Use this slide to introduce the program, to get the group to focus on the topic for the evening/day. This program is designed to raise your Investment I.Q.
Instructor Notes : Be sure to complete the slide with your personal information where the slide says “your county and your name.” Use this slide to introduce yourself and MCE services: Give the Extension Commercial (i.e., whatever you deem important to explain Extension and its relationship to the Land Grant University). Explain the educational programs and services available from your Extension office.
Charting your course for smooth financial sailing involves building upon a sound financial base. Once your emergency fund is started, it is time to look for opportunities to make your money work for you. Just as sailing involves monitoring the wind to adjust your course, successful investing requires planning. As an investor, it’s important to read and stay current on investment tools that may be appropriate for your situation. Beyond your emergency fund, there are many future goals such as retirement, education, car(s), home(s) and vacations which require a plan for savings and investments. Choosing investments is like navigating through rough seas, so let’s chart your course.
Investments are just ONE part of a total financial plan. Before you begin your investment program, make sure that you have completed the following pre-requisites: Financial statements, such as a net worth statement, will help you see what resources are available and how they have been spent in the past. Goals will guide your budgeting process. A budget/spending plan is the road map for maximizing your resources. Organization of records will provide easier access to information needed in financial decision making. Establishing and maintaining a good credit record allows consumers access to some of the most competitive lending rates. Adequate insurance coverage helps families manage the risk of loss. Instructor Note: The next slide is animated (automatically). You may remove the animation, if you choose.
Pyramids have a broad base for stability, and the investment pyramid is no exception. Every financial plan needs a broad-based financial foundation to provide stability. As this pyramid illustrates, you must build the foundation before moving to the next level. Once the foundation is established, savings can be added to your financial plan. Once savings are established, you can set aside additional money for investments. Also illustrated in the pyramid is the concept of risk. As you climb the investment pyramid, you’ll experience greater risk to your investment dollars but a greater potential for a gain…or loss. Let’s start by taking a closer look at the financial foundation.
It’s important for you to have all parts of this foundation in place before you begin to build the other levels of the investment pyramid. The emergency fund is the next building block in financial security. This should be started before dollars are committed to investments . It is not necessary to have the entire amount saved (e.g., 3-6 months of living expenses), but you should have begun saving and have a plan for continuing to build your emergency fund. There are often competing financial goals but it is important to see the whole picture. For example, you may be eligible to receive a match, dollar for dollar, from your employer for retirement contributions. You would not want to miss this opportunity, but you may need to balance these investments with the need to continue to build your emergency fund. By dividing dollars between savings and investments, you could fund both goals.
Let’s assume that you’ve built a strong financial foundation and are ready to consider investing. Where do you start? First, remember that money builds money. It’s important to make saving and investing a habit. To help you jump start your investing, free up investment dollars by looking for ways to spend less. Living on less is a real art and there are many sources of ideas that you could use to cut costs in order to increase your savings and investments. (include audience ideas) Resources: Living on Less fact sheet (Maryland Fact Sheet 509); download or order 66 Ways to Save Money (www.66ways.org)
Now that you’ve found dollars to invest, make “paying yourself first” a priority, like you would pay your monthly mortgage or car payment. If you can set aside as little as a $1.00 a day, that’s $7.00 each week. Depending on the interest rate you find, that small investment will grow to a sizeable sum over ten years. If you increase the amount you “pay yourself”, you can accumulate even more.
By saving $19.20 per week, you will accumulate $1,000 per year. But it gets even better! The compounding of interest over time makes a real difference. For example, if you save $1,000 a year for 5 years at 5% interest, you will earn $524 on your $5,000 investment. Note: the slide illustrates the time value of money for 5, 10, 15 and 20 years.
You may have heard about The Rule of 72 but perhaps you don’t understand how that impacts the investment choices you make. The Rule of 72 is a formula that shows how you can double your money in a variety of ways. For example, this formula shows the number of years needed for an investment to double.
And this formula demonstrates the required interest rate needed for an investment to double, based on your timeline.
