Better Be Aware Of What's In Your 401(k)

When our good friend 'Nan' paid us a visit last Wednesday she was distraught. She had to sit down to relate what happened to her the past month and even joked, "if this keeps up I may have to move in with you guys!". What happened? Evidently, she'd lost $6,000 last month in her three retirement -based mutual funds. This would be bad enough except that she's also lost $1,000 in each of the two previous months, for a total of $8,000 down the tubes.   What added insult to injury is that up to the month of the first loss she'd not managed any positive earnings.

What happened? Her first suspicion is that she was a person who'd been tricked by her financial advisor into accepting funds packed with "collective investment trusts" - a new twist on classical mutual funds, which have now been replaced by many companies in their 401(k)s (we will get to the reasons in a minute).

If the term rings a bell it may be that you recall that before 1929, millions of ordinary folk were driven into the infamous 'investment trusts' that caused them to lose everything.  These 'investment trusts' were the forerunners of today's funds and then - as now - touted as "the little guy's way to enter the stock market". The problem is there was no regulatory oversight of these investment trusts so that the big players rigged the markets to their advantage (including having insider information) so they could parlay the little guys into ruin.

I immediately disabused Nan of any notion her mutual funds were really hidden collective investment trusts given that the latter's expense ratios are "typically 0.2 to 0.3 percent less" than regular mutuals. Also the collective trusts are common to newer versions of the 401(k) as opposed to her retirement funds. (She's been out of the work world for three years).

However, I did suggest she check up on the soundness of any and all "retirement target date funds" - two of which she held, and which are "designed to provide you with an age-appropriate diversified portfolio that you can carry to and through retirement—making them a one-stop approach to retirement investing" (according to one Prospectus).

Definitely, I suggested she sit down with her advisor and ask him to show her where the major losses of the fund components occurred, in which categories (e.g. energy, finance, emerging markets etc.)

Nan also expressed (briefly) an interest in going our conservative route of foregoing the stock market and equities entirely in favor of buying immediate annuities. However, she admitted - after giving it some thought - she didn't wish to "give up control of large chunks of money" which would be required. (Basically, in return for paying an insurance company one lump sum, e.g. $100,000, you get a non-varying fixed income for life. )

Those who wish to check out what monthly income they can obtain for fixed lump sums can go to:

www.immediateannuities,com

Back to these collective trusts. According to a WSJ report ('401ks Take a New Tack',  Sept. 27-28, p. B7):

"These investments look and act a lot like mutual funds but generally have lower fees and disclose less about their inner workings to 401(k) participants"

The piece goes on to note they currently account for 16 percent of the $15 trillion now in 401(k) retirement and pension plans. (These trusts are exclusively for 401(k)s)

Another difference (ibid.):

"They are sponsored by banks and trust companies and primarily overseen by  banking regulators rather than subject to the rules of the Securities and Exchange Commission."

The chief difference is that these collective trusts are "less transparent" - according to Brooks Herman, head of data and research at Brightscope Inc. which tracks plans. (Ibid.)

Also, their cost advantages:

"stem mainly from the fact they are exempt from the Investment Company Act of 1940, which governs mutual funds."

Recall this Act was passed in the wake of the original 'investment trusts" debacle of the 1920s.

The specific difference is that the collective trusts are not required to deliver prospectuses and periodic reports like mutual funds. This means you won't necessarily know what is in them. Nor are they required to make periodic filings with the SEC. (Also, collective trusts don't have ticker symbols and 401(k) participants can't track their performance or compare them with other investments using public websites which publish mutual fund performance data.)

All of these aspects you'd be wise to find out about, especially given the longer the existing Bull Market ages the greater the probability there is for an even bigger correction than the one last month, or even a crash. See the graphic for Bull Market longevity below:


We do hope Nan is able to find out what happened with her retirement funds, but that may require pressing her advisor really hard for answers.
Enjoy the DOW while you can, just bear in mind who is really prospering and who won’t lose even if there’s another stock market crash. (The 'Street' collects commissions and fees from both winners and losers.)

Financial Tropes Exposed - and Some New Year's Money Heads Ups!

Exposing widely circulated financial tropes is always a thankless task and an endless battle. You are fighting not only against the co-opted (by corporatism) MSM and its lackeys, but also the blow-dried yellers and screamers inhabiting the Business cable shows. These bozos tend to pop out sporadically to yelp at the hoi polloi and question why they are still "sitting on the sidelines". 

Thus, it come to the point one must expose some of this nonsense, even though one's audience may already have been convinced the Street's snake oil salesmen are telling the truth.

Under Financial Tropes Exposed:

1) You Need to Save $1.8 Million or More for Retirement

Yes it is true that many people aren't saving enough. But at the other end too many people are saving too much, and likely postponing retirement when they could already be enjoying it. One story that recently caught my eye appeared in MONEY magazine  (Jan. -Feb.) and concerned a couple with current total assets of $1.8 million - but for whom the magazine felt it incumbent to offer advice on how to save more!

