What is The Best Strategy for My Investments During These Unpredictable Times?

What is The Best Strategy for My Investments During These Unpredictable Times?

 

In the weeks following news of the corona virus outbreak, the S&P 500 lost over one third (34%) of its value (between February 19th and March 23rd).

Unemployment figures so far have fallen to 6.7% for the month of November, down from 11.1%  in June, yet the S&P 500 has rallied 61.87% from the March 23rd low (through November 30th).

Markets and the economy seem to have decoupled—should we be worried? Have we seen this before? Let’s look at past major market declines to see how markets and economic measures have acted in the past.

In the 1973–74 market crash, the S&P 500 bottomed on October 3rd, 1974, and started to rally forward while unemployment continued to increase until May 1st, 1975, seven months later.

In the aftermath of the tech bubble bursting in the early 2000s, the S&P 500 bottomed on October 9th, 2002, after dropping 49%; and it began a swift rise while unemployment rates also continued to increase for nine months until June 2003.

In the aftermath of the financial crisis just over a decade ago, the S&P 500 bottomed on March 9th, 2009, after losing over 56% of its value. The markets began a lasting bull market while the news and data grew worse. Unemployment continued to increase through October 2009 (eight months later), GDP continued to decline through June 2009, and bankruptcies of banks continued at record rate throughout 2009 and into 2010. Again, the stock market seemed to have “decoupled” from economic data.

The stock market is considered a “leading economic indicator.” The news and measurements of the economy determine what has happened while the market looks forward to what may be coming.

There is precedence for what is happening with markets rebounding before we see the elusive “light at the end of the tunnel.” History shows that markets have typically rebounded ahead of economic measurements.

So, what is next?

The events that have unfolded in 2020 emphasize how unpredictable the future is and will continue to be. While many knew that the possibility of a global pandemic existed, we had no idea when it would strike, causing the 34% drop in February and March while fear took control of the markets. Further, economic measurements did not signal when markets would begin a recovery. Once again, there was no “light at the end of the tunnel” to signal the 62% market surge from March 23rd through November 30th.

We may not yet be through the worst of this pandemic. Markets may drop again, possibly even further than they did in March. Perhaps the roll out of the vaccine will change things more quickly than previously expected. Maybe the market will continue to grow from here.

The future is fundamentally unpredictable, and the world is always changing; yet the very real effects of fear and greed that each of these cycles elicits is predictable and consistent. We know that fear and greed create chemical reactions in our brains that lead to poor decision making. We need a disciplined framework to lean on to keep from making decisions we later regret.

The best strategy for capturing the highest risk-adjusted returns remains keeping your money invested in a massively diversified portfolio, rebalancing when your allocation deviates from its target. This will have you take advantage of market swings.

At Merriman, our rebalancing sensitivities were triggered in March and April for many portfolios. This generally had us buying stock funds after the big decline with proceeds we pulled from bond funds after they had rallied in response to the fear of current events. Going further back, rebalancing had us trimming from stock funds throughout the more than decade-long bull market that started with the recovery from the financial crisis of 2008 to add to our bond funds, preventing greed from taking those profits back.

Rebalancing has us buying asset classes at low prices when fear can make it difficult, then selling asset classes after they have grown to higher prices when greed can have us wanting more.

Rebalancing is a disciplined framework that helps us with the number one goal of investing: Buy Low, Sell High.

Feel free to reach out to us if you’d like to discuss how to apply rebalancing to your specific situation!

 

Important Disclosure:
Past performance is not indicative of future results. No investor should assume that future performance of the S&P 500 will be similar or equal to previous years/periods.   The S&P 500 is a market capitalization-weighted index of 500 widely held stocks often used as a proxy for the U.S stock market.  S&P 500 performance data was obtained from Yahoo Finance. 

