This week, John unravels the intricate and mysterious relationship between the markets and headline news, answering why some events prompt steep declines (while others evoke hardly any response at all) and sharing how can you navigate these twists and turns with confidence. (3:00) Plus, take a deep dive into the technology sector, including the advent of ChatGPT and AI, and learn how you can position yourself to make the most of our rapidly changing world. (15:53)
Presented by Creative Planning, each week Host and Managing Director John Hagensen cuts through the headlines and loud takes to challenge the advice you may have been given and reaffirm what you know to be true. Plus, don’t miss his weekly interviews with Creative Planning specialists as they cover investing, taxes, estate planning and many other areas that impact your financial life!
John Hagensen: Welcome to the Rethink Your Money podcast, presented by Creative Planning. I’m John Hagensen and ahead on today’s show, how the market responds to new events and what it means for your investment strategies. How the saying, what goes up must come down, applies to your money as well as why knowing when enough is enough may just be one of your most useful skills. Now, join me as I help you rethink your money.
You heard the saying, days are long but the years are short? My wife, Brittany, uses this line often when we have had a tough day as parents, when we are feeling just overwhelmed, she reminds me, “Hey John, there’s a lot going on. Time’s moving quickly. Do not wish this season away because we’re going to look back on it at some point and be amazed at how quickly it flew by.” And she’s right.
As our younger children went back to school this week after a great summer, I was reminiscing on an amazing summer memory that we had shortly after adopting are now 21 and 20 year old. Bek and Sha when they were 11 and 10 from Ethiopia. They didn’t speak English and so we were trying to find ways to connect that didn’t require language and we would play games and we’d play Mario Kart on the Wii. And one of our favorite summer things to do was make popcorn. My wife would season it with some berbere, which is kind of like a chili powder, it’s an Ethiopian spice, and she’d pour that on their popcorn and we’d lay out on the trampoline at night with blankets and look up at the stars.
And there was a familiarity for our boys in a foreign country with these new white parents. Now having talked with them, they’re like, “Dad, we hadn’t even really seen a white person in our entire lives.” So everything was different, but that sky and those stars was the same sky and many of the same stars that they had looked up and seen in their rural village. And I will never forget those memories, popcorn kernels all over the trampoline the next day.
But speaking of stars, what’s crazy is that they are so far away that it generally takes between 100,000 and 400,000, not days, years, for the light from that star to reach us. The light from the nearest star still takes more than four years to reach us. So most of the stars that you are looking up and seeing at night, you’re seeing how they looked 100,000 years ago. It’s wild. By comparison, the sun’s light takes about 8.3 minutes to reach us. It’s how much closer it is than those stars. And I think why that boggles our mind a bit is that it’s a mismatch of timing. It’s difficult for us to wrap our head around the fact that what we’re seeing is how something looked very long ago, not currently, and this is analogous to investing in the stock market. The headlines of today do not match the current market movement and that can confound investors.
Let’s look at our most recent example of this, the Covid pandemic. December 31st of 2019, we had the first reported case. Middle of April, the US becomes the country with the most reported covid to 19 cases and deaths, surpassing Italy and Spain as the global hotspot for the virus. On June 8th, the World Bank stated that the Covid-19 pandemic will plunge the global economy into the worst recession since World War II. And by the second week of December, Sandra Lindsay, a nurse from New York became the first American outside of clinical trials to receive a Covid-19 vaccine. It’s important that you understand the dates as compared to the stock market. The market bottomed in March of 2020.
So when I talked about how in April the United States was in the worst shape from a covid standpoint, and I’m not minimizing it, people lost their lives. It was terrible. It was awful for families. But from a stock market standpoint, it was already screaming back up off the bottom. By June 8th when the World Bank was saying this is going to be as bad as World War II, the market was already almost three months off of its lows, and the market was nearly nine months off of its lows before the first person ever took the vaccine.
The point is when you hear a headline, the market’s already long gone because it doesn’t respond to good or bad. It moves on better or worse relative to the assumptions that are already priced in. How is the market doing so well here in 2023? Interest rates are still high. The Fed recently announced that it’s raising another quarter of a percent, and the market just shrugged. Doesn’t make sense. Well, it does if you consider that all of these rate hikes, including the last one were already priced in. 2022 was one of the worst years in five decades for a stock bond mixed balance portfolio because all of what’s happening now was assumed. And in fact, what’s occurred with the economy and employment and corporate earnings has exceeded the expectations of what was priced in during the bear market of the last nearly two years. So while the stock market is impacted by major world events, it’s not in a chronological order that makes sense to us as we are seeing it unfold. It’s always looking forward.
