IT’S SUMMERTIME! LET’S TALK BASEBALL: IT’S MORE THAN JUST A GAME

First, full disclosure. I love baseball. I was born 2 blocks from Wrigley Field and walked to Cub games alone when I was 7 and sat in the bleachers. As a lifetime Cub fan it’s a mixed blessing- a life of both affection and affliction. Happily, the Cubs are having another good year and the White Sox are resurging. Baseball is a fun game for sure, but it’s more than just a game. This week’s Economist’s article “Baseball and Exceptionalism” examines how our national pastime reflects America’s desire to be different and successful.

You may have heard that a young man named Abner Doubleday invented baseball in 1839 in Cooperstown, New York. Doubleday later was credited with firing the first shot for the Union at Ft. Sumter and became a Civil War hero.

Actually, that story is untrue. Doubleday was at West Point in 1839 and he never claimed to have anything to do with baseball. The Doubleday myth was created by A.J. Spalding, a sporting goods magnate. In the 1930s the National Baseball Hall of Fame was established in Cooperstown. However, if you visit Cooperstown today, you’ll see a plaque admitting that the Doubleday myth is untrue.

The real history of baseball, like many things, is more complicated than that. References to games resembling baseball in the United States date back to the American Revolution. Its most direct ancestors appear to be two English games; cricket and rounders. However, American promoters in the 19th century, including Mr. Spalding, saw political and commercial profits to be gained from promoting a uniquely American game that was both different and exceptional. Actually, no surprise, American baseball teams raided cricket clubs (Philadelphia for example had 100 such clubs) for players, while the great American poet Walt Whitman proclaimed “Baseball is our game- the American game.”

Anglophobia, stirred by Britain’s trade with the Confederacy during the Civil War, pushed the issue. Alarmed by the persistent claim that baseball was invented by the English, Spalding bankrolled a commission, fueled by “patriotism and research” to produce a better explanation. The Doubleday myth was the result.

For Spalding and many Americans then and now, baseball was (and is) more than just a game. It reflects the triumphs, defeats and tensions of our nation. American baseball is the story of our country over the last 150 years. A common endeavor, yet with periodic problems and disputes between communities, owners and workers, and cultures. Mexicans, Irish, Jewish and African Americans saw baseball as a point of entry to American culture. Author Philip Roth called baseball “this game that I loved with all my heart, not simply for the fun of playing it…but for the mythic and aesthetic dimension it could give to a boy’s life in participating in a core part of America.”

The Economist makes three very good points about Americans creating, and in many cases still believing, the untrue Doubleday myth about our national pastime. First, America is often less exceptional- because, like baseball, it is more of a “European- accented hybrid”- than it considers itself to be. Second, there are costs to self-deception such as isolation in sport and otherwise. For example, right now 2 billion people are avidly watching the Cricket World Cup while baseball remains basically an American game. Third, our country’s belief in our exceptionalism may be at the core of our achievements. Believing you are different and exceptional increases your confidence and that can produce greater success.

Henry Ford is known not only for his fantastic success with his automobile empire but also for his great quotes. I really like this one: “Whether you think you can, or you think you can’t- you’re right.” Henry Ford inspired Americans to be more confident-exceptional and different- and therefore more successful. Spalding’s myth about Abner Doubleday inventing baseball isn’t true, but certainly has helped Americans believe that we are exceptional and different and this had helped lead to many of our successes.

And, now, “Take Me Out to the Ballgame.”

Ask DWM: Should We Invest in Real Estate?

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Great question.

 

Let’s start with some basic concepts.  Real estate is an illiquid investment. You can’t buy or sell it in a day or two like liquid investments. It is somewhat uncorrelated to the stock market returns- which is good.  While it is smart to consider adding real estate as a portion of your overall investment portfolio, you don’t want to have too much in illiquid investments. We suggest a rule of thumb is that real estate, excluding your house, should be at the very most 40% of your overall investment portfolio.  So, if your investment portfolio (both liquid and illiquid) is $1 million, real estate should at most be $400k.

Location. Location. Location. Appreciation in value over time is key. This will impact the ultimate sales price when you sell your investment property and the rental income amounts while you hold it. Historically, US real estate has increased, on average, about 3% per year, similar to inflation. However, location can produce tremendous differences. Charleston real estate has done very well in the last ten years, though some areas of the Lowcountry haven’t done so well. Chicago’s market overall has been flat for the last ten years, yet there are areas that have done very well and areas in the suburbs that have lost significant value.  Investing in a piece of real estate is not like buying shares in an S&P 500 index, where your investment will rise as the market will rise. Rather it is a singular investment in one piece of property, subject to both the general market risks and the specific risks of the property.