So, we’re now prepared to start the investing process. How, where and when to invest are questions that often hinder us in getting started. The following questions can help you determine which investments may be appropriate for your individual financial situation (we’ll discuss the following questions throughout this program): Do you want to actively manage your investments? Or would you prefer that a financial professional manage your portfolio? Think about the investment pyramid we saw earlier. As you consider each investment level, how much risk do you think you could tolerate? Will you be able to sleep at night, given your investment choices? Do you know your tax bracket? When will you need the money? For example, are you investing for retirement in 30 years or will you be needing the money for retirement in the next few years? Will inflation eat away at your savings?
The saying is, “Money talks.” But is your money just saying GOOD-BYE? Investment strategies can help you hold on to your money. It’s not what you earn, but what you keep that makes the difference. You can keep more of the money you earn by paying less in taxes, and having your money grow tax deferred. Earnings from tax-deferred investments will not be taxable income until withdrawn. The higher your current tax bracket, the greater your savings will be.
Are your savings and investments keeping up with taxes and inflation? If you need a reason to look for a higher return (and, yes, higher risk), this is it. Taxes and inflation can take a big bite out of your future buying power. This formula will help you determine the rate of return you will need to earn in order to keep up with taxes and inflation. You will need to know your federal, state, and local tax brackets, as well as the current inflation rate, to complete the calculation. You can find these tax brackets by looking at the IRS tax tables. (See next slide for actual calculation.)
Let’s assume: A 28% federal tax bracket State taxes are 5% Local taxes are 2.5% The inflation rate is 3%. In this example, 3 is divided by 100 – (28+5+2.5) OR 100-35.5 (64.5) = 4.65%. The rate of return to stay even with taxes and inflation is 4.65 %. If your investment earned less than 4.65%, you’ve lost money because you are not keeping up with taxes and inflation. To increase the value of your investment, you must earn more than 4.65% rate of return (in this example). Use this formula to calculate your required rate of return to protect your money against the effect of inflation and taxes.
You now know your required rate of return to keep up with inflation and taxes. Here’s another investment decision to consider: when to choose tax free versus taxable yield investments . To determine if a tax free or taxable yield (return) is better for you, use this formula. For example, if you have a tax free bond paying 5%, is it a better choice than a certificate of deposit (CD) paying 6%? To answer this question, you need to know your tax bracket and complete the formula to find the tax equivalent yield. In this example, the tax free bond is paying 5% and your tax rate is 28%. When you divide 5% (the tax free rate) by 100 minus 28% (your tax bracket), it tells you that you must earn 6.9% on the CD to match the equivalent return on the tax free bond. In this example, the tax free bond provides the greater return. If your tax bracket changes to 15%, the tax equivalent yield is 5.9%. At this point, the tax free bond and taxable certificate of deposit yields are almost even.
There are several investments [e.g., Savings Bonds, Individual Retirement Accounts (IRA), 401k, 403b, 457 plans] that allow you to save money and defer the taxes. Look at the savings that can be realized between tax deferred vs. taxable investments. There are advantages to tax deferral: You are not taxed on the money as you earn it You may be in a lower tax bracket when you begin to withdraw from your tax deferred accounts (even if your tax bracket is not lower, you will still have more money since the account will have grown, without taxation, over the years)
In addition to tax deferral, time may be on your side. Interest earned on your investment helps to increase the value of your account over time, especially if you start early. Even though you may not be able to invest a lot of money right now, it is important to START NOW. Interest and time make your money grow. If you postpone investing, you never catch up. The next three slides illustrate the time value of money using different time horizons, interest rates and contribution levels.
The early bird not only catches the worm but the cash, too. The early investor only contributes $1,000 a year (about $83 per month) for 10 years at 8% and then stops -- a total out-of-pocket contribution of $10,000. The late investor contributes $40,000 at 8% over a 40-year time period. Yet he will never catch up to the early investor, even though he contributed 4 times as much money. This is a clear example of the time value of money. Getting a late start? Don’t panic…you are still an early investor compared to many.
