Being Smart with $$ - Why do Retirement Plans Choose Bad Funds?

 

Why do so many 401(k) plans choose terrible investments when they have the ability to choose good ones? Research suggests that lower-cost funds mostly outperform higher-cost funds over the long run. I helped a client reallocate their portfolio and was disappointed to see that their 401(k) plan only offered one high-cost fund in the mid-cap stock category while they separately offer a low-cost index fund in the small-cap category. The mid-cap stock fund that they offer has underperformed a low-cost, mid-cap index fund by over 4-1/2 percentage points per year over the last three years and by over 3 percentage points per year over the last five years. If they offer a small-cap index fund then they must be able to offer a mid-cap index fund but they chose not to. It would be understandable if they chose to offer a fund that has been outperforming its benchmark but not one doing poorly.  Perhaps they selected it right after it had a few good years.  If this is the case, they may not know that many funds which do well one year do not do well the next.  This is not an isolated case as I so frequently see retirement plans that only offer underperforming, high-cost funds.  When you buy an index fund, you know you will match the market. When you buy an actively-managed fund with higher internal fees, you never really know what you will get because it is up to the decisions of the manager. In the case of the mid-cap fund in this 401(k) plan, the manager made bad decisions and the fund investors have lost quite a bit of money over the last several years because of it. 401(k) plans have many legal protections for retirement savers. But the legal protections don’t prevent the selection of poor funds that too often cost the investor money. 

(Past performance may not be an indicator of what to expect in the future and your individual circumstances should be considered in any investment decision.)

Larry Pike, CFA

Client Priority Financial Advisors LLC
www.clientpriority.com

Hourly, Fee-Only Financial Planning and Advice.

No Commissions.  No automatic, annual fees.

Being Smart with $$ - Managers Guess Wrong Again

Is it any wonder that the majority of actively-managed investment portfolios do worse than their benchmarks?  For the first half of this year, all I heard on the business channels was how the market is overpriced and it is definitely going to fall, and the portfolios of these analysts were heavily in cash instead of being fully invested. These analysts claimed they would get back into the market when it was lower. If they could get back in when it is down 15%, they could save their clients from losing $150,000 on $1 million held in cash.  The problem is, they got it wrong. Instead of being down and giving them a chance to buy in a lower price, the U.S. stock market is up 19% year to date. Instead of saving their clients $150,000, they cost their clients $190,000. Did they do their clients a favor by using that crystal ball they claim they have? Apparently not. The markets are unpredictable and very few successfully time the market. Sitting tight with an appropriate long-term portfolio would have made you a lot more money than following these overconfident portfolio managers. But their job is to convince you that they do have a crystal ball so that you might pay them $10,000 a year to manage your $1 million portfolio. Don’t be fooled into believing that high fees give you more. Investment managers that know how the markets work know that you can’t time the market and creating a portfolio and sitting tight with it is your best course of action. With 93% of actively-managed, large-cap mutual funds doing worse than their S&P 500 benchmark over the last 15 years, it should be clear that portfolio managers do not have the crystal balls they claim they have. (Past performance may not be an indicator of what to expect in the future and your individual circumstances should be considered in any investment choice. Investments in stocks can rise or fall in value, especially in the short run, and should only be the part of your portfolio intended for your long-term needs and not for money you may need in the short term.)  Research: SPIVA Scorecard.

Larry Pike, CFA

Client Priority Financial Advisors LLC

www.clientpriority.com 

Being Smart with $$ - Boring Builds Wealth

 

When you invest for your long-term plan, you have choices. You can add a little bit each month to investment & retirement accounts from paychecks and never sell what you have previously added (until you need it for retirement living or another goal). Or you can follow the advice of many professionals in the news and dart in and out of certain stocks and the market overall based on certain technical indicators. Staying in the market through thick and thin gives you long-term market returns. And darting in and out gives you whatever added value you can get from the pros who believe they know what is coming next. For example, you could have followed one of the largest investment banks who suggested their clients stay out of the stock market in 2019 and 2020 when the markets went up over 50% in those two years. You could have followed the advice of a major investment firm CEO who recently had to explain why their favorite stock pick fell 30% when the rest of the market was going up. Or you could have listened to the majority of analysts this year who all seemed to tell you the market is overvalued and you should stay in cash only to watch the stock market rise 11% year to date. Most investors who dart in and out of the market do worse than those who buy and hold for the long run. Most investors who believe they have the knowledge to do the right things at the right times are regularly schooled by those who do nothing but stay the course. The markets will always face corrections now and then but predicting exactly when to sell and then when to buy is something very few investors have done successfully over the course of their lifetimes. When you are fully invested in an allocation appropriate for your needs, you face the risk that a drop in the market could cause you to lose money. When you sit on the sidelines, fearing that a drop may come, you face the risk that you will be out of the market when it goes up.  You can lose money either way. But long-term wealth is generally built from staying the course. Be boring and be wealthier for it.

