MIKE: Good morning and thank you for listening to Decker Talk Radio’s Protect Your Retirement. A radio program brought to you by Decker Retirement Planning. This week we’re discussing credit risk and market risk and how it can affect your retirement plans. The comments on Decker Talk Radio are the opinion of Brian Decker and Mike Decker. [MUSIC]
MIKE: Good day everyone. This is Mike Decker and Brian Decker on another edition of Decker Talk Radio’s Protect Your Retirement on KVI 570 Greater Seattle Area, and KRNS 105.9 FM Radio in the Greater Salt Lake Area. We got a great show lined up today, Brian. Let’s get started. We’re going to talk about credit risk as a segue from last week. Brian, how does credit risk really affect retirees with their planning?
BRIAN: Yeah, let’s talk about why it’s so difficult to be retired right now. We have low interest rates, we have credit risk, interest rate risk.
BRIAN: And we have banks and brokers telling you to put your safe money in bond funds. So we’re going to expose the fallacy of that right now. Banks and brokers have an asset allocation pie chart strategy that’s totally fine in your 20, 30s and 40s where you put all your money at risk. Mike, remember why they put all their money at risk?
MIKE: Well, it’s in the broker’s best interest because that’s how they get paid.
BRIAN: That’s how they get paid. They get paid to keep your money at risk.
BRIAN: So several managers of people that I know in the business, growing up in the brokerage firms would stop by and say, “We get paid to keep our clients at risk. That’s how we get paid.” So we want to make sure that you know we don’t like the asset allocation pie chart; not in retirement. Not over 55 years old. When you’re over 55 years old you’ve got to change to a distribution plan. Let me give you some common sense reasons why.
BRIAN: So, number one there’s something called the rule of 100 that says that if you’re over… let’s say that you’re 65 years old. The rule of 100 says that you should put 65 percent of your money in bonds or bond funds. If you’re 70, 70 percent of your money in bonds and bond funds. Now we’re with the idea to keep money safe and to lower risk. We’re all over that. But, with today’s interest rates at or near record lows, the rule of 100 says that you should put 65 percent of your money earning almost nothing.
BRIAN: And then when interest rates go up you lose principal. For example in the ten year treasury yield history of over 100 years we’ve only gone below two percent once before and that was in the 1940s. Last year we hit an all time record low on the 10 year treasury yield; hit 1.6 percent, right now we’re about 2.1.
BRIAN: So we are at or near all time record lows. And when, not if, when interest rates do go back up people lose money in bond funds; just like two plus two is four, bond funds lose money when interest rates go up, period. One little tidbit of information before we talk about why we believe it’s financial malpractice to be recommending people put 60, 65, 70 percent of people’s money in bonds and bond funds.
BRIAN: There’s a very tight correlation between the CPI, the Consumer Price Index, and the monetary base, the money supply. This is what the FED prints and puts in circulation. So from 1969 to 1975 the FED printed what used to be a lot of money. And although not at first, the monetary based kind of wiggled around and then… I’m sorry, the CPI; the interest rates kind of wiggled around and then they skyrocketed in the late ’70s, early ’80s.
BRIAN: It took Paul Volcker to get in front of that; the cigar smoking FED Chairman. Mike you don’t remember him, but he was quite the figure. Very authoritarian and he got people’s attention. He proactively brought interest rates down and the CPI and the monetary base were back to normal until 2008. That’s when we see a spike, a hockey stick spike called TARP QE1 QE2. The monetary base went straight up because we started printing money.
BRIAN: And interest rates haven’t responded yet but they will. And when they do, when interest rates eventually do go back up, we have a major problem for the people who listened to their advisor; their bankers or brokers, who listened to their advisor and told them to put their safe money in bond funds. Now when interest rates go up your CDs, bonds, any fixed instruments will have their maturity and you’ll be fine.
BRIAN: It is bond funds; F-U-N-D-S. It’s bond funds that we’re telling you is not where you should have your safe money. Any one of you that is out there Decker Talk Radio listeners; Mike this would be a good time for them to call because what are they going to do. What are their options? If you’ve got 50, 40, 50, 60 percent of your money in bond funds and interest rates are this low.
BRIAN: In 1994 the 10 year treasury went from six to eight percent in one year.
MIKE: Yeah.
BRIAN: And according to Morningstar, people lost 20 percent. In 1999 the 10 year treasury spiked up from four to six percent and people lost about 17 percent of their money. If we go from where we are right now at 2.1 percent back to almost four, that would be a hit to principal of just shy of 20 percent on what bankers and brokers are telling you is your safe money.
