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Phase 2: Investment Strategies & Retirement Preparation

May 01, 2015

For 2015, every quarter we will release a simple checklist of items to get started on success to financial health.

To see the 1st quarter’s newsletter click here.

2nd Quarter Checklist: 

“The market is at an all time high, I don’t want to buy now.” “I lost a lot of money in 2008.” “Investing is too risky for me.” “I know nothing about investing; I’d rather keep my money safe in cash.”

These are all comments I’ve heard, you’ve heard, or at some point in time have said yourself. The purpose of this article is to put you at ease when it comes to investing and retirement preparation.

Step 1: Determine your time horizon

Before you invest a dime, it all depends upon what you are investing for (down payment for a home, vacation home, new boat, retirement, etc) and when you anticipate needing the money (2 years, 5 years, age 65, etc.) I’d argue knowing just that information alone you could come up with a pretty simple investment portfolio on your own by using Google. Obviously I wouldn’t recommend that just like a Lawyer wouldn’t recommend going to legalzoom.com. Nor would a Doctor recommend going to webmd.com to figure out your problem. You could stop reading this article now and talk to an investment professional, more specifically an independent financial consultant, who could help you after you’ve first determined this step. For those not convinced of the value of said professional, continue reading.

Step 2: Open up an account

This might be the hardest step, simply taking action. Again, this sounds fairly simple and for the most part it is. However, without a financial consultant most people never take action.

For any money you wish to invest but you may need to access within a shorter timeframe of (two years for example), in your pre-retirement phase, you could consider opening up a Non-Qualified investment account (simply put not a qualified retirement account). Generally, the shorter the time horizon the more conservative you may want to be. The longer the time horizon the more aggressive you’ll want to be.

Let’s take some time to address the difference between Risk and Volatility. First, people tend to overestimate the long-term risk of owning stocks. Second, some people seriously underestimate the long-term risk of not owning stocks. The ultimate long-term financial risk isn’t losing your money. It’s outliving your money. I don’t want to get too far into the weeds (maybe in a future article) but maybe these two hypothetical examples will illustrate this point further. There’s a concept called the “Guide of 35.” It states this: the number of years it takes for an amount to be cut in half at a negative 2% growth rate is 35. More simply put, if you leave $100,000.00 in cash after 35 years due to inflation it will be worth $50,000.00. This puts you at risk of running out money. The second example: $6,200,000,000.00. Six billion two hundred million dollars. What does it represent? It is roughly how much Warren Buffet’s personal shareholding in Berkshire Hathaway, Inc. declined in value between July 17th and August 31, 19981. During those 45 days, how much money did Warren Buffett lose? The answer is, of course, nothing. Why? He didn’t sell. On that day the stock closed at $60,500. As of the writing of this article it’s at $216,500 a share1. You could argue that was a very brief and volatile time – however that is not the same thing as risk.

1Source: Nick Murray: Simple Wealth Inevitable Wealth

Still not convinced? Below is the percentage of rolling periods with positive returns for the S&P 500 (500 of the largest U.S. companies) between 1926 – 20091.

1 year – 73.02% of the time it yielded a positive return

3 year – 83.25%

5 year – 87.04%

10 year – 95.16%

15 year – 99.76%

20 year – 100%

The S&P 500 Index is an unmanaged index of 500 stocks that is generally representative of the performance of larger companies in the U.S. Please note an investor cannot invest directly in an index.

1Source: Nick Murray: Simple Wealth Inevitable Wealth

What does this suggest? How come so many investors lost money in 2008-2009? Because they sold, yet the disciplined investor held on and has since been rewarded upwards of 200% including dividends reinvested since the bottom of the market in 2009. This suggests that only you and I can screw up our ability to achieve investment success. I am of the opinion that the advances are permanent; the declines are temporary.

I couldn’t help but get myself in the weeds, let’s move on.

Wait, one more thing – this comment is too important to leave unsaid. For those may wonder, “Why not just stay in the market during advancing phases, and get out when the market’s about to decrease?”

