MarkFord.net

February 25, 2019 No Comments

The financial industry promotes the idea that life insurance is something every sensible person should have. In fact, life insurance makes sense only in certain circumstances. For many people, it is unnecessary. For many more people, it costs more than it should. The prudent wealth builder will be very careful about how much life insurance he or she buys.

Almost nobody understands life insurance fully. Not lawyers. Not accountants. Not even the financial planners and insurance agents that sell it.

There’s a good reason for that. Most policies – especially permanent life insurance policies – are complicated. They are written and sold using language that is incomprehensible to ordinary people.

To make matters worse, life insurance is sold using rhetoric that pulls on the heartstrings of potential buyers, inducing them to spend more than they might need to.

It would take a book to explain this in detail. But if you are considering the purchase of a new policy or want to understand a policy that you currently own, the following should be helpful.

Broadly speaking, there are two kinds of life insurance: term life and permanent life.

Term Life Insurance

Term life insurance is relatively simple. When you buy a term policy, you are paying a stated amount of money (the premium) for a stated amount of coverage (the death benefit) given to someone you choose (the beneficiary) if you die within a certain amount of time (the term).

Example: John Doe, a 40-year old executive, buys a million-dollar term life policy. It has a 30-year term. The cost is $100 a month the first year. Each year after that, the cost goes up. If he dies before he’s 70, his wife Helen gets $1 million. And that’s tax-free. (Life insurance benefits go to the beneficiaries tax-free.)

Sounds good to John. What can go wrong?

If he fails to keep up with his premium payments during the term, Helen gets nothing.
If he lives past 70 without extending the policy, Helen gets nothing.

But there’s another thing: What if Helen doesn’t need $1 million if he dies? What if she’s gainfully employed? What if all John needs is a $100,000 policy to cover his funeral expenses and some other odds and ends?

Wouldn’t he be wiser to get a $100,000 policy and cut his monthly premiums by 70% or 80%?

Permanent Life Insurance

Permanent life insurance is complicated. First of all, it comes in a variety of forms – whole, universal, and variable being the most common. But let’s not worry about that. Let’s stick with the basics.

When you buy permanent life insurance, you are paying for two things: a life insurance policy plus a tax-deferred savings account.

Because of the investment aspect, permanent life insurance is considerably more expensive than term. How much more expensive depends on how much you want to invest and how much the insurance company is going to charge you in management fees, sales commissions, and administrative charges.

So for a million-dollar permanent life insurance policy, John might pay in $300 a month – of which maybe $100 would go towards the insurance and the rest towards his savings account and various fees and commissions.

Those fees and commissions can be costly. With some policies, they can be 50% to 100% of the initial premiums.

It is for this reason that one should be skeptical about permanent life insurance. The question is always: Would it be smarter to buy term insurance separately and put the rest of the money into a tax-deferred savings account?

There are 4 upsides to permanent life insurance:

As the name implies, your coverage lasts forever.
The savings portion of it accumulates tax-deferred. Over a 30- or 40-year period, that savings can make a considerable difference.
The obligation to pay the premiums can work as a sort of forced savings for people that don’t feel they would have the willpower to regularly contribute to a separate savings account.
Because of the savings component, your policy has a cash value that builds tax-free over time. You can borrow against it while you are still living. And the “loan” can be paid off by the policy’s death benefit after you die.

As for the downsides:

As with term life, if you fail to keep up with the premium, the policy lapses.
Permanent life usually requires a medical exam. If the exam indicates that there is a statistical probability that you might die earlier than would be typical for someone your age, you will likely pay more for the same amount of death benefit.
Because of the high costs of fees and commissions, the cash value of most permanent policies is very low for at least the first 10 years. Much of your “savings,” in other words, go to enriching the agent and the insurance company, not you.
Over the long term – in 30 or 40 years – the cash value of the policy may not be what you expected it to be. In selling permanent policies, agents are allowed to show you “expected” returns based on “expected” stock and bond market averages. But these are not guaranteed.

Sunday, February 3, 2019, Delray Beach, Florida

From My Work-in-Progress Basket

Principles of Wealth #25*

February 3, 2019 No Comments

“Hard money” advocates and precious metals dealers contend that gold is not only the safest way to store wealth but also a very good way to grow wealth. The truth is, gold is a valid way to protect wealth from certain unlikely economic situations – but for the ordinary wealth builder, owning lots of gold is both risky and unwise.

There is a school of economic theory that puts gold above all other asset classes.

