Posts Tagged ‘money asap’

That’s OK.  It’s about to start.

Today we’re gonna look at the fun stuff.  What, exactly, can we use to build and keep our wealth.

I’m going to give you three portfolios each using the tools (funds) we discussed last time.  First will be exactly what I tell my 20-year-old to do.  She could care less about investing.  With this simple approach she doesn’t have too.  All she needs to do is to keep adding to the pot and let it ride.  Years from now she’ll wake up rich.  Along the way she’ll out-perform roughly 80% of the more actively engaged investors out there.  We’ll call this The Wealth Building Portfolio.

Next I’ll share with you what Mr. and Mrs. jlcollinsnh do as the semi-retired couple we are.  We’ll call that one The Wealth Preservation and Building Portfolio.

Your personal situation is likely different from ours.  But using these two as parameters, and after reviewing your personal “considerations” as we discussed last time, you should be able to fashion the four tools into something that works for you.  If you have questions just post them in the comments and we’ll work thru them together.

Finally, I’ll share with you an idea I’ve been playing with of late.  Let’s call it The Wealth Building with Cash Insurance Portfolio.  I know I’ve got some pretty sharp investors reading this blog and I hope they’ll weigh in with some opinions on it.

The Wealth Building Portfolio.

Here’s the thing.  If you want to survive and prosper as an investor you have two choices.  You can follow Dr. Lo’s advice and seek out broad diversification with asset allocation.  Your hope is that this will smooth out the ride even as it reduces your long-term returns.

Screw that!  You’re young, aggressive and here to build wealth.  You’re out build your pot of F-you Money ASAP.  You want what’s behind door #2.  You’re going to focus on the best performing asset class in history:  Stocks.  You’re going to “get your mind right,” toughen up and learn to ride out the storms.

You’ve heard the expression, “Don’t keep all your eggs in one basket.”

You’ve likely also heard the variation, “Keep all your eggs in one basket and watch that basket very closely.”

Forget it.  Here’s what your old uncle jlcollinsnh says:

Put all your eggs in one basket and forget about it.  

The great irony of investing is the more you watch and fiddle with your holdings the less well you are likely to do.  Fill your basket, add as you go along and ignore it the rest of the time.  You’ll likely wake up rich.

Here’s the basket: VTSAX.  No surprise here if you’ve been reading along in this series so far.  Stock Index Fund.  Low cost so almost all our money is working for us.

Owning 100% stocks like this is considered “very aggressive.”  It is and you should be.  You have decades ahead.  Market ups and downs don’t matter ‘cause you avoid panic and stay the course.  If anything, you recognize them as the “stocks on sale” buying opportunities they are.  Perhaps 40 years from now you might want to add a Bond Index Fund to smooth out the ups and downs.  Worry about that 40 years from now.

At this point I can see the financial gurus of the world gathering feathers and heating up the tar.  So let me explain.

Previously, we explored the idea that financial crisis are just part of the landscape and the best results come from simply riding them out.  You can’t predict them.  You can’t time them.  Over your investing career you’ll experience many of them.  But if you are mentally tough enough you can ignore them.

So now if we agree that we can “get our minds right” what shall we choose for riding out the storm?  Clearly we want the best performing asset class we can find.  Just as clearly, that’s stocks.  If you look at all asset classes from bonds to real estate to gold to farmland to art to racehorses to whatever, stocks provide the best performance over time.  Nothing else comes close.

Not even close

Let’s take a moment to review why this is true.  Stocks are not just little slips of traded paper.  When you own stock you own a piece of a business.  When you own VTSAX you own a piece of every publicly traded business in the USA.  Many have extensive international operations so you get to participate in the world markets too.

These are companies filled with people working relentlessly to expand and serve their customer base.  They are competing in an unforgiving environment that rewards those who can make it happen and discards those who can’t.  It is this intense dynamic that makes stocks and the companies they represent the most powerful and successful investment class in history.

Because VTSAX is an index fund we don’t even have to worry about which will success and which will fail.  It is ‘self cleansing.’  The failures fall away and the winners can grow endlessly.

A portfolio of 100% stocks, which is what VTSAX gives you, in study after study provides the greatest return over time.  The only downside, and I mean only, is that the ride will be very rough at times.  Admittedly, it’s a big one.  If you are not tough enough to stay the course, if you get scared and bail when the storms are raging you are going to drown.  But that’s a failure in you, not a downside of this asset class.

As an aside, there are a few studies that indicate that a 80%/20%, stock/bond mix will actually outperform, very slightly, 100% stocks.  It is also slightly less volatile.  If you want to go that route and take on the slightly more complicated process, you’ll get no argument from me.

Could it really be this easy?  Yep.  I started investing in 1974.  At the time VTSAX had yet to be created (Bless you Jack Bogle!), but just $15,000 invested in the Dow stocks, and left to ride, by the end of 2011 would be $1,000,000. This despite all the panic and collapses and recessions and disasters that we’ve endured during these last 38 years.  Imagine what you’d have if you’d kept adding to the pot along the way.

Unfortunately, I wasn’t smart enough at the time to do it.  But this is the “Simple Path to Wealth” I created for my then 19-year-old daughter:  Put all your eggs into one basket, add more whenever you can and forget about it.  The more you add the faster you’ll get there.  Job done.

