Her Mutual Wants to Demutualize August 31, 1999February 13, 2017 Mark Bell: “My mother-in-law recently received a letter from her life insurance company notifying whole life customers that the company is considering a change from a mutual to a stock company. The members/policyholders will apparently vote their shares to decide for sure. Her question, ergo mine, is whether or not to convert the policy cash value to shares of stock in the new company or to leave it as cash. She does not need the cash and was satisfied to leave things alone to compound peacefully while she slept. What would be the prudent play with this one?” Normally, these conversions (“demutualizations”) are done to enrich management, although I’ve never seen it expressed quite that way. I don’t know the details of your mother-in-law’s offer, but chances are she should go for the stock. After all, the face amount of the policy remains guaranteed either way, and that $100,000 (or whatever) is the primary reason she bought the policy, or so I would assume. As time goes on, the cash value grows . . . but it is not paid out IN ADDITION to the life insurance face amount. The pay-out will still be $100,000. The growth in cash value just shrinks the insurance company’s risk. (That’s how whole life is able to keep the premium “level.” The premium starts high enough to build cash value when you’re young. It needn’t go up each year as the risk of death increases, because as the cash value grows, the insurance company’s exposure — to make up the difference — goes down.) Taking the stock, she might do as well as management hopes to do (albeit on a smaller scale). So, without knowing the specifics of the offer, my guess is that going for the stock is the better choice. Then again, if she views the cash value as an emergency fund she wants to be able to count on no matter what — even if stocks in general or this stock in particular crash — it could make sense to sacrifice a likely gain for peace of mind.
Ringling Bros Insurance August 30, 1999February 13, 2017 Jason Dickers: “Does whole life insurance ever make sense for someone in their mid-twenties who has a well-paying job, lots of insurance through work, and enough discipline to make automatic monthly contributions to 401(k) and Roth IRA accounts?” No. “My insurance agent is trying to sell me on a policy which earns 6% a year, but charges 5% a year in maintenance fees! Am I missing something here or is that a deal for only a true bozo?” I see an old yellow VW beetle driving by with 27 purchasers of this policy all packed into it. How on Earth do they all manage to fit in that little car? Jack Tuttle: “Your point about keeping higher yielding interest bearing investments in an IRA, and low yielding stocks outside the IRA is well-taken as regards taxes. But don’t overlook the fact that often the non-IRA is a shorter term investment, in which case, the reverse may be desired. Put the riskier stocks in the IRA where it will weather the market over time, and keep the safer interest bearing investments outside the IRA, if you might need it for a remodel or college. Wouldn’t this often be the wise course?” I was assuming two long-term accounts. Stocks are never a good idea for short-term accounts. Money you might need in the next few years should not be in the stock market. So in that sense, you’re right.
Youropoly August 27, 1999February 13, 2017 FREE Click here, if you still haven’t, to get free stuff from PlanetRx and get me my free plane ride. Supposedly, this contest that ended July 31 now ends — really — August 31. They provide contestants the names of those who’ve logged in for free stuff, so I know that three of you haven’t. And I know which three. NOT FREE, HARD WORK This one’s not so simple, but a good idea. Christmas is coming. Chanukah and Kwanzaa and somebody’s birthday and anniversary, too. Click here for a site that lets you make your own customized Monopoly game. It costs $29.95 and is a real project, not for the faint of heart. But look at all the time you spend on the Internet. If you log off now and work diligently on Youropoly seven days a week, straight through, you will have it done just in time — with a board that has the streets where your folks grew up; with money that has their faces on it; with Chance cards that read like the genuine vicissitudes of their lives, or any others you care to invent. (“Cisco triples. Collect $18,000.” “New York has decided to audit you even though you’ve only been there twice. Pay $5,000 in legal fees or just shoot yourself.”) This is a particularly great Major Gift idea for the giver who is unemployed or retired on Social Security. You have the time and lack the money. Let others show up with their $500 cashmere sweaters; your gift is the one all will be talking about. (Friends did one of these for me — a tad off color, as a matter of fact — but I haven’t tried it myself. If you don’t have time for such an ambitious project, click here and give them a can of Rhulispray, some Vegicaps, Tagamet, Clearasil or 25 Butler GUM Floss Threaders. Anything can make a good gift if the card’s clever.)
