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The Independent Investor: Best Avenues to Save For Retirement
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Back in the day, before the advent of government-sponsored savings plans, defined benefit pension plans and the odd annuity were the only investment vehicles available to me. As a young stud on Wall Street, it didn't matter. Retirement saving was for others. I would live forever, make millions in the market and retire when I was 30. Fortunately, I woke up to the realities of the real world and started saving early in my career. You should, too.
In fact, the earlier you recognize that saving for retirement regularly is a no-brainer, the easier it will be to retire. So let's say you recognize that and want to start saving. The choices today can seem overwhelming. Start with the obvious: tax deferred plans where the U.S. government gives you a tax break. There are traditional IRAs, Roth IRAs, employee 401(k) s, 403(B)s, 457 plans, deferred annuities and many more. In my opinion, if you have earned income and your employer offers some kind of tax-deferred plan, that is where you should concentrate.
Any financial planner will tell you to try and take maximum advantage of the amount you can save in your tax-deferred plan. That would be $16,600 a year in a 401(k), 403(b) and 457 plan and $5,000 in a traditional IRA or Roth IRA. For those over 50 years old, an additional "catch-up" amount of $1,000 a year in your IRA is allowed and $5,500 in your 401(k), 403(b) and 457.
Yet, few of us make enough to contribute the maximum. Instead, the best place to start is your employer plan, especially if it offers a matching contribution to your own. As an example, let’s say you make $50,000/year and your employer will match 3 percent of your salary ($1,500). It doesn’t take rocket science to figure out that you should put your first $1,500 of savings into your tax deferred employee program since your company is matching that amount as a free employee benefit.
But let's say you want (and can afford) to save even more, possibly an additional $5,000. Should you just put it into your company's 403(b) or 401(k) plan or open a traditional, tax-deferred IRA? In my opinion, you should open an IRA. Here's why.
Both contributions are treated equally (i.e. tax deductible) by the Federal government. However, your company's retirement plan will offer a limited number of investment choices. In addition, the fees you pay for investing in your company’s plan are quite high compared to opening your own IRA. Although you can't contribute as much in your IRA, you have much more control over what to invest in and at a lower cost.
There is one caveat, however, if you are contributing to both your traditional IRA and your company plan: at a certain salary level (above $56,000-$66,000) the amount you can contribute as a single taxpayer to a traditional IRA is reduced. For those married couples who file jointly the phase-out range for deductibility of your salary is higher ($90,000-$110,000). If your spouse does not participate in a qualified employer plan but you do, then the cutoff level for your spouse becomes $169,000 to $179,000 if filing jointly.
You can also put your IRA contribution into a Roth IRA but remember, a Roth is not a tax-deductible IRA. However, qualified withdrawals are tax-free while in traditional IRAs withdrawals are taxed as ordinary income. And like traditional IRAs, the Roth contribution is $5,000 yearly and phase-out salary limits also apply.
I suspect most of you will already be tapped out if you contribute the full Monty to both your employer plan as well as a traditional IRA, but in some cases a Roth might work better for you. If you still have money to save, then I suggest you give me a call and we can discuss how best to deploy it.
Bill Schmick is an independent investor with Berkshire Money Management. (See "About" for more information.) None of the information presented in any of these articles is intended to be and should not be construed as an endorsement of BMM or a solicitation to become a client of BMM. The reader should not assume that any strategies, or specific investments discussed are employed, bought, sold or held by BMM. Direct your inquiries to Bill at (toll free) or e-mail him at wschmick@fairpoint.net . Visit www.afewdollarsmore.com for more of Bill's insights.
@theMarket: ECB Between a Rock and a Hard Place
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Back in the day when the ECB was first established, its member countries insisted that its role would be confined to controlling inflation through monetary policy. Unlike the U.S. Federal Reserve, there was no directive to manage unemployment in their guidelines. This is important because in this country managing unemployment allows our Fed to goose the economy (by printing money) despite the risk of future inflation to reduce the jobless rate.
The Fed's quantitative easing programs was all about buying U.S. Treasury bonds, reducing interest rates and therefore jumpstarting the economy. Some think it was a useless effort while others argue that without it our country would be mired in a multi-year recession with far higher unemployment.
