Our investment approach is a bottom-up, fundamental research method that emphasizes the importance of individual stocks and companies, as opposed to a top-down approach, that focuses on larger, hard to predict themes such as the economy, politics, and market moving events. We believe this approach allows us to withstand short-term fluctuations, by avoiding the noise of short-term, volatility inducing events. Rather than begin with a theory about the direction of the economy, then develop expectations about which sectors will rise or fall, then choose a company within that sector, a process that layers broad assumption on top of broad assumption, we search out good companies across a wide swath of sectors and industries. From there we conduct due diligence on management teams and financial statements, comparing and assessing these companies based on very specific criteria. Our opinion of the economy and the stock market is then derived from our collective view of the companies we own and follow for our clients.
To be clear, we are constant students of what is happening on the domestic and world economic and political stages, but our analysis of these events plays a supplementary role. Take the election for instance. We can’t claim to know what the future holds, but there is always the potential for short-term volatility following an election. Like any other major event, we will watch eagerly, but will make our investment decisions for the long-term. In fact, history suggests, the short-term volatility following any election is a poor predictor of future stock market returns, especially for the subsequent 12-month period. According to Bloomberg, the S&P 500 index fluctuates an average of 1.5% the day after an election. While this is no small amount for a one day market move, gains and losses predict the market’s direction for the next 12 months less than 50% of the time. A few months down the road, we will likely add this presidential election to the list of recent over-hyped events which includes the Russian-Ukrainian Conflict, the Greek Debt Crisis, the Chinese GDP Slowdown, and Brexit. Following the election, stay tuned for the next big media sensation, the Fed’s December decision on interest rates.
The Social Security Administration announced that the 2017 cost of living adjustment (COLA) for Social Security will be 0.3%. While this is nothing earth shattering, something is better than last year’s nothing! Regarding Medicare Part B payments, according to an article written by Mary Beth Frankel of Investment News:
“By law, the majority of beneficiaries are protected by a “hold harmless” rule that says their Social Security benefits cannot decrease from one year to the next due to an increase in Medicare Part B premiums. In other words, the increase in their monthly Medicare Part B premiums, which pays for doctors’ visits and outpatient services, cannot exceed the dollar amount increase in their Social Security benefits.”
Also, Social Security taxes will be paid on wages up to $127,200 for 2017 up from $118,500 for 2015 and 2016. As always there remains no wage limit for Medicare taxes withholding. If you have any questions regarding either Social Security or Medicare please do not hesitate to contact us.
Those clients with an IRA (non-Roth), SIMPLE IRA, SEP IRA, or retirement plan account must generally take a withdrawal upon reaching age 70½. The amount you must withdraw is called the required minimum distribution (RMD).
Beginning in January we reach out to our clients that will have an RMD within the year to help them through the process of taking their RMD. The amount you are required to take for the current tax year is listed on the last page of your monthly account statement under the “Distribution Summary” section. You will be able to view your required gross amount, any federal and state tax that was withheld, and the net amount of the distribution. To help you with your cash flow planning, this amount will be updated throughout the year depending on how and when you take your RMD. Your distribution may be taken in a lump sum payment, monthly, or quarterly installments.
If you have questions regarding your RMD, or if you aren’t sure if you have taken your RMD this year, please give us a call and we will be happy to help you.
A Critique of the Article “Four Things That Could Go Wrong Now.” Wall Street Journal 10 Aug. 2015, R1. Print.
The Wall Street Journal, and other publications like Barron’s, periodically advises its readers to prepare for the next financial crisis. These articles are largely aimed towards the retail investor and can be found in the “Journal Report” or “Investing in Funds & ETFs” section of the Journal.
Where They Get it Right:
The Journal rightly brings to the reader’s attention the need to prepare for negative market events: The ability of the tech sector to bring down the market again; The Chinese stock market decline and the potential for failure of the Greek Bailout; Past and future missteps by the Federal Reserve and central bankers around the world; The inevitable bursting of the bond bubble (whose existence we can debate for hours another time…). The Wall Street Journal hits the nail on the head when it comes to the idea of being ready, being cautious, and safeguarding your portfolio from global financial upheavals.
Where They Get it Wrong:
First, let’s be honest. If you are young and have a long time horizon, time itself is the best safeguard. Not panicking through market downturns and dollar cost averaging over a lengthy career smooths volatility and lessens buy high sell low behavior. But time is not on all investors’ side and being proactive is important. Let’s look at some recent advice from the Wall Street Journal:
Risk: Overheated tech stocks come back down to earth.
WSJ Solution: Don’t over-allocate to the tech sector (okay, this is sound advice), buy long-term put contracts, and place stop-loss orders on tech stocks.
Our Take: Buying long-term puts can cost upwards of 2.5%, a hefty fee to protect against an event that isn’t a given. Puts, which give the holder the right, but not the obligation, to sell a security at a set price, appreciate if the underlying security depreciates in value. If the underlying security appreciates, the puts expire worthless.
With stop-loss orders a sell-decision is triggered by a loss of a pre-determined amount set by the investor. Selling a stock simply because it has declined in price may result in selling a good company just because it has a bad day, or worse, because the sector has a bad day. The decision to sell a stock should be based on the valuation of that stock, or because the long-term ability to keep competitors at bay, and margins high, has been eroded.
Risk: The Chinese stock market continues to decline and the Greek Bailout fails.
