September
2006
A Monthly Newsletter Source of Financial Sources
Don't miss this month's timely story ideas, direct dial phone
numbers, and E-mail addresses of these accessible experts!
INVESTMENTS
• The Performance Lottery:
There is difficulty in using historical performance as an indication of your investment manager’s
superior skill and expertise.
401(k)
• All Employees with a 401(k) Account Should Ask Their Employer "Where is my Advice?"
• 401(k) Distribution Flexibility versus Creditor Protection:
Should you rollover your 401(k) very large account into an IRA. It depends.
RETIREMENT
• Retiree Loses Half of Pension Through Bankruptcy of Former Employer:
Accessing Assets Tied Up in His Home Equity Becomes Essential
• The “Big Gap” in Companies' Talent Pipeline
Will Require Different Work Opportunities for Older Workers
DIVORCE
• Accurate Financial Affidavits for Divorce Court are Crucial to the Long Term
HEALTH SAVINGS ACCOUNTS (HSAs)
• Embedding Medical Consultation into HSA Products
Differentiates Institutional Offering
LONG TERM CARE INSURANCE
• Limited Benefit Long Term Care Insurance vs. Lifetime:
How Much is Enough?
INVESTMENTS
The Performance Lottery:
There is difficulty in using historical performance as an indication of your investment manager’s superior skill and expertise.
Be wary of track records of investment managers who tend to manage portfolios concentrated in relatively few holdings. Although they are more likely to have excellent past performance records, they also are more likely to substantially under-perform in the future.
Most investors select investment managers (or mutual funds) based upon past performance. This relies on the assumption that those managers with the best performance records are more likely to achieve superior performance in the future. However, past performance records may actually reflect randomness, rather than skill. For example, if 20,000 investment managers each selected a portfolio of twenty stocks by randomly throwing darts at a copy of the stock tables, some of the managers would perform much better than others. This raises the question: What are the odds that the past performance of an investment manager was due to random chance, rather than skill or expertise?
Assume an investor limits his search for an investment manager to those whose performance over each of the past three years, five years and ten years exceeded the performance of an unmanaged index. Further assume that the unmanaged index initially is invested equally in the stocks in the Standard & Poor’s 500 Stock Index. The stocks are held in the index without change for ten years.
The three-year, five-year and ten-year performance records as of January 31, 2006 for 445 of the 500 stocks constituting the Standard & Poor’s 500 Stock Index and computed the returns for the equally weighted index are then compiled (Complete data was not available for 55 of the stocks.) Next, in order to measure the role of randomness on portfolio manager performance, a statistical analysis (called a Monte Carlo simulation) can be calculated. The analysis assumed that at the start of the ten-year time period 20,000 investment managers randomly selected twenty of the 445 stocks by throwing darts, and invested equal amounts in each of the twenty stocks. The managers held the twenty stocks for the entire ten years without change.
The results might surprise you. The odds are about 23% (or one in four) that a manager throwing darts would outperform the equally weighted index in all three of the time periods.
This search can be limited to only those managers who outperformed the index by at least 3% annually over all three time periods. These managers might be considered “the best of the best.”
It turns out that approximately 2% (or one out of every fifty) of the managers throwing twenty darts would outperform the index by over 3% annually over each of the three time periods. This means if an investor examined the track records of only fifty managers, the odds are that at least one of the managers would have outperformed the index by more than 3% in all three time periods purely by random chance.
Do you want one of these managers who outperformed the index by 3% to manage your portfolio? What are the odds that the manager will perform equally well in the future? Analysis shows that the odds are only about 2%. Moreover, the manager’s odds of outperforming the index by any amount in the future are no better than the odds of any other investment manager.
The problem gets even more complex. Can an investment manager increase his odds of beating the index by 3% annually? Surprisingly, the answer is yes. The manager can increase his odds by throwing fewer darts. Whether or not he throws ten, twenty or even fifty darts will not change the odds of beating the index over the three-, five- and ten-year time periods. Those odds will remain at approximately 23%. However, the number of darts a manager throws will change significantly the odds of beating the index by one, two or three percent annually (or any other increment.)