Would you be prepared to self-manage the investment property? Do you have the skills, time and patience to handle phone calls or texts, perhaps in the middle of night, from an upset tenant?   If you decide to have someone else do the property management, it won’t be cheap- likely 10% of your rental income.

Let’s look at the key metric- your likely return on investment. We start by calculating the “net operating income” (“NOI”), which is the cash flow of the property, assuming there is no financing, and compare this to the purchase price.  For example, let’s say you think you can buy a property for $500,000 that will rent for $3,000 per month. You need to include an amount for estimated vacancies/rental commissions- let’s use 8%. So, the hypothetical annual net rent would be $33,120. Now, let’s look at expenses- taxes might be ½% to 1% or more of the property value. There may be homeowner association fees and/or repair costs. And, there will be insurance-perhaps an amount equal to the real estate taxes. Just for simplicity, let’s say all of those expenses combined are 1 ½% of the value of the property. Based on a $500,000 property, expenses might be $7,500, assuming you do the property management yourself. Therefore, in this example, NOI would be $25,620 ($33,120-$7,500) or 5% of the investment.

The hypothetical total return on the investment is NOI + expected appreciation. Let’s say this property would be sold in 6 years for $650,000. Assuming you sell it using a broker, there would be a 6% commission. So, net proceeds of $610,000. This would represent a 3.5% annual appreciation on the property. Therefore, your total expected return in this example would be 8.5% (5% net operating income + 3.5% appreciation).

We haven’t talked yet about financing and taxes. If you get a loan at less than your NOI (5% in our example), your total return will increase slightly as you are benefitting from leveraging. If the rate is higher than NOI, the total return would be a little less. Depreciation is a non-cash expense that can reduce the taxable income on the property during your ownership. Any depreciation taken has to be “recaptured” (given back) when you sell the property. Depending on your personal circumstances, you may be able to take losses on rental property and you may be eligible for a 20% Qualified Business Income Deduction. Financing and taxes are generally not the key determining factors in deciding to buy the property, but may have some impact on the total return.

We generally suggest a minimum threshold for expected total return on real estate investments to be 9% or more. If a balanced liquid investment portfolio is expected, over a long-term, to have a total return of 5-7% net of fees, a real estate investment should be at least 3% more. Real estate investments are illiquid, riskier (due to lack of diversification) and, if you self-manage, will require time, skill and patience.

Under the right circumstances, investment real estate can be a nice addition for a portion of your investment portfolio. At DWM, we are very familiar with real estate. We understand the pluses and minuses for a portion of your investment assets. In 50 years of marriage, Elise and I have purchased and sold over 40 properties, some of which were our home and some were investment properties. Real estate investment has helped increase our income and net worth.

If you think you might like to invest in real estate, or, if you already own real estate and wonder if you should be adding more or subtracting some or all of it, give us a call. Once you’ve assembled all the facts (cost, income, expense, appreciation), we’re happy to help you review the NOI and total return and discuss how investment real estate fits into your overall investment strategy. We don’t do property valuations and we certainly can’t guarantee your future results, yet we’re happy to provide competent, independent and valuable input as you determine whether or not you should invest in real estate.

 

 

 

 

 

Not All Winners: Tax Refunds Down $6 Billion from Last Year

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At the end of March, 2019, the Treasury had issued $6 billion less in tax refunds than the same period a year ago. The refunds still have averaged around $3,000 each and the number of returns processed is similar to last year, but there are roughly 2 million fewer refunds so far in 2019. Many taxpayers are shocked- getting smaller refunds or having to pay, when seemingly nothing has changed in their situation.

We cautioned our readers about this a year ago (March 15, 2018), in “How to Avoid a 2018 Income Tax Shock.” We pointed out the Tax Cuts and Job Act (“TJCA”) brought about a number of changes. It reduced itemized deductions, lowered tax rates, eliminated exemptions, and produced new tax withholding tables in early 2018 that reduced withholding, thereby increasing net paychecks. So, for those families who have used their annual refund as a forced saving mechanism, it was a huge disappointment this year. They received little or no refund-yet, in fact, they had already received their refund money with each enlarged paycheck which, studies show, was spent, not saved.

