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 talking about marketing conditions, risk analysis and how does that affect your current strategy. The comments on Decker Talk Radio are of the opinion of Brian Decker and Mike Decker.
MIKE: Good day, everyone. This is another edition of Decker Talk Radio’s Protect Your Retirement with Mike Decker and Brian Decker. We’re excited for our show. This is on KVI 570 9:00 A.M. in the greater Seattle area and KNRS 105.9 FM radio in the greater Salt Lake area Sunday evenings. Brian, we’ve got a great show lined up today. Should we just dive right in to it?
BRIAN: Let’s dive right in. Let’s talk about risk options. So far, what we’ve talked about when it comes to the planning that we do at Decker Retirement Planning in Seattle, Kirkland and Salt Lake City is we are fiduciaries to our clients and we give all our clients the full, I guess, full disclosure of what their options are when it comes to funding their plan. So, there’s three parts to anyone’s portfolio when they’re retired. There’s cash, there’s safe money and risk money.
BRIAN: So, cash, we’ve already talked about last week. We are fiduciaries to our clients, so we go out mathematically and find the highest returning principal guaranteed, highest yielding money market accounts, which right now are Goldman-Sachs, CIT, Synchrony and Capital One. All giving around one point two five, one point three percent. We do that work for our clients for their cash positions.
BRIAN: In all of our planning, we carve out emergency cash because we want our clients to have the liquidity that they need for any emergencies that come up with cars going bad or with roofs or water heaters, whatever it is. The next part that we covered in detail last week was all the safe money options. And by the way, the banker-broker model says to put your safe money in bonds or bond funds. Well, with interest rates at or near all-time record lows, this makes no sense.
BRIAN: And especially, Mike, remember the rule of 100 that the banks and brokers use?
MIKE: Yeah, I do remember it.
BRIAN: Yeah. So, if you’re 65 years old, you should have 65 percent of your money in bonds or bond funds. When interest rates are this low that makes no sense. And especially calling safe money bond funds with interest rate risk. We define interest rate risk as the loss of principal when interest rates go up. Just like two plus two is four, bond funds lose money when interest rates rise. That is just like two plus two is four. Bond funds lose money when interest rates go up.
BRIAN: So, for example, from 1994, in that calendar year, the 10-year treasury went from six to eight percent and bond funds lost about 20 percent that year. In 1999, the 10-year treasury yield went from four to six percent in one year and the average bond fund that year lost around 17 percent. If we go from where we are right now with the 10 year treasury around two point five, two point six percent back to just four percent where it was not too long ago, that’s a hit to principal of between 15 and 20 percent on what bankers and brokers are telling you is your safe money.
BRIAN: We want to make sure that you know that it makes no sense to put your safe money in bonds or bond funds. What we do want to make sure is that you at least know about other options. CDs, treasuries, corporates, agencies, municipals, savings accounts, life insurance, equity-indexed accounts. We cover everything. And then, last year, Mike, what did our clients make on their safe money in our equity indexed accounts?
MIKE: Wasn’t it averaging around seven percent or so?
BRIAN: The average is around six point three percent. Last year, they did nine point three. So, that’s very important that Decker Talk Radio listeners know that there are safe options that are averaging well. CDs right now, seven to 10 year CD rate is around two point five percent. So, there are safe money options that are averaging over six percent. We covered this in detail, Mike, last week. I don’t want to do it again. But, we’re only five minutes in to this show.
BRIAN: If people don’t know about this, they should dial back and listen to that podcast where we covered all the principal guaranteed options and if they’re on this right now and want to come in and find out what those options, Mike, before I move on and cover the rest of the show with risk options, we should mention what listeners can do if they want to pull up the podcast of last week’s show, tell them how they could do that.
MIKE: Excellent, you can always catch this show or past shows on the deckerretirementplanning.com website under radio show or you can go to Google or iTunes as it is also on there via podcast. Don’t know how to do a podcast? Ask your son or daughter, grandson or granddaughter if you don’t know how to access that. It’s quite nice actually. Brian, did you know that every Friday we post the show on podcasts and it gets uploaded directly to your phone so you can listen to it at your convenience? Isn’t that nice?
BRIAN: No. Yeah, it’s really important to know how to do that. Do they pull that podcast off our website?
