Rick Kahler's Financial Awakenings

Investing and financial planning, like other fields, have their own buzzwords and terms. Those of us in the profession use those terms so often that we don’t always stop to think that some of them might be unfamiliar or confusing to our clients. We also don’t always remember that some terms might have slightly different meanings to us than they do to the general public.

Unfortunately, financial professionals don’t always remember to explain the words they use. It’s easy to forget that clients aren’t necessarily familiar with terms such as asset protection, standard deviation, diversification, and asset allocation that are everyday language to an advisor.

Just as unfortunately, clients too often hesitate to ask professionals to explain unfamiliar words. My years of experience as a financial planner have taught me that almost all new clients come in with some embarrassment or shame about their finances. One source of that feeling is a belief that they ought to know more about investing than they do.

If you think “everyone else” knows the meaning of asset allocation or the difference between bonds and stocks, then you probably will be hesitant to ask an advisor to explain those terms to you. You will probably be even more hesitant to ask questions if the advisor does explain, but you don’t understand the explanation.

Remember, though, that helping you become more comfortable with the language of the financial profession should be part of an advisor’s job. Asking for—even insisting upon—clear definitions is part of your job as the client. After all, it’s your money that’s under discussion. If you interpret a particular term one way, and your advisor means something quite different by it, the consequences of that misunderstanding could be cold, hard financial ones.

One useful strategy to help ensure that you and a financial advisor understand various terms in the same way is to reflect back what you think you’ve heard the advisor say or what you think a statement means.

Suppose, for example, a financial planner has suggested you need to consider some asset protection strategies. The word “assets” to you means primarily the money in your investment portfolio, and of course you know generally what the word “protection” means. To you, then, “asset protection” might mean “making sure my investments are safe.” You could respond to the advisor with a statement such as, “What I hear you saying is that I should change some of my investments to funds that have less risk. Is that right?”

This would give the advisor a chance to explain no, that isn’t what he meant at all. Then he could clarify that “asset protection” to him meant making sure you wouldn’t lose everything you owned in case someone sued you after slipping and falling on the steps of the rental house you owned. He might be suggesting you form a corporation or limited liability company that would then own the rental property.

It may seem simpler just to ask the advisor directly, “What do you mean by asset protection?” The disadvantage of this approach is that his answer might use additional terms you don’t understand, so it still might be confusing. After two or three such questions, you might be too embarrassed to ask further.

Reflecting back what you think you heard, however, helps the other person know more precisely what you understand or don’t understand. It can be an efficient method of clarifying a potentially confusing topic. It’s an effective way to make sure that both you and your advisor are talking about the same thing or trying to solve the same problem.

When Ted and I found out our speech to the 2007 Financial Planning Association convention was scheduled on a Tuesday morning after the convention closed, we were a bit concerned that anyone would show up. We were therefore delighted that our session was filled to capacity and we were able to communicate our latest information on integrated financial planning to 300 attendees.

In addition to speaking, I also attended many of the sessions offered at the convention. Many of the sessions I focused on were technical in nature, having to do with the appropriate rate at which a retiree can withdraw money from their portfolio and still have enough to last their lifetimes. I was pleased to find out that the latest research totally affirms the strategy I’ve used for clients since 1990.

After the convention, my coach Tracy Beckes invited 70 of her closest friends and clients (which equates to some of the top financial minds in the country) to an Orca whale-watching party at her home in LaConner, WA. Despite the crew’s best efforts to find us a whale, we came up empty handed. I don’t think anyone really cared. The conversations and connections far outweighed the lack of a whale sighting.

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Our recent workshop for KFG couples was a sell out and a huge success, based on the rave reviews the attendees gave the experience. The workshop was designed for couples who have good marriages and want to take their coupleship to the next level.

