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Eight “Best/Worst” Wealth Strategies During the Coronavirus

 

The utility of living consists not in the length of days, but in the use of time.

— Michel de Montaigne

 

For better or worse, many of us have had more time than usual to engage in new or different pursuits in 2020. Even if you’re as busy as ever, you may well be revisiting routines you have long taken for granted. Let’s cover eight of the most and least effective ways to spend your time shoring up your financial well-being in the time of the coronavirus.

 

  1. A Best Practice: Stay the Course

Your best investment habits remain the same ones we’ve been advising all along. Build a low-cost, globally diversified investment portfolio with the money you’ve got earmarked for future spending. Structure it to represent your best shot at achieving your financial goals by maintaining an appropriate balance between risks and expected returns. Stick with it, in good times and bad.

 

  1. A Top Time-Waster: Market-Timing and Stock-Picking

Why have stock markets been ratcheting upward during socioeconomic turmoil? Market theory provides several rational explanations. Mostly, market prices continuously reset according to “What’s next?” expectations, while the economy is all about “What’s now?” realities. If you’re trying to keep up with the market’s manic moves … stop doing that. You’re wasting your time.

 

  1. A Best Practice: Revisit Your Rainy-Day Fund

How is your rainy-day fund doing? Right now, you may be realizing how helpful it’s been to have one, and/or how unnerving it is to not have enough. Use this top-of-mind time to establish a disciplined process for replenishing or adding to your rainy-day fund. Set up an “auto-payment” to yourself, such as a monthly direct deposit from your paycheck into your cash reserves.

 

  1. A Top Time-Waster: Stretching for Yield

Instead of focusing on establishing adequate cash reserves, some investors try to shift their “safety net” positions to holdings that promise higher yields for similar levels of risk. Unfortunately, this strategy ignores the overwhelming evidence that risk and expected return are closely related. Stretching for extra yield out of your stable holdings inevitably renders them riskier than intended for their role. As personal finance columnist Jason Zweig observes in a recent exposé about one such yield-stretching fund, “Whenever you hear an investment pitch that talks up returns and downplays risks, just say no.”

 

  1. A Best Practice: Evidence-Based Portfolio Management

When it comes to investing, we suggest reserving your energy for harnessing the evidence-based strategies most likely to deliver the returns you seek, while minimizing the risks involved. This includes: Creating a mix of stock and bond asset classes that makes sense for you; periodically rebalancing your prescribed mix (or “asset allocation”) to keep it on target; and/or adjusting your allocations if your personal goals have changed. It also includes structuring your portfolio for tax efficiency, and identifying ideal holdings for achieving all of the above.

 

  1. A Top Time-Waster: Playing the Market

Some individuals have instead been pursuing “get rich quick” schemes with active bets and speculative ventures. The Wall Street Journal has reported on young, do-it-yourself investors exhibiting increased interest in opportunistic day-trading, and alternatives such as stock options and volatility markets. Evidence suggests you’re better off patiently participating in efficient markets as described above, rather than trying to “beat” them through risky, concentrated bets. Over time, playing the market is expected to be a losing strategy for the core of your wealth.

 

  1. A Best Practice: Plenty of Personalized Financial Planning

There is never a bad time to tend to your personal wealth, but it can be especially important – and comforting – when life has thrown you for a loop. Focus on strengthening your own financial well-being rather than fixating on the greater uncontrollable world around us. To name a few possibilities, we’ve continued to proactively assist clients this year with their portfolio management, retirement planning, tax-planning, stock options, business successions, estate plans and beneficiary designations, insurance coverage, college savings plans, and more.

 

  1. A Top Time-Waster: Fleeing the Market

On the flip side of younger investors “playing” the market, retirees may be tempted to abandon it altogether. This move carries its own risks. If you’ve planned to augment your retirement income with inflation-busting market returns, the best way to expect to earn them is to stick to your plan. What about getting out until the coast seems clear? Unfortunately, many of the market’s best returns come when we’re least expecting them. This year’s strong rallies amidst gloomy economic news illustrates the point well. Plus, selling stock positions early in retirement adds an extra sequence risk drag on your future expected returns.

Could you use even more insights on how to effectively invest any extra time you may have these days? Please reach out to us any time. We’d be delighted to suggest additional best financial practices tailored to your particular circumstances.

How To Be Positively Skeptical Part 3: How Do You Do Your Due Diligence?

 

“All media shares one thing: Someone created it. And it was created for a reason. Understanding that reason is the basis of media literacy.”

— Common Sense Media

 

In previous installments of our “How To Be Positively Skeptical” series, we covered the many forces that tease us into falling for misinformation. Bottom line, our brains are hardwired to lead with fight-or-flight instincts ahead of rational resolve. As such, our critical thinking often plays second-fiddle to rash reactions such as fear, excitement, overconfidence, and regret.

 

In the financial jungle, it’s essential to look before you leap at emotion-triggering misinformation. Here are five “do’s” and “don’ts” for doing your best fact-finding due diligence.

 

  1. Do be positively skeptical. In the courthouse, a defendant is presumed innocent until proven guilty. When managing information overload, we recommend you default to exactly the opposite: When in doubt, remain in doubt until you’ve done your due diligence.