Annuities, Futures . . . August 26, 1999February 13, 2017 The symbol for spiders (yesterday’s column) is, of course, SPY, not SPDR. Oops. Michael Gordon: “Your comment provokes a thought: Isn’t this also true for tax-deferred retirement accounts? If so, wouldn’t it make sense to hold fixed income assets in such accounts and equities in regular taxable accounts?” Basically. Someone with two accounts, one taxable and one tax-sheltered, who favored two different kinds of investments — some low/no-dividend growth stocks, some higher yielding stocks and bonds — should put the higher yielding investments in her tax-sheltered account and the riskier lower-yielding investments in the taxable account. One reason is the capital gains treatment. No point converting long-term gains into ordinary income. But the other reason is the ability to take tax losses in the event one of your riskier growth stocks becomes a shrinkth stock instead. George Fescos: “You compared SPIDERS to S&P 500 Index funds. How about S&P 500 futures contracts? Futures contracts would make better diner conversation, even if they are the same as a plain vanilla index fund.” Now you’re scaring me. Index funds and futures could hardly be more different. Futures contracts involve huge leverage, no dividends, an expiration date, short-term capital gains taxes if you “win,” and put you in the unique position of risking more than you invested. (Many is the futures investor who wishes he had just lost it all.) I could elaborate, but let’s leave it at this: I saw Diner. Very sensibly, the kids were not talking about futures contracts.
Which Are Better: Spiders or Index Funds? August 25, 1999February 13, 2017 Most investors and mutual funds fail to beat the market averages. This is because — unlike numerical market averages — investors and mutual funds have to pay transaction costs and taxes. Study after study confirms that the prudent way to outdo at least 80% of your friends and neighbors over the long run, when it comes to their stock market results, is not to try to beat the averages but simply to minimize transaction costs and taxes. This you can do in a number of ways, two of the most popular of which are: index funds (mutual funds which merely try to match the averages, not beat them) and spiders (which trade on the American Stock Exchange like stocks but are actually “unit trusts” designed to mimic the Standard & Poor’s 500 — symbol: SPY). I’m frequently asked “which is better,” index funds or SPDRs, and up until now my answer has been: “It’s basically six of one, half a dozen of the other — go with whichever is more convenient if you’ve decided to go for an S&P 500 surrogate.” (There are other indexes you might try to match, as well, or instead, using other index funds or spider-like derivatives.) Thanks to my brilliant Ohio State finance professor friend Spencer Martin (who at 19 was one of the key developers of Managing Your Money software), I now realize there’s a bit more to think about here. Spencer writes: “My research so far indicates that, given broad availability of deep discount brokers, SPDRs are clearly dominant in every relevant dimension, and the index funds should be out of business except for captive audiences like 401k plans and such.” That may be a little extreme. Index fund investors: don’t be alarmed, you’ve still done a smart thing. But hear Spencer out: “1. Expenses. SPDRs charge 18 basis points a year — 18 hundredths of 1%. Fidelity and Vanguard charge the same, at the moment, but ONLY by temporarily waiving fees from their natural level of 27bp per year. That’s a one-third difference in expense levels (in your parlance, a truly skeletal “jockey” rather than a merely anorexic one). Furthermore, as shown in a recent WSJ article 5-21-99, most open-end index funds are considerably more expensive (even all they way up to 144bp — they ought to be in prison!). Ultimately, the SPDR will win this dimension since they don’t need any telephone banks to provide customer service etc, and in the long run even Vanguard and Fidelity do.” Hmmm. My guess is that for competitive reasons, the low-cost index funds will keep their rates low forever. It’s true that, once invested for a few years, a fund owner is a little stuck. Tax would be due on any gains if he sold to switch to a cheaper fund. So he is sort of a captive audience. But that’s only true of taxable accounts. A great deal of the indexed money is held within tax-sheltered retirement accounts, where switching to a cheaper alternative would be easy — and thus keep a competitive lid on pricing. I suppose a fund might one day try raising annual expense charges to milk extra profit from captive investors, while offering a “discounted rate” to retirement plan money, to keep it from fleeing. That would be pretty nasty — and might or might not hold up if challenged. And even if the annual fee did jump from 18 to 27 basis points, how much difference do nine basis points make anyway? Not much, relatively speaking. (Invest $2,000 a year for 40 years at 8% and you