Compound Interest, 8th Wonder of The World

The 8th Wonder of The World

A Simple Idea.

Charlie Munger, the vice chairman of Berkshire Hathaway says, “Take a simple idea and take it seriously”. The simple idea that should be taken seriously by every investor is the ability to earn compound interest on your savings over the coming decades.

Compound Interest and College Fees

Let’s look at a simple example. We all want to give our kids, or even our grandkids, the best possible start in life and a good education is half the battle. However, education, particularly third level education does not come cheap. College fees may be free, but other costs certainly add up. Conservative estimates suggest annual costs vary, but begin from €10,000 to €12,000. Currently, the monthly child benefit amounts to almost €300 per month for two kids. Take the following scenario: 

  • Save €300 per month.
  • Investment strategy is market related.
  • Timeframe is for 10 years.
  • Assume annual interest rate, net of costs, is 5% per annum.
  • No indexation of contribution applies here.

Compound interest adds €11,544 to the value of your investment. We’ll leave you contemplate the difference between this and the current deposit based returns, which are small fractions of 1% per annum. Simple interest would have added €1,800 over the 10 years.

Snowball Effect

Think of compounding as like a snowball rolling down a steep hill. As it gathers more snow along the way, momentum increases and the ball becomes deeper and broader as it moves forward. Compound interest is amazing but just like most things in life, there’s no free lunch. The simple truth is that it takes a long time to work. To get the rewards you have to stick with it and stay the course during good times and bad. Problems arise with the snowball if you start making withdrawals, a 10 year horizon rather than a 10 month plan is required.

Investment Plans @ 5% p.a.

Focusing on trying to grow your wealth by compounding is a key element of any investment plan. The same applies with retirement plans. Just take a look at the graph below which JP Morgan Asset Management created to illustrate the power of compounding. One line shows the example of somebody starting to save at 25, let it be for retirement. This clever person that starts to save at 25 years old, accumulates circa €284,000 more in retirement funds than the person that starts at 35 years old. The 35 year old has still done well!

Investment Returns – What to Expect From Here.

Perhaps you are wondering about the 5% return piece of this jigsaw. Complex investment options can give the illusion of control. Our theory is that advice doesn’t have to be complicated to be good. Equities have delivered the best investment returns for investors over the long-term. Despite various recessions, business progress has been the order of the day in developed and democratic countries. Equities, which are essentially a collection of businesses, have reflected this.

The MSCI World Index has generated 10 year annualised returns of 7%, 6% and 12% for each of the last 3 decades, respectively (see table below). In our view the easiest way to ensure that a portion of your money will compound at a consistent rate over the coming decades is to invest in a strategy that gives you exposure to world equity markets.

We help you invest in portfolios that focus on large and medium sized companies that are globally diversified. Focusing on dividends plus dividend growth is, in our opinion, the most reliable way to invest in and make money from equities over the longer term. This applies particularly in today’s extraordinary bond market environment, where so many Euro government bonds have negative yields.

Meanwhile, European investment markets remain some 35% below its March 2000 highs, while Emerging Markets equities remain some 25% below their October 2007 highs. Japan is still 45% below its 1989 peak. The world is still concerned about global trade wars, rising Middle East tensions, Brexit, a slowing global economy, a possible recession next year, slowing industrial production, earnings estimates being revised down, possible impeachment of President Trump, etc. 

We do understand these fears, but perhaps investors are too negative in their views. In summary, while we are very aware of the global issues out there. Cautious optimism is a better market view than pessimism – Just look at the investment returns below for the disciplined investors availing of the eighth wonder of the world (Albert Einstein).

 

Pat Leahy, Certified Financial Planner.

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Investment Book Recommendation

The Little Book of Common Sense Investing
by John C. Bogle is probably the only investing book you’ll ever need to read. At the 2017 AGM of Warren Buffet’s company, Jack (John) Bogle was introduced as the “person who has done the most for the American investor.”

