4 Reasons To Embrace An Imperfect Retirement Plan.

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Posted on October 17, 2015 by Richard M. Rosso, CFP

A version of this writing appears in MarketWatch.

The recent downturn in the stock market has placed an important decision on the back burner.

It’s not strange to change direction through a storm of uncertainty. Through a volatile period it’s not unusual to move a retirement date out, continue to collect a paycheck, bolster savings and reduce debts.

I hear it often – “I’ll work just one more year.”

On the surface, it feels right to wait.

I call it ‘failure to launch.’

There’s never an opportune time to retire, regardless of the preparation and the formal financial planning undertaken to ensure lift-off. Frankly, even when the stock market is on solid footing people tend to find reasons to delay the next step.

It’s perfectly understandable. It’s human to feel vulnerable at the crossroad of a life-changing moment especially when the moment has arrived.

The financial planning process can inadvertently exacerbate “launch dysfunction.” It’s also in a planner’s nature to be conservative and advocate a decision to wait for a better time (whenever that is).

I’ve discovered after hundreds of retirement discussions and volumes of plans delivered, that the decision to wait is rooted in an overdependence on the successful outcomes of formal retirement plans designed to predict the survivability of assets to meet lifestyle expenses for three decades or longer.

But is that practical?

No.

Before you decide to undergo retirement planning, you must make peace with the fact that the entire process is extraordinarily imperfect, like you and me.

Retirement plans are 20% science and 80% forecast (or art).

Unfortunately, there are elements you will never be able to predict with complete accuracy. You may not live to 95 even though you believe it to be true. Future market returns are an educated guess at best.

Instead of waiting for every financial star to align before retirement, consider the following random thoughts:

You’re better off with formal retirement planning, than not. People who begin formal planning early on, five to ten years before retirement, increase the odds of a successful launch date compared to those who begin late or not at all.

A plan which includes a complete inventory of assets, liabilities and future goals coupled with assumptions for inflation and realistic future investment return simulations helps you gain invaluable intelligence early that can be used to create an ongoing action plan to validate positive financial habits and minimize the impact of weaknesses.

A plan is not right or wrong, successful or unsuccessful. It’s not a threat, or a reason to be chastised for poor fiscal behavior. The first iteration is the start of a long-term educational process, an awareness and ongoing tuning of financial strengths that apex at a launch point I call ‘escape velocity.’

Consider escape velocity a financial trajectory that launches a retiree successfully through the first decade of expenses and withdrawals with minimal negative impact to investment assets. Academic studies outline how the first ten years of asset drawdowns is crucial to the survival of a portfolio over the next twenty.

Within a plan, your financial life is run through a simulation to determine probabilities of success which comes down to your money lasting as long as you do (or longer if you wish to leave assets behind for others).

You’ll see, how in the face of withdrawals and changing market returns, your asset values ebb and flow. Through great bull markets (best case), bear markets (worst case hope not) and somewhere in between.

If your assets can make it through the first ten years successfully. And I mean at a 75% or greater probability of success, you are ready to launch into imperfect retirement mode as long as expenses are monitored annually and changes are made to reduce lifestyle expenses.

I’m not saying it’ll be clear sailing. Or you won’t need to adjust mid-flight: Work part-time, cut costs, downsize.

Most likely, you will.

I’m saying there’s a delicate balance at stake. A point of no return to consider.

Either retire early enough to enjoy the experience, forsake a perfect planning outcome, take a leap of faith, or wait until your probabilities of success through the worst market cycle is 95% or greater. By then it may be too late due to health issues and aging. The retirement you hoped for may be one you regret.

You see, this is the art part. When you’re planning to travel a path three decades long, science fades into the dark pitch of road and creativity and faith take over, more often than not.

Mentally, you must let go of perfection and consider multiple detours to navigate the imperfect.

Be overly (insanely) cautious the first five years. Academic work by financial planner, speaker and educator Michael Kitces and Professor Wade Pfau outlines how your asset allocation should be conservative in the early stages of retirement, especially in the face of lofty stock valuations.

Generally, I have retirees reduce equity exposure by 20% at the beginning of retirement and I’m not opposed to holding 2-5 years’ worth of cash or cash equivalents for withdrawals and to eventually purchase stocks at lower prices.

You’re thinking cash doesn’t earn anything. Well, it doesn’t lose anything, either. You can make up losses due to inflation. Principal erosion due to market losses is an entirely different story.

What most investors do not realize currently is that they could hold cash today and in five years will likely be better off. However, since making such a suggestion is strictly “taboo” because one might “miss some upside,” it becomes extremely important for measures to be put into place to protect investment capital from downturns.

Friend and business partner Lance Roberts provides the following chart which outlines the inflation adjusted return of $100 invested in the S&P 500 (using data provided by Dr. Robert Shiller).

The chart also shows Dr. Shiller’s CAPE ratio. We capped the CAPE ratio at 23x earnings which has historically been the peak of secular bull markets in the past. Lastly, we calculated a simple cash/stock switching model which buys stocks at a CAPE ratio of 6x or less and moves to cash at a ratio of 23x.

The value of holding cash has been adjusted for the annual inflation rate which is why during the sharp rise in inflation in the 1970’s there is a downward slope in the value of cash.

However, while the value of cash is adjusted for purchasing power in terms of acquiring goods or services in the future, the impact of inflation on cash as an asset with respect to reinvestment may be different since asset prices are negatively impacted by spiking inflation. In such an event, cash gains purchasing power parity in the future if assets prices fall more than inflation rises.

The importance of “cash” as an asset class is revealed.

While the cash did lose relative purchasing power, due to inflation, the benefits of having capital to invest at low valuations produced substantial outperformance over waiting for previously destroyed investment capital to recover.

While we can debate over methodologies, allocations, etc., the point here is that “time frames” are crucial in the discussion of cash as an asset class. If an individual is “literally” burying cash in their backyard, then the discussion of loss of purchasing power is appropriate. However, if the holding of cash is a “tactical” holding to avoid short-term destruction of capital, then the protection afforded outweighs the loss of purchasing power in the distant future.

Cash is not exciting. However, the excitement at the beginning of retirement should be about the memories you build, not the money you can potentially lose in stocks.

Cover as much fixed expenses as possible with income you can’t outlive. Maximizing Social Security payouts and minimizing taxes on those payments by coordinating benefits received with withdrawals from investment assets, can add thousands to your household cash flow over a lifetime.

Social Security is an income stream you can’t outlive and should not be discounted in your retirement analysis. It needs to be a crucial element of your written plan.

Creating a pension through the use of deferred income or single-premium annuities can supplement social security and bolster your income for life.

Investors fear annuities. Financial pundits on the radio and in print advise how annuities “are bad.” If you’re purchasing annuities, you’re most likely taking money away from them as advisors. Understand the motives behind negative blanket statements about annuities.

Not all annuities are the same.

Consider the word annuity means “a fixed sum of money paid to someone each year, typically for life.”

Social Security is an annuity, right?

The combination of Social Security plus income annuities can be employed to cover expenses you must pay – think rent, food and insurance. Leaving your variable assets like stocks as supplements to your income requirements.

Avoid variable annuities. They are unnecessary and expensive. When you think negatively about annuities, it’s the variable ones you’re most likely referencing.

Decrease cash outflow throughout retirement. The first two years of retirement is a soul-searching expedition. It’s also a period where I witness retirees highly sensitive to stress and anguish from having too much ‘stuff,’ large homes and big overhead.

Reducing financial pressure by going smaller generates great emotional benefits. Monetary bandwidth can be built into your budget. If you’re prepared to reduce portfolio withdrawal rates through rough market periods without seriously inhibiting your lifestyle, then an imperfect retirement mindset can work.

An imperfect retirement strategy is not “set it and forget it.”

Throughout, you must be willing to regularly meet with your financial partner to analyze withdrawals market cycles and adjust accordingly. In addition, you need to be receptive to change and flexibility. Even be open to part-time employment to increase household income.

Because waiting for perfection is not practical or realistic.

And a life is at stake.

Yours.

Seeds: How A Millennial Farms a Retirement Portfolio.

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Posted on July 18, 2015 by Richard M. Rosso, CFP

A version of this writing appears in MarketWatch.

“You’re a farmer now. Will you be a proficient one?”

“Rich, you do realize I work for a startup tech company in Austin.”

“Yes, as I said. You’re a farmer.

What are you planning to grow in your new fields? How will you tend to them? How many can you manage?”

Ely recently earned more seeds than he’s ever held. A six-figure bonus. For this Millennial, a bounty received. Smart enough to seek objective guidance and lay the groundwork for a strategy before the windfall is spread. Not to be cast to the wind. Conditions needed to be perfect for what he was seeking to grow.

“I don’t have fields. I’m from New York City, remember?”

“A seed is an organism. The shell encases life and vigor that will break out and grow strong if tended to as it should be. It works the same for money. Now that you possess financial seeds, you must consider planting them in multiple fields to reap rewards that will sustain you over a lifetime. Picture this…”

Plentiful tracts. Spider webs of rich soil. All different. Tilled with a specific mix of nutrients and attention. Fortified by a plan and philosophy designed to produce opportunities diversified enough to endure changing climates.

Investing for retirement is a robust, varied harvest that may be reaped for decades.

Here’s how an industrious Millennial became a financial farmer.