This is another illustration of the impact of investing now versus investing later. The first investor contributes $50 per month at 9% interest for 20 years. The late investor delays contributions for 10 years and then contributes triple the amount ($150 monthly) at 9% interest for 10 years. Even when you triple the monthly amount contributed by the late investor, the return ($29,027) will not beat the return earned by the early investor ($33,394). So be an early investor – or at least be a NOW investor.
Would you like to earn $16,790? If you invest $1,000 a year ($83 per month) at 6% for 20 years ($20,000), your pot of gold will grow to $36,790. The earnings on your investment ($16,790) can be even greater if you increase your investment amount or increase the rate of return on your investment.
Thus far we’ve talked about the pre-requisites for investing, the impact of inflation and taxes, and the time value of money. Now let’s look at different investment alternatives available to you. As this slide illustrates, there are many different investment alternatives. There is no such thing as the perfect investment. Each investment alternative carries a different level of risk and potential return. You can, however, choose the level of risk (low, limited, moderate or high) you are willing to assume. Diversifying assets carefully among the risk levels assures you of ending up with a larger pool of assets over time than if you keep all your money in one risk category. The investment pyramid you saw earlier will help you match the corresponding investment alternative with the appropriate risk. Once you identify your financial goals and timelines, then you can start looking at investment alternatives to best meet your needs.
Remember the saying, “don’t put all your eggs in one basket”? It is important to diversify your portfolio to minimize the potential risk to your investments. Risk levels are based on the possibility of losing some or all of the original investment. Anytime you entrust money to someone else, there is a chance that you could lose some or even all of it. The likelihood that you will lose money varies greatly, depending on the type of investment you choose. For example, some products are insured or backed by the federal government so they carry relatively low risk. However, buying shares of a brand-new company with no track record would be riskier than buying shares of a stable, financially strong company. A mix of investments will help minimize risk. Let’s take a moment to review the levels of risk and the types of products available.
These low risk savings products are guaranteed to return your principal and a stated rate of interest.* One disadvantage that is often overlooked in low risk savings investments is the inflation risk : You will not lose your shirt, but you may not be able to buy a new one because your earnings are not enough to keep up with taxes and inflation! * If you take no risk with your assets, you will be unlikely to earn a return high enough to achieve your financial goals. As we proceed through the next 3 slides, the level of risk will increase, meaning you could lose some or all of your initial investment (principal).
Let’s move up one level on the investment pyramid to products of limited risk. Here you will find blue chip stocks, high quality bonds and conservative mutual funds. These are considered limited risk investments because, although there is no guaranteed rate of return, these investments are backed by strong, highly rated companies. Blue chip stocks are those of well established dividend-paying companies. Bonds in this risk category are those with the highest safety ratings of Triple A or Double A. Standard & Poor’s and Moody’s publications rate bonds; these are available at most libraries and may be available on-line. Government securities (e.g., Treasury bills) are backed by the full faith of the United States government. Mutual funds that hold only the following would be considered conservative mutual funds: blue chip stocks, high quality bonds and/or government securities.
Moderate risk investments are better suited for an investor with a longer time horizon (a longer time horizon allows time to smooth the effects of the highs and lows of the market). These investments: do not guarantee a return of principal or earnings have the possibility of a greater return than savings or limited risk products may be less liquid are riskier due to the company size or performance
Are you a risk taker? If the answer is no, these investments are not for you. When seeking high yields, you give up a lot of safety. You can win big, but also lose big, with high risk investments. Futures, options, and derivatives are risky and highly speculative. These investments deserve special attention since fortunes can be made or lost within a few hours. Seventy-five percent of commodity speculators in futures, options or derivatives lose money! Beware of high yield bonds (i.e., junk or low-rated bonds) which are offered by lower rated companies. Just as consumers are rated on their creditworthiness, companies and governments are rated on their financial strength. Aggressive growth stock and mutual funds have a potential for higher returns, but also may experience greater losses. Collectibles or precious metals may appeal to you, but often you are buying at large mark-ups and you may not be able to sell them for the price you paid.
