Elmwood Quarterly Insights

Financial Planning Investment Management Tax & Estate Services

Elmwood Quarterly Insights

October 2013

Elmwood Wealth Management 2027 Fourth St., suite 203

Berkeley, CA 94710 (510) 858-2723

[email protected] www.ElmwoodWealth.com

1) In Financial Planning for the Ages, we talk about the need for planning at all stages of life and the questions you should ask yourself.

2) In Strategic vs. Tactical Asset

Allocation, we describe the difference in two common investment strategies, then illustrate how they apply to us.

3) In Raising Financially Responsible Children, we offer tips on how to begin the conversation of money with your children. Offer us your ideas as well!

4) A summary of current Elmwood themes and our strategies that go along with them.

In This Issue:

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We Build and Preserve Wealth


Elmwood Wealth Management

Financial Planning for the Ages

By Shannon Lemon, CFP®

Over my career I have worked with a wide variety of clients that range in age from thirty something to eighty something, from musicians to surgeons, and although these clients seem quite different, they all have one thing in common; the need for financial planning. Regardless of how old you are or what you do for a living, financial planning is appropriate at all stages of life and should be an ongoing process. A financial plan is not only a base from which to make financial decisions, but it can and should be a life plan, based upon changes in your personal circumstances.

So you may be thinking, this sounds great in theory but how does it really apply to me? Let’s go back for a moment to our twenties and thirties before marriage, kids and mortgages. We are starting our careers and our employer gives us a wonderful offer letter that includes a benefit package. Looks great, but with all that information, comes so many questions. What kind of health insurance is being offered? Should I fund a flexible spending account? What is a high deductible plan? When can I start participating in my 401k and does my employer match my contributions? What should I invest in my 401k? What is the value of the stock options being offered to me and do they have tax consequences? What is the optional life insurance and do I need it? This is the starting point of our financial planning journey and think how great it would have been to be in your 20’s and have someone who is objective and knowledgeable, help guide you through this process.

Moving on a few years later to our 30’s, we decide to get married, buy a house, and have kids, all major life events! These events only come with more questions. Do we need a pre-nuptial agreement? Are we going to co-mingle our funds? Do we need

Quarterly Insights: October 2013

to set up a budget? Should we have an emergency fund? How much mortgage debt is appropriate? How much should we be saving for retirement? Can we afford to have one of us stay at home with the kids? Who will care for our children if something happens to us? Do we need life insurance? Should we start saving for college? Can we afford private school? In the interest of preserving you and your spouse’s welfare, make sure each of you is aware of your entire financial picture and is in charge of managing a portion of it. If you and your partner are compatible money-wise and commit to setting up a financial plan to save, invest and build your future, you can enjoy life and create financial security at the same time.

Fast forward a few years ahead and we are now in our 40’s and 50’s. These are our peak earning years, our kids may no longer live at home, we are paying down debt, and our wealth is higher than it was a decade earlier. We start to think about re-financing, re-modeling the house, perhaps changing our careers, caring for aging parents, and thinking about retirement. What are “catch-up contributions” anyway? The questions none of us like to ask are, what if I get sick, become disabled for a period of time, get laid off, do I need a long term care policy, or what happens if we divorce? We are close enough to the finish line now that we should begin to make definite plans and think about our retirement.

Moving into our 60’s, we are retiring or close to it but what does that really mean? The vital thing to realize is, even if retirement is the end of our traditional working life, it is not the end of our financial life. We still have another 20 plus years to enjoy. There are so many decisions at the beginning of retirement that we need to think about. What if I want to work part time, when should I begin taking social security? When should I take money from my 401k?




What does Medicare cover and what kind of supplemental medical coverage will I need? Where we will live, what will we do and how much money will we be able to spend? Now our family is growing, the kids are getting married, and we are finally grandparents! How much should we budget for a wedding? We certainly remember what it was like starting off, so should we help the kids with a down payment on their first house? Now that we have grandchildren, should we contribute to their 529 plans? We often hear people say “life is short”, but the truth is, life is not short. Life is long. The average life expectancy for an American male is 76.2 years, and 81 years for a female. The reality is in the first few years of retirement, our spending goes up so we still need to budget, control our expenses and monitor the rate at which we are using up the retirement reserves. Plan with confidence so you can live a reasonable lifestyle, with room for contingencies, for the remainder of what could be 20+ years of retirement.