BRIAN: We have some fantastic alternatives to bond funds. And in fact these are principal guaranteed accounts that have averaged about six, six and a half percent for the last several years.
BRIAN: All right, so let’s continue. We talked about interest rate risk; now let’s talk about credit risk. Credit risk is a risk that your municipal bond portfolio doesn’t mature with all its principal. So municipal bonds are tax free investments; the debt of municipality and they’re ability to pay that principal upon maturity is called Credit Risk.
BRIAN: Right now, 49 out of 50 states have taken on pension obligations they can’t possibly pay back. There’s only one state that’s in the black right now and that’s South Dakota. So with fracking they put them in the black. And things are so financially good for South Dakota that they two years ago took a vote on a referendum to possibly get rid of their state income tax because they didn’t need the money. All the other 49 states have… sorry, are in a train wreck type situation where they may have compromised the ability to pay back principal on some of the municipal bonds.
BRIAN: What we are not saying at Decker Retirement Planning is that all municipal bonds are going broke; we’re not saying that. But we are saying that since 2008 the nature of the risk has changed when it comes to your municipal bonds. Now we’re going to give you a freebie here and give you some very valuable information, Decker Talk Radio listeners and so we want to make sure that you jot a note on this. You get your monthly statements from your bank or your brokerage firm.
BRIAN: And when interest rates are this low, if you’ve got a three, four, or five percent coupon municipal bond; those bonds should be trading at 109, to 112, somewhere in there, depending on its maturity. If you have any of your bonds with a coupon price, of a coupon of three, four or five percent and they’re trading below par which is 100.00. I hope you pick up the phone and sell it. That sounds rash but here’s where we’re coming from.
BRIAN: Over the last decade we’ve been giving this experience to people; the people who called their broker were talked out of it because their broker wants to justify why they sold them that bond. And they lost big time because three, about three years ago Puerto Rican issues started to break par. We told people to just sell them. The people who did that saved them many thousands of dollars because those bonds… Now we know today that Puerto Rico is broke and those bonds are trading at 20 to 25 cents on the dollar.
BRIAN: Remember this is supposed to be your safe money in retirement. Bonds are supposed to be your safe money. So, if you look at your portfolio and find that any of your municipal bonds are trading below par please pick up the phone and sell them. Municipalities right now that are breaking par; there are some in Connecticut, Vermont, New Jersey, New York, Illinois, and California.
BRIAN: So those, there’s some municipalities that are trading below par where the problem is just going to continue to get worse in our opinion. So we’ve talked about interest rate risk, we’ve talked about credit risk. Now let’s talk about the… well actually there’s a great article from, gosh I got to think of his name Mike. Who’s the guy that used to work for PIMCO.
MIKE: Bill Gross.
BRIAN: Bill Gross, okay. So Bill Gross of PIMCO; one of the smartest minds in bonds in our time, he used to work for PIMCO, now he works for JANUS. Brilliant man, he is saying in an interview with Barron’s last year in April; he said some important things. He said, “Number one that the central banks around the world and the federal reserve are keeping interest rates artificially low.” Number one. Number two, “It’s unsustainable.”
BRIAN: And Number three, “When interest rates go back people will lose a lot of money.” Number four, “You’re not paid for the risks that you’re taking right now when it comes to bonds.” By the way, bonds are a bubble right now. Because of artificially held low interest rates from the central banks around the world we have the bond market in a bubble as ever big a bubble as the stock markets ever been in, the bond markets in right now.
BRIAN: So the bond market, there’s a flight and a thirst for yield. Argentina; this is biggest, there’s two of them. One is our 10 year treasury is at two point one percent. Greece broke three percent; they’re now at two point nine something on their 10 year treasury yield. Greece has a lot more risk than the United States does and their treasury is trading less than one percent higher or 100 basis points higher than what our is.
BRIAN: That’s not reflective at all of the risks that are inherent in the 10 year Greek bond. But about three weeks ago Argentina who defaults like clockwork every 20, 25 years; they floated a 100 year bond. And it was over subscribed over two times. People around the world are so thirsty for yield that they’re buying garbage like this and they’re paying up for it just to get some kind of yield at all.
BRIAN: Interest rates right now are very, very low. And it’s very difficult to get much of any return on your “Safe Money”.