We’ve talked about the levels of risk and associated products. As you choose your investments, balance risk (the amount of risk you’re willing to take) and reward (the amount of return you hope to gain on your investments) to achieve your investment goals.
Invest regularly. Dollar cost averaging keeps you in the market and helps you avoid procrastination. You cannot time the market, but you can take advantage of falling prices to buy more shares when the price is lower. Yes, you will buy some when the price is high, but over the long haul, you should come out ahead. Diversification can help produce a reasonable return in most market conditions. A mix of assets will help minimize risks. In a diversified portfolio, when bonds are struggling, stocks may provide off-setting gains. Just because you invest for the long term doesn’t mean you invest the money and forget about it. Check your investment statements for performance on a regular basis. Periodically assess your investment needs and risk tolerance to be certain you’re achieving your investment goals. Investment returns can sometimes resemble a roller coaster ride. Although year to year results vary, stocks historically deliver over 10% return a year, bonds 5-6% and inflation, an average of 3%. Be patient! Plan to invest for the long term, even during down markets.
How long do you plan to keep an investment in the stock market? The longer the time period, the greater the chance for smoothing out the highs and lows of the stock market. If you have a short-term time horizon, the stock market may not be for you. Since 1950, stock market averages show if you were only in the market for a year or less, the total market had a 23% chance of loss. But if you look at the overall stock market averages for ten years or more, the averages show no risk of loss. This is the market average, so individual stocks may lose money , even over a ten year period. For investors who are apprehensive about the stock market, mutual funds may be a good way to invest.
Mutual funds offer over 5,000 choices for investments. You can use mutual funds to own almost any kind of investment. Mutual funds can reflect very different savings and investment choices as shown above (and on the next slide). They also reflect varying risk levels. Mutual fund companies may have loads (commissions) and all have expenses, so check the expense ratio of the funds you are considering. This information and much more can be found in the fund prospectus which is available at no charge from the mutual fund company. This chart outlines the type of fund, its objective, investment holdings and targeted investor. Remember, mutual funds are not alike. You must review the fund’s prospectus to understand the choices you are making. Remember, if you own several different mutual funds that represent the same types of investments, your investment portfolio is not diversified.
See notes on previous slide.
We’ve defined and identified each level of risk and its related investment products. Only you can determine what your risk tolerance might be. However, your net worth, investment time line, current investment earnings, potential future earnings and investing experience are also important factors to consider in selecting the most appropriate investments for your portfolio. What might your investment portfolio look like? The following three pie charts reflect different levels of risk and diversification. These are just examples of portfolio allocation – your portfolio may look very different, based upon your needs and risk tolerance.
The largest percentage of this limited risk portfolio consists of cash investments (50%). Examples: checking or savings account, certificate of deposit or money market account. These investments are safe and liquid. The remaining 50% is divided between blue chip stocks and high quality, medium term bonds. These are considered limited risk investments because, although there is no guaranteed rate of return, these investments are backed by strong, highly rated companies. Diversification can help to produce a reasonable return in most market conditions. In a diversified portfolio, when bonds are struggling, stocks may provide offsetting gains (and vice versa).
The moderate risk portfolio decreases cash to 10% and increases stocks to 50%. Bonds are split with 10% in long term bonds (e.g., ten year bonds) and 30% in five year bonds. Note: If it is a good year for stocks and they outperform other assets, then your percentage of stocks will increase and it will no longer be a moderate risk portfolio. At this point, it would be important to rebalance your portfolio so that it continues to reflect your risk tolerance and investment goals.
This portfolio of 100% stocks would be appropriate for a retirement fund for a young investor who has a long investment time line and high level of risk tolerance. It is also assumed that this investor would have an emergency fund and safe debt load. Remember, the greater the risk, the greater the possible gain or loss. If you are not a risk taker and you need your money within a short time frame (1-3 years), a high risk portfolio may not suit your needs. Examine your investment goals and portfolio mix as time passes. Your goals, and thus your investment choices, will change.
So, are you ready to invest? If so, do you need assistance and help? There are a variety of financial professionals who could assist you in developing your financial plan. Some professionals will hold several designations. Ask about credentials and, if you see initials you do not understand, ask for an explanation.