Wealth Management magazine reported today that “Fewer RIAs (Registered Investment Advisers) See Client Benefits From Tax Act.” Craig Hawley, head of Nationwide Advisory Solutions, authored a recent study on TCJA which indicated that “the benefits of tax reform were not as widespread as originally expected.” This is no surprise to us at DWM- we anticipated winners and losers. We didn’t expect the benefits to be widespread and they haven’t been.

Our DWM clients represent a very diversified group. We are pleased to work with clients of all ages, from teenagers and others in our Emerging Investor program to Total Wealth Management clients in their 20s to their 90s. We work with lots of folks whose primary income is W-2 income and others whose primary income comes from their businesses and still others whose income comes primarily from their investment funds and retirement programs. While we don’t prepare any tax returns, we are very involved in tax projections and tax strategy for our many families. Here is the anecdotal evidence of the 2018 impact of the TCJA we have seen:

1)For younger people, their taxes were slightly less, but their refunds were down or they had to pay.

2)Those with significant personal real estate taxes, particularly those in IL, CA and NY, in many cases paid more in income taxes than 2017 due to the fact that most of the large real estate taxes they paid were not deductible.

3)Business owners, except for those in the excluded “Specified Service Trades or Businesses” (such as doctors, lawyers, CPAs and wealth managers), did exceptionally well under TCJA. They were able to qualify for a 20% “Qualified Business Income Deduction” from their income and get lower rates as well. For example, if a business owner’s share of the profit was $1,000,000, only $800,000 of it was taxed and that was at lower rates producing tax savings of over $125,000 as compared to 2017.

4)Many retired couples with no mortgage and few itemized deductions were able to take advantage of the new $24,000 standard deduction ($26,600 for those over 65) instead of using their itemized deductions and this saved them taxes.

5)Overall, TCJA brought winners and losers. Generally, business owners (not in service businesses) and those in the highest tax brackets saw the biggest reduction in income taxes. Certainly, benefits have not been widespread.

At DWM, we regularly prepare tax projections for our clients and encourage everyone to know, at least by the 3rd quarter, what their 2019 tax status might be. It’s really important to go through this process to avoid tax shocks and, maybe, even find some opportunities to reduce your taxes for 2019. Please contact us if you have any questions.

Ask DWM: What is an Inverted Yield Curve and What Does it Mean to Me?

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Great question. Historically, an “inverted yield curve” has been a signal that recession was on the way. As with so many things these days, though, the old “rule of thumb” may not apply. Here’s why:

yield curve is a graph showing interest rates paid by bonds. The chart is set up with the horizontal axis representing the borrowing period (or “time”) and the vertical axis representing the payments (or “yield”).   We all would typically expect that loans over a longer period time would have a higher interest. That’s “normal.”  For example, if a 30 year mortgage rate is 4%, a 15 year mortgage rate might be at 3.25%.   A one year Certificate of Deposit might earn 1% or less and a 5 year C.D. might be 2%. The situation is referred to as a “normal” or “positive” yield curve in that interest rates are higher as the borrowing period gets longer and the curve slopes upward, see below:

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However, rates don’t always work that way. At the end of last week, the three-month Treasury bills’ yield 2.46% was higher than the yield (2.44%) for 10-year treasuries. This situation technically produced an inverted yield curve, since a shorter period had a higher rate. This also happened three months ago. Historically, “curve inversions” have tended to precede major economic slowdowns by about a year.

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Inverted yield curves are unusual because they indicate lenders (or investors) are willing to earn less interest on longer loans. This is most likely to happen when the economy is perceived to be slowing down and faces a meaningful risk of recession. Historically, curve inversions have occurred about a year before the each of past seven recessions in the last five decades, though a recession doesn’t necessarily occur every time we see a yield curve inversion.

The U.S. economy has slowed already from the average growth rate of 2018; mainly as a result of the 35-day government shutdown and reaction to the Federal Reserve’s (“Fed”) reports of slower growth and a moratorium on interest rate hikes. Some economists feel the economy may slow even more due to the tax-cut stimulus being only a one year spike, headwinds from trade tensions with China, political uncertainties and global polarization and fragmentation.

However, other factors point to strong economic growth. We do have a solid labor market which drives consumption. Average monthly job creation is well above what might have been expected this late in the business cycle. Further, more workers have been attracted back into the labor force and wage growth has been 3%; a rate in excess of inflation. Business investment should rise and government spending is higher.