In Europe "too big to fail" is not about the banks as it was in America. It is about a growing list of countries whose government bonds are plummeting in price as their interest rates rise. If allowed to continue, it will pitch many of the southern tier nations into a recession or worse. In some cases, such as Greece, we are talking bankruptcy. Although that would be negative, Europe could survive it. If the same thing happens to Italy or Spain, it would take down the entire European Community and destroy the Euro.
Although the EU has attempted to head off the contagion, they have done too little, too late. The amount of money that would be needed to calm investors' fears of a European meltdown at this point is not available outside of the ECB.
All week, markets have been hoping against hope that the ECB may find a way to save Europe without violating their charter. There is talk that maybe the ECB could lend money to the International Monetary Fund, which in turn could buy Euro debt. Although that would be technically legal, I doubt that Germany would go for it.
Germany is the major stumbling bloc in resolving the ECB's dilemma. It is diametrically opposed to allowing the ECB to bail out Germany's neighbors. After its own hyper-inflation experience during the Weimar Republic, Germans have a horrific aversion to anything that might trigger inflation.
They believe that by bailing out Italy and Spain, or even the PIGS, via an ECB quantitative easing program it would open the door to inflation throughout the EU. Germany also believes that it would nullify any incentive now or in the future for these spend thrift nations to mend their ways.
If nations feel that the ECB will bail them out regardless of their economic policies, argue the Germans, what incentives do they have to change? The Germans fear that the ECB could become a political football with Southern tier nations continuously issuing more and more debt to maintain their lifestyles while the ECB prints money to buy them up.
The Germans have a point. But at the same time, if nothing changes soon, the Euro will be kaput, (something the Germans would hate to see) since their economy has benefited mightily from its inclusion in the EU.
Until there is some clarity on this issue, expect the markets to continue to swoon one week and celebrate the next. We are getting dangerously close to the recent bottom on the S&P 500 trading range, around 1,200. If it breaks there, we could see further declines. I'm betting we hold. There is an increasing stream of good economic data coming out of the U.S. that investors are ignoring. I think that is a mistake.
Bill Schmick is an independent investor with Berkshire Money Management. (See "About" for more information.) None of the information presented in any of these articles is intended to be and should not be construed as an endorsement of BMM or a solicitation to become a client of BMM. The reader should not assume that any strategies, or specific investments discussed are employed, bought, sold or held by BMM. Direct your inquiries to Bill at (toll free) or e-mail him at wschmick@fairpoint.net . Visit www.afewdollarsmore.com for more of Bill's insights.
Independent Investor: Who Do We Owe?
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Readers may recall that as a result of the last go-around over the debt ceiling, investors worried that a technical default by the U.S. would create massive negative fallout among the holders of our national debt. "They" (so the story goes) would dump our debt overnight creating a huge spike in interest rates, etc. etc.
So who are "they?"
Let's start with foreign holders. China is often mentioned as a critical investor of U.S. government debt. The horror story most mentioned is that China could use their position as a weapon. They could sell their holdings in our bonds sparking a global financial disaster. As the largest foreign holder of our debt, I do not discount the importance of China's holdings. But as an investor in U.S. Treasuries, China still ranks as a minor player with less than $1 trillion in holdings ($895.6 billion).
China has actually reduced its level of U.S. government debt by $33.4 billion over the last two years. The bond market barely budged as a result. In fact, U.S. interest rates have declined during that period.
For all the talk about China, few know that Japan, considered one of our most reliable economic and political partners, holds only slightly less of our debt at $877.2 billion. The United Kingdom (another ally) is next followed by a global group of oil exporters who use our debt holdings as part of their oil export business. In addition, Brazil, the Caribbean Banking Centers, Hong Kong and Canada hold portions of our debt. None of the above would likely dump our bonds and might even buy more if asked.
It may surprise you to know that over a third of our government debt is held by the United States. The Fed and other intergovernmental holders own $5.351 trillion while state and local governments account for another $511.8 billion (roughly the same amount as Great Britain).
