Risk Less and Prosper

Your Guide to Safer Investing

Zvi Bodie, Rachelle Taqqu

• Publisher: Wiley
• Year: 2011
• ISBN:
  9781118206256
• Edition: 1
• Topic: Business
• Subtopic: Investments & Securities
• Index: Business

A practical guide to getting personal investing right

Somewhere along the way, something has gone very wrong with the way individuals save and invest. Too often, households are drawn in by promotional suggestions masquerading as impartial investment advice. Consumers get saddled with more risk than they realize. Authors Zvi Bodie and Rachelle Taqqu understand the dilemma that today's investors face, and with Risk Less and Prosper they will help you find your financial footing.

Written in an accessible style, this practical guide skillfully explains why personal investing is all about you—your goals, your values and your career path. It shows how to understand investment risk and choose the particular blend of risk and safety that is right for you. And it lays out several simple yet powerful ways for small investors to cast a reliable safety net to achieve their financial goals and truly prosper. Coauthors Bodie and Taqqu challenge the myth that all investments require risk, then highlight some important risks that families often disregard when deciding where to put their money. Later, they connect the dots between investment and investor, showing us all how to grasp our own investment risk profiles and how we may use these insights to make more fitting investment choices.

• Outlines a straightforward way to invest by aligning your investments with your goals and the risk levels you can bear
• Provides basic investment abc's for readers who are otherwise literate
• Lays out a simple, actionable plan for achieving your goals
• Explains the role of risk-free assets and investment insurance in assuring that you reach your most essential goals

Contrary to popular belief, investing doesn't have to be complicated. You can build wealth without taking great risks. Risk Less and Prosper will show you how to make investment decisions that will make your financial life less stressful and more profitable.

PART 1

ALL ABOUT YOU

CHAPTER 1

Changing the Game

Science is a long history of learning not to fool ourselves.

—Richard Feynman

Not long ago, a woman we know came into some money. It was a substantial but not a breathtaking sum that had come quite unexpectedly from a childless aunt. Julia, as we’ll call her, is a diligent, responsible person; and to her surprise and consternation, the inheritance threw her into turmoil for a long time. She had absolutely no idea what to do with the money.

Julia wanted to consult with a financial advisor, but she felt lost when it came to finding one. Although she owned her own business and considered herself financially literate, the prospect of choosing a trustworthy advisor seemed overwhelming to her. Her aunt’s attorneys were no help. They were out of state and had no local names to recommend.

Julia began canvassing a few of her friends for advice. She hoped they could share insights, opinions, and with luck, some good referrals, too. She started with Sue, whom she saw often because their children were classmates. She also spoke with Sam, another friend, who worked in her office building. Sam always seemed to be in the know about the latest new thing.

Things did not go as Julia had planned. Instead of generating some interesting but very casual conversations, she found that she’d ignited a fire.

She’d caught Sue just as Sue was trying to learn more about her family’s investments. They’d lost what felt like a vast amount during the financial collapse at the end of 2008. Sue was horrified and wondered whether her husband hadn’t been playing a little too fast and loose with their money. Until then, he’d assumed sole responsibility for their investments, but Sue was divorcing now and needed to take charge. Just how she would manage to do this she did not know.

Sam, too, responded with unforeseen enthusiasm. Through the accountant who did his taxes, he had just learned of a financial planner—we’ll call him Paul—who was hoping to launch a guidance group. He was modeling his group on the support groups he’d been hearing about—people who got together every month or so to help one another learn more about money and investing.

Paul thought a support group could be more motivating and interesting than a classroom could ever be. The groups that had inspired him were not conventional investment clubs or counseling groups to help with budgeting and the like. Rather, what they offered was more like an amalgam of investment education, inspiration, and mutual encouragement.

Paul was peeved that many people seemed to be flying completely blind. They were subjecting themselves to all kinds of misinformation culled from a potpourri of unvetted sources in the library, the Internet, the popular press, television—you name it.

That’s how Paul came to hatch a new plan. He was still in the early days of his project when he shared his thoughts with Sam’s accountant, who loved the idea and promised to spread the word.

It wasn’t long before Sam contacted Paul. He brought Julia and Sue to a meeting—and the three of them liked what they heard. There was a small fee, but the arrangement seemed reasonable to them all.

Paul asked them to recruit one other person, or couple, so they could broaden the experiences they’d be able to talk about. He insisted that they choose someone at a different stage of life, though. The three of them were in their thirties through their late forties, and Paul believed that it would be helpful to include someone in the group who was closer to retirement. It would give them a glimpse of themselves in 15 or 20 years. And the newcomers would benefit too. They’d get a wider view of their options along with the energy of this spirited group.

With the group’s blessing, Julia approached an older friend at her health club. They’d bantered together for years at the gym, and Julia thought he, and possibly his wife, might be interested in joining their group. Julia’s instinct proved right. Patrick, age 57, and his wife Marianne, 55, were immediately attracted to the proposal. They, too, had suffered big losses in 2008, wanted to get their investments back in shape, but felt vulnerable. Patrick told Julia that the idea was just the ticket he’d been looking for. He didn’t know Paul, but he considered the group a low-risk way to learn a lot and to get back on track—all in a friendly, interesting setting.

