It’s time for a mid-year financial checkup. On this episode we’ll discuss three things you should assess in your financial plan — and give you a few bonus tips — before welcoming special guest Scott Schuster. Scott shares his unique perspective on the integration of tax planning with your investment strategies and how impending tax changes could affect you.
Episode Notes
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 your host, John Hagensen, and on this week’s episode, have you had your mid-year financial checkup? There are three areas I suggest you reassess. And finally, I welcome CPA and CFP Scott Schuster to share his unique perspective on the integration of tax with your investment strategies, considering the upcoming tax sunset. Now, join me as I help you Rethink Your Money.
My special guest today is creative planning managing director Scott Schuster. He is a certified public accountant as well as a certified financial planner, with an understanding of both tax and investment planning. You have a unique perspective on how to integrate these two. Let’s begin with, what is likely to change here in about a year and a half, with the current tax rates sun setting?
Scott Schuster: Here’s what has to change for our tax rates to change, and the answer is, absolutely nothing.
John: True.
Scott: So when they changed the tax law, they used the budget reconciliation process so they were able to push that through. The only way they were able to do that is if all of those tax laws sunset, which means go away on the stroke of midnight on January one of ’26. The current tax brackets are 10%, 12%, that’s for people at a modest income level. The 22 and the 24% are so eerily closely tied together, I almost view them as the same and then-
John: And it’s a wide income range.
Scott: It’s a wide income range.
John: So once you’re in 22, you have a whole bunch of room before you go out of 24.
Scott: Correct.
John: And you don’t even increase out of the 24% bracket until $380,000, a little north of that.
Scott: Correct. So think about that. That’s the vast majority of what the mass affluent looks at. Assume that that’s a 22 to 24% threshold, and our current rates cap out at 37%. What’s going to happen at the stroke of midnight on 1/1/26, unless something changes, is two things. The first thing is the tax brackets are going to revert back to higher brackets, so that 22 to 24% threshold is going to become 28. And the second thing is, the thresholds with which those incomes jump up to higher brackets is going to significantly decrease. So the way the sunset was written is they said, so in 2016, the 28% bracket kicked in at roughly 151,000 bucks. Okay?
John: And this is married filing jointly, correct?
Scott: You’re right, I’m sorry. That’s a good way to… I always-
John: Cut all these in half if you’re single, yep.
Scott: Correct. So that’s going to be indexed for inflation, but realize that 28% threshold now, it’s going to be way the heck lower, the change from 24 to 28. What percentage change is that? Four, but let’s divide forward by 24. Right? It’s not a 4% change, it’s a 20% change. So people’s tax brackets, they say they’re going to go up 4%, but it’s 4% more than what they were paying before.
John: Yeah, I see what you’re saying. How much of an increase is it for the end person, relative?
Scott: Correct.
John: Yeah, relative increase, yep.
Scott: Right. So everyone says, hey, tax brackets are going up 4% and that’s true, but what they’re going to feel in their pocket is a 15 to 20% higher tax rate at a much lower dollar amount. So it’s a really big deal.
John: Yeah, that makes sense. It’s a good to look at that.
Scott: So I think it’s a really good way to start with that, because some of the other tenants that we’re going to talk through are in today’s tax rates, knowing that tomorrow tax rates, unless something changes are going to be even more.
John: The point that a lot of people are missing is if you go back to the Bush tax cut years, the 25% bracket even started at about $75,000. You alluded to the 28% bracket. I mean, you start thinking about that, so you were at 25% at $76,000. Practically, you’ve seen this too, I’m sure Scott, with your planning, you have a lot of high income earners. You may have a physician making $360,000 wanting to max out their SEP, and that’s reason today to pause and say, hey, I get it, you’re a high income earner and you intend to make less money probably when you’re done practicing in retirement. What do you say to that person?
Scott: I absolutely positively love the way that you try to remind America that kicking the can down the street isn’t always a good idea.
John: It’s not elimination, right? It’s deferral.
Scott: Correct, defer and avoid are totally different words. So deferring taxation today is arguably an unintelligent decision, assuming that you know what your retirement tax bracket is. You look at most of my clients and most of yours, their spend rate in retirement is going to be roughly between let’s say, let’s be honest, between 200 and 300,000 bucks, right?
