Using Brief Everyday Moments to Teach Kids about Money

More than once my nine year old daughter has asked “Why don’t you quit your job so you can be home more?” After I remove the knife from my heart, I tell her that we would not be able to afford to live in our house if I didn’t have a job. “Daddy could get a job,” she says. After my stay-at-home husband removes the knife from his heart, he tells her that my job pays more than a job that he could get. These are the few and small lessons we teach our kids about money. I hope they’re enough.

As a working mother with three small kids, and a busy stay-at-home dad, there’s not a lot of time for my husband and I to have protracted discussions with our kids about money. We want to teach our children how to work hard, spend wisely, and value the things they have. But with so little time, I find myself having far fewer conversations about the money than I thought I would before I had kids. I also thought I would never let them eat in the car, but you know how that goes.

Because my time, focus, and patience are so limited, I try to model behavior in my daily actions and conversations. When the kids ask why we can’t have something or do something that is not in our budget, we explain that we have to make priorities about how we spend our money. If we buy that toy, then that would be one less pair of pants we could buy, and you need a certain amount pants for school. Recently, my daughter overheard the grocery store clerk tell my husband how much the groceries were. “One hundred and fifty-three dollars!?” She was shocked. He explained that yes, it was crazy expensive, we were lucky to be able to afford it, not everyone can, and that’s why it drives us nuts when she doesn’t eat the edges of her sandwich. It’s like leaving a dollar on your plate!

My daughter has asked us to pay her money for chores around the house. When it comes to allowance, each family must decide what works best for them. We have decided not to pay allowances or to pay for chores. I explain that it is her job to help out in the house. As a family, we all have a duty to make the household run better. She puts the dishes in the dishwasher every night because she is part of the family. I do, however, pay her to “babysit” my two year old sometimes when I have a household chore that I have to tend to, and I need someone to distract my toddler. I tell her that as the mom, it’s my job to watch the baby, but she can earn some money by helping me with my job. I distinguish between her household duty as a member of the family, and an extra job to help me out with my job. In doing this, I hope it helps her to grow up not feeling entitled, with a strong work ethic, and the knowledge that in life, you just have to work. That’s the deal.

We also try to scale down Christmas and birthdays. I believe that if I only ever gave the kids two gifts for Christmas they’d be just as excited as if I gave them ten. But once they expect ten, they are let down at two. I’ve tried very hard each year to keep it minimal. Unfortunately, that may be a battle I’m losing, because it becomes uncomfortable when grandparents lavish more gifts than Santa Claus. What’s a Santa Claus to do?

Parents, your time is limited and you are exhausted. But you don’t have to summon loads of energy to teach your kids about money, just show them with your everyday actions and conversations. As parents, we have to work hard, spend wisely and value what we have. We have to be vocal about it with our kids. Let’s hope they get the message, because I don’t have time for a bigger discussion on the matter – I have to leave right now to get to my six year-old’s soccer game.

Harli Palme, CFA, CFP®
Partner

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The “Who” of Earning More

While we’ve all read the articles about the gender pay-gap in the US, I’d like to discuss why it’s important that women start earning more and provide one perspective on how we can go about doing that.

First I’d like to mention that despite earning more college degrees than men, and now, more advanced college degrees, women still make on average 27% less than their male counterparts. That’s a glaring disconnect and it’s significant considering that most women outlive men by roughly five years in the U.S. We’re also the sole or primary source of income for 40% of households with children. That’s up from only 11% in 1960. Thus, a higher income in our working years is crucial if we want to adequately provide for both our children’s and our futures.

While it’s clear the female gender has the intelligence and discipline to master higher education, what isn’t clear is why we don’t reach the same levels of success in the workplace. I can’t claim to know the answer for all women, but I can speak from my own experience. As the first of my sisters to go to college I had little guidance. Fortunately, once I learned the system, established good study habits, and got clear about why I wanted a degree, I started to excel. In college, succeeding meant knowing the material, acing tests, and generally holding myself accountable. I didn’t necessarily need strong interpersonal skills or external confidence. I simply needed to know the subject matter and master tests and assignments.