 

Also watch out for confirmation bias. If you want something to be true, you’ll be more inclined to believe it is. Likewise, if you wish something weren’t so, you’ll assume it probably isn’t.

 

  1. Do question the motives. As suggested above, everything you see, hear, or read is driven by someone’s incentive for sharing it. This helpful Life Kit Comic from National Public Radio describes at least four potential motivations: self-interest, malicious intent, financial gain, and/or genuine altruism. Determining which motivations are most likely at play suggests how readily to accept a claim as the whole truth, and nothing but.

 

Also watch out for familiarity bias. We take mental shortcuts to more quickly trust people who are familiar to us, whether or not our trust is well-placed.

 

  1. Do consider the source. Motivation aside, does the source actually know what they’re talking about? If they’re sharing their own insights, do they have the credentials and/or experience to be accurate and objective about the subject matter? If they’re reporting others’ insights, have they first done their own due diligence? Is their “evidence” fact-based, first-hand, and objectively considered? Or is it opinionated, emotionally charged, and largely circumstantial?

 

Also watch out for blind spot bias. We can more objectively spot others’ behavioral biases than we can recognize our own. This is one reason why even a well-intended individual may be unaware of their own misperceptions.

 

  1. Don’t let repetition replace reality. Believe it or not, simply repeating a lie can make it more believable. Citing a pair of studies from the Journal of Experimental Psychology, this Wall Street Journal columnist reported, “When people hear a false claim repeated even just once, they are more likely to let it override their prior knowledge on the subject and believe it.” This all too real “illusory truth effect” explains how effective marketing campaigns often work. It also explains how we can fall for fast-moving falsities, whether unwittingly or intentionally repeated.

 

Also watch out for hindsight bias. Hindsight bias tricks us into altering our memories to reflect current reality. In other words, once you decide to believe a repeated claim, you may forget you didn’t believe it the first time.

 

  1. Don’t rush. Especially in money management, anything that is important today will still be important tomorrow. Take your time, ask critical questions, and ensure you understand the ramifications before you make any move. The same applies when sharing tantalizing social media posts. If something strikes you as either outrageous or too good to be true, avoid getting caught up in the heat of a moment, lest you accidentally fan the flames of an illusory truth.

 

Also watch out for herd mentality. Herd mentality intensifies our greedy or fearful reactions to breaking news. We are prone to run in whatever direction everyone else is headed.

 

How Do You Do Your Due Diligence?

Of course, nobody can research every claim they come across. There are only so many hours in the day! So, what are some practical steps for efficiently differentiating fact from fiction? We’ll cover that in our next, and final installment in our “How To Be Positively Skeptical” series.

How To Be Positively Skeptical Part 1: The Benefits of Having a Doubt

“I’m not an optimist. That makes me sound naïve. I’m a very serious ‘possibilist.’ That’s something I made up. It means someone who neither hopes without reason, nor fears without reason, someone who constantly resists the overdramatic worldview.”

— Hans Rosling, Factfulness

 

Whether you’re considering an investment opportunity or simply browsing various media for insights and entertainment, it has become increasingly obvious: You cannot believe everything you see, hear, or read. Much of it is “overdramatic.” Too much of the rest is just plain wrong.

Thus it falls on each of us to be positively skeptical in our search for knowledge.

To be positively skeptical, we must continue to think and learn and grow.
But we also must aggressively avoid falling for hoaxes and hype.

 

Social Media: An Aggravating Allure

Of course, selling proverbial snake oil and falling for falsities is nothing new. As investors, citizens, and individuals, it will always be our task to remain informed purveyors of the truth. But in today’s climate of information overload, this is no easy task. The very features that make online engagement so popular also make it a powerful forum for sowing deceit and confusion.

First, it’s now all too easy to share a claim far and wide, long before it’s been through any sort of reality-check. One or two clicks, and it’s on its way.

Second, evidence suggests false online news spreads faster than the truth. In a March 2018 Science report, “The spread of true and false news online,” a team of MIT researchers analyzed approximately 4.5 million tweets from some 3 million people from 2006–2017. They found that “Falsehood diffused significantly farther, faster, deeper, and more broadly than the truth in all categories of information.”

The authors also found that “human behavior contributes more to the differential spread of falsity and truth than automated robots do.”

In other words, we can’t just blame it all on “the bots.” We owe it to ourselves to be vigilant.

 

A Rigorous, But Rewarding Role

The challenge is, few of us actually enjoy engaging in detailed fact-checking. That’s not entirely our fault. It’s likely due to a multitude of mental shortcuts, or “heuristics,” which we have honed over the millennia to make it through our busy days.

In their landmark 1974 paper, “Judgment under Uncertainty: Heuristics and Biases,” Nobel laureate Daniel Kahneman and the late Amos Tversky are widely credited for having launched the analysis of human heuristics, including when they are most likely to lead us astray.

Essentially, we’re more likely to share and comment on a social media post, than to take the time to substantiate its accuracy. When considering an enticing investment opportunity, we find it easier to skim the marketing materials, than to dig for deeper understanding. Academic research that refutes current assumptions can be dense, and difficult to decipher; if a particular assumption is already widespread, we’re prone to simply accept it as fact.

Unfortunately, there are legions of cunning con artists and slick sales staff who know all this, and have weaponized our behavioral biases against us.

