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Money Coach

June 2007 - Posts

  • A Word or Two on Gold

    What’s the best way to build a true, wealth-creating ownership investment portfolio?

    Well, one of the first steps is to protect yourself with a small amount of gold.

    Gold is a monetary asset. Virtually every central bank in the world has it or wants it. This is because gold is the oldest and most stable form of currency; yet if you were to ask politicians or central bankers if we should have a gold-backed currency, they would say “no.” If we did have a gold-backed currency, money could no longer be created out of nothing, and politicians wouldn’t know how to operate with an honest money.

    Gold typically rises when the public faith in paper currency erodes. When the price of gold increases, it means that gold is gaining back purchasing power in relation to the declining value of the dollar. That said, don’t be fooled into thinking of gold as an investment. It should only be used as a hedge against something bad happening.

    Here’s an example: Gold coins should be used in a worst-case scenario, so that if tomorrow you wake up and your cash, credit cards, and checks are worthless, you will have something (gold coins) to buy things with until the government comes out with a new form of money. Obviously, I hope this never happens, but investors should be prepared just in case.

    I’ve done the same myself. The first investment move I made was to buy a handful of 0.10 ounce gold coins so I would have real spending money if the dollar collapsed. Shortly after that, I purchased a mutual fund of gold-mining companies, telling myself that the gold-mining fund was portfolio insurance and not an investment. Owning gold-mining mutual funds is a heck of a lot safer than choosing a couple of gold-mining stocks to own. Why? Because even I don’t know the difference between a hole in the ground and a real gold mine.

    When I bought those gold coins and gold-mining shares, I actually hoped I wouldn’t make too much money with it, because wanting to make a profit with gold is like driving home in the hopes that your house has burnt down in order to collect the insurance. Think of it as Wealth Protection 101 -- the purpose of owning gold is to insure your portfolio and protect your wealth.

    But gold is not without risk. With gold so easily manipulated by governments and money center banks, I tell investors not to speculate in gold. You are likely to get burned for reasons you never fully understand. I only own a little bit of gold as a hedge against an economic downturn - - a serious one.

    Am I predicting that something terrible will happen to the US economy and the dollar? Not necessarily. But if a major recession or depression ever hits our shores, a scenario that is most likely come from the financial markets, my portfolio is protected by my gold hedge position. That's just common sense.

    Posted Jun 25 2007, 02:07 PM by moneycoach with no comments
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  • More on the Federal Reserve

    Last week we began discussing whether or not the Federal Reserve Bank was working in our best interests -- and not in the best interests of government and big business.

    Let’s move on in our history lesson to the year 1933. The first major policy by Franklin D. Roosevelt was this: hand in your gold.

    President Roosevelt had just signed a law stipulating that if you didn’t hand in your gold, you would go to jail and be fined an amount that in today’s dollars would equal a quarter of a million dollars. The dollar was still backed by gold but you couldn’t own any yourself. He also did away with gold certificates. If you owned gold or gold certificates, you were forced to turn them in and were then handed a Federal Reserve note—paper money. Once FDR believed that he had retrieved all the gold, FDR raised the price of gold from $20 to $32. Until then, it took $20 to buy an ounce of gold; FDR’s policy raised the cost of gold to $32 an ounce. That is a 40% devaluation in our currency.

    The reason this is important is because the monetary system is to the economy what our cardiovascular system is to our bodies. How are you going to feel if your doctor comes in during a routine appointment and orders a technician to draw 40% of your blood? Do you think you’ll feel well? No, you’re going to be in very bad physical shape, as was the U.S. economy after FDR’s policies drained the economy of its lifeblood. Hence, the Depression was the result of a series of incredibly stupid monetary and fiscal policy decisions brought on by the Fed, Hoover, FDR, and other statist leaders.

    By 1937 the winds of war were blowing again. Remember that all wars are financed through inflation. To pay for the costs of the war, the Federal Reserve, in partnership with the Federal Government and private banks, printed more money because this was a lot easier than taxing or limiting unnecessary spending.

    The Glass-Steagall Act had recently been passed, allowing government bonds to back our money. A government bond is an IOU that is the same as if you were to show up at your bank with all your debts and say, “I’d like to use all this as collateral for a loan.” When the government did it, the advisor, John Maynard Keynes, told the government that not one in a million would know what they were doing and to go ahead with it.

    But even Keynes knew that a monetary system needed to have some credibility so he talked the government leaders into keeping the dollar backed with 25% gold.

    The Glass-Steagall Act allowed the monetization of debt. This resulted in the monetary system multiplying the money supply many times over. World War II was paid for by inflation and this same process is still going on today.

