How Exercise Can Make You a Better Investor

There are a lot of parallels between getting in shape and being a successful investor. Both take time and consistent effort to achieve results. We’d love to have overnight, instant results, but that isn’t how life works!

Here are five key factors to an effective exercise program that you can apply directly to helping you achieve your financial goals. If you are already doing great with your workout program, why not apply that same process to getting your finances in shape?

1. One pound at a time. Your goal may be to lose 30 pounds, but you can’t lose 30 pounds at once. You have to take it one day at a time and lose the first pound, then the second, and so on. In investing, everyone wants to be a millionaire, but you have to save that first thousand dollars, then the next thousand and so on. You can’t just wish for it, you have to work for it.

2. Set a goal. Having a specific goal such as “lose 20 pounds by March 1” or “achieve a BMI of 15 by January 1” is better than a vague goal such as “get in better shape”. Otherwise, how will you know if you achieve your goal? How will you know if you are on track? What is your motivation and sense of urgency?

A long-term goal creates short-term steps. If you want to lose X pounds in X weeks, you might use an app like myfitnesspal to calculate how much you need to workout and how many calories you can eat in a day. Your goal determines a path and mileposts. For investing, if your goal is to have $500,000 in your 401(k) at retirement, how much would you need to save from each paycheck to make that happen?

3. Make good choices. When you have a fitness goal, some decisions, like eating half of a cheesecake for dinner, will put you further away from your goals and negate all the hard work you have been doing. Similarly, if you have a financial goal, spending $15,000 on a European vacation may be inconsistent with that goal. When your goal is more important than the eating or spending, you learn to make better choices.

That’s not to say that you can’t indulge from time to time, but you can’t let those choices derail your progress. If you view these choices as a sacrifice or as deprivation, you will resent your fitness or financial goals. You may find it easier to stick to the plan when you observe and celebrate the positive results you are achieving.

4. Create new habits. For a workout program to get results, you have to stick to it and have it become an unchangeable part of your routine. Maybe you workout Monday through Friday at 7:30 am before work. Or maybe you spend your lunch hour on Tuesday and Thursdays at the Gym and then workout on Saturday and Sunday mornings. Maybe you learn to watch TV without eating food at the same time!

The point is that you create new habits that will help achieve your goals. For investors, people are more likely to be successful when they put their saving on autopilot. Have that money come directly out of your paycheck into your 401(k). Start a Roth IRA and establish a monthly draw of $400 from your checking account. Set up a 529 college savings plan and even if you only start with $50 a month, get going today!

5. Human support. You are more likely to succeed in your fitness goals if you are part of a group or have a coach to make sure you actually get to the gym! They can motivate you, applaud your progress, and help you regroup after the inevitable frustration of temporary set-backs. When you go it alone, your weekend choices may not be as good as someone who has a weigh-in on Monday morning with their trainer. Having someone who supports you, who can lend an ear, and can also provide objective guidance will help you get there faster.

When it comes to investing, many people make the same excuses as they have for fitness: I am too busy, exercise is too expensive, it’s so boring, my career/family/hobby is takes all my time… And yet, many of the busiest, most successful people I know manage to find time to workout and stay in shape. When it is an important priority, you figure out how to make it happen.

If you want to get in better shape financially, apply what you know works for exercise. We can help you identify realistic goals and put into motion new habits to help you achieve your objectives. You will learn about finances and you might even find that you enjoy yourself! But most of all, you will know that you are doing the right thing today and that your future self will thank you for not waiting another year to get started. You can schedule your call online here.

Are You Making These 6 Market Timing Mistakes?

Market timing means moving in and out of the market or between assets based on a prediction of what the market will do. Given the extreme difficulty of predicting the future, market timing is frowned upon by most academics. Many studies have shown that the majority of investors who time the market under-perform those who stay invested.

Even though many people know intellectually that market timing is detrimental, it is actually pretty difficult to stay invested and not be influenced by market timing. Even for those who say they don’t time the market, there are a number of ways that investors inadvertently fall into this trap.

