Your 401k, Social Security, and the Martini

Your 40lk, Social Security, and the Martini

Are there any positives from the financial meltdown and resulting Depression the country is now experiencing? With the average 401k value down by 40% or so and home values reduced by nearly the same amount, everyone wishes it all never happened and we’ll all very soon awake from this double whammy nightmare. Job losses and home foreclosures may also add another whammy or two to your particular situation and this never ending bad dream. The answer to the question, however, is “Yes, there are some very strong personal financial positives which are also a by-product of the financial disaster.” In Economics, this is called an “externality,” which simply means an “unintended consequence of another event.”

This article is about your 40lk, Social Security, and the Martini. These three key elements of your personal happiness are critical to your financial well being for both the long and short term. To understand any one of them in its singular entirety is impossible without also understanding the other two. This is because they are all linked, meaning that you probably have a 401k, you will get Social Security at some point (or may already be getting it) and you drink martinis. You must understand that all three are in operation simultaneously! If any one of these items doesn’t fit your profile, particularly the martini element (if you don’t drink martinis), then read no further. In order for you to understand the complex economic prerogatives in the following paragraphs, you need to completely understand the connection between these three aspects of your life. This article points out what to do about your 401k, the even greater role Social Security will have in your financial future, and what actually constitutes a good martini.

On all three of these subjects, there is a great deal of confusion, controversy, and misinformation as well as the severe personal financial pain recently experienced by most of us (except for me). The martini conundrum graphically illustrates this deplorable situation. Consider your last visit to a restaurant. There is a whole menu of martinis such as gin, vodka, fruit martinis, chocolate martinis, ad nauseam. Does this remind you of your 401k? It should. Before you lost a lot of your money in the last year, you probably had a similar list of imponderable options of the financial type from which to choose your poison so to speak. “How do I want to construct my 401k?” To help you choose your preferred demise, there was probably an investment advisor to provide “guidance and counsel.” So, can you see the connection a bit more clearly? Choosing a 401k strategy was (is) like choosing a martini. There were so many options and picking the right one, as it turned out, was an impossible task. You’re saying, “Okay, so that’s ancient history. But, now I’m broke so, what do I do? And, I can’t even have a martini to drown my sorrows because, at this point, I don’t trust my decision making capabilities any more and there are just too may choices on the martini menu.”




It wasn’t your fault, if that’s what you wanted to hear. Everyone was a victim of the greed, fraud, and theft of the “financial terrorism” which occurred. Terrorism is the only fitting description for what the actions of those supposedly trustful individuals have done to our country. Unfortunately, these kinds of things are not new and their prevention requires assertive regulation in the future.

“Whereas gold is the kindest of all hosts
When it shines in the sky,
It comes an evil guest unto those that
Receive it in their hand.” (Simonides of Ceos 556-469 B.C.)

The blatant robbery by these individuals of money and assets from the financial system and the millions of individuals invested in it did more financial damage to the country than the 9-11 attack. But, not only money and property was robbed. People’s lives were destroyed as their life savings evaporated with the Madoff’s Of Wall Street. Confidence in financial institutions, the financial system, and the government itself, also was stolen by these despicable thieves. I do not envy President Obama for the onerous job he now faces.

What are the positives most important to you that have emerged from this national disaster?

FIRST, your retirement strategy is going to be clarified and your retirement will be adequate and secure.

This will be the case if Mr. Obama is able to reform Social Security into a logical, comprehensive system that provides adequate income for people in their retirement years. In other words, the Social Security system needs to be strengthened to the point of becoming the “main retirement” vehicle for all citizens. This will entail higher contributions during your working years to accommodate you and your longer life span during your non-working years. Other strategies the government could take to establish Social Security as the stable, adequate, and primary retirement resource it must be if people are to be able to depend on a secure retirement are:
Postponing pay-outs to subscribers until they reach age 70.
Raise the collection rate during the working years.
Remove the income cap for Social Security pay-ins.
All three of these will probably happen to some degree if Mr. Obama successfully addresses the “Social Security problem.”

SECOND, your 401k, if you have one, will become your secondary retirement tool and serve only as a back-up for Social Security.

Social Security, if it is transformed as it should be, will now provide an adequate income to rely upon in retirement. Your 401k will only enhance your standard of living. That is, it will enhance your standard of living if you do well in saving and investing. But, if you don’t save or invest well (with much good luck), you will still have, at a minimum, a secure base retirement income provided by a re-engineered Social Security.

