On today's episode of Dollars and Cents, we're going to cover a bunch of investing topics ranging from the frequently asked commonest questions to some more interesting new technologies and trends in the market. Let's get into it. The number one, how much money do I need to retire?
SPEAKER_01I always try to avoid saying it depends, but that's probably uh the most it depends question that there is, right? Yeah. Uh at the very most base level, what do you want from retirement, right? How much money do you think you need to spend? Um, and I always like to remind people that really what it boils down to is you're probably gonna have one or two sources of fixed income. It's gonna be your social security and maybe a pension, uh, although those are becoming less and less common. Uh and then you're gonna have your third income source, which is gonna be your your savings. Uh, and for most Americans these days, that's gonna be your your 401k. Uh and there's a rule, and it's not a finite rule, but it's called the 4% rule. Okay. It's like that's where I like to start with people. Uh, and that's that over you know, a 30-year retirement span, you retire at 60, say you pass away at age 90, uh, that on average you can withdraw about 4% of your portfolio uh over that timeframe and have a reasonable probability of success. And so if you think about that, on a million dollars, 4%, you could take out $40,000 a year, plus whatever your your social security is and feel pretty confident that you're gonna be able to retire successfully.
SPEAKER_02Build a budget around that and not deplete the resources, not pull everything out of the out of the savings well.
SPEAKER_03Yes.
SPEAKER_02And be confident that if it's 25 years or 35 years, maybe even 40 years, that you're that you're not uh needing to go out and get a job uh to cover that third income stream.
SPEAKER_01Right, exactly. And of course, it's more nuanced uh than just that. Um for each individual person, there's gonna be different forms of income. Uh and people don't spend in a straight line. They they spend in in bunches. And so uh it might be three percent one year, six percent the next. And I think that's where we sit down with clients and uh try to get a little bit more specific.
unknownYeah.
SPEAKER_00Anything to add? Yeah, I think the only thing really to add there um is that you know, someone gets close to retirement. Um, you know, spending isn't always the same year to year. Probably people are bunching up more of that spending earlier in the retirement while they're able to be more active and go on those trips and fulfill kind of those life goals there.
SPEAKER_02And adjusting to retired life. Yeah.
SPEAKER_00Yeah, exactly, exactly. And so, I mean, at that point we can uh build out a present value analysis, which like Tyler said is really just looking hey, how much on average do you think you need a month for you know after taxes for your lifestyle? Let's look at how much you're expected to have, you know, in Social Security income. Um, maybe we'll play around with how much we should expect in Social Security. Maybe, maybe it'll go down like 20, 30% in 2032, 2034 time frame. Uh, and then that gap between your known sources of income and uh your lifestyle is really what we need the investments to cover.
SPEAKER_02Also, uh, just a random plug, uh, Nick, you have started your own podcast not too long ago. What's the name of your podcast? Yeah, thank you, Scott.
SPEAKER_00So uh my podcast is called Financial Sentiments. Put out about a 15-minute episode every two weeks just talking about what we've been hearing from clients.
SPEAKER_02Secondary question, again, I'm gonna guess that this is gonna be our second most common it depends type of answer. When should I start taking social security? Do we take the penalty uh to the overall number that we're gonna get regularly and withdraw early at what 63 or 62? Uh, or do we wait until we get that 100% or even a little longer to earn that guaranteed bonus on top of our social security?
unknownYeah.
SPEAKER_00So I mean, I I think the answer is more nuanced if someone is thinking about claiming social security early, um, which would be around age between age 62, uh, before before full retirement age at age uh 67. But they can start at age 62. Uh, because you are getting a discounted benefit uh at that point. Um, but I I think it's less of a concern when people are retiring between age 65 and 67. And then my personal opinion is I think there's a lot less economic benefit than people might think to delaying social security past full retirement age if they if their goal is just to maximize their benefit.
SPEAKER_02Yeah.
SPEAKER_00Um, you know, so for example, if someone's full retirement benefit at 67 is $36,000 per year. If it if they delay it two years, it might be $42,000. Um, well, that break-even point for them to essentially uh get that extra dollar amount um versus claiming a little bit earlier, um, that takes 12 years to reset break even point. Because if you think about it, um, by claiming later, you're foregoing $72,000 over two years uh for only six thousand dollars more for the preceding twelve or however your lifetime is.
SPEAKER_02So, unless you've got a really good scenario that allows you to make that decision to push it off to later, there's not a lot of benefit. Cost benefit analysis is really going to be the final answer in when you should be taking this draw.
SPEAKER_00Exactly. For me, it's like how how much of a benefit is an extra six thousand dollars per year at age 81 when you're getting pretty close to the standard uh lifespan of an American. $500 a month. Yeah.
SPEAKER_01Well, I think another thing maybe to add to that, and it's kind of what he's saying, uh, is that the break-even point that that 12 years lands right about right about around average life expectancy uh for people in the United States. So I think when we talk about taking between full retirement age of 67 uh and age 70, like he said, that it it's not necessarily as important of a decision in those years uh as sometimes I think it's made out to be. Now, taking early is a full different is a whole different discussion. Yeah. And I think that's something people really need to think through because those break-even numbers are are a lot different.
SPEAKER_02So yeah, I was gonna say a couple different ratios, different timelines as far as how long you're gonna be able to draw and the amount of penalty that you're gonna be taking for each of those years. Yeah.
SPEAKER_01And then maybe cherry on top would be uh there's usually not usually, but a lot of times you have you have two uh spouses that are taking and they're looking at it as their joint financial plan. And so now you're looking at two different people who maybe one person has a higher benefit than the other, and you start getting into strategies where maybe it makes sense for the higher income spouse to take it 67 or 70, and the lower income spouse to take it 62 or 64. Uh, and those are all comparisons that can be ran, but again, it's it depends. Yeah, it's very dependent on each individual situation.
