1 Personal Investments

Unit 1 Introduction – Your financial life 2

Activity: Financial dreams/Financial nightmares List all your financial dreams List all your financial nightmares 3

Your (financial) Life 4

Expect to be self- employed,under- employed or unemployed sometimes. People change jobs on average every two years. 5

DRAFT 3/6/ Typical income

DRAFT 3/6/ Your financial life - income

DRAFT 3/6/ Based on gender?

DRAFT 3/6/ Based on education

Salaries are leveling off. You can still improve your earnings with education. Washington 2006 Median Income Total:63,705 2-person families58,584 3-person families66,252 4-person families75,140 5-person families68,562 6-person families62,484 7-or-more-person families61,212 10

DRAFT 3/6/ Income is not rising but debt is

DRAFT 3/6/ People are raiding the piggy bank

DRAFT 3/6/ Spending power?

DRAFT 3/6/ How are we doing at savings?

DRAFT 3/6/ Could we save more?

Summary Consider your entire financial life and be aware of all the twists and turns Choose a good career and educate yourself Don’t borrow to spend Save – even if you think you’ve saved all you can, save more DRAFT 3/6/

DRAFT 3/6/ What we will do in this course Focus on financial goals Save and let Uncle Sam help Learn about different investments Asset allocation NOT investment selection Evaluate funds Learn when to buy and sell Protect your wealth

Your financial goals (optional) DRAFT 3/6/

Setting goals – start small What do you want to achieve this year? Over the next year, what ONE occurrence would have to happen for you to feel you’ve made significant financial progress? Write this occurrence as a goal. Describe why it is important to you. Describe how you will feel when you have accomplished this goal. 19

DRAFT 3/6/ Cost out your goals Down payment on house (The more you put down the less risk to default and less monthly payments) Wedding (yours or your kids) Car (Budget or goal?) College tuition (you/your kids/your grandkids) ( Starting your own business Retirement (Rule of thumb – annual income divided by 4%) ( OGIN) OGIN Estate (Inheritance or charity)

Your net worth What you own (home, car, bank accounts, etc.) Less What you owe (mortgage, car loans, student loans, credit card balance, etc.) Keep track of it and grow it every year. DRAFT 3/6/

DRAFT 3/6/ Your financial life – net worth

Summary Set goals – start small and keep at it Make your goals specific and cost them out Calculate your net worth Grow your net worth DRAFT 3/6/

Unit 2 -Tax-advantaged saving - Saving with help from Uncle Sam. 24

DRAFT 3/6/ The importance of saving early Which is more? 1.Saving $4000 a year from 25 to 45 years old and then no more savings but you leave it in your account (at 8% per year) 2.Saving $8000 (double) a year from 45 to 65 years old

DRAFT 3/6/ Finding money to invest – time value of money (a review)

27 3. The effect of saving every year You cut out candy and soda for savings of $25 every week. What will you have in 40 years?

Time value of money – a review Interest rateSavings per week Number of Years Future Value 5%$2540$152, %$5040$305, %$7540$457,806.05

29 The effect of a better return Interest rateSavings per week Number of Years Future Value 8%$2540$349, %$5040$698, %$7540$1,047,302.35

Start early and let your money work for you 30 Number of years Savings per year Total contributionsEarningsTotal years $798,540$958, years $552,947$692, years $377,843$497, years $252,996$352,996.

Case study: Cost of cashing out About 57% of people who leave companies cash out their retirement benefits of $8445. If you left this money in a retirement plan for 40 years at a return of 8%, calculate what it contributes to your retirement. 31

Cost of cashing out You lose about $183,500 for your retirement fund. If you cash out, you pay taxes on your withdrawal plus a 10% penalty on top of that. That would leave you with $6000 now versus $183,500 when you retire. 32

DRAFT 3/6/ Maximizing retirement saving 54% have access to employer-sponsored plans and 43% participate 53% of white-collar occupations 40% of blue-collar occupations 20% of service occupations Employees make contributions to retirement savings plan Employers may match contributions up to a certain amount When employee leaves company, the money goes with him or her (portable) Retirement income depends on how much employee contributes and the returns on the money

DRAFT 3/6/ Employer Plans Most common defined contribution plan is 401K –43 million participants –457,830 plans –$2.1 Trillion in assets

DRAFT 3/6/ K – How does it work? Jill is single and makes $30,000 a year gross salary and she wants to put $1800 away for retirement in 30 years. She is considering three options: –401K contribution –Traditional IRA contribution –Roth IRA contribution

DRAFT 3/6/ K – How it works Salary is typically contributed pretax – will reduce your salary for tax purposes Maximum contribution $15,500 (2008) with an additional catch-up of $5000 for those over 50 years old 82% of employees contribute On average participants put in 6.8% of salary 91% of employers match your contributions up to on average 3.3% of your salary There is a 10% penalty for withdrawing before age 59 ½ and you have to pay taxes on your withdrawal When you leave your company, you may rollover your 401K to a Individual Retirement Account (IRA)

