Simple Secrets to Building Wealth: Retirement and Investing · 2016-09-02 · Your Money: Take Charge | Time Value of Money 8 Day Start – Day 1 1 $0.01 2 $0.02 3 $0.04 4 $0.08 5

Your Money: Take Charge

Simple Secrets to Building Wealth:

Retirement and Investing

January 23, 2016

Shahar Ziv

[email protected]

@ziv_shahar

| Your Money: Take Charge

What Do “Saving for Retirement” and “Investing” Mean To You?

1


You Already Invest!

2


Agenda

3

Jan 21-22 Today

Planning for Success

Owning Your Credit

Insuring Your Future

Taxing Your Income

Saving for “Future You”

Investing Success

Wrap-Up

| Your Money: Take Charge 4

Facts Insights Strategies

Setting Expectations


Trends

Shift in Risk

Future

Rising


Foundational Concepts

6

Illustrative Examples

Which would you prefer?

A) If I gave you $100 today

Present/Future Value

Time Value of Money/ Power of

Compounding

Rule of 72

B) If I promised to give $100 in 2

years?


B) Or if I gave you $200

tomorrow?


B) Or if I gave you $200 in 5

years??


A Penny For Your Thoughts

7

Day 1 Day 31


Time Value of Money

8

Day Start – Day 1

1 $0.01

2 $0.02

3 $0.04

4 $0.08

5 $0.16

6 $0.32

7 $0.64

8 $1.28

9 $2.56

10 $5.12

15 163.84

20 $5,242

25 $167,772

29 $2,684,354

30 $5,368,709

31 $10,737,418

Key Observations

Exponential growth

because of compounding

(“power of compound

interest”)

If you start on Day 1, you

end up with 2x more than

if you start on Day 2

The last double matters

most, but to get to it, you

have to start early

Delay of 10 years has

drastic consequences

(need to invest more to

“catch-up”)

Start – Day 2

-

$0.01

$0.02

$0.04

$0.08

$0.16

$0.32

$0.64

$1.28

$2.56

$81.92

$2,621

$83,886

$1,342,177

$2,684,354

$5,368,709

Start – Day 10

$0.01

$0.32

$10.24

$327

$5,242

$10,485

$20,971

$100

$51,200 $25,600 $100


The Magic of Compounding

9

$-

$2,000,000.00

$4,000,000.00

$6,000,000.00

$8,000,000.00

$10,000,000.00

$12,000,000.00

Day 1 Day 6 Day 11 Day 16 Day 21 Day 26 Day 31

Penny Day 1 Penny Day 2 Penny Day 10

“The most powerful force in the

universe is compound interest”

- Albert Einstein


The Story of Two Savers

Parties for 10 years

Opens a tax-deferred account earning

10%* and invests $2000/year for 30 years

Total Contributions: $60,000

Age Annual Amount Total

25 - -

26 - -

27 - -

28 - -

29 - -

30 - -

31 - -

32 - -

33 - -

34 - -

35 $2,000 $2,200

40 $2,000 $13,431

45 $2,000 $35,062

50 $2,000 $69,899

55 $2,000 $126,005

60 $2,000 $216,353

65 $2,000 $361,886

Opens a tax-deferred account earning

10%* and invests $2000/year for 10 years

Then saves NOTHING for next 30 years

Total Contributions: $20,000

Age Annual Amount Total

25 $2,000 $2,200

26 $2,000 $4,620

27 $2,000 $7,282

28 $2,000 $10,210

29 $2,000 $13,431

30 $2,000 $16,974

31 $2,000 $20,872

32 $2,000 $25,158

33 $2,000 $29,874

34 $2,000 $35,062

35 - $38,568

40 - $57,283

45 - $92,254

50 - $148,577

55 - $239,285

60 - $385,370

65 - $620,643


Source: http://yadayadayadaecon.com/clip/61/

The Consequences of Stiffing Morty Seinfeld


Morty Seinfeld’s Calculation

Year 0

Year 1

Year 2

Year 3

Year 10

Year 52

$50.00

$52.50

$55.10

$57.90

$77.60

$632.10

How does $50 grow if interest rate is 5%?

