how not to invest Archives - Bankers Anonymous

January 17, 2018

Texas Wants Its Own Fort Knox Because…

Now that the holiday season is behind us, you’re probably wondering where to store all of your gold ingots, lumps of physical gold, and bars of gold bullion. The struggle is real, amirite?

Never fear, the State of Texas has your back, in 2018.

Specifically, the Texas Bullion Depository wants to solve all your gold storage problems.

The Depository – created via legislation passed in 2015 and blessed by statute with the imprimatur of the Texas State Comptroller – is managed by a private company named Lone Star Tangible Assets. LSTA’s business affiliates also are in the business of selling gold, diamonds, and precious metals as well as offering storage services for investors and collectors, according to communications lead Josh Hinsdale.

The Depository is slated to open in January 2018, at which point they will publish rates for depositors. For now, Hinsdale told me, depository customers should expect the cost of a combination of storage and insurance will be less than ½ of 1% of the value stored, per year. Meaning, storing and insuring a $100,000 worth pile of gold bars should cost you less than $500 per year at the Depository.

Now, I don’t personally own any gold, for reasons I’ll explain further down, but it’s true that storing gold could be a problem for some Texans.

I called my homeowner’s insurance provider, and learned they explicitly exclude precious metals like gold in lump, bar, or sheet form from their homeowner’s policies. So, I could try to store gold in my closet or basement at home, but it would be with the knowledge that any losses, including theft, are at my own risk.

Another answer could be a safe-deposit box at my bank. I checked with my bank, and for $100 per year I could rent one of their larger boxes at their headquarters office in town. This would remove the gold problem from my house, and would afford me bank-level security. It would not, however, provide insurance against losses. The bank provides the space only, and unlike money deposits at the bank, my gold would get no guarantees against theft or destruction. I would need to purchase separate insurance for the value of my gold ingots.

The gold storage and insurance service, available in January 2018, is just phase one of the Texas Bullion Depository plans. Phase two involves the creation of a purpose-built facility for physical gold storage in Leander, Texas outside of Austin, slated for completion in December 2018. One of the points of phase two is to appeal to institutional investors, who may want a “Texas option” for storing their gold.

Now, the Texas Bullion Depository appears to be a thoughtful and serious service, and for people who need to store their personal gold, this seems better than the alternatives.

But here’s the more important thing I feel obligated to point out: nobody should be buying gold for their personal accounts. It’s not a wise use of your money.

Gold – unlike actual investments like stocks and bonds and real estate – produces no wealth or cash-flows. Unlike real money, it is too volatile to serve as a stable store of value. Unlike real money, it’s too bulky and inconvenient to serve as a convenient medium of exchange. Gold forms one of Mike’s Four Horsemen of Your Personal Financial Apocalypse, along with time-shares, variable annuities, and bitcoins.

I guess I could say the only thing gold has going for it is that it’s “better than bitcoin.” But frankly they are in the same genre of financial tricks played on the simultaneously gullible and paranoid. What I mean is that if gold is the Bozo The Clown of investments, bitcoin is Pennywise.

From previous reader feedback I already know I’m whistling into the wind with you gold enthusiasts, and likewise you can trust that your (undoubtedly, polite) disagreements will not tempt me to agree with you.

Given the precious metal fever-dreams to which gold-enthusiasts succumb, I think the state-sponsored part of the Texas Bullion Depository is odd.

The depository is, naturally, the only one of its kind in the United States. No other state has seen the need to create this through legislation.

The state Comptroller’s office released a video in December extolling the creation of the depository in Texas, noting:

“The Texas Bullion Depository will provide safe, fully-insured storage for precious metal, providing an alternative to depositories largely located in and around New York City.”

Something about the physical location of gold in New York apparently makes Texas lawmakers nervous?

“The law will repatriate $1 billion of gold bullion from New York to Texas,” Governor Greg Abbott’s office announced upon signing the bill to authorize the depository in 2015. I think using the word “secession” would be impolite here but I’m also not denying that’s the word that comes to my mind when I hear this kind of crazy talk.

