Retirement 3.0

As Kimberly and the kids will tell you, I'm not known for being succinct, so I have challenged myself to get to the point…  Culturally, the very meaning of “retirement” is changing out of necessity and desire, and I don't think that's a bad thing.

Before 1930, people generally worked until they died - "retirement" per se didn't exist.  From 1930 to 1970, retirees began living longer, and the notion of “retiring” became part of our culture.  From 1975 to 2010, as more cruise lines and golf courses marketed to them, people came to view “retirement” as an “entitled period of leisure”.  Today, life expectancy continues to increase, but many can no longer afford a long, luxurious retirement, and a large number are re-examining their preconceived notion of “retirement”.

So, welcome to “Retirement 3.0”, which seems to be a nice medium between the extremes.  54% see it as a new chapter in life.  Many are delaying “retirement” due to financial considerations or concern about personal relevance.  Even more (about two-thirds) expect to remain productive, active, and involved instead of just giving in totally to a life of leisure.  While medical advances are enabling our bodies to live longer, people live healthier if they remain engaged and have a purpose.

While we work to help our clients gain “financial freedom”, we also encourage them to remain engaged and active.  “Financial freedom” is getting to the stage financially where you can have more control over your time and don’t necessarily have to have a full-time job.  But, if you are passionate about what you do, are contributing, and feel relevant, it's not really “work”.  (Note: even better if you’re getting paid for it!)  This notion of “Retirement 3.0” reflects more of a graceful “wind-down” than a screeching halt.

So, as the new year approaches, try to shape your view of “Retirement 3.0”.  What would it take to enable you to achieve your “financial freedom”?  How will you remain engaged and purposeful?  Let us know if we can help you think this through.

Wrangling Over a Phantom Stimulus

The headlines are screaming again, this time about the Capitol Hill controversy over payroll tax cuts. And, as usual, there is more to the story than what you're reading.

First the good news. Earlier reports said that a stalemate on the tax cut would shut down the government, but before the Senate went home for the holidays, it passed a separate bill that finances the government through next September.

Better news: by all reports, Republicans and Democrats were--and are--in general agreement that there should be some kind of stimulus to the still-recovering economy, and the biggest, least-stimulated sector is consumer spending. The Republicans argued for more tax relief for the wealthiest Americans, and want to reduce pollution controls and force the President to approve the proposed Keystone XL pipeline, which would deliver oil from tar sands in Alberta, Canada to refineries in Texas. Meanwhile, the Democrats wanted a broad-based stimulus measure that would put spending money in the hands of more mainstream American consumers. And they supported environmentalist opposition to the pipeline and the pollution proposals.

Naturally, the two sides couldn't agree on a compromise, so the Senate, by an overwhelming majority, kicked the can down the road for two months by agreeing to continue the reduction in Social Security taxes from 6.2% to 4.2% until Congress could get back in session early next year.

It seems clear that the Senators expected their colleagues in the House of Representatives to follow this simple solution as they’ve already left town! But, nothing is simple in this partisan political atmosphere, and the House (for now, at least) has rejected the measure.

There are several interesting complexities here that should have gotten more attention. One of them is the problems that this wrangling has created for employers, who will have to scramble at the last minute to change their payroll systems to reflect either the 6.2% rate or the 4.2% rate. Which will it be? Who knows? All anybody knows for sure is that the withholding amount will need to be correct starting January 1, and the National Payroll Reporting Consortium has already said that, as a result of the brinkmanship, there is now not enough notice to accommodate any changes that quickly.

Of course, if and when the whole issue is taken up at the end of the proposed two-month extension, companies would face exactly the same dilemma. Chalk this up to a Congress that is oblivious to the consequences of its actions on the business community--especially small businesses.

Behind the scenes, there are other dramas. One involves the very complicated way that the Social Security tax reduction is structured. Reducing the payroll tax would obviously reduce the flow of money into the Social Security trust fund, which is famously experiencing solvency troubles of its own. Neither side wanted to be seen as making the entitlement mess any worse, so the stopgap bill would have had the U.S. Treasury pick up the payments--a sideways accounting move that has no real substance. The bill also prevents doctors who accept Medicare payments from receiving a 27% reduction in reimbursement payments, which would weaken the financial stability of another entitlement program; so, the Treasury will pay that out of its pocket as well.

