In Jeremy Grantham’s latest quarterly letter, he profiled a story about Sir Isaac Newton in which one of the most highly regarded intellects in human history was lucky enough to enter the South Sea stock bubble rather early.  He stayed in long enough to make some money and then, most likely feeling good about himself, sold his holdings at a nice profit.  After the stock continued to rapidly appreciate, his friends began to brag more and more about how rich they were becoming from investing in South Sea stock.  Kicking himself for having made such a foolish mistake by cashing out at such a paltry profit, Sir Isaac dumped much more than he had invested the first time into the stock.  Of course, this time the bubble was perilously close to the top and he made the fateful mistake of riding the bubble burst all the way down before selling out on three separate occasions with hardly anything left to show for his original investment.

Gravity in the Stock Market

There are several lessons in this story.

1. Don’t get carried away no matter what type of circumstances surround an investment.
2. Remember that even smart people get burned by stock bubbles.

For these reasons, we’ve designed our strategy to help fight these feelings.  The stock ranges we establish for each of our clients (and ourselves) act as a discipline, helping to control those visceral responses to booms and busts in the markets.  Making calls of where we should be at a given time within those ranges is a large part of our research process.  So the next time your emotions make you feel like you want to act, remember Mr. Newton’s experience. With a sound and solid investment strategy, you can fight these very human urges that are born out of the fear and greed that dominate the average investor’s decisions.

Reasons for Optimism

We are not even six months removed from a period when many economists were predicting we’d see a double-dip recession.  Bob Veres, author of Inside Information, wrote a piece back in September that discussed some important counter-points to the bearish prognostications that perpetuate the the wall of worry a bull market typically climbs.

If you’re feeling a bit gloomy about the economy and the markets, you have a lot of company these days.

All of this gloominess is leading investors to search for alternatives to corporate stocks–including gold and cash equivalents like CDs and Treasury bills.  One online blog is titled “Nine Adult Entertainment Stocks to Weather the Recession;” it recommends Playboy and several providers of “mature entertainment” in hotel rooms.

There’s only one problem with following the herd down this gloomy path, or stuffing your portfolio with gold and smut.  In the past, people have been least optimistic about stocks and the economy right before the economy recovered and the markets produced higher-than-average returns.  Business Week published its famous cover article entitled “The Death of Equities” in August of 1979, after the stock market had sustained serious losses and the long-term health of the U.S. economy was in doubt.  The article noted a massive flight of investors from the market–right before one of the longest and most powerful bull runs the market has ever seen, which would take the S&P 500 index from just over 95 in 1979 to more than 1469 over the next 21 years.

If you want an extreme view of gloom and doom, then consider this quote from Time Magazine:  “In a normal rebound, Americans would be witnessing a flurry of hiring, new investment and lending, and buoyant growth. But the U.S. economy remains almost comatose a full year and a half after the recession officially ended. Unemployment is still high; real wages are declining… The current slump already ranks as the longest period of sustained weakness since the Great Depression.”

Sounds pretty awful, right?  Except that this is a quote from Time’s September 28, 1992 issue, talking about the gloomy prospects for the economy coming out of the 1990-91 recession.  It reflected the mood of economists and the country at large–and, with the generous benefit of hindsight, we now know that this severe downer of an article was followed by a 16 year economic boom in the U.S. economy, without a single down year until 2008.  The S&P 500 ended calendar 1992 at just over 435, and climbed, with more ups than downs, to just over 1576 at the peak in 2007.

There are good reasons to be cautious in today’s economy and investment markets.  We don’t know what the markets are going to do tomorrow or next year.  But the good news is that everybody else doesn’t too.

Photo Credit: kevindooley

Many of our newer clients have come to us with old 401(k), 403(b), 457 and Simple IRA accounts from previous employers.  Some even have multiple IRA accounts, often from past rollover situations.  It’s important to have qualified professionals to help you decide on what to do with your inactive qualified plan and multiple IRA accounts.  Whether you are changing jobs, entering retirement or simply wanting to consolidate your accounts, we can help you with each step of the rollover process.

Should you always Rollover a 401k?