MIKE: No, the podcast on the website, you have to manually listen to each time. But, if you just go to iTunes, if you have an iPhone or an Android, you can go to Google Play. It will automatically load to your phone each week so you won’t miss a single episode of Decker Retirement Planning.
BRIAN: And that’s what they enter, Decker Retirement Planning on that?
MIKE: Yeah. Look up the show, Decker Talk Radio or you can just search for Protect Your Retirement. Nice and easy. It’ll pop up every time, first one. We’re on the only show with that name. So, anyway, but, yeah.
BRIAN: Did you know the reason that’s important is because last week, we talked about the different options for
principal guaranteed accounts. A lot of people have no idea that the highest returning principal guaranteed taxable account is averaging around six point three percent and the highest returning principal guaranteed tax-free account is averaging seven percent.
BRIAN: All right. So, let’s talk about the risk options. First of all, Mike, we have this saying. Did we patent it? “Chances are you’re taking too much risk”.
MIKE: [LAUGH] No, not yet, but we should. [LAUGH]
BRIAN: Okay. Because time and time again, we see portfolios for people that are over 55 years old and all their money is at risk. Mike, why is all their money at risk?
MIKE: Because that’s how the banker-broker get paid.
BRIAN: They’re paid to keep you at risk. When I was going through my early years in the brokerage business, the manager would remind us on a daily basis. Brian, we get paid by keeping people at risk. That’s not in your best interest, Decker Talk Radio listeners. That is in your banker-broker’s interest. All of your money shouldn’t be at risk. So, the first thing we do in the planning that we do for clients is in the distribution planning spreadsheet, we list all your different sources of income, your rent or real estate, income from assets, pensions, social security.
BRIAN: We total it up, gross it up, minus taxes that gives you your annual and monthly income with a three percent cola to age 100. Our clients mathematically know how much money they can spend. I don’t care how smart you are out there, if you haven’t done these calculations like we do for our clients, you’re just guessing. You have no idea how much money you can draw from your portfolio. So, we are a math-based firm and we do that work.
BRIAN: The next thing we do is with the portfolio, bucket one, two and three are laddered principal guaranteed accounts. We carve your emergency cash, separate that from the plan and we have your buckets one, two and three responsible for your income for the first 20 years of retirement. That means that when the markets crash every seven or eight years like they do, it doesn’t affect you at all. Not at all. You have a life-changing event if you stay with your banker or broker because you will take that hit.
BRIAN: Our clients did the planning that went through 2008, they didn’t even have to change their travel plans because the the keystone of our planning that we do is that your income, which is about 75 percent of your total assets, are there for the first 20 years from principal guaranteed accounts, taking no risk. So, the first thing when I talk about risk is how much risk should you take? Well, heck, a lot less than you’re currently taking. Bankers and brokers have all your money at risk and they charge you management fees on all those funds.
BRIAN: At Decker Retirement Planning, one of the first things that happens is you realize about a 70, 75 percent drop in management fees because we don’t charge you a management on your principal guaranteed accounts or your emergency cash. So there’s a huge drop in management fees with clients as they come in, and become new clients to Decker Retirement Planning. So now, of the 25 percent or so of money that is at risk, that money’s going to grow for 20 years and provide you income for the rest of your life after 20 years.
BRIAN: So, if you can picture that in a spreadsheet, this account that you’re not going to touch for 20 years is going to be the fastest growing account and it’s going to be a very liquid. We purposely put Roth money here and we put IRAs that we can convert to Roth here. We are not doing you any favors by taking an IRA of 250,000 and in 20 years growing it to one point two, one point three million dollars. Now, instead of owing tax on 250,000, you owe tax on one point two or one point three million.
BRIAN: You have required minimum distributions that in your mid 80s put you in the top tax bracket for the rest of your life. That’s not what we do. We are a math based firm and we know to the dollar how much money you should convert from an IRA to a Roth and most retirees, this is their biggest tax savings strategy, which is instead of paying 20 percent tax on one point two or one point three million dollars, our clients are paying tax on around 250,000.
BRIAN: Now, we don’t it all at once. We spread it out over five to seven years. We have a conversation every year. We look at your income. We gross it up. We look at your AGI, your adjusted gross income and we estimate how much money we can convert from an IRA to a Roth without bumping your tax bracket. This is very important. Again, typically, it’s the biggest tax saving strategy in your retirement lifetime because it’s a six figure difference in tax that you pay between proactively converting from an IRA to a Roth now or versus not dealing with it and just taking required minimum distributions.
