Mutual funds are probably the most popular form of investing. The difficulty with mutual fund investing is the shear quantity of funds to choose from. Many articles and advisors will tell you to not even try to pick winners or top performers. They will advise you ...
It can be very difficult to evaluate your company's retirement plan. Many times you don't have a full grasp on all the fees you are paying or what other options are available. Start with these three basic questions: #1 - Do you have the right type of plan? Before you ...
If you have any money invested in the market or carved away in 401(k) or IRA accounts you are either actively or inadvertently working with a financial advisor. Just like anything in this world financial advisors come in all different shapes, colors and sizes. To make ...
The amount of financial information on the web can be dizzying and confusing. It is hard to decipher what is independent and non-biased information and when you are being sold something. There are some great websites out there that can really help empower you to make ...
2010 brought about the first year every person is eligible to convert their traditional tax deferred IRA accounts to a Roth IRA which will grow tax free. Before you dive into calculators and filling out new forms, consider the following: #1 - Do you have cash to ...
Mutual funds are probably the most popular form of investing. The difficulty with mutual fund investing is the shear quantity of funds to choose from. Many articles and advisors will tell you to not even try to pick winners or top performers. They will advise you to invest in low-cost index funds and to passively invest in the market. This newsletter is not designed to contradict that theory; rather it is designed to demonstrate how it is possible to pick potential winners, potentially outperform the market, and sometimes do both with less risk. And you can do it all without a crystal ball or trying to predict the future!
Creating an investment portfolio of top performing mutual fund managers is much like building an All-Star team in sports.
STEP 1: Start With All Available Options
There are currently 32 teams in Major League Baseball. Imagine trying to build an All-Star team with only 5 teams. You may end up with a few good players, but a lot of the great players would be left off the team.
The same is true in mutual funds. There are hundreds of mutual fund companies and over 24,000 individual mutual funds available to choose from. Try building a team of top performers with only a few fund companies and you may find some good funds, but what about the great funds in ALL the fund companies? This seams like a simple concept, but many Advisors work that way. They only work with a handful of fund companies to either keep things simple or because of commission structures.
STEP 2: Use Statistics to Narrow Down the Field
Anyone who watches sports knows that statistics do not tell the whole story. When you are building an All-Star team you need to eliminate a large portion of the playing field somehow. Baseball statistics such as home-runs, RBI’s, batting average, etc. are great ways to compare a lot of players against each other quickly and efficiently.
Again, the same is true in mutual funds. This can be tricky as there are a lot of statistics used to measure performance in mutual funds. What you need to ask yourself is what are the most important statistics and keep it simple. For me, there are 2 key factors I look at when considering any investment. What is the potential rate of return AND how risky is the investment? Lucky for us, both of those criteria can be measured statistically. Now you can stack up thousands of mutual funds together and clearly see which fund managers have performed the best according to the statistics most important to you.
STEP 3: Pick Your Team
Now that you have narrowed down the field to select from just your top performing statistical players, it is a lot easier to create your All-Star Team. When building a good All-Star team in baseball you need balance. You want some players who hit a lot of home runs, some players who run fast and some who are good at defense. You may also want some players with intangibles that cannot be statistically measured (i.e. good leadership). This is where some human elements of decision making come into play.
Once again, the same is true in mutual funds. You will want to create a balance of funds from different asset classes and levels of volatility or risk. There is also a human element at play. For example, you may find that statistically the top performing mutual fund in the world equity class only invests in China and is highly concentrated in a certain industry. You would have to ask yourself if you are willing to take on that level of risk or concentration in your portfolio.
While this may not be the perfect way to build an All-Star team of mutual fund managers, it can certainly yield very favorable results. The key is monitoring your All-Star team. Just like in sports, the All-Star team from 2009 may look a little different than the 2008 team. You need to keep updating the statistics and figure out when a fund manager needs to be taken off your team and when a new one should be brought on.
It can be very difficult to evaluate your company’s retirement plan. Many times you don’t have a full grasp on all the fees you are paying or what other options are available. Start with these three basic questions:
#1 – Do you have the right type of plan?
Before you start evaluating your current retirement plan, the first question you need to answer is if you even have the right type of plan in place. Most companies will default to a 401(k) plan without knowing how many other options there are available. Based on your company size, the age of the employees, the amount of highly compensated employees, your tax goals and your company’s budget, a 401(k) plan may or may NOT be the best option.
