Office Admin

Compound Interest – Myth or 8th Wonder of the World?

August 16, 2017 by Office Admin

Einstein is credited with saying compound interest is the 8^th wonder of the world. While I’m nowhere near as smart as Einstein, I have good reason to believe there is only partial truth in his statement. Specifically because of two myths surrounding compound interest that we will discuss here.

Myth #1: I will earn 7% consistently.

Mathematically, the power of compound interest is incredible. The financial industry consistently tells you to save early, save often, save (then invest) as much as you can. At an annual growth rate of 7%, you will be a millionaire at retirement. You’ve seen the graph. Just save a little each pay period, and it will growth exponentially. And they’re right…to a point.

To maximize the effects of compounding interest, two elements must exist: 1) Time. 2) Consistency.

To get the exponential growth Einstein was referring to takes years. How many years? Most likely 20+. If you are in your 20’s and methodically saving for retirement, compounding works in your favor. If you are 55 and want to retire in 10 years, it won’t help you. Most people don’t realize this until it’s too late.

Another big problem with compound growth is figuring out where you’ll get that consistent return. Interest rates are near zero and bonds aren’t returning anywhere near 7%. The stock market is the only place to achieve an annual growth rate of 7%. At least that’s what the market has delivered over the past 20 years. But does that mean you’ll get a 7% compounded return? Probably not…but, why?

The type of compounded return from the market is only seen over very long periods, at least 20 years or more. So, for long-term savings like a 401k, you can expect to achieve this type of growth as long as you leave it there. The problem is when you have to take distributions on that account. You never know what the market will be doing at that time. If it’s in a bear market, you better have another source of funds to draw from, otherwise you’ll start eating principle. This is called sequence of returns risk. You can see the grand fluctuations in the chart below.

Myth #2: It’s easy to withstand wild market fluctuations.

The other problem is whether you have the stomach to weather large drawdowns. Large, and even not-so-large, market drawdowns have a direct impact on your ability to compound returns. In the early 2000s it took several years just to get back to even. In 2008 there was such a drop that many investors sold out, just in time to lock in big losses. Withstanding wild fluctuations over a 20-year plus period is hard, very hard. You have to be true to yourself to know if you can handle it. Otherwise you’ll never see compounded returns from the market.

Why Does It Matter to You?

These are big issues for our clients. Many of whom are entrepreneurs or business owners who’ve made great sums in their businesses. While they still want to grow their investments, the overriding goal is Warren Buffet’s two rules of investing: 1) Don’t lose money. 2) Never forget rule #1.

To help our clients accomplish this we use rules-based trend following strategies. Our strategies use trends to capture upside momentum, as well as trying to limit drawdowns. This provides downside risk management with upside market potential. By providing a smoother investment ride, our investors are more likely to stick with the strategy long-term. That’s when they have a better chance to capture impressive compounded returns. That’s when they have a better chance of reaching their full financial potential.

These 9 Principles Can Lead You to Investing Success

August 9, 2017 by Office Admin

When people talk of investing success, it’s often around some new stock picking method, or that one time they got extremely lucky and were the exception, not the rule. In a rising market like we’ve had for the last several years, there are many people who feel like successful stock pickers. There are many people who feel like they’ve gotten lucky – repeatedly. That’s because a rising tide lifts all boats.

True long-term investment success comes from a lot more than stock picking methods or luck. But no one likes to admit that – talking about discipline and smart investor savvy doesn’t always make for the best “look at me” story to tell your friends. That’s why you have to decide what’s more important to you, long-term success and a secure future, or a good story about “that one time…..”

Having sound principles to guide your investment decisions and strategy choice are one of the best ways to ensure your ability to reach your full financial potential.

Here are some of the investing principles we abide by, and educate our clients on:

1. Markets are in a drawdown more often than not. Yes, they market may be down 3% today, but that’s normal. Don’t be alarmed, but also, be prepared that you may see red once in a while. That’s why you should have an investment strategy that is designed to “miss” the worst days, and cushion the blow to your money.

2. A rules-based, disciplined approach is the best way to ensure long-term success. You should fully understand how and why you’re invested the way you are. An Investment Policy Statement is one of the best ways to do this. If your investments don’t align with your IPS, you shouldn’t invest in it. Period.

3. Volatility eats your returns. Not risk. Risk doesn’t drive your returns, it just affects your probability of losing money. Volatility directly affects your returns, and wild fluctuations can quickly erode your wealth. This is where diversification isn’t enough – it only mitigates risk. You must have a strategy in place that mitigates volatility as well.

