Tag Archives: bonds

Financial Independence 101: How to Manage your Portfolio

This is a continuation of my Financial Independence blog posts related to financial education. I’m creating the blogs so that our two sons that will be graduating college soon will have a better understanding of personal finance and portfolio management.

Should you Manage your Own Portfolio?

As you begin saving and investing, your total investments will begin to accumulate and compound. This is great, that’s going to build your wealth. When you reach a certain status (maybe it’s after you have $100k invested or maybe even $1m), you will probably begin getting calls from Certified Financial Planners wanting to manage your portfolio.

Is it wise to have them manage it? First, I would like to say that Certified Financial Planners have an incredible amount of knowledge and can be very helpful if you are struggling with specific strategies. Same goes for CPAs. If you can hire them when you need them (for an hourly fee), I would agree that it’s a good idea.

However, most will want to manage your portfolio on a monthly basis and will charge about 1% of your portfolio value for doing this. If your portfolio is worth $1m, it may cost you about $10,000 per year for this service. If you had invested that $10,000 per year for 30 years, you would have given up over $1.2m in gain:

Portfolio - $10,000 per year invested for 30 years

That could be a million dollar mistake. Think about it, who’s got your best financial interests in mind? You or someone else? My guess is you. You work so hard to accumulate the wealth, you should want to know everything you can about personal finance so that you can protect your nest egg.

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How to Manage your Portfolio

Managing your own portfolio is not difficult if you keep it simple. Here are 3 steps that may help.

Step 1 – Invest only in Low-Cost Index Funds

Index funds will diversify your investments with great risk protection. The returns will follow the S&P 500 and it normally produces about 7.5% – 8% per year on average. Open up a Fidelity account and begin contributing money to a few mutual funds. For diversification, I suggest these 4 mutual funds to invest equal amounts in:

  • FUSVX – Invests in S&P 500 stocks (invest 34% here)
  • FSEVX – invests in smaller yet stable companies (invest 33% here)
  • FSIVX – Invests in international stocks, like those in Europe (invest 33% here)

** Note: I have no affiliation with Fidelity nor do I get any compensation, I am just more familiar with their services than other investment companies so that is why I recommend them in this article. You can find similar Vanguard investments.

Step 2 – Add a Bond Fund when you are 5 Years from Retirement

Once you approach retirement age, it will be good to have a bond fund because it will protect your portfolio in years when stocks are not performing well.  Generally, when the economy is booming, stocks do well and bonds produce almost nothing. However, when the economy is in the tank, stock prices fall and bonds do well.

Once you retire, you will need to cash in money to live on, so by having a bond fund, you draw your retirement money from there if the economy is not doing well. When the economy is doing well, you can draw from your stock funds.

So once you are 5 years from retiring, rebalance your portfolio with these allocations:

  • FUSVX – Invests in S&P 500 stocks (invest 25% here)
  • FSEVX – invests in smaller yet stable companies (invest 25% here)
  • FSIVX – Invests in international stocks, like those in Europe (invest 25% here)
  • FSITX – Invests in bonds (invest 25% here)

Step 3 – Rebalance Yearly

As the earnings in your portfolio grow, some of the funds will outperform others. Since you will be reinvesting dividends, you may find at the end of the year that you have more money in one of the funds than others. So it’s a good idea to rebalance your portfolio yearly.

Let’s imagine that at the end of the year you find that FUSVX makes up 30% of your portfolio, FSEVS makes up 20% of your portfolio and FSIVX and FSITX each makes up 25%. In this case, you would simply sell 5% of FUSVX and purchase 5% more of FSEVS, then your portfolio will be balanced once again.

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Read this Financial Book

If you are serious about managing your own finances, I suggest you read a book called “How to Retire Early“. It is written by a friend (Bob Charlton) and in the book he discusses how he and his wife retired at 43 years old. Neither had incredible salaries, they just saved and invested.

The book gives a transparent look into how much they invested each year, what they invested in (they used Vanguard funds similar to the Fidelity funds I suggested above), and how they now manage their portfolio.

More info on the book: http://www.amazon.com/How-To-Retire-Early-Retiring/dp/1482653729

About this Blog

Steve and his wife built a software company, sold it and retired early. Steve enjoys blogging about lifestyle freedom, financial independence and technology. If you like this blog, subscribe here to get an email each time he posts.

If you like this post, you might also like these prior posts:

What do you think of these financial independence training articles? Leave me a comment to let me know your thoughts!

