Boomers, Markets & Money

A Down-to-Earth Discussion of Financial and Lifestyle Information for Baby Boomers


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When to Trust Your Intuition or Gut Instinct When Making Financial Decisions

How Feelings Can Affect Investment Choices

Feelings and Investment Decisions (Click to Enlarge)

Traditionally, being rational and objective was highly prized in the investment decision process. Emotions were to be controlled and repressed for fear of making bad decisions. However, early studies that combine psychology, the biology of the brain, and investment risk are beginning to challenge that view.

I recently read an article in CFA Institute’s magazine called “Sentimental Journey” that reviewed recent research. Cynthia Harrington referred to research conducted by Columbia Business School professor Michel Pham and associates published in the Journal of Consumer Research. They researched how people’s trust in their own feelings affected decision-making. The exhibit below gives a quick summary of the research.

Why It Is Important to Know How Trust in Feelings Affects Decisions

The researches are trying to figure out if gut instincts improve the accuracy of predictions in decisions in uncertain events with high stakes. This could help decisions made by professionals in many varied areas such as the Pentagon, Wall Street, weather prediction, to name a few.

Methods

Should We Pay Attention to Our Feelings When Making Decisions?

Summary of “The Emotional Oracle Effect” (Click to Enlarge)

People were divided into two groups:

  • People who had high trust in their feelings
  • People who had low trust in their feelings

Subjects were asked to make decisions in the eight studies mentioned in the Exhibit to the right. (Click to Enlarge.)

Conclusions on Whether Feelings Help us Make Better Decisions

People who had high trust in their feelings were more accurate in their predictions in all the studies.

However, this effect only occurs when people have sufficient background knowledge in the decision area.

People who trusted their feelings didn’t make rash decisions. They still took the time to carefully consider the information.

Why Feelings Can Help Us Make Better Decisions

While a more analytical approach with just a few inputs might seem more logical, it could be leaving out key information that your feelings are hinting at. Study authors speculate that when a person trusts their feelings about a subject they have experience with, they access “a vast amount of information that people learn consciously and unconsciously about their environment.” Professor Pham believes that feelings “…tap into all we know about our environment.”

Knowing how and when to trust our feelings when we are choosing an investment can help us improve our choices.

Sources

“Sentimental Journey” by Cynthia Harrington. CFA Magazine, March/April 2013.

“Feeling the Future: The Emotional Oracle Effect” by Michel Tuan Pham, Leonard Lee, Andrew T. Stephen

Related Posts

“How To Handle Emotions When Making Investment Decisions”


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How to Handle Emotions When Making Investment Decisions

We all struggle with emotions regarding money. Making major investment decisions without safeguards during periods of extreme emotion can work against us both in down and up markets.

I saw a helpful interview on Bloomberg TV this week. Greg Davies, Barclay’s head of Behavioral Finance, offered some tips on how to make better decisions when you feel your anxiety spike.

  • Develop habits over the years that you use regularly. A well-thought-out routine will help you make sound decisions when events rattle the markets. So, at a time when the markets are calm and you feel coolheaded, write down what you should do. Read it when you feel anxious. He said it is critical not to wait until the last minute when you are in a very stressful situation. A checklist can be one way to organize your plan.

    Milo contemplating his next move...

    Sleep overnight on major investment decisions. (Click to Enlarge)

  • Have a cooling down mechanism planned. Davies suggested planning on sleeping overnight on a decision to make a major change in yourinvestment portfolio. Or you could have a plan to talk to a trusted friend or financial advisor before acting on a major revision.

We’re all familiar with those uncomfortable feelings that pop up during major market declines. But emotions can work to an investor’s detriment during stock market upswings, too.

I can’t help wondering if a little stock market euphoria is developing now. I saw four commentators make optimistic comments about the stock market during a segment on CNBC this week. Ralph Acompora exclaimed, “I’m so excited! We have years left!” When I heard that, I felt really uneasy.

I had visions of CNBC anchors putting on Dow 10,000 hats the first time that level was hit. (For your amusement, I have included a link below to a pictorial of the Dow 10,000 hat.) Investors can feel pressure that they are missing out on a rally and buy in at market peaks.

As Warren Buffet said, “You try to be greedy when others are fearful and you try to be very fearful when others are greedy.”

