Top 5 Reasons We’re in the Golden Age of Investing

39Thegoldenage

You hear all the time that this is a terrible time to be an investor.  Maybe it’s after the fallout of some scandal, Enron and Worldcom from the early 2000s or Bernie Madoff from 2008 come to mind.  Or maybe it’s that the market is evolving and people caught on the wrong side of that start to complain.  A while back Michael Lewis published Flash Boys which looked at high frequency trading.  One of the takeaways was that Wall Street giants were rigging the game to their advantage at the cost of smaller investors.

flash boys

Of course, it wasn’t limited to Michael Lewis. We seem to be constantly barraged with stories about how investing is terrible now, the odds are stacked against the little guy, the fat cats are taking advantage of everyone.

I’m not an expert on high frequency trading or the million other death knells that people always point to when showing that the market is all screwed up.  The eternal optimist, I actually think this is a great time to be an investor.  Here are my top 5 reasons why we are in the golden age of investing.

5. Decimal stock prices: Today if you look up the price for a stock you get something normal looking like $40.63. However, before 2001, stock prices were quoted in fractions, so that same stock wouldn’t be $40.63, it would be 40⅝.  First off, that was a royal pain the butt.  Quick, which would cost more $20.30 or 20⅜? (20⅜ is more).  We all remember fractions from elementary school, but they aren’t really intuitive in financial applications.

Secondly, it cost you real money.  All stocks have a bid/ask spread which is the difference between what someone will sell something for and what they will buy it for.  That difference is the profit that market makers get.  As an investor you pay that spread, so the larger the spread the worse for you and the better for them.  When stocks were in fractions, just the nature of fractions made the spread fairly large.  So you might have an bid of 20⅜ and an ask of 20½.  That’s a spread of 12.5 cents for every share you trade.  That may not seem like a lot, but over hundreds or thousands of shares that starts to add up.

When stocks became decimalized, that 20⅜ became $20.38 and that 20½ became $20.50.  But then competition among market makers squeezed the spread to something like $20.41 and $20.42.  It’s not uncommon to see spreads of only a penny (see a recent quote I pulled up for Medtronic).  That is real savings that goes into your pocket.  In 2001 the SEC mandated all stocks be quoted in decimals and that was a real win-win: investing became computationally easier and less expensive.

Medtronic chart

4. Internet trading: You could have a whole post on how the internet has revolutionized personal finance (hmmmm, maybe I’ll do that). But here I’ll focus on internet trading and generally managing your investments online.  When I started investing in the mid-1990s the main way you invested was by calling your broker and having her execute the trades you wanted.

Think about that for a second.  You had to call someone, hope they answered, tell them what you wanted to do, and then have them do it.  That just seems really inefficient.  Later, some mutual fund companies got to the point where you could trade using your touch-tone phone (“press 1 to buy shares, press 2 to sell shares”), but even that was pretty kludgy.

Of course, once the internet came out, investing proved to be one of the ready-made applications for cyberspace.  You could actually see your investments on a screen, in real time, push buttons to do what you wanted.  Even set up things like automatic investments or withdraws.  No question, it’s so much easier now than it was.

3. Low costs: With the internet and the incredible efficiency it brought, the costs of investing plummeted. Brokerage fees on some of my first trades were in the $50-75 range.  That was with a full-service broker.  Also there were ways that they nickel-and-dimed you with things like “odd lot hikeys” which was an extra charge if you bought less than 100 shares.  Such a bunch of crap.

That was about the same time that “discount brokers” were becoming popular and started offering internet trades for $14.95.  Once that genie got out of the bottle, there was no end to how low trades could go, and it made sense.  All the stuff became automated, so the costs dwindled to almost nothing.  Now you can find $4.95 trades and places like Vanguard offer $2 trades if you know where to look.

Think about that for a second.  If you did 10 trades a year, in the old days (dang, that makes me sound old) that would have cost you $1500 per year (remember you get charged for buying and selling).  Over an investing career, that $1500 each year could add up to almost a quarter of a million dollars!!!  Maybe Michael Lewis will complain that investors are getting swindled out of a penny or two a share because of high-frequency traders, but that’s a drop in the bucket to what they’re saving by tiny, tiny trading costs.

2. Computing power: As reader Andrew H said in a comment, technology has advanced so rapidly that your iPhone has much, much more computing power than the Apollo 11 spacecraft. Computing technology has become amazing powerful and amazingly cheap in the past couple decades.  A $300 laptop with Excel can allow you to do amazingly large and complex analyses that would have seemed magical just 30 years ago.

One of the huge applications for this analytic power is personal finance and better understanding the stock market.  Many of my posts on this blog are just that—taking data and using Excel to make sense of stuff.  Are you better of investing a windfall at once or over time?  How often would you have lost money in the stock market historically?  Those are fairly large analyses that would have been a massive undertaking 30 years ago, probably only possible at a major investing house or a university.  Today, they’re done by a nerd with a cheap computer and too much time on his hands.

That computing power has been an amazing equalizer on the financial playing field.  Now individual investors can figure things out for themselves instead of having to listen to brokers like they were priests from some secretive cult.  That’s an enormous improvement.

1. Access to information: This is a biggie. The amount of information available to us now with the internet is mind-boggling.  When I was a kid your source of information on stocks and investing was the evening news (“stocks were up 52 points today”) and the newspaper where you could look up the price of a stock from the previous day.  That was it???  That was it!!!