What is the Investment Outlook

What’s the Investment Outlook? Covid-19; What is the Investment Outlook? Covid-19 is first and foremost a human tragedy While markets were aware of COVID-19 in China, the catalyst for the market drop in late February was when the virus hit Europe. Then it became clear...

Step 2 – A Guide to Successful Investing

INVESTMENT PLANNING

Step 2: A Guide To Successful Investing

Pat Leahy, Certified Financial Planner

Looking back over the last decade, if you had the ‘misfortune’ of investing in a fund that tracks the performance of global stock markets (MSCI All Country World Index) you would have experienced a temporary decline of -38% for the calendar year 2008. If you had the ability to remain invested, your money would have recovered, and your initial investment would have grown by 129%, as at the end of April 2019.

Step 2 – A Guide to Successful Investing

Keeping your Emotions in Check

Ben Graham, the legendary investor once said, “The investor’s chief problem, and even his worst enemy, is likely to be himself”. In theory, investing is relatively straight-forward, but it is not always easy, simply because money is emotional.

Psychologists have found that here are typically four conditions that can lead to poor decision-making:

  • When there is incomplete information.
  • When the problem is complex.
  • When we interact with others.
  • When we are involved in a stressful situation.
  • The above conditions are all met when we invest. How can we help make better investment decisions?

Nobel Prize-winning psychologist Daniel Kahneman showed in his research that because of a bias called the affect heuristic, the human brain is very quick to make decisions based on intuitive feelings or hunches that require little thought. As we are continuously bombarded by information, this decision- making process, that Kahneman calls System 1, works wonderfully well for mundane everyday decisions. Unfortunately using System 1 type decision-making is never ideal when investing.

Kahneman also found that there was another part of the brain that is effective in using logic to make more reflective, clearer, and thoughtful decisions. He called this system 2, where people take the time to slow down and avoid making impulsive decisions. Slowing down and making long-term decisions is a start but it isn’t the only difficulty we face.

The hardest thing of all is to not get emotionally involved. We have a panic button which springs to life at perceived danger. When stock markets fall, or recessions are predicted we panic-sell. Interestingly, humans are fascinated in trying to seek patterns where none exist, a concept known as pareidolia. This is particularly acute when we try to look for and try to make sense of the movements in the stock market.

Learning to deal with your emotions is a crucial part of successful investing. Investing isn’t only about understanding what to invest in, it’s also about understanding how our own natural human inclinations and cognitive biases can wreak havoc on our decision-making process. You might be thinking to yourself that I’m a reasonably smart person. Surely, I’m smart enough to avoid these biases! Unfortunately, we are all prone (including financial planners & investment advisors!) to them.

Here’s what Henrik Cronqvist & Stephan Siegel had to say in their book, “Why Do Individuals Exhibit Investment Biases?”

“We find that a long list of investment biases for example, the reluctance to realize losses, performance chasing, and the home bias are human, in the sense that we are born with them. Genetic factors explain up to 45% of the variation in these biases across individuals. We cannot find any evidence that education is a significant moderator of genetic investment behavior.”

Emotional intelligence and an understanding of behavioural biases have a huge influence on us all. The simple message is that learning about biases will help you become a better investor.

If we can help you further, do let us know.

As always do not hesitate to contact Infinity Financial Planning with any questions or queries that you may have by emailing pat.leahy@infinityfinancial.ie

Kind regards,

Pat Leahy

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Step 1: A Guide To Successful Investing

INVESTMENT PLANNING
Step 1: A Guide to Successful Investing
Pat Leahy, Certified Financial Planner

Good morning,

Trying to understand financial markets by tracking the daily media headlines (Brexit, Trump, China etc) can become a distraction for those who want to build long-term investment solutions. We have recently compiled a Short Guide to Successful Investing.