Here’s the argument:

* Stocks can go up but they can also go down. The same can be said for real estate, commodities, and bonds. But over the long haul, gold will preserve an investor’s wealth because of its intrinsic value.

* President Nixon made a huge mistake in 1971 when he took the dollar off the gold standard. When the dollar was tied to US gold reserves, the government could not print more dollars than there was gold to back them up. Now, the government had the freedom to print as many dollars as it wanted, backing them up with Treasury bonds (promises to repay the debt sometime in the future).

* When nothing can stop the printing of dollars, politicians will print them in an effort to speed up economic growth. But as the number of US dollars in circulation increases, the value of the individual dollar goes down. This causes inflation spikes that make virtually every asset other than gold – stocks, real estate, commodities, and bonds – worth less.

* In 1970, before Nixon’s decree, an ounce of gold could be bought for about $35. In 2019, that same ounce of gold would cost about $1,290. Meanwhile, as US debt has skyrocketed, the risk of a massive economic collapse has become more and more likely. Any day now, we could see banks freezing assets, the stock market crashing, bondholders losing everything, and “blood in the streets.” Gold will then be the only currency that anyone will accept. And here’s the silver (gold) lining: When that happens, the value of an ounce of gold will soar to $5,000 and even $10,000. Investors that own gold will become the new rich.

So… is that likely? That’s the million-dollar question. READ MORE

Tuesday, January 22, 2019, Delray Beach, Florida

From My Work-in-Progress Basket

Principles of Wealth #24*

January 22, 2019 No Comments

The banking industry promotes the idea that money stored in cash instruments (such as saving accounts, CDs, and money market funds) is safe money and a riskless financial strategy. But it is not true. Cash, like every other asset class, has risk.

On Saturday, Ted reads an article in The New York Times predicting that the president’s new tariff plan will decimate international commerce. Sunday morning, he reads a WSJ article pointing out that the stock market is dangerously overvalued with an average P/E ratio for the DOW of 25. At noon, he reads an essay by an economist he admires that points out that US debt is now higher than it has ever been.

He goes to bed feeling uneasy.

Monday morning, he calls Joe, his stockbroker. “What’s going on with the market?” he asks.

“You’ve seen the numbers?” Joe replies.

“What numbers?”

“It’s down.”

“How much down?”

“About 10%.”

“Is that bad?”

“It’s not good.”

“And my account ?”

He hears the tapping of fingers on a keyboard. “You should be relatively okay,” Joe says. “Your portfolio is very conservative.”

A bit more tapping. Then, “You are down just a bit more. Around 11.5%.”

“Shit,” Ted says. “I knew this was going to happen. What do you think I should do.”

“That depends on how you feel about the future. Our analysts believe this is a dip in a long-term bull market.”

“I don’t believe that,” Ted says. “Sell.”

“Sell everything?” Joe asks.

“Everything.”

“And do what with it?”

“Just leave it in cash.”

The tapping again.

“Okay,” Joe says. “You are out. Your money is sitting in cash.”

“Good,” Ted says “I feel better.”

“Then you made the right decision,” Joe says. “What could be safer than cash?”
READ MORE

From My Work-in-Progress Basket

Principles of Wealth #23*

December 19, 2018 No Comments

Tuesday, December 18, 2018

Delray Beach, FL.- Wall Street promotes the idea that investing in stocks and bonds is the sensible way to grow rich. But a strategy that focuses solely or even primarily on stocks and bonds is a flawed strategy. The prudent wealth builder knows this.

Pat told me about the great delivery service he’s been getting from Company A. “The other guys,” he said, “they just drop the packages over the fence. But Company A’s guy drives in and delivers my packages to the door.”

“I really like this company,” Pat said. “So I did some research. And based on what I learned, I think it’s a good investment. I’m going to buy their stock.”

It sounds smart. It reminds me of how, in One Up on Wall Street, Peter Lynch described his amazing success as the manager of Magellan Fund, which made 29.2% from 1977 to 1990, bringing the assets under management from $18 million to $14 billion.

“Invest in what you know,” was Lynch’s most popular investment rule. He attributed his success to his habit of going beyond the spreadsheets and looking under the hoods of the businesses he bought. He argued that the average investor could do the same.

He was wrong about that. And there’s a good chance that Pat will be wrong about the trade he’s about to make.

Why do I say that?

Because the average investor can’t possibly know enough about the stocks he buys to achieve a 29.2% return over a long stretch of time. The average investor, in fact, can’t even achieve the average overall market ROI of 9% to 10% over time. The average investor makes a third of that, if he’s lucky.

