Roadmap To Recovery

Roadmap to Recovery

An 8 Step Plan to Rebuild Your Finances After the Shock By John T. McCarthy CFP® McCarthy Grittinger Weil Financial Group Your Anxiety Removal TeamSM

Roadmap to Recovery An 8 Step Plan to Rebuild Your Finances After the Shock Roadmap to Recovery is written in response to the unprecedented financial, economic and market storm that has battered investment portfolios, cracked nest eggs, derailed financial and retirement plans, shaken confidences and left investors uncertain how to proceed. This compact guide is full of timely and practical information and direction on how to survive, succeed and move forward in this unsettled economic climate. All Rights Reserved About the Author John T. McCarthy CFP® is the founder and managing principal of McCarthy Grittinger Weil Financial Group and a 25-year veteran of the financial planning industry. John is the author of three books. The financial life planning book Embrace the Journey—Stories of Life and Finance (2008), The New Millennium Guide to Managing Your Money (1998), and Financial Planning for a Secure Retirement (1991, 1996). He is a graduate of the Business School of Marquette University which he attended on an Evans Scholarship. John resides in Wauwatosa, Wisconsin, with his wife Cathy, and their three children. About Us McCarthy Grittinger Weil Financial Group, LLC is an independent SEC registered financial planning and investment advisory firm based in Milwaukee, Wisconsin. Established in 1995, we hold ourselves out as Your Anxiety Removal TeamSM and serve some 250 individual clients. A firm specialty is advising clients facing financial and life transitions. Contact Information McCarthy Grittinger Weil Financial Group One Honey Creek Corporate Center

125 S. 84th Street, Suite 130 Milwaukee, WI 53214-1498 Phone: (414) 475-1369 Fax: (414) 475-0613 Website: www.mgfin.com DOWN THE ROAD -- AN INTRODUCTION For the past year there has been no place to run, no place to hide, from an historic market collapse. We have suffered a dreadful shock to our financial lives, eerily similar to an earthquake. The initial shock has been quite an awakening. Tremors are still being felt in its aftermath, and there is fear of aftershocks to come. While this economic, financial and market disaster has been severe, it now appears to have been something short of calamitous. Spring has finally replaced the long, hard winter and with it brings the promise of renewal and a fresh start. On almost a daily basis, increasing evidence indicates the economy eventually will pull out of this deep and protracted recession and the stock market escape the claws of a particularly brutal bear market. Just recently, President Obama spoke of seeing “glimmers of hope” in the U. S. economy. Federal Reserve Chairman Ben Bernanke has spied “green shoots” sprouting from the barren financial landscape. Economic advisor and former Fed Chief Paul Voelker sees the economic downfall leveling off. After months of declining, consumer confidence levels have begun to rise. The stock market has rallied some 30% and demonstrated resiliency and lower volatility since reaching a bear market low of 6547 on March 9, 2009. As of the end of May, the S&P 500 has managed to climb back into positive territory for 2009, boosted by a 5.3% gain for the month. Its three-month gain of 25% was its biggest three-month rise since August 1938. The tech-heavy Nasdaq is up a reassuring 12.5% year-to-date. Global markets have also recovered some from the severe hits they suffered during 2008. A welcome change of tone has lifted the veil of gloom and doom over the past several weeks, suggesting, just maybe, the worst is behind us. In the fall of 2008, there was prevalent a very real fear the entire global financial system could collapse, throwing us into the depths of another Great Depression. With every passing day, it appears more likely such a full-blown nightmare scenario has been averted. This welcome realization has been accompanied by a 2

collective sigh of relief. No matter how faint, there is light at the end of the tunnel, the unknown factor being the length of that tunnel. There is universal agreement we have been living through a financial crisis of historic propositions. For a better understanding, it might be beneficial to briefly recap how we came to find ourselves in this quagmire. The first problems surfaced in 2007 when the subprime mortgage market imploded, precipitating a widening credit crisis. The collapse of the housing market, coupled with rapidly rising energy costs, pushed an already weak economy into recession and panicked the stock market. Despite a recent welcome relief rally, Dow stocks are still some 40% below their all-time peak of 14,164 reached on October 9, 2007. This high-water mark was the culmination of a five-year bull market run. It will take time for equities to again be valued this highly. No one can know with certainty, but knowledgeable forecasters suggest it could well take seven years, until 2016, before we get back to record high valuations. As consumers, investors, and participants in the overall economy, we have been operating in a financial daze since Monday, September 15, 2008. On that fateful day, major investment bank Lehman Brothers collapsed, the Dow lost 500 points, a massive federal bailout of insurance giant AIG was instituted, and a forced sale of Wall Street brokerage titan Merrill Lynch was hastily arranged with Bank of America. In the frightening days that followed, institutional money market Reserve Fund fell in value below a stable dollar, Indy Mac Bank failed and had to be rescued by the FDIC, and mortgage heavyweights Fannie Mae and Freddie Mac broke down, forcing a bailout by the federal government and taxpayers. The economy literally seemed to fall off a cliff, so sudden and swift was its demise. Consumers, business owners and corporate managers were emotionally frozen. The economy tanked, unemployment lines swelled, corporate profits disappeared, and home values dropped, while foreclosures rose. Perhaps most telling, American icon GM now is in bankruptcy. During the first quarter of 2009 the economy continued to slide deeper into recession. Consumers at all income levels cut back sharply on spending, and job losses continued to increase exponentially, further slowing our consumer-driven economy. 3

Personal net worth has shrunk precipitously over the past year-and-a-half from the double-whammy of a hit to values of both our homes and our investment portfolios. There is more than enough blame to go around for this colossal mess. Take your pick from among any or all of the following culprits: greedy investment bankers, unscrupulous mortgage brokers, hedge fund speculators and inept government regulators, asleep-at-the-wheel rating agencies, spend-and-not-save consumers and politicians of both parties. Whatever the contributing factors, it is not fruitful to look back with angst. Rather, renewed energy should be focused on picking ourselves off the floor, dusting ourselves off and moving forward to restore our financial equilibrium. With the ferocious financial and economic storm having mercifully subsided, or at least paused in a lull, now is the time to develop strategies to recover from our losses, rebuild battered investment portfolios and regain net worth. As we search out a path forward, it may be helpful to review parallels to the anxious period following the stock market crash in October of 1987. On Black Monday, October 19, 1987, the Dow suffered a history-making one-day loss of 22.6%. The November 29, 1987 issue of the New York Times financial planning guide accurately describes the dilemma facing many individuals in that post-crash era: The enormity of the October 19 collapse has shaken most of the assumptions that guided individuals’ investment decisions and shaped their economic outlook. Today, no one is entirely sure what new assumptions should prevail. The one certainty seems to be uncertainty itself. People are uncertain about how sound the economy is, uncertain about where the markets are going, and uncertain about how to plan or what to assume in an investment strategy. Like then, the big question now is where we go from here. To navigate the turbulent seas we have been facing, it is helpful to seek the wisdom and perspective of seasoned skippers on how best to survive these difficult waters and safely reach our financial life-planning destinations. One such individual is the late John Templeton. This legendary value investor, founder of the Templeton mutual fund group, and noted philanthropist died at the 4

advanced age of 95 in 2008. Templeton used to say that adversity is a great teacher. There are always lessons to be learned, mistakes to be avoided and opportunities to be exploited. This is especially relevant and valuable today in the midst of what is perhaps a once-in-a-lifetime economic storm. To guide us, we have developed the following 8-step plan. This roadmap is characterized by an emphasis on hope, simplicity, common-sense rational behavior, real life examples, historical perspective and tried-and-true strategies for success. Step 1.

Keep Hope Alive

Step 2.

Keep It Simple

Step 3.

Don’t Give Up on the Stock Market

Step 4.

Retool Your Financial Plan

Step 5.

Fear & Greed and Irrational Investing

Step 6.

Refocus Your Investment Plan

Step 7.

Avoid the Big Mistakes

Step 8.