    After World War II, Eisenhower became President and he wasn’t a politician. The politicians asked him to “spend, spend, spend.” When Eisenhower found out that the politicians had no money, he replied “veto, veto, veto.” Ike created balanced budgets and surpluses that were used to reduce the national debt.

    Following Eisenhower as president was an economist, John F. Kennedy. The first thing he did was cut taxes. During his reign, the country went from one car on every block to two cars in every garage, because good economic policy leads to wealth creation. After the assassination, the left-leaning liberals took over again and it was back to spend, spend, spend with money they didn’t have.

    President Johnson’s spending caused one of the gold reserve requirements to be eliminated. This was about the same time that silver coins disappeared from our currency. Inflation had caused the silver metal to be worth more than the nominal value of the coin, so smart investors would accumulate silver coins, melt them, and sell the silver at a profit.

    I remember President Johnson chastising Americans for hoarding silver coins, but it was his policies that had caused the inflation and the subsequent fiasco. By 1967, the tax-and-spend guns and butter programs had grown to the point where the government needed more money. Increase taxes? No! They just printed more paper money! By 1967 the federal budget had grown to $167 billion. So instead of raising taxes, they eliminated the last gold reserve requirement, thus freeing themselves to print as much money as they wanted.

    If you were a student of money and its history, you would have sold anything involving money such as bonds, and you would have begun to hedge with gold-related assets, plus diversifying into ownership-related investments. For history promised that more rapid inflation (devaluation of the currency) was around the corner.

    In 1971 Nixon was forced to slam the gold window on the world, meaning the dollar was no longer backed by gold. If you or I did this, it would be bankruptcy. The government did it with a lot of pomp and circumstance and a nice press conference.

    Nixon announced that gold would now no longer back the dollar, would now be a commodity, and would probably drop to its historic metallic value of $6 an ounce.

    Looking at the history of gold, an ounce of gold would have bought you a fine silk tunic and a pair of sandals during the height of the Roman Empire. In the early 1900s, an ounce of gold would have bought you a fine men’s suit and a pair of shoes. Today an ounce of gold still buys you a decent quality men’s suit, so from a historical point of view, gold is still a cheap and prudent way to protect your purchasing power.

    Once the gold window was slammed in 1971, the dollar became pure fiat (Latin for government decree). History screams to us that when money goes pure paper, get out. Don’t have any investments that are a claim of future paper money. Yet most people still consider these investments to be safe, a perception completely opposite from reality.

    During their administrations, Johnson and Nixon opened the floodgates of inflation. As the 1970s progressed, inflation grew. Then Jimmy Carter came along and nearly destroyed the economy. By 1980, the printing presses were hot and inflation was accelerating through 18% while the dollar was collapsing world wide. By January of 1980, people were throwing their dollars away to a tune of $850 for one ounce of gold. Whatever happened to those smart people who predicted it would go to $6 an ounce? The dollar was collapsing because President Carter had no clue how to run an economy.

    In three days during the spring of 1980, the Monetary Control Act was passed, signed by President Carter on the fourth day, allowing all state, local, and foreign debt to be good collateral for our money. Now think about that. In other words, the debt of the whole world has now been added to things that can be monetized, allowing all government and foreign government debt to back your dollars.

    To put this in perspective, if you were the government you could take your mortgage to the bank and say, “I want to borrow against this because it’s worth something.” This continues to go on because most citizens don’t understand this. What do we do about it? We start by not having any investments that are in any way tied to the dollar because today the dollar isn’t backed by anything. History shows that the dollar will collapse, either slowly or in a panic like the October 1987 panic that almost brought the “house of cards” down.

    The period between 1933 and 1980 set the stage for the changes needed to bring our economy back and keep a rigorous review of the Fed Reserve. We're still not out of the woods yet, but things have gotten better during the past 25 years. More on that next week.

    Posted Jun 18 2007, 08:14 PM by moneycoach with no comments
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  • Is the Federal Reserve Ripping Us Off?

    I once ghost wrote a book for a financial advisor who insisted that the U.S. monetary system -- especially the Federal Reserve -- was rigged against the little guy..

    He claimed the Federal Reserve rips you off by hurting your chances of building wealth through normal savings by way of inflation, and inflation is created and made possible by the Federal Reserve System.

    As we discussed earlier in this blog, inflation is expansion of the money supply at a rate greater than the expansion of goods and services you purchase with the money. The only way this can be made legal is if a bureaucracy, such as a central bank of government, allows paper money to be created out of nothing. Without any new goods and services to absorb the new paper money, we get inflation. My ghostwriting client was adamant that investors not be fooled into thinking that inflation is prices going up. He told me that, in all honesty, inflation is the value of your dollars going down. ”

    I agree with his main point -- that inflation is made possible by the Federal Reserve, which allows banks to create money out of nothing. Here’s how it works.