Let me give you another example of this, a sports example. I just need to fit this in here with the NFL’s training camp now underway, preseasons going, I’m fired up about it. Can’t wait to see my mediocre team have likely a mediocre season, but that’s okay. The NFL sells hope. Every fan base is a little bit optimistic coming into the season, even though only one will be left holding the Lombardi. From a sports betting standpoint, if Patrick Mahomes gets hurt on a Thursday, the betting line on that game that’s still five days away will shift immediately upon that news. The line doesn’t move on Sunday, five minutes before kickoff, allowing you an opportunity to bet on the other team while the chiefs are huge favorites knowing that the best quarterback on the planet is out due to injury. No, it’s not how it works, and neither does the market.
And this is important for you to accept as an investor that you are not going to be able to time the market based upon news events that you are hearing because it’s already priced in. And the cost of trying to time the market, well, it is maybe even more punitive than you realize. Dimensional Fund advisors did research on the cost of trying to time the market when you just miss certain periods of the best consecutive days. And I’ll post this chart to the radio page of our website if you’d like to view it. The study looked at a 25-year period from 1998 through the end of last year, so none of the great returns of ’23 are even included in this. They use the Russell 3000 Index as our benchmark, which is a broad-based measurement of the 3000 largest publicly held companies in the United States.
For all intents and purposes, we’re looking at how the entire US stock market did over the last 25 years. If you had a hundred thousand dollars and you just shredded your statement, your a hundred grand grew to $635,000. But here’s the painful reality. If you simply missed just the best week, week, over 25 years, you stayed fully invested the entire rest of the time, your 635,000 went down to 530,000, you lost a hundred grand by being out for one week. If you missed the best month, you didn’t have $635,000, you had only 500,000. If you missed the best three months over the 25 years you were down to 440,000. And if you missed just the best six months out of 25 years, your 635,000 was decreased to $412,000.
You see, the challenge with timing the market is that the risk of being out of the market is often greater than the risk of being in because three out of every four calendar years, the market has been up in value. Over five year periods, the market’s up over 90% of the time, over 10 year periods, 98% of the time and over 20 year periods, we have never seen negative returns. Of course, past performance is no guarantee of future results.
But I think the relevant question to answer is how should you react then to breaking news? Well, this may sound counterintuitive, but you shouldn’t react. That’s the answer. No reaction to breaking news, assuming that you have a great financial plan and a well diversified portfolio. At Creative Planning, we help clients grow, protect and transfer their wealth. And let’s talk about how to protect your wealth. No one wants to lose a bunch of money. You don’t want to work hard for 30 or 40 years and then watch a significant portion of that evaporate. So what do you do? You diversify. Now I know you just rolled your eyes, I can see it through my microphone.
Last week I talked about the fact that you may have more risk in one even safer asset class than remaining diversified, and I had a client email me. By the way, sometimes I feel like a pastor at church, you preach on predestination. “Did God pick us or did we pick God?” You know on Monday morning you’re getting a bunch of emails from your congregation. That’s what happens sometimes here on Rethink Your Money. I get some feedback. That’s great by the way. I love getting your feedback. Feel free to send it my way. But this client of ours basically said that he understood my premise, but if you extend it to owning a hundred percent government treasuries instead of a 60/40 globally diversified portfolio, that it would clearly not only be less volatile but also less risky, kind of debunking my theory that I spoke about last week.
By the way, if you’d like to listen to that episode or any past episodes, you can do so at the radio page of our website or through the podcast version of the show, which is out there by searching Rethink Your Money wherever you listen to podcasts. But while I love our clients, I disagree with him and this is what I told him. You see, if you’re in longer term government treasuries, you have massive interest rate risk. We just saw that, someone locked up in a 3% 30 year treasury in 2019, watched the value go down 30% on their bond in 2022. To avoid that principle loss, they have to sit in a 3% yielding bond for another 27 years, and that’s while inflation at one point was at 9.1%. Which brings me to my other risk of solely owning a government treasury portfolio, which would seem to be pretty safe and low risk, certainly lower than a diversified portfolio. But it’s not, because you’ve got inflation risk.
While you’re earning 3%, your purchasing power is being eroded, and when your principles returned three decades later, the hundred grand you invested buys less than half of what it did prior. Now you say, “Well, John, well, you just used long-term bonds.” Yeah, if you were only in long-term bonds instead of a diversified portfolio, I get that. What about short-term bonds? They don’t have inflation risk or interest rate risk like long bonds because they mature quickly. Those have no risk, right? Wrong. Different risk. The risk you run with those is called reinvestment risk. You have a great interest rate at 5%, but it’s only locked in for a short amount of time. And when that bond matures, you have to buy a new bond at whatever the prevailing interest rates are at the time. And while most expect rates to decrease over the coming years, you run the risk that when they mature, you’re renewing at one or 2% interest, maybe 3% interest. So that’s a risk.
Which leads me to one of the biggest mistakes I see for those nearing and entering retirement. If that’s you, listen up. It’s not being too aggressive, it’s being too conservative. If you are a 60-year-old, you’re likely going to need some of your funds that you have right now to use 30 or 35 or 40 years from now. And the best way to ensure you don’t run out of money in no particular order is to grow your money. It’s helpful to not run out of money if your accounts are getting bigger because you’re in growth oriented investments. And then while doing that, avoiding permanent losses. This would be selling things that are down in value that you don’t want to sell, the timing’s not right, but you need money from somewhere and you may not have a choice. And the best way to ensure that you accomplish those two things is by having a written documented financial plan that guides all of your money moves.
