As a CPA, I obviously think about investments a lot, and I also get many questions from clients about the most common investing mistakes, as well as the best tax strategies for managing investments.
How you handle your investments from a tax standpoint can obviously make a huge impact on your finances—both now and many years in the future.
For example, if you were to convert your 401K into a Roth IRA, you must make specific decisions and address specific items in order to mitigate a hefty tax bill. Yet, I’d be the first to admit that there’s a lot more to investments than taxes.
On occasion, I do need to discuss strategy with my clients’ financial advisors so that all three parties (client, financial advisor, and CPA) are on the same page.
I have particularly enjoyed teaming up with Taylor Haney in these scenarios. His model differs from many Registered Investor Advisors in that he will audit and/or design a plan for you for a flat fee even if you don’t hire him to manage your assets. His refreshing approach often results in him finding different, less traditional ways of creating value for his clients.
Taylor has seen a lot of dicey plans in his day. When I asked him to share some of the biggest mistakes he sees people make with saving and investing, his advice was too good not to share.
Taylor Haney’s advice is below in italics.
Investing Mistake #1 – Not understanding the difference between “saving” and “investing.
Both saving and investing play a part in your financial well being, but understanding how to save and to invest efficiently is lost on a lot of people.
Lots of people know they are “supposed to” save and invest, but they cannot tell you clearly and succinctly why they do what they do. You need to be crystal clear on your PURPOSE behind saving and investing.
Every dollar you save and invest must have a clear purpose.
This may seem obvious, yet many families can’t tell you what their monthly budget is, or why they have a significant amount of cash in a savings account with a tiny APY.
Or what about the young couple with no assets who are funding a 529 for their child instead of funding their own retirement first?
You’d be surprised at how many individuals and families don’t know where they’re headed.
There’s a quote from the Roman Stoic philosopher Seneca the Younger I like: “If one does not know to which port one is sailing, no wind is favorable.”
Once you define your goals, you can optimize your saving and investing strategies to meet them—with a high probability that those strategies will get you there.
Investing Mistake #2 – Letting fear and anxiety make your decisions.
When it comes to investing strategies, I’m not an absolutist.
In fact, I adhere to two different investment philosophies:
- Long-term strategic allocation, and
- Tactical allocation.
This is uncommon in the industry. Most advisors adhere to one philosophy like a religion and never consider alternatives. For example, “Low cost/buy and hold must be the best strategy because I read sixteen years ago that Warren Buffett said so.”
Or, “The financial guru I follow said buy these four asset classes and allocate 25% to each, and you’ll magically make 11% per year.”
There’s only so much I can do if a client’s personal investing experience has given them a kind of PTSD. Your portfolio takes a huge dip, you get skittish, and you decide that stocks are “too risky,” even though broader economic factors, not the asset class, were to blame.
I’m not in the business of convincing someone to do something, and I cannot optimize outcomes for my clients if they cannot manage their emotional reaction to the markets.
Rather, I want to lead my clients with logic. Managing one’s emotions and following that logic during times of turmoil is the key to successful financial planning.
Investing Mistake #3 – Not asking about the costs associated with the plan.
The lack of transparency, clear explanation, and disclosure in this industry frustrates me.
I’m not referring to the obvious subject of compensation but rather to how little time advisors actually spend explaining financial planning, asset allocation, probabilities of success, and benchmarking to their clients.
I can’t tell you how many times I’ve seen a plan that shows a 60/40 allocation recommendation that predicts a 7.5% return. The plan shows how the couple will hit their goals and end up multimillionaires.
Unfortunately, their advisor fails to disclose “what” actually makes up the 60/40, “how” he plans to put the plan into action, and the costs associated with the plan.
Many advisors will conveniently leave out how their fees affect the long term return of the plan.
I’ve been doing this for nearly a decade now, and yet I have never seen a single plan—outside of the ones I create—that showed clearly how the expenses and asset management fees affect return projections.
Investing Mistake #4 – Failing to factor in probability.
Speaking of projections, most advisors also fail to disclose the probabilities around which a plan is built.
When I meet with a prospect who actually has a plan, the plan’s “Results” section will show the client hitting their retirement goal with “100%” funding.
But what does that mean and how likely is that outcome?
Most advisors don’t talk openly about the probability or simply don’t recognize the probability component. (Usually, it’s the latter.)
They use financial planning software that defaults to 100% funding even when an individual has only a 51% probability of hitting that target.
In my book that’s a coin toss, not a sure bet.
Are you comfortable with that?
Here’s an example: If your average return is 4% and you plan to withdraw 4% percent a year for retirement, then obviously you are 100% funded.
But what does it take to earn that 4%? What is the standard deviation and maximum drawdown?
If standard deviation is low and drawdown is low, then probability will likely be very high, but if deviation or drawdown goes up, then probability goes down.
And as probability goes down, the plan’s trustworthiness and effectiveness do too.
That’s why advisors should recalibrate ALL of their clients plans on a semi-regular basis based on the factors I just mentioned.
Let me put it another way: If we’re driving to Los Angeles and we encounter a twenty car pile-up, then we will want to reroute to save time. Like a good GPS good financial plans use new information to find a better route.
Your financial plan should be a “living” document. You may need an advisor who can help you understand complex strategies and scenarios, but your plan should be something you BELIEVE in because you know it’s getting the job done.
Now you know why I respect Taylor’s opinions. He is always more interested in helping people avoid investing mistakes and in creating the right outcome than he is in pushing a particular strategy or investment vehicle.
If you don’t already have a financial plan you believe in, or are looking for an advisor with an alternative point of view, then reach out to Taylor Haney (firstname.lastname@example.org).