All Things Financial Planning Blog


Are You an Investor or Speculator?

A Worthwhile Financial Market DiagnosisHow can you tell if you are you an investor or a speculator? Many casual investors buy stocks and assume they are investing, but in reality, they are actually speculating. True investing entails conducting a thorough analysis of a company, determining whether the current price is justified, deciding whether the stock would be a good addition to your portfolio, and repeating the process periodically; speculation is simply buying a stock because you think it’s a good company or you heard a good tip, but you really don’t know how the company makes money, who its competitors are, or in some cases, even what it does. Most people would say they are an investor, but unless you are employing the fundamental analysis discussed below, you may actually be a speculator.


Suppose you believe that the new Affordable Care Act will benefit pharmaceutical companies and you want to capitalize on that potential gain. In a top-down approach, you would first generate a list of all the publicly traded pharmaceutical companies. Then you would compare them among each other using that industry’s metric. If any of the companies are non-US companies, then you need to translate the company’s currency to the US dollar for an equal comparison. Some common comparison metrics include: profit margins, sales, market capitalization, market penetration, debt/equity, etc. In addition, each industry has its own unique metric. For example, airlines use (revenues per passenger miles) and hotels use (average daily rate). Once you have identified the best stock within your filtered list, then you can determine whether the stock price is cheap or expensive versus its competitors.


Suppose you are an avid Facebook user and want to invest in the stock. In a bottom-up approach, you would first obtain financial information for Facebook to understand how it makes money. What are its income sources: advertising, selling products, partnerships? How much of their income comes from each source? Who are its competitors and what do their numbers look like? Keep in mind, just because a company makes a ton of money, it still doesn’t make it a good investment. Facebook made $5 billion in 2012 while Microsoft made $74 billion in 2012, yet Facebook stock trades at almost 143 times the value of Microsoft.

Research Reports

Some investors prefer to rely on research reports prepared by prominent analysts at investment banks. One of the many lessons the recent financial crisis taught us is that investment banks have countless conflicts of interest. There is no shortage of headlines where an investment bank issued research reports where they also did investment banking for the company in question. Unless the research is truly independent and neither the analyst nor their firms have a vested interest in the companies they cover, their assessment of a company is tainted by their firm’s relationship with the company being reviewed.

As you can see, researching individual stocks is very labor intensive whether you use the top-down or bottom-up approach. The analysis doesn’t stop when you buy the stock, you must continue to monitor the company (not just the stock price) to ensure it still meets your criteria. It’s ok to invest in stocks, but investors must recognize that unless they conduct ongoing and thorough analysis, they are merely gambling.

Ara OghoorianAra Oghoorian, CFP®, CFA
Founder and President
ACap Asset Management
Los Angeles, CA


How Do Options Work?

The Economics of FearWhat if you had had a hunch that Microsoft stock would skyrocket when it introduced Windows 8? Would you have risked purchasing Microsoft stock on just a hunch? Or what if you owned a hundred shares of Apple but wanted to protect yourself from the stock’s recent declines? Well you can do both through options. An option is a standardized contract to either buy or sell a stock at a pre-determined price within a specific date. The key word is option; if you buy an option contract, you have the option, not the obligation, to exercise your contract if it makes financial sense for you at that future date. Option trading has been around for thousands of years and is widely used by many people to either protect the value of an existing investment or speculate on the future movement of an asset. There are two types of option contracts: calls and puts. A call option gives the owner the option to buy a stock at a set price in the future, whereas a put option gives the owner the option to sell a stock at a set price in the future. Let’s see how each one works.

Example of a Put Option:

A put option grants you the right to sell a stock at a set price. An investor buys a put option if she feels the price of a stock is going to decline and wants to lock-in a particular price. Let’s look at a specific example: It is March, and you own 100 shares of Apple stock (symbol: AAPL) that you bought for $400. You think that the price of Apple will decline from its current price of $457 in the coming months and you want to protect your gains. Each option controls 100 shares of the underlying stock, so 1 put option would give you the protection you seek. You could buy a $450 put option that expires in 3 months (May). If the price of Apple goes below $450 between now and May, you can exercise your option and sell your shares at $450. If the price of Apple doesn’t get that low, then you would keep your shares and simply let your option expire.

