Stacking investment returns against index performance is an inherently flawed approach to benchmarking. The forward-thinking innovators at Flexible Plan Investments give clients a more realistic way to assess performance.

Founder and President of Flexible Plan Investments Jerry Wagner posed two questions:

1. Do you care about risk?
2. Are you investing to reach a goal?

If the answer to both is yes, then it isn’t sensible, he says, to use the Standard & Poor’s 500 or any other index as a benchmark of success. First, regarding risk, the S&P 500 was no stranger to steep market declines in the last decade. And when it plummets 50 percent or more, which it has done twice in recent history, it’s not an index one wants to be mirroring.

“Return is important, but you can’t ignore risk,” says Wagner. “Think about a lottery ticket. Your return can be almost infinite, but your risk is almost 100 percent. You always have to view potential performance in terms of relative risk.”

Second, if you’re investing to reach a goal, which most investors are, then does it make sense to gauge your success against an index that isn’t relevant to that goal?

“The definition of true benchmarking is whether or not you’re on target to reach your goal, not whether you measure up to an arbitrary index,” says Wagner.

OnTarget Investing: Customized Benchmarks

Defining realistic goals and setting appropriate benchmarks is the premise behind the OnTarget Investing system at Flexible Plan Investments, a nearly four-decade-old active investment management firm that holds more than $2 billion in assets under management.

Based on financial goals and time horizons dictated by the client at the onset of the investing relationship, the firm produces regular, color-coded charts that show clients where their portfolio stands in relation to their long-term goals.

The key here is long term. Subjecting oneself to the unfair expectations of short-term results can lead to emotional, knee-jerk decisions. In a perfect world, Wagner says, investors would be encouraged to only review returns once a year, not even quarterly. Reason being, true market highs and lows are only fully known in hindsight, and often results cannot be properly evaluated in quarterly—much less daily—snapshots.

“If you’re measuring against an index, most investors get overly confident at market tops and overly discouraged at market bottoms,” he says. “But when they can evaluate their progress based on a simple chart that tells them whether or not they’re on target to meet their specified goal, it’s easier to sleep at night.”

My firm, Richard Oxford Financial, works with Flexible Plan and offers the OnTarget Investing program to clients.

“Plan Early and Plan Often!”™

As Seen In Bloomberg Businessweek, Fortune & Money

The information provided is intended to be general in nature and should not be construed as investment advice from Flexible Plan Investments Ltd., Richard Oxford Financial or Dutch Asset Corporation.  Inherent in any investment is the potential for loss as well as the potential for gain. Prior to investing, read and understand the risk considerations in our Brochure Form ADV.

Bear Market/Recession

A bear market is considered to be a time when the S&P falls at least 20% before it begins to recover. Because the market is constantly ranging in a several percentage point range, the start of the decline and recovery are difficult to pinpoint at the time. They are very easy to see in hindsight.  On the other hand, recessions are two consecutive quarters of declining GDP.

The Last Two Bear Markets!

As you can see from the last two bear markets, market volatility makes it difficult to pick tops and bottoms in real time.

Since The Great Depression, September 1929-June 1932, we have had 14 bear markets.  The average duration of those was 17.0 months with an average time between of 49 months.  The average decline was 36% and the average time to break even was 43.2 months.  I’m seeing The Great Depression as an outlier that would significantly skew the math.  That bear market lasted 33 months, had an 86.7% decline and took 25 years to recover. In fact, we had 4 other recessions before the market recovered to the 1929 level.  Ouch!

Why should you care? Unless you want to be doomed to repeat the mistakes of your ancestors, you need to change your behavior.  Markets work in cycles. Whatever titles someone chooses to use, the cycle looks like this:

This chart alone shows a strong need for active management.  Passive managers would have you believe that buy and hold works for everyone.  I can tell you why it doesn’t. First, individual investors are emotional about their money.  Who cares more about your money than you?  This drives them to make mistakes.  The second reason is that no single person has an unlimited timeframe until they need the money.  If so, I would say split between the SPX and the QQQ’s and ride the storm.

Investor Psychology

The unfortunate reality is that investors’ fears get the best of them and they sell at the wrong time.  Then as the market recovers, greed takes over and they buy at the wrong time.  They hear the news, see the market and believe it should go on forever.   The classic example is my “former” barber and client who I could not convince to not buy gold when it was at $1900 in 2011.  Try as I might, logic didn’t overcome greed. He believed he would miss out on a fortune. This is typical investor psychology.