SPEAKER_02So all right. Uh this one I feel is much less dependent of a question. Uh, which one do we start with, Roth or a traditional 401k, as far as what we're maxing out and putting money into?
SPEAKER_01Yeah, I'll start and uh I'm sure Nick will have some stuff to add, but you know, typically uh I think I see people start with Roth, and that's for for two main reasons. Number one, people start working when they're at a younger age, which creates a longer tax-free growth environment. And number two, the typical career progression is you make less money in your 20s and you grow your income until the mid-50s, and then you retire and your income falls again. Uh, and when we look at Roth versus a traditional or a pre-tax account, the biggest thing is we're trying to, if we're in a low tax bracket today and we expect to be in a higher tax bracket in the future, we want to be putting money into Roth. We'd rather pay it at the low tax bracket today or the tax rate.
SPEAKER_03Yep.
SPEAKER_01Uh, and vice versa. As you get older and you're in, you know, a higher tax bracket, it might make sense to be putting money to pre-tax, uh, deferring the tax because when you get to retirement, you know, you might have a lower uh tax liability at that point, be in a lower tax rate where uh we'd we we're okay with paying the tax at that point.
SPEAKER_00Yeah, I actually don't have anything to add there.
SPEAKER_01That's right.
SPEAKER_02Yeah, uh that's that's kind of the the gist that we've gotten on these before. It all comes down to that taxable income question of what am I what am I being taxed on today versus what will I be taxed on later? Do I take this money uh out of my taxable income to lower my tax my tax rate today and just defer it till later.
unknownYeah.
SPEAKER_00Yeah. Well, I mean, I I I guess I changed my mind. We can add a little bit to the story. Um, you know, choosing to invest in the traditional 401k. That's not not that's not necessarily the end of the story. Yeah. Um you could contribute to the 401k while you're in your peak earning years. And then once you retire, there might be a window where you're in a lower income bracket than when you first contributed. And that might be an opportunity to do what we call Roth conversions. Okay. Um, which is converting money that's in the pre-tax IRA, paying taxes on it, and then putting it into the tax-free Roth bucket.
SPEAKER_02Okay. So just kind of uh a almost a lump sum type of deposit in there where you're you're making a big withdrawal from one and moving it to another.
SPEAKER_00Uh yeah, exactly there. And now when I say when we say lump sum, I want to be careful, you'd almost never recommend someone do the entire IRA.
SPEAKER_02Okay.
SPEAKER_00But yeah, but I mean, depending on their tax bracket, you might say, hey, there's a game plan where we're moving 80,000 out of the IRA into this Roth for the next five years uh because it's more tax efficient uh once they get into retirement.
SPEAKER_02I'm behind on my investing because I didn't plan ahead, uh, because I didn't listen to the advice that was being given out on multiple amazing financial podcasts. Uh how do I catch up?
SPEAKER_00Well, I think uh part one, the first step is figuring out how far you are behind. Um so maybe going back to that first question is hey, how much um does your lifestyle you know need to be paid for by withdrawals from your investment someday? And knowing that amount, that dollar amount, we can kind of then back into what a starting retirement balance should be, depending on how many years until retirement. Uh we have to do an annualized return estimate for that. Um and then also how much money do you have to contribute. Um so I guess the first step would just be figuring out, hey, how much is that gap? Uh and hopefully in a lot of people's cases it can be smaller than they expect.
SPEAKER_01Yeah, I think a lot of times it is smaller than people expect. Uh, and then I really boil it down to a couple options that you have when it comes to saving for retirement, especially if you're behind. Uh you can work longer, you can spend less in retirement, or you can save more. And so if you look at those as kind of your three tools, uh, and then you find out what the gap is, and then you can go and tweak those, you know, those those tools uh to make it work. Is working an extra year or two at the tail end of your career worth having a uh larger sum that you can spend on in retirement, or would you rather cut your retirement spending uh and maybe retire a year or two earlier? Uh and everybody has their own opinion. So yeah.
SPEAKER_02Some people love their coworkers, some people really want out.
SPEAKER_00I'll just say the the earlier we can try to define out that answer, uh the more opportunities there are to make corrections. Uh so finding out you need to save more money, you know, 15 years from retirement is uh a lot easier to manage than two years.
SPEAKER_02Yeah, that's that's fair. A lot more room to make that final that final adjustment, uh, spread it out a little bit. Uh how do you know if you are taking too much or too little risk with your portfolio?
SPEAKER_01So too much or too little uh risk. I mean, we talk about with clients, and I think we maybe even talked about it uh in a past episode, there's what's called risk tolerance and risk capacity. So tolerance is myself going, I'm willing to see my portfolio fluctuate in value. Capacity is, you know, if I'm 25, I actually am able for my portfolio to fluctuate in value because I don't need the money yet. I'm planning at retiring at 60 or 65. Now, if I'm 60 or 65 and I have all of my money in stocks and the portfolio goes down 25 or 30%, and I need to take money out of it, now that runs into some issues. And so, you know, again, it's kind of an it depends answer. Yeah. I think the the best option is to talk with a professional that can kind of look over and see what risk are you actually taking, uh, and then have a conversation, you know, with with or when we do it with our clients, it's, you know, how much are you willing to take in terms of risk and does that align with the portfolio? And then number two, uh, what's your capacity for it? Uh, and it's kind of trying to line up people's tolerance and capacity and then making sure that the portfolio aligns with those, if that makes sense.