My first job in finance was a very different experience. In comparison to school, the working world – particularly in the male-dominated world of finance – was much more about confidence, speaking up, and did I mention confidence? Yes, intelligence and a job well-done were important, but I noticed that those who had the confidence to take on challenging projects, talk to the executives with ease, and court clients with swagger seemed to get ahead. Interestingly, I had this confidence outside of work, but in the office my voice cracked, my brain froze up at inopportune times, and my words were often awkward. It was doubly painful to watch myself make blunder upon blunder, all the while knowing that in other environments I was relaxed, confident, capable – in a word, myself. What was happening? Where did I go?

It’s been twelve years since landing my first financial job and since that time my confidence has grown. I believe the biggest contributors to bridging the gap between the outside-work me and the at-work me were awareness, compassion, and trust. Although at times I felt insecure, incapable, and frustrated on the job in those early years, having awareness of the confident, capable version of myself was an important touchstone in the office. It allowed me to notice what triggered my nerves or caused my thoughts to freeze up, instead of believing that that was who I was. With awareness, I could proactively prepare for those moments, give myself a break when I did have a blunder, and trust that in time, I would grow more confident. It wasn’t always easy, but having an image of who I wanted to be at the office spurred me on. So did identifying role models at work, both male and female, and reaching out to those people. Knowing where I wanted to go, what that looked like, and most importantly, who I wanted to be at work were my guideposts.

There were certainly bumps along the way, including raises that were not granted, wrong career turns, and staying in some positions for too long. Despite the setbacks and challenges, I remained focused on my “who” at work and had a willingness, and perhaps a penchant for embarrassing blunders. Money was important to me, and although I aspired to grow my income, it wasn’t my main focus. Surprisingly, my commitment to being more myself and a willingness to work with new, uncomfortable situations had the happy side-effect of promotions and pay raises.

Money is important. Considering that we women often outlive men and are shouldering more and more responsibility for our dependents and ourselves, it’s even more important. The good news is that while money is not always our first priority, from my experience, it doesn’t have to be. A commitment to being more fully ourselves in any environment and a willingness to stretch ourselves with uncomfortable, yet meaningful challenges frequently has the happy side-effect of higher earnings.

Regardless, becoming more fully ourselves brings with it the capacity to weather any financial situation and is, in the end, its own reward.

Carrie Tallman, CFA

Director of Research

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GREAT NEWS ON INCOMES, SPENDING AND INFLATION

The Bureau of Economic Analysis (BEA) hit a trifecta in its March 2 release, “Personal Income and Outlays: January 2015.” As the chart below shows, the first piece of wonderful news was that real disposable personal income (DPI), which is what you have left of your income after taxes and inflation, hit a new record in January of $12.246 trillion at a seasonally adjusted annual rate. That finally eclipsed the old record of $12.214 trillion at a seasonally adjusted annual rate set in December 2012. That old record was an unsustainable outlier at the time, which was caused by many people who had the ability to bring income such as bonuses and special dividends forward to avoid the higher tax rates of 2013, doing exactly that.

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Conversely, the January 2015 record was driven by a seasonally adjusted increase of $42.4 billion in wage and salary income from December. That accounted for a very healthy 83.5 percent of the total increase in personal income of $50.8 billion, seasonally adjusted. That strong performance of wages and salaries suggests that, driven by ever-growing employment, disposable personal income will set many more records in 2015 and 2016.

Even more astonishingly, real disposable personal income rose by 0.9 percent in January from December. That was the biggest increase since—you guessed it—the 2.84 percent spurt in December 2012, which was on top of a very strong increase of 1.44 percent in November 2012. Of course, real DPI plunged by 5.9 percent in January 2013, the biggest drop in over 50 years. That is most unlikely to occur this time, as we will see when we get the data for February 2015 on March 30.

This 0.9 percent increase in real DPI in January is even more amazing, because January wages and salaries are hit every year by increases in Social Security taxes on both employees and employers. Every employed person who exceeded the $117,000 taxable maximum in 2014 before December 31 had to start paying again on January 1. This year the tax covers wages and salaries up to $118,500. That change subtracted an additional $7.9 billion in January.

Note the phenomenal growth in real DPI in the previous chart. It is now six times higher than in 1959, triple the 1973-1975 level and double where it was in 1987-1988. It’s up more than 20 percent since 2009. Most countries would be delighted to have such terrific growth in DPI over comparable periods.

