Mutual Funds: investing in fixed income

Here is just one of the numerous articles I published on Answers. Please visit mutualfunds.answers.com Mutual funds are numbered in the tens of thousands investing in every conceivable investment opportunity. They range from equity (stocks) to fixed income (bonds) to money markets, commodities and beyond. And they break down even further to investments focused on domestic offerings to international, emerging markets to total global coverage. You can read the full article here.

On the Eve of the Vote: Five Things

As we have watched the slow slog towards August 2nd and the expiration of the debt ceiling, there are a few things we should consider in advance of that date and a couple of additional thoughts in the days immediately following. Like most things, the debt ceiling expiration date is mostly arbitrary, much like the turning of a new year or the end of a quarter. In other words, 08.02.11 means little to the average person and in the days following, should not be of much concern. Here's why.

Borrowing: We have been in one of the most favorable borrowing environments since records began being kept. If you qualify for a loan, be it a home mortgage or other big ticket purchase, the date will not change your ability to borrow. It may cost you more but prudent borrowers should have already considered this eventuality prior to beginning their purchase. Interest rates may and probably should go up if an agreement isn't reached. The phrase "lock-it-in" will be considered sage advice as it should be. On the flip side, there is little likelihood the seller of whatever big ticket item you are purchasing may just offer additional financial incentives to offset any increased borrowing cost.


Selling: An increase in interest rates would not benefit those who believe their homes are worth a certain amount. It would stymy the housing market, slow the sale of automobiles and create a situation that most retailers have been dealing with already: more saving than spending. While less spending will not get the economy moving and certainly won't create more jobs, despite the argument in Congress that less spending has the opposite effect. We'll just be stuck in neutral for longer than we had hoped. But not as long as many suggest we will.


Markets, Bonds: If you are a conservative investor with money in bonds, you are much smarter than the media gives you credit. Savvy bond investors ladder their holdings for just such an event and will probably fair well. Yes, the foreign investor might become a little more cautious and the next Treasury auction will be weaker than most hope it will be. But over the long-term, the real reason folks hold bonds, the effect will be offset as time moves on. Yet, if you are in bond mutual funds, you should have little to worry about as long as your holdings aren't too much of your portfolio. If you're older, cash might be a better place in the interim.


Markets, Stocks: More than one person has suggested getting into much safer investments before the 08.02.11 deadline. Cash is okay but if history tells us anything, this might be amongst the worst long-term decisions you could make. Most companies could borrow if they needed to no matter what happens. But why bother. Most of the corporate debt has been refinanced to historically low levels. And most companies in the S&P 500, an index of the largest companies in the country, are flush with cash reserves. That has been the most worrisome part of the recovery: businesses could have hired, they could have afforded to hire but they didn't. Selling stocks even if they dip somewhat should provide an opportunity to buy shares that are worth more for less. If you are buying steadily, this should prove an advantage for those with time.


You: Turn off the television or change the channel. None of what you are hearing, none of the talking heads everyone is trotting out means anything. The politicians involved in the debate are saying little or nothing and in many respects, act like this is the first time such an event has ever happened. Personally, the President should simply invoke his right in the 14th amendment and raise it without Congress. Yes, it will cause an uproar and yes, it would be the right thing to do. But creating tension among the American people is not a solution to solving some of the nation's biggest concerns.

In the three years since the Great Recession began, you should have put all of your plan in place: reduced your personal debt, created a modicum of savings and in the process, increased your contributions to your retirement plans. If you haven't, this will probably send the message again that your wealth is not what Washington thinks it is. You should be much more pliable and hopefully, just a tad smarter - or jaded.

Paul Petillo is the managing editor of BlueCollarDollar.com/Target2025.com and a fellow Boomer.

The High Net Worth Boomer and the Lies They Tell

You would like to think that we are all truthful. But that may not be the case. Are Baby Boomers, more specifically those considered high net worth, telling a story about their retirement that isn't quite truthful?