THIRD, the realization that the entire retirement system in the United States is broken was finally brought into the clear focus of national attention.

Everyone knew Social Security was broken, but everyone also thought Stock Market based 401k’s were the answer. Most clearly, Stock Market based 401k’s are broken too.

Let’s consider each of these. In the first point, Social Security must become a guaranteed pension with a minimum base income to provide for each person’s retirement. This can be structured to also provide additional retirement income by indexing the amount paid out to the amount each person paid in. This would be an incremental income amount once the minimum base income contribution was reached. It could also be structured with an available conservative, indexed stock fund for those who wished to make the Stock Market an additional part of their retirement income, again, once the minimum base contribution was reached. This provides the flexibility for each person to have a minimum livable income for his/her retirement years and the ability to increase their retirement income through increased contributions from higher wages or additional optional contributions during the working years. Also, the amount of contribution during the working years would have to include an “inflation factor” to maintain the standard of living for retirees throughout their retirement years.

Considering the second point, the Stock Market based 401k has clearly proven to be an unreliable, unstable, unsafe, and ill conceived retirement vehicle. Philosophically, it is completely illogical. Here’s why. In your retirement years, you want a dependable fixed income. It should increase slightly each year to allow for inflation. However, very obviously, the Stock Market is a highly volatile and subsequently highly variable investment strategy. As such, the Stock Market cannot provide a dependable fixed future income. As events of the last year have also unquestionably proven, the Stock Market is not a safe haven to guarantee retirement security with a guaranteed, minimum fixed income. Safety becomes a dramatically increased concern for the future due to the increasingly volatile and uncertain world in which we live. Can you afford to have your retirement income fluctuate at the whims of random terrorist strikes, rogue countries with nuclear weapons, oil shortages and other alarming world events? The Stock Market is not the place to build your retirement security.

The third point, closely related to the second, is that the Stock Market based 401k system is broken. When you set your 401k up, you could choose from various investment, options, select the degree of risk you could tolerate, and, of course, state your investment goals. Your advisor, of course, would help you with all these things. Well, at least your advisor would help you except for one minor point. He doesn’t have any more of a clue than you do about the investment options. All he knows is what the investment firm he is representing states in his little script about the various investment alternatives. He may also be advising you to choose a particular option because he gets a bigger commission if you “buy” that investment option. Wait a minute. Is something wrong with this picture?
First, your advisor probably doesn’t know anymore, or maybe even less, than you do. Second, if your advisor is getting paid a commission on the various investment choices he “recommends,” sells is the correct word, how objective can he or she be? Your advisor is making investment recommendations to you based on what is good for him/her, not what is best for you. Third is the amount of risk you want to have. Of course, theoretically, the more risk you take, the more money you can make. Everyone is aware that with the risk comes the possibility of loss but, no one ever expects that loss will actually happen. After the past year’s events, we now know that risk is real and loss really does happen. Fourth, and my favorite, is “what are your investment goals?” That is absolutely the most ridiculous question to ask any investor. What do you think my goals are Mr. financial advisor? I want to make a big return on my investment, now and in the future, and not lose any money in the process.

Continuing on this third point, there is also the option to manage your 401k yourself. The big questions are how much you know, how much time you have, and how quickly you will learn of and can act on various investment opportunities. Here’s what Bernard Baruch said about that particular subject:

“If you are ready and able to give up everything else, to study the whole history and background of the market and all the principal companies whose stocks are on the board as carefully as a medical student studies anatomy, to glue your nose at the tape at the opening of every day of the year and never take it off till night, if you can do all that and in addition you have the cool nerves of a great gambler, the sixth sense of a kind of clairvoyant, and the courage of a lion, then you’ve got a chance.”
(Bernard Baruch 1870-1965)

If you give credence to this particular quote, the conclusion must be that even if a person had the time, interest and dedication, and didn’t have to focus on earning a living and raising a family, then if he did all the other things listed in the quotation, maybe he or she could possibly be successful in the market. Or, then again, maybe they wouldn’t be successful. Knowing the odds are definitely not in our favor, does it make sense to roll the dice on the remote probability of success with your retirement at stake?