My Journey to Sustainable Investing | An Advisor’s Perspective

My Journey to Sustainable Investing | An Advisor’s Perspective

 

During my senior year in high school, I was invited to go backpacking in Yosemite with the Yosemite Institute. I had been backpacking many times before with my father all over California. We even climbed the tallest mountain in the continental United States (Mount Whitney) when I was 14. I loved the adventure and challenge of backpacking. In those early years, I didn’t realize the importance of being in nature. It wasn’t until the Yosemite trip that our guides taught us about the history of the national parks in the delicate balance between the visitors and the surroundings. They also taught us the importance of taking care of our planet. When my classmates and I stopped in a McDonald’s on the way home from Yosemite, I remember taking the Big Mac out of the Styrofoam container and asking them to reuse it. Back in the 80s, I don’t think climate change was on many people’s radars. Today, the science of climate change makes me want to do everything possible to care for the planet for the generations to come. I’ve always done my part but drew the line when it came to investing sustainably. My thought has always been to maximize returns in my investment portfolio and give charitably to causes that fight climate change.

I just didn’t believe that I’d be able to diversify enough (too risky). I believed that returns would be lower in part due to higher expenses. I also got confused about the differences between being socially responsible and sustainable investing. There are also a lot of acronyms and terminology to understand, such as SRI (Socially Responsible Investing) and ESG (environmental, social, and governance).

The history of Socially Responsible Investing (SRI) goes back as early as Moses in 1500 BC. In more modern times, the 1950s saw the first mutual fund, the Boston-based Pioneer Fund, to avoid “sin” stocks: companies that dealt in alcohol, tobacco, or gambling.

While I don’t love to support alcohol, tobacco, and gambling, my values aim to focus on investments that help the planet. My values seek to focus on the “E” in ESG: the environment. Doing well while doing good.

Sustainability investing is a choice and investors decide whether aligning their investment decisions with their environmental values is right for them.  At Merriman, we believe that, all else being equal, a sustainability investing strategy should generally reward companies for acting in more environmentally responsible ways than their industry counterparts. This belief is in contrast to many other sustainability investing approaches that exclude entire industries regarded as the worst offenders.  Sustainability strategies place greater emphasis on companies considered to be acting in more environmentally responsible ways while also emphasizing higher expected return securities. This approach enables investors to pursue their environmental goals within a highly diversified and efficient investment strategy.

It feels like we have both been on the same journey to the top of the mountain to build a portfolio that focuses on the environment without sacrificing risk-adjusted returns. Merriman recently announced major changes to our values-based portfolio, and I have moved all of my investments into our new portfolio. When I combine a sustainable portfolio with charitable giving, it is one small way to do my part in “leaving no trace behind.” If you would like to learn even more about our approach, you can read “Incorporating Environment and Social Values into Your Merriman Portfolio”.

 

 

 

Why You Should Consider ROTH Conversions During a Bear Market

Why You Should Consider ROTH Conversions During a Bear Market

 

 

We expect most people have a grasp on how to make money in a bull market, but it can be far more challenging to contemplate how to make money during a bear market, when emotions are running high.  It’s not all about making money, though.  Some of it involves figuring out how to put oneself into a better financial position for the future so that you can heal faster from the losses.  There are a handful of key strategies to engage in during a bear market that will help your finances as much as your future, and one of the most important of these is ROTH conversions.

Believe it or not, bear markets represent the best environment into which to make an IRA-to-ROTH conversion.  The more negative the equity losses are, the more attractive the conversion becomes.  When making a conversion to ROTH, you can either move cash or you can move shares of the stocks or mutual funds that you own in the IRA.  When we make a conversion, we choose to move shares for our client families.  The tactical benefit here is that we actually get to pick the specific funds to move from the IRA to the ROTH.  Whichever funds have the deepest losses for the given year are the ones with the highest priority to move over first.

Think of it this way: if we found ourselves in a sharp bear market, we would expect several equity asset classes to be down, but maybe inside our IRA the US small cap fund went down the most with a -35% loss.  Although it may not feel like it, bear market losses are temporary, so it is important to take action and make the conversion to the ROTH while the markets and the news are negative and remain temporarily distressed.  If we were to hypothetically move $50,000 of the US small cap fund in our example, we would actually be moving shares that were previously 35% higher in value at $77,000.  If we convert the $50,000 of small cap shares right now, we incur the tax liability on those shares on the day they are moved over.  Once the shares have arrived in the ROTH, it then becomes a matter of exercising patience.  It might take six or nine months for the current bear market to pass; but when the economy improves, those distressed shares should bounce back in value.  In a relatively short number of months, the $50,000 that was converted and that you paid tax on might be worth $65,000 or $70,000—but remember, you only paid tax on $50,000.  Much like a spring being compressed and then subsequently released, the idea behind the conversion is to move the shares to the ROTH while the spring is compressed.  Simply put, the bear market represents a tax-savings opportunity in disguise, so acting now is highly important BEFORE things improve in society.  Effectively, ROTH conversions and bear markets coupled together give us a way to legally cheat the IRS out of tax dollars.

