Tag: economy

Negative Interest Rates – Searching for Meaning

We have mentioned negative interest rates in the past.  Let’s take a look at what it means to you.

Central banks lower interest rates to encourage economic activity.  The theory is that low interest rates allow companies to borrow money at lower costs, encouraging them to expand, invest in and grow their business.  It also encourages consumers to borrow money for things like new homes, cars, furniture and all the other things for which people borrow money.

It’s the reason the Federal Reserve has lowered rates to practically zero and kept them there for years.  It’s also why the Fed has not raised rates; they’re afraid that doing so will reduce the current slow rate of growth even more.

But if low rates are good for the economy, would negative interest rates be even better?  Some governments seem to think so.

Negative interest rates in Japan mean that if you buy a Japanese government bond due in 10 years you will lose 0.275% per year.  If you buy a 10 year German government bond today  your interest rate is negative 0.16%.   Why would you lend your money to someone if they guaranteed you that you would get less than the full amount back?  Good question.  Perhaps the answer is that you have little choice or are even more afraid of the alternative.

Per the Wall Street Journal:

There is now $13 trillion of global negative-yielding debt, according to Bank of America Merrill Lynch. That compares with $11 trillion before the
Brexit vote, and barely none with a negative yield in mid-2014.
In Switzerland, government bonds through the longest maturity, a bond due in nearly half a century, are now yielding below zero. Nearly 80% of Japanese and German government bonds have negative yields, according to Citigroup.

This leaves investors are searching the world for securities that have a positive yield.  That includes stocks that pay dividends and bonds like U.S. Treasuries that still have a positive yield: currently 1.4% for ten years.  However, the search for yield also leads investors to more risky investments like emerging market debt and junk bonds.  The effect is that all of these alternatives are being bid up in price, which has the effect of reducing their yield.

The yield on Lithuania’s 10-year government debt has more than halved this year to around 0.5%, according to Tradeweb. The yield on Taiwan’s 10-year bonds has fallen to about 0.7% from about 1% this year, according to Thomson Reuters.
Elsewhere in the developed world, New Zealand’s 10-year-bond yields have fallen to about 2.3% from 3.6% as investors cast their nets across the globe.
Rashique Rahman, head of emerging markets at Invesco, said his firm has been getting consistent inflows from institutional clients in Western Europe and Asia interested in buying investment-grade emerging-market debt to “mimic the yield they used to get” from their home markets.
Clients don’t care if it is Mexico or Poland or South Korea, he said, “they just want a higher yield.” ….
Ricky Liu, a high-yield-bond portfolio manager at HSBC Global Asset Management, said his firm has clients from Asia who are willing for the first time to invest in portfolios that include the highest-rated junk bonds.

How and where this will end is anybody’s guess.  In our view, negative interest rates are an indication that central bankers are wandering into uncharted territory.  We’re not convinced that they really know how things will turn out.  We remain cautiously optimistic about the U.S. economy and are staying the course, but we are not chasing yield.

Planning to Retire Someday? Start Planning Today!

A recent survey showed that most Americans don’t want to do their own financial planning, but they don’t know where to go for help.  60% of adults say that managing their finances is a chore and many of them lack the skills or time to do a proper job.

The need for financial planning has never been greater.  For most of history, retirement was a dream that few lived long enough to achieve.  In a pre-industrial society where most families lived on farms, people relied on their family for support.  Financial planning meant having enough children so that if you were fortunate enough to reach old age and could no longer work, you could live with them.

The industrial revolution took people away from the farm and into cities.  Life expectancy increased.  In the beginning of the 20th century, life expectancy at birth was about 48 years.  Government and industry began offering pensions to their employees.  Social Security, which was signed into law in 1935, was not designed to provide a full post-retirement income but to increase income for those over 65.  (Interestingly enough, the average life expectancy for someone born in 1935 was 61 years.)

For decades afterwards, retirement planning for many Americans meant getting a lifetime job with one company so that you could retire with a pension.  The responsibility to adequately fund the pension fell on the employer.  Over time, as more benefits were added, many companies incurred pension and retirement benefit obligations that became unsustainable.  General Motors went bankrupt partially because of the amount of money it owed to retired workers via pension benefits and healthcare obligations.

