All Things Financial Planning Blog


Young Investors Key to Beating the Market

Invest Outside the BoxWant to know how to beat the market? “Sure,” you may say, “it’s possible. If I spent my every waking hour researching undervalued companies.”

But, what if I told you I had a fool proof way for those with time to spare to win against the market, without searching rummage shops for discarded crystal balls, or trusting in your uncle’s stock advice? And on top of that, even the most novice investor can use this strategy and win?

Impossible? Read on.

The way to beat the market isn’t by finding the next hot mutual fund manager or dedicating yourself to becoming the next Warren Buffett, it’s simply how you manage your tilt.

Your “tilt” is how your portfolio is invested in the market. You hopefully are diversified over the universe of stocks, but your tilt tells your holdings of large or mega companies versus small or medium sized firms. It also tells if you tend to invest in companies trading at premiums or discounts to the overall market.

More often than not, most retirement investors I meet are “top heavy,” investing in a mix that doesn’t stray too far from the market represented to a higher degree by largest companies, or a mix that resembles the S&P 500 (most people refer to this as the market). This is often the case if you’re investing in a Target Retirement Date fund, or any other fund or funds, or have a managed account.

However, is this the best mix when you’re young and have time to take risks?

By shifting the weights of your portfolio towards areas of the market that tend to have higher degrees of return (and volatility), you may supercharge your retirement accounts when starting out, specifically by using a greater share than the market of smaller companies with more room to grow, and stocks that are trading at a discount to the market (value stocks).

How much better can you do than the S&P 500 by including more small and value in your mix?
The S&P 500 averaged 9.5% per year since 1928. One can not invest in an index, but if you could and had invested $1 in the S&P 500 way back then, you would have had $3,530 at the end of 2012.

Using a similar strategy of owning the stock market, but by shifting the tilt to include more small, and more value, a portfolio that tracks Dimensional Fund Advisors US Adjusted Market Value Index would have averaged 11.7% during the same period. An investment of $1 would have grown to $11,998.

A strategy of tilting more towards small and value stocks will be more volatile than the market, so don’t think this approach will only lead to gains; you still have to master the skill of not watching your accounts rise and fall in the short run. However, while you’re accumulating and have a long time horizon, volatility can be your friend.

robertSchmanskyRobert Schmansky, CFP®
Financial Advisor
Clear Financial Advisors, LLC
Royal Oak, MI


How Accurate is Your Retirement Model?

Insider’s Guide to Finding a Financial PlannerI recently had the opportunity to revisit retirement modeling software. As one of my jobs, I teach a economics course, and one of the things I tell my students and financial advising clients is that models can provide us with ideas of how things may work, but with all of the independent variables that exist in the world, they aren’t likely to play out like we hope.

I was revisiting modeling software in part due to a recent critic of those that do not use “advanced” software to project hypothetical outcomes for clients. I used to. I’ve since given it up for many reasons. Mostly because I’ve seen life-changing decisions being made based on a model. “Mr. & Mrs. Client, you can take $50,000 out of your portfolio to buy that RV, and still feel secure in your retirement.”

That was 2007’s annual review of the model. After the market drop, the model was quite different, but the investor at least had a 2nd mobile home now.

Retirement models, like economic models or model trains, can show us a lot about the thing we’re modeling, but it is no substitute for ongoing advice and planning. And, modeling a few worst cases along with the normal case is the least you should do when making decisions based on models.

Of utmost importance however is that you understand the assumptions and factors being used. I can not begin to describe the number of retirement models I’ve seen that were so flawed with incorrect data and bogged down by assumptions. There are often static assumptions (I save $6,000 to my IRA every year), and variable assumptions (rate of investment return).

In my opinion the mixing of so many assumptions in one software package most often leads to incorrect projections. For example, most individuals savings can be variable. You may make a Roth IRA deposit this year, you may not. But, how you project for it makes a difference in the outcome. Are you taking Roth IRA contributions from one account and putting it into another, depleting your savings in order to do so? Does your modeling software know the difference? If you know enough to tell it to.

Do you own a business? How is that being treated? Investments? What assumptions are being used for rates of return, interest, inflation…?

A recent tread is to model various social security strategies that couples may be able to benefit from. One variable that many who do this on their own may forget is the life expectancy. If you just ran the model without thinking beyond the various scenarios, would it give you the right answer, or is this just a case of garbage in, garbage out?

