Perhaps inspired by home makeover reality shows, Trading Places, Extreme Home Makeover, etc., newspapers and magazines often run portfolio makeover articles. They typically feature a real family, tell us about their finances, their goals and their struggles. Then the newspaper or magazine brings in a financial planner who offers advice for them. I think people like them because it brings personal finance to the real world. When I was traveling for business last week, I read this article in USA Today (Jan. 8, 2007, page 6B):
The article told a story about a young couple, Luke and Hannah Wickham, 30 and 28, saving aggressively toward a goal of retiring between 50 and 55 with $10 million. This couple did very well. They already accumulated $258,000 in stocks, mutual funds, bank account and private equity investments, their own home and 3 rental properties in Orlando, FL worth $529,000 net after mortgage obligation. That adds up to $787k in net worth. I don’t know how many people in their late 20s can top that. Congratulations, Luke and Hannah!
How did they do it? They saved more than 20% of their income and invested aggressively in stocks, mutual funds and real estate. They plan to save $30,000 from their $137,000 income in 2007. That’s a 22% savings rate. People wanting to learn from them should really take a lesson here — you can’t accumulate a high net worth without a disciplined habit for saving. Otherwise even luck can’t help you.
What suggestions did the financial planner give them? Here’s what the planner had to say:
The planner basically said luck was on their side in the last six years since they started saving and investing and it’s time to lighten up and take less risk. The planner equated the real estate gains in Orlando to a “once-in-50-to-60-year occurrence.”
The kicker is really at the end of the story.
The Wickhams say they aren’t surprised by Fitzgerald’s suggestions, and they agree with many of them. They plan to adjust the asset mix in their portfolio and open a money market account.
But despite the planner’s recommendations to reduce investment risk, the Wickhams don’t plan to stay away from real estate or individual stocks.
“We’re not going to go that route,” Luke Wickham says. “More risk, more reward, in my opinion.”
Ding! Really? While one has to assume some risk to realize the reward, more risk doesn’t necessarily mean more reward because some risks are not compensated. Risks that can be diversified away are called non-systemic risks. Non-systemic risks are not rewarded. When you have been lucky, you can’t count on being lucky all the time. Moreover, with the assets the Wickhams already accumulated (with the help of being in the right real estate market at the right time), it’s not necessary to take on more risks. If you have good chance of hitting $10 million, shooting for $100 million and ending up with $1 million is just not worth it. The planner gave the Wickhams very good advice. I hope they don’t brush them aside.
Say No To Management Fees
If an advisor is charging you a percentage of your assets, you are paying 5-10x too much. Learn how to find an independent advisor, pay for advice, and only the advice.