Gargantuan ships at sea do not turn on a dime (read: Titanic), nor do national economies. Instead, small course corrections, planned and executed intelligently, are required to navigate successfully to the destination. Experienced ship captains and global heads of state are charged with providing direction and orchestrating course corrections. Our currency (the U.S. Dollar) is being threatened, and we need to respond appropriately.
International trade developed rapidly in the global post-WWII economy. When financial stability was needed to facilitate burgeoning international trade, designating a widely trusted currency became necessary. The American economy and currency were leading the world, and in 1944 the Dollar was designated as Reserve Currency for international trade.
Trading in oil was increasingly important, and the Dollar was used for funding transactions. Importers converted their own currency into U.S. Dollars to finance transactions. Exporters then banked the Dollars received, or exchanged them into other currencies, including their own. This system proved tenable for decades, but along the way the USA was tripping over its own prosperity, with plenty of “help” from elected leaders.
Originally pegged to gold (the timeless international form of money), the U.S. Dollar was de-linked from gold by President Richard Nixon in 1971. At the same time, government spending ramped up astronautically. As a result, purchasing power of the Dollar declined steadily. Print money, spend money, print more money to cover spending. Lather, rinse, repeat. The predictable result was inflation, which has eroded more than 96% of our original purchasing power.
America’s spending cycle (and corresponding money printing) accelerated with advances in computer power. Eventually, FED Chairman Ben Bernanke said the quiet part out loud, when he explained that the Federal Reserve didn’t really print money, because electronics “allow it to produce as many U.S. dollars as it wishes at no cost.”
Over time, trading partners began to perform transactions in currencies other than Dollars. Twenty years ago, the amount of International Trade using Dollars was about 70%. It has fallen now to 59%, and the decline continues. Recently, China, Russia, Brazil, and other European and Asian have agreed to trade oil in various currencies.
Important for us to understand is that most countries of the World right now do not have confidence in Russia or China, and will not move away from the Dollar in a panic. Erosion will take time, but the economic Titanic is slowly changing course. Outlook uncertain.
Van Wie Financial is fee-only. For a reason.
All the way back in September of 2022, Congress and the IRS released inflation numbers used to determine important items such as Income Tax Brackets, Social Security COLAs (Cost-of-Living Adjustments), and various other items affecting virtually all Americans. At that time, I was upset that the entity charged with calculating the annual rate of inflation, the U.S. Department of Labor (DOL), again did not apply their calculation equally among affected areas of the economy. That would require applying a single inflation rate to all aspects of the U. S. Tax Code.
Not only has it not been applied across-the-board, but it keeps getting worse.
Perhaps the most noteworthy inflation number is the COLA applied to Social Security Benefits. This year’s 8.7% increase was welcome news to over 66 million people currently receiving benefits, as well as those preparing to file. Assuming the increase was reflective of the actual increase in our daily cost of living, to maintain an individual’s standard of living, tax brackets should be indexed identically to the Benefits increase. This did not happen.
Income Tax Brackets for 2023 were only increased by about 7%, leaving Social Security recipients with a tax increase amounting to a tax on the 1.7% difference between COLA Benefit increases and new tax brackets. Worse yet, the number of Social Security recipients that are subjected to income tax on those benefits increased. This phenomenon is a result of income-based means testing for taxing Social Security Benefits.
For decades now, taxpayers with an annual MAGI (Modified Adjusted Gross Income) exceeding $44,000 (Married filing jointly) are taxed on 85% of monthly Social Security Benefits. Had that $44,000 threshold been inflation-adjusted annually since the law was passed, the MAGI trigger would be more than $93,000 today, exempting millions of taxpayers from owing the additional tax.
Many other items in the Tax Code do not receive an annual inflation adjustment, and there are other provisions that adjust only every few years, as inflated price levels compound. As a result of these factors, thousands of Social Security Benefit recipients pay incrementally more income tax every year on additional Benefits resulting from inflation.
In our opinion, Social Security Benefits should be 100% tax-free, like the System was originally designed, and taxpayers were originally promised. However, if we are forced to pay tax on benefits, at least it should reflect inflation.
Van Wie Financial is fee-only. For a reason.
