Kim Miller's Egalitarian Adviser

Financial Housekeeping for a New Year

2012-01-18T13:29:00.000-08:00

Live in the present. Take a deep breath. Isn't that better?

2011 is the “year that was” and 2012 is the “year that will be”. Of course we don’t know what kind of year it will be, but it is upon us nonetheless.

Herewith, my to-do list to begin a new year:

Fund your IRA for 2011 before April 17th
• The IRS allows you to contribute to an IRA account for the prior tax year up until the due date of your tax return for that year – April 17th 2012 for most of us.
• If eligible, fund a ROTH IRA – distributions will be tax-free in retirement. Eligibility depends on your adjusted gross income: less than $107,000 if single, less than $169,000 if married.
• If you are fortunate enough to have an income exceeding these limits, fund a Traditional IRA and convert it to a ROTH IRA at a later date – this is perfectly legal – I call it the “Back Door ROTH IRA”.
• Annual IRA contribution limits: $5,000 if less than age 50, $6,000 if 50 or older.
• The contribution limit is applied to all IRA accounts for a given tax year - $5,000 or $6,000 total, no matter how many IRAs.

Fund your IRA for 2012
• You can fund your IRA for the current year anytime beginning January 1st – BUT don’t fund for this year before you have fully funded last year.
• Funding for 2012 NOW gets the money working sooner.

Adjust your 401k Contribution
• For 2012, the maximum annual contribution limit for 401k, 403b and 457 plans is $17,000. This is an increase of $500 from 2011.
• If you are paid semi-monthly, the $500 increase is just under $21 per paycheck – you won’t miss it. You did put in the maximum $16,500 last year, didn’t you?
• If you are age 50+, you can still add the $5,500 catch-up contribution on top of the $17,000 for a total of $22,500.

Review your income tax withholding
• If you will get back more than $1,000 from Uncle Sam, your income tax withholding is too high. You earn no interest and the money is worth less due to inflation. It is not “savings”.
• You can adjust your withholding by filing a W-4 with your employer.

Re-finance your mortgage
• Mortgage rates are at near historic lows.
• Rates on 30 year loans are in the 3.9% range. Rates on 15 year loans are near 3.25%.
• My effectiveness rule is: will the new payment reduce my annual outlay by at least one month’s payment?
• Contact your current lender – they may have an “E-Z Re-Fi” program that will reduce your rate with nothing more required than the paperwork.

Review your legal documents
• Pull out your Wills, Durable Powers of Attorney, Healthcare Directives, etc – does everything still look good?
• New children? New marriage? Good time to visit your attorney.

Get started on financial aid for college
• The FAFSA can be filled out any time after January 1st .
• You should fill out a FAFSA for each student even if you think you won’t qualify for any aid.

Review your spending plan
• Estimate expenses for the year.
• Pre-fund vacations and other large expenditures by depositing money in a specific account every payday.

Relax and enjoy life. Even if you only do one of the items on this list you’ll be ahead of 100% of the people who do none of them!
Kim Miller, CFP®
kimm@sweetwaterinv.com

How to Catch a Falling Knife Without Getting Cut

2012-01-12T14:22:00.000-08:00

You’ve probably heard the adage “never try to catch a falling knife”. Like all such wisdom it’s grounded in truth. What are your chances of grabbing the handle versus the blade? Not good given that the blade of most knives is twice as long as the handle. But today you have an opportunity to catch a falling knife with no risk of getting cut: re-finance your mortgage.

The US national average for a 30 year fixed-rate mortgage is currently around 3.92%. How does this rate compare to your rate?

Here’s an easy calculator you can use to estimate your new payment: Bankrate.com

The rule on the efficacy of re-financing is typically quoted as: “a 1% reduction in rate”.

My rule is: “a reduction in total annual payments equal to at least one month’s payment under the current loan”.

For example:

Current loan of $200,000 at 4.875%, monthly payment of $1,058 (annually = $12,696)
New loan of $200,000 at 3.92%, monthly payment of $946 (annually = $11,348)
Monthly savings: $112
Annual savings: $1,344

Voila. You own the same home with a 10% reduction in financing costs.

Caveats: rates offered are highly dependent on your credit score, employment, household income and household debt ratio among other factors. Pay attention to “points” (pre-paid interest) and closing costs. Your best place to start is with your current lender – they may have an “EZ Re-Fi” program designed to keep your business on their books. Many lenders are offering “paperwork only” re-fi’s just for this purpose.

kimm@sweetwaterinv.com

4 Year-End Financial Housekeeping Tips

2012-01-11T15:35:00.000-08:00

You can put a stop to third class (junk) mail, credit card solicitations, receive a copy of your credit report for free and check your credit score by visiting these websites and following the easy instructions.

Stop junk mail:
http://www.dmachoice.org/

Stop credit card offers:
http://www.optoutprescreen.com/

you will still receive credit card offers from your own bank/credit card company but all the other ones will stop. Not only will your mail volume decrease but your risk of identity theft will also decrease - credit card solicitations are a prime source of identity theft.

Obtain a copy of your credit report:
http://www.annualcreditreport.com/

The three credit bureaus (Experian, Transunion and Equifax) are each required to provide you with a free copy every 12 months. If you rotate your requests, you can get a free copy of your credit report every four months or so. Credit report and score overview attached.

Check your credit score:
You can purchase your FICO credit score at http://www.myfico.com/ for $19.95 (don’t sign up for the “free” version – it’s not free). You can review and monitor other non-FICO credit scores at several websites for free. I have personally used http://www.creditkarma.com/ a site run by the credit bureau Transunion – it uses a credit score called the Transrisk score. It is not the FICO score but is constructed in a similar fashion and is useful in keeping an eye on your credit score at no cost.

Kim Miller, CFP®

Fear and Greed and the Recency Effect

2011-09-09T13:38:00.000-07:00

“Fear is a darkroom where negatives develop” - unknown

“Hell has three gates: lust, anger, and greed”- the Bhagavad Gita

We tend to remember those events that occurred most recently. And more recent events receive a heavier weighting in our thinking. This is referred to as the “recency effect” and it is present in all human endeavors.

In investing I find that it manifests something like this:

“The stock market is rising, therefore it will always rise and will never decline”

- or –

“The stock market is declining, therefore it will always decline and will never rise”

Rising markets tend to trigger a greed response (“I want in now!”) and falling markets tend to trigger a fear response (“I want out now!” or at least “I don’t want in now!”). Psychologists have proven that in humans there is more pain in a loss or percevied loss than there is pleasure in a gain or perceived gain. One method of avoiding loss is by avoiding risk. There are many different types of risk but most people think of risk as “losing money” which I have seen defined in different ways over the years. Probably the most common way of thinking of “losing money” is to see an investment position trade at a price that is lower than what was paid. Risk of loss is, by definition, present in all investment activity – one can’t expect a particular investment to rise __% without accepting the risk that it can fall by the same amount. Yet I do see investing behavior that contradicts this common sense conclusion. Economics is a social science that studies human behavior. In my opinion, economics is mistaken in assuming that all economic decisions are rational i.e., that the person making the decision has thought through both sides of the decision before coming to their conclusion. The flaw is that humans tend not to be rational creatures but are driven by emotion, by what they see on tv, hear on the radio, read on the web, hear from their friends – the recency effect played out in near real time.

Naturally, financial advisors are humans too and just as susceptible to the recency effect as any investor. I imagine that someday a computer algorithm will be written that will attempt to replace humans as financial advisors but I doubt it will successful. Why? No computer program will be able to deal with the client’s feelings of greed and fear. Helping another human cope with greed and fear requires a great deal of trust, and no computer will ever be able to build trust with another human. Why? Because humans are not rational, whereas computers are nothing but rational. Maybe it will be possible in a far-off future populated by Artificial Intelligence, but certainly not in the lifetime of anyone reading this. So do human financial advisors need to act like computers? Is it even possible? No and no. To be able to help another irrational, emotion-driven human make good choices, the human advisor first must conquor his own greed and fear. Like they say on the plane: “Place the mask over your own face before helping others”. How does an advisor get to this place? The only effective teacher is the school of hard knocks, experience, trial and error. And the trials are never over.

We are experiencing a new round of fear this week – maybe we should call it “Fear of Greeks bearing gifts” - as the Euro Zone comes to a major fork in the road regarding Greece’s sovereign debt. Equity markets around the world have sold off in a typical fear response but remember: for every seller there is a buyer.

If you have an investment plan, stick to it.

If you don’t have an investment plan, get one – and stick to it.

kimm@sweetwaterinv.com

"Brother, can you help a Banker out?"

2011-08-24T10:00:00.001-07:00

thanks to The Big Picture

Debt Ceiling delight

2011-07-29T13:53:00.000-07:00

“We all think we’re going to get out of debt.”
-Louie Anderson (comedian)

European debt. Greek debt. Italian debt. Irish debt. Portuguese debt. Spanish debt. And of course, good ol’ USA debt. Debt, debt, debt. One can’t turn on the tv or check for news on the web without being pummeled about the world’s debts. The stock market gets whipsawed whenever government debts bubble up to headline level. Yes, it’s bad. The public debt loads of many industrialized countries already exceed 100% of their economies’ GDP (Gross Domestic Product) – Japan is at something like 220%, Italy’s at 120%, here in the US it’s 60-80%, depending on whom you ask. The greater problem of course, is not the debt level itself, but the rate at which it is growing. Pretty soon, Uncle Sam will be getting a cash advance on his Visa to make the payment on his MasterCard. If you’ve ever seen this happen to someone you know the end result is not pretty.

I’d like to believe that our elected representatives are not dumb enough to ride their “principles” over the Cliffs of Default, but we’re in uncharted territory with 25% of the House Republicans having signed up as members of the Tea Party Caucus. The bottom line effect of default would be much higher interest rates paid by the government on future borrowing. Not to mention the severe haircuts on the value of existing bonds. These higher rates would have a ripple effect through the US economy and impact all economic activity: higher mortgage rates, higher auto loan rates, higher credit card rates, higher business loan rates and on and on. Forcing default for the sake of “principles” is a bad idea and I hope cooler heads prevail.

Inflation Watch

The price of oil has dropped significantly since last quarter and currently hovers around $97 per barrel for West Texas Intermediate (WTI). The price of gas at the pump has come down quite a ways as well. The Federal Reserve continues to hold their overnight rate at near 0. Inflation is creeping up though – the “all items” CPI for the 12 months ending June 30 was +3.6% - expect to see price increases at the grocery store.

Why Investing is like Sports

2011-05-31T17:05:00.000-07:00

Is your interest in the fortunes of your favorite sports team any different than your interest in the fortunes of the stock market?

Let’s say you are a fan of American football. Your team plays a game every Sunday for 16 weeks (except for one off day). How do you feel when they lose? How do you feel when they win? How do you feel when they win or lose a few games in a row? Here’s a graphic that will help us illustrate our point:

Do you have any detachment when it comes to how you feel about Your Team’s success or failure? Of course not. One Sunday you want the quarterback to run for President and the next you want him to run from the stick you are wielding. Is any of this logical? Of course not. You feel it in your gut. Your brain is there to merely prevent you from running your car off the road when the coach elects to go for 2 - when the PAT kick would tie the game - and doesn’t get it and your team loses. Now you know the feeling we’re talking about – some days you feel like the elevator can’t take you high enough and some days you only want to take it so you can jump off the building – preferably with the afore-mentioned quarterback or coach firmly in your grasp, along for the ride.

Guess what?

This is exactly how many investors approach investing. If the Dow is on a 3-day winning streak, they are euphoric, they can’t see an end to the up-ticks on the chart and wonder why they didn’t invest more last week when the Dow had a 3-day losing streak. They berate themselves and their advisors for missing out. And why didn’t we get into (fill in the blank with the over-priced IPO of your choice) when it opened? Yet, during the 3-day losing streak, they were despondent and nearly suicidal over not having held back more cash.

Call it the human condition. Here are 6 ideas investors can use to avoid the elevator ride between hope and despair:

1. Build a portfolio based on your intellectual tolerance for risk. Keep it simple – use mutual funds. Re-balance it periodically. In between re-balancing, ignore it.
2. Don’t buy market-capitalization weighted index funds – their ups and downs are multiplied by the overweighting in large companies. Consider equal-weighted index funds.
3. Buy dividend-paying stocks in large US companies that make things that people buy or that sell the things the other companies make. According to Modern Portfolio Theory, it only take 8 stocks to diversify business and industry risk. Divide your capital by 8 or more and go shopping.
4. Reinvest all dividends for individual stocks that allow you to do so. This compounds your dividend yield.
5. Don’t watch the markets everyday – or even any day. Invest your funds and then ignore them for whatever time frame you’ve determined will pass before you will conduct a review. Monthly? Quarterly? Semi-annually? Annually?
6. Hire an advisor who understands you to do this for you.

kimm@sweetwaterinv.com

What If You Knew Your "best if used by" date?

2011-05-26T12:49:00.000-07:00

DNA testing predicted to be accurate in determining length of life.

But I'm Not Dead Yet!

2011-05-19T16:59:00.001-07:00

“The reports of my death have been greatly exaggerated.”
~ Mark Twain

When is an inheritance not an inheritance? When the very event that creates the inheritance has yet to occur. If you are still vertical, then by definition, your assets are not yet an inheritance. Your children and perhaps other family members, may think otherwise. They may think they are entitled to an “advance” on the inevitable. Yes, it is inevitable. In spite of the popularity of living and advances in medical science, the mortality rate has not budged from its historical ratio of 1 to 1, i.e., all of us.

I remember a conversation I had with my Dad sometime in the ‘70’s when I needed use of his extensive tool collection. He said something along the lines of “When are you going to get your own?” and I retorted “I’m just gonna wait until you die Old Man and then I get them all.” He didn’t think much of that. About 30 years later, my wish came true. Be careful what you wish for.

I don’t know if there have been any studies done, but in my experience one of the primary financial problems (holes punched in their retirement boat) for retired people is their inability to say “no” to their children when it comes to what we might euphemistically refer to as “inheritance advances”. This is a problem that afflicts all, regardless of asset balance – the bigger the balance, the bigger the “advances”.

Don’t misunderstand me. If its affordable, then “it’s your money” as they say. BUT CONSIDER IF IT IS AFFORDABLE FIRST. Don’t say “yes” and then discover that it’s not a good idea after the fact. If you have more than one child, how do you tell the second, third and fourth “no” after you said “yes” to the first? It’s not “their” money until you’re dead and they should be ashamed of themselves for asking.

kimm@sweetwaterinv.com

Highlights of the New Tax Law

2010-12-18T09:03:00.000-08:00

HIGHLIGHTS
Two-year extension of all current tax rates through 2012• Rates remain 10, 25, 28, 33, and 35 percent
• 2-year extension of reduced 0 or 15 percent rate for capital gains & dividends
• 2-year continued repeal of Personal Exemption Phase-out (PEP) & itemized deduction limitation (Pease)
Temporary modification of Estate, Gift and Generation-Skipping Transfer Tax for 2010, 2011, 2012 • Reunification of estate and gift taxes
• 35% top rate and $5 million exemption for estate, gift and GST
• Alternatively, taxpayer may choose modified carryover basis for 2010
• Unused exemption may be transferred to spouse
• Exemption amount indexed for inflation in 2012
AMT Patch for 2010 and 2011• Increases the exemption amounts for 2010 to $47,450 ($72,450 married filing jointly) and for 2011 to $48,450 ($74,450 married filing jointly). It also allows the nonrefundable personal credits against the AMT.
Extension of “tax extenders” for 2010 and 2011, including:• Tax-free distributions of up to $100,000 from individual retirement plans for charitable purposes
• Above-the-line deduction for qualified tuition and related expenses
• Expanded Coverdell Accounts and definition of education expenses
• American Opportunity Tax Credit for tuition expenses of up to $2,500
• Deduction of state and local general sales taxes
• 30-percent credit for energy-efficiency improvements to the home (IRC section 25C)
• Exclusion of qualified small business capital gains (IRC§1202)
Temporary Employee Payroll Tax Cut• Provides a payroll tax holiday during 2011 of two percentage points. Employees will pay only 4.2 percent on wages and self-employed individuals will pay only 10.4 percent on self-employment income up to $106,800.

Taxing Matters

2010-12-15T21:40:00.001-08:00

It looks like Congress and the White House have agreed on a plan that will continue the current income tax rates, capital gains tax rate and dividends tax rate for two additional years (2011 and 2012). The framework agreed to also includes a patch for the Alternative Minimum Tax (AMT) that should (again) prevent its application to us middle-class taxpayers.

This is called “kicking the can down the road” which means we haven’t heard the last of these issues – like vampires, they will return from the dead at the next dawn – i.e., the 2012 election cycle. Undoubtedly, there will be some members of Congress who will rise to the level of hypocrisy we have come to know and love from our elected representatives on these issues. I tell ya, there is no position that any politician hasn’t taken that he or she won’t attempt to walk back when faced with losing their job and contemplating having to actually work for a living like the rest of us.

It is what it is, and it is my job to deal with the reality on the ground and bring you the best thinking and advice in advancing your goals.

The Alternative Minimum Tax (AMT)
Earlier in the year we were concerned that many middle class taxpayers would be subject to the Alternative Minimum Tax as the size of the previous years’ “patch” had been reduced for 2010. It looks like we’re going to escape this one, one more time.

Roth IRA Conversions
2010 is the first year that anyone can convert pre-tax retirement assets to post-tax retirement assets (Roth IRA) regardless of income level. Of course, such conversions require the payment of income taxes on converted assets at the taxpayer’s marginal rate. There has been some urgency on the part of the financial advice community as the income tax rates applicable to 2010 conversions were a known quantity, but the tax rates applicable to conversions after 2010 were not. With the agreement to continue the current rates for two more years, the urgency to beat the tax collector by converting pre-tax assets in 2010 has abated somewhat. That doesn’t mean that conversions in 2010 no longer make sense. I think many taxpayers will be best served with a series of annual conversions, timed and allocated in such a manner that the extra income is taxed within the taxpayer’s current marginal tax bracket. As they say, “individual situations can and will vary – consult your professional advisors before taking action”.

There is at least one remaining reason to effect a conversion in 2010: the “one-time only” ability to defer the taxation of the amount converted into the two tax years subsequent to 2010, namely, 2011 and 2012. Taxpayers converting assets in 2010 may elect to split the amount converted into two allocations: 50% to be added to their income for tax year 2011 and 50% to be added to their income for tax year 2012. With the (probable) continuation of the 2010 income tax rates and brackets, the taxes due on conversions in 2011 and 2012 are likely to be similar to conversions taxed in 2010 ASSUMING the taxpayer’s other income does not significantly increase. Those electing the deferral are taking the chance that their other income could be larger than they anticipate with current information, and thus pay a higher marginal rate on a 2010 conversion in future years. The tax rates are certain, the amount of taxable income is not, particularly if your income is given to fluctuation or in those situations where your employer finally gets around to recognizing your outstanding contribution and gives you that raise that you’ve been deserving for lo these many years.

For assets converted in 2010, it probably makes sense to tax the transaction in 2010, which is an available option.

Regardless, Roth conversions contain an escape clause, not unlike those contractual fine print items that allowed our noble bankers to escape punishment with their 7 and 8-figure bonuses intact. A Roth conversion can be reversed (“re-characterized” in IRS parlance) up until the filing date of the tax return for the year in question. For most of us, this is April 15, but the rule allows a reversal up to the filing date as extended, which means that reversals can be effected as late as mid-October (October 17, 2011 for 2010 returns). A reversal of the conversion puts the assets back in a pre-tax state as if the conversion had never taken place. So, if you do a conversion here in the remaining days of 2010, and then realize – before you file your 2010 return – that “things have changed” – you get a free do-over. This do-over is available every year in which a Roth conversion is effected. So for those doing a series of annual conversions, each separate conversion has a “free-look” period that expires on the filing date for the return for that tax year, including extensions. And you thought extensions were just for hair.

Roth Contributory IRAs
Aside from the Roth IRA Conversion issue, many taxpayers can make annual contributions to a Roth IRA. The allowance of such contributions is based on income. A chart is probably the best way to illustrate:

Oops - the chart didn't survive - contact me if you want the details or check IRS Pub590

Back Door Roth IRAs
If your income precludes you from making a contribution (see above) consider the Back Door Roth IRA. Anyone can fund a Traditional IRA regardless of income, but you probably will not be able to take a tax deduction for the contribution due to income limits or coverage by an employer plan such as a 401k, etc. There is no provision in the Roth conversion rules to prevent taxpayers from funding a Traditional IRA and then turning around the next day, week or month and converting the Traditional IRA to a Roth IRA. So it’s a two-step process, not unlike being coerced into a line dance at a cowboy-themed nightclub: 1) open a Traditional IRA and fund it (maximum $5,000 or $6,000), 2) open a Roth IRA Conversion account and convert the assets in the Traditional IRA into the Roth IRA. Depending on how the assets in the Traditional IRA have grown – or not - prior to the conversion, there will likely be little or no taxable income as the result of the conversion. A conversion even an Atheist can love.

