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What is the Riskiest Part of Your 401(k)?

By | 2013, Money Moxie, Newsletter | No Comments

You have control over the most important factors that determine successful retirement savings in your 401(k). You control the contributions, investments, and withdrawals. You are the riskiest part of your 401(k)!

Inherent risk does not exist in a 401(k). Why? A 401(k), 403(b), IRA, or Roth IRA is not an actual investment. These are merely vehicles or accounts that allow us to save money for the future in a tax-preferred environment.

The risks come in other areas, most of which we have the ability to control. This article will discuss four of the most misunderstood risks: investment risk, active user risk, savings rate risk, and self-plundering risk.Investment Risk

Within the 401(k) or qualified retirement account, there is generally a wide variety of investment options. These include different sectors of the market and ranges of risk, as measured by volatility. These options can be conservative, aggressive, or anywhere in between.
We cannot control what the world stock and bond markets do, but we do have some control over how our money is invested and how much risk we are going to take.  As participants, we choose which of the investment options we will use. This requires us to know which mix of the options will meet our investment risk tolerance, emotional needs, and time-frame.

Active User Risk

We drive the level of risk. If we choose investment options that are too aggressive, we increase our risk. If we do not diversify among the options, we increase our risk. If we change investment options in response to information we hear or read, we may increase our risk.

The chart to the left shows how volatility in the market changes from year to year. Investors evaluate each year based on the ending market price. Was it positive or negative? Participants tend to forget that even though a year may have ended positive, we could have experienced significant volatility mid-term. Take for instance 2009. The market ended up 23.5 percent by year end. Looking back, it’s easy to forget that during that year the market was down 27.6 percent.

These periods of volatility can cause investors to get sidetracked. They forget their long-term plans. They try to outguess the market by moving in and out. These decisions are often based on emotion, and it is generally to their financial detriment.

On the flip side, some participants remember the volatility and become risk averse. They forget that over time they have experienced more positive years than negative. They forget their long-term objectives and become too conservative.

Savings Rate Risk

We have seen a significant decline in the personal saving rate among Americans. While a 401(k) allows contributions up to $17,500 each year ($23,000 for those 50 and older), many make minimal contributions. Just like investing too conservatively, saving too little will leave many far short of living a desired lifestyle at retirement.

One of the benefits of a 401(k) is that you can make systematic investments directly from your paycheck. You don’t have to sit down and write a check each month. It happens automatically. Not only that, the company may offer a matching contribution. That’s free money! Our clients experience greater success when their savings plan is set on autopilot.

At any time, investors have the ability to increase their investment amount. Unfortunately, as raises and bonuses come, rather than increase their contributions, investors often allow the raise or bonus to be absorbed into their cash flow.

Self-plundering Risk

Participants who view their 401(k) as a savings account or emergency fund fall prey to this particular risk. They access their money by taking loans or withdrawals, diminishing the opportunity for long-term growth. Even if a participant takes a loan and pays it back, they will experience opportunity loss. This is the difference between the interest rate they paid themselves through the loan and the market returns they missed out on. The difference becomes more significant when you compound the missed opportunities over their working years and throughout retirement. Taking early withdrawals is even more damaging. Participants not only miss out on long-term savings and compounding returns, but they will also pay taxes and penalties. The taxes are based on marginal tax rates, but the 10 percent early withdrawal penalty is exact.

For example, say that a participant has a 25 percent federal tax rate and a 5 percent state tax rate. If they were to take a $20,000 withdrawal from their 401(k), they would lose $8,000 (40 percent) to taxes and penalties, netting a meager $12,000. Suddenly that withdrawal doesn’t sound so enticing.

There are many misconceptions regarding risk when it comes to 401(k)s. We want to make sure you are well informed about the benefits and risks in these accounts.

As we see it, a 401(k) is an ideal vehicle that provides us with a tax-preferred way to save for the future. Will a 401(k) be enough to support someone in retirement? Probably not. While most companies offer a company-match to 401(k) participants, many no longer offer pension plans. This makes it paramount that we save more on our own for retirement.

Our investment decisions, savings habits, and our willingness to stick to a plan can prevent us from increasing our risks. Working with one of our wealth consultants can help you make the most of your 401(k) opportunities and avoid some of these risks. Having a plan and making educated choices is just the beginning.

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Can We Really Be Energy Independent?