In short, an inverted yield curve is not a perfect predictor of recessions. A different portion of the yield curve inverted three months ago in December and the markets in early 2019 have rebounded sharply as fears subsided. Also, many economists believe the drop in 10-year Treasury yields is due to non-U.S. economic headwinds, like Brexit as well as the unwinding of the Fed’s balance sheet after Quantitative Easing. They believe it’s not because of serious weakening of U.S. economic fundamentals.

The current inverted yield curve may or may not be the bellwether of a coming recession. These days, there is not a simple cause and effect relationship between an inverted yield curve and recession. More likely will be the resolution or non-resolution of uncertainties such as Brexit, trade tensions, political matters and global peace. Stay tuned and stay invested for the long-term.

Money and Time

 

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As the old saying goes, “Time is Money.” One of the great laws of business is that time equals money: The more time you can efficiently utilize, the less time you waste and the more money you make. Some may call this the opportunity cost of laziness. By being lazy you essentially give up the opportunity to make money. You’ve likely heard the phrase in some form or another a thousand times before, and it makes sense. However, have you ever considered it the other way around?

It may feel strange saying it out loud at first, but the saying can go both ways. Money is time. Time is one of the most valuable resources on earth. Thinking of money in terms of time is one of the best ways to adopt a healthy attitude about spending and stop splurge spending. If you know the true cost of your dollar you may be more inclined to save it.

To start, you must factor in all hours spent at or around the office, commuting, and at seminars over the course of a year. Once you’ve established the number of hours spent on work-related items, you will then have the denominator for your true hourly wage calculation.

The next step will be establishing any costs associated with your work. There are a lot of people who are unaware their job may actually have costs associated with it. Aside from the amount of time spent at work, most spend a considerable amount in preparation for their job. The cost associated with job preparation includes gas and care repairs for daily commuting, daycare costs, coffee, work clothes, and some may even include the occasional happy hour after work. Once you’ve established the amount of money you spend on your job on a weekly or annual basis, then subtract this number from your weekly or annual salary. Now subtract taxes to arrive at your net salary.

Now we are ready to calculate your true hourly wage. Take your net salary, add back any retirement plan contributions you may have been making, and divide this by the number of hours spent on work-related items to arrive at your true hourly wage.

Example:

Let’s assume an employee works 40 hours per week, spends 10 hours on work-related items. This employee gets paid $40,000 a year, spends $8,000 per year on work-related items, and pays about 20% ($8,000) in taxes between state and federal per year. The true hourly wage of this employee would be $9.23 per hour ($24,000 divided by 2,600 work hours per year). Compare this to a naked eye analysis of this employee’s salary, $19.23 per hour, and you will notice a $10 per hour difference for this employee. This means each dollar this employee spends costs him or her more than 6 minutes at work.

Knowing the true cost of your dollar, you may find yourself reluctant to splurge on that next big item. It’s important to remember that the relationship between your money and your time isn’t always that straightforward. While you can certainly calculate the cost per hour of use for a given splurge item, (a $160 chair used for 480 hours a year and used for five years will have a cost per hour of $0.06), this should not be the only consideration in spending. For both spending your time and your money, there is always at least one item we can all spend it on: That which makes you happy.

“The Two Most Powerful Warriors are Time and Patience”- Leo Tolstoy

 

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Good investing can be boring, yet effective! Specifically, investors with a long investing timeline should build a diversified, low-cost portfolio with an appropriate asset allocation and stick with it. Rebalance regularly to sell high and buy low. Don’t try to time the markets by getting in and out. Yes, this is boring, particularly with the volatility we are enduring, but it’s what it takes to generate solid returns over the long haul. Patience and time are powerful warriors and our friends.

Take a look at the average risk and returns for various asset styles over the last 20 years, which includes the 2008-09 financial crisis and 2018. The best performers, with higher returns and lower risk, are in the upper left hand corner:

 

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Bonds have relatively low risk and have produced decent returns over the period, particularly the first 15 years. Small cap and mid cap stocks have outpaced large cap stocks (e.g. Dow Jones and S&P 500) over time, with better returns and similar volatility (risk). Non-US stocks have trailed US stocks. Emerging markets stocks have produced very good returns, but with larger volatility swings. REITs have produced a 10% annual return with a risk factor about equal to U.S. stocks. The diversified composite “12 Index Portfolio” has produced a nice return of 6.8% annually (better than large cap stocks with 5.6%) with about 2/3 the risk of stocks.  Please note that during this 20 year period, the inflation rate was 3.2% per year. So, the 12 Index Portfolio produced an annual “real return” of 3.6% over the last 20 years.

