This is my last post for 2008. It has been quite a year. So many events have transpired with just as many lessons to be found. And we are already starting to see events take shape for 2009. Let's get to it.
I love to write. That is not a secret. Yet lately I find myself growing equally fond of the conversations that occur after my posts. You may not realize it but your questions challenge me to be better, to bring my "A" game if you will. This is the end result of one such exchange.
Learning From the Past
After my last post I had a spirited conversation on my use of moving averages when making entry and exit decisions for funds. Three things became quite clear:
click to enlarge
Beginning at the left you can see that the Dow peaked in August, 1929 at 380.33 points. From there it began a 2+ year downward trend that bottomed in June, 1932 at 42.84. A decline of 88.74%. From that point the Dow rallied, pulled back, had two distinct trading ranges and finally rose to 386.77 in November, 1954. In essence it took 22 years for the Dow to get back to its original peak; 25 years from peak-to-peak! Do I think it will take 22 years to get back to where we started? I don't know. I hope not. But, hoping doesn't make me any money.
Some pundits are saying that we are in the early stages of another depression. Historical review doesn't really agree. There were three distinct actions that served as catalysts for the Great Depression: the Federal Reserve failed to lower interest rates; President Hoover signed the Smoot-Hawley tariff act into law which sharply raised import taxes; then, in 1932 Congress increased taxes to trim the federal budget deficit.
Still, these pundits believe that the government is taking on an interventionist role that will hamper stock investing for years to come. The simple fact is I don't know and neither do they. What we all know is what we see. In our case we use price charts as our picture of events past and present.
During my impromptu debate, somebody said to me, "But, don't you think the bottom is here? How much lower can it really go?" My answer? "Zero." Do I believe that zero is a credible target? No. By the same token I didn't think I would see news articles reporting that treasury bills were paying zero percent interest either. Yes, that's right, people are so panicked by the credit crisis that they are willing to invest money for four weeks at 0% interest.
For me, this news served to reinforce these investing tenets:
After my last post I had a spirited conversation on my use of moving averages when making entry and exit decisions for funds. Three things became quite clear:
- People are reluctant to change investments even when the evidence may be clear;
- They are afraid that making a change may compound their initial mistake; and,
- That getting in the habit of checking charts is difficult.
Part of our debate centered around the time involved for the market to return to a previous peak. I thought it would be helpful if we reviewed the movement of the Dow Jones Industrial Average prior to and during the depression era. This index represent the largest companies in a given area of commerce - i.e. financial, energy, manufacturing. Unfortunately, charts for that particular time frame are not readily available. However with a little research I was able to find the monthly closing prices for that time so I constructed the following chart for your review.
click to enlargeBeginning at the left you can see that the Dow peaked in August, 1929 at 380.33 points. From there it began a 2+ year downward trend that bottomed in June, 1932 at 42.84. A decline of 88.74%. From that point the Dow rallied, pulled back, had two distinct trading ranges and finally rose to 386.77 in November, 1954. In essence it took 22 years for the Dow to get back to its original peak; 25 years from peak-to-peak! Do I think it will take 22 years to get back to where we started? I don't know. I hope not. But, hoping doesn't make me any money.
Some pundits are saying that we are in the early stages of another depression. Historical review doesn't really agree. There were three distinct actions that served as catalysts for the Great Depression: the Federal Reserve failed to lower interest rates; President Hoover signed the Smoot-Hawley tariff act into law which sharply raised import taxes; then, in 1932 Congress increased taxes to trim the federal budget deficit.
Still, these pundits believe that the government is taking on an interventionist role that will hamper stock investing for years to come. The simple fact is I don't know and neither do they. What we all know is what we see. In our case we use price charts as our picture of events past and present.
During my impromptu debate, somebody said to me, "But, don't you think the bottom is here? How much lower can it really go?" My answer? "Zero." Do I believe that zero is a credible target? No. By the same token I didn't think I would see news articles reporting that treasury bills were paying zero percent interest either. Yes, that's right, people are so panicked by the credit crisis that they are willing to invest money for four weeks at 0% interest.
So what do I know? Well, I know I can't make money based on opinion or hope. I know that circumstances change and I need to keep my eye on the ball. Therefore I need a set of tools that will prompt me to get in and out of a fund. This increases my success rate dramatically. I also know that when the trend is against me, I should stash my money where I will be paid monthly interest until the trend becomes favorable again.
In the case of your 401K there are six charts to check once per week. The time involved is about 10 minutes - start to finish. That's it. So, I don't think the problem is discipline. Quitting smoking, changing your diet, or adding an exercise regimen requires discipline. Checking some charts once a week is more about forming a new habit. Do it over a 90 day period and presto-chango you've got a new habit.
Increasing your chances of success begins with manageable goals that are easy to achieve. So how about this? Instead of trying to look at six charts, just concentrate on one. In this case, the S&P 500 chart. It's a great proxy for the stock market so trend changes will show up here pretty early. Each Friday you can go to Barchart and check the chart. In my next post I'll include the instructions on how to get it. All you need to do is set up a calendar reminder to do it.