DRAFT 3/6/ Traditional IRA Jill’s income level is low enough (see IRA publication 590 for limits) to put money away pretax into a traditional IRA IRAs like 401Ks may have –Her salary for tax purposes is reduced by $1800 to $28,200 so she pays less taxes now –In 30 years, at 8% return, Jill has $18,113 which will be taxed when she takes a distribution

DRAFT 3/6/ Roth IRA Jill’s income level is low enough to put money into a Roth IRA (see IRS publication 590 for limits) –Her salary is not reduced so she has no tax savings now –In 30 years, at 8% return, Jill has $18,113 which will be NOT be taxed when she takes a distribution

DRAFT 3/6/ K Jill puts 6% ($1800) in a 401K. Her company matches up to 50 cents for every dollar the employee contributes up to 6%. –Her salary for tax purposes is reduced by $1800 to $28,200 so she pays less taxes now –Her company matches 3% of $900 so the total contribution is $2700 –In 30 years, she will have $27,169 which will be taxed when she takes it out

DRAFT 3/6/ K, IRA or Roth IRA for Jill? If a company matches, 401K is best up to the maximum of the match If your tax rate is low now and higher when you retire or you want more flexibility on your distribution, the Roth IRA is the next best

DRAFT 3/6/ Risks with 401K 18% to 25% of employees don’t participate or contribute About half of those under 25 contribute Participants don’t know how to allocate assets (100% company stock is a risk) When people leave company they cash out their 401Ks instead of rolling it over

DRAFT 3/6/ K Checklist Max out employer contribution Monitor asset allocation Ask about fees Always roll over when leaving a company

IRA You can contribute up to what you earn for the year Roth IRAs are best if your tax rate is low When you leave a company, make sure that you roll over your savings to a IRA – keep it separate DRAFT 3/6/

DRAFT 3/6/ Issues in retirement planning It’s up to you and not your employer – save in a tax-advantaged way How much should you save? Lots of opinions but 10% to 15% a year will be a good safety net Don’t cash out retirement savings – it costs you a lot Don’t borrow on your 401k—it costs you too

45 401KRoth IRATraditional IRA Who is eligibleDetermined by employer. Anyone who had income from working and his or her nonworking spouse. There are income limits. Anyone up with age 70 ½ with income from working and his or her nonworking spouse. There are no income limits. Maximum you can contribute $15,500 (2008 with cost of living after that) or maximum set by employer. $5000 catch-up contribution for those 50 and over. Your employer may contribute a match which makes this attractive. $5000 (2008) each with $1000 catch-up contributions for those over 50. Tax status of contributionsContributions are pretax.Contributions must be after-tax. Contributions may be pretax up to certain income limits. Tax status of earnings Earnings are tax deferred. You pay ordinary income tax when you take the money out therefore missing out on lower capital gains tax. Earnings are tax free. Earnings are tax deferred. You pay ordinary income tax when you take the money out therefore missing out on lower capital gains tax. Withdrawals Withdrawals made before age 59 ½ will be subject to a penalty of 10% in addition to tax. Contributions may be withdrawn without penalty. Earnings can be withdrawn without penalty for some expenses. Withdrawals made before age 59 ½ will be subject to a penalty of 10% in addition to tax. Mandatory age for withdrawals 70 1/2None70 1/2 r01.html#d0e124http:// r01.html#d0e124 for the latest limits.

Unit 3: Investments DRAFT 3/6/

DRAFT 3/6/ Understanding Returns

DRAFT 3/6/ A real life example You will get your paycheck next week but you need $100 now. You arrange for a payday loan paying a fee of $15 for the use of $100. The payday loan company will collect the $100 electronically from your bank account when your pay check is deposited next week. What is the rate charged?

Income investments Invest only in instruments you understand Most investors start off with income investments such as certificates of deposit or bonds 49

Certificate of Deposits Invest a fixed amount of money (principal) in a CD. Your principal is guaranteed plus a fixed amount of interest: –Receive interest monthly, quarterly or at maturity. –You will incur penalty fees for withdrawing your money early before the term expires (before it reaches the maturity date). CDs can be purchased through banks, credit unions or brokerages. CD considerations are: –Time period (maturity date) –Interest yield includes the effect of compounding interest rate and is usually higher than the interest rate of statement savings accounts. –Interest payments may be withdrawn as they are paid by the bank –CDs are insured by the FDIC or NCUA up to $100,000 ($250,000 on retirement accounts) 50

Bond Primer Similar to CDs in that interest (yield) is paid usually semiannually Has a maturity, however may be redeemed before maturity. May be sold before maturity. DRAFT 3/6/