1. Being in Cash. “We are going to sit on X% in cash and wait for a buying opportunity.” Seems prudent, right? Except that investors who have been holding out for a 10% or 20% crash for two, three, four years or more have missed out on a huge move up in the market. Yes, there are rational reasons to say that the market is expensive today, but those who have been sitting in cash have definitely under-performed. Will they eventually be proved right? The market certainly has cycles of growth and contraction. This is normal and healthy. So, yes, there will be another bear market. The problem is that trying to predict when this will occur usually makes returns worse rather than better.

2. Greed and Fear. The human inclination is to want to invest when the market has done well and to sell when the market is in the doldrums. I remember investors who insisted in going to cash in November 2008 and March 2009, right at the bottom. In 1999, people were borrowing money to put into tech funds, which had given them returns of 30%, 50%, even 100% in a year. Our natural reaction is to buy high and sell low, the opposite of what we should be doing. It’s only in hindsight that we recognize these trades as mistakes.

3. Performance Chasing. Investors like to switch from Fund A to Fund B when Fund A does better. Who wouldn’t want to be in the better fund? This is why people give up on index funds. Index funds often only beat half of their peers in any given year, so it’s super easy to find a fund that is doing better. However, when we go to a five-year horizon, index funds are winning 80-90% of the time. That’s why switching to a fund with a better recent track record is often a mistake. (And then watch the fund you just sold soar…)

4. Sector and Country funds. Investors want to buy a sector or country fund when it is a standout. This is market timing! You are buying what is hot (expensive) rather than buying what is on sale. I have yet to have any client ever come to me and say “sector X is doing terrible, should we buy?”. Instead, some will ask me about biotech, or India, or some other high flyer. I remember when the ING Russia fund had the best 10-year track record of all mutual funds. If you bought it then, I think you would have regretted it immensely in the following years! When people buy sector or country funds, the decision is almost always a market timing error of extrapolating recent performance into the future, instead of recognizing that today’s leaders become tomorrow’s laggards.

5. Factor Investing. If you haven’t heard of Factor Funds, you will soon! Quantitative analysts look for a set of criteria which they can feed into a computer and it picks the best performing stocks. How do they come up with a winning formula? By back-testing strategies using historical stock prices. This sounds very scientific, and I admit that it looks promising, but there are still some market timing landmines for investors, including:

  • Historical anomalies. It’s possible that a strategy that worked great over the past 10 years might be a dud over the next 10. It is unknown which factors will perform best going forward and it seems naive to assume that the future will be the same as the past.
  • Choosing which factor. Low Volatility? Value? Momentum? Quality? Those all sound like good things. There are now so many flavors of factors, you have to have an opinion on the market in order to pick which factor will outperform. And that’s right back to market timing: investing based on your prediction of what the market will do. This isn’t Lake Woebegone, where all the factors are above average. Some factors are bound to do poorly for longer than you are likely to be willing to hold them.
  • Investor switching. In most single years, a factor does not have very exciting performance. I predict that many investors are going to buy a factor fund, and then switch when they see another factor outperform for a year or two. If you’re really going to buy into the factor philosophy, you need to buy and hold for many, many years. Even in back tests, there are quite a few years of under-performance. It was only over long time periods that factors were able to deliver improved returns.

6. Product development. Asset managers are paid on the assets they manage. It’s a business. They will always be coming out with a new, better product to attract new investors. You are being marketed to every day by companies who want your investment dollar. Many new funds will not survive the test of time and will disappear into financial history. Their poor track records will be erased from Morningstar, which is why we have “survivorship bias”, the fact that we only see the track records of the funds that survive. Please use caution when investing in a new fund. Is this new fund vital to your success as an investor or just a marketing ploy for a company to capitalize on the most recent fad?

At Good Life Wealth Management, we are fans of the tried and true and skeptical when it comes to the “new and improved”. We aim to avoid market timing errors by remaining invested and not trying to predict the future path of the market. We avoid emotional investing decisions, performance chasing, and sector/country funds. For the time being, we are watching factor funds with curiosity but a wait and see attitude.

How then do we choose investments and their weight in our asset allocation? Our tactical models are based on the valuation of each category. This is by its nature contrarian – when large cap becomes expensive, it becomes smaller in our portfolios. When small cap becomes cheap, its weighting is increased. We don’t predict whether those categories will go up or down in the near future, but only tilt towards the areas of better relative value. This is based on reversion to the mean and the unwavering belief that diversification remains our best defense.

