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Posts by Luke Delorme, Director of Financial Planning at AIS

Best of 2016: Eight Market Predictions

This week, as we recharge for the new year, we highlight a few of our best-read blogs of 2016. This piece originally ran in January.
1. Stocks will go up, stocks will go down.

You know this, but it is worth repeating for the sake of your sanity. Markets go up and down daily. For every buyer, there is a seller. But there is a broader historical point here. Even during periods of relative growth, there are negative stretches. Likewise, during downturns there are upswings. Since 1990, there has never been a calendar year during which all 12 months were all up or all down for the S&P 500. 2013 was a great year for stocks and still saw two down months. 2008 was a terrible year and still saw four up months. Historically, stock markets tend to trend upward, but we should certainly expect that markets will go up AND down.

2. An investment advisor or financial planner will try to sell you something with the term “downside protection” immediately after a short-term drop in markets.

Going back to my first point, at some point during the year it is likely that markets will fall. It is precisely this time that we’ll see articles about pension funds considering more hedge fund exposure. We’ll start hearing our friends talking about “downside risk” and hedging against market losses. Naturally, these conversations crop up AFTER the market has dropped. Do yourself a favor and allocate to a portfolio that is comfortable BEFORE the market drops. This could mean significant “downside protection” (e.g., a position in cash, bonds, Treasuries, TIPS), or it could mean minimal downside protection if you are insensitive to short-term performance.

3. People will predict rising interest rates. It’ll happen someday!

For four straight years, we’ve heard that interest rates have “nowhere to go but up.” And yet, they were stable in 2012, up slightly in 2013, down in 2014, and flat again in 2015 (despite the Fed raising rates). On Christmas Eve 2014, the 10-year yield was 2.26 percent. This year, it was 2.24 percent. So much for a guarantee of rate increases. The funny thing is that now people are starting to say that they don’t expect increases in interest rates this year…A few years of bad predictions makes you start to question your assumptions. So maybe this will be the year that rates really start to rise.

Theoretically, there is a lower bound of zero percent on interest rates, even though Europe has negative interest rates. This lower bound and predicted Fed rate hikes are the reasons that economists and prognosticators keep saying that rates have nowhere to go but up, but they’ve been wrong for four years in a row. Every reasonable prediction is right so long as you don’t provide a time frame.

Whether or not interest rates rise, the purpose of bonds in your portfolio is usually to provide stability in the event of stock market turbulence. A small expected decrease in the value of your bonds is the price you pay for protection against large swings in overall volatility.

4. Apple will be an outsized driver of how we perceive market performance but may or may not be a big driver of how our portfolios actually perform.

People tend to perceive performance based on what they hear on the radio during their daily commute. The radio tells us what the S&P 500, NASDAQ, and Dow Jones did during the day. Apple Computer comprises about 3.7 percent of the S&P 500. Microsoft and Exxon, the next two largest companies as of this writing, comprise about 2 percent of the Index each. This means that the performance of these companies will have an outsized impact on how we perceive markets to be doing.

The radio does not tell us what our investments did during the day. For investors who are diversified across a range of markets and asset classes, daily reporting may not be a reflection of performance. I maintain a significant share of my portfolio in small caps, value stocks, international stocks, emerging markets, and bonds. The performance of the S&P 500 is important, but I should not expect to match its performance.

5. Emerging market stocks will provide a different return than U.S. stocks.

Another obvious point that almost certainly can’t be wrong! Emerging markets will have a different return from U.S. stocks, which will be different from small caps, different from European stocks, different from Value, different from commodities… you get the idea. You’ll see some people saying emerging markets will outperform, or Europe will underperform, or U.S. stocks are the place to be. Someone will be right, and someone will be wrong. Different markets provide different performance over different periods of time. The central idea of diversification is to dilute these differences.

6. Some funds will beat their benchmarks, some will underperform. Some funds will even have their 3rd or 5th straight year of outperformance.

Individual mutual fund families (e.g., T. Rowe Price, Vanguard, Fidelity) have hundreds of individual funds. By chance alone, some share of them will outperform. For example, if you had 100 different funds, you could expect 50 to outperform in any given year by chance alone. Half of those would outperform a second year and half of those a third year in a row. At the end of 3 years, you’d have about 12 funds that had three straight years of outperformance – but that would be indistinguishable from luck.

