Thursday, September 17, 2015

Federal Reserve Holds Interest Rates at Zero

The Federal Reserve, after months of hinting at raising interest rates slightly at its September meeting, decided today to leave interest rates alone. The Fed said that global risks outweigh the risk of U.S. inflation and the Fed even lowered its long term outlook for the economy. If the Fed worries about the U.S. economy, the last thing it will want to do is raise rates and slow the economy. However, it did leave open the possibility that rates may rise later this year.

What does this mean for the average consumer? Interest rates will remain low and hopefully the economic recovery we have seen (lower unemployment, higher home sales, etc) will continue.

Interest rates in the 10 year part of the Treasury curve dropped very slightly on the Fed's announcement and the stock market remained up slightly for the day.

Saturday, August 29, 2015

6 Steps to Finding An Investment Advisor Who Works For You

Once a person has decided that they need some help with investment management (see our earlier post Why Hire an Investment Advisor, and Do I Really Need One), the next step is the search process to find a good investment advisor. We have broken the process down into six steps:

1) Find a fiduciary: A Fiduciary is a person legally obligated to put your interests ahead of their own. Doctors are fiduciaries. Attorneys are fiduciaries. For some reason, stock brokers are not fiduciaries...they are able to avoid the higher legal standard of fiduciary. However, Registered Investment Advisors are fiduciaries. Check the website of the group you are considering. If, at the bottom of the website you see (usually in very small print) that says "Securities offered by XYZ corporation" or "Member of FINRA/SIPC" etc...then you are looking at a stock broker, not a fiduciary. Also, just ask the person you are considering hiring. It's an easy question and an easy answer. Start by Googling "Registered Investment Advisors."

2) Check out the Investment Advisors legal history. The SEC offers a wonderful site called "Investment Advisor Search" which offers the ability to search by a person's name or company. If the person isn't listed there, he or she is not an investment advisor.

3) Make a phone call or appointment once you have found some fiduciary Registered Investment Advisors, and ask about their years in the business, their investment philosophy, their relationship minimums, and what sort of fee structure they offer.

4) If possible, schedule a face to face interview with your potential Registered Investment Advisor. Personality fit and trust is an important component to the relationship and you want to see what sort of chemistry you have. Bring your spouse or partner.

5) Ask where the Registered Investment Advisor custodies your assets. Stocks, bonds, and mutual funds must be kept somewhere. The most popular custodians are Charles Schwab and Fidelity.

6) Ask the Registered Investment Advisor about how they would work with you and whether they have clients similar to you. If you are a retiree, does this Registered Investment Advisor work with other retirees? Make sure your situation is similar to their typical client situation.

Once you have decided upon someone to hire, the process is quite simple. Usually, your assets transfer to the new custodian and your new advisor begins to go to work immediately.

Friday, August 21, 2015

What to do When the Stock Market Falls 1000 Points

The U.S. stock market fell dramatically this week. The S&P 500 is now officially down 4.3% for the year. However, bond prices are up rather dramatically and have dampened some of that sting for those individuals who always keep a balance of stocks and bonds.

What is a person to do that maintains a 60% stock, 40% bond portfolio? Check your ratios! Go to your accounts this weekend, run some numbers, and prepare to rebalance things a bit. On a portfolio that is supposed to be 60% stocks and 40% bonds, you may find that you are closer to 50/50. What does maintaining your ratios force you to do after a week like we've had? Well, most likely you'll be selling some of your bond positions (which are expensive anyway due to this week's rally in prices) and buying more on the equity side (which are cheap due to the 1000 point loss we've seen recently).

This is not the time to let your portfolio get "all the eggs in one basket." Check your ratios and rebalance if necessary.

Saturday, August 15, 2015

Why Hire an Investment Advisor, and Do I Really Need One?

As people move into their later 20s and 30s, the need for some sort of financial oversight and management often becomes apparent. Questions regarding 401k diversification, the size of a mortgage that one can sensibly obtain, Roth versus Traditional IRA, and how to start saving money for a newborn come up. Along with this, one's work often becomes more demanding, and there is less time to spend on one's investments.

