I Hate Debt

Don’t we all??  I worry about placing myself in a situation where an unexpected event (car accident, illness, et cetera) could create a financial disaster.  As a result, I carefully monitor the level of both short- and long-term obligations I have. 

With interest rates at historic lows, I decided to take a closer look at refinancing my house.  I have refinanced two times already; should I do it again?  Some of you may be considering the same thing, so I thought I would talk a bit about how I made my decision.

It is important to understand what you are trying to accomplish.  In my regard, I want to pay off my house within 15 years, while keeping the monthly payment at a reasonable level.  Others may want to tap home equity so that they can pay down loans with higher interest rates or do some repairs to the home.  If this is the case with you, calculate in advance how much you need. 

The next step is to take a look at your credit report.  Some people have had some dings from the Great Recession.  Resolve any reporting issues in advance of applying for a loan.  It will save you a lot of aggravation later.

Now, let’s figure out if it is feasible to refinance.  I used the calculators that are available on the bankrate.com website.  Here is a link:  http://www.bankrate.com/calculators.aspx. They have a great mortgage amortization calculator that shows you total interest paid over the life of the loan.  You can also see the impact of extra amounts paid toward principal. 

Using this tool, I entered my current interest rate and loan terms.  I analyzed the impact of the extra payments I have been making toward principal each month.  Then, I entered a 15-year term but with a lower interest rate. 

I compared the total interest expense with my current rate vs. a lower estimated rate.  The difference in total interest paid for my current loan vs. the lower interest rate loan is about $5,000, as long as I continue to make extra payments toward principal.  Closing costs and refinancing fees add up, so I suspect that net difference between the two loans would be much lower. 

As long as I continue making extra payments toward principal, I will accomplish my goal of paying off the loan within 15 years.  The lower interest rate loan would also require a larger monthly payment.  I am not comfortable with that.  With my current loan, I can keep my lower payment amount, giving me some security in the event of a serious financial crunch. 

Lower interest rates can be very enticing.  In the long run, though, you could sacrifice financial peace-of-mind just to save a few dollars.  A careful analysis of your personal situation can help you make the right decision.  If all of this seems overwhelming, we are always here to help.  Your financial advisor is just a phone call away.

Cristy Freeman, AAMS
Senior Operations Associate

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Stock Market Volatility

It’s been a wild week for stocks.  Not only are stocks down roughly 9% from the end of July as of the close of market August 11, but the pathway down has been marked by extreme volatility.  This month we have experienced six of the 200 most volatile days of the past 50 years.  We have had daily losses of 2.5 – 6.6% and have had daily gains of greater than 4.5%.  These losses were kick started with the political wrangling of the debt ceiling, and were intensified with the ensuingU.S.debt rating downgrade by S&P.  The market losses and volatility are leaving many investors uncertain about the state of the economy and their portfolios.  We offer three scenarios to consider – base-case, worst-case and best-case – and their potential effects on the stock market.

The base-case scenario is the one that we consider most probable, and that is continued slow-growth in the near-term, with eventual normal growth resuming in the long-term.  We’ve seen two quarters of slow growth already, 0.4% for the first quarter of 2011 and 1.3% growth in the second quarter of 2011.  Slow growth quarters are historically not useful predictors of recessions.  Given our fragile economy, such slowing may induce the Federal Reserve to engage in more economic-stimulating measures.  We recognize that an offset to these growth stimulators are high, though slightly improving, unemployment, as well as global political and fiscal uncertainty.

Despite a slow-growth economy, corporate earnings are at an all time high, with expectations that S&P 500 earnings this year will be $100 per share.  This puts the stock market at about an 11.5 price-to-earnings ratio, far below its historical average of 15.  For this reason, we don’t see a catalyst for a further, significant, sustained drop in stocks.

The worst-case scenario is another recession.  Reasons for this possibility are well known:  tax uncertainty, high unemployment, nervous consumers.  General panic is not known to cause recessions, though some fear this could become a self-fulfilling prophecy.  Panic does indeed affect stocks however, which is what we are seeing currently.  Stocks are known to be a leading indicator of recessions.  When recessions do occur, the median historical market peak is about 7 months prior to the start of the recession.  But typically once you know you’re in a recession, it’s actually time to buy stocks.  In fact, the recessions of 1953 and 1990 saw stocks go straight up.

