Jonathan Clements's Blog, page 450

The Buck Stops There

A READER FROM EUROPE WRITES, “In your book, How to Think About Money, you suggest a U.S. investor might have 40% in U.S. stocks and 20% in non-U.S. stocks [plus 40% in U.S. bonds]. I understand that this tilt toward U.S. stocks reflects the fact that U.S. readers should keep most of their portfolio in dollar-denominated investments to avoid currency exchange risk. Since I live in Europe and I will retire in Euroland, would you have a rule of thumb on what proportion to allocate to euro-denominated investments?”

My response: “As I see it, you need to juggle two competing objectives: 1) You want investments denominated in your home currency, so money you plan to spend soon isn’t subject to currency risk; and 2) You don’t want to invest too much in your home stock market, because of the risk it could be the next Japan, which has lost half its value over the past 27 years.

“I think you can largely solve this problem by keeping all your bond exposure in euros, while holding a globally diversified stock portfolio. As you approach retirement, you’ll want to increase your bond exposure—and that will not only lower your portfolio’s riskiness, as reflected in your stock-bond mix, but also reduce your currency exposure. If that still leaves you with an uncomfortable amount of currency exposure, you might overweight Euroland stocks. Let’s say you’re retired and have 50% stocks and 50% bonds, with half the stocks in Euroland shares and all the bonds in euro-denominated securities. That means only 25% of your portfolio is invested outside the Euroland and hence subject to foreign exchange risk—a reasonable amount of currency risk for a retiree to have.”

The currency issue becomes trickier if you live in a small country that isn’t part of a currency bloc like the euro. In that case, investing in stock and bond funds that hedge currencies would likely make sense. That way, you can get broader diversification—without the added foreign-exchange risk.

The post The Buck Stops There appeared first on HumbleDollar.

Bucket List

WHEN MY WIFE and I started dating, we were both in the habit of budgeting through rough approximation. We made ballpark guesses about the percentage of our income that went toward specific spending categories and goals. But in truth, neither of us had much idea how much we spent on most things, other than obvious fixed costs like rent or car insurance. As a result, our ability to plan for long-term goals was limited.

As we began to commingle our finances—buying groceries together, paying shared rent, taking joint trips—we started to determine our long and short-term spending goals, and realized our approach needed to change. We considered a number of apps to help us be more strategic in our spending, such as Mint and YNAB. We also looked at banks that offered budgeting categories, so people can see spending around specific priorities. One challenge that none of these services truly solved was the interplay between short-term needs (groceries, gas, etc.), mid-term goals (yearly vacation, new laptop) and long-term savings (house down payment). Over time, we realized that we needed a system where we allocated every dollar we earned to one of these broad categories, so we could take care of necessary expenses while still making financial progress.

Now, to help better conceptualize and bucket our family’s different categories, Sarah and I use different accounts and cards, each assigned to different purposes. Her high-interest savings is dedicated to vacations; mine represents our emergency fund. Her brokerage account is for a (someday) vacation home, while mine is for wealth preservation and growth. I also have a savings account linked to my checking that I use for house and car repairs, while her linked savings account is for gifts and weekend fun activities. Our individual checking accounts are then only for daily needs. On top of this, we’ve dedicated a specific credit card to eating out and we set a monthly goal to stay under. This helps us easily know if we’re on track—and decide between three decent restaurants or one really nice one (as well as how many cocktails make sense).

As a couple, we also sat down and set goals for each area, and then automated our transfers directly from our paychecks to ensure each category is (slowly) growing. Big picture: This saves us from constantly having to ask “can we afford this?” We either have the money in the fund so we can do it—or we need to wait until we accumulate it.

Zach Blattner is a former teacher and school leader who now teaches teachers across the Philly/Camden region as a faculty member at Relay GSE. He is a self-taught finance nerd who dispenses advice to his wife, friends, family and anyone else willing to listen.

The post Bucket List appeared first on HumbleDollar.

New Year, Fresh Start

WANT TO GET YOUR FINANCES headed in the right direction? Below are nine steps to take in 2017. With each step, I’ve included links to the relevant sections of HumbleDollar’s money guide.

1. Ask why. Before you start opening financial accounts and making trades, you need to figure out what you’re trying to achieve. “Not a problem,” you respond. You know what you want: A bigger house, a faster car, early retirement, a second home.