If anything, excellent five-year performance of a fund might predict lesser subsequent returns as its performance reverts to the mean. Take the story of Bill Miller. Miller was a fund manager that worked at Legg Mason and was referred to as a stock guru. The fund he managed (Legg Mason Capital Management Value Trust) outperformed the S&P 500 for 15 straight years from 1991 through 2005. Miller was crowned as one of the best stock pickers of the generation and graced the cover of countless magazines and newspapers. Investors couldn’t get into his fund fast enough.

What happened next was nearly as impossible: The fund bombed. Over the most recent 10 years (ended November 2015) the fund has returned a paltry 0.99 percent per year as compared with 7.48 percent for the S&P 500. In November 2011, Miller turned over management of the fund to his co-manager. Miller exemplified that excess fund returns simply don’t last.

7. Investors will continue to move toward passively managed funds, and assets under management by “robo-advisors” will continue to grow.

Over the last year, about $175 billion flowed out of “active” funds, while $435 billion flowed into “passive” funds (Source: Morningstar Direct Asset Flows, December 2015). This continues a trend that has active managers scurrying to stop the bleeding.

The problem is that actively managed funds continue to underperform the market. This isn’t going to turn around because it is mathematically impossible for active managers to beat passive ones over the long term. You’ll see a lot of articles about why now is the time to be with active managers because the market is tough right now and good active managers are going to be especially valuable. Guess who’s writing those articles?

I took a look at nine funds from a 2011 article titled “Best Large Blend Funds for the Long Term” from U.S. News. Ending November 2015, those funds had returns that averaged 11.29 percent. Compare that with S&P 500 index funds that returned 14.36 percent (Vanguard), 14.27 percent (SPDR), and 14.30 percent (Fidelity Spartan). Investors are going to continue to recognize the underperformance of actively managed funds.

8. Oil prices will change, labor market results will fluctuate, geopolitical events will arise, global economies will do better and worse than expected, the Fed will have meetings. All of these will be used as reasons that the market fell or rose on many occasions throughout the year.

Markets fluctuate. I just sold some Apple stock because I wanted to raise cash in order to do some work on my kitchen. Countless other people are buying or selling stocks and bonds every day for all different reasons. There is an entire industry dedicated to analyzing the broad market movements every day. It’s easy to ascribe a narrative to price fluctuations after the fact, but it’s impossible to truly assess the impact of millions of market participants on a daily basis.

It’s a lot harder to predict what will happen in advance. Granted, some prognosticators will be correct. By virtue of having so many predictions—like mutual funds—some will inevitably look prescient. The narrative at the end of the year will look well-reasoned, but it won’t tell the whole story. Stick to your plan and ignore prognosticators and market fluctuations from week to week.

Happy New Year!

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Warren Buffett’s Portfolio is Irrelevant to Us

I was recently at a lecture about investing and the inevitable question was posed to the lecturer at the end of his presentation: “So, how are YOU invested?”

The question came from a good place. The attendee just wanted to know how the lecturer applies his knowledge to his actual investments. The problem is that the lecturer’s answer is probably irrelevant to the attendee.

If the lecturer had said that he was 100 percent invested in stocks, you might think that was a pretty risky position. But what if I told you that the lecturer was 30 years old and had no children? Or what if the lecturer was going to get a $100,000 annual pension from his employer in retirement? In either of those cases, a 100 percent stock allocation for his investments might not seem so far-fetched.

How about if the lecturer responded that he was only 30 percent invested in stocks, with the rest in bonds and cash? That might seem pretty conservative. But if he was risk averse and 75 years old, that might be a perfectly reasonable asset allocation for his situation.

The point is that any individual’s asset allocation is irrelevant to you and me without context, regardless of their level of intelligence or wealth.

That brings me to Warren Buffett, the well-known investor who is worth billions as a result of his investing acumen. The financial media is constantly reporting on what Buffett is doing with his money. For instance, in 2011 when bank stocks were depressed, Buffett bought $5 billion worth of preferred stock from Bank of America. This is certainly newsworthy, but how is it relevant to you and me as investors?