The financial community has sold the country a bill of goods on building a retirement based on Stock Market investments. Their huge salaries are at the expense of investors. Investors are sold financial products which provide the most lucrative return in commissions to the financial advisor and his institutions, not the most lucrative return to the investor. You have to conclude that luck plays far too great a role in success or failure in the Stock Market. Those advisors and institutions which are “successful” didn’t do a better job of researching the stocks they picked. They didn’t do a better job of market timing or recognizing trends that no one else foresaw. They were, in many cases, just luckier. If most financial advisors and the companies they work for really knew that much about the Stock Market, then why has the average 401k lost 40% of its value? The conclusion has to be not only has the time for Stock Market based 401k’s passed, but it was never an intelligent strategy in the first place.

Another example from painful personal experience is for years, I allowed my 401k to be managed by “professionals.” This money was invariably invested in the Stock Market. When there was a downturn or some threatening event such as the “dot com debacle,” I would call my “advisor” and express my concern about the safety of my investments. In the “dot com” debacle, I told my advisor I was sure the market was going to crash. Stupidly, I let him convince me to leave my money where it was as “we’re in it for the long run.” Well, “we’re “not in it. It’s my money. I’m the only one that’s “in it.” My failure to insist that my portfolio be cashed out of the market cost me $50,000 or so when the dot.com crash happened shortly thereafter.

As an experiment proved one time, investments hypothetically made with the only criteria being a dart landing on the company name when a monkey threw darts at a list of companies on a dart board did just as well as the overall stock market in rate of return.

The conclusion is the roles played by your former 401k and Social Security must switch. The government must aggressively reengineer Social Security to become the primary retirement vehicle. For most people, the bulk of their savings for retirement would now go to Social Security. The 401k, on the other hand, would be a totally separate optional retirement tool either self-managed by individuals or the institutions they selected. Regardless of their success with their 401k, they would have Social Security as a strong foundation providing an adequate and reliable basic income to see people through their non-working years.

I would hesitate to advise you on what to do with your 401k at this point. The problem is that nobody can really advise you because no one really knows what to do in the current situation. No matter what anyone tells you, it is only a guess because they really don’t know what will happen in the market. If you bail out of the market today, you lock in your losses. If you leave your money in the market, it might go up a thousand points tomorrow, or it may go down a thousand points tomorrow. You might get some of your losses back or you might lose even more. Bernard Baruch also made the point that an investor can never recognize the high point at which to sell the stock or the low point at which to buy the stock. He emphasized that money is not made after either point, but rather money is made before either point is reached.

Earlier I mentioned that I did not lose any money in my 401k during this financial meltdown, and that is true. I actually made money. The reason I did not lose any money but actually had a positive return during this time is in mid-October of 2007, I converted my entire 401k to cash. I was featured in a May 5, 2008 article in the Wall Street journal because I had converted to cash some six months earlier. The article ended with the question of whether that would turn out to have been the correct strategy. And, with the wreckage of the entire financial system at this point, it is more than obvious how things turned out.

But here’s the major point. The reason I converted my 401k into cash in mid-October of 2007 was not due to my concern with the performance of the Stock Market at that time or what I might expect as to the future performance of the Stock Market. Rather, my decision to get out of equities and funds was based solely on “systemic issues.” I believe I was one of the first to use that term in relation to the financial situation at that specific time. What I was beginning to see were major structural concerns, weaknesses, and uncertainty issues with major financial institutions. It was apparent to me that the entire financial system was encountering major stresses which, if not brought under immediate control, threatened to cause catastrophic failure of the very system itself. It was at that point that I converted my entire 401k to cash. While I didn’t know when the market would crash, I was certain that it would be in the near future and losses would be severe. My move to cash was not just an investment strategy but a flight to safety. I also concluded at that point that placing my future retirement income into an investment vehicle (Stock Market) this volatile was not really a sane strategy to follow. Rather, I might invest in the Stock Market with “spare funds” I could afford to lose, knowing that it would be a gamble something along the lines of a Las Vegas style bet. But, my main 401k monies are going to stay safe in government backed (FDIC insured) investments such as CD’s. While the low rate of return is almost comical, the risk is insignificant and my money is safe. That’s where I want to be.

But now, let’s get back to that one last important subject before summarizing our final conclusions, the martini. As you recall from above, we talked about the myriad of “choices” when allocating funds for your 401k. That process needs to be much simpler, and, with the current economic situation, we can make it so. Let’s illustrate, once again, using the martini as an example. Just as it was with your 401k, we discussed the conundrum of the many choices with the martini when you go into a good restaurant. Once we solve the martini riddle, the 401k riddle will basically evaporate as we will now have a template for the decision process.