BRIAN: A Roth account is golden for three reasons. It grows tax-free, it distributes income back to you tax-free and it passes to your beneficiaries tax-free. So, we proactively in the planning we do at Decker Retirement Planning, we would rather proactively go after an account and pay tax on it at the lower level rather than growing it and paying tax on a much larger amount. All right, so what are your options now for this risk account? Well, because we’re fiduciaries to our clients, we try to cover everything.
BRIAN: Here’s the different options. For taxable growth or risk, variable annuities, bond funds, real estate, mutual funds, commodities, futures, options, foreign exchange stocks, oil and gas partnerships, ETFs, exchange rate of funds. Now, we’ve tried to stay a little mainstream. We haven’t included the esoteric things like ostrich farms and things like that. But, this is kind of the mainstream options that you have for your risk management. I want to take these out one at a time. Very quickly, I go to, easily, two of the worst options on this sheet that I’ve got here.
BRIAN: Variable annuities, we would never use them. We don’t like them. We don’t use them. We want to warn you Decker Talk Radio listeners to stay away from a variable annuity. Here’s why. Variable annuities are where the broker makes eight percent right up front; the insurance company gets paid every year you own it. The broker gets paid every year you own it and the mutual fund companies get paid every year you own it. Three layers of fees that usually add up to five to seven percent before you make a dime. We don’t like them. We don’t use them. Because of all the fees, they lag the markets when the markets go up.
BRIAN: And because of all the fees, you lose more than the markets when the markets go down. Remember, five to seven percent before you make a dime. So, that cuts your upside performance and it adds to your downside hit when the markets drop. These variable annuities are sold by bankers and brokers in a very deceptive way. We want to give you a heads up on this. They tell you that this is a way that you can invest in the stock market and have a principal guarantee to back you.
BRIAN: Well, here’s what they don’t clarify. That is, you have to die to get that guarantee. They give you the quote-unquote high water mark. So, after the insurance company has your money for 10 or 15 years and you pass away, they have fleeced you for 10 or 15 years and now you’ve got the high water mark to come back as a guarantee not in your lifetime, but to your beneficiaries. Is that good for you? No. Is that good for the bank, broker, insurance company and mutual funds? Yes. It’s not good for you.
BRIAN: We want to X that out as an option and one that we would never recommend to you. The next one that’s quickly X-d out as a risk bucket option are bond funds. Bond funds right now are paying you hardly anything because interest rates are low. They are not safe. They lose double digits when interest rates go up. For every one percent of interest rate rise, you lose around 10 percent on an intermediate duration bond fund. So, that’s kind of the rule of thumb.
BRIAN: By the way, May of last year, the 10-year treasury was at one point six percent. Right now, a little over, what is it, 15 months later, we are now at two point six percent on the 10-year treasury yield. People have lost 10 percent in the last 15 months on their quote-unquote safe money. Bankers and brokers telling you that your safe money being put in bond funds is like a math teacher telling you that two plus two is 15. It’s demonstrably false.
BRIAN: Interest rates right now are at or near all-time record lows. Interest rate risk is at or near all-time record highs. Bill Gross, one of the smartest in the world when it comes to bonds and bond funds, he had an interview Barron’s April of last year and we have copy of it that twe hand out with permission. This is something that’s very, very important that you know about. Bill Gross said he makes four important points in that Barron’s interview. He says number one that interest rates are kept artificially low right now by the Fed and the central banks around the world.
BRIAN: Number two, he makes the point that interest is unsustainable and interest rates eventually have to go back up. Number three, he makes the point that you’re not paid right now a yield that covers the tremendous principal risk that you’re taking. And number four, when interest rates go up, people lose significant amounts of money when interest rates do go back to their normal.
BRIAN: So, here’s a guy who used to work at Pemco, now he works at Janus, one of the smartest people in the world when it comes to bonds and bond funds who should be telling you and marketing bonds and telling you how you should put all your money in bonds and bond funds. He’s telling you to stay away and be very careful. All right. So, we want to cross out bond funds when it comes to a potential option for risk accounts. And by the way, what are we looking for when it comes to options to use in our risk managers?