John: Mm-hmm.
Scott: Is that fair? Do you believe that?
John: Sure, yeah. For most people that are in that higher affluent demographic.
Scott: Correct, correct. So take that and say, okay, assume that some of that, if you look at people’s asset backgrounds, they don’t have all their money in Roth IRAs, they don’t have all their money in after tax accounts. I take an average client, let’s say if they have five million bucks, they’ve got a million bucks in trusts or after tax accounts, they might have two or $300,000 in Roth accounts, and the rest of their money is in their IRAs.
John: True.
Scott: Well, when you start getting that two or 300,000 bucks handed to you back when you go to pizza and buy pizza, you go to get prescription glasses, and you’re taking that money out and your income threshold is going to be between two and 300,000 bucks, your tax bracket in retirement might be higher than what it is today. So deferring taxes today, I don’t say it doesn’t make sense. You got to look at what your retirement tax bracket is going to be and then what your current tax bracket is, and they make those smart decisions.
John: We become a little bit complacent with this the last five plus years, because when you went to take a vacation and take all the grandkids and it was $60,000, even if all that came from your IRA, that wasn’t pushing you into a higher bracket, to circle back to the start of the conversation. That’s going to change if this fully rolls off and sunsets, and now you’ll have to be determining if you’re that client example that you shared, should we not take that vacation? It starts impacting your day-to-day living because of the tax implications of your withdrawals.
Scott: We always talk about, there’s three kinds of money.
John: Sure.
Scott: And you want to fill those up to the extent you can at a 24% number or less, so that when you’re 63 years old and you want to take your family to Disney and taking 60,000 out of your IRA is going to cause you to get in a different tax bracket, you have some latitude to say, I’m going to take 17,000 out of my Roth, I’m going to take 12,000 out of my after-tax account because I know my cap gains rates are going to be lower, and then I’ll use the difference and I’ll fund that with my IRA. So it requires some of that planning now so that kids can go see Mickey Mouse if they need to.
John: That’s a great point, and we’re not even factoring in required minimum distributions when those start hitting as well. And obviously at that point, you’re completely beholden to whatever the IRS has determined tax rates are going to be at the time, right?
Scott: Correct. You have zero latitude to do anything until you’ve satisfied that RMD. After you do that, that’s when you can start doing some of the creative and unique things. Once RMD situations come into play, that’s another opportunity for good planning to make sure that clients use their qualified charitable distributions and they give charitably out of their IRAs, because that can satisfy a portion, if not all, of the clients RMDs.
John: Scott, let’s jump into five key questions. You wrote an article for us that I’ll post to the radio page of our website, on how to determine your portfolio’s tax efficiency. Let’s talk about harvesting losses. How do you feel like that’s maybe underutilized when you talk to a prospective client that’s unaware of that? What do you think people need to know about harvesting?
Scott: So tax loss harvesting is probably, and I don’t want to say tax planning 101, but it kind of is. If you think about it, people have a moderate to large disdain for paying taxes.
John: That’s to put it mildly.
Scott: There you go, I’m trying to sugarcoat it a bit. Let’s just use a fun stock, everyone in the world bought Apple 10 years ago and they bought Apple for 100 bucks and now it’s worth 2,000 bucks. If they sell Apple to go, let’s keep going to Disney, and they take that 200,000 bucks, they’ve got to pay tax.
John: It’s not going to be enough. The 200,000 is not going to be enough for Disney.
Scott: That’ll get them in one hotel.
John: Bad example, they need more. Yeah.
Scott: Bad example, all right. If they sell their Apple and they’ve got that gain, they have to pay the federal and possibly the state government, depending on what state they live, a certain taxation on that gain. They also hold some bond funds in their portfolio or they might own some emerging market funds that over time hasn’t done super well. What we can do, and we do it really well here at Creative with our trading strategies, is we’ll say, okay, let’s sell some of that Apple. Let’s create the gain, but I know your emerging markets over the last year or so haven’t done as well as before. We can sell some emerging markets to harvest a loss to basically offset that gain. We’re not making a decision that we don’t like emerging markets. We still like them, but there’s other similar investments that we can redeploy those funds into without changing someone’s investment paradigm one iota, but we can still get them to Great America for an afternoon, instead of Disney with their 2,000 bucks, and not give the state or the federal government any money, and also not change your investment paradigm.