If you don’t have that or confidence in the plan that you have, you don’t think it takes into account your taxes and your estate plan and your investment strategy, really every aspect of your financial life, then that is the priority. Everything else is just details. It’s just noise. You need that plan and you need a plan that you have conviction and confidence in. If you are not sure where to turn, we’ve been helping families construct, adjust and maintain a documented detailed financial plan because we believe here at Creative Planning that your money works harder when it works together. Visit creativeplanning.com/radio right now to speak with one of our fiduciary financial advisors.
There’s a saying that’s over 200 years old now, hasn’t changed in 200 years, sir Isaac Newton said, “What goes up must come down.” Of course, he’s speaking to the effects of gravity, that all things will eventually return to earth, but the same is true when it comes to investment returns. The variance of those returns across different asset categories and sectors. And the term that explains this is mean reversion. It’s the theory that certain economic and financial metrics tend to revert or return to their original mean levels despite variations along the way. And the difference between 2022 returns and what we’ve seen thus far here in 2023, perfectly articulate that. Creative Planning Chief Market Strategist, Charlie Bilello, posted a chart on Twitter. I’ll also place that on the radio page of our website at creativeplanning.com/radio if you’d like to view this. But here are some great examples.
NVIDIA 2022, it was down 50%. So far in 2023, up 200%. Apple down 26% last year, up 48 this year. Microsoft down 28, up 44. Meta was down 64% in 2022, up 145%. Google down 39%, up 36. Amazon down 50, up 55. Tesla down 65%, up 111%. Netflix down 51%, now up 45%. And you say, “Well, John, I mean those are all the biggest tech companies.” And then NASDAQ 100 shows that down 33% in 2022, up 41% so far this year. But even the S&P 500, which is certainly led by some of these large companies, but includes many other companies within various sectors, was down 18% in 2022, up 19% here in 2023. And the lesson for you and I as investors regarding mean reversion isn’t to try to time the market and that is that it’s darkest before the dawn. When things seem awful, they may just be about to turn. When some of your investments feel like they’re going to the moon, well, let’s face it, trees don’t grow to the sky.
And this is why investing is such a test of our psychological willpower. Regardless of how poor the performance is in 2022 or how great it may be so far in 2023, stay disciplined, rebalanced strategically amongst your asset categories to preserve the long-term asset allocation that makes sense for you to accomplish your goals within the risk tolerance that you have capacity for and a tolerance to withstand. And if you have questions about your investments and aren’t sure where to turn, visit createplanning.com/radio now for your complimentary visit.
My special guest today is Chartered Financial Analyst and Creative Planning investment manager, Kenny Gatliff. Kenny, thank you for joining me here again on Rethink Your Money.
Kenny Gatliff: Thanks for having me, John.
John: Over the last several months ChatGPT and the prospect of future AI, it’s been all over the news. Can you tell us what’s going on and how this is impacting the stock market?
Kenny: Yeah, this is really exciting technology and so for those that haven’t followed, there’s been a big step forward in the usability of AI and all of a sudden it’s a rush to the top with this new technology and we really have seen it energize the stock market. And specifically in the tech sector.
John: What do you think has led to the massive runup in particular that’s happened over the last six months or so?
Kenny: I think what you see is this lottery ticket mindset. When the Powerball is at normal levels, you see people buying the lottery tickets, but all of a sudden once it starts to make the news up at 500 million or a billion dollars, you see it in the news, you see everyone rushing to buy their tickets. And I think it’s kind of the same idea. It’s this rush to get in on the ground floor so people think it is. And we’ve seen many examples this in the past. You had the early internet, you had search engines, just recently remote work or at home work created a lot of new technologies and each time there’s a bunch of investors that are trying to pour money into these technologies to try to hit that big winner.
John: Well, it’s certainly revolutionizing things and you have to assume that there will be some big winners in the space. Of course, the bleeding edge and the cutting edger hard to differentiate. And we saw, you mentioned the internet, if you piled in on AOL, you got clobbered. Even though you were right about the overall thesis of the internet changing our lives, it’s hard to find the winners in advance. We’re not advocates of trying to go find those needles in the haystack, but what do you think investors should do? How do you think they should react? Obviously there’s going to continue to be game changing technologies that are going to lead to extraordinary stock returns, and in hindsight we’ll look at it and say, that was so obvious that Nvidia was going to go up 200% or whatever the next Nvidia is. What do you feel like history’s taught us about these types of moments?
