If our household checking and savings and investment reserves equal the amount we owe for living expenses and loans, our budgets balance. If our reserves exceed our deficits, we feel good that we have money to spare. If our personal and business deficits exceed our reserves beyond any hope of achieving balance, we are bankrupt. That’s the way things work for us at home and for businesses. That’s not the way things work for governments that print their currencies… as ours does. At the national level, reserves held by the private sector (our households and businesses, and maybe foreign lenders) are matched by an equal level of deficits assumed by the government… because the actual value of the currency and credit that resides in the private sector relies upon the full faith and credit of the Treasury to redeem its currency and meet its credit obligations. Shrinking the government deficit serves to shrink private sector cash flows… and vice versa: expanding government deficits tend to increase private sector cash flows. There is an upper limit when government deficits outstrip Gross Domestic Product at full national production capacity in the private sector. And there is a lower limit when shrinking government deficits reach zero, drying up cash flow and production in the private sector. We have been there, done that, at each of the two limits; history marks them “hyperinflation,” “Great Depression,” and “Great Recession.” Balancing our personal household and private business accounts is a virtuous goal. As the graph above shows us, balancing our government’s budget by shrinking its deficits to zero choked our national economy several times in the last 50-plus years… nothing virtuous about it. That’s because our government was designed to enhance the health, safety, commerce, and general well-being of its citizens: it is not a business.
In June 2017, financial advisors who recommend retirement plan investments will be required by the Department of Labor to act as a FIDUCIARY by putting your financial best interests ahead of theirs.
You may ask, “Don’t they always do that?” Not necessarily.
One mark of a FIDUCIARY relationship is the fact that your advisor is paid a mutually agreed upon fee for services rather than by commissions on investment and insurance products. This flat-fee payment model negates one conflict of interest: if an advisor gets paid to sell certain products, those products are more likely to end up in your portfolio. Free of commission incentive, advisors will offer a wider array of products to meet your goals.
If your 401(k) or 403(b) retirement plan is funded by an annuity, the plan was probably offered to your company by an insurance company or securities firm salesperson. The combined costs, fees, and commissions involved in the sale will retard growth of your account values for years and years. You may have noticed that the mutual funds you have chosen in your plan account are cloned from identical funds available outside the plan, except your annuity fund values are lower than values reported daily for the original, non-annuity funds. That is because you are paying the insurance company its fees and costs for issuing and servicing your annuity, and a hefty commission to the salesperson who sold the plan to your company, and a fee to an affiliated investment management firm for organizing the menu of investments available to plan participants. There is a better way to fund your retirement plan.
Let’s say you contribute $1000 a year for 30 years to a retirement plan annuity for which 5% of values go to pay fees and costs, while at the same time the underlying original, non-annuity funds actually average 6% a year. In 30 years when the insurance company sets your life-time income based on the value of your account on retirement day, your account will be $44,273 smaller than it could have been. That’s significant.
The advisor who sold your company the annuity-funded retirement plan was not acting in your best interest. The US Department of Labor’s ruling requires full disclosure of fees and costs built into retirement plan products, and those advisors who are paid for advice by commissions on products they recommend must announce in writing that they do business with your best interests at heart, as your FIDUCIARY. And they must be able to prove it. Don’t forget… June 2017. It’s a giant step long overdue.
Starting on 17 April 2017 maybe someone you know, or their tax preparer, could be chatting on the phone with a tax collector contracted by the IRS. No kidding:
The calls will not be unannounced, and the contracted collector will offer instructions on how to make electronic payments to an IRS account, or where to send a check payable to the U.S. Treasury. Aren’t you glad you have an advisor to keep you up-to-date?
Down markets are bad, but recovery is worse. It is hard to grasp the fact that a 50% drop in value requires a 100% market improvement for complete recovery. Look at the red curve reflecting performance of an all-stocks portfolio that lost 59% of its value in the 2008-2009 Great Recession; it had to improve by 144% for full recovery and a year later only reached the 90% mark. For contrast, look at the orange curve for a half stocks/half bonds and cash portfolio: within a year it had recovered to values 5% beyond its 2007 peak. Portfolio assets are identical from curve to curve, but equities and fixed-income allocations vary. On the illustration, fixed-income assets (bonds and cash) increase from 0% to 100% from the top down; portfolio curves flatten as fixed- income allocations increase and performance volatility decreases. Conversely, allocations for equities (stocks) increase from the bottom up. The red curve (all-equities) portfolio recovered fully in about 5 years, but the orange curve (50% equities/50% fixed income) portfolio recovered within a year… and the lower blue curve (all fixed-income) portfolio did not lose value at the 2009 market bottom. Which curve would you choose for your portfolio?
The real mountains represent surplus in the private sector of an economy. The reflected mountains represent government deficit. If the private sector holds a surplus of cash reserves in excess of costs, the government shows an equal amount of deficit because it guarantees the value of the private sector surplus. If private sector surplus disappears, so does government deficit…and the economy enters a recession. Conversely, government deficit reflects private sector wealth. As government deficit shrinks, full faith and credit of the government covers a shrinking amount of currency it can make available to the private sector. The notch between the two major slopes in the photo, and its reflection, represent a recession: no surplus, no deficit… and no normal flows of currency to pay the bills and grow production. If the government prints more money, its guarantees rely upon the private sector to expand and increase surplus. The photo illustrates an economic theory that says “Private sector surplus and government deficits: you can’t have one without the other in a growing economy.” Yin and Yang, heaven and earth, positive and negative… pairs of opposing forces that energize life and can move mountains for those who understand.