SPEAKER_00Yeah. I would say there's also just a different level of risk you might be taking if you're in a concentrated position of individual securities, uh, versus if you're truly diversified across many asset classes, which with exchange traded funds or mutual funds or what have you. Uh, with the difference being that, hey, individual stock, uh individual stocks, uh, they can you know stay dead and stay dead for a while uh or be experience periods of long decline. Uh so when we talk about matching uh the your level of risk to your income needs, um that's really geared towards a diversified strategy, which is not going to be uh you know materially down forever. Um, you know, it will come back after a period of years in most market conditions. Whereas in a case like uh Cisco, uh where we saw, hey, during the dot-com boom, uh high flying stock, uh, you know, if you bought at the top, you didn't break even on it until last year in December. Um if you bought it after the 57% decline after the dot com dot com boom, it still took you 17 years. Um so that's usually not a time period most people want to wait.
SPEAKER_02So uh speaking of the volatility or the peaks and the valleys of the market, let's transition into something that's a little bit more relevant to today. Stock market, uh, as we've talked about, is sitting at uh pretty much an all-time high in the last couple of years. Is that a bad thing for investors? Should they find a different avenue? Is there an expectation that that this is great and everything's going in the right direction? How do you guys view that?
SPEAKER_01Well, it'd start with if you've been investing for the last 10 years, it's a great thing. It's the all-time highs. But uh, you know, I think Nick and I and our and HFG as a whole generally look at you know investing in the market as um goal-oriented. And so uh I'm gonna kind of go maybe in a circle to get to the answer. But uh for people that have a long-term time horizon and are investing for 20 or 30 years, it's really a matter of making sure that they're making investments you know into a diversified portfolio. It's not necessarily a matter of timing, well, it's at all-time highs, we're worried it's gonna go down, we don't want to buy because we, you know, it was at all-time highs a year ago too, and it's up from then. And so it's no guarantee that just because uh the market hits an all-time high, that it's gonna turn around and go the other direction. Uh, I'm sure Nick has some stuff he'd probably add to that as well.
SPEAKER_00But yeah, I mean, just in general, um, studies show that hey, if you were to invest um money, I don't know, on the day that the stock market reached an all-time high, um, you're expected your money's expected to have a return of one percent greater than if it had been invested on any other day uh one year later. And then over three to five years, there's no or negligible difference uh between the two. Uh so the the category of all-time highs on its own is not something that we think about too much.
SPEAKER_02Yeah, every every click getting up to the point where it is currently at an all-time high was a previous all-time high on the way up.
unknownYeah.
SPEAKER_03Yeah.
SPEAKER_02And we've talked about this before. Investing is a long game. We're not looking at the peaks and the valleys in general. We're looking at the average over time. Uh what was the the statement that uh you can always bet on the US stock market to uh be a winner over however much time you're putting in?
SPEAKER_00Yeah, no, exactly.
SPEAKER_02So your suggestion at this point would be there is no reason to be concerned about that because it's it's been there before and it continues to grow. And that it's just a time game.
SPEAKER_01Yeah. I think maybe to put my own words out there, fair my statement would be the could any concern that you have for the future of the market shouldn't be tied just to the fact that we're at an all-time high. Fair. And so there may or may not be reasons that someone's concerned about the outlook of the market. Uh, but like Nick said, and ref in reference to several studies that have shown, hey, that all-time highs don't have a material impact on three, five, ten-year forward-looking returns just because the market's at an all-time high.
SPEAKER_02Fair uh kind of the opposite, but a very similar type of question. You touched on this in one of our early answers. Uh, what should I do if there is a big drop in the market? Say we have a 20% hit in the market. Uh what what do we do?
SPEAKER_00Yeah. So I mean, on on that one, um, you know, there's a couple of answers there. So let's say you're you're still working. Um, if you have like if you're investing 100% in stocks, you're feeling that full 20% hit. Um, but the key there is that you're not expecting to have to make withdrawals out of those accounts, hopefully, within the next few years. Um, so our advice there would just be, hey, stay the course. You know, it doesn't feel good. Um but like I said, as long as you're not picking individual securities, the broader investment market in general um, you know, will will come back, even if it takes, you know, recently we've had really quick spike returns back to normal. But you know, sometimes it can take three to five years in certain conditions. Um, if you're retired, let's say you're 50% stocks and 50% bonds, um, that 20% market decline is really probably only affecting one half of your portfolio. Okay. So what you're feeling is really just a 10% decline. And at that point, maybe there's an opportunity, uh, depending on your level of financial security, uh, to rebalance there. And so what we would mean there is taking some of your investments in the fixed income assets, so the US government bonds or corporate bonds that hopefully haven't had uh much of a decline or maybe have even risen up in this case, and selling those and then using those proceeds to buy back into the market if we think that this is a temporary discount. Okay. Um, and then part two for you know, for some people, they just don't have enough investments to where even uh rebalancing is worth the risk there. Um, because just because the market declined 20% doesn't mean it can't decline more. Um, you know, just to use 2008 as an example, uh, there's a difference between annualized returns and entry year returns, entry-year returns or losses, I mean. So in 2008, we say, hey, the market was down 39% for the year. Well, there's a point where it was down 52. And so uh, you know, if someone really, really needs that money to supply uh supply their lifestyle, uh, we don't want to expose them to that kind of risk.
SPEAKER_02Do you guys deal with a lot of uh people in a situation like those that that panic? Where you have to basically play calm down, it's fine, don't stop contributing, don't sell everything off. Uh like, do you find that you have to do a decent amount of hand holding in a situation like that with clients?
