Author: A.T.

Small Point:

In response to my February 23 column, answering Thorsten, Elizabeth S. writes:

“Money Magazine, on page 26 of the March issue, says that the stock indices DO include dividends! Gotcha! 🙂 “

Well, if Elizabeth got anybody, I guess it would be Money. In misanswering a question from a reader, Money says that “both the indexes and the index funds include reinvested dividends.” I’m sure this is a shorthand of what Money actually meant to say. Actually, neither the index nor the net asset value of an index fund includes reinvested dividends. But in calculating overall returns, magazines like Money and the rest do (quite properly) add dividends to their calculations.

Look at it this way. If the Dow starts the year at precisely 9000 and ends, by coincidence, precisely at 9000, it has not gone up at all. But that 9000 figure does not say anything about the dividends paid out along the way. If you add them into the total return, it might be 2% or so. Likewise, index fund prices reflect only the price of the underlying indexes. Dividends are passed through on top of that. So when calculating the overall return of the index fund, magazines like Money will add the dividends.

(If you doubt that Money can err, note page 22 of the same magazine — corrections from the January and February issues.)

Large Point:

To the February 26 column on Mutual Fund Disclosure — in which Jeffrey complained that reports issued so long after the fact meant he was buying a pig in a poke — Mark Hiatt offered this thoughtful response:

“I have this theory that people’s desire to trade is directly proportional to the amount of financial information they receive. If you could dial up Fidelity or American Century on the web and see what trades they had made today, I think an awful lot of people would feel compelled to somehow act upon that information.

“When all I saw was a USA Today green section now and again, I didn’t think much about trading. WORTH or SMART MONEY would show up once a month and I’d check my meager portfolio and see how I was doing, but would rarely be moved by some story to actually change my humble investment philosophy.

“But NOW! Now, I get 20-minute and 15-minute quotes from several web sites and real-time quotes from Schwab and headline business news pumped into my home page every six or ten minutes… Now, I find myself tempted to trade several times per day. I’ve managed to talk myself out of INTC just in time to miss its runup. If I had held on, I’d still have the commission and the gains. And I’ve bought into several Next Big Things that have turned out to not be so hot.

“I wonder how well Warren Buffet might have done, had he lived in NewYork and watched a ticker-tape machine all through the ’60s and ’70s and ’80s?”

Mark refers here to the irony that the most successful man on Wall Street, Warren Buffett, has rarely come anywhere near Wall Street, operating instead from an office in Omaha — with no quote machine in his office, and trading very rarely.

The Internet is a mixed blessing for the small investor. It wonderfully cuts commissions and goes a good distance toward leveling the playing field in re access to timely information. (Sorry about the “in re.” I had dinner with a lawyer.) But it also turns the whole thing into something suspiciously like Atlantic City. Fun (at first, anyway), but dangerous — and not investing.

Have a good weekend!

All right. No dancing hamsters today. Title insurance.

Jonah Ottensoser: “If I buy a house without bank financing and have the title searched and found to be clear, is there still a need for title insurance? It would seem to me that this insurance is somewhat of a scare tactic on the part of lawyers/insurance agents to cover events that are possible but very remote. Thank you.”

Title insurance protects against screw ups by the title examiner — you had the title searched, but what if something was missed? — and against things that even a diligent examiner could not pick up. “Yes, such things are remote,” says my lawyer, Alan Marcus, “but still possible. Like fraudulent documents, unsatisfied liens, fraud on the conveyance, liens or other title matters that arise from the time that title is certified to until the actual deed/mortgage is recorded.” Alan is paid to be cautious, but that is not such a bad thing. Further, he says, when you go to sell, the title policy can serve as a base for updating the title, saving $100 or $200 in abstracting costs.

Alan says he considers himself a thorough examiner, but that he will not represent a buyer without title insurance “except in very rare cases” and then only after being indemnified by the buyer.

So the short answer is . . . this is probably not a place to skimp. (Depending on the state, it may be a place to negotiate. In states where title insurance rates are fixed by law, you may be able to get your lawyer at least to throw in the rest of his services for “free,” because of the cut he takes on the title insurance.)

One of the criticisms of title insurance is that the “pay-out” is very low. But unlike most policies, where you hope the insurers might pay out, on average, close to a full dollar for every dollar they pay in (supplementing their profits with the investment income they can earn on your money between the time you pay the premium and the time, months later, you have an accident or a fire, and weeks or months or years after that when they actually pay you) . . . title insurance is different. There, in an ideal world, the pay-out would be close to zero. What you’re really paying for is legal research, to be sure the title is clear, plus something for a guarantee of that research.