It starts with a refreshingly different philosophy about life and money. A young farmer’s mindset has the potential to send chills up the spine of every financial services organization that believe stocks are the only crops in town. Wise stewards of money understand that true diversification and investing is more than stocks.

Ely and I call it “holistic diversification.”

Stocks are not ignored; however they represent one field among four deserving attention.

According to Investopedia, diversification is “a risk management technique that mixes a wide variety of investments within a portfolio. Diversification strives to smooth out unsystematic (business) risk events in a portfolio so that the positive performance of some investments will neutralize the negative performance of others. Therefore, the benefits of diversification will hold only if the securities in the portfolio are not perfectly correlated.”

The information then goes on to outline how to diversify with stock investments. If diversification is truly risk management and is a technique that “mixes a wide variety of investments within a portfolio,” why is a portfolio defined solely as a mix of “domestic and international securities?” Is this the “wide variety” that controls or contains risk?

I’m sorry, this definition is not accurate. Farmers shake their heads in disbelief.

Over the years, especially since the financial crisis, stocks have become more positively correlated. In other words, in times of crisis, defensive industries like food and beverage and cyclical growth sectors like industrials have moved increasingly in the same direction: Down. The majority of stocks follow the general trend of the market, especially during bear cycles. So, when diversification among stocks is needed the most, it disappoints the most.

Holistic diversification is grander way to think and invest.

It breaks down mental barriers around money, inspires self-discovery, fosters creativity and generates a thought process where opportunities can seed, plant and prosper in a beautiful lifetime patchwork. Each field requires different levels or types of care.

That’s diversification the way it should be.

Ely (with my encouragement and his self-assessment) re-defined diversification with the wisdom of an investor three times his age (I had him write his philosophy and send to me.)

“I will seed 4 fields with my bonus to increase diversification and wealth: Personal growth (maximize the return on me), my stock and bond portfolio allocation, private investment (perhaps rental real estate or a few startups I’m interested in), and a long-term annuity to help supplement my social security and portfolio income at retirement.”

As you ponder a philosophy that blends life and money in soil where the nutrients are a unique blend of your personal needs and desires, remember to go beyond traditional thinking to cultivate multiple streams of future retirement income.

Cultivate the ROL or “Return-On-Life.” An astute farmer enriches the soil of life by nurturing mental and physical growth. A quarter of Ely’s bonus will seed recreation. A beach vacation, a personal trainer, wine flights, fine dining and a creative writing class.

Return-On-Life isn’t a mathematical calculation. The farmer’s formula is personal. Results are calculated by the health of the bounty from all the fields. A guilt-free plan that blossoms or hones a marketable skill, creates an experience, relieves stress. It’s the spending which provides the farmer a clearer head, endurance and energy to work the other fields to yield maximum output.

Add nutrients to a stock allocation but set realistic expectations. Traditional asset allocation plans deserve attention however farmers have been advised by financial media and popular publications that stocks, bonds, hedge funds and other liquid investments make up the centerpiece of the farm. I was able to help Ely question this guidance: Help him broaden his perspective about planting landscapes and think smaller about the future riches sowed from this area. I needed to set expectations. A likely scenario over the next decade is the returns from this field may reap less return, perhaps close to zero.

Using a formula from money manager Dr. John Hussman of the Hussman Funds to mathematically determine what stock market returns may look like over the next decade, the following result is calculated.

Assume GDP averages a consistent, recession-free 4% annualized growth rate, the current market cap/GDP remains at 1.25 and the current S&P 500 dividend yield of approximately 2% doesn’t change for ten years, forward stock market returns do not appear to aid a formidable bumper crop:

(1.04)*(.8/1.25)^(1/10)-1+.02 = 1.5%

Assumptions are just that: Obviously, change is the only realistic constant. These long-term estimates are based on decade-long rolling periods therefore they are highly inconsistent when it comes to short-term market cycles. Regardless, it allows a farmer to plan and diversify accordingly. The potential of this field is consistently on the radar as resources are directed most often to this space through regular contributions to a retirement plan and a taxable brokerage account.

Plant seeds in unfamiliar terrain with the richest soil for growth. The diversified farmer understands that investing in non-publicly traded ventures is risky, requires patience, yet can reap great personal and financial rewards if the landscape is properly understood and receives the correct balance of nutrients, attention and ongoing provision of resources. Tilling a private field takes passion and focus above and beyond what’s required to sustain consistent pastures. It’s a direction that requires guts to pursue. After all, that part of the farm can go busy, is fragile. A young farmer with vision handles the responsibilities with alacrity and maturity.

Ely set seeds aside for rental real estate to generate passive income and will diversify his farm more effectively than publicly-traded real estate investment trusts that correlate higher small company stocks. He’s also seeking to purchase units of a limited partnership in a wine-tasting venue opening in downtown Austin, Texas.

I’ve experienced a willingness by pre-retirees and recent retirees to invest 5-15% of their net worth in private ventures and small business franchise opportunities as a way to diversify from traditional stock and bond portfolios. It’s a growing trend as investors know they’re not getting the full story on how diversification works. They’re “reading around” Wall Street. Flanking the field, venturing out to undiscovered, fertile ground. I greatly encourage them to take the chance as long as a team we understand the impact of a formidable loss on their retirement strategy.

Grow a pension and supplement Social Security. Safe is a field. It produces the steady, ongoing sustenance a farmer can never outlive. It’s the poster child of proper diversification. An annuity that will provide reliable income to bolster Social Security. The use of insurance to transfer risk in case something goes wrong that sets our farmer back financially in the future, is a smart addition of acreage to the farm. Nothing fancy. Nothing variable: A simple deferred-income option or a single-premium immediate annuity where the farmer knows exactly the bounty to be received on a periodic basis as part of long-term retirement income planning. There’s nothing variable here. No storm fronts that can create loss and vulnerable conditions. Ely believed that this field balanced and fit perfectly into the farm he’s working.

“So you see Ely, you’re a financial farmer. You’re working at a startup in Austin. For the seeds.”

I met with silence at the other end of the phone. Ten seconds max. Felt like 60.

“You know Richard, I understand now. I’m seeking to maximize the fruit of my labor and enrich the other non-financial riches that will blossom.”

I couldn’t have said it better myself. Well done, farmer Ely.

Well done.

Five Financial Sanctuaries that Place your Retirement in Jeopardy.

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Posted on December 1, 2014 by Richard M. Rosso, CFP

Originally appeared in MarketWatch’s Retirement Weekly.

In the AMC smash-hit television drama “The Walking Dead,” a group of road-hardened survivors of a zombie apocalypse seek protection from the undead (and the living who pose greater dangers than cannibalistic walking corpses.)

The fifth-season opener finds the weary characters fighting for their lives against a community of cannibals who lured them to a so-called safe zone called “Terminus.”

Handwritten signs and maps along roads and rails of rural Georgia guided the crew to a final destination, sanctuary was promised for all who arrived.

On the surface, it appeared to be a dream come true. Warm smiles, comforting words, hot food.

Underneath, Terminus was nothing as promised or perceived. Victims were lured in to be placed in rail cars like cattle and eventually slaughtered.

As there is a fine line between fact and fiction, this harrowing situation got me thinking about portfolios in retirement.

Stay with me.

Think sanctuary and think safety. A false tranquility can disarm and open the gates to great risks without your awareness. What lurks underneath your financial safe havens may eventually place your money and retirement lifestyle in jeopardy.

When making financial decisions and monitoring progress based on those decisions, you need to accept when the environment changes; make a move when safe havens turn to Terminus.

Here are five financial sanctuaries that can place a secure retirement at risk right now.

Random Thoughts:

1). Stocks. Market sanctuaries can turn unrecognizable and hostile very fast. As the stock market reaches new highs there’s an ominous feeling of complacency among investors. It’s been over three years since the S&P 500 hit an official correction or greater than a 10% drop from a previous closing high.

Consider October’s volatility a wake-up call as early in the month, the S&P 500 was rapidly moving into correction, small-company stocks and international stocks were officially there and bond yields moved lower (100% of economists predicted that bond yields would be higher by fourth quarter 2014). October concluded much different than it started – with domestic markets headed to new highs.

Underneath the surface of stocks it looks nothing like a sanctuary – Large and mega-cap indexes have outperformed, a sign of a late-stage bull market phase, small-company stocks are recovering but underperforming, which points to risk abatement. It shouldn’t be ignored how cyclical stocks like energy, or those considered beneficiaries of economic expansion, are lagging defensive stocks (think utilities, consumer staples), currently. The outperformance in defensive sectors is usually indicative of market tops and economic peaks.

The Federal Reserve’s conclusion of quantitative easing (bond purchase) program in October signifies a reduction of central bank liquidity that can increase volatility as investors and traders seek to figure out what the next tailwind for stocks is going to be.

The S&P 500 is 24.5% above its three-year moving average (36 months) -one of the widest dispersions from the moving average since fourth quarter 2007. Like a rubber band, over time market returns will stretch far above and below long-term moving averages. Although it’s impossible to know when the band will snap back to the moving average, historical downside going back to 2000 shows when the market does contract, the process is damaging. The worst contractions were 38% and 40% in 2002 and 2009, respectively.