Kenny: I think history’s been very informative. There have been a lot of different events that have been a new technology. Now obviously AI and ChatGPT, these are the newest version of this, but it’s not like we haven’t seen new revolutionary technology. I have a couple data points on this. So there’s a study out of Arizona State University back in 2015 and they looked at every stock return from 1926 forward. It’s a crazy stat. 4% of all companies were responsible for the entire gain of the stock market, the other 96% combined to make nothing. Yeah, if you’re able to pick one of those 4%, certainly you do better, but what we advocate in investing is just make sure you don’t miss one of those 4%.
The other fallacy that we’ve seen historically is this idea of getting on the bandwagon late in the game. We have many examples of this. To cite a couple in the late nineties, early two thousands, the NASDAQ rose 300% before dropping 80%. And at that time we were talking about Nvidia. This isn’t the first time it’s been involved in something like this. It ran up quite a bit during the tech boom of the nineties, but it crashed over 90% in the tech crash. And then more recently, Zoom and Peloton both are down 90% from their extraordinary highs in 2020. And to that point, these aren’t duds or losers. These are still companies and indices that have done very well over time. It’s just a matter of if you got in at the wrong time, you may as well have picked the wrong company to invest in because you lost just the same as those that chose incorrect from the beginning.
John: Right company potentially just the wrong timing of that company to your point. And that ASU study goes all the way back to 1926, so it’s not a short period of time. That’s a hundred years of data showing that 4%. And I think it’s the ultimate temptation because if you know that 4% are going to account for every bit of the growth, you say, man, if I could just find one of those four in advance, think about the outsized returns and over performance that I would have, it’d be massive because it wouldn’t have those 96% in the portfolio that weren’t earning anything. Of course, difficult to find Apple 1983 before everybody else knows that it’s Apple. So I’m speaking with Kenny Gatliff, investment manager, chartered financial analyst here at Creative Planning.
Let’s look at the other side of that coin, Kenny, if investors shouldn’t be euphoric, pump the brakes, stay disciplined, be diversified, don’t get over your skis, should they be concerned about those run-ups we’ve already seen? Should they be wary of being invested in the market at all right now?
Kenny: In terms of what you’re saying, we’ve seen this big runup and so I say, yeah, I’d be a little wary to be all in on this tech sector on one of these few companies that has already run up based on the data I just shared in that if you get into the top of something that happens to have bubbled up, you have the potential to lose quite a bit. My advice here would be, be wary of being concentrated, and that’s good advice all the time. When we look at history as our example here, from 2000 to 2002 when that bubble popped, a lot of people said, oh, it would’ve been great to be out of the market during that time. You would’ve missed that. But if you were diversified during that same time, small value stocks were up 25%.
I talked about Zoom and Peloton being down 90% since their highs in 2020. But again, over that same time period from 2020 through today, small value stocks are up about 55%. So the key is to be wary of being concentrated or taking on more risk than your portfolio can afford. Be diversified so that if that risk hits one segment of the market, fortunately you’re not all in on that. You’re also invested in these other parts of the market that probably aren’t going to do as poor and may be able to lift you up out of that completely.
John: And while risk and return are correlated, taking on more risk doesn’t guarantee higher returns. Last question for you, Kenny. Given some of the meteoric rises of these companies, could it be worth taking a gamble on them? If I’m listening and saying, I get it, I should be diversified, but times are different. Look at these companies, consider AI. Kenny, I mean, what do you think about me just taking a bit of a gamble? Think about all the wealth that I could accumulate and buying private jets and all that. I mean, I just got to buy Nvidia at the right time, Kenny, and you want me to be diversified? What would you say to that person?
Kenny: And that’s a valid question and I think our intuition would-
John: Of course, it is. Everybody wants to get super rich in a short amount of time without having to put in a lot of work, Kenny.
Kenny: Yeah, and that’s the natural response when I say like, oh, look at Zoom and Peloton or the NASDAQ in the 2000s. They’re like, yeah, but if you got in before even with that loss, you still did very well, and that’s absolutely true. And so if you get lucky, if you time it right, certainly you can make a lot of money. But I think the part of here that is not intuitive is that risk is very asymmetric and it’s so much easier to lose that big gain than it is to recover from a big loss. And this is where statistics sometimes for even those that are very inclined in math and numbers don’t make a lot-
John: I know where you’re going with this. I know where you’re going.
Kenny: Yeah, don’t make a lot of sense. And so just to give you a couple examples here, so if you lose 10% on an investment, it only takes 11% to get back to even. So it’s like, okay, that’s pretty symmetrical. If you lose 20, it takes 25%, so it takes a little bit more but still very manageable. But once you start piling on these losses, it gets much more difficult to recover. And so if you lose 50%, well now all of a sudden you need a hundred percent return just to get back to even. That’s starting to become pretty intimidating. And if you lose 90% like we’ve seen in some of these other examples, well then you need a 900% return just to get back to even. And I think that’s something that most people truly don’t realize, and if they did, that risk of a 50, 60, 90% loss would seem a lot more dramatic and they’d probably shy away from taking on that kind of risk.