This means it’s as important as ever to sharpen your skeptical lines of defense. Granted, it takes more time to carefully separate fact from fiction. But the upfront due diligence should ultimately save you far more time, money, and personal aggravation than it will ever cost you.

 

Being positively skeptical should richly reward you in the long run.

In this multipart series, we’ll explore how to strengthen your fact-checking skills. Join us next time, as we leap the hurdle of your own emotions in the quest to be positively skeptical about specious claims.

10 Things To Do Right Now While Markets Are Tanking

Not long ago, some investors had yet to experience what it was like to weather turbulent markets. Even those who had, might have forgotten how scary it can be. This concerned us. So, to help people practice for scary days ahead, we published a fire-drill piece: “10 Things To Do Right Now While Markets Are (Not Really) Tanking.”

Well, guess what? In case you haven’t noticed, scary days have arrived, thanks to the concern over how coronavirus might impact our global economy. As we draft this update, headlines are reporting the biggest weekly stock market losses since 2008.

As usual, we won’t predict whether the current correction will deepen or soon dissipate. But what was good advice in mild markets remains even better advice today. Given the current climate, we republish a slightly updated version of our “fire drill.”

Of course, we continue to advise against trying to react to an unknowable future. But we also are aggressively looking for ways we might be able to help clients make lemonade out of this week’s lemons – such as through disciplined portfolio rebalancing or opportune tax-loss harvesting.

If we can be of assistance in any way, we hope you’ll be in touch. In the meantime, here are 10 things you can do right now while markets are at least temporarily tanking – this time for real.

  1. Don’t panic (or pretend not to). It’s easy to believe you’re immune from panic when the financial sun is shining, but it’s hard to avoid indulging in it during a crisis. If you’re entertaining seemingly logical excuses to bail out during a steep or sustained market downturn, remember: It’s highly likely your behavioral biases are doing the talking. Even if you only pretend to be calm, that’s fine, as long as it prevents you from acting on your fears.

“Every time someone says, ‘There is a lot of cash on the sidelines,’ a tiny part of my soul dies. There are no sidelines.” – Cliff Asness, AQR Capital Management

  1. Redirect your energy. No matter how logical it may be to sit on your hands during market downturns, your “fight or flight” instincts can trick you into acting anyway. Fortunately, there are productive moves you can make instead – such as all 10 actions here – to satisfy the itch to act without overhauling your investments at potentially the worst possible time.

“My advice to a prospective active do-it-yourself investor is to learn to golf. You’ll get a little exercise, some fresh air and time with your friends. Sure, green fees can be steep, but not as steep as the hit your portfolio will take if you become an active do-it-yourself investor.” – Terrance Odean, behavioral finance professor

  1. Remember the evidence. One way to ignore your self-doubts during market crises is to heed what decades of practical and academic evidence have taught us about investing: Capital markets’ long-term trajectories have been upward. Thus, if you sell when markets are down, you’re far more likely to lock in permanent losses than come out ahead.

“Do the math. Expect catastrophes. Whatever happens, stay the course.” – William Bernstein, MD, PhD, financial theorist and neurologist

  1. Manage your exposure to breaking news. There’s a difference between following current events versus fixating on them. In today’s multitasking, multimedia world, it’s easier than ever to be inundated by late-breaking news. When you become mired in the minutiae, it’s hard to retain your long-term perspective.

“Choosing what to ignore – turning off constant market updates, tuning out pundits purveying the latest Armageddon – is critical to maintaining a long-term focus.” – Jason Zweig, The Wall Street Journal

  1. Revisit your carefully crafted investment plans (or make some). Even if you yearn to go by gut feel during a financial crisis, remember: You promised yourself you wouldn’t do that. When did you promise? When you planned your personalized investment portfolio, carefully allocated to various sources of expected returns, globally diversified to dampen the risks involved, and sensibly executed with low-cost funds managed in an evidence-based manner. What if you’ve not yet made these sorts of plans or established this kind of portfolio? Then these are actions we encourage you to take at your earliest convenience.

“Thus, the prudent strategy for investors is to act like a postage stamp. The lowly postage stamp does only one thing, but it does it exceedingly well – it adheres to its letter until it reaches its destination. Similarly, investors should adhere to their investment plan – asset allocation.” – Larry Swedroe, financial author

  1. Reconsider your risk tolerance (but don’t act on it just yet). When you craft a personalized investment portfolio, you also commit to accepting a measure of market risk in exchange for those expected market returns. Unfortunately, during quiet times, it’s easy to overestimate how much risk you can stomach. If you discover you’re miserable to the point of breaking during even modest market declines, you may need to re-think your investment plans. Start planning for prudent portfolio adjustments, preferably working with an objective advisor to help you implement them judiciously over time.

“Our aversion to leverage has dampened our returns over the years. But Charlie [Munger] and I sleep well. Both of us believe it is insane to risk what you have and need in order to obtain what you don’t need.” – Warren Buffett, Berkshire Hathaway

  1. Double down on your risk exposure – if you’re able. If, on the other hand, you’ve got nerves of steel, market downturns can be opportunities to buy more of the depressed (low-price) holdings that fit into your investment plans. You can do this with new money, or by rebalancing what you’ve got (selling appreciated assets to buy the underdogs). This is not for the timid! You’re buying holdings other investors are fleeing in droves. But if can do this and hold tight, you’re especially well-positioned to make the most of the expected recovery.