(Note: These calculations use yearly compounding unlike the Seinfeld clip, which uses quarterly compounding)


Key Takeaway #1

13

START SAVING EARLY &

SAVE CONSISTENTLY


Retirement Buckets

Employer Options Other Options

401(k)

Roth 401(k)

403(b)

457 Plan

Individual Retirement

Account (IRA)

Roth IRA

SEP IRA

Solo 401(k)

Bucket Clip Art


Where Do I Get a Bucket?

15

Through your employer

Direct through an investment firm or

bank


Which Bucket(s) Should I Use?

16

401(k) Roth 401(k) vs.

Set up through your

Employer

401(k) allow you to invest

pre-tax dollars (you pay

taxes when you are older

and withdraw)

Benefit:

Additional liquidity via

upfront tax

deductibility

Set up through your

Employer

Roth allows you to invest

post-tax dollars (your

money grows and is later

withdrawn tax-free

Benefits:

Potentially lower tax

bill when you withdraw

No penalty for

withdrawal of

contributions before

age 59


401(k) Tax Benefits

401(k) contributions

Roth 401(k)

contributions

Income Tax Calculation

$ Gross Income

- Adjustments

= Adjusted Gross Income

- Deductions

- Personal Exemptions

= Taxable Income

x Tax Rate

= TAX LIABILITY

Leftover

Post-Tax Contributions

Total Leftover

Total In Retirement Account


Comparing Tax Benefits

Income Tax Calculation

$ Gross Income

- Adjustments

= Adjusted Gross Income

- Deductions

- Personal Exemptions

= Taxable Income

x Tax Rate

= TAX LIABILITY

Leftover

Post-Tax (Roth) Contribution

Total Leftover

Total In Retirement Account

$50,000

$50,000

$50,000

15%

$50,000

$10,000

$40,000

$40,000

15%

$7,500

$42,500

$6,000

$34,000

401(k) Roth 401(k)

N/A $10,000

$32,500

$10,000

$34,000

$10,000


To Roth Or Not To Roth?

19

Considerations

Liquidity and other

obligations

Your income today vs.

income in future

Tax bracket today vs. tax

bracket in retirement

Overall tax brackets (not

in your direct control)


Quick Overview of Plans

20

Type Tax Advantage Eligibility Income

Restrictions

Contribution

Limits

401(k) Tax Deductible

Contribution

Employer

Driven

N/A $18,000

Roth

401(k)

Tax-Free Growth Employer

Driven

N/A $18,000

IRA Tax Deductible

Contribution

N/A N/A $5,500

Roth IRA Tax-Free Growth Based on

Income

<$131,000

(filing single)

$5,500

SEP IRA Tax Deductible

Contribution

Yes N/A Lesser:

$53,000 or

25% of

income


How Much To Contribute?

21

Considerations

It depends. . .

Your situation, other obligations

Your values and priorities (reinforce

importance of budgeting and

planning upfront)

Your liabilities (student loans, etc.)

When you start

Earlier you start, less you need

to contribute each month


Employer Match

22

Many companies will match a

portion of what you put into your

retirement account

Example:

“50% match up to 6% of your

salary”

Your Salary = $50,000

You contribute 6% = $3,000

Employer contributes = $1,500

Total = $4,500

Guaranteed “return on your

investment”

50% immediate and risk-free

return in this case


Key Takeaway #2

23

CONTRIBUTE AT LEAST

ENOUGH FOR FULL

EMPLOYER MATCH


Key Takeaway #3

24

GOAL: 15% TOTAL

CONTRIBUTION EACH YEAR

(YOU + MATCH)


What Do I Put Into My Bucket?