But before you devote your hard-earned dollar to these goals, think hard about whether you truly desire these things—or whether you’ve settled on these goals because they were important to your parents or because you’re trying to impress the neighbors.

2. Size up your opportunities. Got money to save? Where you stash those dollars depends on the opportunities available to you. For instance, your top goal each year should be contributing enough to your employer’s 401(k) plan to collect the full matching contribution. Don’t have a 401(k)? The next priorities would include paying off any credit-card debt, funding an IRA and so on down the list.

3. Get started as an investor. Don’t have much money to invest? While many financial firms have raised their required minimums, there are still plenty of good options for folks on tight budgets.

4. Buy a target-date retirement fund. Once you get that brokerage or mutual-fund account open, you’ll need to figure out what to buy. My advice: If you’re new to the investment game, seriously consider a target-date retirement fund. That will give you broad diversification in a single fund, plus a mix of stocks and bonds geared to your retirement date.

5. Rethink your life insurance. Maybe you recently got married or had a baby, and you need to boost coverage. Or perhaps the kids have left home or your net worth has ballooned, so you need less life insurance, because your family would be okay financially if you went under the next bus.

6. Build up your emergency fund—by funding a Roth IRA. Suppose you find yourself out of work. If you have made regular annual contributions to a Roth IRA, you may be in better financial shape than you imagine—because you can withdraw those contributions at any time, with no taxes or penalties owed.

7. Revisit 2016’s spending. Think back over the purchases, large and small, that you made over the past 12 months. Which do you remember most fondly? Use that to guide your spending in 2017.

8. Plan your estate. Maybe all you need is a will and the right beneficiaries listed on your retirement accounts—or maybe you need a far more elaborate estate plan. To get started, take a look at our estate-planning checklist.

9. Talk to your family about your finances. If you have teenagers, discuss how much you can contribute toward college costs. If your children are now adults, tell them about your estate plan. Whether you have a lot of money or a little, these conversations can be invaluable.

The post New Year, Fresh Start appeared first on HumbleDollar.

We’ve Moved

WELCOME TO OUR NEW HOME, HumbleDollar.com. Why the new address? You can learn more in my latest newsletter, which went out to email subscribers this morning. The newsletter also discusses six key investment insights—and how they’re relevant to today’s market.

Meanwhile, please feel free to wander around our new home. You’ll find pretty much everything that was on JonathanClements.com, including blog posts and newsletters. But you’ll also discover one huge addition: the entire contents of my Jonathan Clements Money Guide, with everything updated for 2017.

The post We’ve Moved appeared first on HumbleDollar.

Messing With Our Heads

It’s a new year—and with it comes our new address: HumbleDollar.com. Why the change? If you spend some time on the site, you’ll discover I have made some big changes:

The entire contents of the Jonathan Clements Money Guide, my annual financial guide, are now housed on HumbleDollar and available at no charge. HumbleDollar is, I like to think, the internet’s best organized, most comprehensive source of personal finance information. From now on, I’ll be able to revise the guide quickly and easily throughout the year, as news unfolds and new statistics are released. Indeed, after the markets closed on Friday, I updated a slew of pages, including those devoted to today’s economy and current valuations.
I’ll continue to blog every week or so, but you’ll also be hearing from others. These other writers will discuss the financial conundrums they’ve faced—and how they tackled them. Got a financial story to tell? Click here for the site’s blogging guidelines.
New subscribers to my free newsletter can sign up through the site, rather than sending me an email.
The site will carry advertising. I’m aiming to keep the ads to a minimum and—fear not—you won’t encounter any of those irritating pop-ups. My hope: I’ll garner enough traffic, and hence make enough from the ads, to cover the cost of the site, the newsletter and the writers I hire.

Why call the site HumbleDollar? I explain my thinking in a blog I posted yesterday. What happens if you head to JonathanClements.com? You should be automatically redirected to the new site.

Feels Wrong, Turns Out to Be Right

The financial markets have two primary functions: They can allow us to grow wealthy over time—and they can drive us completely batty along the way. As you mull that mixed blessing, consider six additional thoughts:

1. Spreading our investment bets widely is prudent and betting everything on one stock is foolish. But over the short term, the prudent strategy can lose us money, while behaving foolishly can earn us handsome gains. The lesson: We shouldn’t judge a long-term investment strategy by its short-term results.

2. If financial markets fall sharply in price, we should grow more enthusiastic, not less so. The reason: Everything else being equal, expected returns are now higher.