With March comes basketball, green beer, and …. a banking crisis? During the first full week of March 2023, two significant California-based banks (Silvergate and SVB) closed their doors due to insolvency. While banks do sometimes fail, we have a mechanism for the protection of depositors’ money. Failures are generally (with the exception of the 2008 Financial Crisis) one-offs, taken in stride by investors and the depositing public. This time, there are failures yet to come.
When failing banks are high-profile, such as the Silicon Valley Bank (SVB), the 16th largest bank in the country, that’s headline news. While SVB was the “go-to” bank for Tech Startups, Silvergate (the earlier failure) served the Crypto Industry. Is anyone else thinking, what could possibly go wrong?
Any ranking of risky ventures would most likely include Crypto and Business Startups. Another form of risk is incurred when there is too little diversification in an investment portfolio. With banks, their portfolio is a combination of loans to customers and internal reserve capital. SVB was mismanaged in both. Recent falling bond prices created a liquidity crisis, which might be survivable during good times, but causes trouble when withdrawals suddenly accelerate. That happened at SVB.
Because banking is a highly regulated industry, we expect State and Federal regulators to discover and correct problems before they become dangerous. Were regulators asleep at the wheel? You decide, as information is being released daily. In the case of Silvergate, not much information is being made public, as SVB is causing a gigantic distraction, due to its size.
While the FDIC (Federal Deposit Insurance Corporation) exists to protect depositors and is funded by insurance premiums paid by member banks, coverage limits are only up to $250,000 per account registration. In the case of SVB, many wealthy depositors had accounts far in excess of FDIC limits. This is where we can generally count on the Federal Government to make exceptions for their friends and donors, and once again they did.
Disregarding insurance coverage limits of $250,000, Janet Yellen’s Treasury announced that all SVB deposits would be reimbursed. Sure, they plan to pay the funds from the FDIC, but that will greatly reduce the reserves of the FDIC, which may have to cover additional failures in days to come. Then what? (Hint: they will come after the taxpayers — us.)
This is reminiscent of an old Saturday Night Live skit about the mythical First CityWide Change Bank, whose sole function was to make change (e.g., 4 quarters, two quarters and 20 nickels, or other combination for your dollar). When asked how they made money, the spokesman simply explained, “We make it up in volume.”
Van Wie Financial is fee-only. For a reason.
Nothing is certain, except death and taxes. We’ve all heard that, we believe it, and many of us have a notion as to its origin. According to Quote Investigatorâ, the exact origin remains uncertain. Among the often-attributed authors are Benjamin Franklin, Mark Twain, and Daniel Defoe.
In Washington, D.C., taxation is as polarizing as any issue, divided mostly along party lines. Democrats favor ever-higher taxes, and Republicans prefer lowering taxes, citing the Laffer Curve effect of increasing revenue as tax rates are cut. The tax-hiking crowd ignores econometrics, in favor of some mystical “fairness” and “equity” in society.
True to form, the Biden Administration has produced a proposal for dramatically increasing taxes. Ironically, the proposal has nothing to do with revenue generation. Thankfully, the new Republican House of Representatives considers the proposal D.O.A. In the spirit of the age-old “tax the rich” mantra, punitive provisions would raise the Corporate Tax rate from 21% to 28%, plus doubling the tax on profits earned overseas. Corporate stock buybacks, now taxed at 1%, would quadruple. Taxpayers with incomes of $1 Million+ would see Capital Gains tax rates nearly double, along with incurring a 25% minimum tax on total income.
Taxpayers earning more than $400,000 annually would see an increase in the top tax rate, from 37% to 39.6%. Also, for these people, the Obamacare Investment Tax would increase from 3.8% to 5%. Perhaps the most insidious tax proposal would apply a Wealth Tax to unrealized gains on assets. In a recent Blog, I called this Taxation Without Monetization.
As expected, Biden’s proposal reflects the Administration’s resentment of successful people and wealthy individuals. Strangely, these very taxpayers have become the Democrat voting base in recent years. Americans need to be vigilant about what will happen to them if “progressives” are again handed complete control of our government.
Perhaps the most insidious (and regressive) tax of all is the ever-higher prices we pay for necessities during inflationary times. Getting inflation under control should be the primary focus of the Administration, but that would require a reduction in spending. This proposed tax-and-spend package does the exact opposite.
Added Deficit Spending would increase our National Debt to $51 Trillion, and interest payments would exceed the annual budget for the Defense Department. These are government estimates, which are notoriously optimistic.