About 60 percent of our debt is in the hands of the private sector. Insurance companies and depository institutions (banks) hold just over half a $1 trillion while a diverse group of investors including individuals, brokers/dealers, personal trusts, estates, savings bond and corporate institutions, among others, hold $1.458 trillion. Mutual funds own $637.7 billion and pension funds another $706 billion or so.
The point is that contrary to popular opinion, the majority of our debt is held in friendly hands. Sure some holders of our debt might sell if our credit rating is reduced again or there is some kind of technical default on U.S. sovereign debt, but those would be marginal sellers. Certainly the U.S. federal, state ad local governments would keep what they owned and possibly buy more.
Most of the private sector holders would also keep their investments. It would be difficult for pension funds, insurance companies and others to find a comparable alternative for their government debt holdings. Despite the possible downgrades, U.S. debt is still the safest investment around.
Finally, any credit rating change to our debt would not occur in a vacuum. Investors will always need to find a suitable replacement and in a world where Europe is teetering on the edge, where emerging economies are slowing and currencies go up and down like yo-yos. Our sovereign debt, while not stellar, still appears to be more appealing than the alternatives.
Bill Schmick is an independent investor with Berkshire Money Management. (See "About" for more information.) None of the information presented in any of these articles is intended to be and should not be construed as an endorsement of BMM or a solicitation to become a client of BMM. The reader should not assume that any strategies, or specific investments discussed are employed, bought, sold or held by BMM. Direct your inquiries to Bill at (toll free) or e-mail him at wschmick@fairpoint.net . Visit www.afewdollarsmore.com for more of Bill's insights.
@theMarket: The Italian Massacre
Unlike Greece or Portugal, the Italian bond market is the third largest in the world. So when interest rates on their sovereign debt skyrocket overnight, the world's stock markets pay attention. It was a massacre.Wednesday's decline was breathtaking with all three U.S. indexes declining over 3 percent, giving back in one day what it took a week to gain. World markets followed suit taking a huge bite out of investors' recent stock gains. As I wrote last week, volatility is here to stay and maintaining a defensive investment posture is a good strategy.
Readers should be aware that I am writing this column on Thursday, which is the 236th birthday of the Marine Corps. As a Marine (no ex's allowed) and a Vietnam vet, I will be taking off Veterans Day. Usually, I wouldn't worry about missing one day in the markets, but these are not ordinary times.
The financial contagion that began with Greece almost two years ago has inexorably spread through the PIGS nations to the more dominant economies of the EU. Italy is the current target of investor concern, but I have noticed that even French interest rates have started to climb. Why does that matter to the stock markets?
Let's use Italy as an example. Its debt load at $2.6 trillion is the second highest in Europe (after Germany) and the fourth largest in the world. That is nothing new. The Italians have always lived above their means but have made their debts payments on time each year, thanks to a fairly strong economy. The Italians pay off the annual interest owed by tapping the debt markets for more money. As long as they can continue to borrow at a low rate of interest everything is copacetic.
It would be similar to you paying your minimum monthly credit card payment by borrowing more on the card. Because interest rate charges on credit card balances are north of 20 percent, you would soon find the minimum payment getting larger and larger. At some point, even that minimum payment would overwhelm your ability to pay. What's worse, the credit card company would then refuse to lend you any more money.
Because of the concerns over finances in Europe in general, and high debtor nations in particular, investors are demanding more and more interest to refinance government debt. They are not demanding credit card rates quite yet, but they don't need to.
In Italy this week, interest rates on government debt rose to above 7 percent. Granted it is a long way from our credit card's 20 percent, but it is high enough when you are a couple of trillion dollars in debt. At that 7 percent level, investors believe the Italians might have trouble paying off their minimum payment due. As these worries increase, buyers will demand higher and higher interest to compensate for the perceived risk. It becomes a vicious spiral. If allowed to play out, no one will lend to them, Italy goes bankrupt, which could trigger a domino effect throughout other debtor nations around the globe.
At its center, the problem is not that Italy's economy is in trouble. It is an issue of confidence. Let's face it, Silvio Berlusconi, the nation's recent prime minister, is considered more of an Italian Stallion than a Julius Caesar. But his agreement to resign has left a leadership vacuum at the worst possible time.