SPEAKER_01Um, I mean, we certainly have clients or friends and family who who in a time like that are concerned and there's some hand holding. Uh, we talk about it a lot uh as a as a firm that one of our responsibilities to our clients is to prepare people for what it really means to be invested. Uh, because I think it's easy to hear the stock market or the S P 500 does eight to 10% a year over the last 25 years, uh, and it's actually a little bit more than that on average over the last 25 years, but it's easy to hear that and think, all right, I'm gonna get eight to 10% every year. Yeah. Uh and I think we all know that that's that's not the case. There, there are going to be uh declines in the market. They're not gonna feel good, they're not fun to watch your balance go down. Uh and so I think it's preparing people, number one, for the fact that it's gonna happen. But number two, what's our plan when it does happen? And I think Nick kind of touched on what we like to do with clients in that situation. Uh, and then kind of some of the conversations that we have with with maybe people that are concerned in that time frame is uh especially if you're still working uh and you're contributing to your 401k, the nice thing is that yeah, your balance has gone down, but you're still putting money in every paycheck. You're buying at progressively lower prices. Uh you should be buying up more shares at that point. Uh so I kind of look at that like a you know, maybe like a prime day. We're we're buying stuff on sale.
SPEAKER_02Nice. I like that idea.
SPEAKER_00Yeah. I think the big thing is just you know making sure that we're setting the right expectations uh with people, letting them know that there's the whole range of outcomes and um you know, using the the good years uh to build that knowledge base um so that we don't have anyone panicking, you know, when the market eventually goes through a decline, uh whatever the cause or the depth of that.
SPEAKER_02So that actually is a great way to take me into the next question that we've got on here, which is uh kind of all about FOMO. Um, if I've got a plan and I am earning eight percent on mine, but uh Jeff over here comes in one day and tells me that he is up forty percent on his, um am I doing something wrong?
SPEAKER_00I think the the challenging thing about investing uh as it is with you know life in general is that you know people can do a lot of silly, dangerous things and still end up okay or even better over long periods of time. And if you're someone who has a process, um you know academically based one, you're consistent, that can probably be a little frustrating over time.
SPEAKER_03Yeah.
SPEAKER_00Um but I would say that you know bad decisions do eventually trip people up over time, uh, even if even if they're not, you know, making bad decisions intentionally or whatever. Um but but yeah, I mean I would say that's just the that's just the struggle of the of FOMO.
SPEAKER_01Yeah, no, I think uh to kind of jump on on what Nick is saying, that it is frustrating. I think the difference between someone who uh you know maybe they even made a strategic play and it and it paid off uh and it was a high risk, but they they received the high reward. Uh that can be frustrating or disappointing. You mentioned FOMO uh to see, but I think, you know, when we're sitting down with people and working with them, uh, and the way that we also are investing our own money because of we're trying to do the same thing that that our clients do, it's we have a much higher degree of certainty in what 40 years is going to look like on an academic historical-based approach rather than maybe somebody bought a handful of stocks that are super popular for a couple of years. Uh, and then I think one of the stories that we like to touch on is you know, Microsoft went through, was it 10 or 15 years of 15 years? Of a pretty much a flat stock price uh in the middle of the late 2010s into the or late 2000s into the early 2010s, where you know it's still a good company and it's exploded since then, but just because it was great through the 90s, you know, doesn't necessarily mean that it's always gonna be going up. Uh and so I think that's how I've always justified it to myself is that you're not gonna you're gonna miss out on some of the home runs, but um, you know, base hits do win baseball games, and so yeah.
SPEAKER_02Yeah, besides, we don't know. Maybe Jeff isn't coming in and telling me about the day that he lost 60%. Yeah. Um, because nobody really wants to brag about those moments either. Yeah. That's true.
SPEAKER_01Sorry, Jeff. But I guess to answer your question, no, I don't I mean, if you're making if you're if you're if your portfolio is growing, then no, I don't think you're doing anything wrong just because somebody else did better in one year, one month, one day, whatever that time frame.
SPEAKER_00And there's a few data points where a diversified portfolio has had a 40% return.
SPEAKER_01Fair.
SPEAKER_02Also very fair. Uh, you did mention in that risk, which could be another big factor. Like maybe, maybe Jeff's taking huge risk on this and and reaping some of that reward.
SPEAKER_00And then yeah, or to go back to the the Cisco example. So um Cisco technically, you know, from when it went public to today, is one of the top 30 most wealth-producing companies ever in the United States history. Uh, it just depends on when you bought it. Yeah.
SPEAKER_02Class classic time travel movie. Go back, buy Microsoft on this day at this price. Go back, buy Cisco on this day at this price.
SPEAKER_00Yeah, there's a there's an early 17 years where it was a great time, and then there's a 25-year period where it was a great bad time.
SPEAKER_02I feel like that's a that's a decent uh reference to potential cryptocurrencies when they come out. You're like, is this gonna be the one that explodes, or is this gonna be another dog and pony show that I lose a bunch of money trying to buy into? You you can't tell with a lot of these things right out of the gate if you don't do a bunch of research, at least with like stocks and whatnot, you're looking at companies that have products as opposed to crypto, which is really just the idea of money.
