Sometimes Stocks Aren’t Enough

Jan 31, 2022 David Kennon

Family Update

My good high school buddy came down for the weekend. I haven’t seen him in fifteen years or so. He looks the same except for some gray hairs. 

It was great to bond and show him around town. It is incredible how a friendship can continue as if no time has passed. 

The whole family went to Mote Marine together. The kids insisted that we get souvenirs. Ro got a small stuffed manatee. We named him Manny the Manatee. 

The kids really miss him. They got attached to him so fast. We sure hope he comes back down again.

 

Mary was a smart cookie. At a young age, she promised herself to start saving as much money as possible. In addition to contributing the maximum to her 401k, she made an effort to fill up her bank account.   At age 60 she had, not including her retirement accounts, nearly $700,000 in the bank.   One day, she got a call from her nephew. “Hi Aunt Mary. I have great news! I am starting a new landscaping business,” he said. “There is something I need to ask of you. I was hoping to borrow $100,000 for a bunch of equipment. I don’t even need the money for all that long. I will be able to pay you back in three years. The profits will pay off the equipment in three years or less. I also want to pay 5% interest on that loan. I think that is fair.”   Mary thought to herself, He has always been such a savvy businessman. Not to mention it would be great to make 5% on the money, instead of the 0.1% they are giving me at the bank.   So they drew up some legal documents and Mary gave her nephew money. Over the next three years, he faithfully paid her $5,000 a year in interest. At the end of three years, he made good on his promise and returned the original money back to Mary.   What you just read was a rudimentary example of a bond.   I’ve often found that people like you are obsessed with the stock market and pay very little attention to bonds. Nearly all of you, in addition to stocks, have money in bonds inside your portfolio.   Bonds are simple. They are a loan you give to a borrower, usually a government or large company.   Let’s say Coca-Cola needs money for a new bottling factor. They would issue bonds (loans) to the public. In this example, Coca-Cola is willing to pay 3% interest on the bond (loan) over five years, at which point they return the money. When a bond reaches the end of its term, it has “matured.”   Bonds are fantastic instruments to hold inside a portfolio. They are far less volatile and can smooth out the ups and downs of the markets.   Examples:   In 2020, bonds returned 7.51% and stocks returned 18%. In 2010, bonds returned 6.54% and stocks returned 6.45%. In 2000, bonds returned 11.63% and stocks lost -11.98% In 1990, bonds returned 8.96% and stocks lost -9.1%. In 1980 bonds returned 1.93% and stocks lost -4.92%.   I’m trying to show you some years where the stock market is down, so you can see the balancing power of bonds in your portfolio.   Let’s look at the year 2000. Let’s say you invested $100,000 into a 50/50 mix of stocks and bonds. The ending balance? $99,820. Even though the stock market lost 12% you came out equal. Not so bad is it?   Here’s an example where you can really see bonds can be a “shock absorber.” At the peak of the pandemic, stocks were down 34% but bonds increased by 8%. Often when stocks go down, bonds go up.   This is why you invest in a balanced and diversified portfolio of stocks and bonds.   Now let’s go back to the Mary example.   Now that Mary’s family realized that she had deep pockets, Uncle Bozo approached her about an opportunity. A condo project in Puerto Rico was looking for investors. Uncle Bozo told Mary, “I only need the money for one year. I’ll give you 10% interest for this short-term loan (bond).”   So Mary loaned Uncle Bozo $100,000.   Shortly after he gave the developers the money, a massive hurricane wiped out the half-built condos. Uncle Bozo was left with nothing.   Poor Mary. She’s out $100,000. And future family picnics are going to be awkward.   In other words, he had to default on the loan. Bonds work the same way. Let’s say you had purchased a bond from Blockbuster Video for expansion plans. They would have defaulted on the debt and you’d be left with nothing.   This comes back to why diversification is so important. Placing all your money in an individual bond is asking for trouble. In these examples, I am using the bond index which includes over 10,000 individual bonds.   There are different kinds of bonds:   U.S. Government Bonds (You are loaning money to the U.S. federal government)   Municipal Bonds (Loans to municipalities)   Corporate Bonds (Loans to companies)   International Bonds (Loans to companies and governments overseas)   In addition to the different kinds of bonds, bonds receive certain ratings.   The safer the bond the better the rating. When I say “safe,” it represents the chance of default.   So a AAA bond is practically guaranteed not to default. You get a lower interest on high-rated bonds because you are not taking on much risk.   A BBB bond indicates a very low probability of default. But since the default risk is higher than AAA-rated bonds, you will receive a higher interest rate.   A CCC-rated bond is a bond where there is a high possibility of default. These are also referred to as “high yield bonds” or “junk bonds.” You get a much higher interest rate on this kind of bond since you are taking on so much risk.   Bond yields are tied to interest rates. Right now, bonds do not pay much interest, historically speaking. But it is reasonable to say that, in the long run, a bond portfolio will return an average of 2-4% between now and the end of your life.   I’m going to close today’s newsletter with a joke.   What is the difference between a teenage guitar player and government bonds?   Government bonds mature over time and earn money.   Be Blessed,   Dave   P.S. Are there any topics you would like covered in future articles? Reply to this email with your answers.

