30Mar

Knowing What To Do With Your Earnings

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You may be just an ordinary taxi driver, a construction worker or a maintenance employee of a certain company, but if you have worked hard enough over the years, you definitely would come to a point when you will realize you have earned way more than you have dreamed of.

You may even get to the point when you no longer know what to do with your money or you may not know how to keep it safe. Managing your finances or your investments is not at all easy. You have to be very keen on how you use them especially if you have worked so hard to earn it. You surely do not want to wake up one day and realize it is all gone.

If you are not quite sure on where and how you would spend your money, you can actually seek the help of individuals whose main responsibility is to give people financial advice or investment advice. These individuals are called Investment Advisors and Financial Advisers.

A financial adviser would give you an advice with regards to handling your finances. If you plan to get a new house and you plan to have it on a mortgage but you do not know how a mortgage work, you can seek a financial adviser’s help and he will explain to you all its details. He can also help you in planning your retirement or in getting insurances and handling everything else that has something to do with your finances.
For a financial adviser to be able to help you effectively, you will have to trust him with your financial situation.

An investment advisor has almost similar task as that of a financial adviser. However, his responsibilities are limited to helping you manage your investments. He would be helping you on how to decide what business would be best to invest on so that you continue to earn from your wealth. An investment advisor does not handle your retirement plans or your health insurances.

If you intend to hire either a financial adviser or an investment advisor, make sure that you choose well who you will hire. Remember that the money or wealth that you will trust them with is a product of your hard work. These people will, in a way, act as your right hand so they should really be trustworthy. You have to make sure that they are knowledgeable enough in handling finances and investments to make sure that you do not end up broke after seeking their advice.

They should be knowledgeable in business, accounting and any other related subjects. It is also a lot safer to choose registered financial adviser or investment advisor to make sure that they really intend to give you advice, not to steal what you have worked hard for. You may also seek recommendations from those people whom you know are successful in their business and handling their finances.

Knowing what to do with your hard earned wealth is also knowing the right people to trust them with.

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29Mar

Stock Market Average Annual Return

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Looking at the averages can be misleading for followers of baseball as well as investing. Your team’s batting average may be the best in the league until they encounter the pitcher with the best Earned Run Average (ERA). Investors who expect to receive the stock market average annual return each year will be disappointed.

Many investors take it as truth that October is the worst performing month of the year. Yet looking at the average monthly returns for the stock market back to 1926 and it turns out that September has historically been the worst month, with an average return of -0.75%. Just like the best hitting team that encounters the best pitcher, September 2009 ignored the averages and turned in a respectable 3.7%. You cannot count on the averages being right every time.

Speaking of averages, according to various reports the stock market average annual return is approximately 8% over the 81 years ending in 2008. Many mutual funds and investment advisors like to use average annual returns, as it allows them to use a higher number. When confronted with this situation ask them is that the simple average or the compound average. It makes a difference, as the compound average is about 7% and is the more relevant number as we will discuss shortly. Many investment advisors use average stock market returns to convince their clients to invest with them in the market. The problem is not every year delivers this average return. A history lesson might be in order.
In the last 83 years, the stock market lost money in 28 of those years. Even worse, it lost more than 20% in eight of those years and four different times the market fell one-third during that year. Ouch.

When looking at the stock market average annual return there are several important factors to understand. One is the affect of the dispersion around the mean. The second is how negative returns, i.e. losses, really hurt your return. The calculation of average annual returns does not take into consideration the affect of these two factors. The compound return includes them so the number accurately reflects the return you should expect.

Dispersion around the Mean

When the returns in a series of numbers become more dispersed from the average, the compound return declines. The greater the volatility of returns, the greater the drop in the compound return. Some examples will help to demonstrate this phenomenon. The table below shows five examples of how the dispersion of returns affects the compound rate.
In each case, the simple average is 10%, while the compound average declines as the dispersion of returns widens. In each of the last two years, the market experienced losses. A loss widens the dispersion of the return, which lowers the compound average.

Dispersion of Returns

Start with $10,000

Example 1 Example 2 Example 3 Example 4 Example 5

Year 1 10% $11,000 10% $11,000 5% $10,500 30% $13,000 40% $14,000

Year 2 10% $12,100 20% $13,200 25% $13,125 -20% $10,400 30% $18,200

Year 3 10% $13,310 0% $13,200 0% $13,125 20% $12,480 -40% $10,920

Simple Average Return 10% 10% 10% 10% 10%

Compound Average Return 10% 9.7% 9.49% 7.66% 2.98%

Half the time the stock market moves up or down by 16% or more in a year. Think back to the returns we have seen in the market over the last few years. They more closely reflect years of positive and negative returns similar to Examples 4 and 5.

Negative Returns

Another consequence of losses in the market is it takes a much greater return to recover to where you began. If you earn 10% in the first year and then lose 10% in the second year, you still have a loss over the two years as the first example shows. Moreover, if you lose 50% in one year, you must generate a 100% return to just breakeven. A very difficult proposition.

Negative Returns

Start with $10,000

Example 1 Example 2 Example 3 Example 4 Example 5

Year 1 10% $11,000 -20% $8,000 50% $15,000 10% $11,000 0% $10,000

Year 2 -10% $9,900 20% $9,600 -50% $7,500 -50% $5,500 -50% $5,000

Return Required to Break Even 1.01% 4.17% 33.33% 81.82% 100.00%

Therefore, the message is to be very careful and not lose money. When you do, you must generate greater returns to break even, let alone make any money. No wonder Warren Buffett’s first rule of investing is do not lose money.

The Bottom Line

In baseball, your hitting average does not tell the entire story. The same is true with investing. Be careful when listening to those who espouse they are beating the stock market average return. Moreover, keep your losses small. When you have gains, be sure to protect them. That way you make compounding averaging work for you and you will experience positive stock market average returns.

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29Mar

What Is A Fiduciary Advisor?

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Ninety percent of the people who fall into the category of financial advisors do not have any sort of fiduciary responsibility. They are also known as stockbrokers, insurance agents, or sales Representatives. They may hold various licenses, but since they are not fiduciaries they are often more interested in selling insurance and investment products than managing your portfolio.

Non-fiduciary advisors are compensated by commissions which are often the equivalent of years worth of management fees. And in the end, if you’re dissatisfied with your service, the only way to get out of the product is to pay a large surrender fee.

Titles for non-fiduciary advisors are unregulated, which means that these advisors don’t need to call themselves brokers or insurance agents, but can adopt titles like: Advisors, Financial Consultants, or Financial Planners. They are not required to put investor interests head of their own, and as such as more interested in making “suitable” recommendations that involve selling a number of products.

These sales reps have limited disclosure requirements and are not allowed to have account discretion. And most of them receive a large commission upfront on the initial sale, which means they have very little incentive to continue helping the client.

Fiduciary Advisors

Only 10 to 15% of advisors have fiduciary responsibility, and are usually Registered Investment Advisors (RIA’s) or Investment Advisor Representatives. These advisors are registered with the SEC or the state security division (depending on their size).

These are acknowledged fiduciaries who provide ongoing financial advice and services. Compensation is on a quarter by quarter basis for continued services, and ends if the investor is dissatisfied and chooses to leave.

An advisor with fiduciary responsibilities is held to a higher ethical standard and should have the knowledge to provide sophisticated wealth management services and advice. RIA’s are licensed to provide ongoing financial advice, and fiduciary advisors are required to provide disclosure in their ADV’s.

The investor must always come first.

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