25


CASE STUDY DISCUSSION


The Virtues of Planning

27

Goals

Behavior


Budgeting

28

The Flossing of Financial Planning

BUDGETING = AWARENESS


Case Study Takeaways

29

Be prepared. Come in on day one with a financial plan in mind

Enroll right away (time is your BFF)

Take advantage of employer match (free money)

Automate as much as possible

Invest as % of your salary, not $ automates increases to

contribution as your salary increases

If you can’t contribute 15% right away, automate increases to

the % you are contributing

Don’t settle for employer default allocation of 3%

Pick low cost funds (to be discussed next)

Use target date funds if you are lost (to be discussed next)


Themes

• Saving vs. Investing

• Time Horizon

• Risk Level

• Diversification

• Alignment with Goals

• Alone or Getting Help?


Before You Start to Invest

Build up an month emergency fund

Pay off all your high-interest debt (e.g., credit cards)

Maximize contribution to your retirement plan (especially if your

employer matches)

Save for other important [short-term] needs (e.g., down payment)


Defining Your Time Horizon

– Home Purchase

– Future Education

– Vacation and Travel

– Capital Preservation

– Paying Off Credit Card Debt

– Retirement Savings

MEDIUM TERM SHORT TERM LONG TERM


Translating Risk into Specific Investment Choices

RISK LOWER HIGHER

CHECKINGS/

SAVINGS

ACCOUNT

MONEY

MARKET BONDS

STOCKS

(“EQUITIES”) OTHER


Defining “Asset Classes”

CHECKINGS/

SAVINGS

ACCOUNT

MONEY

MARKET

BONDS

STOCKS

(“EQUITIES”)

OTHER

• Principal contributions are protected from loss

• Guaranteed interest on money you put in

• Certificates of Deposit

• Short-term government loans

• Debit issued by the government (federal, state, local) or

by a corporation

• Receive interest income on regular frequency

• Ownership in a company

• Price appreciation and dividend payments

• Real Estate

• Commodities (Gold)


Examples

+53%

You invest $1000 in stocks….

In 1 Year -27% OR…


Example

+11%

You invest $1000 in stocks….

In 25 years +8% OR…


2016 is a good example. . .

37

Jan 4: $103.71

Jan 21: $97.35

Dow Jones Index

Jan 4, 2016: 17,148

Jan 20, 2016: 15,766

Down: (8.7%)

Apple Stock

Jan 4, 2016: $103.71

Jan 20, 2016: $97.35

Down: (6.5%)


Implications

Source: MyMoneyBlog


Diversification

• Risk-management technique

• Mixes a wide variety of

investments within a portfolio to

minimize the impact that any one

security will have on the overall

performance of the portfolio

• Diversification essentially lowers

the risk of your portfolio

• Spread your portfolio among

multiple investment vehicles such

as cash, stocks, bonds, mutual

funds, and other vehicles

• Beware “naïve diversification”


What should you invest in?

How to build a portfolio and allocate money?

How to choose an actual fund?

What kinds of resources to use for more information?

Getting Tactical on Investing


Mutual funds offer:

Automatic diversification

Convenience

No need to research individual

companies

No need to pay for individual

trades

Lower costs

Individual stocks:

Riskier

Require more attention

Tangible (“I own part of Apple”)

My Advice:

Focus on mutual funds

If you are inclined, leave a small

portion for individual stocks, but treat

it as “play money”

What to invest in for medium and long-term?


Where to open an account?


Building a Portfolio

Fund Fees

(Active vs. Passive)

Equities vs. Bonds

Domestic vs.

International

Small vs. Large

Value vs. Growth

Individual Fund

Characteristics


Morningstar: Low Mutual Fund Fees Trump Our Star Ratings

“If there’s anything in the

whole world of mutual funds

that you can take to the

bank, it’s that expense ratios

help you make a better

decision. In every single

time period and data point

tested, low-cost funds

beat high-cost funds.”


