Warren Buffett Recommends Buying American Stocks

I started this post on October 11th and never got around to finishing it. Fortunately, Warren Buffett himself finished it for me with his op-ed in the New York Times on October 16th. I can't say it any better than he did, so I'm not even going to try. Let me first show you what I wrote, then I'll add a link to Buffett's letter.

"I feel like I need to preface anything I write about investing in stocks with the following disclaimers:

1) You should only invest money you can afford to lose in the stock market

2) You should not have a high allocation to stocks if you are close to retirement

3) You should be prepared to see the value of your holdings drop 50% without worrying

That said, I want to make the following statement: now is a good time to buy stocks. And bonds.

How can I say this, when the markets are at 10 year lows and when we've had the worst week in history? Who am I to contradict the headlines?

Let me put it this way: were you happy buying stocks a year ago, when the market was at its peak and the dow was above 14,000? Chances are, you were. (I wasn't.)

When I see Tiffany & Co. selling for $22 a share.. it makes me happy."

I'm not calling a market bottom, and neither is Buffett. That said, people are now fearful and I'm happier in equities right now (see the three disclaimers above) than I am in anything else.

To see how he finished my post for me, I highly recommend you read Warren Buffett's Op-Ed in the New York Times.

What should I do with my 401(k) during the financial crisis?

The headlines are not good right now, for example:

• The New York Times: "Where to keep your cash as investments crash"
• CNN Money: "EU Policymakers worried about shaky financial markets"
• Reuters: "Wide financial sector fears to drive market"
• Bloomberg: "Greenspan says financial crisis may be 'Once in century' event"
• Associated Press "Emergency meeting on Lehman rescue resumes"

Major companies are failing (or at least, their futures are in question), for example:

• Above mentioned Lehman Brothers is frantically looking for a buyer. The company's stock has fallen from a 52-week high near $70 to last Friday's close of $3.78 per share.
• Washington Mutual has fallen from a 52-week high near $40 to Friday's close of $1.75 per share.
• American International Group has fallen from a 52-week high near $70 to last Friday's close of $11.49.
• The list goes on: Fannie Mae, Freddie Mac, Citigroup, Merrill Lynch and others

The fallout has been a decline in stock prices. My 401(k) is down 13% year to date, with the biggest percentage losses coming from the category of my international investments. My international fund is down 23% and my emerging markets fund is down 30%. The S&P 500 index fund which holds the bulk of my assets is down just about 13%. My best performer by far is the fixed income fund That's up 3.7 year to date. My account value is about $63,000, with a loss of approximately $9,000 year to date.

So I'm giving in. On Monday morning I plan to sell everything and put all of my money into the fixed income fund. The stock market is rigged in favor of the rich. I'm going to wait until we hit bottom and then put all of my money back into stocks.

Just kidding. If you've been paying any attention to my posts about my investment philosophy, I am fully prepared for years like the one we're currently having. If you want to put your money in stocks, you have to have the stomach to watch the value of your holdings drop 50% without batting an eyelash. The current market environment is nothing new. Between now and 30 years from now, I expect stocks to perform better than my alternatives: bonds, bank accounts, gold, cash, etc... They are not going to go up every year.

So what should you do? Besides rebalancing if your holdings have strayed 5 percentage points or more from your target allocation, I recommend doing absolutely nothing. Keep buying more stock at cheaper prices. When we have our next inevidable bull market, you'll be happy you did. More importantly, when you retire, you will have more money than you would if you put your money into bonds over the years.

Of course, if you have 5 years or less until retirement, the above does not apply. If you have a long time until retirement, however, rest easy.

I also think this is a great opportunity for active investors. Some great companies are getting battered by the headlines above. Mr. Market is running scared and doing foolish things. I personally don't have the time to study and make individual stock selections, but if you do, I'd imagine you can find some pretty attractive bargains in this market.

What is the best money advice you've ever received?

I recently read an article on Yahoo about the smartest money advice some people ever got and I found it interesting. I always enjoy reading things like that. My favorite was "Don't Follow the Herd" by Robert Schiller:

People do not trust their own judgment but go along with the crowd, even when they can see truth. In a world populated with such people, there are investing opportunities for people who make the effort and do the work see clearly for themselves.

After reading it, I started thinking to myself - what's the best money advice I ever got? I thought back to the books I read that first got me interested in investing years back and all of the Warren Buffett and Peter Lynch nuggets I know by heart. I thought about Peter Lynch's admonishment not to put any money you will need in 3 years or so in the stock market. I thought about Buffett's quote that "investing is most intelligent when it is most businesslike." I thought about a book I read recently- The Richest Man in Babylon by George Clason and the simple investing lessons it offers. (By the way, I liked this book.)

I thought about all of those things, then I realized they weren't really advice, they were just things I read in books. Then I realized the best advice I ever got was the example of my parents while I was growing up. They never had big salaries, but they were frugal and worked hard to send my brothers and sisters and I through school. They never wasted money on fancy things like new cars. They never got me the newest fad in sneakers, and I was always one of the last people to get the new video game console. I didn't like it then, but I appreciate it now.

What is the best money advice you've ever received? I welcome you to share it below. And before you point it out- admittedly, my answer was kind of a cop out but trying to come up with the best single piece of advice I ever received would be kind of like trying to pick the best movie I've ever seen, or the best book I've ever read... way too difficult to pick one but I could rattle off the top 20 or so if I took some time to do it.