Here is what needs to be done. First of all, let’s look at the facts. As is my practice, we resort to history to straighten things out. The martini was invented in 1874 in Martinez, California when a miner stopped by a saloon owned by Julio Richelieu. (While there are other versions, this one seems to be the earliest dated one.) The miner asked for “something special.” Richelieu served him a “Martinez Special.” As the story goes, pronouncing the “Z” became somewhat difficult after three or four drinks and the name evolved into “Martini.” The original martini consisted of 2/3 gin, 1/3 vermouth, and a dash of orange bitters poured over crushed ice and served with an olive. While it is okay to slightly increase or decrease the amount of the basic ingredients according to taste, it is not okay to change the change the basic ingredients themselves with the exception of eliminating the orange bitters, which nobody ever has anyway. The historical definition of a martini, then, is gin and vermouth, poured over ice with an olive added. So there you have it. This is what a martini really is. No more decisions. We’ll handle your 401k the same way but let’s finish the martini discussion.

The Perfect Martini:

“Where” you have the martini and what kind of glass it is served in are critically important for the “perfect martini.”

The following historical narrative featuring my brother and me illustrates these points. In order to satisfy the atmospheric issue, the “where” was Nepenthe Restaurant in Big Sur where we requested and received the corner table by the window overlooking the Pacific Ocean. Yes, this was just fine. The waitress asked for the drink order. At this time there were two martinis ordered. My brother ordered Tanqueray gin while I challenged him with the Bombay Sapphire gin. We both ordered the martini constructed as follows: “Up, very, very dry, shaken quite vigorously at the table to chill the gin to the point that it was a grey color, nearly an icy syrup, and then poured into the waiting chilled stem glass, with an olive on the table next to the glass (putting the olive into the glass distorts the gin taste with its olive juice flavor as you reach the last half inch of your drink). Immediately after pouring, the waitress pointed toward the bartender, who, with the corked bottle of vermouth in his left hand (no vermouth had been added to the gin), looked at both of us and smiled, and immediately raised his eyes upward toward heaven and said, “Lord, thank you for all of your blessings.” He then looked backed at us and gave us a “thumbs up.” The martini was now properly mixed. That is the perfect extra dry martini. (It should be noted that we actually requested the waitress allow us to do the shaking ourselves so we could guarantee ice crystals floating on the top of the gin once it was poured into the chilled stem glass. Also, because the martini was extra dry, vermouth was never physically added to the gin itself. However, the completion of the mixing of the martini with the bartender merely holding the corked bottle of vermouth took on a spiritual aspect as described. The result was that while we both knew no vermouth had ever been added, we both swore we detected a very faint taste of vermouth in the martinis before us, which even more greatly enhanced the spiritual mystique we were now experiencing.)

Conclusions:

Social Security must emerge as the mainstay of your retirement. It will, if properly reconstructed by the Obama administration, require increased contributions during your working life.
Your 401k, with you or your designee managing it, should serve only as an optional backup to enhance your life style in retirement.
The financial meltdown clearly underscored the fact that Stock Market based 401k’s are unreliable, unstable, and an irrational option to fund your retirement.
The great percentage of people does not have the time, desire, or expertise to effectively manage their 401k. As they age, they are even less able to make the complex decisions a 401k requires.
As stated, no one knows what to do in the current situation. My 401k is going to stay in 100% cash in FDIC insured CD’s.
Order your martini “perfect” as detailed above.



“The best of healers is good cheer.” (Pindar 518-438 BC)


QUOTE OF THE DAY:

John W. Snow, former Treasury Secretary in the Bush Administration (quoted in New York Times).

“The Bush Administration took a lot of pride that homeownership had reached historic highs. But what we forgot in the process was that it has to be done in the context of people being able to afford their house. We now realize there was a high cost.”




Translation: “Jeepers, we didn’t check their credit rating, didn’t ask for proof of income, nor any money down. Hey, we didn’t even know if some of them were illegal aliens (which they were). We never thought about whether or not we’d ever get paid those billions upon billions of mortgage dollars owed. We never even thought about it. I thought sub prime meant a kind of steak you order in a restaurant