Primer on bonds 52

Capital gain or loss on bonds 53

Stocks When you own a share of common stock, you own a share of the company. Owning stock is also referred to as owning equity or having a shareholder stake since you are a shareholder in the company. Stocks are historically much more volatile than bonds in that their prices can go up and down much more. DRAFT 3/6/

Other investments Real Estate - can be broken down into residential (places where people live) and commercial (office buildings, shopping centers, hotels, warehouses, manufacturing facilities, and such). Estimates of worldwide value of commercial real estate is $14 trillion with the US having about $4.7 trillion. International -The 51 stock exchanges in the World Federation of Exchanges accounted for companies with $61 trillion in market value at the end of Over the past ten years, US exchanges and those of developed countries in Europe and the rest of the world accounted for less growth than markets in emerging economies such as China, India, and Latin America. Commodities - Commodities are raw materials such as oil, agricultural products such as wheat, cocoa or pork bellies, metals such as silver, gold, or copper. Commodities also include currencies, Treasury securities, and stock indexes. Speculators typically buy and sell commodities with options and futures contracts on an exchange. DRAFT 3/6/

DRAFT 3/6/ Investment Risk

DRAFT 3/6/ Major asset classes: Risk & Return Index Funds (2007) Average Return % Risk % Emerging markets are international stocks of developing countries 4218 European large stocks2510 International stocks of developed countries239 Real estate2217 Small cap stock - Small US companies $300 M to $2 B 1512 Mid cap stock - companies $1.5B to $5 B1610 S&P Largest US stocks138 Bonds43

DRAFT 3/6/ If you receive an offer of a guaranteed high return, is that possible? Only if they guarantee a high loss as well. There are no guarantees in any investment. All investments go up and down. Higher return means higher risk. Return versus Risk

DRAFT 3/6/ Given the same return, the investment with less risk is better

DRAFT 3/6/ The Northwest is the best.

DRAFT 3/6/ Combined – Risk Return

DRAFT 3/6/ Year-to-year stock returns

DRAFT 3/6/ Risk gets lower with time

DRAFT 3/6/ Lowest risk over ten years

DRAFT 3/6/ Summary All investments have risk Buy and hold market index funds (doesn’t work for individual stocks) Have an emergency fund (3 to 6 months) to tide you over Have other sources of income so you don’t have to cash out during down markets

DRAFT 3/6/ Asset Allocation

DRAFT 3/6/ All eggs in one basket? 34.6 percent of families had stock in only one company 59.5 percent had stock in three or fewer companies 9.5 percent had stock in fifteen or more companies Source: 2004 Consumer Finance Survey

DRAFT 3/6/ Why asset allocate? It has to do with return and risk

DRAFT 3/6/ Can you predict the best return?

DRAFT 3/6/ Does the risk double with two investments? The key is having two investments which aren’t correlated.

DRAFT 3/6/ Adding a riskier investment to your portfolio decreases overall risk.

DRAFT 3/6/ If you allocate the right amount you reduce risk and increase return!

DRAFT 3/6/ Pension Fund Asset Allocation

DRAFT 3/6/ “Millionaires” Portfolio

75 David Swensen suggests a portfolio

Summary Don’t put all your eggs in one basket. Rebalance every year to keep your portfolio on track. DRAFT 3/6/

Funds DRAFT 3/6/ Unit 5: Selecting funds

Types of funds Mutual funds Closed-end funds Exchange-traded funds (ETFs)

Mutual fund industry

Closed-end funds

ETFs

Evaluating funds 9/12/07 82 Objective Relates to your asset allocation goals Check the portfolio to be sure Fees The lower the better – check against index funds Performance How does it do against the index? How does it do against other funds? Risk Is it lower risk than other funds? Management If you are choosing an actively-managed fund – how experienced is the manager? or for Lipper

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9/12/07 94 Other American Funds Have sales fees

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Fund Fees True or False? 96 All fund fees are charged when you buy. All fund fees have the same effect. A no-load fund has no fees. All funds should have the same level of fees and expense ratios. Expense ratios are such a small part of your investment you shouldn’t worry about them.