SPEAKER_00Yeah, exactly. I mean, I think when we, you know, we might we might talk about like, hey, is cryptocurrency an asset? Um, kind of a frame that we like to look at different asset classes, um, is you know, whether they grow through price appreciation, whether they generate income or earnings growth. And so uh one way to think about it is like, hey, if you own a stock or you know, real well, we'll go with real estate, we'll say, um, you know, you're getting rental income. So that's that's the eye there. Um, you're probably increasing rents by some percentage, you know, every year or so. So that's the earnings growth. Okay. And then uh depending on the real estate market, maybe the price of that property or house uh goes up. Uh so for example, may if a home or department was selling for you know, uh see here. There's some rent ratios out there. Let's go back to stocks. I'm more familiar with that. Um the company selling for 10 times earnings, um, you know, and people are just like, hey, we think these companies are more valuable nowadays, let's say veterinarians and whatnot, um, then they're gonna be selling for 15 times earnings. So that's the price appreciation there. Um with uh crypto, you know, you're not really getting dividends. Um if you're not getting dividends, there's no earnings growth component. So you're just you're just betting off of price appreciation that eventually someday someone will think that this is worth more than what I bought at today. Um and hoping, you know, for price appreciation is just not something that we consider to be a repeatable investment strategy. Fair.
SPEAKER_02Uh that was one of our later questions was whether or not crypto should be a part of a balanced portfolio. And you're you're saying uh at this point that you wouldn't make it a major component uh of one. Would you consider it as a component at all?
SPEAKER_00Um I would I'd put it in somewhere uh between like, you know, hey, if you're passionate about it and there's an amount of money that you have that you're comfortable losing and you're not relying upon it for some future goal someday, uh, then that's probably his place for it. Um but I I wouldn't put it as like a even like a core part of my investment strategy, or even if I was building a portfolio some for someone saying, hey, this 5% is is designated for this crypto ETF. Okay.
SPEAKER_01I wouldn't agree. Uh the only thing I'd maybe add is I d we've just found that you can find appropriate diversification in assets that have price appreciation, you know, uh earnings growth, and pay some kind of income to you uh where there's hundreds of years of history that show that they will continue to grow, the economy has continued to grow. Uh and so I don't see a uh need for it in uh a standard portfolio. That being said, uh I would agree with him that if it's something that somebody's passionate about, they feel like it's uh the next big thing uh and they have money that they can afford to lose uh because it is new, then uh I would kind of you know put it in the same category as like a super small startup stock that you know somebody feels like is gonna be the next big next big thing, but it's all dependent on whether or not it is. And so I think I think he answered it pretty well.
SPEAKER_02Fair. You did mention uh both of you have, and it's come up a couple of different times now, diversification. Uh what exactly does diversification mean today? And has that changed over time?
SPEAKER_01Yeah, and I think this is probably something we can touch on quite a bit. I think it's extremely relevant to today's market, especially in the United States. Uh, but at a really high level, the diversification is uh, you know, not putting all of your eggs in in one basket, right? Uh and so not being diversified in a clear way would be owning one stock, you know, and having all of your money in that one stock. And there's a potential for a total loss if that company goes bankrupt. Um whereas a diversified portfolio would use some combination of ETFs, index funds, mutual funds, uh, maybe a handful of stocks and bonds throughout the, not just the United States, but throughout the entire world, uh to spread out that risk. Uh now you're still putting that money to work in places where uh you feel like there's long-term growth potential, uh, but you're not saying that it's all just one stock, it's all just one sector, it's not even all just one country. Uh that is kind of our version of diversification. Uh, I don't know if you have anything you'd like to add.
SPEAKER_00Yeah, no, and the in the separate part of, well, I guess the other half of that equation there is um, you know, we want assets to be, you know, slightly uncorrelated. What does that mean? It just means that they uh move at different amounts during different times. Uh so for example, if you need income, you know, you don't want to be selling stuff to supply yourself with income when those assets are down. You prefer that whatever you're selling to be flat or slightly up. So that's where like bonds come in. Um, you know, so diversification, we'd think about it, hey, across the United States, the globe, uh, with publicly traded companies. Then we're also thinking about fixed income with US and corporate uh bonds. Um, provide that ballast during turbulence.
SPEAKER_02Now, I I know in this we've talked about things like the S P 500. Um, and uh those generally fall under index funds, correct? Is it possible to be invested in multiple index funds and still not be diversified?
SPEAKER_00Yeah, so I I mean so an index fund is is really just a term of saying, hey, a group has identified a collection of companies that make sense as a category, and so that asset managers can track performance. Um they can build a fund that tracks this index to make to make it easy for them to track and see like, hey, are we beating it? Are we matching it? Uh there you go there. So for example, um you know, just uh you could have an index fund that just tracks uh different tech companies. Okay. And then you could have five ETFs that are tracking that same index. So in that case, you wouldn't be very, very disverse diversified. Um and it's not uncommon to see a lot of overlap in portfolios because actually I think today there are more ETFs, exchange traded funds, than there are actually publicly traded companies. Um so yeah, so part of when looking at investments is making sure that you're kind of doing an x-ray underneath that ETF or index fund wrapper uh to make sure that you're actually diversified there and not doubling up too much unintentionally.
SPEAKER_02Let's keep going down this route because uh the next question that I actually had was going to be what is the difference between those ETFs and those index funds? Which I think we just got a very good preview answer. Uh, but let's dive into that a little bit further for people.