For example, if a manager throws twenty darts, his odds of beating the index by three percent annually over all time periods is approximately 2%. However, if the manager only throws five darts (i.e., selects only five stocks randomly out of the 445) his odds of beating the index by 3% annually quadruple to 8%. (His odds of under-performing the index by 3% annually also similarly increase.)
In other words, investment managers who manage portfolios with relatively few holdings are significantly more likely to substantially out-perform or under-perform market indices than those that manage portfolios with a relatively large number of holdings. The point of this is not to say professional investment managers only throw darts. None of these statistics can prove in an individual case that the past performance of an investment manager was not due to skill or expertise rather than random chance, or vice versa. However, it does point out the difficulty of using historical performance as an indication of superior skill and expertise.
It is a rare case indeed when a manager’s past performance is so consistently strong over such long periods that you can confidently say that the manager’s performance was due to skill rather than random chance.
Odds of Outperforming the Index by Random Chance Over Prior 3, 5 and 10 Year Time Periods |
Odds of Outperforming Choosing 20 Stocks Randomly |
23% |
Odds of Outperforming by 3% Annually Choosing 20 Stocks Randomly |
2% |
Odds of Outperforming by 3% Annually Choosing 5 Stocks Randomly |
8% |
Ed Osborn, CFA, is a partner with Bingham, Osborn & Scarborough LLC (BOS), a San Francisco and Menlo Park, California-based registered investment advisor with approximately $1.5 billion in assets under management. BOS has provided investment management and comprehensive financial planning for individuals and endowments since 1985. All revenues are fee only. BOS has eight principals plus eighteen team members working on behalf of their clients, including seven credentialed portfolio managers with direct client contact and eleven operations, administration, finance, compliance, and systems staff with responsibilities related to client accounts. Kevin 415-781-8535.
401(k) ADVICE
All Employees with a 401(k) Account Should Ask Their Employer
"Where is my Advice?"
Employers can no longer justify avoiding the addition of an advice component to their 401(k) plan. The recent Pension Protection Act 2006 (PPA), passed by Congress in August, makes the case that 401(k) plan participants who are mystified by their choices need advice. Advice from a professional is badly needed by most participants in a 401(k) plan. PPA also makes the case that plan sponsors are not adding any fiduciary risk by offering advice under the guidelines spelled out in the Act.
Now, advice services available to your company even the playing field by making it possible for participants to have their money managed for them by an outside independent investment management firm in what are called a managed account. Your company has a fiduciary responsibility to choose a reputable firm to help you manage your money. You pay the management fee directly to the outside manager, directly from your account and they make the difficult investment decisions for you.
No study has shown that 401(k) participants want to manage their own money. Studies do show, however, that most 401(k) participants have saved too little, have gotten low returns from their investments, and that they are not
on target for a successful retirement. A service like this is available from 401k Toolbox, Athens, Georgia. For more information, send your company's HR manager to www.401ktoolbox.com.
PMFM, Inc. manages $680 million as of June 30, 2005. The firm has increased its assets under management by nearly 40% in each of the last three years. Principals Tim Chapman and Don Beasley, experienced investment advisors with offices just outside Athens, Georgia, have worked with thousands of clients and now offer their services to plan sponsors through 401k Toolbox. Jud Doherty, CFA, is the chief financial officer for the firm, and Tim McCabe is national marketing director. Tim McCabe -- 800-222-7636. Tim.McCabe@pmfm.com
401(k) Distribution Flexibility versus Creditor Protection:
Should you rollover your 401(k) very large account into an IRA. It depends.
People with sizable 401k accounts often prefer to leave their hard earned money in the 401(k)after retirement to maintain the creditor protection afforded by ERISA. Recent changes in the law and Supreme Court decisions have expanded creditor protection for IRA Rollovers; however, ERISA still provides more complete
protection.
Keeping your money in your company's 401(k) after retirement for creditor protection is not usually a problem -- until you run into problems taking the distributions you wish.