Payroll Tax Holiday
The new agreement also includes a reduction in the EMPLOYEE contribution to Social Security (FICA) from the current 6.2% to 4.2% for one year - 2011. This step should have been taken the day after Mr. Obama’s Inauguration, but better late than never. FICA taxes are imposed on all earned income up to $106,800 with the maximum tax equaling $6,621.60 (the employer pays an equal amount). With this reduction, the maximum FICA tax will be $4,485.60, a savings of $2,136, or about 32%. I haven’t heard anything specific about the treatment for the Self-Employed, but presumably they will get the same reduction – that’s only fair. We’re all about being fair in America. Employers aren’t getting a break on their share, so expect to hear some breast-beating from the corporate and small business lobbies. Think about using this windfall to increase retirement plan contributions. Payroll taxes are made with after-tax dollars, so one could use this extra money for a Roth IRA contribution without increasing income taxes in 2011. If one were to use these funds to make a pre-tax retirement contribution, income taxes would be lower than otherwise.

I’m sure there will be more ideas that percolate up in the next few weeks and I’ll be sure and share my thoughts about them. As always, please contact me if anything here strikes your fancy [no statement made herein is to be construed as offering tax, legal, accounting or financial advice. Consult the appropriate professional for questions about your specific situation].

How Derivatives Markets Work -- A Lost Weekend Example

2010-11-23T18:05:00.000-08:00

Heidi, a former member of Lunch Bunch, is the proprietor of a bar in Detroit . She realizes that virtually all of her customers are unemployed alcoholics and, as such, can no longer afford to patronize her bar. To solve this problem, she comes up with new marketing plan that allows her customers to drink now, but pay later. She keeps track of the drinks consumed on a ledger (thereby granting the customers loans).

Word gets around about Heidi's "drink now, pay later" marketing strategy and, as a result, increasing numbers of customers flood into Heidi's bar. Soon she has the largest sales volume for any bar in Detroit .

By providing her customers' freedom from immediate payment demands, Heidi gets no resistance when, at regular intervals, she substantially increases her prices for wine and beer, the most consumed beverages. Consequently, Heidi's gross sales volume increases massively. A young and dynamic vice-president at the local bank recognizes that these customer debts constitute valuable future assets and increases Heidi's borrowing limit. He sees no reason for any undue concern, since he has the debts of the unemployed alcoholics as collateral.

At the bank's corporate headquarters, expert traders figure a way to make huge commissions, and transform these customer loans into DRINKBONDS, ALKIBONDS and PUKEBONDS. These securities are then bundled and traded on global securitization markets. Naive investors don't really understand that the securities being sold to them as AAA "secured bonds" are really the debts of unemployed alcoholics. Nevertheless, the bond prices continuously climb, and the securities soon become the hottest-selling items for some of the nation's leading brokerage houses.

One day, even though the bond prices are still climbing, a risk manager at the original local bank decides that the time has come to demand payment on the debts incurred by the drinkers at Heidi's bar. He so informs Heidi.

Heidi then demands payment from her alcoholic patrons -- but, being unemployed alcoholics, they cannot pay back their drinking debts. Since, Heidi cannot fulfill her loan obligations she is forced into bankruptcy. The bar closes and the eleven employees lose their jobs.

Overnight, DRINKBONDS, ALKIBONDS and PUKEBONDS drop in price by 90%. The collapsed bond asset values destroy the bank's liquidity and prevents it from issuing new loans, thus freezing credit and economic activity in the community.

The suppliers of Heidi's bar had granted her generous payment extensions and had invested their firms' pension funds in the various BOND securities. They find they are now faced with having to write-off her bad debt and with losing over 90% of the presumed value of the bonds. Her wine supplier also claims bankruptcy, closing the doors on a family business that had endured for three generations. Her beer supplier is taken over by a competitor, who immediately closes the local plant and lays off 150 workers.

Fortunately though, the bank, the brokerage houses and their respective executives are saved and bailed out by a multi-billion dollar/no-strings attached cash infusion from their cronies in Government. The funds required for this bailout are obtained by new taxes levied on employed, middle-class, non-drinkers who have never been in Heidi's bar.

Now do you understand?

Survivor Outreach Services for Military Families

2010-11-04T07:52:00.000-07:00

http://www.lcni5.com/cgi-bin/c2story.cgi?953+20101104085158953953001+AroundKnox

Cost of College in the US

2010-09-06T09:21:00.000-07:00

Here's a chart I found on another blog comparing the percentage change in price of US Housing, US College Tuition and US CPI over the last 32 years. How long can such a disparity continue?

Selected as a Premier Advisor for 2010 by the National Association of Board Certified Advisory Practices (NABCAP)

2010-09-03T10:40:00.001-07:00

FHA offers refinance loans to underwater borrowers

2010-08-11T12:30:00.001-07:00

By Pete MillerAugust 10th, 2010Posted in: Loans, Mortgage, Refinance

Refinance loans can be helpful to consumers in a variety of ways, which includes leading to lower interest rates on what they owe.Recently the Federal Housing Administration announced it is going to launch a program that could lead to refinance loans in a particular segment of the population.Consumers who are underwater on their mortgage may benefit by having a lower rate and having their principal reduced through the Short Refinance initiative."This is another tool to help overcome the negative equity problem facing many responsible homeowners who are looking to refinance into a safer, more secure mortgage product," FHA Commissioner David Stevens said.To qualify, homeowners must be current on their mortgage while also owing more on it than the property is worth. Furthermore, consumers have to meet FHA loan standards and their lender has to agree to write off 10 percent of their balance.Other efforts from the Obama administration to help troubled consumers keep their houses include the Home Affordable Modification Program, which can assist through lowering how much people have to pay every month on their mortgage.

Business & Technology | Financial makeover: New parents take it one debt at a time | Seattle Times Newspaper

2010-08-07T23:31:00.000-07:00

Business & Technology Financial makeover: New parents take it one debt at a time Seattle Times Newspaper

The GoldLine Scam Exposed

2010-07-28T09:45:00.000-07:00

Barry Ritholtz exposes Glenn Beck's GoldLine scam: http://www.ritholtz.com/blog/wp-content/uploads/2010/07/GoldlineGlennBeck4.jpg

Fallen Soldiers' Families Denied Cash Payout as Insurers Profit

2010-07-28T09:17:00.000-07:00

http://noir.bloomberg.com/apps/news?pid=20601087&sid=aF133j0QyP30

Investment Adviser Public Disclosure Enhancement

2010-06-30T14:49:00.000-07:00

The US Securities and Exchange Commission (SEC) has expanded access to their public database for Registered Investment Advisers. You can now look up the records of any person registered as an Investment Adviser Representative (IAR) in addition to the records for Registered Investment Advisers (RIA). Investment Advisory Representatives (IAR) are the people who work in Registered Investment Advisory firms.

The distinction is important because many, if not most Registered Investment Advisers are companies (corporations, Limited Liability Companies, etc) whereas Investment Advisory Representatives (IARs) are always people. Previously the public did not have convenient, direct access to the registration records of individuals affiliated with Registered Investment Adviser firms.

One of the items on the checklist of anyone seeking to hire someone to provide investment advice should be a check of the individual’s registration records.

Registration records include:
· Full name, office address, phone number
· Names of prior firms the person was affiliated with including dates
· Whether the person has any regulatory disclosures i.e., black marks

Here is a link to the specific search page at the SEC website: SEC Investment Adviser Public Disclosure

Questions? kimm@sweetwaterinv.com

Your 19th Nervous Breakdown

2010-06-15T16:39:00.000-07:00

"Oh, who's to blame
That girl's just insane
Well nothin' I do don't seem to work
It only seems to make matters worse
Oh, please

You better stop and look around
Here it comes, here it comes
Here it comes, here it comes
Here comes your 19th nervous breakdown"
- 19th Nervous Breakdown – The Rolling Stones

Feeling a little queasy about stocks? Join the club. No one knows if they should zig or zag. Side with the bears or run with the bulls? Who knows?

You can probably shred your Risk Tolerance Questionnaire for the moment: I don’t know that you wouldn’t answer the questions the same today as you would’ve done before though, because a questionnaire is an intellectual exercise using “play money” if you will, whereas one’s true ability to tolerate risk in the moment is an emotional experience. [Notice the difference between "exercise" and "experience".] When markets are going down, we have a hard time imagining that they can or will ever go up. And when markets are going up, we have a hard time imagining that they can or will ever go down. There is far more pain in experiencing down markets than there is pleasure in experiencing up markets.

BUT - whoever said investing in the stock market was the only way to make money?

What you need to determine is YOUR Required Rate of Return. What % total return do you need to achieve to hit your retirement income targets? Is it 4%, 8%, 9.5%, 13% or __? If the conclusion is that you don’t need to achieve high returns in attempting to hit your target, then look for investment options that are likely to provide the return you need with a low expected deviation from that return. If a 4% return (for example) will get you there, then the stock market is probably not necessary.

Your Required Rate of Return is also dependent on inputs – account deposits and contributions (and these deposits and contributions do not have to go into tax-favored retirement accounts). The more you can add, the lower the return required to “get there” and vice versa. Think of the stock market as one tool in the toolbox – not the only tool in the toolbox. You can’t count on the stock market bailing you out with high returns in the future: the S&P 500 Index including dividends, had a negative return for the 10 year period ending Dec 31 2009.

Decide how much capital you are willing to risk, what level or levels of risk you are willing to accept, and put everything else in less risky positions such as bonds or an alternative like commercial real estate (which has different risk parameters than stock investing). You can buy real estate inside your IRA (with a plan document upgrade and the proper custodian) but there are trade-offs and limitations that make it less attractive than buying it outside a retirement account (in my opinion). For example, you don’t get to deduct depreciation. You also do not have to be the sole owner of commercial real estate – you can invest via a partnership or other investment vehicle.

Also, there is no rule that says all of your retirement capital has to be inside a retirement plan. The tax code encourages retirement plan contributions, but there is more than one way to skin the cat.

The stock market reflects human behavior, pricing the news of the day. Here’s the bottom line: what return do I need to achieve to meet my goals and what investments will capture that return? If the answer leads you to investments outside of the “easy channel” of the stock market, then that’s where you should go. There’s no rule that says you have to invest in stocks. If you find yourself running in a herd of lemmings, take a detour, find the road less traveled and change course.

Questions/Comments? kimm@sweetwaterinv.com

Do You Know Your Money Personality?

2010-03-30T16:31:00.000-07:00

Over and over
I tried to prove my love to you
Over and over
What more can I do
Over and over
My friends say I´m a fool
But over and over
I´ll be a fool for you

’cause you got personality,
Walk, personality
Talk, Personality
Smile, Personality
Charm, personality
Love, personality
- Personality (as sung by Lloyd Price)

OK, you have (a) personality – that essence of humanity that makes you, you. Got it? That’s what makes the world go ‘round. Did you know that you also have a Money Personality? Your Money Personality affects the way you deal – or don’t deal – with your money. There are several quizzes you can take to determine your Money Personality. Most people have elements of several different types but tend to have a dominant type. Knowing your Money Personality type can help you manage your way to financial success. Below is a Money Personality quiz we have used with clients, spend a few minutes to answer the questions and score yourself with the key at the end.

You just received $5,000 and you can do whatever you want – what would you choose?
A. Find a way to play/enjoy it
B. Pay bills, then save the rest
C. Wonder what I want to do with it and decide to figure it out later
D. Use it for someone else or an organization or mission that deserves it
E. Buy something I really want

When it comes to dealing with money:
A. I don’t really want to be bothered with it
B. I enjoy keeping track of what I have
C. I use it to buy things
D. I find ways to give it back to the world
E. I use it to enjoy life, knowing I’ll earn more

When it comes to following a budget:
A. I don’t like budgets and tend to go on instinct each month
B. After paying bills, or sometimes before, I squeeze out money to help others and make contributions
C. I take time to look at expenses/income and watch it carefully
D. I use it to see how much money I need to earn to make sure life is fun
E. I think more money should be budgeted for shopping trips

When it comes to spending money:
A. I’ll spend it for someone I care about or give to my church or other charity
B. I don’t get much enjoyment from spending; in fact it does not feel good
C. I don’t usually know how much I have to spend, but still I may buy something
D. I buy something I want and I really get a kick from spending
E. I’ll often spend on things that include me and activities with other people

I deal with financial record keeping as follows:
A. I regularly keep records to ensure I have enough to play and live life well
B. I keep careful records
C. I keep them when I have to, but I usually don’t consult them to make decisions about spending
D. I keep records for the purpose of paying bills, tithing, giving to charities or people for whom I care
E. I would rather someone else keep the records, I only manage them when I have to

When it comes to saving money:
A. I am usually good at saving money
B. I often save but I like to live life in the present and value the use of money
C. I believe in saving, but usually leave it up to someone else to manage
D. I usually have little or no savings
E. I save when I can, but I often end up giving it to those who need it more than I do

This is my attitude toward credit cards or borrowing money:
A. I usually have credit card debt to pay off but I don’t know how much
B. I won’t borrow money or use credit card for myself but if someone else needs it, I often help them
C. I like credit cards and don’t feel bad about using them to buy things I want even if I can’t pay them off immediately
D. I often use credit cards but usually have enough to pay them off
E. I usually don’t buy things on credit or that creates debt

When I want a certain item but it’s not within my budget:
A. I look to see whether I can earn enough later to justify the expense. I’ll buy it if I think it will benefit me in business of influence others
B. If I really want it, I’ll buy it even if it isn’t in my budget
C. I don’t usually have a budget. When I do, I tend not to pay attention to it, I may or may not buy the item
D. I definitely do not purchase an item until I have planned for the item and have the money for it
E. I’ll consider how much it means to someone else. If it will really help them I’ll probably buy it

I worry about money:
A. When I think about my future and want to be sure I have enough for my later years
B. Only when I discover there are things I forgot about or didn’t know to pay and they are now overdue
C. When someone else is angry with me about my spending habits
D. When I don’t think I have enough to help others or contribute to my favorite mission
E. When I want to enjoy events and cannot afford to use the money for somewhat risky investments

When I think about providing for my future security:
A. I’d rather live in the moment and have what I want now
B. I leave the worrying and planning to others
C. I’d rather help others than worry about myself
D. I plan very carefully
E. I think about it but more often celebrate with others. I put some away for the future but am less concerned about that than living life to the fullest

Scoring:

A answers ___
B answers ___
C answers ___
D answers ___
E answers ___

Dominant money personality:

Mostly A answers: SPENDER. You love using money to bring you pleasure. And as a result, you have a hard time saving and delaying gratification for long-term goals.
Good trait: Generous with yourself and others. Know how to enjoy life in the moment.

Mostly B answers: HOARDER. You enjoy holding on to your money and find it difficult to spend on luxury items or for immediate pleasure.
Good trait: Good at budgeting, prioritizing and delaying gratification.

Mostly C answers: AVOIDER. You probably feel anxious or incompetent about dealing with money and therefore neglect everyday tasks like bill paying and balancing your check book.
Good trait: Don’t let money take up too much space in their lives and are often quite involved in other areas of their life in a constructive way.

Mostly D answers: CELEBRATORS. Having large amounts of money at your disposal to save, spend and invest makes you feel happy and secure. Amassers equate money with self-worth, so a lack of it can lead to depression.
Good trait: Understand the benefits of money in many different ways.

Mostly E answers: MONEY SAINT. You think money corrupts and feel guilty about having more than you need. A large raise of inheritance would make you anxious.
Good trait: Have a high degree of moral integrity and are committed to noble ideas.

The Lloyd's Prayer

2009-11-17T08:25:00.000-08:00

Our Chairman,
Who Art At Goldman,
Blankfein Be Thy Name.
The Rally’s Come. God’s Work Be Done
On Earth As There’s No Fear Of Correction.
Give Us This Day Our Daily Gains,
And Bankrupt Our Competitors
As You Taught Lehman and Bear Their Lessons.
And Bring Us Not Under Indictment.
For Thine Is The Treasury,
The House And The Senate
Forever and Ever.
Goldman.

I didn't write this and don't know who did, but it is priceless. Lloyd Blankfein is the Chairman of Goldman Sachs, one of the primary beneficiaries of the gov't bailouts (they were substantial counter-parties with AIG on billions of $ of contracts - the bailout of AIG was effectively a bailout of Goldman as well).

kimm@sweetwaterinv.com

A Little Perspective on All that Glitters

2009-11-03T20:16:00.000-08:00

I've never been a big fan of gold as an investment for a number of reasons. I think it is mostly due to having heard the gold bugs cry wolf for too many years. Even a broken clock is right twice a day, but the gold bugs never seemed to be right and they probably aren't right now either.

This brings us to the current state of affairs with gold at ~$1,060 per Troy ounce and daily headlines screaming about hyper-inflation in the US and gold going to $2,000 per Troy ounce. So I take all of this in and think "Gee, maybe I'm missing something here - maybe I should jump on the wagon with my clients' money while gold is still a bargain at $1,060. Hmmm...am I missing anything?"

Should I go down to my friendly neighborhood gold dealer and buy as many gold bars as I can? Maybe I should bury them in the back yard - it won't rot or tarnish - I can always dig them up later and trade them for a loaf of bread or a gun, right?

Maybe - but if it comes to that, gold won't be worth much either - and the gun owner would probably rather keep his/her gun. I would - you can feed yourself with a gun - you can't eat gold.

Should I recommend to my clients that we move a "modest amount" of their portfolios - say a conservative 5% - into gold? And if I do, what is the best way to do so? There is an Exchange-Traded Fund (symbol: GLD) that says it actually buys gold and stores it. Maybe I should just jump into gold mining stocks or mutual funds?

Maybe.

I've always been a fan of outcomes that are summarized with the phrase: "cooler heads prevailed". Does that mean I miss out on some of the excitement? Undoubtedly my cocktail chatter will be pretty ho-hum. Does that mean I might miss out on some capital gains? Of course I might. But I might also miss out on some capital losses. And if I get in now, what is my signal to get out? $1,500 a Troy ounce? $800 a Troy ounce? A family member bought gold bars back in the 1980's at around $800 a Troy ounce. Many years later I happened to meet the broker and he admitted to me that he "had to eat too" and that he had no regrets about having made that sale.

So I digest all of this conflicting information and I come to the conclusion that 1) boring cocktail chatter beats cocktail sob stories every day (reference: SEC vs. Madoff) , 2) I will never have regret in not buying something, and 3) I will be able to look in the mirror in the morning and know that I made the best decision with the information at hand.

I think there is a bubble in gold and at some point it is going to pop.

Please read the attached article/interview from SeekingAlpha.com for some very insightful perspective on gold.

http://seekingalpha.com/article/170475-gold-is-not-in-a-bull-market?source=article_sb_popular

Questions? kimm@sweetwaterinv.com

Playing the Game to Win

2009-03-11T11:33:00.000-07:00

“The key link between neoclassical economics and game theory was and is rationality. Neoclassical economics is based on the assumption that human beings are absolutely rational in their economic choices. Specifically, the assumption is that each person maximizes her or his rewards -- profits, incomes, or subjective benefits -- in the circumstances that she or he faces.”
- Roger McCain Game Theory: A Nontechnical Introduction to the Analysis of Strategy

Say you are a baseball player at the plate, waiting for the next pitch. You know where you like the ball and the pitcher knows where you like the ball. And you know that he knows where you like the ball and he knows that you know that he knows where you like the ball. We could go on and on. The pitcher is going to try and put the ball where the hitter doesn’t like it but since the hitter knows this, he will attempt to guess where the pitcher is likely to place the ball to improve his chances of making contact. In a nutshell, this is Game Theory – the choices each player makes in a given situation depends in part on his knowledge of the choices available to the other participants in the same situation.

This is what is going on in the housing market and perhaps to a lesser extent, the stock market.

Housing Market
You can divide would-be home buyers into roughly two camps: rational and irrational. The housing market players who stand to benefit from buying activity (e.g., real estate agents, home builders, mortgage brokers, furniture and appliance manufacturers, etc.) are in the irrational camp because they never change their stance. (When was the last time you heard the National Association of Realtors say “Now is a bad time to buy.”? I didn’t think so.)