Although brokers, insurance agents, lawyers, bankers, real estate agents, public accountants and tax preparers can provide financial advice, the advice may be limited to the products sold or the financial specialty of the professional. A Certified Financial Planner (CFP) or Chartered Financial Consultant (ChFC) will have practical financial planning experience for a minimum of 3 years. They will also have passed a set of comprehensive examinations and agreed to abide by a code of ethics. Planners with these certifications will also maintain continuing education credits. If your planner sells products, he/she should also be a registered investment advisor (RIA) with the Securities and Exchange Commission. So, who would you choose as your financial professional?
Buyer Beware! Before you enter into any financial agreement, it is important to know how to interview financial advisors. These criteria can help you become a better informed customer. Remember to interview at least 3 different financial advisors to find the one or ones who seem to be on the “same wave length” with you and your investment objectives. Anyone can say he/she is a financial advisor, so careful screening is in order. But do not let this keep you from getting started. It is important to do your homework, but it is also important to start on your savings and investment plans as soon as you can.
These questions can help you select an appropriate financial professional. Question #5 is especially important since it will not only determine satisfaction, but a successful relationship over a period of time.
Some planners have much more business than they can personally handle, so you may meet with the planner, but an associate may actually write the plan or manage accounts. Viewing an example of the planner’s work and reports will help you make an informed decision.
Financial professionals are compensated through fees (Fee Only), commissions on products sold (Commission Only), or a combination of both (Fee and Commission). The fee may be flat fee, performance-based, hourly rates, commissions or a combination. Some professionals charge a fee for the plan and a commission to implement it. Others may reduce or eliminate the fee based on the amount of products purchased. You may want your professional to implement the plan or you may want to deal with other financial professionals. Some financial professionals may provide an initial 1/2 hour consultation at no charge, so you can determine if your needs are compatible. To locate financial professionals in your area, contact the Institute of Certified Financial Planners or the National Organization of Personal Financial Advisors. You might want to check with your state Attorney General’s office to inquire about your planner’s status and check his/her disciplinary history. In Maryland, contact www.oag.state.md.us.
There are many ways to achieve financial success. One key is understanding the steps you need to take, wherever you are in your financial life. One person’s definition of financial success may be paying the bills on time every month, while someone else is striving to save 25% of his/her gross pay. Consider investments as another key to future financial success since they have a potential for higher return. Just as every key will not fit every lock, investments need to be selected to fit the level of risk you are willing to take and your financial time line. Your financial health will depend on choosing the right keys to open the doors to a financially secure future.
Is your Investment I.Q higher as a result of this class? Suggest ways to continue to learn about investments. Web sites and financial magazines can help to reinforce and expand on the basics covered in this module. Have participants prepare a pledge card. Participants will pledge on this card to begin or to increase savings/investments by a specific dollar amount in the next 12 months. (See Investment IQ outline for more detailed instructions.)
Instructor Note: Be sure to complete the slide with your personal information where slide says “your county, and your name.” Have attendees fill out the evaluation forms.
Investment IQ Presentation
What’s Your Investment I.Q.? Revised 2006
Your County Your Name Family and Consumer Sciences “ Educating People to Help Themselves ”
Prerequisites to Investments <ul><li>Prepare financial statements </li></ul><ul><li>Set financial goals </li></ul><ul><li>Establish a spending plan </li></ul><ul><li>Organize financial records </li></ul><ul><li>Establish a positive credit history </li></ul><ul><li>Maintain adequate insurance coverage </li></ul>
Financial Foundation Goals Emergency Fund Budget Financial Records Credit Record Life Disability Health Property Liability Financial Plan Insurance Insured Savings, Savings Bonds, Money Market Funds, Certificates of Deposits Life Insurance Investments Government Securities High Quality Corporate Stocks, Bonds and Mutual Funds Real Estate Aggressive Growth, Junk Bonds, Stocks and Mutual Funds Futures Contracts Collectibles Pyramid of Investment Risk Increased Risk
Emergency Fund Financial Foundation Goals Budget Financial Plan Financial Statements Financial Records Credit Record Life Health Insurance Disability Property Liability
EARLY INVESTOR Depositing $1,000 a year at 8% $1,083 $6,397 $15,939 Depositing nothing more but building at 8% $17,267 $35,471 $78,934 $175,656 $390,895 LATE INVESTOR Depositing nothing $0 $0 $0 Depositing $1,000 a year at 8% $1,083 $15,939 $51,939 $130,344 $306,000 Year 1 Year 5 Year 10 Year 11 Year 20 Year 30 Year 40 Year 50
INVESTING NOW versus INVESTING LATER AT 9% INTEREST Monthly Total End Result Beginning Amount Contribution in 20 Yrs Now $ 50.00 $12,000 $33,394 In 10 years $150.00 $18,000 $29,027
Invest $1,000 a year @ 6% for 20 years =$36,790 You have earned $16,790!!!
