Recently in Investing Category

My daughter is 3 and I finally got around to opening an official college savings account for her.

I blame myself for being slow but I also blame the system our government created for being overly complicated and obtuse.

After doing my research, I decided to start with an ESA account because of one thing: I can invest in anything I want. I have total control. I will also need to use a 529 plan because we need to save more than $2k/year but I have put the decision about which plan (and which type of plan) off for now.

What I want is a larger ESA plan but all I ever hear about is 529 plans. Why?

First off, ESA accounts are capped to $2,000 of savings a year. Again, I ask why?

My first instinct is to follow the money and my first guess is that the government (paid off by the industry) push 529 plans because it means more jobs for the financial industry.

529 plans are free money for investment funds and every state has at least two funds. Those state funds just funnel money into a handful of investment companies (Schwab, Fidelity, etc) who collectively take in billions of dollars with little or no oversight. Their customer is state governments not individual savers.

Customers, like myself, put money into the fund and have little to no say about how the money is spent.

We are given a very small set of investment options to choose from. (Who picks those?)

In many funds we are limited to a single allocation change per year. Yes, I said YEAR!

You read the newspaper and see the financial bubble and meltdown coming? Well good luck doing anything about it in a 529 plan; you get to ride it out.

You think you are saving for college but in reality you are just creating jobs for investment companies who get to manage billions of dollars of dumb money. After all, the best customer is a silent, powerless customer.

I can see the industry arguing that this a "fire and forget" strategy for savings. Most people dont have the time or skills to evaluate investments so they will do it for us.

That is a good argument but they should also offer a self-managed fund.

The ESA limits and 529 limits should be equal. If you want to trust in your anonymous brokers, go for it but let me invest in myself.

We dont have that system so I suspect self-interest at work on the political process.

And recent news indicates that a lot of people are pulling money out of 529 plans for just this lack of control. Why should we support a system we feel is flawed?

More Parents Are Becoming 529 Dropouts

Investors and Advisers Seek More-Flexible Options in Wake of Market Turmoil

Wall Street Journal

By JANE J. KIM

11-11-09

"Any new money going to my kids' college education is going into something that I manage myself," he said. "I know I could do better and I can be safer."

In recent years, 529 plans have been pitched as the ultimate college-savings vehicle. The plans are sponsored by states, and their investment options and fees can vary widely.

But in the wake of last year's market collapse and some high-profile fund blowups, some investors—and financial advisers—are paring back their reliance on 529 plans and in some cases are considering alternatives. After tucking some $15.5 billion into 529s in 2006 and an additional $15.2 billion in 2007, investors contributed an estimated $5.2 billion last year, according to Financial Research Corp., a Boston research firm owned by Mercatus Partners LLC. So far this year, investors have put an estimated $4.8 billion into the plans.

I have the same complaints about 401k plans. Again, their customer is the corporation/employer not the employee/saver. And the result is poor selection and lack of control. But that is another post for another day.

Wells Fargo posts a profit? Huh?

Last month the economy was in "collapse" and we needed to spend tax dollars to "save the banking system."

This month the banking system is posting profits? I guess I ought to be happy that the banks are doing better but this change comes so soon, it just doesnt feel right.

This week the other big banks will announce their results. If they post profits, watch out.

The anger felt by the public towards AIG will surge onto banks and there will be some 'splaining to do. What's more, the general sense that we dont know who we can trust will only get worse. Our system depends so much on the "greater fool' theory, but right now the public is starting to worry that they are the fool.

Are we really ready for recovery so soon?

Even though the stock market bounces up and down, I dont think so. There is a lot of news, good and bad, and one has to take as much as you can into account and guess.

My concern is debt. If you have ever gotten yourself into credit card debt, you know that it is much easier to charge the card up than it is to pay it back down. There may be a "glimmer of hope" but we have a lot of bad debt to pay back down and like any diet, it is not pleasant and it takes a lot longer than we think it will.

This interview on Friday with the News Hour was a good summary of some of the problems still out there.

Obama Optimistic, Yet Cautious on Economic Recovery Outlook

The president said Friday he saw "glimmers of hope" in increased lending to small businesses, but the economy was still under "under severe stress." Analysts discuss the signs of economic recovery and the road ahead.

Credit card debt is continuing to go bad and so is commercial real estate. Add that to the existing housing debt and I see a lot of pain for lenders and bond investors. Banks may post a profit; stock markets may go up, but losses are still coming.

Another issue is that FASB has conceded to political pressure and modified the rules for mark to market accounting for debts. The belief is that this change will let banks hide their bad debts for longer. Instead of going bankrupt now, they will trickle out the losses over time, probably years -- just like Japan did.

On the one hand that might be a good thing, lots of little pains instead of a heart attack, on the other hand some of us wanted to rip off the band aid and get it over with. Its clear that wont happen and the Obama administration wants to stall.

It is April 2009 and the S&P500 is about 8,000. I am with the folks that think this is a bear rally and we will soon be "testing new lows".

