Emergency Funds

In last weeks commentary, I discussed "6 Ways to Ruin Your Retirement Plans." In hindsight, I left out one very important item.

Let's call it #7: Emergency Funds (aka 'Rainy Day Money').

We all know about Murphy's Law. Something that can go wrong, will go wrong - sooner or later. Unfortunately, it often comes at a price. If you're fortunate enough to experience a lower end repair, cash flow will cover the expense. However, big ticket items require a different strategy.

Don't get caught in this financial dilemma.

Having emergency funds of 3-6 months of expenses is a cardinal rule when it comes to financial planning. Couples working in different industries can use 3 months as a target it's fairly unlikely they will be unemployed simultaneously. Individuals should shoot for 6 months as they are the solely responsible for household bills.

Since 2008, I've noticed a sea change in client behavior. Individuals and couples have apparently depleted emergency funds for everything from vacations to washing machines. While we could debate what constitutes an emergency? The bigger issue should be getting an emergency fund back in place. Granted, it takes time and discipline to build back up your rainy day account. But, sooner or later, another storm is going to come!

What happens in the meantime? Couples are turning to retirement money for emergencies. The somewhat convenient process of taking premature IRA distributions is becoming a ready source of cash. Unfortunately, it comes at a HUGE expense.

Premature distributions - before the age of 59 1/2 - are taxed and penalized by the Internal Revenue Service (IRS). For example should an individual request $10,000 distribution from their IRA account, the IRS will impose a 10% ($1,000) early withdrawal penalty AND consider the full $10,000 as ordinary income when you file your 1040 tax return at year end. Assuming you are in a 30% tax bracket, this equates to a $4,000 (40%) tax bill at the end of the year.

Let's step back a minute and analyze this from an economic point of view. Everything in life is a compromise, or at least a trade-off. Financial decisions are no different. Would you borrow money at a 40% interest rate AND jeopardize your own retirement? When put this way, I believe most of us would answer 'No'. It's simply too expensive.

So, why do we tap into retirement money when financially pinched? Probably convenience. But, you would be better served to borrow money from a bank or even get a credit card advance should emergency funds not be available. Both come at a significant cost reduction AND don't effect your retirement assets.

At the end of the day, we all strive to make smart financial decisions. Don't let a short term need derail your retirement plans. Make sure you have an emergency fund (aka 'Rainy Day Money').

6 Ways to Ruin Your Retirement Plans

Longevity is the single greatest advancement in the last 100+ years. Due to medical technology, we are all living longer than ever before. If 60 is the new 40 and 50 the new 30, we have many years of healthy living ahead of us! Should you have the option of retiring at 60 or 65, you could live 30+ years in retirement. For many, this will last longer than your career(s).

Your retirement nest egg is going to be more important than ever. Here are 6 common mistakes to avoid:

1. Save Little or Nothing - Most people spend more than they make. This is a fact. How do you think the average consumer has $7,000 in unpaid credit card balances? We live under the banner 'consumption nation' and spending is the American way. However, if you want to retire one day, curbing your spending habits and saving more money is going to be imperative. Try and save 10% of your of your annual pay. This may not happen all at once. So, try starting with 4% and gradually increase your savings as you adjust your budget.


2. Invest too Conservatively - We all know people who invest in money market accounts via their 401k plans or IRA accounts. This is akin to travelling cross country and buying a bicycle for the trip. Yes, you will eventually get to your destination, but boy is it going to take a long time! If you have 10-20 years before retirement, you need growth in your portfolio - a plane, car or motorcycle is a better mode of transportation! If nothing else, you have to outpace the rate of inflation just to maintain your purchasing power. With historic inflation rates averaging 4% per year, today's money market account and CD rates of 2%-3% fail to keep pace.