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** DISCLAIMER ** Financial Information presented on this blog is intended for informational purposes only and is not meant to be taken as financial advice. While all attempts are made to present accurate information, it may not be appropriate for your specific circumstances and information may become outdated over time. Before investing, do your research and seek professional advice.

What are bonds

Financial Independence 101: What are Bonds?

This is a continuation of my Financial Independence blog posts related to financial education. I’m creating the blogs so that our two sons that will be graduating college soon will have a better understanding of personal finance.

Financial Independence 101: What are Bonds?

Investors tend to talk about buying and selling stocks and bonds. But what is a bond?

Bonds are simply a loan or an IOU, but you serve as the bank. 

Stocks and bonds are the primary ways companies raise money to grow their business. As discussed in our last blog post, when you purchase stock, you are purchasing ownership in the company. When you purchase bonds, you are lending money to the company and receive interest payments on that investment.

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Bonds have a fixed term (called a maturity date), normally 5 to 20 years but companies that issue bonds may “call them” (purchase them back) prior to maturity.

Related Post: Financial Independence 101: What are Stocks?

Who Issues Bonds?

Both companies and the government issue bonds to finance projects. Municipal bonds are issued by city and state governments. The US government issues Savings Bonds, Treasury securities, T-Bills and Treasury Bonds.

Why buy Bonds?

Buying bonds is a defensive play when you are building a balanced portfolio. Generally, the value of a bond rises when interest rates fall and fall when interest rates rise. So normally if the stock market starts to tank, your bond values will rise, protecting you from the ups and downs of the stock market.

When the stock market tanked in August of 2015, the value of my stock index mutual funds tanked but my bond index funds did well. This was my protection. Because we are retired, I draw money from our retirement portfolio every so often to pay for our living expenses. Since our stock funds were down, I could cash in some of our bond funds if I needed cash, and we would not lose money from the stocks that were in decline at the moment.

How do you purchase bonds?

Bonds are sold through brokerage accounts (Fidelity, Vanguard or some other financial institution).  You can also purchase government bonds directly from the US Treasury at TreasuryDirect, but I recommend having an investment account (like Fidelity). Once you have an account, you can buy and sell stock and bonds online. This account will become your portal to financial independence.

Is it risky to purchase bonds?

Bonds are much less risky than stocks but do not normally produce as high of a return. Again, it is your defensive play for when the stock market is in decline. One of the drawbacks of investing in bonds is that they have a set maturity date, so you cannot sell them at will.

Bond mutual funds solve this issue. A bond mutual fund is a collection of bonds (normally hundreds of bonds) that allow you to buy or sell at any time. The mutual fund is managed by a company and you pay a small fee to the mutual fund management company for having them manage it. The amount you pay is called the expense ratio, so look for mutual funds with low expense ratios (I look for those with an expense ratio of .15% or less).

Conclusion

Now that you have an understanding of bonds and financial freedom, let’s get to the bottom line. Once you start your career, set aside money for savings and have that money automatically deducted from your paycheck. Start with 15% of your paycheck, more if you can swing it.

Open up a Fidelity account and begin contributing money to a few mutual funds. If you want to really diversify, I suggest these 4 mutual funds to invest equal amounts in:

  • FUSVX – Invests in S&P 500 stocks
  • FSEVX – invests in smaller yet stable companies
  • FSITX – Invests in bonds (note: if you are young and have 30 or more years before you retire, you may consider delaying the purchase of bonds for a while since you will not care as much about market fluctuations).
  • FSIVX – Invests in international stocks (like those in Europe).

Finally, track your budget and investments with an online tool. Personal Capital is an excellent tool for this and best of all, it’s free**. This is a great start to financial independence!

** Note: I have no affiliation with Fidelity nor do I get any compensation, I am just more familiar with their services than other investment companies so that is why I recommend them in this article. I am an affiliate for Personal Capital, it is a totally free and superior way to keep watch over your investments. I would never recommend anything that I don’t personally use and completely believe in, so give it a try.

About this Blog

Steve and his wife built a software company, sold it and retired early. Steve enjoys blogging about lifestyle freedom, financial independence and technology. If you like this blog, subscribe here to get an email each time he posts.

If you like this post, you might also like these prior posts:

What do you think of these financial independence training articles? Leave me a comment to let me know your thoughts!

Follow me: Twitter  |  Facebook  |  LinkedIn  |  Subscribe to this Blog

Financial Independence 101: What are Stocks?