John: Those are great points, Kenny. I think it’s just another reminder that while it’s tempting and there’s always exciting new information and technology and stocks that are taking advantage of that, the best way to participate is by owning a diversified portfolio and ensuring that you capture those returns within the midst of that diversified portfolio. Thanks so much for joining me on Rethink Your Money.
Kenny: Yeah, thanks for having me, John.
John: If you have questions or a lack of confidence in your investment strategy or maybe at a more broad level, the overarching philosophy that is guiding it, if that’s the case, visit creativeplanning.com/radio today to speak with us. Why not give your wealth a second look?
Well, Jonathan Clements, our director of financial education who spent over a decade writing for the Wall Street Journal and is the founder of the website, humbledollar.com, had a great piece recently out on that website titled, Looking Up and Down. See, the stock market offers limited downside, but here’s what’s really cool, unlimited upside. And it has huge implications for how we manage our money. And here are the five reasons.
Number one, the most the stock market can lose is 100% of its value. Can’t lose more than you invest, assuming that you’re not using leverage or taking on a risky option strategy. But number two, the most a stock can climb is certainly far more than 100%. Historically, an investment in the stock market has doubled every seven to 10 years. Number three, most years the stock market’s gain is driven by a minority of stocks, which is why you want to be diversified to ensure that you don’t miss out on the Apples and Amazons and Nvidia and Tesla and Microsoft. As the late Vanguard founder, John Bogle once said, “Why search for the needle in the haystack when you can buy the whole haystack?”
Number four, the global stock market is highly unlikely to lose 100%. If this happens, what that means practically, if that were to occur would be that the world is over. If several thousand of the largest companies around the world that are producing goods and services simultaneously go bankrupt, the least of any of our concerns is the value of our IRA. It’s like at that point it’s grab guns, get in the bunker, some water bottles. It’s basically the walking dead. And number five, there’s no limit to the overall stock market’s potential gain.
Over the last 40 years. A $100,000 investment would’ve grown to just over $5 million by simply investing globally in human progress. You didn’t need to buy a handful of stocks, you didn’t need to trade in and out of the market or time the market effectively. You said, I think there will still be billions of people, that lives will improve and that we will take steps forward and progress as a global economy over a long period of time. Remember that two thirds of the market growth are simply dividends and inflation. The last one which is more varied, is expected earnings. In short, the stock market provides incredible odds relative to other games you could play.
We were at Belmont Park out in San Diego recently. They’ve got those really high basketball hoops where I’m convinced that they make the rims way smaller and the balls just a little bigger to rig it against you. You’re trying to win that big stuffed animal. Ah, odds aren’t great. But fortunately when it comes to your life savings, they are. The stock market is actually the opposite of a casino where the longer you play at the Bellagio, the worse your odds of walking out of there watching the fountains at night with some money in your pocket. And that’s why you see giant casinos all up and down the strip and many of those who own them are billionaires.
Well, with the stock market, conversely, the longer you are invested, the more likely you are to win. And since that’s the reality, the entire key is to make sure that you don’t have to stand up from the stock market slot machine while you’re waiting to win, and this is where you might need some bonds. The entire purpose of bonds is to help you stay in the game and not sell off stocks while they’re down in value.
I unfortunately saw this earlier this month with a prospective client, had a lot of stock options. They were massively down off of their highs because the company wasn’t doing well, that led to them being laid off simultaneously and they didn’t have enough buffer of safer investments, more diversified investments, a big enough emergency fund, and as a result, they were forced to sell some of that individual stock at the absolute worst time over the last 10 years they possibly could have sold it. As a long-term disciplined investor, you should feel great peace and confidence knowing that the odds are stacked in your favor. You are the house in that example, assuming that you have the staying power to allow those odds to play out over a long period of time.
If you have questions about your financial plan, visit creativeplanning.com/radio now to speak with myself or one of my colleagues here at Creative Planning. Why not give your wealth a second look?
Well, each week I break down common wisdom that we rethink together, and our first piece of common wisdom today is that risk tolerance should be frequently adjusted. Nope, it shouldn’t. Your risk tolerance should not be moving and thus dictating changes to your portfolio on a regular basis.
Now, we provide risk tolerance questionnaires for new clients at Creative Planning. Basically every financial firm does. But your answers to those questions should not be the driving force of your investment strategies. The answers are more of a reflection of recency bias than any fundamental component to your plan. If I have you answer that risk tolerance questionnaire during the Great Depression or a day after 9/11 or in early 2009 during the worst drop in the stock market and economy since the Great Depression, what do you think your appetite for risk would be? You’re going to say, “I am risk averse. I do not like risk. I am a conservative investor.” By contrast, if I give you that risk tolerance questionnaire in 1999 as the internet and all of those related stocks are going nuts, the economic outlook is phenomenal, you’re going to be far more likely to be willing to take risk.