    It starts with the Federal Government. Let’s pretend that Congress needs $1 billion to spend today. The politicians must figure out a way to come up with all that money. One way is through increased taxation. Since this choice is very unpopular with voters, the politicians need another way. Another way for the government to spend money it doesn’t have is to borrow it. The government can borrow money from citizens by selling them U.S. Treasury bonds. Yet another way the government can get the money is to borrow it with no intention of ever paying it back. This is where the Federal Reserve comes in.

    Since Congress needs $1 billion today but doesn’t wish to raise it through taxation, they go to the Federal Reserve and tell them they need $1 billion. The Federal Reserve types “$1 billion” into their fancy computer and gives Congress $1 billion to spend.

    Where did the money come from that the Federal Reserve was able to give to Congress? The honest answer is that this money came from nowhere. It was created out of thin air.

    This is why politicians love this procedure, because they can raise a lot of money without having to increase taxes and anger taxpayers.

    Private banks receive equal benefit from this procedure. The way banks benefit from this partnership is through fractional reserve banking.

    We can look in on a bank and its operations at the end of a day when the president comes into the office of the vice president and asks, “How much money did we bring in today?”

    The vice president says, “$1 million.”

    The president says, “The Federal Reserve says we have to keep 10% of that in reserves. Everything else can be loaned out.”

    The president of the bank can take that $1 million that was just deposited, place it in the bank’s reserve column, and loan out $10 million the next day. This is all perfectly legal because the bank still has 10% of the $10 million in reserves, and the loans are considered bank assets.

    What happened is that the Federal Reserve first created money out of nothing and then the bank went and did the very same thing while getting to charge interest on the money they created out of nothing.

    My ghostwriting client told me that once he called up a bank and asked what their reserve requirement was. They told him it was 3%. This means that for every $1 million that gets deposited, the bank can loan out $33 million.

    All this is going on without that many more goods and services being produced to soak up all this new money, so each dollar you have is worth less. This is why today it takes two people working outside the home just to meet the same standard of living of a generation or two ago when only one member of the household needed to work.

    People’s perceptions of financial safety are really just programmed theft because those things you view to be safe, like bonds, CDs, and annuities, are in reality instruments guaranteed to confiscate your purchasing power.

    Was my client on to something? The more I learn about the gears, pulleys and crankshafts that drive our economy, the more I tend to agree. Something is not right in Fed Reserve-Land.

    Posted Jun 10 2007, 04:43 PM by moneycoach with no comments
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  • Keeping Tabs on Your 401K Plan


    Napoleon Bonaparte once famously said, “For everything, there must be a plan”.

    Okay, so his plan didn’t work out so well. But when it comes to your retirement plan, yours still can.

    Why? Because at the heart of a growing number of American’s retirement plans is the venerable 401(k) plan. For millions of American workers, 401(k) plans have become the cornerstone of retirement planning. According to the National Center for Employee Ownership, the number of 401(k) plan participants in 2006 was four million, holding an estimated $2.4 trillion in assets.

    It's easy to understand why Americans embrace their 401(k)’s. With 401(k) plans, employees can sock away up to $15,5000 annually in tax-deferred investment accounts for employees under 50 years-of-age. Employees 50-and-older can contribute an additional $5,000 in “catch-up” money in 2007, according to 2007 Internal Revenue Service statutes. That means the money you contribute reduces your taxable income. Plus all the earnings grow tax-free until withdrawal. Better yet, more than 70% of all employers match investments with about 50 cents on your dollar. That's free money--well, almost.

    What's not free is that these funds need to be managed. Your 401(k) is unlikely to produce optimum returns on autopilot. The good news is that you're in control, and the bad news is that you're in control. To succeed, you need a sound investment strategy, one that reflects your retirement needs, time horizon, and risk-tolerance level. Take the time to manage your funds wisely, and watch your nest egg grow.

    Here are some commonly asked questions and answers about managing your 401(k) plan:


    How much should I contribute?
    As much as you can, as early as you can. If you can't contribute the maximum, some financial planners recommend annual contributions of about 10% of your annual salary. If you can’t manage that, try the “1% solution”. That simply means beginning with a percentage of pay you can live with and upping that rate by 1% annually. By all means, make every effort to take full advantage of your employer's matching contribution--any money you don't match is virtually thrown away.

    Feeling broke? Don't worry, the effect on your take-home pay isn't as bad as you might think. Each dollar you contribute reduces an annual pay income of $50,000 by only $810, according to a recent study by Fidelity Investments (assumes a 6% of annual income to a 401(k) contribution in a 28% tax bracket).

    Employees may contribute up to $15,5000, the IRS maximum in 2007.