Keep in mind that everyone has the ability to create a low cost, diversified portfolio on his or her own. If a person rebalances, keeps good diversification, takes tax losses when possible, and watches the internal fees of the vehicles used, that person most certainly does not need investment management. Asset classes can be confusing (see the below chart, courtesy of Blackrock), but they are certainly not impossible to understand.

The question one needs to ask one's self is "Can I do this on my own and WILL I do this on my own?" If the answer to either question is no, then one needs to consider an investment manager.

Managers will cost between 1/2% and 1% on average. That means that all things being equal, your returns, when using a manager will be between 1/2% and 1% less than if you did everything on your own, when you should do it, and in the way that makes the most sense. Often, the fee a low cost investment manager charges will be more than made up for by the diligence that manager gives to the portfolio. Again, if a person can do this on her own and WILL do it on her own, she should skip hiring a manager and save herself the fee.

Once the decision has been made to hire an investment manager, the next step is finding an investment manager. Watch for our next article, "How to Find an Investment Advisor Who Works For You."

Thursday, July 30, 2015

When Interest Rates Rise, Interest Rates May Fall

Be careful what you read in the press and be careful about assumptions. Remember what Felix Unger showed us about the word "assume". Often, when we hear that the Fed is going to raise interest rates, we assume that interest rates, all across the yield curve, will rise.

The Fed has been hinting at higher interest rates since at least January 2014. As you can see, Fed Funds rates have risen very slightly over the 1/2014 until 7/2015 time period:

Interestingly enough, 5 year Treasury Note rates have not risen at all and 30 year Treasury Bond rates have actually fallen:

What will happen to the bonds in your portfolio if rates continue to rise? (And most certainly they will). Well, it depends on the maturity of the bonds and the type of the bonds. Avoid assuming that because you own bonds in your portfolio that they will automatically fall in price as the Fed increases rates. Be sure you are working with a group that has a bond background, and be sure your bond portfolio is structured to be as resilient as possible to rate increases.

Friday, May 29, 2015

Why Should We Re-balance Portfolios?

Not all sectors of the market move in tandem. Sometimes one sector (small cap domestic for example) might languish for a quarter or two while another (emerging market for example) might do extremely well.

The fourth quarter of 2014 saw the MSCI Japan Index fall approximately 3% (see security EWJ in the graph below). At the same time, the Russell Midcap Value Index rose approximately 6 1/2% (see security IWS in the graph below).

By taking some profits from the out-performers like IWS off the table, and allocating those funds to under-performing sectors like EWJ, one is able to maintain diversification and balance within the portfolio. It also forces one to "sell high/buy low" in relative performance.

Take a look at what happened to the same securities in the following quarter. EWJ rose over 11% while IWS rose almost 2%. In other words, EWJ outperformed IWS significantly in the first quarter of 2015.

See the graph below for the first quarter 2015 performance of these two securities.

By taking some profits off the table and allocating them towards underperforming sectors, an investor could have achieved better yields than if he or she simply held the securities. Also, by rebalancing, one maintains the originally intended asset allocation one desires. If a person wants 60% domestic equities and 40% international, and if domestic equities fall while international rise, then one's asset allocation towards international has become overweighted. Most people do not want an "all the eggs in one basket" type scenario in their portfolio.

Good money managers watch asset allocation and rebalance when necessary. Those managing their own portfolios can do it too. Keep an eye on ratios within your portfolio and don't get stuck overweighted in one security or one sector.

Friday, May 22, 2015

Inflation is Coming, Albeit Slowly

Core consumer-price index figures were released this morning and showed the largest increase in over two years. Core CPI showed a 0.3% increase in April which is the single largest gain since January, 2013.

This figure moves us closer to the Fed's goal of 2% inflation, at which point the Fed will be considering their first interest rate hike since 2006. Stock futures fell slightly on the news while bond yields rose.

Again, we encourage retirees (and really anyone) with bond portfolios to take an in-depth look at the makeup of their bond investments. What is the average maturity? How low are your coupons? What do the individual credits look like? If you own funds or ETFs, the same questions apply. Some bonds will fall slightly when rates rise, others will fall dramatically. Make sure you know how your portfolio will react and make sure you take the appropriate steps you need to take to minimize your surprises.