BRIAN: We’re looking for two things. One, we want to track with the S&P when the markets go up. Number two, we want to protect principal when the markets go down. So, let me tell you what high bar both of those are. On the first part, tracking with the S&P when the markets go up 85 percent of money of managers in mutual funds don’t track what the S&P when the markets go up. That’s a Vanguard statistic. I think that’s pretty accurate. 85 percent of the time, money managers in mutual funds don’t keep up with the S&P index.
BRIAN: That’s high bar number one and number two, protect principal when the markets go down. Who does that? Who do you know that in 2008 made money when the markets go down? I will tell you that five of the six managers we use for our clients made money in 2008. So, this is a high bar, but it’s an achievable bar.
BRIAN: And by the way, with the six managers we use, 100,000 invested January one of 2000 in the S&P 500 grows today to about 265, 270,000 dollars with dividends reinvested. Average annual return is about four and a half percent. 100,000 invested with the managers we use grossed over 900,000. Average annual return is about 16 and a half percent net of all fees.
BRIAN: So, we the six managers that are doing those two things, but let’s take the long road to include or exclude different asset categories and come to find out why we use these six managers. We’ve crossed out variable annuities and bond funds as options for risk when it comes to what we as fiduciaries would recommend to our clients for risk assets. Now let’s go to real estate. Real estate is something where people make tons of money over time in their portfolio with rental real estate or investment properties, commercial real estate.
BRIAN: But, for people that have IRAs qualified and unqualified assets in their portfolio to buy property, commercial or residential and to pay the fee that’s exorbitant in the taxes and fees typically adds up to five to eight percent. That’s not a smart way to, for most people, to invest in real estate unless you have a rental real estate portfolio.
BRIAN: With the invention of REITs, Real Estate Investment Trusts and ETFs, Exchange Traded Funds, real estate now can be bought and sold easily and efficiently with low cost. For example, real estate investment trusts and ETFs can target all kinds of real estate. Northeast real estate, Southeast real estate, Southwest real estate, Midwest, different parts geographically can be held in real estate investment trusts.
BRIAN: Different types of commercial real estate, hospital REITs, post office or government office building REITs, retail REITs, you don’t want to own those right now. Those are getting hammered. Amazon is just destroying the retail sector. But you have different types of real estate investment trusts and you have different types of ETFs allowing you to very efficiently, effectively buy and own real estate as long as the trend is going higher.
BRIAN: When the trends drop, it’s a very efficient way to sell like you’d sell a stock, you can sell your real estate very effectively, very efficiently. When we talk about trends, real estate in 2001 and 02 when the markets were getting crushed, real estate did very well. Real estate stayed strong all the way through till about October of 07. From October of 07 to March of 09, real estate got hammered. Typically, the real estate investment trusts were down 50, 60, some it’s down 70 percent.
BRIAN: So, we want to warn you that real estate cycles. Now we want to warn you also away from another type of real estate investment that’s called a non-traded REIT. Non-traded REITs are one of the reasons along with variable annuities, very high commission products for the banker and the broker where they make eight to 12 percent right up front. You’re locked in, you can’t sell it, so when the markets turn lower on real estate, you’re left guessing what the real price is and you’re given notice five, six, seven years down the road when you can start selling any shares.
BRIAN: We don’t recommend it. We don’t use it and we want to warn you about how beneficial non-traded REITs are to the banker and broker and we want to warn you that being handcuffed on the sell, you just can’t get out. It’s very frustrating in retirement to know that the real estate market’s getting hammered and you can’t do anything about it. So, we do recommend ETFs for real estate. We recommend REITs for real estate as long as they’re attached to trend following models.
BRIAN: So, let’s bring this up. Markets are two-sided markets. They go up and they go down. Sectors are two-sided also. Sectors go up and they go down. It makes no sense to us that you have a buy and hold, a one-sided strategy in a two-sided market. That makes no sense. There’s a time to be in real estate. There’s a time to be out of real estate. So, trend following models have been around for about 15 or 20 years.
BRIAN: We’re fiduciaries to our clients, that’s what we recommend because they have significantly less risk and significantly higher returns than a one-sided strategy in a two-sided market. So, people that are retired right now with their banker or broker as an advisor, they’re being told buy and hold, hold on, be tax efficient. No one can guess the markets.
BRIAN: That’s all code for give me your money, I’m going to charge you fees and don’t bother me. I did this. I did this in the mid to late 80s when I was trained, I saw I was trained in this and it doesn’t work for your benefit, the investor, it works beautifully for the banker and broker. I saw in 1987 how quickly that one-sided strategy can hurt people when the markets get hammered. And it was that sobering event of 1987 that caused me to move away from the buy and hold strategy that bankers and brokers use.