Buffett is worth so much money that he had $5 billion sitting around ready to invest. Most people aren’t in such a position. Buffett has massively increased his wealth as a result of this savvy trade, but it was hardly something that you or I could have replicated.

Financial columnist Barry Ritholtz recently wrote an article titled “Invest Like a Billionaire (If You Are One).” The title says it all. If you’re a billionaire, perhaps Buffett’s investments are relevant to you. Otherwise, you have to look at your own situation and assess the right investments for you.

Another example involves Michael Dell, founder of Dell Computers. When the share price of Dell Computers was struggling in the early 2000’s, he bought $70 million worth of the stock. That’s a huge investment for most anyone in the world, but not for Michael Dell or Warren Buffett. In fact, Mr. Dell had a net worth of about $20 billion at the time, meaning that his $70 million investment was less than half a percent of his wealth. That’s like the average investor throwing $1,000 into the market. People lose more than that in a  weekend in  Las Vegas.

All of these examples are simply meant to convey the idea that how you invest should be based on your situation. If you’re young, have no children, and you have lots of years of earnings in front of you, a more aggressive portfolio of stocks may be prudent. If you’re retired and reliant on your portfolio for a fixed income, a more conservative portfolio of bonds and cash may be prudent.

Focus on how your investments fit in with your own situation and try to ignore the noise about what Warren Buffett is doing.

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**Past performance is no guarantee of future results. This information should not be considered personal investment advice.**

Is This the Worst Mutual Fund in the World?

It is generally a reasonable approach to invest in passively managed index funds because research has shown that actively managed funds have not shown a consistent ability to beat their indexes.

Index funds simply buy and sell the stocks that comprise an index, such as the S&P 500. With such a simple approach, they are generally able to operate at a low cost while avoiding risks that result from concentrating too heavily in a small group of securities. This is good, because if you can operate at a lower cost, you can generally pass along more of the investment gains to investors.

As an example of these low costs, Vanguard’s 500 Index Fund charges anywhere from 0.05-0.16 percent depending on the share class, and the Fidelity S&P 500 Index fund now advertises fees as low as 0.045 percent.

The Vanguard 500 Index Fund (VFIAX), which charges 0.05 percent per year, has performed almost exactly as expected. In the last five years, The S&P 500 benchmark has returned 12.55 percent, while the Vanguard 500 Index Fund has returned 12.51 percent per year – almost exactly the benchmark minus expenses.

However, just because a mutual fund tracks an index doesn’t mean that it has super-low fees. Allow me to introduce what just might be the worst mutual fund in the world, the Rydex S&P 500 Fund – Class C (RYSYX).

The Rydex fund tracks the S&P 500, just like hundreds of other index funds, but charges more than 2 percent more per year. The Rydex fund charges 2.31 percent for its seemingly simple task of buying and selling stocks based on what the Index tells them. This fund, not surprisingly, has performed nearly exactly as expected as well: it has earned the benchmark return minus expenses. The 5-year return for the Rydex fund has been 9.88 percent, about 2.67 percent below the benchmark.

To put some dollar figures on this, an investor who bought $100,000 worth of the Rydex fund in June 2006 (when data are first available), would have about $163,619 today. Another investor who bought $100,000 worth of the low-cost Vanguard option would have $204,758, an extra $41,139. That is a travesty for Rydex investors.

Source: Morningstar advisor tools.

I should note that these returns are actually quite good given the recent past, but only because the S&P 500 Index itself has outperformed many other asset classes. However, using a fund such as this one essentially “locks in” a return that will be more than 2 percent below the benchmark.

The charges on this Class C fund include a 0.75 percent management fee (highway robbery), a 1.00 percent 12b-1 fee (the marketing or distribution fee which compensates advisors for selling the fund), and a deferred sales load of 1.00 percent (another bonus for the seller that may or may not be collected based on how long you hold the fund).

Why would anyone buy such a fund when funds from Vanguard, Fidelity or others, which seek to match the same index, are available with total costs roughly 97 percent less?

According to Morningstar, this fund has about $228 million in assets under management. With a net expense of 2.31 percent, people affiliated with selling and managing this fund collect more than $5 million per year. This fund is not the only one of its kind. According to one source, there are more than $23 billion invested in S&P 500 Index funds with expense ratios of at least 0.50 percent.