Stocks are protection against inflation until they’re not and you’ve lost 5 years making back what you lost and inflation becomes the least of your problems. By then, you’ll feel trapped and look to re-pave the path of retirement. Whether it’s returning to work, reducing household expenses, cutting how much you withdraw from investment accounts – you’ll be prepared to do whatever’s necessary to preserve capital and slow the bleeding of investment assets.

Create an allocation to stocks that won’t cause you to panic when the bear market arrives (and it will). Don’t be overconfident. Remain vigilant and make sure to follow rules-based rebalancing where you trim gains on a periodic basis. The fourth quarter of the year is a good time to tax harvest – sell positions with capital losses in brokerage accounts to offset capital gains.

2). Index funds. It appears that index fund enthusiasts will stand strong and proudly absorb the blow as their stock sanctuary turns against them. Indexers believe that losses are temporary because in the long-term, stock markets always recover; paper losses aren’t real, they’re perceived as a bump along the path, par for the course. Like the befallen travelers who arrive at Terminus, they are not in touch with the reality of the situation they’re up against.

A sequence of anemic returns or losses in the face of periodic withdrawals can dramatically decrease the longevity of a retirement portfolio. In other words, index funds are no protection against increased drawdown and market risks. At least fees make the losses less painful (or do they?).

The battle among “passive” indexers and “active” fund advocates is growing more heated as the fourth longest bull market in history continues. I consider most of the discussion noise; the headlines are a distraction from the real perspective investors in retirement should maintain:

No matter what you hear out of most financial professionals, stock index funds are not passive. Every investment should be treated as active as soon as it is added to a portfolio.

Look beyond the attributes of stock index funds (and there are quite a few) like low fees, wide industry and company representation, tax efficiencies, and face the traps that will eventually put you in a position to fight or perish.

For example, index funds will experience the full brunt of a bear market attack (because generally they represent the market) which means you as the manager must decide the degree of loss you’re willing to accept. Staying invested is an action; reducing exposure to a losing index investment is an active decision. You are always in control, you always have a choice.

The preachers of passive seem willing to stand by and hope for the best. After all, you can’t control or predict the direction markets. That’s true. However, the amount of capital destruction you’re willing to absorb, is in your control. Consider the potential damage and recovery rate. Your back is against the wall. Are you ready to fight? If your portfolio suffers a 20% drawdown you’ll require 33.33% to break even.

Specific purchase and sell rules must be attached to each investment under consideration. Risk management never ensures against all portfolio losses, it minimizes the damage so you can come back and fight another day. It’s all about survival when it comes to the end of world (and your money).

Also, when you invest, depending on stock market valuations, is extremely relevant to future returns.

According to market historian and writer Doug Short, $1,000 invested at the peak of the market in the S&P 500 on March 24, 2000 would be worth $1,248 (adjusted for inflation) as of November 2, 2014, which equates to a 1.53% annualized real return.

Despite the mainstream marketing message (especially among indexers) designed to convince you that “time in the market” is a sanctuary, there have been many periods in history where you simply “ran out of time.” When adjusted for inflation, there are several 20-year periods in history where market returns have resulted in either low or negative outcomes.

Index funds have most likely outperformed your managed investments on the upside during this bull market; that doesn’t mean they’ll hold up better through market declines. And when you buy, based on market price/earnings, has a significant impact on future returns. At nearly 26 times earnings based on the cyclically-adjusted P/E ratio, “time in the market” may not be as beneficial over the next 20-years. It just may be a Terminus for your portfolio.

3). Retirement account withdrawals. The 4% withdrawal strategy is too generic to be effective yet it’s treated like a universal rule and preached in mass to new retirees seeking comfort after a long journey of employment. It’s as worn as the warped, wooden signs guiding The Walking Dead survivors to a place they perceive as refuge, but really is a trap.

Based on work by Sam Pittman Ph.D. and Rod Greenshields, CFA of Russell Investments, the first step to creating a retirement withdrawal that protects against longevity risk, is to calculate the ratio of current assets to the present value of forecasted retirement spending. This is called your current funded ratio. It’s a popular method pension administrators use to determine the fiscal health of their expected payouts for participants. Few advisers will consider this method and go straight to a withdrawal rate calculation that doesn’t account for an individual’s overall financial situation or household balance sheet.

The current-funded ratio method requires matching assets to liabilities to determine whether there’s adequate coverage over living expenses and inflation throughout retirement. A ratio of 100% or greater, especially during the first decade of retirement, is indicative of a greater chance of avoiding outliving a nest egg. If the present-value funded ratio is estimated to be less than 100% in ten years, adjustments to withdrawal rates or living expenses can be made before withdrawals occur. The ratio should be calculated every three years or after a sequence of below-average portfolio returns.

The strategy is called adaptive investing. Ask your financial partner about it to see if makes sense as part of your retirement planning process.

4). Company stock concentration at the beginning of retirement. Many retirees are hesitant to manage their net worth tied up in company stock, especially in the early years of retirement. Their human capital may have left the company and enjoyed the retirement party but the emotional attachment to the stock continues strong, and is possibly dangerous.

More than 25% of liquid net worth in company stock, leaves a retiree either “the butcher or the cattle,” a philosophy the tenured residents of Terminus believe. It’s a great tailwind to net worth and retiree psychology when an overconcentration to company stock is performing well hence the butcher. When the investment is performing poorly, a vulnerability to the retirement plan arises which becomes an emotional and financial drain to the retiree and others in the household.

A formal plan should include an exit strategy for company stock within 5 years of retirement. Work down to a 10% allocation which will satisfy your attachment need but won’t derail the early years of retirement. In addition, it can allow you greater diversification potential and liquidity to meet living expenses.

5). Your broker. Someone asked me once – “Are you a broker?” I replied – “No. I’m not here to break anything, I’m here to help.” Joking aside, you may be very comfortable with your current financial relationship; consider if you have an understanding of the motives behind your adviser’s employer. Perhaps you never gave it a thought.

Ask this question: “What is your sales goal and how do I fit in?”

Yes, most in the financial services business are salespeople. Nothing wrong with it as long as your needs are met and full disclosures are made. However, maybe you’re looking for something more. I believe this question gets to the heart of a financial firm’s true motivation. Then ask: “How do you feel about your sales goals?” Are they perceived as fair by your financial partner? Ask another: “How much time will you spend with me, my planning needs and investment accounts?”

Get specifics. Ponder the answers, then consider: Are you a one-time sale or an ongoing relationship, or a bit of both?

In a recent podcast interview with self-help author and investor James Altucher, success coach Anthony Robbins shared candid insights from the experiences writing his new book, “MONEY Master the Game: 7 Simple Steps to Financial Freedom.” He explains how the financial system is designed to prosper the needs of shareholders, not investors. My take: A key is to know what questions to ask and seek answers that are simple and transparent.

“There are 312 names for brokers, today,” Tony mentions. “I’m so supportive of people that are fiduciaries, people that are trained and who are legally required to look out for you. I’m looking for people who are fiduciaries and sophisticated.”

I believe disclosure of sales goals is important. Understanding if your adviser is a fiduciary and focuses on your interests first, or a broker that has his or her employer’s objectives as a primary focus, will help you find the right long-term partner or clarify a relationship you currently enjoy (or question).

The investing climate for retirees can be scarier than fleeing from flesh-eating zombies.

Even worse are times you believe you’re safe; conditions change, you fail to acknowledge the shifting environment or realize that a financial sanctuary has turned hostile.

It’s always better to be the butcher than the cattle.

Perhaps that fiendish Terminus crew were on to something after all.

Four Words To Better Retirement Planning.

Posted on June 17, 2014 by Richard M. Rosso, CFP

As originally posted on http://www.nerdwallet.com.

What are the obstacles that cause you to veer off course when it comes to retirement planning?

Increasing your odds of planning success shouldn’t be so complicated.

Solutions are obvious. There’s no magic.

Small changes in perspective or actions can lead to better results.

Hey, it’s never perfect either.

Remember the two main goals of the financial services industry:

1). To baffle you enough to sell you something you don’t need.

2). To force-feed you long-term bull market Kool-Aid to make you think stocks are a panacea (30% portfolio losses: Hey, no big deal. You have time on your side).

But you’re smarter than that, right?

Right?

My former employer’s retirement simulation is so happy-go-lucky and optimistic (because every market is a bull market), it reminds me of Homer Simpson’s happy dream romp through chocolate town.

It’s toilet paper.

Don’t fall for the hype. Don’t even wipe with it: You’ll get a rash.

Maybe it comes down to simplicity.

Let’s start with four words.

Random Thoughts:

1). NO. Recall the habit of lending money to friends and relatives who rarely make efforts to repay. It’s time to make your retirement strategy a priority and use the word “no” often. You don’t need to explain. It’s an uncomfortable but necessary perspective. At the least, you’ll need to be selective, perhaps formal in your agreements going forward. The health of your retirement plan is at stake.

If you’re passionate about helping, consider the support provided, a gift. Set rules at first if saying “no” is difficult. For example, establish a specific dollar amount in the budget for purposes of lending. Never lend to the same borrower twice in the same year. Decrease the allotment by ten percent every year until eventually it’s so insignificant you’ll feel too embarrassed to say anything but “no.”

“No” is personal empowerment. Think of the word as a boundary – A verbal line in the sand that deepens the territory you’re clear won’t be crossed. “No” is a confidence builder. It allows greater focus on the “yes” you need to succeed.

