planning for retirement involves setting financial, health and emotional including spiritual retirement goals.

    An individual may have a higher probability to achieve their goals if they have a specific savings number and long-term goals in mind, which can help keep an individual on track along the way. It gives someone a target against which they can measure progress.

    Key elements of a strong financial plan:

    • An emergency fund
    • A budget to determine cash flow and calculating net worth
    • Paying down and avoiding debt
    • Health and disability insurance
    • Start saving and investing early, pay yourself first and put it on automatic
    • Pay yourself first
    • Create long term goals
    • Saving and investing for retirement and/or college
    • Saving and investing for shorter term goals like vacations or a home purchase
    • Trusts, wills and estate planning

    It is important to find creative ways to spend less — such as exploring local or nearby attractions that are free or less expensive.

    After creating your financial goal or plan, you are bound to have times when you don’t reach your goals or you diverge from your plan. But, just like with a diet, if you make a bad food choice, it doesn’t mean you throw out your new way of healthy eating or exercising. Same thing with financial goals and plan. Americans aren’t saving enough for retirement.

    But how much is enough? Strategies to calculate the size of the nest egg you’ll need for your  golden years. But then life happens, and in life there are unknown variables and unexpected events that can throw a wrench into even the best-laid plans. Still, it’s better to have a plan, rather than to fly blindly into the sunset.

    • One popular rule of thumb is that you’ll need to have saved 10 times your final annual salary by the time you are 67.
    • Another way to calculate this ultimate goal is to look at current living expenses—annual or monthly—and assume that, in retirement, you will incur about 80% of those expenses.
    • Some retirement planning professionals suggest using “the 4% rule” to determine how much retirees can withdraw from their retirement account each year in order to provide a continuing income stream. 

    Sock away as much as you can.

    Power of Compound Interest

    Use the power of compound interest —which is interest earned on top of interest — to potentially enhance returns.  Because compound interest builds on itself over time, investors who start early tend to have a significant advantage over those who wait,

    compounding-no-amtd

    Calculate how much money you may need once you get to retirement.

    There are several common financial retirement concerns individuals have. Managing risks are important for retirees because retirees don’t have time to wait for a recovery of the economy or the market after a down period.

    • Investment Loss – One of the biggest financial fears retirees may have is investment loss. Because the markets move cyclically, there’s a good chance you’ll experience a market downturn during retirement.
    • Running Out of Money – Once you’re close to or in retirement, a market decline cannot be weathered and running out of money becomes a serious concern.
    • Major Health Event – As we get older, it’s common to see an increased need for health care. It’s natural, as a retiree, to worry about a major health event that can set you back financially. But it’s possible to prepare to some degree for such events.
    • Inflationary Effects – Inflation is sometimes considered the “quiet killer” of retirement. Over time, prices rise, making your money less valuable. A dollar today is worth more than a dollar tomorrow. Keeping up with inflation is an important part of retirement planning.

    Although it may seem like a long way off, starting earlier can help you accumulate wealth and deal with unexpected bumps along the way. It’s important to consider:

    • What do you want out of retirement?
    • How much do you currently take in and spend?
    • How much will you need to maintain a comfortable lifestyle?

    As a rule of thumb, you’ll need between 60-80%* of your current income to maintain your standard of living, but this will vary based upon how soon you enter retirement. To help you estimate these considerations use our tools below.

    Financial independence and building wealth comes with the knowledge and financial literacy. It’s okay not to spend more than you earn and sacrifice short term benefit for long term financial independence. Think about the end goal — to secure your well being physically, emotionally and financially!

    Manage Your Investments and Cash Flow

    It’s easy to put things off until tomorrow… or maybe the next day. But with retirement, planning for cash flow (income) and nest egg are required today. And contributing regularly can help you accumulate assets faster.

    Developing a financial plan, monthly budget and learning to stay within their boundaries will help you make these contributions. Additionally, your financial plan and budget will help you track your spending, cash flow, net worth and develop the discipline that can help you when you finally enter retirement.

    When creating a budget, carefully weigh competing demands such as:

    • Paying off debt
    • Managing a mortgage
    • Taking a vacation
    • Raising a family
    • Saving for college or retirement

    See how these financial considerations – and waiting to invest for retirement – can cost you in the long run.