Rational home buyers are waiting for a better deal: lower prices, lower financing costs, bigger tax breaks, job security, etc. They are essentially applying Game Theory to their decision, in effect waiting for just the right pitch to hit with at least some knowledge of the choices the other players have available. For those that have the patience, waiting is paying off – the deals keep getting better (notice that the Stimulus Bill contained a $8,000 first-time home buyer credit that is a true tax credit, not a loan like the previous $7,500 tax “credit”. We’re also seeing more “discount model” real estate brokerages opening.).

The irrational players continue their mantra that “Now is the best time to buy” on the theory that saying it enough will make it come true. The potential buyers are hoping that they are getting in at the bottom while the other players only care about creating transactions (payday). One could argue that the transactional beneficiaries are rational in that they never change their story but I would argue that the only time the transactional players are rational is when they are laying off employees to bring their expenses in line with their expected revenues.

We’ll see the bottom in the housing market when the majority of rational would-be home buyers decide the pitch is fat enough to take a swing at it, and not before.

Stock Market
Flip to the stock market. Again, you can divide investors into rational and irrational camps. And again, the players who stand to benefit from buying activity (brokerages, banks, custodians, mass media outlets, etc.) are in the irrational camp because they never change their stance. (To test this theory, all one needs do is spend a couple of hours watching CNBC while the markets are open).

Rational investors are waiting for a better deal: lower prices (or trading the swings). Maybe this is market timing behavior, but there is so much cash sitting on the sidelines we can’t discount their patience.

Like the irrational would-be home buyers, the irrational investor camp keeps saying “The bottom is in – now is the time to buy.” These buyers have more fear of missing the up-turn than they do of losing more money by being wrong.

We’ll see the bottom in the stock market when the majority of rational investors decide the pitch is fat enough to take a swing at it, and not before.

Questions? kimm@sweetwaterinv.com

Intelligent Panic

2009-03-06T12:24:00.000-08:00

"You'll find more cheer in a graveyard."
- character in “The Two Towers” – J.R.R. Tolkien

“Funerals are for the living.”
- Dear Abby

You watched your 401k account drop -40% in 2008. You thought “Recovery is near, don’t do anything hasty.” In 2009, you’ve watched it drop another -20%. You’ve been thinking “Obama’s in charge now - recovery is at hand, don’t miss out on the turn.” CNBC just ran their “Is The Bottom in?” story for the millionth time. You’ve been pondering the same question. [Is “million” big enough? Maybe we should say “ka-jillion” to denote the new paradigm of REALLY LARGE numbers.]

Today you have the same choices you had in October 2008: you can sell and get out of the way; you can stay put and ride it out (with or without re-balancing); or you can try and trade the market. Make no mistake: this is a trader’s market.

Here are the reasons you are or aren’t following one of these strategies:

1. You haven’t sold because you are convinced you’ll miss The Turn – or – you have sold and gone to cash because you’ve given up on waiting.

2. You have re-balanced because you have a time horizon that will make the current turmoil look like a speed bump in the rear view mirror – or you haven’t re-balanced because you are afraid to sell the only positions in your account that are holding up.

3. You aren’t trading because you don’t know what to do, don’t have the proper tools and probably don’t have the temperament for it – or – you are trading in which case you aren’t reading this anyway. Those with the proper tools, temperament and the courage of their convictions can make money trading in this market.

All of these approaches are valid – only you can decide which one will work for you.

If you believe that the markets will revert to their long-term mean returns given enough time – and you have enough time to give - then the best advice is “do nothing” or “re-balance”. Re-visit your risk tolerance and time horizon and act accordingly. Contact me for a self-scoring Risk Tolerance Questionnaire.

Questions? kimm@sweetwaterinv.com

Taking a Short Walk

2008-12-11T12:46:00.000-08:00

In 2008 it turns out, many investors were taking a long walk off a short pier. The cement overshoes many of us were wearing didn’t help either. This was the end result of staying at the party, drinking the punch far too late into the night.

People smarter than me had left the party earlier in the evening having munched a few canapés, partaken only lightly of the punch, sold short and gone home before things got ugly.

Those of us who kept thinking the markets were due for a fall were proven right in our conviction, but dead wrong in having taken any action that would have proven prescient. So now that the shock – and hangover - has mostly worn off, what do we do? The markets have set so many records for volatility, only the most diligent day traders have been making any money.

Enter The Hedge

In a perfect world, somewhere in a perfect parallel universe, exists the perfect hedge. The perfect hedge goes up as much as the thing being hedged goes down, and vice versa, all without adding to the investor’s costs. But let’s get real. Hedging is inherently imperfect and of course it isn’t free.

In a market as volatile as we’ve experienced lately, many investors would probably be happy if the value of their risk capital accounts remained roughly the same from day to day. Too many of us have gone long (buying) when we should have gone short (selling) and gone short (selling) when we should have gone long (buying) – sometimes all in the same day. What, you too?

The traditional method of going short is to sell borrowed stock, buying it back after it declines (called “covering”), and pocketing the price difference (minus transaction costs). For those not willing to do the immense amount of research required to decide which stocks to short, Exchange –Traded Funds (ETFs) can also be sold short. ETFs are mostly constructed to follow market or sector indices – selling them short gives exposure to the same market or sector on the down side. An investor could construct a simple hedge of the S&P 500 Index by buying an ETF that emulates the index (sample ticker: IVV) and then selling the same ETF short to protect the long position by a pre-determined percentage. One of the advantages of short selling is that money flows into the account from the sale and some of that money (subject to margin requirements) can be used for re-investment. IRAs and qualified plan accounts (e.g., 401ks) are not allowed to sell short, but there are other ways to hedge long positions (keep reading).

Inverse Exchange-Traded Funds

Shorting a market or sector can also be accomplished by buying (going long) inverse ETFs. Inverse ETFs are based on derivative contracts that are designed to give an investor downside exposure to a market or sector. The share value of the ETF moves inversely to the value of the market or sector – by owning (long) the inverse ETF, an investor is short the market or sector. If the market goes up 1%, the matching inverse ETF goes down 1% and vice versa.

There is a growing sector of the ETF market that uses leverage to increase exposure to the desired market or sector e.g., 2 X the S&P 500 Index (sample ticker: SSO). If the S&P 500 goes up 1%, SSO will go up 2%. If the S&P 500 goes down 1%, then SSO goes down 2%. (Not accounting for tracking error which includes expenses charged by the ETF). There are now also many 2 X INVERSE ETFs in which one can invest (sample ticker: SDS). If the S&P 500 goes up 1%, then SDS goes down 2%. If the S&P 500 goes down 1%, then SDS goes up 2%.

A simple hedge of the S&P 500 Index could be constructed with $6,700 invested in IVV (long S&P 500) and $3,300 invested in SDS (2 X Inverse S&P 500). If the two funds are perfectly negatively correlated, the total invested value of $10,000 would change very little over time. Since we live in the imperfect world (home of the imperfect hedge) the total value would change, but it would remain fairly close to what we started with. Since the 2 X inverse ETF moves twice the % of the long ETF, one only has to commit about half the amount of funds committed to the long side to implement the hedge on the short side.

IRAs and other qualified plan accounts are not allowed to sell short, but they can buy inverse ETFs – effectively shorting by going long.

With the 2 X Inverse construction, investors can decide how much of a long position they wish to hedge. As described above, the 2/3rd - 1/3rd recipe approximately maintains a total dollar value – very handy during volatile daily swings. A long-bias hedge could also be constructed with a lesser % commitment to the inverse ETF.

There are Inverse ETFs available for many different market and sector indices. Investors can hedge their existing long positions by buying the inverse ETF that most closely matches the long position. It’s a good idea to review charts comparing the history of the long-short pairing to see how closely (negatively) correlated the pairing has been.

The chart below illustrates the negative correlation of the S&P 500 Index (ticker: IVV) and a 2 X Inverse ETF tracking the S&P 500 Index (ticker: SDS).

Hedging with inverse ETFs won’t keep you from walking off the pier, but they can turn those cement overshoes into a life raft.

Questions? kimm@sweetwaterinv.com

Kim Miller, CFP featured in Seattle Times 12-07-08

2008-12-08T11:29:00.000-08:00

http://seattletimes.nwsource.com/html/businesstechnology/2008477990_pfmakeover07.html

How Banking Really Works

2008-12-06T10:11:00.000-08:00

A Primer On Fractional Reserve Banking
First published in the British humour magazine "Punch" on April 3,1957:

Q: What are banks for?
A: To make money.
Q: For the customers?
A: For the banks.
Q: Why doesn't bank advertising mention this?
A: It would not be in good taste. But it is mentioned by implication in references to reserves of $249,000,000,000 or thereabouts. That is the money they have made.
Q: Out of the customers?
A: I suppose so.
Q: They also mention Assets of $500,000,000,000 or thereabouts. Have they made that too?
A: Not exactly. That is the money they use to make money.
Q: I see. And they keep it in a safe somewhere?
A: Not at all. They lend it to customers.
Q: Then they haven't got it?
A: No.
Q: Then how is it Assets?
A: They maintain that it would be if they got it back.
Q: But they must have some money in a safe somewhere?
A: Yes, usually $500,000,000,000 or thereabouts. This is called Liabilities.
Q: But if they've got it, how can they be liable for it?
A: Because it isn't theirs.
Q: Then why do they have it?
A: It has been lent to them by customers.
Q: You mean customers lend banks money?
A: In effect. They put money into their accounts, so it is really lent to the banks.
Q: And what do the banks do with it?
A: Lend it to other customers.
Q: But you said that money they lent to other people was Assets?
A: Yes.
Q: Then Assets and Liabilities must be the same thing?
A: You can't really say that.
Q: But you've just said it! If I put $100 into my account the bank is liable to have to pay it back, so it's Liabilities. But they go and lend it to someone else, and he is liable to have to pay it back, so it's Assets. It's the same $100 isn't it?
A: Yes, but….
Q: Then it cancels out. It means, doesn't it, that banks haven't really any money at all?
A: Theoretically……
Q: Never mind theoretically! And if they haven't any money, where do they get their Reserves of $249,000,000,000 or thereabouts?
A: I told you. That is the money they have made.
Q: How?
A: Well, when they lend your $100 to someone they charge him interest.
Q: How much?
A: It depends on the Bank Rate. Say five and a-half percent. That's their profit.
Q: Why isn't it my profit? Isn't it my money?
A: It's the theory of banking practice that………
Q: When I lend them my $100 why don't I charge them interest?
A: You do.
Q: You don't say. How much?
A: It depends on the Bank Rate. Say a half percent.
Q: Grasping of me, rather?
A: But that's only if you're not going to draw the money out again.
Q: But of course I'm going to draw the money out again! If I hadn't wanted to draw it out again I could have buried it in the garden!
A: They wouldn't like you to draw it out again.
Q: Why not? If I keep it there you say it's a Liability. Wouldn't they be glad if I reduced their Liabilities by removing it?
A: No. Because if you remove it they can't lend it to anyone else.
Q: But if I wanted to remove it they'd have to let me?
A: Certainly.
Q: But suppose they've already lent it to another customer?
A: Then they'll let you have some other customers money.
Q: But suppose he wants his too….and they've already let me have it?
A: You're being purposely obtuse.
Q: I think I'm being acute. What if everyone wanted their money all at once?
A: It's the theory of banking practice that they never would.
Q: So what banks bank on, is not having to meet their commitments?
A: I wouldn't say that.
Naturally. Well, if there's nothing else you think you can tell me….?
A: Quite so. Now you can go off and open a banking account!
Q: Just one last question.
A: Of course.
Q: Wouldn't I do better to go off and open up a bank?

Comments? kimm@sweetwaterinv.com

Confidence Game or Confidence Crisis?

2008-09-29T15:34:00.000-07:00

The US House of Representatives just voted down the $700B “Wall Street” bailout bill. The US markets reacted in predictable fashion: the Dow Jones Industrials closed down -778, a drop of nearly -7%, while the S&P 500 index closed down -106, a drop of nearly -9%. Prices on US Treasuries soared as investors looked for a safe haven.

Even though the legislation had been hammered out between Dems and Repubs in marathon weekend sessions, enough of each party defected to the “nays” to defeat it. Predictably, there is predictable finger-pointing on both sides, each blaming the other for the failure.

My friends, though the bill was widely vilified as a bailout of Wall Street banks and bankers on the backs of US taxpayers, it could have gone a long way toward helping Main Street too. When Wall Street investors lose confidence in the game, they take their chips off the table. When Main Street investors lose confidence in the game, they line up at their local bank. The largest bank failure in US history occurred last week for that very reason – more than $16B of deposits had fled Washington Mutual in less than two weeks.

Now what?

Congress will try again, although at this point it is unclear if that will happen now, after the election, or be delayed until the next Congress. Someone has probably opened a book on this in Vegas already.

Until such time as this is addressed by our elected officials (as opposed to our selected officials – Paulson and Bernanke, et al), here is what I know:

· The FDIC still stands behind bank deposits up to $100,000 per depositer. Be sure you don’t have more than $100k in any one bank. You can view the rules at http://www.fdic.gov/

· The Treasury put up $50B last week to insure money market fund assets for the next 12 months. The $1 net asset value is safe for the time being. If you are concerned about this, switch your money market fund to one that invests solely in US Treasury obligations.

· Markets do come back. If the Dow can plunge -778 points in one day, it can rise +778 points in one day. For all of the gyrations the week of September 15th when Lehman Brothers filed for bankruptcy, the markets actually finished up for the week. If you needed the money in the near future, it wouldn’t be in the markets anyway, right? Right?

· In the near term, markets are likely to be choppy.

· Neither of the Presidential election campaigns can be counted on to add any sanity, but are more likely to use events to try and score with voters.

· I’m keeping the sensitivity dial on my BS detector set on HIGH – I suggest you do the same.

· Stay invested, stay diversified.

Questions? kimm@sweetwaterinv.com

Helter Skelter

2008-09-19T15:10:00.002-07:00

“When I get to the bottom
I go back to the top of the slide
Where I stop and turn
and I go for a ride
Till I get to the bottom and I see you again”
- Helter Skelter (Lennon-McCartney)

One of my daughters just loves roller coasters, but I think even she would’ve been nauseous this past week. Some of us held our breath while the rest of us held our noses.

That smoke you smell is from the friction of the over-heated U.S. Treasury printing presses cranking at maximum capacity to keep up with the obligations assumed by our very own federal government.

Losses in private business are – once again – being socialized on the backs of the U.S. taxpayer. Remember the Savings and Loan disaster in the 80s? That was a mere pittance at $150B. This dwarfs that by a magnitude of oh, say, at least 10X. The Crowned Heads of Government Finance (Bernanke, Paulson et al) were – once again – check-mated into backing private business with taxpayer dollars. The U.S. financial markets had become so intertwined that “too big to fail” was quickly replaced with “too complex to fail”. They drew a line in the sand with Lehman Brothers, but the markets quickly erased it with the loss of confidence in insurer AIG whose participation in the unregulated market for Credit Default Swaps (CDS) threatened market stability all over the world. Even providing financing to AIG wasn’t enough and now they are trying a fire break to cleanse the banking system of bad debts in the hope that will stop the firestorm.

So now the U.S. Government owns (one way or another) Bear Stearns ($29B), Fannie Mae, Freddie Mac (combined $6T), AIG ($85B), ALL THE BAD MORTGAGE LOANS IN THE ENTIRE COUNTRY (“We’re talking hundreds of billions.” – Paulson) but wait, it gets better: ALL LOSSES IN MONEY MARKET FUNDS for the next 12 months ($50B to start).

My brain hurts. As Everett Dirksen is often quoted as saying: “A billion here, a billion there, pretty soon it adds up to real money.”

My 2 cents: They better well make damn sure the financial “institutions” share in the cost and they better make sure it hurts because I can tell you, our share is gonna hurt. WE CAN’T KEEP DOING THIS.

You can kiss any campaign promise tax decreases good bye and the hidden tax of rising inflation caused by printing money will only add to the pain.

In spite of the wild ride, the U.S. stock markets actually eked out a small gain for the week.

I repeat my mantra for investors: stay invested, stay diversified.

Questions? kimm@sweetwaterinv.com

The Day the Earth Stood Still

2008-09-15T13:20:00.000-07:00

"Klaatu barada nikto."
- Michael Rennie to Patricia Neal in The Day the Earth Stood Still

The Day the Earth Stood Still was a film released in 1951. Like many sci-fi films, on the surface it appears to be about space aliens and ray guns, but there is a deeper story with an anti-war message.

The line delivered in the film is intended as instructions to the alien robot Gort to stop its assault on the military units surrounding the spaceship and to resuscitate (resurrect?) the character played by Rennie (shot and apparently killed in another scene) so he can deliver his speech in the closing scene.

In spite of the Crowned Heads of Wall Street working all weekend though, there is no resurrection for Lehman Brothers. Lehman began operations before the Civil War and had survived many other crises, but not this time. The government drew a line in the sand. Finally. There would be no taxpayer money backing any takeover of Lehman. Merrill Lynch saw the writing on the wall and quickly arranged a “merger” with Bank of America. That pretty much leaves only Goldman Sachs and Morgan Stanley as the last of the large, independent investment banks and rumors about their viability as independent entities abound.

So, is the earth standing still today? I don’t think so. Capitalism is doing what it does best: rewarding the winners and punishing the losers. The punishment taking place is obvious, but knowing who the winners will be is not so obvious.

What I do know though, is that the markets will recover. They always do. Now is not the time to bail. Stay invested, stay diversified.

Questions? kimm@sweetwaterinv.com

Uh, Wait a Minute

2008-09-11T16:08:00.000-07:00

“Wait, oh yes wait a minute mister postman
Wait, wait mister postman”
- Please Mister Postman (as performed by The Beatles)

Now that some of the dust has settled after the U.S. Government takeover of Fannie Mae and Freddie Mac, more details are coming to light.

In the most recent post on this blog, I stated that the implied U.S. guarantee of Fannie and Freddie obligations had become an explicit guarantee. Dumb ‘ol me: this is not the case.

In an article on Bloomberg.com published today (Sept 11th):

“The federal takeover of the government-sponsored enterprises, or GSEs, on Sept. 7 failed to address whether the debt of Fannie and Freddie should be included in the budget, or whether it carries an explicit government guarantee. In an interview this week, Treasury Secretary Henry Paulson cited the ``incongruities'' in the law and said ``we should be clear, is there a government guarantee or isn't there?''

Any decision to add Fannie and Freddie to the budget wouldn't automatically translate into an explicit government backing for the companies' combined $1.7 trillion in unsecured debt and $3.5 trillion of mortgage guarantees. Granting the full faith and credit of the U.S. would require an act of Congress to change the companies' legal status.”

As Emily Litella would’ve said “Ohhh, that’s very different!”

The perception in the market seems to be that the U.S. is on the hook for the obligations, no matter what might be said. Ever heard of “credit default swaps”? Commonly referred to as CDSs, credit default swaps are insurance for investors. If you own a bond say, and are concerned about getting your money back, you can buy an insurance policy in the form of a CDS. Like all insurance, the price is (for the most part) directly proportional to the likelihood of the insured event occurring during the time period covered, i.e., the more likely it is perceived the event will occur, the higher the price of the insurance.

You can buy CDSs on U.S. government debt. What you say? Someone out there thinks we might not pay? Yeah – someone out there thinks we might not pay and in fact, the cost of CDSs for U.S. Government debt has increased quite a bit this year. Ouch. If the U.S. is perceived as a lower quality borrower, that means lenders will require higher interest rates. Think of the implications of such a shift in perception for you and me as U.S. taxpayers: higher interest rates means higher federal outlays for debt servicing which translates into higher U.S. taxes.

Questions? kimm@sweetwaterinv.com

The State of the Investment Markets

2008-09-09T11:03:00.000-07:00

“There was an old lady who swallowed a fly.
I dunno why she swallowed that fly,
Perhaps she'll die.

There was an old lady who swallowed a spider,
That wriggled and jiggled and wiggled inside her.
She swallowed the spider to catch the fly.
But I dunno why she swallowed that fly -
Perhaps she'll die.”
- Folksong

I thought it would be a good time to offer some perspective on what we’re seeing in the investment markets.

It’s been a brutal year: the Standard & Poor’s 500 index is down -12.3% for the year – this after Monday’s (Sept 8th) increase of 2% (25.48 points). Markets in other countries have fared no better and many in fact are doing worse. A global economic slowdown seems to be underway.

