PRM 10 Steps to Creating Wealth

1. Educate Client about the Keys for Investing
• Importance of Setting Goals
• Understand the Three Risks of Retirement Investing
• Have an Equity Focus
• Diversification Is One of the Most Important Investment Principles
• Stick with the Plan - Don't Panic in a Bear Market
• Consider Active Portfolio Management with the Seasonal Investment Approach
2. Help the Client Set Goals
3. Establish an Investment Plan
4. Encourage Client to Save and Invest Regularly
5. Provide Guidance in Family Financial Issues as Needed
6. Monitor Progress Toward Goals
7. Reassure During Inevitable Bear Markets
8. Help with Retirement Decision-Making and Implementation
9. Provide a Steady Flow of Income During Retirement
10. Provide After-Care

1. Educate Client About the Keys for Investing

The first key to investing is to have a goal. We generally recommend picking a goal of an annual spending amount for retirement in today's dollars starting at a specific retirement date. For some, the goal could be "to build a retirement nestegg of $1.2 million by age 62". Another might be "to create retirement income equivalent to $100,000 per year in today's dollars at age 65 and leave the equivalent of $500,000 in today's dollars to our two kids." Another might be "to build a retirement nestegg of $1.5 million dollars by age 60, buy a vacation home at 59 and travel extensively for 10 years following retirement." For a younger couple, it may be "to provide for a college education for their three kids and retire at age 65.

For many people, however, their current investment strategy is determined not by a goal, but by their view of risk. They invest based upon their emotions and their perception of risk. Unfortunately, if they don't think about the right risks, they can end up with an ineffective investment strategy.

In long-term investing, there are 3 kinds of risk to consider - the challenge of living a long life, the risk of inflation and the risk of losing money in investments. Understanding these three risks is the second key to investing and establishing a wise investment strategy.

First, let's talk about the financial challenge of living a long life. Most people don't think about longevity as a risk. However, it used to be that people retired in their 60's and lived until their 70's or 80's. They had 10-20 years of retirement. Today, more people are retiring in their 50's and living into their 90's. This means retirement lasts 3 to 4 times longer. So people have fewer years to build their retirement nestegg and many more years to use it. Longevity has significant ramifications for people who do not want to reduce their standard of living during retirement.

We suggest that everyone should plan to live to age 90 and beyond. In case you live past 90, you don't want to run out of money or don't want to be dependent upon your children for financial support. That is why we talk about financial independence during your lifetime and an income stream that you cannot outlive. As medicines improve and means to extend our lives continue to expand, it is important to build a plan that will try to take care of you no matter how long you live and how sick you may become.

Inflation is an important determinant of a retiree's standard of living. According to Ibbotson, Inflation has averaged 5% over the last 30 years. If it averages 5% in the next 30, then you will need $4.30 to buy what one dollar buys today. Or, to say this differently, if you need $100,000 this year for living expenses and all your taxes, you will need $430,000 annually in 30 years to buy the same things. Will your current retirement plan and personal investments provide the annual income to cover your needs whether you live to be 80, 90 or even older? Think about it. It's a pretty important question and risk. And, that is why we help people create a plan to triple or quadruple their income during retirement.

The next chart shows you how much future income you will need to maintain the purchasing power of your current spending with 5% inflation. The second chart shows what you will need at 4% and 7% inflation.

Finally, the risk of losing money is most people's definition of investment risk. While we don't want to minimize its importance, the two other aspects of risk discussed previously are frequently ignored. Later, we will discuss the difference between the volatility of equities and the risks of equities. You will read that the long-term risks of equities are low when it comes to maintaining purchasing power of your assets over your 30 to 40 years of retirement.

Of course, we don't know how long we will live, what inflation will be in the future or how financial markets will perform. So, we need to build an investment plan that will beat inflation no matter what it is, no matter how long we live and no matter how many bear markets we will experience in our lifetime.