“Pick your risk exposure, and then diversify the hell out of it.” – Eugene Fama, Nobel  laureate economist

  1. Tax-loss harvest. Depending on market conditions and your own circumstances, you may be able to use tax-loss harvesting during market downturns. A successful tax-loss harvest lowers your tax bill without substantially altering or impacting your long-term investment outcomes. This action is not without its tricks and traps, however, so it’s best done in alliance with a financial professional who is well-versed in navigating the challenges involved.

“In investing, you get what you don’t pay for.” – John  C. Bogle, Vanguard founder

  1. Revisit this article. There is no better time to re-read this article than today, when yesterday’s practice run is no longer an exercise but a real event. Maybe it will take your mind off the barrage of breaking news.

“We’d never buy a shirt for full price then be O.K. returning it in exchange for the sale price. ‘Scary’ markets convince people this unequal exchange makes sense.” – Carl Richards, Behavior Gap

  1. Talk to us. We didn’t know when. We still don’t know how severe it will be, or how long it will last. But we do know markets inevitably tank now and then; we also fully expect they’ll eventually recover and continue upward. Since there’s never a bad time to receive good advice, we hope you’ll be in touch if we can help.

“In the old legend the wise men finally boiled down the history of mortal affairs into the single phrase, ‘This too will pass.’”
– Benjamin Graham, economist, “father of value investing”

You, Your Investments, and the Coronavirus

The term “novel coronavirus” is so new, some people have apparently wondered whether it is related to Corona beer. (It is not; it’s named after its crown-shaped particles.) And yet, how quickly it has grabbed global headlines. As the viral news has spread, so too has financial uncertainty. What’s going to happen next? Will it infect our economy? So far, U.S. markets have remained relatively immune. But should you try to dodge markets that have been exposed?

Our advice is simple: Do try to avoid this or any other health risk through good hygiene. Wash your hands. Cover your mouth when you cough. Eat well, exercise, and get plenty of sleep.

 

But do not let the breaking news directly impact your investment stamina.

 

If you’re already following an evidence-based investment strategy …

In other words, it may feel counterintuitive, but leaving your existing portfolio exposed to the risks wrought by a widespread epidemic is already part of the plan. All you need do is follow it.

Admittedly, that’s often easier said than done. Here are a few reminders on why sticking with your existing investment plan remains your best financial “treatment.”

Markets endure. We by no means wish to downplay the socioeconomic suffering coronavirus has created. But even in relatively recent memory, we’ve endured similar events – from SARS, to Zika, to Ebola. Each is terrible, tragic, and frightening as it plays out. But each time, markets have moved on. Whether coronavirus spreads further or we can quickly tamp it down, overwhelming historical evidence suggests capital markets will once again endure.

“Journalists who reported flights that didn’t crash or crops that didn’t fail would quickly lose their jobs. Stories about gradual improvements rarely make the front page even when they occur on a dramatic scale and impact millions of people.”
— Hans Rosling

 

The risk is already priced in. The latest news on coronavirus is unfolding far too fast for any one investor to react to it … but not nearly fast enough to keep up with highly efficient markets. As each new piece of news is released, markets nearly instantly reflect it in new prices. So, if you decide to sell your holdings in response to bad news, you’ll do so at a price already discounted to reflect it. In short, you’ll lock in a loss, rather than ride out the storm.

 

“I’m assuming there will be no apocalypse. And that’s almost always, if not quite always, a good assumption.” — John C. Bogle

 

If you’re not invested, your investments can’t recover. Few of us make it through our days without enduring the occasional moderate to severe ailment. Once we recover, it feels so good to be “normal” again, we often experience a surge of energy. Similarly, markets are going to take a hit now and then. But with historical evidence as our guide, they’ll also often recover dramatically and without warning. If you exit the market to avoid the pain, you’re also quite likely to miss out on portions of the expected gain.

 

 “[T]he irony of obsessive loss aversion is that our worst fears become realized in our attempts to manage them.” — Daniel Crosby

 

Bottom line, market risks come in all shapes and sizes. This includes the financial and economic repercussions of a widespread virus, be it real or virtual. While it’s never fun to hunker down and tolerate risks as they play out, it likely remains your best course of action. Please let us know if we can help you maintain your investment plan at this time, or judiciously adjust your plan if you feel it no longer reflects your greater financial goals.

Why “Safe Harbors” Can Be Risky Business

We see it often: Whenever investors are spooked by turbulent times, dollars tend to flow out of the stock market, and into “safe harbor” investments such as bonds, bond funds, CDs, money markets, or even cash.

For example, while the S&P 500 was up nearly 25% for the year as of mid-November, an October 2019 CNBC article reported that $322 billion had recently flowed into money market funds “at the highest rate since the financial crisis.” The author suggested, “Facing a constant drumbeat of headline risk, investors have headed to the mattresses as a way [to] protect cash until the storms clear.”

As part of your overall investment strategy, it usually makes sense to allocate some of your wealth to safe harbor holdings. But too much “safety” can actually put your wealth at risk. Today, we’ll explore why this is so.