BRIAN: Ok, we’ve talked about interest rate risk, we’ve talked about credit risk, we’ve talked about Bill Gross and his warning against putting money in bond funds right now. Now let’s talk about the stock market. A lot of people buy and hold in the stock market; why do they do that? Because Fidelity and Vanguard trot out data that say that you should buy and hold your investments.
BRIAN: That works perfectly. It’s a very sound strategy for someone in their 20s, 30s, or 40s where they’ve got an income coming in. Once you retire and you take that last paycheck you’re ever going to take and you take these hits in the stock market every seven or eight years, that is destructive and it’s horrible. It’s toxic advice to tell you in your retirement that you should buy and hold. Let me give you some dates. 2008 50 percent return from October of 07 to March of 09.
BRIAN: Then we’ve got from January of 2000 to March of ’03; another 50 percent decline. So seven years before 2008 was 2001. Twin Towers went down, middle of a three year Bear Market; 50 percent drop. Seven years before that was 1994. Iraq had invaded Kuwait. Interest rates spiked up, the economy stalled, went into recession and the stock market struggled. Seven years before that was 1987; Black Monday. October 19th.
BRIAN: 30 percent drop in one day. Seven years before that was 1980. The ’80 to ’82 Bear Market when interest rates were sky high and the economy was in recession; 46 percent drop. Seven years before that was 73, 74; that was a 42 percent drop in two years. Seven years before that was the 66,67 Bear Market; that was over a 40 percent drop as well. And it keeps going. So it makes no sense to us for someone who’s in retirement; who is 55 years or older and have taken that last paycheck to take these hits every seven or eight years.
BRIAN: And uh, take what, three, four years to recover and then you’re drawing from that portfolio. So you’re committing financial suicide by drawing income from fluctuating accounts. This is a foundational principle at our company; Decker Retirement Planning. We are very math based. And it doesn’t make any sense for you to draw income from a principal or from a-a fluctuating account.
BRIAN: When you do you compromise the gains as the markets go up because you’re drawing money from those accounts. And number two you’re accentuating the losses when the markets go down. And you’re committing financial suicide by doing that. So back to stocks. It makes no sense to us to buy and hold stocks when the markets fluctuate every seven or eight years. And it was March of ’09 that the markets bottomed.
BRIAN: Seven or eight years plus that is about now. Eight years plus March of ’09 uh, places us about now. About now is the time that historically the markets typically roll over for a 30, 40 percent drop. Do you have any downside protection; we hope that you do. Two things we do at Decker Retirement Planning when it comes to the stock market is number one; we point out that stocks don’t trend, they cycle. That’s not semantics.
BRIAN: Stocks don’t trend; they cycle. There’s something called an 18 year cycle chart that you can pull up with google images and you can see that from 1946 to ’64 there’s a nice 18 year Bear Market or Bull Market. And then from ’64 to ’82 the markets were flat; they just chopped; for 18 years. And then from ’82 to 2000; the biggest Bull Market we’ve ever had. And from January 1, ’82… I’m sorry January 1, 2000 to present the markets have been relatively flat.
BRIAN: Yes they’re at all time record highs as we record the radio show right now. However the problem is the markets have been relatively flat. 100 year history of the S&P; the markets with dividends reinvested grows around eight and a half percent. We’ve been growing since January 1, 2000 around half that. So if you’re wondering why it’s so difficult to be retired right now I will tell you.
BRIAN: You are living the perfect storm for retirees. You have the combination of flat market cycles for you’re uh, portfolio. And you’ve got record historic low interest rates. So you’re portfolio ain’t doing what it should in helping you fund your retirement. So we want to point out at Decker Retirement Planning there is some things that we would highly recommend that you do. And that is, switch to a distribution plan. A plan that doesn’t have all of your money at risk.
BRIAN: In fact let’s illustrate this Mike with the two biggest questions that people have in retirement. Mike do you know what those two are?
MIKE: It’s, let’s see hold on. Can I retire and if so how much can I draw from my assets without running out of money before I die?
BRIAN: Those are the two; those are the two biggest questions in retirement. Number one; can I retire. And number two if I can retire; how much money can I draw so that I don’t run out before I die.
BRIAN: By the way, the biggest fear since 2008; that horrific crash, is running out of money before you die for people over 50 years old. It was then, it is still now today. The fear of running out of money before you die is huge. Now before we talk about how we answer those two questions, let’s talk about the bankers and brokers and how they answer those questions. Number one; can we retire? If you tell a banker or broker that you need around 100,000 dollars in retirement.