There are times when Index fund fees will likely be higher than 0.05 percent. For example, if you want exposure to international or emerging market stocks, you may find the lowest cost funds charge as much as 0.25-0.50 percent. But there is no excuse for investors continuing to pay fees of greater than 1 percent for funds if an alternative is readily available at a lower cost.

The trouble with these funds is that they may be all that you’re offered as an investor. Maybe you’ve got an advisor that stands to benefit from selling the funds, and this is all he or she offers. Or maybe you’ve got a 401(k) plan that only offers one choice of S&P 500 Index fund. Whatever the case, I urge people to explore alternative options so that we can put these funds out of their misery.

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American Investment Services, Inc. (AIS) is an S.E.C. Registered Investment Adviser founded in 1978. AIS is wholly-owned by the non-profit scientific and educational organization American Institute for Economic Research.

Past performance may not be indicative of future results. Therefore, no current or prospective investor should assume that the future performance of any specific investment, investment strategy or product made reference to directly or indirectly, will be profitable or equal to past performance levels. Indexes are not available for direct investment. Historical performance results for investment indexes and/or categories generally do not reflect the deduction of transaction and/or custodial charges or the deduction of an investment-management fee, the incurrence of which would have the effect of decreasing historical performance results. The results portrayed in this portfolio reflect the reinvestment of dividends and capital gains. Returns depicted are hypothetical and do not constitute recommendations.

Social Security: Beat the Deadline on File-and-Suspend

As we covered at the end of last year, the rules for Social Security have recently changed. The new rules mean the strategy of filing and suspending your benefits will no longer be beneficial for married spouses. But there is a window for some people to be grandfathered in under the old rules. Now, we have some of the details and deadlines.

Here’s an example of the old “file-and-suspend” strategy at work: A husband was able to file for benefits but not actually collect them (“suspend benefits”), while the wife could collect spousal benefits without affecting her own earned benefit later on. In essence, the couple had the opportunity to dip into Social Security without reducing the long-term benefit of postponing collection.

This tactic will no longer be allowed. However, for those of you that were at least age 62 by the end of 2015, there may still be a way for you to take advantage of the old rules.

I recently covered six example strategies for couples that are in their 60’s who can still take advantage of expiring loopholes. We now have more detail. What I want to emphasize in this article are three important points:

  1. For those of you that are at least full retirement age (66), and a spouse who is at least 62, it may be worthwhile to file-and-suspend, but the deadline is approaching! The deadline for file-and-suspend is April 29, 2016. After that, your options will be more limited.
  2. Even if you won’t be full retirement age by April, there may be an opportunity for restricted claiming of spousal benefits so long as you were at least age 62 by the end of last year.
  3. According to recent reports, workers at the Social Security offices may be unfamiliar with the deadlines, the rule changes, or who is still eligible to file-and-suspend. You must do your homework and know what you’re talking about when you head to the Social Security office.

First, you need to know who should take advantage of file-and-suspend. Basically, the way that you make money from file-and-suspend is to have one spouse suspend benefits while the other spouse files a “restricted claim” for spousal benefits ONLY.

This only makes sense if you’ll both be between ages 66 and 69 at the same time. If there’s a greater than four year age difference, you don’t need to suspend benefits since one spouse will be collecting by the time the other reaches full retirement age. The spouse should only claim spousal benefits once he or she reaches the full retirement age. If you’re at least 70 and already collecting, there is no need to suspend benefits for your spouse to file a restricted claim. This is where many people misunderstand the nuances of file-and-suspend.

However, even if there is a larger age difference or if you won’t be full retirement age by April, you may still be able to take advantage of restricted claiming. For those of you at least age 62 by the end of last year, restricted claiming is still an option.

That means that you and your spouse should coordinate benefit collection and potential restricted claiming even if you can’t take advantage of file-and-suspend. If you’re at least 62, but not yet 66, you should understand how you and your spouse can take advantage of restricted claiming. Depending on your age difference, restricted claiming may help you dip into social Security for at least a short time (you’ll see the specifics in my examples).

All of this is a lot to take in, and resources on the topic are often limited. If you call the Social Security office, you may get a knowledgeable worker, but it’s best to spend as much time as necessary to really understand the nuances of the file-and-suspend and restricted claiming so that you can control your own destiny.

