Public Service Announcement - Retirment investment specifics

[mbossman2]

Retirement - Part Duex.

Ok, in our last episode, we talked about the kinds of accounts (personal, corporate, pre-tax, post-tax etc) accounts
that make up your pile of money for your retirement nest egg.

this time around, we are going to talk about what kinds of investments (in general terms) that can make up a retirement
portfolio as well as which ones, in general, make sense at what point in your life.

Before you decide on what you want to invest your money in (stocks, bonds, moneymarkets, futures, commodities etc), you really
really need to decide

• How much risk you, personally, are willing to accept.
• How much risk makes sense based upon when you will need to access and use your money.

You:

Investing is risky and how much risk you are willing to accept is a personal decision. there are several on line tools that can help
you guage your level of risk tolerance (like: http://www.rce.rutgers.edu/money/riskquiz/). You might want to review and take a few of
them and use them as a guide.

Timeline:

The shorter the time frame in which you will be using the money, the lower the riskiness of the investment should be. Say you plan to use
the $10,000 you have socked away to make a down payment on a house in 3 years. it is quite possible that you can, in those 3 years, suffer
a 10% loss, in a high/medium investment (like the stock market), which would require a 12% rebound to just breakeven (back to the $10,000).
A big rebound, especially after such a large loss, is not very likely, but if you have a 5-7 year time line, the likelihood is better, 10-15
years the likelihood is almost assured.

The stock market activity of a few weeks ago was definitely a prime example of why you need to consider when you need use the money invested.


Not having gotten some guage of your own level of risk acceptance (or aversion) you can begin to look at the various types of investments
that you can use to fund your retirement.

1st lets cover one main axiom:

Taking higher risk should come with an equally high (or better) level of reward.

(this is by no means a comprehensive list and the risk levels may not be 100% correct but it should give you a sense of where you might want to
put your money (highest to lowest risk)

Commodities
Commodities are items of limited supply and demand: oil, gold, silver, pigs, corn, wheat, frozen concentrated orange juice etc. Their
pricing is determined by auction (daily, weekly, monthly) based upon current and projected future delivery of the item(s). This kind of
investment can be highly lucrative (30, 40, 50, 100% returns are commonplace) but they also carry the risk of losing more than
your initial investment. For most investment professionals, commodities have a place in their portfolio, but generally no more than
1-2% of their total value. Commodities are traded at (among other places) the Chicago Mercantile Exchange.

Individual Stocks
Stock is part ownership in a company. let's say that your company (worth $10 million) wants to expand, you can either borrow the money (which
will eventually have to be paid back) or you can sell off a portion of your company. One way of doing that is to issue and sell "stock".
Your company is worth $10million dollars, you want to keep controlling interesting (51%) so you want to sell off 49%, you can do so by issuing
4.9 million shares of stock and offer them for sale @ $1 each and based upon your company's information (sales, debts, management, market,
competition, value add etc), people may be willing to buy those shares at $1 each in the hope that at some point in the future, your company would
be worth $20 million, effectively doubling the value of their investment in your company. Make sense?

Penny stocks

These are usually very small companies with very small values and it is reflected in their stock prices. Their stock sales
volumes are very low and small little changes in the company can cause huge swings in their stock valuations. In addition, this is also
the area that stock scammers like to exploit (aka "pump and dump" schemes) as rumors can move these small stocks a huge amount and then
they drop like a stone (or completely out of business). IMO, these are stocks to avoid like the plague.

International Stocks

These are issued by non-Domestic companies. These are a bit more risky than their domestic counterparts as in addition to all the "normal"
things you need to take into account, you also have to deal with things like: currency valuation changes (both yours and theirs), changes in
regulations, changes in governments (take a look at Venezuela and their current leaderships penchant for nationalizaing industries) and the like.
That is not to say that there aren't "safe" (a relative term) companies/countries but they must be found and tracked carefully.