end up with $561,562. At 8.09%: $575,466. A tad more, to be sure, but not earthshaking — especially as the rate hike might well not happen.) Still, Spencer definitely has a point. “2. Liquidity I. SPDRs can be bought or sold throughout the day rather than an open-end funds’ fixed mark-to-market time. The cheaper open-end funds severely restrict the number of transactions you can make too.” Of course, as any day-trader with an automatic weapon can tell you, trying to time the market’s peaks and troughs throughout the day is not so easy. And trading in-and-out only racks up transaction costs and taxes. So for prudent investors, this barely matters. “3. Liquidity II. Because SPDRs are not redeemable for cash, the manager does not have to worry about distortions due to sudden rushes of money in or out, particularly out. If enough people want out of an open-end fund, that forces sales of assets, which depresses Net Asset Value.” Well, the prudent investor will be selling not when everyone else suddenly is, in a panic (rarely a good time). And even if he does, the price of the SPDR will more or less reflect the same carnage. “4. Taxes. Due to the Unit-Trust construction, SPDRs generate considerably fewer trades, and hence passed-through taxes, than even the best managed open-end index funds.” Again, the difference will be slight. Index funds tend not to have to do much selling at all. They sell when one stock in the index is replaced by another or when outflows from the fund exceed inflows. But in the latter case, the selling is done by selling the highest-priced tax lots first, on which the fund is likely to realize a loss, not a gain. (You’ve heard of FIFO and LIFO? First-in-first-out and last-in-first-out? This is HIFO — highest-in-first-out.) Only if huge numbers of shareholders redeemed their money might this become an issue — and probably not even then, because in such an environment, prices would be so low, losses might more than balance gains. (Vanguard estimated not long ago that, because of HIFO accounting, if the market fell 20%, fully 38% of its shareholders would have to cash in their chips before net taxable gains even began to appear, let alone became oppressive. If the market fell 50% or 80%, the redemption level would obviously have to be even more extreme, as fewer and fewer of the fund’s positions would be in the black the lower the prices fell. But massive redemptions are unlikely in any event. Index fund investors tend not to be all that flappable. During the period of the 1987 market crash, Vanguard’s flagship index fund experienced a modest 6% net redemption.) OK, one might fairly ask — but what about decades from now, when baby boomers are deep into their nursing homes and withdrawing money like crazy? By then the unrealized gains in index funds may have become all the more huge — what about then? Isn’t this a ticking time bomb for the shareholders who remain? Probably not. The investment road doesn’t stop. (When I was first learning to drive, I would slow to a crawl as I neared the top of each hill in case the road just stopped on the other side.) If the market is at decent levels decades from now, it will be because new, younger investors have been investing — some of them, no doubt, through index funds, taking the place of the shareholders looking to get out. This is not to say there might never be appreciable, taxable capital gains distributions from a well-managed index fund. But I don’t see it as a big problem. “5. Flexibility. The brave can short SPDRs, with no uptick rule even. Try that with an open-end fund.” Well, don’t try it with either. But again, while this is true, and a useful point for the billion-dollar hedge-fund manager, it has little relevance for the prudent individual investor. “6. Tracking. The SPDR is going to be best at tracking the index. Now, granted Vanguard and Fidelity will do fine at this, but read the fine print of the other entrants — they don’t promise to hold all 500 stocks, which means their tracking ability will only be as good as their managers can manage. The price of the SPDR is kept to 1/10 the index value by very strong arbitrage forces. Any divergence would trigger creations [of new SPDRs] or redemptions [of old ones].” One more good reason to stick with Vanguard or Fidelity. # All six points turn out to be of somewhat marginal importance for the average investor, in my view. But they make you think. Then again, consider a couple of equally small points on the other side: You pay no brokerage commission to buy or redeem shares in an index fund. Buying or selling SPDRs and the like you would — although at a deep discount broker the cost will be all but insignificant. SPDRs accumulate dividends and reinvest them once per quarter. Index funds that reinvest dividends as they are received thus get a small edge from what is, in effect, “daily” as opposed to “quarterly” compounding. So I guess in my mind it remains, for most people, largely six of one, half a dozen of the other. Go with whichever one is most convenient.