 

This Secret Tricked Me for 15 years

Jan 24, 2022 David Kennon

Family Update My wife and I have been going to the bird sanctuary on Palmer Drive (the old celery fields). It is truly spectacular. People travel from all over the world to see these exotic birds.   The sound is memorizing. Just hundreds and hundreds of birds singing in harmony. We suggest early morning for the best show.   My friend from high school is visiting me this weekend. The kids are fascinated. They can’t believe that daddy had friends when he was their age. I’m sure they will help me show him the sights of Sarasota.   Joe was an engineer and figured himself to be a pretty smart guy. He worked at an electrical plant in charge of quality control. He enjoyed his work, but as he reached his 50s he began to pay more attention to the stock market. Joe knew that as soon as he retired he would be relying on these instruments to fund the rest of his life.   He noticed an article in the Globe and Mail titled, “Bear markets ‘suck’ but investors shouldn’t worry about them too much.” The article, written by an equity strategist at JPMorgan, apparently had some important information.   The article began with: “We caution investors to expect a lower return relative to prior years.”   Let me interrupt my story for just a second. Yes, this is a real article. And no, you shouldn’t read it. I have heard this prediction every year for twenty years. Why should you expect lower returns when the stock market has, to an incredibly consistent degree, shown great growth for 200 years? It’s just a stupid statement.   Okay, back to the story.   Joe continued reading the article. “Our base case assumes some alleviation but in a manner that sustains economic activity into 2023. Earnings growth provides the main tailwind to equities. Our 5,100 S&P 500 target implies a 23.1x P/E on the top-down earnings projection, which approximates the current level. Gradual supply-chain relief should favor the more economically sensitive Value style“Earning growth provides the main tailwind in equities.”   Hmmm, thought Joe. This is pretty sophisticated. I need to follow these articles. It’s important that I understand this stuff.    Joe started to follow JPMorgan’s analysts. These guys are smart. I need to really study more, thought Joe.   There was a JPMorgan branch downtown, near where Joe worked. He decided to stop by and see what they had to say.   They sat him right down in an advisor’s office where the advisor began talking about JPMorgan and their research capabilities.   He said, “Our interest rate strategists forecast a continued rise in real interest rates that will lift the nominal 10-year Treasury yield to 2% by year-end 2022. However, we expect the ERP [equity risk premium] to compress modestly from current levels as the pandemic recovery continues and economic policy uncertainty surrounding potential reconciliation legislation passes.”   Joe’s eyes lit up. This is great! They can help me. It is so hard to understand, he thought. I’m sure these guys work with multi-millionaires. I’m so glad they are willing to work with me.    So Joe took his investments and signed them over to JPMorgan.   End of Story   I have a secret. A secret that took me fifteen years to figure out. A secret that is so well-hidden that few people ever understand it.   These investment firms intentionally make this complicated.    Joe’s experience is exactly what they were aiming for. Because, at the end of the day, JPMorgan started collecting some significant fees from his account. (It’s well worth it, thought Joe. As long as they can make me more money)   What these guys are saying literally means nothing. It’s gobbledygook.   What if they said, “A diversified portfolio of stocks and bonds will serve you well over time. You need to stick to a plan.”   While it’s an accurate statement, how is JPMorgan going to attract new clients? They look the same as everyone else. They have to sound fancy. They have to make it complicated.   With my own clients I utilize understandable, long-term strategies that work. A diversified and balanced portfolio of stocks and bonds works. Period.   Now I don’t think these analysts and mutual fund managers have evil motives. I’m sure that they genuinely think they are helping people. I’m sure they believe that people who put money into their mutual funds will make more money. But these people don’t make more money. There is ample academic evidence to prove this point.   It really is a bad situation. Financial institutions know that they can make a lot of money from your portfolio. They will do anything they can do to get their fees. It creates this massive world of financial advice that is contradictory and overly complex.   CNBC figured out that people, trying to understand their investments more, will watch its channel all day. CNBC couldn’t care less if its “advice” helps you.   That’s right. There is no reason for CNBC to exist. I know this might be a shock, but it is true.   There is no reason for Money magazine to exist. They are just taking advantage of the same situation. If people are confused, they will buy a magazine titled, “Top 10 Mutual Funds for Retirement Income.”   Money magazine makes money. Mutual fund companies make money. You do not. You get more confused and make more emotional decisions.   The whole thing is a complete mess. And there is no way to fix it (unless you read my book and read these newsletters). Heck, I’d give these books away for free if it helped someone escape this fate.   Going forward, if you hear anything like this, you can laugh and say, “I’m on to you.”   Be Blessed,   Dave

