September 1994 Newsletter

Where the stock market is headed is subject to great debate, and on any given day it is easy to find someone who will predict a major rally, a major decline, or no significant movement. With so much debate and so little agreement, most investors are left with the feeling that stocks are risky and unpredictable. But does history support this conclusion?

Over the very long term, from 1926 to 1993, stocks earned an average annual rate of return of 10.3%, compared to 5.6% for long-term corporate bonds and 3.7% for U.S. Treasury bills.* (Keep in mind that each of these investments have differing investment characteristics. Stocks can have fluctuating principal and returns based on changing market conditions. Corporate bonds have fixed principal value and yield if held to maturity. Treasury bills are guaranteed as to the timely payment of principal and interest.) Although the stock market has shown major declines in certain years, over the long term investors have been rewarded with higher returns.

OWNING STOCK

When you own shares of stock, you become an owner of the company that issues the stock and can share in the wealth of the company. There are many types of stocks, but many securities firms and stock analysts classify them according to the following categories:

BLUE CHIP — high-quality stock of major, well-established companies with a history of earnings growth and dividend payments in good and bad times.

GROWTH — stock of a company whose sales and earnings are growing faster than the general economy and most other stocks. These companies normally invest their earnings in the company to generate further growth, paying little in dividends.

INCOME — stock of a company that pays stable, and often significant, dividends, providing investors with a steady stream of income.

DEFENSIVE — these stocks are considered stable and comparatively safe in recessionary periods, and include utilities, banks, and food companies.

CYCLICAL — the earnings of these companies tend to fluctuate sharply with the business cycle, such as auto companies.

SPECULATIVE — these stocks are perceived to have much more risk than other types of stocks, and frequently include hot new issues and glamour stocks.

ARE STOCKS FOR EVERYONE?

No investment is for everyone, including stocks, but they should be considered for several reasons. First, stocks are capable of earning substantial returns during some periods and steady returns over the long term. Second, many investors find it rewarding to own a portion of a company and share its growth. Third, stocks can play an important role in ensuring that your portfolio is properly diversified.

Stocks are riskier than other investments because, on a year-to-year basis, the annual rate of return fluctuates more than less risky investments. However, there are ways to reduce the effects of these fluctuations.

Invest for the long term. Most people lose money when they attempt to earn substantial returns in a short period of time.

Use a systematic method to invest in the stock market.

Diversify your portfolio of stocks to at least five or ten issues, preferably in different industries. Then the poor performance of one particular stock will not substantially reduce the value of your entire portfolio.

Diversify the types of assets you hold as well as the number of stocks in your portfolio. In addition to stocks, consider investments like corporate bonds, municipal bonds, annuities, life insurance products, real estate, etc.

Don’t purchase so many stocks that you have a difficult time monitoring them.

If you don’t have sufficient amounts to adequately diversify, consider investing in a stock mutual fund.

Don’t procrastinate. Investors are often so uncertain about where the market is headed that they kept a significant portion of their assets in cash equivalents, not realizing that they are still facing a significant risk — that inflation will outpace the return on their investments.

Thoroughly review a stock before you purchase. Avoid hot tips unless you are convinced of the stock’s merits.

Don’t overlook stocks just because they have the potential to decrease in value. Over the long term, they have proven their ability to produce above average returns for investors. Please call us at 800-878-4036 to discuss how to incorporate stocks in your investment portfolio.

TEACH YOUR CHILDREN THE VALUE OF MONEY

One of the most valuable lessons parents can teach their children is how to responsibly manage money and a regular allowance is one way to teach this lesson. Although many child experts feel that allowances should not be used as a reward for performing chores or withheld as punishment, many parents feel otherwise. How you treat an allowance depends on what your goals are. You can use an allowance to teach your children how to manage money or to teach them that they must earn the money they receive. A way to teach both lessons would be to give your child a certain amount each week with no conditions and then allow your child to earn additional money by performing extra chores.

To ensure that your children learn how to handle money, you must be willing to give them control over their allowance. They are bound to make poor purchasing choices on occasion, but hopefully they will learn from their mistakes. That doesn’t mean you can’t discuss their options with them or encourage them to make other choices, but in most cases the final decision should be theirs.

You can also use an allowance to teach your children the value of saving for the future. Ways to do that include requiring your children to save a certain percentage for long-term goals or offering to match any portion they set aside for saving.

The money management lessons should become more sophisticated as your child matures. Some basic guidelines follow:

Ages 3 to 5: Start discussions about money. Take your child shopping with you and explain how you decide which item to purchase. Allow your child to make selections from several choices.

Ages 6 to 7: Start giving your child an allowance, making sure the money is given at a set time every week. Discuss ways your child can use the money.

Ages 8 to 10: Increase the amount of the allowance annually. Provide ways to earn extra money. Help your child open a savings or investment account. Discuss what your child should be saving for.

Ages 11 to 14: Allow your child to participate in family budgeting sessions. Strongly encourage your child to save, possibly matching any amounts they set aside.