A doctor, always concerned about malpractice, kept his plan at his former hospital.
The 401k plan would only allow two options: a total rollover or a regular
distribution amount with no ability to change the amount or frequency except
for a total rollover.
The inflexibility of the plan forced the doctor to effect a total rollover
when, predictably, he had a sudden need for some extra money. Your 401(k) plan
sponsors don't really have a vested interest in keeping the accounts of past
employees on their books, as their presence can add to plan expenses.
When deciding whether to leave your 401(k) assets with your former employer, consider whether your plan allows flexibility when taking distributions, as well as the flexibility of your 401(k) plan's investment options. Clearly, if your greatest concern is for creditor protection rather than distribution flexibility, you would think long and hard about making an IRA rollover.
Donald L. McCoy, J.D., CMFC -- Planners Financial Services, Inc., 952-835-9000. Minneapolis, Minnesota. Registered investment adviser and subsidiary company Montgomery Investment Management, specialize in the management of no-load mutual fund portfolios for individuals and retirement plans designed to protect capital by reducing risk. pfs@usinternet.com.
RETIREMENT
Retiree Loses Half of Pension Through Bankruptcy of Former Employer:
Accessing Assets Tied Up in Home Equity Becomes Essential.
Pearson Financial Services, Dennis, MA, is the author of "The Million Dollar Gift: Dynasty Trusts. Why Leave Your Assets Any Other Way", written for his clients, his clients’ families, and his own family. He offers a fully integrated wealth management process, incorporating investment, retirement, financial and estate planning specialists under one roof, serving clients as their family's office, designing and implementing strategies to protect and distribute their wealth and highly appreciated property. Seth Pearson, CFP, 800-385-7925, seth.pearson@verizon.net
The “Big Gap” in Companies' Talent Pipeline
Will Require Different Work Opportunities for Older Workers
The CEO looked around one day and realized that all of his top officers were his age, or within two or three years, and it occurred to him that the management team, for all intents and purposes would be eligible to retire at nearly the same time. He knew the demographic issues the company faced; depletion of their mature workforce with the looming retirement of Baby Boomers as they reach their sixties. He had to take steps because he knew there were several other serious variables that would impact the talent pool in his company:
• a smaller talent pool now available to replace mature workers because of the dip in births following
the Boomer generation.
• the impact of the hiring freezes in the early 90s and again after the tech wreck the following decade,
both slowing hiring.
• global competition and the need many companies felt to streamline their workforce and eliminate
positions to lower costs.
Smart companies are evaluating their workforce needs and looking at strategies for replacing or retaining the competencies they need. Ellen Kumata, an organizational development expert on business continuation issues at Cambria Consultants, Boston, Mass., says there are four ways companies can solve the talent drain:
• Buy knowledge in new hires
• Outsource to get the knowledge
• Create opportunities for pre-retirees to work differently, with more flexible positions.
• Accelerate training and development of younger workers
Keeping older workers requires that companies improve their older worker policies. Many companies have bits and pieces of the solution to keeping the older worker, but few companies would score high on a report card of “Best Practices for Older Employees.” Such a list would include:
• Changing or compensating for restrictive pension rules that create disincentives, in some instances,
for the older worker to keep working, even part-time.
• Providing information on social security earning caps, flexible benefits, alternative work schedules,
and workplace accommodations, while simultaneously helping employees bridge to an active retirement.
• Creating work schedule alternatives including part-time, temporary, seasonal, consulting, job sharing,
and flex-time opportunities.
Yes, it is clear that many Boomers will wish to work longer because they have not saved enough for retirement, but wishing to work and a willingness and capability to work in the same way are two different things. Keeping valuable older employees takes planning and the offer that they can expect to work differently.