Reader Mail: Laps; TicketMaster August 24, 1999February 13, 2017 Sorry for missing the 6am cut-off for those of you who use Q-Page to get this e-mailed each morning. The dog ate my alarm clock. Cleaning up a little mail . . . On Swimming 43,000 Laps-to-a-Mile in My Tiny Pool, and the Need for an Underwater Pad and Pen: Tim Couch: “Paul Harvey told the story about how NASA spent millions to solve the problem of a pen that would write in space. The Russians had the same problem but they solved it without spending millions. They used pencils!” Carl Ondry: “Almost any dive shop can sell you an underwater slate for writing notes.” John D.: “Andy — 43,000 laps to the mile?! I always thought that there were 5,280 ft. to the mile, or 8 furlongs, or 80 chains, or 320 rods, or 1/3 of a League, or even 63,358 inches for that matter! Wouldn’t that make it 132 laps — which is still a heckuva long swim. Maybe you were just kidding!” No, it’s 43,000 laps. I’ve swum it. On the World’s Best & Worst Companies: Erik Olson: “I realize it’s too late to submit a nomination for this year’s award, but perhaps you’ll consider TicketMaster for a dishonorable mention. I recently attempted to buy tickets to an out-of-town NFL game on the TicketMaster web page. After selecting my tickets and entering all payment information, I was taken to a page where I was supposed to receive my confirmation number; instead I got the message “General sell failure”. I was instructed to call for customer service at a number which, to my dismay, was the same number you call (and call, and call and call and call, etc.) to try to get tickets. After an hour of trying, I finally got through only to be told by a TM operator that I needed to call their customer service number, regardless of what the web page told me. The nice lady in customer service told me that the reason my order failed was that they don’t accept the Discover card–even though the web page allows you to select “Discover card” as a payment option and there is no way of knowing they won’t take it (unless “general sell failure” can somehow be translated as such). The kicker was that my order had never been processed and I had not been able to buy the tickets, which were by this time sold out. The nice lady told me she gets calls about this problem all the time. “TM holds such a monopoly on ticket distribution for large venues that even a rock band as popular as Pearl Jam was forced to give in to them even though they felt their fans were being gouged. Janet Reno pulled the plug on a antitrust suit against TM because she thought competition was emerging; that was four years ago and nothing has changed.”
Vanguard’s Low-Expense Annuities August 23, 1999March 25, 2012 “It is true that TIAA-CREF has very low cost annuities,” writes Richard Toolson, Associate Professor of Accounting, Washington State University. “However, as you’ve pointed out, they are only available to college and private school educators. Vanguard, however, does offer a pretty good spectrum of funds at what I believe to be rock bottom expenses. They are absolutely no-load (no back-end or front-end charges) and the insurance portion carries an expense ratio of just 27 basis points + 10 basis points for administration. Their total annual charges (including the mutual fund charges) are less than the annual charges for the vast majority of mutual funds. For somebody in a tax bracket of 28% or higher with a long term holding period (at least 10 years), who doesn’t need the money until after the age of 59.5 years, their annuities make economic sense. This is especially true for their annuities whose return is principally composed of mostly large amounts of ordinary income such as their REIT fund or High Yield fund. (I have run the breakeven periods on these and they make sense for a certain group of investors.)” Well, the good thing with annuities is that their growth is tax-deferred, which means you get “the government’s” share of the appreciation working for you until you withdraw the money. The bad thing is that when you do withdraw the money, gains that would otherwise have gotten favorable tax treatment are all subject to ordinary income tax. So annuities are actually a machine that converts lightly taxed long-term capital gains into more heavily taxed ordinary income. (Who wants a machine like that?) The 10-year period to which the good professor refers is roughly the time it takes for the tax-deferred compounding to make up for having to pay ordinary income tax on your gains at withdrawal. (The actual break-even point will vary from case to case depending on the actual investment results and on your tax bracket each year and at withdrawal.) Vanguard’s low fees certainly help. But an alternative is simply to buy and hold stocks directly. When you do that, tax on the gains (though not the dividends) is deferred just as with an annuity; there are no expense charges; and gains when you eventually take them get the long-term tax treatment (or may even pass to your heirs free of capital gains tax altogether). So you get much of the deferral everyone covets without expense fees or giving up the favorable tax treatment of long-term gains. The same holds true buying an index fund, except that a small expense fee is charged.
