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11/13/2014

Negative Returns In Retirement: Draw Down

 

Retirement, time to sit back relax and enjoy life. Wait for many people retirement will last 30+ years. This often means needing equities in a portfolio, riskier assets...Relax again you have an asset allocation designed to generate the needed returns, balancing risk, to get you through retirement. Wait what if when you go to generate needed income from your investments and the market is in a downward trend, multiplying the effect of the downward pressure on your portfolio...Can this significantly reduce your ability to achieve your retirement income goals because now you have less working toward those goals?

Positive returns over loner periods of time for a portfolio although very important often do not show the truth of how generating returns effect a persons ability to use their money and  meet their real goals of a specific lifestyle. Yes you will here that the stock market averages a certain rate of return annually, 7% or 8% or..., and that over time history has shown us stocks will go up and we can plan based off of these potential returns. This is true for most assets. The problem with this thinking while in retirement is understanding that most assets do not generate these returns in a "sequential" fashion. Meaning that although the market may historically return any given rate of return over time the course that those returns take are not predictable and reliable. 

DrawDown

 

This was particularly on display for many investors nearing or in retirement in the 20008 to 2010 period. Recently in an article I read online written by a wise advisor, this concept was well articulated by using a rain fall analogy. I being a skier will give one using snow fall....

My favorite ski resort advertises a long season typically starting in early November and running all the way through the end of June and often as far as the 4th of July. They also boast about 400+ inches of seasonal snow fall...Wow...50 inches of snow per month not bad, 4 feet of snow each month no wonder they can make it to July often. Wait, there are years they close early and often the conditions are lousy. Why? The answer is that 200+ inches has fallen in any given month of the season at a time and some months there is none. This can make for a tough season especially those of us who travel 5+ hours to get there on the weekends when we have the time during the season. Would be nice to be able to enjoy the powder when it falls. Alas I cherish the days I get when their is fresh powder. I have gone seasons with out it!

Now back to the point of investing, retirement and understanding the need to manage for downward returns...

While in retirement it is good to invest at least some portion of your retirement assets in investments or with investment managers that have a mandate of minimizing the effect of the decline of the asset(s). 

Understanding the concept of maximum draw down and using strategies and managers that seek to minimize the effect of this on a portfolio of investments can be extremely important for investors nearing or in retirement. You need your assets to last. Looking at managing the depth of your portfolios downward performance can greatly enhance the potential of your meeting your true investment goals, which are to live the lifestyle you want or can for as long as you can.

Selecting the right bonds, mutual fund managers, ETF's, Separately Manged Account Managers or using sophisticated options strategies to structure a portfolio in order to help minimize draw downs can limit upside but it can also help with making sure the portfolio is less depleted in a down market when income generation is needed.

11/06/2014

Roth IRA Conversions Benefits

Not working

 

Roth IRA conversions: are often a great strategy used to minimize the effects of taxation on your hard earned and saved money. Taxes are important to understand in managing our wealth. It is not just about how much money we have it is also about how much we can use for our own purposes.

With a Roth IRA conversion investors convert a Traditional IRA to a Roth IRA. This allows for the utilization of the Roth IRA rules which can often be more beneficial than Traditional IRA rules. Primarily the benefit of not having to pay income tax when you withdraw funds for retirement out of a Roth IRA is what is attractive to investors. Not everyone is eligible to contribute to a Roth IRA. Individuals are not allowed to contribute if their income exceeds Roth IRA income limits.

People that do not qualify to invest in a Roth IRA often end up investing in 401k plans and Traditional IRAs. Traditional IRAs also are subject to income limits and other eligibility requirements, allow for a tax break on the contribution but you pay income taxes in retirement. 401(k) plans have similar tax treatment on contributions and distributions in retirement to a Traditional IRA. Roth IRAs are opposite.