    Implement Your Plan

    After assessing your situation, it’s time to look into available choices and then start investing. When weighing your options, consider:

    • How involved you want to be in managing your assets.
    • Whether there are any benefits to using your employer’s retirement plan.

    Depending on your answers to these questions, some products may be better suited to your needs. If you’re the do-it-yourself-type, an index fund that mimics the S&P 500 may be the best choice. For those who aren’t comfortable with or don’t want to be managing their assets closely, a managed portfolio such as a target date fund might be the right way to get started.

    Evaluate and Adjust Your Plan

    It’s important to monitor your financial plan and investment strategy regularly. As your situation changes, you may need to adjust your allocations or investment strategy. No matter what plan you’re using, or whether you’re doing it on your own or with the help of a financial advisor, it’s important to evaluate your progress from time to time.

    The starting point for financial planning start with goals you can achieve. If you don’t know where you’re going, how can you plan to get there? So before you get into the details of saving, budgeting and investing, take time to think about what’s most important to you and what you want your money to achieve.

    • Have an financial plan that is simple, goal oriented, realistic and actionable.
    • Understand your plan, follow it, and adjust it when things change in your life.

    Put your plan into action.

    • Keep your portfolio diversified with an asset allocation that’s right for your risk tolerance—and stick with it.
    • Don’t wait. If you invest now, you’ll start earning sooner.

    Stay on track.

    • Do periodic checkups to keep your portfolio healthy.
    • Keep in mind that long-term goals are more important than short-term performance.

    References:

    1. https://www.aboutschwab.com/modernwealth2019
    2. https://www.brownleeglobal.com/saving-vs-investing/

    Uncertain Financial Markets

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    “Don’t gamble. Take all your savings and buy some good stock and hold it till it goes up; then sell it. If it don’t go up, don’t buy it.” Will Rogers

    Since the financial crisis of 2008-2009, the U.S. stock market has been on a long-term uptrend. In the crisis’ aftermath, a nearly 11-year bull rally emerged from its ruins becoming the longest-ever uptrend in Wall Street history.

    And, the American economy is equally robust as consumer spending remains strong and as the unemployment rate (3.5%) remains at the lowest in 50 years. Despite low employment, Federal Fund interest rates still sit near historical lows and the 10-year Treasury yields only 1.8%.

    Financial Crisis

    Bringing back painful financial memories for investors, the financial crisis of 2008-2009 wreaked havoc on the stock market. During the crisis, the S&P 500 index (SPX) lost 38.5% of its value in 2008, making it the worst year since the nadir of the Great Recession in 1931.

    Today, many economists and financial industry pundits conclude that global economies will face an increasingly uncertain and potentially volatile future. Those future concerns range a gambit of political, geopolitical, economic and socio-political issues.

    The uncertainties and concerns include the upcoming U.S. presidential elections, potential turmoil in the Middle East, growing fear regarding cross border spread of the Novel Corona virus, and the growth concerns regarding the economies of the rest of the world economies.

    Investing in an Uncertain Environment

    “Never under estimate the man who over estimates himself…he may not be wrong all the time.” Charlie Munger

    When it comes to investing in an uncertain environment, it is difficult to know what actions to take. But, nobody knows with certainty what is going to happen next in the markets or can predict the direction with certainty of the global economy. Despite the many self proclaimed stock picking experts who promote their ability to forecast the markets and abilities to select the next Amazon-like stock, it important to always remember that no one knows what will happen in or can accurately forecast the future.

    Recently, Charlie Munger, Vice Chairman of Berkshire Hathaway, shared his thoughts about investing in general and regarding Elon Musk and Tesla, specifically. He commented that Elon is “peculiar and he may overestimate himself, but he may not be wrong all the time…”.

    Additionally, Munger commented that he “…would never buy it [Tesla stock], and [he] would never sell it short.” Prudent investors would be wise to heed Munger’s advice and be concerned not only about potential rewards but, more importantly, also concerned about potential risks investing in hot, high flying stocks.

    In Munger’s view, there exist too much “wretched excess” in the market and investors are taking on too much unnecessary risk. He worries that that there are dark clouds looming on the horizon. And, he believes markets and investors are ill-prepared to weather the coming market “trouble”.