SPEAKER_00ETF stands for exchange traded fund. Um, and the big difference between an ETF and a traditional mutual fund is how they operate on the back end, um, within ETFs being more tax efficient. So if we think about a mutual fund, uh, an old school mutual fund, uh, it's really just a wrapper that contains a bunch of investments. And then let's also say that this mutual fund wants to match an index fund. So it could be like a Vanguard fund that's trying to match the SP 500 index. Awesome. So as the S P 500 index uh changes, so standard and poor's will publish and say, hey, these are the new weightings that you should be measuring yourself against the index. Microsoft's now 4% versus 3%, what have you. Okay. Then Vanguard, the mutual fund uh provider, they're then doing buy and sell trades within the mutual fund so that they match Standard and Poor's new mix. Um so historically within the mutual fund, those buy and sells uh create capital gains. You know, hopefully they're selling stuff that has gone up. Um, and those taxes then get passed on to the mutual fund holder, which would you know usually be an individual investor. Okay. Um an exchange traded fund, it can still the goal if it's an exchange traded fund that's tracking an index. So let's say Vanguard also has uh an S P 500 tracking ETF. Um if it's what they do instead on the back end is instead of buying and selling stocks, they're exchanging uh baskets of securities uh with authorized participants and other market makers who might want that ETF, depending on if they're redeeming shares or issuing new ones. Um and so what that does is that avoids taxes when it comes to um matching the index. Okay. Um so if you're a real estate professional, think about it maybe the difference between like a 1031 exchange and just selling a house outright, uh, for instance, or a property, where the goal is to not realize taxes on that particular transaction. Um so really for an individual investor in a taxable account, so traditional brokerage, an ETF is more tax efficient over a long period of time. If we think of taxes as another cost that we have to pay, reducing taxes in your portfolio can increase your return over your lifetime. Um now I will say it does now that distinction doesn't matter much at all if between a mutual fund having it in your retirement account, uh, because you're not paying taxes in your retirement account on that buying and selling transaction. Okay.
SPEAKER_01So yeah, and then I think the only thing I would add to that is so that's the clear difference on like an index mutual fund versus an indexed ETF. Um, but I think one of the things we wanted to touch on too was an ETF versus an index fund. Uh and I think the easiest way to think about that is an ETF can be an index fund, but an index fund is not necessarily an ETF. Um so an ETF that's an index fund is an ETF that tracks an index. There's also active ETFs, uh, and those are gonna be ETFs that are managed by a fund manager that's going out and buying and selling individual securities uh trying to beat an index. Um and so they're stock picking.
SPEAKER_02Uh with index funds, mutual funds, all of a sudden ETF is a thing that I I how how new are they in this? Are these things that have been around for 30, 40, 50 plus years?
SPEAKER_00Yes. I mean, I mean the first ones were issued in the in the late 90s. Okay. And then I think once um, you know, Vanguard, different uh fund providers got more comfortable with the tax law that's you know behind the ETF transactions, they really picked up uh in issuing them in the 2010s, uh to the point where hey, there's now more ETFs than individual stocks uh in the world now. Um I would say probably the biggest concern would be just because, like we alluded to earlier, just because um you have eight ETFs doesn't mean you're actually uh diversified there. Um you're gonna have eight ETFs that track a similar basket of companies there to where, you know, hey, if you have a SP 500 ETF ETF, you know, 40% of it, that value is in just 10 names. Um and then if you have like a Nasdaq ETF, for instance, uh an even larger percentage of those 10 names are in that same ETF. Um, so you can definitely get some overlap there uh if you're not paying attention.
SPEAKER_02Gotcha. And of course, that's why I've got you guys, uh, because I'm not gonna go look into those things personally. That that's not what I want to do as a hobby. Uh, but trusting your your investment professionals uh to go and take a look at those and make smart decisions for for me. That's why I'm hiring you guys, right?
SPEAKER_03Yeah. Exactly.
SPEAKER_02Okay. So uh investing is one of those things we've talked about, major returns, average returns, eight percent, et cetera, et cetera. At what point does the balance of carrying a debt and investing kind of tilt one way or the other where I should be, if I've got say a a chunk of of money, what's the balancing or what's the decision making to where I would be choosing to invest that or to pay off my debt?
SPEAKER_01Yeah, I mean, I think at the simplest level, it's uh a little bit of an interest rate versus expected return uh question. And so uh the easiest place I always go is with you know credit card debt that's typically gonna be you know high teens to high 20% interest rate. Uh there's no investment that I'm aware of that on a year-to-year basis can get close to guaranteeing that rate. Uh so we're probably gonna be focusing our money at paying down you know high interest credit card debt, those kinds of things. Where I think it gets really complicated is with mortgages that are maybe in the, you know, some people have 3% rates, like that's a little bit easier actually on the other end. It's like, no, that's a good rate, you might want to leave that alone. But um, but you gotta get into that, you know, six to ten percent interest rate on a secured loan. Uh so if it's secured by a car or you know, a home, I think that that's where it kind of depends, you know, and and it's a little bit of, I think too also is a of a psychological um uh decision. And so uh there might be math that says you should invest over paying off the debt, or vice versa. Uh, but for a lot of people, just not having the payment, not having the liability on their balance sheet gives them tons of peace of mind, might help them sleep at night. Uh and I I think I look at our job as helping people understand the math, but then letting them know that, hey, if it's going to be okay either way and it gives you peace of mind, that might be the better option for you.
SPEAKER_02Yeah, if we're looking at uh a couple hundred dollars difference in the long run and you're not going to feel the weight of that, you know, $5,000 credit card bill that you're looking at, uh yeah, okay. I can absolutely see how how that or paying off your car because you've got you know six thousand dollars left on it, and you just want to be like, you know what? I could I could pay make this monthly payment for the next year, or I could just pay this off right now.
SPEAKER_01And on the flip side, you know, if somebody has a car payment at a reasonable interest rate, uh, and they're like, well, I'm gonna forego saving to my 401k and receiving the match, well, okay, now we're probably gonna have a different conversation on well, you're letting you're leaving free money on the table if you're paying 4% on your car rate, that probably doesn't make sense. And so I do think it's uh, you know, it's again one of those it depends kind of questions. Uh, some of it's really clear, some of it's a little bit more convoluted.