Investors get in trouble when they lose faith in the markets and their allocation, react to the current market pain and go all cash or move to the “hot” asset classes for better returns. That approach generally ends badly for investors as the markets will correct themselves over time (as we have seen December 2018 losses recovered in January 2019) and hot asset classes go “cold” as the pendulum swings to the next “hot” asset style right after they jump in.

The 12 Index portfolio in this chart is composed of all the asset styles shown, equally weighted. Overall, this allocation is 50% equities, 33% fixed income and cash, and 17% alternatives; what we would term a “balanced asset allocation,’ appropriate for a “balanced risk profile.”

This balanced allocation will never be the top performer in any year. And, it won’t be the worst. It is designed to deliver middle-of-the-road, steady returns. Patience and time produce the results.

Investors need to also understand that time is their friend. “Time in the market beats timing the market.” Here’s another chart showing the growth of $1 since 1990, all invested in the S&P 500:

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The black line represents an investor who stayed in the market every day and turned her $1 into $14. The red line represents the investor who missed the 25 best days (roughly one a year) and turned her $1 into $4. The gray line represents the return an investor could have received by simply investing in five-year treasury notes, turning $1 into $4.

Getting out of the market is easy; getting back in at the right time is very difficult. In the last couple of months, for example, the equity markets (using the MSCI AC World Index) are about level from December 1, 2018 until last Friday, February 8th. However, if an investor got cold feet and got out in mid-December and waited to get back in until mid-January, they would have lost 3.5% on their equity returns. Timing the market is not a good idea- unless you own a crystal ball, can implement perfect end of day execution on buys and sells, have no transaction costs, and don’t mind paying taxes on realized gains.

Patience and Time are two powerful warriors-they are your friends. Let them do the heavy lifting.  Invest for the long-term. Yes, slow and steady wins the race. It may not make for great cocktail conversation, but boring investing can be very effective.

U.S. Housing Market: Not Hot Everywhere

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Zillow just reported that the U.S. Housing Market is up 49% overall since 2012. That’s roughly 6% per year in that time period-though, to be fair, 2012 was when the housing market hit bottom after the 2008-2009 financial crisis. The U.S. Housing Market is huge- $33 trillion (“T”). It’s larger than the value of all U.S. stocks and is about equal to the Gross Domestic Products (GDPs) of the U.S. ($19T), China ($12T) and Canada ($2T). Commercial real estate, including retail, hotels, office buildings, apartment buildings and industrial is about $6T.

The U.S. housing market has had some big winners and some big losers in the last 7 years. Almost 1/3 of the gain of $11T since 2012 has occurred in California. Four of the country’s 10 most valuable markets are in California; LA (5% increase in value in 2018), San Francisco (9.6% increase), San Jose (10% increase) and San Diego (3% increase). New York Metro itself has $3T of housing. The Washington, D.C. metro housing is worth $900 billion. DC itself has more housing value than 40 states, including Colorado, Arizona, Ohio and Oregon.

Unfortunately, housing in some areas hasn’t done so well. Illinois has many state-specific issues which makes it one of the worst housing markets areas. In fact, among the nation’s top 100 metro areas, Chicago is expected to be the weakest housing market of them all in 2019. With mortgage interest rates possibly causing a likely national homes sales slowdown of 2% in the U.S. in 2019, Chicago metro, including Naperville and Elgin, is expected to have an 8% decline in home sales this year. Taxes are a big problem in Illinois. Illinois homeowners are subject to the highest overall tax burden in the country, including the second highest property taxes in the U.S. Since 1996, Illinois property taxes have grown 43% faster than home values and 76% faster than home values in Cook County (Chicago). Worse yet, less than 50% of the tax increases have gone to pay for services. Most of the increase has gone for teacher and other governmental pensions and debt service on bonds.

In 2017, Illinois raised income taxes- the largest permanent state hike in history. Add in a sluggish state economy and outbound migration and the Illinois housing market is hurting. Even so, the Illinois Association of Realtors expects the median value of houses in IL to rise in 2019 by 4%, to roughly $196,000 for the state and $241,000 for Chicago.

The Lowcountry in SC is faring much better. Charleston Metro is now home to 700,000 people. Ongoing job growth means continued housing demand. The median home value in Charleston is now about $320,000 and Charleston home values went up 8% in 2018. The forecast for 2019 is 3% growth. Buyers outnumber sellers. A typical home in Charleston receives only one offer. However, homes sell for only 3% less of the listing price on average with 73 days on the market.