BRIAN: So, back to real estate. Do we like real estate? Yes and we have used real estate in client portfolios, whether it’s rental income or using REITs or ETFs. Right now, we don’t have a real estate two-sided manager because the returns are not better than what we currently have in place. So, we’re okay with two-sided trend following models, but right now, they’re not producing the highest returns. So now, let’s go to mutual funds.
BRIAN: Mutual funds by definition and you’ve grown up with these. Most everyone knows what mutual funds are. They’re in your 401K. You’ve grown up with these. It’s a common portfolio where you buy shares into a sector fund, an index fund or a human being that’s managing these mutual funds. They charge you a fee, you have shares in the fund that appreciate as the portfolio appreciates and depreciates as the portfolio depreciates. So, mutual funds, I would say 97 percent of mutual funds are buy and hold.
BRIAN: We don’t like and they’re sector based, we would recommend only the two-sided strategies, which are, sector rotators. Here’s how sector rotators work. Sector rotation mutual funds and there are many out there that are no-load mutual funds. I want to warn you about a certain type of mutual fund. It’s called C shares. I want to warn you also about front-end loaded funds.
BRIAN: I can’t believe they’re still around today, but they are. But when it comes to mutual funds, we’ve owned them in the past. Sector rotating funds are funds where when different sectors rotate in favor, these mutual funds, these no-load mutual funds can rotate in and own the sectors that are positive. That allows you to miss, for example, in 2001 and 02 when tech stocks got crushed and so much of the S&P got nailed, there were plenty of sectors that were doing well.
BRIAN: For example, real estate was doing well. The material sector was doing well. Copper, steel, aluminum, cement, timber. The energy sector was doing well. Healthcare, biotech, drugs were all doing well. And then, precious metals, gold and silver. Hundreds of stocks allowing sector rotating funds to make in 2001 and 02. We’ve used these in the past. FPA Crescent has a good one. First Eagle has some good ones. We’ve used those in the past.
BRIAN: What we don’t like about them is in 2008, sector rotation just plain out didn’t work. So, we’ve rotated away from them, but want to make sure you know about them. There’s only a handful that do it. We’re okay with mutual funds, but I want to give you two warnings about how bankers and brokers recommend the different mutual funds. If I’m working for XYZ Brokerage, guess what mutual funds you’re going to get? XYZ mutual funds. If I worked for ABC Bank, guess what mutual funds you’re going to get? ABC Bank mutual funds.
BRIAN: That’s how a fiduciary works at all. We go through the databases of the Wilshire database for money managers. We use the Morning Star database for mutual funds. And we want to know who is giving the highest net-of-fee returns out there. We’re a math-based firm at Decker Retirement Planning in Salt Lake City, in Kirkland, Washington and in Seattle and we do the homework to find who is giving the highest net-of-fee returns and providing downside protection. We’ve used mutual funds in the past.
BRIAN: But right now today, they’re not providing the highest returns higher than the six that we’re currently using. Last two things I want to say about mutual funds is that when it comes to fees, why anyone in the world would pay a front-end load or a back-end load when there’s so many very, very good no-load mutual funds with no front-end, no back-end fund fees, it’s because your banker and broker talked you in to it. That’s how he or she gets paid.
BRIAN: I hope you definitively categorically rule out front-end or back-end mutual funds. There’s too many very good no-load mutual funds out there. Also, I want to end this conversation with mutual funds and talk about C, C as in Charlie, C-share mutual funds. These are toxic. These are very deceptively sold by bankers and brokers and this is where you tell the banker-broker “I don’t want any front-end or back-end loaded mutual funds”.
BRIAN: So, he or she says “Okay, I’ve got just the thing for you”. And then, they tell you about C-share mutual funds. There’s no front-end load. There’s no back-end fees. But what they don’t tell you is that there’s a 12-B1 fee that’s attached where, along with the one percent that goes to the mutual fund manager, the broker has just attached another one percent to pay him or her. C-share mutual funds are so toxic that Schwab, Fidelity, Vanguard, they won’t allow them to be transferred in to their company.