Example of a Call Option:

A call option grants you the right to buy a stock at a specific price. You would buy a call option if you think the price of a stock will rise within a given time and you wanted to benefit from the expected rise. Continuing with our Apple example, assume you don’t own the stock, but you think that Apple stock will rise in the next couple of months. You could buy an option that expires in May that allows you to buy Apple stock at $500. If the price of Apple rises above $500, you could exercise your call option and buy the stock at $500. Again, if the price of Apple does not rise by the May expiration date, you simply let your option expire.

As you can imagine, options can be useful for certain investors who are interested in: protecting a large gain; benefiting from a stock’s rise/fall without actually owning the stock; and in some cases, diversifying. While there are only two types of options (calls and puts), there are a multitude of strategies an investor can employ by combining calls and puts.

Though it may seem that options as part of your portfolio is a no-brainer, this article is simply an introduction to options. It is important to understand that options are quite complicated and can be rather risky. Options should only be used by experienced investors who really understand the mechanics of options – note, there is no easy money in trading options. Some people brag about making a lot of money in options, but be careful because option prices move very quickly, and while you can quickly make a lot of money, you can also easily lose a lot of money in just a single day.

Ara OghoorianAra Oghoorian, CFP®, CFA
Founder and President
ACap Asset Management
Los Angeles, CA


Don’t Pay-Off Your Student Loans

Give the “Kiddie Tax” a Time-OutIf you are like most professionals, you graduated with over $100,000 in student loans. While that debt may feel like a monkey on your back, it is well worth it. Unlike credit card debt which is used to fund consumption, your student loans financed your education and training, and was as an investment in your career. Not only that, but it was also like free money in a period when you weren’t earning any. Now you are earning money and one of the most commonly asked questions I get is “should I pay off my student loans?” The short answer is that it depends on whether you are making the decision emotionally or purely from a financial perspective. Here are some things to consider before paying down your student loan.

Money Loses Value

Inflation is the erosion of the value of the dollar over time. We have all heard someone say “I remember when a new car cost…” Inflation is the reason why it cost $5 to see a movie when you were 18, but now it costs $12; or why $100 just doesn’t seem to buy as much as it did 10 years ago. If your loan is on a fixed-rate, inflation is your friend. Your fixed loan payment does not change for the duration of the loan, but the value of that payment decreases over time. For example, if your current loan payment is $800 per month, in 10 years, the real cost of that loan payment would be equal to $595 assuming a 3 percent inflation (see calculation below). Hence the purchasing power of that $800 has declined in that 10 year period to just $595. If the rate of inflation is higher than your fixed interest rate, you are essentially coming out ahead every year.

History Doesn’t Lie

Most current home buyers would cringe at a 5 percent home loan, but it wasn’t that long ago that 8 percent was the average. In fact, in 1981, the average mortgage rate was 16.63 (! So historically speaking, interest rates are at all time lows. Interest rates on student loans are also at historical rates. No one knows if interest rates will ever reach double digits again, but markets do tend to revert to their historical mean. If you currently have a student loan with a very low fixed interest rate, it makes more economic sense to pay only the minimum payments because of the low fixes rate and because of inflation.

Your Emotions

For a variety of reasons, some people have an aversion to debt – maybe you grew up seeing your parent’s worry about debt, or maybe your grandparents who lived through the Great Depression influenced you. Whatever the reason, if you are emotionally debt adverse, then it makes sense for you to aggressively pay down your debt, even if it’s financially prudent to pay only the minimum. If you can’t sleep at night worrying about your student loans, then it’s probably wise to start paying down your debt early.

The conventional wisdom is to pay off debt as quickly as possible and that all debt is bad. But as illustrated above, there is such a thing as good debt and it doesn’t always make sense to pay it off early. Yes, credit cards are generally considered bad debt, but student loans are an investment in your future earnings potential and is deemed good debt. For those who approach student loans from a strictly financial perspective, now is not the time to pay-off your student loans.

Ara OghoorianAra Oghoorian, CFP®, CFA
Founder and President
ACap Asset Management
Los Angeles, CA


Want to Avoid Capital Gains and Get a Tax Deduction?

