Make It Last – Ep 20 – Three Biggest Investment Mistakes & Legal Planning for College Students
Over and over, investors make three mistakes that absolutely kill their ability to see returns in their investments. These three mistakes are common, and avoidable. This week, on Make It Last, Victor discusses what those mistakes are and how to make sure you don’t make them.
Also, Victor discusses the right legal planning recommended for college students…who are all likely returning to school this week.
Make It Last with Victor Medina is hosted by Victor J. Medina, an estate planning and elder law attorney and Certified Financial Planner™. Through his law firm and independent registered investment advisory company, Victor provides 360º Wealth Protection Strategies for individuals in or nearing retirement.
For more information, visit Medina Law Group or Private Client Capital Group.
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Announcer: Welcome to “Make It Last,” helping you keep your legal ducks in a row and your nest egg secure, with your host Victor Medina, an estate planning and elder law attorney and certified financial planner.
Victor J. Medina: Hi, everybody. It’s Victor Medina. Welcome back to Make It Last. I’m happy you’ve joined this today on the show. I’m pretty excited for today’s show. I’m going to talk to you today about the three most common investing mistakes that we’ve seen.
The reason why I got this show together is I just spent the last workday with another set of investment advisers, folks that do what I do. We were getting together a think tank. There was somebody we brought in from Chicago to talk to us about certain concepts.
The long story short is one of the investment advisors, [laughs] somebody who has experience in the business spoke up and vocalized one of these investment mistakes.
To me, it was crazy because I thought like, “There’s no way. There’s no way.” I can be in a meeting with other investment advisers who’s supposed to know better and they’re taking about this. It just gave rise to how common this issue is.
I’m excited to bring that to you a little bit later in the show. Before we get there, it is the end of August at least by the recording of this show, and that means that it’s time for people to start going back to college.
Whether you’re a grandparent of somebody that is in college or you’re the parent of somebody that’s in college, this is a great opportunity to talk about a little bit of the estate planning for them.
When I do seminars and I’m out doing workshops for people, a very common question is, “When should I start doing estate planning? When should I think about coming in to see you?” People laugh when I say, “When you turn 18, or in the alternative when you start to want to act like an adult.”
Sometimes, they brush that off because it means that until they own a home or they got kids or they got married. They are not really thinking about adulthood in those terms. I’m pretty serious when I talk about the right time to come in and do estate planning is when you turn 18.
One of the ways where this gets highlighted is through college and college planning. One of the things we talk to people about is we talk about putting documents in place when you have an 18‑year‑old or older on their way to college.
Now, here’s the way the situation plays out. Your darling cherub is off at school and I’m sure is doing nothing but studying in the library 24/7. I’m sure they’re not doing anything wrong but their friend likes to go out and party.
Their friend goes out on Friday and Saturday night and has fun, has a lot of fun, sometimes too much fun, and ends up needing medical attention.
They’ll be at the health center for the school or they’ll be admitted to the hospital. Your friend’s parents ‑‑ because it’s not going to be you or your kids ‑‑ call up the school to try to figure out more information and help manage their child’s care. Well, it turns out that because they’re an adult, those parents are not allowed to get any information about this sovereign adult.
This 18‑year‑old, all of a sudden, even though you’re paying for college, even though they don’t know how to do laundry the right way, even though they can’t figure out how to not to get themselves locked out of the dorm room, they are an adult and therefore, you don’t have any right to their information, even though you are their parent.
This happens more frequently than people realize. Now, just like in the normal spectrum of when people need care, it’s not common that someone is going to get hospitalized in a way that you need to step in. Just in the same way as it’s not common for you to die a premature death.
Nevertheless, you go ahead and you buy termed life insurance to make sure that you cover the catastrophic circumstance in case something happens to you.
In the same way, you should be thinking about putting some estate planning in place so that this older person, this adult now, who does something dumb at college and needs mommy and daddy to rescue them again, that they have the right documents to do so.
As an adult, there’s a few things…I’m not super worried about somebody dying. I think it’s probably a little bit overkill to put a will in place for an 18‑year‑old. Quite frankly, they don’t own anything. I’m not sure there’s going to be a big custody dispute over who gets their Xbox system or their Radi clothes.