To name a few, you have SIMPLE IRAs, SEP IRAs, Roth 401(k) plans, defined benefit plans and hybrid plans. It would be advantageous to explore the pros and cons to all those types of plans to make sure the plan design is meeting your needs and the needs of your employees.
#2 – Are you and your employees properly educated?
We have found that most fiduciaries and employees have a general knowledge of the basic pros and cons to investing their money into in a retirement plan. That being said, many of these same people don’t fully understand how investing in a retirement plan impacts their bigger picture plans. They know how to put money into the plan, but may not grasp the consequences of taking money out. In addition, many employees may not be aware of the risk associated with various different investment options.
Investing in your retirement plan may be a great decision, but it is important to be educated on all of the plan elements and design. Your plan advisor should be well versed in broad financial planning and not just on selling the idea of investing into a plan.
#3 – Do you have the best available options in your plan?
After you have decided on the type of plan and you have educated all parties about the plan features, you need to determine which investments will be used to help grow the retirement funds. The investment vehicle most plans use are mutual funds, but with over 24,000 mutual fund options available, how do you choose? Even more important, once you choose the investments, how do you evaluate them on a regular basis to make sure they are still the best?
Bad or inappropriate investment options in your plan can seriously impact your retirement plans. You should have a clear and transparent process to evaluate fund options and make sure you have the best available investments for you and your employee group. Putting all or the majority of your options into one mutual fund family may not net the best results.
If you have any money invested in the market or carved away in 401(k) or IRA accounts you are either actively or inadvertently working with a financial advisor. Just like anything in this world financial advisors come in all different shapes, colors and sizes. To make sure your best interests are at the forefront of all decisions, we suggest you bring up the the following questions to your investment professional:
#1 – How volatile is my investment portfolio?
While it is important to know the rate of return potential for your portfolio, one element that is often overlooked is how much risk are you taking to get that rate of return. You can go to the casino and have potential to double your investment real fast; however, you can lose it just as fast. Your retirement investments should be evaluated the same way. Just like rate of return, the level of volatility can be measured with statistical data. When targeting a specific annual rate of return, you want to make sure you are taking the least amount of risk possible to get there. Riding up and down the stock market like a roller coaster is not healthy for your portfolio or your stress level.
#2 – How is my investment performance benchmarked?
Hypothetically speaking, would you be happy to open your monthly statement and see that your investment portfolio was up 15% this year? Without anything to compare it to, that seems like a great rate of return. What if you knew the broad stock market was up 25% over the same time period? Your 15% doesn’t seem so great anymore.
It is very important to get proper perspective on your investment performance. There are hundreds of different stock indexes that can measure all different sectors and types of investments. At a minimum your investment performance should be compared to the performance of the most relevant market indexes. Why pay an investment professional if they only suggest investments that under perform the broad market?
Ideally, you should be comparing your investment performance to all investment options and not just the broad market. What is the rate of return of the best performing investments compared to your investment choices?
Finally, make sure your performance is shown NET OF ALL FEES. This leads into the next question to ask your investment professional.
#3 – As my investment professional, how do you get paid?
In one respect it almost doesn’t matter how your investment professional gets paid as long as he or she is properly addressing question #2. If your investments are performing at a high level compared to all other investment choices and broad market indexes NET OF FEES, does it really matter how you are paying?
It does matter if their compensation structure impairs their independence when giving advice. Financial professionals typically get paid either through a fee or from commissions on selling certain products.
What really matters is HOW your investment professional is paid and not the amount. How they are paid has the potential to deter them from giving the best financial advice. If an investment professional solely works on commission, you may only be offered investment choices according to a commission structure. The opposite is true if they work on a fee basis. They may only recommend investments that do NOT have a commission structure. In either scenario the pool of investments to choose from has been shrunk.
Your goal should be to have the BEST investment options no matter what the commission structure. To remove that bias, we have the option to be paid via a fee and at the same time credit you back any commissions received if you invest in a commission-based product.
#4 – Do you know when to sell my investments?
Anyone can look at historical data and tell you how investments performed in the past. That is probably a great place to start. The real question is, when do you sell an investment? Some investment professionals may use their “crystal ball” and guess when the market will go up and down, and then move your investments accordingly. I am not an advocate of this approach. You need a structured and regimented strategy to evaluate the performance of your investments.