Restricted claiming success story

I recently met with a woman whose husband was already claiming benefits. She was not yet full retirement age, but she was at least 62. I told her that she could still file a restricted claim for spousal benefits when she turned 66, and she wouldn’t reduce her delayed retirement benefit that she could start collecting at age 70. There was no need for her or her husband to file-and-suspend since he was already claiming. I suggested she bring a document to the Social Security office to prove her point. She had been already told by someone in the office AND BY HER FINANCIAL PLANNER that this would NOT be an option.

She brought the actual Congressional bill and pointed to Section 831. According to that document, the closure of the restricted claiming loophole “shall apply with respect to individuals who attain age 62 in any calendar year after 2015.” Second, I had her make sure she really understood the claiming rules by reading Michael Kitces. With the confidence in her knowledge of the rules, she went to the office and confirmed that she could file a restricted claim for spousal benefits without any negative consequences for her own earned benefits.

She responded with this note to me: “I just returned from my appointment at the local Social Security office in mid-town Manhattan. Thanks to you and your excellent research, I was prepared to fight for my rights. The Social Security representative that helped me immediately acknowledged that I am eligible for spousal benefits at my full retirement age because my birthdate is before 1953. It couldn’t have been easier!”

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Target Date Funds: In Defense of Investing Simplicity

targetTarget date funds are investment vehicles that have gained popularity with regular people but get mediocre marks from investment advisers. Offered by most fund families (Vanguard, T. Rowe Price, Fidelity, etc.), they are frequently included as an offering in 401(k) plans. According to Morningstar, investors had about $700 billion in target date funds at the end of 2014, although their growth is slowing.

One reason for the slowing growth may be that people have been dissuaded from using target date funds because of their simplicity. They’ve been told that investing is complex, and that they need a more individualized solution than target date funds can offer. I would like to offer my two cents in defense of simplicity.

Target date funds work by allocating across asset classes based on a projected retirement date (they’re sometimes called “life-cycle,” “age-based,” or “target retirement” funds). They primarily provide access to stocks and bonds, domestic and international. A target date fund with a projected retirement that is far off, say 2045 or 2050, will allocate Read more

January Market Turbulence: A Historical Perspective

Through Thursday, the S&P 500 Index was down about 8.6 percent during the month so far. To put this in perspective, the worst January in S&P 500 history was 2009. In January 2009, the market fell 8.6 percent. We’re on pace for a January stock market loss as bad as we’ve ever seen. What lessons can we glean from historical data?

First, let’s look at the worst January returns in history. Below is a chart that compares this January to the worst 20 Januarys on record (all returns are price-only returns on the S&P 500, meaning that they don’t include any dividends).

Jan 1 sub

Now let’s look at what the returns were for the full calendar year after these 20 bad starts, inclusive of these rough starts. The average calendar year return for these 20 years was -2.2 percent and the median was -4.1 percent. There are many examples where a rough January continued through the calendar year, but there are several examples where a poor January turned around during the rest of the year.

It’s difficult to divine a precise trend from these data. Some of the bad years, like 2008 and 1957, were in the midst of recession. There are others, like 1940 and 1941, which took place amid larger global issues (World War II). Still others, like 1977, were the result of currency devaluation and oil shocks during a secular bear market. On the positive side, three of the best calendar-year returns among these 20 have come in recent history (2009, 2010, and 2014) during a secular bull market.

Finally, let’s take a look at calendar year returns during these years exclusive of the rough January. In other words, what happened from February through December in these years? As it turns out, the average return for the rest of the year during these 20 bad starts was 3.2 percent, with a median of 2.4 percent. The average annual return across 88 years of data is 7.4 percent. This suggests that the market might turn around for the rest of the year, but historically the return after a bad January has been less than average.

Is this January a sign of things to come, or a correction in the midst of a broader bull market? We cannot know that answer until it plays out. These kinds of market pullbacks are precisely the reason we tell people not to try and time the market, and to invest in a prudent portfolio that includes bonds, even when it looks like the returns might be small. Most people — financial advisers and investors alike — “missed” this correction. A diversified portfolio has not suffered the same setbacks as the stock market, and should not cause as much pain for investors.