The second piece of great news in the report was the fact that real personal consumption expenditures (PCE) set a new record in January of $11.164 trillion at a seasonally adjusted annual rate, as shown in the following chart. That was up 0.3 percent from December and a very impressive 3.4 percent from January 2014. Because real PCE makes up by far the largest share of real GDP (68.2 percent in 2014), this strong beginning to 2015 reinforces the consensus forecast that this will be the first year since 2005 to see real GDP growth of 3.0 percent or more.

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The third piece of wonderful news was the continued low rate of increase of so-called “core” inflation, the implicit price deflator for PCE less food and energy. The chart below shows how this measure rose in the late 1970s and early 1980s hitting a peak of 4.02 percent in January 1981. It is probably not a coincidence that that was the month when President Reagan took office, as his first official act was to deregulate oil prices. While both energy and food are excluded from this index, the impact of that decision had far-ranging consequences in reducing inflation.

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The overall PCE deflator fell 0.5 percent in January from December and was only 0.2 percent above January 2014. That was primarily because “Energy goods and services” registered price declines of 10.4 percent in January from December, and fell a whopping 21.2 percent from January 2014.

This very small increase in the overall PCE deflator made a big contribution to the 0.9 percent jump in real DPI. The rest came from the large increases in nominal income.

This BEA report is one of the best ones we’ve had in many years. It should be followed by much more good news on income and spending by consumers in coming months.

Dr. James F. Smith
Chief Economist

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Living Healthier – Better for your Wallet, Not Just your Waistline.

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A couple of years ago I made a significant lifestyle change. After gaining post-college weight, I realized that the carefree metabolism of a 20-year old went out the window at 21. I made the decision to stop eating unhealthy food and develop a workout regimen that I could stick to. At first I worried that I couldn’t afford to live “healthy.” I believe that this is a normal and reasonable reaction. $120 for a gym membership? WHAT! $10 for organic breakfast? HUH? Thankfully, what I realized was that I was incorrect to think that “healthy lifestyles” and “expensive lifestyles” were synonymous. I actually saved money! Here are just a few ways that you can get healthy, save a dollar or two, slim down and be happier.

  1. Get rid of your expensive bad habits:
  • Do you pay $10 a day for a double pump, venti, skinny, salted caramel mocha frappuccino? Stop it! First, whoever told you that this was “skinny” was lying to you. Second, these things add up. What bad habits do you have? Is it the lunch time soda? The mid-afternoon candy bar from the vending machine? The two packs of cigarettes a day? Once you write down your vices, tabulate them to see how much those bad habits cost over a week, a month, a year, a lifetime.
  • Example: A pack of cigarettes in North Carolina costs $4.45. You could spend more than $49,662 on smoking a pack a day for 30 years. According to the American Cancer Society, each pack of cigarettes on average will cost you $35.00 in health care costs. That’s $383,250 in health care costs due to smoking for 30 years. Is it worth it?
Vice Per day Per 30 Years 30 Yr Health Cost Total 30 Yr Cost
Cigarettes $4.45 $49,662 $383,250 $432,912

 