    What kinds of investment choices do 401(k) plans offer?
    Most 401(k) plans offer up to a dozen investment choices. Among them: a mix of stock and bond funds, cash instruments, and company stock, and lately, exchange traded funds (ETF’s). Many plans also offer guaranteed investment contracts (GICs), which are issued by insurance companies and pay a fixed rate of interest.

    What is asset allocation?
    In its simplest sense, it's "not putting all your eggs in one basket." The key is to diversify your portfolio by dividing assets among stocks, bonds, and cash equivalents. The theory here is that, by spreading your plan assets around, you are minimizing your chance of losing money on a single poor performing investment.

    By and large, 401(k) plan participants tend to favor tilting their plans toward stocks. According to a 2006 study by the Employee Benefit Research Institute (EBRI), at year-end 2005, equity securities— equity funds, the equity portion of balanced funds, and company stock—represented an average of two-thirds (68 percent) of 401(k) plan participants’ assets.

    A good rule of thumb on 401(k) asset allocation strategies. Take advantage of educational opportunities your plan sponsor offers. Many provide simple to sophisticated model portfolios to help you through the process.

    Also, review and update your asset allocation strategy annually or as circumstances dictate. A banner year in the stock market (sound familiar?) means you may need to rebalance your fund allocations to stay within your target range in a particular fund or category.

    Can you give me an example?
    A conservative investor, age 25 to 45, may have 50% of his or her assets in a stock index fund; 20% in long-term corporate bonds; 15% in short-term bonds; and 15% in growth company stock. In contrast, an aggressive investor may hold 65% of his or her assets in an aggressive growth stock fund; 10% in a stock index fund; 10% in long-term corporate bonds; and 15% in international stock.

    If you have other retirement assets, like real estate, share certificates/certificates of deposit, and the like, don't forget to include them when determining your asset allocation. Check the Web for sites like SmartMoney's interactive work sheet to assist in your planning. Find it at: https://ecommerce.smartmoney.com/ecommerce/login?url=%2Fpowerallocator&host=selectjdl.smartmoney.com

    How much risk should I assume?
    A good rule of thumb: The longer your investment time horizon, the more risk you can accept. Younger investors get the green light from most financial planners to invest more aggressively in stocks that are riskier but pay higher returns. But as retirement approaches, you may want to reduce your stock allocation and shift money to bonds.

    Some investors are born risk takers; others are not. Know which you are. Before making any decisions, be sure you have a complete understanding of the risk associated with the various funds in your 401(k) plan.

    Understand that seemingly minor differences in rates of return translate into huge dollars over time. Let's say you contribute $5,600 a year to your plan with a modest employer match. Over 30 years, earning a return of 6% annually rather than 8% reduces your account from a potential $1.3 million to $936,000. That's $364,000 less for you to spend in retirement.

    Remember, you're in this for the long haul. Don't get preoccupied with day-to-day or week-to-week market gyrations. It's all part of the game.

    Are the funds in my 401(k) off-limits until I retire?
    Not completely. But if you tap your funds early, you'll pay a 10% penalty on the amount you withdraw in addition to payment of regular income taxes.

    Most companies allow you to borrow against your 401(k), and a growing number of employees are doing so. But be careful: If you lose your job, or get laid off, you must pay off the balance in 30 days or pay federal income tax on the amount you owe plus a 10% early withdrawal penalty.

    You must begin to withdraw funds from your 401(k) at age 70 1/2.

    What about fees?
    Fees associated with running 401(k) plans typically are 1.5% or more. Small company plans may be higher. If you don't know what you're paying, ask the people in your human resource department.

    The U.S. Department of Labor has a useful site on understanding the impact of 401(k) plan fees. Find it at: http://www.dol.gov/ebsa/publications/401k_employee.html.

    What happens when I leave my job?
    When you leave a company, your 401(k) might go with you. You have three options: If you have a minimum amount that your previous employer is willing to manage for you – say $3,500 -- $5,000, you can leave it in your company's plan. Or you can roll over the balance into a new employer's plan. If your employer does not have a plan, or you must wait before participating, you can deposit the money into a conduit IRA (individual retirement account).

    Is it possible to use the Internet to manage my 401(k) plan?
    In the Information Age? Sure. A growing number of plan providers are launching Internet sites that allow employees to manage their 401(k) plans via the World Wide Web. Employees can transfer funds, check account balances, and research fund performance with the click of a mouse, seven days a week, 24 hours a day.

    The Internet is a good tool to evaluate fund performance. Check out www.morningstar.net for rankings and profiles of 7,000 funds.

    A good user-friendly site for understanding the nuts and bolts of your 401(k) plan is the 401KHelpCenter. Find it at www.401khelpcenter.com.

    END



    Posted Jun 04 2007, 01:57 PM by moneycoach with no comments
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