Index Funds Index funds are funds that represent certain categories of assets There are index funds for large, medium and small stocks, international stock, bonds, industries, real estate, commodities, and more. They are not actively managed. Their investments don’t change. DRAFT 3/6/

Beating the indices -- negatively 9/12/07 98 Source: Statement of John C. Bogle to the United States Senate Governmental Affairs Subcommittee, November 3, 2003

How fees (negatively) impact your return 9/12/07 99 Source: Statement of John C. Bogle to the United States Senate Governmental Affairs Subcommittee, November 3, 2003

DRAFT 3/6/

Evaluate your fund performance/fees against index funds performance/fees 9/12/ Mutual Fund Category Index Fund Expense Ratio % All Funds Expense Ratio % Emerging markets are international stocks of developing countries European large stocks International stocks of developed countries Real estate Small cap stock - Small US companies $300 M to $2 B Mid cap stock - Medium-sized US companies $1.5B to $5 B S&P Largest US stocks Bonds

9/12/ Unit 6: When to buy and sell

Bond/CD Laddering Bond laddering is buying income investments over many periods rather than just at one time. The advantages of a bond ladder (or CD ladder) are: You will have a mixed yield portfolio of bonds coming due in the short and long term, which will give you a better current bond yield. If interest rates go up, you will have a bond maturing shortly that you can reinvest at a higher interest rate for another five year term. If interest rates drop, only a small portion of your portfolio (the one-year bond maturing) would be reinvested at the lower rate. You can match your cash needs with how long you make the bond ladder by deciding the type of bond for the ladder. Be careful how you build your bond ladder. Here are some suggestions to keep in mind: The longer the maturity, the higher your yield but the risk will be greater. For your bond ladder, the more rungs on your ladder, the more diversified your investment portfolio will be. DRAFT 3/6/

Bond Ladder DRAFT 3/6/

The effect – not always better Lump sum Ladder % % % % % % At maturity DRAFT 3/6/

Rebalancing DRAFT 3/6/

Do we buy at the right time? DRAFT 3/6/

Rebalancing Adjusting portfolio based on asset allocation goals DRAFT 3/6/

No rebalancing DRAFT 3/6/ Year BondStock %60% %60% %61% %65% %68% %73% %76% %79% %76% %72% %64% %69% %70% %71% %73%

Rebalancing DRAFT 3/6/

DRAFT 3/6/ Advice from the pros David Swensen who manages the Yale University endowment, and who is considered one of the best investment managers, has sobering advice to give to individual investors: Individuals shouldn’t pick stocks themselves. The markets are competitive and they don’t have the information to compete nor the clout to negotiate. Beware of actively-managed mutual funds. They allow popular funds to grow too big so they can’t beat the market. They also tend to promote the wrong fund at the wrong time. The vast majority of actively-managed funds underperform the market. Mutual fund monitoring companies don’t help you either. They downgrade funds after the damage has been done. Individuals are best served by index funds with the lowest fees. Have a diversified portfolio and rebalance.

Investor Fraud Unit 6: Protect your wealth

113 Choosing a financial advisor Comparison shop - talk to people at several firms. Meet with them face to face at their offices. Make a list of questions to ask. Get a copy of their Form ADV. Qualifications - What is the advisor’s education? What certification does he or she have? Does it relate to financial knowledge? Ask about their clients. How many clients do they have? How long do clients stay with them? What are the total assets they are advising on? What is the average portfolio of their clients? Make sure you fit the profile. Style: Ask if the advisor or an assistant will handle your portfolio. Ask for at least three references. Do you feel comfortable with the advisor? Investing is a very personal activity. Does the advisor’s investing style match yours? You need to feel that the advisor is working in your best interest. Disclosure - Make sure that you have complete disclosure of any fees and the commission schedule. Ask if there is any potential conflict of interest. Get this all in writing.

Investment Fraud Investment fraud criminals use a wide array of influence tactics. Research done by the National Association of Securities Dealers on transcripts from phone calls of these con artists found 1,100 separate uses of the influence tactics in 128 transcripts. First the con artist identifies victims and then cases out the potential victim. They establish that the victim has money. Then they create the “ether” or the state where the victim is susceptible to the fraud.

Commonly Used Influence Tactics Phantom Fixation – The con puts something that is completely unavailable before the victim. Often it appeals to health issues, wealth, popularity or avoiding death. The amount of money that they claim you can earn is astronomic. For example, earn $30,000 a month. Commitment – “You can vote to stop drilling, but if you do, all the rest of what you have invested will be lost.” Authority – “I have been in the oil business for over 30 years and I have seen it all.” Social Proof – Everyone is getting in on the offer Scarcity including product scarcity (only three left) and time scarcity (offer good only today)

Other influence tactics Comparison – Inflated “regular” price Profiling – Probe for information and then customizes pitch Friendship – Changes the relationship from con to victim to friend to friend Reciprocity – Does favor so you will return favor (gifts, free lunch, etc.- with gift response rate goes from 17% to 36%) Landscaping – changes social interaction so it lead to where the con wants to go by setting the agenda, limiting choices or controlling information.

If it sound too good to be true, it is. Don’t invest in anything you don’t understand. Check out your investment advisor and your investments at Report any suspicious activity right away.

Activity Similar to a will that outlines your wishes for your children, what are the most important financial lessons you want to pass onto your children? When would you start teaching them these concepts? DRAFT 3/6/