Refer back to questions #2 and #3 for a moment. Rate of return and volatility can both be statistically measured. If you don’t have any particular bias to certain fund managers, commission structures, etc., you can simply compare and contrast the investment performance and volatility of ALL investment choices on a regular basis. If an investment you own starts to under perform relative to its peers it may be time to sell.
#5 – Are you more of a “best friend” than an investment professional?
I am certainly not against doing business with your friends and family. The majority of my clients are family or friends. And very often in life I tend to do business with the people that I know best. Just not always.
Take a hard look at questions #1 – #4 again. If your investments are not performing optimally and you are taking too much market risk and/or not getting enough return, should you stay with them just because they are a friend or a family member? This is your money and your retirement. Don’t be afraid to ask some hard questions and treat it like a business relationship. Remember, your investment professional (who may also be your best friend) treats it as a business relationship when they accept fees and commissions you faithfully pay.
I hope these critical questions help empower you to take control of your retirement!
The amount of financial information on the web can be dizzying and confusing. It is hard to decipher what is independent and non-biased information and when you are being sold something. There are some great websites out there that can really help empower you to make better financial decisions. Here are my ten favorites:
#10 - www.finra.org/investors – FINRA is a regulatory agency that governs investment firms and advisers. You will find great independent tools from comparing mutual funds, savings, bond investing, etc.
#9 - www.investopedia.com – Another great website to find almost anything. The information is provided by people all over the world. You’ll be able to get information on almost any financial topic.
#8 - www.rothira.com – This is a highly specific website, but very topically oriented these days with the Roth IRA conversion gaining a lot of steam. Anything you ever wanted to know about Roth IRAs and Roth 401(k) accounts can be found here.
#7 – www.moneycentral.msn.com – You will find a lot of good articles on investing and personal finance. I like to utilize their ticker symbol tool where you can enter the ticker symbol of any stock, mutual fund or ETF and get detailed information.
#6 - www.daveramsey.com – If you are not familiar with Dave Ramsey, he is a nationally recognized consultant who has a simplified process to get people out of debt and saving towards retirement.
#5 - www.creditcards.com – This website can help you find a credit card designed to fit your needs.
#4 - www.bankrate.com – If you are looking to compare rates for mortgages, CD’s, credit cards, etc. you may find this as a great resource.
#3 - www.smartypig.com – Not only can you find one of the highest rates of return for your savings account, they also offer bonuses and incentives to save towards your goals.
#2 - www.mint.com – Everyone needs to budget to help reach their financial goals. This site automates the process and may help you reach your goals sooner and more effectively.
#1a - www.csscias.com – I am slightly biased with this one as we are affiliated with the company. If you are looking for an alternative investment approach to the traditional financial services industry, this website will open your eyes.
#1b - www.highsightllc.com – I wouldn’t be doing my job if I didn’t put a plug in for my own website!
There are a lot of other great websites out there, but this should give you a good start. Happy surfing!
#1 - Do you have cash to pay the tax bill?
#2 – Will your income increase or decrease this year compared to retirement?
#3 – When will you need the money from the IRA account?
#4 – Are you familiar with the 5 year holding rules?
#5 - Do you know how to strategize for a possible reversal?
#6 - Are you educated on the rules for deferring the tax payments?
#7 – Have you taken inventory on all your pre and post tax IRA accounts?
#8 – Do you need to take a required minimum distribution this year?
#9 – Are any of your accounts inherited IRA accounts?
#10 – Who are the beneficiaries of your IRA accounts?
The general concept of annuity products is solid. An annuity is set up by paying into an account either over time or all at once. The end game is to pay you a stream of money when you need it (i.e., retirement). There is sometimes a floor on how much you can lose. Therefore, they are sometimes used as an alternative to the stock market to help fund your retirement.
Buying an annuity is similar to purchasing a new car. You walk onto the lot thinking you are buying one car and leave the finance office with 25 extra options and warranties that you may or may not need. Unless you are well versed in annuity products it is difficult to know if you need a fixed, variable, immediate, period certain, life, deferred, GMDB, GLB, etc. There are so many types, options and features it can leave you dizzy trying to make heads or tails of everything.
Another area to be conscious of is the surrender period. Most annuity products will carry a surrender period which can be upwards of 10 years+. During this period, if you wish to withdraw the balance of your account you will be subject to a penalty.