I find it interesting that Biden defines “the rich” as people earning more than $400,000 annually. Seems that is the exact salary of the President.
Van Wie Financial is fee-only. For a reason.
Back in 2020, we reported this observation: New and innovative financial scams constantly bombard Americans’ identities. The attacks seem to have no end. What next, you might ask? You probably shouldn’t be shocked, but you probably haven’t heard this one yet. The bad news is that it can affect your home, and the good news is that it is preventable. The even better news is that prevention may well be free to the homeowner.
At the time, few of us had even given any thought to a thief stealing the title to our property. To this day, it is so rare that no one we’ve talked to has ever experienced a title theft, nor does anyone know a victim personally. Yet it can (and apparently does) happen, and there are aggressive marketers trying day and night to sell us on a monitoring service to alert us of attacks on our home titles.
Title protection is a monthly subscription service that promises to notify owners of activity regarding the title to their property. Unfortunately, the paid service offers no indemnity to owners in the event of a loss. Some protection, right? Viable options include doing nothing, as the probability of loss is minuscule. However, new opportunities have arisen, and won’t cost you a cent.
How about saving some money by playing the home game? All that is required is an Internet connection and a minimal dose of computer literacy. Property records are all online at your County Clerk’s website. Northeast Florida counties now offer a service to all homeowners. Once an account is opened, the County will alert the homeowner of any activity pertaining to the account owner’s property. Arguably, no government service is actually free, but there is no charge for the monitoring and notification service, so why pay someone else?
Signing up for free monitoring is quick and simple. Using any Internet search engine, find the County Clerk’s website for your property’s location. Look for (or search for) property ownership records, and you will be directed to a page where a protection account can be opened. There is no charge for the account, and there is no charge for the service.
Just like that, you will be covered, without incurring a monthly service charge. It doesn’t get any better than that. Fighting inflation by saving money, while actually improving your property protection, and all in five minutes of computer activity. Win, win, win.
Although property title theft remains extremely rare, the problem is real enough to have caused our public servants to implement a cost-free process to prevent theft. That is proof enough for me that a problem actually exists. Everyone should take advantage of free protection, and drive the would-be thieves out of business.
Van Wie Financial is fee-only. For a reason.
Sam Bankman-Fried (SBF) became a headliner in newspapers throughout the media, financial and otherwise, in November of 2022, quickly attaining the status of a “Mini-Madoff” shyster. Like Bernie Madoff, SBF was formerly a well-known figure only in a smattering of households. Suddenly, a boatload of money disappeared virtually overnight, and SBF (the term brought to us by the acronym-obsessed mainstream media, or MSM) became a household word, rivaling Bernie Madoff in scope, size, and the element of surprise at his collapsing empire.
Unique, due to his age and the magnitude of the collapse, SBF has been shown to be a consummate liar and fake. His supposedly altruistic motive, wanting to make profits for the benefit of charities, was a cover for personal self-aggrandizement. Turns out, he loved the lifestyle, frequent accolades in financial media, and comparisons to superstar investor Warren Buffett. His headliner company, FTX, purchased an arena name in Miami. It has been shown that SBF made several illegal (large) campaign donations in 2022.
FTX had been touted by several celebrities, and SBF was treated as a must-have interview on financial media. His amazing success led to comparisons with giants such as Buffett. Meanwhile, SBF and a few friends were living large in the Bahamas, spending lavishly on real estate and lifestyles. Then, like a $12 hobbyist’s weather balloon over Lake Huron, his empire crashed and burned. Details of the SBF/FTX saga are left to biographers and media investigators.
Our purpose is to simply ask the pointed question, “What could possibly go wrong?” In November of 2022, the Ponzi-like scheme quickly unwound. FTX assets were frozen by the SEC, and the rest of the story is as predictable as it is well known. Real money was lost in quantities great and small. SBF morphed from the next Buffett to the next Madoff in less time than it takes to tell the story.
I have no idea what people were thinking when they chose to (1) get involved with crypto, and (2) trust a poorly groomed kid, possessing little or no standing, with billions of their real American dollars.
SBF apparently proved the declaration by P. T. Barnum that, “There’s a sucker born every minute.” He rivaled Barnum in sales ability, which apparently was outsized for a man of (only recently) 31 years of age.
