Both could serve their purpose, but which sounds more useful, more versatile: a time capsule or a time machine? Well, the two might have something to teach us about our investment vehicles. More on the blog.
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It’s a premise we’ve heard in songs and any number of written works. “If I had a million dollars…” It’s a great prompt—sometimes serious, sometimes humorous. I’ve decided to take a crack at my own entry into the million-dollar discussion!
I had the privilege recently of meeting a young person who shared their goal of retiring at age 30. I was struck by the ambition, shared by many in the FIRE movement: its mantra is “Financial Independence, Retire Early.” So here I am thinking about a million dollars. What I have to say is all about the numbers. Money and numbers are how we fund the life in which we act out our values, plans, and dreams.
Wondering what it takes to retire early? It’s not a universal formula, but we can take the idea of accumulating a million dollars of invested capital as a decent proxy. In this scenario, one has to be able to imagine someday living on, say, a $50,000 a year. But it also requires a willingness to endure the ups and downs of ownership. They are just part of any long ride in the markets. (And keep in mind it would take a far bigger number to retire on today’s low interest rates on stable forms of money!)
Two factors really affect the path to retirement. One is how we spend and earn along the way; the other is inflation.
First, because financial independence is all about our resources exceeding our needs—income exceeding outflow—reducing your needs is one way to get there sooner. The other side of the coin is finding ways to maximize your human capital in these working years, getting paid more for your labor. So the first best investment might be in yourself to improve your earning power. Fewer expenses, more income—more money to invest for retirement.
Second, inflation will affect how the path to retirement unfolds. Inflation risk is the extent to which our money loses purchasing power over time, so we have to take that into account as we plan for our future spending in retirement.
So let’s get back to the numbers. How much money would we need to invest each year in order to have $50,000 (in today’s dollars) as annual income in the future?
Let’s assume 3% inflation and 9% investment returns—neither of which is guaranteed—and 5% annual withdrawals in retirement. Starting from zero, we could be…
These numbers are just one way to slice it. If you could live in retirement on $25,000 of today’s dollars a year, for example, take those amounts above and cut them in half. If you would want $100,000 a year, then double the figures.
We don’t know the future, and these calculations are not the future. But it’s a place to start toward a plan.
Clients, if you want to sort out your situation—or help a younger person get started—email us or call.
Content in this material is for general information only and not intended to provide specific advice or recommendations for any individual.
All investing involves risk including loss of principal. No strategy assures success or protects against loss.
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Both could serve their purpose, but which sounds more useful, more versatile: a time capsule or a time machine? Well, the two might have something to teach us about our investment vehicles. More on the blog.
Want content like this in your inbox each week? Leave your email here.
The rising cost of living is in the news these days. After years of trying to raise the rate of inflation to 2%, the Federal Reserve is struggling with how to reduce it from even higher levels (not surprisingly, in our view).
We are not expecting hyperinflation; we don’t foresee a ruinous and sudden destruction of the dollar. But we know that persistent, rising inflation caused problems that vexed policymakers and people from the Nixon administration through Ford and Carter to Reagan.
And that could happen again.
After forty years of falling inflation, after a decade of near-zero interest rates, after rising budget deficits under presidents of both parties, after years of accomodative monetary policy by the Federal Reserve… it makes sense to invest with inflation in mind.
What does this mean? We have ideas, but no guarantees. The future is a place no one has been yet.
Our strongest conviction is about what not to buy: investments of any duration with fixed interest rates. Bonds not maturing for 10 to 30 years, paying in the 1% to 3% range, strike us as being excessively risky. If rates rise as investors demand more to offset inflation, the value of lower-rate bonds will decline.
What will a 2% bond be worth in a 4% world? (Hint: something below its face amount.)
Beyond that, ownership of things—in other words, equity—may benefit from rising prices. If prices for goods and services rise, companies that produce goods and services may see earnings rise. Imagine it. If a can of beans cost, say, $10 instead of $1, the food processor may have proportionately higher earnings.
Further, we notice that stock in producers of natural resources have sometimes proved to be a hedge against inflation, as commodity prices rise.
So, although inflation disrupts and distorts commerce, and stock prices will be volatile (as always), it may be better to own stock in companies rather than bonds. Stocks may rise as earnings rise. No guarantees, of course, and down years will occur from time to time, as always.