 

How Financial Institutions Rob You Blind

Jan 18, 2022 David Kennon

Family Update   My Mom is in town from Pittsburgh to watch my daughter play basketball. She loves biking around the old neighborhoods with the huge old oak trees.   One night, we started talking about baking, and before you knew it, we were baking a pie. A blueberry-apple pie to be more exact. My Mom showed me the techniques taught to her by her mother, and her mother’s mother. The key is the lemon juice and cinnamon.   We’ve also started playing blackjack. My parents visit Las Vegas from time to time, and blackjack is their favorite game. I give each kid five dollars in chips which they can turn in for real money.   Usually, they only bet nickles and dimes, but when my daughter started better dollars she learned how fast five dollars can be gambled away. Pam Poundcake decided to retire in the winter of 2022. She’d enjoyed a rewarding career managing a fortune cookie factory for forty years. In 2021 there was a strange incident.   During a standard quality fortune check, she opened a cookie that read, “It’s time to retire. You’ve made fortune cookies long enough.”   That is a really long fortune, Pam thought to herself.  And specific.   Luckily, Pam made the fantastic decision to start investing at a young age into her 401k. She also made the smart move to put 100% of the money into the stock market.   Of course, Pam should have increased that contribution throughout the years but she never got around to it. Yet, her $200 a month contribution into her 401k, which she started at age 22, had blossomed into over a million dollars.   Pam’s coworker, Penelope, hadn’t saved for retirement at all and desperately tried to catch up in her fifties. Penelope saved $1000 a month from age fifty to sixty-two using the same investment strategy as Pam. After forty years of work (and twelve years of investing), Penelope ended up with around $250,000.   Wow! Pam exclaimed to herself. I’m sure am glad I listened to my parents to start saving early.    She put in her notice, and a month later she found herself embarking on a new stage of life. She finally took the time to sit down and really examine her finances.   My Social Security will be around $1800 a month. There is no way that is enough to pay the bills, thought Pam.   For the first time, she really started to study her portfolio. Even though she had invested into her retirement accounts for forty years, she never made any adjustments or paid any real attention to pull-backs in the market. (smart)   Now Pam felt a sick feeling in her stomach. I’m not making an income anymore. I have nothing to fall back on. If these investments crash, I don’t know what I would do.   Pam started looking into her options.  This is crazy, she thought, I have no idea how this stuff works. I just never took the time to educate myself while I was working.   Pam found herself at the same crossroads as most retirees. She never thought about her 401k until her income stopped. Suddenly she felt the need to make quick, defensive moves.   Why did she feel to need to make such a big move so quickly after retirement? There is no ticking clock. You can keep your money in your 401k as long as you like.   But there is no denying it: once your paycheck stops, the importance of your investments and savings magnifies significantly.   I’ve seen this story play out time and time again. Most people don’t give much attention to their 401k until they retire and then they pay a lot of attention.   If Pam had successfully invested for all of those years, why is she suddenly trying to reinvent the wheel?   Pam started looking around for retirement investing ideas.   Pam sat down with a broker to talk about some insurance products that protect your investments.   “Pam. The markets, long term, will be fine. But what if, in the first couple of years of your retirement, the markets crash? That throws off the whole calculation. If you need money early for retirement income, and the markets are temporarily down, it is almost impossible to recover,” he pointed out. (not true)   “Do I have the product for you,” he proclaimed. “This product is guaranteed.”   It sounds so good. It is such a compelling story. Except that the logic behind the sales pitch is misleading. If you take five percent of your portfolio each year, even if the stock market has a couple of bad years right away, it will not bankrupt you. It will not affect your long-term security. Market downturns recover so quickly and overall, stocks will do well.   These fancy products have at least three or four times the fees. There are steep penalties unless you stay there for 7-10 years.   I see this all of the time. Unsuspecting retirees meet with brokers that throw around the word “guarantees” like it is going out of style.   So Pam buys an annuity.   Five years later her friend introduces her to a friend who is a financial planner.   “Pam,” he says, “This kind of annuity is no good. I have a financial product that is even better at protecting your money.”   So Pam pays all kinds of penalties and ends up with a product that is (probably) even worse.   Three years later Pam gets frustrated with the abysmal returns of her new product. She goes to another financial advisor where she finally gets good advice.   “We are going to take you out of these expensive, restrictive products and put you into a diversified portfolio of stocks and bonds. There is nothing I can do with this money until you get out of this thing you were sold. You are going to have to pay more penalties. There really is no other way,” he told her correctly.   So she paid more fees back to the company who issued the old product.   Five years after that, her fiduciary advisor retires. Now what? Pam sighed. I finally found a guy I liked.   So the whole process starts again. She ping-pongs around different advisors and ends up in a worse position than before.   Think about all of this for a second. How in the world can you navigate these choppy waters for twenty or thirty years? Think about how many people will take advantage of Pam. It never ends. She has no chance.   Will you have good financial discernment when you are 82? or 92?? The salespeople will never stop knocking on your door.   It really is a difficult situation and I wish I had a good answer. There is so much money to be made by financial institutions. They will churn your money as much as possible. They will make so much noise that you won’t know whom to trust or what to do.   I usually try to write uplifting articles, but the forces I am battling are unbeatable. They just have too much money for me to have a strong voice.   So, please, read these newsletters each week, give your friend my book, and ignore everything you hear on TV. Those are your best weapons against these people. You can do it!   Be Blessed,   Dave