BRIAN: What they’ll do is they’ll take 100,000 divide it by the riskless rate which right now is around three percent. And they will tell you that you need between three or four million dollars to retire. I’m not even going to ask. I know Decker Retirement Planning radio listeners; I know that you’ve heard this. For decades you’ve been hearing that you need three to four million dollars to retire. We’ll show you that that’s not true. But that’s what bankers and brokers have been telling people for decades.
BRIAN: The second one; how much money can I draw so that I don’t run out of money before I die? That is answered by bankers and brokers; they use a distribution strategy called the four percent rule. The four percent rule, ladies and gentlemen, Decker Talk Radio listeners, the four percent rule is in our opinion the most toxic investment strategy out there. And is responsible for single handedly destroying more people’s retirement in this country than any other piece of financial advice out there.
BRIAN: Here’s who it works. The four percent rule says stocks have averaged around eight and a half percent for the last 100 years. That’s true. Bonds have averaged around four and a half percent for the last 37 years; that’s also true. So let’s be really conservative and just draw four percent from your assets for the rest of your life and that should be fine. The problem with that is it works beautifully. The four percent rule works beautifully when stock market is on an up trend or an up cycle.
BRIAN: As soon as we go into a flat market cycle; ladies and gentlemen not only doesn’t it work, it actually destroys your retirement. Here’s what I mean. Let’s say that we give you all four million dollars and you retired January 1, 2000. The good news is you retired January 1, 2000 with four million dollars. The bad news is the market starts its downward spiral right away. So 2000, ’01, ’02, tough three years, market’s down 50 percent.
BRIAN: But you’re down more than that because you’re drawing four percent a year. You’re down 62 percent on your stock portfolio going into ’03. But the good news is markets double from March of ’03 to October of ’07. But you don’t get all that because in ’03, ’04, ’05, ’06, ’07; each year you’re drawing four percent. And then you take that hit in 2008 of 37 percent plus four and you are finished.
BRIAN: You are done. You can no longer stay retired. And millions of people across this country we witnessed it. The gray haired people had to go back to work. They had to go back to fast food, they had to go to banks, they had to go to Walmart as a greeter, they had to move in with their kids, sell their home. They had to go to plan B because the four percent rule destroyed their retirement. Now the guy named William Bengen, he is the creator of the four percent rule. He came out in 2008 and he said, “That with interest rates this low the four percent rule doesn’t work.”
BRIAN: So do you think that made a difference to the bankers or brokers; heck no. They haven’t missed a beat. Since 2009, they have continued to trot out the four percent rule. So since it’s baseball season let’s summarize how well the bankers and brokers do when it comes to retirement strategy advice. Number one; Strike one, is where they tell you that to use the pie chart which is an accumulation plan.
BRIAN: Totally fine in your 20s, 30s and 40s, but it has all your money at risk. So number one, strike one is to put all your money at risk so that the banker or broker can charge you on everything. That’s not in your best interest, that’s in his best interest. That’s strike one. Strike two is when this astute financial advisor tells you to put your safe money in bond funds. When interest rates are at or near record lows anyone who is telling you to put their safe money in bond funds is committing financial malpractice.
BRIAN: Because I’m going to say the two things same way. Interest rates are at or near all time record lows; that’s true. Interest rate risk is at or near all time record highs; that’s also true. All right, third and final. This is where we hope you get up and walk out. When the banker and broker tells you that they’re going to use the four percent rule; the discredited four percent rule to distribute your income and that’s the same four percent rule that William Bengen publically discredited eight years earlier in 2009.
BRIAN: So we want to make sure that you are warned not to draw income out of a fluctuating account. Don’t do it, it is Russian Roulette with your finances. You compromise the gains when the markets go up. You accentuate the loses when the markets go down. And you are committing financial suicide by drawing income from a fluctuating account. So here’s how we do it. We use a distribution plan. Picture, since we’re on the radio. Mike should we hold up a distribution plan so everyone can see it.
MIKE: Yeah hopefully you can see it through the airwaves.
BRIAN: Yeah, okay, so let’s just describe it. Here’s what we do. John and Jane came to us a few years ago; they had one point four million. They were in their late 60s, early 70s and they asked the same two questions.
BRIAN: Can we retire and if so how much money can we draw. So the left side of the spread sheet lists on one column income from assets. So that’s income that’s generated for a lifetime; we always plan to age 100. Not because we think you’re going to live that long but in case you do the money’s going to be there. So we plan to age 100 and we list the money that called income from assets that’s generated from the portfolio.