As a result, companies are abandoning traditional pension plans (known as “defined benefit plans”) in favor of 401(k) plans (known as “defined contribution plans.”)  This shifts the burden of post-retirement income from the employer to the worker.  Instead of knowing what your pension income will be at a certain age and after so many years with a company, now employees are responsible for saving and investing their money wisely so that they will have enough saved to adequately supplement Social Security and allow them to retire.

In years past, people who invested some of their money in stocks, bonds and mutual funds viewed this as extra savings for their retirement years.  With the end of defined benefit pension plans, investing for retirement has become much more serious.  The kind of lifestyle people will have in retirement depends entirely on how well they manage their 401(k) plans, their IRAs and their other investments.

Fortunately, the people who are beginning their careers now are recognizing that there will probably not be pensions for them when they retire.  Even public employees like teachers, municipal and state employees are going to get squeezed.  Stockton, California declared bankruptcy over it’s pension obligations.  The State of Illinois’ pension obligations are only 24% funded.  Other states are facing a similar problem.

In fact, many younger adults that we talk with question whether Social Security will even be there for them.  They also realize that they need help planning.  Traditional brokerage firms provide some guidance, but the average stock broker may not have the training, skills or tools to create an unbiased financial plan; many are only after your investment accounts or using the plan to persuade you to buy an insurance product.  Mutual fund organizations can offer some guidance, but getting personal financial guidance via an 800 number is not the kind of personal relationship that most people want.

Fortunately there is another option.  The rapidly growing independent RIA (Registered Investment Advisor) industry offers personal guidance to help people create and execute a successful financial plan that will take them from work through retirement.  Many RIAs are run by Certified Financial Planner (CFP™) professionals.  Many are fiduciaries who put their clients’ interests ahead of their own.  And many, including us, offer financial plans for a fixed fee as a stand-alone line of business, meaning that we don’t push or require you to do anything else with us except create a plan that you’re happy with.  Contact us to find out more.

A Client Asks: What’s the Benefit of Inflation?

One of our retired clients sent us the following question recently:

“I can’t understand the FED condoning and promoting any inflation rate. To me inflation means that the value of money is simply depreciating at the inflation rate. Further, any investment paying less than the inflation rate is losing money. A quick review of CD rates and government bonds show it is a rare one that even approaches the promoted 2.25% rate. It seems to me to be a de-facto admission of wanting to screw conservative investors and forcing them into riskier investments… Where is there any benefit to the financial well-being of the ordinary citizens?”

I suspect that there are a lot of people who feel the same way. It’s a good question. Who wants ever rising prices?

Here’s how I addressed his question:

Let me answer your inflation question first. My personal opinion is that 0% inflation is ideal, and I suspect that you agree. However, lots of people see “modest” rates of inflation (say 2%) as healthy because it indicates a growing economy. Here’s a quote from an article you may want to read:

Rising prices reflect a growing economy. Prices typically rise for one of two reasons: either there’s a sudden shortage of supply, or demand goes up. Supply shocks—like a disruption in the flow of oil from Libya—are usually bad news, because prices rise with no corresponding increase in economic activity. That’s like a tax that takes money out of people’s pockets without providing any benefit in return. But when prices rise because demand increases, that means consumers are spending more money, economic activity is picking up, and hiring is likely to increase.

A case can be made that in a dynamic economy you can never get perfect stability (e.g. perfectly stable prices), so it’s better for there to be more demand than supply – driving prices up – rather than less demand than supply – causing prices to fall (deflation). Of course we have to realize that “prices” here includes the price of labor as well as goods and services. That’s why people can command raises in a growing economy – because employers have to bid up for a limited supply of labor. On the other hand, wages grow stagnant or even decline when there are more workers available than jobs available.

But for retirees on a fixed income, inflation is mostly a negative. Your pension is fixed. Social Security is indexed for inflation, but those “official” inflation numbers don’t take food and fuel costs into consideration, and those tend to go up faster than the “official” rate. The stock market also benefits from modest inflation.