Today you have real-time price quotes, you have real-time news, you have real-time analysis.  You also have troves of data, and nearly all of it is free.  All the analyses I have done is with free data on historic stock prices and inflation.  That’s nice if you’re a dork like me, but how does this help normal people?

In investing, information is power, and we live in a time where that power is freely given to all.  Let’s say you wanted to invest in Ford in 1990.  How would you go about researching your investment decision?  Maybe call Ford’s investor relations to have them mail you some annual reports, possibly go to the library to find some articles on the company, probably stored on microfiche.  That’s crazy.  Today you can find all that information plus about 1000 times more in less than 5 minutes on your computer.  It truly is a completely different ballgame, and one that is very much to our advantage compared to what it had been.

Bonus reason—financial understanding:  I couldn’t stop at five reasons, so I am including a sixth (the “Top 6” just doesn’t have the same ring).  There has been tremendous research into financial markets and how they behave over the last couple decades.  While markets are still very unpredictable by their nature, we understand them much better.  Ideas like price-to-earnings ratio, index mutual fundsefficient markets, and a thousand others help us better understand how and why the stock market does what it does and that allows us to be better investors.

In a similar vein, the central bankers who guide our economy, and by extension the stock market, have learned a lot too.  One of the theories on why the Great Depression was as bad as it was is because President Hoover and his advisors did all the wrong things.  It’s not that they were vindictive and wanted to drive the country into a calamitous financial train wreck, but they just didn’t know what to do.

I absolutely believe the reason we haven’t had another Great Depression, including the Great Recession where we emerged largely unscathed, is because our central bankers are a lot smarter.  Paul Volker, Alan Greenspan, Ben Bernanke, Janet Yellen, and now Jerome Powell all studied the Great Depression and other financial disasters and learned what those people did wrong and how similar fates can be avoided in the future.  That understanding has saved us a lot of pain.

So there you have it.  Sure, investing isn’t always a smooth path, and as Michael Lewis points out, there are always bad apples that are trying to screw things up.  But with all that, don’t lose sight of the fact that investing today is soooooooo much better than it has ever been before.

What do you think?  Are my glasses too rose-colored?  Are there other awesome developments that deserved a place in the top 5?

The mutual fund fee arms race

A few weeks ago we talked about mutual fund fees.  There’s a big range, and one of the ways I win when investing is by minimizing the fee that I pay.  It begs the question: How low can mutual fund fees go?

Quick historical perspective

Mutual funds have been around for a long time, dating back to 1924 with Massachusetts Investors Trust.  Back then they had a management team that actively picked which stocks to invest in, very similar to the actively managed mutual funds of today.  Just like today, those mutual fund managers were paid handsomely.

In 1976 Vanguard started the first index mutual fund based on the S&P 500.  Just like today, the index mutual fund had costs significantly lower than its actively managed peers.  At first, the index idea didn’t catch on, but over the next 40 years it became the dominant investment vehicle for ordinary foxes. 

Race to the bottom for fees

Because index mutual funds are a bit of a commodity, the real differentiator is management fees.  I started investing in 1996 and I remember that my S&P 500 had a management fee of 0.30%.  At the time that seemed super low.  Today, that same mutual fund has a management fee of 0.14%, and if you get their Admiral Shares (at least $10,000 invested) the fee goes down to 0.04%.  DEFLATION!!!

Of course, that begs the question, how low could management fees go?  Fidelity answered that this summer when they launched a line of index mutual funds with a management fee of 0.00%–NO FEE!!!

There’s no such thing as a free lunch, so why would Fidelity do this?  It seems like a simple marketing ploy of having a loss leader.  They’ll lose a little bit on these mutual funds to get customers with the hopes that they get other products/services from Fidelity.

How big a deal is this?

Obviously getting something for free is better than paying for it.  Let’s figure out how big a deal this really is.

As we just said, Vanguard offers a US index mutual fund with a 0.04% fee.  International funds are a bit more expensive to manage and Vanguard’s is at 0.11%.  If you’re diversified as I have suggested in our Three Ingredients post, let’s assume your average management fee is 0.08%. 

So how much are you saving by going with Fidelity’s zero-fee mutual funds over Vanguard’s index funds?  If you had a million dollar portfolio, that would come to about $800 per year.  That’s not a ton of money, but it’s enough for Foxy Lady and I to go out to dinner once a month, so that’s kinda nice.

But the real value comes in when that money compounds over time.  Over an investing lifetime that little bit would add up to about $41k.  Again, that may not seem like a lot, but it’s about as much as the average American has saved, so maybe it is a lot.

For us, I think we’ve been with Vanguard so long that it would be hard to convert over to Fidelity’s zero-fee funds.  There’s the tax implications of selling the funds and paying capital gains which would be a lot.  Plus, there’s the inconvenience of resetting everything up again.  Finally, there’s the risk that I would get caught out of the market while my money was being transferred.

The first reason (the taxes) is probably the real reason.  $800 per year pays for a lot of hassle.  However, if I was advising someone just starting out who hadn’t already chosen Vanguard, I think this would certainly tip the scales in Fidelity’s favor—I would recommend they go with Fidelity and those zero-fee funds.

Either way, the point is that management fees are really going to the basement and then lower.  That’s a real boon for investors. 

The Fox family’s 2018 investment performance

2018 was an “interesting” year for stocks.  Everyone wants to think “this one was different” but 2018 did seem to be pretty crazy. 

