My Own Investment Choices Now
Henry K. (Bud) Hebeler
Today's WSJ has an article titled "The 2% Illusion."† A sidebar says, "Take everything they earn and it still won't be enough."† I personally think that the article understates the tax problem by quite a bit because of what I feel are optimistic assumptions about the future and failure to account for the non Federal, business and personal debts that hang over us.
The reason I bring this up is because I think that many more people are going to be looking at "tax managed" funds and what they offer for the equity share of a portfolio.† I have a number of Vanguard funds in that category.
I do not believe that bond funds will be a good investment for several years.† The reason is that interest rates will go up resulting in a loss of principal.† I like to buy the bonds themselves and hold them to maturity.† That way I recover both the principal and the interest.† In my income bracket, municipal bonds make the most sense in non qualified accounts.
Even small investors can buy savings bonds in small denominations.† They have the advantage of not having to hold for years to mature as well as being guaranteed by the government.† I've bought Savings I Bonds for my children and grandchildren for years.† These not only go up with inflation but will be taxed at a lower rate in their income brackets or possibly not be taxed at all if used for college education.
When I saw all of this coming years ago, I bought the maximum I Bonds I could for myself.† Many are paying over 3% plus inflation.† In recent years the government cut down the increment above inflation and made a major cut in the amount you could buy.
Also a number of years ago I invested in immediate annuities with an inflation adjustment.† These have been great for me, but I have to confess that there could be a problem:† The insurer behind them is AIG.
I never thought there would be a time when I would like certificates of deposits (CDs).† But in the last couple of years Iíve been buying these as well.† I like the idea of FDIC backing.† Iíve got a larger percentage of municipal money markets than I thought Iíd ever have as well.
One of the largest investments I have is in a 401(k) guaranteed income fund.† Of course it was not a great investment when stocks were booming, but in light of whatís happened over the years, itís had good performance.† Itís the only reason that I kept significant funds in the 401(k) when I retired rather than transferring the whole amount to an IRA where you canít buy that kind of investment.
I think itís still too early to get back into real estate.† Still, it wonít take many years until real estate prices have stabilized at a new low value, and many people will have recognized that home ownership is not for them.† Then I think that I may invest some money again in REITs (Real Estate Investment Trusts) that focus on residential rentals.† I sold my REITs before their peak thinking the end was closer than it turned out to be.† Still, I remember that when one very wealthy man was asked how he got so rich, he replied, ďI always sold too early.Ē
Incidentally, I donít think that the American Dream is about owning a home.† Many workers need mobility to get employment in different locations.† A home ties them down to one spot.† I think that the American Dream is to be profitably employed in a job that you loveóand that might not be in Detroit or where ever.
Iíve used an age related formula to rebalance my investments about as long as I can remember.† The maximum amount of fixed-income investments has been my age as a percentage.† The minimum has been 10% lower.† So, at 75, I would normally rebalance when my fixed income got above 75% or below 65%.† My equities (stocks and investment real estate equity) would then be between 25% and 35%.† I was on a financial talk show a year or so ago where the host criticized me for using too conservative an allocation formula.† He said I was ďold-fashioned.Ē† I thought to myself heíll learn.
This year Iím not adding to my equities, and itís the only time I have violated the allocation rule.† The reason is that the time has come when the people have finally come to understand that they have to save more, not spend more--as both the government and business desire.† I would estimate that the average 401(k) for those who are within ten years of retirement is only about $50,000.† Thatís hardly enough to provide for a lifetimes worth of emergencies and known large future expenses like replacing a roof, buying cars, and helping parents or adult children with their own funding problems.† Letís face it.† It takes between $150,000 and $200,000 to produce $10,000 of before-tax income on an inflation adjusted basis.
At some point Iíll return to my allocation rule.† That will be triggered by the rise of inflation.† Inflation tends to diminish debt both because it reduces the relative value of the principal as well as the interest payments.† Thatís why the government has not had to pay down its debt for so many years.† (On the other hand, entitlements donít benefit from inflation because they are inflation adjusted, and theyíve become a bigger problem than the national debt.)† Of course I canít see the future any better than anyone else, so my view that we will go through a period of very high inflation may be irrelevant.† Still, if inflation gets brisk, stocks and leveraged real estate will again perk up after the initial shock.† My investments are quite liquid, so Iíll be able to rebalance easily.
Both the government and the financial firms are refusing to admit the legacy we have from two decades of a savings shortfall.† I estimate that the national savings rate would have to be above 20% for at least two decades just to bring savings up to historical levels needed for retirement.† And that doesnít take into account the extra savings needed to replace the loss of defined benefit plans (pensions) that will accelerate as corporate taxes increase and matching funds decrease. †Nor does it account for the demographic changes where there will be fewer workers who can save, and the growing elderly population will be past the point of saving earned income.† And it assumes that returns will return to normalcy instantly.† My view is that the lionís share of refundable tax credits and the like will go into savings, not spendingóat least that will be true for the wise.
Iíve written about many of the things above in Getting Started in a Financially Secure Retirement, Wiley & Sons, 2007.† Iíve had lots of notes from people whoíve read it and have benefited from its advice.† I get even more notes like that about my articles in www.analyzenow.com.† Thank you notes are more are a more valuable reward to me than money.† But you know, itís really impossible to know what will happen in the future.† These people are thanking me for what my answers have done for them in the past or what they, too, imagine will be in their future.† Letís all hope that we see a better time in which investments will flourish again.