The benefits of ROTH conversions are not just effective during a severe bear market but can be utilized nearly every year.  If you employ a highly diversified portfolio with multiple asset classes held in your IRA and ROTH, there are lots of opportunities to take advantage of the up and down stock market movements, as many asset classes move at different rhythms.  There are a host of financial planning advantages to ROTH accounts and gradually converting IRA money into ROTH each year.  Keep in mind, ROTH accounts contain post-tax money; they do not have required minimum distributions, which do apply to traditional IRAs; and all of the future growth on the assets in the ROTH are considered post-tax.  All withdrawals from ROTHs are voluntary, and all of the dividends, interest, and earnings in the ROTH are shielded from taxes.  Another advantage of a ROTH account is that it can be viewed with your IRA using an overall investment approach that we call Asset Location.  Essentially, Asset Location seeks to view the IRA and ROTH accounts as if they were one account holding one investment portfolio but divvies the funds between the accounts to the greatest advantage.  Reach out to your advisor if you are curious about conversions and ROTH accounts and learn more about how we advocate for our families.

With the World Working from Home, How Can Real Estate Be a Good Investment?

With the World Working from Home, How Can Real Estate Be a Good Investment?

 

One of the most noted and real impacts of the coronavirus is that employees are working from home. While it has been a huge shift, four plus months in, the results have been positive for many, and headlines in business publications are examining whether a substantial fraction of these employees may never return to the office. There is solid debate about how big the impact will ultimately be, but there is no doubt that companies will be revisiting their spaces.

This trend might lead one to worry that real estate values will plummet as demand falls and supply stays constant. To this I would offer two counter points. First and foremost, commercial real estate encompasses a wide range of investments. The pie chart below shows the sub-sector breakdown of the holdings of our most widely recommended real estate investment, the Dimensional Global Real Estate Fund (DFGEX).

REITs that focus on office properties as of June 30th, 2020, made up just 12% of the fund’s allocation. Office REITs do not just own high-rise commercial office buildings in downtown cores. Much of the space they own is in suburban office parks and includes space leased by dentists, hairstylists, lawyers, and small research and engineering firms. While many more things can be done virtually, there are still many businesses, such as orthodontists and spas, that will always require an in-person experience.

While demand for some types of office space may be dropping, demand for other types of real estate in the fund is growing. As of June 30th, the top three holdings in the Dimensional fund were American Tower Corporation, Crown Castle International Corporation, and Prologis Inc. American Tower and Crown Castle are owners and providers of infrastructure for wireless communication and fall into the Specialized category. Prologis is in the logistics real estate business, leasing distribution facilities to support direct fulfillment to customers. All three of the companies are poised to see substantial growth from increasing demand. The fund owns many other businesses, from cold storage warehouses to multi-family apartments to medical facilities, where demand remains high.

The second point is that changes always follow any societal upheaval. There is no doubt that COVID will have an impact on our world. However, it is unclear that the shifts will be as radical as some are predicting or that COVID alone will cause the demise of industries or institutions. Large scale change rarely happens that quickly or dramatically.

For example, the idea that demand for office real estate will suddenly drop 60–70% seems overblown. IBM was an early proponent of telecommuting. In a 2009 report, they boasted that “40 percent of IBM’s some 386,000 employees in 173 countries have no office at all.” According to an Atlantic article from 2017, they unloaded 58 million square feet of office space at a gain of nearly $2 billion. By all accounts, it sounded like a winning strategy. Only, it did not work out, and in March of 2017, IBM decided to move thousands of its workers back to physical company offices.