Like Flipping A Coin

Sources: http://www.nytimes.com/2014/07/20/your-money/who-routinely-trounces-the-stock-market-try-2-out-of-2862-funds.html

Each time finding the same core truth: Very few funds achieved consistent and

persistent outperformance. Furthermore, “the data shows a likelihood for the best-

performing funds to become the worst-performing funds and vice versa.”

2,862 2


Morningstar Analysis


Morningstar Analysis

Investors would have substantially improved their odds of success by favoring

inexpensive funds, as evidenced by the higher success-ratios of the lowest-cost

funds in all but one category.

On the flip side of the coin, investors choosing funds from the highest-cost

quartile of their respective categories reduced their chances of success in all

cases.

The large-value category is the most poignant example.

The lowest-cost funds in this segment had a success rate that was 28

percentage points higher than the category average over the trailing 10 years

through December 2014.

Meanwhile, their high-cost peers had a dismal success rate of just 19% during

this same span.

Odds of success generally decreased over longer time periods, with value-

oriented funds being the notable exception.

Value managers had a higher long-term success rate than other types of active

funds.

The lowest-cost mid-value funds enjoyed the greatest long-term success rate (68%)

and the highest-cost mid-blend funds the lowest (5%).


Why Fees Matter

Sources: http://www.nytimes.com/2014/07/20/your-money/who-routinely-trounces-the-stock-market-try-2-out-of-2862-funds.html

~$100,000

$10,000 Investment

Fund Expense Ratio

33 bps

169 bps

Investment Value

10% average

annual return

Over 25 years

~$70,000


Depends on time horizon

Stocks have always outperformed in

the long run

Bonds help smooth out and reduce risk

Some people say 110 – your age or

120 minus your age

If you’re saving for other medium - long

term goals, weighted more towards

bonds

Rule of thumb: closer you are to

needing the money, more conservative

you should be

Asset Allocation: Equity vs. Bonds


Lifecycle (“Target Date”) Funds and Asset Allocation

Stocks

Bonds

Closer to retirement Far from retirement


The average US investor does not have

enough exposure to international stocks

Some reasons:

– People want to own what they know

– Country/political risk

– Currency risk

– Added cost

U.S. vs. International stocks

“We have demonstrated that domestic investors should

allocate part of their portfolios to international securities

and that a 20% allocation is a reasonable starting point.

While adding an allocation of 20% to 40% has historically

been beneficial, adding too much can increase portfolio

risks without the commensurate benefits.

We have demonstrated that international allocations

exceeding 40% benefit a portfolio incrementally less,

particularly as costs are accounted for.

Although no absolute answer exists for all investors,

it should be clear that an allocation range of 20% to

40% is reasonable given the historical benefits of

diversification.

Allocations closer to 40% may be suitable for those

investors less concerned with the potential risks and

higher costs of international equities. Allocations closer to

20% may be viewed as offering a greater balance among

the benefits of diversification, the risks of currency

volatility and higher correlations, investor preferences,

and costs.

- Vanguard Research


Sample Portfolio

10%

Int’l - Developed

15%

Other

40%

US Large

20%

US Small

Emerging Mkts 10%


There is no one right answer


What to look at:

–Expenses, expenses, expenses

–Tenure of fund manager

–Stewardship – company that puts the

interests of shareholders first

My recommendation for good place to start:

Money 50 List

(http://money.cnn.com/magazines/moneymag

/bestfunds/)

Categorizes funds based on how you would

use them

–Building Block Funds - all index funds to

help build core portfolio

–Custom Funds

–One Decision Funds (i.e., lifecycle funds)

How to actually pick a fund

• Other resources:

• Morningstar ratings

• Reputable mutual fund companies

• Vanguard (16 of 50 on Money50 list

are Vanguard funds)

• Fidelity

• T. Rowe Price

• Schwab

• Financial planner

• Credentials

• Pay structure

• Fiduciary duty

• Too good to be true, probably is

• Read WSJ article – “How to Choose

a Financial Planner”