Oscar Wilde probably said it best: "What we have to do, what at any rate it is our duty to do, is to revive the old art of Lying.” Nowhere is this resurgence in the falsehood more prevalent than when we tell a surveyor about our finances. When they look extremely bleak, we tell them they look even worse. When they look okay, we tell them they are really good. It is in our natures to tell lies considering we do it when we smile.

Evidently, a group of wealthy Baby Boomers told a survey group from Bank of America/Merrill Lynch that their retirement not only looked promising but was much better than their parent's retirement was. This is pretty lofty talk from a group that just a couple of years ago was not one bit happy with where their portfolios had gone in the wake of the financial meltdown. Now, $250,000 in investable asets is enough to warrant such retirement superlatives as "freedom" and "relaxation".

What changed? True the markets recovered over the ensuing couple of years. But I doubt that this had anything to do with it. many of these folks, like all age and wealth groups did, panicked at the sudden rebalancing of their portfolios by market forces. Unaccustomed to an all-inclusive debacle, many moved into much more conservative type investments and in the process, created their own mini-bubble in the bond market.

The rest of us moved into target date funds, a sketchy hybrid of funds designed to rebalance our aggressive natures for us. If you are older, the fund you plopped the remaining balance of your 401(k) is close to your age - so you too may have benefited from the updraft of conservatively invested enthusiasm. I wrote about this relationship with the bond market a couple of days ago suggesting that if their isn't a bubble in the bond market, it is because it won't pop when it reaches the end of its run; it'll hiss itself into normalcy.

It may be that this group has a better restructuring plan in place or they are simply lying to themselves - and the surveyors. Consider this: $250,000 in investable assets was consider the borderline between the rest of us schmucks and the high-net worth individual. I'm sure that this number is not even close to the actual investable assets these people had. It is our carrot.

One thing that stands out with the group surveyed is the change in attitude about what retirement is. They mostly believe working in retirement is a way to stay physically and mentally engaged. And for many, it is. For those with less than $250,000 in investable assets, it often isn't the case.

But these high-net worth folks worry about the same things you do: the cost of health care, the cost of children still living at home and that there portfolios, no matter how well managed, might not be enough. So they smile when they say they have it better than their parents and do so while lying about how much better.

And these high-net worth folks are not short on advice, even if they didn't take their own. Get a financial adviser as early as possible, they suggest and of course start early. Good pieces of hindsight advice that they were told as they began their working careers - and didn't follow.

About this advice to use financial advisers earlier. Then there was a survey conducted in 2006, when things were going great: housing values were appreciating, the markets were humming along, and early retirement was well within reach or it was assumed to be. And the results show a complete turnaround in thinking from then to now.

Back then - keep in mind these were the good times - another survey was published: In it, the following: "According to a new MyWay Investment Advisors (MWIA - an independent financial planning and investment advisory firm) survey, 98% of respondents would change the way they work with their advisor with 43% saying they wanted to change the amount they paid for the financial advice and services. This compares to only 13% of advisors who would look to improve how they currently operate, including pricing for clients.. The survey focused on how individuals would like to be treated by their financial advisor or investment professional and how they would like to pay for those services.

"The survey targeted the individuals with annual incomes greater than $75,000 and $150,000 to $600,000 in invested assets, including 401Ks. A duplicate survey was sent to financial planners, investment managers, insurance sales people and other financial industry professionals to compare responses." Why has this advice changed? Pricing and the way pricing is structured has evolved. Yet the higher the net worth, no matter what you pay, you pay more than you should.

So which is the truth? Are they happy now or were they happy then? The most telling piece of info coming from that survey: "When it comes to financial advice, however, financial advisors isn't where most of those surveyed go for information. Only 27% utilize financial advisors while over half (56%) get advice from a friend, publications or on their own.

"Of those that have a financial advisor, only 18% are happy with him or her. a whopping 56% say they are dissatisfied and 23% still have not made a decision."