The Texas Bullion Depository offers a legitimate solution to some people’s gold storage needs. Undoubtedly, however, this facility will also stoke more fringy gold-bug fantasies.

gold_bug — It’s this kind of fringe-y garbage I worry about

Now, do you mind if I share my own fantasies? I was disappointed to hear from Hinsdale there are no plans as of now for a “visiting room” to see the physical piles of gold once the facility in Leander gets built. I would totally take my girls on a field trip to visit big lumps of other people’s gold. Then we could spend the whole drive talking about how to stage an Oceans’ 11-style heist of the “Fort Knox of Texas.”

And really, what’s the point of a Texas Bullion Depository if it doesn’t inspire this kind of magical thinking? If Richard Linklater or Robert Rodriguez isn’t currently writing a “Goldfinger of Texas” screenplay starring the Wilson brothers then I demand a full refund for all of 2018.

And please see the related stories:

The Four Horsemen of Your Personal Financial Apocalypse:

Never Buy Gold

Never Buy Bitcoin

Never Buy Variable Annuities

Never Buy A Time-Share

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March 29, 2017

A Road Runs Through It

I had a weird thing happen to me recently that prompted thoughts on real estate investing, “eminent domain,” and BIG GUBMINT.

I (re-)learned that what you don’t know might hurt you, and also what you think you know about your constitutional rights might not be true.

Through a series of unfortunate events, I became a one-fifth owner in a parcel of agricultural land in Southeast Bexar County, Texas.[1] I’ve been trying to sell it ever since. I have areas of investment expertise, but real estate development isn’t one of them. Which is probably why I found myself in this awkward spot.

Major Thoroughfares

Last fall I learned from our realtor that a 50-acre parcel of which I am a part-owner has a planned “Major Thoroughfare” running through the middle of it.

My realtor sent me the city parcel map and yup, there’s a bright yellow line cutting right through our property. As owners we can’t build on that. Any development done on the property has to make way for a future, theoretical, 120-foot wide road right down the middle.

Art Reinhardt, Assistant Director in the Transportation Department for the city of San Antonio explained to me that in 1978 – and then periodically updated afterwards – the City of San Antonio mapped out future theoretical roads, to account for growth.

The long-planned major thoroughfare is not built yet, and might not be built for decades, or even built at all, ever. But in the meantime, we can’t use that land for anything except a road.

All-in, the as yet non-existent “major thoroughfare” will take about five acres out of the parcel and make it unavailable for building. Multiply those five acres times the cost per acre, and we’re talking about real money lost by myself and my fellow owners.

At first, I thought the carved-out five acres would be no big deal. Because, well, I’m an American. And I was flipping through my copy of the US Constitution, as one does in one’s free time, and I re-read Article V of the Bill of Rights: “Nor shall any person…be deprived of life, liberty, or property, without due process of law; nor shall private property be taken for public use, without just compensation.”

This amendment is the basis for limitations on any government – city, state or federal – claiming “eminent domain” over private property, taking it for public use without paying the private property owner for that taking.

So no problem, I thought, the City of San Antonio will certainly pay us for that public use, right? I mean, I read it right there in the Fifth Amendment of the US Constitution. So, cool, I’m good.

That’s when I called city officials to test my theory.

Nope. There will be no compensation. I checked with multiple city officials familiar with this type of matter in the Planning, Transportation, and Office of Legal Counsel.

I further learned that even if an un-built but planned major thoroughfare exists, it will not show up in a title search, the typical due diligence step real estate purchasers use to be certain they have full to ownership with no liens or counter-claims from anyone, like an unpaid creditor or previous owner.

It seems the only practical way a buyer would know about this is through hiring a specialist attorney familiar with maps showing city plans for major thoroughfares. Something we clearly hadn’t done.

I talked to San Antonio attorney David Denton, a specialist in eminent domain and governmental real estate issues. He helped walk me through the legal particulars that would define an “eminent domain” case versus a “tough luck, private property owner” case.

Cities and other government entities obviously have rights and the need to restrict private usage through zoning, parcel platting, infrastructure requirements, and transportation. These may be considered ‘exactions’ imposed by a city government.

In legaleze, getting paid for eminent domain reasons hinges on whether there’s an ‘exaction’ (no compensation for the private land-owner) or a ‘taking’ (possible compensation for the private landowner.) Exactions provide government cover for a variety of legitimate uses, including it seems, future theoretical road access on this property. Denton also mentioned case law around the “proportionality” of the government’s requirements. I understand that to mean that if a higher proportion of a full property value was lost, it might start to resemble a ‘taking,’ but my situation didn’t rise to that level.