For you to manage them in incapacity, if you want to see certain of their financial records, or touch their bank accounts, or help them with healthcare decisions, you’re going to need some estate planning documents to do that.
The three basic documents…You may want to take a notepad and write these down. There’s three basic documents that I’m going to recommend. One of them is going to be a power of attorney. In this power of attorney, one of the things you’re going to want to make sure you have done is you want this power of attorney to be, essentially, immediately effective.
That means that the moment that you sign it, it’s basically giving you authority to help them manage their affairs. That’s step one. By the way, it’s a pretty important document because even the money that’s inside of their Bursar Account, that’s not your money.
It was your money. You put it in there. You wrote the check, but it’s an account in their name and as an adult, that means that it’s their money. You can’t touch that money unless you are a power of attorney agent.
Finances are pretty important to get an access to. Similarly, you want the ability to help make healthcare decisions for them. An advanced healthcare directive that names you as a power of attorney for healthcare decisions is a second document that is also important, so you want to get that in place.
Most people stop at those two documents, but it’s not enough because the last document that you need is going to be a HIPPA release. Prior I this, I talked about HIPPA. That stands for The Health Information Privacy and Accountability Act. I’m pretty sure that’s it. That HIPPA release is what gives you the ability to view and access this protected information.
The way this works is if you call a hospital and you say, “Well, I wanna talk to the doctor about what’s going on with my child’s care,” the doctor is obligated not to share that information with you because you are not an authorized person.
We want to be able to give you the right authority to do that and one of the ways to do that is to go ahead and get this HIPPA release which names you as an authorized person.
Now all of a sudden can go ahead and view their health information, the doctor can talk to you, you can see the billing records around that. Basically, everything comes together. Those are the three documents.
There might be a commercial on this show. I’m not sure where it shows up but if you are interested in doing this, our firm actually does something very specialized in this area. We call it our Graduation CAP program, C‑A‑P, which stands for College Assisting Planning. If you have somebody in your family who is a college student, even if it’s a grandchild, you want to give them a great gift.
Help them set up these powers of attorneys and healthcare directives. It will save you so much strife if something were to happen to them. I can’t explain to you how much frustration there is and nothing delights us in the office more to see somebody taking this planning seriously. We actually had a client family that did this for children in succession.
Victor: They did it for two 18‑year‑olds and they turned 18 over the course of a year and they come back every time they’ve got a kid turns that age. Now they have the documents and everything ready to go.
Anyway, think about doing that for somebody in your life. It’s really important to get this document done, even though it seems like they are your little baby and they [inaudible 7:24] .
Anyway, when we come back from the break, I’m going to talk to you about the three biggest investing mistakes that [inaudible 7:29] over and over and over again. Stick with us. We’ll be right back after the break.
Victor: Welcome back from the break. This is Make It Last and you’re listening to the show for August 26th, which I’m excited to say it’s actually our 20th show. Who knew we were going to make it this long? [laughs] I want to thank my mom and my other family members for listening to this show.
I’m talking today about three major investing mistakes that happen over and over again. The idea for this show came from an experience that I had a little while ago where I was together with these other investment advisors.
It was a bit of a study group and we’d even had somebody from Chicago fly in who is just an investment expert. They happened to have worked with the fun family that we worked with.
Now they are off or working with an investment adviser firm, and anyhow they came in. They came to give an education for us and help run this study group for me and my investment adviser friends.
It was a great meeting. It’s going along fine. We are sharing stories about what’s going on in our practices and how should we react to this, and what should we do about that.
The meeting is going along fine until this investment adviser perks up and says, “You know, I think that the stock market is going really, really high and given President’s and his tweeting and what could happen internationally, do you think that we are poised for a market correction and what should we do about that?”
It stopped all conversation because the guy who had come in is…believes a few things about the way the market should work. When I say believes, it’s really he has listened to the math that shows how this stuff should work. It’s objective‑based.
It’s not the conversation, because that question alone essentially highlighted what is one of the three major mistakes in investing that costs investors’ time and money correcting for these mistakes.