But, the surprising thing here is that this is actually a revenue-neutral piece of legislation. The Treasury coffers would be replenished through a side door that nobody seems to have noticed. Title IV, entitled "Mortgage Fees and Premiums," would have raised the amount that Fannie Mae and Freddie Mac--the organizations that back a majority of home loans in the U.S.--would collect in mortgage fees after January 2012. In all, the raised mortgage fees--which would increase the cost of homeownership at a time when the housing market is staggering--would pay for the two month extension of the payroll tax cut (estimated at $20 billion) plus two months of additional jobless benefits for 2.5 million out-of-work Americans (an estimated $8.4 billion) and two months of added Medicare reimbursements (an estimated $6.6 billion).

It certainly is interesting math. Even more interesting that the stimulus is coming at a cost to the next two big fiscal issues for the U.S. – Medicare and Social Security. Our elected officials created a band-aid solution for the debt problem and are now working to create two larger crises (which are already issues they’ve neglected to address). Clearly, they can’t see beyond their next election and address the big issues our country needs. Hopefully, we will all remember this come next November…

Time-Out

"Time-Out" is a method many adults use with children who need a few moments to regain composure before returning to an activity that had been causing them some kind of stress (i.e. toy sharing, not winning, etc). While this may be an effective re-directive "pause" for children, I suggest to you that it is NOT an effective investment strategy. Active market-timers will disagree with me vehemently (after all, exorbitant fund fees must be justified somehow). However, since I don't pretend to be able to predict the future (earthquakes, political unrest, terrorist attacks, cataclysmic weather events, dishonest business schemes), it follows that I couldn't possibly predict the largest swings - in both directions - the markets will bear. So, for your friends and neighbors that may get antsy about "this time it's different - let's change our investment strategy mid-stream," I would turn their attention to the summary below and suggest that a "time-out" of the market would need to be followed by an insightful (magic?) time and trigger to get back in. Although the holiday season is quite magical in many ways, I'm not willing to risk our client's investment portfolios - and more importantly their goals - on insight that no one can possibly, sustainably possess.

Let's say you're looking at a stock market that has lost 81% over the past 2.7 years during a time of severe economic contraction. The headlines are not encouraging: the country is mired in depression, and so, too, is the rest of the world. Are you feeling bullish, or is this a great time to unload your stocks and stop the bleeding?

If you decided to unload, then you would have missed at least some of the dramatic market increases that started in 1937--4.7 years of annualized 32.1% gains, for a total gain of 266%.

Okay, suppose the market has dropped a total of 63% over a torturous 13.6 year period, and Business Week magazine has just proclaimed "The Death of Equities." Buy? Sell?

Again, the correct answer would have been "buy." After 1982, the S&P 500 gained a remarkable 666% over the next 18 years.

The accompanying chart, created by Doug Short for the Advisor Perspective services, shows a number of market ups (blue) and downs (red) since 1871, and the thing you notice is that virtually every major market move, up or down, was unexpected. The bull markets came as a surprise, and the bear markets came at times when the markets seemed to be on a long-term roll. (The scale here is logarithmic, which means that if the chart were expressed in absolute terms, the long-term rise would look much steeper.)

In truth, the decision that faced most investors in 1921 (market down 69% over the previous 15 years) or 1949 (market down 54% over the previous 12 years) was not whether to make some kind of dramatic move into stocks. The decision, made daily as the newspaper carried discouraging news over and over again, was whether to stay invested in stocks and eventually reap the gains (396% and 413% respectively) that nobody could have predicted in advance.

The most important long-term statistic to come out of this analysis may be the dramatically different size of the gains and losses. Taken together, the various bulls since the market trough in 1877 brought investors gains of 2,075%--an average of a 415% gain per bull market. The bear markets, in aggregate, cost investors 329%--an average downturn of 65%.