3. Ignore Tax Benefits - Tax deferred or tax free growth is a blessing in disguise. Because of compound interest, money will grow faster inside a qualified retirement plan (401k, Traditional IRA, Roth IRA, etc.) than outside. Also, because income tax brackets will probably be increasing in the very near future, do not underestimate the benefits of tax FREE growth offered through a Roth IRA.


4. Overestimate Portfolio Growth - The days of annual growth ranging from 10%-12% per year are gone. Yes, we may have some bounce back years after 2008. But, because business models are changing (less borrowing, leverage, etc.), companies will grow at slower rates going forward. Keep your expectations realistic.


5. Ignorant about Investments - When it comes to your investments, ignorance isn't bliss! Owning several mutual funds doesn't guarantee diversification. As a Certified Financial Planner, I've always encouraged clients to learn more about their investments & portfolios. "The more you understand, the easier my job" has been my mantra for over a decade. Having a general understanding of your investments is a must.


6. Set it & Forget it - Monitoring your portfolio is critically important. This doesn't mean you should check the daily changes, but a quarterly review is certainly warranted. If your mutual fund built it's reputation on a certain portfolio manager calling the shots, make sure the individual is still at the helm. Also, check to see if the fund objectives are still the same. It's easy to say I own the "ABC Fund", but that's the same as saying I own the #8 car in the NASCAR race. If Dale Earnhardt, Jr. is still the driver, you're in great shape. However, if the up & coming college kid is in the driver's seat, it may be time for a change.

Stock Market Historical Facts

Today, a few historical facts on the United States stock exchanges.

The New Amsterdam Stock exchange started in 1602.

The first form of the stock market in New York started in 1792 with just 24 stock brokers meeting in the Tontine Coffee House on the corner of Wall and Water Streets.

The New York Stock Exchange (NYSE) didn’t start until 1817 when the brokers created the New York Stock & Exchange Board. They rented out 40 Wall Street and chartered a constitution to govern trading practices. There were 24 brokers involved.

The New York Stock Exchange had its first day on which a million shares were exchanged on December 15th, 1886.

Brokers joined the New York Stock Exchange by purchasing seats up until December 31, 2005, when the system switched to annual trading licenses. Before the switch, the highest amount paid for a seat was $4 million on December 1, 2005.

The first female member of the New York Stock Exchange was Muriel Sibert who joined in 1967.

Joseph L. Searles III was the first African American member to join the stock exchange. He joined in 1970.

After October 10th, 1953, there has never been a day on the NYSE where less than a million shares have been traded.

The NYSE’s largest volume day on record is February 27, 2007. Over 4 billion shares were traded on that day.

When there is a 30 percent drop in the market, the NYSE closes down trading for the rest of the day.

The Dow Jones Industrial average began in 1896 by the Dow Jones & Company to track the success of the market on any given day.
There are thirty different companies listed on the Dow Jones Industrial average and the included companies change from time to time.

The NASDAQ stock exchange began in 1971 with a focus on trading OTC stocks. The name is an acronym for National Association of Securities Dealers Automated Quotation.

In 1998, the NASDAQ merged with the American Stock Exchange to create NASDAQ-AMEX. Despite the merger, both exchanges are still held separately.

In 1987, the Dow Jones dropped 22.6 percent. In September of 2008, the Dow Jones dropped by 7 percent.

Three of the five largest losses by percentage in Stock Market history took place in 1929.

The largest loss happened in 1987 and a day in 1899 rounds out the top five list.

The largest single day drop in the Dow Jones average history was on September 29, 2008 when the index fell 777.68 points.

October 13, 2008 was the largest single gain in the Dow Jones average. The index rose 936.42 points.

Yes...Financial Planning can be Boring (but it doesn't have to be)!

Yes, financial planning can be boring! There... I said it. Although I happen to enjoy the topic and can discuss it for hours, most people find the issues both confusing and once again - boring.

We live in a world of instant gratification. Sad, but true. So, planning for anything several years into the future is going to be a challenge for most people. It is often said, individuals will spend more time planning a vacation then planning for their retirement. Unfortunately, the reality is one will last about a week and the other for 30 years!