A Guide to Successful Investing: Step 1

Understand How Markets Work

Over the long-term, which we define as over 10 years, the two most important factors that drive investment returns are:

1. The increase in long-term dividends,
2. Earnings growth of companies that make up the market.

How much people are willing to pay for those earnings and dividends will change constantly. In the short-term, this will lead to speculation and sometimes wild gyrations in the value of the stock market. Even in the medium-term, the long-term average market performance is made up of many periods of that are decidedly below average. We are often asked why the stock market increases over time.

Investors should plan for frustrating periods, volatility, uneven results, and even a stock market crash. Over time though, investors will continue to value the stock market based on the income they receive (dividends) and capital appreciation (fuelled by earnings growth). Successful investors know how the stock market works and are prepared to “stay the course” and continue to invest to reap the long-term financial rewards. See the cumulative return figures below over the 10 year, 20 year and 30 year period as evidence of the rewards, which successful investors, pay attention to:
The over-riding lesson here is that successful investing involves learning to deal with your emotions and being aware of behavioural biases. Try to remember that today’s media headlines are unlikely to have any significant bearing on the long term value of your investment. Successful investing is about time in the market and emotional intelligence to ‘stick with it’. Start with a strong market related philosophy and understand the drivers of return over the long term.

Have a Very Happy Weekend.

We will follow up with Step 2 in the near future.

As always do not hesitate to contact Infinity Financial Planning with any questions or queries that you may have by emailing pat.leahy@infinityfinancial.ie

Kind regards,

Pat Leahy

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Will I have enough?

Will I have enough?

INVESTMENT PLANNING

Will I have enough?

Pat Leahy, Certified Financial Planner

Welcome to the latest edition of the Infinity Financial Planning newsletter.

Time never stands still. Everything in the world seems to be moving at a quicker pace than before. Nowadays, the most common question we answer for the people we deal with is ‘Will I have enough?’. We are continuously looking for ways to improve how we answer this question and add proper value. As Certified Financial Planners we are continuously evolving. Information gathered and used in the right way can help create a realistic financial plan.

5 Ways Infinity Financial Planning Add Value:

1. Truly Independent & Objective Advice

For many of us, money, although we may not what to admit it, is a very emotional subject for us and our families. It often hard to talk about, difficult to make decisions about, and it’s particularly difficult to make totally objective decisions. Part of the value of having a trusted advisor is a second opinion, someone who is completely independent of you or your family, who can provide advice without emotional attachment. In our experience, most individuals benefit greatly from an independent source of advice that allows you to focus on enjoying life instead of worrying about money.

2. Confidence

Our initial complimentary consultations typically begin with a discussion about your investment portfolio, and your insurance policies. This transpires over time to a relationship that covers every aspect of your financial life. We try to give you the confidence and reassurance to know that while you are above ground, what type of lifestyle you can afford, and furthermore if you weren’t around, that your family would be taken care of.

By using lifetime cash-flow modelling tools we help you create a financial plan that matches your priorities and fits your lifestyle.

3. Asset Allocation

Considerable academic studies have shown that over 90% of variations in funds’ investment returns were attributable to the underlying strategic asset allocation. Setting an appropriate strategic portfolio mix, between equities, bonds, and other asset classes, is a starting point for all our clients before considering investment selection. This important decision will have a big impact on your investment outcomes.
“Wealth isn’t primarily determined by investment performance, but by investment behaviour.” Nick Murray

4. Behaviour

When asked how the stock market will perform, the financier JP Morgan said that “it will fluctuate”. We recognise that while investing is a long-term activity, the long-term is made up of a series of short-terms which can be difficult for investors. Because investing evokes emotion, we look to help you maintain a long-term perspective and a disciplined approach. We aim to help our clients to handle periodic volatility without abandoning their investment plan.

5. Tax

There are distinct measurable benefits to enlisting the services of a Certified Financial Planner, including disciplined rebalancing and tax loss harvesting. Also, the allocation of assets between taxable and tax-advantaged investment accounts, is one area we can add value each year, with an expectation that the benefits will compound through time. Deciding where to allocate assets from a taxation perspective is crucial to a client’s overall financial plan.