We had some wild swings pretty much the whole year: from January to December.  Going into December, I was marveling at what a genius I was with my prediction from the beginning of 2018 that the market would be up about 5% for the year.  Going into December it looked like I was going to be spot on . . . and then the bottom fell out of the market and you have where we are now.

Our stock performance

Just like most everyone else, we had a down year.  Of course, since we only invest in index mutual funds, by definition whatever the market did is the return we got.

Investment Ticker % of total portfolio 2018 return
US stocks VTSAX 50% -8%
Int stocks VTIAX 45% -18%
REITs VGSLX 5% -12%
TOTAL -12%

We were down 12%, and obviously that sucks, but . . .   There’s really no “but” so let’s not try to sugarcoat it, but maybe there is a silver lining.  Since the Great Recession in 2008, stock were up about 150% (about 11% annually) and had a 10 year winning streak. 

Dark blue was US stocks (down 8%) and light blue was International stocks (down 18%)

This year we had a down year, so it’s a bit hard to complain.  Historically, stocks are down for the year about 30% of the time.  We were probably due, so we shouldn’t get too greedy.  Still, it isn’t fun to go through a down market, but that’s life.

Notice any changes?

We also made a few simplifying changes to our portfolio starting in late 2017 and continuing into 2018.  At the end of 2017 we sold all our commodities as I discussed here.  In 2018, we also exited our Lending Club investment which was also a disappointment (although not nearly as bad as the commodities). 

That took us from five investments (US stock index fund, Int stock index fund, REIT fund, commodities ETF, and Lending Club) down to three.  If you remember the post on Three Investing Ingredients, I was getting closer to following my own advice.  The only thing still there was REITs.  In late 2018 we finally sold those off, so as of now, we are totally following the Three Investing Ingredients.  It’s nice to get back to basics.

At the beginning of 2020 when you read about how we did in 2019, there should only be two investments.

Inflation

The other thing I always look at at the end of the year is inflation.  US inflation came in at 2.4%.  It’s been inching up steadily over the past few years, and now it’s the highest it’s been since before the Great Recession.  Even so, 2.4% is still incredibly low.

We spend a ton of time talking about the impact inflation will have on your portfolio.  A few years back I even wrote almost a love note to the investing gods for 2015 being a no-inflation year.  The fact that inflation remains very tame compared to historical standards—I use 3% as a target for inflation—means we’re ahead of the game.

Wrapping it all up

Let’s chalk up 2019 to a crazy year and a “bad” year.  But we know sometimes we have bad years.  In the grand scheme of things it definitely could have been worse.

MY 2019 PREDICTION—I think our new normal for the next several years will be a lot of volatility, like we saw in 2018 and so far in 2019.  I never like trying to predict the stock market, but it just “feels” like we’re in for another down year.  I predict down 7%.  Of course I’ll use this as an opportunity to keep socking money away and buy stocks at prices that in 10 years will look bargains.

Putting a bow on December 2018

The new year is a great time to take account of things in life.  We look at the year just ended, reflect on our successes and failures, decide how this year will be better, make our resolutions, and take on the new year.

I was all prepared to write a few posts on all that, but then the tidal wave that was December 2018 hit.  I posted last week right at its depths, but even the craziness of the last few days of the year require, neh demand, its own post.  So let’s put a bow on that crazy month.

As bad as it was . . .

I posted last Monday, Christmas Eve, that with a bit over a week to go, December 2018 had already become the 4th worst month in the 69-year history of the S&P 500.  Going into that trading day, we were down 12% for the month, and then in an act worthy of Old Testament God, the market plunged that day another 3%.  Just in time for the holiday.  Thanks a lot.

It was bad and we were in the teeth of an all-time bad stock market plunge.  If you think of it as the 4th worst (or 3rd worst after that Monday) month in almost 70 years, you’d expect something like this once every 25 years or so.  That’s a generational storm.  Batten down the hatches.

. . . and how it ended

But there’s a reason that December ends after the 31st day and not the 24th day.  The day after Christmas (obviously markets were closed for Christmas), the markets increased 5% which is a crazy high amount.

Before we look at the larger picture, let’s just reflect on December 26 for a second.  It was the largest point gain day for both the S&P 500 and the Dow Jones Industrial Average.  Also, it was the 18th largest percentage increase for the S&P—top 18 out of over 17,000 trading days since 1950.  Not bad.

Back to the story, so Wednesday there was a big recovery but we were still down a lot.  But the market kept chugging along each day, and it ended the month up 7% for the lows on Christmas Eve.  Let’s not fool ourselves.  It was still down 9% for the month, but compared to where we were as Santa was loading up the sleigh, that’s not that bad.

In fact, while there’s no doubt that December 2018 was a bad month, it didn’t even rank in the Top 10 worst months of all time (it was at 11).  Not that that should make you feel good, but we were thinking we were being hit with a generational storm, and it ended up being an every 5 or 6-year storm.  Those things happen.

The stock market is a very complex human experiment, but in a lot of ways it’s very simple.  I think the crazy roller coaster ride in the month of December (and more broadly all of 2018) really illustrates this.  Things are never as bad as they seem, and the best strategy is usually to just sit tight and let the craziness work its way out of the system.

I hope everyone has a wonderful Christmas and New Year.  Next up you’ll see how the Fox family did on their investments including the wins and losses, so makes sure you have a box of tissues.

