River Hill Magazine: An Economic Blueprint for College Savings – To help you plan effectively and be well-prepared!

The beginning of a new school year is a good time to think about planning ahead for the costs of college for your children. Five key variables to consider in your analysis are time horizon, cost assumptions, available resources, account structure, and investment strategy. This article addresses the first three of these variables.

College Savings Blueprint

Photo by Sophia Liu

Time Horizon

The first key variable, time horizon, can be broken down into two subcomponents. These are the number of years until college begins and the number of years in school. Additional consideration should be given to whether or not you plan to continue to add to college savings during the years the child is actually attends college. Alternatively you could plan to have college costs 100% funded by the time college starts, and therefore not have to contribute additional resources during the college years.

 Cost Assumptions

The second variable, cost assumptions, also has two subcomponents. The first would be the annual cost of college in today’s dollars for room, board and tuition. Further consideration can also be made for various types of colleges that your child plans to attend. In other words you could run multiple scenarios for each child depending on the type school ranging from commuting to a local community college up to attending an elite college like a Johns Hopkins or a Harvard.

 Available Resources

The third variable is funding. There are two funding factors to consider. The first is “what funds are available now that are specifically designated, or have flexibility to be used for college?” The second factor is potential sources of additional funding. Additional funding can come from a variety of resources including, but not limited to, surplus household cash flow, funds contributed by grandparents or other family members on behalf of your child, funds redirected from a child’s UGMA or UTMA custodial account, and even Section 529 Education Savings funds transferred from another family member. There are tricky issues to be carefully considered before redirecting or transferring any existing funds. Once the key variables have been identified, it is possible to run financial projections on what the approximate cost of college might reasonably be expected to be for each scenario you would like to consider.

 Account Structure and Investment Strategy

The final two variables involve how and where the education funds will be accumulated and the investment strategy. These variables will be addressed in a future column.

This is article appeared in the October 2014 issue of River Hill Magazine
Copyright © by PARR Financial Solutions, 2014.
Please feel free to Contact Us if you have any questions or comments.

River Hill Magazine: Lessons From A Homeless Shelter – Timeless Tips for Financial Self-Sufficiency

This item is based on a personal experience that actually took place in 1993 as my financial advisory practice was just getting started.  The lessons have clearly stood the test of time and are still relevant:

After attending a seminar sponsored by a local nonprofit, career networking organization entitled Reengineering Your Finances for a Smooth Career Transition”, a man named Mr. Booker approached the guest speaker, a young financial adviser, and asked if the adviser would be willing to speak to his organization. The adviser routinely mentioned that he spoke regularly at career fairs, civic organizations or to local investment clubs. When the adviser asked for the name of the organization, Mr. Booker replied, “The East Oakland Community Project.” The adviser agreed to make the presentation and asked for a date. Mr. Booker mentioned that he was not the contact person for the organization, but he would put an officer from the organization in touch to schedule.

At that moment, the adviser suddenly realized that Mr. Booker’s organization was a homeless shelter in the heart of the Oakland, California projects, one of the toughest neighborhoods in the country, and that he was asking the adviser to address a group of about fifty homeless residents. Furthermore, Mr. Booker identified himself as one of the shelter’s residents! The adviser immediately wanted to know, “what good could it possibly do to talk to homeless people about their financial matters.” The content of the presentation covered the basic building blocks of sound financial management including setting goals, budgeting, establishing adequate liquid emergency reserves, sound debt management strategies, and tracking household net-worth. Unfortunately, from the adviser’s perspective, a homeless audience, by definition, is not in a position to focus on any of these issues. Their needs were perceived to be at a much lower level of basic survival according to the classic Maslow’s Hierarchy of Needs.

Mr. Booker’s offered these three financial rules to follow that he summarized from the presentation that he had just attended. He correctly perceived that these rules could apply to all:

1. Wealth is accumulated gradually over time.
2. In order to accumulate wealth one must understand the concept of delayed gratification.
3. All people, both poor and wealthy, need to practice sound money management principals.