By | 2013, Money Moxie, Newsletter | No Comments
U.S. Energy Production is on the RiseMajor developments that have led to a boom in the energy industry have placed the United States on track to becoming the largest energy producer in the world, surpassing Saudi Arabia and Russia.1

 

In the State of the Union address, President Obama indicated that “we’re finally poised to control our own energy future.  We produce more oil at home than we have in 15 years.”2

 

According to a Citigroup report titled Energy 2020: Independence Day, “U.S. oil and gas production is evolving so rapidly—and demand is dropping so quickly—that in just five years the U.S. could no longer need to buy oil from any source but Canada.”

 

The International Energy Agency predicts that “the United States will overtake Saudi Arabia to become the world’s biggest oil producer before 2020, and will be energy independent 10 years later.”

 

New technologies like hydraulic-fracturing, or “fracking,” have made the extraction of oil and gas from shale rock profitable.

 

In Utah, towns like Vernal and Roosevelt have had an influx of workers as oil companies race to develop new oil wells. The energy boom in Utah is just a microcosm of what is happening in the nation. More energy production creates jobs, which pump money back into the economy.  It reduces our reliance on foreign countries, which allows us to control our own future.

 

Unfortunately, energy independence by itself may not lead to lower gas prices. Canada is completely energy independent, yet their gasoline costs about the same as ours. This is because there is a global market for oil and there is one price at which it is sold.3 We may only see a decrease in prices if the cost of oil drops globally.

 

Fracking also gives us access to vast natural gas reserves. Some estimates indicate we have over a 100- year supply if consumption remains at 2010 levels.4 Higher supply and lower prices are leading to more manufacturing in the United States.

 

Many power companies are switching to natural gas to fuel their electric plants. Natural gas burns cleaner than coal. Therefore, it is easier for power plants to meet emission standards. This abundance of natural gas has also made energy bills more palatable for cooling in the summer and heating in the winter.

 

The potential benefit of energy independence is not without its hurdles. Environmental concerns, limited infrastructure, and water restrictions have slowed progress. Despite these hurdles, the race towards energy independence sprints forward. Energy independence has become a reality that may improve the economy and your pocketbook.

 

(1) Mark Thompson, “U.S. to Become Biggest Oil Producer – IEA,” CNNMoney, 11/12/12.
(2) http://www.whitehouse.gov/the-press-office/2013/02/12/remarks-president-state-union-address.
(3) David Kestenbaum, “Energy Independence Wouldn’t Make Gasoline Any Cheaper”, NPR, 10/26/12.
(4) Gerri Willis,”What Obama Can’t Take Credit For in SOTU,” Fox Business, 1/24/12.
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A visit to the NYSE!

By | 2013, Travel | No Comments

SFS’s Vice President, Sharla Jessop, had the opportunity to visit the New York Stock Exchange yesterday while attending a national peer to peer study group in New York City, NY. During her stay, she will discuss strategies and ideas to better serve SFS’s clients.

Sharla Jessop at the NYSE

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Top Concern for Small Business Owners: Rising Health Insurance Costs

By | 2013, Money Moxie, Newsletter | No Comments

A recent study by the National Federation of Independent Business ranked “Cost of Health Insurance” the number one concern for small business owners.1 This comes as no surprise as there has been much uncertainty over the impact of the Affordable Care Act, AKA “ObamaCare.”

The Wall Street Journal reports that “while ObamaCare won’t take full effect until 2014, health insurance premiums in the individual market are already rising, and not just because of routine increases in medical costs. Insurers are adjusting premiums now in anticipation of the guaranteed-issue and community-rating mandates starting next year.”2 The largest impact will be for individual coverage, where health care costs in Utah are expected to increase somewhere between 65% and 100%.3 Small employers are also expected to feel a disparate impact. Large employers will be impacted the least.

Whether you supply health insurance for your small business employees or you get alone with individual coverage, you can expect premiums to increase.

While understanding that costs will most likely increase, we also need to remember that one of the benefits of ObamaCare is that many small business owners, employees, and individuals can gain access to healthcare where they didn’t have access before.

For small business owners, there are specific rules governing how your business will be impacted next year based on the number of employees you have. For example, if you have less than 25 employees, you may actually qualify for a tax credit if you contribute 50 percent or more toward employee health insurance. Employers with 25-50 employees will have access to SHOP, the Small Business Health Options Program,
where employers can go to find coverage from a selection of providers in the marketplace. Open enrollment begins October 1, 2013.

