As of the December 16, 2016, the Dow Jones Industrial Average closed at 19,843 according to MarketWatch, which is within striking distance from the pivotal 20,000 milestone. But a party like 1999 may turn into one like 1929. We’re seeing the final evolution of the ‘bull market psychology’ as investors give in to the ‘if you can’t beat ‘em, join ‘em mentality. Hence, the spike in ‘passive investing’ interest, said Lance Roberts, chief investment strategist at Clarity Financial on November 29, 2016. In the MarketWatch interview, Roberts went on to say, But there is no such thing as passive investing. Investors are planning to hold and hope which does have advantages. The case for a traditional euphoria-driven bull market rally that feels like a smooth sailing situation can change dramatically when the weather changes drastically, causing severe market losses at the same time income for any reason is being taken.
A situation you can see
I don’t have a crystal ball, so I can’t see the future either, but here is what I can see. In 2017 Donald Trump, Bill Clinton, and George Walker Bush will all celebrate turning 71, reports Wikipedia. They are all born in 1946 and lead the 76 million strong Baby Boomers, with Michelle Obama born 1964 at the end of the bunch turning 53 next year. The first wave must start taking withdrawals from most retirement accounts at 70.6 and the IRS mandated Required Minimum Distribution rate begins at 3.65% of the previous year account balance, according to IRS.gov/ retirement.
Investor’s Advantage Corp. for percentage calculations
To help you see the picture here, we have set the withdrawal ages apart by 5 years. A withdrawal rate around 3%-4% seems not only necessary and reasonable, but pretty innocuous even when 100% taxed at federal and state. At 71 the IRS Require Minimum Distribution rate increases to 3.77%, as the government is resolute that you must take withdrawals and pay the tax as you do. In his workshops my friend Ed Slott, CPA, founder of Ed Slott and Company, says that our respective accounting and financial planning industries must help investors see how “these tax-infested accounts really work over time.” As you see what is ahead of you, you may be better able to plan. Look ahead to see how much income will be taxed vs tax controlled or not taxed at all.
If you don’t need the money does it really matter if that account is up 50% or down 50%? Not so much. It’s when you do need the money or you don’t have the time in the market that matters. Please take the time to see what you can learn from what happened 2007-2009. Let’s consider this hypothetical scenario. If your account was off -46% or more, what could you have done to limit your losses to -20% or less? Taking the time now to prepare for the unexpected may help you to be better prepared for the next time. Whether that next ‘Oh shucks’ moment is 6 months or 6 years from now.
“Learn from the past, prepare for the future, live in the present.” - Thomas S. Monson
But suppose the last time things got ugly was when you took your 3% withdrawal. “After all, from the end of 2007 to March 2009, the stock market fell -57%,” submits Nino Pavan, CFP, a financial advisor in Claremont, CA in November, 2016 at Kiplinger. What that combination means is that your drawdown from withdrawals and market losses totaled -60%. The math shows you then need a gain of 154% to get back to even. And that’s assuming there isn’t another withdrawal after the first one. Please keep in mind if you were 70 then the very next year you turn 71 with most retirement accounts, so you must take not only another withdrawal, but an increased withdrawal. Happy birthday indeed.
Source: Investor’s Advantage Corp.
These rates are used for hypothetical illustration only and may not be used to predict investment results. Income from investments may fluctuate and the value of the investment may fall against the interest of the investor. Investment decisions should be based on an individual’s goals, time horizon, and tolerance for risk.
I believe poet George Santayana nailed it when he said in 1905, “Those who fail to learn from history are doomed to repeat it.” In hypothetical Case 1 here after a total drawdown of -60.67% (3.67% income taken and market loss of 57.00%) you need a gain of 154.26% to get back to even. What do you think of your odds? Please keep in mind if the withdrawals are taken from most retirement accounts, the very next year (and every year thereafter) you must take out a higher percentage than you did the last year. In hypothetical Case 2 the total loss was -23.67%, so the gain to get back to even is 31.01%. Clearly the odds of recovery in Case 2 are better than Case 1. So, when I am chatting with a colleague, as I was just the other night as we watched a football game and he says, “I love buy and hold.” I said, “You clearly have not done the math when annual withdrawals are part of the equation.” I then turned to our mutual friend in the room to say, “Now you see why I apologize for my peers, because we don’t always do our homework.” In the last downturn we saw plenty of investors follow the same path to new lows in the bear market. Other investors, however, opted for an active plan. As the market became more favorable to risk assets, the second group moved from money market accounts back into risk assets, be they bonds or stocks. When markets become volatile at or near retirement you need to consider changes in advance to your strategy. Think wax on/wax off. Or risk on/risk off. Daily. Identify the systems that are built to do the work for you. In advance.
Now let’s look ahead at the markets. With great sarcasm, Harry Dent at Dent Research said, “We’re staring down the barrel of $1.5 trillion-plus deficits in a near-guaranteed major slowdown ahead. So, Donald Trump has another tired Republican idea: Why not cut taxes dramatically and make that deficit $3 trillion? Oh, and let’s add more infrastructures for an economy that’s going to only grow 0.27% ‑ at best ‑ in the coming decades!” on December 5, 2016. Dent declared, “We’re already facing a $20 trillion public debt that’s on the bullet train towards $40 trillion, a destination we’ll reach in eight short years like every doubling since 2000.” He asks these questions, What if such new fiscal stimulus ideas do not create more demand against slowing demand around the world? What the hell are Trump and his new Treasury Secretary, Steven Mnuchin, smoking?!“
Pigs can fly, right?
“Sorry Donald, we’re in a deflationary demand-side crisis with excess capacity versus supply since, like, the 1930s. We don’t need more supply. We need more demand, and we’re not going to get it. Not while the greatest generation in history (both in size and influence) are saving more and retiring in droves.” Let me say what I have said before, Mother Nature and Father Time hold the genuine trump cards. Thanks to those aging demographics, nearly all developed countries will slow dramatically as they decline in population growth. “Workforce growth will decline even more and innovation along with productivity slows to near zero because we are all aging, damn it!.” submits Harry Dent.
1. Look to see where losses in the past might have been reduced in preparation for the future.
2. Explore various diversification strategies (positions other than cash, bonds, and stocks).
3. Consider adding active managers who can implement strategies designed to control negative volatility.
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Securities and advisory services offered through National Planning Corporation (NPC), Member
FINRA/SIPC, a Registered Investment Adviser. Investors Advantage and NPC are separate and unrelated companies.
The opinions voiced in this article are for general information only. They are not intended to provide specific advice or recommendations for any individual and do not constitute an endorsement by NPC. To determine which investments may be appropriate for you, consult with your financial professional.
Please remember that investment decisions should be based on an individual’s goals. Time horizon, and tolerance for risk.
Investments are inherently risky and will fluctuate with changes in market conditions. Consideration should be given to the possible loss or part of all of principal invested. Indices are unmanaged measures of market conditions. It is not possible to invest directly into an index. Past performance is not a guarantee of future results. No single investment strategy can ensure a profit or protect against a loss.
Diversification helps you spread risk though out your portfolio, so investments that do poorly may be balanced by others that do relatively better. Neither diversification nor rebalancing can ensure a profit or protect against a loss.
This material contains forward-looking statements including, but not limited to, predictions or indications of future events, trends, plans or objectives. Undue reliance should not be placed on such statements because, by their nature, they are subject to known and unknown risks and uncertainties.
HS Dent is an economic research company that uses various techniques to study the potential impact of various changes in demographic trends on our economy. No one person or strategy can accurately predict market movements. Ed Slott, Nino Pavan, Harry Dent, and George Santayana are not affiliates of NPC.