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In This Issue:
by Stephen J. Butler The book “Who Moved My Cheese?” by Spencer Johnson, M.D. has been on the bestseller list for many, many months. Barnes & Noble is getting so sick of it that they are limiting their bestseller list to just twelve months. No matter how well you are selling after that, your book doesn’t get to be on the list anymore. I finally broke down and bought a copy of “Cheese” (on sale at 30% off) because I had to understand why this book sold millions while my book, “401(k) Today,” has only sold in the thousands. The basic premise of “Cheese,” which you can read in twenty minutes, is this: Situations change and we need to change with them. Our biggest fear is fear itself. We will hang on to a situation that is familiar and comfortable even if our world is crumbling around us. We can apply this condition to our professional lives, our relationships, and of course, our retirement nest eggs. A friend once told me, “You know, I’ve worried all my life and nothing really bad has happened yet, so it’s an approach to life that works for me.” Unfortunately, most fear and worry is irrational and a waste of energy. The stock market is a pure expression of the giant swings of emotional fervor that shape the behavior of investors. We can argue that the true value of the stock market is the average historical Price Earnings ratio, but the investing public bids this ratio up and down and creates, in effect, a barometer of public angst. So who DID move our cheese? And what are we going to do about it? Werner Erhard (remember him?) of the EST Training program used to say that the only difference between human beings and rats was that rats went down another path in the maze when they couldn’t find cheese in the usual place. Humans, by comparison, just keep on going down the same path over and over. “Cheese” talks about the need to develop a comfort level with change. The ultimate message of the book is that change is generally a good, stimulating experience. Managed effectively, change can snap us out of our lethargy and lead to a more fulfilling experience of life. Do we need a few examples from the investment world? Let’s start with the plunging rates of Certificates of Deposit (CD’s.) This steep decline should prompt retirees living on fixed income investments to explore other investment vehicles that pay higher rates of interest. Forced by circumstances to take on a bit more risk, we can learn that what we thought was more risk goes away with more time. Meanwhile, we are left with more money. Terrorists in America? Their threat may change the level of civil liberties we enjoy in a free and open society. It is very difficult to say how the recent events will impact our lives over the next five or ten years. Capturing or eliminating Mr. Bin Laden will hardly mark the end of this struggle. For any stated call for a suicide bomber, there are reportedly as many as ten volunteers. However, an entire industrial world is adversely impacted by what happened in New York, so worldwide intelligence and crime-fighting techniques will make it more difficult for the “fish to swim in the sea” (as Mao used to say of his infiltrators.) Bumping fuel taxes by two or more dollars per gallon (creating European fuel prices) may be the only way to wean ourselves from the tremendous demand for oil that influences our judgments about Middle Eastern politics. The root cause of our worst diplomatic mistakes in the region appears to be the imperative for stabilizing oil production. Imagine how we would be treating Cuba today if there was oil under that island country. We’re living the old STP oil treatment commercial, “Pay me now or pay me later.” A high tax today will encourage and help pay for alternate forms of energy and stave off the day when our progeny will be living like the characters in the Mel Gibson movie “Road Warrior” — battling for the last few drops of gasoline on the planet. Meanwhile, the extra tax dollars can help to pay for our immediate and expensive war against terrorism. Archibald Cox, the special counsel during the Nixon-era Watergate hearings, once told dispirited young Washington staffers that, sure, working for the U.S. Government could be depressing. He quoted Harry Truman who once said, “if you want a friend in Washington, get a dog.” However, Cox went on to say that we all needed to learn to “take joy in the endeavor.” It was the effort of at least trying to make a change that we needed to appreciate and enjoy. Doctor Johnson points out in “Cheese” how the preoccupation of searching for new cheese pushes aside the fear of change and leads to a feeling of exhilaration. Many of us search elsewhere in the maze for the rest of the cheese. We will have to work harder, think more and teach ourselves to enjoy this new “lifestyle.” It reminds me of an acquaintance named Fred who, in his nineties, used to swim every morning at a local pool. He talked about how he once used to win long distance swimming events. At the sound of the gun, he said he would start by swimming as hard and as fast as he possibly could, and then GRADUALLY INCREASE HIS PACE. We shouldn’t count on the stock market snapping right back as it did in ’87. Combining an economic downturn with a war against terrorists increases the matrix of challenges the market will need to overcome. In the meantime, we have a greater opportunity to add money to retirement savings at deeply discounted prices. If we’ve been contributing regularly as much as we thought we could afford, it may be time to GRADUALLY INCREASE OUR PACE. The cheese, after all, has been moved. We need to scamper down other tunnels for creative ideas about how to adjust. Janis Joplin
had it right when she sang, “Freedom’s just another
word for nothin’ left to lose.” She describes a condition
that many of us could be experiencing today when we look at
our mutual fund and retirement plan statements. We weren’t
planning to spend all the money all at once anyway, so what
difference does it make if it has dropped in value for awhile.
