“You’re going to die if you stay there.”
In 2011, I was being ripped apart by internal conflict.
My physical health was in decline; mentally, the daily stress of my job blossomed severe depression. A heavy feeling I hadn’t experienced since I was 10 years old, when my parents divorced, overwhelmed me. A noticeable twitch in my left eye made it uncomfortable to do television appearances.
Sleep was rare.
I witnessed a successful 14-year career crumble right before my eyes and I couldn’t do a thing to stop it.
Thanks to coaching from friend, mentor and bestselling author James Altucher, I reluctantly began to face the truth: My former employer’s once client-centric environment, was dissolving. My role as trusted adviser to clients and their families was consistently being diluted.
As Financial Consultant Vice-President (all consultants were Vice-Presidents. It was all for appearance), I was reduced to a non-descript face of a large organization; a product pusher with tremendous sales goals on my back that left little time for clients I’d otherwise meet on a regular basis.
Torn between the responsibilities to clients I’ve assisted for over a decade and goals to sell and move people on, like cattle, I began to search for guidance, perspective.
I found a savior in James. I flew to New York as quickly as I could get there. We walked for miles up and down summer-humid city avenues; I was so focused, all I could do is listen deep to what he had to say. The world around me fell silent except for his words. I knew my life had to take a different path. Much was at stake.
“Rich, you need to make a choice. They care about shareholders, not clients. That’s how it works. For some reason you’ve been insulated. One thing I do know. If you stay, you’re going to need to sacrifice who you are. And my thought is you’re going to die if you stay.”
He was correct. I never forget his wisdom. My focus was about to shift.
On the return flight to Houston, I drafted a personal mission statement, a manifesto which motivated me to continue to assist clients in the manner they deserved, regardless of how detrimental it was to my career. I knew it wasn’t going to end well short term. In my gut, I felt what I needed to do to make it right for my universe (and sanity) for the long haul.
All that mattered was I act as fiduciary, until the point I could no longer. My loyalty was to remain first with clients. Not an organization that in the past, had allowed front-line employees to suffer black marks on their securities licenses by obfuscating what was truly going on with a series of in-house fixed income mutual funds that blew up during the financial crisis.
I never regret the choice to leave a political bureaucracy and the brokerage industry, overall. As a registered investment adviser under The Investment Advisers Act of 1940, I have a clear fiduciary duty to clients. It’s where I do my finest work professionally. I am no longer required to serve shareholder’s agendas.
Candidly, it changed the path of my life. Although the early results were less than desirable as a nasty fight with my former employer took a financial and physical toll, where I am today proves undeniably, that it was the best decision.
Manifestos are guidelines that define how you walk the line. They’re backed by passionate words and followed by actions which validate those words every day. If followed, manifestos are intended to protect what’s important; they’re born of pathos. Manifestos are inspired by tough lessons that shake you up enough to alter your path.
Lance Roberts and I set out to define the guidelines that comprise the RIA manifesto. These beliefs drive us, they’re part of who we are and what we strive to communicate to listeners and readers. I affectionately refer to them as the DNA or the core of Roberts & Rosso, or “R-Squared.”
The Real Investment Advice Financial Manifesto.
ONE: Market & Economic Conditions Require Perspective Of An Eagle.
Eagles observe from above; they’re masters of the skies with wingspans that extend over seven feet. They survey the landscape from great altitudes which provides a holistic perspective of the terrain.
Bulls & bears are too close to the ground, myopic, and defend narrow perspectives based on their agendas, not yours. Eagles have vision more than five times sharper than a human’s. When it comes to observations, eagles can observe what’s moving from 1,000 feet above the earth and spot a rodent target over an area of three square miles from a fixed perch. Data gathered and analyzed must be clear of agenda which ostensibly, motivates us to undertake investigation devoid of bias and spin.
TWO: Risk Management Is Not Choice, It’s Necessity.
There’s no gray area. Either you manage downside risk, or you don’t. During ebullient periods in the stock market when “investment risk,”tends to be eschewed for the pursuit of gains, should investors grow increasingly cautious. Unfortunately, many succumb to the euphoria.
It is vital to manage downside risk during periods like now where markets “only seem to go up” and statements such as “investing is about ‘time-in’ the market rather than ‘timing’ the market” are frequently communicated.
What’s rarely discussed (except by those with an eagle’s purview), is the damage to investor returns when market losses are incurred. On average, bear markets generate drawdowns or losses close to 40% which require a 66.67% return to get back to even.
THREE: Stock Averages Don’t Expire, You Do.
Legendary investors like Warren Buffett are investors. They’re allocating capital to companies that will benefit decades, perhaps centuries of shareholder wealth. As a human being with a finite life to accumulate and then distribute assets, you’re not afforded such a luxury of time, that’s why you’re merely a speculator who hopes you purchase at a price and hopefully liquidate higher.