Clients, we’ve been working on these ideas for years. If you would like to talk about how they apply to your own portfolio, please email us or call.
Content in this material is for general information only and not intended to provide specific advice or recommendations for any individual. All performance referenced is historical and is no guarantee of future results. All indices are unmanaged and may not be invested into directly.
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An old proverb suggests “nothing ventured, nothing gained.” It seems like a great tagline for an action movie, huh? Maybe some adventurers go chasing lost treasure, a tale of bravery and throwing caution to the wind and winning it all!
Okay, so our work isn’t always quite that exciting, but it is thrilling to us. And we believe “nothing ventured, nothing gained” has a story to tell about our financial adventures.
Some of us still know folks who feel best with their money in cash under the (literal!) mattress. We need to know where our cash is coming from, but when we say that, we mean that we need enough liquid resources available to cover what we need to cover in the shortest term. It does not need to come from the mattress, the pantry, or the piggy bank.
It’s more important than that, though. When we leave money sitting, we are letting its power go to waste. It’s just like letting an ingredient go stale: the flavor and the potential power are gone, and then it has less utility than it had when you first got it.
This is also part of what people mean when they say “avoid leaving money on the table.” You let it sit, you forfeit some of its power. Keeping it close doesn’t necessarily keep it safe. Inflation, time, and other forces will do their work whether your money gets out in the world or not.
“Nothing ventured, nothing gained”? It makes a certain sense. No guarantees, but we’re glad to be on this adventure with you.
Clients, when you’re ready to get things in motion, reach out.
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We love working with you, the best clients in the world, because you’ve accomplished what some find impossible. You have recognized that long-term investors get paid to endure volatility. Some of you came to us this way. Others have learned across our many interactions. A few of you are still learning.
Up to this point, we have mostly defined risk by what it isn’t, as in “volatility is not the same as risk.” It might be useful to be more explicit about what types of risk we do consider.
Recall that our risk assessment takes place with a long time horizon in mind. We believe that you should have the money you’ll require for the next 3–5 years invested outside of the market. (Short-term volatility is a risk during the short term.)
If you’re parking your money with us for a longer time horizon (3+ years), here are some risks we do factor into our strategy:
How much risk a portfolio might endure depends a number of factors—your investing time horizon being just about the biggest one. And of course, there are other types of risk in the mix, but the topic is important enough to offer you more information from time to time.
Clients, if you want to talk about your risk exposure, email or call.
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In what seems like the good old days, we thought about many kinds of risk. Now, to many, risk only means one thing. All the other kinds of risk seem to have disappeared. Here are some of the classic risks as we learned them long ago, and still understand today:
Market Risk. Changes in equity prices or interest rates or currency exchange rates that hurt the investment value.
Liquidity Risk. Being unable to sell an investment without a discount for lack of buyers.
Concentration Risk. Having all your eggs in one basket, when the basket gets upset.
Credit Risk. A bond issuer might not be able to pay you back because of adverse conditions.
Inflation Risk. A loss of purchasing power over time because investments fail to keep up with a rising cost of living.
This old-fashioned approach to risk focused on possibilities for what might happen in the future. This makes sense to us, since the future is where we will get all of our coming investment results, good and bad. The past is past.
But perhaps the most popular approach to risk today is based totally on the past, not the future. Past volatility is supposedly the measure of risk in any investment and every portfolio. Modern Portfolio Theory (MPT) implicitly assumes that past volatility is the sole measure of risk. Yet volatility is inherent in any form of long-term investing, and has little to do with many of the classic forms of risk.
Investment firms and advisors promoting ‘risk analytics’ and many measures of ‘risk tolerance’ are using this backward-looking theory of risk. It has nothing to do with the classic definitions of risk, outlined above. In our opinion, some of the latest and greatest risk management technology is not focused on actual risk at all, and could discourage people from enduring the volatility required to achieve long term results.
Meanwhile, the classic understanding of risk has us thinking about its many dimensions as we choose securities and build portfolios. One drawback of our approach? It takes more work to do things the old-fashioned way. But we think it is the right way to go. No guarantees, of course.
Clients, if you would like to talk about this or anything else, please email us or call.
Content in this material is for general information only and not intended to provide specific advice or recommendations for any individual. All performance referenced is historical and is no guarantee of future results.