Nail Polish, Shoe Polish — It’s a Fit! August 20, 1999February 13, 2017 And here is . . . Chapter 17 of Fire & Ice. (You already have Chapters 1-16.) How Revson tried to do for shoe polish what he had done for nail polish. (Really!) And other sad tales. Meanwhile: What to do when there’s nothing about MONEY in this space? As today? My own suggestion is that you just stop thinking about it for a while, as I have. Money needs time to itself, time to grow. Watched pots and all that. But if you just can’t help yourself, and you’re willing to take your chances, I direct your attention to my Archives (which you can click at left). From time to time — wincing — I read some of the old ones. And when they’re not TOO awful, I click a box my web master has designed for me — I have, I should tell you, a brilliant, congenial, inspired web master (who has done what you see here on two lunch breaks) — and I “release” a few more old columns. For example, just now I “released” May 6, 7, and 8, 1997. (“But we don’t WANT to be released!” two of them cried, shoving Kevorkian news clips across my desktop. “We are painfully cute. Terminally useless. Delete us! Delete us!” Their case is under review.)
More Summer Madness: Underwater Radios August 19, 1999January 29, 2017 Lorraine: “Just finished ordering from healthquick.com. The glucosamine and chondroitin under the name Pain Free was $16.99 for 150, Schiff. I pay around $26 for the same thing at Costco, our discount store. It’s much more at the health food store. You paid for this month’s on-line cost.” Plus, you get $15 off your first order. Soon, your whole computer will be paid for. And now this: Some of you will recall my quest for submarine sonnatas, or “all news, all the time, underwater.” Didn’t work out. Now comes this from a man whose middle name is Money. I would fully expect to be rich just from being his pal. So far: no luck. But he knows everything about everything, and offers this about underwater radios: “None of the ones that attach to your head work. They are just annoying and get wet. You have to get one that you submerge in the pool. I will bet you can probably do it with a cheap portable and one of those watertight bags that scuba divers use. (Do not try it with a 110-volt radio, thank you very much.) Sound really travels in water. Just ask a shark.” I can’t quite picture how this would work, but I think I’ve come up with an alternative. To keep the laps from becoming too boring, I will think. Really — I have lots to think about. I just have not thought about it while swimming, for fear of losing count. I need hardly tell you that keeping count of the laps, and getting credit for every last one of them, is something even more fundamental to swimming than goggles. I count by two and fours and tens, I count forward and backward; when I get to a period of history with which I am familiar — nineteen twenty-nine, nineteen thirty, nineteen thirty-one — I try to think of some event or who was president. But if I actually think about a problem or a project, I’m sunk. Well, I am now informed there’s some kind of lap-counting device you attach to your finger and click as you make each turn, with a read-out to tell you the score. Clicking at the turn is something I ought to be able to get into the habit of doing without thinking, so if I can locate one of these things, and it works, I’ll be able to turn my attention to the age-old questions (two of which, regarding falling trees in the forest and chickens in eggs, I believe I dispatched August 9). All I will need then is an underwater pad and pen, to jot notes before I forget. I know Jerry’s pen writes upside down — the one he got from that guy at Boca Vista Estates who got it from an astronaut. But could it write under water? And has Kramerica Industries begun work on an underwater pad yet? (New Yorkers: as I write this it is nearly 11pm. Time for Seinfeld. Good night.)
Not the Worst Company, After All August 18, 1999January 29, 2017 Talk about a good sport! In response to the savaging I gave LaCie for botching an otherwise terrific product, I got this gracious response from LaCie Engineering VP Mike Mihalik: “Thank you for your helpful criticism about LaCie. Yes, we could have done a better job on the PC side; the problem with the incorrect installation has affected more than a few PC users (almost all), and the manual just adds to the problem — the correction is simple, and is in process. A really simple change to the Windows.inf file. “As for the formatting: we chose to offend the smallest number of people. Why? We initially formatted the product to work right out of the box — on Windows machines. Unfortunately we antagonized the majority of our customers, who were Mac people. These Mac people were either offended that we made the product work on both platforms simultaneously (they thought the drives were crippled for the PC); or they could not get the drives to work at all, since they had disabled Apple File Exchange which permits using PC formatted disks on their Macs. Sales are predominantly Mac; almost 500 to 1. Why not two SKUs? Volume insufficient.” As if that weren’t gracious and straightforward enough, some kind words followed. So as soon as the fix IS made, those of you with USB connectors on your PCs looking for a quick way to make huge backups — well, here’s a nice looking 10 gigabyte external hard drive for under $300. Once the disk is formatted for a PC, it seems to work like a charm. And on an entirely separate note: Muk Bud: “I have a philosophical question for you. Let’s say I have $600k in cash investments. Deep in storage, unbeknownst to me, I have a coin or stamp worth $400k. Am I technically and figuratively a millionaire?” No, sorry, you need $5 million to be a millionaire.