WINDOW ON WALL STREET: The money illusion

Posted by on Jan 30, 2014 in Uncategorized | 0 comments

Chances are you are familiar with the parable of the boiling frog. The story that says a frog dropped into boiling water will jump out of the pot, but that one placed in tepid water that is gradually raised to boiling will be cooked and meet its demise. Who knows if this story is true as a metaphor but is highly powerful when used to illustrate a point. When change occurs slowly almost imperceptibility, it leaves us unable to react, and we often become aware of what’s happening too late to act. There is a boiling frog perception about money. Princeton University professors Eldar Shafir, Peter Diamond and Amos Tversky in their groundbreaking article “Money Illusion” explain there is a “tendency of people to think of currency in nominal rather than real monetary values.” In other words, the numerical value (nominal value) of money is mistaken for its purchasing power (real value). The core idea is we think of numbers in a way that is disconnected from their purchasing power, and by so doing we can make irrational personal decisions with strange outcomes. This insight is significant as there is widespread expectation in 2014 to expect higher interest rates. US Treasury yields are expected to rise to 5 to 8 percent no later than 2018. Investors are currently searching for yield partly to offset an expected increase in inflation? Two experiments about how the money illusion influences people’s perceptions of outcomes. First, are experiments which have shown that people usually perceive a 2 percent drop in nominal income with no change in monetary value as unfair, but believe a 2 percent rise in nominal income with 4 percent inflation is fair, although both are approximate equivalents. Second, are experiments with compound interest. Assume an investor decides to place money in a bank. Say 1 million dollars is put away which doubles every ten years while living expenses ( assume $100,000 every 10 years) also doubles every 10 years. The result is $1.9 million after the first 10 years, $3.6 million after 20 years, and $6.8 million after 30 years (deliberately ignoring inflation during the 30 year period), and will feel safe because each 10 years the net gains (interest less living expenses) are more than the previous 10 years, although purchasing power is decreasing because the interest rate matches the inflation rate. Consider inflation in the above example is slow and hardly perceptible very much like boiling water. Yale Professor Robert Shiller commented on the money illusion noting people usually remember what they paid for their house but forgets other prices from then and have a mistaken impression that home prices increased more than other prices thereby exaggerating the...

Read More

Are there better retirement income solutions?

Posted by on Jan 16, 2014 in Uncategorized | 0 comments

Baseball immortal Babe Ruth was quoted “yesterday’s home runs don’t win today’s games.” The same thought carries over into the findings of two independent research firms GDC Research and Practical Perspectives Research. What they found was an increasing number of baby boomers (those born during 1946 to 1964) were now seeking financial guidance to achieve a secure retirement. Yet many advisors feel frustrated when they search for new solutions because many of the new products and strategies lack track records and rely mainly or solely on back testing. The problem with back testing is it assumes what happened in the past will happen in the future and that is the risk to the strategy. A second concern among advisors is a lack of training and professional educational programs from these product or strategy providers. The findings of the report go on to say that “a sizable minority” of advisors lack both the processes and capabilities needed to appropriately assist retirement income clients. The reports note that many advisors are being directed toward providing retirement income advice as the next frontier in which to expand their practice as there is a growing market for retirement income knowledge and expertise. Advisors rely on a range of products for retirement income client solutions with the large annuity companies and asset managers as the most prominent players in this arena. Barriers to entry are a major limiter of choice which underlines the challenges and opportunities new product and strategy providers experience in trying to crack the retirement income and money management fields. While advisors cite their willingness to embrace new solutions, the report found a major challenge to adopting new products, strategies, and providers is the need to make the case of why a particular solution will enhance the advisors offerings and how easily it fits with the products and strategies the advisor is comfortable with using. While the authors of the report appear to think these finding to be challenging I would think what fits most easily is most likely to be adopted and what requires a more fundamental reordering is less likely to be adopted. The main driver in the search for new strategies and products is the expectation 2014 will see a rise in interest rates. Looking at the price the United States Treasury is now paying to sell debt we are seeing a widening of the yield spread as investors price the reduction of Federal Reserve intervention into the markets by requiring higher interest rates to be paid on debt. Quantitative Easing (QE) was justified by the Federal Reserve as necessary to compress the term yield curve. With QE reduction the spread between short and long term debt will...