The Ups and Downs of Volatility Risk

Even in calmer times, we tend to think of fixed income as “safer,” and equities or stocks as “riskier.” These labels are relatively accurate … if we’re talking about volatility. That is, even if an investment grows over time, how wildly will its price swing up and down along the way?

 

Fixed income is less volatile.

A high-quality bond or similar holding priced at $100 today will probably be priced around the same a year from now, give or take a few dollars.

 

Equity is more volatile.

In contrast, it’s much closer to anybody’s guess what an individual stock might be trading for a year from now. You might catch a wave and see your investment surge. But your holding could also be worth considerably less, or even become worthless.

As such, it’s usually wise to protect against volatility risk for the assets you’ll need for the next 1–5 years or so. But make no mistake about what you’re also doing when you seek a safe harbor: By protecting a holding from losing much in value, you’re also effectively eliminating the chance it will gain much either.

In other words, volatility contains both upside opportunities and downside risks. As such, a safe harbor is only partially safe – because volatility risk is not the only risk around. In fact, we would argue long-term investors face an even greater one: inflation.

 

Volatility Fades

Again, it’s important to prepare for upcoming spending goals by protecting against volatility. What if you’ve got college costs, or a home purchase, or similar expenses looming? If a bear market happens to roar in at just the wrong time, you don’t want downward volatility to eat into the assets you’re depending on for these near-term needs.

On the other hand, volatility risk is far less of a concern for distant spending plans. It’s largely expected to fade when viewed across longer timeframes. Here’s a helpful analogy for comparing the stock market’s expected long-term growth versus its near-term volatility:

 

“It’s like a man walking up a big hill with a yo-yo and keeping his eyes fixed on the yo-yo instead of the hill.” – Alan Abelson

 

The Behavioral Investor author Daniel Crosby provides a more empirical illustration: “Greg Davies shows that if you check your [stock] account daily, you’ll experience a loss just over 41% of the time. … Look once every five years and you would have only experienced a loss about 12% of the time and those peeking every 12 years would never have seen a loss.”

If you have the time (and emotional stamina) to tolerate the market’s volatility’s risks, you can expect to benefit from its uphill climb. In contrast, reacting to a volatile “yo-yo” is only expected to distract you from your financial journey. This is important, because market growth is essential to combatting the other risk we’ve mentioned: the insidious impact of inflation.

 

Inflation Is Forever

Why do we save and invest? You SAVE money you don’t need today for future spending. You INVEST some of your savings to maintain, if not strengthen your reserves. Typically, the goal is to maintain, if not improve on your lifestyle.

Why not just sit in cash or its equivalent? After all, if you stash $100 in a sturdy lock box, it’s highly likely to stay there. Even decades from now, it should still have a $100 face value.

But there’s a catch. Inflation virtually guarantees that this same $100 won’t buy you as much in the future. According to this handy Consumer Price Index calculator, a $100 purchase made 20 years ago would now set you back about $153.

A degree of inflation is actually built into a healthy economy. For example, the U.S. Federal Reserve targets an annual inflation rate of around 2% to achieve price stability. That’s why it’s usually wise to invest savings you won’t need for a while – and keep them invested. The more you allocate to “safe” investments, the more likely inflation will diminish your spending power. The more you allocate to low-cost, globally diversified index or index-like stock funds, the more effectively you can combat inflation risk – if you ignore the yo-yo throughout the journey.

How do you determine the right balance between safe-harbor holdings vs. sources of expected return? As important, once you’ve got an appropriate investment portfolio in place, how can you minimize the temptation to react to scary market news? By no coincidence, both of these queries are exactly what we’re here for. We are guided by the evidence, and dedicated to serving your highest financial interests in a fiduciary relationship. Please let us know if we can tell you more.

What Is Asset Allocation?

Asset allocation. It’s so ingrained in how we manage our clients’ investment portfolios, we talk about it all the time. But what is it? What are assets, and what happens when you allocate them?

Asset Allocation: A Classy Subject

Big picture, an asset is anything beneficial you have or have coming to you. For our purposes, it’s anything of value in your investment portfolio. After bundling your investable assets into asset classes, we allocate, or assign, each asset class a particular role in your portfolio.

To offer an analogy, allocating your portfolio into different asset classes is similar to storing your clothes according to their roles (pants, shirts, shoes, etc.), instead of just leaving them in a big pile in your closet. You may also further sort your wardrobe by style, so you can create ideal ensembles for your various purposes. Likewise, asset allocation helps us tailor your portfolio to best suit you – efficiently tilting your investments toward or away from various levels of market risks and expected returns. Your precise allocations are guided by your particular financial goals.

That’s it, really. If you stop reading here, you’ve already got the basics of asset allocation. Of course, given how much academic brainpower you’ll find behind these basics, there is a lot more we could cover. For now, let’s take a closer look at those asset classes.

Asset Classes, Defined

At the broadest level, asset classes typically include domestic, developed international, and emerging market versions of the following:

Just as you can further sort your wardrobe by style, each broad asset class (except for cash) can be further subdivided based on a set of factors, or expected sources of return. For example:

We can then mix and match these various factors into a rich, but manageable collection of asset classes – such as international small-cap stocks, intermediate government bonds, and so on.

Generally speaking, the riskier the asset class, the higher return you can expect to earn by investing in it over the long haul.