How to Give Like a BillionaireTax rates are almost certain to increase in 2013. But did you know that there is something you can do to avoid capital gains tax and get a tax deduction to boot? If you regularly give cash to your favorite charities, early planning and strategic gifting could net you and your favorite charity more than you expected. This holiday season, consider giving appreciated stock instead of cash to charity…its one way you can avoid paying capital gains and get a tax deduction.

Larger Tax Deduction
According to “Giving USA: The Annual Report on Philanthropy”, Americans gave close to $300 billion to charities in 2011. There are so many ways to help your favorite charity: you can donate your time, clothing and other household items, vehicles and boats, and of course money. But, did you know that you can also donate stock? In fact, if you own highly appreciated stock, you might be better off donating the stock versus cash. Let’s assume you plan to give $5,000 to charity this year. You could write a check for $5,000. However, if you own stock that you purchased for $1,000 and it’s now worth $5,000, the IRS allows you to deduct the fair market value of the donated asset (the higher amount). A win-win situation for both your charity and you.

Zero Capital Gains Tax
Capital gain is the profit you make on the sale of an asset; it is the difference between the sales price and your cost. Capital gains are subject to tax, and the maximum tax rate is currently 15 percent, but it is highly anticipated to rise in 2013. Continuing with the same example, assume you bought $1,000 of PowerShares QQQ (index fund that tracks the NASDAQ) several years ago, and it’s now worth $5,000. If you sold your QQQs, you would owe capital gains tax on the profits ($4,000) of about $600. However, if you donate your shares, you will not only receive a $5,000 tax deduction, but you will also avoid having to pay capital gains tax on the profit.

About Donor Advised Funds
Although donating stock can be a smart move from a socially conscious perspective as well as a financial one, many smaller charities are not setup to accept stocks as donations. Additionally, what if you do not want to give the entire $5,000 to one charity? It can be administratively difficult to subdivide stocks into small donations if you were planning on making several “smaller” donations to multiple charities. From a purely financial perspective, sometimes it is usually more prudent to make one large donation for tax and estate planning purposes. The good news is that through a donor advised fund, you can do both: make one large donation and decide later on which charities will get the money.

A donor advised fund is an investment vehicle that lets you irrevocably donate cash, securities, or other assets to the fund to get the tax deduction in the year you fund it. Once donated, the assets belong to the fund and you recommend whom the fund should donate money to. The donor advised fund can either make the donation in your name or anonymously. Continuing with our previous example, assume you donated the $5,000 of PowerShares QQQ to a donor advised fund in the year 2012, you can then have the fund make donations on your behalf whenever and to whichever charities you wanted in much smaller increments. While donor advised funds are very easy to manage and setup, like most things in life, they come with a cost. Some firms impose annual fees and others require a minimum donation to start the fund, so do your due diligence. But given the numerous tax, financial, and estate planning benefits, a donor advised fund is still worthwhile to consider.

Ara OghoorianAra Oghoorian, CFP®, CFA
Founder and President
ACap Asset Management
Los Angeles, CA


How A Six-Year-Old Saves For Retirement

In our society of conspicuous consumption and spending-beyond-means, many parents face an uphill battle to encourage children to save for the future, resist instant gratification, and most importantly, understand how to budget and use credit wisely. At a recent dinner party with a group of parents with young children, the conversation turned to this exact topic. When I shared how I teach our kids about money, these parents encouraged me to write an article to share my approach. This article explains how my wife and I attempt to instill financial values in our six-year-old son. I recently began giving our six year old an allowance, but with a twist.

It’s never too early to learn about taxes. As Benjamin Franklin said, “The only things certain in life are death and taxes.” My six-year-old receives a gross allowance of $6 per week (one dollar for each year of his age), in the form of one-dollar bills. From this $6, he has to pay $1 in taxes to the Oghoorian-Family-IRS. In this way, he experiences the impact of “earning” (in this case getting) money and having to pay a portion of it to taxes. Of course the first thing he asked when I first collected taxes was what exactly his taxes pay for; my response was that his taxes pay for food, shelter, travel, and other services we deem “public” goods. So far, our son is subject to only a flat tax. But as his allowance grows with age (and he learns percentages), so will his tax bracket. I just hope he doesn’t get ensnarled in the Alternative Minimum Tax.