Ages 15 to 18: Consider switching from a weekly to a monthly allowance so they can learn how to budget their money. Expand the allowance to include items like clothing. Encourage your child to open a checking account. Teach them about credit cards, possibly allowing them to use one. Make sure they join in discussions about how their college education will be financed.

In a society that has difficulty managing money, teaching your children how to do so is a lesson that will benefit them for a lifetime.

SELECTING A MUTUAL FUND

Selecting a mutual fund is not an easy process. With so many mutual funds available covering a wide variety of investment objectives, it will take some time and effort to decide which mutual fund is best for you. The following steps will guide you in that process:

Make sure you understand your investment objectives. It is an important starting point in deciding which funds are appropriate to meet your goals.

Request the prospectus from any fund you are interested in and read it carefully. Be sure to review all the basic sections of the prospectus, including investment objectives and policies, risk factors, fee tables, financial results, portfolio turnover rate, and shareholder services. Also request a copy of the statement of additional information, or Part B, which reveals more financial information, compensation of the fund’s directors and officers, and a listing of securities held by the fund.

Review the fund’s performance, including its performance in relation to the market as a whole and to other funds of its type. Always look at the return for several years, not just one. (Keep in mind that past performance is no guarantee of future performance.)

Examine all costs of investing in a particular mutual fund.

Investigate the shareholder services provided by the fund.

Once you’ve made an investment, monitor it periodically. Keep track of the performance of the fund and read all material sent by the fund’s management.

ARE WE SAVING ENOUGH?

Most individuals understand that in order to achieve significant financial goals, they must learn to make saving a significant part of their lives. As a nation, however, how successful are we at saving?

According to the U.S. Commerce Department’s Bureau of Economic Analysis, the personal savings rate was 4.0% of disposable income in 1993, 5.3% in 1992, and 4.8% in 1991, a significant drop from over 9% in the late 1970s. The Commerce Department expects the savings rate to range between 3.0% and3.7% through 1998 (Source: Financial Planning, June 1993, p.25).

Our personal savings rate is anemic compared to the savings rate in other countries. For example, the Japanese save 15% of their disposable income while the Germans save 12.6% (Source: Smart Money, October 1993, p.110).

The National Center for Financial Education estimates that the average consumer wastes 30% of discretionary income — money which could otherwise be used for saving (Source: Financial Planning, November 1993, p.36).

A Federal Reserve Bank survey indicates that as many as 20 million households have no intention of saving at all (Source: Fortune, November 15, 1993, p.102).

For many individuals, their homes represent their most significant source of savings. The median value of home equity for retirees is $50,000, more than twice the amount of their personal savings and employer pensions (Source: Fortune, November 15, 1993, p.102).

Only 70% of those eligible to participate in 401(k) plans do so. While the maximum amount that could be contributed to a 401(k) plan was $8,994 in 1993, the average amount contributed was 1,500 (Source: Fortune, November 15, 1993, p.108).

A recent survey of retirees found that 25% of the respondents felt that before retirement, they should have saved more or should have obtained more investment or financial planning information. 34% of these respondents worked after retirement, with 59% of the group indicating that they worked because needed the money (Source: National Underwriter, September 27, 1993, p.17).

As part of a two-year study of saving for retirement, only half of the individuals who indicated that they planned to cut expenses in order to increase retirement savings did so (Source: Financial Planning, March 1994, p.11).

NEWS AND ANNOUNCEMENTS

SHOULD YOU PUT COLLEGE SAVINGS IN YOUR NAME OR YOUR CHILD’S NAME?

When setting up a college savings program, you need to decide whether the savings should be in your name or in your child’s name. Under current tax laws, you can transfer $10,000 per year ($20,000 with your spouse) to each child with no gift tax implications. Taxation of income earned on those assets is based on the child’s age. For children under 14, the first $600 of income is tax-free, the next $600 of income is taxed at the child’s 15% tax bracket, and the remaining income is taxed at your marginal tax rate. All of the income for children over 14 is taxed at their tax rate. Thus, if your child is under 14, they will pay $90 of tax on the first $1,200 of income, compared to $180 if you’re in the 15% tax bracket, $336 in the 28% tax bracket, $372 in the 31% tax bracket, $432 in the 36% tax bracket, and $475 in the 39.6% tax bracket. Thus, saving in your child’s name will reduce your total income tax bill; however, other factors should be considered before selecting this option.

Your child’s chances of qualifying for financial aid will also have a significant impact on your decision. Under present financial aid formulas, 35% of your child’s assets must be used for college education costs, while only 5.6% of your assets must be used. Thus, saving funds for college in your name may allow your child to qualify for more financial aid. It is also important to keep in mind that once you transfer funds to your child, the money legally belongs to them, even if you are the custodian of the funds. Once your children reach legal age, they can use the money as they wish, which may not include a college education.

For many people, this is a tough decision. Should they take certain tax savings available today if they save in their child’s name or are they better off saving in their own name, hopefully qualifying for more financial aid at some point in the future? Please call us at (800) 878-4036 if you’d like help making this decision.