So harvesting losses is intelligent, prudent, and it’s often underutilized because people don’t want to bother with selling something and buying something different because they have to possibly run into some of these rules that the IRS sets up that could possibly negate it if not done properly.
John: Portfolio design plays role as well, because you have a year like 2023 where the broad markets are up in value, but you had plenty of individual positions if you were direct indexing, or even certain asset categories that were down in value, allowing you to take advantage of that. So don’t just think, well, my accounts are up this year, there’s no harvesting opportunities. There in fact might be. How, Scott, can people ensure that they’re taking full advantage of tax efficient accounts?
Scott: If you’ll allow me, I’m going to digress just a bit.
John: Absolutely.
Scott: I’m actually going to talk about asset location, not asset allocation.
John: Okay, I like it.
Scott: So we always talk about investing and tax efficient investing. So for John, it’s a lot longer for you than for me, but we’re talking somewhere between 35 and 70 years of tax-free growth. So, anyone who can fog a mirror knows to put your high growth investments in those, and everyone does that for the most part.
John: Well, not everybody. I see prospective clients that walk in with 80% of their Roth in cash or fixed income and then they’ve got a deferred account that’s a 100% stocks. Worst I’ve seen variable annuity insurance salespeople, stuff somebody’s Roth into a fixed annuity or a high cost variable annuity. It absolutely boggles my mind and drives me crazy. But yes, you should know-
Scott: Correct, correct.
John: … to put growth oriented vehicles inside of your Roth.
Scott: And I make this statement and I’m just going to sound polarizing. I truly believe 90% of America, 90%, has their 401(k)’s and/or IRA’s invested wrong.
John: I wouldn’t disagree with that from what I see.
Scott: So let’s take a normal family. Let’s pretend Jane and John Doe have two million bucks, they’re 55 years old, they’re going to retire in five years. That two million bucks, they have a quarter million dollars in Roth, they’re smart enough to have that all in equities. They’ve got 1.75 million bucks left. I look at Jane and John and they should have 300 grand in bond investments, because we believe that’s what they need to provide the stability for a three to five year period of time so that they don’t have volatility that they can’t stomach. Well, I guarantee you that they do not have that three to $400,000 of bond investments in their IRA or their 401(k). I guarantee you they have it sitting in their checking account or in their after tax account.
Think of it this way, whatever your IRA or your 401(k) grows to, when you take it out, when you go to Disney or you go to Great America, or you go buy a pizza, you have to pay ordinary income tax and you and I both said the lowest threshold, I’m looking at a 2024 tax table as we speak, if you make more as a married person, more than 90,000 bucks in income, that’s taxed at 22%. However, from a capital gains standpoint, capital gains are taxed at that threshold at 15%. So if you think about it, you want your growth investments in after tax accounts first, even though you have to pay tax on the gain. You and I are going to have them invested in either direct indexing where they’re going to own the stock or in ETFs that don’t kick out capital gains until we want to send them to Disney.
John: Sure.
Scott: So their tax brackets are going to be much lower. Some of our clients have more money than they need, so if our client happens to forget to be alive and they pass away and they bought Apple stock in their IRA, 401(k) and Apple stock went from 100 bucks to a million bucks, when they give their kids or their grandkids that million bucks, you know what the taxation on that million bucks is going to be for the grandkids?
John: Ordinary income at their base.
Scott: Ordinary income, which for them will be roughly 30-plus percent. If they forget to be alive and bought Apple stock in their after tax brokerage account or their trust account and it went from 10 bucks to a million bucks, you know what their tax bracket on that’s going to be?
John: Zero.
Scott: Bupkis, absolute negative infinity, zero. Now again, we don’t want any of our clients to die, but unfortunately they are going to.
John: It also saves paying tax throughout the years on the underlying income that it’s spitting off.
Scott: That’s exactly right, and not only is that inefficient, but it’s kind of a pain. People with bigger portfolios wind up getting either state and/or federal tax penalties because they’re not making estimated payments once their portfolios reach certain levels. So that’s a really good point you bring up.