Look Up and Out To The Year 2020

Step 1. Keep Hope Alive At our independent financial planning and investment advisory firm, we hold ourselves out as Your Anxiety Removal TeamSM. To say this current environment has been testing would be an understatement. In seeking to help our understandably nervous clients cope with this unprecedented tsunami of a market and economy, we recently teamed up with professional psychologist Robert M. Dries, PhD, to co-lead a series of client education sessions. At our April 2009 program, with evidence the financial world is not coming to an end, the theme shifted from the sky is falling to one of it’s safe to lift one’s head and climb out of the bunker. 5

As victims experiencing this storm, we felt vulnerable, unprotected, and lacking in control. What is called for is adopting a psychologically healthy mindset. This is accomplished by focusing on bounce-back resiliency, fostering hardiness, and creating hope. Hope is the most important, even an essential attribute to possess, in order to start the recovery process. Bob Dries urged attendees to look at the glass as being half-full, see light at the end of the tunnel, have conviction that positive beliefs will come true, and think this period may well be the narrowest part of the hour glass. Experienced investors know, “this too shall pass and good days will come back. They know there is hope.” Forbes November 10, 2008

John Templeton shared a trait with other successful individuals and investors— a confident and optimistic view of the future. He was consistent in being characteristically upbeat about the long-term outlook for ownership in stocks. Templeton was firm in his conviction that technological advances would continue to spur profit-making opportunities here and throughout the world. It is inspiring to learn that Sir John Templeton (knighted by Queen Elizabeth in 1987 for his philanthropic work), remained optimistic to the end of his long life. In 2007 he wrote, “Throughout history, people have focused too little on the opportunities that problems present in investing and in life in general.” He left us with this comforting view: “The 21st century offers great hope and glorious promise, perhaps a new golden age of opportunity.” Many investors sorely miss the calming influence and unbridled optimism of Louis Rukeyser, who died in 2006. His nationally acclaimed program ran for 32 years. In times like this, we could use a dose of Rukeyser’s steadfast optimism about the promise of America and his core belief that stocks will continue to grow in value over the long-term and the U.S. economic system will continue to compete and prevail. Over the many years of his program, Lou always dismissed rampant pessimism and derided overly bearish sentiment by adopting a glass-half-full optimism. Had cancer not ended Rukeyser’s life, it is likely he would still be on the air, reassuring us and emphasizing the good news of the market. Sitting in his large 6

leather chair, it was his custom at the conclusion of his popular weekly TV show to sign off with his trademark wink that signaled to nervous investors, “Keep the faith.” One high profile executive keeping the faith and looking forward with confidence is Boeing Chairman and CEO Jim McNerney. Despite seeing Boeing’s profits, orders and stock price plummet this past year in what McNerney referred to as a “once-in-a-lifetime” slump, he told shareholders at the annual meeting in April he is quite optimistic that the airline manufacturer’s fortunes will recover and soon soar again. Accomplished author and Reagan speechwriter Peggy Noonan addressed the cloud of pessimism and crisis of confidence that hangs over America in her December 21, 2008 Wall Street Journal column. For seasoned counsel and perspective in this article, Noonan called on former Secretary of State George Shultz. She asked the 88 year old statesman if there is reason to be optimistic about America’s fortunes and future. His reply was unequivocal. “Absolutely,” he said, “there is every reason to have confidence.” A former economist and university professor, Shultz defended his optimism, noting “the ingenuity, the flexibility, and the strength of the national economy.” In this same column, Noonan states it is unlike Americans to believe the best is behind us. Despite the current sorry state of the economy, she forcefully reminds us, “We are the largest and most technologically powerful economy in the world, the leading industrial power of the world, and the wealthiest nation in the world.” Both Noonan and Shultz are fully mindful of the difficult challenges we face as a nation. On the economic front, however, Noonan points out, “we are building from an extraordinary, brilliant and enduring base.” Shultz, who served as both Secretary of Labor and of the Treasury, spoke the hard truth by observing that as individuals and as a government we have been living beyond our means. He feels we should view this current crisis as “a gigantic wake-up call.” America has experienced 13 economic recessions in the last 80 years, yet resolutely fought back each time with 13 economic expansions. In the long history 7

of the economy in general and the market in particular, optimism has been rewarded far more often than pessimism. The inimitable Winston Churchill gave us this valuable insight: “An optimist sees an opportunity in every calamity; a pessimist sees a calamity in every opportunity. I am an optimist. It does not seem too much use being anything else.” To be a successful investor requires a confident view of the future. Glenn Hutchins, co-chief executive of technology investment firm Silver Lake, is someone who gives us reasons to be optimistic and believe. In a recent issue of Fortune, Hutchins makes the sunny case that Americans will be led forward to a bright future by scientific advances, innovation, and entrepreneurship, fueling a quarter-century of prosperity. He writes: “The way out of the doom and gloom of the 1970s—a period much like today—was a wave of technology innovation that spurred a generation of company formation, job creation, productivity gains, wealth accumulation, and GDP growth. Today’s opportunities are just as big if not bigger.” Hutchins and other futurists point to exciting breakthroughs on the cusp in green energy technologies, biotechnology, cloud computing, stem cells and nanotechnology, among a crop of fertile fields ripe with growth and innovation. Former GE corporate titan Jack Welch and his journalist wife Suzy put out a weekly column in BusinessWeek. In a recent article, they presented this optimistic assessment of the future. “Look, we’re not Pollyannas. It’s human to view your own difficulties as the worst of times. But this painful but necessary correction will result in a healthier, deleveraged society with a renewed focus on productivity, innovation, and better governance. The end is not here. A new beginning awaits.” Step 2. Keep It Simple Much of the blame for the colossal financial and credit crisis in which we find ourselves mired is due to complex financial instruments such as the widespread use of CDOs (collateralized debt obligations). In the wake of the turmoil, it is now abundantly clear that too few fully understood the underlying risk of these exotic investments, suffered severe losses, and as a result, ignited this crisis. 8

A case in point close to home involves the pending lawsuit where five school districts in Southeastern Wisconsin are suing an investment firm and international bank to recover $200 million they invested in collateralized debt obligations. The lawsuit alleges the investment firm misled the school system into making, what is now referred to as complex investments, that have since suffered massive losses. “As a general rule of thumb, the more complexity that exists in a Wall Street creation, the faster and farther investors should run.” …David Swensen Chief Financial Officer Yale University

Vanguard founder John Bogle has been on a crusade to bring simplicity and common sense to investing over his entire career. In this courageous battle, he has been a loud and fierce critic of Wall Street and the investment management industry as a whole for aggressively promoting, manufacturing and distributing complicated, costly and underperforming investment products on gullible investors. At age 79, and with his transplanted heart of 13 years starting to fail him, Bogle nevertheless continues with his motto to “press on regardless” on his bold mission. The events surrounding the worst bear market and economy he has ever seen only serves to increase his zeal and conviction. To quote from Bogle’s book, Common Sense on Mutual Funds, in a section titled, “When All Else Fails Fall Back on Simplicity,” Bogle says, “Never underestimate either the majesty of simplicity or its proven effectiveness as a long-term strategy for productive investing. Simplicity indeed is the master key to financial success.” In keeping with the simplicity theme, we recommend you limit your stock investments solely to quality no-load, low-expense mutual funds and ETFs (exchange-traded funds). Yet, in the wake of the massive stock market meltdown of 2008, there will be a chorus from those naysayers who say that mutual funds don’t work and are a failed strategy. The truth is stock mutual fund investors were savaged like everybody else, as there was no place to hide or escape from this brutal market. However, it would be a major mistake to abandon these simple but effective investment vehicles. At our investment advisory firm, we are sticking with the tried-and-true and building and maintaining our clients’ portfolios using mutual funds and ETFs for the equity allocation. There exists no better or proven prescription than mutual funds for restoring sick portfolios to health. 9

Diversified mutual funds provide a crucial risk-reduction mechanism when compared to the single-issue risk inherent in individual stock ownership. This is valuable when you realize that over a quarter of all stocks in the universe suffered a startling loss of over 75% in 2008, and for scores of stocks, including financials, homebuilders and mortgage companies, the loss exceeded 90%. According to research firm Lipper, stock mutual funds on average sank almost 40% in this dismal year. While it is true you can and will bleed with mutual funds, despite the advantage of diversification, you won’t get killed as is possible with individual stocks. Mutual funds are sometimes derided as being boring and unsophisticated. All true, but there is elegance in simplicity. A legitimate knock on funds as compared to individual stocks is the inability to control taxes on gains. One silver lining is the bear market has resulted in virtually all stock mutual funds carrying unrealized losses. Coupled with the substantial tax-loss carry forwards that have been or could be harvested from taxable equity portfolios, the taxable gains may not be an issue for a number of years. One of the scary chapters in the epic 2008 financial nightmare was the Madoff (appropriately pronounced made-off) scandal. Bernard Madoff masterminded a giant, long-running Ponzi scheme that stole an astounding $50 billion from scores of supposedly sophisticated investors, snaring in a wide web the rich and famous, institutional investors, pensions, hedge funds and Jewish charities. In the wake of the year-end market crash, there have been reports of dozens of similar schemes, including scams by other hedge fund managers, though on a smaller scale than Madoff. It is said when the tide goes out you discover who has been swimming naked. It is feared the market meltdown will spawn a whole slew of illegal get-rich-quick schemes aimed at separating naïve and impatient investors from their money. The old lesson bears repeating that if something sounds too good to be true, it probably is. As Don Phillips, managing director at Morningstar adroitly points out, although investors lost a lot of money in mutual funds, the transparency of fund holdings protected investors, and outright fraud was not an issue. Further illuminating his point, Phillips states, “There remains no better-lit playing field in finance than the United States fund industry.” 10