A month of freefall

Holy Crap!!!  I was all set to do a post on Fidelity’s zero-fee mutual funds as a follow up to last Wednesday’s post on index mutual funds.  But the stock market has had other ideas.  So far this month stocks have tumbled 12%.  12!!!

There seems like a lot going on that we need to process, so let’s start breaking this down.

Dec 2018 in context

There’s still a week to go, but as it stands right now, stocks are down 12% for the month.  Of course there’s one more week left in the month so things could go up and it won’t be as bad, or things could get worse and . . . well, let’s try to stay positive.

No matter how you slice it, 12% is a lot.  Just to put it in perspective, since 1950, when the S&P 500 started, there have been 828 months, and Dec 2018 ranks as the 4th worst month of all time.  In 70ish years we’re in the midst of the 4th worst month. 

Think of this as a generational storm.  I don’t know if that’s comforting or dispiriting.  Months like this happen, and it has been worse in the past, yet this is on the Mount Rushmore of all-time bad investing months.

Just in case you’re wondering what the 10 worst months for the S&P 500 are, here you go:

Month ending S&P 500 close Return
Oct-87 252 -21.8%
Oct-08 969 -16.9%
Aug-98 957 -14.6%
Dec-18 2417 -12.4%
Sep-74 64 -11.9%
Nov-73 96 -11.4%
Sep-02 815 -11.0%
Feb-09 735 -11.0%
Mar-80 102 -10.2%
Aug-90 323 -9.4%

Sit tight

What’s done is done.  The stock market has cratered, and unless you have a time machine, you just need to accept this really tough month and then look to the future.  That’s where I think things get a lot more comforting.

You can take that table above and then add two additional pieces of data: how stocks did in the next month and how stocks did over the next year.  That paints a completely different picture.

Month S&P 500 close Return Next month return Next 12-month return
Oct-87 252 -21.8% -8.5% 21.1%
Oct-08 969 -16.9% -7.5% 15.6%
Aug-98 957 -14.6% 6.2% 29.8%
Dec-18 2417 -12.4%
Sep-74 64 -11.9% 16.3% 13.5%
Nov-73 96 -11.4% 1.7% -28.3%
Sep-02 815 -11.0% 8.6% 12.4%
Feb-09 735 -11.0% 8.5% 38.4%
Mar-80 102 -10.2% 4.1% 28.0%
Aug-90 323 -9.4% -5.1% 29.2%

Who knows what will happen in January 2019 or the next 12 months, much less the next week (I certainly don’t).  Yet if you use history as a guide, there’s a lot of reason for optimism.

Of the 9 months that made the top 10 that we have data on, 6 of those 9 month saw gains in the stock market the next month.  I would definitely take an even-money bet that January 2019 will be a up month.  But by no means is it a sure thing; look at Oct-87 and Oct-08, the two worst months.  Those were followed up by brutal months.

Things look even better if you push the time horizon out from one month to a year.  For those 9 really bad months, if you looked at the market a year later, things looked good, really good.  8 of those 9 examples saw the market up, and all of those up years were up double digits.  They made up for the bad month and then some.  Of course, November 1973 shows you that’s not a certainty, but the fact that almost 90% the time things recover fully makes me feel pretty good.

What’s going to happen?

As I was doing the research for this post, I was struck by the examples of those really bad months.  Some of them are explainable while others are a bit odd.  October 1987 was Black Monday; October 2008 and February 2009 were the Great Recession; September 2002 was the popping of the Dot Com bubble;and November 1973, September 1974, and March 1980 were all a part of the Stagflation lost decade of the Nixon and Carter debacles.

Those others are a bit odd in that there really wasn’t a powerful reason that has survived the test of time.  I am sure you could look it up, but off-hand I couldn’t tell you what happened in August 1998 or August 1990.  Things were going well and as you can clearly see, a year later that bad month was a distant blot in the rear-view mirror.

I feel like that is what we’ll think of for December 2018.  By all measures things are going well for the economy.  The economy seems to be growing well, unemployment is low, and inflation is tame (between 2-3%).  Those are generally the Big 3 that you look at to see how things are doing, and they all seem okay or even better than okay.

That’s not to say there aren’t risks.  Of course there are, but there always are.  Brexit seems like it will have a rocky landing, the trade war between the US and China looms large, Trump pulling troops out of Syria might destabilizing, sovereign debt continues to pile up, and on and on and on.  That’s true now but there were other “risks” you could have sighted for any of those other Top-10 bad months.  I don’t think things are particularly worse now.

As always, I am optimistic about the stock market.  I think this month will be similar to August 1998 or August 1990 in that the statistics show it was a bad month, but people can’t really tell you much about it because it was in the midst of good times. 

That said, I do think there is the potential that we might be in for a couple lean years, maybe of the +/- 5% variety.  Over the past 5 years, since 2013, the market is up 70%, so it doesn’t seem unreasonable that we’re “due” for a bad year or two.

Mutual fund management fees: the silent killer

“If you have to ask how much it costs, you can’t afford it.”—JP Morgan

Imagine that you’re going to buy something that costs over $1000, maybe a flat-screen TV or a new set of tires for your car.  At some point during your decision-making process would you ask how much what you were getting costs?  Of course you would.  Unless you’re JP Morgan, a normal person figures out what something costs before he or she buys it.