Which gets us to the Federal Reserve, which has kept interest rates near zero for quite a while. It’s doing this to encourage business borrowing, which in turn is supposed to lead to economic expansion.  However, the actual effect has been muted because other government policies have been detrimental to private enterprise. In effect you have seen the results of two government policies in conflict. It’s really a testimony to the resilience of private industry that the economy is doing as well as it is.

The effect on conservative investors (the ones who prefer CDs or government bonds to stocks) has been negative. It’s absolutely true that after inflation and taxes the saver is losing purchasing power in today’s low interest rate environment. The FED is not doing this to intentionally hurt conservative investors, but that’s been part of the collateral damage. The artificially low rates will not last forever and the Fed has indicated they want to raise rates. They key question is when, and by how much?

4 Reasons Why You Need a Good Financial Advisor Now

A good financial advisor has a number of roles: planner, investment manager, educator who is willing to teach you about investing, and sounding board with whom you can share your fears and aspirations.

Why is a Registered Investment Advisor (RIA), a fiduciary who puts your interests ahead of his own, so important now? People often get over-confident during a Bull Market. It’s when the market gets scary that financial professionals really prove their worth.

We have all heard the old sayings about being diversified, buy low and sell high, and stay the course. That’s often harder to do than it looks, especially in trying times such as these, when investor psychology overtakes reason. A financial advisor’s job sometimes involves protecting investors from themselves. And to protect them from all the bad advice that’s out there and from the bad actors in the industry.

  1. The first thing that a fiduciary does is tell their clients that despite what you hear, no one can time the market. There may be some people who are exceptionally good at stock picking, but those rare individuals are not giving away their advice to you on TV, in Money Magazine, or in newsletters; I don’t care what they claim. If they exist at all, they are managing their own portfolios on an island in the Caribbean.
  2. The retail financial services industry has an incentive to sell you expensive products as often as possible. And they are very good at it. Don’t get caught in the frequent trading trap; it’s not to your benefit. A fee-only RIA does not have an incentive to sell you investments to earn a commission.
  3. Investors typically allow their portfolios to get too risky during the good times. When the stock market is going up, it’s too easy to get caught up in the excitement and ignore asset allocation guidelines. A good investment manager will rebalance your portfolio regularly to keep you from running into a Bear Market with a portfolio overloaded with risky stocks.
  4. A fee-only RIA works for you. Stockbrokers, insurance agents, even mutual fund managers, work for the companies that pay them. They are legally required to work in the best interest of their employers, not their clients. Some of them do try to work in their clients’ best interests, but there can be large financial incentives to do otherwise. A fee-only RIA works only for you. We act in your best interest and use our expertise to allow you to take advantage of opportunities in good markets and weather the bad ones.

During volatile markets, we focus on the important things that really matter, not the daily chatter. We keep open lines of communication with our clients, helping them make sense of what’s going on, providing perspective, and helping them distinguish between what’s just noise and what’s a genuine trend. We work hard to control risk and manage portfolios to help our clients maintain confidence in their financial future.

If you want to receive our weekly commentary, view our latest guides, or get a free download of the first three chapters of our book “Before I Go”, or just find out about us, visit us at www.korvingco.com.

Are You an "Affluent Worker?"

Forbes magazine recently had an article about some of our favorite clients. They call them the “High Net Worker.” These are people who are successful mid-level executives in major businesses. They range in age from 40 to the early 60s. They earn from $200,000 per year and often more than $500,000. They work long hours and are good at their jobs.

According to the Forbes article, many have no plans to retire. Our experience is different; retirement is definitely an objective. But many have valuable skills and plan to begin a second career or consult after retiring from their current company.

At this time in their lives they have accumulated a fair amount of wealth, own a nice home in a good neighborhood, and may be getting stock options or deferred bonuses. That means that at this critical time in their lives, when they are focused on career and have little time for anything else, they have not done much in the way of financial planning.