4. Buy and hold is easier said than done. “Set it and forget it’ is the mantra of many investment firms. This isn’t necessarily bad advice. Over the long-term, the market has produced a compounded return around 7%. However, the real return fluctuates between up 40% and down 60%. Most people can’t hold on during those drawdowns, and wind up selling at the wrong time.

5. It’s better to miss the worst days and the best days in the market. Buy and hold advisors say you must capture the 10 best days in the market, as that is what drives your overall return. And they are right. But, if you miss both the best and worst days, (by using a trend following/momentum strategy, for example) your return could be even better. Historically, research shows that the best days come during the worst bear markets, so we’d prefer not to participate in the full bear periods.

6. Markets are not always efficient. Markets rarely act the way text books say they should. Investors can and do act irrationally. Human behavior can and does move markets, and can cause prices to remain too high or too low for long periods of time. This is why momentum exists. Your strategy must be capable of capitalizing on these market realities.

7. Consistent returns are more beneficial than big pops here and there. Consistent returns, even if they’re lower, will increase your dollar growth over the long-term because it means you’re offsetting volatility. This makes for a much smoother, less emotional investment ride. In turn, it can prevent you from making bad decisions with your money. This is a result of a strategy that controls volatility.

8. Look at the downside first, not the upside. Every smart investor knows it’s not about your chance of success – it’s about your chance of failure. And remember, failure is not an option. Therefore, your strategy must minimize downside risk.

9. Investing costs matter. These can erode your returns as much as volatility. Your strategy should work to lower the cost of expense ratios and be tax efficient. Remember that a good advisor can be worth a reasonable fee. Just be sure they’re providing you with value-based solutions, not selling you products.

Why Does it Matter to You?

The principles listed here don’t encompass every good investing principle out there. But, if you act based on these principles, you’ll find that you’ve built a strong foundation for long-term investing success. Remember, this is your life. You get one shot, so make sure you do everything you can to make it successful, and succeed in living the life YOU want.

Our strategies are built based on these principles.

Want to see how you can minimize downside risk, mitigate volatility, increase consistent returns, and protect your bottom line? Click below.

Don’t live a deceptively poor lifestyle!

August 3, 2017 by Office Admin

Why High-Income Earners Are Living Paycheck to Paycheck

August 2, 2017 by Office Admin

A six-figure income can go a long way in easing financial stress. But unfortunately, it doesn’t eliminate the risk of living paycheck to paycheck.

It’s easy to associate those who make a modest salary or work in a low-paying job with a “paycheck to paycheck” lifestyle. But, a study from Nielsen Global Consumer Insights is changing the game. The study found that one in four families making $150,000 or more are living a similar lifestyle.

Lifestyle Inflation: The Rich Man’s Kryptonite

There’s a concept that even some wealthy people have trouble understanding – it’s not how much you make that matters, but how much you spend that matters.

If you make $500,000 a year, but your annual expenses total $450,000, you’re completely maxing out your lifestyle. Doing this means that you will never reach your full financial potential. That’s because you’re eroding 90% of your money just as fast as you’re making it.

High-income earners routinely suffer from lifestyle inflation. I’ve seen it happen more times than I can count – people start earning more money, and in turn, slowly start upgrading their lifestyle. Before they know it, lifestyle “creep” has sprinted out of control and has them completely handcuffed.

Lifestyle inflation generally goes toward things that don’t bring much value to your family’s financial life, either. This means things like expensive homes, cars, traveling, and just plain old foolish spending. It’s great to have and do all these things, but what’s not great is winding up house poor and car poor.

A better use for that excess money would be to invest in yourself, or in your most important financial goals.

Wealth Erosion Overload

Buying “things” are only the start of lifestyle inflation. They’re the roots that sprout all the other eroding factors.

For example, say you buy a home worth $1.2 million. Pile on top of just that the mortgage, property taxes, utilities, and general upkeep, and you could easily add another $50,000 to your annual expenses. Expensive items aren’t only expensive to buy, they’re expensive to own.

Owning expensive things is an easy way to erode your income. Then, consider all the other eroding factors on top of this that you’ll encounter – economic inflation, taxes, lost opportunity cost, planned obsolescence, and more.

Be Reasonable, Not Lavish

So, how can you avoid finding yourself in this very situation?

Simple – live reasonably, not lavishly.

This is something that I try to instill in all my clients, even the wealthy entrepreneurs that I work with. Actually, this mantra is probably more important for them than anyone, because they have the most to lose.

Now, I’m not saying that I expect you to live in a tiny home, drive an old, beat-up car, never take a vacation, and never purchase something that you want. There’s absolutely no shame in indulging – I’m all about working hard, playing hard, and being able to enjoy the finer things in life.