John: I think a lot of the reason people invest the way they do is because back in the day if you had equities, they were in antiquated retail mutual funds inside of a brokerage account. It was spitting off all sorts of taxation between the dividends and now with ETFs or direct indexing, that’s just not the case.
Scott: That makes sense. In fact, I forget the name of the mutual fund. There was a mutual fund that I used to utilize and what wound up happening is they wound up leaving a platform of a big brokerage house and in doing so-
John: Yeah, I’ve heard of this, yeah.
Scott: What wound up happening is since they left the platform, they had to provide the liquidity and they kicked off like a 67% capital gain.
John: Oh, man.
Scott: And if you… Literally. So clients had this monster capital gain, their asset threshold was still the same. If you had a million bucks in this investment, you actually had a 670 grand-
John: It’s insane-
Scott: … capital gain tax bill, and then for you to realize that you had to sell that investment. But yeah, it is the birth and or the utilization on Creative side of the direct indexing and/or the efficient both tax and cost-efficient ETFs that we use. It just allows us to really control, not just the taxation but the timing of the taxation, which allows us to help clients not just invest money and save money, but how to spend their money, because I think clients spend their money wrong quite often.
John: I agree with you there Scott, and that would be a great topic for next time. We could go for another hour at least, but we are out of time. Scott Schuster, thank you for joining me on Rethink Your Money.
Scott: Thanks, John. Have a great day everybody.
John: Well, believe it or not, we’re now into August of 2024, my kids are back in school, football season is coming. That’s right, it’s almost crock pot and chilly time. I don’t care if it’s 105 degrees still in Arizona, but that also means that it’s time for your mid-year financial checkup. This is a great chance to assess where you are positioned in three key areas. Number one, reassess your emergency fund. How much do you have there? Especially if you’ve tapped it within the first half of the year. Generally, three to six months is a good range that you should have on hand, which helps you avoid needing to use a credit card or go into high interest debt or pull from other investment accounts, which may force you to sell things when you don’t want to, as a result of an unexpected expense.
Next, reassess your spending and your debt. Basically, look at your cash flow and your household budget. By checking in on your spending this time of year, you can see patterns. You can see just how much maybe they’ve shifted, how much more or less money is coming in and out of your bank account, as you continue into the summer. And if you have the foresight for next year, take a snapshot of your balances January 1st. Not necessarily your investment accounts but your bank accounts, and see based upon your spending, do you have more or less at the halfway point of the year? The Federal Reserve reported in the household debt and credit report that household debt’s now risen 184 billion since the end of 2023, which has now reached a total of just under $18 trillion. So I’m making this really easy. Just reassess your emergency fund, reassess your spending and your debt.
And finally, review your investments. You still have time to make adjustments between now and the end of the year. If things are different than you forecasted in January, relative to maybe your income or your expenses. Where are you saving, from a tax standpoint? What type of account? Saving into an IRA or a 401(k) or some sort of deferred account, a Roth, one of those tax-exempt accounts, or an after-tax brokerage account. How much are you saving? Is it enough to accomplish the short and long-term goals that you have, and what are you saving into? What types of investments? Do they align well with your overall objectives? So, when you sit down to look at your investments, it’s a where, how, and what question that you’re answering.
If you’re feeling extra motivated and you want a bonus, John, I’m good on that. Emergency fund has six months, cash flow is great, just looked at my investments. Well then look at your tax strategies, review those a few months earlier than you typically do at the end of the year. Check out your insurance. Do you have the right coverages? What are your costs? Could you save money somewhere? Are you underinsured? Are you over insured? And then review your estate plan. And I know this can seem overwhelming in some cases and a lot easier to just bury your head in the sand. I’m pretty sure I’m okay, we seem to be fine as a family. I don’t have a lot of high interest credit card debt. We’re paying down our mortgage. I’m putting money into my 401. I don’t really want to have to think about this. And if you’re at that place, that may be a reason to consider what a great financial advisor could do for you.
