11.02.2008
6.13.2008
Handling Stocks with Microsoft Money 2005
Keeping track of stocks is probably the most problematic task you will ever undertake with Money. Merely figuring out what a short sell is, not to mention a margin buy and a stock split, is hard enough to begin with. How can you record these strange events in an investment or retirement account register?
Recording a purchase of stocks
When you purchase shares of a stock, follow these steps to record the purchase:
1. Click the Investing tab.
2. In the Investing window, click the Investing Tools button and choose Portfolio Manager from the drop-down menu.
The Portfolio Manager window appears.
3. Click the Work with Investments link, and then choose Record a Buy from the drop-down menu.
You see the Edit Transaction dialog box.
4. On the Inv. Account drop-down menu, select the name of the investment or retirement account where you want to record the purchase of the stock shares.
5. In the Date text box, enter the date you purchased the stocks.
Be sure to enter the date correctly. Money needs this date to calculate the stock's value over time.
6. In the Investment drop-down menu, click the arrow and select the stock from the drop-down list.
If this is the first time you have purchased shares of this stock, you see the Create New Investment dialog box.
7. Select Buy from the Activity drop-down list.
New text boxes — Activity, Transfer From, Quantity, Price, Commission, and Total — appear for describing the stock purchase.
8. In the Quantity text box, enter the number of stock shares that you purchased.
When you enter share prices of stock, you can enter fractions. For example, you can enter 50-1/2 or 10-1/4. Money converts the entry to a decimal.
9. In the Price text box, enter the price per share of the stock.
10. In the Commission text box, enter the commission (if you paid one).
The amount in the Total text box should now equal the total purchase price for the stock that is listed on your statement. If the amount isn't correct, review your statement and enter the correct quantity, price, and commission.
11. Click OK.
The purchase of the stock is entered in your account register.
Recording the sale of stocks
Except for the problem of lots, recording the sales of stocks is pretty simple. A lot is a group of securities purchased at the same time for the same price (and also a nephew of Abraham whose wife got turned into a saltshaker, but that's another story). Suppose that you buy 10 shares of Burger Heaven at $10 per share in January, and then buy 10 more shares of the same company at $20 per share in February. In March, you sell 15 shares. How many shares you sell from the $10 lot and the $20 lot is important in determining how much profit you make and how much you have to pay in capital gains taxes. Fortunately, Money can help you decide which shares to sell.
To see which stock lots you have purchased, click the name of the stock in the Portfolio Manager window. You see a miniregister with recently made transactions, as shown in Figure 9-5. Click the More Investment Data button in the miniregister, and choose View Lots from the pop-up menu. As shown in Figure 1, the View Lots dialog box shows you which lots you purchased and how much you paid for the stock in each lot.
Figure 1: Finding out whether you purchased stock in lots.
Follow these steps to record the sale of stock shares:
1. Click the Investing tab and, in the Investing window, click the Portfolio Manager link.
You land in the Portfolio Manager window.
2. If necessary, click the name of the account where you track the stock you want to sell.
To see the name of stocks and other investments in an account, you click the account's name, unless the investment names are already displayed, in which case you don't have to click an account name.
3. Click the name of the stock you sold.
A miniregister showing recently completed transactions appears.
4. Click the Work with Investments link, and then click Record a Sell on the submenu.
As shown in Figure 2, the Edit Transaction dialog box appears. Because you selected the stock you are selling in Step 3, the correct Inv. Account, Investment Name, and Activity options are already selected. However, if you want, you can bypass Steps 2 and 3 by clicking the Work with Investments link and choosing Record a Sell on the submenu. You see the Edit Transaction dialog box straightaway, but you have to choose an Inv. Account and Investment Name in the dialog box.
Figure 2: Selling a stock.
5. In the Quantity text box, enter the number of shares that you sold; enter the price per share in the Price text box.
6. If a commission was charged on the sale, enter the amount of the commission in the Commission text box.
Money enters the total amount of the sale in the Total text box. If the figure is incorrect, double-check the Quantity and Price text boxes to make sure that you entered the numbers correctly.
7. Click OK.
An Advisor FYI Alerts message box informs you whether you need to pay capital gains taxes or the sale resulted in a capital loss. The proceeds from the sale are deposited in your investment or retirement account.
That's all there is to it — unless you purchased the shares in different lots. In that case, you see the What Shares Should I Use? dialog box after you click OK. Unless you tell it otherwise, Money assumes that you want to sell the shares in the lot that you purchased first. To do that, simply click the Finish button.
Recording a purchase of stocks
When you purchase shares of a stock, follow these steps to record the purchase:
1. Click the Investing tab.
2. In the Investing window, click the Investing Tools button and choose Portfolio Manager from the drop-down menu.
The Portfolio Manager window appears.
3. Click the Work with Investments link, and then choose Record a Buy from the drop-down menu.
You see the Edit Transaction dialog box.
4. On the Inv. Account drop-down menu, select the name of the investment or retirement account where you want to record the purchase of the stock shares.
5. In the Date text box, enter the date you purchased the stocks.
Be sure to enter the date correctly. Money needs this date to calculate the stock's value over time.
6. In the Investment drop-down menu, click the arrow and select the stock from the drop-down list.
If this is the first time you have purchased shares of this stock, you see the Create New Investment dialog box.
7. Select Buy from the Activity drop-down list.
New text boxes — Activity, Transfer From, Quantity, Price, Commission, and Total — appear for describing the stock purchase.
8. In the Quantity text box, enter the number of stock shares that you purchased.
When you enter share prices of stock, you can enter fractions. For example, you can enter 50-1/2 or 10-1/4. Money converts the entry to a decimal.
