Happy New Year, Beginning Thoughts, and Information for International Viewers
31 Friday Jan 2014
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in31 Friday Jan 2014
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in28 Tuesday Jan 2014
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asset allocation, Bogle, bonds, EM, emerging markets, ETF, ETFs, finance, index mutual funds, passive investing, personal finance, stocks, volatility
I am definitely a big advocate of passive investing in either index mutual funds or exchange traded funds (ETFs). However, the proliferation of products over the last 10 years or so has made things quite a bit more complicated than the old days of John Bogle introducing the first large offerings of index mutual funds at Vanguard over 30 years ago. I figured it would be worthwhile to address a few topics in this regard.
There are two issues that are central to my discussion that individual investors need to be aware of. The first issue is that the underlying stock or bond holdings of these offerings can be very different even if the names sound exactly the same. The second issue is that many of the new registrations for ETFs or recently issued securities are more akin to what is termed enhanced indexing or “smart” beta. These types of choices are not active mutual funds or ETFs in the traditional sense. Moreover, they are not passive either. These newer products will slice and dice a universe of securities or use “proprietary” methods to actually beat the index. Now by definition an index investor knows that he or she will underperform the index when costs are taken into account. Any “passive” product that claims that the advisor can beat the index is therefore more akin to an active approach. There are many different terms to describe. I will postpone the discussion of that salient topic in the second part of this post though.
There is a great example in recent days of why this is important. An ETF is the best way to analyze the issue because they must be transparent daily. The holdings of any ETF are publicly available to see each day. Additionally, each ETF will hold all the components of a particular index. Therein lies the extremely vital piece that most individual investors are unaware of. There happen to be multiple indexes that attempt to capture the stock and/or bond investment performance of a particular piece of the financial markets. The definition of that universe is what matters to investors. A timely example is the stock performance of emerging markets which has been incredibly volatile of late. However, not all ETFs follow the same definition of what an emerging market country is.
The two main emerging market ETFs are offered by Vanguard and BlackRock. The Vanguard offering is through their VIPER series and is called the Vanguard FTSE Emerging Markets ETF (Ticker Symbol: VWO). The BlackRock offering is through their iShares series and is called the iShares MSCI Emerging Markets ETF (Ticker Symbol: EEM). Most individual investors (and some financial professionals) think of these ETFs as being the same. However, they are actually quite different. Why? Well, the difference in the names kind of gives the answer away. The Vanguard ETF is tied to the FTSE Emerging Markets Stock Index, while the BlackRock ETF is tied to the MSCI Emerging Markets Stock Index. Both of these ETFs invest in all the components of stocks in those two respective universes. The definition of emerging markets by these two index providers is quite different.
The main difference between the two is how they classify stocks traded in South Korea. MSCI considers South Korea to still be an emerging market and 15.8% (as of January 27, 2014) of the ETF is allocated to that country. FTSE considers South Korea to be mature enough to be thought of as a developed economy and no longer should be viewed in the same light as other countries in the emerging markets. They have reached a level of sophistication in terms of the economy, banking system, and breadth in trading of the stocks there. Thus, Vanguard does not allocate any money to South Korea. There are some other slight differences in countries within the two indexes but the aforementioned percentage is definitely significant. If you are ever confused why the total returns of the VWO and EEM ETFs do not equal even after taking into account investment fees, that is the primary reason why. Over the course of an entire year, the difference in the total return can be striking depending on the performance of the KOSPI (South Korea’s main stock index).
Investing in the Vanguard version instead of the BlackRock version can be more risky since the relatively more mature stock market of South Korea is not included. As I have mentioned in the past, I do not advocate the purchase of any particular stock, bond, index mutual fund, or ETF. With that being said though, it is important to know the differences between two similarly sounding offerings. If you want to have exposure to the emerging markets, you should not simply look at investment fees. The expense ratio on the VWO is 0.18% and the 0.67% for the EEM. Most people would say that the VWO is better because the fees are lower. However, you are not comparing apples to apples due to the South Korea inclusion issue.
The main takeaway here is to read the prospectus for any index mutual fund or ETF. Or, at the very least, you should pay careful attention to the fact sheet provided for either. You should look at what index the index mutual fund or ETF advisor is using. You can go to the link of that index provider to see what is included (in terms of individual stocks or bonds or countries, etc.), so you are aware of what you are buying. It is much easier to avoid a purchase of a particular security than to have to sell after an unexpected loss because you purchased the “wrong” thing based upon your risk tolerance and financial goals, and how that particular asset was going to complement your overall portfolio allocation.
