My Retirement Blog

I always thought of investing in collectibles such as wine, scotch, or art, as something the fantastically wealthy did as they played polo on their front lawn and retired to their private libraries to smoke their fancy cigars. That got me thinking for a moment and wondering if investing in collectibles is something that the general public should start doing… then I came to my senses.

You Don’t Understand It

You should not invest in art because you probably don’t understand it. I studied art history for one year in high school and the only thing I learned as that you had to be the first to do something. You had to be the first to use cubes to represent people (Picasso) if you wanted to be famous. You had to be the first to repeat images and make them crazy colors (Warhol) if you wanted to be famous. You had to be the first to draw vertical and horizontal lines and start coloring them in with primary colors (Mondrian) if you wanted to be famous. Are you seeing a trend? You have to be first and lucky and even then there was no certainty for the artist him or herself! So you want to invest in it? If you don’t understand it, you can’t possible make money in it.

Probably Too Expensive & Limited Demand

Do you really want to put a few thousand (or even a few hundred) on a collectible with a limited demand? The stock market is hard enough and there are millions of people at any moment willing to buy your stock from you. The collectible market is even less fluid and so you run the risk of never finding a buyer for your great artistic find.

They Do It For Fun

When the fantastically wealthy invest in art or scotch or wine or whatever, it’s more for entertainment than it is as an investment. Regular people compare cars and the number of bedrooms and bathrooms in their homes, fantastically rich people talk about how they paid $5,000 for a bottle of this limited edition wine from some obscure place that no one else has.

Don’t invest in collectibles.

A Lifestyle Fund and a Life-Cycle Fund are two totally different types of mutual funds, despite the presence of “life” in both of their names. In fact, they are so radically different that to invest in one when you meant the other could be classified as a very bad move.

Life-cycle Funds

Life-cycle funds, or target-retirement funds, are mutual funds that have a future target date and adjust its own risk profile from aggressive to conservative as the date approaches. They’re most popular when used in conjunction with retirement, and first introduced with that in mind, but any target date will work (such as children’s educational expenses). The idea is that when the date is far away, the fund will be more aggressive and have a greater share in stocks. As the date nears and income generation and capital preservation as more important, it’ll shift more and more into safer investments such as bonds and commercial paper.

Lifestyle Funds

Lifestyle funds are like a snapshot in time of life-cycle funds. Lifestyle funds are often known as target-risk, meaning they match the risk profile of the investor (or rather the investor selects the lifestyle fund that matches his or her risk profile). Aggressive investors will want an aggressive lifestyle fund, conservative investors will want conservative lifestyle funds, and the lifestyle fund won’t change its risk profile as the investor ages.

As you can see, lifecycle does not equal lifestyle… and you could be in trouble if you pick lifecycle when you meant lifestyle.

Have you ever wondered if our recession, the one we’re invariably in right now regardless of what the numbers may say, will become something worse - a Great Depression? Since I am not an economic scholar and wasn’t alive during the Great Depression, I’m not qualified to even have an opinion as to whether the economic woes of today will result in an economic collapse tomorrow. However, Ben Stein, now known most notably for his television and movie appearances and not as a White House lawyer and valedictorian of the graduating class of 1970 of Yale Law School, doesn’t think so. According to Stein, the reason we won’t go into a Great Depression is because the Fed is trying to stimulate the economy rather than stifle it. Back in the pre-Great Depression era and again in the 1970s and 1980s prior to the worst post-war recession, the Fed was trying to slow economic activity and thus overshot its mark.

So, what does Stein advise?

If you have a good, long time horizon, it’s time to buy European stocks, emerging markets, even our own market. But don’t let yourself get short of liquidity. If you have a few years of cash and bonds on hand, get some stock now while there’s blood in the streets. The good times will come back when you least expect them.

I don’t buy the fears that a recession is on the horizon but Morningstar’s recent article on how to recession proof your portfolio is valuable regardless of the economic future. Their tips of buying, not selling on a gloomy forecast, dollar-cost averaging, saving, and diversification analysis are important no matter what. That being said, given the forecasts of doom and gloom, the importance of those tips is magnified.

Most important of those tips is the first one, buying and not selling on bad news. The reaction of the market is to over-react on bad news and if your decisions were sound to begin with, the current outlook should have no effect on your long term decisions. If you’re close to retirement, you shouldn’t be in risky positions anyway so with your conservative choices you should be fine in the long haul. Now, given the probably over-reaction of the market, their advice of buying now is something everyone should consider. If you do the analysis and see a sound basis for your investment, a little short term panic is actually like an after-Christmas sale - you get value at a cheaper price because everyone else is freaking out.

As you grow older, your ability to tolerate the stresses of a bear market increase. That’s the main thrust of an article by Money and it’s both a benefit and a drawback. Neuroscience has shown that as you age, the amygdala, the part of the brain that signals fear and anger, starts to shrink. In fact, when shown disturbing images, those in their twenties are show brain waves that are three times as intense as those in their sixties and seventies.

