Oblivious Investor

Investing Blog Roundup: What We Know About the Stock Market

Mike — Fri, 24 May 2013 12:00:31 +0000

A reader pointed me to an excellent New York Times article this week by Harvard economist N. Gregory Mankiw. The author writes, “Nothing in the toolbox of economists makes us good stock pickers. Yet we economists have written countless studies about the stock market. Here is a summary of what we know.” He then succinctly explains a handful of the relatively few things we know about the stock market.

What Stock to Buy? Hey, Mom, Don’t Ask Me from N. Gregory Mankiw

Investing Articles

Do Annuities Reduce Bequest Values? from Joe Tomlinson
401(k) Plan: From Bundled Fee to Explicit Fee from The Finance Buff
‘Turnaround Tuesday’? Don’t Forget Black Tuesday from Jason Zweig
A Reason to Own Bonds from Rick Ferri
Top 529 College Plans from Allan Roth
What’s In It For Your Financial Planner? from Allan Roth
Stable Value Funds vs. Bond Funds vs. CDs from The Finance Buff
How Commodities Can Help a Portfolio from Larry Swedroe

What is the Best Age to Claim Social Security?

Read the answers to this question and several other Social Security questions in my latest book:

Social Security Made Simple: Social Security Retirement Benefits and Related Planning Topics Explained in 100 Pages or Less

Click here to see it on Amazon.

Treasury Circular 230 Notice: Any U.S. tax advice on this blog is not intended or written to be used, and cannot be used, for the purpose of (1) avoiding penalties under the Internal Revenue Code or (2) promoting, marketing, or recommending to another party any transaction or matter addressed on this blog.

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Are Bond Funds Unusually Risky Right Now?

Mike — Wed, 22 May 2013 12:00:18 +0000

If there’s one thing that’s clear from reader emails, it’s that many people are concerned — or even scared — about the riskiness of their bond holdings right now. The questions I keep getting over and over are whether intermediate-term bond funds (e.g., Vanguard’s Total Bond Market Index Fund or Fidelity’s Spartan U.S. Bond Index Fund) are unusually risky right now and whether moving to shorter-term bonds would make a portfolio less risky.

The answer to those questions depends on what you mean by risk.

Risk = Likelihood of Low Returns?

For people who think of risk as the probability of earning negative inflation-adjusted returns, yes, an intermediate-term total bond market fund is unusually risky right now, given how low interest rates are. But from that perspective, a short-term bond fund is even riskier given its lower yield and lower expected return.

Risk = Volatility?

On the other hand, if it’s price volatility (due to changes in interest rates) that makes a bond fund risky to you, then yes an intermediate-term fund is riskier than a short-term fund. But it’s important to understand that from that perspective, a longer-term fund is always riskier than a shorter-term fund. It’s got nothing to do with low interest rates.

In addition, from a price volatility standpoint, I’m not convinced that an intermediate-term bond fund is any riskier than it normally is.

“Autocorrelation” refers to a variable’s correlation to itself from one period to another. For example, a series of data points in which upward movements tend to be followed by more upward movements and in which downward movements tend to be followed by more downward movements is said to have high autocorrelation.

According to the data I’ve seen, interest rates (for both short-term bonds and long-term bonds) have strong positive autocorrelation over short-term periods. For example, according to Yale economist Rober Shiller’s data (and my Excel calculations), from 1871-2011, 1-year interest rates have an 83.6% autocorrelation from year to year. There’s even a 55.5% autocorrelation when you look at the 1-year rate in a given year as opposed to the rate 5 years later. And the autocorrelation for rates on 10-year Treasury bonds is even higher.

In other words, the fact that bond yields have been moving downward over the last few years and now sit well below historical averages does tell us that we should expect low returns from bonds going forward, but it does not tell us that we should assume rates will necessarily rise in the near future. If anything, it would suggest that an extended period of low rates is likely.

What is the Best Age to Claim Social Security?

Read the answers to this question and several other Social Security questions in my latest book:

Social Security Made Simple: Social Security Retirement Benefits and Related Planning Topics Explained in 100 Pages or Less

Click here to see it on Amazon.

Looking Up a Fund’s Holdings

Mike — Mon, 20 May 2013 12:00:47 +0000

A reader writes in, asking:

“Is it possible to find out exactly what is in a mutual fund? I’m looking for something more complete than the “largest holdings” lists which I can see on Vanguard’s website.”

