Two good places to start your financial plan are your company retirement plan and your spending habits. If you have a company retirement plan make sure to schedule a meeting with your employee benefits person to learn about your options. One good rule is to “pay yourself first.” So make it a goal to save 10 to 15% of your income towards savings. Or, save “until it hurts”–that point when you know you cannot save anything more. If you’re unsure how to invest your 401k, read here.
One free site to track your spending habits is http://www.mint.com, which aggregates financial data (transactions, account values,etc.) from your banks, credit cards, investment accounts, and other financial institutions. By tracking your spending, you may see some potentially alarming trends that will help you recognize where your hard-earned money is disappearing to.
Now that you know where you are spending your money, write down some goals for yourself by thinking in terms of short-term (3 years or less), medium term (4-6 years), or long-term (7 years +) goals. Some examples of short-term goals may be to pay down debt within 12 months or to establish a cash reserve of 6 to 12 months of non-discretionary expenses. A medium term goal may be to save toward a down payment on a home in five years. An example of a long-term goal is to save $500,000 toward retirement in 30 years or to save $50,000 for your child’s college education in 12 years.
The 401k is an excellent company benefit offered by many employers. But many employees don’t participate to the full extent that they could be doing, and many people have no idea where to invest their funds. Eligible participants of a 401k plan receive an immediate tax deduction for their contributions and the investments grow tax deferred. In 2010 the maximum annual employee contribution is $16,500 (plus $5,500 in catch-up contributions for participants over 50 years old). In addition, many employers provide “basic” and “matching” contributions on top of this amount, provided that the employee stay a certain number of years before they can claim this “free money.”
One of the best advantages of a 401k is the ability to “dollar-cost-average,”a method of accumulating assets by investing a fixed amount of dollars in securities at set intervals. This systematic approach allows the 401k participant to accumulate a greater number of shares when the market dips and fewer shares when the market is high. Dollar cost averaging into volatile asset classes (i.e. stocks) is one of the best ways to accumulate long-term wealth. In fact, we advise our clients who have time horizons greater than five years to place 100% of their NEW 401k contributions into stocks (large/small/international) and to diversify their EXISTING balance, which may include bonds and cash, in accordance with their risk profile and time horizon. Below is an example of why dollar cost averaging is so powerful. Thanks to dollar cost averaging, you don’t have to worry whether the market is up or down. Dollar cost averaging is certain to produce the lowest average cost, which puts you in a great position to enjoy profits.
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Comments on Recent Events (6-8-2010)
The European debt crisis is important because it is symptomatic of the global debt problem faced by most industrial nations. European banks may have to go through a period of restructuring debt and recapitalization similar to that of the U.S banks recap during the past two years. U.S. banks are now well capitalized, but debt levels in the public and private sectors of industrial countries remain near record levels as a percentage of GDP as well as in absolute terms.
The way out of the debt problem is through private sector economic growth over an extended period of time while controlling government expenditures. Such growth requires capital formation that comes from savings, rising productivity and growing credit availability. With economies still deleveraging from overextended debt levels and banks unable to expand credit to accommodate needed growth, central banks in the U.S. and in Europe have begun to create new money (monetize debt). Such “quantitative easing” should encourage growth and buy time for deleveraging to work its way through global economies.
Investment implications:
Printing large quantities of new money may eventually lead to inflation after global economic recovery from recession, but maintaining liquidity in the banking system to avoiding deflation and fund economic growth is a much more pressing mandate at this time.
Newly created money will go into increased economic activity or financial assets (i.e. bonds, stocks, precious metals) and other so called “hard assets”.
Investor psychology may favor currencies of creditor nations, gold as an alternate currency and other “hard assets,” (i.e. real estate, energy, metals and mining).
The risk of mistakes (political or financial) remains high, as governments of debtor countries work through necessary deleveraging. Even though there is reason to believe that the highly focused attention of both politicians and financial authorities will enable them to successfully maintain a functioning global financial system; it is clear that economic growth in Europe (and the U. S.) will be slow and unemployment will remain high. The high level of fear among investors will make stock prices vulnerable to future shocks which are likely in a period of instability. It is a time for caution. TO SEE IF YOUR PORTFOLIO IS PROPERLY ALLOCATED, PLEASE CALL (703 683 8488 – ex 102) or e-mail (blong@aribaasset.com).