Monthly Archives: September 2016

Tips for Student Debt Imperils Retirement Savings

You can add retirees and retirement savers to the growing list of Americans who must tackle the rising amount of student debt as they try to save for retirement. There is now more student loan debt than credit card debt, and this trend doesn’t seem to show any signs of slowing. Even more disturbing is the growing number of retirees who still carry student loan debt. Those who face this dilemma are at an increased risk of not only outliving their assets, but also facing a shortfall in their retirement savings as they are forced to put more money towards debt payments.

Retirees Have More Student Loans Than Ever
A 2017 report from the Consumer Financial Protection Bureau (CFPB) showed that borrowers over age 60 carry about $66.7 billion in student loan debt. Back in 2005 over 700,000 senior households were responsible for student loan debt, but that figure quadrupled by 2017 to 2.8 million people. And according to the CFPB, this age cohort is growing the fastest when it comes to segments of the population with student loans to pay off. Student debt among retirees may be left over from efforts to finance their own education, but many people are also taking on debt to provide an education for their children or grandchildren.

Also worrying is the fact that senior borrowers are much more likely to default on their loans than younger households. Just over 10% of borrowers ages 25 to 49 default on their loans. The default rate for seniors is 27% and over 50% for borrowers age 75 and above. And those in this category who default on their loans may find themselves facing a difficult dilemma.

The federal government has the authority to collect unpaid loan payments after 425 days from the due date by seizing tax refunds or garnishing wages or other income. Social Security benefits can also be garnished with short notice to the debtor. And this type of offset has grown by an astonishing 500% since 2002, with the number of garnishments rising from about 6,000 to 36,000 in 2013. The amount that can be garnished equals the lesser of the excess above $750 or 15% of the monthly benefit, but that can be enough to substantially disrupt the budgets of many senior households. This can also severely impact their credit scores, which can prevent them from saving money by refinancing their homes or consolidating their debt.

Starting out With Student Loans
College graduates who start with large student loan balances can also handicap themselves financially. Although this is often unavoidable, large loan payments can deprive young borrowers of the ability to begin saving for retirement and buying a house. And, of course, this is the best time for them to do this because their plans and accounts will have decades to grow. Although student loans may be a student’s only alternative when it comes to paying for college, they come with a high opportunity cost that can stretch out over their lives.

The Center for Retirement Research at Boston College has created a mathematical measure that quantifies how well Americans are prepared for retirement called the National Retirement Risk Index (NRRI). This index uses information culled from the Federal Reserve’s survey of consumer finance. The information reveals that the average household carried about $31,000 of student loan debt in 2013, and just over half (about 56%) of all Americans have a substantial chance of running low on funds during retirement. While this finding does not create a definitive lineal relationship between student loan debt and retirement security, the financial effect of making student loan payments for 20 years after graduating from college can be easily seen.

For example, a college graduate who owes $60,000 in student loans at 3% interest will have to pay $332.76 per month for 20 years to get that paid off. If that amount was instead diverted into a Roth IRA that grows at 6% for that same time period (with no further contributions after 20 years), then the student would have almost $600,000 of tax-free money by age 65. No poll or study is necessary to see the enormous impact that student loan debt can have on a borrower’s retirement preparedness.

The Reasons Why Investors Need to Focus on the Long Term

One of the biggest differences between individual investors and professional portfolio managers is how they view performance. Individual Investors tend to overvalue short-term performance, placing too much emphasis on one, three and five-year returns. Professional portfolio managers place most of their analysis on seven to 10-year periods, since they coincide with a full market cycle. This is a marked difference and it can greatly change long-term results. To view how significant the differences can be, let’s take a look at 20 years of past performance.

Short-Term Performance
We will start by looking at the diversification chart below, which shows how various asset classes have performed. (The S&P 500 is represented by the category large growth stocks). Notice that over the short-term, during 1995-1999, the large growth stocks category grew approximately 38%, 23%, 36%, 42% and 29% per year. Monetarily, if you had invested $100,000 in 1995, by the end of 1999 you would have had $407,078. Many individual investors reaped such rewards and in 1999 they focused on the previous one, three and five-year time periods, making their performance look stellar, which enhanced their investing conviction and increased their expectation of their future results.