This means one thing. We can no longer look to those we consider net-worth wealthy for guidance in how to become net-worth wealthy ourselves. Retirement has become a reality and an illusion. It is something we want and fear, something we strive for and are repelled by, something that is both possible and impossible. Yes it is a conundrum.

But it is your puzzle to figure out. And the simplest way to do that is figure out if you are willing to live on less than you have now. You don't need a financial adviser to tell you that you probably haven't invested enough. You know that you are probably wrangling more debt that you would like. You know that your contribution to your 401(k) is les than it should be. And you know that your goals concerning retirement are lofty than they are on paper.

Your balance sheet needs to be revisited and often. You need to double your 401(k) contribution now, no matter what age you are. There are numerous, almost painless ways of doing this including channeling the tax relief on your Social Security payroll tax (2% for the next two years) or simply increasing your contribution by 1% for every month of the upcoming year. You have the pieces to solve this puzzle. It all depends on how much you want to lie. The rich can. So can you.

Paul Petillo is the managing editor of Target2025.com/BlueCollarDollar.com and a fellow Boomer.

Free is Not Free: An Offer of Retirement Advice

Everyone wants a piece of your business. You're a Boomer and you have needs - more like worries that you won't have enough to retire. So offers like the one we are about to explore are going to fly across the radar screen and you may be tempted to bite. After all, these are reputable companies offering what appears to be free retirement planning advice.

Vanguard has begun to offer you the opportunity to speak with a Certified Financial Planner. Based on what they refer to as extensive research supporting the need for contacting a professional, their new service focuses on those who are 55 years old or older. This is a worrisome group of late and the focus of a great deal of media attention. Being close to retirement is troublesome enough; close to retirement and worried that you will live longer than the previous generation (even if those stats rely on some very broad statistical factors) is even worse.

Being 55 years-old - which qualifies you for Boomer status - is close to retirement. But 10 years - by old school standards of retirement at 65 - is still a good amount of time to fix some problems, but not all. Vanguard studies have uncovered research that this group may be too overexposed to bonds (about 11% are totally into this fixed income investment) or too over exposed to equities (14% are 100% invested in stocks via mutual funds). This is not the idea behind asset allocation, a concept that keeps your money in a wide variety of investments in order to avoid sudden downturns that take the whole of your portfolio down in one quick swipe. Too much in stocks, as many investors were in 2008, resulted in a devastating blow to those portfolios. Too much in fixed income, some worry, could bring a similar event to these investors in 2011.

Asset allocation spreads the risk among different mutual funds within the retirement plan. For some, this suggests that you simply buy a target date fund with your retirement age goal and sit back and ride it out. But in many instances, the simplicity of this sort of investment suggests that you are not as focused (read: worried) as Vanguard would like you to be.

Target date funds are not everything they are sold to be. They can be expensive. They can be at the mercy of the basket of funds that make of the fund itself. they have managers who have never done this sort of seasonal readjustment over ten, twenty or thirty years. And not all target date funds do the same thing at the same time.

Vanguard's answer: your own personal financial planner. And Vanguard's solution to get you to use one: tell you its free. Trouble is, nothing is free including the advice, the readjustment to your portfolio or the ability of Vanguard to right decades of wrongs. the questions that this new programs suggests they will answer for you include some of the nagging questions they assume you have been asking yourself:

• When can I afford to retire?
• Will I have enough saved by retirement?
• How much can I spend in retirement?
• Which investments are best for me?

These are all good questions but basically all the same. A CFP can, according to Vanguard divine an answer following an online questionnaire  that is followed by a 45minute phone call from a CFP where they will examine who and what you are. By the time you finish filling out the form, you will know exactly how much trouble you are in and why. You haven't contributed enough, you havent taken enough risk and you will have to work longer, hope for a robust marketplace and continued low fees and taxes and a hefty dose of good fortune along the way (i.e. good health).