Asset Allocation, Implemented

To convert plans into action, we turn to select fund managers with low-costs fund families that track our targeted asset classes as accurately as possible. Sometimes a fund tracks a popular index that tracks the asset class; other times, asset classes are tracked more directly. Either way, the approach lets us turn a collection of risk/reward “building blocks” into a tightly constructed portfolio, with asset allocations optimized to reflect your investment plans.

The Origin of Asset Allocation

Who decides which asset classes to use, based on which market factors? To be honest, there is no universal consensus on THE correct answer to this complex and ever-evolving equation. As evidence-based practitioners, we turn to ongoing academic inquiry, professional collaboration, and our own analyses. Our goal is to identify allocations that seem to best explain how to achieve different outcomes with different portfolios. As such, we look for robust results that have:

Asset Allocation in Action

As we learn more, sometimes we can improve on past assumptions, even as the underlying tenets of asset allocation remain our dependable guide. Bottom line, by employing sensible, evidence-based asset allocation to reflect your unique financial goals (including your timelines and risk tolerances), you should be much better positioned to achieve those goals over time.

Asset allocation also offers a disciplined approach for staying on course toward your own goals through ever-volatile markets. This is more important than most people realize. As Dimensional Fund Advisor’s David Booth has observed, “Where people get killed is getting in and out of investments. They get halfway into something, lose confidence, and then try something else. It’s important to have a philosophy.”

So, now that you’re more familiar with asset allocation, we hope you’ll agree: Properly tailored, it’s a fitting strategy for any investor seeking to earn long-term market returns. Please let us know if we can tell you more.

An Homage to John “Jack” Bogle

We try to be in touch with you whenever markets are roiling or unsettling news may have you questioning your resolve as an investor. Today, we simply want to take a moment to step away from the daily turmoil, and honor the life of one giant man.

On January 16th, Vanguard founder John “Jack” Bogle, passed away at age 89 in his Bryn Mawr home.

Search the Internet for “Bogle” or browse any news source, and you’ll soon be immersed in a universal outpouring of respect for the man. Rightfully so. His lifetime of unblinking commitment to busting open the doors of Wall Street and tearing down its shibboleths is unmatched by anyone else we know.

Reducing costs, avoiding hyperactive trades, insisting on fiduciary, transparent financial care … These may seem obvious today. But it was in large part Bogle who conceived them all, and at times, was ridiculed for doing so. He did not care; he spoke up anyway, every chance he got.

This excerpt from The Philadelphia Inquirer, Bogle’s home-town paper, epitomizes our feelings:

“Jack could have been a multibillionaire on a par with Gates and Buffett,” said William Bernstein, an Oregon investment manager and author of 12 books on finance and economic history. Instead, he turned his company into one owned by its mutual funds, and in turn their investors, “that exists to provide its customers the lowest price. He basically chose to forgo an enormous fortune to do something right for millions of people. I don’t know any other story like it in American business history.”

As we each strive to bring meaning to our own lives, we may sometimes despair over whether we can overcome seemingly enormous challenges.

We can … you can. Bogle’s legacy makes that abundantly clear. Day by day, choice by choice, year after year, each of us accumulates patient, positive steps toward being our ideal self. Each of us matter. Together, we matter the most.

Six Financial Best Practices for 2019

So, are you ready to get a jump on 2019? Here are six financial best practices for the year ahead. Pick a few of them or take on the entire list. Either way, you’ll be that much further ahead by the time 2020 rolls around.

  1. Do nothing. If you have a well-built investment portfolio in place, guided by a relevant investment plan, your best move in hyperactive markets is to let that plan be your guide. That often means doing nothing new with your holdings. We list investment inaction as a top priority, because “nothing” can be one of the hardest things to (not) do when the rest of the market is in perpetual motion!
  2. Double down on your planning. That said, a “do nothing” approach to turbulent markets hinges on having that relevant plan in place, guiding your appropriately structured portfolio. A fresh new year can be a great time to tend to your investment plan – or create one, if you’ve not yet done so. Have any of your personal goals changed, or will they soon? How might this impact your investment mix? Have market conditions put your portfolio ahead of or behind schedule? Are you unsure where you stand to begin with? It’s time well-spent to periodically ensure your plan remains relevant to you and your personal circumstances.
  3. Prepare for the unknown with a rainy-day fund. Time will tell whether 2019 markets are friendly, foul, or (if it’s a typical year) an unsettling mix of both. Having enough liquid, rainy-day reserves to tide you through any rough patches is a best practice no matter what lies ahead. Knowing your near-term spending needs are covered should help with both the practical and emotional challenges involved in leaving the rest of your portfolio fully invested as planned, even if the markets take a turn for the worse.
  4. Redirect your energy to contributing financial factors. While you’re busy staying the course with your investments, you can redirect your attention to any number of related financial and advanced planning activities. While you don’t necessarily need to act on everything at once, it’s worth reviewing your financial landscape approximately annually, and identifying areas in need of attention. Maybe you’ve got a debt load you’d like to reduce, or an estate plan that’s no longer relevant. Perhaps it’s been too long since you’ve reviewed your insurance line-up, or you’d like to revisit your philanthropic goals in the context of the latest tax laws. Refreshing any or all of these items is likely to contribute more to your financial success than will fussing over the stock market’s daily gyrations.
  5. Perform a cybersecurity audit. Protecting yourself against cybercriminals is another excellent use of your time. With the new year, consider revisiting a few basic, protective steps, such as: changing key passwords on your most sensitive login accounts; reviewing your credit reports (using AnnualCreditReport.com); and placing a freeze on your credit file, to block unauthorized access (now free, based on recently enacted federal law). Especially with child identity theft on the rise, these actions apply to your entire household. Unfortunately, even minor children are now at heightened risk.
  6. Have “that money talk” with your kids, your parents, or both. Speaking of your kids, when is the last time you’ve held any conversations about your family wealth? It’s never too soon to begin preparing your minor children for a financially literate adulthood. As they mature, their financial independence rarely happens by accident, with additional in-depth conversations in order. Then, as you and your parents age, you and your kids must prepare to step in and assist if dementia, disability or death take their tolls. There also can be ongoing conversations related to any legacy you’d like to leave as a family. For all these considerations and more, an annual “money talk” can be critical to successful outcomes.