If you’d like to talk about your portfolio, I’d welcome the chance to sit down and share our approach and philosophy. What keeps us from the Siren song of market timing is our belief in a disciplined and patient investment strategy.

Stop Trying to Pick the Best Fund

So much attention is paid to picking “the right fund” or “the best fund” by investors, but in my experience, this question has little bearing on whether or not an investor is successful in achieving their goals. In fact, I don’t even think fund selection is in the top 5 factors for financial success. There are so many more important things to consider first!

1) How much you save. If you contribute $500 a month to your company 401(k) and your colleague contributes $1,000 a month, I would bet that they will have twice as much money as you after 10 years, regardless of your fund selection process. Hot funds turn cold, so most investors just average out over time. Figuring out how to save and invest more each month will get you to the goal line faster than spending your hours trying to find a better fund.

2) Sticking with the plan. Your behavior can have a greater impact than your fund selection. Many investors sold in 2009, incurring heavy losses and then missing out on the rebound in the second half of the year. Trying to time the market is so difficult that investors are better served by staying the course rather than trying to get in and out of the market.

I know that people think they are being rational about their investments, but what usually happens is that we form an opinion emotionally and then find evidence which corroborates our point of view. This is called confirmation bias. Better to remain humble and recognize that we don’t have the ability to determine what the future holds. Buy and Hold works, but only when we don’t screw it up!

3) Starting with an Asset Allocation. People may spend a vast amount of time picking a US large cap fund, but then miss out on the benefits of diversification. Other categories may outperform US large cap stocks. I recently opened an account for a new client, whose previous advisor had him invested in 180 positions – all of which were US large cap and investment grade bonds. No small cap, no international equities, no emerging markets, no floating rate bonds, no municipal bonds, etc.

The most important determinant of your portfolio return is the overall asset allocation, not which fund you chose! Our process begins with you, your goals, timeline, and risk tolerance to first determine a financial plan, including an appropriate asset allocation. The asset allocation is really the portfolio and then the last step is to just plug in funds to each category. Funds in each category perform similarly. If it’s a horrible year, like 2008, in US large cap, that fact is more significant than which large cap fund you chose.

A famous, and controversial, 1995 Study found that 95% of the variability of returns between pension funds was explained by their asset allocation.

4) Not chasing performance. The problem with trying to pick the best fund is that you are always looking through today’s rearview mirror. There will always be one fund that has the best 5, 10, or 15 year returns. There are always funds which are doing better than your fund this year. But if you buy that new fund, you may quickly become disappointed when the subsequent returns fail to match its “perfect” track record.

So then you switch to another new fund. And like a financial Don Juan, the performance chaser is quick to fall in love, but just as quick to move on, creating a tragic, endless cycle of hope and failure. If you are investing for the next 30 years, changing funds 30 times does not improve your chances of success! By the way, if you exclude sector funds, single country funds, and other niche categories from your portfolio, you will be well on your way to avoiding this pitfall.

5) Setting Goals. If you have a goal or large project at work, you probably create a plan which breaks that goals down into a series of smaller steps and objectives. Unfortunately, very few people apply the same kind of discipline, planning, and deliberate process to their finances as they do to their career and other goals. When you begin with the goal in mind, your next steps – how much to save, how to invest, what to do – become clear.

Bonus, 6) Doing what works. Why reinvent the wheel or take on unnecessary risk? We know that 80% or more of actively managed funds lag their benchmarks over five years and longer. With 4 to 1 odds against you choosing a fund that outperforms, why take that risk at all? Even if you get it right once, do you realize how small the possibility is that your choice will outperform for another five years? Better to stick with Index Funds and ETFs. Besides the better chance of performing well, you will also start with very low expenses and excellent tax efficiency. When you use Index funds, it frees up your mind, time, and energy to focus instead on numbers 1-5.

Choose your funds carefully and deliberately because you should plan to live with those funds for many, many years. There are genuinely good reasons for changing investments sometimes and we won’t hesitate to make those trades when necessary. But on the whole, investors trade way too much for their own good. The grass is not always greener in another fund!

