Archive for November, 2007
November 30th, 2007
Thomas A. Muldowney, MSFS, ChFC, CLU, CFP®, CRC, CMP®, AIF®
To make the transition of the family business smoother, Dad not only needs an exit strategy, he needs to know that he needs an exit strategy. It should include: when to exit, how to exit, at what price and terms to exit, and finally, what is he going to do in retirement. Lots of planning is needed.
This is also a time for bringing in capable advisors. Succession planning will include some legal, accounting, financial, banking, and insurance advice. The accountants will help answer the question, “What will be sold and at what price?” The lawyer will coordinate the paperwork for the transfer and coordination with the estate. The financial advisor will help coordinate the retirement’s cash flows, the banker will help arrange for the financing, and the insurance agent will address what happens if someone dies during this transition. This is a time where good advisors can be of substantial advantage…they’ll help you avoid mistakes and help connect you to resources that you may not have on your own.
Dad…this little scene study is intended only to remind you of the importance of planning for your transition into retirement. It will not happen by accident. By opening the discussion, you’ll provide clarity for you, your spouse, your children, successors, and customers.
Take the first step…make a phone call to your advisor. Your advisor can help you assemble the transition team and develop a transition strategy, well in advance. If you do this, everyone in your family will have more confidence and more peace of mind…of knowing how this delicate transition will take place.
November 28th, 2007
Thomas A. Muldowney, MSFS, ChFC, CLU, CFP®, CRC, CMP®, AIF®
The transfer of a family business to a second generation is often a delicate balancing act. Junior watched Dad build the business with his own two hands. When Junior grew up, his ‘extra’ set of hands helped dad spur the business forward to greater growth.
When Junior came to work for Dad, it was always implied that ‘someday’ the business would be transferred to him. The problem is that most of these implications are never actually spoken nor are they ever put into a plan of action. Dad always felt that the business would provide for his retirement but he never created an action plan for his own retirement. He figured that a business sale would take place somewhere along the way and that this would provide the much needed retirement money.
If the business were sold to an outsider, the sales price would probably be enough that Dad could enjoy a substantial retirement. Dad never sold the business because the annual income that he was able to generate while working, was always more than the income stream that he could earn on the after tax sales proceeds…consequently, the business just stayed in Dad’s hands.
The potential of selling to a family member changes the dynamics. Dad may have to accept a different sales price and usually, different sales terms.
Of course, we all hear of those rare transactions wherein a business sold for cash to outsiders, but in many family sales, Dad becomes the banker. The risks here are substantial. There’s a risk for Dad and there’s a risk for Junior…Junior has a lot riding on his ability to keep the business successful. Not only does Dad’s retirement swing on the success of the deal, but the relationship between the two generations and possibly any inheritance for other siblings is at stake. This potential for conflicts among family members cannot be assuaged simply by cash…each child feels that s/he should also receive something from the business, even though s/he never actually worked in it. Kids see the business as a money tree, but often do not understand the risks that were taken or the monumental work that was completed or that Junior now must engage.
Dad has an emotional investment in the business. He was there when the business was born, stuck with it through the ‘teen-age’ years when the business struggled for survival. Today, he knows the customers personally and often he knows the equipment, the family, and the needs of those customers. There is also another side…when Junior came into the business, he was able to help Dad expand the business and gain opportunities and efficiencies that Dad may never have reached on his own…and yet Dad owns the whole business. It is not easy to quantify how much benefit came from Dad’s efforts or from Junior’s. In contrast, how much benefit came from the synergy that the two of them, working as a team, were able to develop? That makes placing a value on the business a struggle.
Stay tuned for Part II which will make suggestions on how to remedy this common family business dilemma!