It doesn't have to be this way. Planning starts with the first step - as in life. A fairly new concept in the planning world pertains to "Lifestyle Planning". Matching your personal beliefs & goals with your lifestyle. Finding enjoyment in each and every day through yourself and your surroundings is a key component. This reminds me of the old adage, "Wherever you go, there your are." Happiness & fulfillment start with you!

We often turn to financial publications for guidance. However, sometimes it's easier to get inspiration from a non-finance book. Both fiction and non-fiction books will have real life correlations. Sometimes a simple thought gets us to visualize our future goals.

As I read the book "This I Believe - The Personal Philosophies of Remarkable Men and Women" edited by Jay Allison and Dan Gediman, I am drawn to the individual stories and philosophies. The editors challenged the general public to write a few hundred words expressing the core principals that guide their life - their personal credo some would say (some writers are famous, others are not).

Here are a few excerpts:

• If I have one operating philosophy about life, it is this: 'Be cool to the pizza delivery dude; it's good luck.'" - Sarah Adams
  
• "I believe in the pursuit of happiness. Not it's attainment, nor its final definition, but its pursuit." - Andrew Sullivan
  
• "I believe that what we often call survival skills is simply creativity at work." - Frank X. Walker
  
• "I've always been an optimist, and I suppose that is rooted in my belief that the power of creativity and intelligence can make the world a better place." - Bill Gates

What's your "This I Believe" statement? Basically, what's important in your life? Use this as a starting point for your financial future. Education, family, love, career, sense of self, integrity & honesty are all good character traits. Remember, the first step is the hardest. You have to crawl before you walk and walk before you run. But, it all starts with the first step.

"The Millionaire Next Door"

"These people cannot be millionaires! They don't look like millionaires, they don't dress like millionaires, they don't eat like millionaires, they don't act like millionaires - the don't even have millionaire names. Where are the millionaires who look like millionaires?" Bank Trust Manager

Most people have it all wrong when it comes to how you become wealthy in America. The classic book, "The Millionaire Next Door" by Thomas J. Stanley and William D. Danko outlines the common denominators of America's wealthy. For many, it's hard to believe it is seldom inheritance, advanced degrees or even intelligence that builds wealth, but rather hard work, diligent savings and the ability to live below your means.

The seven common denominators amongst the wealthy include:

1. They live well below their means.



2. The allocate their time, energy, and money efficiently, in ways conducive to building wealth.



3. The believe that financial independence is more important than displaying high social status.



4. Their parents did not provide economic outpatient care.



5. Their children are economically self-sufficient.



6. They are proficient in targeting market opportunities.



7. They chose the right occupation.

Who is the typical American millionaire? Here are some facts:

• I am a 57 year old Male, married with 3 children. About 70 percent of us earn 80 percent or more of our household's income.


• About one in five of us is retired. About two-thirds of us who are working are self-employed. Interestingly, self-employed people make up less than 20% of the workers in America, but account for two-thirds of the millionaires. Also, three out of four of us who are self-employed consider ourselves to be entrepreneurs. Most of the others are self-employed professionals, such as doctors and accountants.


• Many of the types of business we are in could be classified as dull-normal. We are welding contractors, auctioneers, rice farmers, owners of mobile-home parks, pest controllers, coin and stamp dealers and paving contractors.


• About half of our wives do not work outside the home. The number one occupation for those wives who do work is teacher.


• Most of us us (97%) are homeowners. We live in homes currently valued at an average of $320,000. About half of us have occupied the same home for more than twenty years. Thus, we have enjoyed significant increases in the value of our homes.


• We live below our means. We wear inexpensive suits and rive American-made cars. Only a minority of us drive the current-model-year automobile. Only a minority ever lease our motor vehicles.


• As a group, we believe that education is extremely important for ourselves, our children, and our grandchildren. We spend heavily for the educations of our offspring.