For that reason I strongly recommend a second opinion on any retirement strategy. Retirement models do not take into account the complexities that exist with the individual choices that feed into your personal financial plan. FPA’s PlannerSearch tool can help you find local financial advisors to give feedback on your financial plans, and advice on the strengths, or weaknesses, of your retirement projections and plan.

robertSchmanskyRobert Schmansky, CFP®
Financial Advisor
Clear Financial Advisors, LLC
Royal Oak, MI


Emergency Cash Reserves – Unloved yet Necessary

My New Year’s Resolution for EveryoneI met with a couple recently to deliver their financial plan, and throughout the first half of the meeting we laughed repeatedly as they seemed to have guessed my recommendations and either did or planned on doing exactly what I had written down.

They’ve been contributing 15% of their wages to their long-term retirement plan, have no debt other than a mortgage that will be paid off well before retirement, are able to pay a college tuition bill within their cash flow, and up until recently have been making it a point to contribute to Roth IRAs.

Aside from the validation from a professional, what possibly could this couple have needed with a financial advisor?

Admittedly, not as much as many clients I see, but one of the major observations was the excessive amount of importance on trying to be as efficient as possible. They put every available dollar towards the long-term retirement plan or into paying down their long-term mortgage debt, and in doing so they blew past step one in creating a solid financial foundation – having an adequate amount on hand for short-term emergencies and cash needs.

Our sample couple here came to me wondering how in the world they will be able to pay for a second tuition bill, or purchase new cars. They recently stretched their budget even further by refinancing their 30 year mortgage to a 15 year, and increased their monthly minimum payment. I also pointed out that they had no options to cover any other short-term emergencies that life may send their way other than to go into debt, or raiding a retirement fund.

In preparing their recommendations, I gave them a financial scorecard they would receive the following grades:

Long-term savings – A+

Credit and consumer debt – A+

Living within their means – A+

Having adequate liquidity – D

Overall financial health – B-

What this couple was lacking is cash on hand. Unlike most of your other financial priorities, holding cash is never the most efficient thing to do and so its importance is often overlooked. Compared with paying down a mortgage at 4%, or earning 5-10% in a long-term investment, cash earning next to nothing just isn’t an attractive idea!

But, having an emergency cash reserve is a critical piece of a financial plan. It acts like a moat around your financial castle. It protects you from the need to sabotage your long-term investment plan, or take on high interest debt in order to cover cash needs.

Having a minimum of three months of your net income in an emergency cash account is a requirement of any complete financial plan (Note: three months is a minimum. If you are self-employed, have rental properties, or other concerns about income remaining stable you may need to be at six or more). Even at the expense of not fully funding a retirement account or not paying extra on that student loan for some time. Make having emergency cash in a savings account or money market a priority now, and when the time comes to need it you won’t have to worry.

robertSchmanskyRobert Schmansky, CFP®
Financial Advisor
Clear Financial Advisors, LLC
Royal Oak, MI


When to Rollover Your 401(k)

The financial industry wants to make sure you are fully aware you left something behind at your old employer. That retirement account that is “just sitting” there needs to be moved over to an IRA for you to invest in someone else’s mutual funds or investment products.

Generally speaking, it makes sense to rollover your 401(k), 403(b), or other retirement account to an IRA when you retire, or for any other reason are allowed to move your funds. The reasons to rollover a retirement account include:

  • Control. You no longer have to live with the changes your investments that are dictated by your employer.
  • Diversification. Most retirement accounts lack in their ability to diversify over all asset classes an investor may want. By rolling over your account, you can access the world of investment products. It used to be said that some (though definitely not all) retirement plans may provide institutional level pricing for investments that otherwise would require an investor have a significant amount to buy into a particular fund (hundreds of thousands of dollars, if not millions).

While that still may be true if you are concerned with having access to certain investment managers, most low-cost index funds today are available at reasonable minimum investment amounts.

However, there may be reasons to not rollover all or part of your account. They include:

  • You need access to the money before age 59½. IRA accounts are subject to a 10% early withdrawal penalty before age 59½ whereas your retirement account may allow access without penalty as early as age 55.
  • Have a significant amount of money in company stock that has appreciated above your purchases. There may be tax benefits to not rolling over company stock, if it has appreciated greatly and if you own a lot of it.
  • Possibly better creditor protection. A 401(k) is protected from lawsuit, while state laws can vary on the protections provided to IRA accounts.
  • If you expect to do a Roth Conversion with after-tax IRA accounts. If you have been accumulating after-tax IRA money, and plan to convert those funds in the future, it may be in your benefit to do so prior to rolling over a retirement plan.