At our firm, we follow two simple rules that have served our advisory clients well and that have kept us from getting snagged in the net of a scheme. Rule number one is we don’t invest in anything unless we have a basic understanding as to the risk involved and potential downside. Fabled mutual fund manager and Fidelity Vice Chairman Peter Lynch in his book, One Up on Wall Street, wrote, “I’ve never bought an option in my entire investing career, and I can’t imagine buying one now. Actually, I do know a few things about options. I know that the large potential return is attractive to many small investors who are dissatisfied with getting rich slow. Instead, they opt for getting poor quick.”

Rule number two has us investing exclusively in traditional marketable securities such as publicly traded mutual funds and ETFs, along with ultra-safe, federally insured CDs and direct Treasury obligations, such as United States Treasury notes and bills. With a registered mutual fund, unlike a hedge fund or alternative investments, you can readily buy or sell shares on any trading day, as well as determine current market value. Contrast this plain vanilla approach we have successfully employed to those venturing into the more exotic world of unregulated hedge funds and exclusive and selective private equity placements.

11

Hammering this point home, the Milwaukee Journal Sentinel reported May 22, 2009 a respected Appleton-area financial advisor has been accused by federal SEC regulators of engaging in fraud and accepting kickbacks. According to this front page story, investors were directed into illiquid, unregistered securities and misled by the advisor as to the underlying risk. Losses could possibly amount to tens of millions of dollars. Another thing to learn from the Madoff mess was that this clever crook produced, falsified and mailed out statements of accounts directly to his clients. Unlike the tragedy surrounding the Madoff scandal, our investment advisory firm does not take possession, known as custody, of even one dollar of our clients’ assets. Rather, their money is safeguarded and held in custodial accounts through brandname custodians Schwab Institutional and TD Ameritrade. If someone doesn’t have possession of your money, they can’t steal it. Robert Bartley, former editor of The Wall Street Journal, lost his life to cancer in 2003. A colleague of Bartley at the Journal, Daniel Henninger, sought to explain the source of this brilliant man’s success. “Indeed, simplicity, to use one of Bob’s favorite words, was his lodestar.” Henninger’s article reintroduces us to the fourteenth-century English philosopher William of Occam, who posited the principle that the best and sturdiest solution to a problem is often the least complicated.” John Bogle is also a disciple of Occam’s Razor. Clearly, by their actions, major brokerage houses are not. A telling example is their promotion of auction-rate securities (ARSs). Brokers at these firms routinely pitched these little-known and little understood instruments to security-conscious investors as a cash equivalent, similar to a money fund in terms of safety and liquidity, yet boasting higher yields. Auction-rate securities are in fact complex financial instruments, prone to illiquidity and to credit market crises and the risk of being drastically marked down in value. What is troubling is that salespeople (brokers/advisors) did not themselves understand these exotic investments, believing them to be super-safe and as liquid as cash. It is wise to heed this piece of advice written by Katie Benner in the April 28, 2008 issue of Fortune magazine, under the heading “The Money Trap,” in reference to the auction-rate securities mess. “The lessons of this sad tale; Beware of buying any Wall Street product you don’t fully understand; don’t accept a broker’s 12

assurance that something is ‘as good as cash;’ and no single-investment can ever be high-yield, liquid and safe.” Wall Street burned thousands of investors with so-called structured products that were supposed to provide healthy profits and limit losses. Brokers, hoping investors memories are short, are pushing these high-fee products again with safety as the big selling point. Structured products are distant cousins to other derivatives such as credit default swaps and collateralized debt obligations that helped sink the world financial system last year. The Norwegian government last year banned selling structured products to individuals, reasoning they were too complex for people to understand the risks. Larry Light Wall Street Journal May 27, 2009

To conclude, we recommend that you not purchase any financial product you don’t understand. Doing so would not only steer you away from CDOs and ARSs, but also adjustable rate mortgages, variable life insurance products, aggressive tax shelters, equity-indexed annuities and even convoluted credit card offers. Step 3. Don’t Give Up On the Stock Market Over the last ten years, the Standard & Poor’s 500 Index has produced annual returns of a negative 2%. This marks one of the worst 10-year periods in stock market history. The 2008 stock market collapse was the most dramatic in the past 80 years. This sorry performance in the equity markets has been labeled the lost decade. Many investors feel so bruised, battered and bitter about stocks they have sworn off equities completely. Having been burned in the bear markets of 20002002 and then again in 2008 and first quarter of 2009, they are darkly pessimistic about future prospects and refuse to believe in the promise of stocks. To give up and abandon stocks now is a mistake that would seriously impact your financial well-being and retirement security. Similar to professionals who are charged with managing investment portfolios for pensions, foundations and endowments, success in realizing your own long-term financial planning goals dictates an appropriate allocation to stock ownership. Now is the time to reposition your portfolio for the long haul. 13

For investors, the long run is precisely the thing to focus on. Keep in mind the market never goes in just one direction. If you despair today, tomorrow is often brighter. As former Wall Street Journal personal finance columnist Jonathan Clements reminded us, “Stocks will be a great investment over the next 30 years – if we can just get through tomorrow.” We find it of interest that home values have dropped some 15%, 25%, or even 50% in some parts of the country from their peak of just a couple of years ago. Yet, these same homeowners, unless they plan or need to put up their home for sale, aren’t overly inclined to dwell or panic on news of this substantial markdown. Unlike with a stock or mutual fund, real estate as an asset does not have its value listed in the financial section of the newspaper or on the internet, nor does it appear on an account statement that arrives each month. Investors routinely let the daily drama of the stock market influence their actions. It is quick and easy to sell out of a losing stock or mutual fund or even to bail out of an entire stock portfolio. Smart homeowners rationalize that current housing prices are not relevant, since they don’t intend to sell at this time and are confident values will rise again over the coming years. Stock investors would be wise to be of the same mindset and continue to take a patient, long-term approach. A commonly held, negative belief in this severe bear market is that stocks will never come back. In this extremely pessimistic view, think of the stock market as an egg that has splattered to the floor. Permanently grounded, it will never recover. But, history has proven the stock market better resembles a tennis ball. Once dropped, it bounces back and rebounds to new heights. If you flee the stock market for the safety of currently low-yielding (.05% - 3.0%) money funds and CDs, it will take forever to rebuild your investment nest egg. It is important to remember that the stock market conforms to the classic riskreward tradeoff. Respected newsletter writer Mark Hulbert, writing in The New York Times on January 24, 2009, puts this tumultuous market into perspective. “Periods like the last quarter [fourth of 2008] are an inherent part of equity investing. Painful as they are, their very existence helps explain why stocks, in the long run, have outperformed safer investments. Without a risk premium, investors wouldn’t endure stocks ups and downs.” 14