When Lynch talked about investing in companies you know, he meant that you should know more than you can ascertain from the public filings, from the balance sheet, the P&Ls, metrics such as P/E ratios, etc. He liked to get inside the industry a bit, get to know the players, ask questions of the execs and the frontline workers.

Lynch had the power to do that. The average investor doesn’t. At best he can do the kind of research that Pat did on Company A. But that’s not nearly enough. He’s still very much on the outside.

I’ve been “inside” the investment advisory business for more than 30 years. I have known dozens and dozens of managers and analysts. I know many of the best-known gurus. Most of them are smart. Most of them are driven. Some of them beat the market for a while. But few can match Lynch’s record. (And Lynch’s performance, let’s not forget, ended after 13 years.) So how can the average investor expect to do what even the pros can’t?

No matter what you hear from Wall Street, the stock and bond markets are not there to help the average investor get rich. They are there to provide fees and commissions to brokers, managers, and analysts.

Buying stocks and bonds is a sensible thing to do if you see it as a part, and only a part, of an overall investment strategy. What the smart investor should expect from his stocks and bonds is what the market is willing to give average investors. And that is average returns – 9% to 10%. Not 29.2%.

Now I agree with Lynch and I’ve said it a thousand times: The smart way to build wealth is to invest in what you know. But when I say know, I mean know inside and out. I mean know with your eyes closed. I mean know the beating heart of it.

From My Work-in-Progress Basket

Principles of Wealth #22*

November 13, 2018 No Comments

Tuesday, November 13, 2018

The efficient market hypothesis is bogus. The stock market, its sectors, and its individual stocks are often mispriced. But that doesn’t mean speculating on those errors makes sense.

Speculation is at best an intellectual form of gambling, like playing blackjack rather than roulette or craps. But all forms of speculation are likely to decrease one’s wealth over time. And every experienced speculator, in his heart, knows this to be true.

Selling speculations is not speculating. It is a form of business. And for some, it is a very profitable business.

The prudent wealth builder that speculates treats his speculations as spending.

Delray Beach, FL.- In an essay published in Investopedia, Tim Parker writes: “Whether speculation has a place in the portfolios of investors is the subject of much debate. Proponents of the efficient market hypothesis believe the market is always fairly priced, making speculation an unreliable and unwise road to profits. Speculators believe that the market overreacts to a host of variables. These variables present an opportunity for capital growth.”

The argument Parker attributes to speculators is correct. The stock market is often inappropriately priced. And sectors within the stock market are badly priced even more often. Not infrequently, market sectors are grossly mispriced. The same is true for individual stocks.

I am always astounded when I think of how quickly and widely accepted the thesis of the efficient marketplace came to be. The logic, simply put, is that the big financial players – including institutional investors, hedge funds, and the like – have, through internet communications and computer technology, access to all of the key financial data they need to value stocks. They even have access to indices of public sentiment. With all that knowledge available and updated in nanoseconds, the price of any stock, any sector, and even the market itself will of necessity reflect the correct pricing.

This doesn’t make sense on several levels. For one thing, it is impossible to measure consumer sentiment or to predict its ebb and flow. More importantly, raw data (such as history of earnings, revenue growth, P/E ratios, etc.) cannot possibly give a reliable view as to the value of a company in the future.

I cannot tell you with any accuracy the true value of the equity of any of the companies I own and control. And I certainly could not predict what the value will be in six months or a year. So how could these data-crunching investment behemoths know?

But forget about the logic. Take a look at any 20-year period of stock market valuations and you will find moments when the market “corrected” itself, sometimes with a fall of 10% or more. What is happening there? There can be only one answer: irrational exuberance. And as I have already pointed out: You cannot measure accurately, let alone predict, the fluctuations of investor sentiment.

But that doesn’t mean that speculating is a reasonable way to accumulate wealth.

(Note: Hedging and arbitrage are not necessarily speculating. If done properly, they are the opposite. We will talk about them another time. This is about speculating and only that.)

What is speculating? John Maynard Keynes said it is acting as if one “knows the future of the market better than the market itself.” I like that definition because it emphasizes the core problem with speculating. It is fundamentally a bet on the future. And betting on the future is betting on something that is largely unknowable. Why bet on future possibilities when you can make good money investing in the known facts, the realities, of the present?

Professional speculators use sophisticated strategies such as swing trading, pairs trading, and hedging along with fundamental analysis of companies/industries and macro analysis of economics/politics to place their bets.