I have included links to the major index providers for ease of reference. There are many others, but these are the major players in the passive investing world. They are as follows:
1) Standard & Poor’s – http://us.spindices.com/
2) Russell Investments – http://www.russell.com/indexes/americas/default.page
3) MSCI – http://www.msci.com/products/indices/
4) FTSE – http://www.ftse.com/Indices/
5) Barclays – https://ecommerce.barcap.com/indices/index.dxml
19 Sunday Jan 2014
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inLatticework Wealth Management, LLC
With the advent of the Internet and a plethora of financial news publications and television networks, there is an amazing amount of information available on investing and investments. With that being said and obvious, why would you even read this? Well, as I have said before, knowledge is power! Now take a look at that cliché again but more closely. Could you substitute the word information for knowledge? Would it mean the same thing? I am hoping you say that the answer is a resounding No. Having access to information and having a lot of facts can be a detriment in some respects actually. Is that how it feels with individual investing from your perspective? You could spend months searching terms on the web, going to mutual fund websites, reading academic studies, keeping up with the current market moving news, and researching individual companies. Would that really help you? …
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16 Thursday Jan 2014
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inHere is one of my favorite posts from 2013. I recommend that you re-read it prior to visiting your Financial Advisor to review your 2013 investment results, financial goals, and risk tolerance.
Latticework Wealth Management, LLC
There are two important ratios that most individuals do not pay enough attention to. In fact, the financial services industry rarely, if ever, makes mention of them. They are as follows:
– The first ratio measures the amount of your investment fees paid versus the total federal, state, and local income taxes you pay.
– The second ratio measures the amount of investment fees paid versus your total income.
Why are these two ratios so important? First, they bring to your attention the absolute dollar amount of investment fees paid to your Financial Advisor, your brokerage firm, and other third parties. Second, you will note that, although you cannot choose to ignore paying your income taxes, you can lower the total amount you spend on financial and investment advice. Lastly, you can think about what other uses you might have for the money you spend currently on investment fees either…
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14 Tuesday Jan 2014
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inHopefully you are having “fun” with my CNBC experiment thus far in 2014. The volatility experienced in the stock market has caused every other guest to seem in conflict with the previous guest in terms of the 2014 outlook. Just when the direction of the stock market has been deemed certain, some event comes along (ex. Dec jobs print) to get financial pundits to backtrack. Saving you the suspense, even the “experts” do not have a crystal ball or be able to read the tea leaves. If they cannot do it, should you even consider trying?
Latticework Wealth Management, LLC
I am looking forward to sharing more information regarding investing, finance, economics, and general knowledge about the financial services industry in 2014. I am hopeful to increase the pace with which I publish new information. Additionally, I am happy to announce that I reached viewers in 40 countries in all six continents. Countries from Japan, France, Germany, and Russia to Ghana, Colombia, and even Nepal.
Since the number of my international viewers has grown to nearly 20% of overall viewers of this blog I wanted to allocate a short potion of this post to the international community. Some of my comments are most applicable to the US financial markets or the developed markets across the globe. If you are living in a country that is considered part of the developing markets, I would strongly recommend that you seek out information in your country to see how much of my commentary…
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09 Thursday Jan 2014
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inI wanted to reblog this post as you look at your year-end brokerage statement. It is always important to perform a cost/benefit analysis regarding the investment advisory fees, commissions and loads , and other fees for additional services.