BRIAN: Which we’ll talk about in a few minutes. Next is John had a pension, so we show the pension in there as a vertical column. So we have income from assets plus pension. We have both of them drawing social security and then we total it up for gross income minus taxes. It’s not your tax bracket; it’s called your effective tax rate. Total taxes paid divided by gross income is usually around 10 or 12 percent once you retire.
BRIAN: But if you’ve got several pensions we can’t shelter that money. We use 15 percent on the effective tax rate just to be conservative. Then we get annual and monthly income with a COLA (Cost Of Living Adjustment) of three percent per year to age 100. Now the number one fear in this country of running out of money before they die.
BRIAN: Our clients don’t have it because they see right in the total gross income how much money they can draw and where it’s coming from with a COLA (Cost Of Living Adjustment) of three percent for the rest of their lives. So number one; the first question, can we retire. Mathematically we handle that; we take the one point four million dollar portfolio to zero at age 100 to see what the largest starting amount is before we COLA it higher for the rest of their lives.
BRIAN: This is something that is tangible. Where we can with high probability we can help people see how much they can draw for the rest of their lives so that they don’t run out of money. This is very important. Mathematically can they retire; when we run this distribution plan; year one. I remember I was in this meeting they… for John and Jane.
BRIAN: They had 97,000 dollars that they could come in, that could come to them; a little over 8,000 a month. 97,000 dollars a year. They told us they needed 80,000 and they could retire. But banks and brokers have told them for decades they needed three or four million dollars. John and Jane wasn’t very… they weren’t very hopeful when they came to our office having one point four million. They thought they needed three or four million to retire.
BRIAN: We showed them that they could retire and we used simple math to run it. Mike this is a good point. If people have anxiety, if there’s two groups of people I’d love to speak to. One group are the people that wonder if they can retire. And we will run the numbers for them. So we will tell you financially, numerically, mathematically; we’ll tell… we’ll run the numbers and do the calculations and give you draft one, no charge.
BRIAN: And it will tell you a pretty good idea of how much money you can draw for the rest of your life. So that’s number one. To see if you can retire. And number two; for the people that are in retirement; you have high anxiety about how much money you can draw for the rest of your life. You don’t want to be high and run out of money and you don’t want to be low and forgo some opportunities that you could’ve had.
BRIAN: So this is very, very important. This is number one reason that people come in and see us is they want their numbers run to find out how much money they can draw and whether or not they can retire.
MIKE: All right, uh, Brian let’s keep going, this is great information.
BRIAN: All right, so we talked about the left side of the spread sheet, we just show sources of income. John and Jane didn’t have any rental real estate but if they did we would’ve shown that in there too. So we show sources of income. For them it was they had a pension, they both were drawing Social Security, they have income from their portfolio; we total it up minus taxes; that gives annual and monthly income with a three percent COLA to age 100.
BRIAN: The right side of the spread sheet are the buckets. So we carve out some emergency cash plus bucket one, two, three and the risk bucket and that equals the one point four million. Emergency cash; John and Jane they didn’t need much, they just wanted around 25,000. That sits in savings and checking and it earns as much money as we can. Now we’re fiduciaries to our clients so we have done the homework to find out where the highest earning money markets are.
BRIAN: And what we’ve found is there’s about one point two five percent money market accounts in CIT (Charlie Ida Thomas) CIT Bank has a one point two five percent money market. So does Goldman Sachs. So does Synchrony. And so does Capital One. Those four have good rate of returns on their money market, one point, around one point two five percent. So emergency cash is carved out money that is sitting there; it doesn’t have to earn a lot but its there.
BRIAN: It’s totally liquid. It’s there for emergencies like roofs, roof repair, cars that need to be replaced or repaired; whatever the emergency is you need some grab money. So that’s number one. Number two, buckets one, two, and three. Buckets one, two, and three are very important because they have… they are principal guaranteed accounts.
BRIAN: Now we, as soon as I say that; principal guaranteed, that limits us to four different types of investment guaranteed by a bank, a municipality, an insurance company or the federal government. We don’t care who guarantees it, just that that money is guaranteed and we’re getting the best possible rate. So in the case of bucket one; bucket one’s responsibility is to generate income for the first five years.
BRIAN: Now its job is for the next 60 months, the next five years monthly income is going to come from that account that’s earning one percent. Bucket two is earning three percent, bucket three is earning four percent and bucket six is earning around six percent. So in the five years that John and Jane draw income from bucket one they draw that account to zero.