Mutual funds are required by the SEC to disclose a complete list of their holdings on a quarterly basis. SEC Form N-Q is used to disclose holdings as of the end of the first and third quarters of the fiscal year, and Form N-CSR is used for the end of the second and fourth quarters.

You can look up either of these forms in the SEC EDGAR database. For example, here’s the Form N-CSR for Vanguard’s Total Stock Market Index Fund (as well as several other Vanguard funds) as of December 31, 2012.

Because these disclosures are only done on a quarterly basis — and because the funds have a 60-day window during which they can make the filing — the information provided in these disclosures is not especially timely. As a result, these disclosures will be of little use for certain purposes (e.g., trying to mimic the strategy of an actively managed fund). But they would be useful, for instance, to somebody who is trying to figure out whether a given index fund holds shares a particular company (or group of companies) to which they have ethical or religious objections.

Finding a Fund’s Form N-CSR or Form N-Q

While it only takes a few seconds to look up a fund’s N-CSR or N-Q once you know where you’re going, getting there for the first time isn’t exactly intuitive — at least it wasn’t for me. So let’s quickly walk through it step by step.

Go to the SEC EDGAR homepage.
Click the link for “search for filings.”
Click the link to search by ticker symbol or fund name, and on the next page enter the ticker of the fund in question and click “find companies.”
On the next page, scroll until you find the most recent thing in the “filings” column labeled either “N-CSR” or “N-Q.” Click the “documents” button next to that listing.
On the next page, find “N-CSR” or “N-Q” in the “type” column and click the red link in the corresponding row. (The link itself could be named anything.) Here’s a screenshot of what you’re looking for (click to enlarge):

Naturally, most funds — especially broadly diversified index funds — have a heck of a lot of holdings, so browsing the list in search of a specific stock or bond will take an exceedingly long time. A much faster approach is to use “control + F” to search the page for a specific word or phrase.

What is the Best Age to Claim Social Security?

Read the answers to this question and several other Social Security questions in my latest book:

Social Security Made Simple: Social Security Retirement Benefits and Related Planning Topics Explained in 100 Pages or Less

Click here to see it on Amazon.

Investing Blog Roundup: Vanguard Emerging Market Bond Fund Now Available

Mike — Fri, 17 May 2013 12:00:10 +0000

As of this week, Vanguard’s new Emerging Market Government Bond Index Fund is open to new investors. Because the fund is still raising cash, the fund’s description page doesn’t have much information just yet.

Given the information currently available, I don’t have much to say about the new fund (and international bonds in general) other than what I wrote in my reply to the original announcement and the followup piece earlier this year.

Investing Articles

Even Indexing Takes Work from Roger Wohlner
Investing with a Three-Fund Portfolio from Financial Ramblings
Markets and Memory Banks from Jason Zweig
You Just Can’t Change Some People from Rick Ferri

What is the Best Age to Claim Social Security?

Read the answers to this question and several other Social Security questions in my latest book:

Social Security Made Simple: Social Security Retirement Benefits and Related Planning Topics Explained in 100 Pages or Less

Click here to see it on Amazon.

How to Assess a Fund without a Ticker

Mike — Wed, 15 May 2013 12:00:23 +0000

A reader writes in, asking:

“My 401-k at work has several funds with no ticker symbols, so I cannot find information about them online, not even at Morningstar. The booklet about the plan that I got at my orientation does describe the funds though. What should I look for? And why don’t they have tickers?”

Most likely, these investment options without ticker symbols are actually “collective investment trusts” or “separate accounts.” In other words, these investment options are probably not mutual funds at all, though the basic idea is the same (i.e., a professionally managed pool of money from many investors).

Because these products are not offered directly to retail investors, they have no ticker symbols and different regulatory guidelines. Still, you want to know the same basic pieces of information that you would want to know about a mutual fund. That is, you want to know:

What index the product tracks (if any),
What the costs are for the product, and
What is in the product’s portfolio (i.e., its asset allocation).

This information should be available in your plan documents. (If it isn’t, get in touch with your HR department.)

Because these types of investment options have a lesser degree of transparency than plain-old mutual funds, I’d also make a point of checking the published performance figures to make sure they’re what they should be. That is, if the investment option is designed to track a specific index, I would try to find the performance data for that index (or for another fund that tracks that index) and then compare that performance to the performance figures for this investment option that are disclosed in your plan documents. You don’t want any surprises down the road from finding out that the trust or account isn’t actually doing a good job of tracking what you thought it was tracking.

What is the Best Age to Claim Social Security?