When there’s turmoil in the markets, common wisdom says don’t just stand there, do something, but the late great John Bogle said it best when he said, “Don’t do something, stand there.” You see, it’s the opposite. I remember watching Scream for the first time and Neve Campbell’s in the house on the phone and she can’t run and her legs are heavy and she drops the weapon that she could fight herself off with and then she goes to the door that’s locked and it’s just torturous. Like no, do something, run, don’t go that way, don’t end up in a dark alley. It’s natural to want to act when things get dicey, that’s human nature. And the same goes for our investments in the stock market. When volatility strikes, the instinct is to protect yourself by making changes. But here’s the deal, more often than not sticking to your long-term plan is the way to go. It’s like, hey, just actually sit there. Yeah, don’t run into the backyard by the swimming pool where the masked man is, don’t do it.
Consider this. Fidelity once conducted an internal study to determine which of their investors had the best returns. The surprising result, the best returns came from accounts that were either forgotten about or belonged to investors that had passed away. I’m not joking. How crazy is that? The dead people and those who didn’t know the account existed outperformed the others. Talk about counterintuitive and only reinforces the idea that sometimes doing nothing can be the best course of action.
So if you’re following with me, okay, John, I get it, don’t hop in and out of the market, don’t try to outsmart things. Just sit on my hands, disconnect my internet, lose my login, but how do I actually stay calm? That’s a normal question that you’d be asking when the market is all over the place. One strategy is rebalancing. It is doing something, it is being proactive by periodically adjusting your portfolio to maintain your desired asset allocation. But it’s systematic, it’s rules-based. It’s not reactive, it’s not emotional, it’s not gut instinct. It’s a strategy that helps you buy low and sell high without any drastic changes. It gets your portfolio right back to exactly what your stated allocations are.
You could also harvest losses. That’s another tactic that certified financial planner, Scott Schuster and I talked about earlier on the show. Tax loss harvesting involves selling investments at a loss to offset gains in other areas, which may reduce your tax bill. And again, that might sound counterproductive. I’m going to sell at a loss? It’s a smart way to manage taxes without making big portfolio changes because you buy something similar to what you just sold. So the next time the market gets bumpy, it’s going to happen, we’ve seen a little volatility even in recent weeks. Remember, the best action might be inaction. Stick to the long-term game plan, rebalance, consider tax strategies, your future self will thank you.
Our next piece of common wisdom to rethink together is that knowledge is power. You need to stay informed at all times. And at a surface level it makes sense, the more the better decisions you can make, but when it comes to investing specifically, too much information can actually hurt your performance. A study by the Journal of Finance found that individual investors who traded frequently underperformed those who traded less. See the study of the dead person that I just referenced, hard to make trades when you’re not alive. The overactive traders saw their returns reduced by about 6.5%, annually. You didn’t mishear that. 6.5% every year due to transaction costs and poor timing. In essence, the more you tinker, the worse off you might be.
I like to think of it like baking. Baking is very different from cooking and grilling where you just kind of do whatever you want. Baking is very precise and if you keep opening the oven to check on the cake, my kids do this all the time, it’s usually cupcakes or banana bread that my wife’s making with them. Oh, my wife makes the best banana bread. Put some gooey chocolates in there. Not quite as healthy, but ooh, that is good. My mouth is watering. But our little girls, Ari and Luna, just keep opening it. Is it done? Is it done? Is it done? The same applies to your investments. Constantly checking and making adjustments and tweaking can disrupt the natural growth process. You don’t ever want to interrupt compound interest unnecessarily.
There was another study by Barber and Odean that analyzed over 66,000 households with accounts at a large discount broker between 1991 and ’96. They found that the most active traders earned an annual return of 11.4%, while the market returned 17.9. So what’s the sweet spot? Am I suggesting that you’re completely naive to every aspect of personal finance? No. I say you aim for the Goldilocks amount of knowledge, not too little, not too much. Again, it sounds counterintuitive, that’s why we’re rethinking this. Stay informed about the fundamentals and the major market trends, but avoid the noisy day-to-day market commentary. Like understand what a 401(k) is and how to balance a household budget and how a health savings account works, or if you don’t want to know about any of those things, hire a really good advisor that will guide you on all of that. But having too much information is like trying to drink from a fire hose, it’s overwhelming and it’s ineffective. Focus on the essential information that helps you make sound, long-term decisions. That’s the key long-term, and avoid the urge to act on all the information that you’re consuming.