You might want to write this down. The three mistakes are stock picking, market timing, and track record investing. Those are the three mistakes. I’m going to take each one of them in order. I might have to carry over through the break to get that done, but let’s go through each one of them in a row.
The first one is stock picking. Stock picking is when you or your adviser ‑‑ most of the time it’s you ‑‑ chase a particular company that you think is going to go up or if you’re a more sophisticated investor, one that you’re going to go down.
You might go ahead and pick the next Google, because you think that its value is going to significantly increase and you’re going to want to be able to chase that, or you think that a company is overvalued and you’re going to bet that it’s going to go down.
By the way, this is definitely a bet. Since you don’t know what’s going to be going on, you are essentially betting that one thing is going to happen. Nobody really knows but you think you know.
This stock picking is underscored by all of the investment media that is out there. If you watch TV, everyone’s talking about the next stock. There are shows that are talking about these companies and what they’re poised to do.
Nobody has a crystal ball. There’s no way to predict how the company’s going to feel about it, how the investors are going to feel about it, because the stock prices reflected by the investors’ feelings about that companies.
It’s only going to go up. There are going to be more people that think are going to go up, so they’re ready to buy that at a higher price. You have to gauge investors’ feelings about something.
By the way, those feelings are often buttressed by information like price and earnings ratios and revenue reports and quarterly reports and things like that. The idea is that the only way that that stock price goes up is that other investors want to pay more for it.
When you buy individual stocks, thinking that they’re going to change in their value, you’re on one side of a zero‑sum equation. One person’s going to be right and the other person’s going to be wrong. You just don’t know going in.
By the way, each one of them thinks that they’re right. Don’t you believe that? Going into it, do you think that the person who’s selling off something thinks that it’s going to go up?
No. They actually believe that it’s going to go down. They want to get out when the value is the highest that they think it’s going to go with. Similarly, the person who’s buying it doesn’t think that the value is going to go down. They think the value is going to go up.
Stock picking is a zero‑sum mathematical equation. One person’s going to be right. One person’s going to be wrong. There are enough economic theories about this for you to know that, mathematically, all of the information necessary to properly price that security is already out there.
There’s nothing magic. You don’t have more information. If you really think that the current president and the international scene and what might be going on with wars and all that stuff, if you don’t think that’s factored in to investor sentiment, we don’t understand how investors work.
That is already baked into the price of it, and you don’t know any more than anybody else. That’s why the stock picking is so detrimental. Not only are you gambling on which side of the equation you’re going to be, you also have costs associated with picking these stocks.
When you buy or sell one, you are essentially getting these transactional costs for what it takes to get in and out of those securities. That’s to the issue of just economic theory.
Let’s say, for instance, that you actually know what this stock is going to do, because they’ve got a great name or because you follow them and you like their food or their product.
I’d like to use an example about one company and only one company that is the last remaining member of the Dow Jones Industrial Index, for the companies that are part of the Dow Jones from when it was started 120 years ago. It’s only one company.
When I asked these people what that company could be ‑‑ US Steel, something like that ‑‑ they always get it wrong. There’s only one company still in there, and that company is GE, General Electric.
The reason why GE is still in there while all of the other individual companies are gone or merged and they just are not listed any longer is because they diversify their holdings.
GE is not an electric company any longer. GE is a conglomerate of diversified revenue streams across multiple industries, which basically means it is holding lots of different things which allows it to withstand market pressures on any particular area.
Victor: In a first mistake, we’ve talked about stock picking and why we need to avoid it, but that’s not even the mistake that this investment adviser made in the meeting.
When I come back from the break, I’m going to tell you which mistake they did as we go through the other two in terms of market timing and track record investing.
Stick with us. When we come back from the break, we’ll talk about those two other mistakes so that we can help you avoid them as you go on your investing carrier. We’ll be right back with Make It Last.
Victor: Welcome back to Make It Last. This is our last segment where we’ll be talking about the three major mistakes that you make in investing. It happens over and over and over again.
As I was saying to you before, I was in this meeting with other investment advisers. Here we were at this very high‑level discussion, and I assure that everybody knew what these three mistakes were.