So, there you have it: Six creative ways to bolster your financial well-being while the stock market does whatever it will in the year ahead. While this list is by no means exhaustive, we hope you’ll find it an approachable number to take on … with two critical caveats.

First, we’ve got a bonus “financial best practice” to add to the list:

Above all else, remember what your money is for.

Money is meant to fund your moments of meaning.

So, be it resolved for the year ahead: Next time you find your stomach tightening at the latest frightening or exciting financial news, tune it out. Walk away. Go do something you love, with those whose company you cherish. Circling back to our first call to inaction, not only will this feel better, it’s likely to be better for your financial well-being.

Second, we recognize that each of these “easy” best practices aren’t always so easy to implement. We could readily write pages and pages on how to tackle each one.

But instead of writing about them, we’d love to help you do them. At Hiley Hunt, we work with families every day and over the years to convert their dreams into plans, and their plans into achievements. We hope you’ll be in touch in the new year, so we can do the same for you.

What Is the Yield Curve?

The yield curve is flattening (or growing steeper)! … Yield curve spreads are widening (or narrowing)! … The yield curve has inverted (or normalized)!

Headline-grabbing yield curve commentary somehow sounds important, doesn’t it? But what is a yield curve to begin with, and what does it have to do with you and your investments?

A Tour Around the Curve

Yield curves typically depict the various yields across the range of maturities for a particular bond class. For example, Figure 1 would inform us that a U.S. Treasury bond with a 5-year maturity was yielding 2.4% annually, while a 30-year Treasury bond was yielding 3.4%.

Image 1

For illustration only; actual numbers may vary.

 

Bond class – A bond class or type is typically defined by its credit quality. Backed by the full faith of the U.S. government, U.S. Treasury yield curves are among the most frequently referenced, and often the high-quality benchmark against which other bond types are compared – such as municipal bonds, corporate bonds, or other government instruments.

Term/Maturity – The data points along the bottom X axis of a yield curve represent various terms available for a bond class. The term is the length of time you’d need to hold a bond before your loan matures and you should receive your initial investment back.

Yield – The data points along the vertical Y axis represent the interest rate, or yield to maturity currently being offered – such as 2% per year, 3% per year, and so on. The yield curve for any given bond class changes every time its yields change … which can be frequently.

Spread – The spread is the difference between the annual yields on two bond maturities. So, in Figure 1, there’s a 1% spread between 5-year (2.4%) and 30-year (3.4%) Treasury bond yields.

Define “Normal”

Next, let’s look at the curve itself – i.e., the line that connects the data points just discussed.

 The shape of the yield curve helps us see the relationship between various term/yield combinations available for any given bond class at any given point in time.

Just as our body temperature is optimal around 98.6°F (37°C), there’s a preferred equilibrium between bond market terms and yields. “Normal” occurs when short-term bonds are yielding less than their longer-term counterparts. Under normal economic conditions, investors expect to be compensated with a term premium for taking the incremental risk of owning longer maturities. They’re accepting more uncertainty about how current prices will compare to future possibilities. Conversely, they’ll accept lower rates for shorter-term instruments, offering greater certainty.

At the same time, evidence suggests there’s often a law of diminishing returns at play. Typically, the further out you go on the yield curve, the less extra yield is available. Thus, Figure 1 depicts a relatively normal yield curve, with a bigger jump to higher returns early in the curve (a steeper spread) and a more gradual ascent (narrower spread) as you move outward in time.

Variations on the Curve

If Figure 1 depicts a normal yield curve, what happens when things aren’t so normal, which is so often the case in our fast-moving markets?

 The shape of the yield curve essentially reflects evolving investor sentiments
about unfolding economic conditions.

In short, expectations theory suggests that the yield curve reflects investor expectations of future interest rates at any given point in time. Thus, if investors in aggregate expect rates to rise (fall), the yield curve will slope upward (downward). If they expect rates to remain unchanged, it will be flat. Figure 2 depicts three different curve shapes that can result.

Image 2

For illustration only; actual curve shapes may vary.