Just think about what I just said. The best speculators are crunching numbers from all these realms and using complex, technical strategies to make their decisions. And it is all done in the hope of getting way-above-average ROIs. It’s a whole lot of work. And at the end of the day, success depends on thousands of uncontrollable and even unknowable details. Where is the reasonableness in that?

John Bogle, bestselling author and founder of the Vanguard Fund, wrote a book called The Clash of Cultures: Investment vs. Speculation. In it, he demonstrated that individual investors almost always lose big when they speculate. He says that speculating is an “unwise” strategy for ordinary people whose goal is to safely accumulate funds for retirement.

“The internet and financial media may encourage speculation,” he says. “But that doesn’t mean you should follow the herd.”

Indeed. The reason the financial media and the brokerage community promote speculation is because they benefit from the fact that most speculators lose and lose big. And all those losses end up in the pockets of the brokers and the bankers and also the prudent investors that would rather invest their money safely for reasonable gains than gamble for big wins.

* In this series of essays, I’m trying to make a book about wealth building that is based on the discoveries and observations I’ve made over the years: What wealth is, what it’s not, how it can be acquired, and how it is usually lost.

From My Work-in-Progress Basket

Principles of Wealth: #21*

October 20, 2018 No Comments

When the odds of a particular speculation are extremely long, we refer to it as gambling. And gambling, most sensible people would acknowledge, is a foolish financial activity. Unless, of course, the odds are in your favor.

It must have been 40 years ago. I was a young man, returning from my first trip to Las Vegas. The man next to me was an architect. His specialty was high-end hotel-casinos. His favorite part of the job, he told me, was designing the VIP suites. They were immense pleasure domes, featuring every imaginable luxury, including gilded furnishings and indoor pools.

“How much would one of those go for?” I naively asked.

“Oh, they never charge for those rooms. They give them away to high rollers for free.”

From My Work-in-Progress Basket

Principles of Wealth: #19 of 60*

September 16, 2018 No Comments

There are two ways that investments can build wealth. One is by the generation of income. The other is through appreciation – an increase in the value of the underlying asset.

Certain asset classes are inherently structured to increase value by generating income (e.g., bonds, CDs), while others increase value through appreciation (e.g., “growth stocks” and entrepreneurial businesses). But there are also many asset classes that provide both income and appreciation. The prudent wealth builder will likely have all three types of assets in his holdings, but he will favor those that provide both income and appreciation.

From My Work-in-Progress Basket

Net Investible Wealth

April 21, 2018 No Comments

Saturday, April 21, 2018

Delray Beach, FL – Principles of Wealth: #14 of 61

Income is an important factor in the acquisition of wealth, but it is not a measure of it. Nor are expensive possessions. The only measure of financial wealth is net investible worth.

It had a pool in the back and automatic doors on the garage in front. It was the nicest house I had ever lived in and our first home. Three bedrooms. Two baths. Friendly neighborhood. $170,000.

“Do you think I’m being foolish?” I asked. “Spending so much on a home?”

Eddie looked at me as if I was crazy. “Your income last year was more than double the cost of the house,” he said. “And your income this year is higher still.”

“So?”

“I close hundreds of houses a year in this area,” he said. About a third of them are for homes that cost more than a half a million. And they are bought by doctors and lawyers that make no more than you do.

“So?”

“They drive Mercedes. You drive Hondas. They drink Dom Perignon. You drink Proseco. They all look rich, but most of them are in debt. They spend their money faster than they make it.”

“So?”

“How much did you have in savings last year?”

“About $175,000.”

“And this year?”
“About $250,000.”

“That’s what I thought. You are worried about buying a home that cost you about six or seven months of salary. That alone tells me you are an extremely conservative spender.

“More importantly, you’ve made this promise to yourself to increase not only your income but your savings every year. And you’ve been doing that for years.

The doctors and lawyers I know are spending two to five times their yearly salaries on their houses. These guys have great incomes but they also have great debt. Debt that is often greater than their assets. They are buying prestige and keeping their fingers crossed that their financial situation will always be strong. They have zero savings and no net worth.”

“That net worth thing. It’s always troubled me. How can I count my house or my cars? I’m always going to need them. I don’t want to be forced to sell them.”

“Okay, then don’t count them. Count only the net worth you have after subtracting them. Call it something…”

Years later, when I wrote about it, I called it net investible wealth.

