Unhealthy Investment Attachments

Have you ever made yourself suffer through a bad movie because, having paid for the ticket, you felt you had to get your money’s worth? Some people treat investments the same way.

Behavioral economists have a name for this tendency of people and organizations to stick with a losing strategy purely on the basis that they have put so much time and money into it already. It’s called the “sunk cost fallacy.”

Let’s say a couple buys a property next to a freeway, believing that planting trees and double-glazing will block out the noise. Thousands of dollars later, the place is still
unlivable, but they won’t sell because “that would be a waste of money.”

This is an example of a sunk cost. Despite the strong likelihood that you’ll never get your money back, regardless of outcomes, you are reluctant to cut your losses and sell
because that would involve an admission of defeat.

It works like this in the equity market too. People will often speculate on a particular stock on the basis of newspaper articles about prospects for the company or industry.
When those forecasts don’t come to pass, they hold on regardless.

It might be a mining stock that is hyped based on bullish projections for a new tenement. Later, when it becomes clear the prospect is not what its promoters claimed, some
investors will still hold on, based on the erroneous view that they can make their money back.

James Lange, Lange Financial Group, Pittsburgh, Investment

The motivations behind the sunk cost fallacy are understandable. We want our investments to do well, and we don’t want to believe our efforts have been in vain. But there are ways of dealing with this challenge. Here are seven simple rules:

  1. Accept that not every investment will be a winner. Stocks rise and fall based on news and on the markets’ collective view of their prospects. That there is risk around outcomes is why there is the prospect of a return.
  2. While risk and return are related, not every risk is worth taking. Taking big bets on individual stocks or industries leaves you open to idiosyncratic influences like changing technology.
  3. Diversification can help wash away these individual influences. Over time, we know there is a capital market rate of return. But it is not divided equally among stocks or uniformly across time. So spread your risk.
  4. Understand how markets work. If you hear on the news about the great prospects for a particular company or sector, chances are the market already knows that and has priced the security accordingly.
  5. Look to the future, not to the past. The financial news is interesting, but it is about what has already happened, and there is nothing much you can do about that. Investment is about what happens next.
  6. Don’t fall in love with your investments. People often go wrong by sinking emotional capital into a losing stock that they just can’t let go of. It’s easier to maintain discipline if you maintain a little distance from your portfolio. This is one of the huge values a fiduciary advisor can add to your portfolio.
  7. Rebalance regularly. This is another way of staying disciplined. If the equity part of your portfolio has risen in value, you might sell down the winners and put the money into bonds to maintain your desired allocation.

These are simple rules. But they are all practical ways of taking your ego out of the investment process and avoiding the sunk cost fallacy.

There is no single perfect portfolio, by the way. There is, in fact, an infinite number of possibilities, but based on the needs and risk profile of each individual, not on “hot tips” or the views of high-profile financial commentators.

This approach may not be as interesting. But by keeping an emotional distance between yourself and your portfolio, you can avoid some unhealthy attachments.

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Back Door IRA, The Conclusion

Roth-IRA-conversions,James-LangeRecharacterizations

Converting to a Roth IRA also comes with another very unique advantage. The IRS allows you a one-time opportunity to recharacterize or “undo” this conversion by October 15th of the following tax year. IRS publication 590 states that, “a recharacterization allows you to ‘undo’ or ‘reverse’ a rollover or conversion to a Roth IRA. To recharacterize, you generally instruct the trustee of the financial institution holding your Roth IRA to transfer the amount back to a traditional IRA (in a trustee-to-trustee or within the same trustee). If you do this by the due date for your tax return (including extensions), you can treat the contribution as made to the traditional IRA for that year (effectively ignoring the Roth IRA contribution)”. In the case of a Backdoor Roth IRA, you probably won’t think about recharacterizing. However, if you want to explore this option, we are here to help assist you, because like many of the other rules involved this can be complicated.

Conclusion

While Backdoor Roth IRAs can be beneficial to many investors, they aren’t for everyone. They come with their limitations and complications. There are precautions that need to be taken to reap the full benefits of any financial decision. This is an area where a highly informed financial advisor can help you make an educated and calculated decision. You should always consult with your financial advisor and tax professional to help avoid tax ramifications.

As always, we are here to help and can look at your specific financial situation and chart the right path for you. If you are interested in learning more about whether or not a Backdoor Roth would be right for you and your specific situation, please call us and we would be happy to discuss this with you. As always, we enjoy the opportunity to assist you in addressing your financial matters.