It’s time for this week’s one simple task. Have you ever noticed that simple things aren’t always easy things? Those two words are used synonymously, but they’re not the same. It’s simple to lose weight, eat less, move more. Simple but not easy, as we all know. Simple to be on time places, that’s not easy. We’ve all been late when we didn’t need to be. And it’s simple to spend less than you make, but it’s not easy.
Now, I’ve given you 30 simple tasks so far in 2024, and if you’ve completed all of them, you’ve likely made some serious financial progress. If you have, congrats, you get the applause of the day, but these aren’t easy. When it comes down to executing, they take discipline, they take consistency. And this week’s one simple task is no different.
I want you to divide your expenses into two buckets, discretionary and non-discretionary. Begin by determining how much money you spend each month. Pull up your credit card and bank statements, if you use Mint.com or some sort of budget aggregator that automates this, that’s fantastic too. Look at your expenses, then separate each into one of two columns. Discretionary expenses are the costs that you choose to take on that are not essential for living your life. In other words, they’re the wants, they’re not the needs. A few examples of discretionary expenses. Eating out, movie tickets, concert tickets, other entertainment. Streaming, TV subscriptions, gifts for friends, vacations, gym memberships, and yes, car payments. Those are not non-discretionary and a nice car tends to be one of the most costly inhibitors of financial success.
Non-discretionary expenses are the payments you need to make each month to live, like shelter, rent or mortgage, minimum credit card payments, taxes, insurance, utility bills, cell phone. It’s important to also look at which of these expenses are not monthly. Property taxes, income taxes, and annual car registration. Those are all non-discretionary. But you also have things like Christmas gifts, new electronics like the brand new big screen TV. I don’t know, Costco, man, they get you every time. You just walk in and these glorious TVs are staring you in the face and they’re a lot cheaper than they used to be and all of a sudden your TV just doesn’t look quite as nice, does it? I’ve heard that from a friend, not speaking from experience here.
But once you have an idea of your total expenses, compare that to the amount of income in which you bring in each month. Very few people actually have a budget and know what they spend. Here’s another way to look at this. How much are you saving each month? What’s automated, going out into retirement plans and other accounts? And then figure out, if in the end you have a higher or lower balance, maybe quarterly, you can look at this, in your bank account. That will give you your answer. If you’re saving 15 grand a year and your bank account’s holding fairly steady over the course of the year, well then you’re spending about 15k less than you bring in. But today, as you know, our expenses are so automated, which is fantastic, it’s convenient, but the downside is that it hides a lot of discretionary expenses that if we went old school and you write a check or get money out of an ATM, we likely wouldn’t see the expense as worth it.
So again, your simple task is to separate out discretionary and non-discretionary expenses and evaluate those discretionary ones to ensure they are in fact, worth the cost.
We have made it to my favorite part of the show, listener questions, and one of my producers, Britt, is back to help me out. Looks like we have a nice lineup today, Britt. Let’s start with Cameron in Maine.
Britt Von Roden: Hey John, we certainly do. So Cameron wrote in about mortgage rates dropping to a four-month low. She wants to know if she should buy a house now or if she should wait.
John: Well, my question is, can you afford a house that fits your needs for the next seven years? I think way more about internal factors than the external ones, like where mortgage rates are headed next. Is your job stable? Can you afford something that fits potentially changing needs for your family? How confident are you in the location that you can afford and that you’re looking in? How long would your commute be? How likely is it that you’ll stay working in that location? Do you have the down payment set aside? How comparable are rent costs to what your mortgage will be? How big of a priority is it for you, and if you’re married, your spouse, to feel settled? Is owning a house important for the other qualitative factors? For some people it’s really important, for others, not so much.
The benefit to a mortgage is that heads you win, tails they lose. If rates increase, you keep your existing interest rate. The moment they drop to any significant level below what you currently are locked in at, you refinance. And all things being equal, of course, no one knows the future and what other variables may lead to lower rates. Generally when rates go down, prices go up and you are married to the home price, you’re only dating your mortgage.
All right, Britt, let’s go over to Tim.
Britt: You bet. Tim in North Dakota says that his stocks are up a lot, so his allocation has more stocks than bonds from what he wants. He also thinks that the market’s going to keep going higher, so isn’t sure he wants to sell to rebalance. John, he would like your thoughts on this.