SPEAKER_02So I'm gonna flip this a little bit. What if I have a vehicle that is pretty close to paid off, but there's a good deal out there, and I can refinance my entire vehicle and use it as equity uh to pull out a bunch of money. So I'm gonna take a new loan on my vehicle, almost like a cash-out refi on a house, to turn and put that into my investment portfolio. At what point does that become the type of tool that I would want to be looking at?
SPEAKER_01So we're talking about leveraging your car to buy stocks? Taking on debt.
SPEAKER_02Yeah, literally taking on debt to move that money into uh an investment portfolio.
SPEAKER_01Um I mean, it obviously depends on on the loan, first and foremost. But I would say generally speaking, I am a fan of paying off debt on depreciating assets. So cars depreciate in value, uh, and they continue to depreciate in value even as they even as they get older. Uh, and so you're taking on some level of risk where you know now you have a car payment again, and then if it ever gets upside down and you lose your job, but you have money tied up in the stock market and the stock it stock markets down, okay. Now you might run into some issues. And so I mean that's kind of worst case scenario. Um, you know, so I mean I think generally speaking, I would lean away from that, but um I I uh follow uh Tyler's opinion there.
SPEAKER_00I don't think I have much down. Yeah, yeah. Okay.
unknownYeah.
SPEAKER_00I mean, if we had our time traveling machine, I I'd probably want to like lever up around 2012. Yeah.
SPEAKER_02Yeah, go back, get myself a uh a nice second mortgage, take all that money, put it into an investment of some sort, realize hey, this 3% loan that I've got on my house is is gonna be fine because I know for the next couple of years, thanks to our time machine, my house is gonna be fine. I have a list of those opportunities. Just in case the technology ever comes around. We got AI, Skynet might come around, build that machine. Okay. Uh theoretical investment. Are you investing in Skynet if it does come around? Is that do you think going to be knowing the future after Skynet? Is that a worthy investment?
SPEAKER_00I think I think the investment in Skynet, knowing what the machine's eventual goal is, is that it keeps you around as a pet? Uh maybe.
SPEAKER_02Yeah, maybe that right there has potential. Are you diving in on this one? I'm just gonna jump on Nick's shoulders on this one. Yeah. All right. With Skynet being a potential conversation here, let's bring it back to something that's actually happening in the world right now uh that may lead us to Skynet eventually. And that is uh the emerging AI technology and how that is impacting the market. Now, for me, this feels a lot like the dot com era where everybody was creating a new website to sell 50 pound bags of dog food to ship to your house as opposed to you picking them up in the store. And not shockingly, a number of those companies didn't actually have a good business plan. They just like website, sell stuff, get a bunch of investors going.
SPEAKER_00Is that a reference to thegreatpets.com?
SPEAKER_02Maybe. Maybe a little bit. Is AI something that feels like it could be in that range, or do you think that this is something that is actually going to be sticking around?
SPEAKER_01I think uh it's a great question, first of all. But I think there's kind of twofold to it. Number one, you know, there was the dot-com bubble, uh, and when it burst, you lost a lot of companies that went out of business or their stock struggled and never recovered. Uh, but you still received uh a lot of the technological advancement from those investments. And we see, you know, in you know, not to be ironic, but you have pets.com, now you have Chewy. Yeah. Well, Chewy is actually an operating business that does very well. And so um, you know, I think it's it's interesting to me that you can have an economic, you know, issue, you can have a stock market correction where you have companies go out of business, but uh there's still a lot of good economic impact that long-term kind of came out of it. Uh, but my favorite comparison right now uh in regard to uh the dot-com bubble, because I do think it's easy to draw comparisons between the two, is that there was a lot of companies in 1999 that didn't make profit or had you know struggling revenue. And there wasn't there wasn't a good business structure to it. And I think you see a lot of the AI stocks today are profitable companies and are growing their revenues. Uh, and so it's a little bit different in the sense that I think there might, there could be a bubble, uh, but I think that there's a little bit more structure and uh on the back end uh to the companies that are quote unquote inflated today.
SPEAKER_00Uh I don't know if you have anything to add to that, but yeah, no, I mean I think the difference is between like I mean, I guess there's there's different bubbles. There's the the tulip mania bubble uh from like the you know uh Denmark hundreds of years ago, where you know it's an asset class that didn't matter, you know, shocking flowers. Uh and then there's stuff more like um you know the the railroads uh where you know back in the early 19th century and maybe even internet infrastructure after the dot-com boost, where it was like, hey, we just you know front-loaded demand and it just takes a little time to work its way uh through the system there. And then in the meantime, um, you know, some great companies that you know weren't around during the start of the dot-com bubble, like Meta, for instance, you know, eventually they'll they'll come along the way and mature. So we don't really know all the winners uh yet. Um I'd say the biggest thing if if someone is concerned about a bubble in AI or specifically in US stocks, um, similar to the dot-com bubble, like hey, after the dot-com, that was kind of considered a lost decade uh for US stocks. Um, but if you were invested, you know, diversification in mind, so you didn't just have the top 500 companies, you were also invested in uh small value companies in the US. If you invested globally, um it was actually a fine decade for you. Okay. And so um it's really when you concentrate your investments in that one basket or one egg, uh, that's that's where it can lead you to some trouble for a while.
SPEAKER_02So kind of what I'm hearing is one, don't get hyper focused on just AI as a thing. Diversification, classic.
SPEAKER_03Yeah.