At first it will be annoying to do. Then it will be a nuisance to do because you'll almost forget about it. Then, you'll begrudgingly accept the fact that it is fairly easy and you will do it. Finally, it will seem easy. You'll start to wonder what other charts you should be looking at. At that point, you've got the habit down.
Changes to Your 401k
People and Markets
Always remember that people participate in the financial markets. If we ignore the jargon - i.e "computerized trading", "institutional buying", "retail investors" - we see that the common denominator is people seeking wealth to fulfill their goals and aspirations. These may include a home, education, retirement, financial security and toys of every shape and dimension. All of them contributing to the employment and economic wealth of the country.
Moving Money vs. Creating Wealth
We have been bearing witness to great political theater: the bailout of financial institutions - euphemistically referred to as Wall Street - and the so-called "big three" auto makers (Ford, Chrysler and GM). All of the bloviating by congressional committee members obfuscates the most important distinction of all: the movement of wealth versus the creation of wealth.
The root problem in the financial markets stemmed from a reassessment of the theoretical value of assets. Here investment banks bundled mortgages to create bonds that satisfied rating agency models. Once assigned the sought after grade - Aaa, Aa, etc - the investment banks could sell the bonds in the global marketplace to institutional and retail investors alike. When interest payments were missed and defaults began to occur a massive revaluation process began. [The Generally Accepted Accounting (GAAP) Mark to Market Rule served to enforce and expedite that process.]
Invest in What You Know
By now you have heard something about the Ponzi scheme run by Bernie Madoff. This man had such a stellar reputation that investors considered it a privilege if he managed their portfolio. His actions will cause a seismic shift in the living standards of many people. While headlines focus on larger investors that have lost millions and billions, I was struck by the 70 year old couple in a Florida townhouse that lost their entire $700,000 nest egg due to Madoff's madness.In the case of your 401K there are six charts to check once per week. The time involved is about 10 minutes - start to finish. That's it. So, I don't think the problem is discipline. Quitting smoking, changing your diet, or adding an exercise regimen requires discipline. Checking some charts once a week is more about forming a new habit. Do it over a 90 day period and presto-chango you've got a new habit.
Increasing your chances of success begins with manageable goals that are easy to achieve. So how about this? Instead of trying to look at six charts, just concentrate on one. In this case, the S&P 500 chart. It's a great proxy for the stock market so trend changes will show up here pretty early. Each Friday you can go to Barchart and check the chart. In my next post I'll include the instructions on how to get it. All you need to do is set up a calendar reminder to do it.
At first it will be annoying to do. Then it will be a nuisance to do because you'll almost forget about it. Then, you'll begrudgingly accept the fact that it is fairly easy and you will do it. Finally, it will seem easy. You'll start to wonder what other charts you should be looking at. At that point, you've got the habit down.
When I wrote the initial draft for this article it had quite a scathing tone. But, as you will read below, an article in last Sunday's New York Times served to chasten me somewhat. For many people a 401K is considered the second most valuable asset behind their home. The current revaluation of real estate may mean that your 401K has taken on the number one position. Making this piece very important reading for you.
Changes to Your 401k
With the cacophony of the holiday season you may have given little attention to an email that came out in late November regarding changes to your 401K that are due to take effect in January 2009.
The changes fall into three general categories:
Let's begin with the pre-tax contribution limits. For 2008 the limit is $15,500 (for 2009 that increases to $16,500). And, if you are 50 years and older, you can make additional pre-tax contributions of $5000 per year.
In 2008 the company matched 100% of the first 3% of your contribution and 60% of the next 3%. Overall that was a blended rate of 80 percent cash match for the first 6% you contributed.
Let's look at an example:
As an employee I am denied the privilege of making an independent assessment of the value of the stock and if it deserves a place in my portfolio. Basically, I am being forced to own a portion of a company. To me this situation is exacerbated by the fact that there is a vesting period before we can cash in the stock. Quoting again from the company's circular:
But this cloud does have a silver lining. As I write this, the stock (chart) is trading at $27.94. Some $14.50 off it's 2007 high and way below the 45 week moving average (WMA). Assuming that you have time on your side this a great time to accumulate the stock and the suggestions I am going to make are based on that premise.
Your first priority is to contact Fidelity at 800-610-7100 and find out when you will be fully vested to sell the AT&T stock that is deposited into your account. Next, check the AT&T price chart periodically. We will employ the same method that we use for exiting an index fund. Specifically, we will continue to accumulate the stock as it moves up. At some point it will trade above the 45 WMA. Once it closes below the 45 WMA for two consecutive weeks, we will sell out of our position. In effect we are taking a position earlier than we normally would and making the assumption that the stock price will trend upward once the economy begins to improve.
At that point we will evaluate a future strategy based on the then-current economic/stock market environment.
The changes fall into three general categories:
- Company matching contributions.