The hardest item to get a handle on when purchasing an annuity is how much of your investment is going to the agent selling you the product. It is very difficult to decipher exactly what you are paying and how it affects your bottom line rate of return on your investment. Commissions are typically paid up front.
Deferred annuities, including fixed, fixed-indexed and variable, typically pay the agent a commission of 1 to 10 percent of the amount invested. There may also be trailers (to be paid to the agent after the initial investment) of .25 to 1 percent per year. Trail commissions are most common in variable annuities while fixed annuities may only pay an up front commission. The fees on these products are considered by some in the traditional financial services industry to be some of the most lucrative.
Are you dizzy yet?
The following are some great take-aways when considering purchasing an annuity:
1) Make sure you understand all of the features in the annuity you are purchasing. Ask yourself exactly what you need and don’t add anything frivolous.
2) Get a handle on the consequences of what happens when you withdraw your money. Is there a surrender charge? How will the withdrawal be taxed?
3) Align your big picture goals with the product you choose. If you need life insurance or seek a safe investment option, do some research to see if there are better, cheaper and more simple options than an annuity product.
4) Be careful of being “sold” a product. Agents that sell annuity products work on commissions and may not always have your best interests in mind. Take the information they give you, but make sure you do your due diligence before making a purchase. Once purchased, these products can be hard to liquidate and get all your money back.
You can efficiently invest in a portfolio of securities and/or bonds that are actively managed by a professional fund manager. Since most mutual fund managers invest with a particular style or within a specified asset class, you can create a diversified asset allocation by combining just a few mutual funds together. By having a professional fund manager handle all the day to day trading of the securities within the fund, you can focus on a more objective style of investing and not speculative.
There are over 24,000 mutual funds available for a consumer to purchase. While competition is usually a good thing, the reality is that most of the mutual funds available have a very mediocre performance history. Couple that with the fact most funds have a highly complex commission structure to pay their wholesalers and advisers. How can you be 100% sure the fund you are being sold is the best possible option for you? Similar to the prescription drug industry, mutual funds are typically sold in an aggressive sales environment with kickbacks and commissions that are not usually disclosed to the investor.
Novels can be written on all the behind the scenes activity the average public is not aware of in the mutual fund industry. I will highlight a few of the key areas:
Commissions - Mutual funds are usually sold in different share classes which carry different commission structures. “A” shares pay a commission to the adviser when you purchase the fund, “B” shares pay a commission to the adviser if you sell the fund within a certain time period and “C” shares carry high internal costs which is how the adviser is compensated. Most of these commissions and fees are not fully disclosed, making it very difficult to benchmark the overall performance.
Performance – When you see an advertisement for a particular mutual fund it will usually highlight its historical rate of return and may compare it to a broad market index. This only scratches the surface of what is important when it comes to performance. How risky and volatile is the fund? How does it compare to all other fund options in its asset class when you account for rate of return and volatility?
Morningstar Ranking - Morningstar is an independent company that ranks mutual funds from a score of 1 star to 5 stars. A 5 star fund is the highest ranking they give to a fund. An important item to consider is that a 5 star mutual fund is a 5 star fund to everyone. It does not consider your particular situation or your risk tolerance. It is not a customized ranking system. Furthermore, morningstar gives a 4 star or 5 star rating to 32.5% of all the mutual funds it ranks. Are you content being in the top 32.5%? Wouldn’t you want to be invested in funds that are in the top 1% or better?
The following are some great take-aways when considering mutual fund investing:
1) Don’t settle for funds that have a mediocre historical performance. Make sure you or your adviser has a clear objective way to find funds who have the best historical performance. Why be in the top 20% when you can be in the top 1%?
2) Make sure your adviser discloses all of the ways he is getting paid, not just the out of pocket fees you are paying him. Every commission and hidden fee will lower your bottom line return.
3) After you build your portfolio examine the overall volatility and risk you are taking and make sure you are 100% comfortable. Remember the goal is to reach your goals with the least amount of risk possible.
4) Evaluate the performance of the individual funds and your overall portfolio on a quarterly basis. Compare your performance (NET OF FEES!) against the broad market and against the best performing funds. Do not get married to a particular fund manager if they are under performing.
5) Finally, you do not need to settle for mediocrity when it comes to mutual funds. Empower yourself to make good, solid decisions based on clean and objective data and advice.