  1. Reduce your medical bill:
  • It’s impossible to ignore the fact that eating healthy and exercising can reduce visits to the doctor. There are a plethora of studies out there that prove a healthier diet can reduce your risk of heart disease, lower your cholesterol, reduce stress on joints from excess weight, etc. To give you a personal example, I have always had trouble with stress management. I’m a worrier (#shegetsitfromhermama). Since I was a child I have racked up numerous medical bills related to anxiety, including medications, sleep studies and doctor visits. Had I known much earlier that by slapping on a pair of running shoes and going for a jog, I could eliminate a lot of my stress, I would have saved myself and my parents a lot of money. Running is a much more affordable way to blow off steam than medication. With my routine, I was able to ditch the expensive medications and doctors’ visits.
  1. Waste not:
  • I’m marrying a Dutchman soon… literally. One thing I learned from him and his Dutch family is to waste nothing and use everything. When I first started dating Chris I couldn’t understand how he would eat 2-3 times more food than I did and spend 2-3 times less money than I did. The answer simply was he didn’t waste anything. Now, this was a bit harder for me to do. Chris could sit down and eat hummus with a spoon, but if I didn’t have crackers to eat the hummus I’d let it sit there, go bad, and then I’d throw it out. So how did I fix this little problem and save hundreds of dollars doing it? Planning! How did I shed some pounds? Planning! Sit down at the beginning of the week and plan out all your meals. When you plan ahead of time you’re more likely to make healthier choices. You also are less likely to go out and eat when you have already planned, purchased and prepped your healthy food choices. Once you realize the savings potential you start using the “waste not” mentality in other facets of your life.
  • Tip: when planning your meals ahead of time, leave yourself a day to go out and splurge. Without the occasional “cheat” you may go crazy and give up.
  1. Cut on transportation cost:
  • Now this isn’t possible for everyone, but for a lot of people you can quickly save some money, cut cost and your waistline by switching up your transportation methods. Bike and walk to work. Is there a train nearby? Then walk to the train rather than driving to your office. If you are eating out for lunch, pick a restaurant that you don’t have to drive to. A lot of people say that the time spent walking is a great way to meditate, and reflect on their day. This can offer a peace of mind that can’t be achieved with the stresses of the road.
  1. Create healthy family outings:
  • Skip the $30 movie, popcorn, and 2 hours of inactivity and do something active with your family. Spend $15 on a soccer ball and go to the park on Sunday afternoon. Take the dog on a hike or a walk. This brings up another point… working out and being active is always more rewarding and sustainable when you have a support group or community of people that you workout with. If healthy outings cannot be accomplished with busy family members, then join a running club, a biking group or a community gym.

I could write an entire blog series on ways to be healthier and save money… but the key is to start small! Pick an area that needs improvement in your life and manage it. Use the momentum of a small change to snowball into an entire lifestyle change. Fatten up that wallet by trimming up the love handles!

Ashley Woodring, CFP®

Financial Advisor

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Why Not Use Margin?

Recent data indicate that margin debt has increased significantly over the past 12 years, although it is currently below the peak levels seen in 2000 and early 2014.

Margin is a feature that you can add to a taxable (non-IRA) brokerage account that enables you to borrow money against the value of your investments in the account. Initial margin, or the amount that you can borrow, is generally 50% of the value of the account. On a $100,000 account, you could borrow up to $50,000. The money can be used to buy more investments, or it can be taken out of the account and used for some other purpose.

Say you have an account that contains $100,000 in stocks. You write a check for $50,000 to purchase a new car. You still have stocks worth $100,000 in the account, but you owe the brokerage firm $50,000. Your net equity in the account is $50,000 (the $100,000 market value of your investments minus the $50,000 you owe).

Maintenance margin is the level of net equity which must be maintained in the account. If the equity in the account falls below this level, usually 30% of the account value, then a deposit must be made to the account or investments will be sold to reduce the margin loan balance.

Say the stock market experiences a correction and falls 15%. Your $100,000 in stocks are now worth $85,000. However, you still owe $50,000 to the broker. Your equity in the account is $35,000, or 41%. If the stock market continues to decline and your equity falls below 30%, some or all of your investments will be liquidated by the broker to reduce your margin loan. This is not good timing because you are being forced to sell stocks when they are down.

There are several other disadvantages to borrowing on margin that investors should be aware of. Interest rates are high; particularly when you consider that the lender is fully secured. Currently, the interest rates at major custodians are in the 5.5%-8% range, depending on the amount borrowed. Also, the interest rates are floating, so there is no protection against rising rates. Tax deductibility of margin interest is complex and more restrictive than other interest deductions such as on your home mortgage.

Using margin always increases your portfolio risk, particularly if you use the proceeds to buy more stock. Let’s go back to the previous example of the $100,000 account, but this time you take a $50,000 margin loan and use it to increase your stock holdings. You now have $150,000 in stock and owe the broker $50,000. Your net equity is $100,000. Say the stock market falls 20%; your stocks are now worth $120,000. You still owe $50,000 to the broker, and you’ve lost 20% of 150,000 instead of 20% of 100,000. In other words you have a $30,000 loss instead of a $20,000 loss. You’ve lost 30% of your initial $100,000 on a 20% market decline. Your loss was 1.5 times that of the overall market, plus you paid interest on the margin loan. Not a good outcome.

There are some situations where margin can be appropriate, say for short- term needs where the amount borrowed is a small percentage of the account value. We generally advise against using margin on a longer term basis.