The best-case scenario is the resumption of robust growth.  The record corporate earnings may spur business and investor confidence.  There is said to be pent-up consumer demand waiting to be unleashed at the suggestion that theU.S.is still on the road to recovery.  Too, oil prices have come down considerably.  You may recall that just a few months ago high oil prices were a huge concern for the economy, as this necessary product would hamper other consumer spending.  And though theU.S.debt downgrade has spooked the stock market,U.S.treasuries, the very debt that was downgraded, have actually rallied.  This is because, in the end, investors still believe in the strength of theUnited States.

Our Chief Economist, Jim Smith, predicts year-over-year GDP growth of 1.9% for 2011 and 3.9% for 2012.  Whatever the economic outcome over the next few months, we must accept that our economy is a cyclical one, in which we experience recessions and expansions.  Long-term growth of GDP and corporate earnings leads to long-term appreciation of stocks.  Being a buyer and holder of equities gives you the ability to participate in this long-term growth.

We believe that to be a successful investor in stocks you have to accept the volatility, and the uncertainty that surrounds it.  Corrections and bear markets are part of the territory.  As an investor, it’s tempting to believe that you have the ability to guess the timing and direction of stocks, but attempting to do so is hazardous to your financial health.

Harli L. Palme, CFP®

Financial Advisor

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I Bonds Revisited

With interest rates remaining at very low levels, there are few options for earning any sort of a return on cash balances.

 Current yields:

Schwab Bank High Yield Savings                    0.40%

1 Year CD National Average                            0.46%

5 Year Treasury Note                                   1.85%

5 Year TIPS Note                                         -0.32% (plus inflation)

10 Year TIPS Note                                        0.70% (plus inflation)

Series I Savings Bonds                                4.60% (for the next 6 months)

One thing to consider for smaller balances is Series I Savings Bonds (“I Bonds”) issued by the U.S. Government.  The new rates came out May 1, and I was surprised to see that I Bonds are currently earning an annual rate of 4.60% for the next 6 months.  Please refer to my earlier blog posting “How to Make a Little More Money on Your Excess Cash (with a Bit of Work on Your Part)” or visit www.treasurydirect.gov for a more detailed description of I Bond features.

The earnings rate for I Bonds is a combination of a fixed rate, which applies for the life of the bond, and an inflation rate that changes semi-annually (think “I” as in “inflation”). The 4.60% earnings rate for I Bonds purchased through October 31, 2011 will apply for their first six months after issuance. I Bonds cannot be redeemed for 12 months after issuance, and there is a penalty of 3 months’ interest if they are redeemed before 5 years.  Purchases are limited to $5,000 per Social Security Number in electronic bonds and $5,000 in paper bonds, so a couple could purchase up to $20,000 annually.

If you act by October 31, you are in effect creating a 1 year CD with a yield of at least 2.30%.  For the next six months, I Bonds will earn interest at an annual rate of 4.60%.  The inflation rate will then reset.  Since the fixed rate is zero for the life of the bond, the earnings rate for the next 6 months will be the inflation rate.  If the semi-annual inflation rate stays the same at 2.30%, the earnings rate for the next 6 months will also be an annual rate of 4.60%.  In this case, you would earn about 3.83% for 1 year after factoring in the penalty for early redemption.  Even if the inflation for the second 6 months is zero, which is unlikely, you would earn a return of 2.30% over the next year versus 0.46% in a bank CD.

What if there is an emergency and you need the money?  Since you cannot redeem the bonds for 12 months, you need to leave some liquid cash on hand.  After 12 months, a penalty of 3 months’ interest is deducted from the redemption value.  But even after paying the penalty you would still be ahead of a bank CD, and considerably ahead if the change in inflation continues at its current level. In addition, I Bond interest is exempt from State income taxes and is tax-deferred until you redeem the bond.  Also, if you buy the bonds on the last day of the month, you still get interest for the full month.

All I Bonds have the same inflation component.  The only difference is in the fixed rate that each bond offers.  If the fixed rate increases significantly in the future, just redeem some bonds and pay the penalty.  Then buy some new bonds with the higher fixed rate (but remember the $10,000 annual limit on purchases for each Social Security Number).  After 5 years, there is no penalty on redemption. 

Another possibility is a short-term, high quality bond fund.  However, these do carry some interest rate risk.  For example, a popular short-term bond fund has a current yield of 1.41% and an effective duration of 1.85 years.  This means that if interest rates were to suddenly move up by 1%, the value of the fund would be expected to fall by about 1.85%.  This would wipe out over a year’s worth of interest, making it a less attractive alternative for cash balances.