After all, the goal is to be able to live the life you want.

But to do that, you have to abide by some simple rules to ensure that happens. These include spending less than you make, paying for things in cash rather than financing everything you own to make a purchase, not racking up high-interest debt, saving at least 15% of your income, protecting yourself and your assets, and remembering that slow and steady wins the race.

There’s something very important that I’ve learned from coaching clients over the last 14 years – the ones who understand that it’s the simple, boring disciplines that hold the secrets for getting and staying wealthy, are the ones who reach their full financial potential.

Why Does It Matter to You?

Living paycheck to paycheck is a possibility for anyone – whether you make $50,000 or $5 million. That’s why, as your income grows, you have to control lifestyle inflation before it controls you.

Living the life you want requires a balancing act between growing your wealth and smart wealth management. You should always be thinking with an abundance mindset, but in the right way. It’s not about how you can use your money to buy lots of things. It’s about how you can use your money to create opportunities that allow you to grow, to help you live intentionally with your money, and that put your resources to work for you. That’s how you reach your full financial potential.

12 Simple Rules for Building and Sustaining Your Wealth

July 26, 2017 by Office Admin

When it comes to finance, we live in a world of information overload. One opinion here, another there. You can find about 15 ways to go about doing any one thing. But when it comes to building and sustaining your wealth, it’s important to remember that simple is better.

In fact, that’s how successful people reach the pinnacle – they practice simple daily disciplines obsessively. Jim Rohn said it best, “Success is nothing more than a few simple disciplines, practiced every day.”

For my purposes, and yours, I would amend this to say, “Reaching your full financial potential is nothing more than a few simple disciplines, practiced every day.” That’s how you end up living the life you want.

No Expertise Needed

The simple disciplines we’ll discuss here are just that – simple. They’re not hard to master. No expert knowledge is needed. Perhaps that’s because the best simple disciplines really come down to common sense.

They’re the things that you know you need to do, that you know are good for you. But, they’re the things that are the hardest to do. If it was easy, everyone would be successful. I think that’s an important distinction – finding success is simple, but not easy. You have to be willing to do what others are not.

12 Simple Rules for Building and Sustaining Your Wealth

Reaching your full financial potential is simple, not easy. But, I know that if you practice the simple disciplines we discuss here, it will get easier.

I can say that because I’ve seen it happen first-hand. I’ve been instrumental in instilling these simple disciplines in my clients’ daily lives, in their financial philosophy, and have watched them succeed over and over again. You can too – but it starts with changing something you do daily.

It starts with these 12 simple rules for building and sustaining your wealth:

1. Define your “why” for money. Why do you invest, work, any of it? What is it that money enables you to do? How does your money further and support your most important values? Successful people know the answers to these questions, and you need to know them too. Otherwise, you have nothing to fight for. You can’t live intentionally with your money without this.

2. Conduct your ultimate wants analysis. One of the biggest problems with traditional financial planning is that it relies on a needs analysis, on a scarcity mindset. It limits your financial potential before you even start your journey. But, thinking about what you truly want from life forces you to think with an abundance mindset. That’s how you break through the glass ceiling between what is and what could be.

3. Live within your means. If you’re constantly maxing out your lifestyle, you will never reach your full financial potential. I promise. Living reasonably instead of lavishly can save you from living a deceptively poor lifestyle. Of course, it’s alright to indulge – after all, you’re striving for the life you WANT to live. But, that doesn’t mean undoing all your hard work.

4. Pay yourself first. If you can’t master the simple discipline of saving, everything else in your financial life will have to work harder to pick up the slack. Most of America is experiencing this, since they’re saving virtually nothing. You should be saving 15% – 20% of your income annually, maintaining 3-6 months of liquid expenses. It’s also smart to have 6-12 months of near-liquid cash reserves.

LIFEHACK –Automatic deductions are one of the easiest ways to make sure you pay yourself first, every time.

5. Avoid high-interest, bad debt. Americans currently owe $1 trillion in credit card debt, with balances averaging $9,600. Carrying substantial amounts of high-interest debt like this directly affects your ability to save and invest for your future. And, unless your investments are earning the 15%+ interest you’re probably paying on that debt, investing is an act in futility for you at this point.

6. Create your Investment Policy Statement. This document puts your investment strategies, and your most important values and goals on paper. When the market moves, this is the document that keeps you disciplined – it reminds you why you’re invested a certain way. It reminds you of your “why” for money. If an investment doesn’t align with this criterion, then you shouldn’t invest in it.

7. Protection first. Think of everything you’ve built. Think of everything you’ll build in the future. Now, think if it were to all come crashing down. Ugly, isn’t it? That’s why success isn’t dependent on how much money you have. It’s dependent on how well you protect your life’s work from what can destroy it. If you don’t do this, nothing you’re working toward matters.

