july 3, 2002
IS IT TIME TO RUN FROM MARKET?
By Mark Scheinbaum
American Reporter Columnist

BOCA RATON, FLA ( July 3, 2002)--Looking at my old UPI alumni wire, I
noticed an exchange from a veteran reporter worried about his money, and a
knowledgeable financial services colleague offering advise. The exchange is
being replicated in coffee shops and brokerages houses around the nation, so
I'll give you the exchange:

Question:
My modest 401K was switched from money market to guaranteed 4.5 percent
bonds. Better than losing the principal, or large chunks of it.
What do you recommend for people like me whose incomes depend to an
extent that is currently a little scary on the performance of the
market?
Answer
I hear they're hiring greeters at Wal-Mart.
Seriously -- and with apologies to the several stockbrokers on this wire
--
you can do worse than picking a diversified group of no-load mutual
funds and generally sticking with them. Fidelity Investments funds
have been good for me. The past couple of years in the market suck,
of course, but the previous gains were larger than the current
declines.
You say you don't know anything about the markets. Even the people
who say they know a lot about the markets don't really know anything
about the markets. Peter Lynch of Fidelity is one of the investing
greats of all time. Lynch admitted the markets were unknowable but
invested in good companies in businesses he understood.
However, if the market keeps going down at this pace, I might have to
check with Wal-Mart...