It isn’t until you have 50 full-time equivalent employees or more that you may be subject to an “employer shared responsibility payment” beginning in 2014. It is important to understand how all of these rules may impact you. For greater detail please visit SBA.gov and IRS.gov and search for the Affordable Care Act.

So, what should you be doing as a small business owner? First, make sure you understand all of the changes and how they will impact you going forward. Then, if you feel like the cost of your insurance is increasing dramatically, shop around. Smedley Financial Services has access to individual and small business health insurance plans. We can give you a second opinion to see if you can save money or if there is a different type of plan that is more suited to your business structure.

There are so many changes happening in health care that it is hard to keep up. However, with a little research and some expert advice you can remove some of the uncertainty in your life.

1. “Uncertainty Dominates Top 5 Small Business Concerns,” National Federation of Independent Business, http://www.nfib.com/research-foundation/priorities.
2. Merrill Mathews and Mark E. Litow, “ObamaCare’s Health Insurance Sticker Shock,” Wall Street Journal, January 13, 2013.
3. Merrill Mathews and Mark E. Litow, “ObamaCare’s Health Insurance Sticker Shock,” Wall Street Journal, January 13, 2013.

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Patience is a Rewarding Virtue

By | 2013, Money Moxie, Newsletter, Viewpoint | No Comments

What 50 Years of New Highs Looks Like

We have all been taught that the way to make money investing is to “buy low and sell high.” This makes perfect sense, but it is so much easier said than done. The danger in “buy low and sell high” is that it encourages investors to take active risk that may be contrary to their long-term goals. Most investors would do better following a more patient mantra.

Consider the recent highs in the market. On March 5th, 2013, the Dow index closed at a record level: 14,253. The S&P 500 index hit its high on March 28th, 2013, with a close at 1,569. These highs are only exciting to those participating in the growth of the market.

Some may see new highs as a signal to increase risk, others as a reason to decrease it. Keeping in mind that past performance does not guarantee future results, here are some answers to questions asked by the media when such events occur.

Do the new highs matter?
Yes! How else will investors make money? Making new highs is exactly what the market is supposed to do. Sure it doesn’t happen every day or even every year. It took these stock indexes 5½ years to reach their previous highs set on October 9, 2007.

Over the last 50 years, the S&P 500 hit new highs 714 times. It falls frequently, but the long-term trend is up and that is the way it should be.

Can we say that what goes up must come down?
There is always a reason for a rising market, and so a new high is often followed by more highs. The positive momentum and good news often have continued. The average return following a new high is positive for 1, 2, 3, 6, and even 12 months following the high.

Is this time different?
The current bull market is celebrating a birthday this month. (The current bull market began on March 9th, 2009.) It is turning four, which is a long time for a bull to run on Wall Street without interruption.

What could stop the bull?
Consumers are once again financing spending through debt. Their savings have fallen to just 2.6 percent of their income. (See cover story for details.)

Low savings equate to high spending. This is only good over short periods of time. A market rise that goes with it cannot be sustained forever. Eventually, consumers will reach a limit on how much they can borrow and spend.

Human nature is also a constant in the investment world, and it often leads to an over-inflated market as investors become overly optimistic. If it leads to inflation, the Federal Reserve may choose to send interest rates higher on debt.

Are there signs of overheating?
Consumer spending trends may be headed in the wrong direction right now, but they seem far from overextended. In fact, household debt is at historically good levels—the best in over 25 years.

Inflation could become a major concern, but it isn’t right now. North America is on its way to energy independence, possibly by 2020. Take a look at the price of natural gas on your winter heating bills. Prices have been low for energy.

Everyone is beginning to love stocks again. This is a good sign and a reason for caution. Just remember, patience is a rare virtue in the market, and if you have it then you should expect to do better than average. Of course, there are no guarantees.