It’s an excuse to go look for other cheese and to take
joy in that endeavor.
by Stephen J. Butler A nation of investors, psychologically bludgeoned by the numbers on their Sept. 30 account statements, would do well to recall the song by Bobby McFerrin entitled, “Don’t Worry; Be Happy.” Apart from being a popular song in 1992, as well as an unofficial theme song for the original George Bush campaign, the song offers a useful message at times like these. “In
every life we have some trouble... To the extent we are bothered by our investment results, it may be helpful to take a few chapters from the book of neuroscience. This is the relatively new study of the brain which holds that we do not begin as a blank sheet of paper waiting to be impacted by environment. We are, instead, like a film where the picture has already been taken, and we are waiting to be developed. Even our sense of morality is dictated by generations of genetic imprinting. An Analog Computer The brain itself, a chemical analog computer, can be mapped and our pre-programmed “software” can be determined. In recent years, conventions of neuroscientists have attracted more than 20,000 participants, which puts them in the ranks of the largest professional gatherings. By now, you’re probably asking, “Where have I been? What am I pre-programmed to do from here on out.” Studies based on neuroscience indicate that individuals experience a given level of happiness regardless of what is going on in their personal or financial lives. Of course, any one person experiences periodic bouts of pleasure or sadness, but they return to equilibrium at some level that is pre-programmed. And different people wind up at different natural levels of equilibrium. How does this all relate to the disappointment triggered by the market crash? If you are really upset, it could be that you were pre-programmed to be generally unhappy anyway. If you are taking it in stride and don’t feel too bothered or consumed by your 30 percent loss, you may be someone who is conditioned to always be walking “on the sunny side of the street.” The danger lies at the two opposing ends of the spectrum. Someone who is too happy and optimistic may make bad financial decisions that fail to provide enough cushion against the down side. Someone who is perpetually unhappy for reasons they have not fully explored may allow the recent market declines to plunge them into a catatonic state. A Matter of Time In either case, the best course of action is to wait. The advice generally given to a surviving spouse after the death of a husband or wife is to not make any big decisions for a while. Don’t sell the house right away, etc. The plunge of the stock market and the attack on the World Trade Center should prompt us to consider the same advice. A long article in the New York Times recently interviewed a blue ribbon slate of leading financial figures, and there was no consensus among them as to when the economy or the stock market would turn around. The best antidote to the threat of making rash decisions and costly mistakes may be to use this opportunity to forget about money and investing for a while. A dinner partner at a recent wedding said she had found herself eating and drinking more in the weeks since the attack. (Let’s get a grip.) She also said she found herself reassessing and focusing on what was really important in her life. There’s a message here for all of us. It is important to keep saving and investing. It is also important to consider how we are spending our time and money. Do we really need that next purchase, whatever it might be? Would the money be better spent paying off some credit card or mortgage debt? And what about our health? Yoga was invented about 4,000 years ago to help Hindus extend the last third of their lives, which they devoted to spiritual awakening. Still in print today, after 30 years and millions of copies sold, is a book by Jesse Stern called “Yoga, Youth and Reincarnation.” This is an excellent time to read this inspirational book that may help preserve our health and help us last long enough to far outlive this economic downturn. Frustrated by a lack of understanding about the people in the Middle East that are causing us all this anguish? One of the best books on the subject is “From Beirut to Jerusalem” by Thomas Friedman. It reads like a novel, but it’s a true story of his life over the years as a New York Times correspondent in the Middle East. Most important, it aids in understanding of how people of the Arab world think. A retired Bechtel engineer told me years ago that “west of the Bosporus it’s a different world.” We are certainly finding that out now. Anytime we can gain understanding, however, it helps to reduce our fear and anxiety. This book is a tonic in that respect. All in all, there isn’t much we can do about events unfolding in the political and financial world. By any measure, they represent a disaster. When 70 percent of our success as investors is a function of what the market as a whole is doing, we are definitely paddling upstream if we expect to be putting up investment gains in the face of this downturn. Our best bet is to avoid doing anything rash and to use these events as a catalyst for change. This may be the time to fold our tents as self-styled investment experts and focus on improving other aspects of our lives...like our health and our relationships. “cause
when you worry
