Schwartz Financial Weekly Commentary 6/25/12

The Markets

While nobody knows what the future holds, one powerful person came pretty close to accurately predicting the problems Europe is having with the euro – a full 17 years before the current crisis began in 2010.

Former British Prime Minister Margaret Thatcher strongly resisted having Britain join the single currency and, instead, pushed the country to keep the pound sterling. Her view prevailed.

Today, the controversial Lady Thatcher is retired from public view, but her take on the common currency of Europe has proved uncannily accurate.

Paraphrasing her 1993 autobiography, a November 18, 2010 article in the Daily Telegraph said Thatcher argued, “The single currency could not accommodate both industrial powerhouses such as Germany and smaller countries such as Greece. Germany, forecast Thatcher, would be phobic about inflation, while the euro would prove fatal to the poorer countries because it would ‘devastate their inefficient economies.’”

True to Thatcher’s prediction, the euro zone is suffering from the imbalances caused by a currency shared by countries with dramatically different economic, political, and cultural norms.      

We monitor the euro zone problems because, in our global society, a breakdown in Europe could spread to the rest of the world. And, once again, euro zone leaders are meeting this week to try and solve their structural problems. But, consider this. In the U.S. we have one country and two major parties. In Europe, 17 countries share the euro and each of those countries have multiple major parties. Knowing how hard it is for Democrats and Republicans to agree, imagine how hard it is to get 17 countries and their respective parties to agree on anything!

Given this difficulty, it’s not surprising that the euro crisis has dragged on and on and on. Eventually, though, Europe will have to make some tough decisions – or the market may do it for them.

Data as of 6/22/12	1-Week	Y-T-D	1-Year	3-Year	5-Year	10-Year
Standard & Poor's 500 (Domestic Stocks)	-0.6%	6.2%	5.3%	14.3%	-2.3%	3.0%
DJ Global ex US (Foreign Stocks)	0.0	-1.5	-17.6	4.6	-7.4	4.8
10-year Treasury Note (Yield Only)	1.7	N/A	3.0	3.7	5.1	4.8
Gold (per ounce)	-3.8	-0.6	0.8	19.4	19.1	17.0
DJ-UBS Commodity Index	-0.4	-8.8	-19.6	2.0	-5.6	2.6
DJ Equity All REIT TR Index	-0.5	10.3	8.7	32.9	1.6	10.0

Notes: S&P 500, DJ Global ex US, Gold, DJ-UBS Commodity Index returns exclude reinvested dividends (gold does not pay a dividend) and the three-, five-, and 10-year returns are annualized; the DJ Equity All REIT TR Index does include reinvested dividends and the three-, five-, and 10-year returns are annualized; and the 10-year Treasury Note is simply the yield at the close of the day on each of the historical time periods.

Sources: Yahoo! Finance, Barron’s, djindexes.com, London Bullion Market Association.

Past performance is no guarantee of future results.  Indices are unmanaged and cannot be invested into directly.  N/A means not applicable.

VOLATILE MARKETS HAVE EXPOSED ONE FLAW in the traditional thinking about how to determine an investor’s “risk tolerance.” Traditionally, risk tolerance was thought of in terms of a spectrum moving from very conservative at one end to very aggressive at the other. And, risk was defined as how much of a loss an investor could stomach. That makes sense, but it’s only one part of the risk tolerance story.

Investors essentially have two types of risk tolerance:

(1)Financial risk tolerance – which is an investor’s financial ability to withstand a decline in their portfolio.

(2)Emotional risk tolerance – which is an investor’s emotional ability to withstand a decline in their portfolio.

Source: The Charles Schwab Corporation

Now, here’s the key – there could be a very large gap between these two levels. For example, some investors may be able to financially withstand a 30 percent decline in their portfolio without it negatively impacting their ability to meet their long-term goals and objectives. However, some of those same investors may be able to withstand only a 20 percent decline in their portfolio from an emotional standpoint.

The emotional risk tolerance level is effectively your “sleep” level. It’s the level where if your portfolio went down any further, it would affect your ability to sleep soundly at night.

But, there’s more…

We also have one other factor to consider here and that’s your time horizon. If you are 10 years away from needing to tap your investment portfolio, then a decline in your portfolio today should not be a cause for alarm. Why? Because you have 10 years to recoup the decline. Remember, today’s stock market prices are only relevant to those who are selling today.