By now, the story of the housing bubble fueled by easy credit should be familiar. Too much easy money ignited demand for houses (new and existing) and created an unsustainable rise in home prices. We are still dealing with the consequences. Home values are falling and borrowers who thought they would be able to re-finance their way out of trouble are finding they can’t and are abandoning their homes to the lender. Mortgage foreclosures are approaching numbers not seen in the U.S. since the Great Depression of the 1930s (9% of all residential mortgages in the U.S. are in late payment status or foreclosure proceedings). Lenders have tightened their credit requirements – which means they are making fewer loans – while their assets – mortgages and mortgage bonds – are declining in value. Banks large and small are finding themselves in the unenviable position of having to raise capital in this environment – sell stock or issue bonds – to shore up their balance sheets so they can remain in business. Many of the largest U.S. banks have turned to Sovereign Wealth Funds (SWF) for capital, effectively selling part of themselves to non-U.S. investors. Of course, the U.S. Government has been doing this for years for essentially the same reason.

Enter the U.S. Treasury (or “Treasure Island” as I’ve seen it referred to). The U.S. Government explicitly guarantees only certain debt issues: U.S. Treasury obligations (T-Bills, Notes and Bonds) and mortgage-backed bonds issued by the Government National Mortgage Association (Ginnie Mae) being prime examples. There are two major Government Sponsored Entities (GSE) that have enjoyed an implicit U.S. Treasury guarantee: Fannie Mae (FNMA - Federal National Mortgage Association) and Freddie Mac (FHLMC - Federal Home Loan Mortgage Corporation). Fannie and Freddie as they are known, provide about half of the financing for home mortgages in the U.S. and have used the implied government guarantee to finance their operations.

Monday’s takeover of Fannie and Freddie – changing the implied guarantee to an explicit guarantee - could go a long way in reducing mortgage interest rates for new borrowers, stabilizing U.S. housing prices, and perhaps help to free up the tight credit markets around the world. In fact, today (Sept 9th) 30 year mortgage rates are being quoted at a national average of ~5.9%, down 50 basis points (one-half of 1%) from levels one month ago. This is a huge drop. Lower rates may help stabilize housing prices and home buyers may decide to quit waiting for prices to fall further and return to the market. There is still a large housing inventory overhang, but reducing it to historical levels (about 6 months’ worth is considered “balanced”) would really help the current economic environment.

There is still a long way to go. One of the big questions concerns further write downs of bad loans by banks worldwide, recently passing $500 Billion. Many commentators expect bank losses to eventually exceed $1 TRILLION. Stabilized housing prices could help homeowners re-finance their mortgages to affordable loans and remain in their houses. This in turn could help “stop the bleeding” in the banking industry. This in turn could help loosen the tight credit markets. This in turn could help businesses expand, creating more jobs. All of this would be positive for stock markets around the world.

Hopefully, the takeover of Fannie and Freddie will be the action that stops the “old lady” from attempting to solve a series of problems with an action that creates a bigger problem:

“There was an old lady who swallowed a horse -
She's dead, of course.”

Questions? kimm@sweetwaterinv.com

Getting Organized in the 21st Century

2008-09-03T16:44:00.000-07:00

With the ever-increasing proliferation of web-based services, a large hole in many financial plans is growing larger.

You may have prepared a comprehensive list of all of your financial relationships and related contact information: accountant/tax preparer, bank/s, legal document location/s, mortgage holder, credit cards, financial advisor/s, attorney, safe deposit box location (and key!), etc. (Here’s your chance to say “Why, yes I have!”…)

This list should be kept up to date and copies kept in more than one location. (Here’s your first chance to say “Why, yes I will!”…)

But, you may not have included the “keys” to your web-based relationships on this list: those important website addresses (banking, bill-paying, e-mail, shopping) with your login ids and passwords.

Virtually all web-based relationships are governed by a legal document you agreed to when you first established the relationship, the Terms Of Service Agreement (TOSA). Like me, when presented with a “check here if you agree to our terms” check box, you probably checked “yes” and didn’t think about it.

Time to think again.

TOSAs commonly contain “use” clauses and privacy clauses. The use clauses often state that your account access – like an e-mail account – will be terminated and all data wiped out if you don’t use the service for a stipulated time period, sometimes as short as 30 days. The privacy clause prevents the service provider from giving anyone else access to the service – they will not give anyone else your login and password. These are good things, but what happens when someone dies or becomes unable to communicate (a stroke) and their family can’t find their login and password? Short of a court order – at the family’s expense – they are out of luck.

Here’s another one: do you protect your home computer with a password? If no one else knows it, your family may not be able to access it if you die or become unable to communicate. What if your list of important items is on your password-protected computer?

Your vital documents should contain a list of all of your on-line account relationships with their related login ids and passwords. Of course, this list needs to be kept up to date.

It goes without saying, but don’t keep the sole copy of this list on-line!

Here's a link to what looks like a great organizer for just this purpose: www.thewellorganizedlife.com (currently in development - enter your contact info and they'll let you know when it's available).

Questions? kimm@sweetaterinv.com

A Genesis Tale

2008-08-29T14:41:00.000-07:00

"First God made heaven and earth.
The earth was without form and void,
and darkness was upon the face of the deep;
and the Spirit of God was moving over the face of the waters."
- Genesis, Chapter 1, verses 1 and 2

Day 1
God saw that money was without form, and darkness was upon it.
And God said, “Let there be financial engineering, that money may have form and be multiplied.”
And it was so, and God saw that it was good.

Day 2
God saw that there was no one to promote money in all its forms.
And God said, “Let there be Wall Street, that money in all its forms may be spread to the far reaches of the earth.”
And it was so, and God saw that it was good.

Day 3
God saw that Wall Street had no one to send out upon the earth to sell money.
And God said, “Let there be Salesmen, that the products of Wall Street may have promoters.”
And it was so, and God saw that it was good.

Day 4
God saw that the Salesmen had no one to call on.
And God said, “Let there be Prospects, that the Salesmen have someone to call upon.”
And it was so, and God saw that it was good.

Day 5
God heard the anguished cries of the Salesmen that they could not make enough money on salary alone.
And God said, “Let there be commissions, that the Salesmen shall earn bounteous incomes from the Prospects.”
And it was so, and God saw that it was good.

Day 6
And God saw that there was wickedness and avarice in Wall Street and the Salesmen, and the Prospects were crying out in anguish.
And God said, “Let there be independent advisors, that the Prospects may receive unbiased advice from fiduciaries.”
And it was so, and God saw that it was good.

Day 7
And God rested. Finally.

(I am an independent advisor and I accept the fiduciary role for my clients).

Questions? kimm@sweetaterinv.com

401k Freedom of Choice

2008-08-28T12:35:00.000-07:00

“Oh freedom (freedom), freedom (freedom), freedom, yeah freedom
Freedom (freedom), freedom (freedom), freedom, ooh freedom”
- Think - performed by Aretha Franklin

Many (if not most) 401k plans offer a limited menu of investment choices. One would expect that larger employers would offer more choices, but there doesn’t seem to be any correlation between the size of the employer and the investment options offered in a 401k plan. Unfortunately, many employers do not offer what financial planners would call a sufficient range of investment options. A typical 401k plan offers a limited number of mutual funds, often funds from the same mutual fund family e.g., T. Rowe Price, Fidelity and others (not to pick on either of these firms). A newer trend in 401k plans is offering mutual funds from several different fund families and, while better than “single family” options, the choices are still often narrowly limited.

Enter, the Brokerage Window.

Recognizing the desire for more investment diversity and control, more employers are adding the ability to establish a brokerage account within their 401k plans. With a brokerage option in a 401k plan, employees have an almost unlimited choice of investment options. One can finally build a 401k account tailored to their individual risk tolerance without compromising based on a limited menu of investment choices.

If your employer is offering a brokerage account option for your 401k plan, sign up.

Now, just because you can buy (almost) anything doesn’t mean that you should. This is your retirement money, not your Vegas money (you've seen those ads - "What happens in Vegas, stays in Vegas"? they don't mention that mostly what "stays in Vegas" is your money...). Build an asset allocation plan tailored to your personal risk tolerance and stick to it (e-mail me - see below - for a self-scoring Risk Tolerance Questionnaire). Professional financial planners (such as yours truly) design asset allocation plans all the time. Seek out competent advice – paying a professional fee for an hour or two of work will be money well spent.

The brokerage account option should allow you to invest in Exchange-Traded Funds (ETFs). ETFs are in many ways superior to mutual funds – cost being one of the most desirable. The cost of ownership in the average mutual fund is ~1.35% vs. ~.41% for the average ETF (per CNN). Why is this important? Because returns always vary, but expenses go on and on. Given the exact same investment performance between the average mutual fund and the average ETF, the ETF will have a return that is nearly 1% higher because of the lower cost.

1. Sign up for your plan’s brokerage account option.

2. Design an asset allocation plan – with professional help if needed.

3. Implement the allocation plan using ETFs.

4. Relax. Enjoy life.

Questions? kimm@sweetwaterinv.com

Think the Housing Crisis is Over?

2008-08-21T16:19:00.000-07:00

" It ain't over 'til it's over "
- Yogi Berra

We’ve been hearing every week for some time that the credit crunch is over, that the banks have come clean on all their bad assets, the economy is averting a recession, housing prices have stabilized and everything is rosy again.

Time to buy a house! (There are a few banks that would love to sell you a house).

Trouble is, we’ve been hearing the same thing every week for a year and in spite of the increasing repetition, it is no more true now than it was then.

If you are thinking of buying a house, wait. They will be cheaper next year. There’s no feeling like watching the equity shrink in a house you just purchased. If you have to sell the house you own now first, be prepared to wait for a buyer and be prepared to slash your price.

Here is a chart I borrowed that is based on federal government statistics. It portends a total drop in home values of 34% to get back to the historical price trend line.

Yikes!

There are lots of other scary charts out there illuminating different facets of the same point: housing prices are not sustainable and have to come down (further). This is true in other countries too – easy credit made the leap across the oceans. Mortgage foreclosures are on the rise all over the world. Banks aren’t in the business of owning real estate – what will they do to get rid of the homes they’ve repossessed? Slash prices until they find buyers. What will this kind of price pressure do to the prices of other homes on the market? Yes – prices are going down.

It ain’t over yet. Just ask Yogi.

Questions? kimm@sweetwaterinv.com

To Roth or Not to Roth

2008-08-21T13:45:00.000-07:00

If you have a choice between a tax-deductible retirement plan and a non tax-deductible retirement plan, which one should you pick?

The answer has a lot to do with a current unknown – future income tax rates.

Let’s leave aside the issue of increased future tax rates since we don’t know what they will be and can’t do anything about them if we did.

If you contribute to an IRA or 401k and deduct the contribution against your current income you are probably better off if you assume your marginal tax rate (the rate you pay on the last dollar of income each year) will be the same as it is now. This is due to the difference between your marginal tax rate and your effective (average) tax rate.

Here is the 2007 Tax Rate Schedule for married couples filing a joint return:

The income ranges shown in the “Over/But not over” columns are called brackets. Each bracket has its associated tax rate of 10% to 35%. If your taxable income lands you in the 28% bracket, then you pay 28% on each dollar of taxable income in excess of $128,500. By making a tax-deductible contribution to a retirement account, you reduce your taxable income and thus your income tax due by the same percentage.

Overall though, your income – including taxable retirement plan distributions - is taxed at your effective or average tax rate. Calculate this by dividing your tax for the year (Form 1040 line 63) by your taxable income for the year (Form 1040 line 43). The resulting percentage will be less than your marginal rate.

As long as your effective tax rate at the time of retirement account distributions is lower than the marginal rate at which the contributions were deducted, you are probably better off using a deductible retirement account if eligible. Since we don’t know now if this will be true, hedging one’s bets is advised.

You can hedge your future tax exposure by having a mix of “deduct now/pay later” (Traditional IRAs and 401ks) and “pay now/pay nothing later” (Roth IRAs and Roth 401ks) retirement accounts.

The income eligibility limitations for opening a Roth IRA are higher than they are for making tax-deductible contributions to a Traditional IRA. So it is possible that if you can’t deduct a Traditional IRA contribution you could be eligible to open a Roth IRA. If you don't qualify to make a tax -deductible IRA contribution, but are eligible to make a Roth IRA contribution do the Roth, as a Roth IRA is superior to a non-deductible IRA. (A non-deductible IRA contribution is not taxed upon withdrawal, but the earnings are taxed as ordinary income). There are no income limitations for participating in 401k plans although contributions may be limited for high income earners due to the non-discrimination rules if the plan doesn’t pass the required testing.

Remember that the rules can change: "Congress giveth, and Congress taketh away".

Questions? kimm@sweetwaterinv.com

Carrots and Sticks

2008-08-20T15:54:00.000-07:00

" If the people don't want to come out to the ballpark, nobody's going to stop them "
- Yogi Berra

You may be contemplating how best to allocate your retirement savings contributions among the many choices available. You have probably heard about the Roth IRA and its cousin, the Roth 401k. Let’s see if we can shed some light on the issues involved in making the choice of a Traditional IRA or a Roth IRA. Along the way we’ll do the same for the Traditional 401k and the Roth 401k.

Let’s assume that you want to save for retirement and that you can afford to do so.

So where do you put your money? We must distinguish here between the conduit by which you save and the actual investment of the funds. These are two different things. Today we are talking about the conduit by which you save and have little interest in the actual investment of the funds.

The conduit by which you save is the account into which you make your deposit – “contribution” in retirement account parlance. For example, an IRA (Individual Retirement Account) is not an investment in and of itself, but a conduit through which one can invest. I’ve had many conversations over the years in which people have told me they have an IRA but when I query them about what it’s invested in, they revert to insisting they have an IRA, believing the IRA itself is an investment. So, an IRA (or other retirement savings conduit) is not an investment but is a means by which one can invest. An analogy may be helpful: think of an IRA (or other account type) as a garage and the investment as your car that you park in the garage.

So which type of retirement conduit should you have? Like a lot of answers in the financial world, “it depends”, so let’s do a little compare and contrast.

#1 Caveat: All information here is based on U.S. tax laws as they exist in 2008.

#1 Carrot: ALL retirement accounts offer tax deferral on account earnings. No income taxes are due during what is called the "accumulation phase" - the period during which you are making contributions.

#1 Stick: You will pay income taxes on some or all of your retirement account balance at some point in time (either when the funds go in or when the funds come out).

Traditional IRA (tax deductible)
Carrot: Contributions made to a Traditional IRA may be tax deductible. This means for those who qualify, the amount contributed is deducted (line 32 of the IRS Form 1040) from “total income”. The annual contribution limit for those under age 50 is $5,000 ($6,000 if you are 50 or older). So if you contribute the full $5,000 and qualify to deduct the entire amount, then your income is reduced by the $5,000 ($6,000) contributed to the IRA. You have reduced your income tax by the amount of the IRA contribution times your marginal tax bracket. Assume your marginal tax bracket is 28%. This means that the last dollar of income you receive each year is taxed at 28% (not accounting for special treatment for capital gains, dividends, etc). This works in reverse when making a tax deductible IRA contribution. $5,000 times 28% = $1,400 off your tax bill for the year. Magic? No, just math. The bottom line is that putting away $5,000 only cost you $5,000. Without the deduction, you would have to earn $6,944, pay 28% in income taxes to bring home the $5,000 to put in the account.

Stick: All distributions from a Traditional IRA (with all contributions deducted) are taxed as ordinary income (no capital gains or other special treatment). An additional 10% penalty tax is added if the account owner is <59 http://www.irs.gov/ – look for Publication 590.

Roth IRA (non-deductible)
Stick: Contributions made to a Roth IRA are not tax deductible. To put $5,000 in a Roth IRA account, you have to earn $6,944 then pay 28% income taxes to bring home the $5,000 to put in the account.

Carrot: All qualifying distributions from a Roth IRA are not taxed. This means no income taxes are due on the money earned by your contributions. A “qualifying distribution” is one that occurs after the account owner is 59 ½ AND the account has been open for five years. HINT: If you are eligible, open a Roth IRA now to get the five year clock started – especially if you are >50.

Income limitations apply - check the eligibility rules for opening a Roth IRA at http://www.irs.gov/ – look for Publication 590.

Traditional 401k (tax deductible)
Carrot: Contributions made to a Traditional 401k are tax deductible. The annual contribution limit is $15,500 ($20,500 if 50 or older). Your employer may match a portion of your contribution. The employer contribution is not taxed to you at the time it is made. The same tax accounting applies as for a Traditional IRA: since the contribution is tax deductible, it only costs you $15,500 to make a $15,500 contribution.

Stick: All distributions from a Traditional 401k (including employer contributions and related earnings) are taxed as ordinary income.

Roth 401k (non deductible)
Stick: Contributions made to a Roth 401k are not tax deductible. Contribution limits are the same as for the deductible 401k and the rules are written such that total 401k deferrals are limited to $15,500 (or $20,500) so you can contribute to both types of 401ks at the same time, but the total contribution allowed doesn’t increase. To put $15,500 in a Roth 401k account, you have to earn $21,527 then pay 28% income taxes to bring home the $15,500 to put in the account.

Carrot: Qualifying distributions of your contributions plus earnings from a Roth 401k are not taxed. Employer contributions are not taxed to you when they are made.

ALERT: Employer contributions to a Roth 401k (plus related earnings) are accounted for separately and are taxed as ordinary income upon distribution. This is so for the simple reason that the employer’s contribution is a tax-deductible expense to the employer – since the employer contribution is deducted on the way in, it must be taxed on the way out.

So now that we’ve covered the basic differences between the retirement accounts available to most people, the question occurring to you is probably something like this: If I have a choice, what should I choose? We’ll cover that topic in our next post.

Questions? kimm@sweetwaterinv.com

Word o' the Day: Insurance (ABC’s of Financial Planning)

2008-08-11T17:06:00.000-07:00

Insurance is a risk transfer device.

For a fee, someone else will indemnify you, your possessions or property against loss for a certain time period.

The concept of insurance is based on the law of large numbers which states that the larger the number of observations of an activity, the more likely the observed outcomes of the activities will be equal to the expected outcomes. In essence, the more participants buying a particular type of insurance, the more likely the actual claims experience will match the expected claims experience. This allows insurance companies to price the risks they assume, knowing that a certain percentage of the insured population will submit a claim, but that a certain percentage will not. This is why insurance works – in some cases – or doesn’t work – in other cases.

I define “works” in this context as meaning the desired type of insurance is reasonably priced and readily available to those seeking the protection offered. Examples are auto insurance, life insurance and home insurance.

A good example of insurance that “doesn’t work” is health insurance in the U.S. It is – generally speaking – not reasonably priced and not readily available to those seeking protection. There are a number of reasons for this, but the basic reason is that health insurance in the U.S. is in violation of the law of large numbers. There are too many people who are not insured. If the U.S. were to somehow insure everyone living in the country, the cost of health insurance - on a per capita basis - would go down.

Questions? kimm@sweetwaterinv.com

Your House as ATM

2008-08-07T16:23:00.001-07:00

“Cause I love to live so pleasantly,
Live this life of luxury,
Lazing on a sunny afternoon,
In the summertime.”
- Sunny Afternoon – The Kinks

There haven’t been too many sunny afternoons here this year, but that hasn’t stopped many homeowners from wanting to live pleasantly. Rising home prices over the last several years created large increases in home equity, prompting many - insert your town name here - homeowners to treat their home like a cash machine via home equity loans (HELOCs) or re-financed mortgages.

In the financial world, borrowed money is called leverage. In a leveraged transaction, the borrower invests borrowed money, and if successful, repays the loan, keeps the profit, minus the cost of borrowing. If unsuccessful, the borrower still has to repay the loan plus interest, but since the investment was a loser, she doesn’t have all of the borrowed funds to repay the loan and must cover the loss from other funds. This can be very painful financially.

The problem for - insert your town name here - homeowners leveraging the equity in their homes is that a good portion of the money borrowed is not invested in appreciating assets. Many - insert your town name here - homeowners spent the money in one of three ways: home improvements, experiences (vacations and trips) and depreciating assets (cars, boats, home furnishings, etc). Spending borrowed money on home improvements can work out successfully – if the home is increasing in value at a rate higher than the cost of borrowing. To be fair, there can be intangible rewards too, e.g., increased satisfaction with one’s living space. But, spending borrowed money on lifestyle choices (experiences or depreciating assets) is a poor use of leverage because neither experiences nor depreciating assets can be used to repay the loan. Long after the experience is over or the car is sold, the borrower is still making payments on the home loan. When the value of homes stops increasing or even declines, equity-leveraged homeowners can find themselves with little or no equity but – you guessed it - they still have loan payments. Home values in my local area have been fairly stable after the large run up in 2004 - 2006 unlike many other regions in the U.S., lulling local homeowners into perhaps a false sense of complacency. I can only imagine what people in parts of the country where housing values are diving are doing: working second and third jobs, cutting out all the extras and in the end, walking away (“jingle mail” - that's where you put your keys in an envelope and mail them to the bank).