Back in February of 2008, we tried to purchase a house in Bellevue. We called it the "blue house". It was an older dare I say run-down house in an older neighborhood. The seller thought it was worth a lot more than I did so we didnt get the house.

The thing that stuck with me though was the neighbors. We met a few of the neighbors and I think about one of the couples from time to time. They thought the asking price was a fair one because they had just paid the same amount for a smaller house a few blocks away as an investment property.

The husband was an engineer. They were well educated and had steady jobs and were raising kids. These were people who were fully capable of doing math and showing some common sense. I get very nervous when I meet people like this who just bought "investment" properties.

I tried to delicately ask: Is the rent on that house enough to cover the mortgage?

They were happy to talk about it. The rent was not covering the mortgage but that was ok with them. "It would pay off in the long term."

I think about them from time to time.

I wonder if they have figured out by now that a short-term loss is never a long-term gain in real estate.

If you are starting a business, you invest money up front and expect a loss until your revenue grows enough to make your money back. But that model only works win a business where you get revenue growth which is not how real estate works.

With real estate, you pretty much know from the start what your revenue will be and if it is less than your expenses there will never be a long-term gain. You are basically buying a bankruptcy which is why its so important to stick with properties that are priced to cash flow.

Yes, from time to time I think about that family and the thousands like them.

How long can they keep it going?
How long before they want to get out and cant?
How long before they are forced to get out or go bankrupt?

And it wasnt just individuals. Lots of "professionals" got caught up in the same problems with their own investments.

what do you do when income is less than expenses?

First you try to raise your income but that is hard to do in rental property.

Generally there is a lot of supply out there. If you jack up prices on your tenants, you a) piss them off and b) push them into moving. (That's what happened to us.)

If there are a lot of rental choices out there, the tenants leave and it will be hard for you to replace them. So you drop your prices or offer intro rates to fill your unit. That is the time when you decide ANY money is better than no money.

If you cannot solve the problem by raising income, you cut expenses. You take your rent checks and you spend as little as humanly possible. The first thing you cut is the stuff people wont notice immediately - maintenance and repairs. Then you cut management and staff.

The result for renters is more problems and less service.

A friend of mine is renting the bottom unit in a "luxury" building. Her unit has been flooded twice. First time a toilette backed up in the unit above her. The second time the unit two levels above had a pipe freeze and burst. Instead of wrapping the pipes, management had to deal with damage to two apartments and storage units.

I would expect to see a lot of problems like this at larger apartment complexes as well as a lot of desperation to fill units because there are a lot of new units coming on the market.

If things are REALLY bad, you cut your biggest expense: your creditors. You take the rent checks and you stop paying your mortgage.

Its been a few months now and there is a steady stream of stories about renters who paid their rent and end up getting evicted because their landlord didnt. It is sad but I would expect to see even more of it in 2009.

And I expect to see problems in commercial property too. Just this last week the WSJ warned of a huge wave of commercial property defaults on the horizon. I would expect to see problems with any property that changed hands in the past 2 to 5 years.

Its funny to think back 6 to 9 months ago and look at what people were saying about investing in real estate and economy in general. What a different world it will be in 2009.

I have written before about the odd, often ironic, way American's treat money. For a capitalist country whose culture revolves around money, we are just plain terrible at managing it. Even people with successful family businesses often dont know much about money or how to talk about it with their family.

Most Americans have little or no training in managing money and they take money very personally as a measure of self-worth. Taken together these two facts are the one-two punch of financial problems. Most American's try to use a cashflow management system ("If I have cash in the back, I must have money.") but thanks to credit cards, their spending is completely out of control and they really have no idea how much money they have or where they spend it.

It also surprises me how many people think "business" money is somehow different from "household" money. Your household IS a business. You have income; you have expenses; you have to balance the books to stay out of bankruptcy. Everyone should think of their household as a business so that they can make money less personal and be more productive talking about it. Thinking of a household as a business is also a good way to involve more members of the household in financial dialog and decisions.

the three steps

There are three basic activities for managing money in a household or business. Each activity creates a foundation for the next one and they work in order. Some people have skills in one area but you need to address all three to be successful.

1. Accounting -- The techniques and record-keeping that tell you where the money goes
2. Spending -- Deciding what to buy or (even more important) not buy every month
3. Investing -- How to make money with your past savings

The first activity, accounting, is pretty much solved with software like Quicken. By recording your purchases and bank records in Quicken and using the business reports (income/expense, balance sheet, cashflow) one can easily keep track of where their money goes. Even though I am regularly frustrated by Quicken and its quirks, one just cannot manage a household-business without it.

The second activity, spending control, is a set of values and behaviors that lead to decisions. Controlling one's spending is almost completely absent in many if not most households because people dont have any data with which to make decisions. Without data, all you have are emotions and its not possible to make good decisions purely by emotion. Without data you will always give in and overspend which is why so many people have credit card problems. There are so many individual purchase decisions in a given month, one can never know what they truly can afford without accounting data.