- Rules governing what you can do with your account - i.e. loans, withdrawals & exchanges.
- Funds that you can invest in.
Let's begin with the pre-tax contribution limits. For 2008 the limit is $15,500 (for 2009 that increases to $16,500). And, if you are 50 years and older, you can make additional pre-tax contributions of $5000 per year.
In 2008 the company matched 100% of the first 3% of your contribution and 60% of the next 3%. Overall that was a blended rate of 80 percent cash match for the first 6% you contributed.
Let's look at an example:
- Annual salary = $50,000
- First 3% pre-tax contribution is $1500 with a company match of $1500.
- Second 3% pre-tax contribution is $1500 with a company match of $900.
- Total annual contribution is $2400 cash.
"...will match 80 percent of your basic contributions (up to 6 percent of your salary). The company match is invested in AT&T stock."For the company this cash retention will improve their financials. However, I have some immediate problems with this scenario. First, as an investor, I am concerned that the issuance of additional shares of stock represents an immediate dilution in value to all shareholders.
As an employee I am denied the privilege of making an independent assessment of the value of the stock and if it deserves a place in my portfolio. Basically, I am being forced to own a portion of a company. To me this situation is exacerbated by the fact that there is a vesting period before we can cash in the stock. Quoting again from the company's circular:
"The company match on your contributions to the AT&T Retirement Savings Plan (ARSP) will be 100 percent vested after three years of vesting service (which includes your Cingular service)...Contact the Fidelity Service Center for more information."My ire was mitigated somewhat when I caught this headline in the December 21st New York Times, "In Need of Cash, More Companies Cut 401(k) Match". The short story is this: FedEx, Motorola, GM, Eastman Kodak and Resorts International are among a list of companies that have cut their matching contributions entirely!
But this cloud does have a silver lining. As I write this, the stock (chart) is trading at $27.94. Some $14.50 off it's 2007 high and way below the 45 week moving average (WMA). Assuming that you have time on your side this a great time to accumulate the stock and the suggestions I am going to make are based on that premise.
Your first priority is to contact Fidelity at 800-610-7100 and find out when you will be fully vested to sell the AT&T stock that is deposited into your account. Next, check the AT&T price chart periodically. We will employ the same method that we use for exiting an index fund. Specifically, we will continue to accumulate the stock as it moves up. At some point it will trade above the 45 WMA. Once it closes below the 45 WMA for two consecutive weeks, we will sell out of our position. In effect we are taking a position earlier than we normally would and making the assumption that the stock price will trend upward once the economy begins to improve.
At that point we will evaluate a future strategy based on the then-current economic/stock market environment.
Some Lessons Learned
For many of us this is a reflective time of year. An opportunity to look back at lessons learned. Here are a few that come to my mind...
People and Markets
Always remember that people participate in the financial markets. If we ignore the jargon - i.e "computerized trading", "institutional buying", "retail investors" - we see that the common denominator is people seeking wealth to fulfill their goals and aspirations. These may include a home, education, retirement, financial security and toys of every shape and dimension. All of them contributing to the employment and economic wealth of the country.
Moving Money vs. Creating Wealth
We have been bearing witness to great political theater: the bailout of financial institutions - euphemistically referred to as Wall Street - and the so-called "big three" auto makers (Ford, Chrysler and GM). All of the bloviating by congressional committee members obfuscates the most important distinction of all: the movement of wealth versus the creation of wealth.
The root problem in the financial markets stemmed from a reassessment of the theoretical value of assets. Here investment banks bundled mortgages to create bonds that satisfied rating agency models. Once assigned the sought after grade - Aaa, Aa, etc - the investment banks could sell the bonds in the global marketplace to institutional and retail investors alike. When interest payments were missed and defaults began to occur a massive revaluation process began. [The Generally Accepted Accounting (GAAP) Mark to Market Rule served to enforce and expedite that process.]
By contrast, the auto industry is comprised of individuals employed to manufacture a product that is sold in the retail marketplace. Notwithstanding current credit problems, these autos are deemed to be priced fairly based on qualities and features sought after by consumers. The ultimate rating being determined by revenue earned. These employees, in turn, use their wages to save, purchase homes, groceries, clothes, and myriad other products and services thereby creating national and international economic wealth. In this specific example, the wealth effect extends exponentially to "companion businesses" such as car dealerships, parts manufacturers and distributors.
Indeed, executive perks and legacy costs may raise eyebrows and competitive disadvantage but the underlying message here is clear: the movement of wealth should never supersede the creation of wealth.
Invest in What You Know
And, the fact that banks and fund managers invested their clients money in Mr. Madoff's fund leads us to realize that any one of us could have been among his victims.
For me, this news served to reinforce these investing tenets:
- If I cannot understand it, I will not invest in it.
- If I cannot make an independent assessment of it, I will not invest in it.
- If I am denied the ability to independently track my investment I will not invest in it.
- Do not invest in so called funds of funds - i.e. a fund comprised of other funds.
Posts