Reflect on the message about the risk of stock ownership put out by James B. Conant: “Behold the turtle. He makes progress only when he sticks his neck out.” Professor Jeremy Siegel is a recognized authority on the stock market and author of Stocks for the Long Run. He has been particularly active of late, speaking with conviction his belief that stocks are still an oasis. Siegel counsels us not to lose faith in the superior, long-term, double-digit-return capability of equities. According to this distinguished academic, “History is definitive that once investors have suffered this much pain, subsequent returns will be very rewarding.” Siegel points to research by Gene Epstein published March 9, 2009 in a Baron’s article that finds that following periods of underperformance, stocks can be expected to perform better than average going forward. This same research also suggests that over the next five years, stocks could average a return of 2 ½% more than the median of all five-year periods. Rather than look back at the dismal performance turned in by stocks over the past decade, a period matched only by the Great Depression years ending in 1938, we should instead look forward with an optimism fostered by historical precedent to the next ten years. While you can’t change what’s already happened to your 15

portfolio, you can surely influence what will happen over the next five, ten or 20 years. To their detriment, too many investors are shortsighted in times of challenge, failing to focus on their long-term financial objectives. It helps to think of investing as more of a marathon than a sprint. Backed by research data, Fran Kinniry, head of the investment strategy group at Vanguard, suggests investors in stocks should be rewarded over the next ten years for accepting the risk inherent in equities by realizing close to a double-digit (9.5%) annual return. John Bogle is someone never hesitant to provide straight talk on investing. So, it is encouraging that he now believes stocks could well return 10% a year for the next decade. “I don’t think that’s a pipe dream,” he has said as a point of emphasis. As Fortune points out, this is from a man who until just recently was calling for subpar, mid-single-digit returns going forward. Christopher Davis is a rising star in the investment management field and someone whose perspective and insights bear listening to. Davis rates it a “near certainty,” that stock performance over the next decade stands to be appreciably better than the disappointing returns of the previous ten years. “If you look at every ten-year period (when the S&P 500 was negative), and then look at the next ten years, the average annualized return was about 13%, and the worst was 7%. The idea that equities will underperform risk-free alternatives is a very low probability. People are paying an irrational premium for the perception of safety.” “Even during the Great Depression, the best investment results were earned, not by the people who fled stocks for the safety of bonds and cash, but by those who stepped up and bought stocks and kept buying on the way down.” …Jason Zweig Wall Street Journal October 7, 2008

This quote from Edward Hall, Director of Investment Research at Managers Investment Group, nails it: “The market has always proven its resiliency, compensating the steadfast long-term investor regardless of the crisis du jour, no matter the magnitude of the issues and problems.”

16

Step 4. Retool Your Financial Plan

After the shock of a natural disaster, affected homeowners need to assess the damage, pick up the pieces, and make plans to repair and rebuild and generally get on with their lives. The first step in any recovery plan is to identify the current status or condition. From a financial planning standpoint, this involves putting together a net worth statement. Also referred to as a statement of financial condition, it can be thought of as a snapshot of your financial condition as of a given date. The net worth figure is critical in a personal financial analysis because it provides a quick and clear read on your overall financial health. Personal net worths have declined substantially over the past 18 months for anybody with a stake in the stock market and or ownership of a home. Retirement nest eggs and estate values are alarmingly lower. The other essential financial document is the income statement. Unlike the net worth statement that measures your worth as of a given day, an income statement charts cash inflows and outflows over a calendar year. Displaced workers are especially affected by the change in cash inflows. It is said that if your neighbor is out of a job, there is a recession going on. If you or your spouse is unemployed, there is a depression. On top of poorer financial conditions, many individuals in this tough economy have faced a sharp drop in income. One of the tough facts of life this economy has exposed are those folks who were living beyond their means, meaning the outgo (spending) exceeded income. No one can hope to enjoy real financial independence unless spending is kept well within the limits of income. Ed McMahon made a fortune as Johnny Carson’s sidekick on The Tonight Show, and a highly paid pitch man on commercials. So it was surprising to hear about foreclosure proceedings on his multimillion-dollar Beverly Hills home. McMahon, talking on CNN’s Larry King Live, told how he got himself in such a pinch. “If you spend more money than you make, you know what happens. You know, a couple of divorces thrown in, a few things like that. And, you know, things happen.”

17

In order to recover and prosper in the years ahead, we recommend you follow a simple four-pronged approach to improving your financial condition as measured by increased net worth. Basically, this involves rigorous saving, careful spending, working diligently to lower debt, and intelligently investing these dollars in an appreciating asset, such as diversified mutual funds or real estate. Benjamin Franklin was an early advocate of the virtues of thrift, saving and avoidance of debt. Writing in Poor Richard’s Almanac, this brilliant inventor, scientist, printer and statesman gave us a wealth of common-sense admonishments that are relevant today. “If you would be wealthy, think of saving as well as getting.” An essential part of a recovery security plan is to save and save aggressively. Accumulating savings is a prudent necessity if you are to reach your financial goals, and its importance cannot be overemphasized in planning for retirement security, funding an education, or building an estate. Economically speaking, saving is income that is not spent. The key to accomplishing a savings goal is to exercise careful spending and tight budgeting.

“We all make mistakes in life, but saving money is not one of them.” …Thomas A. Edison

The absolute best step you can take today to improve tomorrow is to boost your rate of savings. Instead of saving 10% of your income, strive through more careful spending to save an additional 5% — a 50% increase. This sum can then be converted into an appreciating asset at today’s attractive prices for stocks, bonds, and real estate in your drive to rebuild your net worth. It helps to think that you are planting seeds with the fund shares you are purchasing. These seeds will grow and yield abundant fruit if you take a patient buy-and-hold approach. Speaking of being patient and allowing your investments to grow, prominent economist and college textbook author Paul Samuelson has this solid advice. “You shouldn’t spend much time on your investments. That will just tempt you to pull up the plants and see how the roots are doing and that’s very bad for the roots.” Planning for retirement is the equivalent of saving for retirement. If you are serious about resurrecting your dream of a financially secure retirement, save like crazy. A great vehicle to get you to this goal is to fully maximize your retirement 18

savings plan, such as a 401(k). For those over the age of 50, utilize the aptly named “catch-up” provision to put more away in tax sheltered retirement plans. Another good idea in your pre-retirement accumulation period is to budget to live on 75% of your current net income. Thus the remaining 25% can be funneled into a rigorous saving program. You also gain the benefit of learning to live comfortably on just three quarters of your income. After all, as old-time comedian Art Buck told us, “If you’re only making ends meet, you’re running in circles.” What is called for is a sense of urgency and a change of mindset from a consumption model to one of diligent savings. As a nation, we would be wise to mirror the personal finance characteristics of the greatest generation, those who were children of the Great Depression and came of age living, serving and sacrificing through World War II. This group routinely delayed short-term gratification for long-term financial security. They scrimped and saved and learned how to do without. Early in their lives they put away some rainy day money and developed the habit of regularly squirreling away something for the long winter of retirement. Sadly, as the World War II and greatest generation passes on, this institutional memory is rapidly vanishing. Our 83-year-old client Herb has practiced thrift and frugality and lived on an austerity budget his entire life. When queried as to what advice he would have to help the younger set control its spending, he quickly replied, “Stay out of Starbucks.” Whenever possible, practice PYF (pay yourself first) and DCA (dollar cost averaging) by dialing in your saving program on automatic pilot. Paying down debt solidifies your balance sheet and improves your financial condition. Debt is a cost and obligation as well as a financial burden. Be loath to take on additional debt. If you finance your mortgage, consider a shorter 15-year term and be cautious about assuming home equity, car or student loan debt. Paying off expensive 15%-24% credit card debt is a no-brainer and the surest return on investment you can realize. Every dollar put toward reducing debt, be it a mortgage, home equity loan, car note or credit card balance increases your net worth by a dollar. Excessive debt and leverage has put financial institutions, homeowners, corporations, and individuals in financial distress, leading to bank failures, foreclosures and bankruptcy. Federal regulators have recently “stress tested” major banks to determine their capacity to operate soundly under economic uncertainties. As a result, certain banks were ordered to shore up and strengthen their balance sheets. 19

As individuals facing the same economic uncertainty, it is a smart move to improve our own financial condition. Basically, this involves increasing the ratio of assets (what we own) to liabilities/debts (what we owe). This is a simple matter of decreasing debt levels and aggressively saving and intelligently investing.