From My Work-in-Progress Basket

The True Cost of Buying

April 14, 2018 No Comments

Saturday, April 14, 2018

Principles of Wealth: #13 of 61

Delray Beach, FL – We buy financial products and services because we believe they will make us richer. But we should never forget that the purchase itself is almost always a cost that makes us, for the moment at least, poorer.

You buy the new $45,000 Audi you’ve been dreaming of. It makes you feel like rich. But the moment you drive it out of the dealership its value – and your net worth –go down by about $6,000.

“One day this watercolor will fetch a hundred grand at Sotheby’s,” the art dealer tells you. You want to believe him. But his profit on the $80,0000 artwork is $20,000, which means you are now, for the moment, at least $20,000 poorer.

It’s no different with stocks. You have read about the company in your favorite financial newsletter. Your broker agrees it’s going to double or triple if this or that happens, as it surely will. So you buy it and can almost see all those dollars in profit appearing on your account statement. But at that moment, at the moment when you buy it, you are poorer by the fees and commissions your broker is taking.

This is not to say that fees and commissions are bad. They are simply part of the cost of buying. All financial products and services, however advertised, have a cost of buying.

When you buy a “no load” index fund you pay a very small cost of buying – usually about one half of one percent. But when you buy a penny stock or whole life policy your cost of buying could be 30% to 50%.

The prudent wealth builder knows the true cost of his buying and understands that in nine cases out of ten that cost will make him, for the moment at least, that much poorer

From My Work-in-Progress Basket

One Thing & Another

April 7, 2018 No Comments

Word for the Wise

Leonine (LEE-uh-nine) = of or relating to a lion. Example as used by Sax Rohmer in the 1915 crime novel The Yellow Claw: “In the leonine eyes looking into hers gleamed the light of admiration and approval.”

Quotable Quote

“The ability to simplify means to eliminate the unnecessary so that the necessary can speak.” – Hans Hoffman

From My “Work-in-Progress” Basket

Principles of Wealth: #12 of 61

The term “value” is widely understood in theory but rarely in practice. Value denotes that which you can appreciate and benefit from, both now and also in the future.

Anything that is valuable to you can be said to be a value. Friendship, for instance. Or fidelity. Or art. Or dance. Or music.

Politicians value power and loyalty. They seek to acquire as much of it as they can as they rise through the political ranks so they can wield it when they are on top.

Performance artists value approval and use their energy and creativity to create the largest possible base of fans.

Professionals – doctors, architects, and plumbers – value their reputations and work hard to not only gain but also preserve and improve them by providing high quality service and personal care.

Most healthy minded people understand that wealth (and even net investible wealth) has no intrinsic value. Its value is dependent on its ability (or perceived ability) to be exchanged for those other values: friendship, loyalty, power, and admiration, to name a few.

Mini Philosophy Lesson: Aesthetics*

Most people think of aesthetics as the study of beauty. But it is a bit broader than that. The word derives from the Greek term to denote perception, feeling, or even sensation.

Plato had an idealistic view of aesthetics. He believed that there was a perfect form of the beautiful – generally and specifically. A bed, for example, was an imitation of an ideal thing, a “Form” or paradigm, almost like an abstract blueprint of what a carpenter might build. The bed that the carpenter actually built was beautiful or not to the degree that it replicated some ideally beautiful bed that exists in some other dimension. In his ideal word, only representational art would exist, and its purpose would be didactic: to teach viewers what truth and beauty look like.

Aristotle, perhaps the greatest of all philosophers, was not an idealist. He did not believe that there was some perfect bed in some ideal world that real beds and paintings of beds should imitate. It was enough for him that the painting of a bed should look as much like its earthly subject as possible. His approach to aesthetics was to identify the best expressions of art and compare them. From that, he made observations that could be used by critics (for evaluation), viewers (for appreciation), and artists (for creation).

Most of the ideas we have about aesthetics today can be said to have originated in the writings of either Plato or Aristotle. But there was a twist added at the beginning of the nineteenth century with the advent of “art for art’s sake.” This view held that art should exist solely to be beautiful. It need not have the pragmatic/didactic purposes that Plato and Aristotle suggested.

I don’t know of a philosopher who has made this claim, but I believe that much of aesthetics is actually the basis of ethics. At the bottom of many ethical preferences – once you cut through the skimpy rationales – is some deeply held feeling about what is ugly and what is beautiful in human behavior.

*From my book How to Speak Intelligently About Everything That Matters”.

https://smile.amazon.com/Speak-Intelligently-About-Everything-Matters

Look at This…

https://biggeekdad.com/2014/02/rhapsody-blue-harmonica-kid/