Latticework Wealth Management, LLC
More and more financial professionals are charging clients based upon assets under management (AUM). A common fee is 1%. The fee for a $1 million portfolio would be $10,000 ($1,000,000 * 1%). Now you have heard me talk about the importance of keeping fees as low as possible. Essentially you are trying to maximize your investment returns each year. If you have quite a few needs, a Financial Advisor usually can provide a number of different services and advice. For example, you also may need assistance with legal and tax advice. Additionally, you may have more complex financial planning needs. Financial professionals will assist you with portfolio allocation always. Now I am going to look at AUM fees in a way that you may not be familiar with. I can tell you already that the financial services industry will not be happy or agree with this presentation. However, my goal…
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02 Thursday Jan 2014
Posted asset allocation, bonds, business, Consumer Finance, Education, Fed, Fed Taper, Fed Tapering, Federal Reserve, finance, financial planning, Individual Investing, interest rates, investing, investments, personal finance, portfolio, rising interest rate environment, rising interest rates, risk, statistics, volatility
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asset allocation, bond basics, bonds, finance, history of interest rates, inflation risk, interest rate risk, portfolio, rising interest rate environment, rising interest rates, US Treasury bills
How do bonds work in terms of prices? Most bonds are issued at a price of 100 which is referred to as par. Corporate bonds and Treasury notes/bonds are usually sold in increments of $1,000, and municipal bonds are sold in increments of $5,000. The value of a bond is calculated by taking the current price divided by 100 and then multiplied by the number of bonds you own. Bonds are sold in the primary market (when first sold to retail and institutional investors) such that the coupon (interest rate) is equal to the current interest rate prevailing in the marketplace at that time (sold at par which is 100). Bonds can be bought and sold after that issue date though. If interest rates rise or fall after issuance, how does the price of a bond adjust? If interest rates go up, bond prices will go down. If interest rates go down, bond prices will go up. Why? It is referred to as an inverse relationship. Think about it this way. If you own a bond that has a 6% coupon and interest rates rise to 8%, will you be able to see that bond to other investors? The answer is no if you decide to hold firm to a price of 100. Why should another bond investor buy a 6% bond when he/she can just buy a bond with very similar characteristics as yours and earn 8%? The only way that you can sell your bond is to lower the price such that the bond investor will earn 8% over the course of that bond’s life until maturity which is when the company or other entity has to pay the money back in full). Luckily for you, the process works in reverse as well though. If interest rates go down to 4%, you have the advantage. If you hold a bond with a 6% coupon as in the aforementioned example, bond investors will pay more than 100 in order to get that higher interest payment. How much more? Bond investors will bid the price up until the bond earns an equivalent of 4% until maturity. Why is this important to you as an investor today?
Let’s take a quick look at history. Most financial professionals are not old enough to remember or have been in business long enough to remember the interest rate environment back in the early 1980s. In the early 1980s, interest rates on bonds were incredibly high compared to today. The economy was stuck in a rut of higher inflation and low or no growth which was called “stagflation”. How high were interest rates? The interest rate on a 3-month Treasury bill was 16.3% back in May 1981, and the prime rate topped out around 20.5% soon after. For more information on the interest rates of this time period, please refer to this link: http://www.mbaa.org/ResearchandForecasts/MarketEnvironment/TreasuryYields&BankRates,1980-83.htm. The Federal Reserve chairman back then, Paul Volcker (Fed chairman prior to Alan Greenspan and the same gentleman as the so-called “Volcker rule” of today), instituted a monetary policy based upon the teachings of the famous economist, Milton Friedman, from the University of Chicago. Friedman was really the start of monetarism. Monetarism is simply the effect of the money supply in any economy on interest rates. In general, as more money in the economy is available, interest rates will go down. As less money is available, interest rates will go up. Why? Think about it in this manner. If you have to get a loan from a family member and you are the only person asking for a loan, chances are your interest rate will be lower than if that same family member is asked by 15 different individuals. So the Fed of that time period began buying all types of bonds on the open market. The hope was that, as the money supply grew, interest rates would fall. As interest rates fell, it would give more incentive to companies to take out loans to buy equipment and build plants and also to incent consumers to take out mortgages and buy homes or purchase consumer goods with credit cards. Needless to say, the policy eventually worked. It started what most refer to as the great bull market in bonds in roughly 1982.
There are only two ways you can make money when you own a normal bond. First, you earn money from the coupon paid over the life of the bond. Second, in a falling interest rate environment, you earn money by selling your bonds at a higher price. Therefore, you can earn money from interest and capital gains. In a rising interest rate environment, you can only earn money from the coupon. What individual investors, and some money managers even, fail to realize is this simple fact of finance. The yield on a 3-month US Treasury bill today is roughly 0.06%. No, that is not a misprint! The yield on these bills has gone down over 16% over the past 30 years or so. The bond market has never seen such an extended period of falling interest rates. Now interest rates did not fall in a straight line, but the trend has been toward lower interest rates for decades now. That anomalous occurrence is coming (has come) to an end.