Yet, we had one of the investment advisers ask a question. That question was, “Geez, don’t you think that we’re poised for a market correction?” That question is a leading question about the concept of market timing.
That’s number two. Remember, we went through three of these before. The three major mistakes are stock picking, market timing, and track record investing. We talked about stock picking. That’s picking individual stocks. Let’s talk about why it’s problematic.
If we think about markets timing, market timing is this very question this investment adviser was asking about that we’re trying to guess in time what’s going on in the market.
This is another area where all of the television shows like to spend time guessing about where things are going.
If you watch any of the financial television shows, if you read the websites, they’re constantly, constantly, constantly, constantly promoting market timing.
Every article talks about, “Are we ready for a bull market? Are we ready for a bear market?” They’re going to say that we are just starting on a bull market. The next day, they’re going to say the indications of the market is ready for a huge downturn.
The question is, should we believe any of them and which of your portfolio would be better off if you follow the advice or if you avoided their opinion all together? In order to figure that out, you have to figure out the consequence of being wrong on the market timing.
Let’s think about that. If you believe that the market’s going to go in one direction and you get out of the market, and you’re wrong about that, or you get in at the wrong time, does that make sense? It turns out that the math demonstrates that you miss out on the vast majority of the performances growth, so let’s make sense of that.
Most of the time, people are talking about getting out of the market because they think it’s poised for a down turn and so they come out of the market at that higher level and they don’t stay invested and they miss time for that portfolio to work.
The objective folks that do the studies basically say that the average investors over the last 30 years have gotten beat on a large cap index like the SNP percent by over seven percent per year.
What does that mean? Is that the SNP performed better than they performed as investors, and the largest reason was because they got out of the market when the market was going down.
To better understand why this market timing can kill your portfolio, you have to look at the way the numbers work. If you stayed in the investment market for the last 20 years, your money would have grown almost five percent, five times, 500 percent If you pulled out, so let’s say that you had $1 invested, let’s say you got $10,000, it’s an easier number to do.
If you had $10,000 invested and you stayed invested over the course of the last 20 years, your investment would have grown to over $50,000. It’s basically the 5X that I was talking about. $10,000, you stay invested for 20 years and you would have gotten 5X.
If you had pulled out your money for just five of the best days, in that 20‑year period, 20 years times 365 days a year, not every day is a trading day but we’re talking about the better part of 7,200 days. If you missed five of them, your return would have been $15,000 less basically, 30 percent less because you had been out of the market.
If you track that forward so that you missed the best month out of the last 20 years, there were 240 months. If you missed the 30 best days, not consecutive, you just came out of the market on 30 best days of that, you would have had no return.
You would have had exactly $10,000 being out those 30 days and so that’s the problem with market timing. My friend who is the investment adviser, who raised the issue about, is it ready for a market correction, would have gotten out on one of those or more than one of those best days of the market. If he’d done that with his clients’ money, he essentially would have risked.
That they would have reduced the return, or basically lost the return all together. That’s the biggest problem with market timings.
We don’t know when those best 30 days are going to be. We just don’t know when they’re going to be and because we don’t know when they’re going to be, we shouldn’t guess and come out of the market based on nothing more than a guess. It’s nothing more than speculation over, have to remain invested.
Now, that’s a different issue than if you need money out of your portfolio. We can spend another show talking about sequence, return risks, when you liquidate funds, and how you do that to make sure that you don’t lose matter of returns. That’s part of working with an adviser.
Just academically, you need to understand that market timing is one of the biggest investor mistakes that can happen. It’s also the most prevalence one, even the one that infects investment advisors as demonstrated with the meeting that I had.
The last mistake is what we would consider to be a track record investing. Track record investing is, [laughs] I’m sorry to say, it’s what my mother‑in‑law was doing. Before we took over the investments for her, she would move and follow fund managers based on their prior performance.
If they were in a mutual fund to be diversified, they would release a statement that basically said that this person had generated X, whatever X was and it was a decent number, she would move out of the fund that she was in and she’d move to the other fund.