Step 5. Fear & Greed and Irrational Investing Legendary investor and Warren Buffett’s mentor, the late Benjamin Graham, rightfully observed, “Individuals who cannot master their emotions are ill-suited to profit from the investment process.” Two primary emotions drive investing: fear and greed. Clearly fear has been in the driver’s seat during this current deep and extended bear market. The human instinct, after all, is to get out of harm’s way. When the market is falling as it has, the fear is it will continue to drop and wipe out your accumulated investment cache. Consequently, there is a strong urge, sometimes even panic, to sell in order to protect and preserve what is left. On the other hand, during bull market runs such as the tech-fueled boom of the late nineties, or the five year climb to an all-time record-high for the Dow in 2007, foolish investors turn greedy. They throw money at the market and barrel on to what they see as the train to sure riches and wealth. “There’s nothing like a bull market to make everyone think they’re a genius,” says professor of economics Robert Strauss. Benjamin Graham is the author of The Intelligent Investor. In this classic he left us with a wealth of time-tested, enduring investment principles including this observation, “The investor’s chief problem – and even his worst enemy – is likely to be himself.” You might notice Graham’s focus on the male gender. Researchers found that there is, in fact, a gender difference in investment bias and that testosterone is at least partially responsible for men’s wild investment impulses. Men tend to be overconfident in their investing abilities, which causes them to trade too often, chase performance, and try to time the market. Women are more patient and disciplined investors, more likely to learn from their mistakes, and more open to seeking financial advice. 20

The most familiar and simple mantra of intelligent investing is to buy low and sell high. Yet, investors by their actions routinely choose to ignore this most basic piece of advice. Instead, we do precisely the opposite, buying at the top (high) and selling at the bottom (low). The thundering herd tends to head for the exits during downdrafts and rush to get in after periods of rising markets. This buy low, sell high tug-of-war plays out in every market cycle. It helps to remember Warren Buffett’s sage observation on fear and greed, “Be fearful when others are greedy, and be greedy when others are fearful.” Frank J. Williams, a renowned early twentieth-century investor, had much the same admonishment, saying, “The market is most dangerous when it looks best; it is most inviting when it looks worst.” Pessimists (bears) view the glass as half empty while optimists (bulls) see the same glass as half full. The time to recoup losses from a deep bear market is significantly longer for anyone who has pulled out of the market and then was unable or unwilling to get back in soon enough to benefit from a quick rebound. Shelby Cullom Davis, a renowned investor and grandfather of Christopher Davis put it best: “You make most of your money in a bear market. You just don’t realize it at the time.” Stocks tend to rise in value about 70% of the time and offer a superior long-term average return potential of some 10%. In order to enjoy this advantage requires an intelligent approach to investing. Investors need to possess the ability to withstand and ride out the inevitable storms that occasionally batter the market. Volatility signals fear and fear leads to bad decisions. This tests the mettle of even the most seasoned investors. Master investor Ralph Wanger says the only defense against any sort of market jitters is to think like a long-term investor. “If you stare the monster down with focus, patience, and a calm eye, you will be rewarded in the end.” Attempting to time the market by jumping in and buying before the market heads upward – and getting out by selling before a downturn – proves irresistible to far too many misguided investors. This has proven to be a futile exercise and a risky proposition at best. The patient buy-and-hold and ultra-successful investor Buffett constantly warns us not to be foolish and think we can outsmart the market by 21

timing. As he famously quipped in a CNBC interview, “The market timers’ ‘Hall of Fame’ is an empty room.” Investors are prone to give up, throw in the towel and sell low during deep bear markets such as we have been experiencing. The cruel irony of investing is that the worse the stock market performs, the higher its future returns will be. It is simple mathematics that is proven true time and again, but somehow human nature urges us to bail out before things get better. As the saying goes, the darkest hour is just before the dawn. The market can turn when you least expect it.

David Dreman, veteran fund manager, Forbes columnist, and author of the new book, Contrarian Investment Strategies: The Next Generation, believes it’s time to buy. “If you don’t, you’ll miss one of the great buying opportunities of your life.” In the April issue of his column “The Contrarian,” Dreman makes the case that with stock prices at their lowest levels in decades and the likelihood looming of higher inflation, a diversified portfolio of stocks will do well over time. “Stocks have done well in preserving and even increasing purchasing power during inflationary times. Even if stocks drop another 15% to 20%, they are likely to at least double from their current levels over the next five years. Trying to catch the market bottom is a loser’s game.” 22

According to research put out by T. Rowe Price, some of the best investment opportunities occur in the troughs of bear markets. Fueled by the Arab Oil Embargo, stocks bottomed in September of 1974. One year later, stocks had rebounded 32%. In the bear market ending in July of 1982, stocks recovered a robust 51.8% in the following 12 months. When the stock market crashed in October of 1987, it managed to gain back 18.8% by November of 1988. More recently, the market hit bottom in a brutal three-year bear market in September of 2002. Yet, one year later, it had appreciated a solid 22.2% John Rogers, founder and chief investment officer at mutual fund firm Ariel Investments, and a close personal friend of President Obama, has turned positively bullish and finds opportunity knocking for the stock market in 2009 and going forward. “When the stock market goes from confidence to pessimism, it tends to overshoot. Maximum fear breeds maximum opportunity if you are rational and long-term in your outlook.” Step 6. Refocusing Your Investment Plan Ralph Wanger contends the most important survival skill for stock investors is to stay level-headed. As a result, investors need to “have a strategy, a way of looking at the world of stocks.” Unfortunately, most investors do not and their portfolios end up as a “haphazard collection of stories,” all because they have no plan or discipline, chasing whatever is the latest fad, and following the advice of some guru, buying at the top and fleeing in panic at the bottom. Make no mistake about it, investing is a tough, challenging pursuit, made more frustrating and ineffective if not pursued with basic investment sense. Stock ownership should be a patient, eyes-open, long-term proposition. Patience has been sorely tested in this nosedive, but it will prove yet to be the best response to the risk of volatility. In the seemingly bewildering and complex world of investment management, the consensus solution lies in the surprisingly simple concept of asset allocation. The roots of asset allocation lie in Modern Portfolio Theory, built on a solid foundation of Nobel prize-winning economic analysis. 23

Modern Portfolio Theory has convincingly demonstrated the asset mix of a given portfolio (percent allocated to stocks, bonds and money market cash) is the primary determinant of investment return. In fact, studies have shown that more than 90% of investment performance is a direct function of how one allocates assets. The essence of successful investing is simply to seek to maximize (pushing up) return on one hand, while minimizing (pushing down) risk (volatility) on the other. By blending asset classes in a proper allocation, higher returns are possible, along with some management of risk. Modern Portfolio Theory uses statistics to demonstrate that asset classes behave differently. In layman’s terms, bonds are likely to be zigging while stocks are zagging. Research shows that you can actually achieve a lower overall risk and higher return potential by adding a usually riskier asset class, such as international or small cap stocks to your portfolio. As a result of the stock market meltdown of 2008, there has emerged from the shadows a loud and boisterous minority who proclaim that asset allocation, like diversification and buy and hold, is a failed strategy. They claim because it didn’t work in this crisis, it should now be relegated to the trash heap. In its place, they put forward a variety of little understood, complex, market-timing schemes. This is an unproven experiment that places you and your nest egg in jeopardy. In all probability, this reckless course of action will prove costly and ineffective. It is better to stick with the tried and true. In a recent column of “The Patient Investor” Forbes columnist John Rogers of Ariel Investments had this to say, I am beginning to hear investors say that the best way to beat this volatile market is by trading —anxiously moving in and out of securities as the market ebbs and flows. In my view there is no surer path to the poorhouse. Long term investment success is not about making little decisions. It’s the big decisions that matter. The past 18 months have had the effect of the proverbial 100 year flood on investment portfolios. While it is true that asset allocation did not protect portfolios from the deluge this past year, it was far more of an anomaly than the norm. 24

How you mix your assets (asset allocation) is the big decision referred to by Rogers. In this context, big means how many cents of your investment dollar should be placed in potentially higher return, but more risky equities (stocks). Most experts continue to come out firmly for asset allocation as an effective longterm approach to investing. If we accept that the weighting of stocks balanced with more stable bonds and money markets is the key decision, then asset allocation becomes the starting point for designing a personal investment policy. Peter L. Bernstein is the acclaimed author of the investment tome Against The Gods. In his considered opinion, the ideal allocation is 60% stocks mixed with 40% bonds/cash, generally referred to as 60/40. To Bernstein, this particular mix represents the center of gravity and is “a good compromise for the long-run average balance between maximizing return and minimizing risk.” At McCarthy Grittinger Weil Financial Group, we typically start off the investment plan design process by centering on this same 60/40 overall allocation. From there, we customize according to our clients’ personal circumstances, such as age, health, investment expectations, income requirements, and risk tolerance (stomach for losses). Of note, if you look at the allocation of institutional portfolios, such as pensions or endowments, that are held to a strict fiduciary standard, it is likely to be in the general neighborhood of 60/40, for the very reasons Bernstein suggests. The range of our clients’ weightings in stocks tends to go from 80% on the top to 20% on the low end. For the most part, we do not recommend or manage all-stock or no-stock portfolios. Bonds are a necessary portfolio ingredient to dampen the inherent volatility of stocks. A bond component acts like a shock absorber, adding stability and leveling the ups and downs in the market. Stability in turn helps investors with nervous stomachs hang on when the going gets rough. We advise you to stick with diversified bond mutual funds and avoid completely individual corporate or municipal bonds. There is the real risk of default, bankruptcy or financial distress resulting in a severe markdown when owning individual non-government bonds. Just ask the bondholders of once sterling credit GM, now in bankruptcy. Additionally, stay with low-expense, no-load, plain vanilla bond funds. Bond funds that tried to push the envelope and enhance returns fared terribly in the 2008 credit crisis. 25