10 Ways to Wreck Your Portfolio

Over the years, I’ve seen hundreds of portfolios and 401(k) accounts, and observed investors make tons of mistakes. Admittedly, I have made many of these errors on my own as well, just to double check! Here’s your chance to learn from others’ losses. But, if you still insist that you want to ruin your rate of return, go ahead and make these 10 mistakes…

1) Rely on Past Performance. You invest with winners, not losers! Just find the top performing fund offered by your 401(k) and put all your money in there. That’s why they say past performance is a guarantee of future returns, or something like that.

2) Don’t diversify. Have you seen that Chinese Small-Cap BioTech fund? Why invest in the whole market when you can bet on one tiny, minuscule sliver?

3) Ignore the fact that 80% of actively managed funds under perform their benchmark over five years. You’re going to pick funds from the other 20%. Indexing is for people who are willing to settle for average.

4) Put as much money as possible into your company stock. It’s beat the S&P 500 for X number of years, therefore you’d be stupid to ever take your money out of company stock or to cash in your options. And since you work there, you know more about this investment than anyone. Just like the employees at Nortel, Worldcom, and Enron.

5) To avoid paying taxes, don’t sell your winners. Don’t rebalance or sell overvalued shares. Later, if the stock is down 40% you can pat yourself on the back: “Thank God I didn’t sell when it was up and have to pay 15% tax on my gains. I dodged that bullet!”

6) Never sell your losers either. The loss isn’t real until you sell, and the most important thing is to protect your ego. If you hold on, eventually, you should get your money back. So what if another fund returns 60% while you are waiting for yours to rebound 30%? (Says the guy who has old General Motors shares that are worthless from when the company filed for bankruptcy and wiped out their stockholders.)

7) Do it yourself. Don’t use funds or ETFs, pick individual stocks yourself! It will be fun and easy. Just look at all those smiling people on the commercials for online brokers, they’re getting rich from their kitchen tables! Anyone can beat those fancy investment managers with their extensive training, huge research departments, and decades of experience. And if you spend all day watching your portfolio, it magically grows faster!

8) You know when to get in and out of the market. It’s not market timing if you know what you’re doing. When the market is down, it’s a bad market, so don’t buy then. Wait until the market goes back up before you make your purchases. You should toss out a detailed 20-year financial plan if your gut tells you. And by gut, of course, we mean CNBC, Fox News, or whatever you watched in the preceding 48 hours.

9) When the market is down, your funds are horrible, the managers incompetent, and the market is rigged. When your portfolio is up, it’s because of your brilliant mind for finance. You are investing for decades, but if your portfolio doesn’t go up every single quarter something is horribly wrong with your approach. Change everything you own when this happens.

10) All the good investments are reserved for the wealthy. You can only become rich by investing in complicated, non-transparent private placements or limited partnerships in oil, real estate, leasing, or something you cannot explain in less than three minutes. And it’s rude to ask how much these programs charge, that’s so gauche. On a related note, you should always buy penny stocks that you hear about through an email.

I know no one really wants to wreck their portfolio, but from my vantage point, a lot of our investment pains appear self-inflicted. I can help you avoid these ten mistakes and many, many others. Even more important than avoiding errors, together we can create a financial plan and investment program that will be tailored to your goals, rather than focusing on what the market might do this month or this year.

Professional advice. Comprehensive financial planning. Evidence-based investment management. Ongoing evaluation, monitoring, and adjustment. Those are our tools to help investors succeed. That doesn’t mean that there won’t be years when the market is down, but it does mean we will be better prepared and much less likely to make the mistakes which can make things worse.

Do Top Performing Funds Persist?

How do you pick the funds for your 401(k)? I know a lot of people will look at the most recent performance chart and put their money into the funds with the best recent returns. After all, you’d want to be in the top funds, not the worst funds, right? You’d want to invest with the managers who have the most skill, based on their results.

We’ve all heard that “past performance is no guarantee of future results”, and yet our behavior often suggests that we actually believe the opposite: if a fund has out-performed for 1, 3, or 5 years, we believe it is due to manager skill and the fund is indeed more likely to continue to out-perform than other funds.