Consider how postponing or decreasing saving for retirement by placing priority on education savings plans or by taking on excessive debt to assist children with college funding deserves a “no.”

Naturally, you want your children to prosper however, when the time comes to retire, there’s no loan, financial aid or scholarship opportunities available to you. The kids have options for funding. You don’t. A hardline “no” isn’t necessary; a change in perspective followed by action may be good enough.

Understanding when a “no” is necessary to avoid a derail of your plan is art and science. A set of rules and setting expectations can help clarify when a “no” needs to surface. Perhaps you can partially subsidize education costs or seek compromise (a public, in-state option vs. the private university cost).

In eight out every ten plans I’ve designed, retirement is postponed by at least six years when parents decide to foot the entire education bill. Saying “no” to full boat means your retirement boat floats sooner. I’ve witnessed retirement postponed a couple of years in most cases when compromises are made – a big improvement over waiting six years.

Mitch Anthony, author of the book “The New Retirementality” describes the modern retiree as trying to strike a perfect balance between vacation and vocation. In other words, maybe the perfect retirement plan is to say “no” to retirement. The traditional perception of retirement is indeed dying.

I work with a large number of part-time retirees who consult or are employed a few days a week to keep their minds active and say “yes” to continued contributions to the workforce. Meaningful engagement in a work environment is important to this group however, those retirees who do work are ready to say “no” at a moment’s notice if their employment situation grows unenjoyable or less meaningful. They have much to offer and their experiences and skills are valuable.

As best-selling author and good friend James Altucher told me:

“Never say no to something you love, so you never retire.”

His new book co-written with Claudia Azula Altucher, “The Power of No: Because One Little Word Can Bring Health, Abundance and Happiness,” will be necessary reading and provided to those I assist with retirement planning.

Ponder the “no” opportunities. Start with the actions you believe postpone or negatively affect what I call “retirement plan flow” which is anything that prevents your plan from firing on all cylinders.

A client recently said – “I even stand straighter when I say no. It makes me feel good.”

2). WAIT: The most common mistake I encounter are retirees who look to take Social Security retirement benefits before full retirement age when waiting as long as possible can add thousands in additional dollars to a retirement plan.

I’ve had to say “no” to clients seeking to retire at age 62. And I’m not ashamed. What’s three more years? It goes fast. And waiting can be lucrative. According to a 2008 study by T. Rowe Price, working three years longer, waiting until full retirement age, and saving 15% of your annual salary could increase annual income from an investment portfolio by 22%. If you can handle five more working years and save 25% of your annual salary through that period (takes some work), then expect a surprising 50% more income in retirement.

Delaying Social Security benefits from full retirement age to age 70 will result in an 8% increase plus cost-of-living adjustments. Where else can you gain a guaranteed 8% a year? Of course, nobody knows how long they’re going to live but if you’re healthy at 62 and there’s a history of longevity in the family, it’s worth the risk to wait until at least full retirement age.

3). SELL: Based on a recent paper written by Michael Kitces, publisher of The Kitces Report and Wade D. Pfau, professor of retirement income at the American College, reducing stock exposure at the beginning of retirement then increasing over time is an effective strategy for reaching lifetime spending and portfolio survival goals.

The heart of the research is “Plan U” (for unorthodox in my opinion) — a “U-shaped” allocation where stocks are a greater share of the portfolio through the accumulation/increasing human capital stage (makes sense), decrease at the beginning of retirement, and then increase again throughout the retirement period.

The concept of reducing stock exposure early in retirement and increasing it later sounds highly counterintuitive – although from a market and emotional perspective it’s plausible, especially now.

First, be sensitive to your mindset as shifting from a portfolio accumulation to distribution strategy can be stressful. Focus on financial issues to allay uncertainty like (don’t let greater stock exposure add to stress), household cash flow and retirement portfolio withdrawal strategy. Gain and monitor progress with a financial partner or objective third party at least every quarter for validation and adjustment. The first year of retirement is an opportune time to step back from stocks especially as you feel uncertain and occupied with what I believe are more immediate concerns.

Second, stocks are not cheap based on several long-term price/earnings valuation metrics. Selling if you’re close to, or at retirement can be an effective strategy. Regardless, you may need to rebalance to free up enough cash to begin retirement account withdrawals by trimming profits in the face of lofty valuations.

Not a bad idea. Yes – sell, not buy.

As of the end of May, the P/E 10 which is based on the ten-year average of actual corporate earnings stands at 24.9. Since the historic P/E 10 average is 16.5, the current bull indicates an extreme overvalued condition.

Last, even though the key word is “sell” don’t forget to periodically add back to your stock allocation. Get the topic on your radar and continue the “U” formation after two years in retirement have passed. By then, you should have greater confidence in your overall plan and settled into a lifestyle pattern that suits your well-being.

4). SHIFT: Be open-minded and willing to alter plans as required. After two devastating stock market selloffs since 2000 and structural changes to employment including the permanent loss of jobs, we are growing accustomed to dealing with financial adversity – shifting our thinking to adjust to present conditions. Actions outside your control – poor interest rates on conservative vehicles like certificates of deposit, can disrupt retirement savings and cash flow. On average, the Great Recession has motivated out of necessity or fear, the desire for pre-retirees to work longer and continue to carefully monitor their debt burdens.

In addition, shift your thinking about continuing to save aggressively in retirement accounts as you get closer to retirement. If 80% or more of your investments are in tax-deferred plans, and you’re five years or less from your retirement date, I would consider meeting the employer match in retirement plans and saving the rest in taxable brokerage accounts. This strategy affords greater flexibility with tax planning during the withdrawal phase as generally, capital gains are taxed at lower rates than the ordinary income distributed from retirement accounts.

A qualified financial and tax professional can create a hybrid process where funds are withdrawn both from tax-deferred and after-tax assets. The goal is to gain tax control by not ending up in a situation where ultimately all distributions are in retirement accounts which will ostensibly be taxed as ordinary income. Your strategy requires close examination of how to blend all investment account distributions to minimize tax impact.

Shift your attitude about annuities. Look beyond the bad press and overarching negative generalizations you hear from financial personalities in the media – “Annuities are bad.” Are all annuities bad? No.

Several types of annuities exist. Some come with overwhelming add-on features and are difficult to understand. You’ll know when to step away. Others are expensive and should be avoided. For example, variable annuities with layers of fees are a bad deal. I find little benefit to them in retirement planning.

The greatest purpose of an annuity is to provide an income you cannot outlive. In its purest form, an income annuity whether immediate or deferred can be used to bolster the lifetime income from Social Security.

As you budget, total how much is required to meet household essential expenses, indexed for inflation: Rent, mortgage, utility bills, real estate taxes, food, gas, automobile payments (you get the picture). From there, work with an insurance representative (could be your financial partner), to calculate the investment required in a deferred income or immediate annuity to cover mandatory expenses along with Social Security.

An annuity investment takes over some of the burden of funding retirement; it shifts risk to an insurance company which increases the odds of portfolio longevity and or having the money you seek for fun stuff like travel and hobbies.

Retirement planning satisfaction can happen.

Occasionally, we create obstacles by accident.

Simple words can be powerful tools to cut away the confusion and settle your mind.

What other words will you consider?

Hey!

Not that one!

Out of the Mouth of Babes (It’s Not Just Cupcakes). Why Your Kids Are Better Investors Than You Are.

Posted on April 22, 2014 by Richard M. Rosso, CFP

“Kids say the darndest things,” Tammy Wynette.

It’s fun to teach the future generations about money.

Well, most of the time it is.

Those under thirteen tend to be an overly-excited group known to blurt out whatever is on their minds often at the surprise of adults in the room.

I always make sure to have plenty of treats for everyone at the end.

Since it was later in the day, the fourth grade class that made the journey to the office recently was especially ravenous, however I wasn’t going to change the routine-we learn at the beginning, ravage the cakes at the end.

This batch of cupcakes was especially fresh and frosty. But it didn’t matter: I wasn’t going to deviate from the plan I’ve used for years.

Out of the mouth of babes – lessons and behaviors we’ve clearly forgotten. As adults we are relentlessly bombarded with the noise of daily living and sometimes we just don’t see things clearly based on our own biases. Children are overwhelmed with stimulus too, however they don’t have as entrenched a filter and they’re willing to see things as they are and happy to share an opinion.

There are wise words coming from the mouths of babes if you only listen.

Random Thoughts:

1). Do homework first – Many of the kids believe that before you make an important purchase, you do your homework. Now, their homework may not be as sophisticated as yours, however investors tend to forget, especially when the markets are more erratic, that emotions can overwhelm the desire to dig into facts.

We take action first out of fear or panic and deal with the repercussions later. The kids always seem surprised how many adults will buy and sell investments based exclusively on what they see or hear on television and radio. Mind you, these young students think it’s perfectly ok to purchase a breakfast cereal based on media, however acquiring an investment or “something that can go down,” (their words not mine) requires more time and effort.

During market extremes it’s timely to take your portfolio’s pulse (and yours) to determine whether you’re comfortable with your asset allocation plan-the division of assets into stocks, fixed income, cash and other investments. If your portfolio is gyrating more than the market up or down and you’re uncomfortable, homework is required to narrow down the investments causing the turmoil.