Emerging Technology Stocks

Stocks in these companies are very much like fashion trends - they can be "in" then "out" in the time it takes you settle on the stock transaction.
Plus, for every winning stock, there are tons of losers (and by losers I mean complete and total losses). Investing in this market requires
constant attention to that sector and a quick hand to move in and out while the profit is maintained. These companies also tend to show staggeringly
high growth rates (50-60-70-100% year over year growth)

Mature technologies/Mature Company Stocks

These are companies that were once Emerging stocks, that have survived the battles and have shown, overtime, the ability to make money but have gotten
to the point where their growth has settled down to a nice steady 15% or so growth. They primarly generate returns by having the stoock price
go up and rarely, if ever, issue a dividend. (dividend - a quarterly payout to the shareholders of the profit made. this may be
taken as a lump sum payment or reinvested back as stock shares, called a DRIP)

Blue Chip Stocks

These are very high quality companies that, almost regardless of how the economy is faring, seem to always make a profit and grow. For the investor
their returns are a combination of increasing share price as well as dividends (which can also be reinvested). Blue chip stocks are usually
included in the "premier" stock indices, like the S&P 500 and Dow Jones Industrial Average.

Utility Stocks

Everybody needs light and water, so these companies, barring natural disaster, will always have customers willing to pay for their products. Their
profits are rarely monsterous but are sure as heck steady. While there can be share price appreciation with these stocks, the bulk of their
returns is thru dividends (which makes them very popular with folks who need to pull cash out of their portfolios, like pension funds and
people actively in their retirement years).

Stock Mutual Funds
These are funds that pool money and buy a wide variety of stocks based upon their overall "mission". The advantages of these funds (and lessening of
risk) is that there is safety in numbers: diversification. With a large number of stocks, it is unlikely (but not impossible) that many of them
will all go in the tank simulataneously. In fact, it is more likely that some will go up, while some go down, so the increases and decreases
in share price don't swing as wildly as individual shares can.

These funds generally have "missions". They invest in stocks based upon an overall strategy and that is laid out in the prospectus, which, while
boring as sin, is something that you areally should review to ensure that the fund meets your personal expectations and risk levels. Some of
these types of funds are:

International

Like individual stocks, these funds invest in overseas stocks. they carry many of the same risks that buying individual international stocks do,
but they are somewhat ameleorated by diversification.

Sector

Funds like this invest in specific areas: banking, energy, housing, real estate, technology etc. As they are investing in a very narrow segment of the
economy, they are subject to more volatility than the overall market (remember the tech boom and bust? the overall market went down, but tecg stocks
really got creamed. I had a fund lose over 90% of its value)

Index

These funds can be like sector funds but can also be wider investments as well. The invest is large pools of stocks called "indices" and these
indices are really good markers of how good (or bad) things are going. Some of the more popular indices are the "S&P 500", "Wilshire 1000" and
the "wilshire 5000". The stock allocations in funds that mimic these indices match up the way these indices are structured. The big advantage
to these funds is that they are not actively managed, so the "costs" of these funds are significantly lower than "managed" funds with the added
bonues that they, as a general rule, outperform the majority of the managed funds.

Blended Funds
These funds are a mix of the above stock mutual funds and the below bond funds. they attempt to strike a balance between share appreciation (growth
of value by growth in per share price) and income (for reinvestement or cash flow). these types of funds are good types of funds for the more
conservative investor and the investor who is near or at retirement age.

Individual Bonds
Bonds are basically loans. A company (or government) will sell bonds to finance something (a road, a building, a new factory etc). As a
hypothetical example: you buy a 20 year bond for $5000 and at the end you will receive (or will have received) $15000 (lump sum or regular
payments).

The upside to these is that, unlike a "normal" loan, you can sell these bonds (albeit at a discount) as needed.

The risk to these, like any loan, is the financial stength (and thus the interest rate charged) of the debtor. In addition, there is always
the possibility the debtor may pay the bond off early and not at face value.

Bond Funds
Like mutual funds, these are funds that invest in a wide range of bonds in line with their overall mission.

Money market Funds

Treasury Notes
these last 2 are investments that buy "cash" insturments: treasury notes and the like. these are ultra-safe investments that pay minimal
interest rates but in exchange carry almost no risk of loss.