But the couple may be wasting time and ending up like the subjects described last week in a New York Times Sunday Review piece. That concerned people in an experiment on consumption and waste being offered chocolate pieces contingent on how many hours they listened to white noise, instead of decent music. Every two hours listening to white noise earned a chocolate piece while listening to proper music earned nada. At the end of the experiment (on average for a given bloc of time) a large set of subjects had compiled an average of 10.4 chocolates of which only 5 were eaten, the rest wasted - they could not consume them later. Moral of the story? People over-worked and over-earned but inevitably under-consumed.

Applied to the real world of finance: most people never felt secure enough to stop working, they always wanted more because they feared losing it. Yet the evidence showed the 'more'  one gained or earned,  the more was usually wasted (or left unused). (In the case of a retired person, it would mean leaving a huge sum of assets behind which your 'heirs' may collect, or the state - if you die intestate)

Now, according to Morningstar Investment Management's David Blanchett, the evidence is in that working people are making the same error regarding saving for retirement.  He especially takes issue with the "80 percent replacement" rule which asserts that prospective retirees need to plan to replace at least 80 percent of their pre-retirement income. So if your pre-retirement income was $50,000 a year, you had to plan to be able to receive at least $40,000 a year. If your projected retirement is 25 years, then this means you need:

($40,000/ yr) x 25 years = $1, 000, 000

But by Blanchett's analysis this formula could lead some workers to over save for their golden years by as much as 20 percent.

2)  Put More Money Into Stocks AFTER You Retire.

This is an incredibly bad idea, so it was even more incredible to see Jane Bryant Quinn pushing it in the most recent issue of the AARP Bulletin. Quinn cites some new study which appears to show retirees are less likely to run out of money if they have more money in stocks - after they retire - as opposed to being "too cautious" and easing out over time.

The inescapable fact, however, is that the retired ordinary person (as opposed to the rich one percenter) has virtually no time at all to make up losses after a stock crash-  should it occur. He is then left to try to scrape by however he can - especially if 55% invested in stocks as one person suggests. A far better strategy, if one doesn't wish to outlive his money - is to save aggressively and then use savings to purchase immediate annuities. These then create a stream of income you're unlikely to outlive. It is preferable to stock-mutual fund dependency because you are not hostage to some phantom money stream that will gyrate with any and all external events in the markets. And if a correction or crash occurs, you can get through it.

3) You Don't Need a Will - You're Too Young

Incredibly, nearly 2 in 3 Americans have no Will. Though they may pout and whine about the "government" taking their hard earned money, this is where it all gets exposed as nonsense-- since without a will that's exactly what you're allowing to happen!  No one likes to think about the inevitable (except maybe the crazed fundies in their salvation and 'Hell' phantasms)  but think about it you must - especially if a  Bird flu pandemic were to be facing you.   Among the myths that people buy into:  

"Joint ownership of accounts, property etc. makes a will unnecessary". 

This is a common misconception. In fact, joint ownership alone often creates needless state or federal estate taxes and may result in gift taxes being due. It may also deny you complete control over your property while you're still living. Thus, joint ownership is a poor substitute for a will but can work well in conjunction with one.  

"A Will is not needed for a small estate".

On the contrary, the smaller the assets or estate the more important it be settled quickly, since delays mean increased expenses cutting down the proceeds. In many cases, an estate is larger than the owner realizes, and it's often undervalued. Still have all those 1952 TOPPS baseball cards? Well, they are part of your estate and if in near mint condition, now worth over $55,000.  

Can you prepare a will - last will and testament- on your own? Yes, but it's not a good idea. The reason is that many do-it-yourself wills are declared null and void by the courts.   My wife and I got our original will done soon after our marriage (1975)  by an attorney  in Barbados, it took ten minutes and cost $100 Bds. We got our will revised about ten years ago, to take into account family-beneficiary changes etc. It was done by a local attorney for about $200 and took less than a half hour.  

Given such an important piece of the typical American's financial puzzle, it is incredible that more haven't done it. It's especially incredible that folks who otherwise are hyper money careful, watching every penny, controlling their credit cards etc., are prepared to let tens of thousands slip out of their fingers (to the state) because they are too lazy to prepare a will!


Under Financial Heads Ups:

1) Be Aware of How the Affordable Care Act Affects Medicare:

Many seniors aren't aware of how the Obama Affordable Care Act starts affecting Medicare this year. The primary effects will be on all Medicare Advantage plans, which the ACA subjects to a $156 b decrease in spending over ten years, The changes will already be seen by many Advantage members in more limited options, including for primary care physicians (already "thousands" have been cut from networks in 11 states according to the AARP Bulletin).  Another change you're likely to see is higher premiums, which some plans are likely to impose in order to preserve existing benefits and choices.