The best part of the story of course is I asked her, “How much money have you made doing that,” and she said, “None. No money at all. I’m exactly where I was before.”
Part of the reasons for that is there are transactional costs for coming in and out of those investments. The studies show that mutual funds that have done well in the past are very unlikely to continue to beat the market through those mistakes.
You have to think and consider what the investment philosophy of the fund manager is. If the fund manager believes in stock picking or market timing, we’ve already demonstrated in prior points in this show that that doesn’t work.
It’s not backed by any evidence, and in fact, the evidence shows the other way which is that it consistently doesn’t work. This is what we consider to be active management.
I’ve got a good friend of mine, we don’t do the investing for him, but he asks me questions from time to time that I’m happy to answer.
One of the discussions we were having was about the portfolio that he had. We were talking about what he was holding. He would say to me, “Well, every four months, I meet with my adviser and we buy new things.”
That is the definition of track record investing. You are chasing the returns of another fund manager.
When I went through my training on this, there was a very important story that came out about that one fund manager who basically had consistently beat his benchmark for 15 straight years. The gentleman was a legend. If he had retired at the end of that 15th year, he would have remained a legend. They would have put a bus in Cooperstown for him, Hall of Fame, but he didn’t.
He continued to invest and lost 300 percent over the next three years. Did this person get stupider? Was it their intent to lose money? Did they change their investment approach? No, they had just gotten super lucky with their market timing and their stock picking and their luck had run out.
This is a form of speculation, is very hard to avoid, you see a track record and our brain thinks that if I chase that, that I will get, it’s called a recency bias. Basically, this behavioral thing, it says, “Well, if it has worked well in the past, then it will continue to work well in the future,” and there is no objective evidence to support that.
In the funds that we recommend, we show the comparison against the benchmarks on there and what we see is that there is a solid A average as compared to the other fund managers. They outperform the majority of them because majority of them either follow A or they’re just not smart in investing. It’s not at the top for every one of those. It’s just consistently at an A average.
Some do B+, some do A+, others As, the idea is that over the long haul, they have an investment strategy that works. Another show should be spent on the subjective‑based investment strategies. I’ll tease that because we’ll talk about it next time. When we talk about what the dimensional advantage is and why we believe so strongly in it.
To wrap this section up, you need to realize that track record investing is one of the most insidious ways that you can make this mistake because it seems so right. It doesn’t seem like speculation. Stock picking seems like speculation. You’re guessing as to which stock is going to go up.
Market timing definitely seems like speculation. You’re guessing as to what the market is going to do. Track record investing doesn’t seem like speculation. You are following the trend. You seem like you have this evidence about where things are going and therefore, you are going to hop aboard of that, on top of that.
It just doesn’t bear out in the numbers and so this is the one you have to avoid because unlike my mother‑in‑law, [laughs] you may not have access to moving advisers and changing along the way.
You don’t want to be my mother‑in‑law, you don’t want to be my friend, you don’t want to be who’s chasing these. You don’t want to be chasing these investments, essentially track record investing, and going after the last greatest thing that is in there.
It turns out that you actually don’t make money at all. The punch line of the story is I asked him if they count that the adviser is managing the stocks that this guy owns, “Have they gone up?” Actually, they haven’t gone up much at all because we keep hoping around and not taking advantage of a smart strategy.
Anyway, that’s it for today’s show. I thank everybody for listening. Those are the three major investing mistakes. Don’t forget about them. You don’t want to do stock picking. You don’t want to do market timing. You don’t want to do track record investing. That’s the lesson for today.
I want to thank everybody for joining us. If you have any suggestions for any future shows, go ahead and send them to email@example.com. Otherwise, if you like the show, I encourage you to share with a friend, rate it highly on iTunes. That’s the way other people can find the show.
Subscribe on iTunes so you can download this and get this delivered to your favorite device, so you can listen to it whenever you want, however you want, go back and listen to prior shows.
That’s it for this show. I want to thank you again for being with us on this Saturday morning, if you’ve listened live. We’ll come back next week with another show talking about the dimensional advantage.
This has been Make It Last where we help you keep your legal ducks in a row and your financial nest egg secure, got you next Saturday.
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