SPEAKER_02Uh, but also the same way that Chewy may have learned from pets.com's failures, AI seems like maybe it has learned from dot com failures previously, where we're seeing companies that actually have something to invest in as opposed to uh whatever random fad website happened to spin up and everybody was just like, take my investment capital.
SPEAKER_03Yeah.
unknownYeah.
SPEAKER_00I mean, like Microsoft's a profitable company, Nvidia's a profitable company. Um, you know, maybe there's a question mark on whether the investments that they are making today will bear as much fruits as they're hoping. Um, but at least they're still profitable uh compared to the dot-com era. Okay. And I would say if someone's like concerned about the weighting of some of these companies in their portfolio, um, you know, kind of what we said, okay, if you're only investing in SP 500, these kind of 10 tech companies, they make up around 40% of the money that you have in there. Um but if you just invest across the world, you're able to lower that to about 22 to 24%. And then if you're retired um and have, let's say, 60% of your investments in stocks, 40% in bonds, um, your exposure to those you know, 10 names is really close to like 11%. Um so just through simple practices of diversification, you should be able to reduce that concern quite a bit.
SPEAKER_02Okay. Uh another anecdotal question. If somebody wanted to avoid being partially responsible for funding Skynet, could they reasonably avoid any companies associated with AI in their investment portfolio?
SPEAKER_00I think we talked about there has to be an ETF for that. Yeah. Yeah. There probably is. Uh SKY or X SKY.
SPEAKER_02I I know that that there's a number of artists out there that I am that I've uh befriended who are very unhappy about the AI movement and the way it is it is not helping us with the things it's supposed to do. They haven't figured out how to make AI do the dishes yet, but they do know how to make it uh draw cartoons.
SPEAKER_00So yeah, I mean, and you know, for that particular concern, I think there's a 60 minutes thing a number of years ago where they showed our nuclear arsenal still runs on floppy disks. So that particular risk I I don't think exists, but yeah, no, I think there's concerns about AI and displacement in general.
SPEAKER_01Yeah I would add, I guess, just I think it's interesting, is there's really there's AI stocks, which I think is what gets a lot of the hype, and you hear about uh you know companies like Nvidia, uh, and then there's a lot of the smaller AI stocks as well. But then there's also what AI is actually doing in the economy. Uh, and I mean I know AI is working its way into financial planning. I'm sure it's working its way into credit unions and banks around the country and the world. Uh it's working its way into the industrial world, and it's making, for a lot of people, it's making things more efficient. Uh, and so it also will drive some level of economic benefit in you know companies that you wouldn't think of AI uh when you hear their name, like an Exxon or something like you know, a company like that, where it's like that's not an AI stock. No, but they're probably utilizing to some extent AI tools that might you know make them more profitable.
SPEAKER_02Yeah. Let the let the artificial intelligence crunch the numbers to do some analysis to figure out where a good spot to drill for oil may be.
SPEAKER_01Yeah, exactly.
SPEAKER_02Different uh technology and kind of jump forward. We talked about crypto, we're gonna skip past any other conversation on that. But tokenized stocks, this is uh relatively new out in the world. What can you tell us about them?
SPEAKER_00Yeah, so I mean I so tokenized stocks is really just kind of moving its idea of moving uh the whole trading system uh from its current way of doing uh making purchase orders and determining who owns shares and settlement periods and all that, and just moving it to the blockchain. Um and so in in in theory it'll allow trades to settle faster. Um you know, there'll be more clarity on you know ownership of securities or if people actually have the cash to buy them, for instance. Um so no, if you make a trade on Schwab, technically there could be a two-day period where if the money that you used for it, let's say deposit, uh got uh you know, rescinded, they they still have time to block the or to blow up the trade. Uh because it is a little more antiquated system. Um so I don't know if there's anything necessarily important here for investors other than hey, maybe there's not maybe they'll turn into 24-7 trading and transactions might go faster.
SPEAKER_02Okay. So for somebody like myself, this is a under-the-hood change. I'm probably not really gonna notice it. It isn't gonna be like I can buy Apple or I can buy Apple with a verified check mark uh type of a thing where I'm gonna be able to see something different.
SPEAKER_00Yeah, I don't I don't think you'll see anything different. I would think maybe the overall hope would be that um somehow having it be a more automated system maybe allows it to reduce costs for users uh in some capacity. So, you know, for example, a lot of uh companies they say, hey, you can trade with no commissions on our platform. Uh how they get away with that is essentially they lower the yield or interest rate you get on your money market funds sitting in cash in that account. Um, so maybe if uh compliance costs are reduced for them on the back end, maybe people receive a little bit more interest in the account. Uh who knows? But I think that would be like the the biggest hopeful change.
SPEAKER_02Well, and any efficiency should end up with lower overhead on a thing if there's administrative fees. Perhaps we get uh a bit of a break in that area. Exactly. Yeah. Anything you want to add on that one? No, that sums it up. Don't worry, I had no clue what we were getting into with that question. So that was that was very new to me. Uh, the tokenizing, going into the blockchain stuff. That is a a level of uh technology under the hood that uh I'm glad I don't have to care about. Yeah.
SPEAKER_00But most people shouldn't.
SPEAKER_02My my trading still works, and as long as this doesn't break it, we're we're fine.
SPEAKER_03Yeah.
SPEAKER_02Gentlemen, thank you for joining us once again on uh our podcast to talk about these interesting takes, the new things, the technology. Best of luck with your own podcast. I hope everybody goes to check it out.
SPEAKER_00Thanks, Scott.
SPEAKER_02And uh until next time, this has been Dollars and Cents, Happa Community Credit Union's financial literacy podcast. See you later.