Who would have ever thought we would reach our 70’s and 80’s! You may be thinking, I have completed my estate planning, I have enough money for retirement, my children are thriving, why would I need any more financial planning? But wait, we have lived in our house for 40 years, perhaps it is time to sell. How much will we have to pay in capital gains on the sale and is there a way to reduce the tax burden? Should I move into a retirement community? What if I need assisted care? What about my legacy? Should I be gifting assets to my children? Should I leave money to a charity? If you have done your planning throughout your lifetime, hopefully these are the questions you will be asking.

So no matter your age, or the stage of life you are in, financial planning is about real life events that we experience throughout our lives. As you make the journey, if you don't know the destination, how will you know when you've arrived?


Strategic vs. Tactical Asset Allocation?

By Bob Gillooly, CFA

We often speak with our clients about their asset allocation, as it is an important part of any investment strategy. In simple terms, asset allocation is defined as the dollar or percentage amount an investor owns in the various types of investments available for purchase. This may include things like stocks, bonds, real estate, commodities, and more. Financial advisors pay so much attention to what mix of these asset classes their clients are in, because it is commonly believed that the asset allocation decision alone will predict 90% of the long-term investment return. Most advisors, therefore, have adapted either a strategic or tactical methodology of implementing an investment plan on behalf of their clients. In the paragraphs below we will describe the differences between these approaches, offer our ideas on which one is better, and then explain how Elmwood approaches this critical task.

Strategic asset allocation may broadly be defined as choosing the various asset classes, with an eye toward building a client portfolio with an appropriate risk and return profile over a period time.




of time. A strategic approach considers things like the historical performance and volatility of an asset class, an individual’s risk tolerance, and where that individual may be in their investing life cycle. Since all of these factors tend not to change frequently, strategic allocations also do not tend to fluctuate a lot over the short-term. Tactical asset allocation is designed with a shorter term time period in mind, and often takes things like sentiment, valuations, monetary policy, and where we are in the business cycle into consideration. Advisors using a tactical approach typically make more frequent changes to a client’s asset allocation based on these market conditions, in effort to improve both the stability and performance of the portfolio.

Which approach is better? The advisors who use a strategic approach will tell you that tactical asset allocation is akin to market timing and the more asset classes in which you try to “out smart” the market, the less chance you have of actually succeeding. An advisor who uses a tactical approach will counter with the mantra of “buy and hold is dead”, and there is no place for strategic asset allocation in these volatile times.

As referee we will take the middle ground and say that both approaches have merit. At Elmwood, we like to define ourselves as having a pragmatic style of investing. Do we take long-term market performance and volatility into consideration? Yes, we do. Do we take short-term fluctuations to the stock market and economy into consideration? Yes, we do. Most importantly, we take an individual client’s circumstances into consideration and do our best to manage their assets to provide an outcome that matches their needs and desired outcome. A famous quote from economist John Maynard Keynes was, “When the facts change, I change my mind. What do you do, Sir?” That aptly describes the Elmwood approach. When the market or client circumstances change, we strive to change with them to provide the best possible outcome.


Source: JP Morgan

Raising Financially Responsible Children

By Bob Gillooly, CFA

There are so many responsibilities parents assume when raising children, and all are undoubtedly important. Teaching your children about personal finance is certainly one of those duties for parents, yet it is clearly an area where many of us (author included) often don’t know where to start. It is so important because if you think about it, very few schools offer guidance to kids on how to manage their personal finances. When was the last time you heard a high school student taking a class on how to manage credit card debt? Here are some tips and ideas for all of us to consider for our children.

1. Be transparent- Learning by example is a

great idea, but if you aren’t transparent in how

you handle your own money, how are kids to

learn? There should be an open dialogue about

money and encourage them to ask questions?

Show them how much you pay in monthly

utility bills, explain to them why leasing or

buying a car is better, tell them why you just

re-financed your mortgage, and if you didn’t

let them know why you haven’t. Last, don’t be

naïve about your current financial state of

being. If you recently came into new money or

are having financial difficulties, your children

will take notice. Take the time to explain

things to them.

2. Teach them how to save- Saving money is

hard work for even the best of us, and that

means it will be even more difficult for your

children. Try out different ideas like a weekly

allowance, but they then have to save 1/3 of it,

are allowed to spend 1/3 of it, and then share

1/3 of it. For the portion they are saving, agree

upon a goal




so they can feel great about achieving that goal. For

the amount they are spending, let them choose

what they spend it on (within reason). For the

sharing portion, it can be a charitable

organization, a friend, or family member if they

feel so inclined. There are so many more ideas

here, so feel free to experiment and let your

child learn and make mistakes along the way.

