Jonathan Clements's Blog, page 222
March 24, 2022
Helping Ourselves
WE NEEDED MONEY to close on a new home. The mortgage process progressed smoothly���until the underwriters suddenly rejected the property right before closing. To get together the money needed to close, my wife and I had to resort to loan sharks���ourselves.
We borrowed from our IRAs. The rules allow tax-free distributions for either a 60-day rollover to a new IRA or reinvestment back into the same IRA. When we called Vanguard Group to execute our ���rollovers,��� the phone reps were well-versed on this short-term, self-funded loan strategy.
They even advised us on the critical rules. The money must be reinvested in an IRA within 60 days or taxes are owed on the withdrawal. Rollovers are allowed only once per 12-month period across all IRA accounts. Since IRA rules apply to individuals, household members can take advantage of the strategy at the same time.
Why was all this necessary? The mortgage application process, property appraisal and title search were slow going, thanks to today���s hot housing market. The mortgage process took a lethargic 70 days, only for us to get rejected due to extra land and summer cabins included in the purchase. Those items added value to the property but didn���t ���conform.���
We would have been smart to have lined up alternative financing possibilities, such as setting up a home equity line of credit on our old house, arranging to borrow against our taxable investment accounts or pursuing a higher-cost mortgage option elsewhere���one that acknowledged the property���s unusual features.
Following the rejection, we immediately pursued a cash-out refinancing on our existing home. We got a head start by using the same lender that had refused to write us a mortgage on the new property. This refinancing payout landed in our bank account 20 days after closing on the new property. We ���rolled over��� this money back into our same IRA accounts well within the 60-day limit. We even got a little lucky: While the money was out of our IRAs, the stock market declined 5%.
We borrowed from our IRAs. The rules allow tax-free distributions for either a 60-day rollover to a new IRA or reinvestment back into the same IRA. When we called Vanguard Group to execute our ���rollovers,��� the phone reps were well-versed on this short-term, self-funded loan strategy.
They even advised us on the critical rules. The money must be reinvested in an IRA within 60 days or taxes are owed on the withdrawal. Rollovers are allowed only once per 12-month period across all IRA accounts. Since IRA rules apply to individuals, household members can take advantage of the strategy at the same time.
Why was all this necessary? The mortgage application process, property appraisal and title search were slow going, thanks to today���s hot housing market. The mortgage process took a lethargic 70 days, only for us to get rejected due to extra land and summer cabins included in the purchase. Those items added value to the property but didn���t ���conform.���
We would have been smart to have lined up alternative financing possibilities, such as setting up a home equity line of credit on our old house, arranging to borrow against our taxable investment accounts or pursuing a higher-cost mortgage option elsewhere���one that acknowledged the property���s unusual features.
Following the rejection, we immediately pursued a cash-out refinancing on our existing home. We got a head start by using the same lender that had refused to write us a mortgage on the new property. This refinancing payout landed in our bank account 20 days after closing on the new property. We ���rolled over��� this money back into our same IRA accounts well within the 60-day limit. We even got a little lucky: While the money was out of our IRAs, the stock market declined 5%.
The post Helping Ourselves appeared first on HumbleDollar.
A Taxing Move
I HATE LOOKING at life through the lens of taxation. But at this time of year, it���s hard to avoid.
I���ve been doing my own taxes for more than four decades. But this year represents a new milestone in my tax return preparation career. We moved from Pennsylvania to New Jersey at the end of March 2021, so I���ve had to prepare 2021 tax returns for both states. Although I���d researched New Jersey���s tax code and made an estimate of what the differences would cost, I still had a few surprises.
Pennsylvania has a flat tax of 3.01% on most income. New Jersey has a graduated income tax with many brackets. The widest is the 6.37% tax on incomes from $150,000 to $500,000 for married couples filing a joint return.
Our Pennsylvania return will be based on the income we received while we were Pennsylvania residents from January through March, and the New Jersey return will be based on the income earned the rest of the year. That sounds simple, but there���s always a complication when it comes to taxes.
For example, most investment firms provide a single 1099-INT or 1099-DIV. I needed to go through our monthly statements to divide up the amounts earned while in Pennsylvania and New Jersey. I���ve used TurboTax for more than 20 years, and I���m quite comfortable with the software. TurboTax, however, doesn���t provide an easy way to divvy up a 1099-INT or 1099-DIV between states.
After hours of research, I found the best way to make an adjustment to the Pennsylvania 1099-INT was to debit the amount associated with New Jersey. Then, for the New Jersey return, I added a miscellaneous unearned income item, labeling it appropriately.
TurboTax usually handles the transition from my federal return to my state return fairly well. The addition of a second state return was not seamless, however. I had to manually input a lot of information.
One reason is the difference the two states have in their treatment of retirement income. Neither state taxes Social Security. Pennsylvania doesn���t tax other retirement income, such as pensions or retirement plan withdrawals. But New Jersey does if your total income exceeds $150,000.
In our case, my wife worked through July, then retired. Shortly thereafter, we rolled her company 401(k) into her Vanguard IRA. Knowing we were planning a major home renovation, she withdrew part of the balance. In Pennsylvania, that distribution wouldn���t have been taxed. But since we���d already moved, the distribution counted as New Jersey taxable income.
Another inequity is the taxation of capital gains. I sold some shares late in 2021. The vast majority of the gain occurred during the many years we were living in Pennsylvania, but I ended up owing taxes on the gain to New Jersey.
This will likely be the most complicated set of tax returns I���ll ever face. With time, I imagine I���ll get more comfortable with New Jersey tax laws and be better able to plan our future income to minimize taxes. I can���t help but wonder, though, if our legislators���at the state and federal levels���understand the complexity they���ve imposed on citizens trying to fulfill their civic duty.
Richard Connor is��a semi-retired aerospace engineer with a keen interest in finance. He��enjoys a wide variety of other interests, including chasing grandkids, space, sports, travel, winemaking and reading. Follow Rick on Twitter��@RConnor609��and check out his earlier articles.
I���ve been doing my own taxes for more than four decades. But this year represents a new milestone in my tax return preparation career. We moved from Pennsylvania to New Jersey at the end of March 2021, so I���ve had to prepare 2021 tax returns for both states. Although I���d researched New Jersey���s tax code and made an estimate of what the differences would cost, I still had a few surprises.
Pennsylvania has a flat tax of 3.01% on most income. New Jersey has a graduated income tax with many brackets. The widest is the 6.37% tax on incomes from $150,000 to $500,000 for married couples filing a joint return.
Our Pennsylvania return will be based on the income we received while we were Pennsylvania residents from January through March, and the New Jersey return will be based on the income earned the rest of the year. That sounds simple, but there���s always a complication when it comes to taxes.
For example, most investment firms provide a single 1099-INT or 1099-DIV. I needed to go through our monthly statements to divide up the amounts earned while in Pennsylvania and New Jersey. I���ve used TurboTax for more than 20 years, and I���m quite comfortable with the software. TurboTax, however, doesn���t provide an easy way to divvy up a 1099-INT or 1099-DIV between states.
After hours of research, I found the best way to make an adjustment to the Pennsylvania 1099-INT was to debit the amount associated with New Jersey. Then, for the New Jersey return, I added a miscellaneous unearned income item, labeling it appropriately.
TurboTax usually handles the transition from my federal return to my state return fairly well. The addition of a second state return was not seamless, however. I had to manually input a lot of information.
One reason is the difference the two states have in their treatment of retirement income. Neither state taxes Social Security. Pennsylvania doesn���t tax other retirement income, such as pensions or retirement plan withdrawals. But New Jersey does if your total income exceeds $150,000.
In our case, my wife worked through July, then retired. Shortly thereafter, we rolled her company 401(k) into her Vanguard IRA. Knowing we were planning a major home renovation, she withdrew part of the balance. In Pennsylvania, that distribution wouldn���t have been taxed. But since we���d already moved, the distribution counted as New Jersey taxable income.