Read the answers to this question and several other Social Security questions in my latest book:

Social Security Made Simple: Social Security Retirement Benefits and Related Planning Topics Explained in 100 Pages or Less

Click here to see it on Amazon.

Portfolio Management vs. Financial Planning

Mike — Mon, 13 May 2013 12:00:17 +0000

I often hear from investors who are in the market for a financial advisor, but who, despite interviewing several, are struggling to find one who meets their needs. One of the most frequent causes of this difficulty is a failure to understand the difference between advisors who provide portfolio management services and advisors who provide financial planning services.

Portfolio management involves doing the actual portfolio maintenance: setting up the portfolio, rebalancing when necessary, tax loss harvesting, etc. (Just to be clear, portfolio manager is not a technical term, so these people might refer to themselves as wealth managers, money managers, investment managers, or something else entirely.)

In contrast, financial planning is about answering questions: Can you afford to retire? How much can you spend per year in retirement? Is your asset allocation appropriate? When should you claim Social Security? How can you reduce your taxes? Do you need to buy long-term care insurance? Things like that.

What confuses many people is that:

From a regulatory perspective, both portfolio managers and financial planners are probably registered investment advisers (RIAs) or representatives thereof, and
Either of them can have the Certified Financial Planner (CFP) designation (but neither is required to have it).

Some firms do financial planning. (Examples would include members of the Garrett Planning Network, or Allan Roth’s firm Wealth Logic.) Some firms do primarily — or exclusively — portfolio management. (Examples would include Rick Ferri’s firm Portfolio Solutions or Bill Schultheis’s firm Soundmark Wealth Management.) Many firms do both.

The story I hear over and over from readers is that, having been in the market for financial planning services, they contacted a local CFP and set up a meeting. But, once they arrived at the meeting, it became clear that the CFP was not really interested in providing one-time financial planning services. Rather, the CFP’s goal was to get the investor to sign up for ongoing portfolio management services — something in which the investor has no interest.

The key is to know ahead of time who you’re contacting — what type of business does this advisor usually do? If their website speaks a great deal about their wealth management services and doesn’t say anything about hourly consultations, that should be a good clue. If the advisor’s website doesn’t make it clear, you can check their Form ADV II. (When researching an RIA, checking this document is a good idea anyway.) Or, you can always call the advisor, telling them very explicitly what services you are and are not interested in, and asking if they would be a good fit.

What is the Best Age to Claim Social Security?

Read the answers to this question and several other Social Security questions in my latest book:

Social Security Made Simple: Social Security Retirement Benefits and Related Planning Topics Explained in 100 Pages or Less

Click here to see it on Amazon.

Investing Blog Roundup: Friends and Enemies

Mike — Fri, 10 May 2013 12:00:32 +0000

As an individual investor, it’s difficult to know who is on your side. It can be hard to distinguish one financial services firm from another or one industry group from another.

That’s why I was interested to see Daniel Solin’s new series for US News in which he categorizes various industry parties as “friend” or “enemy” — no room in between. (In reality, I think there is a bit of a gray zone. But quick categorizations can still be helpful for investors trying to work their way through the morass that is the investment industry.)

Investing: A Friends and Enemies List from Daniel Solin

Investing Articles

Penelope Wang of Money interviews Charles Ellis
Stock Market Gains Come from A Few Top Performers from Larry Swedroe
Lessons from the Top 11 Mutual Fund Companies of Today and 1989 from Allan Roth
Are Investors Really This Clueless? from Canadian Couch Potato
Why Financial Advisors Favor Bond Funds Over CDs from The Finance Buff
Stock Market Highs and Your Retirement from Roger Wohlner
Dividing ETFs Into ETIFs and ETAFs from Rick Ferri
Is It Time to Reform the 401(k)? from Matthew Amster-Burton

Thanks for reading!

What is the Best Age to Claim Social Security?

Read the answers to this question and several other Social Security questions in my latest book:

Social Security Made Simple: Social Security Retirement Benefits and Related Planning Topics Explained in 100 Pages or Less

Click here to see it on Amazon.

Does a Bond Fund’s Yield Tell You Its Level of Risk?

Mike — Wed, 08 May 2013 12:00:28 +0000

A reader writes in, asking:

“One of the fund choices in my 401K is Bond Fund of America (RBFCX). It has a much lower yield than Vanguard’s Total Bond Market Index Fund: 0.98% vs. 1.57%. With bonds, low yield should mean low risk. But based on the descriptions of the two funds, I don’t see why Bond Fund of America would have less risk.”