The Wealth Preservation and Building Portfolio.

But wait you say, I’m at or nearing retirement.  I’ve built my wealth.  Now I want to hang on to it.  I want a smoother ride.  What then?

Yeah, me too.  A few years ago as I was nearing my own retirement I made some additions to VTSAX.  Hold on now, this is going to get really complicated.  You’re going to have to add two more index funds.  Oh my!

We now enter the world of Asset Allocation and this will require slightly more of our time.  In addition to adding the additional funds we’ll want to decide how much to allocate to each.  Then once a year or so we’ll want to rebalance to keep the allocations where we want them.  This is also what you’ll be doing if you use the 80% stock/20% bond mix option above.  It’s going to take a couple of hours once a year.  You can handle it.

100% stocks, even in the broadly diversified VTSAX is considered very aggressive.  High short-term risk (read: gut wrenching drops) rewarded with top long-term results.  Perfect for those who can handle the ride and have the time.

But it’s not for everybody.  Maybe you don’t want to deal with this level of risk.  Maybe a bit more peace of mind is required.  As you get older you might want to smooth the ride a bit, even at the cost of lower overall returns.   You have to sleep at night.

Now that I’m kinda, sorta retired and we have F-you Money, me too.  My wife and I hold some other stuff in our portfolio.  But not much.   Here it is:

50% Stocks.  VTSAX (Vanguard Total Stock Market Index Fund)  Still our core holding for all the reasons we’ve discussed.

25%  Real Estate.  VGSLX  (Vanguard REIT Index Fund) and the equity in your home if you own one.  REITs (Real Estate Investment Trusts) invest in real estate.  They provide an inflation hedge and dividend income.  But during periods of deflation real estate prices plummet.

REITS are the Ying to our Bonds’ Yang.

20%  Bonds.  VBTLX (Vanguard Total Bond Market Index Fund) Bonds provide income, tend to smooth out the rough ride of stocks and are a deflation hedge.  But during times of inflation and/or rising interest rates they get hammered.

5%  Cash.   Cash is always good to have in hand. Cash is also king during times of deflation.  The more prices drop, the more your cash can buy.  But idle cash doesn’t have much earning potential and when prices rise (inflation) its value steadily erodes.

We mostly keep ours here:  VMMXX.   Money Market Funds used to offer higher yields than banks.  When rates rise they will again.  These days, with interest rates near zero, not so much.  Now we also keep some in our local bank.  If you prefer, an on-line bank like ING works fine too.

So that’s it.  Four simple tools.  Three Index Mutual Funds and a money market and/or bank account.  A wealth builder, an inflation hedge, a deflation hedge and cash for daily needs and emergencies.  Low cost, effective, diversified and simple.

You can fine tune these investments to your own personal considerations.  Want a smoother ride?  Willing to accept a lower long-term return and slower wealth accumulation?  Just increase the percent in VBTLX. Comfortable with volatility?  Want more growth?  Add more to VTSAX.  Expecting higher inflation?  Add more VGSLX .

The Wealth Building with Cash Insurance Portfolio.

Confession time.  I hate bonds and I’m not all that keen on REITs either.

The more I own of them the less I own of stocks and, as we’ve discussed, stocks are far and away the best performing asset class.  So, each dollar not in stocks is a dollar working below par.

Dollars in cash are completely lazing away in the sun drinking Pina-coladas.

Since I consider these dollars are my slaves I want them working full time all the time.

Problem is sometimes (to beat this analogy to death) financial panics and market collapses come along and kill off a bunch of my slaves working away in the stock market fields.  It’s nice then to have others less stressed to pull from the bond and REIT fields to take their place.  But still, even these tend to get wounded in a collapse.

The cash slaves on the beach their feet up in the lounge chairs, slathered sun tan oil and sipping cool drinks get fat and steadily worth less.  But when collapses come they are away from the bullets.  They are the most rested of all when I put them back to work.  Their laziness drives me crazy but when the crunch times come I always wish I had more of them.

Let’s look again at the The Wealth Preservation and Building Portfolio above, figuring we have a million in it:

  • 50% of our dollars in the stock fields working full tilt in the hot sun.  500k
  • 25% with easy duty in the REIT fields.  250k
  • 20% with really easy duty in the bond fields. 200k
  • 5% napping in the sun on the cash beach. 50k

You could easily pull about 4%/40k from it each year for your living expenses and ride out most financial storms.  But you are giving up a big slug of wealth building potential.  Since most financial storms last less than three years, maybe there’s a better way.  What if we did this:

  • 88% of our dollars working full tilt in the hot sun.  880k
  • 12% napping in the sun on the cash beach. 120k

Since most of the time the market goes up, this portfolio will have a far stronger ability to build wealth.  We can draw our 40k from the dividends and capital gains our stocks in VTSAX throw off.

When times get tough and stocks slide, we leave VTSAX alone and let it heal.  With a 120k/three year cushion in cash we can pull those dollars off the beach to spend in the meantime.

When times improve we go back to tapping VTSAX and we rebuild our cash position for the next cycle.

Mmmm.  I haven’t convinced myself just yet.  What do you think?

Disclaimer:  Like everything on this blog, this is only sharing ideas.  You are solely responsible for your own choices.