Generally speaking, it's good advice. It has been my view that
investment grade blue chip stocks are the place to be for the long term. For
investors with less than $100,000 to invest, it is very unlikely that any
self-directed discount brokerage account, or individual stock picking will
beat the old name common stocks.
Of particular interest are the household name, nameplate stocks, mostly
common growth stocks, or equity income funds. The myriad "sector" funds (oil,
gold. healthcare, financial, Asia, etc.) only seek to copy the proven Plain
Jane success formula of proven diversification.
I rarely place money in a mutual fund which does not have a 20 or 30 year
track record. I actually prefer funds with a 40 or 50 year history. Even
though managers might change, there is usually a corporate "style" which is
followed. Indeed I care less about no-load, low-load, 12b1-load, rear-end
load, etc than "total return" results.
Unless I am dealing with a special case involving a handicapped child,
disabled retiree, terminally ill patient, etc., I shy away from bond funds.
Fixed-income funds can be even more volatile than good stock funds. High
"yield" is achieved by longer maturity dates. The rule of thumb for AAA-rated
long-term bonds is a 12-13% principal move for every 1 per cent interest
move, inversely related. Confused?
Well, invest $100,000 in a long-term bond fund when 30-year fixed
mortgage rates are 7 per cent. They day you see those mortgages at 8 per cent
your portfolio is worth $87-88,000. Get the idea. If you hit the economic
Lotto and mortgages drop to 6 per cent, your fund is worth $112-113,000 but
I don't see that happening any time soon. It's more likely that long term
paper will be 9%. On that day your "safe" 4.5% "yield" fund is worth perhaps
$76,000.
While it's nice to say that your $100,000 bond fund will be $104,500 next
year, the investor who needs to liquidate in an emergency, could easily end
up liquidating a fund in a year or so which is worthy only $80,500 ($76,000
+ 4,500). Ironically, the frightened, cautious, or financially strapped
investor most likely to crave the "safety" of a bond, is the person most
likely to get clobbered.
(It's interesting to note that for institutions and wealthy individuals
we must hedge these risks with sophisticated "collateralized mortgage
obligations" of Freddie Mac, Fannie Mae, and Ginnie Mae with special features
designed to float or iniversely track the normal price erosion caused by
interest fluctuations. Minimum requirements for purchase are usually $100,000
lots with liquid net worth of $1 million)
And what about Dow 7,500?
A study we did a week ago for our pension clients indicated that we are
actually more likely to see Dow 20,000 than 7,500 by the end of 2005. This
is not pie in the sky.
Going back to the pre-1987 Crash high of 2,287 on the Dow, and working
from the recently violated support level of 9,400, a climb from the August,
1987 levels to 20,000 in August 2005 would average a respectable +10 per cent
per year. Handsome, but hardly euphoric.
I feel that this projection is independently corroborated by the pooled
research staff at ValueLine, never known for irrational exuberance. The
consensus of all of their analysts at ValueLine last month showed a 3-5 year
projection of the S&P 500 +55%. They indicated that much of this gain will be
towards the end of the 3-5 year window period.
Ibbotson & Associates of Chicago, the bible in econometrics and market
studies, shows average market returns of 12%+ for 86 years in the blue chip
markets. The ratio of crummy years to good years is 1:4. Even coming out of a
third and possibly a fourth (2003) down year for the types of blue chip
mutual funds discussed above, confirms that folks with the intestines,
bankrolls, and patience, to use current low levels to dollar cost average
will be rewarded.
Two final thoughts about investment grade stock and fund investments:
First comes the strategy called covered call writing or portfolio
insurance. If a person insists on buying individual shares of Walgreens,
Wal-mart, UPS, Burlington Resources, International Paper, Dell, and Lowe's
(yes, we own all of them), I will not accept their account unless they permit
the possibility of selling call options against their position. This is how
insurance companies and trust companies make money in down markets. We always
want to allow people to buy ("take away") our stocks at higher prices, and
pay us for the privilege. If you think this ERISA-approved strategy for IRAs,
Keogh's, and 401k accounts is too complicated or too risky, you're wrong on
both counts. If you refuse to allow your broker or money manager to utilize
this strategy, you should only go the fund route.
For those people who like the old Vanguard (Wellington), Fidelity Growth
or Equity Income, George Putnam, Oppenheimer Total Return, Delaware Decatur,
Delaware Balanced, Invesco, and other funds, and are not likely to need the
money for several years, consider wrapping the fund in a "flexible premium
tax-deferred variable annuity."
This week the annuity market was again maligned by the Wall Street
Journal in a story revealing high pressure sales tactics to seniors. High
pressure tactics are always wrong and always bad. Yet many cautious retirees
are exactly the people who are best served by paying the extra 3/4-1.5 per
cent in internal fees and mortality charges for the annuity.
My personal rules are to: use a company rated A+ or better; make sure
all deposits are insured with a guaranteed death benefit; make sure the death
benefit is raised each year; have mutual funds--called sub-accounts--which
mirror your preferred investment style and goals; see if there is an "estate
plus," bonus feature for a nominal extra fee; make sure these accounts are
judgment-proof and avoid probate in your state; choose annuities which have
free 10 or 15 per cent annual withdrawals and nursing home waivers in
emergencies; see if there are dollar cost averaging and some fixed-income
features you might want, and look for surrender periods (charges) which
disappear in three, five, or at most seven years. Beware of "no surrender
charge" policies of one-year's duration, often sold by banks, which do not
have many of the above features.
The mutual funds wrapped in the annuities will produce no 1099 form or
tax consequence unless and until you start taking out money via a "systematic
withdrawal" (we never "annuitize"). Eventual your heirs may pay tax. Also
remember that when used with after-tax money taken from other funds, CD's,
stocks, or bonds, unlike a tax-deferred traditional IRA or 401k there is NO
requirement to start taking distributions in the year in which you celebrate
your 70 and 1/2 birthday.
As with any time of turmoil and adversity there will be some people
making money under current market conditions. In addition to pure daily
speculators and short-sellers, the biggest winners of all might be the folks
brave enough to sock more and more money away into solid historic performers
right now.
---
Mark Scheinbaum, certified NASD arbitrator, is chief investment
strategist for Kaplan & Co., BSE, NASD, SIPC; former UPI Newsman and editor
and publisher of Success business magazine, and is the daily business
commentator on RadioAmerica's syndiated "GoodDay USA."