You do not want the proverbial tail wagging the dog when it comes to your asset allocation. And I point this out because so often in the middle of a bull market, people will want to adjust their portfolio to a more aggressive posture. The problem is rebalancing would dictate that you do the exact opposite. So adjusting your risk tolerance frequently tends to be an emotional move that leads you to buy high and sell low. So we absolutely want to rethink that notion. But I do want to point out that risk capacity is different than risk tolerance. That will change based upon internal and external factors.
If you decide you’re going to retire 10 years earlier and need withdrawals from your portfolio in two years instead of 12, that would be a reason to adjust your allocation. If your tax situation changes or you’re suddenly going to inherit money or you’re going to have to care for an aging parent, well, all of those are reasons to adjust your allocation based upon a change in circumstances and your capacity overall for risk within the plan.
Another piece of common wisdom to rethink is that we can’t control inflation’s impact on our finances. Now, the inflation conversation has quieted a bit now that we’re down to the 3% range off of the highs of over nine, but Brian Peters who is a CPA and CFA here at Creative Planning wrote a fantastic article earlier this week on how a well-built portfolio can help counteract inflation. I’ll also post the article to the radio page of the website if you’d like to read it in its entirety. Fortunately, a well-built investment portfolio cannot only mitigate, but take advantage of the effects of inflation.
So number one, diversify your investments. We spent a lot of time already on the show talking about diversification, but it’s the answer to a lot of your concerns around your money. Different asset classes tend to perform differently during various stages of the market cycle, and so by maintaining that diversified portfolio, you reduce the risk of all your investments being impacted in the same manner at the same time with, in this case in particular, to inflation. Number two, you need to own stocks. Historically, equity returns have outpaced inflation over the long run, while often people think, well, inflation’s a negative for stocks because corporate earnings will likely go down and interest rates will likely rise, and then those companies will have a higher cost to borrow, therefore, reducing profits, generally stocks do fantastic over the long haul during inflationary environments because companies pass through higher costs to the consumer. So you as the owner of Apple Stock, benefit, you as the consumer buying an iPhone or AirPods, yeah, like you’re going to pay more. Not great for you as the consumer, but typically is good for you as a shareholder.
You can also consider inflation protected securities. You’ll hear them referred to as tips. They’re government bonds that change value based on the consumer price index. You can also during inflationary environments include an allocation to real assets, real estate being the most obvious.
Another tip, which is timeless but particularly important during inflationary environments is to rebalance regularly. Rebalancing is that process of selling off outperforming assets in order to invest in lower performing assets. You’re not selling all of them, you’re selling the excess because they’ve grown disproportionately to the rest of your portfolio.
And while this may seem counterintuitive, it helps prevent your allocation from drifting too far from your target investment ranges. This helps offset inflation because it prevents one asset type from dominating your portfolio and throwing off your risk exposure. So while the common wisdom is that you don’t have any control, it’s just inflation, its impact on your bottom line is within your control if you have a well-built financial plan that takes inflation into account.
My final piece of common wisdom is that John, my kids all get along. They’re not going to fight when I’m gone. I have a sort of okay estate plan. I mean it basically maps out what they need to do. It’s not official necessarily. I hand wrote it and had a neighbor sign it, but that’s okay. My kids love each other. Let me tell you, even the best family dynamics struggle when someone dies and money is at stake. I can’t even begin to explain how many families I’ve seen break apart, unfortunately, but it’s so sad it’s over money because their parents hadn’t appropriately planned and implemented an estate plan.
Here’s some tips to help avoid family fighting. Have a will or trust that specifies which siblings receive what in terms of property. For most people that have a fair amount of assets, a revocable trust which you can amend at any point up to your death, assuming that you remain competent, is a good idea. Have your accounts beneficiaries correctly for the specific percentages per kid or in some cases even name the trust the beneficiary and let the trust document designate how those assets will be received. Please, if you don’t have this done, speak with an attorney who does this sort of thing all the time for hundreds or thousands of clients. We have over 70 attorneys here at Creative Planning and are happy to help if you have questions, you can visit creativeplanning.com/radio to speak with us regarding your specific situation.
You can also use a third-party fiduciary like we have with Creative Planning Trust Company. This is a third party who does not stand to gain from any decisions regarding the distribution of the estate. This can be helpful in avoiding conflict. If one of your three kids is the executor and handling everything, sometimes the other two kids are looking over their shoulder going, “I don’t know if that’s how it was supposed to be done.” This can alleviate some of that stress and the major responsibility and time commitment this is for the child who’s been designated.
You can also give gifts during your lifetime. A parent may want to distribute certain items before they die so the children can enjoy the items longer. If you have a great financial plan and you know that these gifts won’t compromise that plan, it’s almost always better to give with a warm hand than a cold one. This can be especially helpful when it comes to sentimental items.
I remember a client that we worked with who has now passed away and she had two daughters and she had a lot of jewelry. While she was alive, she distributed her rings, her bracelets, her necklaces to each of the girls as birthday presents and holiday gifts and it meant so much to them. Remember her telling me about how excited they were to receive those and how meaningful it was for her to watch her children receive those and that the joy that they found in that. And of course it also eliminated at her passing any issues between the two daughters saying, “Well, I want that ring, and mom said I could have that one, and,” it avoided all of that.