Financial Check-Up

 

Complimentary Financial Check-up

If you are currently not a client of The Lange Financial Group, we would like to offer you a complimentary, one-hour, private consultation with one of our professionals at absolutely no cost or obligation to you.

To schedule your financial check-up, please call 412-521-2732 or fill out our Pre-Qualification Form here.

Thank you,
James Lange

 

 

This article is for informational purposes only. This information is not intended to be a substitute for specific individualized tax, legal or investment planning advice as individual situations will vary. For specific advice about your situation, please consult with a lawyer or financial professional.

The Roth IRA offers tax deferral on any earnings in the account. Withdrawals from the account may be tax free, as long as they are considered qualified. Limitations and restrictions may apply. Withdrawals prior to age 59 ½ may result in a 10% IRS penalty tax. Future tax laws can change at any time and may impact the benefits of Roth IRAs. Their tax treatment may change.

Roth IRA account owners should consider the potential tax ramifications, age and contribution deductibility limits in regard to executing a re-characterization of a Roth IRA to a Traditional IRA.

The views stated in this letter are not necessarily the opinion of The Lange Financial Group, LLC, and should not be construed, directly or indirectly, as an offer to buy or sell any securities mentioned herein. Investors should be aware that there are risks inherent in all investments, such as fluctuations in investment principal. With any investment vehicle, past performance is not a guarantee of future results. Material discussed herewith is meant for general illustration and/or informational purposes only, please note that individual situations can vary. Therefore, the information should be relied upon when coordinated with individual professional advice. This material contains forward looking statements and projections. There are no guarantees that these results will be achieved. © Academy of Preferred Financial Advisors, 2014

 

John C. Bogle – A Financial Industry Giant Addresses Congress

John Bogle, The Lange Money Hour, James Lange, Pittsburgh, PA Wednesday, October 1, 2014Join us this Wednesday, October 1 at 7:05 p.m. on KQV 1410 AM for The Lange Money Hour, Where Smart Money Talks.

Program also streams live at www.kqv.com

Encore presentations air on KQV EVERY SUNDAY at 9:00 a.m.

The three legs of America’s retirement system are shaky, neither structurally efficient nor fiscally stable. That’s what the U.S. Senate Finance Committee heard on September 16, during testimony by a man Fortune Magazine labeled one of four giants of American Finance: John C. Bogle, founder and now retired CEO of the Vanguard Group, the world’s largest mutual fund company, with more than 3 trillion dollars under management.

To hear why Mr. Bogle believes the situation is so precarious, tune in tomorrow evening at 7:05, as The Lange Money Hour welcomes him back to the show.

Over the course of his 63-year career, Mr. Bogle has changed the face of investing. A pioneer in the concept of index mutual funds, collective portfolios of stocks that mimic the movement of a defined market sector rather than a selection of individual companies, he is credited with creating the first index fund available to individual investors, the Vanguard 500.

Mr. Bogle has written a dozen books, including his 1994 bestseller Bogle on Mutual Funds to most recently The Clash of the Cultures: Investment vs. Speculation. At 85, he remains an active industry observer, appearing regularly on national financial media outlets. He recently described the personal mission he has set for himself in his retirement – “to speak out for truth and integrity and character in the world of finance, striving to build a better world for investors—honest-to-God, down-to-earth human beings who deserve a fair shake.”

You can watch his 6-minute Congressional testimony here:

http://johncbogle.com/wordpress/2014/09/17/testimony-before-the-senate-finance-committee-september-16-2014/

We’re honored to have Mr. Bogle back as a guest on The Lange Money Hour. Please plan to join us Wednesday, Oct. 1, 2014 at 7:05 on KQV 1410 for an interesting and informative hour. The program will also stream live at www.kqv.com.

If you can’t tune in October 1, 2104, KQV will rebroadcast the show at 9:00 a.m. this Sunday. You can also access the audio archive of past programs including written transcripts on the Lange Financial Group website, www.paytaxeslater.com. Click on RADIO.

Finally, mark your calendar for Wednesday, October 15th at 7:05 p.m., when Pittsburgh City Controller Michael Lamb will join us for the next new edition of The Lange Money Hour.

 

Tomorrow’s Radio Show: Supporting the Four Corners of your Financial House

Join us tomorrow evening at 7:05 pm on KQV 1410 AM. Program also streams live at www.kqv.com. Encore presentations air EVERY SUNDAY at 9:05 am.

Most people recognize that proper asset allocation is essential to the long-term financial success of their retirement planning, but too many investors fail to consider all the factors of their situation.