Another inequity is the taxation of capital gains. I sold some shares late in 2021. The vast majority of the gain occurred during the many years we were living in Pennsylvania, but I ended up owing taxes on the gain to New Jersey.
This will likely be the most complicated set of tax returns I���ll ever face. With time, I imagine I���ll get more comfortable with New Jersey tax laws and be better able to plan our future income to minimize taxes. I can���t help but wonder, though, if our legislators���at the state and federal levels���understand the complexity they���ve imposed on citizens trying to fulfill their civic duty.
Richard Connor is��a semi-retired aerospace engineer with a keen interest in finance. He��enjoys a wide variety of other interests, including chasing grandkids, space, sports, travel, winemaking and reading. Follow Rick on Twitter��@RConnor609��and check out his earlier articles.The post A Taxing Move appeared first on HumbleDollar.
March 22, 2022
Buy What You Value
IN A RECENT BLOG post, I mentioned a coworker���s Lexus. One commenter���none other than fellow HumbleDollar contributor Dick Quinn���noted that, while ���there is no logical reason��� the coworker needed a Lexus, he might have motivations I didn���t know about.
I didn���t mean to imply my coworker had made an imprudent choice. I spent my career working with engineers and scientists. As a group, we were well paid. We could afford pretty much anything we wanted���just not everything we wanted.
I���ve had friends purchase $15,000 custom-made carbon bicycles, buy $1,000 bamboo flyfishing rods and spend thousands making a Christmas village that���s on display for two months a year. While I personally don���t value those items enough to spend that sort of money on them, my friends all earned enough that they could afford to do so. They enjoy their hobbies, and spend countless hours biking, fishing and modeling.
While I tend toward frugality, there are two expenditures I make that some of my friends would not choose to make. The first was our family vacations. Every year, our entire family took a vacation. Some years, it was camping in our western national parks. Some years, it was going to a warm southern state in the middle of our long Minnesota winters. But every few years, it would be outside the continental U.S. Our children have accompanied us on trips to Alaska, Hawaii, Quebec, Ireland, France and Italy.
While some friends would take their spouse or partner on an overseas trip, a few expressed surprise that we���d take our children, especially when they were younger. These friends would tell me that the kids wouldn���t appreciate the experience or that they���d never remember the trip. I don���t buy those arguments. But even if they���re true, it wouldn���t matter. I worked with my colleagues for 48 weeks a year. I wanted to spend vacation with the people I cared most about���my entire family.
That doesn���t mean that I don���t approve of couples who arrange for grandparents to watch the children while they take a holiday. It's just something that I never felt I needed to do.
The second expense is even harder to justify.
Before retiring, I built it into our budget. Like buying a printer, the initial cost is reasonable, but the ongoing costs are much greater���perhaps $2,300 a year. A bike, car or boat will probably have some residual value at the end of 12 or 15 years. After 12 to 15 years, my expenditures will total in the neighborhood of $30,000 and have zero monetary value. I also know that there are numerous places where I could cut the associated cost, but don���t choose to do so.
What���s this expense? My dog. He isn���t a fancy show dog. We don���t hunt. He���s just a companion. I could try to justify him by telling you that by walking him, I save on gym memberships. But it would be a lie. I���ve always had a dog simply because they make me happy.
A dog loves you unconditionally, whether you���re a CEO or on the dole. There���s joy in a young dog chasing swallows skimming above the grass. There���s contentment in an old dog enjoying the sun on a cool autumn day.
People earn their money. They should spend it as they see fit.
I didn���t mean to imply my coworker had made an imprudent choice. I spent my career working with engineers and scientists. As a group, we were well paid. We could afford pretty much anything we wanted���just not everything we wanted.
I���ve had friends purchase $15,000 custom-made carbon bicycles, buy $1,000 bamboo flyfishing rods and spend thousands making a Christmas village that���s on display for two months a year. While I personally don���t value those items enough to spend that sort of money on them, my friends all earned enough that they could afford to do so. They enjoy their hobbies, and spend countless hours biking, fishing and modeling.
While I tend toward frugality, there are two expenditures I make that some of my friends would not choose to make. The first was our family vacations. Every year, our entire family took a vacation. Some years, it was camping in our western national parks. Some years, it was going to a warm southern state in the middle of our long Minnesota winters. But every few years, it would be outside the continental U.S. Our children have accompanied us on trips to Alaska, Hawaii, Quebec, Ireland, France and Italy.
While some friends would take their spouse or partner on an overseas trip, a few expressed surprise that we���d take our children, especially when they were younger. These friends would tell me that the kids wouldn���t appreciate the experience or that they���d never remember the trip. I don���t buy those arguments. But even if they���re true, it wouldn���t matter. I worked with my colleagues for 48 weeks a year. I wanted to spend vacation with the people I cared most about���my entire family.
That doesn���t mean that I don���t approve of couples who arrange for grandparents to watch the children while they take a holiday. It's just something that I never felt I needed to do.
The second expense is even harder to justify.
Before retiring, I built it into our budget. Like buying a printer, the initial cost is reasonable, but the ongoing costs are much greater���perhaps $2,300 a year. A bike, car or boat will probably have some residual value at the end of 12 or 15 years. After 12 to 15 years, my expenditures will total in the neighborhood of $30,000 and have zero monetary value. I also know that there are numerous places where I could cut the associated cost, but don���t choose to do so.
What���s this expense? My dog. He isn���t a fancy show dog. We don���t hunt. He���s just a companion. I could try to justify him by telling you that by walking him, I save on gym memberships. But it would be a lie. I���ve always had a dog simply because they make me happy.
A dog loves you unconditionally, whether you���re a CEO or on the dole. There���s joy in a young dog chasing swallows skimming above the grass. There���s contentment in an old dog enjoying the sun on a cool autumn day.
People earn their money. They should spend it as they see fit.
The post Buy What You Value appeared first on HumbleDollar.
Talk About Hot
WHEN I PURCHASED a house in Portland, Oregon, in 2018 for $375,000, my plan was to stay in it for four years. By 2022, if everything went according to schedule, I���d be set to retire from my fulltime job. Then I���d sell the house, and my husband and I would move to Arizona, where we���d purchased a second home in 2019.
Conventional wisdom suggests that homeowners should plan on remaining put for at least five to seven years to come out ahead on a home purchase. But as I can attest, there���s been nothing conventional about the real estate market over the past 18 months.
For the first two years I owned the house, it appreciated at just over 2% annually. By August 2020, Zillow estimated my home was worth $400,000. I began to think that, even after paying a real estate agent���s commission and other costs, I might recoup my $80,000 down payment when I sold.
Then, at the start of 2021, home prices in our neighborhood began shooting up. Houses weren���t necessarily being listed at higher prices, but buyers were frequently bidding more than the asking price. It wasn���t unusual to look online and discover a home had sold for $15,000 or $20,000 above what it had been listed for.
Small, modest homes that might be considered ideal for first-time buyers were selling faster than I���d ever seen. A place might go on the market on a Thursday and have a ���sale pending��� sign outside by Sunday.
The trend continued, and even strengthened, through the summer of 2021. By then, news reports said that low mortgage rates���coupled with an ample supply of young, first-time buyers���were causing the housing market to explode. Record low inventory of available homes only added to the frenzy.
Result: Home prices have been soaring across the U.S. The��S&P CoreLogic Case-Shiller U.S. National Home Price Index jumped 18.8% in 2021, with the Portland market up 17.9%.
When my��mom���s house sold in August 2021, it went for $63,000 over her $500,000 asking price. Her place, similar in size and location to mine, made me think that my asking price should be far higher than the $400,000 I���d been contemplating.
My original plan was to sell the home once we���d already moved to Arizona. That would mean putting the house on the market in June 2022. But as 2021 drew to a close, I began to wonder if getting the house sold sooner would make more sense.
Why? The news feed on my phone was filled with articles warning of impending mortgage rate hikes. Other stories mentioned a potential wave of foreclosed homes coming onto the market. And while many experts believed that the rapid rise in property prices wasn���t a bubble, nobody could be sure when prices would finally level out or even begin to drop.