Yet that is exactly what happens when people invest their money in mutual funds; they have no idea how much they are paying the mutual fund company to invest their money.  I guarantee you ask 100 people who have 401k accounts how much they paid in management fees last year, and less than 5 will know, and those 5 would probably just get lucky.  Even humble Mr Fox couldn’t tell you how much I pay Vanguard each year in management fees(important statement so I had to revert to third person), and I’m obsessed with this stuff.

And the crazy thing is with investing there are so many unknowns and random events, namely how your investments are going to do in the future, but one of the things we can control, how much we spend on mutual fund management fees, receives so little focus and attention.

Why are management fees swept under the rug?

First, investment companies have every incentive to hide the fact that these even exist.  Obviously,if Vanguard or Fidelity or American Funds can convince naïve investors that there’s no charge for investing their money, they’re more likely to do it—that’s economics 101.  SEC rules require that funds publish their management fees, yet they tend to be in the smaller print, much less conspicuous than the proclamation that “Our fund has beaten its comparable benchmark 7 of the last 10 years, before fees.”

Second, the amounts tend to seem small.  An actively-managed mutual fund with really high fees could be in the 1.5% range while a really large index mutual fund might bottom out at less than 0.1%.  That spread of 1.4% from high to low may not seem like a lot on its surface, but that’s a 15x range.  Also, due to the magic of compounding, over time, those fees would really add up.  That difference in management fees could lead to a 13% difference in a person’s nest egg; that’s the difference between someone with high expenses having $500,000 in their 401k after a 30 year career and $565,000. That’s real money!!!

What are the key determinants in how much a mutual fund charges for fees?

The single biggest factor in how much a mutual fund charges in management fees is whether it is a passively managed index fund or an actively managed fund.  Index mutual funds don’t require much oversight.  They find the index they want to mimic, like the S&P 500, then they have a computer program that monitors the fund’s holdings and makes small course-correction trades to ensure that the composition of the fund is as close to the index as possible.  You have a couple people make sure the computer doesn’t go crazy and you’re set.  There are still costs like accounting,marketing, keeping the website up, sending out account statements, etc., but it’s a pretty lean operation.

Also, with index mutual funds, in many ways they’re a commodity.  Any S&P 500 index fund performs 99.99% identically to any other; that’s the very essence of an index mutual fund.  So if there is no difference in the product, then companies must differentiate on cost.  Not surprisingly, what is largely considered the best S&P 500 index fund (if you count it in terms of amount invested)is the one with the lowest costs: the Vanguard S&P 500 Index (VFINX).

Now on the complete other end of the expense spectrum you have the exorbitant fees associated with actively-managed mutual funds.  There are mutual fund managers who get six-,seven-, and sometimes even eight-figure compensation packages.  What justifies such astronomical pay?  Just like free-agents in baseball these fund managers who are perceived as the best can go to the highest bidder, becoming celebrities in their own right (see: Lynch, Peter). 

Beyond the compensation for the fund managers, these funds have a lot of costs.  There are all sorts of industry and trade conferences that fund managers go to.  And if you think they fly coach and stay at a Holiday Inn, I have a bridge to sell you. They work in glass palaces in downtown Boston and New York.  Let me just say I once went into Fidelity’s headquarters in Boston and to quote a line from one of my favorite investing movies, Barbarians at the Gates, “it makes Buckingham Palace look like a Burger King.”  Many offer gourmet lunches to their staffs every day, limos, in-house massage therapists, and the list goes on, but you get the point.  And where does all this money come from?  It comes from the extra 1.4% difference in management fees between an actively managed fund and an index fund.

Where can you find the information?

This fancy thing called the internet actually makes this pretty easy to look at. Pretty much every finance website (Google,Yahoo!,etc.) lists every mutual fund’s expense ratio. This allows comparison shopping to be really easy.  In about 5 minutes you could look up and compare the management fees of any of the mutual funds you are considering.

You can see the expense ratio circled in red on the left.

That’s not to say this is the only factor you should consider when choosing a mutual fund. That’s some deep water which would be a great topic for another post,but it is a really important one.  Some would even argue that it is the single most important factor.  Sadly it’s one that very, very few people are knowledgeable of.  As you look to build your nest egg, it’s something you should absolutely know when you start making your investment decisions.

For our money, the Fox family is a believer in index mutual funds.  In fact, 100% of all our money is in index mutual funds, so this is no joke to us.  The management fee varies for each fund,management fees for US funds tend to be a little higher than international funds, but the range is about 0.05% to 0.20%, with the average coming in around 0.08%.  So we are paying 0.08% of our total nestegg each year in management fees.

That’s what I do, but that doesn’t mean you have to do the same.  There are many vocal proponents of actively managed mutual funds (by buddy Mike from Boston).  Their points become especially compelling at times like this when the market is going down.

Believe what you will, but if what ever type of mutual fund you invest in you should always know what you are paying.  After all, you aren’t JP Morgan.  If you are paying a high management fee, just make sure you are getting your money’s worth.

Will you lose money with stocks?

This is probably the most common question you get from people who are considering starting to invest in stocks.  It’s pretty understandable; you work hard for your money and the idea of it disappearing into the black hole of an unpredictable and often times not-well-understood stock market is pretty hard to stomach.  Add on that scars from the 2008 Great Recession, 2001 Internet Bubble, Black Monday in 1987, Black Tuesday in 1929, and on and on and on.  Even recently, 2018 has had a bunch of wild freefalls, including the one we’re in right now.

So, what’s the answer to the question:  Who knows?  The stock market is unpredictable and no one knows what will happen in the future.  That’s not an especially satisfying answer, but it’s the truth.  If I could predict the stock market I would own my own island in the Caribbean next to Johnny Depp’s.