Lessons

One lesson, obviously, is don’t get into investing in things without really knowing what you’re doing. In other words, do as I say, not as I do.

Another lesson, more subtly, is that the world of real estate is not as simple as a bright line between private property rights and public or government property rights. We rarely can do precisely what we want with private land, and the public interest can impinge upon our theoretical property rights.

krispy_kreme — Please bring one of these to my rural land

The third lesson I learned along the way is that BIG GUBMINT can be serendipitously profitable. It turns out there’s private silver lining opportunity in this public impingement. As a developer buddy of mine explained, some investors seek out land like this, with a major thoroughfare plan running through it.

Here’s why. If the major thoroughfare did get built soon, I’d be sitting on a potential gold-mine (a very small-scale gold-mine, but still). Suddenly my rural land would become far more valuable from the expected increase in automobile traffic. I could lease it out to a Krispy Kreme or whatever fast food joint would build a store next to the major roadway cutting through the property.

Actually, who am I kidding? If we could lease to Krispy Kreme specifically, I would move into a trailer next door and never leave. I love that sugary goodness.

[1] I wrote once about my star-crossed real estate investment a while back, as it gave me insight into the “Agricultural Exemption” game that developers play, in which they run a cow over their land once a year at tax inspection time and the county collects only a tiny fraction of the land’s market value.

A version of this post ran in the San Antonio Express News and Houston Chronicle.

Please see related posts:

A real estate rant about “agricultural” exemptions

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November 2, 2015November 2, 2015

Now How Much Would You Pay? Comparing Fund Costs

A wise man wrote about investing: “performance may come and go, but costs are forever.”[1]

Let’s explore a bit how big these cost difference really become for your investment portfolio.

As a starting point, do you already have a sense for whether the cost differences between funds you may own are in the hundreds of dollars? Or maybe the thousands? Could they possibly be in the tens of thousands? Surely not more than that?[2]

(Here’s a sneak preview hint of the answer: Wall Street is very profitable.)

Differences over time

To illustrate cost differences, let’s pretend you are a 40 year-old with a $100,000 mutual fund investment that will earn 7 percent annual return in the market, over the next 30 years. I know, lots of assumptions that may or may not be true for you, but we have to start somewhere.

The first key thing to know is that the average actively managed mutual fund charges 0.8 percent as an annual management fee, while the average passively managed – or ‘indexed’ – mutual fund charges 0.14 percent per year, for a difference of 0.66 percent in fees, (this according to mutual fund giant Vanguard.)

Hundreds!

For a $100,000 investment, the cost difference in fees averages $660 per year.[3] So, I guess active management costs us hundreds of dollars per year, then.

Tens of thousands?

But wait. Annual management fee costs rise as your funds grows, so the annual fee differences grow as well. Using averages, you should expect to pay your mutual fund company $65,518 total in fees for an actively managed fund that returns 7 percent over a 30-year period, compared to $12,896 for a passively managed fund also growing at 7 percent.

Um, so you’re telling me the average cost difference between an active and a passive fund is $52,622 over 30 years? In the tens of thousands of dollars?

Yes, yes I am telling you that.

Hundreds of thousands!?

But just wait. Even that comparison underplays the differences in costs. Since you are attempting through your investments to grow your money on your money, the lost growth on the money you pay in fees each year actually drags down performance even more than it at first appears.

The difference in final performance, considering the compounding effects of fees paid out of your investments, leads to a $124,141 wealth difference at the end of 30 years.

Wait, what!? Yes, you noticed that. The all-in cost of your mutual fund may end up larger than your original investment.
Pick any assumptions

You could test a wide variety of assumptions and the differences will be dramatic, even if the final numbers vary.

Crank up the annual return assumptions, and the differences become even bigger. Crank up the number of years invested, and the differences become even bigger. Crank up the amount of money invested, and the differences become even bigger. Crank up the management fee of the actively managed fund to a very typical rate, rather than the average 0.8 percent, and the differences become even bigger.

Millions?!?

How about a $1 million stock portfolio, returning 10% over 40 years, paying 1 percent for active management instead of 0.14 percent for indexing? (By the way, these are not crazy assumptions for many people) The wealth difference at the end of forty years, making the simple choice about active versus passive investing, is $11,602,001.