by Stephen J. Butler A sail in San Francisco Bay can mean a plunge into the line of fog that streams from the open sea through the wind tunnel provided by the Golden Gate. The skies can be clear north and south of this direct line, but visibility within the fog bank is limited to about 20 yards. As the skipper, I have to tune out the fog and focus on the compass. On a recent night sail, coming back to San Francisco from Sausalito in this dense fog bank, one of my nervous guests interrupted my concentration by asking what I thought the market was going to do. I had to tell her that I had no clue. Nobody else knows for certain either, although many may think or claim to know. Any guess has a 50 percent chance of being right. Whether or not the stock market can pull out of its decline is a question in every investor’s mind right now, professionals and laymen alike. Ironically, it is probably the wrong question to be asking. Instead, we should be asking ourselves, “What are my circumstances and goals, and what role can stocks be expected to play in meeting my expectations?” Sailing through the bay fog offers a perfect metaphor. North and south of the fog, we have Marin County and San Francisco shining under clear skies, night or day. Both areas have always offered tremendous opportunities. In a similar fashion, the stock market has always offered opportunities sooner or later, but we have to cope with the fog of uncertainty now and then. We are certainly not alone. Experts these days offer what qualifies as the World Cup of conflicting opinion. For example, the New York Times Sunday business section recently offered an article about economist/authors Robert Shiller (“Irrational Exuberance”) and Jeremy Siegel (“Stocks for the Long Run.”) These two experts are at polar opposites about the market’s prospects. They’ve been friends for 35 years, since graduate school at MIT, and they vacation together with their families. If we, as average investors, think we are torn between conflicting signals of future market moves, imagine what it would be like to be a fly on the wall during two weeks at the beach listening to the idle conversation of these scholars. In essence, the Shiller-Siegel argument boils down to whether the time-worn phrase “this time it’s different” has validity. Siegel maintains that price/ earnings (P/E) ratios will be higher because there is less risk in equities today thanks to new tools for controlling the economy. In addition, a much larger stock-buying public understands the market forces and is less inclined to panic. This is proving to be the case in 401(k) plans, as proportionately few participants have bailed out of plummeting mutual funds. (Some 401(k) accounts, in recent months, have become “201(k) accounts.”) Shiller, meanwhile, thinks that market declines will be common in the years ahead. He is pessimistic about the possibility that companies will continue to be increasingly productive. In fact, Shiller believes that prices are still unreasonably high even now. He also makes the interesting point that higher productivity at a company leads to higher profits and then more competition. In the end, it becomes a zero-sum game for companies in any particular industry, but the public benefits because the product becomes cheaper. This economic fundamental contributes to Shiller’s general pessimism. If the economy fails to support ever-increasing profits, then the engine driving those optimistic predictions of “Dow 36,000” will stall. Let’s step out of this exalted academic debate for a moment. In Jackson Hole, Wyo., recently, Larry Summers, the Treasury Secretary, reported that he is convinced that the magic figure of a 2.5 percent increase in productivity will continue. Others at the same economic summit conference were skeptical. Alan Greenspan was said to have had “egg on his face” for assuming several months ago that his interest rate cuts would prop up the economy. So, in the real world, how should we be investing our retirement assets? Siegel has a heavy concentration of total stock market mutual funds. This is consistent with my mantra, wherein the “path of minimum regret” can be achieved by spreading money over many different styles of investments. A total market fund accomplishes that automatically. Siegel also allocates money to some foreign stock mutual funds to further diversify. He strives to keep investment costs as low as possible. Shiller, on the other hand, invests in real estate mutual funds (REITs) and bonds. He has not owned individual stocks since 1998, according to the New York Times article. The bottom line is that nobody can know with any certainty what the economic future holds. When investing our own retirement money, the best we can do is to determine our own future needs and understand the degree to which different investment types can be expected to help us meet those needs. The market, after all, will fluctuate and we shouldn’t be surprised when it does. The standard deviation of the Standard and Poor’s 500 stock index over any 10-year period is about 15 percent. This means that if the average return is 10 percent, we can expect results of anywhere from 25 percent to minus-5 percent in about two-thirds of the years. Five percent of the time, we can expect a deviation of 30 percent, which would mean a 40 percent gain or a 20 percent loss. Shocked by the wide swing of those numbers? Don’t be. That 20 percent loss has just happened, and it came on the heels of several years of almost 30 percent gains. Remember. An “average year” is just theoretical. The stock market rarely has that “perfect 10 percent.” Investing in individual stocks does not offer the diversification of a broad cross section of stocks offered by a mutual fund, or better yet, an S&P 500 mutual fund. A single stock has a much greater standard deviation than most mutual funds. Therefore, many people lost more in recent months because they failed to subscribe to the diversification axiom. If you have 10 to 20 more years to the midpoint of your retirement years, a broad-based stock portfolio should continue as a major component of your nest egg. Adding more contributions during the current downdraft will only improve your ultimate results. Sailing through the fog with confidence is part of the process of becoming a sophisticated investor. However, it is easy to get disoriented and lost in the haze of economic confusion. This is when many people fall prey to advisers who claim to know all the answers, and the resulting abrupt changes in portfolios can be devastating. Remember, any advisers predicting the future of the stock market have a 50 percent chance of being correct. With these reasonably good odds, it is laughable to see how rarely the newsletter writers and analysts are correct at picking market turns. In short, we are on our own. Our most valuable tools continue to be an understanding and application of investment fundamentals.