However, the years ahead, 2000-2002, proved to be quite a different story. The $407,000 that was earned during the previous five years would lose $226,000 during the next three years to become just $181,000 by the end of 2002. While this is just one simple example, you can run such analysis over many three to five-year periods which will yield similar results. What this tells us is that paying too much attention to short-term performance can skew your long-term investment strategy, which can lead individual investors to overvalue “trendy” asset classes, therefore increasing their risk and reducing their return.

A Closer Look
Let’s dig a big deeper into the 1995 to 2002 story to see how choosing a proper time period for performance evaluation can influence results.

Below is a chart of the tremendous short-term performance of the S&P 500 during 1995-1999. The blue is the S&P 500 and the red line is a multiple asset class portfolio consisting of U.S. and foreign equity, U.S. and foreign bonds, commodities, real estate, precious metals and natural resources. As you can see, the S&P outperforms the globally diversified portfolio 241.61% to 86.66%, leading many to claim in 1999 that diversification was no longer necessary.

However, long-term investing is not a five-year story, so let’s look at how the two investing styles faired when we add a few more years of data. During 2000-2002, the S&P lost -37.16%, while the globally diversified multiple asset class portfolio actually grew 15.10%. Maybe asset class diversification isn’t dead after all.

Global Diversification
Let’s put all the data points together and see what we get. Over the entire time period, from 1995 to 2002, the globally diversified portfolio outperformed the S&P 500 107.66% to 86.12%. Further, the globally diversified portfolio accomplished this using much less risk and with much less volatility. As you can see, the performance of a portfolio can significantly change when viewed over the proper time period. When individual investors focus on one, three and five-year time periods, they are prone to basing decisions off of incomplete data.

To further illustrate this point, let’s look at how the S&P 500 would have fared against a globally diversified multiple asset class portfolio from 1995 until today. The data below teaches us an important lesson. The diversified portfolio returned 578.69% (with much less risk and volatility) while the S&P 500 returned 343.08%. But like today, many investors during the bull markets of 1995-1999 lost their way and traded in a prudent long-term strategy for short-term mania. This caused many individual investors to take on excess risk while simultaneously suffering long-term under-performance.

What’s most fascinating is that you can repeat this study, using just about any set of 15-year data and the results will look very similar. This evidence showcases the wisdom of globally diversified investing and it’s what makes the mindset of the professional portfolio manager much different than that of the individual investor. It’s this mindset that ultimately leads to the success of the long-term approach, even in the face of short-term uncertainties. So the next time you are tempted to analyze your investment strategy using a one, three or five-year approach, be sure that you put those results in their proper context before making any long-term strategic decisions.

Tips To Cover Your Assets With Life Insurance

Life is full of events—planned and unplanned, good and bad—that can have a major impact on our lives, financial plans and budget. Few events, though, will have more of an impact on a family than the death of a loved one. I cannot tell you how many people I have written life policies for that initiated them because they know someone who lost a loved one who was uninsured and now the survivor is scrambling to cover funeral expenses while trying to figure out how they will survive without the deceased’s income and presence. Not only is there an immeasurable emotional toll, but the financial impact can also be just as devastating. That’s why it’s so important to cover your assets. (For related reading, see: 5 Ways to Make Sure You’re Not Over-Insured.)

How to Protect Yourself
One of the most effective ways to cover your assets (family and finances) is to acquire the right type and amount of life insurance. Many of us don’t like to think or talk about death. Let’s face it … it is an uncomfortable topic so we sweep it under the rug or put off that sort of planning. Discussing mortality isn’t pleasant, but it is one the most important aspects of financial planning and shouldn’t go unexamined.

Approximately 35% of American families are headed by a single parent and 72% of black families are single-parent families. I am included in those statistics. I have custody of my daughters, so what if I passed away? How would my family continue to maintain and survive without me? Married couples and significant others share a similar dilemma. Let’s take a look at the different types of life insurance and how having it can help us during one of life’s most emotional times.

The easiest and most cost effective type life insurance to acquire is group insurance that is provided by an employer’s benefits package. Typically, it costs a few dollars per pay period and is a multiplier of one’s annual salary or income. For example, if I made $50,000 a year, I could elect coverage at my salary or pay incrementally more for twice or three times my salary. The downside to group insurance is that it goes away when we leave our employer. Some group policies are transferable when we separate from an employer, but it becomes at a much higher cost because it is then based on one’s individual age and health status.