The IRS allows for individuals to convert their Traditional IRAs to Roth IRAs without income limitations. There is no 10% early withdrawal penalty as long as the funds are moved into the Roth IRA in a 60 day period. Most often the conversions are done immediately.

When you convert to a Roth IRA from a Traditional IRA you pay income tax on the contributions. The taxable amount that is converted is added to income and regular income tax rates are applied.

Why Convert?

Paying as little tax as possible allows for investors to enjoy more of their money. Conversion to a Roth IRA generally allows investors to save money in the long run. Choosing a year where an investor might know their taxable income is going to be lower than others allows them to execute a conversion in a low income tax bracket year. If the government announces upcoming income tax rate increases this also provides a reason to execute the conversion in the existing lower tax bracket year.

The benefit then becomes that in retirement the entire balance of the funds in your Roth IRA are available for investors to use and there is no after-tax balance calculations to manage. The original owners of the Roth IRA are also not subject to Required Minimum Distributions (RMDs) beginning at age 701/2 like owners of a Traditional IRA and other retirement plans are. This is often also perceived as a potential benefit for owners.

Please keep in mind though that high income earners may convert to a Roth but may not be able to make additional contributions of funds.

For more information and an analysis on how this strategy might benefit you please call us at 310-433-5378 or contact us via the web at www.prominencecapital.com

11/05/2014

Retirement Accounts: Creditor Protection?

Keep my money

Often clients are looking for ways to protect there assets from creditors and have questions about whether their IRA provides any protection.

The answer is that retirement accounts are protected from creditors to varying degrees under state and federal bankruptcy laws. This includes most IRA accounts.

However, there is one situation that has recently been changed that investors should understand. Recently the U.S. Supreme Court case of Clark vs. Rameker, June 12 2014, held that Inherited IRA's are NOT protected in bankruptcy. The ruling was made after the court decided that Inherited IRA's are not retirement accounts and thus not eligible for creditor protection.

 

11/03/2014

Mortgage Underwriting: Asset Depletion

 

Home

Qualifying for a mortgage loan has gotten more and more difficult since the real estate bubble in the early and mid 2000's lead to the great recession. Many different underwriting techniques that were previously common to see have become less common these days. One such technique, Asset Depletion, is one of those less commonly found in today's mortgage lending community.

Asset depletion is a technique originally designed to allow borrowers who are asset heavy and employment income light to qualify for a mortgage. This technique was especially beneficial for business owners who show low income levels or wealthy individuals with insufficient income or difficulty providing a qualifying employment history.

Today the ability show great amounts of income and several years of history of it tend to dominate what lenders are looking for. However some lenders are willing to use asset depletion techniques to help borrowers qualify for their loans.

Asset depletion is a calculation where a borrower's liquid assets are entered into a calculation to bring up the amount of monthly income they have in order to make mortgage payments. Generally the calculation is a borrowers total assets divided by a set number of months, such as 360 for the standard 30 year loan. Qualifying assets tend to be only liquid assets such as cash, investment accounts and retirement accounts. 100% of the assets in cash accounts and non retirement liquid investment accounts typically qualify. For retirement accounts the amount that qualifies is generally about 70% of the asset base and could potentially be close to 100% if the borrower is over 591/2 years old. Check with your lender to see what they are willing to use in their calculation. 

For instance a borrower who has $1,000,000 in liquid assets and $500,000 in retirement assets may have qualifying monthly income of $3,750. ($1,000,000 + $350,000=$1,350,000; divided by 360)

This is an underwriting technique and does not require the borrower to actually deplete their asset base to make payments.

Asset depletion is not a gurantee to mortgage approval. It is a technique that only helps satisfy the income portion of the underwriting process. Lenders that use this technique often need a good understanding of the borrowers specific situation before they would even grant using this technique as part of the potential approval process.

Investor Life Cycle: Where are you?