Charleston has many reasons for its housing growth:

  • A booming job market with an unemployment rate under 3% and one of the least unionized states in the nation
  • Wages are low
  • South Carolina’s overall tax burden is among the lowest, particularly for retirees.
  • Huge Tourism industry including being the most sought after wedding destination in the country
  • Home Appreciation is strong- 31% over the last 10 years

Overall, the U.S. Housing market is strong for now. Many winners, but some losers. Mortgage rates, after jumping to 5% and more on 30 year mortgages just a few months ago, are now down in the low 4% range. If they stay there, 2019 could be a pretty good year again for the U.S. Housing Market. But, with many areas coming off a strong run overall the last several years, a cool-down on housing prices wouldn’t be surprising. We’ll continue to watch how the events unfold and keep our clients and readers informed as conditions warrant.

Can Money Buy You Happiness?

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Happy New Year!! We hope you had a fantastic holiday season. Now, it’s on to 2019 with planning and resolutions for the New Year. What are your goals? More money? More Happiness? More Joy? As you tackle these huge questions of money and meaning, we’d like to offer you some ideas.

Does money buy happiness? King Midas was rich, but his gold didn’t bring him happiness.   That’s because there’s a difference between being rich and being wealthy. Brian Portnoy, in his book, “The Geometry of Wealth,” articulates this well: “Being rich is having ‘more.’ The push for more is a treadmill of which satisfaction is typically fleeting. Wealth, by contrast, is funded contentment. It is the ability to underwrite a meaningful life- however one chooses to define that.”

Money, of course, is a huge part of our daily lives. Our life cycle with money includes earning, spending, saving and investing. Our first paycheck shows us our ability to earn and sustain ourselves. Next, where do we spend the money and how much do we save? Lastly, as we accumulate money, we choose to put our financial capital at risk to grow at a higher rate of return than cash. Money is like the oil in your car; without it, the car grinds to a halt, but with it, YOU still have to steer the car in the right direction.

Sonja Lyubomirsky in “Pursuing Happiness,” identifies three factors which determine happiness/human fulfillment. These are disposition (who you are), circumstances (what you face) and intentions (what you do). Her research shows that outcomes are impacted as follows: 50% comes from disposition, 40% from intentions and 10% from circumstances. The good news is that we can control our intentions; which, of course, is our review, planning, implementation and monitoring of our life planning.

As Daniel Kahneman (featured in earlier DWM blogs) has proven, how well we handle our intentions and planning has a lot to do with “Thinking Fast and Slow.” The fast brain is the home of impressions, impulse, and feelings. The slow brain is engaged when we are deliberately thinking and making informed choices. The two systems work together; the key is using our slow brain as we shape a life of money and meaning. The process of building and executing a plan can be, in itself, a source of happiness.

In 2015, the Dalai Lama and Archbishop Desmond Tutu met and discussed life; recapped in “The Book of Joy.” They separated happiness into two categories; one, experienced happiness, which comes and goes with daily pleasures, and, two, reflective happiness, the achievement of joy, which takes work. Dr. Portnoy identifies the four pillars of joy:

  • Connection-the need to belong
  • Control-the need to direct one’s own destiny
  • Competence-the need to be good at something worthwhile
  • Context-need for a purpose outside of one’s self

These “Four C’s” are at the heart of funded contentment. And while contentment can be achieved by all, including those in lower levels of income, money helps.

Dr. Kahneman found in his research that happiness directly increases as income increases. However, after about $75,000 of annual income (per person), experienced happiness levels out. The concept is that good and bad moods come and go at the same pace for someone making $100,000 per year as compared to someone making $1 million per year. However, reflective happiness, or funded contentment, does increase with higher incomes for many people. This is because at higher levels of income, money, allocated wisely, can underwrite the Four C’s, which constitute reflective happiness. Money can be used for both experienced and reflective happiness and, by using both our fast brain and our slow brain, we can achieve both.

In our crazy, chaotic world, it’s important not to let our fast brain guide all of our intentions. We need to have a plan and a process and be ready to adapt it as the world changes. True happiness takes work. Our goal, as wealth managers, is to assist you with a process not only to protect and grow your money, but also to help you achieve “funded contentment”- the ability to underwrite a meaningful life- however you choose to define that.

Good luck on your planning for 2019. Please let us know if you would like us to help.

