After reading the news that German bonds were yielding a negative return, I couldn’t help but wonder why any sane investor would intentionally invest in something that was guaranteed to lose money? It makes absolutely no sense to me unless investors felt that every other alternative was guaranteed to lose more money over the expected holding period. It would seem to me that stuffing cash under the mattress would be a better alternative. Maybe I am missing something, but I really don’t think so.
Investing in Guaranteed Winners
Instead, how about investing in a guaranteed winner? That is exactly what I plan on doing this year. In fact, I will be getting a return of over 20% by paying off my Discover Credit Card. It will be difficult to come up with any better investment in 2012 for my extra money. Can the stock market guarantee a 20% return this year? Will gold or silver show those kind of gains? It would be nice, but it isn’t assured.
Instead, paying off any debt would be better than investing in German bonds! Even paying down a 4% mortgage is a better way to spend money than buying bonds that are going to lose. I am simply dumbfounded and don’t really know what to say. Please explain this to me if you have any insight at all.
I guess I should consider myself somewhat fortunate since by having some credit card debt, deciding what to do with my money this year is a straightforward decision. The return is great, my cash flow will improve each month throughout the year, and the best part is that it is all tax free.
Blogging Earnings Attacking Debt
I will be using the earnings from this blog for paying off debt and attacking the Discover Card. Last month the balance was about $8500, and I made a $450 payment yesterday. I will have some expenses this month with the giveaway, but hope to be able to make an additional payment in February.
Now if I can manage to make $30,000 as part of the $30K Challenge and net about 50% profit, then I will be able to pay off the Discover Card and move on to additional debt as well. That is a big motivator to keep working hard and maintaining focus.
Of course, I owe it all to you for taking the time to read my blog and am incredibly thankful for the opportunity to share my thoughts and pay off some debt at the same time. But I do want to make sure that you get the chance to enter the giveaway celebrating my 100th post here on Cash Flow Mantra. So if you haven’t entered yet, be sure to do so for your chance to win.
Starting next month, I will be undergoing some structural changes to the method in which I am compensated at work. On the surface, it seems like it will be a good thing, but only time will tell whether or not that impression is correct. One of the major changes is the retirement package that is being offered.
Now Getting a Match
It turns out that I will now be getting a match from my employer. Previously, that wasn’t the case and anything that I put into my 401(k) came out of my own pre-tax earnings. I still contributed the maximum and have for the past decade, but now my savings will be growing faster.
I am sure that most of you know what a 401(k) is, but for those who don’t, let me take just a few minutes to go over some of the basics.
The 401(k) developed as an alternative retirement savings vehicle to the traditional defined pension plan offered by companies prior to the 1980’s. It gets its name from the section of IRS Code that defines this particular type of retirement plan. It is employer-related, as opposed to an IRA or a SIPP pension in the UK.
Each employee younger than 50 can contribute up to $16,500 into the account which is invested according to the employee’s wishes within the constructs of that particular plan. Most plans offer a mix of stock and bond mutual funds and a money market fund as well. Each employee 50 years of age and older can contribute an additional $5,500 in a catch-up provision. (I guess this assumes that most people won’t have saved enough and need to make up for lost time.)
Essentially, this shifted the burden of retirement savings from the employer in the form of a pension plan onto the employee using earnings in the form of the 401(k). It really doesn’t sound like this has been a good thing since most American employees have not saved enough for retirement.
Pay Yourself First
One of the best ways to save money is to pay yourself first and make it automatic. Yesterday, I turned in the paper work to have the maximum taken out of each paycheck before I even see it. That way, it is impossible for me to miss it. I won’t even be planning on it in my spending.
Even though I really suck at budgeting and don’t like it, I am really good at paying myself first and planning for the future. I will not be falling into that trap of not having enough for retirement. I have contributed the maximum for the last 10 years and will be doing the same with this new arrangement. Plus, now I will be getting a match to boot. Free money and a guaranteed return will help that account grow that much faster.
My Fund Elections
The investment selections are a little different than what I have been used to, so I had to pick some new mutual funds. I considered my other holdings in real estate and my other retirement accounts and decided to add 20% to the PIMCO total return bond fund. I know that bonds are nearing the top since yields can’t get much lower, but Bill Gross is a smart guy and will know what to do. Plus I am not getting any younger and don’t have any fixed income in my portfolio.
I also decided to put 40% into a EurAsia fund since I don’t feel I have enough foreign market exposure. I am currently invested in individual U.S. stocks. Even though I am not getting any younger, I am still looking at almost 28 years before I have to start withdrawing. Since Asia is increasing wealth by a rapid clip, I want to benefit from that type of growth. There will be some hiccups along the way, but dollar cost averaging will help.
The last 40% was placed into a small company growth fund. Small companies tend to outperform their larger brethren. Small companies can get big and bought out which helps to more than balance out those that fail. Again, a longer investment horizon and dollar cost averaging should benefit me.
So, there you have it! My new and improved (due to a match) 401(k)!
Readers: Do you have a 401(k)? Are you contributing the max? Do you get a match? Will you have enough for retirement? What do you think of my elections? Please feel free to comment. I will probably match your comments.
Warren Buffett has two rules for investing:
Rule 1: Don’t Lose Money
Rule 2: Never Forget Rule #1
I like those rules.
I mentioned several posts ago that I used protective put options against all the stocks in my portfolio and broached upon the subject of diversification. But that really begs the question: “What is diversification?”
By definition, diversification is a technique of reducing risk by investing in assets that have poor correlation so that when one investment declines, the other declines less and will decrease overall risk.
The other method of reducing risk is by hedging which is what protective puts are doing for me. Hedging techniques work to reduce risk since the assets have negative correlation. When my stocks decline in value, my put options will actually increase in value.
A general tenet of investing is that increased risk should lead to increased returns. Therefore, one can conclude that by reducing risk, both diversification and hedging will decrease the overall return of a portfolio.
However, one must remember that it is more often avoiding large losses that leads to investment success rather than getting large outsized gains, just like too many unforced errors in tennis or turnovers in football lead to poor outcomes.
Correlation of Assets
One of the basic tenets of modern portfolio theory is the correlation between different asset classes. The goal is to maximize overall return of the portfolio while minimizing risk through asset allocation. When one portion of an investor’s holdings decreases, another portion will increase. The actual mix of asset classes becomes more important than any one individual asset selected.
One of the best sites that I ran across while doing some research for this post is a correlation matrix. There is no good way to reproduce it which is why I provided the link. It shows the correlation between different asset classes as represented by the three month return of the exchange traded funds representing the asset classes.
As you can see over the past three months, inflation-protected Treasuries (TIP) and gold (GLD) have been positively correlated. This makes sense since gold is typically thought of as a hedge against inflation. You can see that stocks whether large cap or small cap or international stocks have been positively correlated.
One has to remember that there are times when historical correlations deviate from the norm such that asset classes that may not have been very correlated move in tandem.
If we look to 2008 as a recent example of market instability, we can see that many asset classes lost significant value. However, I would point out that there was a major difference between returns on bonds other than high-yield and stocks.
Despite commodities in general losing money, gold had a positive return. So even though correlation values may have changed during that time frame, the general trend remained intact such that TIPs lost very little and were negatively correlated to equities.
I would like to leave you with one final link. It is a great article that discusses asset allocation, having a healthy investment mindset, and the importance of time in investing. I think this is one of the major takeaways that all investors should get from this discussion. Invest early and invest consistently through good times and bad.
If you can remember that, you can’t help but make money.