Unlike Mr. Buffett’s company that can purchase other companies and replace top executives, affect boards of directors, you have zero control over the direction of an individual company, a stock index or mutual fund manager. You are simply SPECULATING on the price you paid for an asset that you HOPE to sell at a higher price to someone else in the future. That is, in its most basic form, a speculation. Hey, there’s nothing wrong with being a speculator. Wall Street was founded by them. The goal is to understand how the stock market is a crap shoot and can humble you at a moment’s notice.
FOUR: Diversification Is Not Risk Management, It’s Risk Dilution.
Understanding the difference may save your financial life.
What are the odds of one or two companies in a balanced portfolio to go bust or face an industry-specific hazard at the same time?
What’s the greater risk to you? One company going out of business or underperforming or your entire stock portfolio suffers losses great enough to change your life, alter your financial plan.
You already know the answer.
Diversification is not risk management, it’s risk reduction.
- When your broker preaches diversification as a risk management technique, what does he or she mean?
- It’s not risk management the pros believe in, but risk dilution.
- There’s a difference. The misunderstanding can be painful.
To you, as an investor, diversification is believed to be risk management where portfolio losses are controlled or minimized. Think of risk management as a technique to reduce portfolio losses through down or bear cycles and the establishment of price-sell or rebalancing targets to maintain portfolio allocations. Consider risk dilution as method to spread or combine different investments of various risk to minimize volatility.
Even the best financial professionals only consider half the equation.
Beware the lamb (risk management) in wolf’s clothing (risk dilution).
The goal of risk dilution is to “cover all bases.” It employs vehicles, usually mutual funds, to cover every asset class so business risk can be managed. The root of the process is to spread your dollars and risk widely across and within asset classes like stocks and bonds to reduce company-specific risk.
There’s a false sense of comfort in covering your bases. Diversification in its present form is not effective reduce the risk you care about as an individual investor – risk of loss.
Today, risk dilution has become a substitute for risk management, but it should be a compliment to it.
Risk dilution is a reduction of volatility or how a portfolio moves up or down in relation to the overall market.
Risk dilution works best during rising, or up markets as since most investments move together, especially stocks.
Don’t be fooled.
FIVE: Brokers Hold Allegiance To Employers, Fiduciaries Are Bound To Clients.
You’re best to seek out a fiduciary, a professional or an organization that places your interests first.
Financial planning isn’t a big attention-getter, especially at brokerage firms. It isn’t a profitable venture as it directs attention and resources away from activities that generate revenues, like selling products. If anything, it’s a loss leader. An afterthought.
To maintain an image of care or come across as ‘consultative,’ financial plans are offered but they’re not a focus. They’re employed as a method to discover where assets are and where opportunities lie to generate sales.
This is not what planning is supposed to be. The process minimizes the importance of building, maintaining and monitoring a holistic financial plan. A plan must be taken seriously and not considered an afterthought.
Recently, Antoinette Koerner, a professor of entrepreneurial finance and chair of the finance department at the MIT Sloan School of Management, along with two co-authors, set out to analyze the quality of financial advice provided to clients in the greater Boston area.
They employed “mystery shoppers” to impersonate customers looking for advice on how to invest their retirement savings. Unfortunately, it didn’t work out too well.
Advisors interviewed tended to sell expensive and high-fee products and favored actively-managed funds over inexpensive index fund alternatives. Less than 8% of the advisors encouraged an index fund approach.
The researchers found it disconcerting how advisor incentives were designed to motivate clients away from existing investment strategies regardless of their merit. They found that a majority of the professionals interviewed were willing to place clients in worse positions to secure personal, financial gain.
So, let me ask: Would you rather have a comprehensive plan completed by a professional who adheres to a fiduciary standard where your financial health and plan are paramount, or a broker tied to an incentive to sell product?
Brokerage firms are willing to offer financial plans at no cost. However, the price you’ll ultimately pay for products and lack of objectivity, is not worth a ‘free’ plan. It’s in your best interest to find a financial partner who works on an hourly-fee basis or is paid to do the work, not investments sold.
SIX: When It Comes To Money Decisions, Think Full Circle.
Money is fungible. It shouldn’t be compartmentalized.
Don’t perceive every financial challenge as a straight edge with a beginning and conclusion. It leads to narrow thinking and sub-optimization at the point of action. Round out your thought process. Go where you never been before. When presented with a financial decision, break down the walls, goals, compartments and picture how all your dollars can flow free from their different types of accounts and work together to achieve the greatest impact to your bottom line.
Think rooftop, not basement. When you bust down the walls between dollars, you begin to think bigger (and smarter). You’re up on the roof looking out and over the landscape of your finances. You begin to see how fungible money is.
Most of the time, we rummage in the basement where it’s dark and narrow because of the laser-focus on the problem. Unfortunately, the longer we concentrate, the less we observe lucrative options hiding in plain sight. That’s why financial decisions should begin from a holistic perspective (roof) and then narrowed down to the basement or specific issues at hand.