From there, it’s time to decide (based on the homework not heartburn), to take one of three roads as you evaluate financial holdings: Stay the course, buy more, or sell the investments causing distress. Again, base these decisions on your tolerance for risk and then maintain that risk profile through good and bad cycles.

2). Buy low – I know this sounds flippant or simplistic-for the mature crowd, buying low is easier said than done. They children believe they should try their best after research, to buy low into investments or at least they hope to accomplish this on a consistent basis. We teach the kids patience when they want a new video game, it’s time we teach ourselves some patience and let asset prices come to us. I know. Good luck with this one, right?

3). Buy what you understand – Another easy one, (in theory anyway). The kids feel strongly about buying what they know or understand. Occasionally, we make a portfolio allocation too complicated by purchasing investments we don’t fully grasp. There are a plethora of vehicles on the marketplace that are based on currency movement, bet against the markets or particular industries, and promise appetizing returns when the market is directionless.

What is the impact to the overall portfolio? If the addition appears overly complicated and you can’t explain it to a listening party, you may be better off passing on it. A complicated strategy is not necessarily a better one. Your investment plan needs to be realistic, actionable and comfortable based on your personalized goals and aspirations.

4). A sell Discipline, what’s that? – Children seem to embrace the idea of selling investments and moving on. For some of us grownups, this can be a challenge. We tend to be resistant to rebalancing or we allow one investment to swallow up a major portion of the portfolio, resulting in more risk. If you don’t have a discipline around buying and selling assets to restore your portfolio to an original target allocation, then ultimately you’re not controlling risk. Rebalancing requires a contrarian nature whereby you’re shaving down what’s done the best and adding dollars to those asset classes currently out of favor.

A concentrated position means that a stock, industry or sector makes up a disproportionate share of your total portfolio, usually 20% or more. The end results is more volatility in the portfolio as the key driver of returns, good or bad, depends on the performance of a large holding. Investors are sometimes reluctant to trim concentrated positions due to the tax implications of a large capital gain or an anchoring to a past price to minimize a loss. It’s important to maintain perspective on the risk as first priority.

5). Wait patiently for cupcakes at the end – Investing takes patience and a willingness to be disciplined. There must be goals established and when those goals are met, the sweet reward is certain to follow.

It was tough for the kids to focus on the lesson at hand with treats waiting; the children eventually learn that shortcuts to the baked goods don’t exist especially through my lessons! It’s similar with investing. We too, as adults, want our dessert first or seek to get rich quick based on shortcuts.

Ostensibly, when the market are not cooperating, back-to-basic strategies like saving more, decreasing debt or extending the time needed to reach a financial goal are usually the best.

What will you learn from the children today?

Keep an open mind and you may be surprised.

Taking Stock In Your Kids – 4 Initial Steps To Get Children Excited About Investing.

Posted on April 17, 2014 by Richard M. Rosso, CFP

As featured in http://www.nerdwallet.com.

Begin talking with the kids about investing sooner rather than later.

Interestingly, many parents find it awkward to discuss stock investing, especially with their young children. Some adults don’t feel confident in their abilities to do research. What I’ve discovered is the discussion with young children actually helps less confident parents become better stock investors.

The conversation raises the bar for teacher-parents and the children willing to learn.

It’s a win-win.

There are several milestones to reach. The adventure begins with these simple steps to consider when it comes to engaging the children.

Random Thoughts:

1). Build excitement – Creating passion around the investing process is important. Begin with a dialogue around the children’s brand loyalties (and they start at an early age). When I was young, I drove my parents crazy: I always “needed” the latest Mattel’s Hot Wheels car or Hasbro’s G.I. Joe action figure. I would only eat Kellogg’s Frosted Flakes, not the store brand.

So, what products are your kids passionate about?

Create short-term activities to build interest. Come up with a deadline for completion. For example, have the children begin and maintain journals of the products and services they like or use. Have them track the prices of those items over the internet or when you head to the stores. Remind the kids how the family is excited to hear about what they’re thinking and plan a family gathering around the topic.

One family created a big event around the journals. They had the children select their own notebooks and personalize them with money-related and other types of stickers. The kids paid for the supplies out of their allowances which created a stronger connection to the project.

2). Organize a family discussion – Once the children share their information at a family gathering, expand the discussion to include the products and services the family purchases or uses on a consistent basis, say at least twice a week. From soap to shoes, batteries to bandages – leave everything open for investigation. Nothing is off-limits. Now, you’re building a research list!

3). Watch your words – I’ll never forget when my uncle who was a specialist on the floor of the New York Stock Exchange, explained how I had the ability to own part of a large company. I was hooked. Wait: A poor kid from Brooklyn can own a piece of McDonald’s?

How does that happen?

The language used around stock investing is important to help the kids gain healthy perspective and a sense of pride in their selections and the investment experience, overall. The phrase “buying a stock,” is confusing when compared to “ownership in a company,” which in essence is what you’re trying to help the children embrace.

The concept of “stock” is nebulous for the younger ones to comprehend so it’s best to keep the language simple. Using words to connect ownership to investing creates a long-term investor mindset. You don’t want the children to focus solely on stock price movement; it’s best for them to strive to build discipline by focusing on the long-term value of a business – and all because you provided the perspective.

4). Begin with the concept of sales – It’s a good idea to introduce one simple concept before you begin specific stock-research homework. I’ve found kids relate well to the concept of sales. Whether you’re talking lemonade, girl-scout cookies, or school-related fund drives, children have an uncanny ability to understand that sales are positive and can lead to personal reward. It’s the same for a business. Generally, the more goods or services sold, the more favorable it is to the stock price over time.

You don’t need to work through these initial four steps alone. Partner with a financial advisor to facilitate the discussion or utilize books and other resources to jumpstart the process.

I recommend the book “Growing Money: A Complete Investing Guide for Kids,” by Gail Karlitz and Debbie Honig. Easy to understand and designed for children ages 8-12.

Want to engage the kids about several money concepts? There are 7 great money apps for kids reviewed by NerdWallet including my personal favorites – Virtual Piggy and Bee Farming.

You don’t need to wait (like I did) until you receive verbal cues from the kids to begin the engagement about investing.

You may never get them.

Even as early as age nine, you can begin a dialogue.

In the next report, I’ll take the investing discussion to the next plateau.

Until then, begin the conversations, start the journals, ignite the passions.

And the kids will never forget.

Happy Financial New Year – Five Different Paths to Money Success.

Posted on January 3, 2014 by Richard M. Rosso, CFP

Media is flooded with pundits spouting 2014 financial resolutions. Heck, I’m on radio and television talking up the same.

Increase savings in retirement accounts, pay down credit card debt, check your insurance coverage for gaps – all good advice.

But.

We already know this stuff. It’s drilled into our heads.

Every year.

It’s fine to be reminded of the healthy financial actions we should take.

Yet, what stops us from following through?

Before you ponder money improvements for 2014, think outside the box – deviate from the worn financial paths you have attempted to walk before.

This time you’ll succeed if you take five different paths.

1). Don’t save everything for retirement. You read it right. It’s been drummed into you how a secure financial future depends on maximizing contributions to tax-deferred options like 401(k) accounts. But how important is it, really?

A.J Leon, writer, motivator, world explorer, big thinker, in his book, “The Life and Times of A Remarkable Misfit,” outlines 16 simple steps to make money and lose respect – Step 4 is: “Never invest in yourself. Instead sock every last penny in a 401(k) that may or may not be there to greet you when you turn 65.”

Many employers have a difficult time understanding retirement plans. From the hundreds of plans examined, I notice an overwhelming trend of bland choices coupled with high fees.

For some it’s best to settle on government-approved choices called “target-date” funds. They’re the prevalent cookie-cutter choices in your company retirement plan. Basically, they’re an all-in-one mix of mutual funds packaged and wrapped in another mutual fund, thus called a “fund of funds.” The mix of stocks, bonds and cash is designed to match up to the year you decide to retire.

For example, it’s 2012 and you’re 40 years old. You are planning to retire at 65 (good luck). You decide on the “BlahBlah Fund 2037.” Easy.

The logic behind a target date fund is simple even though underneath, the design is complicated and investment philosophies can deviate dramatically depending on the mutual fund family your employer utilizes. In other words, the returns of the Blah-Blah Fund 2037 compared to the returns of your buddy’s La-La Fund 2037 will most likely differ, sometimes radically.

Let me clarify: Each fund creates a “glide path,” which means the blend of investments should gradually become less aggressive the closer one gets to retirement or the target year.

Per research by Zvi Bodie, the Norman and Adele Barron Professor of Management and Jonathan Truessard, Lecturer, both at Boston University in a 2007 paper “Making Investment Choices as Simple as Possible: An Analysis of Target Date Retirement Funds,” target date funds are approximately following the well-known rule of “100 minus your age,” for the stock portion of the mix. And this smelly piece of financial dogma needs to be abolished. Now.

Target-date funds require refinement. For those who invested their tax-deferred dollars in 2008 target-date options, hoping to begin withdrawing the money in 2008, were in for a rude awakening when their accounts suffered by over 21%.

Consult an objective financial advisor; select a balanced fund. If your choices are limited to the target-date variety, cut the “maturity” date in half. Your estimated retirement date is 2020. That’s six years away. Go for fund 2017. Be prepared for a 2008 surprise.