Spending control involves daily discussion of priorities and goals with your family partners, including the difference between needs and wants. It involves looking at your accounting reports to see what resources you have and where you spend money today and comparing that with your financial goals for the years ahead. Most of all, it involves the willpower to say no even when every part of you wants to say yes. Spending control is the hardest part of managing money because our culture is all about spending and the peer pressure is enormous. But fact is that you will never have any savings until you learn to control your spending.

The third activity, investing, is about knowledge. If you do the first two steps, you will have free cash flow, ie savings, every month with which to invest. Knowing what to invest in and different types of investments (stocks, bonds, ETF, mutual funds, options) is a matter of training and education. The same is true for understanding different investment vehicles like IRA's, 401Ks, 529s and the like. Even if you have limited investment knowledge but you master the first two steps, you will be better off than millions of your fellow Americans.

closing

The bad news is that managing money is a lot like losing weight - you have to learn to honestly and regularly use a scale, learn when to say no, and you need both willpower and patience to stick with it over a lifetime.

The good news is that all three steps are doable by just about anyone. Taking charge of your finances, while difficult at times, is also quite empowering and it is never too late to start.

I have been talking and writing about the housing bubble for several years. Turns out I was an unwitting investor.

A while back I pulled some money out of securities and put it into ultra-short-term bonds, which I expected to be ultra safe.

SWYPX

Category: Ultrashort Bond YieldPlus seeks to maintain an average portfolio duration of 1 year or less.

You may want to consider this fund if...

You are seeking higher yield than a money fund can offer for your longer-term cash (cash you intend to hold for one year or more) yet can accommodate share price fluctuation.

You are looking for relatively stable monthly income but are unwilling to take on the risks associated with a longer-term security.

Recently I noticed that the value of these ultra-safe bonds had dropped. A LOT. What?!

Look at this graph... 2004. 2005. 2006. 2007........!

Turns out my "ultra-safe" investment was actually investing in CDO's and other housing-related kruft. Despite my own warnings about the housing mess, I am now a victim too. If I had known what they were buying, I would never have bought this fund. And if I had listened to Schwab, I would never have known what happened -- it took this lawsuit and article.

More specifically, the Complaint alleges that, in connection with the Funds' Registration Statement, defendants failed to disclose or indicate the following:

(1) that the Funds' assets were or would be overly-concentrated in the highly risky mortgage industry and that such securities were or would be highly vulnerable to illiquidity;

(2) that there existed no primary market for the majority of the bonds;

(3) that the duration for a majority of the Funds is over two years;

(4) that the values of the Funds' shares were inflated and highly speculative given their composition;

(5) that there were not adequate internal controls; and

(6) that, as a result of the foregoing, the Funds' Registration Statements were false and misleading at all relevant times.

Well isn't that just great. Joke's on me.

Recently I have been thinking about the fact that the only way to get more money is to take someone else's. Today I ran across this article.

Clearly, there are plenty of very rich people who dont know a thing about investing. Wall Street is an insiders-game and just having wealth does not make you an insider. Sometime it makes you the patsy for real insiders.

There are plenty of people who have been successful with a business. They know their business but when they stray beyond it, they are just a vulnerable to swindlers and bad decisions as the rest of us.

Debt Crisis Hits a Dynasty

Billionaire Mahers Rack Up Losses In 'Auction' Bonds

By ROBERT FRANK

February 14, 2008

When M. Brian and Basil Maher sold their family's shipping business last July for more than $1 billion, they quickly put the money in a safe place.

Or so they thought.

The two brothers handed much of it to Lehman Brothers Holdings Inc. with marching orders to make only the most conservative, cashlike investments. Within weeks, however, they had lost access to more than a quarter-billion dollars.

"We didn't think we were taking risks," says Brian Maher, 61 years old. "We read about all the troubles in the credit markets and said, 'I'm glad we're not invested in that stuff.' It turns out, we were."

...

The brothers had no real investing expertise. Brian owned a few mutual funds. One of Basil's rare forays into stock picking left him with a $1,000 loss, "which was a lot for me at the time."

Their plan was to park the money in a safe place until they could hire their own team of wealth managers.

Mr. Liu and the Mahers drew up a basic list of financial objectives. The first one, according to a letter the family sent the banks: "Preserve capital." The second was to "provide sufficient liquidity" and third was "capture a market rate of return based on [the brothers'] investment policy parameters and market conditions."

But when they saw an account summary from Lehman in early August, the Mahers were alarmed. It showed that two thirds of the account -- about $400 million -- had been invested in corporate securities with obscure names like Tortoise TYY I, or INC 2003-2.

Mr. Liu says he came away from his conversation with Lehman unsure of the quality of the bonds' underlying assets. He consulted with the Mahers, and they agreed the bonds should be sold as soon as possible. Mr. Liu told Lehman to "unwind the positions and give the Mahers their money back."

Lehman, however, had trouble selling.