The real criticism I have is of the archaic title system in the first place. Hello. We have computers now. We have networks and the Internet. Why can’t all these title records and “liens” and so forth be digitized and organized and coordinated in such a way that each successive title search, unless something unusual crops up, costs $25 or something?

And speaking of unusual, I offer one cautionary tale. Some years ago, I lent some money at a very attractive interest rate secured by a first mortgage on a condominium in Connecticut. Why would the borrower pay me 13% (or whatever it was) when a bank might have then charged 9%? Well, banks don’t like to make loans they might have to foreclose on, I guess. I didn’t want to have to foreclose, either, but was assured by the mortgage broker — a very decent sort, and partner of a friend of mine — that there was more than enough value in the condo to secure the loan, even after all the awful costs of foreclosure, should that ever be necessary. (Foreclosure is not a simple or inexpensive process. You have to assume the property will come back to you needing major repairs, missing major appliances, sit empty for months while you try to figure out what to do with it — and so on.)

Month after month I’d get these great checks, and then after a couple of years the mortgage came due but they hadn’t quite done their refinancing, so after a few months I said I was sorry, but the interest rate had to go “to the maximum rate allowable by law” — that’s how these things work, which meant now I was getting even bigger checks every month, even as the general level of interest rates had fallen. And then one day the fellow I was dealing with — the mortgage broker — was dead and it turned out that he had done a very bad thing. He had arranged to have the mortgage paid off. But then instead of sending ME the money, he had kept it in his mortgage company, paying those monthly amounts out of the company’s own pocket. Well, paying me with my own money.

But how could the mortgage be satisfied if I never signed a satisfaction? The borrowers maintain that the mortgage guy, now deceased, had been acting on my behalf and that his fraud in not passing the cash on to me was not their problem. My feeling is that, hey, if a mortgage remains on the county records — as mine did — then it’s not my problem, it’s theirs. Well, not theirs, really — I feel for them and obviously don’t expect them to pay the mortgage twice — but perhaps their lawyer’s or their title insurer’s problem? Might this be the kind of unusual circumstance title insurance is for?

I honestly don’t know the answer, but will, I suppose, eventually find out.

Title insurance is such a boring topic, I feel we should start with some whimsy.

Today’s whimsy comes courtesy of Mike Rutkaus, who believes the following site — www.hamsterdance.com — “is the essence of the Web and the new economy.” Check it out and see if you agree. (Give it a minute – there’s music.)

I actually think there’s a grain of truth to this dancing-hamster observation, but only a grain (and I’d guess Mike actually feels much the same way). To me, the web and the new economy are better captured by www.drugstore.com, from which I just ordered precisely the headache and heartburn stuff I wanted (in case Amazon.com should continue to zoom). And by www.circuitcity.com, at which I quickly located the microwave of my dreams. Unaccountably, Circuit City does not yet have a “BUY” button on its site. They seem to want me actually to rouse myself from my chair, during business hours, leave the house, find a Circuit City, find a sales clerk . . . and all that. But the web is still young. In the long run, my sloth will not be denied.

Speaking of sloth, why not put off title insurance until tomorrow? Do us both a favor.

I got so carried away trying to figure out how to milk a dime out of Brian Miller yesterday, I forgot to tell you (or answer) his question. Namely:

“I have seen people take the stance that making principal prepayments on a mortgage is not the ‘smart’ thing to do, since stocks historically return about 10% over long periods of time, and mortgage interest is typically around 6% or so. But nowhere have I seen the advice taken to its extreme; that is, when your mortgage is finally paid off, take out a home equity loan and put the money in stocks. Have I just missed this advice? Or, is there some reason why it becomes no longer good advice at this point?

“And what about the fact that since stocks historically average annual returns of ~10%, and for the past few years have performed much better than that, then the law of averages says eventually stocks will do much worse than 10%. Isn’t this reason to at least place some of your investment money into mortgage prepayments?”

Maybe I didn’t answer Brian yesterday because he more or less answered himself.

To begin with, I actually tend to be one of those conservative types who think pretty highly of mortgage-prepayment as a way to save. After all, a lot of money management has to do with psychology and personal choice — how you live your life. No one should be ashamed of wanting to “earn” a risk-free 7% by paying down a 7% mortgage. It can help you sleep peacefully at night. And the mortgage-burning ceremony, when that day comes, can be one of life’s joyous milestones.

But there are a couple more things to say in response to Brian’s note.

First, if Brian really has a 6% fixed-rate 30-year mortgage — and if he’s thinking he might actually keep this property for 30 years rather than move on in a year or two — then he’s in an enviable position. The lender is on the hook to him at 6% for decades . . . while he is only on the hook to the lender until the day he decides to pay off the loan. Should mortgage rates drop to 4%, he could refinance. But if inflation roared back and mortgage rates hit 12%, he’d still be paying 6%.