02 Thursday Jan 2014
Posted asset allocation, bonds, business, Consumer Finance, Education, Fed Tapering, Federal Reserve, finance, financial planning, Individual Investing, interest rates, investing, investments, MBS, personal finance, portfolio, rising interest rate environment, rising interest rates, risk, statistics, stocks, volatility
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asset allocation, bond market, bonds, credit risk, default risk, financial markets, individual investing, inflation risk, interest rate environment, interest rate risk, interest rates, investing, portfolio, reinvestment risk, rising interest rates, risks of bonds, types of bonds
I have heard over and over from financial pundits toward the end of last year and now 2014 coverage in financial publications that the great rotation of investors from bonds to stocks is finally occurring. While there is definitely heavy selling of bond mutual funds going on, the bond market is actually quite complex. The main reason why Financial Advisors are recommending that individual investors sell bonds is that interest rates are likely to rise over the next 3-5 years or more. Well, I would agree that interest rates are poised to rise. However, interest rate risk is only one of the risks of bonds. In fact, the size of the bond market dwarfs the stock market. When Financial Advisors are talking about bonds, they tend to be referring only to Treasury bonds, corporate bonds, and municipal bonds. Interest rate risk greatly affects these bonds. With that being said, they tend to conflate the interest rate risk of these bonds with the entire bond market. Remember that interest rates have dropped from 16.30% on the 1-month US Treasury bill back in 1981 to roughly 0.05% today. Therefore, bond prices have been rising for over 30 years and most financial professionals outside of the fixed income markets have forgotten (or if they are younger than 50) how bonds normally work, especially in a rising interest rate environment. But does it even matter really?
Yes. Here is an urgent note to all individual investors: “Beware of financial professionals that recommend dividend stocks or other equities as replacements for your fixed income allocation”. What I mean by this is that the volatility of stocks is far greater than bonds historically. Yields may be very low in money market funds, US Treasuries, and in bond mutual funds now. However, your risk tolerance must be taken into account at all times. While it is true that many dividend-paying stocks offer yields of 3% or more with the possibility of capital appreciation, there also is significant downside risk. For example, as most people are aware, the S&P 500 index (which represents most of the biggest companies in America) was down over 35% in 2008. Many of those stocks are included in the push to have individual investors buy dividend payers. With that being said, stock market declines of 10%-20% in a single quarter are not that uncommon. If you handle the volatility of the stock market well, there is no need to be concerned. However, a decline of 10% for a stock paying a 3% dividend will wipe out a little more than 3 years of yield. Individual investors need to realize that swapping traditional bonds or bond mutual funds is not a “riskless” transaction, meaning a one-for-one swap. The volatility and riskiness of your portfolio will go up commensurately with your added exposure to equities. Sometimes financial professionals portray the search for yield by jumping into stocks as the only option given the low interest rate environment. While your situation might warrant that movement in your portfolio allocation, you need to be able to accept that the value of those stocks is likely to drop by 10% or more in the future just taking into account normal volatility in the stock market historically (12-36 months). Are you able to handle that volatility when looking at your risk tolerance, financial goals, and age?
The purpose of this blog post is to discuss the risk factors associated with bonds in greater detail. I have already spoken about this at length in posts last year. Most bonds, such as Treasury notes and bonds, corporate bonds, and municipal bonds, will go down in value when interest rates go up. Conversely, they will go up in value when interest rates decrease. This characteristic of these types of bonds is called an inverse relationship. For a primer on how most bonds function normally, I have posted supplementary material alongside this post. You can refer to it to brush back up on bonds and how they work, and I also provide a historical look at interest rates over the last 30 years.
There are many risk factors associated with investments in bonds. A great overview of those risks can be found in Fixed Income Mathematics the Fourth Edition by Dr. Frank Fabozzi who teaches at Yale University’s School of Management. Most fixed income traders, portfolio managers, and risk managers use his Handbook of Fixed Income Securities as their general guidebook for approaching dealing with the trading, investing, and portfolio/risk management of owning fixed income securities. Suffice it to say that he is regarded as one of the experts when it comes to the bond markets. Dr. Fabozzi summarizes the risks inherent in bonds on page 109 of the text referenced above. The risks are as follows:
1) Interest-rate risk;
2) Credit risk;
3) Liquidity risk;
4) Call or prepayment risk;
5) Exchange-rate risk.
Most of fixed income folks and myself would add inflation risk, basis risk, and separate credit risk into two components. Bonds have two types of risk as it relates to payment of principal and interest. The first risk is more commonly thought of and referred to as default risk. Default risk is simply whether or not the company will pay you back in full and with timely interest payments. Credit risk also can be thought of as the financial strength of the company. If a company starts to see a reduction in profits, much higher expenses, and drains of cash, the rating agencies may downgrade their debt. A downgrade just means that the company is less likely to pay back the bondholder.