There are a few options for dealing with an inactive qualified plan including:

• Rollover the account into a self-directed IRA account, such as a traditional IRA.
• Rollover the account into a new employer-sponsored plan, if allowed under your current plan’s rules.
• Rollover the account into a self-directed IRA account, then convert all or a portion of the funds to a Roth IRA account (after careful tax analysis).
• Leave the account at the current custodian and bring your investment options in line with a comprehensive portfolio strategy.

Despite popular belief, it is not always best to rollover an old employer plan.  Certain custodians offer favorable investment options or have special tax provisions (the North Carolina employees’ Bailey provision, for example), meaning  it could benefit you to leave your account at the current institution rather than combining the funds into another account.

We have experience in dealing with many different custodians when it comes to the rollover process.  For our investment management clients, part of our service is to request and complete paperwork while monitoring the rollover process.  If you are interested in combining inactive qualified accounts, please feel free to contact us.  Your advisor will research the best approach for your individual situation and determine if a rollover is the best choice for you.  If it is, we’ll get the process started as soon as possible.

Not yet a client and unsure if a rollover is right for you? Contact us to schedule an appointment to review your financial picture and develop a plan that will help provide the answer.

Smartphones and other portable devices allow the user to stay connected from even the most remote locations.  Social networking sites like Twitter and Facebook have amplified the chatter to a level that no one would have dreamed of at the beginning of the millennium.

A troubling byproduct of this flood of information is the ease with which extreme messages are being propagated.  From cable news shows to the blog-o-sphere, we are being bombarded with ideological beliefs that are driven mostly by emotion and have little use for facts.  During turbulent times especially, irrational views can become pervasive because they touch emotional nerves that otherwise would not be as sensitive.

A Ratings Game

Avoid Extremes

Larger than life persona’s on both ends of the spectrum do their best to keep us all in a constant state of anxiety because they know that if we are provoked enough we will continue to tune in.  The name of the game is ratings, because higher ratings translate into higher advertising revenue.

Glenn Beck and Michael Moore are polar opposites on the political sphere, but they have more in common than either one of them would care to admit.  The challenge they face is trying to blend editorial content within a format that is meant to entertain.  They both endeavor to create an emotional response in their audiences by enhancing certain aspects of the subject matter while leaving important details out that would possibly cause a different reaction.

Motivation that was born of their formative experiences is altered by a cycle of capitalistic one-upmanship that can distort even the purest of intentions.

Unfortunately, blurring of the lines between truth and fiction in the information landscape is all too common, and often the consequence for the consumer is drawing a conclusion without having heard the full story.

Separating Fact from Fiction

Keeping fact separated from emotion is an important part of our job and something that we spend a great deal of time doing.  A healthy dose of skepticism is necessary, as we have found that even the most respected source of information can often be influenced by their biases.

We employ various methods, such as quantitative research, to enhance the opinions and analysis gathered from our trusted sources.  We also talk to people in our industry as well as our clients to get a perspective as to how others are experiencing the economy.

There is no easy solution to charting the course that we feel will provide the best opportunity for success.  By remaining consistently disciplined in a long-term approach to investing, we believe that we can gain an advantage by filtering out the noise.

Photo Credit : truthout.org

The Dreaded Check Engine Light

Check that Engine!

One of the more standard ways your car will alert you of a problem is by triggering the check engine light.  Usually once illuminated, the check engine light can be decoded by running a diagnostic test on the car.  When we first meet with clients, we’ll often hear the statement, “I want to make sure I’m doing all I can with my investments.”  By running our version of the diagnostic test each quarter, we spot tune-ups and efficiencies that otherwise may be missed.  Our checklist includes:

• Handling required minimum distributions
• Identifying opportunities to fund more tax advantaged accounts (Roth IRA’s, IRA’s or qualified plans)
• Verifying funds will be available for short-term cash needs
• Minimizing transaction fees
• Evaluating if a lower cost investment could fill the role of a current one
• Determining if any accounts can be transferred for cheaper or better investment options
• Considering if any other account openings or transfers would be beneficial (college planning accounts/life insurance/1035 exchanges/annuities)
• Keeping investment allocations in line with your risk capacity and our investment themes

Some of these items occur every year and some every quarter.  Staying on top of each one keeps your portfolio in good working order.