Rainy Day Advice: if you haven’t tapped the equity in your home, don’t start now. If you have, review your decision and develop a strategy to repay the loan. If home values keep falling, today’s home equity party can easily become tomorrow’s home equity hangover.

Questions? kimm@sweetwaterinv.com

Adaptation

2008-08-07T15:44:00.001-07:00

“It is not the strongest of the species that survives, nor the most intelligent that survives.
It is the one that is the most adaptable to change.”
- Charles Darwin

Here in the United (Consumer) States, the shock of exponentially higher oil prices is rippling through the economy. The cost of simply getting around has nearly doubled in the past year. This not only affects your direct cost of putting gas in the tank, but virtually all of your indirect costs when you consider the cost of transporting the products you buy every day. Not to mention the almost innumerable products that are made from oil – e.g., plastic drink containers.

I was recently in Europe where consumers have been adapting to high energy prices for many years. Their houses are smaller (lower heating and cooling costs), their cars are smaller (lower operating costs), they ride bicycles (it’s a little shocking at first to see a guy in a business suit riding a bike), they have well-developed public transportation networks and they use them, they ride motor scooters, hot water is provided by on-demand gas heaters (no money wasted on heating a tank of water that may only be used 1 hour a day), dishwashers are uncommon and their clothes washers are low volume front loaders. If the laundry hanging from balconies and windows everywhere is any indication, clothes drying is commonly provided by Mother Nature.

Here’s a picture of gas prices in Milan, Italy (June 30, 2008):

That’s €1.55 (Euros) per Liter.

The exchange rate for U.S. dollars into Euros (at the time this picture was taken) was about US$1.58.

There are 3.8 Liters in one US gallon.

The price of one US gallon of gas in Milan: US$9.30.

How would you adapt to paying US$9.30 per gallon?

Walk more. Use public transportation. Drive less. Downsize your car. Ride a bike. Downsize your home. Replace your appliances. Europeans have been doing all of these for years. Here is a typical euro-sized car:

This is not to say that you have to adopt any of these changes, the US is still the land of the free and the home of the brave, and there aren’t any laws – except the economic laws of the marketplace – that compel energy consumption behavior changes (yet). It seems that $4 per gallon gasoline is the pain threshold that is causing at least temporary habit changes.

Reducing one’s energy consumption is an incremental process that should be reviewed in the context of one’s overall living cost. As an example, it may not pencil out to trade in a large SUV for a smaller car even though the smaller car travels two or three times as far on a gallon. Look at the total cost of such a trade – prices for used SUVs are falling faster than a Randy Johnson splitter - while the price of efficient smaller cars (particularly hybrids like the Toyota Prius) is rising as demand increases. Calculate your break-even on such a swap before proceeding. You will probably be surprised at how long the pay off takes. Another example is compact fluorescent light bulbs. Yes, they last longer and use less electricity than incandescent bulbs, but they also cost three times as much (not considering sales and sponsored giveaways which are currently popular). They also make every room look like a morgue. Incandescent bulbs will likely be legislated out of existence – remember what happened to full flush toilets. The last thing you want to do is throw out a working incandescent bulb. At least wait until it burns out before upgrading. LED lights - which are superior in every way - will replace fluorescent bulbs anyway, it’s just going to take a while before innovation brings the price down.

So if we don’t change our ways are we going to die? No. Newsflash: we’re going to die anyway…

Questions? kimm@sweetwaterinv.com

Financial Cartography II

2008-06-04T16:32:00.000-07:00

“When you come to a fork in the road…Take it.”
-Yogi Berra

Many people that engage my services have only a vague idea – financially speaking – of “where” they are going or how they will get “there”. I like to use the analogy of a jigsaw puzzle or a map to describe what financial planning is and what it does. Think of putting together a jigsaw puzzle without a picture of what the finished puzzle should look like – pretty tough, huh? The financial lives of many people I meet resemble that jigsaw puzzle – all the client knows is they have a box of puzzle pieces but they don’t have a picture of what the finished puzzle should look like. And, without that picture they feel helpless in putting the pieces together.

Financial Cartography describes the series of processes by which I help clients determine their dreams, goals and objectives with the end result producing a financial map for their lives. I find that as this map is drawn, re-drawn and refined with new details, that clients become more engaged in planning their futures and discover that they do have the power to decide where they are going and how they will get there. When the map is completed to their satisfaction, I integrate the aspects of financial planning into their map so they can reach their objectives along the way.

Financial Cartography is not “retirement planning”, but life planning. “Retirement” is just a tactic for living a period in one’s life. Living a happy and fulfilled life is the ultimate goal and retirement is merely one part of that life.

Questions? kimm@sweetwaterinv.com

Mortgaging the Farm

2008-06-02T13:38:00.000-07:00

" The future ain't what it used to be "
- Yogi Berra

Zero savings (negative savings rate), falling home values (disappearing home equity), vanishing home equity lines of credit (banks are “dis-approving” previously approved credit lines), upward-adjusting variable-rate mortgages, increasing cost of living, $4 per gallon gas, job insecurity, etc, etc, etc.

What is the strapped U.S. consumer to do? Caught between the proverbial rock-and-a-hard-place and not enough room to roll over.

Repeat after me: WE DID IT TO OURSELVES.

We took the easy money. Why save when I can borrow from my house at a near-zero interest rate (in real terms)?

And what is government’s response? Throwing more money at us: Lower Fed Funds rates, “economic stimulus checks”, homeowner bailout legislation, Wall Street bailouts (see: Bear Stearns – though to be fair, I don’t think the Fed had any choice on this one), “Elect Me Gas Tax Holidays”. Say what you will about Obama, but he’s right on at least that last one.

$600 tax rebates? Does anybody really think these checks will be spent on anything other than rent, food and debt reduction?

All of this is designed to keep us spending every dime that we earn and dimes we don’t earn. Now that we can’t tap our homes for easy money, we’re going back to our credit cards: consumer revolving credit outstanding is increasing, not decreasing as one might expect it to do in the face of a recession. When that doesn’t work, we’re taking out loans against our 401k accounts and considering exotic home loans like reverse mortgages (for those 62 and older) and “equity-sharing” home loan arrangements. All to prop up that which shouldn’t have been built in the first place – by this I mean the massive debt pile, not your home ;-).

Here’s a simple question: what happens when all of the possible avenues to keep the ship U.S.S. Consumer afloat have been exhausted? What then?

A simple personal prescription:

Don’t buy anything you don’t need.
Don’t buy anything you do need with credit.
Open a savings account today – make regular deposits. Here’s an easy one: www.ingdirect.com
Start a debt reduction plan today. Here’s an easy to use spreadsheet: http://downloads.zdnet.com/abstract.aspx?&compid=61504&docid=292213

You can’t mortgage the farm if it’s already mortgaged. Change your behaviors, change your life. Put yourself in a position to choose rather than react.

Questions? kimm@sweetwaterinv.com

Water is the New Oil

2008-05-27T12:30:00.001-07:00

“It is clear our nation is reliant upon big foreign oil. More and more of our imports come from overseas.”
- George W. Bush

"When the well is dry, we learn the worth of water."
- Benjamin Franklin

You can own oil, but you can’t own water. You can invest in oil and the industrial complex that finds, produces, refines and distributes it. You can invest in the industrial complex that finds, produces, treats and distributes water, but you can’t invest in water itself. Oil and its byproducts are toxic to life whereas water is essential to all life. Perhaps therein lies the origins of the difference to investors. Fresh water is, for the most part, not owned by anyone but is (in most cases) managed and distributed for the public good. The price you pay for public water is essentially the cost to transport, manage, treat, and distribute it to the tap in your home.

You can’t – at least not yet – buy water on any exchange in the world. As water supplies get tighter across the world, this could change. Water is the new oil – a precious commodity, increasingly harder to find, manage and distribute; and that supply is often subject to the whims of Mother Nature. Control of available water is subject to the whims of government. In some parts of the country, the availability of water is restricting the building of housing.

Some regions in the U.S. are learning the hard way – the Southeast is entering its third year of drought conditions. Lake Lanier, Atlanta’s main source of water is over 13 feet below normal, despite recent rainfall. See embedded drought map of the U.S. below. The world drought map doesn’t look any better.

Like oil, water must be transported from where it is found to where it will be used. Pipelines are commonly constructed to bring the water to a central collection and treatment plant. Once at the central plant, the water must be tested and brought up to potable standards. Only then is the water released into the municipal distribution system. You may have seen news stories about large consumer products companies and their quest for water to fill the millions of plastic bottles they sell each year – a lot of this water comes out of the municipal tap. You may also have seen stories about the treatment of sewage to return it to the potable water supply – this is happening now in Southern California http://www.nytimes.com/2008/08/10/magazine/10wastewater-t.html?em.

Investors can tap into the water pipeline at four main places: infrastructure, treatment of water entering the system, consumer products (bottled water) and treatment of water exiting the system (sewage treatment).

You can find stocks of companies involved in the various phases of water treatment and distribution but as readers of this blog know, I am a big believer in the diversification benefits afforded by Exchange Traded Funds (ETF). There are currently two ETFs concentrating on water – primarily transportation, delivery infrastructure and treatment.

1. PowerShares Water Resources Portfolio (ticker PHO)
http://www.powershares.com/home.aspx

2. Claymore S&P Global Water Index ETF (ticker CGW)
http://www.claymoresecurities.com/

PHO is more U.S. focused in its holdings while CGW is more international.

Investors can play the consumer products angle with stock in Coca-Cola – distributor of Dasani (ticker KO), Pepsi-Cola – distributor of Aquafina (ticker PEP) or Nestle – distributor of Poland Spring (ticker NESN). U.S. Consumers are paying more for bottled water per gallon than they are for gasoline ($1 for a 16 ounce bottle equates to $8 per gallon).

Asset allocation: these investments are primarily in stocks of companies involved in the water industrial complex - these are not a commodity play on the price of water.

Questions? kimm@sweetwaterinv.com

A Journey With My Dad

2008-05-22T14:23:00.000-07:00

(My father died May 10, 1999. Following is what I said at his memorial service. We still miss you Dad).

Reading: Genesis 22, verses 1-12

Where are we going dad?
Down to Callahan Creek? Are we?
Can we put our toes in the water? Can we?
Are we driving to Kalispel? Are we?
Can we swim in Flathead Lake? Can we?
Are we there yet dad?
Are we there?

Where are we going dad?
Are you walking to school with me? Are ya?
Did you pack me a lunch? Did ya?
Will you visit my classroom today? Will ya?
Are we there yet dad?
Are we there?

Where are we going dad?
Can we stop at Wall Drug? Can we?
Can we visit Frontier Town? Can we?
What’s a tourist trap dad? Huh?
Are we there yet dad?
Are we there?

Where are we going dad?
Are we going out on the boat? Are we?
Can I row the dinghy in the harbor? Can I?
Will we go fishing for salmon? Will we?
Are we there yet dad?
Are we there?

Where are we going dad?
Will you show me how to tune up the car? Will ya?
Can I use the car tonight? Can I?
Why are you laughing at me? Why?
Are we there yet dad?
Are we there?

Where are we going dad?
Are you coming to my basketball game? Are ya?
Why are you so absent? Why?
Why do you withhold your love? Why?
Are we there yet dad?
Are we there?

Where are we going dad?
What am I carrying on my back? What?
I can’t see it, why is it so heavy? Huh?
Did you give this to me? Did ya?
Are we there yet dad?
Are we there?

Where are we going dad?
Is life about anger? Is it?
Is life about hate? Is it?
Is life about love and forgiveness? Is it?
Why am I confused dad? Why?

I love you and I forgive you.

Where are we going dad?
Are we there yet dad?
Are we there?

The Great American Distraction

2008-05-07T15:06:00.000-07:00

“Thou shalt not covet.”
- God (The 10 Commandments #10)

I had occasion to visit a large “consumer electronics” store recently. It is probably the largest store of its kind in my metro area. If it beeps, flashes, projects, broadcasts, computes, rings, networks, communicates or otherwise distracts one’s attention, this place has it. And how. It is the largest toy store in town.

When I go to places like this one – which isn’t often – I find myself asking questions: “How are the people buying all this stuff paying for it?” and “Is this something they need or is it just entertainment (either what they are buying or the time spent in the buying)?” and “How much of the stuff in here was made in America by American workers?”

The U.S. has become the world’s largest consumer market. Not coincidentally, the U.S. is also the world’s largest debtor nation. Our IOUs have found their way to every corner of the world.

It is not my intention to book the reader a ticket on a guilt trip. The U.S. is still the “land of the free” – it is not illegal to spend money in whatever manner one wishes.

However.

If you consume all you make – and more, by leveraging your income with credit cards and home equity loans – you will never become financially secure.

Too many Americans are scurrying in the Lemming Parade over the edge of the cliff following the bigger house, newer car and larger plasma TV into the abyss. Every one a distraction.

What is our own government telling us to do with that $600 tax rebate? “Go out and spend it.” I’ve already seen ads that promise to “double your tax rebate if you spend it in our store”. The vendor is willing to take a $600 hit to keep the goods flowing through his store. Do these messages sound a little desperate to you?

In the meantime, the Federal Reserve – supposedly independently in charge of monetary policy and primarily interested in price stability – has been slashing short-term interest rates attempting to mute the effects of a recession that has already begun. In theory, lower interest rates lead to growth in business and consumer spending. By the way, consumer spending is about 2/3rds of the U.S. economy. No wonder the government and the Fed are so desperate.

In the coming months you’ll be seeing a lot of articles and advice about the “New Frugality” – not spending and saving money will become hip here in the United Consumer States.

Questions? kimm@sweetwaterinv.com

Living in Dollar Land

2008-04-25T16:45:00.000-07:00

“When the music’s over
Turn out the lights
Turn out the lights
Turn out the lights”
- When the Music’s Over (The Doors)

Is anybody paying attention? The music is about to stop. Will we be able to keep the lights on?

The once mighty U.S. dollar – the world’s reserve currency - is going down the proverbial rat hole.

· The Euro could become the new reserve currency for the world, in spite of the unhappiness in the Euro Zone countries with the fiscal and monetary policies needed to support the common currency.

· Iran recently started up a bourse (exchange) for trading petroleum priced in Euros and other non-U.S. currencies.

· Meanwhile, the U.S. Federal Reserve is feeding the dollar’s decline by reducing short-term interest rates in what looks like an increasingly desperate attempt to head off a recession that has probably already begun.

If you live in the U.S. you are long the dollar. You are paid in dollars, earn interest in dollars, invest with dollars and pay all your bills in dollars.

How can you preserve the purchasing power of a declining currency? By going short.

You may ask: How can I short the dollar when I live in Dollar Land? In particular, how can I do this without a lot of headache?

Here are four relatively painless ways:

· Buy investments outside the U.S. – even if your investment is denominated in dollars you have more dollars after the currency exchange (assuming your investment choice is successful, of course).

· Buy commodities traded in dollars – the prime example is oil. The recent run-up in oil is in part due to the decline in the dollar (the higher price to the producer offsets the lower value of the payment).

· Buy foreign currencies – but be sure and avoid currencies pegged to the U.S. dollar.

· Buy investment funds that short the dollar.

There are mutual funds and exchange traded funds (ETFs) that follow these strategies. And, they are easily accessible to the average investor.

Some places to look:

http://www.rydexinvestments.com/

http://www.ishares.com/

http://www.pimcofunds.com/

http://www.statestreetspdrs.com/

http://www.powershares.com/

Most, if not all of the products offered by these firms can be purchased through brokerage accounts at the major do-it-yourself investor marketplaces: Charles Schwab, Vanguard, Fidelity, TD Ameritrade, ETrade, etc.

Questions? kimm@sweetwaterinv.com

Complete lyrics: http://www.sing365.com/music/lyric.nsf/When-The-Music

Generation Boomer

2008-04-25T13:16:00.000-07:00

The Bejing Times World Edition, dateline: January 15, 3050
© Fox News

People’s Republic archeologists digging through the ruins of Old Los Angeles unearthed a previously unseen script for a United Consumer States television show that was apparently never produced. While the manuscript is undated, the naïve themes of free will, personal initiative and democratic rights for all sentient beings expressed would seem to place it in the latter half of the 20th century. Due to server-space limitations as a result of publication of the latest 9 Month Economic Restructuring Plan, we can offer our viewers only one page of the manuscript. We think you will find it quaint and amusing.

Generation Boomer

A tele-play in 4 acts.

Episode 1, Act 1, Scene 1

[T.V. science fiction show theme music begins]

Voice over: “Retirement, the final frontier. These are the voyages of Generation Boomer – whose continuing mission is to seek out new thrills, spills and chills. To boldly go where no generation has gone before! Warp speed!”

[sound of grinding gears, power down, etc]

Helmsman: [Russian accent] “The ship is not responding Captain!”

Captain: [arrogant accent] “Engineering – what’s the matter?”

Engineering: [Scottish accent] “We’ve run out of power!”

Captain: “First Officer – analysis!”

First Officer: [detached accent] “It appears that Generation Boomer is broke, Captain. In all the years of seeking new thrills, spills and chills, we forgot to save anything. In fact, we’re going to crash on that dim looking planet over there.”

Captain: “You mean Planet Poorhouse?”

First Officer: “Yes, I’m afraid so.”

Captain: “What can we do? There must be SOMEthing?”

First Officer: “Hmmm, well yes, there is one thing. Do you recall the films we saw in grade school when we were all afraid of The Bomb?”

Captain: “Well, yes, but what does that…?”

First Officer: “Do you remember what you were to do in the event of an attack? Crawl under your desk, bend over and kiss your …”

Captain: “N-O-O-O-O-O-O-O-O-O-O-O!!”

[cut to first commercial]

It’s never too late to do something about it!

Questions? kimm@sweetwaterinv.com

Word 'o the Day: Fiduciary (ABC's of Financial Planning)

2008-04-23T17:06:00.001-07:00

“Thou shalt have no other gods before me.”

- God (The 10 Commandments #1)

There’s a lot of flim-flam in the investment management / financial advice industry. One of the articles I share with prospective clients is titled “8 Things Your Financial Advisor Won’t Tell You” by Liz Pulliam Weston (link at the end of this entry). Look it up and read it – it may raise the hair on your neck – and if you are shopping for a financial advisor, it should.

Number 2 on her list is “I have no obligation to put your interests ahead of my own.” In many cases in this industry, she is absolutely correct. Registered Representatives (aka “Stock Brokers”) are legally obligated to place their employer’s interests first – as for their customers, they are only required to treat them “fairly” and provide advice that is “suitable”. Other than this squishy limitation, the customer and her money are fair game. And if there is a dispute, virtually all brokerage company agreements include a mandatory arbitration clause that the customer must agree to before they will open an account.

In contrast, Registered Investment Advisers and their affiliated Investment Advisory Representatives are held to a fiduciary standard. The U.S. Securities and Exchange Commission (SEC) enforces the Investment Adviser Act of 1940 (Act), the legislation that governs the conduct of Registered Investment Advisers and affiliated persons. The SEC interprets the Act as meaning that a Registered Investment Adviser (and affiliated persons) is a fiduciary to its clients and owes those clients a duty of undivided loyalty and utmost good faith (italics added for emphasis).

Powerful words. It reminds me of the cliche: “It’s the 10 Commandments, not the 10 Suggestions”.

Questions? kimm@sweetwaterinv.com

http://articles.moneycentral.msn.com/RetirementandWills/CreateaPlan/8ThingsYourFinancialPlannerWontTellYou.aspx

Never Fall in Love

2008-04-17T15:04:00.000-07:00

“What do you get when you fall in love?
A guy with a pin to burst your bubble,
That's what you get for all your trouble,
I'll never fall in love again,
I'll never fall in love again.”

- Dionne Warwick (“Never Fall In Love Again” by Burt Bacharach)

How many times have you heard the expression “I fell in love with it / him / her / them”? Or how about “I couldn’t help myself – I fell in love”? Like my kids used to say, “Like infinity times, Dad”.

Falling in love should only apply to people. When someone falls in love with an investment, they are headed for nothing but “pain and sorrow”. Love affairs are only for the heart, not the wallet. Of course, human beings are imperfect and they frequently attach their emotions to physical objects and intangibles like investments.

See if any of the following sound familiar: “I love that stock!”, “I would never sell that stock.”, “I know that company.”, “I work/ed for that company – I know what’s going on.”, “I know the markets.”, “I know where this is going.” Conviction in the face of uncertainty is a sign of character, but conviction based on nothing but “love” is a sign of cluelessness.