Contribute up to the employer match. Don’t leave free money on the table regardless of choices, either.

According to Federal Reserve data, the average U.S. household maintains an outstanding credit card balance of over $7,000. Based on numbers provided by www.bankrate.com, the average annual percentage rate or APR for variable-rate credit cards stands at 15.37%; fixed-rate cards stand at 13.02%.

Maybe, just maybe, your 401(k) account returns exceeded 13-15% in 2013 so it was worth carrying a credit card balance. Long term, it’s a bad financial choice. Instead of maxing out saving for retirement right now direct financial resources to pay credit card debt off in full.

2). Consider your human capital. Quantify your worth. You are your greatest investment. I know it’s tough to think this way, to choose yourself, but it’s true. Return on self-investment is wealth yet to be achieved.

How will you increase your value in a challenging marketplace? Perhaps it’s a new skill necessary to move ahead and above a nascent U.S. economic recovery.

If a continuing education opportunity exists or improvement options are available to increase your income, do it. You’re probably never going to retire anyway and when you do decide, it’ll be much later than age 65 so maximize the ROY (return on you) today.

Check out a Human Capital Calculator here.

3). Get your head straight. My friend Shanna and I discussed this topic, recently. If you are jealous of those who have prospered financially and you communicate negative sentiment to others, you’re digging a toxic mindset hole that will be tough to escape.

Don’t talk yourself out of empowering money habits. It’s the lazy way out. Jealousy is an energy sucker, a cash drainer. Change your mind set in 2014. Your brain will believe what you repeat to yourself, to others. Ask more questions of those you “envy:” How did you meet your goals? What are the daily habits you follow to gain greater financial independence? What did you learn from your mistakes? Learn from others, don’t push them away.

Teacher, mentor, investor, best-selling author James Altucher advises:

“You have a house. You need to keep the house clean so the right guests can arrive and feel comfortable. If you clutter it with anger or envy or scarcity or fear then abundance won’t feel comfortable moving in. I say this not from a position of comfort but because when i was dead and buried, i had to clean the clutter to make my life work. And it was hard because when the house is cluttered, your mind gets depressed and lazy.”

4). Stocks are not an end-all investment. Don’t be pushed into believing stocks are the panacea the financial industry tells you they are when it comes to fighting inflation. According to Jim Otar, creator of the Retirement Optimizer and author of several books on retirement planning expanded on this topic for a recent interview:

“Many advisors are under the assumption that stocks always beat inflation. This is not true. Equities beat inflation only during the long-term bullish trends, which occupied 43% of the last century. During the remaining 57% of the time, equities did not beat inflation.”

Rental properties, oil & gas interests, angel investing (can be RISKY), inflation-linked securities, deferred-income annuities can also battle inflation and diversify a stock portfolio.

5). Stop the competition. I hear it often: My friends are the same age and they have: More cars, more savings, more stuff.

Stop.

First, friends embellish.

It’s called the endowment effect.

Second, your best financial life begins today.

Don’t look back.

It’s never too late.

Third, forget the stuff.

Travel lighter.

Down five alternate paths.

And discover long-lasting financial success.

Reversion to the Mean is a Bitch – 3 Ways to Avoid Getting Killed When The Next Market Pullback Occurs.

Posted on November 26, 2013 by Richard M. Rosso, CFP

Dear friend and teacher Lance Roberts’ writings get my attention.

Admittedly, his work feeds my confirmation bias as we tend to agree on most topics, especially when it comes to stock market valuations, the macro-economic climate, reversion of averages and most important – the mistake of benchmarking a portfolio to a market index like the S&P 500 or as I call it:

“My brain and ego are both bigger and smarter than the market as a whole.”

Investment managers who claim to consistently beat the market also will boast how they’re above-average drivers, lovers, parents.

Bull.

Avoid them.

It’s this kind of performance-based thinking (or lack of it) that seduces investors to take portfolio actions based primarily on greed. Or fear. Most investors generate above-average returns, didn’t you know?

Until the math is done to prove how well below-average their returns are.

Some compare their lousy returns to a friend’s (embellished) performance and grow frustrated enough to place their risk tolerance aside and create portfolios which are too aggressive for their nature. At the first sign of market pull back I’ve watched these investors sell everything and ostensibly suffer unnecessary losses.

As people we are bigger than life in our own heads.

It’s that kind of myopic ego-based bullshit that can take over the mind of a money manager who then takes on more risk at the wrong time. And if your money manager is getting increasingly aggressive NOW, then this is the WRONG TIME.

And it’s with your money.

Lance’s recent piece 30% Up Years: The Case For “Cashing In” resonates with me.

The writing doesn’t need explanation – it’s perfect as is. It requires an awareness. The messages shouldn’t be minimized even though we are in a favorable market environment which is based in part on seasonal factors along with money managers’ desire to play “catch up” on returns as they close out the year.

In other words, we have moved beyond fundamentals into momentum territory. Just be aware!

It’s ok to participate if you understand what’s driving stock returns. If you believe it’s primarily fundamentals, you should stay out now. Stick with short or ultra-short term bonds and go live your life. Be happy.

Don’t fool yourself.

At this later stage of a cyclical bull market, self-denial, hubris and financial industry media will get you in trouble.

Investors and their financial partners must remain vigilant of risks of markets drunk on unprecedented Federal Reserve policies and publicly-traded corporations who continue to book record profit margins by treating employees like indentured servants.

In case you’ve been under a rock: Corporations survive solely to placate shareholders and buy back shares.

Employees and customers have limited influence on senior management. It’s worse since the financial crisis.

As former U.S. Secretary of Labor Robert Reich lamented recently through social media:

A few decades ago, when American companies were still American and when corporate profits still bore some relationship to the wages of most Americans, the nation fretted over the “competitiveness” of U.S. corporations. But now that the stock market has gone through the roof while most Americans are in the cellar, that old worry seems a bit quaint. For example, Walmart, America’s largest employer, …is highly competitive internationally. Yet it claims it can’t afford to pay its U.S. workers more than the miniscule wages it doles out to them. The claim is dubious. According to data compiled by Bloomberg, Walmart has bought back about $36 billion of its stock over the past four years, and in June announced another $15 billion of stock repurchases. The effect is to bolster the value of the remaining shares of stock.

Corporations will overwork labor and continue to perpetuate wholesome corporate philosophies driven underneath by limited vision, anemic research and development, and an ongoing fear that’s pumped into the brains and hearts of their employees.

The message by middle management remains pervasive: “Be thankful you have a job,” is still heard in meetings (I’ve asked. I know). The words are considered “motivation.”

Unfortunately, many workers are too frightened to leave or are saddled with too much household debt so they continue to languish in their soul-sucking corporate positions.

Perhaps your employer is different.

Uh-huh.

Hey, as a money manager, I love it!

It’s one of the reasons, even though I’m cautious, that markets can continue to do well through the end of the year and first quarter of next.

At this mature stage of a cyclical bull market, it’s important to avoid allowing your hubris to go haywire. Don’t believe you’re just so damn good, your next goal should be to “beat an index.”

Here are Lance’s rules as to why it’s impossible (along with my commentary); I’ll add three ways to let keep yourself in check as markets eventually revert to a mean:

“While Wall Street wants you to compare your portfolio to the ‘index’ so that you will continue to keep money in motion, which creates fees for Wall Street, the reality is that you can NEVER beat a ‘benchmark index’ over a long period. This is due to the following reasons:

1) The index contains no cash. And you should always have cash. Cash is an asset class, cash is for withdrawals, cash is the ultimate diversification, cash is there to make attractive purchases.

2) It has no life expectancy requirements – but you do. Stocks for the long term? Can you wait 30 years to break even when you purchase at lofty valuations? NO.

3) It does not have to compensate for distributions to meet living requirements – but you do. You also should maintain two years worth of distributions aside for living expenses in retirement.

4) It requires you to take on excess risk (potential for loss) in order to obtain equivalent performance – this is fine on the way up, but not on the way down. Losses are tougher to make up. If you lose 50% you’ll need 100% to get back to even.

5) It has no taxes, costs or other expenses associated with it – but you do. If you invest you’re gonna have fees, commissions. There is no free lunch when it comes to expenses.

6) It has the ability to substitute at no penalty – but you don’t. Commissions, taxes will drag on returns.

7) It benefits from share buybacks – but you don’t. On occasion you benefit from a stock that now has better EPS due to buybacks, however, there’s no consistency to this for you.

In order to win the long term investing game, your portfolio should be built around the things that matter most and beating an index isn’t one of them. It’s great for cocktail party conversation around holiday season, but that’s about it.

Here’s what’s important. Never forget:

* Capital preservation (A lost opportunity is more easily replaced than lost capital).

* A rate of return sufficient to keep pace with the rate of inflation.

* Expectations based on realistic objectives. (The market does not compound at 8%, 6% or 4%. Losses destroy the effects of compounding returns).

* Higher rates of return require an exponential increase in the underlying risk profile. This tends not to work out well.

* You can replace lost capital – but you can’t replace lost time. Time is a precious commodity that you cannot afford to waste.

* Portfolios are time-frame specific. If you have 5-years to retirement, but build a portfolio with a 20-year time horizon (taking on more risk), the results will likely be disastrous.