BRIAN: They require them to be sold before they’re transferred in. C-share mutual funds are something that is advantageous to the banker or broker, but it’s an unnecessary one percent that comes right off of your performance and goes right to the banker or broker. All right, enough said on that. I want to talk about ETFs, Exchange Traded Funds. ETFs started to come around in 2000 and in the last 16, 17 years, there has been a huge revolution in creating C-share mutual funds.
BRIAN: It’s a very efficient, effective way to buy indexes or sectors. So, let’s start with indexes. Indexes, the S&P 500 index, you want to try to buy all 500 stocks. I hope you have around a million dollars because it takes a lot of money to buy 100 shares of all 500 stocks. Or you can put in S-P-Y, Sam Paul Yankee, that’s the ticker symbol for the S&P 500. The S&P 500 is something that as an index you can own through ETFs.
BRIAN: The midcap, the S&P 500, the midcap is M-D-Y, that’s one of them. There’s several different midcap and then I-J-R is the ticker symbol for the small cap index and you can buy QQQ, the Nasdaq 100 index. There’s all kinds of indexes that are represented by ETFs, Exchange Traded Funds. Why would you buy the index? Well, because three reasons. One is for performance reasons. The S&P for example, 85 percent of money managers of mutual funds don’t track with the S&P every year.
BRIAN: So, performance wise, that would be a reason to just flat out buy the index. The second reason is because you’re diversified. The S&P 500 different companies arguably some of the best companies, domestic and international for diversification is the second reason. The third reason is cost. Buying SPY, the cost of the ETF is very, very low. I think it’s zero point zero four percent or what we call four bases points. A far cry from the one percent or the 100 bases points that bankers and brokers will charge you on you management fees.
BRIAN: So, we want to give you a heads up that we like the index, ease and efficiency of using ETFs to buy and sell the indexes in the markets, both equity and bond indexes. Emerging markets and international indexes all are represented through ETFs. I want to also talk about sectors. Sectors of the markets. You’re able to buy the entire sector, for example, ticker O-I-L for oil, you’re able to buy all the major oil companies in the world.
BRIAN: You own the sector, which is a lot less risky than owning one or two stocks in that sector. Now if the sector does well and those two companies are announcing poor earnings, you are right on the sector, wrong on the stock. So you’re able to have lower risk by buying the oil, ticker O-I-L, ETF. Same thing with G-L-D for gold, S-L-V for silver, ticker S-O-C for social media. You’re able to buy T-A-N, Tan for the solar sector.
BRIAN: There’s all kinds of different sectors that you can own and your risk goes down because you own that sector. We like ETFs. In fact, the six managers we use, three of them are trading the stock indexes. The other three are trading the commodity indexes, like oil, silver, gold and treasury bonds. So, now let’s talk about commodity sector. The commodity sector is the largest sector to invest in. It includes energy.
BRIAN: It includes agriculture, softs, it’s just vast. 97 percent of the commodity sector is bought and used by hedgers, hedging. Only the small minority three, four, five percent is used by speculators. So, the commodity market, do we like commodities when it comes to retirement investing? The answer is yes and we own them through ETFs. The reason we own the commodity market is because every seven or eight years, you can take it to the bank.
BRIAN: That stocks are going to get hammered. Let me give you some history on this. 2008 was the last big drop. From of October of 07 to March of 09, that was a 50 percent drop. Seven years before that was 2001, Twin Towers went down, the middle of a 3-year bare market, the tech bubble burst, 50 percent drop in three years. Seven years before that was 1994, Iraq had invaded Kuwait, interest rates went up, the economy was in recession and the stock market struggled.
BRIAN: Seven years before was 1987, Black Monday October 19th, 22 percent drop in one day, 30 percent drop from the peak of the market in August. Seven years before that was 1980, sky high interest rates, 80 to 82, 46 percent drop in the markets. Seven years before that was 1973, 74, that was a 42 percent drop in that bare market. Seven years before that was the 66, 67 bare market that dropped over 40 percent and it keeps going.
BRIAN: So, the markets bottomed. Stock markets bottomed March of 2009. We’re up significantly since then. We’re in year nine of what typically is a seven, eight-year market cycle. How long will it go? I don’t know, but we are late in this cycle. We are in probably the eighth or ninth of this market cycle. Do you have downside protection? Back to commodities, you can take it to the bank that three different assets classes go up when the markets get hammered and that is treasury bonds, oil and precious metals, gold and silver.