And speaking of gifting, that annual exclusion in 2023 is $17,000 per person. This means that you can give away 17K or 34,000 if your kid is married, or 68,000 if you are married and your child is married without paying tax on any of those gifts. It’s time for your questions, and one of my producers, Lauren, will be reading those for us today. Hey Lauren, who do we have up first?
Lauren Newman: Hi, John. The first question I have for you today comes from Tara in Raleigh, North Carolina. She says, I’m in a balanced portfolio and I am only up 7% this year. Am I underperforming? I feel like I could throw a dart at the board and do better than what I’m currently doing.
John: Well, Tara, thanks for this question. I’m going to assume when you say balanced, you’re 60/40 and yeah, 7% would be underperforming a little bit this year if you just look at broad indexes. So to put this in context, the NASDAQ is up about 35% year to date. Now, you’re probably not really heavy in tech because you said you’re balanced, so let’s assume you’re diversified. Small cap stocks are up about 12%, mid-cap about the same, 12%. The S&P 500, which represents the 500 largest US stocks, is up about 18%. Broad international is up about 16%. Emerging markets up about 10%. So I would think the diversified equity portion of your account if you’re in index funds, should be up about 15 to 20%. And on the fixed income side, that would be say 40% of your portfolio, I’m assuming, that’s up two to 3% right now and is paying an annual yield of around 5%.
So yeah, probably I would think you’d be up maybe 10%, 12% instead of the 7% that you are right now. But without seeing the portfolio mix, it’s difficult to say because if the specifics of your balanced portfolio is closer to 40% stocks and 60% bonds and the bonds you own are of different maturities or credit qualities, it could look pretty different.
Also, I don’t know the cost you’re paying, the specific asset allocation. Has there been active trading by your advisor in the accounts? Are the investments you’re using actively managed mutual funds? So those are the indexes, but 85% of active fund managers lose to the benchmarks. So maybe you’ve had bad performance in some of those specific investments, but in short, yes, 7% seems a little low for a 60/40 portfolio based upon current returns of the indexes at this time. But we have an office there in North Carolina near you. If you’d like to have your portfolio reviewed in depth to see if there are some ways you could be improving it, we offer that for free and you can request that by going to createplanning.com/radio.
All right, Lauren, let’s go to the next one.
Lauren: Our final question today is from Lawrence in Bismarck, North Dakota. He says, I’m a 55-year-old and recently noticed a considerable increase in my life insurance premiums. I’ve been paying these premiums for years, but I’m now wondering if there’s an age at which it becomes sensible to reduce my life insurance coverage. Can you provide some insights into when it might be appropriate for someone in my age bracket to consider reducing their life insurance policy without compromising my family? Thanks, enjoy your weekend.
John: Thank you for that question, Lawrence. And yes, there is a sensible time in life to potentially reduce your life insurance coverage or get rid of it altogether, and that is when your passing has minimal or no effect on anyone else from a financial perspective. Life insurance is purchased to cover a risk for others if you were to die. Most notably this would be you have children in the home, you’re younger, there’s a high cost to raising kids and getting them through college if that’s a priority to you, and maybe it’s a spouse, maybe it’s that you care for an aging parent who depends upon you, but that’s the core question. If I had died yesterday, is there anyone who would be in financial hardship as a result of that? Many great financial planners will do this for you. We offer it here at Creative Planning and we call it within our planning process that we provide for every one of our clients an insurance needs analysis.
And this should be not only looked at initially within the financial plan but then reviewed and updated regularly. It’s an actual number, by the way, this insurance needs analysis. It’s like there is a number based upon your current situation, Lawrence, your family situation that you should be maintaining when it comes to life insurance. And that number could be as low as zero. It may be several million. I don’t know your situation, obviously, but it is typical that the older you get, the less life insurance you need. You don’t have kids in the house anymore. You may already be retired, you’re only 55, but let’s say you were 75, you’d be retired. So there wouldn’t be an issue with lost wages for your spouse. And it’s also typical that as you age, depending upon the type of policy you have, premiums will increase because the risk for the insurance company increases.
Your life expectancy is compressed and not to sound insensitive, but you’re more likely to die. And that insurance needs analysis can only be determined within the context of a written documented dynamic financial plan because that will address things like what is your expected retirement date and what are your expected current wages between now and then? Are you married? If you are, does your spouse work? What are their earnings relative to yours? What are your combined expenses? How would those change if you were to pass away? What would be the decrease in social security benefits if you were to pass away before your spouse? Do you have things like a second home or a motor home or a boat? Is that something your spouse would want to hold onto if you passed? Or would they sell that home and invest it back into their investment accounts to be able to be used for retirement?