As your advisor, it’s important for us to know your financial risk tolerance level and your emotional risk tolerance level. With this knowledge, we do our best to manage your portfolio in such a way that we won’t breech either of those levels. After all, we appreciate a good night’s sleep, too!

Weekly Focus – How to Sleep Better…

Are you one of the lucky 42 percent of Americans who consider themselves “great sleepers?” If not, try these tips from the National Sleep Foundation:

·         Set and stick to a sleep schedule by going to bed and waking up at the same times each day.

·         Exercise regularly, but do it in the morning or afternoon.

·         Establish a relaxing bedtime routine such as reading a book or listening to soothing music.

·         When you go to sleep, make sure your room is dark, quiet, and cool.

·         Avoid caffeinated beverages, chocolate, tobacco, or large meals right before bedtime.

Value vs. Growth Investing (6/22/12)

Name	1-Week	YTD	4-Week	13-Week	1-Year	3-Year	5-Year
US Market	-0.47	7.01	1.27	-4.10	4.81	17.29	0.21
Large Cap	-0.57	7.72	1.69	-3.26	7.35	16.03	-0.03
Large Core	-0.11	8.28	2.25	-2.50	8.51	16.28	1.52
Large Growth	-0.43	11.22	0.75	-4.58	12.41	17.79	2.13
Large Value	-1.17	4.00	2.03	-2.78	1.21	14.02	-3.96
Mid Cap	-0.35	5.06	-0.20	-6.68	-1.86	20.44	0.37
Mid Core	-0.62	5.85	-0.30	-5.80	1.83	22.54	1.24
Mid Growth	-0.01	6.02	-0.57	-7.32	-3.92	19.88	1.09
Mid Value	-0.47	3.29	0.22	-7.03	-3.63	18.74	-1.54
Small Cap	0.25	4.97	1.00	-5.60	-2.03	20.47	1.27
Small Core	-0.08	4.39	0.21	-6.57	-5.33	19.09	-0.22
Small Growth	0.54	5.30	1.29	-5.28	-1.11	18.99	1.91
Small Value	0.28	5.23	1.54	-4.91	0.69	23.46	1.86
US Core	-0.20	7.56	1.63	-3.40	6.28	17.83	1.51
US Growth	-0.29	9.74	0.52	-5.18	7.97	18.40	1.96
US Value	-0.93	3.95	1.63	-3.81	0.15	15.60	-3.04

©2004 Morningstar, Inc. All Rights Reserved. The information contained herein: (1) is proprietary to Morningstar; (2) is not warranted to be accurate, complete or timely. Morningstar is not responsible for any damages or losses arising from any use of this information and has not granted its consent to be considered or deemed an “expert” under the Securities Act of 1933. Past performance is no guarantee of future results.  Indices are unmanaged and while these indices can be invested in directly, this is neither a recommendation nor an offer to purchase.  This can only be done by prospectus and should be on the recommendation of a licensed professional.

Office Notes:

The “Rule of 72”How to Quickly Estimate Whether You Will Run Out of Money Before You Die

by

Wendell Cayton
Wendell Cayton is a financial columnist. He is also a Registered Investment Advisor. This article is reproduced with his kind permission.

Einstein is reputed to have said, “The most powerful force in the universe is that of compound interest.” I choose not to argue the veracity of the quote, but rather use it as a springboard to discuss a most important finance principle.

Better known as the Rule of 72, the power of compounding allows us to determine how long it will take a sum of money, invested at a certain interest rate, to double in size.

The history behind this principal dates to early references in the SUMMA DE ARITHMETICA written by Luca Pacioli in 1494. He postulated that if you divide interest into 72, the result is the number of years it will take for the principal sum to double.¹

This rule can also be used to estimate the interest rate involved in the change in value of an investment.

Here are a couple of examples. Let’s say I am planning my retirement and am concerned about inflation. How long before my cost of living is twice what it is today? If I assume an inflation of 3% then 72 divided by 3 equals 24 … or at 3% my cost of living will double in 24 years or 36 years at 2 percent!