At the same time, the EU has still not provided the confidence or the plan necessary to stop these "runs on the bank." In Italy's case, the "too big to fail" slogan aptly applies. Nothing that the EU has proposed so far is large enough to bail out Italy, if push comes to shove.
It appears European leaders are still playing catch up, always one step behind the latest crisis. They are unwilling (or unable) to come up with a truly comprehensive plan to resolve the on-going crisis. I believe that the structure of the European Union is largely to blame for this problem. Unlike our own country, where the Federal Reserve, in combination with our Treasury, can (and did) intervene decisively in the financial markets, Europe has no such mechanism. It may well be that such powers will be developed as the crisis deepens. One thing is for sure, investors worldwide will keep their feet to the fire until a solution is found.
I hope all vets everywhere have a great Veterans Day; as for all you Marines, active or otherwise - Happy Birthday and Semper Fi.
Bill Schmick is an independent investor with Berkshire Money Management. (See "About" for more information.) None of the information presented in any of these articles is intended to be and should not be construed as an endorsement of BMM or a solicitation to become a client of BMM. The reader should not assume that any strategies, or specific investments discussed are employed, bought, sold or held by BMM. Direct your inquiries to Bill at (toll free) or e-mail him at wschmick@fairpoint.net . Visit www.afewdollarsmore.com for more of Bill's insights.
The Independent Investor: The Super Committee
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By now we should be well acquainted with these binary events. You know these do or die, pass or fail decisions that promise to send us all to Nirvana or Armageddon every other week or so. This year we've lived through the U.S. deficit reduction/debt ceiling 11th hour deal, the will-they-or-won't-they credit rating downgrade of our sovereign debt, the two-year-old Greek tragedy, the EU bailout plan and more recently, Italy's antics.
What is really at stake in this Super Committee decision? As readers may recall, the Republican Party originally demanded a deficit reduction package before agreeing to an increase in the country's debt ceiling. In August, an austerity package of cuts worth $2.4 trillion was announced by the Obama administration.
At the 11th hour, both parties agreed to raise the debt ceiling and set up a committee charged with coming up with a deficit reduction compromise by Nov. 23. Failure to do so will automatically trigger cuts of $600 billion in Washington's two sacred cows—defense (Republicans) and entitlements (Democrats) beginning in 2013. But none of these efforts were enough to stave off a reduction in U.S. debt rating by the credit agencies, which happened on Aug. 6.
Many pundits had warned that markets would collapse around the world if and when we lost our triple "A" credit rating. None of that occurred. In fact, markets rallied and rates declined. Yet, party leaders swear up and down that they feel duty bound to uphold the automatic cuts if the Super Committee fails to come up with a deal. At the same time, 100 House members of both parties are urging the committee to "think big" and expand their deficit reduction efforts to $4 trillion or more. It all sounds to me like more of the same — political theatre with little substance — a legacy of this do-nothing congress.
If the worst happens and no Super Committee deal is forthcoming, how bad would it be?
The credit agencies could use that as an excuse to ratchet down our debt rating again. But given the results of the first reduction in our credit rating, I'm not sure that another one will have much impact, especially given the turmoil occurring in the rest of the world.
It was also interesting that the markets declined on the news of a $2.4 trillion austerity deal in August but not on our debt downgrade. That tells me the markets are far more concerned with economic growth and the high rate of unemployment than they are with the nation's deficit. I'm all for reducing the deficit when the economy is strong enough to withstand the hit. But now, while the economy is still floundering, is not the time. I suspect that the deadline will come and go with little in the way of compromise and the markets will disregard the entire exercise.
Bill Schmick is an independent investor with Berkshire Money Management. (See "About" for more information.) None of the information presented in any of these articles is intended to be and should not be construed as an endorsement of BMM or a solicitation to become a client of BMM. The reader should not assume that any strategies, or specific investments discussed are employed, bought, sold or held by BMM. Direct your inquiries to Bill at (toll free) or e-mail him at wschmick@fairpoint.net . Visit www.afewdollarsmore.com for more of Bill's insights.