Is it important to you to leave money to kids or charities? Or are you and your spouse okay with when the second one of you passes the check to the morgue bounces? Are the premiums you’re paying today impacting your lifestyle and squeezing your cash flow? And those are just off the top of my head ideas that I’m rattling off and that’s just scratching the surface. There are a multitude of factors within your financial plan that would determine first whether you need life insurance and then how much you need and for how long you need it because in some cases you can reduce the term, you’ve got a 20-year term, and when we run the analysis, the big risk is actually just while you’re working between 55 and 65 and your premiums can come down a lot if you go from a 20-year term to a 10. It may be that the term is appropriate, but you just simply don’t need a million dollars of life insurance anymore. You only need 500,000. That’s sufficient. That’ll ensure that everyone is okay and you’re not over-insured, paying premiums that you don’t need to.
And unless you had permanent life insurance within a split funded defined benefit plan or you’re a high net worth family and it was for estate planning purposes within maybe an irrevocable life insurance trust, then I’m hoping that you’re referencing term life insurance because the most inappropriate and outrageously expensive life insurance that I see unnecessarily still a part of a 55-year old’s retirement plan are whole life insurance policies and indexed universal life policies, variable universal life policies. So if you have one of those, Lawrence or if you’re listening and you own permanent insurance, it’s likely expensive. And I would recommend that you see an independent fiduciary who didn’t make a big commission selling you that insurance to review the policy and review it within the context of a financial plan to determine whether it’s valuable and needed at this point within your plan.
Thank you for those questions. And again, if you have questions that you’d like me to personally answer either on the air or directly with you, I’m happy to do so. Email [email protected] to submit those questions.
Well, as I conclude today’s show, I want to assess the question, how much do you really need? How much is enough? I saw that Kylian Mbappé, one of the best soccer players, placed for PSG and the French national team rejected a meeting and alleged contract offer from a Saudi Arabia club that was in the neighborhood of $775 million. Lionel Messi, who eventually went to Miami in the MLS was supposedly offered over a billion dollars to play in Saudi Arabia. Christiano Ronaldo is making north of $200 million per year to play in the Middle East. But Messi rejected the offer and basically said he wanted to bring soccer to America, continue to grow the sport over here. He said his family and him were ecstatic about the idea of living in South Beach, and he’s also making 60 to 70 million per year. So go with me on this example. I get it. The guy’s not hurting. He’s a billionaire and one of the best soccer players of all time. But I think there’s a principle here that applies to you and I.
Mbappé and Messi, I mean, they obviously determined, well, there’s more to this decision than money. Somewhere along that decision matrix, they decided other things are more important than just the biggest number. And again, you might say, well, that’s easy for them to do because they’re so rich. Yeah, but we’re pretty rich too as a society from a historical and global perspective. And so I want you to think through a question and really think this through, not just rhetorical, how much is enough? When would you be willing to stop moving the goalposts? What’s that number? I mean ultimately, does it matter whether you die with 600,000 or 700,000 or 3 million versus 3.3 million or 7 million versus 7.5 million? Whatever your situation is, is if we’re not careful, even as our net worth increases and our account balances grow larger, it merely creeps our expectations and what we desire proportionately higher and in some cases disproportionately higher beyond even what we thought we needed before.
But here’s the key. The answer to what is enough should be answered entirely through your own objectives. How much money will you need to accomplish your goals? Not someone else’s goals, not your neighbors or your siblings, but your goals. And then from there, build a financial plan, reverse engineer your savings rates, investment in tax strategies, retirement dates, estate planning around that specific objective that’s personalized for you. You’re not playing someone else’s game financially. The only game that matters is yours.
It’s quite possible that the most important and meaningful word regarding your personal finances is the word enough, because enough keeps you from thinking short term and overreacting. It provides a margin of error so that your plan doesn’t break from one or two unexpected events. It keeps you from feeling greed, which can lead to taking on a lot more risk to try to increase your net worth and enough helps you not compare to others who are seemingly having more success and are wealthier. And enough instills gratitude for what you are already blessed with rather than your energy being directed to what you wish you had. And this is so important because we are the wealthiest society in the history of planet Earth. Let’s make our money matter.
Announcer: Thank you for listening to Rethink Your Money, presented by Creative Planning. To hear past episodes or learn more about the topics and articles discussed on the show, go to creativeplanning.com/radio. And to make sure you never miss an episode, you can subscribe to Rethink Your Money wherever you get your podcasts.
Disclaimer: The proceeding program is furnished by Creative Planning, an SEC registered investment advisory firm that manages or advises on a combined $210 billion in assets as of December 31st, 2022. John Hagensen works for Creative Planning and all opinions expressed by John or his guests are solely their own and do not represent the opinion of Creative Planning or this station. This commentary is provided for general information purposes only. Should not be construed as investment, tax or legal advice and does not constitute an attorney-client relationship. Past performance of any market results is no assurance of future performance. The information contained herein has been obtained for sources deemed reliable but is not guaranteed. If you would like our help, request to speak to an advisor by going to creativeplanning.com. Creative Planning tax and legal are separate entities that must be engaged independently.
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