Understanding how to invest money to appropriately meet a clients needs and expectations is the job of an Investment Management Professional. Determining where clients are in their life cycle needs to be determined in order to make appropriate decisions. Typically concepts such as Time Horizons, Risk Tolerance, Investment Knowledge, Current Income and Years of Investing Experience are discussed to determine how to appropriately allocate capital.

There are many other concepts often discussed along with these but an understanding of where someone is in their investment life cycle can also be very helpful to making decisions.

What is the Investment Life Cycle?

It can be defined many ways but I find the following three phase approach to be simple and helpful when combined with other concepts for deriving portfolio construction and selecting specific investments.

  1. Accumulation Phase-earliest stage in an investors life cycle where the investor is accumulating assets. There is a long time horizon and often more risk can be accepted because there is more time to achieve objectives. In this phase there can often be short term needs that must be considered and the appropriate amount of investment risk taken: such as when a large purchase is looming. For instance the purchase of a home.
  2. Consolidation Phase-this phase is typically when wealth accumulates more rapidly. In this phase many of life's large purchases and immediate cash needs are already addressed and income is often significantly out pacing expenses allowing for more rapid building of wealth. Time horizon to the next phase (Spending Phase) is getting shorter over this phase.
  3. Spending Phase-this phase is signified when earned income has ended and investment income from accumulated wealth is now the primary source for living expenses. Typically called retirement. Longer life expectancies can lead to long time horizons in this phase. Some would say this is the phase where one would now enjoy the utility of the wealth they have created. Risk tolerance tends to be significantly lower as asset fluctuations are less desirable. However some risk is often required for potential growth to combat the prospects of long time horizons in this phase.

Understanding which phase you fit into can greatly help with understanding why certain investments are necessary and how they fit into your overall investment portfolio. Knowing what phase you are in can make the uneasy feelings about investments more understandable as to why they may be necessary.

To discuss your specific situation please contact Prominence Captial at 310-433-5378. We can also be contact via the web at www.prominencecapital.com

 

10/30/2014

Indexes: Dow vs. S&P 500 vs. Russell 3000

How could the Dow Jones Industrial average be up over 100 points and the NASDAQ and S&P 500 be down for the day.On  10/30/2014 this was exactly the case in the early morning hours.

10-30-2014 Index Charts

One of the 30 Dow Industrial constituents, Visa (V) reported wonderful earnings and the stock was off to the races....up over 9%. Visa also happens to be in the S&P 500 and the Russell 3000, so why were both down. Reason was due to the way the index is derived. In order to understand this phenomena we need to understand how the indexes methodology works. Then we will discuss picking and index to measure performance of a portfolio.

Price Weighted Method: The Dow Jones Industrial Average is a price weighted average of the 30 stocks that make up the index. "The prices of constituent stocks are aggregated strictly based on quoted prices. Securities that are combined in this manner influence the index in proportion to the magnitude of their price per share." (Shilling) The price-weighted method is the average of current prices of the stocks in the index. All stock prices are added up and the total is divided by the number of stocks in the average. This method gives higher-priced stocks more influence than low-priced stocks.

Capitalization Weighted Method: Also known as the market-value-weighted method, is the method used for the indices that most investment professionals use as benchmarks to measure portfolio performance. Indexes such as the S&P 500 and the Russell 3000 use this methodology. These indexes are generated by determining the total market capitalization of all stocks in the index and dividing by the total number of shares of all the stocks. Capitalization is a company's outstanding shares multiplied by its share price, better known as "market capitalization".

Equally Weighted Method: "Security prices are equally weighted to give as much weight to a 1% fluctuation in the price of a stock that sell sat $108.50 as to a 1% move in the price of a stock that sells for $15.13 regardless of capitalization." (Shilling) Value Line Index is an example of this type of index method. Movements in the index are based on arithmetic or geometric average of the percentage price changes for the stocks in the index. Price or market value does not make a difference.