Bill Hansen, CFA

Managing Partner

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Gift Stock Yields Better Returns Than Gift Checks

 This article was originally published on NerdWallet.com

When thinking of giving a gift, most people immediately consider writing a check, giving a gift card to a favorite restaurant, or ordering something online.

However, from a financial planning perspective, this is a very inefficient method of giving. Unfortunately, the method that gets you the biggest bang for your buck is usually the most complex, impersonal and inconvenient, as is often the case in financial planning.

Let’s take a look at a few ways to get a little more “bang for your buck” with a gift.

Consider what the alternatives to giving cash might be. It is pretty hard to think of ways to give a gift without using cash.

One way to do so is to gift stock, preferably appreciated stock. It is very common for the individual giving (grantor) to be in a higher tax bracket than the individual receiving the gift (grantee). For this reason, the grantor is able to give more to the grantee because they don’t have to sell the stock, pay the taxes, then give the cash. To make the situation even better, the grantee may not even have to pay taxes when they sell the stock, if they are in the 0% to 15% tax bracket. This isn’t your traditional heart-warming gift from Grandmother, but the tax savings sure are heart-warming to me.

Another play on the same technique is to gift appreciated stock to young children in a custodial account. This allows either the grantor or a parent to act as a custodian over the account until the child reaches age 18 or 21, depending on state law. Appreciated stock can be directed into this account and sold over time with minimal tax consequences. However, you have to be aware of the “Kiddie Tax” for unearned income over $2,000 attributed to the child. Any amount over $2,000 is then taxed at the parents’ highest tax bracket! To extend this gifting strategy, cash produced by dividends and sales from this account can be transferred to a 529 savings plan in the name of the beneficiary. Just don’t forget to give the child something useful or fun at the same time.

Although these techniques are not as easy and straightforward as writing that check, there are some significant tax savings available for those who choose to use them. For individuals who are trying to play catch up on funding 529 plans or gifting to children or grandchildren, the annual gifting limit is $14,000 per year per person for 2014 and 2015.

Daniel Johnson, III CFP®

Financial Advisor

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Call Me….Maybe

I recently saw an article titled, “Use Puts and Calls to Finance Your Holiday Gift Shopping.” It proceeds to explain how you can employ certain options strategies (shorting puts and covered calls), to generate portfolio income – in this case, a little extra cash for purchasing holiday gifts.

“My Parsec advisor hasn’t suggested this to me,” you think. In fact, your Parsec advisor hasn’t suggested any options or derivatives strategy to you! What gives? Aren’t we supposed to be looking out for our clients’ best interests?

Yes, we are. And that is why we typically won’t suggest such a strategy to you. Not that there is anything wrong with it, per se, but most derivatives strategies are short-term in nature, and one of our main tenets is investing for the long-term.

Even though the author of this article is suggesting relatively safe (rather than speculative) strategies, there is risk involved, and the upside is limited. When you short (a.k.a. sell or write) a covered call, you give someone the option to purchase a stock that you own at a predetermined (strike) price, in exchange for payment (known as the option premium). Shorting (selling or writing) puts involves giving someone the option to sell you a particular stock at a predetermined price, also in exchange for a premium. If you enter into one of these contracts, you are obligated to either sell or buy the underlying stock if the owner exercises the option. If the option expires unexercised, you keep the premium without having to sell or buy the underlying.

The objective is to enter into contracts that you think are unlikely to be exercised based on your prediction of the underlying stock’s price movement, and earn income by pocketing the premium. Of course, there’s always the chance that the market will move in such a way that the owner will choose to exercise the option, and you will be forced to make a trade.

So let’s think about this – why would someone exercise a call option? Obviously because the market price has moved above the strike price and they can buy it for less, then turn around and sell it for a profit. So you’re selling a stock that’s going up (at a below-market price), and giving up any potential upside in that stock.

And why would someone exercise a put option? Because the current price of the underlying stock has dropped below the strike price, so they can sell it to you for more than it’s worth in the market. Even assuming that it’s a stock that you want to own, wouldn’t it be better to buy it at the lower market price? If you calculated the breakeven correctly, the premium earned on the option would offset the difference in strike and market price, but then you’re effectively at zero, having earned nothing (such as dividend income) in the interim.