In January, I hired the same real estate agents who had brokered my mom���s deal. They suggested I get the house on the market in February. A map of current listings in my neighborhood showed there wasn���t a single starter home on the market. There were, however, plenty of prequalified buyers looking to purchase before mortgage rates rose above 4%.
My agents suggested setting an asking price of $475,000. I agreed to get the house ready to sell. In the three weeks between the time the house was photographed and when it went on the market, I continued to follow the local real estate scene closely. I told my husband it felt like we were living in a once-in-a-lifetime seller���s market.
Location no longer seemed to matter. Homes on busy thoroughfares were selling for tens of thousands of dollars over the asking price. The size and condition of homes seemed irrelevant to buyers. Small, single-bathroom homes that needed thousands of dollars in repairs and renovations would be snapped up quickly, and for more money than I���d paid for my home in 2018.
The day my house went on the market, my phone blew up as potential buyers scheduled times to view the house. My agent suggested setting Sunday evening as a deadline for offers. Given the overwhelming interest in the home, they were anticipating I���d have several offers to sort through.
On Friday evening, barely 24 hours after listing the home, my agent called to tell me there���d already been an offer. The buyer���s agent used the word ���aggressive��� to describe it. Aggressive might have been a bit of an understatement.
I was presented with an all-cash offer of $125,000 over the asking price. All contingencies and inspections would be waived. Closing would take place in two weeks, and my husband and I could stay in the home until mid-April without paying rent.
When I moved into my home in 2018, I had no idea what the real estate market would be like in 2022. On my best days, I hoped I���d recoup my $80,000 down payment. On my worst days, I imagined the market collapsing, as it had in 2006-12. For now, I���m savoring the fact that I somehow managed to time the housing market���and that I���m walking away with a handsome profit.
Yes, I readily admit it, I got lucky. Would I buy house today in hopes of turning a profit after four years? Not a chance. Conventional wisdom might say you need a five- to seven-year time horizon to come out ahead on a house purchase. But based on the market frothiness that I���ve seen, I suspect these days it���s a lot closer to seven years���and maybe longer.
Kristine Hayes is a departmental manager at a small, liberal arts college. She��enjoys competitive pistol shooting and hanging out with her husband and their dogs. Check out Kristine's earlier articles.
Conventional wisdom suggests that homeowners should plan on remaining put for at least five to seven years to come out ahead on a home purchase. But as I can attest, there���s been nothing conventional about the real estate market over the past 18 months.
For the first two years I owned the house, it appreciated at just over 2% annually. By August 2020, Zillow estimated my home was worth $400,000. I began to think that, even after paying a real estate agent���s commission and other costs, I might recoup my $80,000 down payment when I sold.
Then, at the start of 2021, home prices in our neighborhood began shooting up. Houses weren���t necessarily being listed at higher prices, but buyers were frequently bidding more than the asking price. It wasn���t unusual to look online and discover a home had sold for $15,000 or $20,000 above what it had been listed for.
Small, modest homes that might be considered ideal for first-time buyers were selling faster than I���d ever seen. A place might go on the market on a Thursday and have a ���sale pending��� sign outside by Sunday.
The trend continued, and even strengthened, through the summer of 2021. By then, news reports said that low mortgage rates���coupled with an ample supply of young, first-time buyers���were causing the housing market to explode. Record low inventory of available homes only added to the frenzy.
Result: Home prices have been soaring across the U.S. The��S&P CoreLogic Case-Shiller U.S. National Home Price Index jumped 18.8% in 2021, with the Portland market up 17.9%.
When my��mom���s house sold in August 2021, it went for $63,000 over her $500,000 asking price. Her place, similar in size and location to mine, made me think that my asking price should be far higher than the $400,000 I���d been contemplating.
My original plan was to sell the home once we���d already moved to Arizona. That would mean putting the house on the market in June 2022. But as 2021 drew to a close, I began to wonder if getting the house sold sooner would make more sense.
Why? The news feed on my phone was filled with articles warning of impending mortgage rate hikes. Other stories mentioned a potential wave of foreclosed homes coming onto the market. And while many experts believed that the rapid rise in property prices wasn���t a bubble, nobody could be sure when prices would finally level out or even begin to drop.
In January, I hired the same real estate agents who had brokered my mom���s deal. They suggested I get the house on the market in February. A map of current listings in my neighborhood showed there wasn���t a single starter home on the market. There were, however, plenty of prequalified buyers looking to purchase before mortgage rates rose above 4%.
My agents suggested setting an asking price of $475,000. I agreed to get the house ready to sell. In the three weeks between the time the house was photographed and when it went on the market, I continued to follow the local real estate scene closely. I told my husband it felt like we were living in a once-in-a-lifetime seller���s market.
Location no longer seemed to matter. Homes on busy thoroughfares were selling for tens of thousands of dollars over the asking price. The size and condition of homes seemed irrelevant to buyers. Small, single-bathroom homes that needed thousands of dollars in repairs and renovations would be snapped up quickly, and for more money than I���d paid for my home in 2018.
The day my house went on the market, my phone blew up as potential buyers scheduled times to view the house. My agent suggested setting Sunday evening as a deadline for offers. Given the overwhelming interest in the home, they were anticipating I���d have several offers to sort through.
On Friday evening, barely 24 hours after listing the home, my agent called to tell me there���d already been an offer. The buyer���s agent used the word ���aggressive��� to describe it. Aggressive might have been a bit of an understatement.
I was presented with an all-cash offer of $125,000 over the asking price. All contingencies and inspections would be waived. Closing would take place in two weeks, and my husband and I could stay in the home until mid-April without paying rent.
When I moved into my home in 2018, I had no idea what the real estate market would be like in 2022. On my best days, I hoped I���d recoup my $80,000 down payment. On my worst days, I imagined the market collapsing, as it had in 2006-12. For now, I���m savoring the fact that I somehow managed to time the housing market���and that I���m walking away with a handsome profit.
Yes, I readily admit it, I got lucky. Would I buy house today in hopes of turning a profit after four years? Not a chance. Conventional wisdom might say you need a five- to seven-year time horizon to come out ahead on a house purchase. But based on the market frothiness that I���ve seen, I suspect these days it���s a lot closer to seven years���and maybe longer.
Kristine Hayes is a departmental manager at a small, liberal arts college. She��enjoys competitive pistol shooting and hanging out with her husband and their dogs. Check out Kristine's earlier articles.The post Talk About Hot appeared first on HumbleDollar.
A Costly Choice
I RECEIVED A GREAT education at Northwestern University in the 1980s. But the school���s commitment to excellence seems to have fallen short when it comes to the 403(b) retirement savings plan for teachers and staff.
Northwestern���s plan offers a generous 5% match and more than 400 investment choices, according to court filings. The lengthy list contained some clunkers, though, such as retail-class mutual funds when the plan could have offered lower-cost institutional shares instead.
Three university employees sued in 2016, alleging they were being overcharged. In its response, the university said���among other things���that there were many fine investment options to choose from, including low-cost index funds.
Who���s right in this fund fracas? The Supreme Court sided with the employees in an��8-0 ruling issued Jan. 24. It���s not the employees��� job to sort the wheat from the chaff, so to speak. Plan trustees have a fiduciary duty to keep imprudent funds out of the plan entirely, the court found.
The case was sent back for reconsideration to the Seventh Circuit Court of Appeals, which had earlier found for Northwestern. But in the meantime, I���m prepared to draw two lessons.
First, trustees could do worse than stock a plan with low-cost, broad-based index funds. Lawsuits alleging excessive plan fees have become a cottage industry, and I hate to think what this one has cost my university.
Second, offering too many funds is harmful to retirement savings, according to Vanguard Group���s Center for Retirement Research. When confronted with choice overload, employees postpone enrolling to avoid a decision they might regret���like choosing the retail-class fund shares hiding inside an institutional retirement plan.
Northwestern���s plan offers a generous 5% match and more than 400 investment choices, according to court filings. The lengthy list contained some clunkers, though, such as retail-class mutual funds when the plan could have offered lower-cost institutional shares instead.
