Bloodletting and Evidence Based Investing

Have you ever heard the term “bloodletting”? Bloodletting was a tactic used by the medical community to prevent or cure illness. In the old days, the collective wisdom was that our blood was one of many systems in our body that must remain in balance at all times. If you walked into a doctor’s office with a common affliction like the flu or a cold, the doctor might determine that you simply had too much much blood in your body. A common prescription was to apply leeches to your skin to bring relief.

Why did they believe this craziness worked? Their anecdotal experience, speculation, and conjecture.

So how did we figure out that bloodletting was probably doing more harm than good? Researchers began applying science to the practice of medicine in the late 1800s. The scientific method of hypothesizing, gathering data, testing, and using analysis to come to a reasonable conclusion helped us figure out that our problems were not because we had too much blood. They came from other things like viruses, bacteria, and our genetics.

Evolution of Investing

This revolution in western medicine is similar to what we’re seeing in investing today. For years and years the investment process has been driven by anecdotal observation and conjecture.

For example, how many times have you read an article in Forbes or The Wall Street Journal that profiles the “next big stock to pop”? In the 90’s it was tech stocks, in the 2000’s it was banking and pharmaceuticals, and since then it’s been social media and tech stocks. Buying a stock that you think is about to pop, or is undervalued, has been one of the preeminent investment strategies since the early 1900s.

The same goes for “tactical” asset allocation. Boosting your portfolio’s allocation to oil stocks because you think OPEC is about to cut their production quotas, or selling bonds because you think interest rates are about to rise are strategies based on speculation about the future.

Why do so many people invest this way? Because of our life experience & anecdotal observations. Everyone I’ve ever met has at least one person they know who invested early in Facebook or Microsoft and made a fortune. We believe this type of investing can work because of our anecdotal experience.

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How to Use Strategic Asset Location to Reduce Your Tax Bill

I’m a believer that the biggest factor contributing to the returns in your portfolio is asset allocation. The amount of your portfolio you choose to invest in stocks, bonds, real estate, or anything else will ultimately have the biggest effect on how your portfolio does over the long run.

In other words, the decision of whether to buy Lowe’s or Home Depot isn’t nearly as important than the decision to be in large cap stocks or international bonds.

If you’re being strategic about your saving, you’ll probably try to utilize tax advantaged accounts like IRAs, Roth IRAs, and 401(k)s as much as you can. If you’re using them (like most people), after a while your total portfolio will probably be spread across several different types of these accounts.

Today’s post covers asset location. Rather than replicate the exact same asset allocation in each of your individual accounts, placing your investments across them strategically can work to reduce your tax bill and enhance your after tax returns.

Since some asset classes are more likely to distribute taxable income & capital gains, parking them in the accounts you don’t pay tax on (like a Roth IRA), only seems logical. When done thoughtfully, asset location can as much as 0.25%-0.75% per year to your portfolio’s returns.

Read on to learn how it works.

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The Defined Benefits Pension Plan: Helping Business Owners Shelter Thousands from Income Tax

Taxes are frustrating to nearly every small business owner I speak with. Most people agree that we should all pay our fair share. But after working countless thousands of hours to build a viable business, it’s easy to feel like Uncle Sam’s reaching into our pockets too far. That’s why I focus on helping my clients who own businesses make sure they’re not paying more in taxes than they need to. One great tool we can use in this endeavor is a defined benefit retirement plan. Whatever you want to call it, DB plan, defined benefits pension plan, etc., it can be a killer way to defer a huge portion of your income from taxation.

I realize you might cringe when you read the words “pension” or “defined benefit”. The idea of promising employees a monthly check throughout their retirement may not foster warm and fuzzies. But if you don’t have employees, or only have a few, a defined benefit plan can offer some pretty major tax advantages.

Read on to learn how you might take advantage of them.

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How to Tell Whether You Have Enough Money to Retire

“I’m not sure I have enough saved up to retire.”

“How can I know for sure my savings will last after I stop working?”

“I”m concerned I’ll spend through my savings too fast and run out of money when I’m 80.”

These are a few common phrases I hear from people who are approaching retirement. Many people I speak with in the their mid 50s and early 60s these days have saved diligently for years for their own retirement. But now as they approach the transition from accumulating wealth to spending their savings, the question of whether they’ve saved enough becomes extremely important.

Plus, when you mix in longer life expectancies, rising health care costs, and expensive stock and bond markets, there’s a lot of uncertainty surrounding the issue.

So in today’s post, I’ll cover some of the leading ways you can determine whether you have enough saved up to stop working. Without putting you and your family’s future at risk, that is.

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You’ve Inherited an IRA. Now What?

Inheriting an IRA is quite a bit different than inheriting any other asset. Unlike cash or investments in a traditional investment account, if you inherit an IRA you’ll need to start withdrawing from the account in order to avoid hefty penalties. In this post we’ll cover what your options are when you inherit an IRA, and how you can best manage it for you & your family.

How IRAs are Passed After Death

Whereas many of your assets will be distributed to heirs according to your will, IRAs are instead distributed by contract. Your custodian (the brokerage firm that holds your account, like Vanguard or TD Ameritrade) lets you designate as many beneficiaries and contingent beneficiaries as you like. Once you die, your account bypasses your will, the probate process, and is distributed according to this beneficiary designation.