Three ways to avoid losing your ass, right now:

1). If you must commit capital to stocks 5 years after the financial crisis, go SMALL. Let’s face it: You missed the big ship. Go for the dinghy and be happy. Keep your stock allocations below 50%. Keep the rest in short term fixed income or yes, cash.

2). Work with an advisor who will calculate your required return. To meet a personal benchmark. THEN WORK BACKWARDS into the asset allocation plan. Most financial consultants are there to sell you product, not to calculate your desired return. And remember generating return takes work on your part, too – Increased savings, lower debt-to-income household ratios. working longer. There’s no sexy magic here. If you’re being sold an investment first: WALK.

3). Now is the time to stop listening to friends and family about stocks. The extremes in sentiments will confuse you. Aunt Millie sold out in 2009 and won’t go back. She’s awaiting the “big one,” the crash. Joe went “all in” two years ago and is up a billion percent. There’s a happy medium. Cut the noise. Create rules, work the numbers. Understand where you are behaviorally when it comes to risk. Does your adviser assess you behaviorally or utilize some bullshit risk tolerance questionnaire which tells you nothing about yourself.

Pay the 40 bucks, take the test and bring the results to your advisor. Most likely, you’ll need to do this before you sit with a financial pro.

Finametrica.

As Lance writes so perfectly: “The index is a mythical creature, like the Unicorn, and chasing it takes your focus off of what is most important – your money and your specific goals. Investing is not a competition and, as history shows, there are horrid consequences for treating it as such.”

Be thankful for good advice this year.

Know your limitations.

Accept who you are from a risk perspective.

Work with an objective financial partner who listens to you.

And get your ego out of your portfolio.

When the Financial Industry goes Ape: Escape from the Planet of the Bell Curve.

Posted on November 18, 2013 by Richard M. Rosso, CFP

I was (am) a huge fan of the iconic Planet of the Apes movie franchise.

The original films: Not the attempts at remakes.

Shameful.

“

You blew it all to hell – I blame financial services.”

Every six months, in the early 70s, there was a Saturday “Go Ape” marathon at the Brooklyn neighborhood movie theatre (the Mayfair), which provided parents a rare opportunity to unload the kids for an early morning into late afternoon.

God knows how many children were conceived during an Ape-A-Thon weekend. We would sit all day (or try) and watch all five POTA movies in the original order they were released to theatres – Beyond the apes, revenge of the apes, beneath the apes. Ushers dressed as apes. It was magical.

The Sunday after Ape Day was a time of rest and repulsion for anything hairy (I didn’t even want to pet the dog).

Confusion set in for me after the third installment of the simian series (Escape from the Planet of the Apes). To this day, I’m still puzzled.

Movies with any hint of time travel remain a frustration.

After watching (and taking notes like an asshole) the film “Inception” six times I still don’t understand what the hell happened at the end. My mind, the ability to think, falls into a black hole if I’m required to follow a story line through space, time, dreams.

I work to follow the sequence but I tune out in a huff.

Lord forgive me. I’m just not that smart.

Let me try this again.

The ape planet turned out to be Earth (shocker!). Got it. Andddd the astronaut (Taylor, played by Charlton Heston) who landed on said ape planet eventually blows it (Earth) literally to pieces by triggering a massive nuke. Worked through that ok. After that? It’s a time forward/backward hot mess.

The first talking ape (Ceasar) born on Earth alters the course of history in 1991, I think. Planet of the Apes begins! Ceasar’s mom Zira after getting loaded up on too much “grape juice plus” aka champagne slurs out that Earth blows up in the year hmmm 3950. That’s how she says it: “Hmmm, 3950.” Like a drunk monkey.

Zira tipsy on “Grape Juice Plus.”

SO the parents of the ape who began a simian revolution in 1991 saw Earth blow up in 3950 and the astronaut who landed there in 1970 was responsible. You see where I’m going with this? I should think it through but I’m just not patient or perhaps, smart enough. Frankly, I don’t desire to be this clever.

Confusing yes, yet still more logical than the financial industry’s holiest grail:

The dreaded “normal” bell curve.

The sinister creation that almost ended my career, my professional life.

I’m habitually a big fan of anything curvy, but this one is deadly. A dead man’s curve – obviously my mental train of thought derailed early on believing in this myth.

I was brainwashed to believe in this curve from the very beginning of my career.

I trusted my teachers.

Why the hell not?

The curve is so logical, clean, warm, comfy, rational, explainable and seductive to us investment types. It’s easy to sell to the masses. It makes brokerage firm compliance departments happy.

The curve provides financial services firms who churn out assembly-line advice, an academic free pass. Empirical justification to ignore the research which followed, proved how the curve was a mathematical convenience, not realism (Mandelbrot & Taleb inspired words of beauty, not mine).

I asked my former employer and others to remind me why we believe in this damn thing.

No answer.

I experienced a flashback: I was back in high school and the popular girls were ignoring me again.

“You get a load of Rosso’s man boobs? And he’s only 15!”

Back to the curve:

It’s a mathematical Snuggie of sorts.

It frees hours to sell financial product – Set the money and forget it because stock price movements are random anyway. Don’t stress out. There’s a study out there that proves I can sell you an homogenized portfolio solution and move on. I have sales goals!

The curve provides a sense of accomplishment, finality to a risk management process that has no end. Frankly, during one of the greatest stock market bull cycles in history (which is gone 13 years now), it worked.

The Gaussian curve when applied to portfolio construction or risk management, underestimates risk. It applies an “everything is gonna be alright,” attitude to every stock market cycle as if every one is a secular (long-term) bull market.

The curve disregards the big moves that wipe you out financially. Huge moves that deviate from the average are well, ignored.

Heck, when you think about it, the curve does describe investors and markets perfectly, right?

Humans are so rational and logical. I guess curves which apply to them should be too?

The curve fooled, “assured me” the failure of Long Term Capital Management was an event that should have occurred every 4,000 years. Unfortunately, I wasn’t reading enough Mandelbrot, Minsky, Taleb or Otar.

No problem. Next disaster I’d be long, long gone.

Easy enough.

Then.

The tech wreck happened.

Still believed. Was told again by my former employer, to believe.

“Yep, I was Natalie Wood. The curve was my Santa gone bad. Bad Santa!”

Then the financial/housing/banking crisis kicked us in the groin five years ago. I think of Hans Moleman from The Simpsons getting his noids smashed by a football.

But this time I wasn’t going to be fooled.

No more Hans Moleman. On the ground. In the fetal position.

Nope.

Oh..

Here’s how some of my questioning to those smarter than me at my old firm went in 2007 when sub-prime issues were gnawing at me. I asked the same questions in 2010. Amazingly, I received identical responses.

Both times I asked.

“Can there be another financial crisis say, like the Great Depression?”

I was told:

“The odds are unlikely.”

I would have received a smarter response by shaking my Magic 8 Ball.

And yet. Still.

Why did I believe the bullshit?

Drink the Kool-Aid?

Live and learn. I’m sorry.

The mass assembly-line financial services firms still tout the curve.

And they’re going to seduce you with it again as this cyclical bull market rolls on. Fall for it and it’ll plant your money like a talking human right in the middle of “Ape City.”

“You cut his brain you damn, dirty apes!”

Don’t be a slave to the “normal” bell curve.

Here’s how to avoid the pitfalls.

Random Thoughts:

1). Realize you’re not rational which means markets aren’t either. First, my thought is, as people, we’re one breath away from becoming unglued like the crowds killing each other over $2 waffle irons at Wal-Mart during a black Friday midnight sale.

Here’s your bell curve: Rational investors on black Friday.

As systems are managed by people and we are emotional beings, panics can and will occur more frequently than a Gaussian Curve indicates. Much more. And how many financial disasters do you need before you’re ruined? Oh you know the answer. JUST ONE.

Per Benoit Mandelbrot (he was a math guru for good, not evil) & Nicholas Taleb, the 1987 stock market crash based on bell-curve finance was something that could happen only once in several “billion billion” years.

If my math is correct, disastrous years 1987, 1998, 2001, 2008 are a hell of a lot shorter in span than a billion billion years apart!

Per the curve and those who preach it, stock markets are estimated to blow up in hmmm, the year 3950?

Don’t be delusional like Zira overdoing the “Grape Juice Plus,” aka champagne.

2). Know the facts. Ed Easterling from Crestmont Research is a pro who debunks the validity of the bell curve and its application to stock market gyrations.

Ed provides return frequencies over 101 rolling ten-year periods. What does it mean and how does it destroy the bell curve theory?

The average return of the 101 periods is 10 percent. However, as Ed states “average rarely happens.” And the curve lives for the average.

Historic returns are “barbell shaped,” not “bell curved.” Plain to see.

If more returns circulated around the average, the blue bar would be more pronounced.

Stock market returns outside of the neat and tidy world the financial industry tried to create, tend to cluster and prices have a “memory” of sorts and gust like wind.

When you step back, it makes sense?

3). Where does your adviser stand? Ask the question. As an adviser, I can’t ignore the damn thing however I’m well versed in its pitfalls. Market price changes are more “messy.” Less bell curvy. Price movements are not as uniform as the curve outlines.

If your adviser believes hook, line and sinker in this curve, you’re going to lose your ass. Time for you to find another professional while times are good.