3. Sensible investment risk should be rewarded. But there’s a reason it’s called risk: We won’t get the reward every year—and we could suffer a dry spell that lasts a decade or more.

4. We’re advised to build globally diversified portfolios, because it improves the odds of making money over time and it damps down the short-term swings in a portfolio’s value. At any given moment, some investments may be struggling, but there’s a decent chance others are performing well. (Did I mention that some investments may be struggling?)

5. Financial markets are reasonably efficient, meaning they reflect all currently available information. Worried about the latest news? In all likelihood, it’s already baked into the price of the stocks and bonds we own.

6. There is no Market Timing Hall of Fame. Yes, pundits occasionally guess right on the direction of stock and bond prices. But nobody does so with the consistency necessary to earn superior returns.

That brings us to today. Of late, the financial markets have done an admirable job of performing their two primary functions—making money and messing with our heads.

U.S. large-company stocks posted solid gains in 2016, making it eight consecutive years of enviable results. U.S. small-company were up even more—a relief after 2015’s losing year.

Emerging stock markets, which posted four calendar-year losses in the five years through 2015, also posted healthy gains last year. But they also gave investors a wild ride. That ride got even wilder in the wake of the U.S. presidential election, as investors fretted over the impact of a possible global trade war.

Meanwhile, in 2016, developed foreign markets delivered more of the same. Translation: They had another disappointing year, fueling doubts about the wisdom of diversifying internationally.

At first blush, 2016’s widely varying results raise all kinds of apparently awkward questions. If large-cap stocks win every year, why own anything else? If a trade war is about to break out, shouldn’t we dump emerging markets? If developed foreign markets aren’t a decent diversifier, why own them?

But even as we raise these questions, we already know the answers—and they’re contained in our first six points:

1. A long-term investment strategy is—surprise, surprise—designed to make money over the long term. We shouldn’t get twitchy about a rational strategy, just because we don’t like the results from the past five years, let alone the past 12 months.

2. Thanks to recent lackluster gains, developed foreign stock markets and emerging markets are now much cheaper than U.S. shares—which means rational investors should be more enthusiastic, not less so. Valuations are the single biggest determinant of returns over a 10-year time horizon.

3. If we take sensible investment risk—meaning we get our market exposure by owning a broad array of securities—we should be rewarded over time. So which risks get rewarded? If we keep more in stocks and less in bonds, we should earn higher long-run returns. Similarly, within stocks, we should clock better long-run results if we favor riskier parts of the global financial markets.

We won’t collect these superior returns every year, but we should collect them over longer periods. During the 15 years through Nov. 30, emerging markets were up an average 10% a year, while S&P’s small-cap index notched 10.4%. What about the S&P 500 index of large-company stocks? It averaged just 6.6%.

4. International diversification seems like a wonderful idea when U.S. stocks struggle and foreign markets roar ahead. It seems less wonderful when U.S. stocks are riding high, as they have in the current decade. What about the previous eight decades? Foreign stocks outpaced the U.S. in five out of the eight.

5. Investors quickly buy and sell securities based on the latest news, so the information is almost immediately reflected in market prices. Donald Trump’s election? At this point, that’s old news. There will, no doubt, be policy announcements that affect global markets in the months ahead. But we can be confident that the markets have already incorporated current hopes and concerns about a Trump presidency.

6. It would be great if we could accurately forecast the direction of markets and thereby avoid all uncertainty. But the only thing certain about market-timing is its eventual failure. None of us, alas, is smarter than the collective wisdom of all investors, as reflected in today’s securities prices.

Not so sure? For a reality check, cast your mind back to year-end 2008, during the midst of the financial crisis. Everyone hated stocks—especially the large-cap stocks in the S&P 500. Over the prior 10 years, the S&P 500 had lost 1.4% a year, while small-cap stocks were up 5.2%, developed foreign markets 1.3%, emerging markets 9.2% and high-quality bonds 6.2%. Those who bought based on that past performance would have suffered disappointing returns over the eight years that followed.

Tempted to buy based on today’s recent performance? I wouldn’t bet on a happier outcome.

Greatest Hits

Sometimes, I write a blog—and the world yawns. Sometimes, folks are a tad more excited. Below are some posts from the past few months that were especially popular:

Don’t Bother Reading This
The Two Financial Numbers You Need to Know
Roughly Speaking
If Making Money Is Easy, Why Aren’t We All Rich?
A Really Useful Engine

The post Messing With Our Heads appeared first on HumbleDollar.