    References:

    1. https://www.marketwatch.com/story/wretched-excess-means-theres-lots-of-troubles-coming-warns-berkshire-hathaways-charlie-munger-2020-02-12

    Passive Investing

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    The ‘father of passive investing’, Burton Malkiel, Princeton University professor emeritus of economics and author of the famous investing book, “A Random Walk Down Wall Street“, believes that most investors should invest passively. This idea is embodied by exchange-traded funds that track major stock market indexes, such as the S&P 500, and passive mutual funds.

    Malkiel’s theory is that investors are better off buying a broad universe of stocks, index funds, and minimizing fees rather than paying an active manager who may not beat the market. Index funds, also known as passive funds, are structured to invest in the same securities that make up a given index, and seek to match the performance of the index they track, whether positive or negative. As the name implies, no manager or management team actively picks stocks or makes buy and sell decisions.

    In contrast, active funds attempt to beat whichever index serves as the fund’s benchmark, although — and this is important — there is no guarantee they will do so. Active managers conduct research, closely monitor market trends and employ a variety of trading strategies to achieve return. But this active involvement comes at a price. Actively-managed funds typically have significantly higher fees and expenses.

    A 2016 study by S&P Dow Jones Indices showed that about 90 percent of active stock managers failed to beat their index benchmark targets over the previous one-year, five-year and 10-year periods; fees explain a significant part of that under performance.

    Vanguard’s John ‘Jack’ Bogle – Stay the Course

    Many industry leaders, including Vanguard’s John ‘Jack’ Bogle, who pioneered index funds, were influenced by Malkiel’s theory on passive investing.

    John ‘Jack’ Bogle

    Jack Bogle, who founded the pioneering investment firm Vanguard in 1975, is widely regarded as the father of index investing. Index investing is a strategy that functions best when investors sit on their hands for decades. This strategy is far removed from the thrill and excitement of trying to beat the market by picking individual stocks — but one that research says works.

    Over the decades, Jack Bogle’s philosophy has acquired a plethora of devout investors whom follow his teachings. His followers, known as the Bogleheads, embrace long-term commitments to broad, boring investments. Bogleheads choose investments that are low-cost index mutual funds and exchange-traded funds (ETFs).

    These low-cost index mutual funds and ETFs are designed to mimic their respective benchmark stock or bond markets, not beat them. Bogleheads’ core belief— stay the course — is so essential to their investment strategy. Bogleheads’ key tips for beginners are:

    Early investing is better than perfect investing

    Don’t get overwhelmed with your options and let decision paralysis keep you from investing sooner. The magic of compound interest is where your money grows that much faster because you keep earning interest on your interest. To illustrate the strategy, a person who starts investing small amounts in their early 20s will be better off than someone who starts later and invests larger amounts later to catch up.

    Stay in the market; Don’t try to time the market

    For Bogleheads, the best way to invest is through passively-managed index funds like those pioneered by Vanguard. That way, while your investment will rise and fall with the market, you’re not a victim to any particular company’s misfortune.

    Investing in passively-managed funds is a core Boglehead tenet — and research shows the strategy is a sound one. The majority of actively-managed funds have underperformed the stock market for nearly a decade, according to an annual S&P Dow Jones Indices report. In other words, trying to pick winners doesn’t work; simply riding out the market’s ups and downs does.

    Don’t peek; Set it and forget it

    It is advised that investors check their investments a few times a year—but they shouldn’t react to market volatility or short-term corrections. The key to passive investing is to “set it and forget it”— that is, once you know what you’re investing in, leave it alone, let the market do its thing and be patient.

    Over the past decade, passive investment has been closing the gap on active management. Yet, the ‘father of passive investing’ believes there are still too many investors who are not taking advantage of passive investing. Malkiel believes strongly that “…[passive investing] works. It’s the best thing for individual investors to do for the core of their portfolio.”

    Keep it simple

    In a nutshell, the best approach is a simple, low cost, diversified portfolio of index funds that matches the market return. Don’t try to beat the market—ignore hot tips and check your returns infrequently.

    References:

      https://www.cnbc.com/2020/01/02/burton-malkiel-says-his-passive-investing-idea-was-called-garbage.html
      https://money.com/theres-a-super-secret-conference-dedicated-to-investing-legend-jack-bogle-heres-what-its-like-on-the-inside/
      https://us.spindices.com/documents/spiva/spiva-us-year-end-2016.pdf