• Other investing sites

• Motley Fool

• Seeking Alpha

• Books

• A Random Walk Down Wall Street

• Plenty others

http://money.cnn.com/magazines/moneymag/bestfunds/

http://money.cnn.com/magazines/moneymag/bestfunds/

http://guides.wsj.com/personal-finance/managing-your-money/how-to-choose-a-financial-planner/

http://guides.wsj.com/personal-finance/managing-your-money/how-to-choose-a-financial-planner/


The Market for Financial Advice


Auditing Financial Advice

56

~7% ~50%

Passive Active


Recommendations If You Are Looking To Hire An Adviser

Sample questions:

What is your investing philosophy?

How do you make money?

Do you, when recommending

investments, accept any compensation

from any third party? Why or why not?

Under which circumstances?

How much do you estimate I would pay

for your services the first year?

What would make that number go up or

down over time?

May I see a sample account statement?

(If you don’t understand it, ask the

adviser to explain it)

Do you have a fiduciary duty to me?


Index Card Advice


My [Extra-Large] Index Card

• No one will care about your money more than you. Take charge of your money.

• Cultivate awareness of how you spend/save to ensure it aligns with your

goals/values; find a system that enables you to live below your means

• Your most important asset is time; start saving early and aim for 15%/year

• Before you invest, make sure you save (emergency fund)

• “KISS”

• Focus on fees; buy index funds/ETF’s with the lowest fees

• Don’t buy individual stocks. For every stock trade, there is a buyer and a

seller. Each one thinks they made a smart move.

• Match your investments to your time horizon and risk tolerance

• Take advice with a grain of salt; only work with to fiduciaries

• Automate your finances as much as possible to leave time for the important

things

• Money is a means to an end, not an end in itself. Don’t forget about the journey

and buy experiences that make you happy!


Wrap-Up

60

Please complete Day 3 survey – your feedback is

important and influential!

We would very much appreciate additional “on the

record” testimonials

This helps us report back to the university and

market the course to your peers next year

If you are willing, please fill out the sheet below and

we will contact you OR

Send an e-mail directly to Laura

([email protected]) with your thoughts

mailto:[email protected]


Questions

61

I’ll be here afterwards to answer in

person

E-mail me: [email protected]

mailto:[email protected]


Appendix

62


Automate Your Finances

63

VS.


What and How to Automate?

64

Emergency fund/savings

Retirement contributions

Investment contributions

Bills/Debt Payments (e.g.,

student loans, credit cards)

Credit report pulls

What

How

Employer’s payroll/direct

deposit system

Bank/Credit Union processes

Bill/Debt Payment processes

Calendar reminders

Remember:

Companies like to

automate too!


Anchoring Trap

65

Is population of Turkey

greater than XX million?

What’s your best estimate of

Turkey’s population?


Results

66

Is the population of Turkey. . . .

Version A: greater than 5 million

Version B: less than 65 million

11.07

65.39

Difference: 54.32

My favorite response:

Is the population greater than 5 million:

What is your best estimate of the population?

NO

10 Million

What is your best estimate of

Turkey’s population?


Do Defaults Save Lives?

67


Auto-Enrollment and Auto-Escalation

68


Paradox of Choice

69


Tradeoffs: Student Loan Payback vs. Retirement Savings Example

70

? ?

Interest Rate Expected Rate of Return

VS.

6.8% VS.

Student Loan Interest Rate Up to Employer Match

6 – 7% 6.8% VS.

Student Loan Interest Rate Above Employer Match

100%


Hierarchy of Needs

71

Emergency Fund Retirement –

Employer Match

Retirement -

Additional High Interest Debt

Health Savings

Education

Travel

Illustrative

Down

Payment

Other

Documents

Simple Secrets to Building Wealth: Retirement and Investing · 2016-09-02 · Your Money: Take Charge | Time Value of Money 8 Day Start – Day 1 1 $0.01 2 $0.02 3 $0.04 4 $0.08 5