BRIAN: Now before you switch dials, I know like you I was raised that you don’t spend principal. But this is the genius of distribution planning. When you spend bucket one to zero and you spend from the lowest earning account cumulatively in five years in this example we’re talking about John and Jane have drawn about 220,000 from their one point four million.
BRIAN: In five years you would think that when you start with one point four and you draw 220,000 you would think that that account would go down. I wish I could show you on the radio, it does not. It doesn’t go down. In the five years that John and Jane drew bucket one to zero it gave five years for buckets two, three, and four; the higher earning accounts to grow and compound, more than offsetting the 220,000 that John and Jane received as income.
BRIAN: At the end of five years bucket one is gone. Bucket two grows for five years and pays out for years six through 10. Now at the end of 10 years John and Jane have drawn 539,000 dollars from their one point four million. You would think surely the account has dropped by now. But I assure you that it has not. It has not. Here’s why; in the 10 years that we drew income from the two lowest earning accounts in buckets one and two, for 10 years.
BRIAN: It gave 10 years for the two higher earning accounts in buckets three at four percent and the risk bucket at six percent. So that’s why the accounts were able to grow and compound more than offsetting the 549 that they drew as income. Now I know you get this. I’m just going to finish this out. At the end of 10 years bucket one and two are gone, bucket three grows for years 11 through 20 and produces income for years 11 through 20.
BRIAN: Now we can’t show you this on the radio, but in years 15 we create a new bucket, bucket four; that grows for five years and pays for years 21 through 30. We just couldn’t fit it all on the spreadsheet. But now the most important thing I can tell you in today’s radio show is right here. I hope everyone listens carefully. Can you see that when you have principal guaranteed accounts that are laddered for the first five years.
BRIAN: Years six through 10 and then years 11 through 20. When you have laddered principal guaranteed accounts, can you see that John and Jane are drawing from those accounts for the first 20 years? Can you visualize that? Now can you imagine how our clients that did the planning were able to sail through 2008 unaffected? Unaffected; they didn’t lose money in their emergency cash because that’s savings and checking.
BRIAN: They didn’t lose any money in their principal guaranteed accounts; those are guaranteed principal. And the risk account managers were able to make, not lose money in 2008. The risk account mangers that we’re using now made money in 2008. We’re going to go into more detail on that in a minute. So, the principal guaranteed buckets are critically important in our foundational because when, not if.
BRIAN: When the markets crash, every seven or eight years and you know we are due, we’re due anytime. We want to take steps to make sure that our clients when the markets crash the next time which should be in the next 18 months or so. That our clients don’t lose any money in emergency cash, they don’t lose any money in bucket one, bucket two, or bucket three. And, but the risk buckets, five out of the six managers were able to make money in 2008.
BRIAN: A couple more things about the composition; the structure of a distribution plan. We do not charge a management fee on the emergency cash, buckets one, two or three, because those are principal guaranteed accounts. So many of our clients when they transfer assets over to fund their accounts, they realize a 75 percent savings on their management fees because we do not charge like the banks and brokers do on everything.
BRIAN: We do not charge on emergency cash, we do not charge a management fee on bucket one, or bucket two or bucket three. This is very important. This is why our clients that come in receive typically around a 75 percent reduction in fees, day one, right away. Okay, now let’s talk… Gosh Mike the radio show, we’re already 40 minutes in. I’m going to stay generic on the principal guaranteed account so that I have more time to talk about the risk accounts; what do you think?
MIKE: I think that’s probably smart.
BRIAN: Okay, so last year when the S&P did 12 percent in 2016, calendar year 2016, one of our principal guaranteed accounts that we’re using made nine point three percent. Nine point three. So there’s some great yields out there that are principal guaranteed, you’ve got to know where to look.
BRIAN: And by the way, the reason most people don’t know about these is because they don’t pay any security commissions so there’s no incentive for the bankers and brokers to trot these out. So we use them, we’re fiduciaries, we’re use them and we tell our clients about them. All right. When it comes to risk, risk money; the market is a two-sided market. The stock market goes up and it goes down.
BRIAN: It’s a two-sided market. It makes no sense to us that bankers and brokers have their clients buy and hold a one-sided strategy in a two-sided market. A buy and hold strategy is a strategy where you buy the markets and you hang on and if the markets go up you make money, if the markets go down you lose money. And it takes several years to earn that back.
BRIAN: So we want to point out that it makes no sense to us to have a one-sided strategy in a two-sided market. What we do is we have a two-sided strategy; up-down, in a two-sided market that goes up, down. These are designed to make money in up or down markets. So track with me on this Decker Talk Radio listeners. If I’m a fiduciary to you, you would expect me to go out as an independent company and find the best managers to manage your risk money.