Crypto is based on something we cannot see or touch and is hyped by famous people. It was supposedly created by Satoshi Nakamoto, someone no one can find.
At least Madoff dealt with real money instead of crypto. Small consolation, I suppose, for the big losers.
Van Wie Financial is fee-only. For a reason.
Almost everyone has experienced some stress from incurring a significant unexpected expense, which is the reason financial planners advise clients to establish and maintain a significant Cash Reserve, even before attempting to fund long-term goals. “Running out of money before running out of month” is a common problem, articulated by far too many Americans. Whether new tires, appliance repairs, A/C failing during a Florida summer – these and other emergencies strain individual and family cash flows.
What really irks many Americans are unexpected tax bills. Some surprises are preventable, such as planning for taxes on 1099 (gig) income, but the worst scenario for an unexpected tax bill arises when the tax does not result from some cash payment received by the taxpayer. One of the most common forms of imputed income is fringe benefits supplied by an employer to an employee. Use of company cars, some insurance benefits above limits, and other items add to W-2 income but do not have a matching cash flow. Tax on these items can also be planned, and withholding adjusted to avoid surprises.
Insatiable governments are constantly searching for new sources of revenue. One of the most insidious tax proposals of modern times was Bill Clinton’s proposed imputed rent income. Under that proposal, IRS would estimate how much a homeowner would pay to a landlord to rent an equivalent property. This amount would be imputed as taxable income. I dubbed this potential cash flow conundrum Taxation Without Monetization. “Monetization” means developing a cash flow from an item or idea.
Over recent decades, several attempts have been made to tax accumulated wealth, in addition to current income. Attempts have also been made to tax unrealized increases in the value of various assets owned by taxpayers. Some of you may remember the Florida Intangible Tax, which Governor Jeb Bush abolished, as he had promised. Since wealth has no inherent cash flow of its own, and income derived from some assets that comprise wealth is already taxable, taxing non-revenue-generating assets constitutes Taxation Without Monetization.
This week, another example of Taxation Without Monetization hit investors who had used the Crypto Lending firm, Celsius Network, which filed for bankruptcy. Investor assets were frozen when the filing occurred. But that didn’t stop Uncle Sam from sending a tax bill to the bilked investors. Problems with Crypto Lending will be discussed later, and we’ll focus on the tax side. Interest earned, but not paid to investors, is taxable income. This creates Taxation Without Monetization. It could have been avoided.
One big Celsius loser, in his own words, “put all my eggs in one basket, and I’m wiped out.” He’d have done much better by investing in eggs.
Van Wie Financial is fee-only. For a reason.
Exchange-Traded Funds (ETFs) are similar to Mutual Funds, which should surprise no one who realizes that one business grew out of the other. Each begins as a collection (pool) of financial assets, typically stocks, and bonds. Once assets are in position, differences begin to take shape. While traditional Mutual Funds have been in existence for over 100 years, ETFs recently celebrated 30 years since their inception in 1993.
I like to picture a Mutual Fund, Exchange-Traded Fund, or similar asset pooling technique like this. Using a stock fund as an example, picture a stack of stock certificates, representing the entire holdings of the fund. Now, take a big electronic knife to slice the stack, cutting a series of equal vertical pieces, each containing a small part of every asset. Individual or institutional ownership is represented by the number of shares held at any point in time.
Distinctions include methods of buying and selling shares, the tax treatment of income, gains, and losses resulting from the ownership, and costs incurred while shares are owned. By law, Mutual Fund shares are bought from, and sold to, only the Fund Company itself. Trading is limited to off-hours, meaning when the major Stock Exchanges are closed. ETFs are bought and sold among and between traders, over an Exchange, during trading hours.
Costs of ownership favor Exchange-Traded Funds, which require less day-to-day management, partially due to trading simplicity. Unless a particular Mutual Fund consistently outperforms a similar ETF over time, most investors see no point in absorbing the extra internal costs of the Mutual Fund.
Perhaps the most significant feature of ETFs is the advantageous tax treatment granted by the IRS to owners of ETF shares. Traditional Mutual Funds are required by law to distribute to shareholders, at least annually, all net dividends and capital gains realized within the fund itself over a specific time period. For shares held in taxable accounts, this creates a tax liability for the owner. Since many owners choose to reinvest their payouts in new shares, the taxes must be paid from other sources.