8. Assemble your power team. You need to assemble a team of your most trusted advisors to help guide you toward financial independence. They should all know one another, and meet regularly on your behalf. Discussions should be had before changes are made in one area of your financial life, to evaluate the impact on your complete financial position. Ideally, you would have one advisor acting as your personal CFO, coordinating this team and your complete financial life.

9. There’s a difference between risk and volatility. Risk simply means the probability that your investment will lose money. The higher risk, the higher that chance. It has no direct effect on your returns. Volatility is the amount of fluctuation a portfolio can experience. The higher the volatility, the more erratic your compound returns can be. Volatility has a direct effect on your returns – it’s what erodes your wealth. Therefore, your first priority should be to mitigate volatility.

10. Time IN the market is what matters. Stock picking, market timing, overconfidence, and more can all wreak havoc on your wealth. You’ll rarely get in or out at just the right time, or consistently pick the winning stock. If you don’t believe me, then maybe you’ll listen to a critical piece of advice from Warren Buffett, “Market forecasters will fill your ear, but never your wallet.”

11. Little changes can yield big results. You don’t necessarily need to make drastic changes to reach your full financial potential. Say you make $100,000 a year and are saving 10% of your salary into a portfolio that earns 7% return annually. Do this for 35 years, and you’ll end up with $1,479,134. But what if you increased your savings rate by just 1%? You’d end up with $1,627,048. That’s $146,914 more just by saving another measly percent.

12. Think like the wealthy when it comes to estate planning. The wealthy have three main goals when it comes to estate planning, 1) Maintain satisfactory streams of income, 2) Protect my wealth from creditors, 3) Avoid the wealth transfer tax forever. Trusts are a great way to accomplish this. And no, trusts and estate plans are not just for the ultra-wealthy. Everyone should have a basic estate plan that, at a minimum, includes a will and durable power of attorney.

Why Does It Matter to You?

Remember, reaching your full financial potential is simple, but not easy. However, if you follow the rules (simple disciplines) discussed here, you’ll find that living the life you want to live can start to go from dream, to an action plan for reality.

Volatility Gremlins Are Killing Your Bottom Line

July 19, 2017 by Office Admin

If you have an investment account you’ve no doubt heard the terms risk and volatility. Every investment has elements of each. But what does it really mean for you?

Understanding Risk

Risk is the uncertainty of loss. Risk is the likelihood that your investment will lose money. You know there is risk involved when investing in the stock market (whether through individual stocks, mutual funds, or ETFs), and you likely understand much of this risk. What may be less likely for you to understand is that increased risk does not mean increased return. It just means increased probability of losing money.

You must understand that risk does not drive returns.

As you faithfully save into your investment or 401k accounts each month (and you should be!) you may expect, and are often told, that the market provides a 7% real return on average. The actual return will fluctuate with a standard deviation of around 20%. This means the return normally fluctuates +/-20%. Over time an investor would expect the returns to go up and down, but average around 7%. The kicker is that your wealth won’t compound at this rate, but more likely at a rate of around 5% per year. Why is that?

Wild fluctuations can kill your returns – Volatility Gremlins!

Volatility Gremlins

As a measure of risk, volatility refers to the amount of fluctuation in returns, and is typically stated as standard deviation. The lower the volatility the better. Ed Easterling, of Crestmont Research, coined the term Volatility Gremlins. Volatility diminishes compounded returns over time. This matters to you since compounded returns are what you get to spend (you can’t spend average returns).

As portfolio volatility increases and returns become more erratic, the portfolio’s compound returns (what you actually get) get lower and lower compared to the average returns. Here’s an example from Easterling to show the volatility gremlins “eating your returns.”

Even a diversified portfolio can exhibit large volatility spikes and variations regardless of risk. For example, the charts below show the volatility of a typical portfolio consisting of 60% stocks/40% bonds and with the S&P 500.

Why Does it Matter to You?

Controlling portfolio volatility is important for every investor – it’s what protects your bottom line. It’s especially important for retirees, or investors who are approaching retirement. As you get closer to retirement, a major investment decline means your portfolio won’t have enough time to recover, which may require you to postpone retirement to make up for the shortfall. Traditional asset allocation and diversification does very little to address volatility.

That’s why we’ve designed our investment strategies to do just that. When you reduce volatility, it increases the consistency of your investment returns, and can make for a less stressful, even enjoyable, investment ride. You can also realize higher compounded returns (we’ll discuss how volatility impacts your ability to compound returns in a future post, The Myth of Compounding).