BRIAN: Well guess what; we did that. We go to the biggest data bases in the country; we got to Timer Track and Theta, the Wilshire Database for Money Managers and the Morning Star Database for mutual funds. And what we want to know is who is beating the current managers that we have in place. We know their returns; who’s beating them. And is we run the numbers to find out, and we get around, every quarter I do this. We get around 60 or 70 that legitimately beat us.
BRIAN: But they fall into four categories. Number one; yes they’re beating us but they’re closed to new investors. I can’t work with that, they’re not taking any new clients. Number two; yes they’re beating us but they’re hedge funds and we’re not going to put your money, your retirement money in a hedge fund. So let’s talk about why. We’re fiduciaries, meaning that we are required by state law to put our clients best interest before our companies best interest.
BRIAN: The reason we would never put money in a hedge fund for your retirement account is because of how the managers of a hedge fund are compensated. So they are compensated using a two and 20 structure. That means that all the returns above two percent are divided 80/20. Well guess what happens. Let’s say that you’ve got an account managed at a hedge fund and it’s November 1, 2016.
BRIAN: Your accounts down five percent; guess… and you know that the managers are going to do this because they’re going to go for broke. They don’t get paid really until they get your account above two percent. That’s what they’ve got to do. So guess what they do; they goose the portfolio with derivatives, with options, futures, with leverage and they get that portfolio up there.
BRIAN: And if it blows up, eh, they could always start another one. We don’t like that philosophy and we don’t like how the structure incents them to take a lot of year end market risk. In the last several years it’s paid to do that. And at some point they’re going to get their head taken off for doing those year end goosing of the portfolio. Okay, the third one, and this is the biggest group. Yes every time we go through these quarterly screens to see if we can find better managers on the third one; yes they’re beating us but they’re per account minimum is three or four million dollars.
BRIAN: And I can’t work with that. The last one is called High Beta. High Beta is there’s two mutual funds; well High Beta just to give you the definition is when in the good years they go way up. In the bad years they go way down. So the Bruce Fund and CGM Focus are two mutual funds that mathematically deserve to be on our spread sheet.
BRIAN: But the problem is in 2008 they both lost over 40 percent and we can’t have that. So what is left are the best six managers that we can find, and you would expect us to do that. I am stunned when I go through in the quarterly calls. I am stunned to find that not everyone is doing this because that is the expectation that I would have if I went to my banker, broker or advisor and asked them for their advice on where to put risk money.
BRIAN: So two things about the risk money that lower your risk. Number one; about 75 percent of our clients’ money doesn’t have any risk; are they growing, yes. Are they principal guaranteed, yes. But 25 percent of our client money is at risk. And the reason that we have only 25 percent is because that money really doesn’t come into play for 20 years.
BRIAN: And when you grow that money, in 20 years it grows to be a very large dollar amount. So back to the transparency on the risk buckets. These managers that we have found that produce the highest returning risk returns, net of fees; these managers have some similarities.
BRIAN: Number one; they’re all mathematical algorithms. They’re all mathematical trend following algorithms. There’s no way that human beings can keep up with computers these days in several areas. And one of them has to do with portfolio management. So now these models have been around for decades but we use them. So number one; they’re computer models. Number two; they’re two-sided strategies.
BRIAN: So when the markets go up these trend following models are able to make money. But when the markets go down they’re also able to make money. For example in 2001-02 one of our managers who manages the QQQs; the NASDAQ 100 index average annual return is 23 percent net of fees. He has lost money twice. Once in 2000 he lost a little over two percent.
BRIAN: And the second time was last year, 2016, he lost about 12 percent. But in 2001, 2002 he made a lot of money and in 2008 he made a lot of money. So average annual return net of fees is 23 percent. He is one of our managers. The other five managers; four of the five other managers… actually five of the six mangers that we have made money in 2008.
BRIAN: They made money. So what we care about when it comes to these managers is just two things. I told you in detail how we find them; we go to the databases. And now I’m going to tell you how we use them. So I told you that we manage about 25 percent of the client money, these are two-sided models. I’m going to give you an example of how a two-sided model works.
BRIAN: Year by year the rates of return etcetera.
MIKE: Sounds good.
