You can be your own investment adviser

I don’t mean to be tough on Charles Schwab, (as in “talk to Chuck, etc.”) but I think it’s worth talking about the company’s settlement for about $250 million with its customers who had invested in a Schwab money market fund that collapsed.

The word “settled” means that these poor people had to sue to get their money. They included Saint Anthony’s in San Francisco.

Why should anyone have to sue? Any small-town investment adviser with a reputation to protect probably would have sold his or her house to pay back clients for what turned out to be the adviser’s mistake. But Schwab’s customers are not in Kansas anymore.

For the 76 million baby boomers approaching age 65 with most of their retirement money in IRA accounts, the biggest conundrum is the question of how much they can take out each year for living expenses.

Countless publications have taken a stab at a pat answer and the results are all over the map. The temptation for many people is to throw up their hands and just turn to the financial services industry for help. We all know how talking to people like Chuck has turned out.

Most of today’s withdrawal formulas for someone retiring at age 65 call for withdrawals of 4 percent a year for someone with a 50/50 mix of stocks and bonds.

After market downdrafts, many of the formulas call for reducing the withdrawal rate to 3 percent. These formulas perpetrated by the financial services industry generally assume

investment fees of 1.3 percent (check out www.analyzenow.com).

If someone could reduce that investment fee cost to just 0.3 percent, they would be adding another full percentage point to their annual withdrawal rate — a 33 percent increase in income. What are people waiting for?

The key to generating higher withdrawal rates is to understand how to construct a do-it-yourself approach. The problem with advisers is that they are too expensive when billing as a percent of assets. This is especially true for people with smaller amounts of retirement money.

The first step in that direction is to learn all you can about bonds and bond mutual funds. Stock performance is relatively simple to understand, but appreciating how bonds work involves some counterintuitive thinking.

When you buy a bond, the value can change either up or down until the point at which the bond matures and you get all your money back. In the meantime, the bond has paid interest for each year that you owned it. The problem for people who might otherwise benefit from owning bonds is that they get spooked when the bond drops in value — even if the drop will be temporary and the entire original purchase amount will be paid back at maturity.

Bond mutual funds owning thousands of bonds have at least some bonds maturing and being replaced every day. The entire fund can drop in value periodically, but the drop is caused by rising interest rates on brand new bonds. A strange thing can happen with a bond mutual fund. While rising interest rates cause the capital value of the fund to fall, the increased rates will slowly cause the interest earnings on the fund to rise.

A sophisticated investor learns to ignore the temporary drop in value and just enjoy the benefit of rising interest income. What else were they planning to do with that capital anyway? It’s just paper. The real value comes from the income deposited each month into a retiree’s checking account. Add to this some dividends from stocks amounting to around 3 percent per year and now we’re talking about real money.

A do-it-yourself 50/50 mix of stock and bond funds charging just 0.25-0.30 percent for management can be found at a place like Vanguard and can generate income in the range of 5 percent a year. At that rate, nobody will run out of money.

The place to learn the fundamentals required to create a comfort level with this strategy would be an investment club like the regional groups of AAII — the American Association of Individual Investors. Or, consider forming your own investment group and share what you know.

Any people collaborating will be smarter than the single most intelligent person in the group. You can even make mistakes and still be ahead of where the financial industry might have taken you.

Steve Butler is author of “Spending Your 401(k) — How to Live a Life and Not Outlive Your Retirement Resources.” Available for free at www.pensiondynamics.com. Talk to Steve at 925-956-0505 ext. 228 or sbutler@pensiondynamics.com