Our two sons are in their final stretch of college and will be graduating next year. College is great but unless you major in finance, you don’t always get a good understanding of personal finance so I will be talking about these subjects in upcoming Financial Independence blogs.

Financial Independence: What are stocks

Financial Independence 101: What are Stocks?

You probably know people who talk about financial independence and are “in the stock market”. They tend to talk about buying and selling stock. But what is stock?

Stock is simply ownership of a company, so if you have multiple stock owners (shareholders), each own a certain percentage of the company and will benefit as their earnings increase through sales and marketing. 

Stock ownership is a key ingredient on your path to financial independence.

Related Blog: Financial Independence 101: What are Bonds?

Do limited liability companies issue stock?

Not all companies issue stock. Small companies structured as a limited liability company (LLC) do not have stock because they don’t want to sell stock to raise money (capital).

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Private versus Public Corporations

Companies that plan to raise capital will structure themselves as a corporation and will issue stock. Corporations can be private or public.

Private corporations don’t sell their stock in the stock market. Instead, they issue shares of stock to the founders and sometimes early employees as an incentive to stick around and help grow the company into something larger. If they later sell the company or go public, their stock can be liquidated into cash at that time.

When we owned our last company, we structured it as a private corporation, with my wife and me owning all of the stock. Once we sold the company, the acquiring company paid us for the stock, allowing us to retire and achieve financial independence.

Once a company grows, it may decide to become a public corporation. This means that it will sell its stock in the stock market so that others can purchase it. You may remember hearing about companies going public (think Microsoft, Facebook, etc.) and pushing key employees into financial independence. This is because they owned stock and when the company went public, they could then sell their stock for the market price on the stock exchange.

How do you purchase stock?

Stocks are sold on the stock market exchanges, with the New York stock exchange and NASDAQ being the most popular. To purchase stock, you simply need an account with Fidelity, Vanguard or some other financial institution. Once you have an account, you can buy and sell stock online. This account will become your portal to financial independence.

Is it risky to purchase stock?

It can be risky to purchase a stock because if the company goes belly up, you lose all your money. Imagine investing in Circuit City, they were darlings of the stock market and after being in business for 60 years, they went out of business in 2009. All of the shareholders lost their money.

The reason to purchase stock is that it can be a lucrative tool to help you achieve financial independence. With risk comes rewards. Since 1900, investors have averaged a 7% return on their stock investments per year. That’s a lot better than putting it into a savings account that returns less than 1% per year.

How can you make stocks less risky?

As discussed earlier, if you invest in a single stock, the company could go out of business and you lose all your money. To minimize that risk, it’s a good idea to invest in multiple stocks so that you spread the risk. But to really spread your risk, you need to invest in 100 or more stocks. This can be time-consuming and difficult to manage.

Mutual funds solve this issue. A mutual fund is a collection of stocks (normally hundreds of stocks) that allow you to reduce your risk. The mutual fund is managed by a company and you pay a small fee to the mutual fund management company for having them manage it. The amount you pay is called the expense ratio, so look for mutual funds with low expense ratios (I look for those with an expense ratio of .15% or less).

What is the Dow Jones and S&P 500?

The Dow Jones is an index that shows how 30 large publicly traded companies have fared over time. Companies in the Dow Jones include 3M, Apple, Boeing, American Express and other large companies.

The Standard and Poor’s (or S&P 500) is an index that shows how 500 large companies have fared over time. If the S&P 500 index goes up on a particular day, it means that on average, the 500 stocks in that index went up as a group. Some may have gone down, some may have gone up, but as a group they are worth more than yesterday.

How do you make money in the stock market?

Stocks and mutual funds are traded on the stock exchanges and you purchase them for a specific price. For example, one of my mutual funds has a stock ticker of FUSVX. It is a Fidelity mutual fund that invests in stocks that belong to the S&P 500. It is currently selling for $69.34 per share.

When I initially purchased this 5 years ago, I purchased it for a much lower price than it is selling for today. In fact, it has provided a 15% return each year, averaged over those 5 years. So if I had bought $1,000 of that mutual fund 5 years ago, it would be worth about $2,011 right now. In other words, I would have more than doubled my money. Doubling your money is the path to financial independence!

This is because the price it is selling for now is higher than when I purchased it. So if you purchase a stock or mutual fund and the price goes up, you make money. If the price goes down below what you paid for it, you lose money.