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Eight Market Predictions for 2016

1. Stocks will go up, stocks will go down.

You know this, but it is worth repeating for the sake of your sanity. Markets go up and down daily. For every buyer, there is a seller. But there is a broader historical point here. Even during periods of relative growth, there are negative stretches. Likewise, during downturns there are upswings. Since 1990, there has never been a calendar year during which all 12 months were all up or all down for the S&P 500. 2013 was a great year for stocks and still saw two down months. 2008 was a terrible year and still saw four up months. Historically, stock markets tend to trend upward, but we should certainly expect that markets will go up AND down.

 

2. An investment advisor or financial planner will try to sell you something with the term “downside protection” immediately after a short-term drop in markets.

Going back to my first point, at some point during the year it is likely that markets will fall. It is precisely this time that we’ll see articles about pension funds considering more hedge fund exposure. We’ll start hearing our friends talking about “downside risk” and hedging against market losses. Naturally, these conversations crop up AFTER the market has dropped. Do yourself a favor and allocate to a portfolio that is comfortable BEFORE the market drops. This could mean significant “downside protection” (e.g., a position in cash, bonds, Treasuries, TIPS), or it could mean minimal downside protection if you are insensitive to short-term performance.

3. People will predict rising interest rates. It’ll happen someday!

For four straight years, we’ve heard that interest rates have “nowhere to go but up.” And yet, they were stable in 2012, up slightly in 2013, down in 2014, and flat again in 2015 (despite the Fed raising rates). On Christmas Eve 2014, the 10-year yield was 2.26 percent. This year, it was 2.24 percent. So much for a guarantee of rate increases. The funny thing is that now people are starting to say that they don’t expect increases in interest rates this year…A few years of bad predictions makes you start to question your assumptions. So maybe this will be the year that rates really start to rise.

Theoretically, there is a lower bound of zero percent on interest rates, even though Europe has negative interest rates. This lower bound and predicted Fed rate hikes are the reasons that economists and prognosticators keep saying that rates have nowhere to go but up, but they’ve been wrong for four years in a row. Every reasonable prediction is right so long as you don’t provide a time frame.

Whether or not interest rates rise, the purpose of bonds in your portfolio is usually to provide stability in the event of stock market turbulence. A small expected decrease in the value of your bonds is the price you pay for protection against large swings in overall volatility.

4. Apple will be an outsized driver of how we perceive market performance but may or may not be a big driver of how our portfolios actually perform.

People tend to perceive performance based on what they hear on the radio during their daily commute. The radio tells us what the S&P 500, NASDAQ, and Dow Jones did during the day. Apple Computer comprises about 3.7 percent of the S&P 500. Microsoft and Exxon, the next two largest companies as of this writing, comprise about 2 percent of the Index each. This means that the performance of these companies will have an outsized impact on how we perceive markets to be doing.

The radio does not tell us what our investments did during the day. For investors who are diversified across a range of markets and asset classes, daily reporting may not be a reflection of performance. I maintain a significant share of my portfolio in small caps, value stocks, international stocks, emerging markets, and bonds. The performance of the S&P 500 is important, but I should not expect to match its performance.

5. Emerging market stocks will provide a different return than U.S. stocks.

Another obvious point that almost certainly can’t be wrong! Emerging markets will have a different return from U.S. stocks, which will be different from small caps, different from European stocks, different from Value, different from commodities… you get the idea. You’ll see some people saying emerging markets will outperform, or Europe will underperform, or U.S. stocks are the place to be. Someone will be right, and someone will be wrong. Different markets provide different performance over different periods of time. The central idea of diversification is to dilute these differences.

6. Some funds will beat their benchmarks, some will underperform. Some funds will even have their 3rd or 5th straight year of outperformance.

Individual mutual fund families (e.g., T. Rowe Price, Vanguard, Fidelity) have hundreds of individual funds. By chance alone, some share of them will outperform. For example, if you had 100 different funds, you could expect 50 to outperform in any given year by chance alone. Half of those would outperform a second year and half of those a third year in a row. At the end of 3 years, you’d have about 12 funds that had three straight years of outperformance – but that would be indistinguishable from luck.