Three university employees sued in 2016, alleging they were being overcharged. In its response, the university said���among other things���that there were many fine investment options to choose from, including low-cost index funds.
Who���s right in this fund fracas? The Supreme Court sided with the employees in an��8-0 ruling issued Jan. 24. It���s not the employees��� job to sort the wheat from the chaff, so to speak. Plan trustees have a fiduciary duty to keep imprudent funds out of the plan entirely, the court found.
The case was sent back for reconsideration to the Seventh Circuit Court of Appeals, which had earlier found for Northwestern. But in the meantime, I���m prepared to draw two lessons.
First, trustees could do worse than stock a plan with low-cost, broad-based index funds. Lawsuits alleging excessive plan fees have become a cottage industry, and I hate to think what this one has cost my university.
Second, offering too many funds is harmful to retirement savings, according to Vanguard Group���s Center for Retirement Research. When confronted with choice overload, employees postpone enrolling to avoid a decision they might regret���like choosing the retail-class fund shares hiding inside an institutional retirement plan.
The post A Costly Choice appeared first on HumbleDollar.
Dangerous Curves
FINANCIAL MARKETS are full of indicators and data relationships from which we tease conclusions. Few signals grab our attention more than an inverted yield curve and its habit of showing up before recessions. But is this signal still accurate in predicting economic trouble?
When U.S. Treasury bond yields are plotted on a graph, they normally have an upward slope, with short-term yields generally lower yields longer-term yields. That makes sense: Lenders demand a higher rate for 30-year loans than 10-year loans because their money is at risk for longer.
The difference in yields from one point on the Treasury yield curve to the next is called a term premium or spread. If the two-year Treasury yield is 2.1% and the 10-year Treasury yield is 2.3%, as it was yesterday afternoon, the spread is 0.2 percentage point.
When short-term yields rise above longer-term yields, the spread turns negative. This is called a yield curve inversion. In 2018, the San Francisco branch of the Federal Reserve published a study on the ability of yield curve inversions to predict recessions. It found that negative spreads���meaning an inverted yield curve���had preceded every recession since 1955.
Why historically has an inverted yield curve preceded recessions? Perhaps investors see signs of economic slowing and buy longer-term government bonds, anticipating that yields will fall as inflation subsides and as folks pile into super-safe bonds. Or perhaps short-term borrowing becomes more expensive, choking off near-term investments and slowing economic growth.
But I believe that yield curve inversion has lost its predictive power���thanks to the monetary policy of the past 14 years. Since 2008, the Federal Reserve has purchased trillions of dollars in U.S. Treasurys and mortgage-backed bonds to suppress intermediate and long-term yields. The Fed intended to push investors into riskier assets like stocks, which would both help to reopen the economy quickly and kick-start growth. All that Fed buying, however, has suppressed and sidelined one important market function���price discovery.
Price discovery is the market process for determining the price of an asset at any given point in time. It���s about finding where natural supply and demand meet. Discovery requires a majority of market participants to be price sensitive. When price discovery works properly, bond prices���and hence interest rates���are set by thousands of independent buy and sell decisions.
But price discovery isn���t currently happening in interest rate markets. Central banks have always directly set overnight rates���meaning short-term interest rates���and sought to indirectly influence longer-term rates. But since the 2008-09 Great Recession, central banks have been purchasing so many longer-term bonds for so long, without regard to their price level, that they have neutered price discovery.
In 2021, for example, the Fed purchased one-half of the total new issuance of U.S. Treasury notes to drive yields down and bond prices up. Across the U.S. Treasury yield curve, the Fed is the price-setting elephant in the room. Where would interest rates be if the Fed wasn���t the most prominent buyer by far? What would term spreads tell us?
Given the Fed���s interventions, it's no coincidence that the yield curve inverted in August 2019 for the first time since 2007. A short recession did indeed occur in early 2020, though it was driven not by a typical economic slowdown, but by the unexpected arrival of COVID-19. Price discovery won���t happen again until the Fed stops intervening so forcefully in the bond market.
Keep this in mind when, in the coming months, you hear about the risks and downside of an inverted yield curve. It may have been a reasonably reliable predictor of recession when the Fed only drove short-term rates and price discovery was allowed to work in the rest of the bond market. But price discovery isn���t working today���which means yield curve inversion is another manipulated indicator that no longer tells us what it once did.
Phil Kernen, CFA, is a portfolio manager and partner with
Mitchell Capital
, a financial planning and investment management firm in Leawood, Kansas. When he's not working, Phil enjoys spending time with his family and friends, reading, hiking and riding his bike. You can connect with Phil via
LinkedIn
. Check out his earlier articles.
When U.S. Treasury bond yields are plotted on a graph, they normally have an upward slope, with short-term yields generally lower yields longer-term yields. That makes sense: Lenders demand a higher rate for 30-year loans than 10-year loans because their money is at risk for longer.
The difference in yields from one point on the Treasury yield curve to the next is called a term premium or spread. If the two-year Treasury yield is 2.1% and the 10-year Treasury yield is 2.3%, as it was yesterday afternoon, the spread is 0.2 percentage point.
When short-term yields rise above longer-term yields, the spread turns negative. This is called a yield curve inversion. In 2018, the San Francisco branch of the Federal Reserve published a study on the ability of yield curve inversions to predict recessions. It found that negative spreads���meaning an inverted yield curve���had preceded every recession since 1955.
Why historically has an inverted yield curve preceded recessions? Perhaps investors see signs of economic slowing and buy longer-term government bonds, anticipating that yields will fall as inflation subsides and as folks pile into super-safe bonds. Or perhaps short-term borrowing becomes more expensive, choking off near-term investments and slowing economic growth.
But I believe that yield curve inversion has lost its predictive power���thanks to the monetary policy of the past 14 years. Since 2008, the Federal Reserve has purchased trillions of dollars in U.S. Treasurys and mortgage-backed bonds to suppress intermediate and long-term yields. The Fed intended to push investors into riskier assets like stocks, which would both help to reopen the economy quickly and kick-start growth. All that Fed buying, however, has suppressed and sidelined one important market function���price discovery.
Price discovery is the market process for determining the price of an asset at any given point in time. It���s about finding where natural supply and demand meet. Discovery requires a majority of market participants to be price sensitive. When price discovery works properly, bond prices���and hence interest rates���are set by thousands of independent buy and sell decisions.
But price discovery isn���t currently happening in interest rate markets. Central banks have always directly set overnight rates���meaning short-term interest rates���and sought to indirectly influence longer-term rates. But since the 2008-09 Great Recession, central banks have been purchasing so many longer-term bonds for so long, without regard to their price level, that they have neutered price discovery.
In 2021, for example, the Fed purchased one-half of the total new issuance of U.S. Treasury notes to drive yields down and bond prices up. Across the U.S. Treasury yield curve, the Fed is the price-setting elephant in the room. Where would interest rates be if the Fed wasn���t the most prominent buyer by far? What would term spreads tell us?
Given the Fed���s interventions, it's no coincidence that the yield curve inverted in August 2019 for the first time since 2007. A short recession did indeed occur in early 2020, though it was driven not by a typical economic slowdown, but by the unexpected arrival of COVID-19. Price discovery won���t happen again until the Fed stops intervening so forcefully in the bond market.
Keep this in mind when, in the coming months, you hear about the risks and downside of an inverted yield curve. It may have been a reasonably reliable predictor of recession when the Fed only drove short-term rates and price discovery was allowed to work in the rest of the bond market. But price discovery isn���t working today���which means yield curve inversion is another manipulated indicator that no longer tells us what it once did.
Phil Kernen, CFA, is a portfolio manager and partner with
Mitchell Capital
, a financial planning and investment management firm in Leawood, Kansas. When he's not working, Phil enjoys spending time with his family and friends, reading, hiking and riding his bike. You can connect with Phil via
LinkedIn
. Check out his earlier articles.The post Dangerous Curves appeared first on HumbleDollar.