For perspectives on making sure all four corners of your financial house are supported with leading edge solutions, tune in tomorrow evening, Wednesday, June 18th, at 7:05 p.m. when The Lange Money Hour welcomes P.J. DiNuzzo, CPA, PFS®, AIF®, MBA, MSTx back to the show.

A nationally recognized expert in investment management, P.J. has been featured in numerous business publications and TV shows. Approved as one of the first 100 Dimensional Fund Advisors (DFA), he is rated a 5-Star Advisor by Paladin Registry/Investor WatchDog, ranking in the top 1% of America’s more than 800,000 investment advisors. Based in the Pittsburgh area, his firm, DiNuzzo Index Advisors, also consistently ranks among the county’s top 500 investment companies.

Among other topics, Jim and P.J. will discuss are the “Advisor Alpha” and the benefits of “one stop shopping.”

Since tomorrow’s show will be live, you can join the conversation by calling the KQV studios at 412-333-9385 after 7:05 p.m. Email questions in advance by clicking here.

In addition to being broadcast at KQV 1410 AM, the show will be simultaneously live-streamed at www.kqv.com.  KQV will also rebroadcast the show this Sunday, June 22nd, at 9:05 a.m. The audio will also be archived on our web site at www.paytaxeslater.com/radioshow.php, along with a written transcript.

Finally mark your calendar for Wednesday, July 2nd at 7:05 p.m., when Jim will welcome back Larry Kotlikoff, a nationally recognized Social Security expert, to the next new edition of The Lange Money Hour.

 

Three Financial Pioneers Create the Power of Index Investing

The Conception of Index Investing

In 1974 John Bogle founded and created The Vanguard Group – now one the world’s largest mutual fund companies offering 120 different mutual funds holding over $1 trillion.  In 1975, Mr. Bogle championed the first low-cost, index fund which transformed the mutual fund industry crediting him with the title “Father of Index Investing”.    His investment philosophy was simple; it advocated capturing market returns by investing in broad-based index mutual funds that are characterized as no-load, low-cost, low-turnover and passively managed.

Bogle felt that indexing was a logically compelling method of investing. “In the world of investing, there are very, very few sure things. But the closest thing to a sure thing is that the Wilshire 5000 index will outperform actively-managed funds by 1.5 to 2 percentage points a year over a sustained period. The logic behind this startling fact is as follows:  all mutual fund managers together provide average investment performance, but in fact, investing in an index fund that matches the average market return can be your best chance of getting an above average return compared to other non-indexing investors.

His theory was supported by three crucial points: superior diversification/allocation, lower annual operating expenses and lower taxes.  Bogle felt that indexers had the advantage of these three things plus steady, cumulative power of broad diversification and lower expenses, not just short pockets of strong investment performance such as in 1995, 1996 and 1997.

 

People Begin to Take Notice

After 3 years of excellent performance, two the world’s most respected financial experts took notice and began to research Bogle’s theories – they wanted to take an acadeic approach to proving his theories.  Rex Sinquefield and Roger Ibbotson sought out to create strong theoretical support for indexing and they did just that. In 1979 they published Stocks, Bonds, Bills and Inflation (SSBI) which is now updated annually and serves as the standard reference for informaiton on investment market returns.  Together Sinquefield and Ibbotson executed a large volume of academic studies examining the performances of mutual funds under actual market conditions establishing, very convincingly, that the ‘beat the market’ efforts of investors who pick stocks and time markets are impressively and overwhelmingly negative. In contrast, they found that indexing stands on solid theoretical grounds, has enormous empirical support and works very well for investors. The message ofindexing is therefore unmistakably obvious: they found that the only consistent superior performer is the market itself and the only way to capture that superior consistency is to invest in a properly diversified portfolio of index funds.

After publishing their study, Sinquefield became the co-chairman for Dimentional Fund Advisors, an index mutual fund manager that began in 1981 – a company that now holds $227.6 billion in assets.  Roger Ibbotson, who was already a professor at Yale, founded Ibbotson and Associates which continued to focus on bridging the gap between academic knowledge and industry practice on asset allocation.  For over 30 years Roger Ibbotson has been committed to delivering innovative asset allocation solutions, helping investors reach their financial goals and providing asset allocation thought leadership to money managers, mutual fund companies and other investors all over the globe.  Still today, Ibbotson supports his roots and is a Board Member, one of 9 “Academic Leaders”, which advises Dimentional Fund Avisors – the world’s leading index mutual fund manager.

You owe it to yourself to check out the benefits of index investing…