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The American Dream (and the Cost of Procrastination)

By | 2013, Money Moxie, Newsletter | No Comments
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Most of us hold in our hearts the dream of someday spending our time doing things that bring only fulfillment to our lives and shrugging the requirements outlined by the careers we have chosen. This dream is better known as retirement. Unfortunately, there is a growing trend among Americans—the propensity to “do it tomorrow.”
It is hard to imagine that we unwittingly defeat our own dreams. Here are some insights and a few disturbing facts on how that happens.
Cost of Procrastination
The cost of procrastination
Every year that we fail to put money aside for the future has an impact on our future dreams. For example, let’s say Rich is 25 years old and saves $100 each month for retirement. By the time he is 67 he will have saved over $307,000 (assuming a 7 percent rate of return). Contrast that with Joe who saves the same amount each month and the same growth rate, but waits to start his plan until he is 40. When Joe reaches age 67, he will have saved just over $97,000. That’s a $200,000 difference.
In order for Joe to catch up to Rich by age 67, he would have to save $317 per month. The difference becomes even greater if Rich and Joe contribute to a 401(k) plan where the company matches contributions.
Every year that we delay saving for the future has a significant impact on our ability to reach our financial dream. This is true whether we are 25, 45, or 65. Lack of action thwarts any financial goals.
savings
The result of procrastination
Among U.S. workers, 57 percent said that they have less than $25,000 in total household savings
and investments, excluding the value of their home, according to the Employee Benefit Research Institute.
Since 1973, we have watched the savings rate in the United States drop steadily from its high of 11 percent. In February 2013, the personal saving rate was a paltry 2.6 percent. At this rate it’s no wonder that 28 percent of Americans said they are “not at all confident” that they have saved enough for retirement.
The decline in savings couldn’t come at a worse time. Today’s retirees are faced with longer life spans and higher retirement costs. All of this at a time when only 3 percent of us have a defined benefit plan (pension) through our employers. In addition, we face changes to Social Security benefits. The old three-legged-stool approach to saving for retirement is no longer a viable analogy. The stool has now changed to a pogo stick and we are at the center. The burden to plan and prepare for retirement has been shifted almost entirely to us.
With everyone sounding the alarm, why are we not heeding the call? Simply said, it’s our financial behaviors. Goals are not physically impossible to reach; we simply lack the self-discipline to stick to them.
The battle within
On a daily basis everyone faces the battle between our present self and our future self. We paint a picture of what we want the future to look like, whether it’s retirement, moving to a new home, or building a nest egg. We have a good feeling about the future we’ve projected. But to get to that future point we have to overcome our present self.
Our present self is in power today while our future self is nowhere to be seen. Sure, we want to be happy in retirement, but in order to make that happen we have to feel pain right now. There is only so much money in each paycheck. Saving will require us to give up something we want right now. There’s the pain! We see saving for the future as an immediate loss. It forces us to deviate from our desired lifestyle. We may have to give up something we want now—a bigger home, a new car, or a vacation—to have the lifestyle we want later. We are constantly forced to make decisions that deny us of immediate gratification and quite frankly, it’s hard.
The commitment device
Sticking to our goals first requires us to set goals. We are not generally driven or motivated by facts and figures. Decisions are strongly driven by our emotions.
How do we feel about the outcome of a decision? Incorporating the emotional side of planning with the facts, will help us to create a commitment device. The value of a commitment device is that we can attach a feeling, present and future, to the decisions we make.
What is most important to us today? How do we want the future to look? What lifestyle do we want to live during retirement? These are just a few of the ideas that must be considered when designing our future dreams. Our answers help direct us in creating a template that can be used in our financial plan.
In creating financial and retirement plans for our clients we begin with their personal values and goals. This helps us to match the present self with the future self in mapping out a plan to help reach those goals. By meeting with our clients regularly we help keep them focused on the end result.
The three legged stool approach to retirement savings is no longer a viable analogy.

The three legged stool approach to retirement savings is no longer a viable analogy.

Maybe it’s time for you to create a plan. Maybe it’s time for an update or review. Or perhaps you know someone else who could benefit from having a plan. Contact one of our wealth management consultants and find out how we can help. Your success is our goal.
Research by Smedley Financial Services, Inc.® For illustrative purposes only. Not intended as an actual situation or as a recommendation. Sources: Employee Benefit Research Institute and U.S. Department of Commerce.
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Becoming Financially Aware

By | 2013, Executive Message, Money Moxie, Newsletter | No Comments

Dear Valued Clients and Friends,

Over the years, people I randomly see will almost always ask my opinion about the market, gold, the economy, etc. They might say that they successfully got out of the market, but they never knew when to get back in. As a result they never did get back in the market.

I simply tell these good folks that “making those tough decisions is exactly what we do for our clients at Smedley Financial.”

