Buffett's Opinion in the New York Times

In last week's NYT, a great opinion piece by Warren Buffett: http://www.nytimes.com/2008/10/17/opinion/17buffett.html?_r=1&oref=slogin

As part of his opinion, Warren makes a number of important points, which I want to summarize for you here:

1) No one can determine the direction of the market
2) Betting against America is a mistake
3) Holding cash vs. equities long-term is a bad decision

Now to this last point, I'll pull a couple of comments directly from Warren, and tie it to some recent research from the AAII, which indicates that those that face retirement need to remain in equities to meet their long-term retirement needs.

As Warren states:

Today people who hold cash equivalents feel comfortable. They shouldn’t. They have opted for a terrible long-term asset, one that pays virtually nothing and is certain to depreciate in value. Indeed, the policies that government will follow in its efforts to alleviate the current crisis will probably prove inflationary and therefore accelerate declines in the real value of cash accounts.

Equities will almost certainly outperform cash over the next decade, probably by a substantial degree. Those investors who cling now to cash are betting they can efficiently time their move away from it later. In waiting for the comfort of good news, they are ignoring Wayne Gretzky’s advice: “I skate to where the puck is going to be, not to where it has been.”

So, congratulations to those that had the foresight to move into cash prior to the crisis, but the question for them now becomes "When do I get back in?" ---And the real key to success in investing is to know both when to buy AND when to sell. Warren approaches this in an important way, by simply owning the stocks "forever". For those of us that don't necessarily feel like we have that luxury,it's still instructive.

Now to reference a study mentioned in January's AAII (American Association of Individual Investors) Journal article "Choosing the Right Mix: Lessons From Life Cycle Funds ". Although the article is about life cycle funds, it discusses a "consensus opinion" on asset allocation, which follows:

Allocation by Age Group:

• Ages 20 to 40: Allocate about 90% of your financial portfolios to stocks.
• Age 40 to retirement: Decrease the stock portion steadily to about 50% or 60%.
• During retirement: Decrease the stock allocation by 2% per year for at least the first five years after retirement; high-yield bonds should be only a small fraction of the fixed-income portfolio.
• All ages: Maintain a stable exposure to international stocks of between 15% and 30% of the stock portfolio.

For some, this suggested allocation may seem excessive. Beginning retirement with 50-60% of your investments allocated to stocks? Yes. The logic is this -- the most significant investment gains come from the compounding of investments that takes place in later years.

Warren at 70+ years knows this inherently, yet it's a lesson that some retirees will need to take to heart, and unfortunately, it will mean increasing the risk they will have to bear. For those that are currently tied in equities within this market, they may have no other choice.

Obama and the capital gains tax

I don't talk politics on this blog, that's simply not its intent. I do, however, speak about economics on occasion, and even tax policy, and that's what I'll do here. Although I won't share my preference for the presidential race, this post will point you to a commentary referencing Barack Obama's stated views on taxation from the most recent Democratic presidential debate, from yesterday's WSJ: http://online.wsj.com/article/SB120847505709424727.html.

Although Barack (and Hillary) have both indicated that they will not raise taxes on households that make under $200 - $250k a year, both are talking about raising the capital gains tax, which does indeed raise taxes, and impacts over 100 million households directly (including mine). In addition a higher tax rate, the real kick in the pants is the fact that an increase in this tax actually reduces overall tax revenue, which directly undermines the overall goal of the tax in the first place. As the commentary reveals:

• Lower capital gains taxes actually increase tax revenues considerably (this is because lower rates stimulate liquidity throughout various asset classes).
• 79% of all tax returns reporting capital gains came from households with incomes below $100k.

These are facts gleaned from actual results of former tax policy and '05 tax returns (most recent data available?). The commentary closes with an explanation of Obama's additional desire to raise the cap on wages subject to payroll tax beyond the most recent '07 cap of $102k .

Unfortunately, as WSJ suggests, "Either the young Illinois senator is ignorant of capital gains data, or he just doesn't care..." Here's to hoping he refines this policy before the presidential election takes place.

Are you happy?

While searching for my next role, I've had a lot of time to reflect, and recently came across a great website that has been useful to me: http://www.authentichappiness.org/.

What is truly important to you? Does the way you use your time align with your larger priorities? For those that indicate they are truly happy, there is a high correlation between the two.

Although my score indicates a fairly high degree of happiness, I'm always up for more. Here are some general recommendations (backed by a considerable amount of recent research), that have led many to a happier, more fulfilling life:

1. Count your blessings daily.
2. Practice acts of kindness.
3. Savor life's joys.
4. Thank a mentor.
5. Learn to forgive.
6. Invest time and energy in friends and family.
7. Take care of your body.
8. Develop strategies for coping with stress and hardship.