But is that true? Do better performing funds continue to stay at the top? We know the answer to this question, thanks to the people at S&P Dow Jones Indices, who twice a year publish their Persistence Scorecard (link).

Looking at the entire universe of actively managed mutual funds, they rank fund performance by quartiles, with the 1st quartile being the top performing 25% of funds, and the 4th quartile being the bottom 25% of funds.

Let’s consider the “Five Year Transition Matrix”, which ranks funds over five years and then follows how they perform in the subsequent five year period. For the most recent Persistence Scorecard, published in December 2016, this looks at funds’ five-year performance in September 2011, and then how they ranked five years later in September 2016.

Here’s how the top quartile of all domestic funds fared in the subsequent 5-year period:
20.09% remained in the top quartile
18.93% fell to the second quartile
20.56% fell to the third quartile
27.80% fell to the bottom quartile
10.75% were merged or liquidated, and did not exist five years later

The sad thing is that if you picked a fund in the top quartile, there was only a 20% chance that your fund remained in the top quartile for the next five years. But there was a more than 38% chance that your top performing fund became a worst performing fund or was shut down completely in the next five years.

Another interesting statistic: the percentage of large cap funds that stayed in the top half for five years in a row was 4.47%. If you simply did a coin flip, you’d expect this number to be 6.25%. The number of funds that stayed in the top half is slightly worse than random.

The Persistence Scorecard is a pretty big blow to the notion of picking a fund based on its past performance. And it’s significant evidence that we should not be making investment choices based on Morningstar ratings or advertisements touting funds which were top performers.

Should you do the opposite? I wish it was as simple as buying the bottom-performing funds, but they don’t fare any better. Funds in the bottom quartile had a similarly random distribution into the other three quartiles, but had a much higher chance of being merged or liquidated.

There are a couple of possible explanations for funds’ lack of persistence:

  • Styles can go out of favor; a “value” manager may out-perform in one period and not the following period. Hence a seemingly perpetual rotation of leaders.
  • Successful managers may attract large amounts of capital, making them less agile and less likely to out-perform.
  • There may be more randomness and luck to managers’ returns, rather than skill, than they would like to have us believe.

Unfortunately, the S&P data shows that for whatever reason, there is little evidence for persistence. Investors need a more sophisticated investment approach than picking the funds which had the best performance. The Persistence Scorecard highlights why performance chasing doesn’t work for investors: yesterday’s winners are often tomorrow’s losers.

What to do then? We focus on creating a target asset allocation, using a core of low-cost, tax efficient index ETFs and a satellite component of assets with attractive fundamentals. What we don’t do is change funds every year because another fund performed better than ours. That kind of activity has the potential for being highly damaging to your long-term returns.

I hope you will take the time to read the Persistence Scorecard. It will give you actual data to understand better why we say past performance is no guarantee of future results.

Diversification and Regret

Diversification is one of the key principles of portfolio management. It can reduce idiosyncratic risks of individual stocks or sectors and can give a smoother performance trajectory, or as financial analysts prefer to say, a “superior risk-adjusted return” over time. Everyone sees the wisdom of not putting all your eggs in one basket, but the reality is that diversification can sometimes be frustrating, too.

Being diversified means holding many different types of investments: stocks and bonds, domestic and international stocks, large cap and small cap, traditional and alternative assets. Not all of those assets are going to perform well at the same time. This leads to a behavioral phenomenon called Tracking Error Regret, which some investors may be feeling today.

When their portfolio lags a popular benchmark, such as the Dow Jones Industrials or the S&P 500, Investors often regret being diversified and think that they should get out of their poorly performing funds and concentrate in those funds which have done better. (Learn about the benchmarks we use here.)

It’s understandable to want to boost performance, but we have to remember that past performance is no guarantee of future results. Many people receive a snapshot from their 401(k) listing their available funds with columns showing annualized performance. Consider these two funds:

3-year 5-year 10-year Expense Ratio
S&P 500 ETF (SPY) 11.10% 13.55% 6.88% 0.10%
Emerging Markets ETF (VWO) 2.83% -0.07% 2.24% 0.15%

Source: Morningstar, as of 2/06/2017

Looking at the performance, there is a clear hands-down winner, right? And if you have owned the Emerging Markets fund, wouldn’t you want to switch to the “better” fund?