Forty years ago, a U.S. postage stamp cost 8 cents. Today it costs 44 cents. It has doubled in price between 2 and 3 times. (8x2x2 = 32 and 8x2x2x2 = 64). Using the Rule of 72 we can estimate that the price of a stamp has increased between 3.6% and 5.41% by dividing 40 years by the number of times doubled (2 or 3), then dividing that figure into 72. (40/2 =20, 72/20 = 3.6%).

In 1971 gasoline was $.40 a gallon according to Dept. of Commerce figures. If a gallon of gas is selling for $3.20 today, again, using the Rule of 72, we can estimate the inflation by counting the number of times it has doubled, three times to be exact. Divide 40 years by 3 = 13.33, and then divide 72 by 13.33 = 5.6%)

Let’s say your daughter or granddaughter is 18. What has happened to the Dow Jones^® Industrial Average during those 18 years? Using prices at that time, you can determine the Dow had increased 6.52%, compounded annually. This implies a doubling every 11+ years.

According to data from “ANNUITY 2000 MORTALITY TABLE: SOCIETY OF ACTUARIES”² a male age 65 has a 50% chance of living to age 92, females to age 94 or a couple age 65 has a 50% chance of one being alive at age 97!

Statistically, we can assume that one half of this population will live shorter and one half will live longer than those figures. Given the natural inclination of Baby Boomers to want to live forever, we can see why it is important that investments be plentiful and growth bountiful in order to ensure that Baby Boomers do not outlive their money.

Applying our understanding of compounding, at a 3% inflation rate, our cost of living will be double 24 years from now. But, by keeping a long term investment horizon and using the Dow Jones Industrial Average for a proxy, our investments would be adequate to keep pace with inflation, assuming the 6.52% of the past 18 years holds true for the next 18. Naturally, past performance does not guarantee anything at all about the future.

There are two key things to remember from the above discussion: first, inflation has and will continue at some rate for the rest of our lives, and second, to ensure that we will not outlive our money, we need to have something in our portfolio that, over time, will out grow inflation!

References:

¹ http://en.wikipedia.org/wiki/Rule_of_72

² Society of Actuaries – www.soa.org

Best regards,     

Michael L. Schwartz, RFC®, CWS®, CFS

P.S.  Please feel free to forward this commentary to family, friends, or colleagues.  If you would like us to add them to the list, please reply to this email with their email address and we will ask for their permission to be added. 

Michael L. Schwartz, RFC®, CWS®, CFS, offers securities through First Allied Securities, Inc., A Registered Broker/Dealer,  Member FINRA-SIPC

Advisory Services offered through First Allied Advisory Services, A Registered Investment Advisor.

Schwartz Financial Service is not an affiliate of First Allied Securities, Inc.

This information is provided for informational purposes only and is not a solicitation or recommendation that any particular investor should purchase or sell any security. The information contained herein is obtained from sources believed to be reliable but its accuracy or completeness is not guaranteed.  Any opinions expressed herein are subject to change without notice.  An Index is a composite of securities that provides a performance benchmark.  Returns are presented for illustrative purposes only and are not intended to project the performance of any specific investment.  Indexes are unmanaged, do not incur management fees, costs and expenses and cannot be invested in directly.  Past performance is not a guarantee of future results.

* The Standard & Poor's 500 (S&P 500) is an unmanaged group of securities considered to be representative of the stock market in general.

* The DJ Global ex US is an unmanaged group of non-U.S. securities designed to reflect the performance of the global equity securities that have readily available prices. 

* The 10-year Treasury Note represents debt owed by the United States Treasury to the public. Since the U.S. Government is seen as a risk-free borrower, investors use the 10-year Treasury Note as a benchmark for the long-term bond market.

* Gold represents the London afternoon gold price fix as reported by the London Bullion Market Association.

* The DJ Commodity Index is designed to be a highly liquid and diversified benchmark for the commodity futures market. The Index is composed of futures contracts on 19 physical commodities and was launched on July 14, 1998.

* The DJ Equity All REIT TR Index measures the total return performance of the equity subcategory of the Real Estate Investment Trust (REIT) industry as calculated by Dow Jones.

* Yahoo! Finance is the source for any reference to the performance of an index between two specific periods.

* Opinions expressed are subject to change without notice and are not intended as investment advice or to predict future performance.

* Past performance does not guarantee future results.

* You cannot invest directly in an index.

* Consult your financial professional before making any investment decision.

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