March 21, 2022
Life Care Compared
MY IN-LAWS AND MY mother all moved into continuing care retirement communities after giving up their homes. My in-laws were not yet 70 when they moved in and my mother was age 75. They lived in two different communities about a 45-minute drive from one another.
Both communities provided excellent care, but had differing levels of service and had different ways of being paid. I���ve garnered further insights as a volunteer board member for a third continuing care retirement community (CCRC), a private, not-for-profit facility near where I live.
Much retirement planning is driven by fear of running out of money. Retirement communities that include a ���lifecare��� or ���lifeplan��� contract are a hedge against this risk. They provide a continuum of services to meet changing needs as you age, while also reserving you a spot in the appropriate care facility. The lifecare contract guarantees that, no matter what happens to your assets, there will be a place where you can receive the appropriate level of care.
Besides paying a monthly fee, lifecare residents may be responsible for an entry fee. Many people use proceeds from the sale of their home to pay it. There may be an option to pay the entry fee gradually over time, or a refund provision if you leave the community within a given period.
Lifecare services typically include three stages: independent living, assisted living and long-term care. The independent living options often include individual homes���sometimes called cottages or villas���as well as apartments. The long-term care component includes skilled nursing services. Memory care is also increasingly available as a separate unit. Usually, this array of services is located on one campus, but it can also be offered at multiple sites in a metropolitan area.
Lifecare contracts are categorized as types A, B and C. There is a D contract as well, but it doesn���t offer a lifecare guarantee. Some communities offer only one type of contract, and some offer more than one. Here are the main features of each:
Type A contracts require an entry fee and hold the monthly fee increase to the general level of inflation, regardless of the level of care needed. Within a given market, type A contracts are likely to be the most expensive.
Type C contracts have no entry fee, but you pay the going rate for each level of care when you need it. C contracts are the least expensive lifecare option initially. If you spend substantial time in the nursing home, however, it will come at a high cost. If you never need nursing home care, your lifetime outlay would be lower.
Type B contracts are hybrids that combine components of A and C.
Type D contracts are purely rentals, without a lifecare guarantee. People who run out of money during retirement would have to move out if they can���t pay the rent at some future date.
When choosing among these service levels, your health and likely longevity are the deciding factors. Look to the experiences of your elderly relatives for guidance. A second consideration is whether you���ve purchased a long-term-care insurance policy.
If you have such a policy, review its provisions in tandem with the lifecare contract. Investigate how and when the long-term-care insurance might kick in to cover the monthly fees of an A or B contract. This could allow you to afford a higher-end facility. Alternatively, a C contract might be better because you would save the entrance fees and your insurance could help pay for long-term care, should it be required.
With lifecare, both you and the CCRC have an interest in the financial health of the other. You���ll be asked to provide a financial statement of your assets to qualify for a contract. Similarly, you���ll need to evaluate the financial strength of the community you���re considering. If this is not in your wheelhouse, consider having an accountant evaluate the CCRC on your behalf.
Get the community���s financial statements and look at the standard measures of financial health, including cash on hand, debt levels, debt service coverage, and how the community has performed over time. Some retirement communities maintain a separate foundation that, among other things, supports the lifecare mission. You���ll want to include the foundation���s numbers in your evaluation.
A small number of facilities have bond ratings associated with their debt. The rating, and how it has changed over time, is another indicator of financial health. Finally, is there evidence of community growth and reinvestment in existing facilities?
You���ll also want to know exactly what���s covered by the monthly fee. Typically, it covers your rent and shared amenities. In some communities, one meal per day is also built into the monthly fee. Additional meals can be a la carte or part of an expanded plan. Unlike in college, alcohol might be included in the meal plan. Assisted living and nursing facility fees include three meals per day.
Communities may also differ on the standard cleaning services included, and how much assistance you get moving from one level of care to another. Extra services typically can be arranged at a cost.
When my children were considering colleges, they found the right places during campus visits. Visiting multiple communities can provide a similar insight since each community has its own personality.
With our parents��� facilities, one community had a stronger religious emphasis than the other. My wife���s aunt lived in another CCRC that catered to former government and military officers. On your tour, ask to speak with current residents to see if it���s a good fit.
Evaluate all levels of care that you may ultimately use. Even if you plan to enter as an independent living resident, be sure to visit and get a feel for both the assisted living and skilled nursing facilities. The nursing home and skilled nursing care facilities aren���t just for end-of-life. They can also be a rehab stop on the way back to independent living after a hospital stay, so you���ll likely receive care there eventually.
You may find a CCRC with an excellent independent living setup affiliated with a less-than-desirable nursing home. Avoid it. When it comes to evaluating nursing homes, Medicare has online resources to compare��facilities based on a five-star rating system.
This evaluation can supplement your observation and the community���s reputation. Don���t depend on the community���s website for rating information. Look it up yourself. If there���s a discrepancy, ask for an explanation.
Besides financial protection, the real value of these communities is the opportunity for socialization and active engagement. Our parents all participated in social and recreational activities, as well as volunteer opportunities, within the community. My father-in-law even served on the board of directors as a resident representative.
On your visit, do you see evidence of varied activities you might enjoy? A good open-ended question to ask is, ���How do you encourage socialization?���
Then there are some practical considerations. Is the community near your family? Is it practical to continue seeing your current physician, or are you comfortable with the physicians available on site? If you intend to be a ���snowbird,��� what are the fees when you���re away from the community?
Make a list of your priorities. Comparing each facility against your list will go a long way toward helping you make a decision. There are many factors to consider: Whether or not you have a pet, you���ll want to understand the pet policy at the various levels of care. If you still drive, what are the provisions for cars? What about banking, barber or salon services, personal training, and internet services? Where is the grocery store and what transportation services are available?
Our parents all spent approximately 20 years at their continuing care retirement communities. For each, it was a wise choice that kept them engaged while they were younger and well cared for as they got older. While none ran out of money, the protection of their lifecare contracts was their ultimate safety net.
Howard Rohleder, a former chief executive of a community hospital, retired early after more than 30 years in hospital administration. In retirement, he enjoys serving on several nonprofit boards, exploring walking paths with his wife Susan, and visiting their six grandchildren. A little-known fact: In May 1994, Howard was featured���along with five others���on the cover of Kiplinger���s Personal Finance for an article titled ���Secrets of My Investment Success.��� Check out his previous��articles.
Both communities provided excellent care, but had differing levels of service and had different ways of being paid. I���ve garnered further insights as a volunteer board member for a third continuing care retirement community (CCRC), a private, not-for-profit facility near where I live.
Much retirement planning is driven by fear of running out of money. Retirement communities that include a ���lifecare��� or ���lifeplan��� contract are a hedge against this risk. They provide a continuum of services to meet changing needs as you age, while also reserving you a spot in the appropriate care facility. The lifecare contract guarantees that, no matter what happens to your assets, there will be a place where you can receive the appropriate level of care.
Besides paying a monthly fee, lifecare residents may be responsible for an entry fee. Many people use proceeds from the sale of their home to pay it. There may be an option to pay the entry fee gradually over time, or a refund provision if you leave the community within a given period.
Lifecare services typically include three stages: independent living, assisted living and long-term care. The independent living options often include individual homes���sometimes called cottages or villas���as well as apartments. The long-term care component includes skilled nursing services. Memory care is also increasingly available as a separate unit. Usually, this array of services is located on one campus, but it can also be offered at multiple sites in a metropolitan area.
Lifecare contracts are categorized as types A, B and C. There is a D contract as well, but it doesn���t offer a lifecare guarantee. Some communities offer only one type of contract, and some offer more than one. Here are the main features of each:
Type A contracts require an entry fee and hold the monthly fee increase to the general level of inflation, regardless of the level of care needed. Within a given market, type A contracts are likely to be the most expensive.
Type C contracts have no entry fee, but you pay the going rate for each level of care when you need it. C contracts are the least expensive lifecare option initially. If you spend substantial time in the nursing home, however, it will come at a high cost. If you never need nursing home care, your lifetime outlay would be lower.