For our retired clients coping with this volatile bear market, we counsel that any money projected for expenses over the next five years should not be invested in the stock market. Take the example of 78-year-old John, whose health has deteriorated to the point where he needs expensive assisted living. Assume the cost for this level of care will reach $100,000 a year. Over five years this amounts to $500,000 in expenses. At a minimum, this portion of his nest egg should be invested in money market cash and more stable bond investments. Stock fund investors should be concerned about depressed fund prices only for that share of their wealth they plan to use soon. Historically, this five-year period of time offers stocks adequate time to recover and rebound. The insightful Bernstein chooses to emphasize the important psychological or behavioral aspect of investing and investors. “In my real-world experience, investors with smaller allocations to stocks and some anchors (bonds and cash) to windward have been the ones most likely to be the winners over the long haul.” It is instructive to realize that a broadly diversified portfolio with 60% in stocks, including 15% in international and 40% anchored in bonds, was able to withstand the brutal three-year bear market of 2000-2002 without losing value. Yet, the 2008 bear market was so extreme (the 100-year flood phenomenon), this same portfolio was swamped with a 24% loss for the year. Investors with any exposure to stocks in this extreme bear market suffered mightily. A portfolio with 100% in stocks was marked down a full 50% in round numbers from top to bottom, while a balanced 60/40 mix slid a substantial 30%. Even a conservative portfolio with just 20% in the market saw a double-digit 10% decline. On a million dollar portfolio, this relatively modest decline was a significant $100,000 loss. Assuming a $100,000 portfolio value in late 2007, a 60/40 mix would have had $60,000 allocated in equities and $40,000 in the bond and cash component. From top to bottom, stock portfolios lost about 50% of their value in this perfect storm. On the low point of March 9, 2009, the original $60,000 in stock value would have been cut in half and be worth just $30,000. Assuming the $40,000 in bonds did not change in value, a reasonable expectation, the total portfolio had been devalued to $70,000, a painful 30%, $30,000 loss. 26

The asset allocation at the low point was then $30,000/$70,000, or 43% in stocks and $40,000/$70,000, or 57% in bonds, for a reconfigured mix of 43/57. At this point, investors with the courage and discipline to buy low and rebalance would purchase $12,000 of stocks and sell off $12,000 of bonds to bring the new depleted portfolio of $70,000 back to the targeted 60/40 asset allocation plan. $42,000/$70,000 (60%) stocks $28,000/$70,000 (40%) bonds Total (100%) In real life there exists natural resistance to this common-sense buy low and sell high fix, because it means adding money to what is perceived as risky stocks that have been hemorrhaging losses, and taking away from bonds that have at least been holding their own. The focus needs to be on looking forward, not back. A shrunken $70,000 investment portfolio will require approximately seven years, to 2016, to recover to $100,000, if the investments average a pedestrian 5% average annual return. If instead, you could work the portfolio a little harder, and manage closer to a 8% average annual return, the $100,000 recovery level could be reached sooner, perhaps in four plus years, or late in 2013. Looking out over the long term to the year 2020, a portfolio that now stands at $70,000, is conservatively invested and averages a 5% annual return, is estimated to grow to about $120,000. Investing instead with a reasonable risk and a balanced 60/40 portfolio, it could conceivably average 8%. The $70,000 nest egg could grow to a projected $163,000 in 2020. There is a substantial $43,000 potential difference over time. Step 7. Avoid The Big Mistake To succeed and survive financially, it is vital to avoid the big mistakes that can jeopardize your long-term financial security and independence. Academic research has found individuals tend to make, on average, two to three whopper financial mistakes over the course of their investing years. Chief among these mistakes is vainly trying to hit a home run by placing all your bets on a single stock, concentrating on a small number of hot names, or an 27

industry sector. We do know that home run hitters are also likely to strike out. You don’t need the long ball to win the game. Not diversifying when investing amounts to speculating. This is an unacceptable form of gambling. The best you can do is to always adhere to the most pronounced risk-reduction technique and diversify, diversify, diversify. John Bogle staunchly reinforces diversification as a proven time-tested strategy. “For all the inevitable density in the fog of investing, there is much that we do know. We know that specific security risk can be eliminated by diversification; so that only market risk remains (and that risk seems quite large).” Make no mistake about it, broad-based diversification across investment sizes (large and small capitalizations) and styles (value and growth), geographies (U.S. domestic, international east and west) and asset classes (stocks, bonds, cash) remains the very best long-term investment strategy. Effective diversification can be achieved and risk mitigated by assembling a portfolio of mutual funds that cover the whole investment spectrum. The market crash of 2008 indiscriminately took down every asset class and industry grouping with the sole exception of super-safe, and now paltry-yielding, treasury securities. Since no one can say what the future holds for the markets, your best bet, in fact the only prudent plan, is to cover all the bases with broadbased diversification. As an investment committee, we hedge our bets by making a responsible allocation to a commodity-type fund and REITs (real estate investment trusts) where appropriate. On the fixed income side, we would consider and utilize investment-grade corporate bond funds, tax-exempt municipal bond funds, GNMAs (government backed mortgages) along with high-yield bonds and TIPS (Treasury inflation protected securities) funds when suitable. We believe in keeping the safe portion of a portfolio truly safe and fill this space using insured CDs, direct U.S. treasury obligations and money market funds. One of the unfortunate fallouts from the stock market crash of 2008 will come from those misguided and ill-informed voices who reason that since diversification obviously didn’t work to protect investors this time from massive losses, it is a discredited strategy and shouldn’t be relied on going forward. This would be a terrible blunder. Abandoning diversification could seriously sabotage and reduce the likelihood of restoring battered investment portfolios and be back on track to achieving financial independence and security. 28

Let there be no doubt, diversification is a critical and indispensible part of the investment process precisely because it reduces risk. Just because a house was badly damaged in a category five hurricane, doesn’t mean that you don’t rebuild to code and put on storm shutters. Put another way, because some football players get seriously hurt is a stupid reason to discard helmets or other protective gear. A valuable lesson to take from the events of the 2008 financial debacle is that no market strategist, industry guru or vaunted economist possesses a crystal ball. A lot of very smart people lost a lot of money. There always is a small group who emerge from the shadows claiming to have foreseen how the economy and markets would play out. Even if they made the right call, it was probably luck, and they haven’t earned the credibility to offer guidance on the future. Understandably, human nature being what it is, shaken investors are hungry to hear near-term outlooks for the market. They also yearn to learn when the economy will finally turn around and grow again. The fact is, predictions on the direction of the stock market and general economy, issued with much confidence by industry pundits and economists, in retrospect have been consistently off the mark. The lesson to be learned is the futility of short-term forecasts. None of us can see around corners, and no one can say with any assurance what will happen next. This succinct quote from Niles Bohr that appeared in Forbes says it well: “It is difficult to predict, especially the future.” It is telling that the grossly overcompensated stock analysts and investment strategists employed at Citigroup, Merrill Lynch and Bear Stearns failed miserably in foreseeing the nose-dive in the stocks of their own companies. Far from it, they were actually quite bullish (positive/buy ratings) on the prospects for their own company stocks, even as each one started to crater and went on to implode. Think about the record. For the most part, the so-called experts failed to warn us the bubble was about to pop on tech stocks in early 2000, the housing values in 2007, and commodity prices and financial services stocks in 2008. One of the most popular cable TV shows on the stock market today is Mad Money, hosted by former hedge fund manager Jim Cramer. Cramer rants and raves on this regrettably successful show, accompanied by campy sound effects. Among his dozens of terrible calls, this so-called expert screamed at his viewers to buy 29