The problem was likely a drop in what the Atlantic terms “collaborative efficiency”—or the speed at which a group successfully solves a problem. Physical distance still mattered when it came to team creativity, and remaining competitive in a rapidly changing landscape more and more requires novel solutions to complex problems. Offices may look different, but I believe that more than ever people and employees will need places to gather and connect.

The future trajectory is never clear even to the greatest minds. What is clear is that people will always need spaces to live, work, and conduct business. What those spaces look like will evolve, but companies are motivated to adapt. And historically, they have changed industrial warehouses and former malls into Amazon fulfillment centers and multi-family apartment complexes. Despite the recent drawdowns and changing landscape, we believe that investing in a diversified real estate portfolio continues to offer the potential for equity-like returns, current income, and solid inflation protection, all important elements of a well-balanced portfolio.

 

Getting Creative with Financial Literacy

Getting Creative with Financial Literacy

As a dad and a financial advisor, I find myself constantly trying to explain how money works. In my opinion; budgeting, investing, and creating income are topics that should be equally important to my 8-year-old daughter as they are to a 50-year-old client. Unfortunately, for whatever reason, access to financial literacy tools for money management are not a mainstream part of our educational system. With more and more resources available at our fingertips, it is my hope that the next generation will grow up already knowing how to save and plan for retirement way before they get their first job.

Take my daughter for example. Last summer, my then 7-year-old asked me what I do for work (I’m a financial planner). It turns out, her friends were all talking about what their parents did for a living, so naturally my daughter wanted to join in on the conversation. Up until this point I had always told her that I helped people get ready for retirement, which I summed up as a “summer vacation that never ends”. She didn’t give it much thought until other kids started talking about how their parents owned a restaurant, helped people get better as a doctor, or worked on getting packages delivered faster as an engineer at Amazon. When my daughter told her friends that her dad helped people get ready for a never-ending summer break, she got a lot of “Huh?” faces.

I then decided to have a more in-depth dialogue with my daughter around what I actually did. The basics of how investing works seemed like a good place to start. So, using the tools we had at our disposal (crayons, blank paper and a 7-year-old’s imagination) I set out to explain what a financial advisor does. It started with a simplistic explanation of what the stock market is, and by the end of our first conversation, my daughter had learned the rhyme: “Stocks make you an owner, and bonds make you a loaner.”

This was progress! After a few more arts-and-crafts sessions, we had created a story explaining how investing in the stock market works, and it was starting to resemble a book. At this moment, I told my daughter we should try to publish our book so other children could learn about investing, and she turned to me and said, “Dad, you can’t just publish a book. Only authors can do that!”  Challenge accepted!

Fast-forward six months, and our rough draft was polished into a finished book. Today, you can find “Eddie and Hoppers Explain Investing in the Sock Market” on Amazon! As a dad and a co-author, I’m very proud of my daughter for helping me create this story and for helping me make the book a reality.

After the book came out, I figured my daughter would stay interested in financial literacy, but I should have known asset allocation and risk management weren’t exactly the most exciting topics for an 8-year-old. I had to find a way to introduce financial topics into everyday life.

Money management for a second-grader is pretty simple. My daughter’s main income sources are: A monthly allowance, gifts from relatives for birthdays/holidays, plus she had a lemonade stand last summer that netted a respectable profit. The problem wasn’t earning the money, the problem was keeping track of it and then remembering how much she had when she wanted to buy something.

So, as a dad/financial advisor, I did what comes natural… I created a spreadsheet to track everything. Turns out, spreadsheets are also pretty low on the list of things that my daughter finds interesting. This is when I had my a-ha moment. I did a quick internet search and found a lot of options for tracking how much a kid earns, spends and saves. Last summer when I was trying to teach my daughter what I did for a living, I did a similar search for children’s books that discuss financial topics and found very little. That’s what inspired me to write our book. Thankfully, this time I was able to find what I was looking for when searching for an app that could help me teach my daughter about budgeting.