WSJ Solution: Buy call options on the volatility index known as the VIX and shorting ETFs that track large sectors of the Chinese economy.
Our Take: As with the put contracts, call options are not cheap and are difficult to understand for the average retail investor. As for betting against the Chinese stock market and economy, you will not be betting against a free-market economy. The Chinese government is working hard, even devaluing its currency, to fight the downfall. The saying goes “Don’t fight the Fed.” I’m guessing fighting the Chinese government could have similar, if not worse, consequences.
Risk: Central bankers make matters worse either through what they’ve already done or by raising rates too soon.
WSJ Solution: Buy long-term bonds and gold.
Our Take: While I’ll reserve discussion of gold for another conversation, buying long-term bonds as a hedge against the missteps of central bankers implies investors have a lot of time to let the bonds mature and aren’t likely to need access to liquidity. The Wall Street Journal correctly states that longer bonds react more to inflation expectations than to the whims and policies of central bankers…they also experience much wider swings in price and react to economic growth expectations. Long-term bonds are further out on the risk curve and should not be used as a bet against the Fed.
Risk: The Big Bond Selloff.
WSJ Solution: Avoid getting caught in a liquidity trap during a selloff by buying mortgages and, you guessed it, make more bearish bets in the form of put contracts on investments like high yield corporate bond ETFs. The idea is to shift into bonds that are less frequently found in funds and ETFs to limit exposure to a rush in selling and fund redemptions.
Our Take: The Journal alleges that mortgages are safer today than they were during the financial collapse. Even if this is true, due to higher lending standards, it takes due diligence to understand what makes up all the tranches of mortgage debt. Further, mortgage bonds can and often are called early due to the ability of homeowners to pre-pay, reducing the predictability of these securities.
Once again, options contracts can be expensive and are hard to understand for most investors. Also, to quote John Maynard Keynes, “Markets can stay irrational longer than you can remain solvent.” You may be convinced that the day of reckoning for high yield bonds is upon us, and buy put contract after put contract on a high-yield ETF, only to watch as the bonds increase in value for years while you watch expensive puts expire worthless.
Conclusion: The Wall Street Journal correctly points out that investors should be careful with their wealth today. However, major risk events have always existed with financial markets, with some coming to fruition and others passing by harmlessly. Rarely is there a good time to pursue an expensive and unpredictable investment strategy, particularly one that is challenging to understand. Investing is not easy but it can always be made more difficult. We take pride in our processes of due diligence to reduce volatility in our client portfolios and are always happy to discuss why we agree or disagree with various nuggets of investing “wisdom.”
Clients near or in their retirement years consistently express three primary financial concerns:
- Do I have enough money?
- Is my cash flow predictable?
- What if I have an emergency?
Our Retire.Ready solution addresses these concerns. We believe those nearing retirement should transition from a pure total-return approach to a hybrid total-return and liability matching strategy to reduce risk while managing retirement cash flow. The Retire.Ready solution consists of three important components:
- In-depth financial assessment that creates a retirement budget
- Social Security optimization
- Portfolio divided into three financial buckets including unique 10-year bond ladder to match future cash flow needs (see diagram)
Just like our long-standing, traditional portfolios Retire.Ready utilizes high-quality bonds. Uncovering attractive yields is always an important goal, but safety and predictability are the cornerstones of the Retire.Ready bond ladder. It takes a prudent investor to know when to pass up the siren call of even slightly more yield in favor of capital preservation. This is a tradeoff we take to the next level.
Our traditional total return portfolios that incorporate our intermediate fixed income securities are designed to be extremely safe, but also maintain a manageable amount of risk, to increase income responsibly. In our intermediate fixed income composite, we have the flexibility to target an array of credit ratings across either a range of maturities or a more consolidated timeline, as long as we feel comfortable with the overall diversification, yield, and safety. Our in-house research points us towards companies with wide economic moats and strong balance sheets, but also towards companies whose competitive advantage is based more on economies of scale in competitive, low barrier industries. We prefer companies with strong management teams and high cash flow generation, but our research allows us the flexibility to favor unusual credit metrics over others, such as a company’s ability to tap the credit markets, cut large historic dividend payments, or divest less profitable business lines. Our internal, rigorous, and evolving due diligence is our advantage in finding individual bonds that we feel confident will mature at par, all while providing higher than general market yields to maturity.
Retire.Ready takes a slightly different approach. The typical bond portfolio risks, be it interest rate risk, reinvestment risk, or headline risk have been reduced by a bond ladder designed to match our clients’ upcoming liabilities. The bonds in the ladder won’t always be the highest yielding bonds in a particular credit sector, due to our prioritizing of safety, and will in most cases be held to maturity. Though we plan to hold bonds to maturity, this is not a “set it and forget it” portfolio or high priced annuity. We continue to monitor the portfolio, be it corporate or municipal bonds, to ensure the persistent high standard of credit quality we recognized when the bonds were purchased. Retire.Ready bonds will benefit from institutional pricing and also the nimble nature of our bond desk to find mispriced “odd-lot” bonds when appropriate. The Retire.Ready portfolio will make use of corporate, agency, and municipal bonds to find the right mix of credit quality, tax-efficiency, and income. Please contact us to learn more about what goes into the Retire.Ready portfolio and how it may help you to be and feel more secure financially.
If you missed the live showing of our Private Wealth Management series on managing retirement cash flows and optimizing your Social Security strategy, here is a link to the replay on YouTube. If you want a copy of the slides, please contact us.