But I can hear you saying, “Come on, you’re Stocky Fox.  You can do better than that.”  You’re right.  I’m taking on the challenge and answering the question: Will you lose money with the stock market?

I won’t try to predict what will happen in the future, but I think you can look to how things have behaved in the past, and get a pretty good perspective.  Of course, there’s no certainty that the future will be like the past, but that’s the best we have to look at.

You can get somewhat decent data on the stock market going all the way back to 1871.  Back then, your great-great-great grandmother was getting The Stocky Fox as a newsletter delivered by the Pony Express.  Going that far back, you can calculate the percentage of the time that you would have lost money investing, historically.

So imagine starting in January 1871 and investing $10 every month in the US stock market.  By January 1872, you would have invested a total of $120 and your stocks would be worth $128; congratulations, you just made a profit.  You can do that for every 12-month period since 1871 (there are about 1700 such periods), and you come out ahead 71% of the time, which seems pretty good.  But the flip side is that you’d have lost money 29% of the time, and at least to me that is too high to be really comfortable.

Chart for losing money

However, remember that when investing stocks, time is on your side.  Do the same exercise but for five years; if you started in January 1871 after 5 years you would have invested a total of $600 which would be worth $679 in January 1876 (yeah, profit again!!!).  Do that for every five-year time period and you end up losing money only 13% of the time.  By adding another four years to your investing time horizon that decreased the chances that you would have lost money by 20%!!! That seems pretty amazing.

You can keep doing that for longer time periods, and as you could guess, the percentage of times you would have lost money keeps going down.  Astoundingly at the 20-year mark, you would have lost money only one time out of the nearly 1500 periods possible (the one month was June 1912 which, you guessed it, was 20 years before the Great Depression bottomed out).  At 30 years, there isn’t a single time period where consistent investing would have lost money!!!  That’s not a misprint.  Read that paragraph again.

There are no guarantees, but if you use history as a guide, it’s pretty much a sure thing that you’ll make money in the stock market.  Certainly it involves a lot of discipline, investing month after month no matter how bad things look (dollar cost averaging).  Also, it doesn’t necessarily mean you always make a lot of money, but the data seem pretty powerful.  Additionally, I didn’t take inflation into account so that would definitely skew the numbers downward (but you know how I feel about the integrity of the data on inflation, so there you go), but the message remains largely unchanged.

I must confess that I was a bit surprised by the data.  Actually, I spent about 30 minutes going through the spreadsheet to see if I made any mistakes; I’m pretty confident the analysis is sound.  As Dr Brown asked Marty in Back to the Future, “Do you know what this means?” (just don’t take what he says after that and apply it to my analysis).  If your time horizon is 20 years or more, at least based on history, there’s virtually no chance that you’ll lose money.  I figured it would be a pretty low chance, but zero chance?  I didn’t see that coming.  Even people who invested for 20 years then pulled out after the Great Recession in 2008 did fairly well (invested $240 which became worth $339).

So there you go.  My answer to the question posed at the top is still: No one knows what the future holds.  But the historic data confirms my personal belief that the stock market is a really great place to invest your money.  I lose no sleep worrying about the Fox family’s investments increasing in value.  I know over the long term they will.

Light at the end of the tunnel for Bitcoin?

Last year about this time, the nation was gripped in Bitcoin-mania.  It was dizzying.

As with most bubbles, it transcended financial markets and wormed its way into the mainstream. Everyone was talking about it, from late-night talk show hosts to grandmothers and everyone in between.

I wrote my thoughts on the matter here.  Just after that post, Bitcoin rose another 10% and then cratered precipitously.  I predicted its decline would result from it being connected to a terrorist attack and world governments using that as a pretext to extinguish it.  As it happened, it just seems that the bloom fell off Bitcoin’s rose.  Sometimes financial markets are fickle.

In 2017 Bitcoin rose from about $1000 to a peak of almost $20,000.  As fast as the rise was, the fall has been nearly as fast; from $20,000 to about $4000 today.  But this post isn’t a victory lap—Bitcoin bears were clearly proven right, so what’s the point of adding on there?

The point of this post is to give a little bit of love to Bitcoin.  I wouldn’t say I’m making a bullish bet on Bitcoin (I certainly haven’t bought any, and have no plans to).  However, here is an argument why it may not be doomed.

You can actually buy stuff

The biggest problem for Bitcoin was that it had no intrinsic value.  That’s not a deal-breaker: fiat currencies (dollars, euros, yuan, etc.) are only valuable because their home countries say they are and pass laws that you can use those pieces of paper to pay for stuff (more on this in a second). 

Without that government backing, Bitcoin becomes a bit like gold or diamonds, inherently worthless pieces of stuff but are valuable because enough people in the world think they are valuable.  Of course, a big difference is that you can hold gold or a diamond, but not so much with Bitcoin.

In December 2017 enough people thought Bitcoin had value that it pushed the price to $19,000. Today, many fewer think it is valuable so it’s worth much less, hence the $3400 price.

Through it all, Bitcoin was missing a major component of a currency (like a dollar) or even a store-of-value commodity (like gold)—you couldn’t buy anything with it.  I don’t think you would have had near the crash (and probably not the run-up either).

Until recently, you could only buy stuff with Bitcoin on the fringes of the economy.  Certainly, the black market accepted it, but that’s not exactly what we’re going for.  A very small handful of regular stores(virtual or brick-and-mortar) did, but that was minuscule.