Here is an example to illustrate the difference more fully: a company may have a AA+ rating from Standard & Poor’s at the beginning of the year, but, due to events that transpire during the year, the company may get downgraded to A- with a Negative Outlook. Now the company is still very likely to pay back principal and interest on the bonds, but the probability of default has gone up. As a point of reference, AAA is the highest and BBB- is the lowest Standard & Poor’s ratings to be considered investment grade. You will note that the hypothetical company would need to be downgraded four more times (BBB+, BBB, BBB- to BB+) to be considered non-investment grade or a “junk” bond. Bond market participants though will react to the downgrade though because new potential buyers see more risk of default given the same coupon. So even though the company may not default eventually on the actual bond, the price of the bond goes down to compensate for the interest rate required by the marketplace on similarly rated bonds to attract buyers.
Now I will address the full list of risks affecting bonds outlined by Dr. Fabozzi above. Any bond is simply an agreement between two parties in which one party agrees to pay back money to the other party at a later date with interest. All bonds have what is referred to as credit (default portion) risk. Credit risk in general is simply the risk one runs that the party who owes you the money will not pay you back (i.e. default). What is lesser known or thought about by individual investors is interest-rate risk and inflation risk. These two risks are usually missed because investors tend to think that bonds are “safe”. Interest-rate risk relates to the fact that interest rates may rise, while you hold the bonds. When financial pundits make blanket statements about selling bonds, they are referring to this one risk factor normally. Inflation risk means that inflation may increase to a level higher than your interest rate on the bond. Thus, if the interest rate on your bond is less than inflation or closer to inflation from when you bought the bond, your purchasing power goes down. The prices of goods and services go up faster than the interest you earn on the bond. Call risk refers to instances where some companies have the option to redeem your bonds in the future at an agreed upon price. Prepayment risk is a more specialized case of call risk and refers to people paying their mortgages (or credit cards, home equity loans, student loans, etc.) back sooner than expected. Most people group these two risks into a category called reinvestment risk. Think about the concept in this manner: many people refinanced their mortgages because interest rates went down. They did so because they could lower their total mortgage payment. Well, companies do the same thing if they have the option. Companies can redeem bonds at higher interests and issue new bonds at lower interest rates. Chances are that, if you are the owner of the redeemed bonds, you will be unable to find as high of an interest payment currently if you want to buy a bond with similar characteristics of the company issuing the bonds you own before.
The other three risks I mentioned above are less commonly discussed and not quite as important. Exchange-rate risk exists because sometimes a company issues bonds in a currency other than its own. For example, you will sometimes hear the terms Yankee bonds or Samurai bonds. Since the company is paying you interest and principal in a foreign currency that money may be worth more or less depending on what happens in foreign exchange markets in the future. Liquidity risk refers to the phenomenon that there are certain crisis times in the market where very few, if any bond market participants, are willing to buy the bonds you are trying to sell. Therefore, you might have to take a bigger loss in order to entice someone to buy the bonds given the current macro environment. Basis risk is a more obtuse type of risk that institutions deal with. Basis risk essentially refers to anytime when interest rates on your bond are pegged to another interest rate that is different but normally behaves in a certain way (referred to as correlation). Now most of the time, the behavior will follow the historical pattern. However, during times of stress like a liquidity and/or credit crisis, the correlations tend to break down. Meaning you can think you are “hedged” but, if the historical relationship does not hold up, your end return will be nothing like what you had expected. These two risks are not something that individual investors need to focus on.
I will admit that this list is quite lengthy and, quite possibly, a bit too detailed and/or complicated. However, I wanted to lay them all out for you. Why? When you hear Financial Advisors recommend that you sell a large portion of your bonds, and/or hear the same investment advice from the financial media, they normally are really only referring to interest-rate risk primarily and secondarily inflation risk as well. As you can see from the description above, the bond market is far more complex than that to make a blanket statement.