Don’t get me wrong, I want my investments to go up in value as much as the next guy. But I’ve learned – sometimes the hard way – to divorce how I feel about an investment from the decision to buy or sell that investment. I have become indifferent to the specific investment of my money by focusing on two things: “Are the costs of buying, owning and selling reasonable?” and “Does this fit or not fit into my overall allocation plan?”. Of course, once in a while I will take a flyer on something just for the hell of it, but in those cases I am acting with intention i.e., I know I’m taking a flyer and deliberately choose to do so.

Loving an investment is unrequited. The investment will never love you back. It’s a one-way street and no matter how fervent your love, the investment is not going to drive down the street the wrong way to meet you.

Act with intention and leave the emotion out of it.

Questions? kimm@sweetwaterinv.com

(complete lyrics here: http://www.lyricsmode.com/lyrics/b/burt_bacharach/ill_never_fall_in_love_again.html)

When I Die

2008-03-09T19:21:00.000-07:00

"And when I die,
And when I'm gone,
There'll be one child born
In this world to carry on, to carry on."
- And When I Die (Laura Nyro - as recorded by Blood, Sweat and Tears)

A death in the family has a way of focusing one's attention. Space isn't the Final Frontier, death is. Everyone should write a letter such as the following.

To my wife and children:

First off, I want to be cremated. Under no circumstances is this to occur at the _____ Funeral Home in the Fremont neighborhood of Seattle, WA. You know why I feel this way. What you do with me after that is up to you, but I do have a few suggestions: the Kootenai Falls on the Kootenai River between Troy and Libby, Montana; Flathead Lake south of Kalispell, Montana; Puget Sound in Washington; the outfield grass at Safeco Field (they don't actually allow this, it's just wishful thinking). If you pick Port Townsend, my preference is for Marshall's Folly - the underwater acreage south of the downtown ferry dock or anywhere in Chief Chetzemoka Park.

At some point you will open my legal documents that convey my love for you in a monetary sense. As I'm writing this, there isn't much, but that will change (could be even less!). If I still have life insurance, you are all named beneficiaries.

As for my stuff, I'll leave it to you to sort it out. I don't care who gets what, just that each of you wants what you get. If my clothes don't suit _____ , as to fit or style I'm not gonna feel bad that they are given away. I kept some of my dad's clothes after he died but eventually donated them after I was able to let go. You will know when that time comes. Hopefully I spent enough time sorting, consolidating and tossing that tidying up won't be a large burden. Mom knows I'm right, she just has a hard time letting go. You'll know how successful I was by the size of the job with which you are confronted. Bonne chance! You might want to hold an estate sale - you won't believe what people will buy. Whatever you don't want and can't sell should be donated to Goodwill Industries.

My legacy to all of you is my music in whatever form that takes. My goal was to record at least a rough version of everything I ever wrote - even "Goin' Down to the Banana House" (well maybe not that one...). I wanted to get it all down in a digital format for ease of transporting and sharing. Hopefully I got that done. There are also several notebooks of lyrics, song ideas, etc. stretching back to my teen years.

You can hold a memorial service if you wish, at the location of your choice. I have three requests: that it be held in a church (not a funeral home), that there is music, and that a rendition of "Harvest Time" (aka "The Reaper") is played. The writer's name is D.W. Spencer in case you need to look it up. There is at least one copy of the music and lyrics with my other musical literature. Whatever else you do is up to you - services are for the living. But please, no three hour marathons. If _____ is still around, I know she will make a musical contribution.

And lastly, I want you to know that I love each of you. You each have unique gifts to share with the world and it has always been my self-centered conceit that I did everything I could to encourage and support each of you in the development of your unique talents.

I love you,

Kim Miller - husband, friend, father

(complete lyrics here: http://www.lyricsdownload.com/blood-sweat-and-tears-and-when-i-die-lyrics.html)

A Few Words About Inflation

2008-02-04T16:13:00.000-08:00

"Well I'm not the world's most masculine man
but I know what I am and
I'm glad I'm a man and so is Lola,
Lo-Lo-Lo-Lo-Lola
Lo-Lo-Lo-Lo-Lola"
- The Kinks ("Lola")

Is he glad he's a man and is Lola glad he's a man or is he glad he's a man and glad Lola is (really) a man? Which way is up? Gotta love the ambiguity. Speaking of ambiguities...

Inflation is a fact of life in any economic system. In the U.S., we think (well, the Federal Reserve thinks) that if inflation is ~3% or lower that it is “acceptable” and “under control”. But even at “just” 3%, prices will double in 24 years (Rule of 72). People in their 50’s will live long enough to see prices double. But inflation is not linear and every person’s inflation experience is different because we aren’t all buying the same goods and services.

Another problem with inflation is that the government cooks the numbers. Imagine that!

· You may have noticed over the past few years that when inflation figures are reported that you typically hear a figure for “core inflation, excluding volatile energy and food”. This is such a crock. Can you think of anyone you know who does not purchase energy and food? Energy and food are certainly part of my core basket of goods and services.

· The application of so-called “hedonic adjustments” was initiated during the Clinton years. Hedonic adjustments are concerned with the effect that the march of technological innovation has on prices. As an example, personal computers have gotten cheaper and cheaper over the years. The government decided that this improvement should be reflected in the calculations for inflation, thus the price of personal computers have essentially a negative impact on the official numbers.

And finally, probably the least-appreciated impact of inflation is the purchase of goods and services that do not yet exist! Think back 10 years – how many people had cell phones? How many people had MP3 players? How many people had a broadband internet connection at home? Did you ever imagine that you would want – let alone need - to purchase a personal paper shredding device? We could go on for several pages with examples. The point is that we don’t know what we don’t know. What will all these unknown items cost us? All of these unknown goods and services will be things that we will want to buy or for which a need will be created (e.g., identity theft = personal shredders).

If you are interested in how the books are cooked, visit Shadow Government Statistics at http://www.shadowstats.com/ .

[full lyrics here: http://www.lyricsfreak.com/k/kinks/lola_20079021.html]

Questions? kimm@sweetwaterinv.com

Word o’ the Day: Finance (ABC’s of Financial Planning)

2008-02-04T16:04:00.000-08:00

“Money, get away
Get a good job with more pay and you’re O.K.
Money it's a gas
Grab that cash with both hands and make a stash
New car, caviar, four star daydream,
Think I'll buy me a football team”
- “Money” (Pink Floyd)

You could substitute the word “Subprime” for the word “Money” in the song. The subprime crisis – while enormous in its reach and deep in its impact – is but the latest in a long list of financial excesses perpetrated by the so-called Masters of the Universe (see Tom Wolfe’s Bonfire of the Vanities – read the book though, the film was excremental). If you delve into the personnel at any major financial firm you will find an enormous number of people with MBA after their name. These people spend their waking hours figuring out how to make something from nothing – they are the alchemists of the modern age.

Finance used to be pretty simple: structuring Initial Public Offerings (IPOs) of stock and structuring offerings of corporate and municipal bonds. There were always excesses of some kind of course – where there’s money there are always predators to be found. But still, it was a pretty straightforward endeavor – structure financing for a business or government endeavor and fund it by finding people (investors) to invest.

As time went on, finance became more exotic, creating ways for investors (mostly institutional investors) to play both sides of the market, creating hedges for shorting (making money when an investment declines in value), building the proverbial “better spreadsheet” and engineering more and more ways to arbitrage minute differences in markets around the world. Tools created included: Hedge Funds of all shapes, sizes and flavors, Hedge “Fund of Funds” as diversification, Private Equity Funds, Commodity Pools, Private Financing, and on and on. What was truly created? Fees for fund originators, fund salespeople and fund operators.

Players in the current Subprime charade (Bill Gross of PIMCO referred to it as “…the pyramid scheme, chain letter driven structure of modern finance…”) were driven by fee income generated at every step of the transaction. At the bottom of the pile is the lowly mortgagee, the person upon whose timely monthly mortgage payments the upside-down pyramid rests. So what happens to all the spreadsheet models when this person and many of his similary-situated brethren fail to deliver? No monthly payments equals no cash flow to the investors holding the bonds and derivative securities built on top of the timely monthly payment. The upside-down pyramid falls over, crushing the “new car, caviar, four star daydream”. And the “football team” too.

Questions? kimm@sweetwaterinv.com

[View all lyrics here: http://www.azlyrics.com/lyrics/pinkfloyd/money.html]

Word o’ the Day: Exchange Traded Fund (ABC’s of Financial Planning)

2008-01-30T16:50:00.000-08:00

“Tryin' to make it real — compared to what?”
- Les McCann (“Compared To What?”)

Exchange Traded Funds, commonly referred to as “ETFs” are usually defined as “compared to what”. This is because ETFs are unlike almost any other investment vehicle. I usually start my ETF discussion with “Compared to mutual funds…” but that presumes a depth of knowledge in the listener that they usually have yet to attain. And I like to keep discussions of investment esoterica down to earth in language that doesn’t require an immediate consultation of the dictionary. Let’s see if we can “make it real”.

Exchange Traded Funds are baskets of securities -
OK, what’s a “basket of securities”? Where does “basket” come from? Maybe “bucket” would be a better analogy. So, a “bucket of securities”. In one hand you carry the bucket and with the other hand, you select securities to put in the bucket. “Securities” (usually) means stocks or bonds. If you want to construct an ETF that follows the US stock market, you would put stocks of large US companies in the bucket. Examples would be GE, IBM, Microsoft, Boeing, Wal-Mart, ExxonMobil, etc. The individual stocks and the amount of each that you would put in the bucket would be based on an index – a 4-bit word meaning “list” - such as the Standard & Poor’s 500 Index.

Exchange Traded Funds are passive investments constructed to follow the performance of an index -
What is a “passive investment”? A passive investment is one that is not actively managed i.e., a money manager is not reviewing what’s in the bucket and making changes based on what he thinks. The issuer of the ETF decides what index it will follow and the bucket is filled with stocks or bonds that are intended to replicate the performance of the chosen index. Stocks or bonds are removed from or added to the bucket only when there is a change in the index the ETF is following.

Exchange Traded Funds are inexpensive to own -
Because the money in an ETF is not actively managed, the management fees are low. A quarter of a point here, a quarter of a point there – pretty soon we’re talking about a lot of money – your money. Like stocks, you will usually pay a trading commission to buy and sell ETFs.

Exchange Traded Funds are tax-efficient -
Investors do not like paying taxes on their investments, especially when they don’t have control over when the taxes are to be paid. An investor who owns shares in Microsoft can decide when to sell those shares and thus decide when to pay the taxes on any capital gain realized as a result of the sale. An investor who owns a mutual fund can’t do this, because the manager of the mutual fund is in charge of when to buy and when to sell – and the manager doesn’t care about your taxes (he’s not going to pay them – you are). Owning an ETF is like owning an individual stock in that the investor decides when to sell and thus decides when to pay the taxes on any capital gain realized as a result of the sale. This is not to say that owning an ETF is entirely tax-free, but it’s pretty close. Because of the passive design, securities owned by the ETF are only bought and sold when the index being followed changes so there is very little buying and selling and thus, very little in the way of taxable gains over which you had no control. (ETFs will distribute dividends and interest received on stocks and bonds so some taxable income is inevitable). The tax angle gets better though. Most ETFs allow investors to sell their shares and take distribution “in-kind”. This means instead of selling for cash, the investor receives shares of the stocks owned by the ETF – for tax purposes, this is not a sale. (This is definitely esoteric and most people don’t do it this way, but they could).

Exchange Traded Funds are transparent –
You can find out at any time what stocks or bonds your ETF owns. Mutual funds report their holdings on a trailing schedule (often by 90 days or more) so by the time you get the list of what they own it is not current.

Exchange Traded Funds can be priced, bought, or sold at any time during the trading day -
Most people don’t know it, but when you look up a mutual fund price, it is a day old. This is because mutual funds don’t price their portfolios until the markets close – they are not priced in real time. When you buy a mutual fund you won’t know what you will pay for a share until the market closes – that’s why buy orders for mutual funds are only accepted in dollars, not # of shares – no one knows what the share price will be until the fund prices its portfolio at the end of the day. So if the market is moving up sharply and you want to go along, you can do so – today - by buying an ETF just as you could by buying an individual stock.

Exchange Traded Funds can be sold short –
How do you make money when the market goes down? Sell short. Short selling involves the sale of securities you don’t own. Without getting bogged down here, essentially you borrow stocks or bonds from another investor and you sell them. The proceeds from the sale are deposited into your account. If you are right and the price goes down, you then buy the stock or bond in the open market – for less than you sold it for - return the stock or bond to the lender and you keep the difference. You can do the same thing with ETFs. A good way to make money recently would have been to sell short one of the many ETFs that track the financial sector - banks and stock brokerages. Sell short at $60, buy it back at $40 and keep $20 minus the cost of borrowing the stock. You cannot sell mutual funds short. You can't sell short in a retirement account.

In portfolios, I use ETFs for broad asset classes and to make tactical sector bets. We’ll talk about that another time.

(complete lyrics here: http://www.autodidactproject.org/other/comparedtowhat.html)

Questions? kimm@sweetwaterinv.com

Saver, Investor or Speculator?

2008-01-28T17:20:00.000-08:00

“A penny saved is a penny earned.”
- Ben Franklin

“A penny invested has a chance of beating inflation.”
- Kim Miller

Americans are great at speculating, mediocre at investing and terrible at saving. See which camp you fall into:

Saving
Savings are funds you put away for a future purchase or obligation or for an unforeseen event such as unemployment. You expect your savings to grow, albeit modestly without capital risk. You expect your savings to be available when you want with a minimum of trouble and without any dickering over its value (a dollar saved is always worth a dollar upon withdrawal). Savings are never investments. The prudent saver is patient and rarely disappointed, except on occasion when the yield offered across the street is ¼ point higher. The Saver has a plan and while he may be motivated to save out of fear, he is logical in his approach and is able to defer gratification. EVERYONE should be a saver.

Investing
Investments are funds you put into a venture in the hope of a future income or capital gains – i.e., that you will receive an income from the invested capital or be able to sell the investment for more than you paid in at the beginning (or both). You expect your investment to grow commensurate with the risk. Investments are never savings. The prudent investor is patient and is rarely disappointed – she knew what she was getting into at the beginning. The Investor has a plan and while she may be motivated to invest out of greed, she is logical in her approach and is able to defer gratification.

Speculating
Speculations are funds you put into a venture with the certainty that it is going only in one direction: sharply up in value. Savings are frequently used for speculation (“I know this stock is going up – I’m going to put the household rainy day money in – it can’t miss!”). Speculators are never patient and are frequently – if not always – disappointed. They have unrealistic expectations going in. The Speculator doesn’t have a plan and is primarily motivated by greed – he is emotional in his approach and would have to look up “defer” and “gratification” in the dictionary. Think back to the late 1990’s when the US stock market did nothing but go up – do you recall reading a lot about “buyer’s regret” as the markets fell from their highs? Was that Investing or Speculating?

In my career I have met very few Investors but I’ve sure met a lot of Speculators. Most people think they are Investors, but they are really Speculators – “investing” on “hot tips” or buying “5 Star” mutual funds and then rending their garments when the reality doesn’t match their vision. Regret is such an ugly thing.

Investment entails the acceptance of risk – the dollar you put in today may not be worth a dollar upon withdrawal. If one expects an investment to appreciate by 10%, one has to accept the chance that it could decline by 10% (or more). The theoretical lowest value of a share of common stock is ZERO. The Speculator dismisses this absolute as “nay-saying” or “balloon piercing” or “boring”.

Let’s be clear: markets don’t care what we think! Stocks don’t care what we think! Mutual funds don’t care what we think! Bonds don’t care what we think! Invest all the emotion you like, it won’t make any difference. Think about your favorite sports team – if it mattered what you thought, wouldn’t they be champions every year?

The only way to win – with any consistency – is to have a plan. Use asset allocation to diversity your portfolio. Know the risks you are accepting and be comfortable. If you’re not comfortable, reduce the risk. Don’t accept more risk than you need to reach your goal. A good advisor will have you complete a Risk Tolerance Questionnaire before investing your money.

So which camp do you fall into?

Questions? kimm@sweetwaterinv.com

Word o’ the Day: Exchange (ABC’s of Financial Planning)

2008-01-24T17:51:00.000-08:00

Investments are primarily traded – bought and sold – on an exchange. An exchange (commonly called “stock exchange” even though other investments are traded) is simply a marketplace that serves as a central venue to bring together buyers and sellers. In today’s world, the venue can be physical (a place) or virtual (electronic).

A well-known example of a physical exchange is the New York Stock Exchange (NYSE) in New York, NY. Traders gather on the trading floor of the NYSE and conduct business in person on behalf of their customers. As technology progresses though, the NYSE is performing more and more electronic trades. The NYSE has traditionally specialized in listing large U.S. companies.

A well-known example of a virtual exchange is the NASDAQ Stock Market also headquartered in New York but spread all over the world. NASDAQ operates an electronic system that enables its member firms to provide prices and availability for securities they are buying or selling for their customers. NASDAQ has traditionally specialized in listing smaller U.S. companies.

Questions? Kimm@sweetwaterinv.com

“Don’t Panic!”

2008-01-22T14:53:00.000-08:00

Arthur remained very worried. “But can we trust him?” he said.
“Myself I’d trust him to the end of the Earth,” said Ford.
“Oh yes,” said Arthur, “and how far’s that?”
“About twelve minutes away,” said Ford, “come on, I need a drink.”
- “The Hitchhiker’s Guide to the Galaxy” (Douglas Adams)

Readers of the Hitchhiker’s Guide to the Galaxy will recognize the soothing words (“Don’t Panic!”) found on the cover of each copy. They are intended to subdue the feeling one would get upon realizing that the world is coming to an end before lunch. Today.

Investment markets around the globe fell out of bed over the last two days with a domino-like series of bumps. The U.S. followed suit today (January 22). You probably heard a little bit about it. Screaming headlines and talking (shouting?) heads magnify the valleys even more than they magnify the peaks.

Now is a good time to review one’s personal investment time horizon. Do you need the money you have invested (“invested” as opposed to “saved” – one doesn’t put funds one has “saved” in the markets) in the “near future”? Each person’s definition of “near future” is different. For our purposes, let’s say it’s the next 12 months. If the answer to that question is “yes”, then the money should be “saved”, not “invested” [see previous writing: Word o’ the Day: Cash (ABC’s of Financial Planning)]. If you have “invested” money you will need in the next 12 months you are speculating, not investing.

If the answer to this question is “no”, then the best advice I can give you is: go for a walk. Review your asset allocation [see previous writing: Word o’ the Day: Asset Allocation (ABCs of Financial Planning)]. Add different asset classes to your portfolio.

“Don’t Panic!”

Questions? kimm@sweetwaterinv.com

Word o’ the Day: Cash (ABC’s of Financial Planning)

2008-01-21T17:16:00.000-08:00

“Cash for the merchandise, cash for the button hooks.
Cash for the cotton goods, cash for the hard goods.
Cash for the fancy goods, cash for the noggins and the piggins and the firkins.
Cash for the hogshead, cask and demijohn. Cash for the crackers and the pickles and the flypaper.
Look whatayatalk, whatayatalk, whatayatalk, whatayatalk, whatayatalk?”
- “Rock Island” (“The Music Man”)

We’re talkin’ ‘bout cash! When the stock market is in a correction, i.e., the world is falling apart, CASH IS KING. You can always exchange a dollar of cash for a dollar of goods or services. Try exchanging a dollar of any other asset for a dollar of goods or services and you have to deal with that pesky question: “What is your asset worth?” And then you (the seller) start up a dance with the merchant (the buyer). Ever trade in a car? Then you know exactly “whatayatalk”. There are no arguments about cash. The merchant will smile and make your change.

But what exactly is “cash”? Cash is any asset that can be easily converted into spendable dollars without prior contemplation of the asset’s worth on the part of either party to the transaction. The worth of the asset to be converted is understood.

Common types of cash: savings accounts, checking accounts, U.S. Treasury Bills (at maturity), FDIC-insured CDs (at maturity), money market accounts, money market funds, Guaranteed Investment Contracts (GICs – a popular funding choice in retirement plans) and “mattress funds”. Anything else purporting to be cash or “near-cash” or “just like cash” is something else – “not cash”. Of course, the value of these cash instruments depends on orderly and efficient markets. If things get really bad, then “mattress funds” are about the only cash one will have.

Questions? kimm@sweetwaterinv.com

New Year, New Fear?

