Don't Call it a Comeback

There are some financial products out there that really get my hackles up. I’ve talked previously about my loathing for different types of annuities, for example. Products like these are said to be “sold and not bought” because anyone who went looking wouldn’t choose to buy due to the product’s complexity, lack of transparency and high cost. So, to get investors to buy, the products need to be sold by a slick salesperson who pockets a fat commission at the end of the transaction. This is an age-old problem and won’t be going away anytime soon.

Another product like this is the reverse mortgage. Just uttering the name causes a visceral reaction as I recall stories from folks who got swindled by clever salespeople. But as a fee-only planner charged with ensuring my clients accomplish their goals, I have to be open to investment products that may once have been anathema to me. In other words, I can’t continue to reject a product because it was bad in the past. It’s hard to say it, but the much-maligned reverse mortgage may be making a comeback.

The reason, as I see it, has to do with several factors. First, more Americans are retiring with insufficient cash and investments to cover their needs for what they hope will be a long retirement. The asset they do have, however, is the equity in their home but with limited ways to access it.

Second, expected returns from stocks and bonds are lower than they’ve been in the past. Interest rates are low and so is inflation. This makes it challenging to “lock in” higher interest rates on longer-term bonds, for example, to help fund retirement. Folks understandably look at CDs offering near 3% for a few years and compare this to a 30yr Treasury bond paying the same rate. It’s a no-brainer that many pick the short-term CD.

This leads to the third factor helping bring reverse mortgages back to the retirement planning toolkit: short-term thinking for a long-term problem. As investors focus more on short-term yields, they forget they probably need higher returns to meet their long-term planning objectives. A CD may sound appealing and “safer” but not if you need to average, say, 5-6% over time to ensure you don’t run out of money. If some are intent on having less exposure to stocks and bonds, they’re going to need to get creative with other income sources to help fill their personal performance gap.  

The fourth factor is recent favorable research about reverse mortgages and enhanced regulation making the product more accessible. Here are my thoughts about leveraging reverse mortgages:

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Reflections From the Trail

Many of you know that I like to run and that my event of choice is the ultramarathon. Whether it’s in the Sierras or our local hills and valleys, I’ve been running ultras for five years or so and have seen some beautiful scenery and had lots of time for reflection along the way. This past weekend was no exception.

On Saturday I ran the Napa Valley 50k, a 31-mile race beginning in Calistoga. The course wound its way up through the wild flowers and rock spires of the Palisades Trail before eventually turning around at the top of Mount St Helena and heading back to town. The race exemplified the rugged beauty and difficult terrain I’ve come to associate with ultras.

This was my third time running the race. I keep coming back for several reasons, but primarily it’s a time to appreciate my surroundings, be grateful for the good health that carried me through, and the periods of solitude. While the race is run with hundreds of other people, the nature of the terrain often means long stretches by yourself. It’s a good time to think.

It may seem strange, but I often think about my clients during these times. I think about their plans, the markets and the economy. I also reflect on how similar ultrarunning is to planning for retirement.

We’ve all heard about the importance of pacing ourselves. Maybe it’s working too hard for too long or eating and drinking too much. We tend to know intuitively how much we can handle, but it can be difficult to reset and slow down before we run into trouble. This week I thought I’d expand on this a bit with some reflections on the art of pacing, both in a long race and when planning for, and living in, retirement.

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The Good, the Bad and the Ugly

Even though we’re surrounded by debt in our day-to-day lives, it’s not all created equal. We can leverage debt to our benefit, but it can also get away from us if we’re not careful. And the more debt we carry the less likely we are to be financially successful over the long-term. So, it pays to understand that there are three kinds of debt: The Good, the Bad and the Ugly.

The Good - Yes, there is such a thing as good debt. To be considered “good”, the debt should have been used to purchase something of long-term value (like a home, perhaps a car), have a fixed interest rate and a straightforward repayment plan.

A 30yr mortgage on your primary residence is a perfect example. If your credit score is good and you have a decent job you should be able to borrow at a reasonable interest rate. Your property taxes and home insurance would likely rise over time, but your monthly principal and interest payments would be fixed, based on a set schedule. This creates certainty in an often otherwise uncertain financial world.

Since what you’re buying is a tangible item that could be reclaimed by the lender if you default, interest rates are comparatively low. The average 30yr mortgage rate is 4.2% currently. If we think about the longer-term inflation rate being 2+% and interest rates rising in the future, the cost of your loan today could become cheaper purely from the passage of time. This is the opposite of an adjustable-rate loan in a rising rate environment, but we’ll get to that next.

Refinanced student loans can also fall into this “good debt” category if they have fixed terms and helped you to get into your current career. As a bonus, interest on good debts like home mortgages and student loans can be tax deductible, which helps with affordability.