After paying taxes, our son must allocate another $1 toward savings; “forced savings”. Unlike the $1 tax that’s taken by the IRS, he gets to keep the $1 savings per week in a separate part of his cash box so that he can see it grow (rather than as a theoretical value he would see on a bank statement.) His savings rate is only 17 percent of his gross allowance, which is less than I typically recommend to my clients, but I wanted to keep things simple and in round numbers for now. Once he learns percentages, he will be required to save at least 20 percent.

Should our son be inclined to spend more than his net allowance, he may be granted a loan from the Bank of Mom & Dad at prevailing market interest rates charged by credit cards. A lower rate may be available if he’s willing to collateralize one of his toys. This will hopefully teach him the negative impact of interest as a debtor.

Keeping Track:
I also created a ledger, similar to an old checkbook for those of you who still remember them, for our son to write down his gross allowance, itemized deductions, calculate his net weekly allowance and his cumulative earnings and savings. This exercise strengthens his math skills and further reinforces the concepts already discussed.

Of course this is just the beginning. As our son learns more about money and saving, I will begin to introduce financial priorities that are important in our family such as charitable contributions and investing savings for capital appreciation. While he will certainly have to pay capital gains tax on his investment earnings, I haven’t decided yet whether to give him a tax deduction for his charitable contributions.

We hope that with this early and continued education in sound financial planning, that no matter what our son grows up to be and do in his life, he will always spend and save wisely. Of course, even with all our good intentions, we never truly know what the outcome will be. Check back in 20 years to hear about how our allowance experiment turned out!

Ara OghoorianAra Oghoorian, CFP®, CFA
Founder and President
ACap Asset Management
Los Angeles, CA

Leave a comment

How the Fed Sets Interest Rates

The role of the US Federal Reserve, referred to most as “the Fed,” and how it determines interest rates remains a mystery for many people. One of the many functions of the Fed is setting short-term interest rates. During my nearly 10 years at the Fed as a Bank Examiner, bankers frequently asked me whether the Fed was going to raise or lower rates. My response always included the same disclaimer: the Fed analyzes and makes decisions based on the same economic indicators that everyone else has access to.

So, what factors impact whether the Fed decides to intervene to stabilize the markets? The Fed sifts through huge amounts of data (known as economic indicators) from various government and non-government sources, which are used to determine the current “health” of the economy. The Fed relies on three types of economic indicators: leading, lagging, and coincident. Leading indicators are used to predict future economic events while lagging indicators are events that have already occurred, but are still important to consider. Coincident indicators measure changes in the economy as they are taking place. Below are some of the key economic indicators commonly used by the Fed to determine interest rates:

  • Consumer Price Index (CPI): The Department of Labor’s Bureau of Labor Statistics produces the CPI, which accounts for the change in prices of many goods and services. It is also the most widely accepted measure of inflation and plays a large role in setting and adjusting incomes and other payments. For example, cost of living adjustments, Social Security benefit adjustments, and many other government payments are all based on the CPI. The CPI is published monthly and is considered a lagging indicator because it is based on past events.
  • Gross Domestic Product (GDP): The Department of Commerce’s Bureau of Economic Analysis compiles GDP, which measures the value of all the goods and services produced by a given country. It is similar to a person’s annual salary and is used to gauge a nation’s economic power and wealth. GDP numbers are closely monitored by the Fed because GDP value dictates whether a country is in recession or expansion. GDP numbers can also have a big impact on the health of the stock market. Curious how the US GDP compares to other nations? In 2011, the US GDP was $15 trillion whereas the GDP of Russia and China were $1.86 trillion and $7.3 trillion, respectively. GDP is published quarterly and is also considered a lagging indicator.
  • Unemployment: Every month the Bureau of Labor Statistics conducts the Current Employment Statistics (CES) survey to assess employment in the US. The Fed keeps a close eye on unemployment figures to measure the impact of their policies. If unemployment remains high, the Fed may decide to initiate more stimulus.
  • Stock Market: To the Fed, the stock market is one of the most telling indicators because stock prices are based on future earnings of a company, not its current or past performance. Some economists believe the stock market is an indicator of how the economy will behave six months hence. Trends in the stock market can also provide clues on consumer spending behaviors, as well as, business investments.