“Nowhere to Hide for Investors”

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Most years, financial markets are a mixed bag; some asset classes are up and some are down. Some years, like 2017, everything is up. And then there are years, like 2018, when everything is down. It’s been decades since stocks, bonds, commodities and gold all have reported negative results. Even though the American economy remains strong, with low unemployment and steady growth, expectations for the future have diminished. Rising trade tensions, a sharp slowdown in Chinese spending, rising interest rates and no additional tax reform have reduced the outlook for economic growth and corporate profits worldwide.

So, what’s an investor to do? We suggest you go back to the basics and review your financial and investment strategy for the future:

1)Determine how much risk you need to take on to meet your financial goals. What is the annual real rate of return you need to have enough money for your lifetime(s) and the legacy you wish to leave? When we say real return, we mean the nominal return less inflation. You, perhaps with help from your financial adviser, need to determine your expected investment portfolio at your time of “financial independence,” the annual amount you expect to withdraw from the portfolio to cover your needed and wanted expenses (any annual amount over 4% of the portfolio could be a problem), estimated inflation and estimated longevity. The calculation will produce a rate of return needed to meet your financial goals.

2)Next, determine how much risk you want to take on. Your “risk profile” is based on your risk capacity (your financial assets), your risk tolerance (your attitudes about risk), and your risk perception (your current feelings about risk). We’re all hard-wired with certain attitudes about risk. Some of us are aggressive and some of us are conservative or even defensive. Some of us are victims of the “recency bias,” which means that we think that whatever direction the markets have moved recently will continue (forever). At a minimum, we need to take on the risk we earlier determined necessary to meet our goals. If that seems too aggressive then we need to revise our financial goals downwards. If we want to take on more risk than is needed to reach our goals, that’s a personal choice.

3)Your risk profile should be based on the long-term, but may need to be adjusted. Once you, perhaps with help from your financial adviser, have determined you long-term risk profile as defensive, conservative, balanced, growth or aggressive, you should maintain that profile for the long-term and not move up or down due to short-term market conditions. Don’t try to time the markets’ ups and down. Staying invested for the long-term in an appropriate risk profile is your best strategy. However, life events can result in major changes in a person’s life. Death of a family member or loved one, marriage, relationship issues, changes in employment, illness and injury are all examples. At these times, your risk profile should be reviewed and, if appropriate, adjusted.

4)Determine an asset allocation based on your risk profile. There are three major asset classes; stocks (equity), bonds (fixed income), and alternatives (gold, real estate, etc.). Your risk profile will determine how much of your portfolio would be in each of these categories. A defensive investor would likely have little or no equity, substantial fixed income, and some alternatives. An aggressive investor could have most or all in equity, some or no fixed income and some or no alternatives. A balanced investor might have 50% equity, 25% fixed income and 25% alternatives.

5)Compare the real return you need to the asset allocation. Let’s use a balanced investor, for example. If equities have an expected net long-term return of 8-10%, fixed income 2-4%, and alternatives 2-4%, a balanced investor would have a hypothetical long-term net return of 6%. (9%x.5 + 3%x.25 +3%x.25). A 6% nominal return during times of 3% inflation produces a 3% real return. Compare this real return to your return needed in exercise one. A defensive investor who has no equities will be fortunate to have a hypothetical return equal to inflation. Someone who sits in cash will not even keep up with inflation. An aggressive investor, with all or mostly equities, will, over time, have the greatest return and will experience the greatest volatility. Aggressive is not for the faint of heart, aggressive investors generally lost 30-45% of their portfolio value in 2008.

6)Diversify your portfolio. After selecting your asset allocation, you need to look at your “investment styles” within each asset class. You should consider a global allocation for diversification. In 2018, while all equities are down, the S&P 500, led by Facebook, Apple, Netflix and Google, has been down the least. But, it doesn’t always work that way. The S&P 500 index was down 9.1% cumulatively from 2000-2009, while international stocks were up 17% cumulatively including emerging markets, which were up 154%. In the 11 decades starting in 1900 and ending in 2010, the US market outperformed the world market in 5 decades and underperformed in the other six. Consider perhaps having 20-30% of your equities in international holdings and make sure you have exposure to mid cap and small stocks domestically.

Conclusion: 2018 has been a tough year, particularly after 2017 was so good. We sometimes forget that even with the 10% and more corrections in the markets since October 1, equities have been up 7-10% per year, fixed income and alternatives up about 2% per year over the last three years ending this Monday, December 17th. If you need/want a real return above zero, you will likely need to invest in equities in some proportion. Determine how much risk you need/want and stick with it for the long-term, subject to life events changing it. Stay diversified and stay invested. Focus on what you can control, including enjoying the holiday season. Happy Holidays.