Having an equity focus is the third key to investing. The vast majority of retirement investors need a significant equity focus in their portfolios in order to beat inflation and taxes. Unfortunately, some people invest so cautiously that they are actually losing money after inflation and taxes. When they try to minimize their short-term risks by investing in bonds, CDs and T-bills, they accidentally increase their long-term risk of having insufficient assets and income for retirement.

The next exhibit illustrates our point. It shows how various investments have done over the last 30 years. Over the same time period, inflation has averaged 5.0 %. When we adjust investment returns for inflation and taxes, fixed income alternatives like bonds and CDs have negative returns. They lose money. When we do the same thing for stocks, they have positive returns. They make money. Stocks almost always beat inflation and taxes over longer periods of time, but bonds, CDs, savings accounts and money markets do not.

Because inflation and taxes are real issues that retirees have to deal with in their 20, 30 or 40 years of retirement and because retirees can't and won't want to work, the investment portfolio must be structured to compensate for these issues. A portfolio that is heavily invested in fixed income investments will have steady income in the short-term but could have significant risk of the retired couple outliving their assets.

Over the last 76 years, stocks have earned around 10.7% returns and bonds 5.3%. The next chart shows the returns of stocks, bonds and Treasury Bills (which is a proxy for money markets) since 1926. If those numbers are adjusted for inflation and taxes, the equity returns are about 4-5%, and the fixed income returns are close to 0%. That's a big difference, and that's why the second key to investing is - we need a stock focus to help beat inflation and taxes.

For years, investors have been told that they should become more conservative in retirement. We agree with that. However, some commentators have gone on to suggest that retirees should significantly reduce their stock mix and increase their fixed income investments as they approach retirement. Some have even suggested the very simplistic formula of investing "100% minus your age" in stocks. That implies 40% in equities at age 60. We disagree with the simple suggestion to significantly reduce a retiree's equities.

We agree that you need to be more conservative in retirement, but we define conservative differently. What does conservative mean to you? Is it more conservative to invest in bonds and run the risk of outliving your assets, or is it more conservative to accept short-term, temporary volatility of the stock market and decrease the chance you will run out of money in retirement. We believe that running out of money in retirement is the more important risk. We believe that investors should be focused on creating a well-diversified portfolio that (1) has a stock focus, (2) is oriented toward providing the necessary income for you to enjoy retirement no matter what inflation will be and how long you live and (3) is structured with the belief that there will be bull/bear market cycles every four or five years in the years to come.

Does that mean you should have 100% in equities or you should have no money market accounts or bonds? No, it doesn't. In fact, we recommend that retirees should have two years of cash flow needs in money markets and short-term bond funds. The exact mix of equities, bonds and money markets will depend upon your specific circumstances.

The stock market is too risky for many people approaching retirement to put 100% into equities even though it might be the best-returning long-term investment. The more you put into equities, the more you must stress diversification. We can work with you to diversify no matter how many accounts you have or where they are currently located.

Diversification is another key to investing, and it is one of the most important investment principles. But diversification is not easy to achieve. In fact most investors today are under-diversified. They don't understand that traditional approaches to diversification haven't worked and aren't likely to work. If your portfolio is only partly diversified or you're not sure how well diversified it is, we urge you to take steps now to examine your portfolio to see what you can do to both improve your returns and reduce your risk. While diversification will not, by itself, prevent negative returns in a portfolio, it will help reduce the volatility of your annual returns. We may be able to help you achieve better long-term returns and lower overall risk with a better-diversified portfolio.

There are at least seven sectors we might suggest diversifying into – 6 equity sectors and one fixed income sector.

• Large-cap growth equities
• Large-cap value equities
• Small and mid-cap growth
• Small and mid-cap value
• Real estate
• International equities
• Bonds

Another key to successful investing is "Don't Panic Out of the Stock Market in Bear Markets." It's important to stick with the investment plan, which calls for long-term investing and investments into your 401k, 403b or other retirement savings accounts.