John: Hey Tim, this is totally normal thinking. What are your needs and what is the purpose of bonds in the first place? That’s the question you want to answer. And I would never fail to rebalance a portfolio, ever, because of what you think. I’m not just picking on you. I would never do that based upon what an advisor or a money manager or a pundit or someone on TV or a podcaster, thinks is going to happen next. That shouldn’t be part of the rebalancing equation. So once you concede that you’re not sure, and no one is, really, what’s going to happen over the next year or two, but that generally it’s okay to also assume that stocks will probably earn more than bonds over the long haul, because historically they have. Past performance of course, no guarantee. Then it’s normal that over time without rebalancing, stocks are going to become over weighted inside of a portfolio. I mean the last five years, stocks are up almost 100%, bonds are basically flat due to the rising interest rates and getting pummeled in 2022.
So you’re not alone in this scenario, but the reason for owning bonds, while expecting them to earn less, why would you ever put something into your portfolio that you don’t think will make as much? Because they’re more stable and they can create a five or so year buffer that will allow your stocks time if they suffer a bear market or a crash, to recover. You don’t have to cannibalize the portfolio by selling stocks when you don’t want to.
So again, it’s reasonable to assume that whatever you move from stocks to bonds during this rebalance, 20 years from now will have grown less. Your net worth will likely be lower by completing this rebalance. But if that buffer is necessary and it ensures that you never sell stocks at the wrong time when they’re way down in value, then you’ll ultimately have more money by rebalancing. So go back to your broad financial plan, evaluate your need for bonds in the first place, determine the amount, and if you are in fact light on them, I’d rebalance.
How about Doug down in the Sunshine State?
Britt: Doug out of Florida first shares that he is a baby boomer. He says that everything he is reading is telling him that he needs to get out of the stock market because he’s about to retire in the next few years and because the market is at an all-time high. Doug wants to reduce risk but isn’t sure about this advice and would like your take.
John: Well, Doug, the reason you’re being told that is because many people manage their money based on their age, which doesn’t make sense. The root of your question involves managing risk. My income is going to cease and therefore I’ll be living off of my investments and if I suffer huge losses, I don’t have the earning power to make that back up. So, that’s all very logical. I mean, the stock market drops 25 to 50% once or twice per decade typically, and when you’re accumulating, this is a good thing.
That’s why when friends of mine that are in their 40s say, “Oh man, this market, it’s down in value,” like in 2022 and I’m going, wait, you’re a buyer. Everything’s on sale. You should be rooting for this. All you care about is the day you go to sell these investments that the market’s high. You actually want the market down while you’re accumulating wealth. But here’s where it relates to your question, Doug. When you begin withdrawing, yeah, you’re a seller and you do need to be mindful of the price when you sell. You don’t want to be cannibalizing the portfolio and selling in a down market.
So, the entire key here is creating a buffer. You build a detailed written financial plan from a certified financial planner. If you’re not sure where to turn, we can help you with that. That plan will help you determine about how much you’ll need from your portfolio over the next five to seven years, maybe even 10 years if you want to be more conservative. But you put that in bonds, which right now are paying four to 5% in many cases, and then you’re free to let the rest grow and be exposed to that volatility because while you’re not 30 years old, you’re not accumulating anymore. Those monies have a long time horizon, and then hopefully you crush retirement both financially and otherwise.
All right, Britt, let’s try to squeeze in the crowd strike question before we wrap up.
Britt: Yes, I was hoping we would be able to get to this one today, John. So Julie out of Washington is asking you to explain the CrowdStrike outage and what you think the impact will have on the average investor.
John: Well, for those who missed it, this was the largest IT outage in history. It happened a week ago Friday, with the effects lingering throughout the weekend. The IT failure impacted airlines, hospitals, retailers, government offices, and some financial services firms. I think many were thinking, oh, this is what Y2K was supposed to look like, when my uncle was filling up his hot tub with drinking water. I’m not joking. What a bummer that must’ve been for the preppers, dang it. I really thought this was going to pay off this time. And I’m no tech expert, but from what I’ve read, a faulty software update from cybersecurity company CrowdStrike, was a bad file that caused an error in Windows which rendered millions of computers completely inoperable.