I hope this helps you understand some of your options when it comes to investing in your future. In coming episodes, we will cover how
to evaluate various investments so you have the ability to understand and identify "good" investments from not so good investments and how
all of the above are, to some extent, all interconnected and how a change in 1 (positive or negative) can impact (positively or negatively)
another type of investment.

[TwoRails]

Nice informative post, mbossman2

[David M]

Nice job mboss!

A few things to add:
Commodities and futures contracts are a zero sum game...minus the commissions. So in the big picture, more money is lost than made...much like a casino. Using you're retirement money to purchase commodities or futures contracts is plain foolish.

All the blue chip stocks are in the S&P 500 but not all S&P 500 stocks are blue chip stocks. Blue chip stocks are listed on the AMEX, NASDAQ and the NYSE. The Dow-Jones Industrial Average is an index, some of the stocks of the Dow are blue chip and some are not. There is no clear quantitative definition of a blue chip stock. They are the best of the best but you pay a high price (generally high P/E's for their sector) for shares of these companies....so there is no free lunch here.

Stocks are the opposite historically...overall the market rises over time and the average annual gain from stocks is around 10%..so using the rule of 72 (72/10%apr), you can double you're money every 7.2 years.

All the blue chip stocks are in the S&P 500 index but not all S&P 500 stocks are blue chip stocks.

Another form of retirement investment are REIT's or Real Estate Investment Trusts. You can invest in and own land without all the hassles of taking title to property. REIT's are sold as shares of the trust.

Another form of stocks are ETF's or Electronically Traded Funds. You can buy and sell shares of all kinds of different funds directly on the stock exchange without purchasing them from a mutual fund. It's no different buying individual shares of a company as buying shares of an ETF. It's a really neat and inexpensive way of buying an industry or a sector or metals or land and not having to go through a mutual fund company. The maintenance fees are also very cheap.

One of my favorite market websites is this one: http://www.smartmoney.com/marketmap/ It shows you all the larger market cap companies, their size which is proportional to the size of the rectangle and how much they are up or down for the day. Right click on a company and you can get lots of information about that company real quick. I like looking at this Map of the Market when trading..it gives one a real clear picture of what the different sectors are doing. I have spent hours at a time looking though this website....it's some really neat stuff condensed into one page. It's also a great site for researching for stocks for you're retirement portfolio. Did you know Google is almost larger than Ebay and Yahoo combined? If Apple keeps growing the way it has, it will soon be larger than IBM...you can see both of those things graphically. Most of you I think will find the technology sector interesting.

[Floppyman]

David,

I'm confused....I thought ETF's were "Exchanged Traded Funds", not "Electronically Traded Funds"?

Apple bigger than IBM? Given that IBM prides itself as a global services company these days and is involved in just about every part of the high-tech business, I doubt this will happen. But on the other hand, who knows what a few more killer products would do for Apple...

BTW, thanks for sharing the rule of 72....I learned something new today.

mbossman,

Thanks for the excellent post. What is your take on mutual funds that are marketed as "growth funds"? I didn't see anything specifically on that in your post above.

[David M]

You're right about the "E" in ETF's...my mistake.

Growth funds: http://www.investopedia.com/terms/g/growthfund.asp

Basically the younger you are the more risk you can afford to take. So growth stocks and funds are something to consider for the younger generation. As you get older you want to transition out of them as you start to more and more protect you're gains with more conservative securities.

BTW, Investopedia.com is a great place not only for getting definitions but for learning.

[mbossman2]

Growth funds are funds comprised of stocks who will appreciate in share price and, as David points out, are best in the portions of a portfoilio that have a longer time before those funds will be needed.

David also is pointing out the conventional wisdom. With people living longer and having a longer retirement (some folks may be retired longer than they were working), the growth fund type, while a decreasing part will still be a significant portion of your portfolio at age 60 - 65 (when conventional wisdom calls for a shift almost all low risk investments) as you will have money that won't be needed for another 20 years (which then qualifies for the higher risk investment).

[jimmyrules712]

really enjoyed reading this. Good post and I look forward to more of this info