Wachovia stock on September 15, 2008, touting its CEO Bob Steel as: “…the one guy I trust to turn this bank around, which is why I’ve told you on weakness to buy Wachovia.” Just two weeks later, Wachovia came close to collapse and was forced into hasty takeover by Wells Fargo. Anyone that followed Cramer’s confident recommendation to buy Wachovia stock that day saw share values lose half their value by year end. In mid-summer 2008 gasoline prices surged nationally to over $4 a gallon. There was consensus it was just a matter of time before the price at the pump would hit $5. Instead, starting last fall, gas prices started dropping sharply and went below $2 a gallon by the end of the year. Oilman T. Boone Pickens confidently predicted on June 20, 2008: “I think you’ll see $150 a barrel [of oil] by the end of the year.” At that time oil had risen to $135 a barrel. By Christmas of 2008, the price had dropped like a rock to around $40 a barrel. Virtually no one saw this beneficial economic surprise coming. While it seems counter-intuitive, the prospects for the economy and the stock market do not always march in tandem. The esteemed economist, the late Milton Friedman, would regularly remind us, “The economy and the stock market are two separate things.” Warren Buffett is considered by many to be the greatest investor of all time. It seems only wise, but comforting to listen and learn from the 78-year-old investment legend. In his widely followed Berkshire Hathaway investment holding company annual report to shareholders, the Oracle of Omaha states that in the 44-year span of this stock, 2008 was the worst year both for his performance and that of the S&P 500 Index. In his latest letter, Buffett offers a realistic assessment of the economic woes we face. He soberly predicts, “The economy will be in shambles throughout 2009— and, for that matter, probably well beyond.” Echoing Milton Friedman, Buffett has repeatedly said that even he is right on the economy, it bears no relation to whether the stock market will rise or fall. He points out that neither he nor long-time partner Charlie Munger can predict “winning and losing years in advance.” Despite his dour economic outlook, Buffett is actively buying into this rocky market, confident it will turn around, just not knowing when. “I can’t predict the short-term movements of the stock market. What is likely, however, is that the 30

market will move higher, perhaps substantially so, well before either sentiment or the economy turns up.” Buffett is far from prescient, and he readily admits to making his share of investment blunders. He made a major investment in GE October 2008, only to see his stake lose half its value in early 2009. He has suggested he does not view this investment as a mistake. Rather, as a patient value investor, he was just early. Buffett has said after he makes an investment he would be unconcerned if the market for that stock closed for ten years. Contrast the long-term outlook of this successful investor to that of frenetic day traders. John Lowenstein’s best-selling book, When Genius Failed, recounts the dark side of the hedge fund industry. It is a chilling tale of the spectacular rise and fall of Long-Term Capital Management (LTCM). LTCM boasted two Nobel laureates in economics among its brainy partners; hence, the book title’s reference to genius. For a couple of years, this high-octane hedge fund posted tremendous returns. It did so by employing a black box computer model that spewed high-risk, leveraged strategies. Its phenomenal success attracted billions from investors eager to share in this seemingly sure thing. This massive fund failed spectacularly, losing 92% in value between October 1997 and September 1998. In fact, in a precursor to the emergency intervention in the markets in 2008, The Federal Reserve Bank of New York hastily stepped in and arranged a massive bailout by a consortium of large banks. Federal regulators then, as last fall, were very concerned about the shock to the global financial system that could result from a failure of this magnitude. Investors and regulators should have learned from the debacle of LTCM recounted in the book. Unfortunately, despite a string of blow-ups and dozens of fraud cases, a myth continues to shroud hedge funds, making them alluring to certain investors who believe they hold the secrets to rich rewards. These unregulated and hugely expensive funds, like LTCM, were supposed to be the holy grail, and make money in both up and down markets. This promise was not kept. The risk/reward tradeoff is fundamental to investing. Failure to follow this most basic investment premise exposes your portfolio to peril. 31

When considering investing in hedge funds or any alternative to mutual funds with a certain cachet, keep in mind a favorite John Bogle maxim: Caveat Emptor, buyer beware.

Step 8. Look Up And Out To The Year 2020

Now that the economic forest fire that at times looked like it might engulf us and radically alter our financial lives has mercifully burned out, it is high time to step out and renew the forward looking planning process. Rather than look back at the past 10 years and dwell on the damage done to portfolios, nest eggs, trusts and estates, it is psychologically and financially healthy to look out to the next 10 years and the year 2020.

Everyone is familiar with what is meant by 20/20 vision for eyesight. Borrowing from this theme, at McCarthy Grittinger Weil Financial Group we suggest you look forward to the next decade with what we are calling a VISION 2020 financial life plan. Time really does seem to fly. How else to explain how quickly time has flown since the year 2000 and the millennium? Do we really think the year 2020 will arrive with any less speed? 32

At our financial planning and investment advisory firm, we have adopted the emerging industry movement emphasizing life planning. Life planning is more holistic in scope than pure “crunching the numbers” financial planning and much more encompassing than a narrow focus on investing. In practical terms, life planning balances the management of one’s wealth with the hopes, dreams and values that go into making a happy and productive life. Life planning is the qualitative (soft) side of planning, as contrasted with the quantitative (hard) side. It is the heart of the planning process and overlaps the investment, tax, estate, and retirement planning areas.

From our perspective as advisors, marrying life goals with financial and investment planning pays off in a richer and more rewarding life. There is transformative power in the financial life planning process that – along with the richness of family, friends and good health – makes life worth living. Procrastination and inertia are two of the biggest obstacles to success, both in life and in finances. According to Steven Covey, author of the perennial bestseller, The Seven Habits of Highly Effective People, the number one habit is being proactive. 33

Covey goes on to describe definiteness of purpose, taking initiative, and making things happen as other valuable habits in the pursuit of success. Individuals by nature are reactive rather than proactive, especially when it comes to personal financial planning. Many express frustration when discussing their personal finances, often describing themselves as feeling lost, on a treadmill, spinning their wheels, or slipping backward. A good road map (financial life plan) would assist these procrastinators greatly in reaching their hoped-for destination or goal. “If you don’t know where you are going, every road will get you nowhere.” ....Henry Kissinger

Financial planning often revolves around individuals dealing with major life events and change, be it the happy events of marriage, the birth of a child, and traditional retirement, or the sad challenges such as the loss of a job or a loved one, a divorce, or declining health. In addition, planning is often multigenerational in scope. One recent industry study showed that over the course of a lifetime, approximately 55 potential triggering events may need addressing from a financial standpoint. Each event has an impact on net worth, making some change to either the asset or liability column and/or the income statement. In the aftermath of this epic financial, economic and market storm we have experienced, Your Anxiety Removal Team at McCarthy Grittinger Weil Financial Group has instituted a discovery process for our clients and interested potential clients. In this proactive meeting, we evaluate where you are, where you want to go, and from there chart a course of action and the best route to reach that desired destination. This discovery process involves analyzing the financial statements, reevaluating the investment plan, running the numbers and modeling the future. We continue by setting priorities, identifying obstacles, rehabilitating the portfolio, and then proceed to put the plan in motion. Planning deals with the uncertainty inherent in the future. The act of planning or strategizing the future provides us with a comfortable sense that we are exerting some control over that uncertainty. Strategic planning is a necessity in achieving 34

the desired outcome of any worthwhile pursuit. When done effectively, planning is an important tool to increase the probability of achieving one’s financial objectives. “In life as in chess forethought wins.” …Charles Buxton

What is called for is a bias toward action. James Stowers is founder and chairman of mutual fund firm American Century. His philosophy for success is to just get started. According to Stowers, “The best time to plant an oak was twenty years ago. The second best time is now.”

Think VISION 2020 and start to focus actively on life issues and financial planning for the climb to the years and the decade to come.

“Live your life each day as you would climb a mountain. Climb slowly, steadily, enjoying each passing moment; and the view from the summit will serve as a fitting climax for the journey.” …Harold V. Melchert

35

On The Way Back – A Summary Look at this shock to the financial world similar to when someone suffers a serious heart attack; survival offers an opportunity to reevaluate the situation, hopefully learn some valuable lessons from the experience, and make the necessary changes to lifestyle that will lead to a long and healthy life. In order to successfully recover and move forward from this monumental financial and economic meltdown, it is wise to model one’s behavior, and take direction from successful and seasoned investors, noted academics and economists, and great historical figures. During these challenging times for our nation, economy and the financial markets, it is comforting to look back to Abraham Lincoln for hope and inspiration. As America celebrates 200 years since Lincoln’s birth, it is only fitting that we turn to arguably our greatest president to lift us up.