But when you talk about what it means for the average investor for your money, Julie, the market was down a little less than a percent that day. Over the past week it was down about 1%, mostly flat. The market shrugged and moved on. But I do think there’s one broader takeaway when it comes to portfolio construction in light of this, and it’s an evergreen principle. This is why you diversify because weird stuff can happen and if it’s not this CrowdStrike issue, it’s a pandemic, or it’s political unrest, or global conflict, or a natural disaster, or a terrorist attack, or a slowing economy, or a booming economy, or high interest rates, or low interest rates, or deflation, or high hyperinflation. And because none of us know what will happen next, you diversify because there will inevitably be companies that win and lose in various environments and you want to ensure that you own the winners which have historically disproportionately driven the vast majority of market returns.
You are responsible for you. Like if you get to the end of your life and it isn’t what you want it to be and you didn’t create the life or make the money or curate the happiness or the love that you wanted, this is going to sound harsh, but a lot of it’s your fault. And I’m speaking to myself as well. We certainly can have unfortunate circumstances occur. Obviously, some people start with huge disadvantages relative to others. And if you’re someone who started on third base, acknowledge that, I know I have. Being born in America, two-parent home, private school, I had a lot of advantages that I had nothing to do with. But once you become well into adulthood, you kind of are the aggregation of the millions of choices that you’ve made. And I’m not sharing this so that you feel badly about your shortcomings, instead, be encouraged that you have tremendous control over your future.
You may be strong in certain areas and short in others, but ultimately, think of yourself as the CEO for well, you, for yourself. If a business succeeds, who gets the credit? The CEO. If it fails, whose fault is it? The CEO. This is no different than your life, and in particular, your finances. Choose to do the right things. Yes, of course, there’s happenstance and luck as I alluded to, but ultimately you make the decisions.
And I have five tips for being a good CEO. Number one, assess your goals. A Harvard study showed that the 3% within a group of graduates who had defined, written, measurable goals made 10 times more money than the other 97% on average in the class. That’s how powerful it is to have clearly defined goals. Write them down and monitor them. Number two, make a plan. You will not achieve massive things as the CEO of your life without a strategy for how to do it. Next, make the right relationships. You’re the average of the five people you spend the most time with, choose wisely. Number four, take calculated risks and learn from the inevitable mistakes. It is okay to fail and if you’re never failing, you’re not taking enough chances.
So assess your goals, make a plan, create the right relationships, take calculated risks and learn from the mistakes. And finally, be willing to change your mind. If you believe the exact same things that you did 10 years earlier, you’re probably not very open-minded. Be curious about the opinions of others, especially those whom you respect, and avoid anchoring to current opinions. Be a good CEO that others want to follow and emulate. And remember, 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 preceding program is furnished by Creative Planning, an SEC registered investment advisory firm. Creative Planning, along with its affiliate, United Capital Financial Advisors, currently manages or advises on a combined $300 billion in assets as of December 31st, 2023.
John Hagensen works for Creative Planning, and all opinions expressed by John or his guests are solely their own and do not necessarily represent the opinion of Creative Planning. This show is designed to be informational in nature and does not constitute investment, tax or legal advice. Different types of investments involve varying degrees of risk, and there can be no assurance that the future performance of any specific investment or investment strategy, including those discussed on this show, will be profitable or equal any historical performance levels.
The information contained herein has been obtained from 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.
Disclaimer: The preceding program is furnished by Creative Planning, an SEC registered investment advisory firm. Creative Planning, along with its affiliate, United Capital Financial Advisors, currently manages or advises on a combined $300 billion in assets as of December 31st, 2023.
John Hagensen works for Creative Planning, and all opinions expressed by John or his guests are solely their own and do not necessarily represent the opinion of Creative Planning. This show is designed to be informational in nature and does not constitute investment, tax or legal advice. Different types of investments involve varying degrees of risk, and there can be no assurance that the future performance of any specific investment or investment strategy, including those discussed on this show, will be profitable or equal any historical performance levels.
The information contained herein has been obtained from 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.
Important Legal Disclosure:
creativeplanning.com/important-disclosure-information/
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