When it comes to investing, most view themselves as conservative. But because of their compensation their investments are actually much riskier than they think. It is not unusual for executives of large corporations to have well over 50% of their net worth tied to their company’s stock. Few people realize the risks they are taking until something bad happens. For example, the industrial giant General Electric’s stock lost over 90% of its value over a nine year period ending in 2009. The stock of financial giant UBS dropped nearly 90% between May 2007 and February 2009. These companies survived. There are many household names, like General Motors and K-Mart whose shareholders lost everything.

The affluent worker’s family usually includes one or more children who are expected to go to college. Many of these families have a 529 college savings plan for their children. Most have IRAs and contribute to their company’s 401k plan, but because many don’t have a financial planner they do not have a well thought out strategy for this part of their portfolio.

At a time when many less affluent families are downsizing, many families in this category are either looking to upgrade their homes, buy a bigger home, or buy a second – vacation – home. They may even help their adult children with down-payments.

If you are an Affluent Worker, give us a call and see what we can do for you. If you already have a financial advisor, it may be time to get a second opinion.

How do you get income with interest rates as low as they are?

I was reminded recently how low interest rates were when I downloaded my investment account activity into Quicken. Each account with a money market balance received a few pennies worth of interest, not enough to buy a cup of coffee. Certainly not enough to buy a Happy Meal. The average money market fund yields 0.02%. Every $1,000 investment will give you 20 cents in a year. And that’s before taxes. You could make more money collecting bottles at the side of the road.

There are some alternatives. One way is to invest for growth and forget about income. You can always spend some of the growth when you need the money.

But for those who want to see income flowing into their accounts, there’s always the “Dogs of the Dow.” The “Dogs” are members of the 30 Dow Jones industrial average with the highest dividend yields. This may be the result of a drop in prices, hence the name. For example, two of the highest yielding stocks in the DJIA are oil stocks which have declined in price even as they increased their dividends.

The current yield on the “Dogs” portfolio is over 3.5% and last year the total return (dividends plus capital appreciation) was over 10%. For more information on this strategy, contact us.

Financial tips for corporate executives

The December 2014 issue of Financial Planning magazine had an article about “Strategies for Wealthy Execs.” It begins:

Just because your clients are successful executives doesn’t mean they understand their own finances.

And that’s true. Successful executives are good at running businesses or giant corporations. But that does not make them experts in personal finance.

One of the ways executives are compensated is with stock options. But options must be exercised or they will expire. Yet 11% of in-the-money stock options are allowed to expire each year. That’s usually because they don’t pay attention to their stock option statements.

Executives usually end up with concentrated positions in their company’s stock. Prudence requires that everyone, especially including corporate executives, have to be properly diversified. Their shares may be restricted and can only be sold under the SEC’s Rule 144. To prevent charges of insider trading, many executives sell their company stock under Rule 10b5-1.

An additional consideration for executives is charitable giving. Higher income and capital gains tax rates make it beneficial for richer executives to set up donor-advised funds, charitable lead trusts, charitable remainder trusts, or family foundations.

For more information on these strategies, consult a knowledgeable financial planner.

Family Business Financial Planning

A family business is one of the ways that individuals build something of value for themselves and their family. Suffolk is a great example of a community where family owned restaurants, hardware stores, gift shops, bike shops, jewelry, sporting goods, clothing and furniture stores line the streets. Suffolk has its national chains, but its most recognizable businesses – in the pork and peanut industry – began as family businesses.

These family shops often provide a comfortable living as well as job opportunities for family members of the founders. Whether they stay small and local or grow into large businesses, there are challenges that everyone running a business has to face.

The first is competition. For every business there is a better financed competitor. The supermarket doomed the family-run grocery store. Wal Mart is a feared competitor for anyone selling groceries, clothing, furniture, electronics, toys, eyeglasses; and now it’s even getting into banking.

The second challenge is a bad economy. Many communities have seen their downtowns shuttered when local industry left. The businesses depending on housing have still not fully recovered from the crash of 2008.