Nobody knows when the markets are going to suddenly take off after a bearish period, and the longer and deeper and more discouraging the downturn gets, the less likely the next bull market seems. But, history suggests that patient investors get more return during market upturns than they lose when the markets drop. Long-term, trying to outsmart the market and sidestep losses would have led to missing even bigger gains.

Having a plan doesn't mean it should not be adjusted over time, but it does mean it shouldn't be adjusted regularly because of CNN Headlines News.

Occupy Wall Street - the Big Picture

My step-son asked last week what this "Occupy Wall Street thing" was all about. He's a Boy Scout so the “tent cities” on the news caught his eye. I mumbled something about it was a grass-roots effort to bring attention and correction to the corruption in many of our financial institutions. I've spared him the longer answer that follows (for which I know he's very grateful!), but I look forward to a day when I can revisit this topic with him. I'm hopeful that in that conversation I can explain to him that an across-the-board fiduciary standard (one like Pauley Financial adopted 16 years ago) is the only way out of this mess. I know we cannot legislate morality, but we can at least set the bar high. The bar is currently being set now by the very same people profiting from setting it low. There's a saying about a fox and chicken coop that comes to mind...

If you look hard enough, you can find a lot of silliness in the Occupy Wall Street movement. This is unfortunate because, somewhere behind the tents and weird finger communications and alleged drug use, there's a real story to be told. And the story seems to be bigger than the media can get its arms around.

For example? Financial insiders and those of us in the financial planning profession have watched the brokerage industry fight furiously--and successfully--against having to register their brokers with the Securities and Exchange Commission as registered investment advisors. Why? Because that would require the registered brokers to give advice that puts the interests of their customers ahead of their own and also (quel horreur!) ahead of the companies that employ them.

Perhaps more to the point, those of us in the financial profession have to live with the fact that the major Wall Street firms are rarely held accountable for crimes and other actions that would be severely punished if you or I committed them.

Such as? Consider the recent settlement of an enforcement case that goes back to the 2008 market meltdown. The Wall Street Journal reported that U.S. District Court Judge Jed S. Rakoff is questioning how diligently the U.S. Securities and Exchange Commission enforced securities law when it investigated Citigroup (parent company of brokerage giant Smith Barney – and, one of those “too big to fail” companies) regarding its sale of some of those infamous toxic mortgage-based debt instruments. Smith Barney brokers were selling the subprime mortgage instruments to their customers as highly-rated, safe bond instruments at the same time that the company's traders were betting heavily that the same packaged bonds would spiral down the toilet. In internal e-mails, one chortling trader described betting against the investments the company was selling, at a commission, to its customers as "The best short ever!!"

This once-in-a-lifetime short bet, combined with selling the dog investments in the first place, resulted in what the SEC estimated to be $160 million in fees and trading profits to Citigroup's bottom line. The SEC's proposed fine, questioned by the judge: $95 million. The math is, to say the least, “interesting.”

It gets worse. In the SEC's boilerplate language when it settles with major Wall Street firms, Citigroup and Smith Barney were allowed to neither admit nor deny the charges that they would be paying fines to settle. Judge Rakoff questioned whether there wasn't "an overriding public interest in determining whether the SEC's charges are true." Indeed.

Very little of these various issues are understood specifically by the people who are squabbling with police over whether they can pitch their tents in parks near the largest financial offices. The Occupy Wall Street crowd is acting on nothing more than a strong instinct that something is terribly wrong in America, and that the large banks are somehow at the center of the problem. The press can only seem to get its arms around little individual pieces of a very big picture.

What Wall Street fears more than anything else is a debate that asks whether much of what goes on in the largest investment banks--perhaps as much as 90% of it, based on current statistics--is doing our country and our economy more harm than good. Even more, it fears the idea that its hired representatives should have to give advice that primarily benefits their customers--which would immediately put an end to both the lucrative sales of creative new toxic securities and the revenue streams that would come from betting against them.

If we can start that debate in earnest, maybe the tents can come down. Or, at least, the people living in them could tell the reporters who cover them exactly what it is they're protesting.