November 26th, 2007
Brent R. Brodeski, MBA, CPA, CFP®, CFA, AIFA®
Over the weekend, while drinking my Sunday morning coffee prior to church, up popped on my computer screen a link to a MarketWatch article cataloguing their top 25 most read articles on personal finance during the last 10 years. Curious, I popped it open. The top read article was titled “Ten most overpaid jobs in the U.S.” Hoping they were not referring to me, I quickly pulled up the article and went straight to the number one overpaid job. I was not at all surprised to learn it was mutual fund managers. I could elaborate on their hands-down failure to add value (most do far worse than the market) but the article’s author captured the issue quite well:
Excerpted from MarketWatch, The 10 most overpaid jobs in the U.S. | Nov. 6, 2003
“1) Mutual-fund managers - Everyone on Wall Street makes far too much for the backbreaking work of moving money around, but mutual fund managers are emerging as among the most reprehensible. This isn’t kicking ‘em when they’re down, given the growing fund-industry scandal. They’ve been long overpaid. Stock-fund managers can easily earn $500,000 to $1 million a year including bonuses — even though only 3 in 10 beat the market in the last 10 years. Now we discover an untold number enriched themselves and favored clients with illegally timed trades of fund shares. That’s a worse betrayal of trust than the corporate scandals of recent years, since they’re supposed to be on the little person’s side. Put aside what fund managers earn and consider their bosses. Putnam’s ex-CEO Lawrence J. Lasser’s income rivals the bloated pay package that sparked New York Stock Exchange President Dick Grasso’s ouster. Lasser’s take: An estimated total of $163 million over the last five years. If only we were all so fortunate.”
What the author, Chris Pummer, failed to say was that, after taxes, the manager’s failure rate is even worse. In fact, over extended periods of time, over 90% of managers fail to beat the market. While they remain gainfully (over)employed, you can take matters into your own hands and fire them by investing your own money in index mutual funds!
November 23rd, 2007
Brent R. Brodeski, MBA, CPA, CFP®, CFA, AIFA®
Investors are much like turkeys! The good news is we can learn from their experience before we too get our heads chopped off! To understand, let me first tell you about the day in the life of a turkey. When they first crack out of their shell, they are scared. They’ve been separated from their moms. They awake under incubator lights and are quickly greeted by big, scary looking humans. They are quickly herded off to pens with other confused and scared little turkeys. But after a while, as they fatten, the humans don’t seem so scary after all. In fact, like clockwork, each and every day the scary humans bring them food. They start to actually like humans. By the time October comes around each year, they look forward to spending time with humans. Why the heck were they so scarred? How naïve they were! Humans are nice people that let them play all day, bring them food and keep their pens clean. Of course, at the point they are most confident, they’re duped. We eat them for Thanksgiving dinner! It turned out that the risk (of losing their head) was greatest at the same exact moment they were most confident.
Too often investors act like turkeys. They pay close attention to recent events. When markets are on a roll (i.e. 1999), they get fat and happy and their confidence grows. They question why they own any bonds. They might even call their financial advisor or banker and suggest it’s time to buy technology funds or the NASDAQ QQQQ (since it is a low risk investment that only goes up). In fact, the banker might offer them a newly minted technology fund before they even get around to calling! Investing is easy! And, obviously, it’s different this time. It is a new paradigm. Unfortunately, you know the rest of the sad story. Like the turkey, at the point of greatest confidence, investors lost their heads. The NASDAQ fell almost 80%. S&P losses approached 50%.
At the bottom of the bear market (three years later), wary investors fell into the same turkey trap. It was March of 2003. Investors were beyond depressed… they were outright despondent (despondent investors just concede markets will never recover—markets are forevermore hopeless). Three years of declines, bad news and scary stuff (perpetuated by the media) caused turkey-like investors to finally sell. Enough is enough! By selling (even at a big loss) you could at least salvage a bit of your portfolio. By selling your stocks (minus the bankrupt dotcoms) you could start re-building your retirement fund. If interest rates go up (a lot), you might even retire by the time you’re 80! Sadly, we all know what happened next… markets rallied strong, right after turkey-like investors sold. Paying too close attention to scary markets during 2000-02 caused investors to confidently make exactly the wrong decision—selling at just the wrong time.
Of course, the 2000-02 bear market (and previous technology bubble) were extreme case studies of humans acting turkey-like. Still, these lessons are easily adapted to today’s environment. One month things seem to be doing well as the market coasts past 14,000. It feels good. Investors start to buy more. Life is good. Then, sub-prime worries re-surface—causing investors extreme angst.