That may be about to change in a profound way.  The state of Ohio recently announced that you can pay your taxes using Bitcoin. It’s hard to understate the importance of this.  Paying taxes, by definition, is about as legitimate a transaction as there is. All the sudden Bitcoin is a legitimate currency, at least to the state of Ohio.  To compound the point, I don’t believe you can pay your taxes in Ohio in euros or yuan (undeniably currencies)or gold or diamonds (undeniably stores of value).

How will this impact Bitcoin’s price

Now that Ohio will accept it, that will create a real market for Bitcoin.  That begs the question,what will that do to the price?  You should expect my normal answer: I have no idea. But I do have some thoughts.

Bitcoin’s price has been in freefall for months now.  This was caused in large part by the tiny, tiny issue of Bitcoin not being used anywhere. Now that has changed.  I still think Bitcoin could go down, but I definitely think it will not go down as much as it would have if Ohio hadn’t made it’s decision.  It’s impossible to know if I’m right or wrong on that, since we can’t test things in alternate dimensions.

It’s not to say Ohio is getting in the Bitcoin game.  It just takes the Bitcoin payments, sends them to a market to get exchanged into dollars, and they have their money.

Ohio has taken the first step and it’ll be interesting to see if any other states follow suit.  If a large state like New York, Texas, or California also starts accepting Bitcoin, I think that will definitely buoy it’s value as it becomes even more of an accepted currency.  And of course the coup d’etat would be the Federal government accepting it.

Overall, I still think Bitcoin will be volatile, probably to the downside.  However, I do think maybe we’ll back in five years when Bitcoin has settled to something of value,probably less than $4000, and look at this Ohio decision as the first step towards that stabilization.

My story about selling commodities




A few years ago, I wrote about our worst investment of all time—commodities.

I think this is a classic case of deviating from the tried and true rules that you only need three investments in an effort to get creative and get higher returns.  In general you should always resist that siren song.  It cost us well over $100,000; that’s an expensive lesson.

After a few years of crapping performance, I finally bit the bullet, admitted defeat, took a huge loss, and sold my commodities.

 

Examining the wreckage

We starting buying commodities ETFs (ticker symbol DJP) in 2010 in small increments, and continued that through the end of 2014.  When all was said and done, we had invested a total of about $100,000.  By the time we sold, those ETFs were worth about $65,000, so we lost $35,000.  Ouch!!!

But that’s only a small part of the loss.  I knew, I KNEW, that we should invest that money in stocks but we didn’t.  Had we invested that money in a stock index fund that $100,000 would have grown to nearly $200,000 by the end of 2017.  I just threw up in my mouth.

A picture says a thousand words–the purple line is commodities for the period we owned them; the blue line is US stocks. OUCH!!!

 

This is a boneheaded mistake for the ages.  Of course, as in most things in life, when you realize you made a mistake like that you need to move on.  With stocks that’s tough psychologically to do because not only is it admitting failure, but it’s also locking in those losses.  So long as you keep the investment you can always tell yourself there’s a chance that things will turn around.

Finally at the end of 2017, to take advantage of a little tax loss harvesting, I sold all our commodities investments.  That horrendous chapter of our investing history was over.

 

Investing gods decide to humble me further

What unfolded was a story similar to one of those stories from the Bible where God continues to test someone’s faith.  I sold all our commodities investments and invested them in US stock investments.

By the end of April 2018 commodities were up about 2% for the year while stocks were down 2%.  ARE YOU KIDDING ME?  After 7 years of stocks drastically outperforming commodities, the trend reversed right after I sold out my commodities.  As you might guess, I was feeling picked on by some power beyond my understanding.

I kept to my guns and my faith was rewarded.  By the end of August 2018, stocks had a big rally (up 8% for the year) while commodities were crushed (down 7% for the year).  When all is said and done, stocks are up about 2% while commodities are down 5%.  That difference equates to about $4000 in my favor.

 

There are a couple things I took away from this:

First, as an investor, you have to focus on the present and future, and not cling to the past.  Second, sometimes your investments work out and sometimes they don’t, and you can’t get paralyzed by your investing failures.  Third, exotic investments generally don’t work out over time.

All these really combine to illustrate all the things I did wrong with commodities.  I should have just stuck to investing in stocks as I always preach on this blog.  Once it started going bad, I should have cut and run instead of clinging to something in the hope that it would “come around.”

Better late than never.  While I definitely left over $100,000 on the table, at least I didn’t leave that last $4000.  That’s what I tell myself anyway.


Top 5—investing moves when you’re just getting started




My neighbor’s son, Rhino, just got engaged (I dubbed him rhino because the rhinoceros beetle is the strongest animal in the world pound-for-pound, and this kid is really strong).  We’ve gotten to Rhino over the years.  He was Mini and ‘Lil Fox’s first babysitter when we moved into the neighborhood, so of course he has a special place in our hearts.

We were talking about his engagement, starting out life, and obviously since it’s a conversation with me, how to do the right things financially.

It got me to thinking about what are the most important things to do in the world of personal finance when you are just getting started.  For the soon-to-be newlyweds, here is my Top 5 list:

 

5. Figure out your debt situation: If you’re lucky, you won’t have a lot (or any) debt.  For most of us there is some out there, and that isn’t necessarily a bad thing.  List out every debt you have (student loan, mortgage, credit card, car payment, etc.), the balance, and the interest rate.

