Things You Should Know About Investing

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Things You Should Know About Investing
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Outline

• Diversify, diversify, diversify
• Start saving early
• Stiff the tax man
• Save that raise!
• Stock returns are anything but average
• Expenses are the enemy
• Most mutual funds fail to beat their benchmark
• Do not attempt to time the market
• Do not use rankings or magazines to pick funds
• Risk and return are related
• Past performance does not persist
• Asset Allocation determines your performance

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• Truth 1
• Diversify, Diversify, Diversify

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Truth 1 - Diversify
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It Pays to Invest Beyond the U.S.
The U.S. market has not been the top-performing
market in the world in over 20 years!
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Truth 1 - Diversify
Global diversification may help during a Bear
Market.
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Truth 1 - Diversify
Global Diversification can painfully
underperform"The Market" for extended periods of
time.
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Truth 1 - Diversify
Global Diversification has the potential to
provide returns similar to "The Market" but with
much less risk.
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Truth 1 - Diversify
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Truth 1 - Diversify
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Truth 1 - Diversify

• Diversification is critically important during
  retirement.
• Consider how a couple who retired on Jan. 2000
  with a 1mm portfolio would have fared if they
  withdrew 4 of their portfolio in year 1 and
  increased subsequent withdrawals by 3 for
  inflation (40,000 year 1, 41,200 year 2etc.).

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Truth 1 - Diversify
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Truth 1 - Diversify

• Broad global diversification cannot guarantee
  that you will not sustain a loss, but it is your
  best weapon against a down market.
• Due to the random nature of asset class
  performance and because nobody can see into the
  future, we believe in structuring portfolios that
  are globally diversified over many different
  asset classes.
• Remember, Dont put all of your eggs in one
  basket.

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Truth 1 - Diversify

• Broad global diversification is designed to work
  over time, not every time.
• Indeed, there will be times where a globally
  diversified portfolio will lag the overall
  market by wide margins. Additionally, these
  periods of underperformance can last for years.
• Global diversification is designed to earn its
  stripes when the market goes south.

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Truth 1 - Diversify

• Diversification is the conscious choice not to
  make a killing, in exchange for the blessing of
  never getting killed financial writer Nick
  Murray
• The only investors that shouldnt diversify are
  those that are right 100 of the time
  Sir John Templeton

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• Truth 2
• Start Saving Early

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Truth 2 Start Saving Early

• Scenario
• Bob Beth are hired by the same company straight
  out of college when they are both 21.
• Beth starts contributing to the companys
  retirement plan right away by setting aside
  3,000 a year for the next 15 years and then
  stops making contributions. Her total
  contributions are 45,000
• Bob waits until he is 31 to join the company
  retirement plan and puts 3,000 a year in for the
  next 35 years. His total contributions are
  105,000.
• The company kicks in a 500 match every year and
  they both earn 8 on their investments.
• Lets take a look at how their retirement
  accounts stack up at age 65

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Truth 2 Start Saving Early
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Truth 2 Start Saving Early

• Einstein once commented how compound interest is
  one of the most powerful forces in the universe.
• Saving early, even in small amounts, can have a
  profound impact on the size of your nest egg.

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• Truth 3
• Stiff the Tax Man

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Truth 3 Stiff the Tax Man

• Scenario
• Jack Jill start contributing to their
  retirement accounts at 21 by setting aside 3,000
  per year until they reach 65.
• Jill invests her money inside of an IRA, thus
  deferring taxes, while Jack invests his money in
  a taxable brokerage account.
• Jack has a combined Federal (25) State (6)
  tax rate of 31.
• Lets take a look at how their retirement
  accounts stack up at age 65

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Truth 3 Utilize Tax-Favored Accounts
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• Truth 4
• Save That Raise!

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Truth 4 Save That Raise!

• Scenario
• Bob Beth are hired by the same company straight
  out of college when they are both 21 at the same
  annual salary of 35,000.
• Both start out saving 6 of their pay in the
  companys 401(k) plan with the company providing
  a 3 match.
• Beth increases her contributions by 1 percentage
  point every year when she receives a raise until
  she hits 15.
• Bob never increases his contributions.
• Lets take a look at how their retirement
  accounts stack up at age 65

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Truth 4 Save That Raise!!

• Most experts now agree the old rule of thumb to
  save 10 of your income is not enough anymore
  since todays generation cannot rely on a
  traditional pension and Social Security that are
  on shaky ground.
• Indeed, most experts say we need to save a
  minimum of 15. However, that can be very
  difficult to do when you are trying to juggle
  student loans, credit cards and housing costs.
• The good news is that even small increases to
  your savings rate over time can have an enormous
  impact on the size of your nest egg.

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• Truth 5
• Stock Returns are Anything but Average

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Truth 5 Stocks Returns are Never Average

• Everyone has heard the old adage, the stock
  market gives you about 10 a year.
• This could not be further from the truth

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Truth 5 Stocks returns are never Average
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Truth 5 Stocks returns are never Average

• You have to be invested in the stock market for
  very long periods of time (up to 20 or more
  years) to capture the long-term averages. You
  must stay the course.
• Indeed, over the past 80 years, you had a 94
  chance in any given year of not receiving a
  return that is remotely close to the average.
• One important note the more risky the asset
  class (think Emerging Markets), the more likely
  the annual returns will not resemble their
  long-term averages.

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• Truth 6
• Expenses are the Enemy

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Expenses are the Enemy

• Never, never pay a sales loadYou should never
  have to pay a cover charge for access to a
  mutual fund.
• Never, never pay a 12b-1 feethese are more
  hidden fees that compensate stock brokers.