BRIAN: Okay. So imagine that, because these are computer models. Imagine that we input into the computer all the worlds stocks. Large cap, mid cap, small cap, growth value, international merchant markets, indexes and ETFs. All the world stocks go into your computer. And all the stocks that are trading above their 200 day moving average are simply held in the portfolio.
BRIAN: The 200 day moving average is the average price for the last 200 days and it’s shown as a line, a solid line on the computer screen. If the stock is trading above the 200 day it’s said to be in an uptrend. If a stock trades below it it’s said to be in a downtrend. Guess what; it’s this simple. Up trends make you money, down trends lose you money. So for example in the 90s people made a ton of money, so did we.
BRIAN: But something happened in the spring of 2000. The tech stock started crossing the portfolio and these models were automatically sold. When an up trend turns to a down trend they’re automatically sold. But in 2001 and ’02 when the tech bubble burst most people lost 50 percent of their money. These models made money for our clients. So in 2001 and ’02 there were many sectors that were doing well during that time like real estate.
BRIAN: Real estate was doing well all through that three year period. So these modes held the REITS (The Real Estate Investment Trusts). Copper, steel, aluminum, cement, timber; all the material sectors were strong. Drugs, bio tech, pharmaceutical were all strong. Energy, precious metals, hundreds of stocks were able to stay in their up trend allowing our clients to make and not lose money. There’s no guesswork here.
BRIAN: We’re just following the trends that the market has given us. And if an uptrend turns to a downtrend it’s automatically sold. These are called mathematical algorithms; they’re trend following algorithms. And let me tell you how well they do against the S&P. 100,000 invested in the S&P January 1, 2000 grows to about 240,000 today, dividends reinvested, average on return is a little over four and a half percent.
BRIAN: 100,000 with the models that we have has grown to over from January 1, 2000 has grown to over 900,000, average annual return is 16 and a half percent net of fees. Net of fees. It’s not that we’re hitting home runs, it is a matter of not taking those 50 percent hits that from January 1, 2000 to 12-31-10; that 10 year period is called the lost decade for a very good reason.
BRIAN: That is the worst 10 year period when it comes to portfolio returns in the stock market, worse than the great depression in the 30s. There were two 50, 50. Two 50 percent hits; one was March of 2000 to March of ’03. And the second was October of ’07 to March of ’09. When you don’t take those hits you can accumulate a large amount of money.
BRIAN: These models protect capital in the down market. Just like there’s a two-sided market where it goes up and down; there’s a two-sided strategy that’s designed to make money when markets go up and it’s designed to make money as the markets go down. It’s a two-sided strategy.
BRIAN: One other thing that we do cause we’re fiduciaries to our clients is we weight the managers; W-E-I-G-H-T. These managers are signal call relationships, so they email us when it’s time to trade. Well guess what; if out of the six mangers two are absolutely killing it and equal allotment or allocation is one sixth or 16 percent. Guess what; there’s a couple of our managers that are killing so we’re over weighting them.
BRIAN: They have a 24 percent weighting not 16 percent. There’s a couple of our managers that are kind of slacking right now so we can under weight them at eight percent. And if any of them are losing money, and they haven’t been. We can zero them out. Let me give you a common sense question? If you get emails from the five managers and they are killing, you’re going to put those in.
BRIAN: But one manager whose lost money for the previous four times in a row; seriously are you going to put that trade in, I wouldn’t. I’m a fiduciary; I’m going to protect client capital. And we keep a record, a diary of all the different… a journal of all the different trades. And so before we place those trades I can check those journals and see what kind of weighting that we do.
BRIAN: So the managers that are doing very well we over weight. The managers that are doing equally well with the S&P we equally weight. The managers that are doing a little less than the S&P we underweight. And if any managers are losing money we zero them out. Mike it’s near the end of the show here
BRIAN: We have three of the six managers deal with the stock market, three of the six managers don’t. One manager is gold and silver. The other manager is oil, long, short. And the other is treasury bonds long, short.
MIKE: All right, Brian any last quick notes or a teaser for next week?
BRIAN: We’re going to finish up the risk models and talk more about what they do and how they work. And then we’re going to talk about comprehensive tax minimization and comprehensive risk reduction.
MIKE: Excellent, so stay tuned next week. Also for your convenience, if you can’t make it on Sundays to listen to the show, KVI 570 or KNRS 105.9 FM radio, you can always tune in via podcast on iTunes or Google Play.
MIKE: To go there you can go to, well, iTunes or Google Play or go our website, DeckerRetirementPlanning.com, click on the radio show tab and links are right there. Take care, have a wonderful week, we’ll talk to you soon.