 

How I Steal My Clients’ Money

Jan 10, 2022 David Kennon

It was early on a Thursday morning when Mike and Connie King watched a documentary on Bernie Madoff, the notorious criminal who stole billions of dollars from investors. He was the king of the Ponzi scheme.   A Ponzi scheme is simple. ·     You invest money with someone. ·     They put the money in their own bank/investment account to spend on themselves. ·     If a client wants a small amount of money he just pays it out of his bank account. ·     If too many people want their money back the whole thing falls apart.   They’d been having breakfast in their kitchen with the TV on and discussing plans to play pickleball doubles with friends when the documentary grabbed their attention. Afterward, Connie was worried.   She turned to Martin and said, “We have all our money with a financial advisor too! It all seems so easy. All Bernie Madoff had to do was fake statements. He took all of those people’s money.”   “Honey, remember. We talked to our advisor about this exact concern. He explained how we were fine,” comforted Martin.   “How do we know he wasn’t lying? Bernie made everything look fine too. He faked statements, Martin, for years,“ Coretta said.   “Our advisor told us that our money was held at a bank, TD Ameritrade. We get statements from them every month and they have online access. It seems pretty legit to me,” responded Martin.   Coretta was not feeling any better. “I saw a TD Ameritrade branch over in Shelbyville. I’m driving over there now.”   Martin and Coretta raced over to the bank. As they got up to the teller, Coretta said, “We wanted to check on our account.”   “Of course,” replied the clerk. She pulled up the account and gave her a statement. It looked exactly like the ones she saw in the mail.   “Have you heard of any financial advisors running away with people’s money?” Corretta asked sheepishly. The teller looked confused. “I’ve never heard of that before.”   Martin and Coretta went out to lunch at Chick-fil-A. “Do you feel better?” asked Martin.   “I guess so,” answered Coretta. She was now thinking about all the ways she could lose her money.   “I know TD Ameritrade is a big bank and everything, but what if they go out of business?” Coretta sighed.   So Martin and Coretta went back to the bank again (Martin was getting a little frustrated). Coretta went up to the same teller and asked, “What happens if you guys go out of business? Do I lose all of my money then?”   This woman is pretty paranoid, thought the teller.   “No need to worry,” said the teller. “Brokerage firms and banks very very rarely have problems. Maybe once every few decades. And even if they do, you are not risking anything.   “Think about it this way. If you have stock certificates inside a safe deposit box inside a bank, what happens if the bank goes out of business? Do they open all the safe-deposit boxes and steal the contents? No. The owner of the safe deposit box goes into the bank and removes the contents. Your stocks are no different. They are held separately from the bank’s assets.”   Coretta breathed a deep sigh of relief. But as they drove home from the bank, Coretta couldn’t get the nervous feeling out of her chest.   “Maybe our investments are safe, but that still doesn’t mean we couldn’t lose our money if the stock market crashes,” Coretta said.   Martin, gripping the steering wheel tightly, responded, “Our advisor has been that through, too. Let’s go home and re-read one of his newsletters.”   So that is what they did.   Their advisor fancied himself an economic historian and often pointed out long-term historical results that were hard to ignore.   “Coretta,” Martin reassured his wife. “We have about half of our money in bonds and half of the money in stocks. Remember he told us that whenever stocks go down, bonds go up. Let’s look at his charts again.”   Results from: 50% Bond Aggregate Index (thousands of U.S. bonds) 50% S and P 500 Index (the 500 biggest companies in the U.S.)   1990 1.5% 1991 24% 1992 9.8% 1993 13.2% 1994 0% 1995 28.58% 1996 13.74% 1997 22.47% 1998 18.15% 1999 10.87% 2000 .15% 2001 2% 2002 -11.8% 2003 20.9% 2004 10.3% 2005 4.88% 2006 11.33% 2007 4.3% 2008 -20.81% 2009 24.64% 2010 11.59% 2011 7.34% 2012 13% 2013 15.55% 2014 11.95% 2015 .34% 2016 11.07% 2017 15.67% 2018 -3.50% 2019 23.28% 2020 12.87% 2021 13.42%   “That doesn’t seem too scary. I know we can’t guarantee the future but even during 2008, we would have only lost 20%. We’ve made a ton of money otherwise. Look at that! It’s only gone down three times in thirty years. We need to hang in there. Our advisor is right. The only way to be financially successful in retirement is to invest in stocks and bonds,” said Martin.   “Ok, I feel better, “Coretta said. “Let’s go play pickleball.”   Be Blessed,   Dave