It’s kind of like being an employee with a long-term stock option — but the right to “reset” the strike price if the stock price goes down. (If you have stock options, you know what I mean. If you don’t, it will just make you angry.)

So I will admit that it doesn’t always make sense on a strictly logical level to accelerate the payments on a really low, fixed-rate long-term mortgage.

But the second thing to say is that Brian is right (in my view) — this notion that stocks will always go up about 10% a year, with maybe some dips, but nothing much to worry about, has gotten a little scary. To me, anyway. So I sure wouldn’t hock my house (or anything else) to buy stocks at today’s prices — or at almost any other time, either. Borrowing to buy stocks might usually enhance your results a little, but occasionally wipe you out. Too risky.

And the final point is this. Six or seven percent may not seem like much, especially in light of the kinds of returns you could have earned on stocks (or bonds!) the last 17 years. (Long-term bonds not only paid a lot of interest over this period, they appreciated as interest rates fell — the combined returns have been tremendous.) But in a period of virtually zero inflation, that’s a “real” 6% or 7%. After tax it may be a real return of 4% or so. (The “earnings” from paying off your mortgage should be thought of as taxable, because — assuming you itemize your deductions — you only save the after-tax cost of the mortgage.)

Paying down a 7% mortgage when inflation is zero is actually a much better real return than paying down a 12% mortgage when inflation is 6%. The first way, paying down the 7% mortgage, you are “earning” 4% or 5% after tax and inflation. With the 12% mortgage you may really be saving only 7% or 8% after subtracting the value of the tax deduction. When you then subtract a further 6% for inflation, you’re really earning just 1% or 2% after taxes and inflation.

Should you pay off your 6% mortgage rather than invest in some great new business that your freshly-minted M.I.T. computer scientist son wants to start? No. Probably not. But should you pay your mortgage down rather than buy an Internet stock that’s already up tenfold since last summer? Well, maybe so.

I do think I can earn more than the 4% or so my mortgage costs me after tax, so I do not accelerate my own payments. But only time will tell whether this was smart.

From Brian Miller: “First of all, I would like for you to get some sponsorship for your web page so that I can stop feeling guilty about reading your ‘articles’ for free! (Of course, I would never pay actual money to read them, I’m too cheap. Instead, I’m willing to pay by looking at some advertisement.) This would also make me more secure in the fact that the articles will be around for some time to come.”

Sponsorship? Revenue? Are you kidding? This is the Internet. If we can get enough people reading this, and once they finally get up to speed with the clickle, I will be in fat city.

And where is the blasted clickle, anyway? Shouldn’t it be here by now? For those of you who’ve unaccountably forgotten my June 14, 1996, column — or not yet figured out how to access my archives — I reprise it for you here . . . and go it one better.

(This is a joke. The archives are, for now, inaccessible. I’m working on it.)

On June 14, 1996, a date so far not engraved anywhere in the annals of cyberspace, I predicted a new word. Clickle. “Because,” I wrote, “isn’t that what everyone’s working to come up with on the Internet — some way to charge a dime or a nickel or perhaps even just a penny or two for access to a particular page? You’d come to a page, which would show a dialog “access costs a penny” and you could either click to proceed, to cancel — or to proceed and “don’t slow me down with this message again unless you raise your price.”

Sort of a high-tech cross between a trifle and a nickel. The universal monetary unit of the Internet. And although to any given user a clickle’d be just a few cents or a nickel (I suggested), the accumulated clickle trickle could become a flood. For it would come not just from U.S. nickels, but from Russian rubles, Arabian rials, Israeli shekels and Polynesian pickles (or whatever the Balinese call their loose change).

“I know an access charge will make people stickle,” I conceded. “But you watch. When a simple click’ll get them where they want to go, they’ll soon be dropping clickles without a second thought. You mark my word.”

The implications, I concluded, were not all bad. “Say it’s five years from now, when TV and the Internet are fully integrated somehow. There’s a show that you really enjoy like Fox’s Profit (remember that one?), but that has to be dropped for insufficient ratings. Aha! What if they could keep it going by supplementing ad dollars with clickles? I, for one, would gladly have dropped a few clickles to see another episode.”

And that brings me to 1999 and to the new life I hope to breathe into the clickle. Because, yes, I know people are resistant to paying for anything on the net. I know that Michael Kinsley’s fine e-magazine, Slate, has recently dropped its modest subscription fee, and that an efficient, universal system of collecting “micropayments” is still some way off (but how much longer can it possibly take Visa or American Express or Yahoo or somebody to figure this out?).