A final way you can make money with stock is through dividends. You can think of dividends as profit-sharing. If a company does well, it wants to reward its investors (shareholders) with some of those profits. Some stocks and mutual funds will pay dividends as they generate profits. Some will pay monthly, some quarterly and some yearly. The dividends can be cashed out or you can automatically reinvest them into buying more stock, it is up to you.

Dividends will become an important part of your retirement plan once you reach financial independence because they provide passive income.

Conclusion

Now that you have an understanding of stocks and financial freedom, let’s get to the bottom line. Once you start your career, set aside money for savings and have that money automatically deducted from your paycheck. Start with 15% of your paycheck, more if you can swing it.

Open up a Fidelity account and begin contributing money to a few mutual funds. If you want to really diversify, I suggest these 4 mutual funds to invest equal amounts in:

  • FUSVX – Invests in S&P 500 stocks
  • FSEVX – invests in smaller yet stable companies
  • FSITX – Invests in bonds (see related blog post)
  • FSIVX – Invests in international stocks (like those in Europe).

Finally, track your budget and investments with an online tool. Personal Capital is an excellent tool for this and best of all, it’s free**. This is a great start to financial independence!

If you would like a visual introduction to stocks, watch this Kahn Academy video.

** Note: I have no affiliation with Fidelity nor do I get any compensation, I am just more familiar with their services than other investment companies so that is why I recommend them in this article. I am an affiliate for Personal Capital, it is a totally free and superior way to keep watch over your investments. I would never recommend anything that I don’t personally use and completely believe in, so give it a try.

About this Blog

Steve and his wife built a software company, sold it and retired early. Steve enjoys blogging about lifestyle freedom, financial independence and technology. If you like this blog, subscribe here to get an email each time he posts.

If you like this post, you might also like these prior posts:

What do you think of these financial independence training articles? Leave me a comment to let me know your thoughts!

Follow me: Twitter  |  Facebook  |  LinkedIn  |  Subscribe to this Blog

Market Correction: Don’t Freak Out!

On Friday, the Dow Jones tanked by about 500 points and today it quickly dropped about 1,000 points after the opening of the bell. I track my personal finances with Personal Capital (an incredibly robust tool that is actually free to use).

One of the cool things about Personal Capital is that it will send you email alerts letting you know when specific things are happening. On Sunday, I received an email from personal capital with this subject: Your Portfolio is Down by -4.48%.

Portfolio Down

Now this could be a bit unnerving. My portfolio is down almost 4.48% (but I am doing a bit better than the S&P 500). After years of investing, I see this market correction as a temporary blimp. Markets tend to self-correct about every 18 months and we are overdue. The last adjustment was in 2011.

Why am I not Freaking Out?

It is human nature to freak out when things like this happen. I’ve seen people rush out and sell their stocks when the market tumbles, selling at their lowest point. This makes no sense, this is the time to buy — stocks are on sale!

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When the market tanked in 2007, I knew an older couple that cashed in their 401k and put that money into an old broken down cabin. They got penalized for early withdrawal, sold their securities at their absolute lowest and invested in a money pit that made things much worse. Had they simply waited it out, their 401k would be worth much more now than it was before the 2007 crash.

Here’s Why I’m Not Freaking Out

Our portfolio consists of stocks, bonds and cash, here is the breakdown thanks to Personal Capital:

Portfolio Allocation

First Level of Protection

As you can see, I have over 5% of my portfolio in cash. I can pull from that cash account for my monthly expenses without selling a single stock, so I am not forced to sell when stocks are low.

Second Level of Protection

You will also notice that bonds make up over 14% of my portfolio. Let’s say that the stock market decline sticks around for more than 6-10 months and I need cash for living expenses. When stock prices go down, bond prices go up. So I can easily cash in some of my bond funds when they are actually making money, selling high instead of selling low.

Conclusion

If you’ve invested in a balanced portfolio, there is no need to freak out, simply wait it out. If you are in a stock-only portfolio, try not to touch the stock. In fact, try to invest more now in low-cost index funds, they will increase once the market correction has passed.

Disclaimer: I am not a financial adviser, I am just sharing my experiences with you so invest at your own risk.

About this Blog

Steve and his wife built a software company, sold it and retired early. Steve enjoys blogging about about lifestyle freedom, financial independence and technology. If you like this blog, subscribe here to get an email each time he posts.

If you would like to download a free copy of Personal Capital, you can do that here.

Follow me: Twitter  |  Facebook  |  Linkedin  |  Subscribe to this Blog