Financial Opinion and Insights

Archive for July 2010

Taxes Come In All Shapes and Sizes

Jim Lorenzen, CFP®

Jim Lorenzen, CFP®

My thanks to Harold Evensky for the heads-up on this one.  In his newsletter, he cites Jason Zweig’s recent Wall Street Journal Intelligent Invest column, entitled “Watch Out for the Hidden Tax Traps Inside ETFs”  

ETFs are generally very tax efficient and are very low-cost investments, as well, which is one of the reasons I like them so much and do use them in client portfolios; but, in his column, he warns, “… the mad dash in ETFs lately has been into ‘alternative assets’ like currencies and commodities.  The investment researchers at Morningstar track 108 such ETFs… these funds are taxed so differently and at such higher rates than traditional investments, that many investors wish they had looked before they had leaped.” 

According to Zweig, “Wells Fargo Advisors has estimated that many commodity EFTs can be taxed six different ways and currency EFTs in eight!”

It pays to do your homework, doesn’t it?

Written by Jim Lorenzen, CFP®, AIF®

July 29, 2010 at 8:00 am

Trying To Get Back to Even?

Jim Lorenzen, CFP®

Jim Lorenzen, CFP®

You say your investments are down and you’re wondering what it takes to get back to even?  This little story might interest you.

I’m out on the practice putting green near my office,  getting a little fresh air during lunch and shooting the breeze with a few friends, when one of them says, “I had all of my 401(k) in a small cap stock fund that lost 50% during the downturn.  Since then, it’s up 75%!  I should be ahead, but my statement says I’m still down almost 10%!  What gives?”

A lot of people are probably in a similar boat.  Unfortunately, the math doesn’t work that way.  Example:  A $1,000 investment experiences a 50% loss and is now valued at $500.  What does it take to get back to $1,000?  You guessed it:  A 100% gain…. 75% won’t do it.

The table below demonstrates why we, and so many other professionals, focus so much on volatility, not just absolute returnsl.

Down and back to even

-10%  11%

-20%  25%

-30%  43%

-40%  67%

-50%  100%

-60%  150%

-70%  233%

-80%  400%

-90%  900%

Limiting the ‘downside’ just might be worth giving up a little on the upside.  Know someone who’s always `chasing return’ by jumping on ‘hot tips’?  This may be worth their knowing.

Written by Jim Lorenzen, CFP®, AIF®

July 27, 2010 at 8:00 am

The Benchmark Myth

Jim Lorenzen, CFP®

Jim Lorenzen, CFP®


We’ve all heard it.  We’ve all read it.  Most managers fail to match, let alone beat, the market.   

Actually, it makes sense!  And, there’s a very simple reason for this, which comes in two parts. 

First, if you believe – probably rightly so – that institutional managers of giant pension plans, mutual funds, etc., actually comprise most of the trading volume, then you begin to realize the managers ARE the market. 

So, if they ARE the market, why is it half of them don’t perform above the average and half below?  That brings us to the second reason:  Expenses. 

Indexes don’t have expenses.  You can’t even buy an index.  You can buy An index mutual fund or exchange-traded fund (ETF) that replicates an index, but not the index.\ 

Managers, however, are judged on portfolio net-asset-value (NAV) – the value after expenses. 

Let’s use an example you experience every day:  Your house. 

Suppose you bought a house for $250,000 and it appreciated in value right along with the overall housing market at 5% per year for 13 years.  Did you tie the market? 

Now, let’s use some assumptions you would have to take into account to report YOUR performance: 

  1. Property taxes are and remain at 1% per year
  2. Insurance is only 0.5% of value each year
  3. Maintenance is less than 1% and rises at 3% per year
  4. Final selling costs are only 3%
  5. Moving costs, loan interest expenses, and cash flow loss is ignored.


 What does your performance look like?

       Year $250,000 Prop Txs Ins. Exp. Maint. Sell Value
1 $262,500 $2,500 $1,313 $2,400   $256,288
2 $275,625 $2,500 $1,378 $2,472   $269,275
3 $289,406 $2,500 $1,447 $2,546   $282,913
4 $303,877 $2,500 $1,519 $2,623   $297,235
5 $319,070 $2,500 $1,595 $2,701   $312,274
6 $335,024 $2,500 $1,675 $2,782   $328,067
7 $351,775 $2,500 $1,759 $2,866   $344,651
8 $369,364 $2,500 $1,847 $2,952   $362,065
9 $387,832 $2,500 $1,939 $3,040   $380,353
10 $407,224 $2,500 $2,036 $3,131   $399,556
11 $427,585 $2,500 $2,138 $3,225   $419,722
12 $448,964 $2,500 $2,245 $3,322   $440,897
13 $471,412 $2,500 $2,357 $3,422 $14,142 $448,991

The market did 5% per year; but YOUR record was 4.6% per year. 

Your record looks like it’s 0.4% below market, right?     It’s actually 8% below the market performance (5% – 8% of 5% = 4.6%). 