Investment Alternatives Mutual Funds Stocks and Bonds Treasury Certificates Real Estate Futures Collectibles
Investment Strategies <ul><li>Invest regularly by dollar-cost averaging </li></ul><ul><li>Diversify your portfolio </li></ul><ul><li>Check your investments regularly </li></ul><ul><li>Stay invested during down markets </li></ul><ul><li>Be patient </li></ul>
Since 1950, if stocks were held for : 10 years -- no risk of loss 5 years -- 5% chance of loss 1 year -- 23% chance of loss Time makes a Difference!
MUTUAL FUNDS Type Objective Investments Type of Investor Balanced Conserve principal, One-third bonds, Older, income- some growth two-third stocks oriented Income - Moderate growth Common Stocks Middle-aged, growth with income (blue chip) conservative Growth High growth, Common stocks Younger, low income (speculative) aggressive Bond Income Bonds Older, income- oriented
MUTUAL FUNDS Type Objective Investments Type of Investor Preferred Income Preferred stock Older, income-oriented Specialized Various Gold stocks, Depends on objective, specialized but should only be a industry stocks, small portion of convertible bonds, investments etc. Money market Income and Money market Anyone needing income safety of instruments and safety principal
Where can you go for Financial Planning Information?
Who would you want to be your financial professional? <ul><ul><ul><li>Chartered Life Underwriter (CLU) </li></ul></ul></ul><ul><ul><ul><li>Certified Financial Planner (CFP) </li></ul></ul></ul><ul><ul><ul><li>Chartered Financial Consultant (ChFC) </li></ul></ul></ul><ul><ul><ul><li>Accredited Financial Counselor (AFC) </li></ul></ul></ul><ul><ul><ul><li>Attorney </li></ul></ul></ul><ul><ul><ul><li>Financial manager </li></ul></ul></ul><ul><ul><ul><li>Accountant </li></ul></ul></ul><ul><ul><ul><li>Real estate broker </li></ul></ul></ul><ul><ul><ul><li>Stock broker </li></ul></ul></ul>
CRITERIA FOR SELECTING FINANCIAL ADVISORS Training Professional Improvement Registrations/licenses Types of clients and income of clients References Professional designations Length of time in business Form of compensation
Questions to Ask Your Potential Financial Professional <ul><li>1. What is your professional background, including certifications? </li></ul><ul><li>2. How long have you been doing financial planning? </li></ul><ul><li>3. How long have you been in the community? </li></ul><ul><li>4. Who can vouch for your professional reputation? </li></ul><ul><li>Will you provide references from three or more clients who you have counseled for at least two years? </li></ul>
More Questions to ask a Financial Professional… <ul><li>6. Will you manage my account(s) or will it be an associate? </li></ul><ul><li>7. May I see examples of your plans and monitoring reports you have drawn up for other investors? </li></ul><ul><li>8. Are you a member of any financial planning trade organizations? </li></ul><ul><li>9. If you earn commissions, from whom? </li></ul><ul><li>What level of investment risk do you generally use? </li></ul>
How is a Financial Professional Paid? Fee Only Planner Commission Only Planner Fee and Commission Planner