Sources

“Old Hat: Dow 10000, a History in Headwear” by Matt Phillips. The Wall Street Journal

“How to Overcome Emotional Responses in Investing”   Bloomberg Television Video.


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Summary and Link to Interesting Video on Recent Retirement Study

I saw an interesting interview on Bloomberg Surveillance this morning that is worth watching and have included a link below.  Tom Keene interviewed Andrew Sieg, head of Global Wealth & Retirement Solutions at Bank of America, about a recent study on near-retirees and retirees.

A quick summary of some of the points:

  • Tom Keene believes politicians have created an uncertain future for people nearing retirement. Conversations seem to be dominated by this fear.
  • Healthcare costs are the big “wildcard” of retirement expenses.  Retirees on average spend about $20,000 per year on health care costs per year. Baby Boomers worry about healthcare costs more than any previous generation.  Sieg said that it is critically important that people purchase long-term insurance at as young age as possible.  People’s biggest concern is that they want peace of mind during retirement and long-term insurance will help.
  • Sieg said Boomers are radically changing retirement.  Seventy percent plan to work in retirement with about a half doing so by choice.  The optimistic side of this is that many are choosing to use the “longevity bonus” as an opportunity to use their new freedom to pursue careers that they didn’t have time for when they were younger. Many see it as an opportunity to reinvent themselves.
  • Current low interest rates are punitive for retirees.
  • Both Keene and Sieg are concerned that proposals are being circulated around Washington that reduce the incentive to save.  Most people need to increase their saving rate.

Bloomberg TV Video. “BofA’s Sieg on Retirement Planning” Video


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Review of PBS Frontline’s “The Retirement Gamble”

I recommend that you watch the eye-opening PBS Frontline Special “The Retirement Gamble.” Thank you to Claire for suggesting it.

Some key points from the program:

  • Many hidden layers of fees are eroding individual investor wealth.

Jack Bogle, founder of The Vanguard Group, gave an example of how much fees cost an individual over a 50-year investing lifetime. If this consumer receives a 7% annual return and pays 2% in annual fees, fees will erode two-thirds of the investor’s gains. Bogle said you can see these results on a compound interest table.

I decided to do just that and found an investment calculator at Buyupside.com. (Please click on the image below.)  Using the same figures show that the portfolio would be reduced by 63.58%. We should all be checking the fees on our retirement plans!

Annual Fees Greatly Reduce Portfolio Results

Investment Key Calculator (Click to Enlarge) http://www.buyupside.com

  • Robert Hiltonsmith, a policy analyst at Devos, examined his own retirement plan to see what fees were taken out of his account. He found that about 25 fees were extracted from his account by mutual funds, fund brokers, plan adminstrators, etc.

  • Teresa Ghilarducci, economist at The New School for Social Research said:

401(k) plans were originally designed for wealthy people. Now, the advisors middle class have access to are really just sales people.

American consumers don’t know the price, quality, or dangers of their 401k plans due to strong industry lobbying.

“So we know after 30 years of this 401(k) experiment that people do worse in 401(k)s than they would have if their money was in a traditional plan or if it was in a plain vanilla retirement account.”

  • Many of the options in plans are mediocre and many people are not prepared to invest their own money.

This became clear to me when I had someone from a cable company come to my home to repair the phone. When he saw that I had the TV set to a financial news channel, he began telling me that he had all of his retirement money in marijuana stocks. Although his portfolio had lost 50% of its value at this point, he was very optimistic about his future prospects. I was very shaken when he left as I wondered how many people were investing their retirement funds this recklessly.

  • According to the Department of Labor, there are no clear standards on who can give advice to consumers of retirement plans. Also, there is no clear way for a consumer to tell who has the expertise to advise them. There was intense industry lobbying when new standards were proposed, forcing them to be withdrawn.

Source:

PBS Frontline. Videos and transcripts.

Related Posts on This Blog

“Resources to Help You Decide  When to Take Social Security”

“A Critical Step for Preparing for Retirement”

“How the Heck Do I Invest My Money?”

“Book Review -‘The Bankers’ New Clothes: What’s Wrong With Banking and What to do About It”


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Resources to Help You Decide When to Take Social Security

At What Age Should I Take Social Security Benefits?

At What Age Should I Take Social Security Benefits?