Bill Hansen, CFA

May 13, 2011

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What Does “Fee Only” Mean?

Recently, I experienced the joy of shopping for a car.  I visited a dealership from whom I purchased my last vehicle.  It was an “enlightening” experience. 

By the time the third sales associate walked into the office, I was more than ready to leave.  He attempted to counsel this ignorant girl about the virtues of a lease.  Surely, I could see how fabulous a lease was, how practical it was?  Then, he made a big mistake.  He admitted that the dealership received better incentives for leasing vehicles than selling them outright.  So, whose best interests did he really have at heart? 

When looking at financial advisors, people sometimes ask the same question.  Parsec is a “fee-only” advisor.  That term can be a bit confusing.  Any phrase with the word “fee” in it has negative connotations. 

Our firm’s income is derived from the investment counsel fees we charge.  We do not receive commissions from the trades we place.  We derive no income from recommending a particular fund or other investment.  We do not receive bonuses for referring clients to a particular custodian. 

As a result, a fee-only advisor has the ability to provide impartial advice.  This is reassuring as we learn more every day about unscrupulous brokers pushing bad investments, solely for the big commissions received.

If you are not currently a Parsec client, we encourage you to take a closer look at fee-only investment advisors.  And, if you are a client, thank you for your continued faith in us!

Cristy Freeman, AAMS
Senior Operations Associate

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Bear Market Post-Traumatic Stress Syndrome

The economic turmoil of the recent Recession, and its aftershocks, cut deep into our lives and our psyche. People are still suffering from the recession, which lasted from December 2007 to May 2009, here in March of 2011. Some of it is due to true economic hardship; other of it is due to post-traumatic stress syndrome (PTSS).

I’m not physiologist, and I don’t mean to make light of serious forms of PTSS, but I do believe that many people are suffering from a lighter form of recession PTSS. The smallest market dip has investors jittery, and I’m hearing worries once again of another recession. Investors who were able to withstand the last bear market are not so sure they’re up for it again. One sharp decline and they’re ready to bail out for good.

As an investment professional, I see signs of PTSS in myself. Other investment managers will remember the horrible, wrenching feeling of walking out of the office at the end of the day on any given day Sept 2008 – March of 2009, with the bloodbath that was Wall Street in your wake. Each day, my colleagues would mumble to each other on the way out the door, that we felt that we had just been physically beaten. Just one day of a down stock market brings back a flood of those bad memories.

The trigger for this PTSS is a volatile market. Now the storm is brewing – unrest in the middle East, oil prices spiking, the national debt load, and a hesitant economic recovery. Despite that fact that investors know that the stock market never goes straight up and that periods of decline are normal, it seems that all those invested in the stock market have an unusually itchy trigger finger, ready to sell at the slightest dips. Therefore, it’s worth a mention of the big picture: Investing in stocks is a long-term commitment, and guessing the short-term direction of the market is hazardous to your financial health.

You must choose the amount of your net worth that you are willing to commit to this asset class with this particular risk-return tradeoff. Once you choose, you cannot be shaken by short-term turmoil. Buying low and selling high inherently means that you do not sell, or allocate away from stocks, when the market is going down. It means the opposite, you buy stocks when they are low and economic uncertainty is at a peak. For the average investor it is extremely difficult to add new money during market declines, but at least by keeping your nest egg in place you avoid the money-losing pitfall of selling during a (real or predicted) decline.

Harli L. Palme, CFP®

Financial Advisor

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An Unexpected Windfall

At the start of every new year people make resolutions to lose weight, alter bad habits, or save more money.  While I cannot help you with some of those issues, I can offer a little advice on saving money.

For 2011, the IRS has reduced the employee-paid portion of the Social Security tax from 6.2 to 4.2 percent.  While that may not seem like a large amount of money on a per-paycheck basis, it can add up to a nice sum for the year.  If you earn the maximum Social Security wage limit of $106,800, 2 percent represents $2,136.

Before you grow accustomed to having a few extra dollars in your paycheck, I recommend you implement a plan now.  Here are a few suggestions:

  • Deposit the funds into your emergency savings account.  Everyone needs an emergency savings account.  Opinions vary about the amount.  Some suggest 3 months’ worth of routine expenses.  Other say 6 to 9 months are needed.  
  • If your emergency savings account is well funded, apply the dollars to debt.  You could apply the extra money toward the smallest debt, if you want to experience the rush of the early payoff.  However, you will be financially better off if you to apply it to the account with the highest interest rate.  Reducing debt levels is always a great idea.
  • Fund a Roth IRA if you qualify.  If not, apply the savings to another retirement vehicle, such as your company’s 401(k) or a traditional IRA account.

