Monday Morning Quarter-Buck 02-20-2017

"Think about every problem, every challenge, we face.  The solution to each starts with education." – George H. W. Bush

Happy Post-Presidents Day!  We hope you all had a wonderful weekend!

Just a reminder, for my Corning, New York clients - even if you gave your sweetheart a gift, be a hero and support a great cause by taking them to dinner this coming Saturday, February 25th!  Please see the attached flyer for information on the Corning Community Food Pantry's annual Spaghetti Dinner - don't miss a great dinner for a great cause!

Thanks for all the great feedback on last week's blog!  So now I know, comparing investing to food helps you understand and shows you all have a great sense of humor!  For those of you just joining in on the blog, in late January, I had a great conversation with a client about "learning" how to invest so that our conversations would be more engaging.  This prompted me to ask a few more clients if they would be interested in an investment 101 series for the month of February; the feedback I received was a resounding YES. So, I decided to break the series down into four-parts:

The Security Exchange Commission (SEC) has a "Guide for Investors" publication that really digs into the basics of both mutual funds and ETF's (here's the link to their site: https://www.sec.gov/investor/pubs/inwsmf.htm).   The SEC defines a mutual fund as a "company that pools money from many investors and invests the money in stocks, bonds, short-term money-market instruments, other securities or assets, or some combination of these investments.  The combined securities and assets the mutual fund owns are known as its portfolio."

I like to explain mutual funds in the following manner - think of a smoothie that you mix up in a blender, you have the following ingredients:

  • Milk (Short-term money-market instruments)

    • You can have various types of Milk, such as regular milk, skim milk, almond milk, etc. - regardless, it won't last a long time and is fairly bland in nature.  Not a lot of risk with regard to market fluctuation, but can have inflation risk.

  • Banana (Bonds) - we walked through those last week

    • They can come in various sizes, terms and regions

  • Protein Powder (Stocks) - those were discussed in part 1

    • Protein powder can come in various forms (i.e. Plant, Whey, Soy, etc.) and is meant to help you build muscle for the long run, similar to stocks.

 

Mutual funds can have a very specific investment focus, for example you can have a mutual fund that will only put one type of ingredient in the blender, or it can contain all the ingredients mixed up together.

For example, the Vanguard Prime Money Market fund is only short-term money market instruments, you are working with one ingredient.  So you're just adding milk to the blender - nothing else.  However, the milk that's being added is from a number of different containers - so if one goes dry, you don't feel the pain of not having any milk.

Taking it a step further, one of the funds I use is the USAA Short-Term Bond Fund; recall last week we talked about how those "banana's" can have different maturity duration and risk.  What this mutual fund does is select a bunch of different kinds of banana's for the blender, with maybe a little "milk" on the side, but no protein powder (stocks).  So instead of owning just one bond (banana), you actually own 493.  Again, this cushions the pain if one bond goes "bad."

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When it comes to stocks, you can pick a stock portfolio that is narrow in nature (such as an energy focused portfolio) or you can go very broad based (such as the Vanguard Total Stock Market portfolio).  Think of these funds in the following manner: the energy fund is going to one kind of protein powder from the same source (i.e. soy), whereas the total stock market fund is going to have a little bit of each type of protein powder.  Notice the difference below - how the energy fund has just one "sector" and the total stock market portfolio has a number of different "sectors?"

 Energy Fund

Energy Fund

 Total Stock Market Fund

Total Stock Market Fund

Then there are mutual funds that mix up all the ingredients of a smoothie, often called a target date or balanced fund - notice how there are different kinds of protein (large cap, mid cap, small cap, non-US), different kinds of bonds (investment grade, high yield, non-US) and the milk (cash equivalents):

Of course all this mixing and blending has a cost associated with it, so be sure to watch for the underlying cost, and make sure if they cost more, they are delivering better flavor (performance).

I hope you enjoyed this week's blog, wishing you a wonderful week!