Another form of protection is individual term life insurance, which is probably the most practical and cost-effective way to acquire life insurance. Term insurance is purchased to cover us over a certain period of time, for example for 10, 20 or 30 years. With term insurance, the cost, or premium, is based on one’s age and health status, but in most cases it can easily fit into your budget. The younger you are, the cheaper all life insurance is to buy, especially a term policy. So, if you are in your mid-20s to early 30s and don’t currently have a term policy, then this should be high on your list of priorities.

Whole or Permanent Life Insurance
Another form of life insurance is whole or permanent life. These policies are much more costly, especially if you look into getting a policy when you are older, but this type of policy is meant to cover you for your entire life. An added bonus is they have built- in living benefits, such as cash value. As you pay your premiums, equity builds up within the policy, similar to equity building in a home as you make your mortgage payments. So you are able to tap into the cash value for emergencies or as needs arise—similar to a line of credit—as a living benefit.

Ideally, I suggest having both a whole life and term policy concurrently when you are younger and have a young family. You would employ a larger amount to cover things like future college costs, income replacement for a surviving spouse or significant other and possibly pay-off a mortgage. To complement the term policy, you could have a smaller $50,000 to $100,000 whole life policy. This is beneficial because the whole life policy is still yours 40 years later; it’s there to cover one’s final expenses. By then, the kids are grown and gone, home is paid for and you have savings accumulated for the survivors.

We spend our entire working lives earning and saving money, investing for different goals and hope to leave a legacy for our children. One of the worst things we can do is to risk losing our hard work by not insuring or under-insuring ourselves, leaving our families behind to struggle financially on top of the emotional scars. You want to make sure you are protecting your loved ones sufficiently by covering your assets.

Should You KNow About Six Things Bad Financial Advisors Do

A good financial advisor can add tons of value to your financial well-being and can enhance your quality of life. “Good” can be a subjective term, in this case good denotes someone who is qualified to help you and whose personality gives you the confidence to follow their advice.

In evaluating the latter, here is a list of six things financial advisors do that might mean that they’re not the right advisor for you.

They Ignore Your Spouse
While this can occur with both male and female advisers and the ignored spouse can be either the husband or the wife, most accounts of this type of behavior tend to be with male advisers all but ignoring the wife. There have been several accounts of widows leaving the adviser who served them while married for just this reason. If you are working with an advisor who ignores you, insist to your spouse that you switch advisors, any advisor worth their salt should be upfront that he or she serves the interests of both spouses equally.

They Talk Down to You
Not all clients are financially sophisticated, or for that matter, even take an interest in their financial affairs. Still, it’s the duty of the advisor to explain to you why he suggests a certain course of action or a particular financial product in a fashion that makes sense to you. If this isn’t the case be assertive or switch advisors and never let anyone you are paying talk down to you or make you feel stupid.

They Put Their Interests Before Yours
This is perhaps most common in dealing with financial advisors who are compensated all or in part via commissions from the sale of financial products. Are they recommending mutual funds, annuities, or insurance products that pad their bottom line but might not be the best product for you? You need to ask questions and understand how your advisor is compensated and if this results in conflicts of interest for them in advising you.
They Won’t Return Your Calls or Emails
A good financial advisor is probably busy, but if you are not important enough to them to rate a response in a reasonable amount of time this isn’t right. While most advisors can tell a story about a client who calls every day my experience is that most clients make reasonable requests and deserve a prompt reply to their questions. If someone who you are paying to provide you with financial advice won’t reply to your calls why keep paying them?

They Suggest That You Don’t Need a Third-Party Custodian
Can you say Madoff? If you ever find yourself in a meeting with a financial adviser who suggests that you shouldn’t have your account with a third-party custodian such as Fidelity Investments, Charles Schwab Corp. (SCHW), a bank, a brokerage firm, or some similar entity your best move is to end the meeting, get up, and run (don’t walk) away. Madoff had his own custodian and this was a centerpiece of his fraud against his clients. A third-party custodian will send statements to you independent of the advisor and usually offer online access to your account as well. Ponzi schemes and similar frauds thrive on situations where the client lacks ready access to their account information.

They Don’t Speak Their Mind
An important aspect of a healthy client-financial advisor relationship is honest and open communication. This goes both ways. Clients might express a desire to make a particular financial move or to invest in a particular stock or mutual fund to the advisor. A good advisor will tell the client if he disagrees with this suggestion if that is the case and the reasons why they disagree. To not do this is doing the client a huge disservice. At the end of the day it’s the client’s money and they can do with it what they wish. But a good financial advisor will never tell a client what they want to hear just to keep earning fees or commissions from them.