Now that we understand the methodology behind the types of indexes; we need to look at them to understand how to measure performance in our portfolios. As we can see Capitalization-Weighted Indexes such as the S&P 500, Russell 2000 and Russell 3000 are constructed in a way that is most accurate when using them for benchmarking portfolio performance. So which one do we choose...many professionals talk about and use the S&P 500 as the benchmark of choice. This bench mark represents 500 of the countries largest companies and addresses about 75% of the domestic investable market.  Using this index is very common but may not be entirely appropriate especially if you own a portfolio with Large Cap, Mid Cap and Small Cap stocks. Small Capitalization Stocks are not well represented by the S&P 500 and this index may give you a false indication of how you are truly doing. Often people use a blend of the S&P 500 and the Russell 2000 (small cap index) to get a better idea of performance. One index that is potentially more reliable is the Russell 3000. This index measures the performance of the largest 3,000 U.S. companies representing approximately 98% of the investable U.S. equity market. 

Benchmarking is important and we must understand what our portfolio is made up of in order to truly know which benchmark to use so we can determine how we are doing.

Prominence Capital (310)433-5378 or www.prominencecaptial.com

09/30/2014

Why Have A Financial Plan? 11 Reasons

Why have a financial plan? There are as many reasons as someone can think up but these 11 reasons show up more often then others when asked this question:

  1. Reduce Stress
  2. Live Comfortable In Retirement
  3. To Eliminate Debt
  4. Manage Cost Of Raising Children
  5. Living Longer Than Anticipated
  6. Large Purchases: Buying Cars and Homes
  7. Protect Against Financial Risks
  8. Prepare For Long Term Care
  9. Take Care Of Aging Relatives
  10. Pass Wealth On To Heirs
  11. Pass Wealth On To Charity

Protecting against financial risks such as loss of income due to death or disability, living comfortably in retirement and planning for the cost of children's educations tends to be at the top of concerns when considering a financial plan. The other concerns listed here also rank very importantly. Reducing ones stress might be one of the best benefits of financial planning over all.

At Prominence Capital we strive to alleviate the stress that comes along with not having plans in place and strategies to combat potential threats to ones financial well being. Contact us at 310-433-5378 or visit us on the web at www.pronincecaptial.com to find out how we can help you.

09/23/2014

Managing Tax Liability To Create Wealth

There are 3 methods that can be legally used in tax planning.

  1. Avoiding Taxes-use of exclusions, credits and certain deduction to legitimately reduce taxes.
  2. Deferring Taxes-does not produce a permanent reduction in taxes but reduces current taxes.
  3. Conversion-converting highly taxed income into more favorably taxed income.

Tax planning is fundamental to financial planning. The objective of financial planning is to structure financial affair's so that the result is the greatest accumulation of wealth possible. The less money paid in taxes the more money one has working towards increasing their wealth. Two investments with the same amount of return pre-tax will not necessarily net the same amount of after tax return thus reducing the amount of money working toward wealth accumulation. Using legitimate methods to reduce taxes, defer them or avoid them all together should be discussed with your advisors to make sure the optimal strategy is taken. 

Understanding the tax rules on capital gains, both short and long term, and income such as interest and dividends are key to developing the appropriate strategy. 

 

09/22/2014

Retirement: What to do in your 40's!

I have been advising clients for over 12 years on building retirement assets and planning for income needs in retirement. The most important issues can all be addressed in a properly executed financial plan with the help of an advisor. So creating a financial plan with an financial advisor is the #1 thing I believe that should be done. Good advisors are trained to ask questions and listen, gather needed information and analyze it, put an action plan together with appropriate recommendations to achieve goals and finally help clients monitor and evaluate the success of the plan all while making necessary changes along the way. For list of action items there are many and some do depend on a person or couples specific situation.