These types of charts are so dangerous to investors because they reinforce Performance Chasing and for diversified investors, cause Tracking Error Regret. Instead of looking backwards at what worked over the past 10 years, let’s look at the Fundamentals, at how much these stocks cost today. The same two funds:

Price/Earnings Price/Book Dividend Yield Cash Flow Growth
S&P 500 ETF (SPY) 18.66 2.65 2.21% 0.33%
Emerging Markets ETF (VWO) 12.34 1.51 3.37% 5.09%
Source: Morningstar, as of 2/06/2017

Now this chart tells a very different story. Emerging Market Stocks (EM) cost about one-third less than US stocks, based on earnings or book value. EM has a 50% higher dividend yield and these companies are growing their cash flow by 5% a year, versus only 0.33% a year for US companies.

I look at the fundamentals when determining portfolio weightings, not past performance. If you only looked at the performance chart, you’d miss seeing that EM stocks are cheap today and US stocks are more expensive. That is no guarantee that EM will beat the S&P 500 over the next 12 months, but it is a pretty good reason to stay diversified and not think that today’s winners are bound to continue their streak forever.

Performance chasing often means buying something which has become expensive, frequently near the top. That’s why I almost never recommend sector funds or single country funds (think Biotech or Korea); the investment decision is too often based on recent performance and those types of funds tend to make us less diversified rather than more diversified.

Staying diversified means that you will own some positions which are not performing as well as others in your portfolio. When the S&P 500 is having a great year, a diversified portfolio often lags that benchmark. But, when the S&P 500 is down 37% like it was in 2008, you may be glad that you own some bonds and other assets.

We use broadly diversified ETFs and mutual funds, with a willingness to rebalance and buy those positions when they are down. We have a value bent to our weightings and are willing to own assets like Emerging Markets, even if they haven’t been among the top performers in recent years. Staying diversified and focusing on the long-term plan means that you have to ignore Tracking Error Regret and Performance Chasing. Just remember that you can’t drive a car forward by looking in the rear-view mirror.

Gifts, Rights, and Duties

What does Good Life Wealth Management stand for? Financial Planning is both an Art and Science, and while we dutifully toil on numbers, it is all in service to loftier goals and ambitions. Investment strategy is the one of the outcomes of our Financial Planning process, but it is certainly not the most important part.

We want to begin with an understanding and appreciation of three things in your life: Gifts, Rights, and Duties. When these are clear in your mind, your relationship with money has purpose.

Gifts certainly include inherited wealth, but we should all recognize how fortunate we truly are to be alive in 2017. I live in a vibrant city in the fastest growing state in the most prosperous country in the world. I was blessed to be born in a good zip code and attend great schools with the support and love of a wonderful family.

I attended two private universities, institutions which did not just spring from the ground, but were gifts to the future from people who were incredibly generous, insightful, and industrious. And some 175 years later, many thousands have benefited from those university founders.

Today, we have the gift of modern medicine, technology, cars, and the internet. And our wealth is invariably derived from all these gifts. It may still take a lot of our own blood, sweat, and tears, but no one in America is 100 percent self-made.

Rights include our constitutional protections of life, liberty, and private property. The ability to achieve financial freedom is an impossible dream – still – in many parts of the world. And while it is easy for me as a white male to take these rights for granted, for many other Americans, those rights did not exist in the not so distant past.

Duty is a recognition of our moral obligations. We have a duty to protect and provide for our spouse, children, and family. We have a duty to our self to plan for retirement and a secure future. We have a duty, I think, to leave the world a better place, and to help the next generation, just as our predecessors built schools and industries and fought for the rights which we enjoy today.

My vision of financial planning does not begin with choosing the “right” mutual fund or ETF. It is rather a holistic strategy to create a roadmap to your goals, as determined by your Gifts, Rights, and Duties.

– If we are to value our money, we must begin with the humility to recognize that most of our success is a gift. We won the life lottery and that 90% of who we are was luck and 10% was through our efforts. (Even intelligence, good health, and a strong work ethic are gifts, not something we earned!)