By Rich Eaton Don't Lose Money Great headline: easy to remember, but what does it mean, really? Every day we are pounded with tales of market gains and losses, and stories about how people have gained or lost millions in their investments. Some of this is fact; much is fiction—unless we are talking exclusively about speculation and speculators or about people who are investing with OPM (other People’s Money). Here’s a tip: what you stand to lose as an investor is the amount you paid, adjusted for inflation. The rest is not negotiable (spendable) until you cash out. In the end you are really OK as long as your inflation-adjusted investment dollars are intact when you cash out. Now, if you are a speculator, your risk is high that your investment will be lost, because you are geared to cash out in the short-term. If, on the other hand, you are a long-term investor, the risk of losing your investment dollars decreases more as time passes. In fact, history tells us that the market is the least risky and most profitable place for an investor to have their money in the long term. So, to not lose money, your best bet (pun intended) is to invest for the long-term. Here’s another tip: the pundits are at odds with each other in this market. Actually, they are at odds with each other in any market, which calls into question what they know, really. It also calls their motives into question. But, since we are into sayings in this issue, let’s remember the saying “better the devil you know than the one you don’t”. Understand the issues because they will help you make wise investing choices. But (here’s another one) “believe nothing that you hear and only half of what you see” and you and your money will be fine. A Final Tip repeated from our last issue because it is so important to remember these days: A study done on the 31-year period from 1963 to 1993 showed that $10,000 invested at the beginning of that period and left in the market without making any changes to the portfolio would have grown to over $240,000. But, if the money had been taken out of the market for any reason one day at a time for only the best 90 days of that period, the $10,000 investment would have grown to just $21,000. Now, similar results on the upside would have occurred had you taken your money out day-by-day during the worst 90 days. The point in each case is: how could you possibly know when those days would happen? Moving in and out of the market increases capital risk and decreases investment growth. Successful long-term investors don’t do it.
by Rich Eaton Chill Out Anyone who pays even passing attention to the markets these days has to be confounded by the ups and downs. On November 30th the Dow finished at 9851, 4% below its late August Index and 9% below its year-end 2000 level. The Total market as measured by the Wilshire 5000 stood at 10,531, 21% above its 52 week low and 8% below its 52 week high. Elsewhere in this issue we are treated to other statistics that re-enforce the notion that statistics tell us little about current events but do prove useful when taking the long view. When the market was booming, we counseled to avoid “Irrational Exuberance”. Now the counsel is “Stay the Course”. Sayings are good, especially for investors. They settle the stomach. There are a number of them to be found in this issue. Here’s another: “Rising markets are for sellers”. Warren Buffet said that, or something like it, and he is right. Another saying that is appropriate in times like these is: “Don’t put all your eggs in one basket”. Take the three following mutual fund examples as a guide: Vanguard Asset Allocation Fund-down 12.5% for the 9 months ended 9/30/01. This fund is characterized as “Balanced”, is aggressively managed, and invests mainly in stocks and bonds. Vanguard Wellesley Income Fund-up 6.2% for the 9 months ended 9/30/01. This fund is also characterized as “Balanced”, is conservatively managed and invests mainly in stocks and bonds. Dodge and Cox Stock Fund-down 3% for the 9 months ended 9/30/01. This fund is characterized as a Growth and Income fund, is conservatively managed and invests almost entirely in stocks. In terms of a saying used frequently in these pages, this example points up how diversification amounts to taking “the path of minimum regret”. If you had $10,000 invested in each of these funds at the beginning of 2001, your $30,000 would have decreased 7% this year. That’s certainly not any worse than how the Dow and other indexes have fared. The results are better than the worst performer and worse than the best performer. In the end that’s a metaphor for the market as a whole. And it’s what you should expect. Chill out: manage your expectations and continue to invest. The long-term investor has an opportunity to buy more for less these days and maximize gains in the long-term. Remember that rising markets are for sellers; that being true, it follows that declining markets are for buyers.
By Rich Eaton INDEXES Fixed
Mortgage Home Equity Loan – 7.1% New Car, 48 Month Loan – 7.36% INTERNET
SITES www.slc2002.org www.savingforcollege.com DOW JONES
AVERAGES
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