Comparing Holdings

Fund names and fund descriptions can be misleading. I think the best way to assess a fund’s risk level is to actually take a look at what’s inside. Typically, that means going to Morningstar.

For a bond fund, I click over to the “portfolio” tab on the fund’s Morningstar page and look at two important pieces of information:

Average duration, and
Composition of the holdings with regard to credit quality.

In terms of interest rate risk, Bond Fund of America is slightly safer than the Vanguard Total Bond fund, with an average duration of 4.55 years rather than 5.18 years. But from the credit quality perspective, Bond Fund of America is somewhat riskier, mostly due to having a significantly smaller allocation to Treasury bonds than Vanguard Total Bond has (~17% rather than ~37%).

Looking at Pictures

While I’m not one for comparing performance for the sake of picking the higher-performing fund, I do think past performance can be useful for getting an idea of how risky a fund is. One of my favorite ways to do this is to plot a fund’s performance against the performance of a fund I’m more familiar with (e.g., comparing a U.S. stock fund to Vanguard’s Total Stock Market Index Fund).

The following Morningstar chart (click to enlarge) shows the last 10 years of performance for Bond Fund of America (in blue) as compared to Vanguard Total Bond Market Index Fund (in orange).

In short, while these funds are at least in the same general ballpark in terms of degrees of risk (e.g., much less risky than a stock fund), the American Funds fund does appear to have somewhat greater overall risk due to its lower average credit quality.

SEC Yield: After Expenses

So, if the Vanguard fund has slightly less risky bonds, why does it have a higher yield?

Expenses.

A fund’s SEC yield is calculated on an after-expense basis. This is why, for example, if you compare the SEC yield on the Investor Shares and Admiral Shares versions of a given Vanguard fund, you’ll see that they differ by an amount equal to the difference in expense ratios.

The R3 share class of Bond Fund of America that this reader has in his 401(k) has an expense ratio of 0.92%. In contrast, Vanguard Total Bond Market Index Fund’s expense ratio is just 0.10% (for Admiral shares). If the two funds’ holdings were exactly the same, the difference in expense ratios would give the Vanguard fund an SEC yield that’s 0.82% higher than the yield of the American Funds fund.

What is the Best Age to Claim Social Security?

Read the answers to this question and several other Social Security questions in my latest book:

Social Security Made Simple: Social Security Retirement Benefits and Related Planning Topics Explained in 100 Pages or Less

Click here to see it on Amazon.

The Political Risk of Delaying Social Security Until 70

Mike — Mon, 06 May 2013 12:00:58 +0000

Some people argue that holding off on claiming Social Security is akin to betting that there won’t be any rule changes. I don’t think that’s true. While certain Social Security reforms would make it advantageous to claim earlier, other reforms wouldn’t change the decision at all, and others could actually make it more advantageous to delay claiming benefits.

The five potential Social Security reforms that I see suggested most often are:

Increasing or eliminating the payroll tax cap,
Increasing the payroll tax rate,
Increasing the full retirement age,
Means testing benefits in some way, and
Switching from regular CPI to chained CPI for calculating cost of living adjustments.

Increasing the Payroll Tax Cap or Tax Rate

Increases to the payroll tax cap or payroll tax rate are the easiest reforms to assess for our purposes: They would have no effect on the way benefits are calculated and therefore would not change the when-to-claim decision in any way.

Increasing the Full Retirement Age (FRA)

Increasing the full retirement age does not change the age at which you can claim benefits. Rather, it’s simply a reduction in the amount of benefits you would get at any particular age. (For example, if you claim retirement benefits at age 64 with a full retirement age of 67, you get 80% of your “primary insurance amount.” If your FRA was 68 instead of 67 and you claimed benefits at age 64, you would only get 75% of your primary insurance amount.)

How would an increase in the full retirement age affect the when-to-claim decision? It wouldn’t dramatically change the break-even math, assuming the change is not applied to anybody already age 62 or older. Nor would it change the fact that delaying Social Security is like buying an inflation-adjusted lifetime annuity that has a higher payout than what you can get from a private insurance company.

For people who subscribe to the “build a safe floor of income” retirement planning philosophy, an increase in their FRA would actually mean they should claim later than they otherwise would. That is, if you have a certain level of safe income that you’re trying to achieve, and your benefit is reduced due to an increase in your FRA, you would then need to delay benefits until a later date in order to hit the necessary level of safe income.