Type B contracts are hybrids that combine components of A and C.
Type D contracts are purely rentals, without a lifecare guarantee. People who run out of money during retirement would have to move out if they can���t pay the rent at some future date.
When choosing among these service levels, your health and likely longevity are the deciding factors. Look to the experiences of your elderly relatives for guidance. A second consideration is whether you���ve purchased a long-term-care insurance policy.
If you have such a policy, review its provisions in tandem with the lifecare contract. Investigate how and when the long-term-care insurance might kick in to cover the monthly fees of an A or B contract. This could allow you to afford a higher-end facility. Alternatively, a C contract might be better because you would save the entrance fees and your insurance could help pay for long-term care, should it be required.
With lifecare, both you and the CCRC have an interest in the financial health of the other. You���ll be asked to provide a financial statement of your assets to qualify for a contract. Similarly, you���ll need to evaluate the financial strength of the community you���re considering. If this is not in your wheelhouse, consider having an accountant evaluate the CCRC on your behalf.
Get the community���s financial statements and look at the standard measures of financial health, including cash on hand, debt levels, debt service coverage, and how the community has performed over time. Some retirement communities maintain a separate foundation that, among other things, supports the lifecare mission. You���ll want to include the foundation���s numbers in your evaluation.
A small number of facilities have bond ratings associated with their debt. The rating, and how it has changed over time, is another indicator of financial health. Finally, is there evidence of community growth and reinvestment in existing facilities?
You���ll also want to know exactly what���s covered by the monthly fee. Typically, it covers your rent and shared amenities. In some communities, one meal per day is also built into the monthly fee. Additional meals can be a la carte or part of an expanded plan. Unlike in college, alcohol might be included in the meal plan. Assisted living and nursing facility fees include three meals per day.
Communities may also differ on the standard cleaning services included, and how much assistance you get moving from one level of care to another. Extra services typically can be arranged at a cost.
When my children were considering colleges, they found the right places during campus visits. Visiting multiple communities can provide a similar insight since each community has its own personality.
With our parents��� facilities, one community had a stronger religious emphasis than the other. My wife���s aunt lived in another CCRC that catered to former government and military officers. On your tour, ask to speak with current residents to see if it���s a good fit.
Evaluate all levels of care that you may ultimately use. Even if you plan to enter as an independent living resident, be sure to visit and get a feel for both the assisted living and skilled nursing facilities. The nursing home and skilled nursing care facilities aren���t just for end-of-life. They can also be a rehab stop on the way back to independent living after a hospital stay, so you���ll likely receive care there eventually.
You may find a CCRC with an excellent independent living setup affiliated with a less-than-desirable nursing home. Avoid it. When it comes to evaluating nursing homes, Medicare has online resources to compare��facilities based on a five-star rating system.
This evaluation can supplement your observation and the community���s reputation. Don���t depend on the community���s website for rating information. Look it up yourself. If there���s a discrepancy, ask for an explanation.
Besides financial protection, the real value of these communities is the opportunity for socialization and active engagement. Our parents all participated in social and recreational activities, as well as volunteer opportunities, within the community. My father-in-law even served on the board of directors as a resident representative.
On your visit, do you see evidence of varied activities you might enjoy? A good open-ended question to ask is, ���How do you encourage socialization?���
Then there are some practical considerations. Is the community near your family? Is it practical to continue seeing your current physician, or are you comfortable with the physicians available on site? If you intend to be a ���snowbird,��� what are the fees when you���re away from the community?
Make a list of your priorities. Comparing each facility against your list will go a long way toward helping you make a decision. There are many factors to consider: Whether or not you have a pet, you���ll want to understand the pet policy at the various levels of care. If you still drive, what are the provisions for cars? What about banking, barber or salon services, personal training, and internet services? Where is the grocery store and what transportation services are available?
Our parents all spent approximately 20 years at their continuing care retirement communities. For each, it was a wise choice that kept them engaged while they were younger and well cared for as they got older. While none ran out of money, the protection of their lifecare contracts was their ultimate safety net.
Howard Rohleder, a former chief executive of a community hospital, retired early after more than 30 years in hospital administration. In retirement, he enjoys serving on several nonprofit boards, exploring walking paths with his wife Susan, and visiting their six grandchildren. A little-known fact: In May 1994, Howard was featured���along with five others���on the cover of Kiplinger���s Personal Finance for an article titled ���Secrets of My Investment Success.��� Check out his previous��articles.The post Life Care Compared appeared first on HumbleDollar.
March 20, 2022
So Much Losing
INDEX FUND INVESTORS can take a victory lap each time the Standard & Poor���s Index Versus Active (SPIVA) scorecard is published. The results, while they don���t change much, underscore how futile it is to try to pick winning fund managers. The year-end 2021 report concludes what so many of us already know. Still, it���s helpful to be reminded, so we don���t get lured in by the latest hot investment narrative.
The 2021 numbers reveal a dreadful year for investment managers. Among U.S. stock funds, 80% lagged behind the S&P Composite 1500 index���a broad gauge of the market from small- to large-sized stocks. Out of the past 20 years, only 2011 and 2014 were worse for fund managers. Take a 10-year perspective and you���re even more challenged to spot winning portfolio managers���a measly 14% of U.S. active stock funds beat the market over the past decade.
Here are stats I find astounding: S&P reports that ���5% of funds across asset classes and categories were merged or liquidated in 2021. Over 20 years, nearly 70% of domestic equity funds and two-thirds of internationally focused equity funds across segments were confined to the history books.���
That means most stock funds that were around in 2002 are gone today. In finance parlance, we call this ���survivorship bias.��� Funds that perform poorly tend to vanish. Clever fund companies might shutter an underperforming strategy and then later make a comeback with a clean slate when market conditions change.
Why do so many professional managers fail to beat a plain-old index fund? Here are three key reasons:
1. Investment costs. Mutual fund managers aiming to beat the market must pay a team of analysts and cover all the overhead expenses of running a business, not to mention paying themselves handsome salaries. Trading in and out of stocks also costs money, plus it can run up your tax bill, too. All this makes it tough to beat index funds, which cost basically nothing.
2. Overconfidence. Thinking you��know more than the next investor takes a certain cockiness. It causes active stock pickers to take on too much risk, often leading to losses versus the index. On the flip side, bearish portfolio managers might end up holding too much cash for too long, waiting for a stock market crash.
3. Competition. Smart finance folks are numerous nowadays. There are more than 175,000 CFA charterholders around the world, all trying to uncover diamond-in-the-rough stocks. Think of it this way: It was easy for six-foot-ten NBA legend Bill Russell to dominate in his era. Basketball was still new. Today, players from across the globe strive to become professional basketball players. There's more and better competition. It���s the same thing in the high-stakes game of stock picking.
The 2021 numbers reveal a dreadful year for investment managers. Among U.S. stock funds, 80% lagged behind the S&P Composite 1500 index���a broad gauge of the market from small- to large-sized stocks. Out of the past 20 years, only 2011 and 2014 were worse for fund managers. Take a 10-year perspective and you���re even more challenged to spot winning portfolio managers���a measly 14% of U.S. active stock funds beat the market over the past decade.
Here are stats I find astounding: S&P reports that ���5% of funds across asset classes and categories were merged or liquidated in 2021. Over 20 years, nearly 70% of domestic equity funds and two-thirds of internationally focused equity funds across segments were confined to the history books.���
That means most stock funds that were around in 2002 are gone today. In finance parlance, we call this ���survivorship bias.��� Funds that perform poorly tend to vanish. Clever fund companies might shutter an underperforming strategy and then later make a comeback with a clean slate when market conditions change.
Why do so many professional managers fail to beat a plain-old index fund? Here are three key reasons:
1. Investment costs. Mutual fund managers aiming to beat the market must pay a team of analysts and cover all the overhead expenses of running a business, not to mention paying themselves handsome salaries. Trading in and out of stocks also costs money, plus it can run up your tax bill, too. All this makes it tough to beat index funds, which cost basically nothing.