• We are fastidious investors. On average, we invest nearly 20 percent of our household realized income each year. Most of us invest at least 15 percent. Seventy-nine percent of us have at least one account with a brokerage company. But, we make our own decisions.


• We hold nearly 20 percent of our household's wealth in transaction securities such as publicly traded stocks and mutual funds. But we rarely sell our equity investments. We hold even more in our pension plans. On average, 21 percent of our household's wealth is in our private businesses.


• Most of us have never felt at a disadvantage because we did not receive any inheritance. About 80 percent of us are first-generation affluent.

AIG - Enough is Enough

I'm a capitalist at heart - always have been, always will be. However, I must admit this AIG news about bonuses being paid to senior management is disturbing.

Most executives have contracts and thus should get paid as per their agreement(s). Plain and simple. Major league baseball players receive their agreed up upon salaries whether they have a good year or not. However, they certainly don't get paid the incentive related compensation for not reaching certain goals (i.e. RBIs, home runs, playoffs, MVP, etc.). But, bonuses, incentives, stock options, etc. should be issued as a reward for a job well done. If AIG wasn't bailed out by the U.S. Government, the company would be bankrupt.

What's with the bonuses at AIG? The company didn't reach the playoffs. They're lucky the US Government bailed them out. The only losers in this whole scenario is the shareholder and the taxpayer. Something is drastically wrong with this scenario. The Board of Directors should have taken a stand and simply put their foot down and said any bonuses and/or incentive packages for 2008 will not be issued. End of story. No questions asked.

President Obama and NY Attorney General Andrew Cuomo are exploring 'legal avenues' as to how to rescind the bonus money. "The whole concept of a performance bonus is oxymoronic when it comes to AIG," Cuomo said. "It's adding insult to injury. Enough is enough."

In Washington, President Obama has similar sentiments. "This is a corporation that finds itself in financial distress due to recklessness and greed. Under these circumstances, it's hard to understand how derivative traders at AIG warranted any bonuses, much less $165 million in extra pay, " Obama said.

"How do they justify this outrage to the taxpayers who are keeping the company afloat?" he demanded.

To put things in perspective, here's some stock market history on AIG. The stock traded as high as $70 in 2007. As of March 16, 2009, the stock is trading at $0.83. So, some quick math reveals a 99% decrease in that time frame. Once again, how does this type of performance warrant bonuses?


American capitalism is alive and well; however, AIG is not one of the shining stars.

Bernard Madoff: The Final Hours

Bernard Madoff could be facing his final hours of freedom. The disgraced money manager who is responsible for the multi-billion dollar ponzi scheme is apparently going to plead guilty today in a Manhattan District Court to 11 felony counts, including securities fraud & perjury. This could result in a 150 year jail sentence.

Wearing a bullet pro0f vest, Madoff appeared in court yesterday for the first time in two months. He conveniently waited for several hours in a conference room to avoid confronting angry investors while appearing before District Court Judge, Denny Chin, for what was to be considered a routine hearing.

Chin, will rule on the guilty plea Thursday and decide if Madoff should remain free on bail pending sentencing in a few months.

At least 25 Madoff investors have asked to speak Thursday under provisions allowing victims of crime to appear at a plea hearing. "There is no plea bargain here. Those victims who objected to a plea bargain no longer have a reason to object," Chin said.

This entire process is both fascinating and astounding.

Fascinating for the fact Madoff pulled off the largest securities fraud case in the history of the United States. Some will continue to argue he couldn't have done this alone. Time will tell if anyone else was involved and to what degree.

This case is also astounding for the simple fact Madoff remains under house arrest! Are you kidding me? How can someone accused (and now guilty) of stealing more than $50 billion dollars not be in jail? This could change tomorrow. But, there seems to be a double standard between blue & white collar criminals. I don't get it. The negative repercussions will be felt throughout the financial services industry for a long, long time. Regaining investor trust & confidence is no easy task.