As I usually say, I would never advise individual investors to take a certain course of action in terms of selecting specific bonds or not selling bonds to move into more stocks. However, I am saying that you should feel comfortable enough to ask your Financial Advisor why he/she recommends that you sell a portion of your bonds. If the answer relates only to interest-rate risk, I would probe the recommendation further. You can explain that you know that is the case for Treasury notes/bonds, municipal bonds, and corporate bonds. However, there are a whole host of other fixed income securities with different characteristics and risks. Now I am not referring solely to Mortgage Backed Securities (MBS), although the residential and commercial markets for these are in the trillions of dollars. There are bonds and notes that have floating interest rates which means that as interest rates go up, the interest rate you receive on that security goes up. Not to mention that different countries are experiencing different interest rate cycles than the US (stable or downward even).
The complete list is too in-depth to cover in a single blog post. My goal was to provide you with enough information to at least ask the question(s). Your risk tolerance and financial goals might make a move from bonds to stocks the best course of action. With that being said, you also have the option of selling bonds and keeping the money in cash or investing in the different types of bonds offered in the fixed income markets while keeping your total allocation to fixed income nearly the same. Thinking holistically about your portfolio, you may be increasing the riskiness of your portfolio beyond your risk tolerance or more than you are aware unbeknownst to you by moving from bonds into stocks. This is something you definitely want to avoid. It can turn out to be a rude awakening and hard lesson to learn one or two years from now.
01 Wednesday Jan 2014
Posted asset allocation, bonds, business, Consumer Finance, Education, Fed Taper, Fed Tapering, Federal Reserve, finance, financial advisor fees, financial planning, Individual Investing, investing, investment advisory fees, investments, math, Modern Portfolio Theory, MPT, Nobel Prize in Economics, personal finance, portfolio, rising interest rate environment, rising interest rates, risk, statistics, stock prices, stocks, Suitability, volatility
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Amazon book deals, asset allocation, books, business, education, finance, Financial Advisors, financial planning, individual investing, investing, investment advsiory fees, Modern Portfolio Theory, MPT, reasonable investment advisory fees, retirement
Greetings to all my loyal readers of this blog. How would you like to start off the New Year of 2014 by reevaluating your investment portfolio and how you get investment advice? This book on Amazon.com is available for download onto a Kindle. Additionally, there is a Kindle app for iPhones and Android devices which is free to download. Please feel free to check out the titles below. I have provided links to make it easier. My email address is latticeworkwealth@gmail.com.
The link to the book is as follows:
A New Paradigm for Investing: Can Your Financial Advisor Answer These Questions?
The book listed is normally $9.99 but available but I am offering it for a lower price over the course of the next week. For most of the day today, the book is $3.99 which is 60% off. The price of the book will be gradually increasing during the course of that period.
I would like to thank my international viewers as well. I also wanted to especially thank some selected followers of my @NelsonThought and @LatticeworkWlth Twitter accounts (each of whom I would recommend following for the content and insight):
Followers on @NelsonThought:
The Wall Street Journal Wealth Report @WSJwealthreport – #wsjexperts
The Royce Funds @RoyceFunds
Research Magazine @Research_Mag
Barron’s Online @BarronsOnline
Vanguard FA @Vanguard_FA
Cleveland Fed Research @ClevFedResearch
Chloe Cho – @chloecnbc – CNBC Asia Anchor for Capital Connection show
Pedro da Costa @pdacosta – Central banking and economics reporter at The Wall Street Journal
Muriel Siebert & Co. @SiebertCo
Roger Wohlner, CFP® @rwohlner
Ed Moldaver @emoldaver
Sylvia Maxfield @sylviamaxfield – Dean of the Providence College of Business
The Shut Up Show @theshutupshow
Berni Xiong (shUNG) @BerniXiong
Followers on @LatticeworkWlth:
Euro-banks @EuroBanks
Direxion Alts @DirexionAlts
Charlie Wells @charliewwells – Editor at The Wall Street Journal
AbsoluteVerification @GIPStips
Investment Advisor @InvestAdvMag
Gary Oneil @GaryONeil2
MJ Gottlieb @MJGottlieb
Bob Burg @BobBurg
Melody Campbell @SmBizGuru
TheMichaelBrown @TheMichaelBrown
Phil Gerbyshak @PhilGerbyshak
MuniCredit @MuniCredit
D.J. Rob-Ski @DJRobSki
01 Wednesday Jan 2014
Posted asset allocation, bonds, business, Consumer Finance, Education, Fed Taper, Fed Tapering, Federal Reserve, finance, financial planning, Individual Investing, interest rates, investing, investments, math, Modern Portfolio Theory, MPT, personal finance, portfolio, rising interest rate environment, rising interest rates, risk, statistics, stock prices, stocks, volatility
inTags
asset allocation, bonds, economics, finance, financial planning, individual investing, investing, investing ideas for 2014, investments, stocks, volatility
I am looking forward to sharing more information regarding investing, finance, economics, and general knowledge about the financial services industry in 2014. I am hopeful to increase the pace with which I publish new information. Additionally, I am happy to announce that I reached viewers in 40 countries in all six continents. Countries from Japan, France, Germany, and Russia to Ghana, Colombia, and even Nepal.