In the last 40 years we have experienced 9 bear markets of nearly 20% losses or more in the stock market. That's one every 4 or 5 years. And after each bear market, a bull market has ensued (see the next chart). While we cannot promise you that every future bear market will be followed by a bull market, it seems likely to happen. History gives an investor some comfort. We believe that we will probably see 8 to 10 bear markets in the next 40 years and the same number of bull markets. We think investors should structure their portfolios and prepare themselves emotionally for those future events.

Some investors tend to think that they have lost money in bear markets. You only lose money when you sell your equities when they are down. Yes, they have temporarily lost value, but you haven't lost money. The real loss comes when an investor gets out of equities in the middle of a bear market and then doesn't get back into equities until the market has risen far above the level where they got out.

Nick Murray has an excellent book entitled "Simple Wealth, Inevitable Wealth, How You and Your Financial Advisor Can Grow Your Fortune." We highly recommend it. He writes that investors need an equity emphasis and that individual investors, acting by themselves, tend to let their emotions drive their portfolio. He writes:

Investors need to differentiate between volatility or fluctuations in the stock market and actual losses. They are losses only if you sell them. To get the benefit of the higher returns of equities over the long-term versus bonds, then you must accept the inevitability of bull and bear markets and condition yourself to withstand the negative feeling. In fact, you may try to use them to your advantage, i.e., invest when the markets are low

Each bear market is scary to investors. Without an investment advisor, some investors will start to think a bear market will be permanent (rather than temporary) and want to get out of the market when it is near the low point. Similarly, their emotions of hope for gain encourage them to want to get into stocks after they have been running up for a long time and the market is prone for a correction. It leads to investors buying high (after the market has gone up too much) and selling low (after the market has fallen too much.). This is one of the reasons that studies by Dalbar have shown that individual investors, when left without an advisor or broker, under-perform the stock market indices by a large margin.

If bear markets occur every 4 to 5 years, that means an investor age 50 may experience 8 to 10 bear markets in their remaining lifetime. An investor age 60 may experience 6 to 8 bear markets. That means an investor needs to get used to bear markets. Investors need to have a strategy to avoid the impact of prolonged bear markets or prepare themselves to ride through those markets. If future bear markets are like the ones in 1987 and 1990, then they will be less troubling for investors. Those two bear markets only lasted two and three months respectively. However, the bear market of 2000-2002 was something else. The fall in the Dow 30 was 38% and lasted 33 months. The decline was larger on the S&P 500 and NASDAQ indices.

Some investors do not want to buy and hold through another prolonged bear market. That is one of the potential benefits of active portfolio management and why we use the Seasonal Approach. An investor following the Seasonal Approach simply cannot remain fully invested through a prolonged bear market like the ones in 1973-4 and 2000-02. The investor has to move to a reduced equity position every six months with the Seasonal Approach. (See Active Portfolio Management.)

2. Help the Client Set Goals

Before we can help a client set realistic goals and develop an investment plan, we need to understand the client's near-term goals and needs as well as their long-term retirement goals and requirements. Setting proper goals is important, as we discussed in the prior section.

We usually finalize goals after we have prepared a retirement plan. That way we know that a client's initial goals are feasible and realistic. The goals should be specific in terms of setting a retirement income need at retirement, when a client wants to retire and/or how much they might want to leave to heirs.

3. Establish an Investment Plan

The investment plan brings together 5 things: your retirement goals, your risk/return objectives, your current investments, your current investment options and our market assessments. The plan provides the framework for making future investment decisions.

At the first meeting with a client, we probably will talk about our general outlook for investing. Generally, we would expect bonds to earn 5 to 6% over the long term. We would expect stocks to earn between 9 and 11% -- very similar to the averages over the last 40 and 76 years. However, over the near term, we have a slightly different perspective. Because of the expected cyclical recovery and the poor stock market performances in 2000 and 2001, we would expect that U.S. stocks would earn 10-15% in the next 3 to 5 years. Because we forecast interest rates to rise and bond prices to fall, we would expect long-term bonds to average 1 to 3% in total return over the next 3 to 5 years. With the Dow at roughly 10,000 now, we expect the Dow to be over 26,000 in 10 years and 67,000 in 20 years. Are your investments positioned today to benefit from these stock market levels?