As you may remember, Marcia and I were one of the lucky couples who participated in the workshop. The only point in the workshop where I questioned the advisability of my attentance was when Ted asked each of us to go outside and find an object that embodied our partner. It didn’t take me long to select a lavender and white flower to represent my wife. However, when it came Marcia’s turn to present the object that best dipicted me, she had selected some sunflower seed shells! My first thought was that this was not a good thing and maybe we would be signing up for some intensive couples work with Dr. Ted. Fortunately, Marcia came out with an elequent and affirming metaphor about the spent sunflower seeds, for which I was releived and grateful.

At the end of our day together, I reminded the group there was a very specific reason they were attending a couples workshop at the office of their financial planner. Most of you know one of my specialties is asset protection. However, frivolous lawsuits and judgements are fourth on the list of events that can destroy your assets. Number one is divorce. I figure if I really want to help my clients protect their assets and live the life of their dreams, facilitating strong coupleships in our clients should be at the top of the list.

The recent media attention to the ups and downs of the stock market reminded me of a piece of advice I heard a few years ago. John Muhlenkamp, manager of the Muhlenkamp Fund, was one of the speakers at the Financial Planning Association Retreat in 2004. He suggested a simple way to reduce the overall volatility of any portfolio: Don’t price it so often.

Over the past few weeks, a good many investors have opened their account statements to find that their retirement nest eggs were worth less than they had been the month before. This is not an enjoyable experience. Those who could read the numbers and still maintain their serenity were probably practicing a useful strategy for investors—fuzzy thinking.

Fuzziness about finances doesn’t seem like an approach a numbers guy like myself should promote. Investment advisors and financial planners are always urging clients to accept the reality of the income, expenses, and other financial facts that define their assets and liabilities. After all, financial statements deliver cold, hard facts. Those numbers at the bottom represent reality.

Well, yes and no. True, the number at the bottom of a monthly statement shows the precise value of that account on a given day. At the same time, though, it’s important to understand that the number represents just one point on a scale that constantly fluctuates at least slightly.

This is why planners keep reminding clients about “standard deviation.” It’s one of those terms that financial advisors use as a matter of course. It’s also a term that can instantly make clients’ eyes glaze over, especially those who have less than fond memories of algebra, calculus, or statistics.

Standard deviation describes the amount that the value of an investment can be reasonably expected to fluctuate over time. It does have a precise mathematical formula, which for most investors is completely beside the point. Instead, it’s probably helpful to think about standard deviation in a more right-brained way. It simply means “more or less.”

Let’s say your investment portfolio showed a balance last month of $1,045,382. This month’s balance was $998,764. When you read the statement, you naturally are going to focus on the fact that you have “lost” $46,618. Yet both those numbers are comfortably within the range of standard deviation for a diversified portfolio. Each of them can—and should—be read as “one million dollars, more or less.”

This is where fuzzy thinking can be useful. Your net worth is not a fixed, precise number. It is an approximation that fluctuates over time, within a range that can be wider or narrower depending on how much risk you take with your investments. This is why a chart showing the value of a portfolio over time isn’t a straight line, but zigzags up and down.

If a portfolio is well managed, of course, those zigzagging lines will also gradually climb. The investments will increase in value from their starting point, despite the ups and downs along the way. If you want to compare this month’s statement amount, then, it’s better to compare it to the statement from a year ago, or two years, or three. Comparing your account balance to what you started with rather than what you had last month gives you a more accurate snapshot of its value.

Or, even better, take John Muhlenkamp’s advice and don’t focus too much on this month’s bottom line. When you consider your net worth, just remember to add the phrase “more or less.” Not only will you demonstrate your understanding of standard deviation, but you’ll probably sleep better as well.

Yes, it is true. Rick and Marcia are going to jail. Somebody (maybe you, my former friend? J) turned us in. Marcia was busted for “reckless window shopping”, and Rick was busted for “his crackberry addiction and too much yoga”.

We are going to “jail” on September 19th to raise money for the March of Dimes Jail & Bail. Each of us has to raise $1,000 in order to post bail.You can help save babies by going online to http://jailandbail.marchofdimes.com/marciakahler to make a donation by credit card.