The adviser agreed to do the presentation. It was certainly an experience outside of the general comfort zone of the adviser and required the adviser to meet at 7:30 PM at the shelter. From the adviser’s perspective, there were Maslow Hierarchy issues of basic survival as well!

Although this lesson took place several years ago, the essence of Mr. Booker’s words of wisdom recently appeared in the recent best seller “The Millionaire Next Door”. The authors, Stanley and Danko, studied a broad sample of the affluent market and reached this conclusion: “The key to building wealth is not luck, inheritance, advanced education, or intelligence. Wealth is accumulated by hard work, careful planning, self-discipline, consistency, and personal sacrifice.”

Mr. Stan Booker is to be commended for challenging the adviser to make the presentation at the East Oakland Community Project. The adviser was able to broaden his perspective and dispel the incorrect assumptions that he and the general public have about the homeless. Being able to make a positive difference in several lives rewarded the adviser. Creating a positive change in just one person was enough to make this endeavor worthwhile.

This is article appeared in the July 2014 issue of River Hill Magazine
Copyright © by PARR Financial Solutions, 2014.
Please feel free to Contact Us if you have any questions or comments.

River Hill Magazine: Asset Class Correlation – A Useful Tool for Managing Investment Risk

With U.S. stock market indices at or near record highs and showing increasing signs of stress, it is an opportune time to reinforce the long-term benefits of permanently including some out-of-favor positions in your portfolio.   An investment strategy practicing broad diversification can pay-off with reduced downside volatility and lead to higher long-term returns. 

A Dose of Reality

Periodic stock market corrections are an inevitable part of investing and impossible to time consistently.  Here are a few probabilities to consider based on historical data from John Tousley, Sr. Portfolio Strategist at Goldman Sachs Asset Management:

  1. There is a 57% chance for a 10% stock market correction in any given year.
  2. The probability of at least a 10% market correction increases to 65% chance when the market is trading at an all-time high.
  3. It has been 20 months (as of March, 2014) since the last 10% or more market correction.
  4. Investors who try to time the market end up underperforming by 3%.

What is Asset Class Correlation?

One-way to accomplish broad diversification in an investment portfolio is by carefully selecting different types of investments, technically referred to as “asset classes”, that have a low correlation to the stock market.  Correlation is a statistical measure of how different investments behave relative to each other.  Correlation mathematically ranges from +1.00 to -1.00.  A correlation of +1.00 indicates 100% perfect correlation and implies that a 10% gain in one asset class could be expected to also lead to a 10% gain in another asset class.

A value of -1.00 indicates perfect negative or opposite correlation.  For example, rain and umbrellas have a correlation close to +1.00.  Rain and sun have a correlation closer to -1.00.  The correlation between rain and scheduling a routine dental check-up is perhaps 0.00 and implies that these two items are uncorrelated and likely have nothing to do with each other.

The table below generated using Morningstar Principia Pro software shows the degree of monthly correlation between the returns of various asset classes for the five-year period ending 12/31/2013.  The asset classes selected for this analysis are (1) Bonds, (2) Commodities, (3) International Stocks, (4) Emerging Market Stocks, (5) U.S. Small Company Stocks, (6) U.S. Large Company Stocks, (7) Cash, and (8) Gold:

Asset Class Correlation

This analysis presents a case for including low-correlated assets including cash, bonds and gold in a portfolio to reduce the overall stock market risk of the total portfolio.  Permanently keeping a portion of your long-term investment portfolio in low-correlated investments can reduce risk and actually enhance long-term returns by helping to stabilize the downside.  On a final note, please keep in mind that correlations are not fixed and can change over time and amid different global economic conditions.

Christopher Parr is President of a local, independent, fee-only wealth management firm:  www.ParrFinancialSolutions.com

This article was written for the June issue of River Hill Magazine.  