2. Overconfidence. Thinking you��know more than the next investor takes a certain cockiness. It causes active stock pickers to take on too much risk, often leading to losses versus the index. On the flip side, bearish portfolio managers might end up holding too much cash for too long, waiting for a stock market crash.
3. Competition. Smart finance folks are numerous nowadays. There are more than 175,000 CFA charterholders around the world, all trying to uncover diamond-in-the-rough stocks. Think of it this way: It was easy for six-foot-ten NBA legend Bill Russell to dominate in his era. Basketball was still new. Today, players from across the globe strive to become professional basketball players. There's more and better competition. It���s the same thing in the high-stakes game of stock picking.
The post So Much Losing appeared first on HumbleDollar.
Credit Where It���s Due
I RECENTLY STUMBLED on a way to save a significant sum on my home and auto insurance. While I knew that insurance companies use credit scores in setting premiums, I didn���t know about a policy option that could be turned to our advantage.
Our home, auto and umbrella policies are with Safeco, which is part of Liberty Mutual. I don���t know if this option is available with other insurers, although Liberty Mutual has many subsidiaries and I would guess it may be available with them. If and how credit history can be used in setting premiums also varies by state.
Buried in the pile of documents I receive every year with my policies is an innocuous-looking page titled ���information about your policy.��� It says that Safeco considers my credit history in setting my premiums and that, if I want the insurer to update my credit information, I can mail back the page. It also warns that the review could either raise or lower my premiums.
I never paid much attention to this. I had assumed Safeco was already monitoring my credit history and factoring it into my annual premiums. Also, the language about possibly increasing my premiums gave me pause.
Recently, when I received my annual policies, I called my local agent to grouse about the premium increases. She brought up the credit review forms, asked about my credit score���it hovers around 800���and suggested I send in the forms. She recently had another client who did so and received a premium reduction of several hundred dollars.
I took her advice and mailed in the forms, one for home and one for auto. The option didn���t apply to my umbrella policy. To my happy surprise, a couple of weeks later, I received a 20% reduction on my homeowner���s premium, worth $606, and a 27% cut on my auto premium, or $489, for a total savings of $1,095.
During this process, I had an online chat with a Safeco rep, who explained that the company runs my credit history when the policy is first issued. After that, it���s up to me to request it, which can be done once a year. It dawned on me that I���ve had my Safeco policies for many years, so my credit score must have increased a good bit during that time.
I keep an eye on my credit score with Credit Karma, so I felt comfortable that my score was good before I sent in the forms. Insurance companies use a credit-based insurance score, which is different from a regular credit score, but I figured they were likely similar.
If your insurer offers a credit review, I suggest checking your score right before making the request. Indeed, after paying my now-reduced annual premiums in full using my credit card, I raised my card balance relative to my card���s credit limit���and my credit score dropped 12 points.
Our home, auto and umbrella policies are with Safeco, which is part of Liberty Mutual. I don���t know if this option is available with other insurers, although Liberty Mutual has many subsidiaries and I would guess it may be available with them. If and how credit history can be used in setting premiums also varies by state.
Buried in the pile of documents I receive every year with my policies is an innocuous-looking page titled ���information about your policy.��� It says that Safeco considers my credit history in setting my premiums and that, if I want the insurer to update my credit information, I can mail back the page. It also warns that the review could either raise or lower my premiums.
I never paid much attention to this. I had assumed Safeco was already monitoring my credit history and factoring it into my annual premiums. Also, the language about possibly increasing my premiums gave me pause.
Recently, when I received my annual policies, I called my local agent to grouse about the premium increases. She brought up the credit review forms, asked about my credit score���it hovers around 800���and suggested I send in the forms. She recently had another client who did so and received a premium reduction of several hundred dollars.
I took her advice and mailed in the forms, one for home and one for auto. The option didn���t apply to my umbrella policy. To my happy surprise, a couple of weeks later, I received a 20% reduction on my homeowner���s premium, worth $606, and a 27% cut on my auto premium, or $489, for a total savings of $1,095.
During this process, I had an online chat with a Safeco rep, who explained that the company runs my credit history when the policy is first issued. After that, it���s up to me to request it, which can be done once a year. It dawned on me that I���ve had my Safeco policies for many years, so my credit score must have increased a good bit during that time.
I keep an eye on my credit score with Credit Karma, so I felt comfortable that my score was good before I sent in the forms. Insurance companies use a credit-based insurance score, which is different from a regular credit score, but I figured they were likely similar.
If your insurer offers a credit review, I suggest checking your score right before making the request. Indeed, after paying my now-reduced annual premiums in full using my credit card, I raised my card balance relative to my card���s credit limit���and my credit score dropped 12 points.
The post Credit Where It���s Due appeared first on HumbleDollar.
Question Yourself
ARISTOTLE WROTE THAT, ���It is a part of probability that many improbable things will happen.��� Investors certainly understand this. For better or worse, we know that the market has frequent ups and downs. On average, the S&P 500 has dropped 10% or more approximately every 18 months, and it���s dropped more than 20% about every four years.
Unfortunately for investors, another fundamental truism also applies: We dislike losses disproportionately more than we like gains. Harry Markowitz referenced this notion in his 1959��monograph. In 1979, Amos Tversky and Daniel Kahneman developed the idea more fully, calling it��prospect theory.
This leaves investors in a tough spot. On the one hand, we know that markets don���t move up in a straight line. Far from it. But at the same time, we hate it when we see our investments decline in value. The result: Disappointment is almost guaranteed.
It can be especially unnerving if you���re further along in your career���or are retired���and the numbers are larger. Suppose you started 2022 with a $5 million portfolio, allocated in a reasonably conservative 60% stock-40% bond mix. With the U.S. stock market down about 8% year-to-date, your portfolio might be down about $240,000 at this point ($5 million x 60% x 8%). Even though your portfolio might have��gained��several hundred thousand dollars last year, it���s natural to focus only on a portfolio���s high watermark and on where things stand relative to that peak.
As a result, the cycle repeats: We invest in the stock market because we know that, on average, it���s been a reliable way to build wealth. But then, just as reliably, the market drops, giving investors a collective stomachache and leaving them to wonder when things might turn positive again. Eventually, the market does recover. But then, often without missing a beat, our worries shift. We start worrying if the market has gotten too high again. And so it goes on. While this pattern is as old as markets themselves, the past two years have provided a microcosm of this psychological rollercoaster. If you���re feeling fatigued by it, I don���t blame you.
Other than reaching for the Mylanta, what steps can you take to make the investing process less exhausting? In the past, I���ve suggested a few ideas. For starters, ignore the purveyors of so-called alternative investment funds. The research firm Morningstar has��studied��funds like this and concluded that they���re a little like the tooth fairy���nice in theory, but generally not realistic in practice. Another simple strategy, which I described last week: Look for ways to build���or even just to identify���margins of safety��in your financial life.
What else can you do? One silver lining of a market downturn: It gives investors an opportunity to conduct stress tests. With the overhang of inflation at home and war abroad, 2022 has gotten off to a gloomy start. The reality, though, is that the U.S. market is still only down about 10% from its peak. And it���s��up��more than 10% compared to where it was a year ago. That makes this a good opportunity to revisit your portfolio���s risk level and reassess your comfort with it. If this year���s losses are just a blip on your radar, that���s great. But if you���ve been losing sleep, consider this modest drop as an opportunity. If you decide to reduce risk, it���s far better to make that change when your portfolio is down just 5% or 10%, rather than when it���s down 50%.
If you want to revisit the risk level in your portfolio, I���d start by asking yourself two questions.
First, how much risk do I��need��to take? Investors saving for long-term goals generally need to have some stock market exposure to provide growth. But how much you need depends on your specific goals. Try to estimate how many dollars you���ll need for each goal and in how many years. If you know those numbers, that will allow you to work backward, so you can determine the absolute minimum investment return you���ll need to get there. That, in turn, can help you determine the minimum you���d need to have in stocks to achieve that return.