March of Dimes wants you to know you have been touched by them if:

• You received a polio vaccination.
• You are aware that alcohol, tobacco and drug use during pregnancy can result in poor birth outcomes.
• Your baby or a baby you know was cared for in a neonatal intensive care unit.
• You are aware that women of childbearing age should take a multivitamin with folic acid in order to decrease the risk of neural tube defects.
• Your baby or a baby you know suffered from respiratory distress syndrome and received lifesaving lung surfactant therapy.

Every year in South Dakota:

• 11,338 babies are born
• 1,456 are born to mothers who received inadequate prenatal care
• 1,270 are born premature
• 73 babies die before their 1^st birthday

I know that our babies are healthy because of the work that March of Dimes has done in the past. Please help them continue their good work.

By now most KFG clients are aware that hackers pierced the TD Ameritrade firewall. This, of course, is very upsetting to us, as it is you. Here is what TD Ameritrade has told me:

• User IDs and passwords were not included in this database.
• No assets were compromised.
• Former TD Waterhouse client’s information has only been stored in this database for a short time and may have not been retrieved.
• While social security numbers are stored in this database, they were not retrieved.
• TD Ameritrade has found no evidence of identity theft as a result of this data breach.
• You are covered by TD’s Asset Protection Guarantee which protects you and your assets from any unauthorized activity that may occur in their accounts through no fault of your own. If you lose cash or securities as a result of such activity, TD will reimburse you for the cash or shares of securities they lost.

While it does not appear that there were any identity thefts resulting from this security breach, here is what you can further do to protect yourself:

• As always, remain alert in guarding your personal information.
• Regularly review your account statements and monitor your credit activity from the major reporting agencies.
• You can also visit TD’s online Security Center at www.tdameritrade.com/security for more information on protecting yourself against the possibility of security threats.

If you have further questions regarding this, my recommendation is to contact TD Ameritrade at 800-431-3500 for the fastest answer. If you have any additional questions, please give me a call.

One of the most common questions financial planners hear from clients, especially those nearing retirement, is, “How can I be sure I have enough to live on for the rest of my life?”

Conservative advisors usually tell clients they can take out 3% to 5% of the income from their investments. This will keep the principal amount intact and help to insure that they have a lifelong source of income.

Jonathon Guyton, CFP®, of Cornerstone Wealth Advisors, Inc., in Minneapolis, uses a different approach. His method offers a way to take out more in income without jeopardizing one’s portfolio. He has used it successfully with his own clients for several years and has written about it in major financial planning journals. This is no “have your cake and eat it, too” scheme; Jon is an experienced planner who is widely respected in the profession. He was gracious enough to join us on August 30 for a teleconference.

The standard research upon which most income projections are based assumes that clients will withdraw a fixed percentage of their total portfolio every year, plus adjust that amount annually to compensate for inflation. Under this method, a base rate of 4% will provide a secure income for at least 30 years.

With a portfolio of one million dollars, 4% would mean an initial income of $40,000. If inflation is at 3%, for the second year this would be increased by 3% of $40,000, for a total of $41,200. In this way, the withdrawal amount increases slightly every year. The “fixed” 4%, however, actually fluctuates. During times when returns are high, the withdrawal amount will fall below 4% of the total portfolio value. When returns are low, the withdrawal may exceed 4%.

Jon uses this fluctuation as the basis for his more flexible approach. He commonly starts clients out at a withdrawal rate of 5.5%, which is then adjusted annually for inflation. The catch is that clients need to be willing to adjust the amount withdrawn in years when their portfolio returns are low.

This method works as long as clients and planners follow the following guidelines:

1. In any year with a negative portfolio return, you freeze the withdrawal amount for the following year instead of increasing it for inflation.

2. Any time your withdrawal rate increases to 20% more than your initial rate, you give yourself a 10% pay cut for the following year. (If you start with 5.5% of one million dollars and increase it by 3% every year, after five years your annual withdrawal is nearly $62,000. If the market goes through a down period, so your portfolio at year five is still only worth one million, you are actually withdrawing 6.2%. The pay cut is to get you back to the target amount of 5.5%.)