I recommend that you use automatic bank drafts for any of the above options.  It is a simple way to transfer the funds from your account before you can spend them.  Parsec can assist you with setting up an automatic transfer into your brokerage accounts.

I hope you have a safe, healthy new year and wish you the best of luck in accomplishing your goals!

Cristy Freeman, AAMS
Senior Operations Associate

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2010 Roth IRA and Regular IRA Contributions

The deadline to contribute to your Roth or Traditional IRA for the tax year 2010 is April 15, 2011. You can contribute $5,000 or the amount of earned income for the year, whichever is less. If you’re over 50, you can contribute an additional $1,000.

Your income determines if you qualify for a tax-deductible Traditional IRA contribution, or if you qualify to make a Roth IRA contribution.

Do you qualify to deduct your Traditional IRA contribution?
 If your income is less than the beginning of the phase-out range, you qualify.  If your income is over the phase-out range, you do not.  If your income falls inside the range, you partially qualify.
  Modified Adjusted Gross Income                                          Phase-Out Range
Single, participates in an employer-sponsored retirement plan      $56,000 – $66,000
Married, participates in an employer-sponsored retirement plan      $89,000 – $109,000
Married, your spouse participates in an employer-sponsored retirement plan, but you do not.  $167,000 – $177,000
 
Do you qualify to contribute to a Roth IRA?
Single $105,000 – $120,000
Married, filing jointly     $167,000 – $177,000

 

Harli L. Palme, CFP®

Financial Advisor

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Financial Industry Reform

The banking overhaul bill has passed!  To quote the Kiplinger Letter, “The regulatory revamping cuts a wide swath, giving broad power to Uncle Sam to protect consumers and discourage banks from engaging in risky behavior.”  The main goal of the law is to prevent a crisis like the one experienced in 2008.  Let’s hope the law will act as a warning system when greed and fear creep into decisions being made by financial institutions.  One of the key components is that the Fed now has the authority to seize big financial firms and banks before panic sets in.  The largest of banks will increase their reserves so that they are less likely to crash in economic down turns.  Harry Reid was quoted saying, “Now no bank is too big to fail.”  However, there will always be financial giants that would cause disaster in world markets if they failed.  The new higher capital requirements of the big banks will make lending standards more demanding, which will have a slight drag on the recovering economy.  GDP is expected to be 3-3.5% in 2010.  The big banks will also be required to hold 5% of the loans they underwrite in their own portfolio.  Smaller banks have less capital requirements then big banks, but they could be affected by the reduction in certain fees that can be charged to consumers.  The bill does permanently increase the FDIC insurance to $250,000 per account.  The SEC also gains authority to force corporations to let shareholders nominate candidates for boards.  The bill was not intended to provide investor protection.  However, increased transparency and disclosure by financial firms that could help prevent a meltdown will be good news to investors.

Gregory D. James, CFP®

Partner

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George, I Can Lie About My Age!!

This year, I celebrate a milestone birthday. Let’s just say I am now officially too old to be George Clooney’s girlfriend.

As often happens with milestone birthdays, you reflect about how you imagined your life would be at this stage. Perhaps you had envisioned retiring at an early age. Maybe you wanted to start your own business. Or save tons of money, quit your job, and travel around the world for a couple of years. (Hey, you can dream.)

Then, life happened. You devoted yourself to a career. You bought a home. You got married and started a family. The years go by. You wake up one day and realize you’re that age.

When you first began your journey with Parsec, your goals were just rough ideas of where you thought you wanted to be in 10, 15, 20 years. Now that time has passed, are those goals still the same? Have you been affected by any of these events:

• Started a family
• Sent a child to college
• Lost your job
• Dealt with aging parents

We would also be remiss if we overlooked the extraordinary market volatility of the last two years.  All of the above events can significantly alter your financial plan.

Do you still have the same goals now that you did before these events occurred? Has your “deadline” for achieving those goals shifted? It is very easy in the day-to-day rush to not think about these things. However, it is important to evaluate your financial situation and goals periodically so you can stay on track.

Your financial advisor is here to help you. Together, he or she can review your financial plan and work to keep it in line with your changing life. Just call him or her anytime.

Cristy Freeman, AAMS
Senior Operations Associate

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