Ultimately, I decided to use Guardian Savings with my daughter because it has the right balance of simplicity and effectiveness. Guardian Savings allows my wife and I to be ‘The Bank of Mom and Dad’. My daughter finally got organized, and she consolidated all her savings from the half-dozen wallets, piggy banks and secret hiding spots, so she could make her first deposit. More importantly, when we’re at the store or shopping online and my daughter finds something that she must have, we’re able to open the app and let her see the impact of making an impulsive purchase. Plus, as the parent, I get to decide what interest rate my daughter will earn in her account. Not only do I get to have a conversation about what interest is, but she gets to experience the power of compound interest by seeing her savings grow each month. Talk about a powerful motivational tool!

In this day and age, the idea of teaching your child how to balance a checkbook is outdated. The next generation will live in an entirely digital world. Apps are the new checkbook, and it may be a good idea to teach your children personal finance in the same environment they will be in as adults. Already a digital native, my daughter impressed me by how fast she learned how to use the app, not to mention the principals of saving and smart spending that are encouraged throughout the interface. In a few years, I’ll be able to discuss what asset allocation is and how a Roth IRA works, but for now I’m happy that my daughter can get practice making budgeting decisions and building a strong understanding of the basics.  Financial literacy has to start somewhere and the sooner that foundation can be made, the more confident a child will be when it comes to managing money as an adult.

What Pandemics Can Teach Us About Personal Finance

What Pandemics Can Teach Us About Personal Finance

Because economic markets are intrinsically linked across the globe, the impact of a global pandemic can be widely felt. Disturbances in supply chains can impact inflation rates, and an increase in unemployment is a viable risk. Due to this, low inflation rates can impact forex trading and force central banks to reduce country-wide interest rates, resulting in a weaker currency. Despite these changes, it’s vital to take an informed approach when it comes to managing your finances. Here are some ways you can re-strategize in the time of a pandemic:

How to rebalance your portfolio

During epidemics over the last 20 years, the S&P 500 Index tends to exhibit a pattern of dramatically falling then powerfully recovering over a period of approximately six months. A generally prudent strategy to follow is to seek expert advice in redistributing your investment portfolio. In general, selling US growth stocks and buying bonds is suitable for many clients. Selling partial or full positions in order to boost your tax savings is also good advice to follow in the long run. Keeping an eye on your portfolio and avoiding making panicked decisions is crucial in the event of a pandemic.

How to invest according to your current situation

Something else to keep in mind is to invest according to your age group and particular situation. This advice applies whether you’re experiencing the effects of a pandemic or not. If you’re a young investor, it is recommended to hold on to your existing investments and patiently waiting for your returns. If you’re nearing retirement age, you should consider delaying your retirement if possible and focus on building up your funds. Lastly, if you’re already retired, you should hang on to your investments if you can afford it, or attempt to reduce your expenses.

How to re-categorize your budget

During a pandemic, individuals and families are likely to juggle new financial challenges. At this time, it’s a good idea to rethink your priorities. For instance, figure out your new baseline income based on potential pay cuts or unemployment, as well as any benefits you may receive. After this, work on calculating how much you need to pay for the essentials, such as rent, utilities, and food. Finally, you should try eliminating or reducing unnecessary expenses where you can. Dining out, entertainment, clothing, and travel are some areas where you can cut costs during this time.

How to get refunds where you can

In order to limit the spread of illness, it’s common practice that major events, flights, and services like gym memberships will be canceled. Because of this, you’re usually entitled to some form of compensation. If a travel ban has been put into place, airlines are likely to give you a refund or some form of credit if your travel plans were made in advance. Concerts and sports events should have similar policies put into place, so check your spam folder for any emails and updates regarding your refund. If you haven’t received any communication from the relevant organization, reach out and contact them to see what can be done.

In the event of a pandemic, it might be tempting to give in to your emotions and worry about your finances. To prevent this, building up an emergency fund beforehand with approximately three to six months’ worth of expenses and maintaining a strict budget plan will help you maintain peace of mind.

Prepared exclusively for merriman.com
by Danielle Houston

Important Disclosure:
This article is for informational purposes only, and does not intend to address the financial objectives, situation, or specific needs of any individual investor.  The general suggestions provided are not intended to serve as personalized financial and/or investment advice since the availability and effectiveness of any strategy is dependent upon your individual facts and circumstances.  Investors are highly encouraged to work with a financial services professional to discuss their financial situation and suitable solutions.