Read More

Facebook Scammers Getting Bolder

Posted by on Jan 15, 2014 in Uncategorized | 0 comments

Other times, careless users have left too much personal information on line, including birthdays, addresses, and other information that can be leveraged into identity theft. More recently, though, another variation on the scam has come to light: Criminals have been trolling Facebook accounts, looking for members who post a lot of details about their own families. They will then locate and contact a vulnerable family member – often a grandmother – and pretend to be a grandchild travelling abroad. The scammers pretend to be the grandchild, and breathlessly explain to the unsuspecting senior that they’re in jail in Spain, for example, after hitting a telephone pole – and they need her to wire them money to get let out of jail. In some cases, the criminals don’t just stop with the first couple of thousand dollars. They will contact grandma again, telling her the judge is making her grandson pay for damages to a light pole he hit. Then a deductible to an insurance company. They will call grandma again, saying the police won’t let him leave the country until he clears accounts and hit grandma for a couple more grand. They keep it up until grandma catches on to the scam or runs out of money – and meanwhile, her grandson is safe at home, unaware that his Facebook information is being used by criminals to victimize his family. How they do it To pull off this scam, criminals don’t need to steal birthdays or password information directly. Instead, they’ll go through Facebook accounts, mapping a picture of the victim’s family. They’ll gather so much information about family details and contacts that they can quickly overcome any skepticism about the scammer’s identity. Burglaries Criminals will also scan Facebook for information to use against members more directly: They will look for families announcing vacation plans on Facebook, for example, and then break into the house when you’re away. Police have broken up multiple burglary rings in several states, in which thieves used information gleaned via Facebook to target homes where they knew the occupants would be away. Awareness Is Still A Factor According to a recent survey from the Javelin Group, a large number of social media users posted information on line on Facebook pages, Twitter feeds, Tumblrs, and other social media sites that criminals could possibly leverage against them: • 68 percent of social media users publicly shared their birthday. • 63 percent shared the name of their high school. • 18 percent shared their phone number. • 12 percent shared their pet’s name. All this is information that criminals could use to bluff their way to access to a bank account – or even to a home,...

Read More

Can you Really Keep your Doctor with a Narrow Network?

Posted by on Jan 15, 2014 in Uncategorized | 0 comments

Can you Really Keep your Doctor with a Narrow Network? One of the key selling points of the Affordable Care Act was the promise that “you can keep your doctor, period.” Not so fast. In fact, millions of Americans who have or will be signing up for medical coverage via the online exchanges established by the ACA are due for a nasty surprise: Most of the plans available via the exchanges come with significant network restrictions, and in many case will not provide in-network coverage to the most sought-after hospitals, clinics and physicians in their markets. The issue: In order to control costs, the Affordable Care Act relies a great deal on the managed care model employed by health maintenance organizations (HMOs) preferred provider organizations (PPOs). Here’s how it works: Managed care organizations try to get as many subscribers as possible within a certain market, such as a city, state or zip code. They then approach the medical care providers in the community and use their large subscriber base as a bargaining chip. They offer the medical care provider or institution the prospect of a significant flow of referrals. In exchange, they ask hospitals and clinicians to take a much lower reimbursement rate. The arrangement is known in health care circles as the “narrow network” concept. The smaller the network, the more value the stream of referrals has to those providers included in the network. Expanding the network to too many care providers also dilutes the value of the stream of providers. The result: the system is skewed in favor of the lowest cost providers. Those with higher fees – the best specialists and hospitals in the greatest demand, and who have made the most investments in technology and training, for example – get locked out of the process. They cannot underbid the low-cost providers. Exclusions Abound Across the country, individuals purchasing or shopping for coverage via the networks are discovering that many or most plans don’t cover the best local hospitals. For example, the venerated Cleveland Clinic accepts dozens of private health plans offered via independent health insurance brokers and through carriers outside of the ACA exchanges. But if you buy your plan through the exchange in Ohio, only one exchange plan out of the twelve offered provides in-network coverage to the Cleveland Clinic. As another example, Southern California Health Net has announced that individual plans sold via exchanges in that market will have access to less than a third of the number of doctors available via employer plans. Furthermore, while all the exchange plans include the Los Angeles County hospital system, most of them will not provide in-network coverage to the most respected private hospitals like Cedars-Sinai,...

Read More

Year end ideas roundup

Posted by on Jan 3, 2014 in Uncategorized | 0 comments

What a difference a year makes. Humphrey Bogart playing Linus Larrabee (Sabrina) “if making money were all there was to business, it’d hardly be worthwhile going to the office. Money is a by-product.” Last year at this time we were all thinking “fiscal cliff” and how many new taxes and a new health care law with its new taxes would impact an economy still struggling to find solid footing. And when we went over the cliff for a brief time, the way we would look at 2013 changed. The major tax changes for 2013 occurred after the year had already started. It took a leap of faith to plan for 2013 without knowing what might happen. By making the 2012 tax law permanent and providing annual inflation adjustments for some code provisions, those taxpayers whose income and deductions are consistent form year to year will actually see their tax liability decrease in 2013. That does not mean we are without planning opportunities as 2013 comes to an end. The tried and true of defer income and accelerate deductions still holds for many but not for everyone. Multiyear tax planning is important so as not to get caught by one of the many new break points in the tax code. Your year-end tax and financial planning strategies should not be driven solely by tax considerations. Recent debt and budget agreements were achieved without any tax law changes, although some of these issues may have been simply deferred for a few months. It is possible that something new could come out of Washington with U.S. Sen. Max Baucus, D-Mont. It is very important to follow how things go in Washington otherwise wake up one morning and be surprised and get caught unawares and unprepared. Space limitations allow just a brief summary of opportunities. Anyone wishing a copy of my white paper Year End Tax and Financial Planning Ideas should contact me and an email copy will be sent. Sorry we cannot honor requests for postage paid mailed copies. • Capital Gains and Losses require an understanding of tax rates which apply along with the new Medicare tax on net investment income for high income tax payers. Being aware of the new breakpoints helps investors understand the cost of their investment decisions. If income will drop in 2014 then realizing a gain in 2013 may make sense while investment risk in deferral may also be an issue. It will depend on when the decision needs to be made early or late in the year. • Besides tax rates look at both long-term and short-term gains and losses as well as capital gains and losses. Gains in one category can offset losses in...

Read More