ETFs are not required to distribute dividends and gains, and many choose to hold back the cash to grow the share value. Taxes are paid when shares are sold, generally with proceeds from the sale. During times of down markets, shares are often sold below their cost, generating a tax loss that can be used to offset gains from other sources, or from differing time periods.
Investors everywhere are discovering that ETFs are increasingly useful in portfolio construction and management. Happy Birthday, ETF Industry. We celebrate your very existence.
Van Wie Financial is fee-only. For a reason.
Mutual funds, for all their contributions to wealth creation, have inherent drawbacks. Internal expenses are relatively large, and tax complications arise from the Tax Code’s treatment of dividends and capital gains within mutual funds. Trades are performed only after regular Stock Exchange hours, and all trades are to and from the Fund Company itself. Recognizing flaws in the system, 70+-year-old Nate Most set out to revolutionize stock and bond trading in 1987. He succeeded in 1993, 30 years ago, and never looked back.
So was born the Exchange-Traded Fund, or ETF, which addressed all the shortcomings of mutual funds. Internal fees, as well as trading costs, were dramatically reduced, the tax treatment is fair and controllable, and trading is done electronically during Exchange hours. And the rest, as they say, is history. Next week we will explore the beneficial intrinsic attributes of the ETF.
Van Wie Financial is fee-only. For a reason.
Individual stocks were expensive to buy and sell, and access to most Americans was effectively denied, due to excessive trading costs. In 1744, Netherlands native Abraham van Ketwich created the first pool of securities designed to allow access to the masses, and the mutual fund was born. Throughout centuries, stock trading and mutual fund investing grew into the powerhouse capital generator that drives our economy today.
Mutual funds, for all their contributions to wealth creation, have inherent drawbacks. Internal expenses are relatively large, and tax complications arise from the Tax Code’s treatment of dividends and capital gains within mutual funds. Trades are performed only after regular Stock Exchange hours, and all trades are to and from the Fund Company itself. Recognizing flaws in the system, 70+-year-old Nate Most set out to revolutionize stock and bond trading in 1987. He succeeded in 1993, 30 years ago, and never looked back.
So was born the Exchange-Traded Fund, or ETF, which addressed all the shortcomings of mutual funds. Internal fees, as well as trading costs, were dramatically reduced, the tax treatment is fair and controllable, and trading is done electronically during Exchange hours. And the rest, as they say, is history. Next week we will explore the beneficial intrinsic attributes of the ETF.
Van Wie Financial is fee-only. For a reason.
In 1791, securities traders first met under a Buttonwood tree on Wall Street. As the business grew, the Buttonwood traders organized and formed the New York Stock Exchange, where individual securities were bought and sold. Over time, more Exchanges popped up, and the Securities business boomed (on and off, anyway; research the Crash of 1929).
Individual stocks were expensive to buy and sell, and access to most Americans was effectively denied, due to excessive trading costs. In 1744, Netherlands native Abraham van Ketwich created the first pool of securities designed to allow access to the masses, and the mutual fund was born. Throughout centuries, stock trading and mutual fund investing grew into the powerhouse capital generator that drives our economy today.
Mutual funds, for all their contributions to wealth creation, have inherent drawbacks. Internal expenses are relatively large, and tax complications arise from the Tax Code’s treatment of dividends and capital gains within mutual funds. Trades are performed only after regular Stock Exchange hours, and all trades are to and from the Fund Company itself. Recognizing flaws in the system, 70+-year-old Nate Most set out to revolutionize stock and bond trading in 1987. He succeeded in 1993, 30 years ago, and never looked back.
So was born the Exchange-Traded Fund, or ETF, which addressed all the shortcomings of mutual funds. Internal fees, as well as trading costs, were dramatically reduced, the tax treatment is fair and controllable, and trading is done electronically during Exchange hours. And the rest, as they say, is history. Next week we will explore the beneficial intrinsic attributes of the ETF.
Van Wie Financial is fee-only. For a reason.
In order to illustrate the importance of the ETF, a little history is useful. Wall Street was named for a wooden wall constructed in 1652 by Dutch settlers in New Amsterdam (Manhattan Island today), who were defending their territory against an expected invasion by England. The wall was demolished in 1699. Notable events from the area formerly protected by the wall include the drafting of our Bill of Rights in 1788 (by George Washington), while New York City was still the Capital of the United States.