Your house tied – you didn’t.  

Now you know why my most managers don’t outperform the index.  Collectively, they are the index; but they have expenses, too.

Written by Jim Lorenzen, CFP®, AIF®

July 22, 2010 at 8:00 am

CFP Board Survey Findings Revealed

Jim Lorenzen, CFP®

Jim Lorenzen, CFP®


Last week, the CFP Board released their survey findings from 1,002 Americans.  The survey revealed:  

  • Nearly two out of three Americans (65 percent) are more concerned about their finances today than they were at the beginning of the financial crisis two years ago.
  • A bit more than a third of Americans (37 percent) expect to see their personal finances improve in the next six months, versus less than half (46 percent) who expect to hold onto what they currently have, and 16 percent who expect to lose money.
  • 80 percent of Americans say that Congress and regulators have not done enough “to deal with the financial market problems and their impact on American investors.”
  • A bright spot in the findings: 44 percent of Americans expect the U.S. economy to improve in the next six months, while only 28 percent expect things to get worse. A smaller group (22 percent) anticipates no change in the economy.
  • When asked to describe how they feel about their personal finances, the #1 response from Americans was “cautious” (33 percent), followed by “calm” (26 percent), “concerned” (25 percent) and “hopeful” (25 percent). (Multiple responses were permitted to this question.)
  • Interestingly, ethnicity seems to bear on the perception of the prospects for the economy, with just 38 percent of whites expecting the economy to improve, compared to 51 percent of Hispanics and 74 percent of African Americans.

“This survey clearly shows that restoring the trust of Americans in our financial markets is an unfinished work in progress,” said Robert J. Glovsky, J.D., LL.M., CFP®, 2010 CFP Board Chairman, president of Boston-based Mintz Levin Financial Advisors, LLC, and emeritus director of Boston University’s Program for Financial Planners. “Financial planners across the U.S. hear every day from anxious Americans. After the experience of the last two years, more people want to deal with financial professionals who are able to take a holistic view of people’s finances and who uphold a fiduciary standard that puts their clients’ interests ahead of all others, including their own. This is why CFP® professionals are going to be more important than ever going forward.”  

The survey found the following about Americans’ attitudes toward financial planners:  

  • More than two out of five Americans (43 percent) think financial planners are now “more important in the last two years since the start of the financial crisis,” compared to about a third (36 percent) who see no change, and 14 percent who now see planners as being “less important.”
  • Overall use of financial planners by Americans has remained almost unchanged during the first two years of the U.S. financial crisis – starting at 29 percent compared to 28 percent today.
  • Of those who have started using a financial planner since the start of the financial crisis, nearly a third (31 percent) say they have done so because “I felt like I needed more financial guidance during these difficult times for investors.” A bigger percentage of those in this group (44 percent) said they have started using a financial planner during the last two years for reasons “unrelated to the financial crisis.”


  • Only 14 percent of Americans think Congress and regulators have done “much” or “all” of what needs to be done.
  • When asked to describe the economy as an animal, they tend towards slow, lumbering animals like sloths, bears, turtles, and elephants; few choose the iconic symbol of confidence, the bull.
  • Almost two thirds of Americans (64 percent) say they are “very” or “somewhat” financially prepared for the future.
  • The top three financial planning issues for Americans today are retirement goals and planning (30 percent), education funding (25 percent) and savings goals and planning (23 percent).

For full survey findings, go to www.CFP.net.

Written by Jim Lorenzen, CFP®, AIF®

July 21, 2010 at 8:00 am

Do You Remember These Incidents?



Jim Lorenzen, CFP®

Jim Lorenzen, CFP®


Crisis:  Russia devalued the ruble in August 1998, causing huge losses to international banks, hedge fund bankruptcies, and massive selling on the global financial markets.  

Change:  The Federal Reserve Board cuts interest rates by 75 basis points (0.75%) to provide liquidity.  

Opportunity:  The rate cut restored confidence and liquidity to global markets.  The MSCI World Index (an unmanaged index of world stocks)  from 937 on August 31, 1998 to 1155 on December 29, 1998, a gain of 18% in four months.  


Crisis:  Mexico’s economy and government were brought to the brink of collapse by a credit crisis in 1994.  

Change:  The U.S. government lent Mexico $60 billion at the last minute.  

Opportunity:  In less than three months, Mexico’s stock market turned around.  The Mexican Bolsa Index gained 18% for the year 1995 and almost 22% in 1996.  Telefonos de Mexico, the country’s largest stock, fell to $25 a share but doubled in value in three years.  


Crisis:  Europe was rocked by exchange rate turmoil and economic recession in 1992.  

Change:   The UK dropped out of the European Exchange Rage Mechanism resulting in an historic devaluation of the British pound.  

Opportunity:  A cheaper currency stimulated British export industries and made the country more attractive to foreign investment.  For example, Glaxo-Wellcome, the consumer products giant, slumped to about $15 a share during the crisis but has since quintupled in value, rising to a high of $75 a share.  