In a related question, have you ever wondered how Wall Street got so big?

Active versus Passive

Now, clever readers will notice something I’ve not yet addressed in my comparison of low-cost versus high-cost mutual funds.

What if I adopt the assumption of the mutual fund industry itself – which is built on the idea that a good reason to pay more in fees is to get better performance? Meaning, if an actively managed fund can earn 8 percent per year instead of the 7 percent per year from an index fund, then my cost comparisons become irrelevant in the face of superior performance. Right?

Ok, that’s possible.

All you have to do, therefore, is be confident about two things:

Active managers typically outperform passive managers.
You, specifically, (or your investment advisor) have the skill to know, ahead of time, which active managers will outperform passive (aka index) funds over the next thirty years.

Unfortunately for the mutual fund industry’s underpinning assumption – these turn out to be absurd ideas most of the time, for most funds, and for most people.

coin_toss — Picking managers: a bit like this

I’ll start with assumption number one, about the consistency of outperformance of active managers over time. The quick answer is that about 3 percent of mutual funds that achieve top performance over any five year period also go on to achieve top performance in the following five year period. Sadly, the vast majority of actively managed funds underperform their benchmark over the long run. And the longer the run, the fewer the outperformers.

On assumption number two, whether you or your advisor can select the rare winner among active managers, I don’t know. I mean, who am I to say?

Ok fine, I’ll say it: You can’t, and you won’t.

[1] Reminds me of the politically incorrect joke from the 1980s about the difference between love and herpes.

[2] Please don’t call me Shirley.

[3] That’s $100,000 times 0.66 percent, but you already knew that.

Please see related posts:

How to Invest

The Simplest Investment Approach, ever, by Lars Kroijer

Lars Kroijer on having an ‘edge’

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October 26, 2015

Five Bad Reasons To Invest The Way You Do

This past month I taught an adult education course on investing. I began the first session with a discussion of the following question: “What are we really trying to do when we invest?”

I’ll conclude this column with what I think we should try to do when we invest, but I can think of at least six common goals that can get in the way of that should.

Seem Smart/Competent

Many of us approach investing as another area for standing out as smart, or for proving our special competence.

Doctors for example – highly competent and smart in their own specialized field – might figure they know which health-care or pharmaceutical stocks to buy.

A marketing executive might see broad societal trends in the fashion world, or a chemistry professor could apply his knowledge to pick small bio-technology stocks.[1]

When you listen to a group of guys (for some reason it’s usually guys) discussing their individual stock picks, that ‘proving competence’ thing is what’s going on.

Conform

Just as common as the need to ‘stand out’ from the crowd – in fact, probably more common – is the instinct to do exactly what others are doing, to conform. This isn’t necessarily a bad thing under ordinary scenarios.

For an endowment that I help manage, an instinct for conformity can be a very positive thing, because it forces our investment committee to figure out what similarly situated endowments are doing. If we decide to deviate from the crowd, at least we’ll have the chance to think about why we’re doing so.

On the negative side, however, conformity is how we may end up participating in – and suffering from – financial bubbles or financial fads without particularly meaning to. The ‘wisdom’ of the crowd sometimes goes terribly wrong.

Gambling Rush

Let’s face it: Gambling is fun. Winning a financial bet, especially a bet on a stock that moves in a short-term way as predicted, is right up there as one of life’s great adrenaline rushes. I just bought that stock and boom! it jumped 15% in a week! I am a Golden God!

Even losing, as gambling addicts eventually acknowledge, offers a perverse, dark, thrill. Lady Luck, she hates me! Secretly, I know I deserve this shameful loss. (full disclosure: I ate that third Krispy Kreme at 1am when everyone else was asleep). I am a loser, but I rolled the dice and took my chances. I suffered and lost but it feels good to be alive!

Anyway, I digress, but none of this adrenaline rush from gambling is helpful.

Get Rich Quick

There is no way to get rich quickly from investing.

Wait, let me correct that. There is no reliable way to get rich quickly from investing. There are quite a few unreliable ways.

Anyone can, conceivably, flip a coin and receive heads five times in a row. Heck, that will happen 3.125 percent of the time you flip a coin five times in a row. So, some small amount of people will get rich quickly from an unreliable approach. I wouldn’t recommend any of those ways.