My new twist? The voluntary clickle — the v-clickle. Not a v-chip, a v-tip, really — singing for my supper — the v-clickle is the v-hicle I’d ride to riches.

It would be very simple.

At the end of each column would be a little “token.” Or maybe two or three. Click the little one if you want to toss a nickel into my cup, the middle one to toss in a dime, and — if you just fell off your chair laughing or learned a way to save $300 in taxes — go crazy: click the big token and tip me a quarter.

Or tip nothing at all.

My thought is that if this column is worth your time (which is the real precious payment you make reading it), then what’s a further dime? With a billion Internet households expected soon, if only 10% of them read my column daily, and only 50% of those liked it enough to tip me a clickle — even one of those little nickel clickles — that would be $2.5 million a day. Might even be enough to get me to write these things Saturdays.

Jeffrey Sheff: ‘How come we have to wait 6 months to a year to find out (in a prospectus which takes 6 weeks to arrive by snail mail) what stocks my fund held a few corrections ago? A fund which may have replaced 100+ per cent of its portfolio in the meantime, and thus, by not letting the cat out of the bag, has left you buying a pig in a poke? My intelligence, such as it is, is offended when I receive a quarterly report months after the period has ended. My suspicious mind wonders if the plausible rationalizations of the fund managers for its performance may not have had the benefit of more hindsight than it appears from the report date. Could you clarify this situation for me? Or, better yet, agree with my annoyance at this state of affairs?’

Cats, bags, pigs, pokes . . . hmmm. I certainly appreciate your frustration. I see pros and cons to more contemporaneous reporting.

The pros are, simply: why not? Disclosure is almost always good. It’s your fund – why shouldn’t you be allowed to know what’s in it? Indeed, just as you call your own portfolio up to the screen each day, why not be able, through the Internet, to call up your fund’s portfolio?

Yes, this would be a waste of your time. But surely not the only way you waste time. (Coming to this column each morning might itself be considered . . . well . . .mumble mumble.)

Yet there’s another side to this story, as thought through by my esteemed friend Less Antman.

First of all, says Less, to keep from driving the price up or down, a fund manager will often take weeks or months to build up or liquidate a position in a stock. Releasing information promptly would tip his hand – Magellan has started selling Yahoo! … Run for the hills! – and that could hurt the price he’s able to get his shareholders.

Second, mutual funds should be considered long-term investments. There is no pig-in-the-poke when the investments of the fund are published semi-annually and performance is released daily. It’s probably a mistake to invest based on what a fund owns rather than on its policies and performance. In choosing funds, you’re choosing managers, not stocks.

(It seems Jeffrey’s metaphors were not mixed. Buying a pig in a poke, I now find, refers to the old English custom of scamming the gullible by putting a cat, not a piglet, inside a poke — a little version of which sewn to your pants would be a pocket — and hoping the buyer would not insist on a look-see and let the cat out of the bag.)

Note, too, that the delay in publishing reports hangs party on the legally required audit. Most of the large firms, including Vanguard and American Century, are making their reports available online the instant they are approved by their accountants. The managers don’t write the explanations of results 6 weeks after the report date, Less says; they write them almost immediately. It is the delay for accounting and legal reasons that are to blame.

So, Jeffrey, do I share your annoyance? Well, not entirely. I’m more annoyed by high expense ratios or poor performance. But you definitely have a point.

FREE ROTATION

“I have my own little way of saving $35 after tax every two or three months,” writes Dave Pouso. “Please note that my friends think that I have sunk to an all-time low in cheapness (I call it being able to retire at 45 and being able to afford traveling more than they). Well here it is, as trivial an amount as it may be. Most car manuals suggest that you rotate your tires every three months. This can run between $20-$40. However, Sears (you can see why my friends cringe — if it were Banana Republic or Arocrombie & Fitch they would be all over it) does it for free! Even if you did not buy your tires there. They don’t even try to sell you anything!”

Thanks, Dave. You actually rotate your tires? Does this mean you also turn over your mattress (and rotate the corners ninety degrees) every season? That you change the filter in your air conditioner? I am impressed. Yes, I clean the filter of my dryer after each load, but that’s free and easy and oddly satisfying. The fluff is clean and warm and soft. And removing it keeps the dryer from catching on fire.

OBVIOUSLY, SOME PEOPLE CAN BEAT THE MARKET

“If the stock market is as efficient as you say it is,” asks Bob Iserman, “how can investors such as Warren Buffett and, in the past, John Templeton consistently beat it? Is doing your homework and investing in stocks intelligently really such a hopeless pursuit?”