2008-01-11T14:13:00.000-08:00

“Meet the new Boss, same as the old Boss.”
-The Who (“Won’t Get Fooled Again”)

So far, the new year is looking a lot like the old one:

The subprime mortgage debacle continues to unwind through the world financial system, forcing many of the big Wall Street players to seek outside capital to shore up their balance sheets (Merrill Lynch, Citibank et al). Significantly, most of these capital infusions were provided by non-U.S. corporations or governments.

Housing values and sales in the U.S. continue to fall, although “fall” may be too mild – in many areas, “plummet” is probably more accurate. Countrywide Financial – one of the largest mortgage companies in the U.S. - just sold out to Bank of America to avoid bankruptcy.

The U.S. stock markets are now in official “correction” territory (defined as a decline of 10% or more).

The December ’07 retail sales numbers are out and they are not pretty – this is a major indication that the U.S. consumer is cutting spending. (Armageddon hint: consumer spending in the U.S. is 2/3rds of the economy).

Prices for agricultural commodities are hitting all-time highs and oil remains within spitting distance of $100 a barrel. Gold is near its all-time high (in nominal dollars).

The Federal Reserve was forced to state publicly that they will be lowering short-term interest rates this month (January). The Fed is between a rock (lower growth) and a hard place (inflation).

Can you spell r-e-c-e-s-s-i-o-n? Can you spell s-t-a-g-f-l-a-t-i-o-n? Sure you can.

Did we get fooled again? Uh yeah, we did. We fooled ourselves. Again. The securitization of receivables – turning mortgage payments into derivatives – was supposed to reduce risk in the world financial system. Instead risk was increased, exponentially by many accounts. The effect of subprime mortgagees not making their payments has been like the proverbial flick on the last domino in a long row of dominos. And the really good news is that the full extent of the subprime mortgage fallout still isn’t known and probably won’t be for many more months if not years.

If you’ve read this far, you are probably starting to think about where you hid the key to the trigger lock on your 9mm. Don’t just sit there – go look for it! Now.

Just kidding. Take a deep breath. Call your financial advisor for a therapy session.

Short-Term Thinkers
In the coming months, cash will be king. Eliminate debt. Hoard cash. In a taxable (non-retirement) account, buy short-term bank CDs or T-Bills. You could get a little more sophisticated and ride the yield curve by buying long-dated U.S. Treasury Bonds – the coming interest rate cuts should produce some nice capital gains. [Remember: when interest rates go down, bond prices go up.] Reduce your spending. If you are thinking about buying a house, wait – they’ll be cheaper in a year. A painless method of raising cash is to have all mutual fund dividends and capital gains paid in cash as opposed to reinvesting them in the fund. If you are at risk of being laid off, consider reducing your 401k contribution.

Long-Term Thinkers
If you are investing long-term such as in a retirement account (IRA, 401k, etc) review your asset allocation and get more diversified: add commodities (agriculture, energy, metals, currencies, etc), increase non-U.S. stock holdings (decrease U.S. stock holdings), reduce small cap companies in favor of large cap companies, add a long-short fund, add bonds.

Questions? kimm@sweetwaterinv.com

Word o' the Day: Bond (ABC’s of Financial Planning)

2008-01-04T12:46:00.000-08:00

“The name is Bond, James Bond”.
- James Bond, “007” (numerous books and films)

What exactly is a bond?
A bond is a legal contract between you (the lender) and the issuer (the borrower). It says something like “in exchange for your loan of $X, we promise to pay you interest of Y% every six months on the principal until the maturity date, at which time we will return the amount of your original loan”. The key word here is “loan”. When you buy a bond, you are loaning money to a government or corporate borrower. You may say “But I bought my bond in the market, not from the government – how could I be loaning them money?” When you bought the bond, you stepped into the shoes of the seller. Every time a bond changes hands, the buyer becomes the registered owner to whom interest payments (and the maturity value) are made by the issuer (borrower). Trust me, you are a lender.

Bonds are sometimes referred to as “loanership” assets as distinguished from stocks which are “ownership” assets. Bonds are also often referred to as “fixed income” because the interest payments are (usually) fixed and do not change over the life of the bond.

What is “par value”?
Par value = face value. Bonds are usually issued at “par” meaning a $1,000 bond is sold for $1,000. There are exceptions of course, but most of those are beyond the scope of today’s lesson. One worth mentioning though is Treasury Bills (“T-bills”). T-bills are short-term bonds issued at a discount to their face (par) value by the U.S. Government. The difference between the purchase price and the face value is the interest e.g., a T-bill may be issued at $950 and matures at $1,000 – the $50 difference is the interest earned.

Why do my bonds go up and down in value?
If you buy a bond, you may notice that the value reported to you will go up and down. Bonds are valued in the market based generally on three factors: time to maturity (how long it will be before the principal is returned), nominal interest rate (the rate promised by the bond), and credit quality (how likely it is thought the issuer will be able to repay the principal). Of course, bonds are like any other investment in that the price changes in response to demand. When investors are selling bonds, bond prices (values) will decline. When investors are buying bonds, bond prices (values) will increase.

The value of existing bonds changes inversely in response to changes in interest rates. If interest rates go up, the value of existing bonds tends to go down and vice versa. A helpful analogy I’ve used is that of a teeter-totter. Picture the bond on one end, and interest rates on the other end. If the interest rate end goes up, the bond end goes down, and vice versa.

The financial media regularly reports on the price/value relationship of U.S. Treasury bonds. You may hear “Treasury yields are up”. This means bond values (prices) are down and is often the result of investors selling bonds and investing the cash in the stock market. If you hear “Treasury yields are down”, this means bond values (prices) are up and is usually the result of investors selling stocks and buying bonds in a “flight to safety”.

My bonds are rated BBB – are they safe?
Credit quality is also a factor in bond values. Bonds issued by issuers with (perceived) higher credit quality tend to have higher values when compared to bonds issued by issuers with (perceived) lower credit quality. The credit quality of a bond issuer is determined by a rating agency such as Standard & Poor’s, Fitch or Moody’s (the “Big 3” in the bond rating business). Bonds issued by the U.S. Government are considered AAA, the highest rating, because of the perception that the United States cannot and will not default on its obligations. A corporation may go bankrupt and be unable to repay its bonds, but the United States can’t (hint: they just print more money).

Why buy bonds?
Bonds are a financial asset – they have unique characteristics that make them attractive to investors. As part of an asset allocation plan, bonds are added to a portfolio to reduce risk (lower standard deviation) and help provide a “smooth ride”. Bonds are also used to provide income.

New (Year’s) Revolutions

2008-01-02T15:31:00.000-08:00

“You say you want a revolution,
Well ya know – we all wanna change the world.”
- The Beatles (“Revolution”)

It’s that time of year. Promises to make, promises to break. It’s a time-honored tradition – in America at least – to take stock every January and decide what needs changing. In a mostly futile attempt to break our chains of bondage, many of us tote up a list of those egregious habits we are determined to change. One of the habits we could all change is that of creating such lists every year! Resolution lists mostly serve to just add guilt to our pile of “couldas, shouldas and wouldas”. Change is hard. Research shows it takes 21 days (in a row!) to develop a new habit. In our “do it now, get it now, enjoy it now” culture, 21 days is an e-t-e-r-n-i-t-y. About the only things most of us can do 21 days in a row is eat and sleep.

So here’s my suggestion for a financial Revolution in 2008: pick one thing you want to change and work on that one thing only. Don’t get obsessed, but work on that one thing to the exclusion of anything else you may have thought about. Don’t add another item to your list until you’ve completed the first one. If it takes all year for the first one, then it takes all year. Here are some areas that you may be thinking of:

Budget – make one and follow it
Credit card debt – line ‘em up and knock ‘em down – use one of the snowball techniques* – the real key to success here is to not add to the debt
Rainy day fund – set up an account at an on-line bank and put money in – even if it’s only $5 - every payday
Retirement savings – sign up for the 401k at work; if already in, boost your contribution. If you don’t have a plan at work, set up an IRA.
Less taxing tax season – hire a tax preparer or accountant

* Option 1: pay the minimum on all balances except the smallest – when that is paid off add that payment amount to the next highest one, etc. Option 2: reverse it and pay the minimum on all balances except the largest – when that is paid off, add that payment amount to the next highest one, etc. Option 3: arrange accounts by interest rate, highest to lowest and pay off the highest rate first, then move down to the next highest rate, etc.

Once you start thinking about the financial habits you’d like to change it will be easy to come up with more ideas. PICK ONLY ONE and start your own Revolution.

Questions? kimm@sweetwaterinv.com

Winners and Losers II (Wash Sales)

2007-12-27T09:24:00.000-08:00

"You never count your money,
When you're sittin' at the table,
There'll be time enough for countin',
When the dealing's done."
- Kenny Rogers ("The Gambler")

If you sell investments at a loss in a taxable investment account to offset gains for 2007, be aware of the wash sale rule. Basically, the wash sale rule says that if you buy an investment within 30 days before or 30 days after a sale of the same investment, any loss you realize on the sale will be disallowed. Let's review a simple example:

You own stock in XYZ Corp and you have an unrealized loss of $100 - e.g., if you sell the stock you will have a realized $100 loss. You sell the XYZ stock on December 28, 2007 so you can take the loss on your 2007 tax return. A week after you sell the stock you see a news story that leads you to believe XYZ stock is going up, maybe way up. You feel like a sucker for selling, so you buy XYZ stock again. You have just created a wash sale, and your loss on the original purchase of XYZ will be disallowed by the IRS. The wash sale rules will not apply if you buy XYZ stock on the 31st day after the sale of the original shares.

A wash sale is not the end of the world, but it catches many unaware investors. All it means is that you can't deduct the loss on the original purchase and sale of the same investment. And, if you buy back the investment you sold and it skyrockets, you probably won't care much about the loss being disallowed.

There are a couple of ways you can take your loss and eat it too, so to speak.

The wash sale rule applies to identical investments. You can't buy back XYZ stock within 30 days and deduct the loss, but you can maintain some exposure to XYZ or its industry while deducting the loss on your original purchase. You do this by either buying another stock in the same industry or sector as XYZ or by buying a mutual fund or exchange-traded fund that invests in the same industry or sector that may include XYZ as one of its holdings. In either case, you won't have perfect exposure to XYZ, but your tax loss will still be deductible.

As always, tax advice specific to your situation should be sought from a tax professional.

‘Twas the Night After Christmas – or - Santa’s Last Stand-Up Routine

2007-12-22T10:48:00.000-08:00

[this was our family "Christmas Letter" in 2005 - I think it's pretty funny, but then I wrote it...]

“Is this thing on?” [tap tap schreeeee] “Hey Mr. Sound Man – fix this mic wouldya? Don’t think I don’t know what you did last summer, ‘cause I do. Well, well, well boys and girls. I just flew in from Baghdad and boy are my arms tired. [cymbal crash] How many times you think I’ve used that one? Ho-ho-ho.” [scattered laughter] “Whatever.” [takes a flask out of his pocket] “A little hair of the dog ya know? It’s been another back-breaking season.” [takes a long swig] “So…what’ll it be tonight? Sugarplums? Fairy dust? Rudolph? The old routine gets kinda stale when you have such a limited range of topics. Hmmm…how about a little game I call “Santa FAQ”? You ask all the questions you’ve always wanted to ask and I answer ‘em – OK? Keep in mind that just because I know everything [sing-song voice: (“…he knows when you are sleeping, he knows when you’re awake…”)] doesn’t mean I can answer – the Patriot Act, ya know. You there, in the back.” “Uh, how do you get to the homes of all the little boys and girls in one night?” “I have a sweetheart contract with FedEx with overflow provided by UPS. Next?” “Do you really eat all the cookies and drink all the milk?” “No. Most of it goes in the sleigh to feed the elves at the North Pole. Boy, do they get sick of cookies and milk.” “What about the carrots for the reindeer?” “Yeah they eat ‘em – how you think they see in the dark?” [takes out the flask and takes another long swig] “How do the elves make all those toys?” “Since I instituted the best management plan on earth, they’re afraid not to. Who do you think Wal-Mart learned from? You wanna make money in manufacturing or in retail? Come to “Santa’s Management Workshop” (Ó Santa, Inc., all rights reserved). Keep ‘em hungry, underpaid and scared of getting fired. My record speaks for itself.” “Hey Fatso! How do you keep your suit clean after going down all those chimneys?” [raises his hand to his mouth and speaks into a microphone hidden in his sleeve] “Security?” [points to a man in the third row, stage right. An elf runs out from backstage and zaps the guy with a cattle prod] “Oouuuuugh! Ok, sorry!” [elf zaps him again before returning back stage] “Ouuuch!” [speaks into the hidden mic again] “Note to self: add that man to the Permanent Naughty List.” “How do you really know who’s been naughty and who’s been nice?” “I have contracts with the CIA, the FBI, MI6, Scotland Yard, the KGB, and several other organizations that are so secret that no one (no one who’s alive anyway) has ever heard of ‘em. By the way, 9/11 really helped in that regard – I was able to put over half the world on the Permanent Naughty List.” “What about the members of the Miller Family?” “Whoa.” [takes out the flask, drains it] “Let’s see, hmmm…Sean’s at the University of Hawaii, taking classes in Independent Living and struggling with a bad case of Island Fever, Kelly is in NYC, studying fashion design and making plans to live in Europe, Andera is happily married to Ray in Connecticut, Diane is taking an intensive Bachelor’s Degree program in Nursing at the U of W with plans to graduate in June and Kim is going thru the CFPÒ (“registered trademark of the College for Financial Planning” – the lawyers always make me add that) curriculum, preparing to take the certification exam in July.” “Yeah, but have they been Naughty or Nice?” “Uh, that information is Classified and requires a Top Secret clearance.” “What about President Bush?” “Ho, ho, ho – are you kidding? EVERYone knows which list he’s on.” “Uh, who shot JFK?” “I told you there were some questions I can’t answer.” [speaks into the hidden mic] “Security? You know what to do.” [elf runs out from backstage and zaps the guy with a Taser. 3 more elves appear and drag the guy out, still twitching] “Ladies and gentlemen, it’s been a pleasure. I’ll be back here next year - same day, same time. Until then – Merry Christmas. I’m outta here.”

Word o' the Day: Asset Allocation (ABC's of Financial Planning)

2007-12-21T10:51:00.000-08:00

Well, today's word is actually a phrase, but just play along, ok?

Asset allocation is the process by which you (should) decide where to invest your money. Research indicates that something like 90% of investment returns are determined by asset allocation - i.e., being in the right type of asset, rather than security selection, i.e., the individual stocks or bonds you bought. Investments are placed into "classes" based on inherent characterisitcs. It's akin to your grade school teacher having you line up by height, or calling roll alphabetically by last name - she (they were almost always "she", right?) was classifying you by a common characteristic.

For example, stocks are classified as "Large Cap", "Mid Cap" and "Small Cap" and then further into "Growth" or "Value", etc. So you get further refinement into "Large Cap Growth", "Large Cap Value", etc. "Cap" refers to Market Capitalization which is the number of shares of the company times the price per share. It is a measure of the size of a company. A good example of a Large Cap company is ExxonMobil (symbol XOM) the largest U.S. corporation as measured by market capitalization, currently at $510 Billion. Stocks are classified according to their market cap because the stock of companies of similar market size exhibit similar behaviors. Kind of like your grade school teacher assigning detention to "everyone in the back row" based on their (similar) classroom behavior.

Here's a list of some asset classes:

Stocks
Large Cap Growth/Value/Blend or Core
Mid Cap Growth/Value/Blend or Core
Small Cap Growth/Value/Blend or Core
International Growth/Value
Foreign Growth/Value
Bonds
Investment Grade Bonds
High Yield Bonds
Corporate Bonds
US Treasury Bonds
Mortgage-backed Bonds
Real Estate
Real Estate Investment Trusts - U.S. and Foreign
Commodities
Precious Metals
Industrial Metals
Agricultural Products
Oil
Natural Gas
Cash
Money Market Funds
Bank CDs
US Treasury Bills

And the list goes on and on.

The theory of asset allocation is based on the benefits of diversification. The basic tenet of diversification is "Don't put all your eggs in one basket". Pretty profound, huh? Spread them around. The more baskets (asset classes) you have eggs (investment positions) in, the better your chances of a positive return. At the same time, diversification reduces risk through a mechanism called "correlation" - something we'll talk about at another time.

Many investors think they are diversified because they own stock in several different companies. What they don't realize is that those stocks might be all in the same asset class e.g., Large Cap Growth. They are practicing security selection ("I'm going to buy this stock because I think it's going up.") , not asset allocation.

Smart investors (since you are reading this, you are a "smart investor") use asset allocation to design their investment portfolios. A good financial planner can provide you with the tools.

Since it is a holiday weekend, class is dismissed and as a special gift, no homework is being assigned. Extra Good News: December 22nd is the Winter Solstice - from here on out the days get longer!

Questions? kimm@sweetwaterinv.com

Winners and Losers

2007-12-20T14:16:00.000-08:00

"You gotta know when to hold 'em,
Know when to fold 'em,
Know when to walk away,
And know when to run."
- Kenny Rogers ("The Gambler")

When reviewing one's run of luck - or lack thereof - at that poker table in the casino known as The Market, think about your taxes for a minute. If all your card-playing takes place in tax-deferred accounts like IRAs and 401ks, you can skip this post, because none of it will apply.

In a taxable investment account, you will have winners and losers. Some things you own will have done well and others not so well. A smart investor (since you are reading this, consider yourself a smart investor) will review his taxable account/s before the end of the calendar year with the idea of matching gains and losses. Depending on the extent of either, it is possible to sell stock (or bonds, or mutual funds, etc) at a profit and have no income tax liability because the (realized) gains can be offset by (realized) losses. The key here is "realized" which means the investment has been sold. Gains or losses existing solely on paper i.e., investments that are not sold, are "unrealized". Here's a simple example:

Jane has a taxable account with two stocks: Micro and Macro. She paid $100 for Micro and $110 for Macro. Micro is now worth $200 ($100 gain) and Macro is now worth $10 ($100 loss).

Jane could realize both the gain and the loss by selling the stocks and pay no taxes on the $100 gain in the Micro stock. The loss on the Macro stock offsets the gain in the Micro stock. In the real world of course, results don't necessarily work out so neatly as in our example, but the concept is the same. Gains and losses are reported on the IRS' Schedule D of Form 1040.

You should be able to easily determine if gain-loss matching will provide any benefit for you if you track your account/s at any of the on-line services or custodians. Your financial advisor should be able to provide the information if they include portfolio management in your service package.

For 2007 tax planning purposes, the sales must occur before the end of the calendar year. Nobody likes to fold 'em, but like the poker player, ya gotta know when it makes sense.

Questions? kimm@sweetwaterinv.com

Standard Deviation and Funding the Cost of College

2007-12-20T10:00:00.000-08:00

The cost of a college education continues to increase faster than the cost of living.

Here in Washington State, tutition costs for the University of Washington (UW) and Washington State University (WSU) have increased an average 7.1% over the last 15 years. (If I was smarter at this 'puter stuff, I'd insert the chart you can see at: http://www.get.wa.gov/documents/get_increase07.pdf).

The US Consumer Price Index (CPI) for the same period averaged +3.9% (derived from CPI data at http://stats.bls.gov/).

Tuition increases got so out of hand here in Washington - +16% in 2002 - the Legislature passed a law limiting annual increases to 7% (until 2017). Guess how much tuition has increased each year since then (see the chart above)?

So what's the best way to pay for college?

Like we say a lot in the financial planning business - "That depends." But we can talk about that some other time. Our purpose today is to illuminate the standard deviation of college funding as it relates to the cost of college.

Standard deviation is a mathematical construct that measures the variation of an event over time around its average variation. In the investment world, standard deviation is used to measure risk - or the variation of the return of an asset over time around its average return. I usually explain it as the difference between the return you received on an investment compared to the return you EXPECTED to receive on the investment.

When planning for college expenses, the big question goes something like this: "How can I be sure the choices I make today will cover the costs I expect tomorrow?" The short answer is "You can't".

But - you can get close if you accept the premise that the cost of tuition in Washington State (UW, WSU) will be representative of the cost of tuition for your student, wherever they choose to attend. Check out the cost of tuition at schools around the country: http://collegesearch.collegeboard.com/search/index.jsp?s_kwcid=college%2520costs902529284

If you accept the premise that the cost of tuition in Washington State (UW or WSU) will equal the cost for your student, the Washington State 529 Prepaid Tuition Plan - Guaranteed Education Tuition (GET) should be your first choice. Why? Because the standard deviation of the GET program, vis a vis future tuition costs at UW or WSU is - for all practical purposes - ZERO. The State of Washington guarantees - with the "full faith and credit" of the State - that each GET unit will buy an equal amount of future tuition regardless of the future cost of tuition. The GET units you buy today will return exactly what you expect in the future - even though we don't know today what that will be.