Crisis:  The U.S. savings and loan industry faced insolvency in 1988.  

Change:  The U.S. government created the Resolution Trust Corporation (RTC), a $500 billion rescue plan.  

Opportunity:  In 1991, still in the midst of a banking crisis, investors could buy Citicorp for $9 a share.  That price appreciated to more than $145 before Citicorp merged with Traveler’s in 1998.  


Crisis:  Chrysler, the nation’s largest automaker, was headed for bankruptcy in the 1970s.  

Change:  The government extended loans to keep the company afloat.  

Opportunity:  Chrysler stock was worth less than $5 until the mid 1980s, but rose to $50 per share as a result of cost-cutting and new products.  Daimler-Benz acquired Chrysler last year for approximately $57 a share.  


In each of these crises, the media created a public perception of doom.    If there’s a single secret for long-term success, I think it’s this:  Don’t predict and don’t react.  

People who watch television trying to predict will virtually always get it wrong.  Face it, if that worked, Peter Lynch would have managed money that way.   If you’ve ever read anything by Peter Lynch, Warren Buffett, or most other successful investors, you know they didn’t pay much attention to “the market” at all!  I remember Warren Buffet saying he didn’t care if it closed down entirely.  

Remember, don’t confuse education with financial entertainment.

Written by Jim Lorenzen, CFP®, AIF®

July 20, 2010 at 8:00 am

It May Be Time To ‘Manage The Downside’.

Jim Lorenzen, CFP®

Jim Lorenzen, CFP®


Are we in a new investment environment very different from what we’ve known in the past?   

Many investors think so.  If true,  this new environment  just might require a different investment model than the one most investors are used to.    

The high volatility of the past seemed to reward being fully invested.   We had high volatility, but it was linked to high average returns.   You were rewarded for remaining fully invested in stocks.     

 This time, the environment might be different:   High volatility linked to lower average annual returns.  If that turns out to be true, the old investment model may not work very well and the real money managers will have to step forward.   

I created a purely hypothetical volatile market (20% moves each year) in Figure A and arranged the returns to begin and end with an `up’ year. I even put two `up’ years back-to-back in years 7 and 8 and even arranged for 3 out of 4 to be `up’ years at the end! The resulting average annual compound return is only 2.03%… below historic inflation figures.   You’re in a bad market, but it looks good enough – enough of the time – to keep you hoping to win.   The key to this market is limiting losses.

Figure A

Amount Invested: $100,000
  Market Portfolio
Year Return      A
1 20% $120,000
2 -20% $96,000
3 20% $115,200
4 -20% $92,160
5 20% $110,592
6 -20% $88,474
7 20% $106,168
8 20% $127,402
9 -20% $101,922
10 20% $122,306


Figure B shows the same market if an investor gives up 40% of each `up’ year and captures only 25% of the downside moves. The result is $38,463 more, despite having no big `up’ years to brag about.   So, capturing only 60% of the upside and only 25% of the downside would look like this:

Figure B:

 Amount Invested:   Up Cap> 60%  
 $100,000     Dn Cap> 25%  
  Market Portfolio Portfolio


         Year Return B Return       B Difference
1 20% 12% $112,000 -$8,000
2 -20% -5% $106,400 $10,400
3 20% 12% $119,168 $3,968
4 -20% -5% $113,210 $21,050
5 20% 12% $126,795 $16,203
6 -20% -5% $120,455 $31,981
7 20% 12% $134,910 $28,741
8 20% 12% $151,099 $23,697
9 -20% -5% $143,544 $41,622
10 20% 12% $160,769 $38,463


This is purely hypothetical, of course;  but it does seem to illustrate that if those experts are right, those who manage the downside will be the ones making money.   No more riding the waves.  

Will the real managers please stand up.

Written by Jim Lorenzen, CFP®, AIF®

July 15, 2010 at 8:00 am

Amazing! – But, Depressing…

Jim Lorenzen, CFP®

Jim Lorenzen, CFP®

I found a few interesting pieces of data from the Journal of Financial Planning:

  • 54% of Americans do not have a retirement plan.  They don’t know how much income they’ll need or where the money will be coming from.
  • 10,000 – The number of baby boomers becoming eligible for Medicare and Social Security EACH DAY for the NEXT TWO DECADES!
  • $13,700 – The average cost of family healthcare coverage per year for a small firm.
  • 1.86% – The median annual return increase for employees who use the 401(k) financial advice offered by their advisor over those who don’t.   What does that mean?  A young person getting help  and investing $2,000 per year for 20 years could have $47,923 more at retirement!  Hmmm.  1.86% isn’t so small, after all.

But, not everyone’s smart.

RegisteredRep magazine recently published their list of the 2010 Worst Managed University Endowments.   The Ivy League schools didn’t look so good:  Harvard was the worst, followed by Yale!  Brown was 4th!  Who were the three best?  Washington State, Virginia Tech, and the University of Utah.

Written by Jim Lorenzen, CFP®, AIF®

July 14, 2010 at 8:00 am