Avoiding Tragedies

Finally, I found a few paragraphs in the media that made some sense. MarketWatch featured a piece titled “Avoidable trillion-dollar tragedies.” While the story addresses several important issues, I want to focus on the portion about the misguided mutual fund management mess. Here is an excerpt along with my comments:

If the next few years are as devastating as the 2000-2002 bear market, traditional mutual funds families risk losing as much as $10.6 trillion of retirement savings balances, including $2.4 trillion of deferred income taxes. In the last bear market investors lost $7.8 trillion simply by “staying the course.”

My comment: The markets have currently moved back into the upper trading range, so investors are in a bullish mood. While it’s too early to tell which way a possible breakout will occur, you not only need to be aware that a bear market can return at anytime, you also must have a plan in place to avoid going down with the crowd.

If fund managers are so smart, why won’t they protect shareholders’ money from bear markets? Read your prospectus; they promised they wouldn’t sell short or “go to cash” in bear markets. When markets decline, you lose money.

My comment: Because the only protection against a bear market is to be in cash on the sidelines or actually invested in bear market funds. And don’t let any of these index proponents tell you any different—when the markets head south, index funds with will join the crowd.

As for tax-deferred programs, they have made their managers more money from inflated balances. Yet so far in this decade, the benchmark Standard & Poor’s 500 Index adjusted for inflation, has lost 23%. The wonder of compounding has been working against you. Many 401(k) plans are employee benefits that have not benefited employees.

Either find an experienced independent adviser who uses low-cost exchange-traded funds, or demand that regulators allow actively managed clones of the buy-and-hold-only funds. Let the investors decide; it’s their money and their choice. In bear markets, shareholders are paying for management that’s likely to lose them money.

My comment: Low cost index funds are fine during bull markets just like mutual funds. In a bear market, however, your portfolio will head down the same, but you may save a few pennies due to lower annual cost. That’s a small consolation when, at the end of a bear market, you’re index portfolio may “only” be down -40% vs. -45% in mutual funds. My point is that a bear market does not discriminate, because any kind of bull market asset will be devoured.