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Stock Market Punishment: The First Lesson of 2013

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The podcast team is giving the interns a well-deserved week off, so lucky reader….YOU get a FREE extra blog post from Average Joe. I know. Pinch yourself. It’s real. Almost like our awesome rare Saturday post this week.

Look at what the media did to you again.

The sky is falling! Fiscal cliff! Doom! Stock market will be in shambles! Hide your children!

Big ratings for the financial channels, huh?

If you listened and moved your money out of the market, it destroyed your chances for a great return in 2013.

MAYBE you’ll recover if you jumped out before the big two-day run up in stocks. The chances, though, are against you: historically, if you miss the 10 best days in the stock market, you lose about 5.18%, or nearly half your return for the year. If you paid trading fees to avoid the “fiscal cliff disaster,” this only exacerbated your problem.

Here’s what the panicked investor missed in the S&P 500 last week:

December 31: 1.7%

January 2: 2.5%

January 3: –.03%

January 4: .05%

In short, if you missed two days last week you lost out on 4.2%. Those types of returns don’t come around often.

By the way, don’t go in the comments and tell me that “all you lost was a little time….” go back and read the stats above first. You lost a ton.

 

let’s calculate the cost of listening to the media on this one

 

Suppose you’re 25 years old and you have managed to save $10,000 into your 401k plan. You lost out on $420. Sounds like no big deal, right?

Let’s use the rule of 72 to determine just how much you really lost:

The rule of 72 says that if you divide the interest rate you think you’ll achieve into 72, you’ll come up with the approximate number of years it’ll take your money to double. Cool, huh?

Assuming that you wanted this money for retirement (401k, right? That’s not your “mad money” account….I hope), we’ll use age 70 for your withdrawal. We’ll also use a realistic return assumption of 8%.

8% / 72 = 9 years for your money to double.

So, that $420 you lost wasn’t really $420, was it?

It would have doubled when you were 34, 43, 52, 61, 70.

Your “little” $420 wasn’t $420. By 32 it was $820. At 41 it was $1,640. By age 50 you’d lost $3,280. At 59 the gap was $6,560. When you went for the money at 69 you had $13,200 less.

 

it gets worse

 

If you’re 30 and gambled $50,000 that the market would tank, it’s uglier. Let’s also use 9% rather than 8%, since people looking long term historically have used 10% as their assumption (which I believe is too high, BTW).

Check out what more money and a “little” one percent difference do to your loss:

Rule of 72 = 8 years for money to double.

Funds double at 38, 46, 54, 62, 70

$2,100 lost during two day run-up in market.

= 4,200 loss at 38, 8,400 loss at 46, 16,800 at 54, 33,600 at 62 and

…$67,200 at age 70.

On our “What Did We Learn in 2012” podcast, expert after expert told you the same thing: don’t listen to national media finance porn and don’t chase short term results.

If you did, I’m going to play Dr. Phil now: How’s that workin’ out for ya?

 

Photo: Joe Shlabotnik

Five Money-Saving Tasks That’ll Help You Cha-Ching! in the 4th Quarter

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I love the sound of the cash register ringing, don’t you?

If you’re going to be successful in your financial life, treat it as if it’s a business and you’re trying to hear that awesome cash register sound. If you don’t, you’ll always prioritize yourself behind more “important” activities like your job (nevermind that the job is there to help your net worth…that’s probably the subject of another post).

Every business has a mandatory list of activities that can’t be ignored. So does your financial life.

Here are five items that MUST be on that list this quarter:

1) Mutual fund capital gains. Even if you don’t have mutual funds outside of an IRA now, you should learn how these rules work. When the manager (or system, for an index fund) trades stocks or bonds inside of the fund a capital gain is generated. Someone has to pay it, and there’s no real fair method, so the mutual fund company declares a date and divides the gain among shareholders of record. Even if you didn’t sell the fund, you’re responsible for your portion of the manager’s buying and selling.

With results so far in 2012 looking up, there’s a good chance you might get hit with a tax bill this year. Avoiding this tax is legal and easy. Find the dates the fund declares capital gains and transfer your money to a different fund in the same family. This avoids fees for switching and the manager’s capital gains tax.

Grab a calculator before you move any money. You’ll still be on the hook for capital gains taxes you generate by selling as well. The cost of switching might outweigh the savings you’ll realize from avoiding any taxes created by the fund manager.

2) The lemon drop. Hoping to skim off some of that skyrocketing Apple stock? Cover a portion of your capital gain by also selling your brother in law’s “can’t lose” loser. There’s no time like now to weed your portfolio of positions that aren’t going anywhere. Although you’re only allowed to show $3k in net capital losses each year, leftovers can be carried over to deduct in future years.

3) Charitable giving. Hopefully you’ve given to your favorite community non-profits throughout the year, but if not (and especially if you itemize), you’ll want to make cash and in-kind donations in before December 31. Keep receipts for your gifts. The IRS has tightened charitable giving laws in recent years.

4) Estimate your taxes and decide when to pay property taxes. If you own a home winter taxes are deductible either in December or January, your choice. Did you receive a big bonus this year? Take the extra deduction now to help lower your tax due. If you make too much, it might be a better idea to wait until next year. High income earners aren’t allowed to claim all of their itemized deductions (ask your accountant about whether you’re subject to phaseouts).

5) Goal evaluation and setting. The 4th quarter is the perfect time to begin thinking about your short and long term goals. Did you hit your benchmark in 2012? If not, what are you going to change in 2013?