Market Cycle Clock

Look at the second chart again and ask yourself where you believe we are in the cycle? We’ve obviously moved out of the “Easy Money” phase and toward “Raising Interest Rates”.  Does that portend a recession? Remember what I said earlier.  It’s nearly impossible to pinpoint the top or bottom while living through them.  Depending upon how you count, we’re about 113 months into this bull market.  Remember the average is 49 months.

Does this put us in Market Correction territory?  I know what I think.  Tell me what you think!

Always remember, there are Advisors who actively manage the cycle!

“Plan Early and Plan Often!”™

Tax Rule Changes

With regards to your tax, mortgage interest deduction is always claimed on schedule A of your federal return. So, the first observation is that many people will simply no longer get any value from their mortgage interest because the new standard deduction is twice as much as before.  In 2018, the new tax rule dictates that second mortgages and Home Equity Lines of Credit (HELOC) are no longer deductible.  When “HELOC” interest became deductible they were not so common and had smaller balances but over the last several years they have become a popular way to fund the giant college spending needs for many, and for others, they have become a popular way to finance vacation homes and even investment property.

So, what can you do to fix this problem?

First, relax! The changes are not necessarily going to mean an increase in taxes at all.  In fact, many people may see a lower tax bill because of the increased standard deduction.   However, anyone with a large amount of HELOC debt should sit down with a tax planner and look at alternatives.  People who used HELOCs to pay for college or are currently using it because they felt they would not qualify for student loans may now want to find a college planner and really try hard to find that kind of loan. Educational loans are still deductible on a part of the tax return that is not connected to schedule A. So you might still enjoy that deduction as well as the big increase in the standard deduction.  People who used it for investment property might go and seek out a commercial mortgage to replace the HELOC. Even with generally higher rates and closing costs it could be beneficial.  Moving the interest to a line expense on your Schedule E (investment property schedule) and off your Schedule A might more than make up for the cost associated with getting the new loan.

There are also many lesser-known but very smart bank products out there to replace both a traditional mortgage and HELOC and wrapping them into an “All in One Loan”. This is a primary mortgage and still fully deductible but also leaves HELOC like access to equity.  That access could be used for either investment, for college funding, or whatever you fancy.  More importantly, it applies payments to principle first, before interest, helping people to pay off a home potentially much faster than a traditional mortgage without making larger payments.   See http://www.aiosim.com/Simulator/GetStarted for additional information.

Lastly, the mortgage interest deduction is now limited to the first $750,000 in principal loan amount (it was previously a $1,000,000 limit).  That’s not a problem for people who had already established their mortgage before December of 2017. They are “grandfathered”.  Going forward, it is simply “buyer beware” that $750,000 is the new deduction limit.  If you can afford a million dollar plus home then you are likely smart enough to find a creative way to buy the mortgage down to $750,000 loan.  You could also take out two loans, one for $750,000 and another for the balance. The tax law does not prevent you from buying a 1.5 million dollar home. You simply cannot get a tax deduction for any mortgage above $750,000.

As I write this I can hear the wheels turning. UNDER NO CIRCUMSTANCES would it ever make sense to take money from pre-tax accounts like 401(k)s to pay down mortgages or fund refinances or purchases. The lack of a deduction would be a small penalty in comparison to the financial suicide of taking retirement money out while working.

So, what is the summary of the information dump above?  Go see a Tax Planner!

“Plan Early and Plan Often!”™

How to Create Retirement Income!

Few of us are building pensions anymore.  Social Security doesn’t seem as “secure” as the name implies. So, what are working stiffs supposed to do?  Where are we supposed to get our Retirement Income? What about a small business owner?  Obviously, the answer is different for each of us, but, there are commonalities that we can discuss in open forum without doing a full analysis of your personal situation.

Creating Retirement Income!

If they have average earnings about 40% of an average retiree’s income in retirement is filled by Social Security (www.ssa.gov). The balance of your needs will have to be fulfilled from your savings in one manner or another. The following is a discussion of commonly used methods.

LIVE OFF OF INTEREST ONLY

In years past, I met several retirees that had no intention of ever touching the principal of their savings.  This method was working back when interest rates were 5% and higher. Now, with CD rates hovering around 1%, it becomes very difficult. Imagine someone needing to generate $2500/month at a current annual CD rate of 1.25%.  That person would need $2.4M in CD’s.  Fixed annuities are in the 3% and under range so they aren’t much better.

What about if we tried it with high quality bonds?  Well, as of this writing, Moody’s Aaa bond yield averaged 3.43%.  The same $2,500/month would require an investment of about $874K.  The issue with this type of investment is that your money is at risk.  While you may be living off the interest, your principal is at risk.  As interest rates go up, bond values drop. As you can see, this time of historically low interest rates are killing this plan.  All interest is taxed as ordinary income.