 

You, the Yield Curve and Your Investments

It’s rare for the yield curve to invert, with long-term yields dropping lower than short-term. But it happens. This typically is the result of the Federal Reserve (or another country’s central bank) tightening monetary policy, i.e., driving up short-term rates to fight inflation. An inverted yield curve is often followed by a recession – although not always, and not always universally.

Does this mean you should head for the hills if the yield curve inverts or takes on other “abnormal” shapes? Probably not. At least not in reaction to this single economic indicator.

As with any other data source, bond yield curves are best employed to inform and sustain your durable, evidence-based investment plans, rather than to tempt you into abandoning those plans every time bond rates make a move. Big picture, this typically means investing in bonds that offer the highest yield for the least amount of term, credit and call risk. (Call risk is realized if the bond issuer “calls” or pays off their bond before it matures, which usually forces the bond’s investors to accept lower rates if they want to remain invested in the bond market.)

The yield curve is an important tool for determining how to efficiently execute this greater goal. It helps explain why we typically recommend holding only high-quality bonds, minimizing call risk, and usually striking a balanced middle ground between short-term versus long-term bonds. Similar principles apply, whether investing directly in individual bonds or via bond funds.

In short, it’s fine to consider the yield curve, but it’s best to look past it to the distant horizon as you invest toward your steadfast financial goals. We hope you’ll be in touch if we can tell you more about how fixed income/bond investing best fits into that greater context.

Second Quarter 2018 Update

Second quarter has come and gone, along with the usual mixed bag of “what next?” news. There were the typical ugly players such as potential trade wars and rising interest rates. There were also the usual market darlings, such as this quarter’s big, bold tech stocks. Each in their own way can tempt you to cringe or veer off-course.

We hope you’ll avoid reacting to recent news. At the same time, we understand how hard that can sometimes be. No matter how often we’re faced with uncertainty or how well we think we’ve prepared for it, new threats and opportunities have real ramifications in our lives; it’s natural to wonder whether “this time” they should also influence our investment decisions.

The decades and volumes of robust evidence advising our approach still suggests otherwise. To best pursue your personal goals, we must continue to consider the latest news within the greater context of how global capital markets have delivered their eventual returns.

Our rational selves understand this. But, as Georgetown University finance professor James Angel observed in a recent Wall Street Journal article, “One of the open secrets of the financial-services world is that we’re also in the entertainment and gaming industry.”

Building and maintaining a globally diversified portfolio is usually neither fun nor entertaining. It’s mostly just boring to stick to a well-crafted investment portfolio, year in, year out.

Here’s a fun stat to remember next time you’re tempted to bet against the proverbial house by guessing where the market is headed next (emphasis ours): “Since 1928, the [U.S.] stock market has risen on 54% of days, 58% of months and 73% of years.”

This comes from the same WSJ article, along with this important observation: “The distinction between an investment and a gamble lies in the odds of success.”

Our goal is to keep those investment odds in your favor. It may not be as entertaining, nor is success guaranteed, but all evidence suggests you’re best off investing in the house and its expected favorable outcomes, rather than placing concentrated bets on every hand played.

As always, please be in touch any time we can help you explore current market returns as they relate to your financial goals – or with anything else that may be on your mind. One sure bet you can make: We’re always happy to hear from you!

An Evidence-Based Approach to Sustainable Investing Part I: Setting the Sustainable Stage

If there’s one trait most of us share, it’s a desire to make the world a better place. No wonder there’s so much interest in sustainable investing. Who wouldn’t want to try to earn decent if not stellar returns, while contributing – or at least causing less harm – to the greater good?

But what is the greater good? What is a decent return? How do we make it all happen? Financial history leaves us optimistic that, over time, best practices are likely to emerge out of the bubbling brew that is our capital markets. For those who would rather not wait, it can be hard to identify a clear path forward. As a relatively new and fast-growing field, sustainable investing is crowded with opportunities and challenges, perspectives and priorities, strategies and terminology.

Let’s bring today’s sustainable investing into tighter focus.

Sensible Sustainability

As we grapple with integrating subjective values into objective financial planning, we are inspired by “Doing Good Better” author William MacAskill: “I believe that by combining the heart and the head – by applying data and reason to altruistic acts – we can turn our good intentions into astonishingly good outcomes.”

Let’s be clear: We are NOT here to direct your personal moral compass. Rather, we’d like to offer objective insights, rooted in our evidence-based investment approach. An evidence-based outlook helps confirm when a theory appears to be robust in reality. It also suggests when a promising plan may not pencil out as hoped for – no matter how well-intended it may be.

Equipped with solid evidence in an often emotionally charged arena, you will be better positioned to make the rational choices and informed decisions that best fit you, your heartfelt values, and your financial goals.

A Tangle of Terminology

First things first. While you’re likely to find various terms sharing similar definitions in this crowded field, we’ll refer to the broad subject as “sustainable investing.”

Call it what you will, recent research has found that different investors embrace sustainable investing for different reasons. Your own priorities govern the type of sustainable investing that should best align with your personal goals:

Next Up: Degrees of “Doing Good”

Today’s piece sets the sustainable stage. We introduced a few key terms and summarized how sustainable investment priorities may vary depending on individual goals. In our next piece, we’ll explore how to quantify something as potentially subjective as “doing good.” We’ll also share some ideas on how to invest in ways that best balance your financial goals with your personal values.

Until then … be good.