BRIAN: So, we have, I think, brilliantly included in our six managers a two-sided strategy on gold and silver, a two-sided strategy on oil, a two-sided strategy on treasury bonds and those are three of our six managers and we have a two-sided strategy on the Nasdaq 100 index and we have two managers, actually two of our three managers trade the Nasdaq 100 index and the last one, the sixth one, trades a two-sided strategy on the S&P 500.
BRIAN: The average annual returns net of fees for our one manager that trades the S&P is 18 point three percent net of fees and his model has been in use since 2006. Our QQQ manager that has a two-sided strategy since 2001, his average annual return net of fees is 23 percent. Average annual return for our third and final equity manager is 20 percent for the third one.
BRIAN: Gold and silver, if you were to buy and hold gold, your average annual return since 2006 is around a little over nine percent. When you put a two-sided model in place, net of fees it’s now 29 percent. Silver is much more volatile. By the way, gold and silver in 2013, 14 and 15, gold took a 45 percent hit during those three years and silver took a 65 percent hit. But, since 2006, if you would have bought and held silver, your average annual buy and hold is around seven percent.
BRIAN: With a two-sided strategy with this manager, your average annual returns are over 40 percent. Then, treasury bonds. Treasury bonds, the manager, his 2008 was last year. May of 2016, the 10-year treasury was at one point six percent. It’s raised to two point six percent and he has a two-sided strategy on treasury bonds that in the last several years has averaged over 30 percent. And then, the last manager is oil.
BRIAN: So, the oil, the 2008 for oil was 2014, 15 when it from 110 dollars a barrel down to 25 and now it’s just about 60 dollars a barrel. So, with that kind of volatility, his average annual returns are above 30 percent as well.
BRIAN: All right. So continuing on, we use commodities in two-sided with our strategies because when the markets go down, half of our-three of our six managers, we just know they’re going to have huge up years when it comes to the next market crash. So, I think that’s very, very important. How about foreign exchange? Foreign exchange are the different world currencies, like the Canadian loonie, the Mexican peso, the Brazilian real, the Euro in Europe, the Japanese yen, the US dollar. The different world currencies, do we own them in our six managers?
BRIAN: No, not right now. But, they’re all represented through ETFs, Exchange Traded Funds. We’re not averse to using them. It’s just that right now, the two-sided strategies with ETFs aren’t in place and aren’t producing returns that track when the markets go up and protect principal when the markets go down. Okay, now let’s talk about stocks, individual stocks. You’ve grown up with stocks. JC Penney’s, AT&T, Microsoft, Intel, all kinds of different stocks.
BRIAN: We want to warn you that all stocks, every stock has three components to it. A growth phase, a maturation phase and a-a phase of decline. Let’s use an example of what’s happening right now. JC Penney’s and Sear’s Holdings, those companies were in a growth phase for many decades. Then, they hit a maturation phase with the start about 16 years ago of online retail.
BRIAN: And now, in the last two or three years, they’ve lost 60, 70 percent of their value because people now are purchasing things online through Amazon and other retailers. I’ll give you another example. Another example of what we call creative destruction happened with AT&T, Polaroid and Kodak. Those are three companies that used to be major companies in the United States. They had a growth phase for decades, many decades. They had a maturation phase with the introduction of the cell phone.
BRIAN: The cell phone hit AT&T. The cell phone photography hit Kodak and Polaroid. Those stocks, two of the three, Kodak and Polaroid, are now gone, bankrupt. And the AT&T has lost 70 percent of its market value in the last 17 years and they had to be creative and change to more of a wireless carrier for Apple cellphones than anything else. So, creative destruction is happening right now with the creation of robotics.
BRIAN: That’s going to hammer the transportation issue or transportation sector. Microsoft, for example, whoever sold one share of Microsoft before January one of 2000 would have been considered a fool because it was in a growth phase. But, Microsoft peaked November of 1999 and didn’t make a new high for 14 years. It was October of 2013 before Microsoft hit a new high.
BRIAN: So Microsoft is in arguably a maturation phase right now. Every stock, if you buy and hold your stocks, we have two arguments against that. One is that it’s inefficient because markets get creamed every seven or eight years. Now, you can do this when you’re in your 20s, 30s and 40s, but if you do this when you’re over 50 years old and you have a buy and hold mentality strategy, now you’ve accumulated a lot of money and you’re taking these 30, 40, 50 percent hits and it is a life-changing event when the markets hammer your portfolio with the accumulated capital that you have.