Saturday, April 25, 2015

Negative Yields On Swiss Debt

Earlier this month, Switzerland became the first country to ever issue 10-year sovereign debt at a negative yield. Interest rates are so low and demand so high for bonds in Europe that approximately one-third of Euro zone debt now carries negative yields.

This presents some obvious problems and some not so obvious problems. First, pension money that is accustomed to positive, albeit low, yields on fixed rate instruments is now searching outside of Europe for bonds, hence the demand for bonds in the US and the subsequent low interest rates we are seeing. Normally, with the US economy heating up, unemployment falling, and the Fed exiting Quantitative Easing, we'd see rates begin to rise. With European rates as low as they are, there is a mad dash for other sovereign debt, including that of the US.

One not so obvious problem has been negative mortgage rates for many homeowners in Europe. Like the US, many countries in Europe issue floating rate mortgages. However, the Europeans didn't put a floor, a minimum, interest rate in many of the mortgages they wrote. When Euribor fell into negative territory, Euribor-based adjustable rate mortgages did the same. The banks, as one might expect, are loathe to send money to an individual who took out a mortgage with the bank, yet that is exactly what must occur when mortgage rates become negative. As of right now, the issue is getting sorted out in court.

What does this mean for retirees looking for retirement income? As long as higher bond demand is present, yields will remain low unless we get Fed intervention (perhaps 2016). Choose your investment managers wisely, double check their bond experience, and don't get caught too far out on the maturity curve, lest you get hurt when rates finally do rise.

Sunday, March 29, 2015

High Yield Bonds in Rising Interest Rate Environments

As the Fed moves closer to the inevitable rise in interest rates, one's bond portfolio construction and bond portfolio duration should be examined. Portfolio duration (similar to maturity) needs to be examined due to the fact that generally, the longer the maturity a bond has, the more the bond suffers in price when rates rise. A 25 or 30 year maturity coupon bond may fall 15% or more in price with a 1% rise in rates. A 30 year maturity, zero coupon bond could fall 30% in price with the same 1% rise in rates.

Are there bonds that maintain their price in rising environments? Or, better yet, are there bonds that rise in price slightly when rates rise? The answer is yes. First, there are adjustable-rate bonds that are available. Most people are familiar with adjustable rate mortgages...these are similar. The interest rate on an adjustable rate bond is dependent upon some interest rate index. As that index rate rises, the bond's interest rate rises, often raising the price of the bond.

The second group of bonds that tend to rise in price with a rise in interest rates are high yield bonds. Because high yield bonds are so dependent upon a good economy, and because a good economy also tends to cause the Fed to raise rates, these bonds often maintain or even increase their value in a slowly rising interest rate environment. We don't advocate overallocation, but we definitely recommend some allocation of a bond portfolio to high yield bonds.

There is no way to remove volatility entirely from a portfolio, but with careful consideration, one can at least mitigate some of that volatility.

Sunday, March 8, 2015

The Increasing Attractiveness of Bond ETFs

Katy Burne, writer for the Wall Street Journal, recently wrote an article discussing the increasing popularity of bond ETFs among institutional buyers (Institutions Pour Cash Into Bond ETFs (subscribers only)). According to Burne, institutional investment in bond ETFs has more than doubled in the past couple years.

I echo the increased usage, comfortability, and precision of many of the bond ETFs that are now available in the market. One might expect this writer, with more than 20 years of institutional fixed income experience, to gravitate towards individual bonds. However, the decreased costs, the increasingly tight markets, and the precision exposure I get with many bond ETFs has captured my attention. If, for example, 2023 maturities of Corporate paper suddenly become cheap versus 2024, in one fell swoop I can move a large part of my portfolios out of 2024 and into 2023 paper, thus capturing the extra yield for my clients. Previously, I'd have to gather up lists of bonds, put them out for bid with the commission bond salesmen, and wait for good bids to come in. The availability of competitive bond ETFs has saved hours of time for me and many basis points for the clients.

Keep an eye on these products. They are increasingly precise, increasingly less expensive, and according to both Burne and me, increasingly popular among institutional buyers.