In 1791, securities traders first met under a Buttonwood tree on Wall Street. As the business grew, the Buttonwood traders organized and formed the New York Stock Exchange, where individual securities were bought and sold. Over time, more Exchanges popped up, and the Securities business boomed (on and off, anyway; research the Crash of 1929).
Individual stocks were expensive to buy and sell, and access to most Americans was effectively denied, due to excessive trading costs. In 1744, Netherlands native Abraham van Ketwich created the first pool of securities designed to allow access to the masses, and the mutual fund was born. Throughout centuries, stock trading and mutual fund investing grew into the powerhouse capital generator that drives our economy today.
Mutual funds, for all their contributions to wealth creation, have inherent drawbacks. Internal expenses are relatively large, and tax complications arise from the Tax Code’s treatment of dividends and capital gains within mutual funds. Trades are performed only after regular Stock Exchange hours, and all trades are to and from the Fund Company itself. Recognizing flaws in the system, 70+-year-old Nate Most set out to revolutionize stock and bond trading in 1987. He succeeded in 1993, 30 years ago, and never looked back.
So was born the Exchange-Traded Fund, or ETF, which addressed all the shortcomings of mutual funds. Internal fees, as well as trading costs, were dramatically reduced, the tax treatment is fair and controllable, and trading is done electronically during Exchange hours. And the rest, as they say, is history. Next week we will explore the beneficial intrinsic attributes of the ETF.
Van Wie Financial is fee-only. For a reason.
Acronyms are all the rage in Washington, D.C., where “alphabet agencies” abound, politicians become famous (infamous?) using their initials (AOC, JFK, etc.), and significant legislation is deceptively named, and then assigned gobbledygook acronyms. On Wall Street, acronyms are used to simplify concepts that are meaningful, if complex. One such acronym is ETF, which is short for Exchange-Traded Fund. Recently, the ETF celebrated its 30th birthday, having been launched by the American Stock Exchange on January 29, 1993.
In order to illustrate the importance of the ETF, a little history is useful. Wall Street was named for a wooden wall constructed in 1652 by Dutch settlers in New Amsterdam (Manhattan Island today), who were defending their territory against an expected invasion by England. The wall was demolished in 1699. Notable events from the area formerly protected by the wall include the drafting of our Bill of Rights in 1788 (by George Washington), while New York City was still the Capital of the United States.
In 1791, securities traders first met under a Buttonwood tree on Wall Street. As the business grew, the Buttonwood traders organized and formed the New York Stock Exchange, where individual securities were bought and sold. Over time, more Exchanges popped up, and the Securities business boomed (on and off, anyway; research the Crash of 1929).
Individual stocks were expensive to buy and sell, and access to most Americans was effectively denied, due to excessive trading costs. In 1744, Netherlands native Abraham van Ketwich created the first pool of securities designed to allow access to the masses, and the mutual fund was born. Throughout centuries, stock trading and mutual fund investing grew into the powerhouse capital generator that drives our economy today.
Mutual funds, for all their contributions to wealth creation, have inherent drawbacks. Internal expenses are relatively large, and tax complications arise from the Tax Code’s treatment of dividends and capital gains within mutual funds. Trades are performed only after regular Stock Exchange hours, and all trades are to and from the Fund Company itself. Recognizing flaws in the system, 70+-year-old Nate Most set out to revolutionize stock and bond trading in 1987. He succeeded in 1993, 30 years ago, and never looked back.
So was born the Exchange-Traded Fund, or ETF, which addressed all the shortcomings of mutual funds. Internal fees, as well as trading costs, were dramatically reduced, the tax treatment is fair and controllable, and trading is done electronically during Exchange hours. And the rest, as they say, is history. Next week we will explore the beneficial intrinsic attributes of the ETF.
Van Wie Financial is fee-only. For a reason.
Acronyms are all the rage in Washington, D.C., where “alphabet agencies” abound, politicians become famous (infamous?) using their initials (AOC, JFK, etc.), and significant legislation is deceptively named, and then assigned gobbledygook acronyms. On Wall Street, acronyms are used to simplify concepts that are meaningful, if complex. One such acronym is ETF, which is short for Exchange-Traded Fund. Recently, the ETF celebrated its 30th birthday, having been launched by the American Stock Exchange on January 29, 1993.