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How Loads Work

• need to illustrate thisSam is working on

When you buy funds with loads, this is what
happens
Most of the money goes to your retirement fund
But some ends up in your brokers fund too!!
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With no-load funds, all of your money goes
towards your nest egg!
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Higher Costs Do Not Equal Better Performance
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Higher Costs Do Not Equal Better Performance
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Fees Continued

• Now that we have seen that higher fees do not
  equal better performance, lets look at how fees
  can impact your nest egg

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Fees Continued

• First, a couple of assumptions
• Both John Jane contribute 4,000 a year to an
  IRA for 30 years.
• Both enjoy an average investment return of 8 per
  year before fees are taken into account.
• John invests his IRA with a buddy who is in the
  brokerage business and is placed in a mutual fund
  with a load of 5.75 and annual fees of 1.50.
  Jane, being very cost conscious, invests her
  money in a mutual fund without a load and with
  annual expenses of only 0.25.
• Lets take a look a the results

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How Costs Add up Over Time
Higher fees cost John over 125,000!
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• Truth 7
• Most Mutual Funds Fail to Beat Their Benchmark

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Trying to Beat the Market

• Wall Street has a dirty little secret it doesnt
  want you to know - very few portfolio managers
  are able to beat the market.
• Indeed, the long-term track record of funds that
  are engaged in active management, meaning they
  are trying to beat the market, is down right
  sobering.
• In 1970, there were 355 mutual funds that tried
  to beat the market. Lets see how they stacked up
  against the market from 1970 - 2005

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Trying to Beat the Market

• You had approximately a 63 chance of picking a
  fund that didnt even survive. In other words,
  the fund performed so badly, it was taken out of
  commission.
• You had less than a 7 chance of picking a fund
  that beat the market. And it gets worse - there
  was no way to know in advance which one was going
  to be a winner.
• At Lawhorn, we will never put an investors
  capital at risk by thinking we are smart enough
  to find the needle in the haystack. Instead, we
  will play the odds and invest in an index fund,
  ensuring we will beat over 90 of the actively
  managed funds.

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What Box Would You Choose?
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Now, What Box Would You Choose?
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• Truth 8
• Market Timing Never Works

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Market Timing Does Not Work

• Investors often move out of stocks when the seas
  get choppy. I often hear, Im going to sit on
  the sidelines until the market picks back up.
• The problem with this philosophy is that the
  market never provides a clear signal when it will
  head back up. It is only well after the trend
  turns positive, it becomes clear things have
  turned around. And by then, you have missed out
  on much of the upward trend.
• Daily stock returns are very erratic and, over
  the long term, most days tend to cancel each
  other out with just a few days really responsible
  for the markets direction.

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Market Timing
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Market Timing
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Market Timing Does Not Work

• For you to earn the markets returns, you have to
  be invested in the market at all times. Its not
  timing the market, but rather, time in the
  market.
• Dont worry, the pros cant time the market
  either. MoniResearch studied the performance of
  85 market-timing managers and none of them were
  able to beat the market!

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• Truth 9
• Mutual Fund Rankings Dont Work

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Fund Rankings Do Not Work

• What about Morningstar ratings or certain
  financial magazines Top Funds list? Do these
  tools help you pick tomorrows best funds?
• In a word No!

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Performance Chasing
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Performance Chasing
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Mutual Fund Rankings

• The brightest minds on Wall Street and in
  academia have been searching for the holy grail
  of mutual fund investing Who will be tomorrows
  best funds?
• After chasing their tail for years, two universal
  conclusions were reached
• Past performance does not persist
• Costs were the only attribute that had predictive
  valuein every study performed, lower cost funds
  beat higher cost funds time after time.

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• Truth 10
• Risk Return are Related

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Emotion
Stocks have historically returned more than bonds
T-Bills.
Once inflation is factored in, T-Bills are no
longer considered risk-free. Indeed, T-Bill
returns are unlikely surpass the sum of
inflation, investment costs and taxes.
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Emotion
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Risk Return are Related

• Make no mistake about it There are no free
  lunches on Wall Street. If you want a higher
  expected return, you must take on more risk.

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• Truth 11
• Past Performance Does Not Persist

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Past Performance Does Not Persist

• Almost all investors choose their mutual funds
  based on prior performance. While looking at
  prior performance is important, it has almost no
  predictive ability for future returns.
• Simply put, yesterdays winners are not
  tomorrows winners.

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Performance Chasing
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• Truth 12
• Asset Allocation Determines Performance, Not
  Market Timing Security Selection

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Asset Allocation is Everything

• Asset allocation The process of spreading your
  investments over different asset classes (US
  Stocks, Intl Stocks, Bonds, Cashetc.)
  determines almost all of your investment returns.
  
• Indeed, this is another dirty little secret Wall
  Street has that they dont want you to know All
  those high-priced portfolio managers and analysts
  are working hard for naught. All of their
  activity to time the market and pick winners
  adds little to no value.

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The Truth
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Asset Allocation

• Why use index funds to invest in certain asset
  classes?
• Actively-managed funds are more expensive and
  have little chance to beat the index.
• Actively-managed funds might only sample from a
  given asset class leaving the possibility you
  will not capture the entire return.
• Actively-managed funds often veer from their
  charter. That is, a fund that is supposed to
  invest in US large-cap stocks will often dip into
  international equities and/or small-cap stocks,
  exposing you to risks you did not sign up for.

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Asset Allocation is Everything

• At Lawhorn, we will never put an investors
  capital at risk by thinking we are smart enough
  to add value through market timing and security
  selection. Instead, we will focus our energies
  on what matters most asset allocation.