 

 

 

 

Your “Hidden Brain” Impacts Your Politics

Hopefully, all of us will vote in the midterms on 11/6 or before. Roughly half the country will vote for Republicans (conservatives) and half will vote for Democrats (liberals.). Did you know that your choices are not only impacted by your upbringing and experiences, but also very specifically by your genes? We’re hard-wired from birth for much of our political views.

Shankar Vedantam is one of my favorite authors and commentators. He is NPR’s social science correspondent and before that a journalist at The Washington Post. His 2010 book “The Hidden Brain: How our Unconscious Minds Elect Presidents, Control Markets, Wage Wars and Save our Lives” describes how our unconscious biases influence us. I highly recommend it.

Mr. Vedantam relates the story that on a regular basis, right before an election, someone will share an article with him about how science proves that the brains of a liberal are stunted or that Republicans are less intelligent than Democrats. While those claims likely have no merit, Mr. Vedantam contends that there are “genuine psychological differences between liberals and conservatives.”

On a recent Hidden Brain telecast, Mr. Vedantam hosted political scientist Dr. John Hibbing to the show. Dr. Hibbing is co-author of “Predisposed: Liberals, Conservatives and The Biology of Political Differences.” Dr. Hibbing pointed out that differences between partisans are not limited to politics. There are generally differences in food choices, living spaces, and temperaments. Conservatives generally like meat and potatoes; liberals are more likely to prefer ethnic food. Conservatives tend to have organized rooms with things like sports memorabilia, while liberals tend to have lots more books and may not be as tidy. As far as temperament, conservatives tend to favor order and tradition and liberals tend to be more comfortable with ambiguity and change.

Then, there’s a huge difference between conservatives and liberals when it comes to threats and danger. According to Dr. Hibbing, conservatives tend to see the world with its terrorists, home invaders, drug cartels, and immigrants as a very dangerous and threatening place.   Liberals tend to believe they live in a relatively safe society.   Conservatives therefore want and need the government to help them “protect themselves and their family, limit immigration, and put lots of money into defense and law and order.” Liberals, on the other hand, are reinvigorated by immigrants coming to our country, don’t see the need to spend so much money on defense and support gun control. Conservatives and liberals read about events of the world and they simply don’t respond to them in the same way.

Mr. Vedantam chimed in: “There is a very powerful illusion that we have that the rest of the world sees the world the way we see the world. And, if they come to a different conclusion, it must be because they’re being deliberately obtuse or somehow deliberately biased, as opposed to the idea that people are actually seeing the world the same way, but reacting to it differently.” Psychologists call it a case of “false consensus” that we assume others will see the world the way we do.

People are wired differently. Roughly 30-40% of our political views come from genetics based on research by Dr. Hibbing. 60-70% comes from our environment. Mr. Vedantam has described how researchers separate the effects of biology from those of the environment. They look at fraternal and identical twins. Both sets of twins have identical initial environments, but the fraternal twins have similar but not identical genes. Data from thousands and thousands of twin pairs supports the conclusion that political views are quite “inheritable.”

Finally, brain activation patterns of liberals and conservatives are different. Dr. Hibbing has conducted tens of thousands of experiments in which he showed various pictures to individuals whose brain was being scanned. Liberals’ brains would highly activate at times much differently than when conservatives’ brains were highly active. The brain scan results alone proved “incredibly accurate in determining whether an individual was a conservative or liberal.”

Frankly, I find it very helpful to learn that political views are at least, in part, biological. Years ago, left-handers (like both my mother and father) were thought to be lazy and had their hands hit with a wooden ruler to make them write “correctly,” using their right hand. People saw left-handers as a flaw, something that needed to be driven out. Now, of course, we understand that being left-handed is very biological. Similarly with politics. Dr. Hibbing concludes: “If we recognize that others, virtually half the country, are oriented to the world in a different fashion, maybe we would be a bit more tolerant to them. This is the only way we’re going to get anywhere if we at least understand where they are coming from even if we might deeply disagree with their conclusions.”

As we approach the midterms with the vitriol rising, let’s all remember our hidden brains and those of others, particularly family and friends and show tolerance and respect to all. We may see the same world differently: our unique genes, unconscious biases and life experiences may produce different conclusions and different political preferences. Yet, we’re all Americans and we and our country will all do better if we work together.