Why HumbleDollar?

IN OUR 20s, we tend to be a confident lot: We figure we know what we want from our life, that the goal is to become rich, that money buys happiness and that we can beat the market.

The years that follow teach us otherwise. We discover that things we passionately wanted—a new job, a new house, admission to a particular college or club—don’t prove nearly as life transforming as we imagined. Most of us grow richer as we grow older, and yet we can probably think of earlier times when we were happier. We have a long history of purchases that disappointed. Very few of us—if we make an honest calculation—have outpaced the market averages over time.

But with those failings comes the chance to learn and improve. Make no mistake: A more successful financial life begins with a profound sense of humility—hence our name, HumbleDollar. Here are five reasons to embrace a humbler approach to handling our finances:

1. We expect too much from money. Yes, a bigger paycheck and greater wealth can enhance our lives. But blindly pursuing wealth and indiscriminately spending money don’t guarantee happiness, and they could backfire. If we devote too many hours to getting ahead in our careers, we’ll have less time for friends and family—a key source of happiness. If we spend without thought, we might accumulate possessions that involve constant upkeep and which prove more of a burden than a blessing.

2. We don’t instinctively know what we want. To get the most from our financial life, we need to eschew snap decisions and instead think hard about what we want. We should pause before making major purchases, so we have a chance to consider whether it’s money well spent. We should contemplate the goals we’re pursuing, and ask whether these are things we truly want, or whether we’re fixated on them because we believe others will approve.

3. We lack discipline. Given a choice between spending today and saving for tomorrow, we’re quick to sacrifice the future. Indeed, many folks seem to engage in magical thinking, imagining that their financial future will be bailed out by high investment returns, a rich uncle’s bequest or the next lottery ticket purchase. But none of these things will likely come to pass. Want to grow wealthy? For most of us, the road to riches lies in diligently socking away dollars for three or four decades.

4. We aren’t smarter than the market. We make innumerable mistakes when investing, growing overconfident as the markets rise, panicking when they fall and imagining we know which way stock prices and interest rates are headed next.

Want to be more rational? My advice: Forget picking individual stocks and forecasting financial markets—and instead focus on capturing as much of the markets’ return as possible. That means slashing investment costs, minimizing taxes and spreading our investment bets widely. The best way to do that: Buy a globally diversified portfolio of index funds.

5. We’re bad at imagining the future. Even outside the financial markets, we shouldn’t assume we know what the future will bring. We expect the years ahead to be “normal,” meaning they’ll look like the past, and yet surprising things happen all the time. That means we need to be financially prepared for the unexpected—whether it’s illness, unemployment or an early demise.

The post Why HumbleDollar? appeared first on HumbleDollar.

This Week/Jan. 1-7

IT’S TIME TO REBALANCE. Figure out your portfolio’s split between U.S. stocks, developed foreign markets, emerging markets, bonds and so on. Compare your current allocation to your target portfolio percentages. Buy and sell to bring your portfolio back into line with your target weights—but try to trade in a retirement account, so you avoid tax headaches.

The post This Week/Jan. 1-7 appeared first on HumbleDollar.

Time Will Tell

IF WE COULD VIEW TODAY from 10 years hence, our behavior—financial and otherwise—would be entirely different. We wouldn’t flail around so much in the muck of everyday life, fretting and fighting about nonsense. Instead, we’d focus more on issues that matter to our long-term wellbeing.

Problem is, it seems this sense of perspective can’t be taught by schools and colleges. Instead, it’s learned only through experience. It would be wonderful if we could be wise at age 20, but wisdom often eludes us until much later in life, at which point we’ve had decades of unnecessary turmoil and missed opportunities. Here are just five of the things that time teaches us:

1. Today, we worry that stocks are a bad investment. Thirty years from now, we’ll wonder why we owned anything else.

2. The market may appear easy to beat, and we may indeed outperform the averages over the next 12 months. But we won’t beat the market over a lifetime of investing, and the harder we try, the worse our results are likely to be.

3. Ten years from now, nobody’ll care or even remember that we didn’t get the promotion. And that likely includes us.

4. That purchase we desperately want? It isn’t going to transform our life. In fact, a year after we hand over our hard-earned dollars, we will likely barely notice our latest purchase—and we might even regret it.