For example, when gasoline prices were shy of 4 dollars a gallon (feels like an eternity ago), I was inundated with inquiries about trading in paid-off automobiles for new gas-efficient options. In other words, I was being asked whether spending $32,000 was worth the saving of $600 a year at the gas pump. The numbers didn’t work out advantageously.
Once you consider the opportunity cost of spending five figures, well, you’re on the roof and seeing things from a clearer perspective. From there, dollars may flow to higher uses or in these cases, not flow inefficiently to paying additional debt from automobile loans.
SEVEN: Mind The Surprise Gap.
The gap between returns you expect as you accumulate and those realized when you seek to re-create the paycheck in retirement, can lead to unwelcomed, life-changing surprises.
What Your Financial Planning Must Consider:
- Expectations for future returns and withdrawal rates should be downwardly adjusted.
- The potential for front-loaded returns going forward is unlikely.
- The impact of taxation must be considered in the planned withdrawal rate.
- Future inflation expectations must be carefully considered.
- Drawdowns from portfolios during declining market environments accelerates the principal bleed. Plans should be made during up years to harbor capital for reduced portfolio withdrawals during adverse market conditions.
- The yield chase over the last 9 years, and low interest rate environment, have created an extremely risky environment for retirement income planning. Caution is advised.
- Expectations for compounded annual rates of returns should be dismissed in lieu of plans for variable rates of future returns.
Unfortunately, you cannot INVEST your way to a successful retirement goal. As the last decade should have taught, the stock market is not a “get wealthy for retirement” scheme. You cannot under-save for retirement hoping the stock market will make up the difference. This is the same trap that pension funds all across this country have fallen into and are now paying the price for.
EIGHT: Brokers Believe In One Cycle And That’s “Bull.”
Many brokers are trained and indoctrinated with the accumulation stage in mind. They try to help clients accumulate, not manage nor distribute wealth.
Every market cycle is allegedly a great opportunity to invest, or to dollar-cost average. Many brokers are unaware that when you switch from accumulation to distribution, almost all of the math turns on its head. In other words, every market is a bull market.
Many of the great concepts that are good for accumulation become useless or downright dangerous during the distribution period.
Never discount luck in your plan. When you retire, where you are in a cycle at that time, is indeed luck. Will you experience a market return headwind or tailwind? A broker only perceives great return tailwinds and minimizes the impact, time and discipline it takes to endure a bear or flat cycle (yes, they do occur).
NINE: There’s No Such Thing As Passive Investing, Only Passive Investments.
Understanding the difference will save your investing life.
Passive investing is not safe. Not by a long shot. To clarify: Passive is an investment type. It is NOT an investing process nor a manner to which RISK is managed.
The clearest thought I can conjure up about passive investments and bear markets is I have the finest potential to lose money at low internal costs. Never forget – Once wealth is allocated to stocks, it’s active. On occasion, radioactive. Plain and simple. Index positions must be risk managed. They bear the full risk of markets. The highs and the lows. There’s no escape-risk-free card.
TEN: Compound Interest Is An Enduring Myth.
Compound interest is the coolest story ever, but that’s about it.
You so want to believe.
And there was a time you could.
But not so much today.
Albert Einstein is credited with saying “compound interest is the eighth wonder of the world.”
I’m not going to argue the brilliance of Einstein although I think when it comes down to today’s interest-rate environment he would be quite skeptical (and he was known for his skepticism) of the real-world application of this “wonder.”
First, Mr. Einstein must have been considering an interest rate with enough “fire power” to make a dent in your account balance.
Over the last nine years, short-term interest rates have remained at close to zero, long term rates are deep below historical averages and are expected to remain that way for some time.
Indeed, compounding can occur as long as the rate of reinvestment is greater than zero, but there’s nothing magical about the “snowballing” effect of compounding in today’s rate environment.
Most important: Compounding only works when there is ZERO CHANCE of principal loss. It’s a linear wealth-building perspective that no longer has the same effectiveness considering two devastating stock market collapses which have inflicted long-term damage on household wealth.
What good is compounding when the foundation of what I invested in is crumbling?
Don’t give compound interest another precious thought.
If it comes along, consider it a great gift. A bounty.
Fine tune what you can control and that primarily has to do with how you increase household earnings power and manage debt.
We believe the eighth wonder of the world is human resolve in the face of economic reality post-Great Recession.
Not compound interest.
Soon, the 10 tenets will be available in postcard, PDF, and poster form as we turn our RIA manifesto into an aesthetically pleasing creative endeavor.
And if blood could replace ink, we’d do it as we embody every sentence.
As we’ve learned through experience, we seek to share, educate and never let down our guards for clients, readers and financial professionals who believe in our mission.
Richard Rosso, MS, CFP, CIMA is the Head of Financial Planning for RIA Advisors. He is also a contributing editor to the “Real Investment Advice” website and published author of “Random Thoughts Of A Money Muse.” Follow Richard on Twitter.