– We should not take our rights for granted. While there are fundamental rights, financial planning is to make sure you navigate your other smaller rights, such as to tax deductions, a 401(k), a Roth IRA, or Estate Plan. We want to make sure our clients take advantage of the benefits which are available to them.

– Duty to others means that we can take care of ourselves first and foremost. But it also means that we have prepared for the unexpected. That’s why I am perplexed by young families who want my help with investments, but want to skip over estate planning, college funding, or life insurance. That’s not fulfilling your duty as a parent and spouse.

There are two types of happiness: pleasure and fulfillment. Pleasure is easy: it is going to the beach and doing nothing, enjoying a glass of wine, or celebrating with friends. It is basically hedonistic. While we all need to rest and recharge from time to time, many retirees become bored after three months of golfing every day. Pleasure is not the highest form of satisfaction.

Fulfillment is having a purpose and making a difference. In Maslov’s hierarchy of needs, the highest need is achieving self-actualization, or realizing your full potential. The Good Life, is not about seeking pleasure, but finding fulfillment and purpose. While our financial planning software can crunch the numbers, our conversations are really about How do we use our gifts? What are our rights? How can we best fulfill our duty to others and make a difference? If that is the starting point for our relationship with money, we can have a more meaningful perspective on our goals, values, and impact on the world.

Forget 2017, Think Longer

A few weeks ago, I brought my car to the dealership for some routine maintenance and they gave me a brand new 2017 model as a loaner for the day. As part of the car’s “infotainment system”, you could enter stock tickers and get price quotes right there on the screen of the car.

Aside from the obvious danger of distracted driving, does the outcome of my retirement plan actually hinge on having this information available 24-7? Will I be wealthier if make trades from my phone while stuck in rush-hour traffic?

Unfortunately, increasing our access to information does not guarantee we can use that information profitably. In fact, I believe that the more we focus on short-term issues, the more we endanger the long-term outcomes. Be careful of missing the forest for the trees.

The field of behavioral finance has identified many seemingly innate, but irrational, behaviors which can be hazardous to our wealth. The more information we have, the more frequently we are compelled to “do something” in terms of our investment allocation. Unfortunately, the more investors trade, the worse they do, on average, because of these behavioral tendencies.

Here are four behavioral patterns which can become a problem for all investors:

1) Overconfidence
The more information we have, the more strongly we believe that we can predict the outcome. Closely related is confirmation bias, which is where we place more weight on information which supports our existing point of view, and tend to ignore evidence which is contrary.

2) Disposition Effect
Many investors are willing to sell their winning trades but are very reluctant to sell their losing positions. “The loss isn’t real until you sell – it has to come back eventually!” What we should do is to ignore what we paid for a position and look objectively at how we expect it to perform going forward. If there are better opportunities elsewhere, we should not hold on to losers.

3) Home Bias
Investors prefer to invest in domestic companies, when left to their own devices. They miss the benefits of investing globally. See How a Benchmark Can Reduce Home Bias.

4) Naive Diversification
If a 401(k) plan offers five choices, many investors will simply put 20% into each of the five funds, regardless of category or their own risk tolerance. I’ve also seen portfolios that have multiple holdings in the same category, most often US Large Cap. When the market drops, having seven large cap funds will not offer any more defense than having one fund.

I mention these behavioral faults because you are inevitably going to see many articles over the next two weeks predicting what is likely to occur in the year ahead. Reading these is a waste of your time. The reality is that no one has a crystal ball and can predict the future.

Forecasters’ abilities to predict the stock market has been so poor and inconsistent, that if you actually look at a large number of past predictions, you will immediately recognize that their investment value is non-existent. There is often a great deal of group think and a Bullish bias from firms who get paid to manage investments. Others seem to be permanently Bearish, but still get press coverage in spite of being wrong for years at a time.

The good news is that you don’t have to know what 2017 has in store to accomplish your long-term goals. We need to think bigger than just one year at a time, so here’s a reminder of what we do:

  • Create a financial plan to lay out the steps to achieve your long-term goals.
  • Invest in a disciplined, diversified asset allocation based on your needs, risk tolerance, and risk capacity.
  • Pay attention to risks, taxes, and our returns.
  • Monitor, adjust, and rebalance to stay on course.