The problem here is that for the vast majority of Vanguard clients, the advice is far from free. In fact, it can be quite expensive in a number of ways. Up front, the cost is free fro those who are considered Flagship or Voyager Select clients. To be considered on of these investors, Vanguard ranks your use of their services in the following way: "Membership is based on total household assets held at Vanguard, with a minimum $500,000 for Vanguard Voyager Select Services®, and $1 million for Vanguard Flagship Services®." And for that you get free advice.

The client with a membership in Vanguard Voyager Services® would need a minimum of $50,000 to qualify for the advice but the cost is $250. If you are like the vast majority of 401(k) investors, both with Vanguard and without, the service will cost you $1,000. And then, the decision is still up to you.

In a recent press release, they described the service and how it could be implimented: "After you review your plan's strategy with the planner, you can implement it on your own, ask us to help you get started, or simply use the plan as a second opinion for your current investment strategy. The ultimate direction—and the investment decisions—are completely up to you." There is no fee schedule should you decide to have them help you.

So here is some basic advice that seems based in common sense but still widely ignored: contribute more. You may have your asset allocation out of whack, you may be invested in target date funds, you may be paying too much in fees for what you have. But the bottom line is you still haven't made the toughest choice of all: allocating more of your paycheck to the problem.

Once you decide to sacrifice on the real life side of the equation, I firmly believe that you will take a more nuanced interest in the retirement side. No one makes sacrifices, particularly the monetary ones that your retirement plan demands without getting involved. The more money you invest; the more you will get involved in those investments.

Paul Petillo is the managing editor of Target2025.com/BlueCollarDollar.com and a fellow Boomer.

Bubble, Bubble, Trouble in Bonds?

Boomers should probably pay attention.  What is or better what could happen in the bond arena will impact not only what you know about your potential retirement wealth but whether your retirement wealth can withstand what may happen.

Personally, I don't like the term bubble.  It implies that once punctured, the pop is immediate.  But that's not how market bubbles usually react.  There is the slow hiss of the initial investors leaving somewhat quietly, who begin to see that things aren't going as planned.  This of course follows the big investors making statements that make sense, are largely ignored and then, suddenly embraced and the selling begins. The next to bail on the bubble is the individual investor who may have used that certain security as a parking place for their money or even as a short-term investment.

Following that, the retirement investors.

All the while the value of said bubble decreases. It doesn't "pop" as bubbles do but instead offers pain to those slow to react. The warnings are starting to surface at a more frequent pace and if this is a typical bubble scenario, those who went conservative after losing a great deal of their portfolio value in the last market debacle and began investing in bonds will be the last to react.  And be the worst hurt.

Many folks invest in bonds as part of an aging portfolio rebalancing.  In numerous cases, they do this via bond mutual funds and not the individual kind.  Unfortunately, this carries some additional risk.  Individual bonds have fixed maturity dates.  If held until that point, they will do exactly as they promised, paying you whatever the coupon book suggests.  That is, unless they default at some point.

Bond mutual funds, like all mutual funds are a basket of bonds with varying maturity dates.  Your reliance on the mutual fund manager to have a good mix, be wary of maturity dates and offer some considerations for the potential of default (when a bond is not bale to pay the value of the bond, which is essentially a loan).  But even more, the length of those bonds in the portfolio might be at risk as well.

Bonds have seen a lot of new fans.  Investors worried about not having enough to retire on, worried that the markets betrayed them in 2007-2008, and the concept that retirement as originally planned will need to be re-thought, even reconsidered, saw a great deal of rebalancing.  This "rebalancing may have been just as unbalanced as an equity heavy portfolio was - and what got them into trouble in the first place.

The old idea that your bond allotment match your age has found many investors poised to be disappointed, if, what the bond gurus are saying comes to pass.  And what they say is not good news. Bill Gross, the king of PIMCO sees trouble on the horizon. And yet, you hold on for more proof that the one man who probably knows everything there is to know about bonds is right. By then, it will be too late for many investors.