While people generally talk a good game about benchmarking, most of my clients were surprised when I pulled the actual number out of their plan to see if they’d hit the mark during a year. By sticking with actual data and avoiding the “Yeah, it feels like I had a good year” you’ll be able to make the necessary course corrections to save the right amount of money in the upcoming year.

I’ll be addressing each of these areas in more detail during the course of the quarter, but do yourself a favor and schedule these tasks now. These are five activities that you don’t want to miss!

What other events are on your 4th quarter financial calendar?

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Managing Your 401k or IRA: Does Moving Money Around Every Day Help Your Returns?

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I was invited to speak to a nice group of people at Walsh College in Troy, Michigan last night. One woman asked, “What do you say to someone who messes with their 401k non-stop?”

btw: Thanks, Greg, for the invite! Hopefully I didn’t bore your students silly.

Let’s face it:

90% of us fall into one of two camps:

1) You obsess over your 401k and tinker with it constantly.

or

2) You only remember you have a 401k or IRA plan when the statement arrives.

I’d say that nearly 90% of the 90% number above fall into the latter category. So, when I hear about someone tinkering with their 401k or IRA all the time I think, “Why?” and then I ask “Would it help to tell them to stop?”

 

Why People Do It

 

I don’t have any scientific evidence, only years of experience with people. Here’s the complete list I can imagine:

– Natural worrier.

– Concerned they won’t reach retirement.

– Anxious to get every last penny out of investments.

– Intensely interested in investing.

– Secretly always wanted to be a day trader.

I can’t think of any others (fill in my blanks in the comments below).

 

Would It Help To Tell Them To Stop?

 

I think the answer to this question largely depends on how the individual answers the question “Why People Do It”.

 

Natural Worrier

 

I could tell this person all day that he isn’t helping himself, but the only method that actually has worked for me in the past is DATA. If I explain how funds in a 401k plan work, it’s easy to see how much damage you’re doing to your retirement.

First, a 401k plan is a professionally managed investment. This doesn’t guarantee success, but it does mean there are people who work with money all day managing the funds.

Second, each investment is a collection of stocks that largely move with the market. Do you really think you can beat the market? According to a New York Times article, investors spent over $100 billion dollars in 2008 trying to beat the market, and largely lost due to fees. You would have been better off buying and holding low cost index funds.

Besides fees, your ability to time the market isn’t probably as good as you’d hope. According to one of my favorite Kiplinger articles: Can You Time The Market?, there are certainly some good indicators you can track, but the pitfalls are enormous. Going with your “gut” feeling about the market isn’t going to pave the way for a successful retirement.

 

Concerned They Won’t Reach Retirement

 

This person needs data, but instead of information on investment returns, they need a financial plan. I’ve found that once this person sees in writing that they’re okay (or not okay) they largely settle down.

Not only can you use the Planwise tool imbedded in our site, but many retirement calculators exist on other (less) popular sites, like Yahoo! Finance, CNNMoney, and MSN Money.

 

Intensely Interested In Investing

 

These are some of my favorite people. They want better returns and are willing to go the extra mile to learn more about investments. They’ve dove (dived?) into the 401k because it’s available and easy to understand.

I recommend this person reviews the same data presented above on investment returns (and that his chance of helping his return is going to prove more difficult than just “moving money around”). Then I recommend he take community education classes on investing rather than experiment with hard-won retirement dollars.

 

Secret Day Trader

 

I try to present the data above on how hard it is to add to your investment returns first (but this rarely works for the person who is sure they’ll beat the market in their spare time). Once this tactic has failed, I’ll recommend developing a small Roth IRA to use as a “sandbox” to play day trader in. These people are usually placated if they have a “play” account to go along with their professionally managed “backstop” account. How much do I recommend people place in the day trader account? First, we look at what the goal will cost, then I recommend taking money that isn’t crucial to the goal. You don’t want to miss your goal because you thought today was a great time to buy Facebook and it turned out you were wrong…..

Americans Are Worried About Retirement. Really?

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Yesterday’s USA Today featured a study commissioned by the Consumer Federation of America and Certified Financial Planner Board of Standard, which revealed that more households are struggling financially than 15 years ago.

I’m not shocked by this “revelation.” Talking to one of my favorite bloggers, Len Penzo (from the aptly named Len Penzo dot Com) a couple weeks ago, Len commented that a “big” financial blogger is lucky to find 700-800 unique visitors per day. I know that financial blogs don’t always have the money answers, but on a recent visit to web-traffic website Compete.com, I saw that another favorite, humorist writer The Bloggess receives about 1400 unique visitors a day.

So, using my extraordinary math and non-scientific research skills, it appears that about double the number of people enjoy humor during their day than seek out financial management techniques and discussion.

 

Are we really worried?

 

People sometimes think that financial plans are for the rich. “I don’t have money to plan,” you may be telling yourself right now. But how can you get out of debt if you don’t plan your financial future?

The survey shows that when low-income families put together a financial plan, they’re able to stay out of debt and pay credit card bills in their entirety. However, only 31% of people surveyed have put together a financial plan (with or without an advisor’s help).

31%? And the headline reads that we’re “worried about retirement?”

More evidence of financial ennui from the study: more people are living paycheck to paycheck, less are saving toward their college-bound children’s education, less can retire at age 65 and more think they won’t be able to cover basic expenses in retirement.

It sounds like we have big financial headaches and 69% of people aren’t attacking the problem.

Normally, I’m a “glass half-full” kind of guy. However, in this case, I think the headline “Americans Worried About Retirement” should be replaced with “Americans Screwed and Not Doing Much About It.”

I’m glad you’re visiting today to be the few…the proud…the 31%!

Captain America photo: Gage Skidmore

 

Let’s vote: Glass half full? Half empty?