Since the number of my international viewers has grown to nearly 20% of overall viewers of this blog I wanted to allocate a short potion of this post to the international community. Some of my comments are most applicable to the US financial markets or the developed markets across the globe. If you are living in a country that is considered part of the developing markets, I would strongly recommend that you seek out information in your country to see how much of my commentary is applicable to your stock or bond market and situation in general. It is extremely important to realize that tax structure, transparency of information, and illiquidity of stock and bond markets can alter the value of what I might say. During the course of the coming year, I will attempt to add in some comments to clarify the applicability. However, as the aforementioned statistic regarding the global diversity of viewers of this blog suggests, I would be remiss if I did not acknowledge that I will not hit on all the issues important to all international individual investors.
I encourage you to take a close look at your portfolio early on in 2014. It is a perfect time in terms of naturally wanting to divide up investing into calendar increments. As you listen to all the predictions for the New Year, I would encourage you to look at your personal portfolio and financial goals first. The second step is to always look at that economist’s or analyst’s predictions at the beginning of 2013. Now I am not implying that incorrect recommendations in the previous year will mean that 2014 investing advice will be incorrect as well. However, the important takeaway is that trying to account for the entire unknown factors both endogenous (speed of the Fed taper) and exogenous (geopolitical risk in the Middle East and Asia) affecting the global financial markets with a high degree of precision is exponentially difficult and challenging.
There will always be unknown items on the horizon that make investing risky. You hear that we need to get more visibility before investing in one particular asset class or another. It usually means that the analyst wants to be even more certain how the global economy will unfold prior to investing. I will remove the anticipation for you. There will only be a certain level of confidence at any time in the financial markets. One can always come up with reasons to not invest in stocks, bonds, or other financial assets. The corollary also is true. It can be tempting to believe that it is now finally “safe” to invest even more aggressively in risky stocks, bonds, or other assets. As difficult as it might be, you need to try to take the “emotion” of the investing process. Try to think of your portfolio as a number rather than a dollar amount. Yes, this is extremely difficult to do. But I would argue that it is much easier to look at asset allocation and building a portfolio if you think of the math as applied to a number instead of the dollars you have. Emotional reaction is what leads to “buying high and selling low” or blindly following the “hot money”; that is when rationality breaks down.
Here is an experiment for you to do if you are able. There are two shows I would recommend watching once a week. The first show is Squawk Box on CNBC on Monday which airs from 6:00am-9:00am EST. The second show is the Closing Bell on CNBC on Friday afternoon which airs from 3:00pm-5:00pm EST. You only need to watch the last hour though once the stock and bond markets are closed. Note that these shows do air each day of the week. It is not necessary and, more importantly, will negate the experiment if you watch them every day. Now depending on whether or not you have the ability to tape these shows first and skip through commercials, this exercise will take you roughly 12-16 hours throughout the month of January. You will be amazed at how different the stock and bond markets are interpreted in this manner.
When you remove the daily bursts of information, I am willing to bet that you will notice two things:
Firstly, Friday’s show should demonstrate that many “experts” got the weekly direction of the market wrong. It is nearly impossible to predict the direction of the stock market over such a short period.
Secondly, Monday’s show should illustrate what a discussion of all the issues that have relatively more importance are. Now this is not always a true statement though. Generally though, financial commentators and guests appearing on the show will have had the entire weekend to reflect on developments in the global financial markets and current events. Since the stock, bond, and foreign exchange markets are closed on Saturday and Sunday, there is “forced” reflection for most institutional investors, asset managers, research analysts, economists, and traders. The information provided is usually much more thoughtful and insightful.
I believe that the exercise will encourage you to spend less time attempting to know everything about the markets; rather, it may be more helpful to carefully allocate your time to learning about the financial markets.
Best of luck to you in 2014. As always, I would encourage anyone to send in comments or suggestions for future topics to my email address at latticeworkwealth@gmail.com.