Another approach, based on the book The Paradox of Choice is essentially to learn when it is ok to "settle". There are essentially "maximizers" and "satisficers", and maximizers are those that always look for the very best option. The problem is that those people spend so much time evaluating options, that although they often make better decisions, they ultimately feel worse. The recommendation - "...only be a maximizer when it truly matters" to do so...

Here's to hoping this will brighten your day!

Take your Lump Sum Pension now!

Ok, so I'm still mulling through that Forbes issue from the last post, and it's lucky that is the case because as I consider my separation from ABN AMRO/LaSalle - it could help me save a decent amount of $$$$, and you too, for that matter.

The issue ---- pension valuation. The rules are changing in a way that will minimize the value of your pension over time. If you are one of the lucky few within the US to still have a pension, you'll want to take a closer look at this article: http://www.forbes.com/personalfinance/forbes/2008/0225/048.html

The skinny: Congress is allowing companies to lower the estimated earnings calculation that is made as pension benefits are calculated. As these estimates are lowered, the resulting amount that your company owes you decreases. If you have an opportunity to act before this legislation take effect - you should take it.

Retirement and your 2007 tax strategy

Great article in Forbes on tax advantaged ways to save: http://www.forbes.com/forbes/2008/0225/040.html?partner=email

Very good summary that will help you:
- understand your retirement savings options quickly
- determine how to prioritize those options

Of note - discussion about best location for various assets, based on the type of income they will generate. Highest growth assets belong in a Roth, while taxable bonds and REITs belong in a pretax 401k or IRA (since the income that generate is taxed at ordinary rates, you want to defer it as long as possible).

On estimating your retirement savings needs

Link: http://online.wsj.com/article/SB118541302065178447.html

A useful article that provides a comparison of some free online tools that can help you determine if you are saving enough money for retirement. The net-net, each tool is relatively easy to use (I tried two), and they will all give you different results, but used collectively provide some value.

In addition to inputting different data for each, the assumptions that the four tools make are different as well, and those differences help to account for the results you end up with.

LaSalle/ABN - aka "What to do with your company stock?"

Came across a very topical article on "net unrealized appreciation", which is a method that can be used to minimize taxes on stock that you hold in a 401K. In my opinion, this is especially useful for those of us that may be anticipating a separation from our longtime employer, LaSalle Bank. I'll provide the link below, and then summarize briefly.

Link: http://online.wsj.com/article/SB118436150342166169.html?mod=pj_main_hs_coll

Summary:
1) Leave your job.
2) Withdraw your company stock from your retirement plan and move it to a taxable account.
3) During same calendar year, move the remainder of your assets out of your former company's retirement plan. These can be moved into a retirement plan.

Why would you do this? If you hold the stock until the age of 59 1/2, you can minimize your income tax on the holding to the max capital gains rate (currently 15%). For those of you in the 35% tax bracket, this will save you 20% on your taxes.

Please see the article for details, and see this posting for more tips directly from the source - Fidelity: http://www.fidelityresearchinstitute.com/.

Tax-deferred vs. Taxable Retirement Accounts

In an old WSJ article, an author inferred that the returns on Taxable retirement accounts could be greater than those from sheltered accounts ("Striking a Balance" - http://online.wsj.com/article/SB117028322416194224.html?mod=Letters).

Knowing that this is not the case, an astute reader weighed in. Although it makes intuitive sense to me, it was a good reminder to apply common sense in spite of what you might see in the press on retirement advice. Here's what he had to say:

I was dismayed to find that in your Feb. 3 article "Striking a Balance" the laws of mathematics have been repealed. Lynn Ballou states that greater wealth can be accumulated in a taxable investment account funded with after-tax dollars than in a tax-deferred account funded with pre-tax dollars, even if the investor's tax bracket remains constant and the pre-tax rate of return in both accounts is identical. She even goes so far as to claim that the alleged advantage increases over time.
To reach these bizarre conclusions, Ms. Ballou assumes that the same amount is invested in each case, ignoring the fact that the after-tax investment clearly must be reduced by the amount of the tax paid. Assuming away this fact is akin to stating that living in Palm Beach is no more enjoyable than living on the moon, if one ignores the location.

In actuality, a tax-deferred account funded with pre-tax dollars beats a taxable account funded with after-tax dollars every time, assuming the investor's tax bracket doesn't increase and the pre-tax rates of return are the same. The advantage increases with the time horizon, and it persists regardless of how tax-efficient the investments in the taxable account are.

Steven Dolgin
Fort Lauderdale
(Mr. Dolgin is an associate, Society of Actuaries and a member, American Academy of Actuaries.)