 

Your Friends are Broke

Jan 3, 2022 David Kennon

This week I am going to give you a peek behind the curtain. Let’s take a look at what happens in my office, behind closed doors, when I meet with people much like you. Most of you have little perspective on other people’s financial lives because, frankly, nobody talks about their own finances to others. It is somewhat of a taboo subject.   I get to see your financial lives laid bare. Here are some of my observations after 20 years and thousands of meetings.   – Everybody thinks everybody else has a bunch of money. They don’t. Through my social security classes, I’ve sat down with countless people from every walk of life.   The top 5% have over $1,000,000, the top 20% have saved at least $500,000, and the top 40% possess $200,000 or more. A full 50% have limited retirement savings, but that doesn’t mean they are destitute. Some have pensions, some have equity in their home, and many find that living solely on social security is possible.   -Most Boomers are anxious about their retirement finances. I would say around 80-90% of the people with whom I’ve met would fall under that category. Studies show retirees worry more about running out of money than death.   -Men underestimate how difficult the transition from work to retirement can be. Women seem more relational and often adapt quickly to their post-work life. Men sometimes lose their identity and find themselves adrift, searching for a way to reinvent themselves. I find guys often need one to six months to adapt (some ladies too).   -Most assume that their retirement savings should be invested in stocks and bonds. But when it comes to excess cash savings I’ve discovered a completely different attitude. If you have a bunch of money sitting in the bank, you need to give serious consideration to investing some of that money as well. Just make sure the account is liquid and accessible. Investing is not relegated only to retirement accounts.   -Do you know that phenomenon where you tell your spouse to start eating healthier? Maybe you’ve been nagging him or her for years. They never do it.   And then you sit down with a doctor, who tells him/her to eat better, and they suddenly agree wholeheartedly and change their eating habits.  The financial version of that happens all the time in my office.   -Relationships matter. I can help you feel secure financially. I can help you live a more confident and empowered retirement. But without building relationships with friends and family, humans struggle.   -Money means less and less to you as you get older.   -I’ve only heard good things about European river cruises and trips to Alaska.   -A majority of people say to me, “I am embarrassed how little I understand all this investing and financial planning stuff.” If you feel this way, it’s okay. You’re certainly not alone.   – Whenever I ask someone, “How long do you think you will live?” They invariably think about how old their parents were when they passed.   I hear, “Well, my Dad lived to 89, and my Mom lived to 87, so I figure I’ll live to around then.” Or I hear, “Both my parents died in their early 60’s. I’m 65 now and I figure I am living on borrowed time.”   Medical advances have dramatically increased life expectancy. You can’t base your assumptions on your parents. You need to look at your own lifestyle and health history.   I will hear, “My parents died in their 50’s and now I’m in my 80’s. Never in a million years did I think I would live this long.”   Then again I’ve also heard, “I can’t believe he passed away so young, both his parents lived into their 90’s.”   -99% of the public falls for the “financial news.” Nobody has any idea when the next recession will come. Nobody knows if the stock market is going up or down this year. Ignore. Ignore. Ignore. Stay the course. Leave emotion out of your financial decisions. Put a plan in place and let it work.   There is it. All the behind-the-curtain secrets of a veteran financial advisor. I hope you learned something!   Be Blessed,   Dave