 

The Business Monthly: Lifecycle Target Date Funds – Not a Holy Grail Investment Plan

hybrid investment products

Source: Swamp Meadow Community Theatre\

As the 40th anniversary reunion of famed comedy troupe Monty Python takes place in London this summer, it seems an appropriate time to mention a very different perceived Holy Grail of company retirement plan investing – namely “lifecycle” or  “target date” funds (TDF).  These hybrid investment products are being marketed to the masses by mutual fund companies as a single, one-stop investment solution.

Lifecycle Funds and Target Date Funds Explained

Lifecycle funds have a rather simplistic concept which, in and of itself, may not be such a bad idea.  The concept is that these funds, primarily using a mix of cash bonds and stocks, steadily become more conservative as the account holder grows older.  The funds have names that include a desired year of retirement in five-year increments.  The three dominant players, controlling almost 75% of all assets into these types of funds, are Fidelity Freedom Funds, T. Rowe Price Retirement Funds, and Vanguard Target Retirement Funds.

The concept of target date funds originated with Barclays Global Investors’ Life Path Portfolios in 1993.  Use of these funds began to rapidly accelerate immediately following passage of the Pension Protection Act of 2006, when target date funds received government approval to be automatically selected as the default choice for new contributions into employee tax-deferred retirement plans.  A potential advantage of this change is that it can keep retirement plan participants fully invested and focused on the long-term growth of retirement savings.

Previously undirected deposits were made into cash or money market funds unless specific investment instructions from the account holder were on file.  Financial industry consultants Cerulli & Associates Inc. estimate that target date funds currently make up 20% of all company retirement plan assets and 42% of new deposits into retirement plans.  Both of these percentages are expected to grow by at least 50% over the next five years.

Lifecycle target date funds are not generic in nature and can actually be quite complex.  A common misperception among many investors is that funds from different providers with the same target year in the name will have very similar investment philosophies and identical risk and reward profiles.  When using lifecycle or target date funds it is important for investors to have a clear understanding of the dynamics and design of their specific fund.

Glide Path

Perhaps the most important concept to understand is known as the “glide path”.  This design feature determines how much of the fund assets are invested in stocks as the target date of retirement approaches.  There are also design choices made by the TDF fund for the glide path to be “to” or “through” the targeted date of retirement.  A glide path “to” the date of retirement gradually reduces exposure to stocks up to the specified year of retirement and then typically levels off at a stock allocation around 30%.  A glide path “through” the targeted retirement date typically maintains a decreasing allocation to stocks through the date of retirement plus 20-30 or more years covering average life expectancy in retirement.  A “through” glide path often, but not always, maintains a 25-30% allocation to stocks in the later years.  The spot where the glide path levels off is called the “landing point”.

There are several drawbacks of target date funds that should be noted.  For example, there are no standardized industry definitions for the design of the glide paths.  Another disadvantage is that each TDF makes the assumption that all investors have same financial needs and risk tolerance.  A third potential issue is that many funds are not direct investments, but comprised of a collection of proprietary, in-house, fund-of funds mutual funds.  The proprietary nature of the funds opens up the possibility of higher fees or poor performance from some of the underlying holdings.  Lack of transparency regarding the total cost of these funds could also be an issue.  The most significant problem with target date funds, however, is the lack of protection during times of adverse stock market turmoil.  In 2008, during the global financial crisis, the average “2010” target date fund lost 25% of its value.  In other words, a typical investor within 2 years of a planned retirement date lost 1/4th of the value of his entire account.

Here are a few points to consider when evaluating target date funds:

  1. Does the fund follow a “to” or a “through” retirement date glide path?
  2. When does the glide path reach the landing point and level-off?
  3. What are the past history of the fund and the experience of fund management?
  4. What is the trade-off between investment risk and the risk of outliving assets?
  5. Are total fund fees transparent and not excessive?
  6. Is the fund manager allowed to deviate from the glide path explained in the prospectus to make tactical (market-timing) adjustments?