The $64,000 question. And the answer is: for most people, yes, it’s hopeless if the standard is beating the market — and by enough to justify the time and effort spent to do it. Buffett and Templeton (and Peter Lynch) are so interesting because they are so rare. There may also be some elements of self-fulfillment in this, but there’s no question in my mind that the success of those three, especially Buffett and Lynch, is more than just luck. Remember, I’m a random walker “with a crutch.” I.e., there’s some room to beat the market significantly over the long-term. But very few do or will.

YOU’VE GOT NO MAIL

You send me e-mail. When I can, I click REPLY. But then sometimes the replies bounce right back as “undeliverable.” (Why is that?) And then I try again, this time cutting and pasting your e-mail address – and still it comes back. So you never even know I tried. Frustrating! Anyhow, to those of you I’ve tried but failed to answer, like Burr (Hey, Burr! Your e-mail isn’t working!), let this reply apply to all: “Thanks, Burr. What a great message! I appreciate your taking the time to write.”

I do.

Burr – are you there?

Well, almost everything has a silver lining, and the great advantage to my no longer getting paid a billion dollars a year to write this column every day the market is open (thank you, Ameritrade, it was great) is that every once in a while — I hope not too often — I get to declare an Andyday.

(The benefit to Ameritrade is that my absence seems almost instantly to have quintupled its stock. A billion dollars a year is quite a drag on a little company.)

Happy Andyday.

Recently, I wrote:

. . . it’s worth noting that, by one measure, anyway, “the market” is not at 9,300, it’s at more like 14,000. Which from a low of 1,700 12 years ago is a healthy octuple, nearly a 19% annual rate of return — plus dividends — or about double, if not a little more, than the “normal” return.

To which Thorsten responds:

“Plus dividends?? I’m not sure about the Dow, but at least the S&P 500 index already contains the dividend payments of the stocks in it. Otherwise the Vanguard Index fund and SPY etc. would do about 1% better than the index itself (dividend yield minus fees), because they do receive dividends.”

Well, no. The S&P 500 index doesn’t contain dividend payments. The comparisons made by the Vanguard Index fund, SPY, etc., are with a specially computed figure that combine the price appreciation of the S&P 500 and the dividend returns. (Both the Vanguard Index fund and SPY themselves pay dividends every year — namely, passing through the dividends of the underlying stocks.)

So when you see rules of thumb about the stock market historically returning 9% or so a year, that was not appreciation of 9% a year but, typically, 5% or 6% in price gains plus 3% or 4% in dividends.

Of course, you don’t see the 9% number much any more. Now you often see 10% or even 12% as what you can expect of stocks — the historical norm. But that’s because the last 17 years have been so phenomenal, raising the historical norm.

There are those who believe in “regression to the mean,” which in Biblical terms simply means that seven fallow years follow seven fat. So all these above-average years of late have been swell. Truly. But though they raise the historical average, they do not necessarily raise the gains we can expect of the future.

And dividends, I am so old-fashioned as to believe, might even one day come back into fashion, especially if we ever stop double-taxing them. They are, after all, cash. And cash is useful when you need to, say, pay for things.

OK, I suggested something a little like this 29 years ago, in The Funny Money Game, when I proposed taking my 22-year-old self public. But reader Bill Saguto has really done this much better:

“I have a proposal for all of those people ‘investing’ in computer/Internet stocks,” Bill writes, “with prices that are hundreds of times their prospective earnings five years out. (Or investing in any other stocks with ridiculous PE ratios.) Simply give me $30 million dollars, which is approximately 300 times my projected earnings in five years, and you get my paycheck and I am stuck living off of whatever I manage to make off of the thirty mil. The advantages I offer over computer stocks:

“1. I have a job and have positive earnings now.

“2. I will take out life, disability, and extra unemployment insurance so you are guaranteed a return even in the darkest of economies, and payback of your initial investment when I pass on.

“3. To replace the excitement factor, every month I will roll a die and give a 50/50 chance that one investor will win $100k. The investor will be randomly chosen with the odds being increased based on his investment. This would be paid out of my thirty mil, as would be the insurance premiums and other expenses.

“4. Then I will open an options market. You would be able to sell someone else the right to your monthly entry in the die pool. As market-maker, I would take a little bit of each trade-enhancing my earnings, and thus your pay-out, even more. Just think of the possibilities.”

Sounds good to me. I’ve long felt the U.S. Treasurer, “if she really wanted to sell her bills,” would add a little lottery feature to them to add some excitement. Drop the yield a tenth of a percent but add a $25 million jackpot. Now you’re talking.

I think Bill is onto something big.