Our best clients are those that have a good financial education. By that I mean they understand what we are striving to do for them in terms of protecting and growing their wealth. This is all done with respect to our clients’ goals, resources, ages, and risk tolerances. We don’t want our clients to outlive their resources. We want their money to last as long as they do!

Investment management and financial planning are not simply one-time events, but rather they are ongoing, living, and dynamic processes. Regular communications and visits are more essential than ever with respect to life’s events, financial and otherwise.

We invite you to come in and see us or call us so that we can be of the most service and benefit to you.

Bullish Best Wishes,

Roger M. Smedley, CFP®
President

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IRA Charitable Distributions Are Back!

By | 2013, Money Moxie, Newsletter | No Comments

For those of you over age 70 ½, a very beneficial tax law is back in the books thanks to the agreement reached by Congress on January 1, 2013. The tax break allows you to donate IRA money directly to a charity and avoid paying any tax on the distribution. Even better, the distribution still counts toward your Required Minimum Distribution.

This tax break was off the books for all of 2012 and then retroactively added in January of 2013 (too little too late). Those who took advantage of it in 2011, or before, will be glad it is back. Officially it is called a Qualified Charitable Distribution or QCD.

So, what is the difference between making a QCD directly to a charity or taking the money and then donating it to the charity personally? Let’s look at an example.

Let’s say Henry decides to withdraw the money first and then donate to a charity. If his required minimum distribution was $10,000, he would have to take the distribution and withhold taxes. For this article, let’s assume Henry must withhold 15% for federal tax and 5% for state tax, or $2,000 in taxes. That means he would get a check for $8,000. Henry would then deposit that check in his checking account and write out a personal check to his charity. Next year Henry would get to include the $8,000 as a deduction on his taxes. However, the deduction only reduces his taxes a fraction of the $8,000.

The other option is for Henry to donate the $10,000 directly to a charity. He doesn’t have to pay anything in taxes and his charity is benefited by the full $10,000. The decision seems to be fairly easy.

If you plan to donate money to a charity and you have to take a Required Minimum Distribution this year, give us a call so we can help you take full advantage of this reinstated tax law.

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Elections Over. Fiscal Cliff in Focus.

By | 2013, Money Moxie, Newsletter | No Comments
Stocks started 2012 with solid gains and then added to them during the year. Most major asset classes made money during the year.
Despite being three years into the current economic recovery, stocks and many other risky assets started 2013 with a bang. Small cap stocks, international stocks, and high yield bonds have been particularly good thus far. Resolution of the Fiscal Cliff was clearly the initial factor, but there are other fundamental contributors to current optimism as well.  The following data points are available from the Federal Reserve Bank of St. Louis.
• Oil production continues to grow within the United States thanks to hydraulic fracturing or “fracking.” Natural gas production, which is growing from the same process, is also likely to continue at its elevated levels. This industry has provided jobs to approximately 50,000 workers in the last three years and is still increasing its employment numbers at a rate of 6.5 percent.
• The growth in the supply of natural gas and oil has also provided lower energy costs for consumers and manufacturing. After 10 straight years of job losses in manufacturing, this industry is now experiencing three years of employment growth around 2 percent.
• Consumers are in a better position to increase spending and saving. Household debt is 10.5% of disposable income, which is the best level since the early 1980s.
• The housing market is improving. Prices of existing homes rose over 4% (Case-Shiller 20 City Index) in the last year. Housing starts and permits are each up 20%.
• Even after the recovery began in 2009, state and local governments were reducing their work force. This placed a short-term drag on the economy by reducing consumer confidence and spending. Half a million workers lost their jobs. Now it appears that many of these governments have their fiscal house in order.
The hemorrhaging may have run its course. The negative factors may now turn positive.
• Inflation, measured by CPI, is just below 2 percent. This will provide the Federal Reserve the flexibility to continue to focus on stimulating the economy in order to create more jobs. The efforts of the Federal Reserve are certainly a large part of the current recovery and will likely continue to play a role in 2013.
Of course, all this opportunity for growth comes with a price. Investors don’t have to love risk, but they do have to live with it. It is a tool to be managed carefully in order to participate in the long-term benefits of investing.
Many of the positive factors that drove the market upward last year are still in place this year. Indeed, the current year started off with a similar jump as that in 2012. While history will not repeat itself exactly, hopefully it will rhyme.
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