Or, “The markets at an all time high, shouldn’t I wait to invest when it’s lower?”

First off let me be stern in saying, No one has ever been, and no one will ever be, able to consistently call market tops and bottoms. Don’t just take my word: Warren Buffett: “I have never met a man who could forecast the market.” Ben Bernanke (Former Chairman of the Federal Reserve): “Don’t try to time the market.” Peter Lynch: “Far more money has been lost by investors preparing for corrections or trying to anticipate corrections than has been lost in the corrections themselves.”

Time in the market, as opposed to timing the market is the only practicable way to position yourself to capture the long term return of equities.

Quick hypothetical example to illustrate this point:

If you had invested $10,000 in the S&P 500 Index from January 1, 1999 to December 31st 2013 here would be the following results:

If you missed ONLY the 40 best days of the market during that 15 year time frame the $10,000 would be worth $2,861.00.

If you missed just the 10 best days: the $10,000.00 would be worth $9,908.00

If you stayed in the market the entire time, the $10,000.00 would be worth $19,8542.

2Source: Morningstar (NetX 360 “Need for Diversification”)

Are you still not convinced?  I’m sorry, but we have to move on.

Step 3: Consider your options – possibly to consolidate outside and/or past employer retirement accounts

If you have old retirement accounts from past employers, consider rolling those into your own individual IRA. Within your own IRA (Individual Retirement Account) you have more flexibility in how to invest, you may be able to avoid the additional fees often associated with company sponsored retirement accounts, and you may be able to choose less expensive funds than the old retirement account has to offer. Keep in mind that you have other viable options for those funds: leave the money in your old plan(s), cash it out, or roll those funds into a current employer plan.

Step 4: Consider opening up a Roth IRA

As an example, let’s take a retiree who currently has a traditional pre-tax 401k. They have accumulated $1,000,000.00 inside the account and want to withdraw $70,000.00/year to live on starting at age 65. This retiree will be taxed at ordinary income rates as if he went out and earned that money. Currently that puts him in the 25% tax bracket.

Our other hypothetical retiree accumulated $500,000.00 into his traditional pre-tax 401k and $500,000.00 into his Roth IRA and wants to withdraw the same $70,000.00/year to live on starting at age 65. This retiree, if he is prudent, will pull $35,000.00 from the Roth IRA – which will be tax free and $35,000.00 from the 401k, effectively lowering his taxable withdrawals by 50%. Currently that puts him in the 15% tax bracket as opposed to the 25% tax bracket of our first retiree.

Tracking with me? See my old article on how to open up a Roth IRA if your income doesn’t qualify.

As always, if you have any questions don’t hesitate to reach out.

Written by Tanner Fedell, Financial Advisor



Contact Tanner

Tanner R. Fedell - Independent Financial Consultant
Phone (469) 708-9260 Secure Tax (612) 256-3002
Company Website • Personal Bio • Linkedin • Facebook

North Star Consultants - Celebrating over 110 years of business
7929 Brookriver Dr, Dallas, TX 75247 - Suite 760

Additional Resources

Jackie Fuller - Practice Assistant
jackie.fuller@northstarfinancial.com
Phone (512) 610-1803

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These hypothetical examples are for illustrative purposes only. Not based on any particular investment. Investments will fluctuate and when redeemed, may be worth more or less than originally invested. Figures do not include transaction costs, taxes, or expenses.

Investors' anticipated tax bracket in retirement will determine whether or not a Roth account versus a traditional retirement account will provide more money in retirement. Generally investors who are in a higher tax bracket at retirement relative to their current tax bracket while making contributions to a Roth account benefit more than an investor who is in a lower tax bracket at retirement.

For a Roth IRA, earnings withdrawn prior to reaching age 59½ and/or not meeting the five-year holding period may be subject to a 10 percent penalty in addition to income tax. After-tax contribution amounts are generally returned income tax free; however, for Roth conversions, if converted amounts are not held for the five-year period, distributions may be subject to a 10 percent penalty.

Please note that Financial Advisors do not provide specific tax advice. Consult a tax professional for advice regarding your specific situation.



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