So why is he, and numerous other experts worried? There are several reasons, one of which I already mentioned: default. We hear numerous reports of how flush many businesses are with cash.  While there are quite a few with huge reserves, enough to worry the White House and economists alike, there are many more who simply must go to the bond markets to continue to finance their operations.  While this seems like a good idea on the surface, worries about the prolonged nature of the recession have also raised fears that many of these bonds will not be repaid.

Untangling this sort of mess in a mutual fund environment can be the most difficult.  And when investors catch wind of this possibility, fund mangers begin to sell to cover those departing the fund.  From there, its is a quick tumble towards the bottom for those remaining and the bond markets in general.
Inflation is also a concern.  This has been more or less benign of late.  Yet no one expects it to remain that way, new bond investors may not have the savvy to recognize the negative effect of this on their portfolio.  As inflation rises, the money involved in the bond - which is fixed in terms of how much is owed to you and the yield you expect - is worth less.  Not worthless, but not worth as much as you might assume it would be.

Ty A. Bernicke, writing in Forbes sees trouble on the horizon in the form of interest rates.  The Federal Reserve could hold rates low in the near term.  But don't expect it.  He writes: "There are three striking similarities between the 1940s economic landscape and today. The U.S. is experiencing an extremely low interest rate environment, our country is coming off a prolonged period of low inflation, and there are elevated concerns regarding defaults on bonds. The same three factors were present just prior to the beginning of the prolonged bear market in bonds from 1940 to 1980." In 1980, we began a bull market in bonds that has lasted until today.  There is evidence that this is beginning to unravel.

If that happens, we could be in for a long stretch of not much of anything.  beginning in 1940, and lasting for forty years, the "five-year government bonds averaged 3.38% per year" and "corporate bonds with maturity dates near 20 years averaged 2.8% per year".

There are only a couple of things you can do if you have invested heavily in bonds or bond funds.  Begin rebalancing now, lowering your exposure to these securities.  Some younger investors have far more than the traditional rule of thumb suggests (percentage of bonds equal to your age) and older folks should pay heed as well.  You could look towards the stocks that paid dividends consistently throughout the downturn.
Dividends paying mutual funds tend to be the most stable, spreading the investment over a wide swath of the top 100 or so companies that pay.  That's not to suggest that you couldn't buy the dividend paying stocks yourself, individually.

The only other thing might be to go short-term and look for the highest interest rate.  This will take a little bit of homework on your part.  But your investments will be somewhat safer, more liquid and not among the casualities that are bound to be tallied by this time next year.

Paul Petillo is the Managing Editor of BlueCollarDollar.com/Target2025.com and a fellow Boomer

The Next Step After Frugality: Preserving Capital With Low-Risk Investment Vehicles

At the outset of the Subprime Mortage Crisis during 2008, I had a fascinating conversation with two successful business professionals.  Both were their early 50’s. One was a partner in a large Real Estate investment firm in Chicago, and the second was a Physician who owned his own medical practice.  During the course of our conversation, both of them communicated to me that if they had invested all of their net worth in T-Bills for their entire professional careers, both would have been able to retire early.  I was shocked!  They had each experienced such massive losses in the market throughout their career, and then oftentimes got out at the worst of times, that they would have been much better off if they had simply invested in low-interest, but extremely safe, T-Bills.

This exact story is why many investors are currently adjusting their portfolios by adopting a lower risk investor profile.  Preservation of capital is the number one priority for many investors in the current economic climate of uncertainty that is present in most developed nations around the world.  As rumors of a possible double dip recession surface in various news publications, the one thing people one more than anything is to not lose money.

Savings Accounts

Savings Accounts offer the smallest rate of return in comparison to other low-risk investments.  While they are the most liquid, they also have the weakest return.  Furthermore, when the Federal Reserve lowers interest rates in the United States due to economic recession, the rate of return on a Savings Account will likewise fall.  This very low rate of return, sometimes even below 1%, is why many investors do not like to keep funds in a Savings Account for very long.  However, if liquidity and preservation of capital is your goal, a Savings Account is an excellent place to park funds.  Also, they are considered extremely safe because if a bank were to fail, the FDIC insures against loss.