At their first meeting, knowing that it would be important for their success to identify what they had in common, Paul asked each of them why they’d come. As each took the floor to answer, the others found themselves nodding in agreement as they heard the same feelings of frustration, confusion, and vulnerability repeated again and again.

Julia and Sam were the ones who considered themselves knowledgeable about money and investing, yet both felt either paralyzed or completely flummoxed. They’d both done all the “right” things: They’d saved the maximum amounts allowed in their retirement plans, they’d been disciplined about saving as much as possible, they’d each “diversified” their investments and put 65 to 70 percent in equities as they’d been educated to do, but they had little to show for their effort.

The recent near collapse of the financial markets had paralyzed Julia. She knew she ought to be investing her inheritance, but she was too overwhelmed, intimidated, and confused to make a plan. In addition, she found herself in resistance mode quite often these days. Early on, her two brothers, who had also received shares of the bequest, had been pressuring Julia to join with them in a real estate investment. Julia had refused; it had never felt right to her, and they all now believed they had dodged some bullets. Still, she felt no closer to a solution although some time had already passed.

Sam believed he had a newly clean slate. He was a marketing professional who’d just moved into town from another state after 9 months of unemployment. After working for many years in a much larger firm, he had taken a position in a small technology company. Sam felt chastened about the way he’d handled his money—he’d either spent or lost a big share of his portfolio during his job search. He told the group that he was motivated to do it right this time around, but he still did not know what “right” was.

Sue, a physician with three children, told them how frightening she had found the market’s descent and said she wanted to learn more about how to manage risk. But she agreed with the others about how hard it was for her to gain any sense of mastery or control. This she found enormously frustrating. She had developed a pattern of letting herself grow discouraged.

Patrick enjoyed watching the financial news on cable TV and had spent a lot of time researching and trading stocks. But now he was motivated by fear. Both he and his wife Marianne felt lucky to be employed, though the retirement clock preoccupied them and made them both uneasy.

The evening flew by. Paul was excited by what he had started, and they were all surprised by how alike they sounded despite their different circumstances. They enthusiastically scheduled a series of monthly meetings. As an antidote to their shared state of inadequacy and confusion, Paul decided to assign them some things to read, including a few of the best investment web sites geared for people like them.

New Rules

This book has been written as a kind of syllabus for Paul to follow. It’s been designed with Julia and her friends in mind—and for all of you who want to make sense of investing, even if you’ve tried before only to give up, feeling confused, overwhelmed, defeated, or bored. Or if you once believed you understood what to do only to be proven wrong.

As a remedy, we offer a few simple principles to help guide you to investment success. Throughout, we put you, the individual, at the center of the pursuit: you, your resources, your plans and, above all, your financial goals. These are the elements that should be driving your investment plan; and on these subjects you are the world’s best expert.

At first blush, this may not sound terribly new or different. It’s common practice, after all, for financial advisors to ask you all about your financial goals when they’re preparing an investment plan for you.

But the goal-based investment paradigm is a game changer. It redefines the mission of personal finance. Your goals and your biography are not simply the stepping-off point for a plan. They are both driver and destination. They help determine the vehicle as well as the path. They dictate how high or low you can fly, how black-and-white your plan should be, and how much color or wiggle room you can add.

In contrast, conventional financial practices often take note of your goals but then seem to sideline them. In the conventional school, the route to goal achievement is indirect and often circuitous. Instead of goals, the objective is maximizing wealth. And the focus tends to be on the separate moving parts—as in selecting stocks and bonds, then aiming to beat each market benchmark.

This menu of choices can feel a little like building your own home computer system out of an array of separate components that may not serve your particular needs once they are assembled. Too often, making sure that your investments will meet your future needs has become your charge alone. In both cases, you are the one who will have to grapple with the pieces in order to impose the functionality you require. It’s small wonder that frustrations can mount.

For most non-aficionados, separate computer components are too hard to orchestrate. It’s easier to opt for the integrated desktop, or iPad, for that matter. Anything but plug-and-play feels difficult, because all we really care about is the applications—whether it’s movies or spreadsheets.

The story is much the same when it comes to choosing goal-based investing over outdoing any given benchmark’s return: What we ultimately care about is meeting our goals. You can’t eat rate of return.

Paul subscribes to a goal-based investment philosophy. He believes that investing—and all financial planning—must be tailored to each individual’s goals, resources, and opportunities. He’s been influenced by life-cycle economics, and he considers lifestyle preservation at all stages of life to be of topmost importance.

At the group’s next meeting, Paul introduces them to the core principles of goal-based investing. Right away, his framework brings their discussions down to earth. At once, they begin by looking at their own singularities, not their seemingly limitless investment possibilities.

Patrick is encouraged by the topic of conversation to move beyond his recent losses and to start talking about his personal financial goals. ...