In Team of Rivals, Lincoln biographer Doris Goodwin eloquently charts the genius, travails, and successes of our 16th president. It is safe to say no American political leader faced darker, bleaker times than did Lincoln. During the many dark hours of the Civil War, Goodwin describes how Lincoln, acutely aware of his own emotional needs, called on his reservoir of hope to sustain him. She chose to quote from the work of Daniel Goleman in his book, Emotional Intelligence, to describe Lincoln’s psychological approach: “Having hope means that one will not give in to overwhelming anxiety, a defeatist attitude, or depression in the face of difficult challenges or setbacks. Hope is more than the sunny view that everything will turn out all right; it is believing you have the will and way to accomplish your goals.” 36

There are plenty of clouds on the investment horizon to shake one’s confidence, including the ever-present possibilities of higher interest rates, rising inflation, further weakening of the economy, persistent unemployment, mounting deficits, tax increases, or a drop in the value of the dollar. Reading the headlines about the nuclear ambitions of rogue regimes North Korea and Iran and radical extremists closing in on Pakistan’s arsenal is downright scary and enough to keep us up at night. Nonetheless, to be a successful long-term investor takes courage as well as a confident view of the future. T. Rowe Price prepared a chart to illustrate that the stock market has witnessed disastrous events through the years, both at home and abroad. Yet patient investors with a long-term perspective, capable of overcoming short-term anxieties, have been able to prosper in the market. We tend to forget the collective trauma that befell America in the days, weeks and months following the horror of September 11, 2001. As a nation, we were braced for another terrorist blow, the stock market actually closed down for two weeks, airplanes were grounded, and tremendous uncertainty hung over the prospects for the economy. Yet, we did rise triumphant from the ashes, and the economy and the markets recovered in remarkable fashion to new highs. In the spirit of Lincoln, there is this hopeful message from his famed biographer, Carl Sandburg: “Always the path of American destiny has been into the unknown; always there arose enough reserves of strength, balances of sanity, and portions of wisdom to carry the nation through a fresh start with ever-renewing vitality.” Warren Buffett seconds this optimistic viewpoint, telling his shareholders: “Our country has faced worse travails in the past, and without fail, we’ve overcome them. America’s best days lie ahead.” Harley Schwadron is a veteran Michigan-based cartoonist who possesses the talent to capture, in a single frame, the essence of common-sense investing. In our favorite cartoon, Harley draws a pinstriped, bespectacled, briefcase-toting middle aged investor, looking up to the all-knowing guru sitting cross legged on the mountain top. He is asking incredulously if the eternal truth is really that simple, basic and straightforward. “Buy low, sell high, stay diversified. That’s it?”

37

Investment legend John Templeton was widely quoted saying, “I believe that successful investing is mainly common sense.” Regarding the prudent necessity of broad-based diversification, it was said of Templeton that he wore a belt as well as suspenders. Listen to what famed investor Peter Lynch has to say about market timing. “I’m always fully invested at the market top and at the bottom. I don’t try to time the market. When (the market) comes back, it comes back fast. So people who are out for the bad months, are out for the good months. I personally suffer the bad months along with the good months, and have been very happy with the results.” When it comes to investing, John Bogle believes that investors foolishly try to make things more complicated than is necessary. This is to our detriment and ends up costing us plenty. To counteract this negative tendency, Bogle preaches us to return to simplicity. “The great paradox of this remarkable age is that the more complex the world around us becomes, the more simplicity we must seek in order to realize our financial goals.” Following a simple path has us sensibly setting an investment plan and asset allocation mix and then staying on a disciplined course. Reining in emotions is the most difficult task in managing a portfolio. A patient approach strikes many as too 38

prodding and boring, but attempting a short cut or racing down a treacherous back road could well deter you from safely reaching your financial destination. We all know in the race between the tortoise and the hare who is the winner in the end. To benefit from and earn the double-digit, historical average return of stocks, it is necessary to ignore the short-term movements of the market and focus on prospects for the long-term. Keep in mind this admonition from Walter Elliot. “Perseverance is not a long race; it is many short races one after another.” It is wise to move beyond the trauma of the past 18 months and force yourself to look out to the next decade and the year 2020. Recall that money manager and Forbes columnist Ken Fisher had this stark observation: “Stocks are cheaper than they’ve ever been in your adult life.” To put it into the context of investment opportunities, he added, “That’s a simply stunning statement looking forward.” There will be those voices who claim this extraordinary economy and stock market environment calls for turning your back on the traditional and embracing the revolutionary. In response, we would remind you of what Louis Rukeyser, the most trusted financial and economic commentator of his time, was fond of saying. “The four most dangerous words in investing are: This time it’s different.” In the wake of the current stock market crash, expect to see a flood of newfangled investment products, all claiming to be able to withstand a repeat of the 2008 market meltdown. Wisely, Nobel Prize winner in economics Daniel Kahneman told a group of financial advisors that “we would all be better off if we made fewer financial decisions.” Following this precept, Your Anxiety Removal TeamSM at McCarthy Grittinger Weil Financial Group will continue to use strictly mutual funds to design, construct and implement investment portfolios. Tried-and-true, plain vanilla mutual funds alone provide diversification, daily pricing and marketability, transparency, low costs, regulation and a reputation for integrity. One area where our advisory firm exerts some measure of control is on investments costs. Costs really do matter. Any money expended on investment costs directly reduces both current yields and overall returns. As John Bogle reminds us, “Never forget that costs, like weeds, impede the garden’s growth.” 39

Long ago, the always-perceptive Benjamin Franklin also weighed in on costs: “Beware of small expenses; a small leak will sink a great ship.” We are also highly conscious of taxes when managing an investment portfolio. This is an area where by being sensitive to taxes and active tax planning we can add real value. It is widely expected that tax rates will rise in the coming years, and it will be even more important to be alert to ways to legitimately reduce the tax burden. According to one of the most influential twentieth century economists, John Maynard Keynes, “The avoidance of taxes is the only intellectual pursuit that carries any reward.” Root causes of much of the financial crisis include the construction of risky, complex financial instruments and the widespread use of derivatives. There is this to store and remember from the late John Kenneth Galbraith, at a gawky 6 feet, 8 inches tall, a giant literally and figuratively in the field of economics. “The study of money, above all other fields in economics, is one in which complexity is used to disguise truth or to evade truth, not to reveal it.” Galbraith’s The Great Crash 1929, originally published in 1954, is the authoritative text on that subject. Readers have run this book up the bestseller list, anxiously searching for parallels to today. With the promise of economic recovery beginning to surface, we must get past procrastination and inertia and start down the road to rebuild our portfolios and plan for the year 2020. Look to the accomplished author of such American classics as The Adventures of Huck Finn and the Adventures of Tom Sawyer who has sound advice on success in reaching this goal. Mark Twain observed, “The secret of getting ahead is getting started. The secret of getting started is breaking your complex, overwhelming tasks into small manageable tasks, and then starting on the first one.”

40

Restart

Revitalize

Rebound

Recharge

RECOVER

Revive

Reinvigorate

Rejuvenate

RESTORE

Restart

Renew

Replenish

Reprogram

Rehabilitate

Restructure

Rewind

RETOOL

Refocus

Refresh

Rediscover

41

The Next Step Thank you for taking the time to read Roadmap to Recovery. We sincerely hope you found it of interest and helpful in addressing your unique circumstances. Your Anxiety Removal TeamSM at McCarthy Grittinger Weil Financial Group invites qualified* individuals to take this limited opportunity to schedule a no charge, no obligation discovery meeting with one of our partners and senior investment professionals. This 60-90 minute confidential discussion would take place at our Honey Creek Corporate office. The goal would be to assess your personal financial situation, review your investment portfolio, and identify your primary financial objectives and concerns. At the conclusion of this discovery process, we would be in position to inform you if and how we could be of value in helping you to realize your financial life planning goals. Take the initiative now to move forward with confidence on the road to recovery. We possess the tools, talent, temperament and a team approach to guide clients to the brighter future that lies ahead. Simply contact one of our partners listed below to schedule a convenient meeting and start down the road to rebuilding your finances.

Phone: (414) 475-1369 John T. McCarthy CFP® [email protected] Scott D. Grittinger CFP® [email protected] Michael J. Weil CFP®, ChFC, CLU [email protected]

*McCarthy Grittinger Weil Financial Group serves individuals with investable assets of $300,000 or more.