Second, how much risk can I��afford��to take? If you���re early in your career and saving for retirement far in the future, the answer to this question may be simple: You might be able to take as much risk as you want. But as you get older and closer to your goals���and especially once you���re actually in retirement���you���ll want to cap your stock market exposure. That will allow you to meet your goals regardless of whether the market is up or down in any given year. For example, if you need to withdraw $50,000 per year, I���d suggest maintaining a minimum $250,000 to $350,000 outside of stocks at all times.
To the extent that those two questions provide different answers, that���s okay. That���s true for most people. You might calculate that you need a minimum 40% in stocks but can afford a maximum of 70%. How would you decide where to situate your portfolio on the spectrum in between? To answer that question, I suggest one more calculation.
For each possible asset allocation, I���d calculate the potential maximum loss in a bear market. Suppose you were considering a 60% allocation to stocks. If share prices were to drop by 50%���as they did in both 2000-02 and in 2007-09���your portfolio might drop by 30% (50% x 60%). If you have a $1 million portfolio, that would imply a $300,000 loss. If you have a $5 million portfolio, the potential loss would be $1.5 million. It���s useful to translate percentages into dollars because, in my experience, each person has their own threshold for acceptable dollar losses, plus thinking in dollars makes the risk feel more real. Going through these scenarios can help you uncover where that point might lie for you.
In his book��One Up on Wall Street, Peter Lynch provided a set of illustrations to help investors understand the nature of the stock market. For each stock, he made a chart of the share price over time. Then he would overlay a chart of the company���s profits. In each case, a clear pattern would emerge: Over the long term, a company���s stock price generally followed its profits. That was the big picture. But in any given year, the share price often became disconnected from the company���s profits. Sometimes, the stock price got ahead of the company���s earnings, and sometimes it fell behind.
On paper, it was clear that the two lines would likely reconverge. But in real life, when investors are in the midst of the market���s daily swings and the headlines are full of bad news, emotion tends to take over. That can make it hard to see the big picture���to believe that the two lines will, in fact, converge again. That���s why my final recommendation is to take some time to study market history. That, I think, can help investors better see the market for what it is: logical over the long term, but often irrational in the short term.
Investment advisor Michael Batnick��sums it up��well. ���Try not to get too excited on up days and too despondent on down days,��� he wrote. ���The market���s gonna go where it���s gonna go and you need to preserve your mental capital.���
Adam M. Grossman��is the founder of Mayport, a fixed-fee wealth management firm. Sign up for Adam's Daily Ideas email, follow him on Twitter @AdamMGrossman��and check out his earlier articles.
Unfortunately for investors, another fundamental truism also applies: We dislike losses disproportionately more than we like gains. Harry Markowitz referenced this notion in his 1959��monograph. In 1979, Amos Tversky and Daniel Kahneman developed the idea more fully, calling it��prospect theory.
This leaves investors in a tough spot. On the one hand, we know that markets don���t move up in a straight line. Far from it. But at the same time, we hate it when we see our investments decline in value. The result: Disappointment is almost guaranteed.
It can be especially unnerving if you���re further along in your career���or are retired���and the numbers are larger. Suppose you started 2022 with a $5 million portfolio, allocated in a reasonably conservative 60% stock-40% bond mix. With the U.S. stock market down about 8% year-to-date, your portfolio might be down about $240,000 at this point ($5 million x 60% x 8%). Even though your portfolio might have��gained��several hundred thousand dollars last year, it���s natural to focus only on a portfolio���s high watermark and on where things stand relative to that peak.
As a result, the cycle repeats: We invest in the stock market because we know that, on average, it���s been a reliable way to build wealth. But then, just as reliably, the market drops, giving investors a collective stomachache and leaving them to wonder when things might turn positive again. Eventually, the market does recover. But then, often without missing a beat, our worries shift. We start worrying if the market has gotten too high again. And so it goes on. While this pattern is as old as markets themselves, the past two years have provided a microcosm of this psychological rollercoaster. If you���re feeling fatigued by it, I don���t blame you.
Other than reaching for the Mylanta, what steps can you take to make the investing process less exhausting? In the past, I���ve suggested a few ideas. For starters, ignore the purveyors of so-called alternative investment funds. The research firm Morningstar has��studied��funds like this and concluded that they���re a little like the tooth fairy���nice in theory, but generally not realistic in practice. Another simple strategy, which I described last week: Look for ways to build���or even just to identify���margins of safety��in your financial life.
What else can you do? One silver lining of a market downturn: It gives investors an opportunity to conduct stress tests. With the overhang of inflation at home and war abroad, 2022 has gotten off to a gloomy start. The reality, though, is that the U.S. market is still only down about 10% from its peak. And it���s��up��more than 10% compared to where it was a year ago. That makes this a good opportunity to revisit your portfolio���s risk level and reassess your comfort with it. If this year���s losses are just a blip on your radar, that���s great. But if you���ve been losing sleep, consider this modest drop as an opportunity. If you decide to reduce risk, it���s far better to make that change when your portfolio is down just 5% or 10%, rather than when it���s down 50%.
If you want to revisit the risk level in your portfolio, I���d start by asking yourself two questions.
First, how much risk do I��need��to take? Investors saving for long-term goals generally need to have some stock market exposure to provide growth. But how much you need depends on your specific goals. Try to estimate how many dollars you���ll need for each goal and in how many years. If you know those numbers, that will allow you to work backward, so you can determine the absolute minimum investment return you���ll need to get there. That, in turn, can help you determine the minimum you���d need to have in stocks to achieve that return.
Second, how much risk can I��afford��to take? If you���re early in your career and saving for retirement far in the future, the answer to this question may be simple: You might be able to take as much risk as you want. But as you get older and closer to your goals���and especially once you���re actually in retirement���you���ll want to cap your stock market exposure. That will allow you to meet your goals regardless of whether the market is up or down in any given year. For example, if you need to withdraw $50,000 per year, I���d suggest maintaining a minimum $250,000 to $350,000 outside of stocks at all times.
To the extent that those two questions provide different answers, that���s okay. That���s true for most people. You might calculate that you need a minimum 40% in stocks but can afford a maximum of 70%. How would you decide where to situate your portfolio on the spectrum in between? To answer that question, I suggest one more calculation.
For each possible asset allocation, I���d calculate the potential maximum loss in a bear market. Suppose you were considering a 60% allocation to stocks. If share prices were to drop by 50%���as they did in both 2000-02 and in 2007-09���your portfolio might drop by 30% (50% x 60%). If you have a $1 million portfolio, that would imply a $300,000 loss. If you have a $5 million portfolio, the potential loss would be $1.5 million. It���s useful to translate percentages into dollars because, in my experience, each person has their own threshold for acceptable dollar losses, plus thinking in dollars makes the risk feel more real. Going through these scenarios can help you uncover where that point might lie for you.
In his book��One Up on Wall Street, Peter Lynch provided a set of illustrations to help investors understand the nature of the stock market. For each stock, he made a chart of the share price over time. Then he would overlay a chart of the company���s profits. In each case, a clear pattern would emerge: Over the long term, a company���s stock price generally followed its profits. That was the big picture. But in any given year, the share price often became disconnected from the company���s profits. Sometimes, the stock price got ahead of the company���s earnings, and sometimes it fell behind.
On paper, it was clear that the two lines would likely reconverge. But in real life, when investors are in the midst of the market���s daily swings and the headlines are full of bad news, emotion tends to take over. That can make it hard to see the big picture���to believe that the two lines will, in fact, converge again. That���s why my final recommendation is to take some time to study market history. That, I think, can help investors better see the market for what it is: logical over the long term, but often irrational in the short term.
Investment advisor Michael Batnick��sums it up��well. ���Try not to get too excited on up days and too despondent on down days,��� he wrote. ���The market���s gonna go where it���s gonna go and you need to preserve your mental capital.���
Adam M. Grossman��is the founder of Mayport, a fixed-fee wealth management firm. Sign up for Adam's Daily Ideas email, follow him on Twitter @AdamMGrossman��and check out his earlier articles.The post Question Yourself appeared first on HumbleDollar.