In order to illustrate the importance of the ETF, a little history is useful. Wall Street was named for a wooden wall constructed in 1652 by Dutch settlers in New Amsterdam (Manhattan Island today), who were defending their territory against an expected invasion by England. The wall was demolished in 1699. Notable events from the area formerly protected by the wall include the drafting of our Bill of Rights in 1788 (by George Washington), while New York City was still the Capital of the United States.
In 1791, securities traders first met under a Buttonwood tree on Wall Street. As the business grew, the Buttonwood traders organized and formed the New York Stock Exchange, where individual securities were bought and sold. Over time, more Exchanges popped up, and the Securities business boomed (on and off, anyway; research the Crash of 1929).
Individual stocks were expensive to buy and sell, and access to most Americans was effectively denied, due to excessive trading costs. In 1744, Netherlands native Abraham van Ketwich created the first pool of securities designed to allow access to the masses, and the mutual fund was born. Throughout centuries, stock trading and mutual fund investing grew into the powerhouse capital generator that drives our economy today.
Mutual funds, for all their contributions to wealth creation, have inherent drawbacks. Internal expenses are relatively large, and tax complications arise from the Tax Code’s treatment of dividends and capital gains within mutual funds. Trades are performed only after regular Stock Exchange hours, and all trades are to and from the Fund Company itself. Recognizing flaws in the system, 70+-year-old Nate Most set out to revolutionize stock and bond trading in 1987. He succeeded in 1993, 30 years ago, and never looked back.
So was born the Exchange-Traded Fund, or ETF, which addressed all the shortcomings of mutual funds. Internal fees, as well as trading costs, were dramatically reduced, the tax treatment is fair and controllable, and trading is done electronically during Exchange hours. And the rest, as they say, is history. Next week we will explore the beneficial intrinsic attributes of the ETF.
Van Wie Financial is fee-only. For a reason.
Last week, we began a discussion of possible reactions to recent substantial increases in interest rates. The Federal Reserve (FED) has been pumping up rates in a quest to stifle rampant inflation, which (ironically) was not caused by low-interest rates. Any time substantial interest rate changes occur, there will be economic winners and losers, depending on both individual situations and reactions.
Indications are that we have nearly reached the high point in this interest rate cycle. With this understanding, we are looking today at a lesser-known fixed-income (bond) investment. Most people react negatively to any mention of bonds. In our financial planning practice, we frequently hear people say, “I hate bonds.” Understanding some basic concepts and characteristics of certain types of bonds will clear the air as to their purpose and importance in portfolio construction, management, and success.
Bonds are debt instruments, as opposed to equity instruments (stocks). They can be issued by governments or other organizations, and come in many flavors, so to speak. Today we are looking at Zero Coupon Bonds (Zeroes), so named because they do not pay interest until maturity. Instead, they are purchased at a discount, and upon maturity are redeemed at face value.
Prior to maturing, all bonds have market values, determined in the secondary, or resale, market. The easiest way to depict bond price action is to picture a seesaw, with bond prices on one end, and interest rates on the other. When one goes up, the other reacts by going down, and vice-versa. The magnitude of the change in market price reflects time to maturity. Longer maturities incur more volatility than short-term bonds. With interest rates set to decrease sometime in the foreseeable future, long-term bonds are currently priced low. But Zeroes are the most volatile of all bonds and are presenting a golden opportunity to leverage future interest rate decreases.
A primary setback for owners of Zeroes involves the mismatch between interest credits versus payments. Owners receive imputed interest, but no cash is paid. In taxable accounts, this creates a tax liability, without the corresponding cash inflows until maturity. Ingenuity indicates that owning Zeroes in tax-deferred, or even tax-free, accounts, defers any tax liability until the funds are withdrawn from the account. In the case of Roth IRAs, no tax will ever be due on imputed interest, changes in market value, or maturity, if held that long.
Zeroes can be purchased individually or using ETFs designed especially for the purpose. We prefer Government Zeroes to minimize long-term risk.
Portfolio planning is part science and part art form. Finding a qualified investment advisor is always a good start. Look for the CFPâ designation.
Van Wie Financial is fee-only. For a reason.