(Past performance may not be an indicator of what to expect in the future and your individual circumstances should be considered in any investment decision.)

Larry Pike, CFA

Client Priority Financial Advisors LLC
www.clientpriority.com

Hourly, Fee-Only Financial Planning and Advice.

No Commissions.  No automatic, annual fees.

Being Smart With $$ -- It's Never a Stock Picker's Market

 

“It’s a stock picker’s market!”  That’s what you can hear constantly from overconfident pundits on the financial TV and radio channels.  But is it really?  When the market is volatile, they say it is a stock picker’s market.  When the market is highly priced, they say it is a stock picker’s market.  When the market is falling every day, they say it is a stock picker’s market.  If you believe them, it is always a stock picker’s market even though they imply that this time it is particularly true.  But if it is a stock picker’s market now and many other times, why is it that most stock pickers perform worse than their benchmarks after fees over long periods of time?  The SPIVA Scorecard from S&P Dow Jones Indices keeps track of how actively-managed mutual funds perform against their unmanaged index benchmarks.  Actively-managed mutual funds are the kings of stock pickers.  However, the SPIVA Scorecard reveals that over 91% of large-cap stock managers performed WORSE than their unmanaged benchmark over the past 10 years (as of 12/31/22).  Why?  Because they couldn’t add just a small amount of extra value per year to offset their high fees.  If we are constantly in a stock picker’s market, then why didn’t they pick the best stocks and beat their benchmarks?  Maybe they just want to scare you into paying them 1% of assets when times are volatile even though in actuality, they are unlikely to provide you with added performance.  When they will collect $10,000 from you on each $1 million in managed assets, even if they perform far worse than the market overall, it is no wonder they want to convince you to pay big money for a false promise.  What to do?  Keep your fees low, stick with your long-term plan, and tune out the false hype being sold daily from speakers with a vested interest in talking you into something that’s good for them but bad for you.

(Past performance may not be an indicator of what to expect in the future and your individual circumstances should be considered in any investment decision.)

Larry Pike, CFA

Client Priority Financial Advisors LLC
www.clientpriority.com

Hourly, Fee-Only Financial Planning and Advice.

No Commissions.  No automatic, annual fees.

Being Smart with $$ - The Pros Don't Know

 

Every day on the business channels, commentators argue with each other over whether a certain stock or the overall market is cheap or expensive. These are professionals who each manage hundreds of millions or billions of dollars of assets. But if they disagree with each other, who are we to trust when making investment decisions? Many people who don’t understand investments believe that the pros have a secret sauce that lets them pick the good assets and sell the bad ones and get in and out of the market at the right times. But when the pros are regularly disagreeing with each and doing the opposite of their adversary on the news, it shows that none of them really know. And when the SPIVA Scorecard (a research report that studies fund performance) reveals that the vast majority of actively-managed funds do worse than an unmanaged fund in the same category over a decade or more, it should be quite obvious that the pros know very little about which asset will outperform or when the market will go up or down. It’s not that they are phonies without substantial knowledge of the markets; it is that the markets are so efficient and reflect all known information that it is extremely hard to add value to a simple buy-and-hold portfolio. The pros do worse than unmanaged, market-tracking index funds because they take a large fee out of their investments every year and don’t add enough value to offset the fee. Of course, a small percentage outperform their benchmark over the long run but good luck predicting in advance which one will do so. Many celebrity fund managers have gone from hero to zero after failing to keep outperforming. The one way to give yourself a very high chance of outperforming the vast majority of mutual funds is to own the unmanaged ones, with very low internal costs, in the percentage allocation suitable for your individual needs. An adviser can help you with this allocation but don’t let that adviser convince you to pay high additional fees for promises of outperformance they are unlikely to deliver. Always ask a prospective adviser if they are likely to put you in commission-based investments, or if they will take 1% of your assets each year, or if they will primarily put you in mutual funds with internal fees of 0.5% or higher.  If the answer is yes to any of these questions, you may want to keep looking.  (Past performance may not be an indicator of what to expect in the future and your individual circumstances should be considered in any investment decision.)