The State considers the GET program to be such a "good deal" - i.e., the State is on the hook - that they limit purchases to 500 units per child (100 units equals one year's tuition). Two final words: either the GET account owner (mom, dad, grandparents, other relative) or the account beneficiary (student) must be a resident of Washington State at the time the account is opened, and, you are not limited to attending a school located in the state - if the student attends out of state, the GET units are converted into cash at the then equivalent tuition.

Enrollment for the GET program is open from September to March each year. The current cost of each unit is $74. Website: http://www.get.wa.gov/index.shtml

Questions? kimm@sweetwaterinv.com

Spend It Now

2007-12-19T14:09:00.000-08:00

If you participate in your company's Cafeteria Plan (technically, a "Section 125 Plan") and you have unused funds - find a qualified expense and use them - NOW. Any unused funds in your account as of 12/31/07 can be kept by your employer.

Year-End Gifts

2007-12-19T11:56:00.000-08:00

"Time Is Tight"
- Booker T and the MG's.

(Being an instrumental, "Time Is Tight" has no lyrics to quote...)

Today is December 19th - only 6 shopping days 'til Christmas. More importantly though, there are only 13 gifting days left in 2007.

What? Why does this matter?

Believe it or not, the US government taxes gifts we make to other people (other than our spouses). Yes, it's true. Most people aren't familiar with the gift tax because of the "Annual Exclusion" and the "Lifetime Exemption". The Gift Tax is related to the Estate Tax, but we won't go there today.

Annual Exclusion Gifts
The IRS Code contains a "de minimis" exception for gifts of less than $10,000 per donee, per calendar year. This exception is called the "Annual Exclusion". For 2007, the Annual Exclusion is $12,000 as the original $10,000 was indexed for inflation starting in 2002. What this means is that any person ("donor") can give any other (non-spouse) person ("donee") cash or property worth up to $12,000 in any calendar year without incurring gift tax on the transfer and without using any of their Lifetime Exemption. Married couples can "gift-split" - a technique that essentially allows double gifting per donee. Thus, a married couple can give cash or property worth up to $24,000 in a calendar year without incurring gift tax or using any of their Lifetime Exemptions.

Lifetime Exemption
The Lifetime Exemption (for Gift Tax) is the amount of cash or property a donor can give a donee/s during their life without incurring Gift Tax. The current Lifetime Exemption is $1,000,000.

Why This Matters Now
The Annual Exclusion is not cumulative from year to year. Use it or lose it. Here's an example that might prove helpful in understanding:

Let's say Grandma and Grandpa want to help fund their grandchild's college education. They decide that a 529 College Tuition or Savings Plan - such as the Washington State GET program - is the best way to do that. They have a $40,000 CD that just matured. If they put the entire $40,000 in the account in 2007, they will reduce their Lifetime Exemption by $8,000 each ($16,000 total) - the amount that the gift exceeds their combined Annual Exclusions.

Here's the solution: they "gift-split" and put $24,000 ($12,000 each) into the account before the end of 2007 and then put the remaining $16,000 in the account in January 2008. By staying under the Annual Exclusion amount, they will not use up any of their Lifetime Exemption.

Here's another reason to stay under the Annual Exclusion amount: if the amount is exceeded, you are required to file a Gift Tax Return (Form 709) with your income tax return.

There are three major exceptions to the gift tax: 1) gifts between married couples are unlimited, 2) tuition expenses - paid directly to the school - and 3) medical expenses - paid directly to the provider of services. You can pay tuition or medical expenses for another person without limit i.e., neither the annual exclusion nor the lifetime exemption apply as long as such expenses are paid directly to the school or the provider (hospital, doctor, etc). The exception does not apply if you give the money to someone and they use the money to pay their tuition or medical bills.

If you are thinking of making a gift in excess of $12,000 ($24,000 if married) seek out ways you can spread the gift over two or more calendar years to take advantage of the Annual Exclusion.

Happy Gifting!

Questions? kimm@sweetwaterinv.com

Why Did My Mutual Fund Share Price Go Down?

2007-12-19T11:53:00.000-08:00

If you own mutual funds, you may notice a decline in the share price this month that is not related to the decline in the market. What happened?

Dividends and capital gain distributions were paid, and this is a good year for capital gains. The fund paid out assets to shareholders, thereby reducing assets, so the share price must adjust to account for the payouts. This is true even if your distributions are re-invested in the fund. If you check your statement, you should find the "per-share" amount of the distributions. They are usually shown separately for dividends, short-term capital gains and long-term capital gains. Add up the total per-share amounts and you will find the amount by which each share was reduced on the date the distributions were paid.

If you own stock in a company that pays dividends you will see the same accounting adjustment occur every quarter when the dividend is paid.

Many mutual funds pay out capital gain distributions in December so that is why you will see share prices go down this month. Capital gain distributions tend to be larger than dividends - particularly in a bull market year like 2007, so the share price adjustment may seem large - that's why it got your attention.

Questions? kimm@sweetwaterinv.com

You Can't Always Get What You Want

2007-12-18T09:37:00.000-08:00

"You can't always get what you want,
But if you try sometimes, you might find, you get what you need."
- Jagger and Richard ("You Can't Always Get What You Want" from "Let It Bleed")

My childhood memories of Christmas are dominated by the Sears Wish Book - their annual Christmas catalog. The catalog's toy section was every kid's destination. If a toy wasn't in there, we didn't know about it. Living in a small, somewhat isolated town in Washington, it was our window on the world of commerce beyond the pathetic collection of local retail shops.

I remember making a list every year of those must have items and then investing as much of my intellectual capital as I could spare into wishing it all to happen. More than once, I even filled out the order form, thinking I would make it easy for Santa to take care of business. Of course, it never worked out like I planned - having 6 siblings tended to spread the Christmas Cheer rather thinly. The Wish Book was the entire Christmas Present Experience - marketing, advertisement and fulfillment wrapped in one package.

Of course, the Christmas Present Experience has changed dramatically. No longer do we spend hours poring over the Wish Book, but spend hours being bombarded by advertising, surfing the web, walking the shopping malls and driving from one category-killer store to another. When your world of choice was pre-packaged and compressed into a few catalog pages, it was easy to become obssessed. It seems that the intensely covetous dreams of childhood, curled up with the Wish Book on the living room floor, have been replaced by an obssessive process, a seeking for "Just the Right Gift".

So here's my financial advice for the Christmas Present Experience. Spend less money and less time on the whole process. Reduce your gift list to those closest to you. Go to one of the many off-beat Christmas shows, or attend your local production of A Christmas Carol. Don't obssess. Bake cookies. Don't let yourself feel like a failure because you don't "deliver". Give money to charity. Get involved in micro-finance http://www.kiva.org/. Host a holiday open house. Help out at the local feeding program.

Don't buy gift cards in a last-ditch attempt to get "something" - more than 10 percent of the $58.3 billion in gift cards bought this year won't be used, according to Needham, Mass.-based consulting firm TowerGroup. (10% of $58.3 billion = $5.83 billion). Corporations are counting on you to buy gift cards - it adds to their profits.

Questions? kimm@sweetwaterinv.com

Gen X or Millenial?

2007-12-17T15:30:00.000-08:00

You heard it here first:

Start now on saving for the future! If you have a 401k plan at work - sign up now! Even if you can't put in very much - just do it. Get started TODAY.

I was talking to a 27 y.o. man last week about this very topic. When I said "If you sign up to put in $100 per month, your paycheck will only go down by about $80 because your tax withholding goes down too." He said "Really?" NO ONE HAD EVER EXPLAINED IT TO HIM. So here it is:

If you put money into a deductible retirement account at work - 401k, 403b, 457, etc. the contribution comes "off the top" BEFORE federal income tax withholding. The contribution (technically called a "deferral") reduces your taxable income. Lower taxable income equals lower tax withholding. Your HR person should be able to show you how your paycheck would change with a given contribution amount. Pretty easy to ballpark it for yourself though:

Pick up your last paycheck stub.
Find the amount for Federal Income Tax withholding.
Find the amount of your Taxable Income.
Divide the withholding amount by the taxable income amount (as my mom used to say: divide the "little number" by the "big number" to get the ratio). The result will be close to 10%, 15%, 25%, 28%, 33% or 35% - these are the withholding rates.
Take the result and multiply the amount you will put into the retirement plan by that percentage.
Subtract that number from the contribution.
The result is the amount by which your net paycheck will decline.

For example, if your withholding ratio is 25%, then for every $100 you put into the plan, your paycheck will decline by $75.

The point here is that it doesn't cost $100 to save $100.

Questions? kimm@sweetwaterinv.com

A Few Words About Inflation

2007-12-17T12:40:00.000-08:00

Inflation is a fact of life in any economic system. In the U.S., we think (well, the Federal Reserve thinks) that if inflation is ~3% or lower that it is “acceptable” and “under control”. But even at “just” 3%, prices will double in 24 years (Rule of 72). People now in their 50’s will live long enough to see prices double. But inflation is not linear and every person’s inflation experience is different because we aren’t all buying the same goods and services.

Another problem with inflation is that the government cooks the numbers. Imagine that!

· You may have noticed over the past few years that when inflation figures are reported that you typically hear two figures: "headline inflation" which is the overall inflation figure and “core inflation, excluding volatile energy and food”. This is such a crock. Can you think of anyone you know who does not purchase energy and food? Energy and food are certainly part of my core basket of goods and services. It's like a shell game in that the government and media try to divert your attention from the total inflation figure by getting you to focus on the core inflation figure - "See how much lower the number is when we take out volatile energy and food?"

· The application of so-called “hedonic adjustments” was initiated during the Clinton years. Hedonic adjustments are concerned with the effect that the march of technological innovation has on prices. As an example, personal computers have gotten cheaper and cheaper over the years. The government decided that this improvement should be reflected in the calculations for inflation, thus the price of personal computers have essentially a negative impact on the official numbers.

If you are curious about how the figures are manipulated, check out http://www.shadowstats.com/

And finally, probably the least-understood impact of inflation is the purchase of goods and services that do not yet exist! Think back 10 years – how many people had cell phones? How many people had MP3 players? How many people had a broadband internet connection at home? Did you ever imagine that you would want to – let alone need to - purchase a personal paper shredding device? We could go on for several pages with examples. The point is that we don’t know what we don’t know. What will all these unknown items cost us? All of these unknown goods and services will be things that we will want to buy or for which a need will be created (e.g., identity theft = personal shredders).

Questions? kimm@sweetwaterinv.com

"It"

2007-12-17T11:51:00.000-08:00

What is "it"?

Almighty Dollar, bankroll, beans, boodle, bread, bucks, cabbage, capital, cash, chips, coin, dinero, dough, ducats, filthy lucre, funds, gravy, green, green stuff, greenbacks, hard cash, jack, kitty, legal tender, long green, loot, lucre, money, pay, pesos, resources, riches, roll, scratch, silver, skin, sugar, treasure, wad, wampum, wealth, blah, blah, blah.

There are probably more names for money than could ever be compiled. There are essentially only 5 things you can do with your money:

Spend it -
Give it -
Save (invest) it -
Protect it -
Leave it -

A financial planner can help you with any or all of these:

Spend it - budgeting, cash flow management, debt management
- What can I do to maximize what I have?
Give it - charitable gift planning
- What are the best ways of helping others?
Save (invest it) - savings and investment vehicles
- What are the best ways for me to save some of what I have?
Protect it - risk management
- What do I need to do to protect what I have?
Leave it - estate planning
- How can I make sure my wishes are carried out?

Questions? kimm@sweetwaterinv.com

Financial Cartography

2007-12-13T10:52:00.000-08:00

"One day Alice came to a fork in the road and saw a Cheshire cat in a tree. Which road do I take? she asked. Where do you want to go? was his response. I don't know, Alice answered. Then, said the cat, it doesn't matter."

-Lewis Carroll

OK, remember the last time you took a long trip in your car? What was that one thing you made sure you had before you left? A road map, perhaps? "Here we are at Point A, and here is our destination at Point B."

You knew exactly where you were going.
You checked the route ahead of time.
You carried a reference guide with you.
You had a pretty good idea of how long it would take.
You made note of any sight-seeing opportunities.
You packed a first-aid kit.
You packed food and drink.
You checked your car's maintenance items.
You gassed up on the way out of town.
Etc, etc, etc.

The point is - you did everything you could think of to ensure that the journey would be as pleasant as possible and that you would arrive safely at your destination.

Is there any other journey in your life to which you should apply the same level of preparation?

Financial Planning Is...

2007-12-13T10:30:00.000-08:00

- a process, not an event - because (drum roll please) - your life is a process, not an event!

Off to See the Wizard

2007-12-12T10:59:00.000-08:00

"If ever, oh ever, a Wiz there was, The Wizard of Oz is one because -
Because, because, because, because, because -
Because of the wonderful things he does.
We're off the see the wizard - The Wonderful Wizard of Oz!"
- "Follow the Yellow Brick Road" (from "The Wizard of Oz")

Wouldn't it be grand if we could all visit the Wizard and have our problems solved? Of course it would. If only financial planners were Wizards! We could dress in grand robes (no more ties!), project our countenance on a giant screen, make proclamations, issue decrees, pull the wool over the eyes of the masses! Oh the satisfaction to be gained in wielding such power!

Reality check. I think financial planners are more like the "man behind the curtain" - not in the sense that we hide our true selves from view, but in the sense that - like Professor Marvel (the man behind the curtain in the film) - what we really provide is practical, down-to-earth solutions to the very real problems of our clients.

Scarecrow needs a brain?
- We bring the needed thinking power to bear on the problem.
Tin Woodman needs a heart?
- We remind clients that they do have one - they just need to listen to its beating.
Lion needs courage?
- We take the lead on the path through the woods.
Dorothy wants to go home?
- Click your heels three times...uh, we'll have to work on that one - but we do help clients define where "home" is - or where it will be.

So while an audience with the Wizard might seem like the solution to our problems, keep in mind that it is the "man [or woman] behind the curtain" who is pulling the levers and doing the necessary dirty work.

What does a Financial Planner do?

2007-12-05T15:35:00.000-08:00

“How do you catch a cloud and pin it down?”
- Rogers and Hammerstein (“Maria” from “The Sound of Music”)

Like the nuns singing ”Maria” in group therapy mode attempting to “solve a problem”, the public struggles to pin down the financial planning profession. Are we sales people hawking the latest hammer for all the nails we find? Investment managers with our pie charts and x-y graphs? Lifestyle gurus spouting new age “Be One With Your Retirement” mantras? For edification, we provide the following framework.

A financial planner performs the duties of a/an: counselor, stockbroker, confidant, insurance broker, investment manager, investment consultant, divorce counselor, consultant, communicator, fiduciary, 2nd opinion provider, scout, therapist, budget analyst, quarterback, credit counselor, alchemist, cryptographer, fireman, grief counselor, ship's captain, cartographer, intermediary, psychologist, sooth-sayer, trail boss, guidance counselor, bad-news deliverer, good-news deliverer and many others. Each role has its place in the planner-client relationship and comes with its own emotional costs and rewards. Good planners will naturally assume the role that is required of them when it is needed (subject to legal restrictions regarding certain unauthorized practices).

Maybe a better answer to the question is "It depends on what needs doing" - and until we open up the jigsaw puzzle box that is most people's financial lives, we don't know exactly what that will be. Most jigsaw puzzles come in a box with a picture of the completed puzzle on the box top. If the picture is missing, the job of completing the puzzle is a lot harder – which is the situation many prospective financial planning clients find themselves in. They have a box of puzzle pieces but the picture – or a large part of it - is missing. Good planners will guide clients in creating a picture for their puzzle box.

Financial planning deals with six general areas: 1) cash flow and budget management, 2) risk management, 3) investments, 4) income taxes, 5) retirement planning and employee benefits, and 6) estate planning. While some of the areas overlap, not every client needs help initially in all six areas. Good planners will thoroughly review all the areas and work with the client to determine those areas requiring attention.

Feedback to and from the client is essential to the process. We can’t just take all the data, feed it into our “black box” and then dump a report on the desk. We have found that a “preliminary findings” report - or two - helps tremendously. Through client feedback, the preliminary reports are hammered into the finished plan that most closely adheres to the client’s vision. Good planners provide findings and solicit client feedback during the planning process.

Once the financial plan is completed, the plan must be put into action. The best financial plans are constructed in such a way that the client can put the plan into action without engaging the planner who helped create it. Good planners deliver a comprehensive plan document that thoroughly reviews all areas of the client’s financial life, provides understandable analysis and includes clear recommendations.

Since we have prefaced “planner” with “good”, we should provide contextual definition: a “good” planner is that person or firm that stands ready to provide clients with a standard of care that rises to the definition of fiduciary.

Like the nuns in “The Sound of Music”, financial planners can’t answer the existential questions, but they - the “good” ones anyway – do help clients determine what the questions are and stand ready to help build the framework within which answers can be sought.

Client or Customer?

2007-10-22T15:41:00.001-07:00

What kind of relationship do you have with your current financial adviser? Are you a client or a customer? A client is one for whom professional services are provided. A customer is one who purchases goods or services from another. [This might be a matter of semantics, as "customer" is one of the definitions of "client" - BUT "client" is not one of the definitions of "customer".] When I first started in the financial business, my mentor insisted we call the people we did business with "clients". But we were selling a product. The "clients" were purchasing a product from us - the definition of a "customer". When a purchase was made, if a competitor was more persuasive in convincing my customer to buy from him/her, I lost the account. The distinction between client and customer was lost on me - I was brainwashed to think of customers as clients. Somewhere along the way I had an epiphany. As a result, I no longer have customers, I only have clients. I don't sell products, I provide professional services for a fee. The securities business has drawn a clear distinction between the two. The regulations for securities broker-dealers always refer to "customers". What happens when someone engages a registered representative (aka "stock broker") at a broker-dealer and makes an investment? The representative earns a commission - that's because the person making the investment is a customer and is making a purchase. Now, there is nothing wrong with being a customer - and nothing wrong with the representative earning a disclosed commission - but most people don't know that the representative only has to treat the customer "fairly" and provide advice that is deemed "suitable" in light of the customer's circumstances. Contrast this with the Investment Adviser Act of 1940 ("the Act") that governs the conduct of registered investment advisers. The Securities & Exchange Commission (SEC) interprets the Act as meaning that a Registered Investment Adviser (and its affiliated Investment Advisory Representatives) is a fiduciary to its clients and owes those clients a duty of undivided loyalty and utmost good faith (italics added).

What a difference! What would you rather be - a client or a customer?

Why Egalitarian?

2007-10-18T11:13:00.000-07:00

e·gal·i·tar·i·an – adjective
1.
asserting, resulting from, or characterized by belief in the equality of all people, esp. in political, economic, or social life. –noun
2.
a person who adheres to egalitarian beliefs.

Everyone needs financial advice!

Fiduciary

2007-10-16T09:20:00.000-07:00

fi·du·ci·ar·y [fi-doo-shee-er-ee, -dyoo-]
–noun
1.
Law. a person to whom property or power is entrusted for the benefit of another.
–adjective
2.
Law. of or pertaining to the relation between a fiduciary and his or her principal: a fiduciary capacity; a fiduciary duty.

What does "fiduciary" have to do with financial planning? A lot! The actions of the person holding the fiduciary capacity (e.g., a financial advisor) must ALWAYS put the client's interests first. ALWAYS.

A Registered Investment Advisor (or a Investment Advisory Representative of a Registered Investment Advisor) has a fiduciary relationship with his or her clients. A fiduciary relationship creates a legal obligation to put the client's interests ahead of the advisor's in all circumstances.

Ask a prospective financial advisor if they will have a fiduciary obligation to you.

The 7 Questions

2007-10-16T09:16:00.000-07:00

Here are the 7 Questions you should ask a prospective financial adviser at the first meeting:

Who are you?

What do you do?

Why do you do what you do?

How do you do what you do?

Who have you done it for?

What makes you different?

Why should I do business with you?

We'll talk about the "right" answers in a future post.

Welcome

2007-10-16T09:11:00.000-07:00

Welcome to my blog on financial planning. The title is intended to convey my belief that everyone needs financial advice. That advice could take the form of a one hour meeting or a multi-faceted, multi-generational financial plan that takes months to complete. I will start by covering basic financial planning concepts and grow it from there. Thanks for reading!