Clearly every individual’s decision to rollover a retirement plan requires a review of their personal circumstances, so be sure to discuss your rollover potential with your financial and tax advisors before assuming a rollover is the best move for you.

robertSchmanskyRobert Schmansky, CFP®
Financial Advisor
Clear Financial Advisors, LLC
Royal Oak, M


But What If You Can’t Work?

I first met with Steven and Janice (names changed) a few years ago. They had always saved somewhere around 5% of their salary, but at times dipped into that amount when emergencies would pop-up.

Steven, a manager of services for a school district, is the family’s main income earner; Janice spent many years out of the workforce raising their four children, and took classes to improve her skills at various professions, but has had a hard time finding anything but part-time work.

During the good years instead of catching up on saving they purchased a cabin on a lake in northern Michigan at a price that was more than their main home. The plan was always to retire there one day, and have a spot in the meantime that the children and their families could enjoy.

As time went on, these plans just didn’t work out; the children moved after college across the country and not only did they not use the cottage, they didn’t have much interest in inheriting a property that they would have to be concerned about in a far away state. They had to take out loans to maintain and repair two homes, and the costs offset much of the benefits from saving.

When faced with the reality that this part of the plan was destroying their current lifestyle Steven’s response was predictable. “I’ll work as long as I have to.”

Many retirement plan projections are run out to age 65 or 70. But our plans don’t often consider what happens if you can’t work that long. Meanwhile a recent report from The Joint Center for Housing Studies of Harvard University found that more retirees are facing cost pressures, which is a trend that is expected to continue, especially for those that counted on home equity in one or more homes in retirement.

Over the last several years though many in Steven’s position have lost the ability to earn what they need to. Others have dealt with disability, loss of loved ones, and other tramatic events that limit their ability to work at the level they need to in order to work effectively.

Clearly there is a huge downside risk to the chance we may not be able to work as long as we need to. In addition to the risks of not being able to work, there are many other financial considerations and risks that grow as we work longer:

  • Many deal with income shortages by taking Social Security benefits early. Locking in Social Security early causes a permanent reduction in earnings, and taking it while under full retirement age and working can cause a significant portion to be subject to tax.
  • If you are not able to work you may you may have to draw down retirement accounts at an unsustainable pace. You may face paying for insurance, medical expenses, and other costs that can throw off your plans further.

Whatever your current age is, it’s important to make long-term savings the backbone of your plan. Don’t wait or count on earning more in the future, or being able to work forever. You may just not be able to.

robertSchmanskyRobert Schmansky, CFP®
Financial Advisor
Clear Financial Advisors, LLC
Royal Oak, MI


4 Ways for Graduates to Get onto Sound Financial Footing

As graduates seek to start their careers, many have high expectations, and many questions on how to get ahead. Below are four things I’ve learned over the course of my first decade in the working world.

  1. Save. Save now. Savings will not only allow you to retire one day, but they will also let you take advantage of opportunities that may require you to take time off work, or to start your own business one day. Put aside 10% of your wages right away, and increase that every year by another 1-2% until you reach 20%. For ideas on where to save and how to save while paying off debt, read my past blog titled ‘Debt Payoff Strategies.’
  2. Savings alone isn’t enough… you need to invest. Recent studies show that younger employees are the most interested in conservative, guaranteed income. Older (and wiser) participants had lower expectations that guarantees were the best way to maintain their wealth.
  3. Think like an employer. Jobs like you might see in a movie like Office Space, where employees may do a few hours of work over the course of a weeks just won’t exist for you. To get ahead you have to think like you’re the boss if you ever want to become the boss (or, if you want to become your own boss).
  4. Continue to learn. Perhaps the best way to use your savings may be to invest in yourself, which may mean going back to school. The payoff from investing in yourself and a new degree, or simply learning new skills on your own, may not lead to much now, but can open any number of doors over the long-run.

robertSchmanskyRobert Schmansky, CFP®
Financial Advisor
Clear Financial Advisors, LLC
Royal Oak, MI