Anne Hartman is Managing Partner of Working Differently, a firm consulting with individuals and organizations to redefine retirement. Her book "Working Differently: A step-by-step guide to finding work that works" will be published in the fall of 2006. She can be reached at anne@workingdifferently.com, or 508-349-7921
DIVORCE
Accurate Financial Affidavits for Divorce Court
are Crucial for the Long Term
Don't hesitate to admit that filling out the court-required financial affidavit about necessary living expenses is over your head when you are filing for divorce. Most states' divorce law requires both parties to fill out a financial form that very specifically details what it will cost each spouse to live separately. Local divorce mediators and divorce consultants understand what should be in your affidavit, and they understand what the local court expects to see in your documents.
The financial upheaval of divorce is difficult, but when one pie is cut in half, each person gets one-half of a pie. The financial affidavit is not the time to make a wish list of your financial needs, but a time to get practical, very detailed, and honest. Your bottom line is what you will be dealing with for many years to come, so pay attention to the smallest details of what you spend every month and don't forget those large bills that come infrequently such as premiums for term life insurance, long term care insurance policies, or taxes on your home. Go through a full year of your checkbook to help capture important information.
Some divorce mediators tell clients to fill out three separate affidavits, but plan to turn in only one. The first is the "eating cat food in the dark" scenario, and lists the absolute bare bones required to live. The second is an exercise in wishful thinking -- "He's taking her to Virgin Gorda, I should build in a trip there." The third is a rational and accurate list of expenses that have to be paid, regardless of whether the household is now one person or two.
The affidavit is particularly hard for the spouse who did not pay the bills regularly, but even the bill paying spouse may have no idea how to estimate food for one compared to food for two. Ironically, it is often more expensive to buy single servings than to cook for an entire family. One spouse may not cook as efficiently, or know how to cook at all, requiring more prepared foods or take out.
The affidavit covers rent or mortgage, home insurance, food, transportation, utilities, health care and medications, and other pertinent considerations. There is a section that covers costs for children.
The affidavit is often the first financial reality with which divorcing spouses must deal. It brings into sharp focus whether one spouse can afford to buy out the other spouse to stay in the marital home, and whether the ultimate home owner can really afford the mortgage, insurance, maintenance and utilities. Emotionally, some people look at keeping the marital home as a lifesaver, when in fact it can weigh you down by drowning you in bills you were ill prepared to cover.
Financial affidavits for the court will need to be defended. Receipts for all of your fixed expenses should be collected. Your bottom line needs to be realistic relative to what your finances were during the marriage and what your finances will be when you are alone. Judges will not allow divorcing spouses to use money requested in a financial affidavit as an instrument of destruction. As well, don't be in such a hurry to get the process of divorce over with that you leave assets on the table.
Plan to ask for that to which you are entitled. If you feel badly a year later, give something back. Think about what is equitable as you pull together your financial affidavit. It is crucial to do a good job on this document. Asking for help in figuring out the numbers may be one of your first steps to financial freedom post divorce.
Linda Leitz, CFP, Pinnacle Financial Concepts, Inc., Colorado Springs, Colorado, is author of The Ultimate Parenting Map to Money Smart Kids,” as a book or as a CD. She specializes in helping families and individuals meet their long- term financial goals. She also helps those in the midst of divorce resolve financial issues through her company Divorce Solutions, Inc. She can be reached at 719-260-9800 or Linda@brightleitz.com.
HEALTH SAVINGS ACCOUNTS (HSAs)
Embedding Medical Consultation into HSA Products
Differentiates Institutional Offering
In the competitive world of selling HSA products, it is clear that institutions with an HSA product line are looking for differentiation. A new medical consultation service, WorldCare Consults, a service of WorldCare N.A. gives account holders two very significant benefits:
• The account holder will know that they can bridge the gap between what is medically possible and
locally available, avoiding unnecessary surgery. *
• The account holder can save on medical expenses because a correct diagnosis is made that is
possibly less invasive and more efficient and medications can be recommended early in the
diagnosis process.
In addition, WorldCare N.A. members receive a newsletter that is customized to the HSA provider, offering opportunity for cross selling other products of the institution.