The more you are in a hurry to get rich quickly through investing, the more you will end up flipping tails over heads, right into a financial ditch on the side of the road. (And that, my friends, is the way to mix metaphors. Like a boss.)

Maintain a relationship

This is probably the most hidden yet pervasive reason people make sub-optimal choices with their investments.

“My Dad used to invest with this guy,” or “Everybody at my church follows this person’s advice,” or “I’d feel bad taking my investment account away from my neighbor.”

That’s all fine, as long as you don’t mind paying tens of thousands of dollars – probably more if you have a sizeable portfolio or a long time horizon – to avoid a stressful 5-minute conversation. Hey, that’s cool, it’s your money.

We’ve all done this

Even while criticizing these reasons many people invest, I should point out what I hope is obvious: I have done all of these things. They are common and natural and I understand. But also, these are all errors. If you’re investing to look smart, to fit in, to satisfy a gambling urge, to get rich quickly, or to avoid straining a personal relationship, over time you’ll probably pay quite a bit for these choices.

So…what is a good reason to invest?

The best I’ve come up with so far is this:

We should invest so that over time (5 years at least), we can grow our money to generate enough passive income to cover our lifestyle costs when we stop working.

That seems simple enough. But in fact there’s a lot of stuff packed into that sentence, having to do with the meaning of words like ‘grow’ and ‘passive income’ and ‘lifestyle costs.’ I’ll unpack those later.

For the moment, however, it’s worth examining which of the above five bad reasons dominate your investing approach, and whether you can afford the many thousands of dollars this will cost you over your lifetime.

[1] Forgive me, family members and good friends (you know who you are), for sounding a skeptical note on your stock-picking abilities.

A version of this ran in the San Antonio Express News

See related post:

How to Invest – I finally give the answers

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February 15, 2015February 23, 2015

Sin and Profit

Jason Zwieg at the WSJ provides interesting data today on the relative returns of ‘socially irresponsible investing’ (my own phrase).

I recently wrote that I could not recommend to a friend any ‘socially responsible’ mutual fund. My reasons:

1. Funds like this tend to have relatively high costs (especially compared to index funds, which I would generally recommend)

2. I find it impossible to match up the specifics of my (or anybody’s) moral code with the blunt instrument of equity investing.

Less emphasized in my post – but possibly most importantly of all – the ‘sin stocks’ such as tobacco, alcohol, gambling, weapons may have an inherent advantage when it comes to making money.

Zwieg cites the returns of a small mutual fund that invests only in these unfavored sectors of the economy, and has a ten year track record better than the S&P 500. Since few actively managed funds actually beat an index like this over a ten year stretch, the fund deserves attention. USA Mutuals Barrier Fund (previously named “The Vice Fund”) invests in tobacco, gambling, alcohol and defense, and returned 8.3% annually for the past ten years, compared to 7.9% for the S&P500 and 7.2% for the Vanguard FTSE Social Index Fund.

Now, one fund’s return does not imply any kind of rule about anything. But Zwieg provides more data.

London Business School economists showed that over the past 115 years US tobacco stocks returned an average of 14.6% annually, compared to 9.6% for all US stocks over that time. That’s a huge effect. Because of the magic of compound interest applied over long time periods, it’s the difference between $1 growing to $38,255 (at a 9.6% return) and $1 growing to $6.3 million (at a 14.6% return.)

Big obvious examples of persistently high returns – above adjusted risk – in efficient markets are extremely rare, and therefore notable.

And yet while markets are generally efficient, it makes some sense to me that the natural aversion of individual investors to certain companies, and the added preference of socially responsible investors against certain ‘sin’ sectors, would leave a persistent opportunity for outperformance investing in unlikeable companies and industries.

This follows the basic notion that if capital is scarce, the returns on that capital need to be relatively higher in order to attract and sufficiently compensate scarce capital. I’m enough of a contrarian cuss to smile at the irony/evil of capitalism, if this ‘sin investing’ strategy actually works in the long run.

I also appreciated learning from Zwieg that there’s a SINdex, which has tracked comparative returns since 1998, and has gained 16.1% annually vs. 5.2% in the S&P500. That’s probably not a big enough sample (there are only 29 companies in the SINdex) to prove anything yet, and 16 years is not enough time, but I’m intrigued by this possible market-beating approach in a Random Walk world.