As part of an investment plan, we would recommend the percentage of your portfolio to be invested in equities, fixed income and money markets. These investment proportions may be accomplished with individual stocks and bonds, with mutual funds and/or with a separate account manager like SEI - depending upon your needs and interests. As part of our ongoing advisory services, we would tell you when you should change the mix in equities, fixed income and money markets, including the maximum equities for seasonally strong periods and minimum equity for seasonally weak periods, and into what specific investments.

If the initial retirement plan indicates that you will not be able to retire when you want, we will make recommendations on what can be done to change the outcome. By the time we finish planning, we would hope to have an investment plan and strategy that you might expect would fund your retirement income needs for the rest of your life or lives.

4. Encourage Client to Save and Invest Regularly

Systematic, monthly investing is one of the most important parts of building a retirement nestegg for most families. Employer 401k or 403b retirement programs have become an important determinant of whether people can retire when they want. This didn't used to be true a generation ago when pensions were the most important source of retirement income. As a result, employees are now more in charge of their retirement success. Employees that have an employer matching program should be saving the maximum per year under these programs. Self-employed people and those who do not have an employer savings plan must develop their own retirement plan and impose their own systematic investing program on themselves. (Systematic investing does not assure a profit or protect against a loss in declining markets. Investors should consider their ability to continue to purchase through periods of low price levels.)

Generally, we recommend starting an investment program as soon as possible. However, we would not recommend investing until you have adequate life and income (disability) insurance established. If you work for a bigger institution, this may be part of your benefits. If you are self-employed, you need to arrange for this protection yourself. You should also eliminate any credit card debt or other expensive debt before commencing an investment plan.

The family that starts saving at age 30 can build a $1 million nestegg by age 60 with monthly savings of $400 while a family that waits until age 40 requires monthly savings of $1,250. If you wait until age 50, it requires $4,800 a month. (All the examples assumed 11% equity returns.)

Monthly Savings to Have $1 million in IRA Retirement Nestegg at Age 60
	Starting at Age		Monthly Savings
	30		$400
	40		$1,250
	50		$4,800
This is for illustrative purposes only and not indicative of any investment.

5. Provide Guidance in Family Financial Issues as Needed

As an on-going advisory client, we would help you on any number of financial issues that are important in your family's day-to-day living:

• Determine whether your life and income insurance are adequate.
• Help you establish necessary emergency reserves to avoid having to dip into your equities at inopportune times.
• Help establish college-funding plans for children and grandchildren.
• Help with financing decisions: lease or buy your next car, refinance your mortgage, pay points or not, accelerate your mortgage payments, etc.
• Help evaluate whether long-term care insurance is appropriate for your family.
• Provide advice on extending the life of your tax-deferred retirement plans so that they can help your heirs well beyond your lifetime.
• Encourage you to have up-to-date estate planning documents that will appropriately take care of your loved ones after you are gone.
• Provide ideas on how you can reduce your estate tax and improve the multi-generational giving to your heirs or institutions that you care about.

6. Monitor Progress Toward Your Goals

At least quarterly, your reports will pull together all your investments so that you can see how they are performing. At least once a year, we generally suggest getting together to talk about where you are and determine if we should be doing something differently. Some clients are busy and like to do that by phone, and we can do that also. And, then every so often, we can formally update your retirement plan and see if you are still on track.

7. Reassure Client During Inevitable Bear Markets

Peter Lynch, the most successful and famous Fidelity mutual fund money manager, was once asked if there was a key to successful stock investing. His answer was, "Don't get panicked out of the stock market." We agree. There have been 9 bear markets in the last 40 years, and there will probably be another 8 or 10 in the next 40 years. It is a natural feeling to want to be out of stocks at the bottom of the bear market. It's okay to feel the feeling, but it's not okay to act on the feeling. The time to get out of a bear market is before it happens, not after it has happened. The middle of a bear market is usually exactly the wrong time to be getting out of equities.