3. Any time your withdrawal rate decreases by more than 20% from the initial rate, you give yourself a one-time bonus of 10%, then go back to maintaining the regular adjustments for inflation.

Jon emphasizes that another key to this approach is a diversified portfolio, with approximately 65% in stocks. Conventional wisdom says retirees should keep less in stocks and more in bonds, but making such a move too early in retirement will not provide enough income to maintain the 5.5% withdrawal rate.

It is also important for clients to manage their cash flow so they have a reserve. In Jon’s experience, this isn’t usually a problem. The method reflects the way people naturally tend to behave. If you have more, you can and probably do spend more. If you have less, you spend less. Overall, he finds that this approach significantly reduces clients’ fears of outliving their assets.

Recently, a client asked about how ‘safe’ his portfolio was if TD Ameritrade was hit by a natural disaster. Another client wondered what would happen if TD Ameritrade suffered a financial implosion. These are legitimate questions every person should ask of their custodian. While I know the answers to those questions, I thought it would be interesting to have Scott Leak, Vice President of Institutional Sales, with TD Ameritrade provide the answers, probably in more detail and with greater finesse than I. Join us on Thursday, September 27th at 4:00pm for this informative discussion about the safety of your funds. Click Here to register.

Of all the possible paths to wealth, the last one to count on is winning the lottery. The first difficulty is beating the overwhelming odds and winning a huge payoff. The second difficulty is hanging onto the money.

Several studies and anecdotal evidence show that many lottery winners go broke within five to seven years. When one of our local newspapers recently ran a feature article about the South Dakota lottery, it briefly quoted me to that effect. One of the reasons I gave was that people may unconsciously believe they don’t deserve to have the money, and as a result they get rid of it and go back to whatever was the norm for them.

The responses to this were interesting. Several people apparently found it absurd that anyone would feel guilty about winning a lot of money. Most of those who commented seemed confident of their own ability to manage sudden wealth.

Of course, on a conscious level, these comments are exactly right. Hardly anyone who comes into a lot of money is going to deliberately choose to blow it. Very few of us would consciously feel guilty about winning the lottery or consciously not want the money. The problem is our beliefs about money that operate at a subconscious level—beliefs we have no idea we even hold. These can influence our financial decisions much more strongly than we ever realize.

The initial reaction of many lottery winners is, “This isn’t going to change me. I’m still the same person I always was.” True, suddenly having money doesn’t change who you are. What it does, though, is intensify the beliefs and emotions you have about money.

One unconscious belief very commonly held by those who are getting by from paycheck to paycheck is that rich people aren’t worthy of respect. “They” don’t know what it’s like to live in the real world and earn their own way. This attitude may be expressed or unspoken, but usually people are aware that it’s shared by their family, friends, and co-workers. It most likely doesn’t make much difference in their daily lives or come to their conscious attention, except perhaps through a contemptuous reaction to the latest news stories about the outrageous behavior of a few wealthy celebrities.

Suppose, though, that one of these ordinary people suddenly wins the lottery to the tune of several million dollars. Such a change brings with it a huge amount of discomfort and stress. All of a sudden, the “lucky” winner doesn’t fit in any more. His newfound wealth is bound to change his relationships with family and friends, no matter how sincerely glad they may be for his good fortune.

Yes, he’s still the same person, but his circumstances have changed drastically. All of a sudden, he’s gone from being one of “us”—people with middle-class incomes and lifestyles—to one of “them”—the despised rich that he and his peers hold in contempt.

This sets up a deep and often unconscious conflict for both the winner and the people around him. Does he adjust to having the money, thereby risking the loss of his friends and his accustomed place in the world? Or does he try to keep his life intact and ignore the money? It’s a lose-lose situation.

All too often, the unconscious mind comes up with what, to it, is an obvious solution. Want everything to be okay again? Simple—just get rid of the money. When you combine that unconscious pressure with a lack of knowledge about managing a large sum of money, it’s no wonder that so many lottery winners aren’t able to keep their wealth.