To get the juices flowing, here are some more "best money advice" articles, in no particular order:

The Best Financial Advice Ever
Advice from the always-interesting Free Money Finance
The Best Investment Advice I Ever Received - this one is a link to a book on Amazon that I'm thinking about either getting or borrowing from the library. Check out the "Search Inside" feature for some previews.

401(k) In the Red

I have to admit, it's a strange experience to log in and see my 401(k) balance squarely in the red. My total portfolio has lost 9.6% of its value sofar this year, with my small-cap funds (13% of my current balance) down about 14%, my index fund (60% of my current balance) down 9.5%, my international funds down about 7% and my fixed income fund (3% of my current balance) up .3%.

Everything is down except for my fixed income fund. If you recall from my 2006 year in review, I historically haven't even had any fixed income allocation in my retirement account. However, I added some in '06, my reasoning being that "I decided to put a small amount of my retirement money in a fixed income fund purely for the sake of diversification so that in the years when equities are in the red (and I know these years are coming!), I will be able to look at my portfolio and see that at least one of my investments is up. The fixed income fund underperformed my stock investments this year, returning 5%."

I guess that time has come! These days, I almost wish I'd put even more into the fixed income fund back then :)

In a way, I am thoroughly entertained by everything going on in the market right now. It was easy to see we were in the midst of a housing bubble, and it was even easier to see that we were in the midst of a credit bubble. I've written about both over the past few years. For people in my age group, these are the second and third bubbles we've had the fortune of observing (the first being tech stocks in the late 1990s). I guess the moral of the story is that if it seems too good to be true (housing prices increasing 20+% every year, tech stocks increasing 50%+ per year, credit being incredibly easy to obtain), stay away from it. If you time it right in the short term you might do well, but you have to get out at the right time. I don't think anyone out there can time markets successfully on a consistent basis, so you're better off not even trying.

By the way, a brief update on Moody's: the stock is sitting right near a 52 week low just under $34 a share. I don't want to jinx it, but I have been picking some up in my trading account. Remember its extremely risky to put money into individual stocks. I'm only investing an amount I could comfortably lose without losing any sleep. MCO reports earnings in the early part of next month and I anticipate some reaction (positive or negative) to the reported earnings as well as the outlook. If you take a step back from the current environment you'll see a company generating good free cash flow and high margins. As long as it survives the current significant threats, I think the company will continue to show great returns and hopefully the market will reward this.

Save For Your Kids Retirement via a Variable Annuity

I read an interesting personal finance article by Jonathan Clements in the Wall Street Journal today. He talked about a bunch of ways to teach your kids about money. Now, I'm not going to be your typical blog where I list the ways and a brief summary of each one, then put my own spin on it. Bloggers who do things like this are lazy, unoriginal hacks who are basically just stealing their work from other people.

I am, however, going to key in on one particular idea I hadn't considered before. When I read about it, I thought it was the first time I'd ever read about it, but it turns out after consulting a June 2005 Clements article on teaching kids how to save I realized came across the idea a few years ago. (As an added bonus, if you read Clements' 2005 article along with the one above, you get a better picture of the actual dollar amounts he saved for his kids, offered for allowances etc...)

The idea is investing in a variable annuity to fund your child's retirement.

You heard me right, retirement, not school, not college, not graduate school, not weddings... RETIREMENT. Saving for your kid's retirement.

For most people, this is very low on the list of priorities. However, for people who are more financially comfortable, just think about how long that compounding period is... about 60 years if you put money in when the child is born. If you invest $2,000 and earn market returns of about 9% for 60 years, your child will end up with about $352,000 for retirement. Add contributions of just $100 a year to that initial $2,000 investment and your child will end up with $547,000. Add contributions of $335 a year and the initial investment will turn into about a million dollars in 60 years.

The reason why he opted for a variable annuity rather than a Roth IRA is that his kids would need to have income in order for him to contribute to a Roth IRA and being an infant at the time, the kid probably didn't have any income. The variable annuity allows for tax-deferred growth without an income requirement. (Incidentally when his daughter got her first job waiting tables or something, he opened a Roth for her.)

Sometimes when I look at my own retirement projections I wish I had another 30 years to tack on to let the really good compounding take effect at the end. In effect, if you open an account for your kids, this is what you're doing.

Does anyone have any thoughts on this? I think it might be something interesting to look at if I'm looking for alternatives for my child's birthday money etc... Of course I think I'm going to have my hands full with saving to help them through college first, but this is always something to think about. It's also pretty clever.

Maximize Your 401(k) Contribution Before Yearend

For those of you like me looking to maximize your 401(k) contribution for 2007, you most likely only have one paycheck left to do so so this is a quick reminder to make sure you've done that. I've been monitoring my contributions throughout the year and it looks like I will have to increase the percentage withdrawn from my next paycheck in order to reach the limit. I like the 401(k) because it reduces the taxable income I report to the government (and due to my salary combined with my wife's salary, we're priced out of Roth IRA contributions).

So take a look at your last pay stub and check what your year-to-date 401(k) contributions are. Subtract that number from the $15,500 and figure out how much you'll have to contribute out of your next paycheck to max out the contribution. Then go through your company's payroll system (luckily I can do mine online) and make the necessary adjustments.

And then remember- if you contribute $15,500 a year for 23 years and get a 9% annual return on your investments (a fair assumption for the stock market, in my opinion), you'll end up with just over a million dollars.