On a spreadsheet (see #4) rank them in order of interest rate.  As a general rule I use a cutoff of about 6%.  If your interest rate is above that pay those off right away, starting with the highest interest rate debt first.  If your interest rate is below that, that might be okay to keep that debt and just make the normal monthly payments.

If you have any debt (especially credit card debt) at any rate higher than 10%, that’s a “debt emergency”.  Really look at every purchase you make—if it’s not critical to your survival (food, shelter) then pass that up until your debt is paid off.  The only exception to this is #1—funding your 401k.

You can get creative with your debt by consolidating high interest rate cards onto a lower rate card or one that offers a low teaser rate.  That could save you a ton of money, and you should probably look into that, but ultimately, you’ll need to pay that sucker off.  So just hitting the grindstone of paying off your credit cards is a must.

 

4. Make a budget on a spreadsheet: Take a spreadsheet and put a quick budget together that includes your income, your expenses, and the difference between those two.  This can be simple at first (and it should be simple at first).  Over time, you’ll add more and more sheets to the spreadsheet for things like your mortgage, investments, kids’ education, and other things.

But at the beginning, you need to get a sense of where your money is going.  The budget will give you an aspirational view of this.  After your budget is done, you can track your spending with a website like mint.com.  This two-step process lets you figure where you want to spend your money, and then also look at where you actually spend it.

Of course, this is an iterative process, and as you close a month and look at your expenses, you can see if you’re spending more than what you budgeted.  This isn’t a time to beat yourself up (being too hard on yourself is a sure way to stop looking at your finances closely, and that’s a REALLY bad thing), but a time to ask yourself why you spent more and if it was worth it.

As an aside, using a spreadsheet is a really good skill in general.  I was really good at spreadsheets and it’s hard to overstate the incredible impact it had on my career, as well as the incredible wealth those skills gave me and my family.  And really, my experience with spreadsheets started in college when I was creating a financial budget.

 

3. Educate yourself on investing: At a young age, educate yourself on investing.  Obviously, this blog is the universally acknowledged best place to learn about investing, but I have heard rumors there are others.

www.mrmoneymustache.com is a great website that looks at personal spending and his early posts had a tremendous impact on my outlook.  A Random Walk Down Wall Street is a book on investing that really defined my investing strategy; I read that as a 19-year-old and still think about its insights today.

There are a lot of websites written by millennials about spending and personal finance that might resonate even more.  A few are: millennialmoneyman.com, moneypeach.com, and brokemillennial.com.  Most are about reducing spending and budgets and that sort of thing, but there are some on the nitty gritty of making investing choices.  You’ll want perspectives on both.

The whole point is that you need to know what you are doing here.  Spending 20 hours early in your life to figure out basics like asset allocation, tax avoidance, and fee minimization as well as a general attitude towards saving early can easily lead to hundreds of thousands or millions of dollars.  That comes to about $50,000 per hour—not bad.

 

2. Start an IRA with $1,000: This is as much about the experience gained as it is about actually investing your money.  Vanguard lets you start an IRA with $1,000 as the minimum amount.

You’ll navigate through their website, figure out how to make choices (like Roth or Traditional IRA—go traditional).  You’ll pick your investments, and then you’ll have something to look at every once in a while to see how it’s doing.

So many people are just at a total loss when it comes to setting up accounts for their investments.  That becomes a real problem once you hit 30 or 40 and you’re starting to get behind the 8-ball; you know you need to do something but are kind of clueless on where to start.  Doing it now lets you get your toes wet in this world and makes the next accounts you need to set up (529, 401k, brokerage, etc.) all the less daunting.

 

1. Get the company match on your 401k: #2 was more for experience than for investment.  Here is where you should start walking down the path for investments.  At a minimum, contribute the match and take the free money.

This is so important for a couple reasons.  First, you’re getting that free money.  Second, you’re making your first “asset allocation” decision.  When it comes time to pick which fund to invest in, unless you have very unique circumstances for an early-20s person, I would definitely go with a 100% equity index fund.

Third, your 401k is a really powerful tool.  If you had no other investing tool, you could still grow a 401k to well over a $1 million during your working career.  That is enough to fully fund your retirement.

 

BONUS—Stay poor:  Too many young adults make a huge mistake of trying to mimic the lifestyle their parents provided, once they (the young adults) get out of school.  That first paycheck of $2,000 is going to seem like a ton of money (and it is).  It’s really tempting to decide to buy a new car or go on a kickin’ vacation or upgrade the furniture.  Resist the urge.

Your parents took 25 or more years of working (with pay increases and investment returns) to provide the house and cars and vacations you enjoyed your senior year of high school.  It’s not realistic to think you can have stuff at that level of niceness so early.

A car is a really good example.  In general, automobiles are horrible investments.  To the degree you have a car that can get you from point A to point B, keep it.  A new car will be nice and cool and make your friends gawk, but it’s a horrible use of money.  A couple hundred dollars a month for a car, plus insurance, and maybe $50 for a gym membership, $50 for cable, and $80 for four dinners at a restaurant—those numbers add up.  Those alone could fund your savings in the early years.

Your early 20s are a time when it’s still okay not to have the best and nicest of everything.  If you can embrace that, even when you do have the money, and put that extra money to work in investments you’ll build a very strong financial foundation that will afford you many more opportunities are you reach your 30s and 40s (remember, I did that and I retired at 36).