2) Make a Plan to Foil ID Thieves:

This ought to be on almost everyone's radar after the recent TARGET fiasco, with nearly 120 million people compromised in some way.  Some of the measures are pure common sense, but it doesn't hurt to repeat them:

a) Never provide any personal info, like your Social Security number, to anyone you don't know - or over the phone.

b) Get off all mailing lists for "pre-approves credit cards" - as they're a gold mine for identity thieves. To opt out you can call: 888- 567-8688 toll free

c) Access your free credit report at least once per year at:

www.annualcreditreport.com

If you don't plan to apply for new credit or loans then freeze your report so crooks can't get new accounts in your name. (Type in 'security freeze' at the websites for Experian, Transunion, and Equifax.)

d) Ask your credit card providers to issue you new smart cards with EMV chip technology. If unavailable, then replace existing cards with ones with your photos.

e) Shred all documents that contain personal information - use cross-cutting shredders if you can.


Hopefully this advice will help to avoid money issues, problems in this new year.

A Postscript: Even Wall Street Honchos are in CASH!

As we saw in the last blog, savers are under the gun what with the prospects of next to zero interest rates on their cash-fixed income savings. There are dire predictions afoot that the most diligent savers stand to lose, because of inflation eating away at their savings, and so they're being advised to take on some added risk. Well, one is justified in querying what the actual Wall Street Honchos, investors, traders, movers and shakers are doing with their own money. Are they following their own advice, or punking out? From the looks of things, the latter appears to be the case.

The eye-opener appeared in today's WSJ, p. C3, 'How Wall St. Invests Its Money in Hard Times'. It should also be an eye-opener to anyone who's turned on a Business or investing channel and been told by a green eyeshade type that "absolutely you must stay the course, and be in stocks"! Baloney!

The general tone of the article was that all the actual green-eyeshade types interviewed for the piece had their own money in "ultra-conservative" investments. According to one hotshot - an investment banker:

"I'm 80% in cash and Treasurys"

And the author notes this was a character who "in previous conversations hadn't failed to extol the virtues of complex derivatives"

Well so much for that! When the author asked the banker if he wouldn't now use some of those same derivatives in his own portfolio, he replied:

Not a chance! I don't want to take any risks!"

Fair enough, but if you guys - the wizards of finance - don't, why should any ordinary bloke?

Another guy, a member of big bank's management team, confessed that in the recent rash of market volatility he'd changed his allocations from 60% stocks and 40% bonds to a portfolio laden with U.S. government bonds and other investment grade paper (which usually refers to the "commercial paper" that appears in money market funds. In other words, this cat is as conservative as my wife and myself right now!

When the author of the piece pointed out that in order to change such allocations during the volatility the banker would have been selling in falling equity markets (hence, taking a significant loss), the guy actually responded:

"Right now, it's all about capital preservation. If I lose money in the process, so be it."

In other words, this whiz kid was so determined to get to safety he was prepared to sustain losses to change his investment allocations, reasoning a 4-10% hit on such a change was preferable to a 40% hit!

Of course, even as another acquistions banker is described as now veering "between pessimistic and very pessimistic" the author himself quickly reverts back to the norm of saying this isn't financial hypocrisy and little guys have no business following their example.

Really? How come?

The big difference between common folk and finance's upper echelons is that the latter already have a lot of money in the bank - from the cash portions of their bonuses and the sale of their shares in the good times. They don't really have to worry about their pensions. Most of us do. And we need high yielding investments to pay for them.

Again, bollocks! As I showed in the previous blog, one doesn't need the "risk of high yielding investments". Again, which is better? To lose (in the worst case scenario without making any adjustments to consumption) 4% a year to inflation, OR ...lose 40% every other year in a market correction, in which case you will never ever reach the breakeven point and will have to work until your 90?

People can make it without high risk investments, if they sustain a rigorous saving mode, no whim spending, period - then assemble enough to put into an immediate fixed annuity. Such regular monthly income, say $640 for an annuity taken at 65, with payment to beneficiaries for 10 yrs. in event of demise - can nicely supplement a Social Security check. It can also keep your money from running out, say if you have to regularly dip into principal to meet your IRS draw down obligations (an immediate annuity, once the computations are done, can meet the same requirements).

The choice, of course, lies with the average Joes and Janes. Do you want to try for an instant "jackpot" in Maul Street's equity markets casino (laden with risky, unregulated derivatives and flash traders)or will you commit to the slower, less sexy savings approach ending with preservation of sufficient capital to be used in the purchase of basic, no frills immediate annuities?

May I also remind readers, that they have been referred to as "dumb order flow" and "chickens to be plucked" by the Maul Street Street wizards and casino operators? Who, like the 'Wizard' in the land of Oz, never want you to see what actually goes on behind the curtain! Only to take their word that you need what they are peddling.

Need I say more?