Please see related post: Not A Fan Of Socially Responsible Investing

and Book Review: A Random Walk Down Wall Street by Burton Malkiel

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January 26, 2015

Stupid Smart People

Note: A version of this post appeared in the San Antonio Express News

My wife and I headed East on I-10 recently to visit our New York City friends Jay and Nina – another married couple and their kids – who now live in Houston.

The conversation over the weekend turned toward their personal finances and Jay began calling himself a ‘stupid smart person’ when it comes to the world of finance and their own personal financial situation. I really like that phrase.

Educational background

As they approach their 40s, they’ve realized they had no idea where to even begin. While they have now begun to learn, they mostly recounted to me just how unaware and mistake-prone they had been, until very recently.

Jay calling himself ‘stupid’ needs some explanation, as his self-deprecation should only be understood ironically.

Jay and Nina both graduated from Harvard College, then Columbia and NYU medical schools, and finally Columbia Medical residency programs.

They continued training as cancer specialists at MD Anderson Medical Center in Houston – one of the most educationally advanced institutions on this, or any other, planet.

Between them they share three Ivy League degrees, as well as approximately 20 years of specialized education, after college.

I would expect they have enough higher learning to earn an invitation to the Jedi Council by now, so how can my smart Houston friends be – by their own description – stupid?

Clearly, they are not.

But if even they don’t get it…

You might be thinking that if even my friends Jay and Nina don’t feel confident about understanding their personal finances, how does anybody else even have a fighting chance?

I’ve known far more people uncertain about their personal financial situation than I’ve known people who feel totally confident that they can handle their own money.

I’m describing my friends’ specific situation not to pick on them. They’re on the right track now. I’m bringing this up because I hope their situation gives everyone permission to do two things.

First, it’s ok to feel like you do not know enough about your personal financial situation – even my Jedi Council friends felt clueless.

Second, it’s ok to begin the process of self-education about your finances at any time, even long after you’ve become an expert in your own profession. It’s not too late. Even for you.

What is it about money and finance that stumps even the most brilliant among us?

I don’t know yet. I’m still trying to figure this out.

This is one of life’s great mysteries. Just like why C3PO never said anything to Luke about his father, since the droid was created by him? Seriously what’s up with that?

In honor of my team making the Super Bowl, I decided to put up a picture of Coach Belichick

The Finance Industry, like a Sith, wants you in the Dark

My answer about money so far comes from my Wall Street experience: The finance industry – taken as a whole – has a vested interest in making financial services seem as complicated and opaque as possible.

The more specialized and mysterious we can make it all seem, the thinking goes, the more we can charge extraordinary fees for very ordinary services.

I think we fear that simple financial solutions would lead to lower fees, and I’m sorry to say but lower fees are just not getting me the Mazarati Quattroporte I’ve always wanted.

Landspeeders on Tatooine don’t come cheap either.

Simple beats complicated

So what is a stupid smart person to do?

Start with the following true (ok, more like “truthy”) statistic:

In 98.75 percent of all financial situations simple beats complicated 100% of the time.

Got it?

How do you increase your chances of choosing “simple” over “complicated?”

Easy.

jedi_council_legos — Keep it simple, even for Jedis

Embrace your identity as a stupid smart person.

For example, only make investment choices that you – a stupid smart person – actually, fully, deeply, simply, understand.

Here’s a good test: Could you, personally, explain your financial and investment decisions to a fifth grader?

If your insurance salesman cannot tell you precisely, in language even you can understand, how that whole life policy or variable annuity is a better deal than just taking the money and putting it into a retirement plan and thereby ‘self-insuring’ – and believe me he can’t, because it isn’t – then you don’t need that particular type of insurance product.

If your mortgage broker cannot explain exactly how that interest-only, variable-interest reset loan to LIBOR + 8% in three years is a good option for you – and believe me he can’t, because it isn’t – then you need a simpler mortgage.

None of us need a stack of Ivy League degrees to get a grip on our finances. And even having the degrees does not ensure financial sophistication. So just forget the sophistication part and concentrate instead on doing only what you can understand, and then work to understand what you’re doing.

I get it that encouraging you to be a stupid smart person may leave you feeling confused: I’ve told you what not to do, but not yet what you should do.

Patience, my Padawan learner, patience.