Finally, most small businesses are very dependent on one or a few key people. If the children don’t want to get into the business when the parents are ready to retire, the business often closes. There is no guarantee that a business can be sold when they owner is ready to retire. Unless the owner has prepared for this, the financial results can be devastating.

For all these reasons, the family business owner has to make sure that they have prepared themselves financially for life after the business. Succession planning is critically important and should be part of the business plan from the moment the business is started. If a business is a partnership, buy-sell agreements should be in place to avoid complications from the death of a partner. If a business is going to be passed along to children, the owners should be clear about the division of assets. Otherwise there is likely to be wrangling – or even lawsuits – over who is entitled to what.

Most people in business choose to convert from individual proprietorships to limited liability companies. This protects the business owners’ personal assets in case of a lawsuit against the business. Some convert to “Chapter C” corporations for tax purposes. If a company wants to grow even larger, it may want to raise cash by “going public” and selling shares to the general public.

One of the most common mistakes that business owners make is to invest too much of their money in the business. It’s a fact that a family business is a high-risk enterprise. Competition, the economy – even a change in traffic patterns – can bring a business to its knees. Building an investment portfolio should go hand-in-hand with building a business. When most of your money is tied up in your business you are making the same mistake as the investor who owns only one stock. Diversification reduces risk and provides a safety net. Factors that are out of your control could end up severely damaging your business value, thereby crippling your total savings and your future goals and ambitions.

In addition to the traditional savings and investment accounts, the tax code provides many ways for business owners to put money aside in a variety of tax-deferred accounts such as SEP-IRAs, 401(k) plans, and SIMPLE-IRA plans. As a business owner you can even set up a “Defined Benefit Plan” which works much like a traditional pension.

There are a great many things that running a business entails beyond offering customers a great product or service. People who start a business are usually focused on this aspect of the business. But to insure that the business – and the family – survives and thrives, business owners should seek the assistance and guidance of a team consisting of an attorney, an accountant and a financial planner. They may be in the background, but they are critical for the financial success of the family business.

Benchmarking Inverts the Basics of Investing

The problem with “benchmarking”  – that is measuring your investment performance against market indexes (known as “benchmarks”) – is that it often leads to buying into asset bubbles.

During the tech boom of the last 20th century, billions of dollars went into internet stocks whose values became wildly inflated.  People who participated in this as a way of reaching for high rates of return, found that no one rang a bell when the party was over.  Many lost their retirement savings and saw their 401(k)s devastated.

Certain stocks become wildly popular, industries become wildly popular and investing styles become wildly popular, all of which leads to wildly inflated values.  This almost inevitably leads to financial pain.

But this does not only happen in the stock market.  In the first decade of the 21st century, real estate seemed to be a way of making outsized profits.  Of course, when the housing bubble collapsed, many not only lost money, but their homes.

The focus of serious investors is to align your portfolio with your personal objectives.  The focus should be on long-term – multi-year – performance.  The only benchmark that should concern you is the one you set for yourself.

At Korving & Company we keep our clients grounded and work with them to meet their personal benchmarks.  Contact us to do the same for you.

Preparing for the unexpected.

What happens if you have to live on less income because you lost your job or your spouse died? The economy has not been kind to many people and job loss can happen before we’re ready to retire. That’s when a financial advisor can help.

It can be tough to find a good paying job if you’re within a decade of retirement age.  Companies are reluctant to hire you.  You may be wondering what you should do when you realize that the best path is early retirement. Where can you cut back? How should your money be invested for an extra-long retirement? These are all questions that you should not tackle on your own because the wrong decision at this age can haunt you a few years down the road.

If the major breadwinner in your family dies how will the survivor cope? One 61-year-old woman left work to care for her dying husband. After his death she could not return to work but had a lot of decisions to make. Decisions about social security, insurance, where to cut back (fewer trips, sell the motorcycle and the RV), as well as decisions about her investments.

Each case is unique, but a financial advisor should be more than a money manager. He should advise his clients about all aspects of their lives that impact their financial well-being. Ideally you will have developed a good relationship with a financial advisor before an unfortunate event occurs. But if you have not, this is definitely the time to find one.

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