All investing involves risk including loss of principal. No strategy assures success or protects against loss.
When you think about your finances over the course of a lifetime, it is easier to see that risks may only be selected, not avoided.
Our first understanding of risk often relates to fluctuations in value. If you put in a dollar, and the value soon drops to 80 cents or 60 cents, it seems like a clear (and vivid!) loss.
Money buried in a can would never have that kind of risk, yet its purchasing power—what you could buy with it—declines year by year if there is any inflation at all. This kind of damage reminds us of termites, which chew away behind the scenes, causing damage that is not obvious.
Longer term fixed income investments, like bonds, offer interest that may offset inflation in whole or in part. But the value of a bond may change with interest rates. A 3% bond is probably not going to be worth its face amount in a 6% world.
The interesting thing about all these different kinds of risks is that they cannot be entirely avoided, but they may be balanced against each other.
• The things that fluctuate in value may provide growth over the long term to offset inflation.
• Having money in hand when needed may enable us to live with fluctuating values in other parts of our holdings.
• Reliable income helps us avoid excess amounts of money laying around.
We think one of the most valuable lessons about risk is that, on our long term investments, volatility is not risk. If we aren’t retiring for many years, ups and downs in our retirement accounts may not be all that pertinent.
The stock market, measured by either the Dow Jones Average or the S&P 500 Index, has risen three years out of four. There is no guarantee that this general pattern continues, or how results will work out over future periods. But someone that invested ten, twenty or forty years ago may have seen a lot of growth overall, in spite of fluctuations ever year—and some years that were negative.
Clients, if you would like to talk about the balance of risks in your situation or anything else, please email us or call.
The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual.
All investing involves risk including loss of principal. No strategy assures success or protects against loss.
Bonds are subject to market and interest rate risk if sold prior to maturity. Bond values will decline as interest rates rise and bonds are subject to availability and change in price.
All performance referenced is historical and is no guarantee of future results. All indices are unmanaged and may not be invested into directly.
The economic forecasts set forth in this material may not develop as predicted.
A few weeks ago, the Federal Reserve issued a policy statement greenlighting more interest rate hikes despite fears of inflation.1 For years the Fed has struggled to keep inflation up to its target rate of 2%, and now that it is there, it looks likely to us that the Fed may overshoot the target entirely.
Interest rates and inflation tend to go hand in hand. When interest rates are high, borrowers can earn more money to spend, creating upward price pressures. When inflation is high, lenders try to raise rates to keep ahead of inflation. As rates continue to rise, you can often expect inflation to do the same.
Worse, there are other pressures looming on the horizon that we think may contribute even more to inflation. A strong economic cycle and robust jobs market may often bring higher inflation. As unemployment drops, workers become harder to find. Many companies might have to offer higher wages to get the employees they need, forcing them to raise prices—at the same time that workers have more money to spend from higher wages. Rising prices and rising wages equals inflation.
We also expect more price pressure to arrive from overseas. The trade war that the current administration seems bent on fighting shows no signs of cooling off. When you raise taxes on a product, such as a tariff on imports, inevitably the price may go up to pay for the taxes.
Tariffs create knock-on effects, as well. Many products manufactured inside the U.S. use materials imported from overseas that are subject to tariffs, so domestic products may also face rising prices. And domestic companies that are fortunate enough to dodge the tariffs entirely may still raise their prices opportunistically: with the prices of other goods rising, they have an opportunity to increase prices and profits without hurting themselves as much competitively.
Once again, where you have rising prices, you have inflation. Put it all together and the economy may be sitting on a powder keg of explosive inflation pressure. We do not know when or if the powder may exploded, but we cannot afford to ignore it.
We have gotten so used to low inflation rates in the past decade that it is easy to pretend they will last forever. Sooner or later, we expect some investors to be burned by this mindset. We want to do what we can to avoid being among them. Clients, if you have any concerns about how inflation may affect your portfolio or investment strategy please call us.
1:Press Release, Board of Governors of the Federal Reserve: https://www.federalreserve.gov/newsevents/pressreleases/monetary20180613a.htm. Accessed June 28, 2018.
The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. All performance referenced is historical and is no guarantee of future results.
The economic forecasts set forth in this material may not develop as predicted and there can be no guarantee that strategies promoted will be successful.
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