Summary

To summarize, lifecycle target date funds are becoming an increasingly significant component of most investors’ company retirement plans.  It is important to research a particular fund, understand the potential risk-reward trade-offs, and how the fund allocation will evolves over time BEFORE the inevitable periodic stock market correction occurs.  All investors should have at least some allocation to stocks to keep up with inflation and help to protect against the risk of out-living assets over a long life expectancy.  On a final note, remember that lifecycle target date funds are long-term investments and not a suitable place to park funds needed to meet short or intermediate-term goals.  Use of these funds does not guarantee that the individual investor will be saving enough for retirement.

Christopher Parr, CFP® is president of Columbia-based Parr Financial Solutions Inc., a fee-only wealth management firm.  His articles have appeared in the Business Monthly since 1997.  He can be reached at 410-740-9011 or www.ParrFinancialSolutions.com.

This article was written for the June, 2014 issue of The Business Monthly.

Wall Street Journal: The Credit Card Shuffle

Free is good…free travel, hotel, cash and gift cards thanks to credit-card companies and a little nifty footwork…

Christopher Parr contributed to this Wall Street Journal article by personal finance writer Brett Arends explaining some useful tips for maximizing credit card offers and some traps to avoid credit card hidden cost.  Parr’s unofficial title is “Money for Nothing”!

 

 

BBC: “Planning Ahead for Adoption”

Christopher P. Parr comments on adoption planning for the BBC.   On the amount of money adoption with take: “To be safe, add 20% to what you are being told the adoption will cost,”  said Parr.  To read the full article — “Planning Ahead for Adoption: Keep Costs, Time in Check” by Kate Ashford — Click Here

 

 

 

 

 

 

 

 

Press Release — Advisor Completes Challenging Decade Safeguarding Howard County MD Pension

Baltimore MD – Oct. 1, 2013 – Christopher P. Parr, of Columbia-based Parr Financial Solutions, Inc. completed his 2nd, voluntary five-year term as a member of the Howard County MD Pension Oversight Commission.

Mr. Parr also served as chairperson of the Commission since 2007 and during the turbulent “Great Recession” of 2008 – our country’s most serious financial crisis since the Great Depression of the 1930’s.

He was appointed by County Executives James N. Robey and Kenneth Ulman, and approved by the Howard County Council. The Commission Code does not permit members to serve a third term.

“I am pleased that the recommendations of our Commission over the past decade have helped make the Columbia Pension stronger.”

See full media release HERE

 

 

BankRate – Smart Financial Moves for College Freshmen

Alyssa walking between buildings with bicycles - small (2)Alyssa Parr, daughter of Christopher P. Parr who heads Parr Financial Solutions, a wealth management firm in Columbia, MD., discusses some of the big financial mistakes she made her first semester at California Polytechnic State University. “(In the) first quarter, I spent so much money, but I learned a lot,” says Parr.  Tamara Lytle, who wrote the Bankrate piece, “Smart Financial Tips for College Students,”   says any freshmen — managing their lives on their own for the first time — make even bigger mistakes than Parr and provides a few ways freshmen can avoid flunking Personal Finance 101.

Financial Planning Magazine – Safer Strategies for Leveraged Investing

Christopher P. Parr comments on leveraged investing in Financial Planning Magazine :  “My advice to clients over my 20-plus years has always been to never buy on margin,” says Chris Parr,  who heads Parr Financial Solutions, a wealth management firm in Columbia, Md. “You should not invest what you don’t have.” Several planners agreed that margin loans have a place – but that place isn’t in the stock market.

Read full article here.

 

Baltimore Sun – Wall Street Shrugs Off Sequester

Christopher P. Parr, when interviewed by Baltimore Sun columnist Eileen Ambrose on whether Wall Street ignoring political drama in Washington is the new norm, said “Wall Street has gotten ahead of the game.”

“Sure, there are positive signs, Parr said, but the economy’s annual growth rate will be cut by at least half a percentage point once the sequester cuts are in force. That’s significant, given the current modest growth rate,” he said.

“I’m more worried about: Is this the time to dump fresh money into the market?”