3. Practice delayed gratification- A famous

Stanford researcher Walter Mischel performed

a study a few decades ago on the behavior of

children who were able to exercise restraint

when eating marshmallows. Essentially the

study asked kids not to eat any marshmallows

from a plate left on the table until an adult

returned to the room 15 minutes later. Some ate

the marshmallows right away, some broke

down a few minutes later, and some were able

to wait the entire time and then were given two

marshmallows as promised. The study revealed

some twenty years later that those who

exercised the most patience had the highest test

scores, were better behaved, and more

financially savvy. Maybe we can squeak a few

more miles out of our aging car?

4. Get a job- On one hand, kids have their whole

life ahead of them so no rush to make them

work. On the other hand, a job will help prepare

them for all of life’s future challenges. They will

learn to interact with people, gain a sense of

accomplishment, learn how to be on time, and

simply learn the value of a dollar.

5. Pay with cash- We all have “money growing on

trees” stories with our kids, and it probably

takes

a lot longer than most of us think in terms of when exactly do our children understand the value of money. Whether we write checks, use credit cards, pay bills online, they all pose challenges to our kids really understanding how much we actually spend. Studies have shown that when people use a credit card, they spend 10-20% more than when using cash. When we shop online, we spend 10-20% more than when we use our credit card. What is going to happen when we can use our cell phones to pay for everything with just a flash of our phone? It all reinforces the idea of teaching our children with good old fashioned hard currency.

Needless to say, there are countless more ideas on how to help educate our children in our modern financial world. We discuss just a few, but there are many, many more.

If you have any ideas of your own, we would love

to hear them. It takes a village to raise a child!





Investment Theme: U.S. Energy Resurgence – Not only has there been a tremendous amount of natural gas discovered in America, but new technology has led to a boom in new oil discoveries as well. The abundance of new energy will mean our country must invest in virtually every aspect of our energy infrastructure to make this resource available.

Elmwood’s Strategy: We are investing in companies that have large underground reserves of both natural gas and oil. We are also taking advantage of less obvious ways to exploit this theme. For example, companies which help clean up gas and oil wells, and transportation companies that move both supplies and the commodity itself across the country.

Investment Theme: Total Return Equity Investing – Total return takes into account both price appreciation and dividend payments. Companies are increasingly raising dividends and buying back stock as a return to shareholders.

Elmwood’s Strategy: Look for companies that have the cash flow to both buy back their own stock and increase their dividend. If a company bought back 2% of their outstanding shares annually and paid a 2% dividend yield, your total return would theoretically be 4%. This is a great backdrop in any circumstance.

Investment Theme: U.S. Health Care Needs – With new health care legislation now in place, approximately 40 million individuals will become eligible for health care coverage. This fact, coupled with the aging baby boomer demographic will create substantially more demand for health care going forward.

Elmwood’s Strategy: An increase of both the number of participants and the frequency of accessing health care inevitably will drive up the cost to cover this phenomenon. The investment opportunity lies within companies that benefit by serving a larger number of participants, yet are able to help reduce the cost of service. Insurance, benefit management firms look to benefit.

Elmwood’s Strategy: We take a more active approach to our bond portfolio. We are buying high current income corporate bonds (6-7%) with good credit quality, yet are relatively short in maturity. Some of these will likely be sold before maturity. We are also using higher income paying preferred stocks (6%) that offer more favorable tax treatment as a substitute for longer maturity bonds.

Investment Theme: High Current Bond Yields – Yields for most good quality bonds are extremely low. Yet there is a segment in the market where you can buy both high quality and high current interest paying bonds.

Investment Theme: Developed Foreign Equities – The emerging markets have been a hot place to invest for over a decade now, but their relative growth is slowing. The risk/reward tradeoff is no longer attractive as their higher inflation and political instability are cause for concern.

Elmwood’s Strategy: Investors have been reluctant to invest in both the European and Japanese markets for years, and in the case of Japan decades. Easy monetary policy and the plain fact that their economies are improving argue for exposure in these areas.


Elmwood Wealth Management 2027 Fourth St., suite 203

Berkeley, CA 94710 (510) 858-2723

[email protected]

www.ElmwoodWealth.com

Elmwood is committed to making life easier for

you while maximizing your investment potential.

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http://www.elmwoodwealth.com/

Economy & Finance

Elmwood Quarterly Insights