How we invest

“To invest successfully over a lifetime does not require a stratospheric IQ, unusual business insights, or inside information. What’s needed is a sound intellectual framework for making decisions and the ability to keep emotions from corroding that framework”

Benjamin Graham, (1894-1976) Legendary American Investor, scholar, teacher, and author of the book, “The Intelligent Investor”

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Reduced cost and acting in your best interest

Reduced cost and acting in your best interest

INVESTMENT PLANNING

Reduced Cost And Acting In Your Best Interests

Pat Leahy, Certified Financial Planner

Good morning,

Welcome to the latest edition of Infinity Financial Planning newsletter.

An Homage to John “Jack” Bogle

In this month’s update we simply want to take a moment and honour the life of an investment giant who has positively impacted the lives of millions of investors.

On 16th January, Vanguard founder John “Jack” Bogle, passed away at age 89 in his home in Pennsylvania.

If you search the Internet for “Bogle” or browse any news source you’ll soon be immersed in a universal outpouring of respect for the man. Rightfully so. His lifetime commitment to opening the doors of Wall Street and tearing down its long standing traditions is unmatched.

Throughout his career he was ridiculed by others in his industry and the establishment, for his consistent approach of looking after the client first and believing that this will result in his business being successful. The Vanguard Group now manages $5.1 trillion, making it one of the largest asset managers in the world.

Clients have given Vanguard business for the following reasons:
* His focus on reducing costs for investors.
* He insisted on being a fiduciary, in other words acting in his client’s best interests,
* The Vanguard approach does not involve hyperactive and costly trades,
* His aim was to provide transparent financial care.

These reasons may seem obvious today, but it was largely Bogle who conceived them all. Within Wall Street and the investment fund industry he was ridiculed for doing so. He did not care; he spoke up anyway, every chance he got.

Bogle’s legacy makes that abundantly clear. Day by day, year after year, his consistent approach was to ‘stay the course’ through good and bad times.

Here at Infinity Financial Planning we are signed up members of Jack Bogle’s approach. We aim to provide clarity, confidence and control through a personalised ‘master financial plan’. We will continue to help you build the plan, fund the plan, and most importantly ‘stay the course’.

As always do not hesitate to contact Infinity Financial Planning with any questions or queries that you may have by emailing pat.leahy@infinityfinancial.ie

Kind regards,

Pat Leahy

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Will Alternative Assets Add Value Over the Long-Term?

Will Alternative Assets Add Value Over the Long-Term?

Should you consider investing in alternative assets?

JP Morgan recently released some data around alternative assets. Alternatives, generally include investments such property, infrastructure funds, private equity, and hedge funds. JP Morgan argue that allocating 20% of a typical balanced portfolio to alternatives, there is the potential to increase the annual return of the portfolio by approximately 1% per annum. In a world of lower investment returns, this looks interesting. There are, however, a number of caveats to consider before you decide to look more closely at this investment strategy. For example, here are three questions you should ask your financial planner:

1)Will the extra investment returns be eaten up by fees? Typically, alternative assets have higher fees than more ‘traditional’ asset classes, such as equities (shares) and government bonds.

2)By including alternatives assets in my portfolio; will they help smooth the investment journey by lowering the volatility of the portfolio?

3) Will alternative assets add value over the long-term?

Question three may be answered by data from the US. A number of high profile universities, such as Harvard and Princeton, have increased their exposure to alternative assets over the last few decades. Ben Carlson, a Director of Institutional Asset Management at Ritholtz Wealth Management, has found that these strategies have failed to do better that a simple balanced fund, consisting of 60% equities/40% Government Bonds (see table below). In other words, the added complexity and cost of alternative assets did not add value. We believe that over the long-term you will have a better investment experience by keeping things simple.

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