When account holders don’t designate any beneficiaries things get a little murkier. When the account holder dies, their account is distributed according to their custodian’s default policy. At most custodians this default policy diverts the IRA back to their estate (and goes through probate) but at some it’s diverted to their spouse first. Unfortunately, if the account holder didn’t designate a beneficiary while they were alive, you’re at the mercy of your custodian’s policy.

If the account is indeed diverted back to their estate, it’ll be distributed according to your state’s interpretation of their will. And if they didn’t have one (meaning they died intestate), the state will make its own decision on who should inherit the asset.

The moral of the story? Take advantage of the opportunity to bypass probate, and designate your beneficiaries formally while you’re still alive.

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Top Strategies for Managing Incentive Stock Options

Incentive stock options, or ISOs, are a pretty common way for companies to compensate management and key employees. Otherwise known as “statutory” or “qualified” options, ISOs are a way to give management a stake in the company’s performance without doling out a bunch of cash.

While they can have wonderful tax benefits, far too many people who own ISOs fail to exercise them wisely. Some estimates even claim that up to 10% of in the money ISOs expire worthless every single year. If you own incentive stock options but aren’t sure how to manage them, read on. This post will cover a few of the top management strategies at your disposal.

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How the Trump Presidency Could Affect Your Finances

Recently I’ve had a few questions from clients and readers about what they should be looking out for now that we have a new president in office. As you know, Mr. Trump has had a pretty eventful first few weeks in office. In fact, as I write this protests are underway at no less than 15 major airports across the country.

In this post I’m going to share some of the trends and data points that I’m keeping an eye on, and on some discuss how they might affect your financial situation. This post is in no way political. This isn’t an endorsement or criticism of president Trump or his policies. My objective here is simply to share some thoughts about how our new president might impact our finances and what you might want to look out for.

As one of my clients phrased it recently, we’re all in this boat together. Like or not we just have a new captain at the helm.

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What’s the Optimal Portfolio Rebalancing Frequency?

If you’ve read the blog for very long, you probably know that I’m a big proponent of thoughtful and customized asset allocation. The percentage of your portfolio invested in stocks, bonds, cash, and real estate should vary based on your personal financial objectives and tolerance for risk.

In fact there are plenty of studies contending that asset allocation determines the vast majority of your portfolio’s return. In other words, it doesn’t matter as much which stock or bond you choose to invest in. It matters far more how much of your portfolio is invested in stocks or bonds in the aggregate.

The Importance of Portfolio Rebalancing

If you’ve ever managed your portfolio (or anyone else’s for that matter) you also know that over time your portfolio’s asset allocation will change as the market fluctuates. If you start with 60% in stocks and 40% in bonds, you might find your portfolio weighted 70% in stocks and only 30% in bonds after an appreciation in the stock market – especially since bonds tend to fall when stocks rise.

This is why it’s important to rebalance your portfolio over time. The whole point of building a customized asset allocation is to match the risk in your portfolio to your personal risk tolerance. As your individual investments fluctuate in value, selling some of the appreciated positions and replacing them with some of the depreciated positions brings your portfolio back to its intended allocation.

For example, if a 60/40 portfolio became 70/30 after the markets moved, you’d want to sell stocks that represent 10% of your portfolio and use the cash to purchase bonds – returning to your original 60/40 allocation. Without rebalancing, your portfolio would continue to stray over time, ensuring a level of portfolio risk that’s higher or lower than you’d like.

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Mutual Fund Capital Gains Distributions: What They Are & How to Avoid the Tax Hit

If you’ve ever invested in a mutual fund, you may know that they’re required to distribute at least 95% of their capital gains to investors each year. You may also know from experience that these gains are not always welcome since they come with a tax liability attached.

More often than not these capital gains are not large enough to cause investors to stir. But every year there are a few funds that pass massive unwanted gains on to investors, leaving them with a big, stinky tax bill.

This post may be slightly tardy given that some mutual fund families have already distributed their year end capital gains. Nevertheless, it’s an important topic that you should be aware of and keep an eye out for.

If your objective is to minimize your tax bill (hint: it probably should be) you’ll want to know about upcoming distributions at the end of each year, and avoid them when it makes sense. This post will cover exactly what capital gains distributions are, why mutual funds distribute them, and when and how you might want to avoid them.

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The Top 7 Mistakes People Make when Planning for Retirement

Hello ATC Readers!

This post is to announce that I’ll be hosting a free retirement webinar in a few weeks. I’ve been getting a lot of questions recently to the effect of “what am I doing wrong?” when it comes to retirement planning.

As you may know, we’re often our own worst enemy when it comes to retirement planning. As human beings we tend to get emotional when it comes to our finances. Rather than remaining logical, balanced, and objective, we often make poor decisions because our emotions get in the way.

I wanted to cover this issue in more detail than a traditional post, so I decided to focus a 60 minute webinar on the topic:

The Top 7 Mistakes People Make When Planning for Retirement

Presented by Grant Bledsoe, CFA, CFP®

In this live webinar we’ll cover some of the most pressing issues retirees face today:

The top retirement mistakes made today and how to avoid them
How to understand the fees you’re paying your advisor
How your emotions can affect decision making & how to overcome them to make consistently smart investment choices
The 5 components all effective retirement plans must have
How to tell whether your retirement savings are enough for you to stop working

There are two separate dates you can attend:

Tuesday, December 6th from 10:00AM – 11:00AM PST
Wednesday, December 7th from 1:00PM – 2:00PM PST

Even if you can’t attend at these times, make sure to register anyway. After the webinar is over I’ll email you a replay copy you can watch at your own convenience (for a limited time).

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