Larry Pike, CFA

Client Priority Financial Advisors LLC

www.clientpriority.com

Hourly, Fee-Only Financial Planning and Advice.

No Commissions.  No automatic, annual fees.

Being Smart With $$ - Recency Bias may have killed your portfolio in 2022

 

Did “Recency Bias” kill your portfolio in 2022?  In investing, many people load up on sectors that have recently done well believing they will continue to do well.  These investors fail to follow the common advice to regularly rebalance your portfolio.  Growth stocks have soared to high levels in recent years making big growth companies the daily topic of conversation on the financial channels.  Many investors weighed their portfolios heavily towards growth stocks hoping that infinitely higher stock prices are possible even as corporate earnings can only grow by so much.  This past year taught a harsh lesson to those who ignore valuations and keep chasing the highest flyers.  In 2022, an index of growth stocks fell by 33% while an index of value stocks only fell by 2%.  Those who fell into the “recency bias” trap may have lost a lot more than if they regularly rebalanced their portfolio.  Many people have avoided international stocks for the same reason but equities from other parts of the world lost 2% less than U.S. stocks this year (and 17% less than U.S. growth stocks.)  It is easy to fall into this trap when analysts on TV tell you to keep buying the most expensive stocks.  When the big growth name goes from $100 to $120, they now tell you they have moved their target to $140.  When it hits $140, now they tell you it will go to $160.  There is rarely sound logic based on fundamental factors for why the price target is raised just because the stock price is higher when the company didn’t change much.  Maybe you loved Tesla stock and didn’t diversify as it rose.  Tesla fell 65% in 2022.  Maybe you loved Amazon after everyone stopped going to stores in the Covid era.  Amazon fell 50% in 2022.  No one knows which stock sector will outperform in the coming year.  Rebalancing your portfolio at least annually will allow you to lock in some gains from the sector that did best in the past year and ensure that you have some exposure to the sector that will do best in the coming year.

(Past performance may not be an indicator of what to expect in the future and your individual circumstances should be considered in any investment decision.)

Larry Pike, CFA

Client Priority Financial Advisors LLC
www.clientpriority.com

Hourly, Fee-Only Financial Planning and Advice.

No Commissions.  No automatic, annual fees.

Being Smart with $$ -- Big Mistake Buying Whole Life Insurance 40 Years Ago

 

Forty years ago, my dad opened a whole life insurance policy for me saying that no matter what, I’d always have some insurance.  With a $10,000 death benefit, it may not have saved my family from financial ruin if I died but the gesture was nice.  But the financial impact of this decision may have been very, very costly.  For forty years, we have paid $75 per year in premiums.  The policy has a cash value today of $4,200.  If we keep making the premium payments, which could be for roughly 25 years based on my life expectancy, it will some day pay out $10,000 to my heirs.  But what was the alternative?  If $75 per year had been added to a balanced investment account of stocks and bonds, it may have earned an annualized 7% over the last 40 years.  These annual premiums would have grown to around $15,000 today.  In 25 years when I reach my life expectancy, this money could grow to over $80,000 if it earns a similar 7% moving forward.  But I also still need to pay $75 per year to keep the policy going.  If these annual payments were instead added to the investment account, they might add another $4,700 to my value in 25 years for a total value of almost $85,000.  If I live five extra years beyond age 83, this alternate-universe account could grow to $119,000.  But the whole life policy will always pay me $10,000 at the end. Let me think for a minute which I would rather have: $10,000 or $85,000.  I will have to sleep on it.  (Critics will point out tax advantages of the insurance which is a weak argument in this case given the difference in value and the stability of the whole policy which ignores the fact that while stocks are volatile in the short run, they are not very volatility over a 40-year period.)  Be very careful of turning money over to someone with a slick sales pitch when it may be very costly to do so.  And imagine how costly this would have been for a $100,000 policy instead of a $10,000 contract.  I’ll do the math for you.  It would cost you three quarters of a million dollars.

Larry Pike, CFA

Client Priority Financial Advisors LLC
www.clientpriority.com
Blog: clientpriority.blogspot.com

Hourly, Fee-Only Financial Planning and Advice.

No Commissions.  No automatic, annual fees.