What does this affect retirees? It means that your checks in balances may be out of sync as temptations aren’t kept in check by fears. Teaser rates on credit cards are considerably more tempting, riskier investments sound much better than they would twenty years ago, and your submission to impulses rank up there next to teenagers.

Who cares? You’ve lived a prudent life, why not splurge a little? Splurge all you want within your means but these changes in your brain also affect your ability to sniff out frauds and scams. Don’t answer a cold call, no matter how tempting or gauranteed it may sound. Find someone you can trust to bounce ideas off, get a trusted financial advisor to guide you through the chaff. Don’t let the scammers and charlatans take advantage of your good nature.

Money magazine has an interesting article about how the recent Fed rate cut language indicated that the Fed was more interested in fighting off a Recession than keeping inflation at bay, which was something it had always had its eye on. When the Fed lowers rates, it does so because it wants to spur growth and it thinks that the growth can be controlled enough that it won’t result in inflation. The Fed started to raise rates the last couple of years because it felt growth was strong and that inflation was a concern, so it increased the borrowing costs and reigned in business growth. It’s a complicated way of saying that when the Fed lowers rates, the risk of inflation goes up and business growth goes up as well. When it lowers rates, risk of inflation goes down and business growth stagnates (in general, specific industries have industry forces at play).

So, the recent rate hike is a concern for retirees because that means the price of goods is likely to go up with inflation. Inflation is the number one concern for anyone on a fixed income, most notably retirees. A recession is also bad but Money magazine makes a great point: “the typical recession has lasted 18 months on average (not including the Great Depression), inflation can dog your finances for a long, long time.”

What can you do?

Position your portfolio so that you can handle inflation as well as capital preservation. By this, they mean that you should be conservative but not too conservative. Treasury bonds don’t yield enough to be worth it, so you’ll want to get into a mix of stocks and bonds to give you a chance against inflation. “Real estate investments, such as REITS or real estate funds, typically perform the best of all types of investments during times of high inflation. But like stocks, they also carry a significant risk of short-term loss.”

It’s tough to know exactly what to do but I think that understanding that the specter of inflation is out there is better than not knowing.

The idea behind diversification is a simple one - spread your investments out to a bunch of different industries such that if a downturn hits one, you aren’t entirely exposed. That’s the simple explanation and it’s trying to distill a more complex topic that requires a bit of explanation to fully understand. This post will have no math in it, to warn you, but it will explain some ideas that sound a lot like math.

The idea behind diversification is actually designed to maximize your returns given your level of risk. When experts advise you to spread out your investments, what they’re really advising you to do is put it in investments that have a low covariance with each other but they’re saying it in plain simple language. Covariance is a statistical measure used to calculate how closely two particular investments move with one another. A high positive covariance means that when one goes up, the other goes up just as much; a high negative covariance means that when one goes up, the other goes down just as much. You don’t want either, you want two investments that have low (positive or negative) covariances.

So, when you diversify, be sure to check the covariances of your investments because if you pick the wrong ones, your diversification strategy may not help you as much as you think.

If you wanted to retire in 40 years on $5,000 a month (2007 dollars), how much would you have to save each month right now? The answer may surprise you.

I just wrote up a post on Blueprint for Financial Prosperity about the differing performance returns of index funds, specifically a Vanguard and a Fidelity S&P index fund, that may be of interest to folks who invest in index funds as a component of their retirement investing strategy. The jist of it was that not all index funds are the same because their reaction times to index changes are different but that that knowledge is, unfortunately, useless because you can’t make any decisions based on it.

Given a choice though, I’d go with the fund with the lower fees every single time.

If you’re getting close to retirement and are a little slim on the retirement funds, do not try to compensate by ratcheting up your risk in an attempt to catch an up-swing as a means of catching up. First, don’t worry, you are hardly alone if you’re a little behind in your latter years. Second, the emphasis of your retirement plan should be on saving more. By creating a larger balance, you allow more reasonable rates of return, coupled with reasonable risk, to take over and get you where you need to be. Risk has a funny way of burning you when you least expect or can afford it, so avoid taking too much risk so close to retirement.

Now, if you’re a few years away from retirement, one alternative is to work a few more years so that your retirement savings can grow to where they need to be. A few more years of work means a few more contributions to your retirement savings, a few more years of the balance growing because of your investment choices, and a few more years for you to figure out what it is you want to do with your new free time.

Lastly, after you take advantage of the catch-up provisions in accounts like a Roth IRA, you might want to push the envelope on your investments and maybe put a little more in stocks than the general consensus. Don’t pick a hot new biotech to plow all your money into, that’s just straight stupid, you can’t afford to lose that money; but you can put a couple more percent into that index fund and maybe catch up that way. Don’t go crazy though!