Money Market Accounts

Money Market Accounts are similar to a Savings Account.  Investors deposit funds in a Money Market Account at their banking institution, but they are offered a return that is slightly higher than a savings account.  The risk on the investors side is still very low, but they are subject to different terms concerning the minimum amount deposited and how often they can deposit and withdraw funds.  For this reason, Money Market Accounts are seen as less liquid than a standard savings account, but they do offer a higher rate of interest.  This investment vehicle is great for an investor who knows that the investment funds will not be needed for a longer period of time.

Certificates of Deposit

Certificates of Deposit (CD’s) are a favorite amongst investors seeking to preserve capital with a low risk investment vehicle.  While CD’s are also issued by banking institutions, they offer a higher interest rate than a standard Savings Account of Money Market Account.  They are the highest returning investment vehicle that the FDIC still insures against loss.  The downside to CD’s is they are much less liquid.  In fact, depending on the CD, funds generally cannot be withdrawn for several months up to several years.  Funds withdrawn before the maturity date are hit with various fees.

Bonds

Bonds are issued as debt by a company.  Thus, when you purchase a corporate or sovereign bond, you are essentially loaning that company or country money.  For this reason, bonds are seen as a relatively safe investment.  Bonds do, however, vary in their risk profile.  Bonds are generally rated with a letter sequence, such as AAA, that signifies how risky they are.  A bond issued by a company such as Microsoft is regarded as extremely safe, with little to no chance of default.  An investor can take more risk in search of greater reward and invest in junk bonds.  These bonds will return a higher rate of interest, but the risk of default is also much higher.

T-Bills

T-Bills are seen as the safest form of investment for very large players in the financial world.  When investors want to protect their capital, but still want to get a small return on their investment, they will oftentimes purchase Treasury Bills.  Treasury Bills are debt issued by the U.S. Government.  When an investor purchases a T-Bill, he or she is essentially loaning the U.S. Government money.   This investment vehicle is seen as extremely safe, since the probability of the U.S. Government defaulting on its debt is extremely low.  T-Bills will also typically return less than a bond, since the risk is less.  In currency trading, when there is a large amount of T-Bills being purchased during times of economic uncertainty, the U.S. Dollar will often rise in value due to this great demand for U.S. safety.

The are serveral types of low risk investment vehicles, but it is up to you to decide which one is best for you. Always preform a 3rd party check before commiting to an investment broker, and take the time to do a little research. Part of preserving your hard earned money for retirement is making sure inflation doesn't eat away at it slowly underneath your matress.

TIPS: Danger Ahead

Most of us are aware that the Federal Reserve has said that interest rates are going to rise.  Many Boomers have moved their investments into bonds as they aged or as a knee-jerk reaction to the market decline.  But when so many people head in one direction, for whatever reason, problems usually develop.  And that is what we have here.

Some folks moved into bonds and some, thinking that inflation was the real long-term worry, bought TIPS.  Turns out, both kinds of investors might be wrong.


Treasury Inflation Protected Securities are not the same as an investment that protects you from rising interest rates. While it is easy to see how investors can be confused by this, it will be a very costly mistake if you made it. In a follow-up to our warning about the potential, even probable bubble in the bond market posted a couple of days ago, investors who sought refugee in this type of security will also find trouble on the horizon.

A good deal of you moved into bonds without really knowing what you were getting into. A portion of you went with the safest bond available, the Treasury bonds. These are purchased at face value and pay a coupon (or interest rate payment) based upon the agreed upon rate at the time of purchase. Inflation can take its toll on those “yields”, as the interest paid to you is often referred to. Real yield however is the coupon payment less inflation. If inflation is low, as it has been over the last year or so, the yield on your bond will be relatively predictable and even quite profitable.


To read more on this topic about TIPS, click here.

Paul Petillo is the Managing Editor of Target2025.com and a fellow Boomer.