There are a multitude of other key indicators, such as retail sales, consumer confidence, new building permits, etc., that factor into the Fed’s assessment of the US economy. In fact, there was a recent Bloomberg news article about how aggregate Google searches can also be used as a leading economic indicator because it represents current hot topics. The Fed considers all these factors (excluding Google searches) when deciding how to set interest rates.

Despite some criticism of how the Fed reacted to the most recent Great Recession, I think Ben Bernanke, current head of the Fed, deserves credit for his commitment to transparency and communicating the reasoning behind the Fed’s actions. Bernanke’s predecessor, Alan Greenspan, was notoriously confusing and often frustrated the public with cryptic speeches, secretive actions (remember Long Term Capital Management?), and infamous buzzwords like “irrational exuberance.” During the Greenspan era, experts were typically interviewed after every Greenspan testimony (the Fed didn’t give press conferences at this point) to decipher his remarks. Sometimes it seemed that Greenspan went out of his way to leave people scratching their heads.

Whether you agree with Bernanke and the Fed’s response to the Great Recession or not, we should all agree that Greenspan’s habits of addressing today’s problems with backdoor deals and obtuse speeches that rattle markets, are a welcome thing of the past.

Ara OghoorianAra Oghoorian, CFP®, CFA
Founder and President
ACap Asset Management
Los Angeles, CA

Leave a comment

Location, location, location

You have probably heard the old real estate adage – location, location, location – meaning the location of your house has a great impact on price. The same theory holds true for other investments. Where you hold your assets is almost as important as the assets themselves. Investments grow through interest, dividends, and/or capital gains. In general, interest is paid on bonds and savings accounts; dividends are paid on stocks; and capital gain is the profit you earn when you sell an asset for more than you paid for it. Unfortunately, interest, dividends, and capital gains are each taxed differently, so ensuring investments are held in the proper accounts can maximize your after-tax return. In short, interest earning assets should be in tax-efficient accounts while capital assets in taxable accounts.

Take Control of Your Tax
Currently, long-term capital gains are taxed at a maximum rate of 15 percent for the highest tax brackets and zero for the lowest two tax brackets. Conversely, interest and some dividends are taxed at ordinary tax rates which are higher. You cannot control when a bond pays interest or when a stock pays a dividend, so the tax liability is out of your control; however, you do choose when to sell a stock and thus incur capital gains. Therefore, you can control your tax liability by holding capital assets such as non-dividend paying stocks in your taxable accounts and income producing assets, such as bonds and dividend paying stocks, in your retirement accounts.

Keep It Simple
If you own commodities, as any well diversified investor should, you most likely own them through a mutual fund or ETF; if you own physical commodities, see section on Make Your Gold Shine. Most commodity funds are structured as partnerships, which means that at the end of the year, you will receive a K-1 statement from the partnership showing your share of the partnership’s profits/losses. The K-1 must be entered into your tax returns and can increase your tax preparation costs and complication. One way to avoid having to report a K-1 and still own commodities is to buy them in your retirement accounts. You will still get a K-1 at the end of the year, but there will be no tax ramifications.

Make Your Gold Shine
If you invest in gold, silver, or other similar assets (i.e., stamps, wine, rugs, etc.), the IRS considers these collectible items. The tax rate for these collectibles is a flat 28 percent if held long term and at your ordinary rate if held less than a year. These unique tax rates still apply even if you hold these investments in an ETF. Since such investments have less favorable tax rates, it would be wise to hold them in an IRA instead of a taxable account.

Be Tax Efficient
REITs are required to distribute 90 percent of their taxable income to shareholders, which means they generate a high yield; therefore, REITs are more appropriate in a retirement account. In addition, some interest, like those on certain municipal bonds, are exempt from state and federal income taxes, thus making them ideal to hold in a taxable account. Recognizing the type of income received (interest, dividends, or capital gains) and how it is taxed will help you determine where to hold those investments to ensure the most tax efficiency.

Ara OghoorianAra Oghoorian, CFP®, CFA
Founder and President
ACap Asset Management
Los Angeles, CA