WorldCare N.A., through its affiliations with some of the country's top-ranked hospitals , provides WorldCare Consults. Teams of physicians provide members facing important medical decisions, with comprehensive, independent reviews of their diagnoses. The physicians work with a HSA account holder's physician to gather medical records, check the file to insure it is complete, make treatment recommendations, and send records to the medical institution or institutions best suited to address the medical condition, all within four business days. WorldCare Consults are independent of insurance guidelines and geographic constraints.
Four of WorldCare North America's top hospitals earned Honor Roll Status in the July issue of U.S. News and World Report's annual ranking of top hospitals. The honored hospitals include Massachusetts General Hospital, UCLA Medical Center, Duke University Medical Center, and Brigham and Women's Hospital. This distinction reinforces that WorldCare memberships provide consumers with access to top physicians, cutting-edge medical practices and best medical advice.
* Studies show that patients are more likely to undergo unnecessary surgery in rural areas as compared to patients in cities with major teaching hospitals, like Boston, which is one of the locations of the hospitals providing WorldCare physicians and WorldCare Consults. The WorldCare Consults physicians are more likely to know about and choose less invasive procedures and treatment options that may be unknown by non-research or teaching hospitals. In 1995, out of 250,000 back surgeries performed in the U.S. (at a cost of $11,000 each) about 44,000 were unnecessary, costing as much as $484 million according to Gary Null PhD, Carolyn Dean MD ND, Martin Feldman MD, and Debora Rasio MD, in "Death by Medicine" published in November 2003.
To reach Ron Mastrogiovanni, call Joanna Flynn, WorldCare North America
Cambridge, Mass., 617-250-5167 or e-mail jflynn@worldcarena.com
LONG TERM CARE INSURANCE
Limited Benefit Long Term Care Insurance vs. Lifetime:
How Much is Enough?
Smart retirement planners understand the need for long term care (LTC) insurance. But how much do they need? Typical benefit periods are 2 years, 3 years, 5 years and lifetime (unlimited). Does someone need to purchase a lifetime benefit to feel secure? “Until recently, little objective data existed to guide consumers in answering this question,” comments Ronald Hagelman, President of Republic Marketing Group, Inc. a national distributor of long term care insurance.
The results of a study conducted by Milliman Consultants and Actuaries tell us that consumers should feel very comfortable purchasing a limited-duration (less than lifetime) benefit. The study reveals, among policyholders with lifetime benefit periods, only 14% of claims last more than three years, and only 4.3% last more than five years.
What happens to a consumer who purchases a limited-duration policy, only to find his/her need for care lasts longer than the policy? That’s when a policyholder may turn to personal assets, income, and/or a government program. “That outcome isn’t a failure for the policyholder.” says Barry Fisher, V.P. of Marketing at Republic Marketing Group, Inc. “Long term care insurance buys time while preserving money for the policyholder on claim. He or she enjoys years of private-pay choices, such as home-based care, while preserving assets and income. The Milliman study makes it clear: the vast majority of policyholders will never run out of benefits. And, even for the few who do, some coverage is much better than none.”
The worst-case scenario? A baby boomer with dependent children suffers an accident or catastrophic illness, can no longer work, and needs many years of long term care. A new policy, Security Advantage Long Term Care Insurance™, boosts benefits for claims that hit before the typical claims age of 85(?). For example, a three year benefit can become a 12 year benefit for a baby boomer hit with a LTC claim such as early Alzheimer’s, or M.S.
There’s no need to overbuy when purchasing a long term care insurance policy. Current claims data shows that a policy with a 3-5 year benefit is a smart buy.
Republic Marketing Group, Inc., of New Braunfels, Texas, is the national distributor of Security Advantage™ long term care insurance, available only through their network of independent SMOs and BGAs.
Agents may get more information on Security Advantage™ Long Term Care Insurance by calling 20+ year LTC industry veterans Ronald Hagelman (830-620-4066; Ron@rmgltci.com) and Barry Fisher (818-489-1839; Barry@rmgltci.com). Product is not available in all states. Limitations and exclusions apply. Underwritten by Loyal American Life Insurance Company®.
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