Photo Credit: Robert Couse-Baker

This is the third and final installment of our “Behind the Scenes” series.  It is our hope that this series gave our clients a more transparent look at our business so they can better understand the diligence we employ with each client review.

Are your Investments Growing?

Controlling Your Emotions?

Morningstar, an independent investment research company, compiled returns for how the average mutual fund investor did during the 2000’s. The research added a layer of analysis to the total return calculation by also tracking the cash flows in and out of the mutual fund.  They wanted to see what the performance looked like if you took into account additional buys and sells in the fund during the same time frame.  Then they compared the findings to the buy-and-hold strategy that mutual funds use to report investment performance.  What the findings show is that most investors suffer from bad timing as they get in when prices are high and get out when prices are low.  This is a reflection of how market forces can drive investor emotions and result in behaviors that cause poor relative investment performance.

Slow And Steady

Another interesting discovery is how fund companies provide different investing experiences for the average investor.  The institutions that stick to fundamentally sound investment principles were proven to have better investor returns relative to total returns than those companies that use a short-term, current-trends marketing strategy to attract investors.

Financial Symmetry’s composite results for the decade were an average annual rate of return of 4.93% compared to the average annual investor return of 1.68% across all funds.

Photo Credit: TheGiantVermin

Watch Out For Potholes

Photo Credit : me and the sysop

Unfortunately, with an investment portfolio we don’t always hit a pothole or get a steering wheel shake to let us know it’s time for realignment.  In fact, when investors do begin seeing bad returns, it often leads them to make bad choices with their investments resulting in costly mistakes. We have become well aware of this natural human tendency which is why we rely heavily on our research themes.  By conducting our investment review process quarterly, we can review client portfolios and realign according to our research themes if necessary. During our analysis, we monitor how closely the client’s current investment mix matches our long-term investment strategy.  We also measure the level at which our clients’ stocks are positioned within the allocation ranges we establish during our initial planning work.  If the stock percentage is above or below the range, we know an adjustment should be made.

Mental Accounting

Photo Credit: gutter

Many investors have a tendency to bucket their investment accounts.  They assign different purposes for their accounts which in turn require different investment strategies for each account.  For an investor to reach their optimal portfolio return, we feel it’s vital to have a coordinated investment strategy across all investment accounts.  Qualified plans give us the best example of this philosophy.  Many investment choices offered in 401k’s and 403b’s are limited compared to what you might be able to access in other accounts.  In a 401k, there may be a great international fund choice but only average domestic choices.  In this scenario, we may want to use the attractive international investment for all the funds in the 401k and surround it with more quality choices in other accounts where we have more investment selection.

I’ll Owe More in Taxes?!?

Photo Credit: krossbow

Don’t let the tax tail wag the investment dog.  In other words, there are times when heavy realized gains in a holding could lower the motivation to sell if you were strictly looking at the scenario from a tax perspective.  However, if this same security represented 75% of the portfolio and was comprised of one individual stock, the concentration risk would most likely outweigh the desire to hold on to the stock to avoid incurring a large capital gain.  Decisions such as these take careful evaluation and can only truly be assessed by taking the “big picture” into consideration.

Other Factors

Our investment review process allows us to assure our client’s portfolio is in good working order. To accomplish this, we also consider specific factors such as a client’s age, family relationships, tax considerations, risk levels, and the latest notes and communications with the client to assure we are not missing any potential improvements that could be made to their overall investment situation.  Our investment review process helps us take great care in assuring our client’s investment mix matches their risk preferences. Do you have a review process for your investments?

This is the second part of a 3-part series we’re calling “Behind the Scenes.” It is our hope that this series will give our clients a more transparent look at our business so they can better understand the diligence we employ with each client review.