In order to deal with future bear markets, you need to either use a discipline like the Seasonal Approach or you need to be prepared to ride through bear markets, no matter how long they last.

Investment decisions driven by emotions are rarely the most effective way to invest. If you are going to attempt to reduce the impact of bear markets, you need to have an existing investment discipline - one that is free of emotions and that has been back-tested for years. That is why we use the Seasonal Approach. The Hirsch study has shown the late spring to early the early fall time period is the one that leaves the market much more susceptible to market corrections. Investors that have reduced their equity positions during those periods have been able to reduce the impact of bear markets.

8. Help with Retirement Decision-Making and Implementation

While creating a sufficient nestegg at retirement is critical, there are many other issues that retirees must deal with as retirement approaches. Many of the issues are complex and confusing, and the advice people get from one person is often different from another. There are some issues that may seem relatively unimportant to the typical retiree, but they can turn out to be very important to the retiree, spouse or heirs. We help clients focus on the right issues at the right time.

For more details, see Planning for Retirement, Retirement Decision-Making and Implementation and How You Can Benefit. You can also learn in Our Fees that we do not charge for these retirement discussions. They are part of our overall advisor investment services.

When you are contemplating retirement, it is a time to get a trusted, knowledgeable financial advisor to help make sure you don't make any important mistakes. If you do not think that PRM is the right place, then we encourage you to try to find another place for you to get the advice that you need.

9. Provide a Steady Flow of Income During Retirement

We have talked of financial independence during your lifetime and creating multi-generational wealth for your heirs. In a literal sense, just creating financial independence during your lifetime means having enough money to last the lifetime of you and your spouse. If the two of you knew you would make it to age 90 (and we knew what inflation was going to be), we could calculate the exact amount required at retirement to last you until your age 90. However, we don't know how long you and your spouse might live and what inflation-adjusted spending you might need.

Therefore, it might be wise to create a plan for financial independence that would cover you to age 100 or beyond. With the advances in medicine that may be possible over the next 20 to 30 years, don't discard the potential need to cover living expenses past 90 or 100. If you don't need all the money, you can pass on what is left over according to your estate planning wishes.

Let's assume that you need another $60,000 a year to supplement what you expect to get from Social Security and any pension or annuities you expected to receive. Let's assume that you have a portfolio with 70% invested in equities earning 10%, 20% in bonds earning 5.5% and 10% in money markets earning 4% - just like the returns these sectors have historically earned as shown in Step 1. The weighted-average return of that portfolio would be 8.5%. Let's round it down to 9%. (Remember that past performance is no predictor of future performance.) If we earn 8.5% each year in retirement and pull out 6% every year, three things happen as shown in the next chart. First, we pull out an annual withdrawal that increases every year (3% in this example). Second we pull out $2.0 million over the 25 years. Third, the portfolio never gets smaller. In fact, it gets larger (more than $1.8 million) to help protect against inflation. At the time of your death the fund is much larger than what you have today and it can be given to the next generation.

Supplementing Social Security and Pensions with Annual Withdrawals from Your Retirement Accounts
Date	Starting   Balance	9.0% Earnings	6.0% Withdrawals
2001	1,000,000	85,000	(60,000)
2002	1,025,000	87,125	(61,500)
2003	1,050,625	89,303	(63,038)
2004	1,076,891	91,536	(64,613)
2005	1,103,813	93,824	(66,229)
2006	1,131,408	96,170	(67,884)
2007	1,159,693	98,524	(69,582)
2008	1,188,686	101,038	(71,321)
2009	1,218,403	103,564	(73,104)
2010	1,248,863	106,153	(74,932)
...	...	...	...
2015	1,412,974	120,103	(84,778)
...	...	...	...
2020	1,598,650	135,885	(95,919)
...	...	...	...
2025	1,808,726*	153,742	(108,524)
	Total Withdrawals: (2,049,466)
* Hypothetical value of $1 million invested on 12/01. Assumes no transaction costs, fees or taxes. This is for illustrative purposes only and is not indicative of any investment.