If anything, excellent five-year performance of a fund might predict lesser subsequent returns as its performance reverts to the mean. Take the story of Bill Miller. Miller was a fund manager that worked at Legg Mason and was referred to as a stock guru. The fund he managed (Legg Mason Capital Management Value Trust) outperformed the S&P 500 for 15 straight years from 1991 through 2005. Miller was crowned as one of the best stock pickers of the generation and graced the cover of countless magazines and newspapers. Investors couldn’t get into his fund fast enough.

What happened next was nearly as impossible: The fund bombed. Over the most recent 10 years (ended November 2015) the fund has returned a paltry 0.99 percent per year as compared with 7.48 percent for the S&P 500. In November 2011, Miller turned over management of the fund to his co-manager. Miller exemplified that excess fund returns simply don’t last.

7. Investors will continue to move toward passively managed funds, and assets under management by “robo-advisors” will continue to grow.

Over the last year, about $175 billion flowed out of “active” funds, while $435 billion flowed into “passive” funds (Source: Morningstar Direct Asset Flows, December 2015). This continues a trend that has active managers scurrying to stop the bleeding.

The problem is that actively managed funds continue to underperform the market. This isn’t going to turn around because it is mathematically impossible for active managers to beat passive ones over the long term. You’ll see a lot of articles about why now is the time to be with active managers because the market is tough right now and good active managers are going to be especially valuable. Guess who’s writing those articles?

I took a look at nine funds from a 2011 article titled “Best Large Blend Funds for the Long Term” from U.S. News. Ending November 2015, those funds had returns that averaged 11.29 percent. Compare that with S&P 500 index funds that returned 14.36 percent (Vanguard), 14.27 percent (SPDR), and 14.30 percent (Fidelity Spartan). Investors are going to continue to recognize the underperformance of actively managed funds.

8. Oil prices will change, labor market results will fluctuate, geopolitical events will arise, global economies will do better and worse than expected, the Fed will have meetings. All of these will be used as reasons that the market fell or rose on many occasions throughout the year.

Markets fluctuate. I just sold some Apple stock because I wanted to raise cash in order to do some work on my kitchen. Countless other people are buying or selling stocks and bonds every day for all different reasons. There is an entire industry dedicated to analyzing the broad market movements every day. It’s easy to ascribe a narrative to price fluctuations after the fact, but it’s impossible to truly assess the impact of millions of market participants on a daily basis.

It’s a lot harder to predict what will happen in advance. Granted, some prognosticators will be correct. By virtue of having so many predictions—like mutual funds—some will inevitably look prescient. The narrative at the end of the year will look well-reasoned, but it won’t tell the whole story. Stick to your plan and ignore prognosticators and market fluctuations from week to week.

Happy New Year!

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How Much Should You Hold in Emergency Savings?

dollar bill flippingAlthough saving for the long-term future is important, you should also consider holding some share of your money in cash and similar short-term investments (sometimes called cash equivalents) such as CDs, money market funds, and short-term treasuries.

The logic is fairly simple: If an emergency pops up, you don’t want to have to liquidate long-term investments such as retirement accounts or college Read more

You Can’t Invest What You Don’t Save

The most brilliant investment strategy in the world will not make up for a lack of putting money aside. How much you save versus how much you spend is the most important driver of whether you will succeed in having money for your future financial goals.

Let’s look at an example. Say you’re saving $250 per month for the next 30 years. If your investments return 8 percent per year, you’ll end up with about $373,000 at the end of 30 years. If you have decided you need at least $400,000, maybe that’s not enough for your future goals.

What’s the best way to get to $400,000 by the end of 30 years? You could Read more

What Are Growth and Value Stocks?

When I started my first job with a 401(k) plan, I remember looking at the options and seeing these words in the fund names: Value and Growth. I had some investing experience, so I knew that I should diversify across asset classes. But it sure was tempting to pick those funds with the flashy names. Something like “Goldman Sachs Growth Opportunities” sounded so promising. As it turns out, those titles aren’t terrific indicators of how well funds might perform.

Funds that invest in growth stocks buy companies that are more expensive, whereas value funds buy stocks that are relatively cheap. How do we gauge whether a stock is cheap or expensive? We compare the total market value of the company (total number of shares times the share Read more