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How Much Money Should You Give Your Children as an Inheritance?

By | 2016, Money Moxie, Newsletter | No Comments

“Part of the reason for believing that my wealth should be given back to society, and not, in any substantial percentage, be passed on to my children, is that I don’t think it would be good for them. They really need to get out and work and contribute to society. I think that’s an important element of a fulfilling life.” –Bill Gates, richest person in the world.1

Bill Gates touches on a defining question with which many parents struggle: How do we provide financial security for our children while ensuring they will achieve it on their own? How do we ensure a financial inheritance will help and not hinder their life’s journey? Too many times we see the rising generation become entitled and trapped by the very assets that are supposed to give them freedom. One unfortunate fact is that 70 percent of “rich” families lose their wealth by the 2nd generation and 90 percent by the 3rd generation.2

This same fact applies to most families; most assets that are accumulated by the 1st generation are squandered by the 3rd generation.

So, what can be done to pass on assets to children successfully and how much should you give?

Communicate with your children
The number one rule is communicate, communicate, communicate. The “we’re not going to talk about it” mentality often breeds mistrust and misinformation. If you don’t involve your children in the process, you are robbing them of financial training as well as ownership. You need your children to be involved in the process so that it becomes their future and not just what mom and dad “want.” That being said, financial discussions can be a very touchy subject and each family dynamic is unique. As you start into the process, remind everyone to work to keep the process open and honest.

Define a purpose
“If you don’t know where you are going, any road will take you there.”3 Successful families don’t just pass on assets, they pass on their legacy. Together, with your children, you should define the meaning and purpose of your money. Often this takes the shape of family stories that share values. These values direct how the money is used to benefit the family and society. Based on this you can then take some time to translate your values and legacy into goals.

Define an amount
When you have goals established, then you can assign monetary values, which will help determine the appropriate amount to pass on as an inheritance. For example, if you value the freedom to give back to the community, you could establish a base level of income for your children that will give them the freedom to pursue careers that may not be very lucrative, but have a high impact on the community. Other examples can be funds for education, a down payment on a primary residence, a family cabin to promote family togetherness, a medical emergency fund, a business opportunity fund, or a security fund.

The intent would be to provide a measure of freedom without dramatically changing the child’s lifestyle. Any amount that goes beyond providing a measure of freedom is discretionary and is not needed. Excess money can also lead to a shadow side of freedom – dependence or freedom without self-discipline.

There is a large difference between passing on assets and passing on a legacy. If you involve your children in the process and base your inheritance decisions on a purpose, you can leave the right amount of money to your children while creating a rewarding experience for both.

  1. http://www.forbes.com/sites/luisakroll/2016/03/01/forbes-2016-worlds-billionaires-meet-the-richest-people-on-the-planet/#71fac38041cb
  2. http://time.com/money/3925308/rich-families-lose-wealth/
  3. Alice in Wonderland

Smedley Financial and its employees do not provide legal advice. It is important to coordinate with your legal advisor regarding your situation.

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Embracing Average

By | 2014, Money Moxie, Newsletter | No Comments

In what area of your life is it okay to shoot for average? In your financial life! In all other areas we strive to be above average. Pushing for higher achievement makes sense when it comes to career opportunities, participating in sports, or setting goals. When it comes to investing, however, reaching for above-average returns can be financial madness.

Striving to get the highest return possible at any risk can be devastating to investment portfolios. It encourages investors to take on too much risk without properly assessing the downside possibilities. It emboldens investors to believe they can predict a future outcome when in reality no one can accurately or consistently predict future market movements.

Embracing Average

When analyzing portfolio returns, investors often use market indexes as the benchmark by which they measure their personal investment performance. If they outperform the chosen index they feel empowered. In contrast, if they underperform that index, they feel they are failing financially. Standards for measuring long-term portfolio returns are much more complex. Investors may be well served when they embrace average.

Emotional impact to market volatility varies widely and can be as diverse and unique as we are as individuals. Having said that, similarities exist in the ways investors react.

Throwing in the towel
Volatility tempts even experienced investors to give in at the wrong time. Take for instance an investor who was spooked by the bear market of 2008. Many investors fled the market for good, seeking fixed, low-yielding options for their money. During that bear market period, from October 9, 2007, through March 9, 2009, the S&P 500 lost 56.78 percent. Hypothetically, if after suffering this large loss, the investor moved to an investment growing at 3 percent, it would take more than 28 years to
break even.

Concentrating investment focus
Investing in one area of the market that represents the same sector does not reduce risk. Concentrated sector allocations may cause investors to fall behind when the market heads down. For instance, the S&P 500 represents 500 American large capitalization stocks. Even though there are 500 stocks, they are all part of the same market sector.

A portfolio concentrated in one sector results in greater risk. When that sector of the market heads south, you may quickly forget how great it was on the upside. You have heard us say that when it comes to money the pain of losing is greater than the thrill of winning. As such, a 40 percent loss has a much greater impact on a portfolio than a 40 percent gain. Assuming an investor suffered a loss equivalent to the S&P 500 during the 2008 bear market, he or she would have to gain 131.35 percent, and it would have taken four years to break even. Let’s say that again. For over four years their investments were still below the high point of October 2007.

Timing the market
When left to their reactive behaviors, investors often sabotage their investment performance. Dalbar has long studied the results experienced by investors. Year after year, we see the same information reported. Investors are not able to outperform, let alone keep up with, market returns. This is believed to be the result of chasing returns, becoming overly cautious during periods of increased volatility, and consequently making poor decisions at inopportune times. Outperforming the market every year is an unrealistic goal. If an investor is consistently changing strategies or investments in an effort to get the best return, he or she is missing the value of average returns over longer periods of time. The chart illustrates how investors are falling short of the market. To put it in perspective, a 3 percent increase in return, over 24 years, will double your money.

Embracing average returns
It’s not exciting or flashy, but consistent returns are important in reaching financial goals. This can be accomplished through diversification. As an example, a portfolio with 60 percent allocated to the S&P 500 and 40 percent allocated to fixed-income has a greater chance of smoothing out big market swings. Generally you will not have the hottest returns nor will you suffer the greatest losses. When compared to the same 2008 bear market, the hypothetical 60/40 portfolio would have lost only 35 percent compared to the S&P 500’s 56.78 percent loss. The break-even point comes at just shy of two years as compared to over four. This type of diversified portfolio does not prevent losses but it does help reduce market risk. The result is average returns.

When it comes to investing, the most important factor should be reaching your financial goals with a reasonable amount of risk based on your objectives and risk-tolerance. We believe that if investors avoid the emotions that push them to chase high returns and remember that consistency pays in the long run, they will be better positioned to meet their investment expectations and concurrently their goals.

If it has been awhile since you have reviewed your portfolio, investment strategy, and financial goals, we encourage you to meet with one of our wealth management consultants. Call us to schedule an appointment to meet in person or speak over the phone (800) 748-4788.

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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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