5. Our life may be important to us and to those around us. But let’s keep things in perspective: There are seven billion of us, so any sense of self-importance is a tad ridiculous. We should strive to squelch our inner self-absorbed teenager sooner rather than later—and approach the world with a shrunken sense of entitlement and a greater appreciation of others.

Time Will Tell

IF WE COULD VIEW TODAY from 10 years hence, our behavior—financial and otherwise—would be entirely different. We wouldn’t flail around so much in the muck of everyday life, fretting and fighting about nonsense. Instead, we’d focus more on issues that matter to our long-term wellbeing.

Problem is, it seems this sense of perspective can’t be taught by schools and colleges. Instead, it’s learned only through experience. It would be wonderful if we could be wise at age 20, but wisdom often eludes us until much later in life, at which point we’ve had decades of unnecessary turmoil and missed opportunities. Here are just five of the things that time teaches us:

1. Today, we worry that stocks are a bad investment. Thirty years from now, we’ll wonder why we owned anything else.

2. The market may appear easy to beat, and we may indeed outperform the averages over the next 12 months. But we won’t beat the market over a lifetime of investing, and the harder we try, the worse our results are likely to be.

3. Ten years from now, nobody’ll care or even remember that we didn’t get the promotion. And that likely includes us.

4. That purchase we desperately want? It isn’t going to transform our life. In fact, a year after we hand over our hard-earned dollars, we will likely barely notice our latest purchase—and we might even regret it.

5. Our life may be important to us and to those around us. But let’s keep things in perspective: There are seven billion of us, so any sense of self-importance is a tad ridiculous. We should strive to squelch our inner self-absorbed teenager sooner rather than later—and approach the world with a shrunken sense of entitlement and a greater appreciation of others.

The post Time Will Tell appeared first on HumbleDollar.

Sitting in the Bleachers

I RARELY MAKE significant changes to my portfolio, but I still love to watch the financial markets. They’re great theater—and, if you can resist the urge to trade, free entertainment. Here are five random observations from the cheap seats:

First, don’t let your political views guide your investment strategy. The stock market has rallied modestly since Trump’s election, horrifying Clinton supporters who fear for the country’s future. But remember, any time you swap stocks for bonds, you’re making a bad long-term bet, because you’re exchanging a high-return asset for one with a lower expected return.

Second, stocks have been lackluster performers for the past 19 months. Even with the post-election rally, the S&P 500 is just 6.6% above its May 2015 high. One reason for that sluggish performance: Reported earnings per share for the S&P 500 companies peaked in 2014—and they remain 16% below that level.

Third, the so-called Smart Money keeps bashing everyday investors who favor dividend-paying stocks—and dividend investors keep getting richer. The Smart Money’s argument: All securities should be priced to deliver the same risk-adjusted return, so what folks make in dividends they should sacrifice in price appreciation. But if that’s the case, where’s the harm in favoring dividends? If you buy the Smart Money’s argument, it should be a wash.

And there’s a chance it won’t be a wash—and dividend investors will come out ahead. Dividend-paying stocks are often value stocks, and may benefit from the historical tendency for value stocks to outperform growth stocks. In addition, dividend-paying companies may be better run, because paying that regular dividend forces management to be more careful in handling the corporation’s cash.

Fourth, the Smart Money also likes to bash yield chasers who buy preferred stock, junk bonds and other riskier “fixed income” investments. I have more sympathy with this criticism, because I fear investors don’t realize that the high income may come at the expense of capital losses.

That said, ponder this: Many observers—including me—expect muted stock returns over the next decade, perhaps 6% a year. If you buy an emerging market debt fund or a high-yield junk bond fund that yields 6%, you might notch returns that aren’t that much worse than the stock market, even if you suffer some capital losses. My hunch: Emerging market debt could benefit as developing countries see their credit standing upgraded, while junk bonds are a dodgier proposition.

Finally, gold has been on a wild ride this year. It started 2016 at $1,060, got as high as $1,387 and is now back to $1,134 The ride has been even wilder for investors in gold stock funds, which are effectively a leveraged bet on gold. For instance, Vanguard’s gold fund—one of the category’s tamer offerings—had doubled in value as of August, but now sports a year-to-date gain of 41%. Were you enthusiastic about gold in August? You should be even more enthusiastic now.

The post Sitting in the Bleachers appeared first on HumbleDollar.