Means Testing

Given that there are many different ways in which Social Security means testing could be implemented, it’s impossible to make a generalized rule about how means testing would impact the when-should-I-claim-benefits decision. So let’s consider a few different possible scenarios.

If the law implementing means testing includes a grandfather clause exempting people already old enough to receive benefits, the change likely wouldn’t impact the decision in any dramatic way.

Similarly, if your income (or wealth, if that’s how the means testing is done) ends up being below the point where means testing takes effect, your decision process would be no different than it is now.

If the change does affect you, and it simply works out to a percentage reduction in your benefits throughout your entire retirement, the analysis is roughly the same as it is for an increase in your full retirement age. (That is, it doesn’t change the break-even math, it doesn’t make delaying any worse of a deal, and it means that if you have a certain level of safe income you’re looking to achieve, you’ll have to hold off on claiming benefits even longer in order to reach that level of safe income.)

On the other hand, if means testing is implemented somewhere in the middle of your retirement and people old enough to receive benefits are not exempted via a grandfather clause, that would mean that claiming earlier would have been relatively more advantageous than it would have been if no such change is implemented. (That said, given that waiting to claim benefits is currently advantageous for most single people and decidedly advantageous for the higher earner in most married couples, the implementation of means testing might not have enough of an impact to make it a good idea to claim early. It all depends on the magnitude of the means testing — would your benefits be reduced by only a little, or by a lot?)

Switching to Chained CPI

One proposal getting a lot of discussion recently is to switch the calculation for Social Security cost of living adjustments to chained-CPI rather than CPI-W. This would result in benefits growing at a slower pace over time. Such a change would make claiming early more advantageous than it currently is, because it would mean that, in inflation-adjusted terms, benefits received later are smaller than benefits received earlier. So the sooner you receive the bulk of your benefits, the better.

What is the Best Age to Claim Social Security?

Read the answers to this question and several other Social Security questions in my latest book:

Social Security Made Simple: Social Security Retirement Benefits and Related Planning Topics Explained in 100 Pages or Less

Click here to see it on Amazon.

Investing Blog Roundup: How Much Should I Save?

Mike — Fri, 03 May 2013 12:00:50 +0000

“How much money should I save each month?”

That’s one of the questions I get most often. And I’m not exaggerating when I say that I think it might be the single hardest investing-related question to answer. But, I thought Matthew Amster-Burton did an admirable job of tackling the topic this week for Mint.com’s blog:

What Percentage of My Income Should Go Into Savings? from Matthew Amster-Burton

Investing Articles

When Fund Selection Is Done Right from Rick Ferri
Lending Club — A Critical Review from Allan Roth
Why Investors Don’t Realize CDs Are a Better Deal Than Bonds from The Finance Buff
The 401(k) Debate from Steve Utkus
No Free Lunch from Equal-Weight S&P 500 from Rick Ferri

What is the Best Age to Claim Social Security?

Read the answers to this question and several other Social Security questions in my latest book:

Social Security Made Simple: Social Security Retirement Benefits and Related Planning Topics Explained in 100 Pages or Less

Click here to see it on Amazon.

Oblivious Investor

Investing Blog Roundup: What We Know About the Stock Market

Investing Articles

Other Money-Related Articles

What is the Best Age to Claim Social Security?

Are Bond Funds Unusually Risky Right Now?

Risk = Likelihood of Low Returns?

Risk = Volatility?

What is the Best Age to Claim Social Security?

Looking Up a Fund’s Holdings

Finding a Fund’s Form N-CSR or Form N-Q

What is the Best Age to Claim Social Security?

Investing Blog Roundup: Vanguard Emerging Market Bond Fund Now Available

Investing Articles

Other Money-Related Articles

What is the Best Age to Claim Social Security?

How to Assess a Fund without a Ticker

What is the Best Age to Claim Social Security?

Portfolio Management vs. Financial Planning

What is the Best Age to Claim Social Security?

Investing Blog Roundup: Friends and Enemies

Investing Articles

What is the Best Age to Claim Social Security?

Does a Bond Fund’s Yield Tell You Its Level of Risk?

Comparing Holdings

Looking at Pictures

SEC Yield: After Expenses

What is the Best Age to Claim Social Security?

The Political Risk of Delaying Social Security Until 70

Increasing the Payroll Tax Cap or Tax Rate

Increasing the Full Retirement Age (FRA)

Means Testing

Switching to Chained CPI

What is the Best Age to Claim Social Security?

Investing Blog Roundup: How Much Should I Save?

Investing Articles

Other Money-Related Articles

What is the Best Age to Claim Social Security?