Are you confused about what age you should begin taking Social Security? I came across an article that clearly and efficiently summarizes information about the pros and cons of taking Social Security benefits at various ages. At the end of the post, I include links for other resources.

The article is “When Should You Take Social Security?” by Rande Spiegelman, CPA, CFP at the Schwab Center for Financial Research. It is a bit long but I like the article because:

  • There’s a handy table letting you know “When can you get your full Social Security benefit?” by birth year. Retirees born in 1937 or earlier received full benefits at age sixty-five. If you were born in 1938 or later, the retirement age to receive full benefits gradually increases. People born in 1960 or later must wait until age 67 to receive full benefits.
  • It gives specific figures on how much you will be penalized by the amount of months you retire before your “full retirement” age. It also let you know how much your monthly benefit will increase by the amount of time you delay in taking the check later. You don’t receive additional benefit for delaying past age 70. That shouldn’t be a problem for most people because over two-thirds take their Social Security benefit early.
  • The article gives a list of factors to consider when making this decision.

Here are a couple of other links:

  • U.S. Social Security Administrations benefit estimator
  • Kiplinger’s has an index of articles on Social Security topics. “10 Things You Must Know About Social Security” covers a lot of the same information as the article above as well as some additional tips. Another short article that you might find helpful is “How to Check Your Social Security Statement Online.

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How to Keep a Second Home Fun by Realistically Planning Future Expenses (Second in a Series)

Dreaming of that ideal vacation spot? Captiva Island. (Click to Enlarge)

Dreaming of that ideal vacation spot?
Captiva Island. (Click to Enlarge)

Realistic planning of future expenses is very important to keep your second home an escape from the stress of your day-to-day life. Who needs a huge financial obligation that wrecks retirement plans or adds worry to our lives?

This post will include a list of expenses we have encountered in maintaining our home. (Yes, I can be a drag sometimes.)

Each homeowner will have different expenses depending on the part of the country they live in, whether it is a condo or single-family home, etc. But here is our list, which can help you start your planning process:

  •  Homeowner’s Insurance is a big one and can be higher than your primary home insurance. Our home in Southwest Florida requires three types of insurance: dwelling x-wind, flood insurance and wind insurance. Find out what is required in your area.

“5 Questions to Ask Before Buying a Vacation Home” by Melissa Neiman discusses factors that affect insurance rates.

  • Perhaps you want to enjoy the sun and the sea while fishing.

    Perhaps you want to enjoy the sun and the sea while fishing.

    Real Estate Taxes. Check to see if rates are different for state residents and non-resident homeowners.

  • Utilities. Telephone, cable TV, Internet, electricity, water, sewer, etc.
  • Homeowner’s Association Fees. Yard maintenance may be additional for single-family homes.
  • Furnishings. Furniture, Dishes, Linens, etc.
  • Surprises (large and small.) Appliances will need repair and replacement. Then there are the really fun ones like roof leaks and bursting pipes.

    Taking a Dip in the Beautiful Waters of Blind Pass. Between Sanibel and Captiva Islands. (Click to Enlarge.)

    Taking a Dip in the Beautiful Waters of Blind Pass. Between Sanibel and Captiva Islands. (Click to Enlarge.)

Since you won’t be occupying your second home all year, there may be expenses that you don’t have at your primary home:

  • Home watch service. A good idea and sometimes required by mortgage companies.
  • Contracts for pest control, air conditioning, and heating maintenance.
  • We choose to offset some expenses by renting our home part-time. We find it convenient to use a rental agent, which leads to a 20% commission and small monthly marketing fee.

Despite the expenses, we’ve enjoyed our new home. One way to keep expenses down is to avoid buying an expensive trophy home. After all, if you are on vacation, you want to be outside enjoying yourself anyway.

Please enjoy some photographs from Sanibel, Captiva, and Useppa Islands in Southwestern Florida.

Do you like to walk and enjoy the vegetation?  Useppa Island. (Click to Enlarge)

Do you like to walk and enjoy the vegetation? Useppa Island. (Click to Enlarge)

In our last post , we talked about the quality of life issues that Baby Boomers should consider when purchasing a second home. “Lifestyle Considerations When Buying a Second Home”

I’d like to thank my much older brother Jim for suggesting the topic of this series.
Please write in your suggestions for post topics in the comment section.