The more we allow short-term noise to dictate our long-term investment strategy, the greater risk we are to our own success. If your car offers stock quotes, may I suggest you instead set it to weather or sports? Your portfolio will thank you for it.

Boost Confidence, Improve Your Finances


Which comes first, confidence or success? I believe that in most facets of life, confidence is a prerequisite for success. This is true whether you are a business executive, athlete, musician, teacher, or any other profession. Of course, there is a virtuous cycle where success reinforces confidence, but it has to begin with confidence in the first place.

Five Things To Do When The Market Is Down


When the market is down, it hurts to look at your portfolio and see your account values dropping. And when we experience pain, we feel the need to do something. Unfortunately, the knee-jerk reaction to sell everything almost always ends up being the wrong move, a fact which although obvious in hindsight, is nevertheless a very tempting idea when we feel panicked.

Even when we know that market cycles are an inevitable part of being a long-term investor, it is still frustrating to just sit there and not do anything when we have a drop. What should you do when the market is down? Most of the time, the best answer is to do nothing. However, if you are looking for ways to capitalize on the current downturn, here are five things you can do today.

1) Put cash to work. The market is on sale, so if you have cash on the sidelines, I wouldn’t hesitate to make some purchases. Stick with high quality, low-cost ETFs or mutual funds, and avoid taking a flyer on individual stocks. If you’ve been waiting to fund your IRA contributions for 2015 or 2016, do it now. Continue to dollar cost average in your 401k or other automatic investment account.

2) If you are fully invested, rebalance now; sell some of your fixed income and use the proceeds to buy more stocks to get back to your target asset allocation. Of course, most investors who do it themselves don’t have a target allocation, which is their first mistake. If you don’t have a pre-determined asset allocation, now is a good time to diversify.

3) Harvest losses. In your taxable account, look for positions with losses and exchange those for a different ETF in the same category. For example, if you have a loss on a small cap mutual fund, you could sell it to harvest the loss, and immediately replace it with a different small cap ETF or fund.

By doing an immediate swap, you maintain your overall allocation and remain invested for any subsequent rally. The loss you generate can be used to offset any capital gains distributions that may occur later in the year. If the realized losses exceed your gains for the year, you can apply $3,000 of the losses against ordinary income, and the remaining unused losses will carry forward to future years indefinitely. My favorite thing about harvesting losses: being able to use long-term losses (taxed at 15%) to offset short-term gains (taxed as ordinary income, which could be as high as 43.4%).

4) Trade your under-performing, high expense mutual funds for a low cost ETF. This is a great time to clean up your portfolio. I often see individual investors who have 8, 10, or more different mutual funds, but when we look at them, they’re all US large cap funds. That’s not diversification, that’s being a fund collector! While you are getting rid of the dogs in your portfolio, make sure you are going into a truly diversified, global allocation.

5) Roth Conversion. If positions in your IRA are down significantly, and you plan to hold on to them, consider converting those assets to a Roth IRA. That means paying tax on the conversion amount today, but once in the Roth, all future growth and distributions will be tax-free. For example, if you had $10,000 invested in a stock, and it has dropped to $6,000, you could convert the IRA position to a Roth, pay taxes on the $6,000, and then it will be in a tax-free account.

Before making a Roth Conversion, talk with your financial planner and CPA to make sure you understand all the tax ramifications that will apply to your individual situation. I am not necessarily recommending everyone do a Roth Conversion, but if you want to do one, the best time is when the market is down.

What many investors say to me is that they don’t want to do anything right now, because if they hold on, those positions might come back. If they don’t sell, the loss isn’t real. This is a cognitive trap, called “loss aversion”. Investors are much more willing to sell stocks that have a gain than stocks that are at a loss. And unfortunately, this mindset can prevent investors from efficiently managing their assets.

Hopefully, now, you will realize that there are ways to help your portfolio when the market is down, through putting cash to work, rebalancing, harvesting losses for tax purposes, upgrading your funds to low-cost ETFs, or doing a Roth Conversion. Remember that market volatility creates opportunities. It may be painful to see losses today, but experiencing the ups and downs of the market cycle is an inevitable part of being a long-term investor.