With recent declines and volatility you might now find yourself questioning the wisdom of owning stocks. You might be tempted to bail out (or reduce your exposure to stocks) and sit in cash. I suggest you re-consider. Remember, prices are now cheaper than they were just two months ago. Don’t be a turkey! Don’t get duped by what’s happened recently. Instead, stick to a long-term plan (in the long-term stocks go up) and avoid the temptation to focus on recent scary stuff. And, just as important, don’t get too excited next time markets rally. Just remember… over time, markets go up. And, in-between, they fluctuate. Don’t let recent events, good or bad, affect your long-term strategy. Stick to a balanced plan while ignoring the latest buzz. In doing so, you just might avoid the butcher block!
(Footnote: I borrowed the turkey analogy from one of my favorite books: The Black Swan, by Nassim Nicholas Taleb.)
November 21st, 2007
Brent R. Brodeski, MBA, CPA, CFP®, CFA, AIFA®
Lately, foreign investing is the buzz. After being out of favor during most of the 1990s, it is back with a storm. Favorable valuations after the 2000-2002 bear market, globalization, a weak dollar and big growth in emerging markets has led to substantially higher foreign returns vs. those in the U.S. Like clockwork, whenever a particular investment category does well, investors notice. In fact, most net cash flows into stock funds in the last year have gone into foreign investments. Renewed interest in foreign investments makes sense. Not because they are hot lately but because they should be a key component of any investor’s long-term strategy. Still, we think it is critical for investors to first determine their proper overall foreign allocation before diving in.
Three theories exist to guide investors to make an optimal (reasonable) allocation to foreign stocks. These include:
- Identify optimal foreign allocation based on correlations and expected returns - Assuming one defines foreign stocks to include large, small, value, and emerging, and using long-term historical data, this approach typically leads investors to invest between 25-35% of their stocks overseas. What percent within this range really depends on what time frames one analyzes and what you expect to be the diversification benefit going forward.
- Determine foreign allocation based on consumption model – Americans spend approximately 80% domestically and about 20% on foreign goods. Accordingly, if one follows the logic that they should invest with whom they do business, to match their assets (investments) with future liabilities, a 20% allocation to foreign may be optimal.
- Invest in alignment with global market capitalization – This method suggests that investors invest where the money is. Said differently, approximately 47% of world market capitalization is in the
U.S. (down from 70% a few years ago) and 53% is in foreign developed and emerging markets. Of course, this does not recognize the fact that foreign assets also require investors to incur currency risk (while domestic investments do not).
Our recommendation: For many years Savant has maintained that 30% of equity exposure should be allocated to foreign. This is not a magic number but seems reasonable in light of the above three methods of determining international exposure. Having said this, one could easily make a case for 25-35% in foreign. Though it would be a bit out of my comfort zone, a range between 20-40% foreign might even be justified.
Bottom line, as global consumers, it is a no brainer to invest globally. Just be strategic about it instead of chasing after hot returns!
November 19th, 2007
Brent R. Brodeski, MBA, CPA, CFP®, CFA, AIFA®
Welcome to SAVANTips! I am excited to post the inaugural message on my and my Savant colleagues’ new blog. We intend to opine on a variety of investment, financial, lifestyle, and other topics of interest. Some postings will discuss current events while others will convey timeless wisdom. We will also try to capture the thoughts and concerns on our advisory clients’ minds and share them with all our readers.
We hope SAVANTips will be unique. While I will share an occasional insight or thought, instead of this blog being my personal domain, I have drafted the entire advisory team, nearly 20 people strong, to contribute content and ideas. The idea is to post a wide range of perspective and expertise. Because the Savant advisory team includes experts on investments, financial planning, tax, estate planning, philanthropy, retirement planning, insurance, asset protection, divorce planning, education planning, medicine, and a myriad of financial (and other) topics, we look forward to covering lots of ground.
We are often asked what “Savant” means. It is a French word that means “A wise person; a learned scholar.” As such, it seems an appropriate name for our new blog. In addition to the obvious tie in to the advisory firm where we work, our hope is to provide wisdom in the form of great tips and insights that will help readers maximize their assets, enhance the quality of their lives, and achieve personal and financial goals.
Also, we invite and challenge you to provide feedback, questions, and perspective. We realize we are sometimes a bit non-traditional in our views. And, we are always open to a good debate or challenge. For contrary views not only keep life interesting, but also keep us and our readers on our toes!
Thomas A. Muldowney, MSFS, ChFC, CLU, CFP®, CRC, CMP®, AIF®
