Saturday, December 11, 2010

Is Jane Bryant Quinn (and every other "financial expert") an idiot?

Jane Bryant Quinn is on the cover of the December 2010 AARP Bulletin. "Make YOUR SAVINGS Last a LIFETIME", it says.

Her article describes "Three smart ways to make your savings last as long as you do".

From this article, we learn several things:

1. "Jane Bryant Quinn is a personal finance expert and author of Making the Most of Your Money NOW".

2. Even though she is "a personal finance expert", she has a "personal planner".

3. Ms. Quinn, a "personal finance expert" (with her own "personal planner", who I assume is also an "expert"), and her husband last year ran a "how are we doing" test "given the hit that the equity portion of our investments has taken in the past decade".

4. COMMENT: I am not a nationally recognized "personal finance expert", and I do not have a "personal planner", but I can assure you that my investments - equity or otherwise - have not taken a "hit" in the past two decades. I retired 20 years ago and my net worth has increased every year.

5. Ms. Quinn describes three "different ways of creating a life-long stream of income". First, there is the "total return strategy" in which you diversify your investments over stocks and bonds in the usual way". Second, there is the "bucket strategy" in which you diversify your investments into cash, certificates of deposit, or an annuity, bonds, and stocks. Third, there is the "income floor strategy" in which you invest in an annuity, bonds, and stocks.

6. COMMENT: Ms. Quinn does not explain why she still likes stocks, even after the "hit" she "has taken in the past decade". The Nikkei average is 74% lower now than it was in December 1989. The NASDAQ average is 49% lower than it was in March 2000. These numbers are not adjusted for inflation; that only makes things worse.

7. Regardless of which of the three "different ways of creating a life-long stream of income" you employ, Ms. Quinn says that you can withdraw 4% per year, adjusted for inflation, from your portfolio. "The magic number is 4 percent. You should plan on withdrawing no more than 4 percent of your total savings in the first year, ... In the following year, raise your take by the percentage increase in inflation. This way your money should last for 30 years, assuming you start with a portfolio invested half in diversified stocks or stock mutual funds and half in diversified bonds, with dividends reinvested".

8. She goes on to say, in the last paragraph of her essay: "What if you realize that your money won't last? There are other options - working longer or returning to work, cashing in the house, adding an apartment over your kid's garage".

9. COMMENT: From "Make YOUR SAVINGS Last a LIFETIME" and "Three smart ways to make your savings last as long as you do", then to "should last for 30 years", then to living in an apartment over my kid's garage"?

In a 977 word essay she has taken me from guaranteed financial independence then to maybe-30-years and then all the way to living over my kid's garage? What the hell happened?

PS: If Ms. Quinn, "a personal finance expert", with her own personal financial planner, can't avoid a major "hit", what chance do you have? Well, you can stay away from stocks, for one thing. My money is in I bonds, TIPs, and bank CDs (just two years ago you could get five year CDs paying 5.25%).

Thursday, December 9, 2010

What is wealth? Money or stuff?

Consider two 52-year old men each earning $75,000 per year.

Mr. A lives in a $150,000 house (with no mortgage) and has $750,000 in the bank for a total net worth of $900,000.

Mr. B lives in a $500,000 house (with a $400,000 mortgage), owns a $250,000 vacation house (with a $200,000 mortgage), and has $100,000 worth of stocks (with $50,000 in margin debt), for a total net worth of $200,000.

Why does Mr. A have a higher net worth than Mr. B? Because Mr. B - with five times as much real estate - has been paying five times as much in mortgage interest, property taxes, insurance, and upkeep for many years. And then, of course, there are the travel expenses between houses.

Now suppose they both lose their job, house prices drop 30%, and stock prices drop 75%.

House prices don't just drop; the buyers just all seem to disappear. (One house in my neighborhood has been for sale off and on for more than 10 years and 32% of the houses in nearby Flint Michigan are vacant.)

Stock prices don't just drop 75%; they drop 75% and are still down 75% after 20 years like they are in Japan.

Now Mr. A has a net worth of $855,000 (house worth $105,000 and bank deposits of $750,000) and Mr. B has a net worth of minus $75,000 (house worth $350,000 with a $400,000 mortgage, vacation house worth $175,000 with a $200,000 mortgage, and no stocks (he was sold out to meet his margin call).

Remember, Mr B still has property taxes, insurance, and upkeep costs that are five times as much as Mr. A. And Mr. B still has two mortgage payments each month. Who has wealth and who just has stuff? Who has enough cash to go to the grocery store? Would you rather be Mr. A or Mr. B?

When you drive past an expensive house with an expensive car in the driveway, do you think "that guy has money"? Or do you think "that guy had money"?

What is the money you slave so hard to get actually for? To trade for a bunch of "stuff"? Or to pile up so you can live without fear?

Remember, you do not have to spend money to enjoy it; owning a pile of it is very satisfying. Money won't buy happiness, but is does let you suffer in comfort.

PS: Here are some facts:

1. The Nikkei average was 38,957.44 on December 29, 1989. Today it is 10,285.88. Down 73.6% - 21 years later.

2. The NASDAQ average was 5,132.52 on March 10, 2000. Today it is 2,611.11. Down 49.1% - more than 10 years later.

3. On September 2, 2009, on page R1, The Wall Street Journal published an article that explained that from February, 1969 through February, 2009, investors in 20-year Treasurys, rolling to the nearest 20-year bond and reinvesting the income, would have beaten buy-and-hold investors in the S&P 500 - a 40-year record of bonds beating stocks.

4. On December 6, 2010, on page R1, The Wall Street Journal published an article about investment return projections. And I quote: "Long-term expected annual returns (net of expenses) are 8.79% for stocks and 5.77 % for the remainder of the portfolio, which is invested in bonds.". The Wall Street Journal did not explain how stocks could return 8.79% on average or how bonds could return 5.77% on average or how stocks could beat bonds by 3.02 points - 52% more - when their September 2, 2009 article explains that bonds beat stocks in the past 40-year period.

5. The S&P/Case-Shiller Composite 20 Home Price Index was 206.52 for July 2006. For April, 2009, it was 139.18; down 32.6%. The most recent data is for September, 2010; the index is 147.49. Down 28.6% from the peak. More than four years later.

6. About 20 years ago, I was a 52-year-old man earning about $75,000 per year and living in a house worth about $150,000. I worked in Bloomfield Hills in the corporate headquarters of a publicly-traded multi-national company with about 5,000 employees. My title was Director of Taxes. There were 21 of us at corporate headquarters. The company was acquired by a competitor. All 21 of us were terminated.