GENERAL INVESTMENT QUESTIONS
Q: Can you suggest a good investment book for beginners?
A: One of the best is Everyone’s Money Book (Third Edition)
by Jordan E. Goodman (Dearborn Financial Publishing, Inc., $26.95).
It’s a comprehensive yet lucid look at an array of investment
concepts, products and services, well-laced with references to additional
resources. Another is Dictionary of Finance and Investment Terms,
by John Downes and Jordan E. Goodman. (Barron’s Financial Guides,
$13.95). Thousands of terms used in the complex lexicon of Wall
Street are clearly explained, in a book easily carried in a purse
or a briefcase.
Q: What is the best way to put money away to pay for a
child’s college education?
A: We suggest that parents and grandparents invest as much as they
can afford as early as they can.
To determine how the account should be titled and just what the
tax implications will be over the years, we suggest those setting
up the accounts consult their estate attorney and/or their tax accountant.
Some grandparents name their son or daughter as the beneficiary
and some parents simply hold the funds in their own name. It’s
important to know that an account held in the future student’s
name means he or she will gain full control of the money at majority
age (18 in most states) and can do whatever he or she wishes with
the money. We want the person setting up the college account to
be totally in charge.
But a 529 College Saving Plan might be helpful as long as the risks
and complexities are explored. In California contact the Golden
State ScholarShare College Savings Trust, ScholarShare.com.
For other states log onto SavingForCollege.com.
Q: How do I measure the amout
of life insurance I need?
A: First, you must decide if you need life insurance at all. If
no one will suffer financially as a result of your demise, you don’t
need life insurance. The amount of life insurance sold by the pushy
life insurance industry to people who don’t need any must be
staggering. If someone will need a lump sum payout upon your death,
and nothing more, then it’s a simple matter of matching the
coverage with that amount. If someone is going to need income enhancement,
then base the coverage on the amount it would take to produce that
income, over time, say a reasonable return of 5 percent. If you
need insurance, buy straight term insurance only, not one of those
glitzy whole life or universal policies, and buy it from one of
the toll-free shoppers, such as SelectQuote, 1-800-343-1985. You’ll
get a good deal and save money.
Q: Variable annuities, baskets
of mutual funds that are treated to tax-deferred growth, seem to
be very popular. Who should buy these and where can information
be obtained?
A: The variable annuity is a prime example of an investment that’s
dangerously popular. Too many people buy it for its tax-deferred
status and because it carries a death benefit. But they overlook
or misjudge the fact that mutual funds in an annuity contract, while
they might carry popular names, are not the same time-honored performers.
Add to that the fact their annual fees are very high so the insurance
company can siphon money to cover the insurance mortality risk,
and that annualy imposes a steep surrender charge on anyone who
bails out early. A surrender charge might run 7 percent in the first
year, tapering off to a free exit in the eighth year.
Q:I put $100,000 into a Treasury
bond fund 18 months ago and today the value is down to $90,000,
and at the same time the income I receive from the fund has fallen.
I thought such a fund would be perfectly safe since it’s backed
by the government and I thought my income would go unchanged. What
happened?
A: Your fund has been victimized by rising interest rates. When
interest rates rise, bond prices fall, including the net asset value
(price-per-share) of bond funds. This bitter, unrelenting fact confounds
the public and is rarely properly explained by brokers selling bonds
and bond funds. At the same time, the interest rate a bond fund
pays is not fixed because the fund manager is triggering shifts
by buying and selling bonds in the portfolio. Add to that the fact
that a bond fund never matures, so there’s no future date upon
which an investor can escape with his or her principal intact. Your
fund is government-backed, but that makes no difference because
you’re not fighting credit risk, but rather interest-rate risk.
Credit risk is the chance that the bond issuer will default on principal
and interest payments. That won’t happen. But interest-rate
risk is very real and effects all bonds and bond funds, more heavily
when maturities are long. It would have been better to have bought,
for example, individual two-year Treasury notes, which would have
given you a fixed income and a maturity date on which to recover
your principal.
Q: How do my friends and I go
about starting an investment club?
A: Contact the National Association of Investors Corp. Madison Heights,
MI, 1-248-583-6242, the parent body of investment clubs. It will
send you enrollment information, guidelines to follow and research
ideas. Stick by the rules. A large number of clubs fail in the first
year or so because they don’t.
Q: The Federal Reserve Board
raises interest rates to “cool off the economy,” as the
saying goes. What’s wrong with a hot economy, and how do high
rates cool it off. It seems that would make it hotter.
A: The main target of the Federal Reserve is the rate of inflation.
In an unbridled economy, more people go to work, receive higher
pay and are willing to pay more for goods and services. Companies
borrow more to step up production. Such ripples can hike the consumer
price index, the inflation gauge. Higher rates discourage commercial
borrowing and this leads to a reduction in production. That’s
the ideal chain of events, but it doesn’t always work out that
way. Rising interest rates hurt stock and bond prices and stifle
mortgage borrowing, but can be a boon to those in interest-bearing
investments.