“Markets keep the memory of past moves, particularly of volatile days, and act according to such memory. Volatility breeds volatility; it comes in clusters and lumps. This is not an impossibly difficult or obscure framework for understanding markets. In fact, it accords better with intuition and observed reality than the bell-curve finance that still dominates the discourse of both academics and many market players.” Mandelbrot, Taleb.

4). Large market swings are NOT anomalies. Financial professionals and they’re clients are told to believe that large market swoons are rare – like as rare as Earth being overrun by smart, talking apes seeking to enslave you.

Listen, nobody can predict when a disaster is going to strike; being open to the fact that it can happen more often than once every 5 billion years is a fine start, however.

How Fractals Can Explain What’s Wrong With Wall Street.

Print the article from Scientific American. Send a copy to your financial partner for discussion.

You may be surprised (or shocked) by what you find.

Perhaps it’s your portfolio’s destiny to beware the curve.

Planet of the Apes (1968)

Dr. Zira: What will he find out there, doctor?
Dr. Zaius: His destiny.

The Bond Markets are Downright Spooky! Don’t Panic! (Slight Panic).

Posted on June 10, 2013 by Richard M. Rosso, CFP

Richard Rosso.

The bond markets are downright spooked. Or are they??

It all depends on your perspective.

How much media hype can you absorb (and believe me there’s a feeding frenzy going on in the financial media) without running from bonds like victim trying to fruitlessly escape from “Leatherface,” the psycho killer in “The Texas Chainsaw Massacre.”

You cannot escape!

What is a bond? Well, boys and girls a bond is a debt. You loan money to a corporation, a government, a municipality and for that you privilege you receive interest payments (income) and eventually, if the borrower is high quality, you’ll receive your original investment back (no this not like lending to your brother-in-law). And when interest rates go up, your bond may be worth less (if you try to sell it before it matures). Most important, when interest rates rise…..

IT’S THE END OF THE WORLD FOR BONDS!!!!

Look! A bonderoid just hit!!!

You would think we’re smack in the middle of the zombie apocalypse and bonds are biting and infecting portfolios. It’s World War B! (Sorry Brad Pitt I stole your cinema thunder for WWZ, coming to a theatre near you, soon).

Look there’s a zombie cat in World War Z!!!

So, let’s take a breath and examine this situation with level heads, shall we? Master Blogger, best-selling author, friend James Altucher advises readers, followers, to take deep breaths and hold for 4 seconds (or 4 ticks in the 10-year Treasury note yield).

Ok. Are we relaxed? Let’s get excited again!

Because..

OMG OMG OMG OMG!!! (MEDIA UNCUT INTERPRETATION).

Yes, is the short-term whoosh a bit unnerving in treasury yields? Sure. Most troubling, as bond prices were falling (due to rising interest rates), stocks were faltering too, especially the more “interest-rate” sensitive groups like utilities, MLPs, REITs. Overall, every asset class experienced a respectable pummeling.

The positive connection was a bit scary as I have diversification phobia. Based on research and observation, true diversification has become a challenge, especially since the financial crisis. As I’m paid to help clients reach personal financial benchmarks and manage portfolio risks, I’m a forever student on this topic.

Despite what you hear from the financial services industry, diversification is not some form of panacea. Yes, it’s important, however true diversification is becoming tougher to achieve these days. So, when bonds don’t provide diversification to the movements in stocks, it brings back night sweats circa 2008.

Some of my research for my second book leads me to the mysterious topic of diversification. Reading takes me back to the 1920’s: 1920-1929. From the writings of stock market sages long dust in the ground. From the defunct but once iconic “The Magazine of Wall Street.” Featured briefly in the recent remake of “The Great Gatsby.” Those movie people sure do their homework! I was shocked by the authenticity.

Here’s a meaty excerpt from October 23, 1926 I thought you’d enjoy:

“Diversification in securities is an art understood only by a few (comment: nice to know nothing’s changed) but remains prime necessity if the investor is to gain the greatest degree of safety without sacrificing the possibility of profit. To spread one’s cash among a number of different issues is not necessarily diversification.”

Strange. I’ve asked a few brokers what they believed diversification was and received the response: “To spread one’s cash among a number of different issues.” Hmm.

I miss you, 1926.

Stay with me. Hold the line.

“To diversify properly, it is necessary that a certain portion be allotted for safe-keeping and another portion for income and profit producing.”

I like that. So when bonds and stocks begin to move in the same direction, it causes me to sweat just a bit, become more aware of the macro conditions (mostly sweat).

Oh, where were we? Oh right: The move in bond yields.

And we have been deep-breathing, correct?

So. Oh yeah.

OMG OMG OMG OMG! Let’s think a bit longer term, shall we?

Yields are still lower than 2012, and even lower than 2011. Whew. Perhaps the sell-off was/is an overreaction. You mean we overreact in the bond markets now too? Sheesh!

I can hear the cry now: Has Ben Bernanke abandoned us?

Awww, heck no!!!

Now, now dry your eyes. Let’s review why BB is still supportive of risk assets and bonds are not as terrifying as everybody seems to believe:

1). First unemployment is nowhere near the Fed’s target of 6.5%. And based on past interest rate action higher or lower, we know that the Fed moves like an aged Fed Governor’s gait on ice. My favorite chart by Bill McBride shows how far the economy still needs to go before we even reach peak employment (pre-financial crisis). It’s like 62 months already. Is the situation improving? Yes. Slowly. However, the bond market is reacting like the economy is ready to reach escape velocity and we’re going to see major hiring right around the corner. It’s all about aggregate demand, stupid. And speaking of such.

According to the BLS (the Bureau of Labor Statistics):

Within leisure and hospitality, employment in food services and drinking places continued to expand, increasing by 38,000 in May and by 337,000 over the past year.

Retail trade employment increased by 28,000 in May. The industry added an average of 20,000 jobs per month over the prior 12 months. In May, general merchandise stores continued to add jobs (+10,000).

Health care employment continued to trend up in May (+11,000). Job gains in home health care services (+7,000) and outpatient care centers (+4,000) more than offset a loss in hospitals (-6,000). Over the prior 12 months, job growth in health care averaged 24,000 per month.

So, if my math is correct 94,000 out of the 175,000 jobs created in May were in lower-paying industries of the economy.

My favorite waitress at Cracker Barrel restaurant, Jessie Lou, does a great job. I’m certain she consumes. I know I’m a good tipper too. That doesn’t mean Jessie Lou has a lot of spending power. I’m thinking Ben Bernanke is examining the quality of the underlying jobs too before he decides to alter his actions.

2). Households are still deleveraging. A fancy way of saying they’re paying down debts. They’re not maxing out credit cards or using their houses as ATMs anymore. You see, corporations can shore up their balance sheets relatively quick, in a few quarters. It’s not the same for households. It takes time for household balance sheets to heal. Progress is happening. We’re just not there yet. I mean what are you gonna do? Fire the kids to lower expenses? No. You spend less (see below).

3).Nobody rings a bell, blows a whistle, no Paul Revere stuff happens when it comes to the reduction of a bond buying program. A metric doesn’t exist which helps markets gauge when the Federal Reserve decides to “taper” or stop their grand experiment so markets attempt to decipher what Bernanke says and then overreact to the overreaction.

Even when BB is crystal clear about his intentions, traders, investors, the media are seeking the meaning behind the meaning and taking out their guesses on stock and bond prices. Tell me if you heard this – If the economic news is bad that means the stock market will like it and head higher. If the news is really good that’s good too because that’s a signal that the Fed can unwind gracefully. Huh? Frankly, all of us involved with investments are guessing at best.

There’s no way to judge how the Fed extracts from this zero/low interest rate experiment but believe me the world is watching. It’s like taking a shower with the curtain open and having all the heads of global central banks sitting on the bathroom floor watching, waiting.

It all reminds me of one of my favorite games as a child – The Milton Bradley classic – “Operation.”

With a skilled hand you use tweezers to reach into “patient Sam” and extract all types of hilarious body parts – Adam’s Apple, Butterflies in the Stomach (a plastic butterfly), Spare Ribs.

Now the challenge is the plastic ailments are tiny. The openings within “Sam” are slim, so you must go in and extract without touching the metal edges of the openings with the tweezers, otherwise a loud buzz goes off and Sam’s red nose lights up like a Christmas bulb.

Right now, Bernanke has the tweezer on the Funny Bone and if he doesn’t use a steady grip to extract, he’s going to set off the buzzer on panic and stock, bond markets will light up red. Not an easy feat (and it won’t be funny). Appears BB has a real dilemma on his hands.

Markets will remain volatile and trade off headlines as we go through summer.

What to do?

FIRST, DON’T PANIC!!

Now..

1). Decrease your bond durations to 3-5 years. In other words, speak to your broker, adviser and have them decrease the interest rate sensitivity in your bond portfolio. Investors are not going to totally abandon bonds but we are going through a re-evaluation of bond yields which will drive you crazy.

4). Dividend-based and interest-rate sensitive stocks are beginning to look attractive again. For example, the exchange-traded fund XLU, which holds, well, S&P utility stocks, has worked off an overbought condition. I’m waiting for a positive MACD crossover before I enter. As of the close of business on Friday, June 7, the twelve month yield is 3.86% according to Morningstar.

Overall, we live in interesting times and our grand interest rate suppression experiment will make history.

For now, all we can do is breathe.

Random Thoughts of a Money Muse

Stories of Life. And Money. On the Fringe.

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