In reality, there are many decisions that affect where you will get your income in retirement. We help you determine whether you should start Social Security at 62 or delay it, whether you should take full, two-thirds or one-half survivors income payments, when you should start any other annuities, whether you should take funds from your tax-deferred retirement plans first or your taxable accounts, etc. Some investors have retirement accounts in several locations, and they need someone to coordinate and manage all these investments. Moreover, they need to coordinate when to take the appropriate mandatory distributions at 70 ½ or face penalties of 50% on distributions that should have been made.

10. Provide After-Care

After you have gone, there are a number of issues that your heirs must consider and act upon. If they have not been involved in your planning or are not experienced with these issues, your heirs may have to deal with them at a time of great sorrow and stress. As part of our on-going advisory services, we will help your heirs with many of these issues and decisions. As we discuss in Our Fees, we do not charge for these "extra" services.

For example, where do they get money for immediate expenses? How do they take care of life insurance? What about rolling over your IRA or other retirement accounts to your spouse or children? How many days do they have to change these plans and beneficiaries? Who should the new beneficiaries be? What should they do about distributions from the plans? Should they take larger amounts now or delay them? Should they be taking money from taxable investments first or from tax-deferred retirement plans? Where do they get cash to pay estate taxes in 9 months, etc. The list goes on. After you are gone, we are there for your family when they may need some important family financial advice.

As we have said elsewhere, a few of our clients want just investment advice, but most want to receive broader advice and counsel when they or their families need it. Unfortunately, some of the issues we have to deal with are complicated and can have a big impact on your retirement years and the lives of your loved ones. Sometimes these different issues interrelate, and solving one concern can create another problem. We try to help clients avoid mistakes and take advantage of all the benefits that they are allowed to enjoy. That is why we try to provide one-stop financial services to our clients.

If you find the right financial advisor, the value of the advisor will be a multiple of the cost that the advisor charges. Our experience is that we tend find that most of our clients had one or more fundamental flaws in their thinking about retirement – whether it was a misunderstanding about the risks of retirement investing, the impact of inflation, the income taxes due on retirement plans in your estate, the inability to extend the life of your retirement plans for your heirs, etc.

In some cases, flaws in your thinking could prevent you from realizing your retirement dreams, and in other cases it could hurt you or your heirs. If we can identify those issues now and take corrective action, then we can have an impact on your financial well being like no one you have ever met.

We have shown you the structure of the investment process. If you decide that you would like to work with us in the future, there several things that will be important. First, you will have an investment plan, and a plan that will fund all of your lifetime goals. Second, you will have a plan that has been designed specifically for you, and it will be directed by an advisor who genuinely cares for you. Moreover, that advisor understands what your needs are, what your goals, hopes and dreams are, and very importantly, what your fears are. We believe that the effective financial advisor is not only managing your investments, but also managing your hopes and dreams, and especially managing your fears. Once you have that relationship with your advisor, you can feel more comfortable that you can sit back and enjoy the retirement that you often dreamed about. The relationship is based on more than investment performance, but it is also about advice – advice given with a broad understanding of all your family's circumstances.

The success of an investor is partly related to the investment results with the investment advisor, but mostly the behavior of the investor. For example, when did the investor start saving and investing? How much are they saving now? What percent are they invested in equities? When do they want to retire? Have they panicked out of the stock market in one of the bear markets. You, the investor, are the most important part of the success of your retirement planning. The effective financial advisor can help you achieve, but cannot assure you of, success.

We encourage you to call to set up an appointment with us to better understand our services and how they might benefit you. There is no cost or obligation for this initial meeting. It is simply a way for us to understand your situation and you to determine whether we can help. If, on the other hand, you do not feel our services would benefit you, we encourage you to find someone else that you could trust to help you out in these complicated and serious issues. We think that it is very difficult for individual investors and families to do it themselves.

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• Our Services
• How PRM Is Different
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• Reasons for a New Advisor
• Why Investors Are Frustrated
• Our Fees
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