Wednesday, January 25, 2012

The Fed Shafts Retirees

The Fed just announced its intention to keep interest rates low at least through the end of 2014. This has, and will have, a number of implications for the markets and the economy. Retirees who supplement their income by investing in fixed income investments will be particularly hard hit as CD rates and rates on lower risk bonds will likely stay low for some time. This way of supplementing retirement income used to work when people didn’t live as long and interest rates were higher. Now it is time to put that idea in the waste basket, longer life expectancies plus low interest rates equals disaster if you want to live off interest from fixed income.

Monday, January 23, 2012

Retirees Just Got a Pay Cut

For years most financial advisers have been recommending that their clients can take 4%/year out of their portfolios. So a retired client with $1mm could supplement other sources of income with $40k/yr out of their investments. Now many advisers are starting to rethink 4% due to what has been going on in the market and their forecasts of lower rates of returns going forward.

The whole 4% rule was bound to break at some point, it puts tremdous strain on a portfolio to have to earn the 4% you are taking out and keep pace with inflation. Add in a double digit loss here and there and you have a real problem. A much better approach is to set aside 5-7 years of income into a conservatively managed tactical portfolio and leave the rest growing (also tacitcally managed to avoid the double digit losses) untouched for 5-7 years. Then you start the whole process over again.

Monday, January 9, 2012

Does Total Freedom Boost Returns

Does Total Freedom Boost Returns?

Interesting article in the WSJ this morning about tactical mutual funds. The author correctly points out that they are hard to evaluate because there is no "tactical" category and funds with freedom have completely different methodologies. Readers of my book "How Harvard & Yale Beat the Market" know that we favor these "skill based" mutual funds vs. the "style box" based funds that are basically closet indexers. However, buyers still need to beware, when a mutual fund is just mirroring an index the manager doesn't need great skill, but when they have flexibility to invest in anything anywhere, then they need to be better. A lot of these funds will come out due to the marketing sizzle with managers who are not up to the job.

There are also many definitions of tactical. Most of the mutual funds that we have seen that claim to be tactical make moves based on prediction, which is problematic at best. It is also highly unlikely that they will move to 100% cash if there is nowhere else to invest. To us, true tactical is being in harmony with market trends, moving based on verification, not prediction, and the willingness to be in cash for as long as you need to be.

Sunday, January 8, 2012

Bond Bets Paid Off----LAST YEAR

From the WSJ this weekend:
Last year saw better returns for bonds than for stocks on average—and that shaped the comparative performance of target-date funds for retirement.

Funds geared to recent retirees or older workers, because of their bigger bond holdings, generally did better than the stock-heavy funds for younger workers. (According to Morningstar, the average U.S.-stock fund returned a negative 2.4% in 2011, while international-stock funds lost 13.3% and taxable-bond funds had a positive 4.6% return.)

Among various companies' target-date lineups, some of the strongest returns came from Invesco's Balanced-Risk Retirement series. Those funds hold more bonds than most peers in an effort to equalize risks taken in stocks, bonds and commodities.


What happens to these older workers and retirees when interest rates start increasing and bonds start getting killed? Go back to work, drastically cut expenses, etc. Target date funds that change allocations by age make no sense and are dangerous. Older people run this risk of not making enough and younger people are taking way to much risk during market declines. Allocations should be based on market dynamics, not age.

Thursday, January 5, 2012

Wall Street Research is Still Biased

Interesting article in the WSJ today about an internet analyst at Citi who has been drawing hot IPOs to his firm. This just serves to highlight the fact that even after the changes that were made in 2003, Wall Street research is still biased and always will be.

Companies that chose Citi as a lead bank on their IPOs last year tended to get a favorable rating from Mr. Mahaney. On Citi-led deals in 2011, he awarded three "buy" ratings — for Active Network Inc., Bankrate Inc. and Zillow—and one "neutral," for Groupon Inc. He initiated coverage on four non-Citi led IPOs, with three "hold" ratings and one "buy."

The three Citi IPOs he rated "buy" have underperformed the market by an average of 5.7 percentage points; the non-Citi IPO stocks he rated "neutral" have done worse, underperforming by an average of 45 points.

Where to Put Your Money in 2012, Maybe Not

Just read an Op Ed in the WSJ from Burton Malkiel about where to put your money in 2012. At least he starts off admitting that it is virtually impossible to make short term forecasts:

Presenting an annual investment outlook is a hazardous task. At the start of 2011, investors were warned to eschew the bond market. Pundits described the low yields of U.S. Treasuries as a "bond market bubble." In fact, if you had bought 30-year U.S. Treasury bonds at the start of the year when they yielded 4.42% and held them through 2011, when the yield had fallen to 2.89%, you would have earned a 34% return.

Meanwhile, U.S. stocks stayed flat, Europe and Japan declined by double digits, and emerging markets suffered even greater losses. Last year again demonstrated that it is virtually impossible to make accurate short-term predictions of asset returns.


He then goes on to predict low returns for bonds, 7% for stocks, and says that emerging markets are the place to be. He may be right, he may be wrong, only time can tell. However, one could have easily made this same prediction, as I am sure a lot of people did, 10 years ago. Instead we saw stocks do nothing and bonds surge. Since I don't know what is going to happen in 5 minutes I certainly can't predict the next 10 years. The better course of action is to stay in harmony with market trends.

He ends his Op Ed with some more advice about making sure that you keep investment fees low. In a world where everyone is doing the same asset allocation investing then this makes sense, the only way you can do better is to either be more tax efficient and/or have lower expenses. However, this misses the big picture---what is the point of saving 1% in expenses when you are losing 30% of your money?

Wednesday, January 4, 2012

True Cost of Tactical Management

Just read an interesting column from Bob Veres in Financial Planning magazine. He is talking about how more and more advisors are adopting a tactical approach. While he doesn't say it is a bad thing he worries that because advisors have trouble predicting where returns, the economy, inflation, etc will be they will have trouble being tactical. This ignores of course that there is more than one way to be tactical. Trying to predict the economy and returns is no better than using modern portfolio theory (MPT). The problem with MPT is that you need to predict asset class returns, correlations, and volatility which is impossible. It is also impossible to predict economic conditions. A better approach is to be tactical by following the trend of the market, moving based on verification instead of prediction.

Some Reflections on 2011

2011 ended right around where it began, but that doesn’t begin to tell the whole story of what happened this year. I cannot remember another year that has this many twists and turns only to end up going nowhere. As I look back over the year and forward to 2012 a couple of things come to mind:

1. People like to focus on the day to day, headline driven, turns we have seen on the market. Those are interesting but they are just noise. The intermediate term trend is much more important. Over the last quarter of the year we definitely saw an improvement in the trend as investors started to move out of safe haven assets---Treasuries, Swiss Franc, Gold, and into stocks.

2. We saw a major decoupling of U.S. and international markets as we were the cleanest shirt in the dirty laundry. In a global marketplace it is highly unlikely that this disconnect can continue long term so something has to give one way or another.

3. What happens, or doesn’t happen, in Europe will continue to drive markets. No news or good news and we will probably rally. You already know what happens if we get bad news.