THE 4% RULE

“The four percent rule is a rule of thumb used to determine the amount of funds to withdraw from a retirement account each year. This rule seeks to provide a steady stream of funds to the retiree, while also keeping an account balance that allows funds to be withdrawn for a number of years. The 4% rate is considered a “safe” rate, with the withdrawals consisting primarily of interest and dividends.” (INVESTOPEDIA, http://www.investopedia.com/terms/f/four-percent-rule.asp)

The theory behind this rule is that if you begin withdrawing 4% annually and increase the withdrawal 2% annually (inflation), that you should be able to fund 30 years of retirement.  Emphasis on the word “theory”.  For this sort of plan to work, you cannot have losses early in the process.  Also, remember that the 4% paid to you is a variable. If you begin your retirement with $1M in savings, your initial annual income would be $40k.  If you take $40k and also have a 10% loss for the year, you now have $864k.  4% for the next year would be $35,251 (with your inflation increase). You see how this might work.

Many investment advisors shy from these sorts of “rules of thumb” because there are too many variables that the advisor cannot control.  Some or all of the income may be taxable depending upon the account type.

ANNUITIZATION

Annuitization is the process of converting money from an asset into a series of payments.  Those payments can be a period of time or for your lifetime.  Your pension or social security deposits are converted to income through annuitizing those assets.  Many people do not like annuitizing as they no longer control the asset.  It is very effective for creating your own personal pension, but, in low interest rate environments, the payouts will be relatively low.  Gains paid out are taxable.

INCOME BENEFITS FROM ANNUITIES

“Living Benefits” have been around for quite a while and many iterations.  There are two basic types of income benefits (with respect to payouts): Guaranteed Minimum Withdrawal Benefits and Guaranteed Minimum Income Benefits. Both are similar in that they guarantee a minimum rollup of income value during the accumulation phase.  The income value can be converted to a guaranteed lifetime income at some point in the future.  Gains paid out are taxable.  

There are many ways to access this kind of benefit.  Done properly, it can make a significant difference in the remaining value to a spouse of beneficiary.  Done improperly, an annuitant or owner can lose significant value.  Significant as in 20-60%.  Consult a knowledgeable professional before attempting this by yourself or referring to a website.

CASH VALUE OF LIFE INSURANCE POLICIES

Some types of whole and universal life policies have the ability to accumulate cash value that can later be borrowed from the policy.  In many cases, with a properly designed policy, these loans are tax free.  There are very few other mechanisms that turn out “tax-free” income besides a ROTH.

This is not an exhaustive list of ways to create income in retirement, just some of the more common methods being used today.  Please realize that the last two methods take time to mature.  You need to plan!  As Winston Churchill said: “Failure to plan is a plan to fail”! Talk to a financial advisor and plan early and often!

Richard Oxford will be on the Terry Gilberg Radio Show, on 550-AM KFYI, this Saturday night at 8:30pm (PST – Arizona) to talk about planning for college.

Richard is a Certified College Advisor, with College Funding Solutions, He helps families who are seeking college planning assistance want the peace of mind that comes from dealing with an individual who is truly concerned about the student and their educational goals, and who is knowledgeable about the inner-workings of the overall college planning process.

This show may also be heard online live at www.kfyi.com.

Directions

To make the marinade, mix all of the ingredients except for the beef in a large mixing bowl. Place the trimmed tri-tips in a plastic container and pour the marinade over. Let stand in the refrigerator for at least 6 hours.

Heat grill to medium temperature.

Place tri-tips on grill at a 45 degree angle to establish grill marks and cook about 35 minutes, or until cooked to desired doneness. Remove the tri-tips from the grill and let rest about 2 to 5 minutes before slicing. Serve with your favorite side dishes.

Ingredients

1 cup lemon juice
1 cup soybean oil
1/2 cup white sugar
1/2 cup soy sauce
1/2 cup black pepper
1/2 cup garlic salt (recommended: Lawry’s)
1/2 cup chopped garlic
1/2 cup chopped dried onions
2 (4-pound) tri-tips, trimmed

Total Time: 6 hr 50 min
Prep: 15 min
Inactive: 6 hr
Cook: 35 min
Yield: 6 to 8 servings
Level: Easy

About

Richard Oxford is a master chef at home and an investment advisor representative with Richard Oxford Financial by day, in Scottsdale, Arizona. You may reach him at rick@richardoxford.com or 602-697-7657.