The Bad - Debt is considered “bad” when it didn’t help you buy something of lasting value and if it doesn’t come with a fixed rate and straightforward repayment schedule. This means anything “adjustable”, such as interest rates that can change (we’re mostly concerned with them going up from current low levels) over time.

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Don't Take the Bait

Identity theft is a scary thing and these days it’s all too possible for it to happen to you. One of the routes in for fraudsters is through so-called “phishing” emails. You’ve probably heard about these as they’ve been around for years. Early phishing emails were fairly easy to spot. They were plain text, perhaps with misspellings or grammatical errors, or the format just didn’t seem right. Now, however, these emails are much more sophisticated and dangerous.

For whatever reason over the past several months or so I’ve been getting pummeled by phishing emails. I’m guessing this is because my email address has made it onto a bunch of different lists. Most of the emails are of the old variety and are obviously fake, but others are good. Really good. Take a few emails I received from “Apple” as an example.

I have an Apple Developer account that goes along with the app clients can use to access their portfolio information. Several months ago, I received a few emails that looked exactly like other emails I’d received from Apple. The font and colors were right, and so was the general tone of the email as it asked me to click a link to update my account. I don’t know what it was about the email, but something just didn’t feel right, even though it looked good and generally coincided with my Apple relationship and experience. I decided to:

  • Slow down a moment and not simply click the email link as per muscle memory.
  • Read the email again to see if I could clarify what didn’t feel quite right.
  • Log into my Apple Developer account on my own by going directly to the website (not clicking the link in the email) to see if there were any popups or other flags that would indicate my account needed updating.

Seeing nothing, I decided to do nothing – at least in terms of clicking the link in the email. Instead, I contacted Apple. They hadn’t heard of this particular phishing attempt yet, so I sent a copy of the email to a special department. After a few days they confirmed the email was fraudulent. It turns out this email wasn't just sent to me, but pobably to thousands of others - phishing by casting a wide net. What would have happened had I clicked the original email link? My guess is I would have been taken to an Apple-look-alike website and asked to provide my personal information. Or, perhaps a file would been downloaded on my computer allowing fraudsters into my system. (By the way, I once saw a live demonstration of how this works, and it took only minutes for the hacker to start rummaging through the person’s computer.)

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Is Indexing Bad for Markets?

Index funds have been making the news lately but for the wrong reasons. Some commentators speculate that the rise of “indexing” as an investment approach might be casting too wide a net and is harmful to markets. The idea is that index investors “blindly” buy the performance of markets without paying attention to underlying fundamentals. This can lead investors to overpay for poorly performing companies that happen to be in the index and also to drive up prices for the “big” stocks like Apple, Amazon and Microsoft.

While this makes sense in theory, rest assured that we’re not blindly doing anything and that markets are healthy, even with the rise of indexing. This is confirmed in the following essay from Dimensional Funds. I’ve pared down the original to get to the core ideas. The language is a bit wonky but it’s worth a quick read. If you have any questions about how we use index funds and ETFs in your portfolio, please don’t hesitate to ask. Now on to the article…

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Quarterly Update

In stark contrast to December’s losses and Q4 2018 in general, the first quarter of this year saw a sharp rally for stocks during January and February. This was largely a snapback from oversold conditions that carried stocks through several economic concerns, severe weather around the country, and the longest government shutdown in history. Stocks started to taper off a bit during the latter half of March before finishing the quarter strong.

The S&P 500 ended up almost 14% year-to-date in a rally that began the day after Christmas. Foreign stocks also staged a comeback following poor performance for all of 2018, with Developed and Emerging markets each ending the quarter higher by about 10%.

Here’s a summary of how major market indexes ended the quarter:

  • S&P 500: up 13.7%
  • Dow Jones: up 11.8%
  • Russell 2000 (small company stocks): up 14.6%
  • MSCI EAFE (foreign stocks): up 10.1%
  • MSCI EM (emerging markets): up 10%
  • U.S. Aggregate Bonds: up 2.9%
  • Municipal Bonds: up 3.2%

Top sectors during the Q1 rally included those that had been hit hardest during the Q4 rout, such as Technology and Energy, up about 20% and 16%, respectively. The worst performing sector was Healthcare, up almost 7%, which was relatively low but understandable after having held up well during Q4. Oil was up big during Q1, with West Texas Intermediate (the U.S. crude benchmark) rising about 30% to $60 per barrel.

In foreign markets, Chinese stocks were up about 31% after a dismal 2018. Trade headlines and concerns about slowing economic growth had caused China’s local stock markets to decline precipitously last year. This reversed course during Q1 as trade tensions eased somewhat.

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