Our philosophy is that the best results occur over a long time period, in portfolios consisting of a well-diversified array of carefully chosen, quality investments. We make buy and sell decisions based on in-depth research of underlying company fundamentals, rather than market predictions. In this way, we seek to avoid the pitfalls of human behavior and emotion, as well as the likelihood of inaccurate predictions. We like to be owners of companies with real earnings and dividends, and participate in long-term, profitable investments because this is how we help you attain your financial goals…such as a long, comfortable retirement as well as the perfect gift for everyone on your list.

Sarah DerGarabedian, CFA  Portfolio Manager

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Top 10 rules to a frugal life:

Those that know me well can vouch for the fact that I am a frugal person.  I feel that there is much that is virtuous about living a frugal life.  Learning about delayed gratification and the important limits to set upon our role in a consumption based economy is a great path to happiness and peace.  The famous economist and philosopher John Stuart Mill once said, “I have learned to seek my happiness by limiting my desires, rather than attempting to satisfy them.”  This simple phrase rings true to me.  This is especially evident as you stand witness to the constant bombardment of consumerism in our media and markets.  Take stock of what you have and the blessings of life and you might not fall prey to the treadmill of consumption that will always be tempting you.

Top 10 rules to a frugal life:

  1. Budget – know where your money goes.
  2. Be guarded against lifestyle inflation; try to keep income growing faster than expense growth.
  3. Don’t be wasteful. Consider gently used items when buying cars, and other depreciating assets.
  4. Find discounts whenever possible.
  5. Trips and vacations are about experiences, not necessarily lavish accommodations.
  6. Frugal people rarely eat out, preferring to prepare their own food.  I find it better and healthier, not to mention less costly.
  7. While there are many worthwhile private schools, there is a great value to be found in many of our public schools as well. Consider whether public schools, for both young children and college, may be right for your family.
  8. Frugal people care less about fads and trends; keeping up does not matter to them.
  9. Know the value of a dollar, if there is a lower interest rate find it.
  10. Don’t be cheap, stay generous.  It is ok to part with money to help others.

Richard Manske, CFP®                                                                                                                                      Managing Partner

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What is an Index (and why should you care)?

Recently I was on vacation with a friend, and while enjoying the sunshine she received a CNN alert…

Breaking News: Dow Jones Industrial Average soars to an all time high.

She then asked me what the Dow Jones was exactly … “Should I know what this means?” My response was, “it’s a stock market index, of course.” Seeing the perplexed look on her face, I realized that she had no idea what I was talking about. After having this conversation, I wanted to share with you what I shared with my friend.

  1. What is a market index? – A stock market index is simply a measurement of the value of the market or a section of the market. Let’s break it down into a simple example. Assume ABC index is made up of 6 companies. At the end of trading on Monday the index is at 5,000 points. On Tuesday, three of the companies go up in value, two of the companies go down and the sixth company stays the same. The total value of the stocks change by 3% on Tuesday, so now the index is at 5,150 points. This tells you that this section of the market went up in value from Monday to Tuesday.
  2. Why are market indexes important? Choosing appropriate investments is only the beginning. One of the biggest challenges of an investor is to determine how well your portfolio is performing. Are you lagging behind the market or beating it? You can only know the answer to these questions if you have something to compare your investments to. Indexes allow you to measure the performances of your investments against an appropriate benchmark.
  3. How do you choose the right benchmark? In general, when you are tracking the performance of an investment, you look at a benchmark that is most similar to your investment. For example: If your portfolio is all U.S. large cap stocks you would likely use the S&P 500 as your benchmark. If your portfolio is all fixed income then you would most likely benchmark against the Barclays Aggregate Bond index. If your portfolio is a combination of both large-cap stock and fixed income you would want to use a blended benchmark of the two indexes.
  4. All of this is for naught if you don’t know what indexes track which stocks. Here are some of the most common market indexes and the companies they are comprised of.
  • Dow Jones Industrial Average (DJIA) – This is one of the most popular measures of the market. A.K.A. “The Dow” or “Dow 30” is a price-weighted measure of 30 US blue-chip companies. The index covers all industries with the exception of transportation and utilities, which are covered by other Dow Jones indexes.
  • S&P 500 Index – This index is based on 500 U.S. large cap companies that have common stock listed on the NYSE or NASDAQ. These companies are representative of the industries in the U.S. economy.
  • Russell 2000 – This index tracks 2,000 small-company stocks. It serves as benchmark for the small-cap component of the overall market.
  • Dow Jones Wilshire 5000 – This index covers over 5,000 US companies listed on major stock exchanges. This includes US companies of all sizes across all industries.
  • Barclays Capital Aggregate Bond Index – This is a broad-based benchmark that measures the investment grade, US dollar-denominated fixed-rate taxable bond market.
  • MSCI EAFE Index – This index is designed to measure the equity market performance of developed markets outside of the U.S. and Canada. EAFE is an acronym that stands for Europe, Australasia and Far East. (Check out Sarah DerGarabedian’s blog post from last week to read why it’s important to have an international allocation – http://wp.me/plOKq-oE)  
  1. It’s important to remember when comparing your investment returns to compare your results to the long-term market, not just the past year. Typically analysts look at 3, 5 and 10 year returns. Short-term results can often be misleading due to short-term volatility. A quick Google search should provide you with the long-term returns of any of the major indexes.