Photo credit to Michael (mx5tx)

UNDER THE HOOD

In order for a car to stay in good working order, regular maintenance is required.  For investments, our routine maintenance checks occur regularly as we apply our review process to client portfolios on a quarterly basis.  If you popped the hood on our system, you would first notice the engine, our unique research process.  To keep this engine running at a high level, each member of our investment team spends time uncovering their own individual research in order to keep the bearings well-oiled.

We regularly conduct monthly meetings in which we discuss and debate our opinions to develop overarching economic themes and strategies.  These strategies are derived from multiple thought-provoking writers, money managers, and trusted economic researchers.  We also employ several statistical models of our own which are the basis for our estimate of the markets fair value.  After running through likely scenarios and or debunking biased theories, we craft our own strategic calls that we feel hold the most potential for future returns.  Several examples of questions we investigate while making these assumptions include:

• What is a healthy balance for splitting assets between US/Foreign holdings?
• Based on market valuations, which position should we be targeting in your allocation ranges?
• What specific sectors are likely to benefit going forward?
• How long of a maturity and what grade of quality should we be targeting with our bond holdings?
• Do large or small companies possess more potential return?
• Is any particular asset class over or undervalued?

AVOID IMITATIONS

When you encounter a maintenance issue with your car, there can often be ancillary problems that crop up if you try and make the fix with an imitation part.  To have the most confidence, you would prefer to replace with a part made by the manufacturer of the car for the best performance long-term.

The second leg of our unique research process is very similar as we are searching for specific funds to make a client’s portfolio run more efficiently. We run multiple screens in hopes of discovering quality funds that could potentially earn their way into our preferred fund rotation.  These funds go through a rigorous 18-point qualification test which helps us to judge if they deserve the right to be discussed in our Security Selection meetings.  These meetings, which also take place once a month, are where we peel the onion on funds we are considering for usage in our client portfolios.  We do our best to put a fund through the ringer, by evaluating everything from how the manager is compensated, to judging the culture of the mutual fund business.  Once a fund makes the initial cut, we try to find reasons why not to include it in our preferred list.  Several questions usually develop at this stage that gives us a reason to interview someone at the fund company.  Only after this type of meticulous analysis do we upgrade a fund to be used in our client portfolios.

This is the first part of a 3-part series we’re calling “Behind the Scenes.” It is our hope that this series will give our clients a more transparent look at our business so they can better understand the diligence we employ with each client review.

If you have not yet made the maximum contribution, you still have time!  Tax payers have until April 15^th of 2010 to make their Roth contributions for the 2009 tax year.  If you are within the income limitations to make contributions, a Roth IRA is an excellent investment account as investment growth is tax deferred and withdrawals in retirement can be tax free.  For 2009, single filers are able to fund their Roth IRAs with 100% of the contribution limits if their income is below $105,000.  Their amount of contribution availability drops if they are above the $105,000 and are phased out completely at $120,000.  For Married Filing Joint taxpayers, income restraints begin at $166,000 and end at $176,000.

Looking forward for 2010 contributions, contribution limits for this year have stayed the same.  This includes the limits for the Roth and Traditional IRAs and the majority of employer sponsored plans such as 401ks and 403bs. A very good practice is to contribute enough of your salary to receive at least the employer match.  Also, pay raises often present an easy opportunity to increase your deferral, while reducing your adjusted gross income.

The contribution limits for nearly all types of retirement plans are listed in the following chart:

Our wealth management service monitors your income and determines every year how much you should be contributing to each of these investment accounts.  It also reviews your income tax and estate picture, which may provide opportunities for tax savings.  If you are interested in this service, please contact us.

“Advisor Perspectives” recently reviewed the predictive ability of the star rating system over a full market cycle and the results of their study were similar to our experiences.  In a recent letter published by Robert Huebscher, he states, “We concur that the ratings are not an effective forward-looking measure, but that is not how they are used in the industry.  By calling this calculation a rating, Morningstar imparts at least the implicit endorsement of higher- rated funds and an expectation that their relative performance advantage will endure.”

To read the full article and learn more about fund performance over a full market cycle go to:

http://www.advisorperspectives.com/newsletters09/Morningstar_Ratings_Fail_over_a_Full_Market_Cycle.php