Here are 10 areas to start (not in a particular order):

  1. Create Personal Financial Statements.
  2. Budget.
  3. Understand what tax advantaged savings vehicles are available to you for retirement and plan to maximize the savings you can put in them.
  4. Retirement Savings vs. College Savings-understanding why retirement savings should come first.
  5. Risk Assessment- looking at ones insurance coverage needs (not just life insurance).
  6. Estate Planning- Wills, Trusts etc.
  7. Asset Allocation-Strategic vs. Tactical.
  8. Financial Advisor, Accountant and Attorney-understanding the value of advisors.
  9. Portfolio Review-know what you have and why, are their conflicts of interest, understanding fee structure.
  10. Debt Management.

You do not have to do these things alone as often people do. Having professionals help free's up time and allows one to concentrate on what they are professionals in. Also having different perspectives often helps identify areas that require more attention. 

Contact us at 310-433-5378 or find us on the web at www.prominececapital.com to inquire about how we can help you.

09/09/2014

Don't Abandon Your Employer Retirement Plan!

Making sure your company sponsored retirement plan investments are appropriately allocated and working in conjunction with other assets in other accounts is critical to achieving your financial planning goals.

 

 Walking Away

 

All too often assets in retirement plans with one’s employer are left unattended. I have been advising people on asset allocation (percentages in equities, fixed income, alternatives and cash) and investment selection for more than a decade. One area I see that often is not paid enough attention to (or at all) is the mix of investments owned in one’s company sponsored retirement plan such as a 401k, 403b and 457 plans.

Many investment advisors are also not doing enough to ensure that these assets are working correctly with regard to the entire financial picture and conflicts of interest often exist.

Recently I conducted a free portfolio review for a new client. In our initial conversation I asked to see the statements from his investment accounts with his current advisor and any accounts he had elsewhere such as his company sponsored retirement plan and life insurance policies. In our first face to face meeting he brought along his brokerage statements, IRA statement, 529 plan statement, life insurance statement and annuity statement.

When I asked about his company 401k he mentioned he didn’t bring it along because he didn’t think it was important to bring along. I asked why he thought that way and he said:

“My current advisor has never asked about it and does not provide advice on it.”

My next question was why he hasn’t asked about it or provided advice on it? He said:

“I don’t know. He never asked and I never mentioned it because it is money that he cannot manage and get paid on so I thought it was not important for this review either.”

We then discussed his risk tolerance preference, time horizon, financial and retirement goals and set a meeting for a future date to discuss my findings upon completion of my review. I also asked if he could provide me with his 401k statements as soon as possible.

This particular client happened to be in his early 40’s with a time horizon of 25 years or more to retirement and a fairly aggressive tolerance for risk. He was able to provide me with a copy of his 401k statement, plan investment selections and program specifics. In reviewing that statement I found that 48% of his holdings where in one conservative allocation mutual fund that predominantly held bonds. This of course appeared to be in conflict with his profile: fairly young investor, with a long time horizon to retirement and a need to accumulate as much capital as possible to support his retirement income needs. It was clear a change to align his 401k investments was appropriate.

In our meeting to review my findings I had asked how the investments where selected in his 401k. He answered:

“I was in my early 30’s and new I had to start investing so I chose two investments to start and never really paid attention to it since.” 

His 401k represents about 25% of his total investments and an even greater portion of his retirement asset base. Ultimately we made some changes to his asset allocation percentages to bring them in line with his investor profile and we made new investment selections in his accounts in order to align them with his goals. We made some significant changes to the investments in his 401k and plan on reviewing them on a consistent basis going forward.

Making sure that assets held in company sponsored retirement plans are not abandoned is critical to successfully achieving your retirement planning goals.

At Prominence Capital we strive to make sure that all of our client’s assets, including those assets not under our direct management are working in the appropriate manner to achieve your goals. Often this may not happen right away but work should be done to ensure these assets are not forgotten.

Contact us today at 310-433-5378 or visit us at www.prominencecapital.com  for a Free Portfolio Review to see if all of your investments are aligned with your goals.