BRIAN: This is common sense and its math. So, we want to warn you that that’s not in your best interest, but that’s what the bankers and brokers are going to try to tell you. We hope that you come in and see us and see a different way to invest with a two-sided strategy in a two-sided market. A two-sided strategy has higher returns and far less risk. Risk is a mathematical term we use volatility to measure. There’s two sides of volatility. There’s upside volatility, you want all of that you can get. And then, there’s downside volatility, which we just call losing money.
BRIAN: So, mathematically, logically, common sense let’s see who wins. Since January 1 of 2000, the six managers that we’re currently using have never had a losing year and have always collectively beat the S&P 500. So, who has more risk? The S&P that’s lost 50 percent twice in the last 17 years or these models that we use with a two-sided strategy that have made money every year. So we use a two-sided strategy.
BRIAN: Back to stocks. We’ve talked about how creative destruction there’s two problems that we have with the buy and hold strategy. One is what we just talked about how the markets get creamed every seven or eight years. That’s totally fine to buy and hold in your 20s, 30s and 40s, but not now. Not when you’re over 50 years old. The second problem is what we just covered also that every stock has creative destruction risk. That a new company pops up and buries the Microsofts or the other companies.
BRIAN: General Electric was a no-brainer. An amazing company. That’s down 60 percent just in the last little bit. Not 60 percent, 16 percent. GE hasn’t made money in 16 and a half years. Since January 1 of 2000. No, that’s 17 and a half years. So, we want to warn you that buy and hold has less return and much more risk than a two-sided strategy.
BRIAN: So, that’s our feeling on stocks. Do we own stocks in our portfolio? Yes, through ETFs. We own the indexes. We have more diversification and we’re efficiently, effectively can trade in and out, we can own them when the trend is up. We can get out and go to cash or go short when the markets are going down. These are trend following algorithms. All right, the next thing I want to talk about is managed futures. Futures are to commodities what options are to stocks.
BRIAN: 95 plus percent of the futures markets are hedging. Gosh, five percent or less is speculation. Mike, we’re down to four minutes, aren’t we?
MIKE: That’s right.
BRIAN: Dang. I’m going to hustle through this and then we’ll start next week and finish this up. When it comes to futures, let me illustrate it with two examples and then we’ll close it up. If I’m Boeing and I sell Japanese Airlines a few billion dollars worth of airplanes to be delivered in two years, I have about a 15 percent profit margin. I lose that profit margin if after the deal is signed, the currency of Japan, the yen, raises against the US dollar.
BRIAN: Or I have material risk too. If the price of aluminum or titanium go up in the next two years before delivery, I’m now working for free. I’ve got no profit. So, what we do is, Boeing hedges their currency risk and their material risk. Airlines hedge their jet fuel. Farmers hedge their crop risk. Oh, darn. I’m going to try to talk this through really quickly. If you’re a farmer, you know that you can put in a crop of wheat and sell it and your expense is 60 cents a bushel.
BRIAN: I’m just making this up. August red wheat, let’s say, is a dollar 20 and every time you deliver your crop, you see that price drop. So, right now, when we put the crop in in April of the year we start to put in, we can use insurance by hedging our risk and sell 10,000 bushels, which is our estimate of our crop. We can sell 10,000 contracts of the August red wheat for delivery in August. So what happens? Three things can happen.
BRIAN: The price of wheat goes up, down or flat when it comes to delivering our crop. If the price goes up, we deliver instead of a dollar 20, we deliver at a dollar 30. We deliver our crop, make an extra 10 cents, but we lose 10 cents because of the hedge. So, we locked in our price of a dollar 20 back in April. The price if it goes down and it goes down from a dollar 20 to a dollar, we deliver our crop for a dollar, but we make 20 cents on the hedge.
BRIAN: And obviously, if the price doesn’t move, there’s no change. So, we use hedging strategy with the commodities markets to lock in that rate. Do we own managed futures in our portfolio? No, but we are aware of who the best managers are. There’s a lot volatility with two-sided managed futures models. They aren’t producing gains good enough to replace the six that we have. We’re watching them. We know who they are, but we haven’t used them.
MIKE: Until next week, have a great time, enjoy this beautiful fall weather we’re and stay safe out there. We’ll talk to you next week, same time, same place. Take care.