After explaining all of this information to my friend, I think she had a better grasp on market indexes and hopefully this information is helpful to you too. One realization that came from our conversation is that sometimes financial advisors (nerds) forget that things that seem so common to us aren’t as familiar to those not in the industry. We never want a client to leave a meeting or conversation feeling confused or uncertain. If you have questions, please ask! We may just write a blog post about it.

Ashley Woodring, CFP®

Financial Advisor

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Kit Kats, Blow Pops, and the Benefits of Diversification

“But international stocks are underperforming the S&P 500! Why are you buying international mutual funds in my account?”

We hear this question a lot. People often wonder why we include various sectors and asset classes in our portfolios, but the one that tends to get the most scrutiny is international equity. Many investors exhibit what is known as “home bias,” or the tendency to invest primarily in domestic securities, whether it stems from a nationalistic desire to “buy local” or simply the belief that international investing carries additional costs and complexities. Often, investors eschew international diversification to their detriment, as many studies have shown that the inclusion of international equities lowers portfolio volatility while increasing risk-adjusted return. However, these metrics are not what investors see – they see performance. They see that the return on their international fund is lower than the return on the S&P 500 and fear that it will be a drag on their returns forever. So why don’t we sell it?

Quite simply, we keep it for the diversification benefits. With Halloween just around the corner, perhaps an analogy will help. When you’re trick-or-treating, you knock on the door of every lighted house and collect as much candy as you can carry home. Then you dump it out on the floor and sort through it to revel in the spoils. Hopefully you’ll come home with lots of chocolate candy bars, M&Ms, Milk Duds, Junior Mints, and Reese’s cups. Then there might be a smattering of Smarties, Starburst, and Skittles, which are fine. Invariably there will be a few of those orange and black-wrapped peanut butter taffies, some chalky Dubble Bubble and a handful of Dum Dums – but that’s OK. A few crummy candies won’t ruin the night, since you have so much more of the good stuff. And you never know which houses are going to hand out what candy, so you have to hit them all. (And to the person handing out raisins, just stop. Don’t be that guy.)

Now imagine that your portfolio is a bag of Halloween candy. Even if you love Snickers, it would be pretty disappointing if your entire haul was nothing but Snickers – that would defeat the purpose of trick-or-treating, because you could simply go to the store and buy a bag. No, you want a wide variety from which to choose, based on changing moods and cravings! In a similar way, you need to diversify your investments so that the mood of the day doesn’t destroy your savings in one fell swoop. If your entire portfolio consists of the stock of one bank and the bank goes under, you lose all of your money. If you buy the stock of 5 different banks, but the entire banking industry hits a rough patch, your portfolio plummets…so you buy the stock of 40 different companies in different sectors and industries to spread the risk. But what if they’re all domestic companies and the domestic economy tanks? I think you see where this is going. Different investments zig and zag, moving in opposite directions simultaneously, which dampens the overall volatility of the portfolio.

You may not be a huge fan of Blow-Pops, but what happens if you fill your bag with Kit Kats and you’re suddenly in the mood for Sour Apple? What if you leave your bag in the sun and all the Kit Kats melt? It’s true that if particular sector (such as international equity) underperforms and you have it in your portfolio, you might get a lower return on your portfolio for that period. But when that sector rallies, you’ll be happy you had a couple of Blow-Pops in your bag.

Sarah DerGarabedian, CFA

Portfolio Manager

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