9. In the Price text box, enter the price per share of the stock.
10. In the Commission text box, enter the commission (if you paid one).
The amount in the Total text box should now equal the total purchase price for the stock that is listed on your statement. If the amount isn't correct, review your statement and enter the correct quantity, price, and commission.
11. Click OK.
The purchase of the stock is entered in your account register.
Recording the sale of stocks
Except for the problem of lots, recording the sales of stocks is pretty simple. A lot is a group of securities purchased at the same time for the same price (and also a nephew of Abraham whose wife got turned into a saltshaker, but that's another story). Suppose that you buy 10 shares of Burger Heaven at $10 per share in January, and then buy 10 more shares of the same company at $20 per share in February. In March, you sell 15 shares. How many shares you sell from the $10 lot and the $20 lot is important in determining how much profit you make and how much you have to pay in capital gains taxes. Fortunately, Money can help you decide which shares to sell.
To see which stock lots you have purchased, click the name of the stock in the Portfolio Manager window. You see a miniregister with recently made transactions, as shown in Figure 9-5. Click the More Investment Data button in the miniregister, and choose View Lots from the pop-up menu. As shown in Figure 1, the View Lots dialog box shows you which lots you purchased and how much you paid for the stock in each lot.
Figure 1: Finding out whether you purchased stock in lots.
Follow these steps to record the sale of stock shares:
1. Click the Investing tab and, in the Investing window, click the Portfolio Manager link.
You land in the Portfolio Manager window.
2. If necessary, click the name of the account where you track the stock you want to sell.
To see the name of stocks and other investments in an account, you click the account's name, unless the investment names are already displayed, in which case you don't have to click an account name.
3. Click the name of the stock you sold.
A miniregister showing recently completed transactions appears.
4. Click the Work with Investments link, and then click Record a Sell on the submenu.
As shown in Figure 2, the Edit Transaction dialog box appears. Because you selected the stock you are selling in Step 3, the correct Inv. Account, Investment Name, and Activity options are already selected. However, if you want, you can bypass Steps 2 and 3 by clicking the Work with Investments link and choosing Record a Sell on the submenu. You see the Edit Transaction dialog box straightaway, but you have to choose an Inv. Account and Investment Name in the dialog box.
Figure 2: Selling a stock.
5. In the Quantity text box, enter the number of shares that you sold; enter the price per share in the Price text box.
6. If a commission was charged on the sale, enter the amount of the commission in the Commission text box.
Money enters the total amount of the sale in the Total text box. If the figure is incorrect, double-check the Quantity and Price text boxes to make sure that you entered the numbers correctly.
7. Click OK.
An Advisor FYI Alerts message box informs you whether you need to pay capital gains taxes or the sale resulted in a capital loss. The proceeds from the sale are deposited in your investment or retirement account.
That's all there is to it — unless you purchased the shares in different lots. In that case, you see the What Shares Should I Use? dialog box after you click OK. Unless you tell it otherwise, Money assumes that you want to sell the shares in the lot that you purchased first. To do that, simply click the Finish button.
6.12.2008
Accumulating the Down Payment to Buy a Home
You've finally found your dream home and you're already imagining how to decorate it, how your parties will be fabulous, and how your family will love it. Back to reality: After going through all of the loan documentation requirements and closing costs, you soon discover that you can't afford to buy the house because you haven't saved enough. Don't let this happen to you.
The 20 percent solution
Ideally, you should purchase a home and have enough accumulated for a down payment so that your down payment represents 20 percent of the purchase price of the property. Why 20 percent and not 10 or 15 or 25 or 30 percent? For the same reason that Goldilocks, at the residence of the three bears, liked the moderately warm bowl of porridge and disliked the bowls of porridge that were very hot and stone cold.
Twenty percent down is the magic number because it's a big enough cushion to protect lenders from default. Suppose, for example, a buyer puts only 10 percent down, then property values drop 5 percent, and the buyer defaults on the loan. When the lender forecloses — after paying a real estate commission, transfer tax, and other expenses of sale — the lender will be in the hole. Lenders learned the hard way that buyers are far less likely to default on and walk away from a home on which they pay 20 percent down. Lenders don't like losing money. They found they are far less likely to lose money on mortgages where the borrower has put up at least a down payment of 20 percent of the value of the property.
If, like most people, you plan to borrow money from a bank or other mortgage lender, be aware that almost all require you to obtain (and pay for) private mortgage insurance (PMI) if your down payment is less than 20 percent of the purchase price of the property. Think of the mortgage lender as Goldilocks — the person who needs to be satisfied. Although PMI typically adds several hundred dollars annually to the cost of your loan, it protects the lender financially if you default. Should you buy an expensive home — into the hundreds-of-thousands-of-dollars price range — PMI can add $1,000 or more, annually, to your mortgage bill. (You can also expect worse loan terms such as higher up-front fees and/or a higher ongoing interest rate on a mortgage when you make a down payment of less than 20 percent.)
PMI is not a permanent cost. Your need for PMI vanishes when you can prove that you have at least 20 percent equity (home value minus loan balance outstanding) in the property. The 20 percent can come from loan paydown, appreciation, improvements that enhance the value of the property, or any combination thereof. Note also that, to remove PMI, most mortgage lenders require that an appraisal be done — at your expense.
Ways to buy with less money down
"But I can't save a 20 percent down payment plus closing costs. What do you think I am, a professional athlete?!"
Digging out from consumer debt and saving 20 percent of a property's purchase price as a down payment plus closing costs can seem like a financial mountain —especially if you're just starting to save or are still paying off student loans or worse.
Don't panic and don't give up. Here's a grab bag filled with time-tested ways to overcome this seemingly gargantuan obstacle:
Boost your savings rate. Say that you want to accumulate $30,000 for your home purchase, and you're saving just $100 per month. At this rate, it will take you nearly two decades to reach your savings goal! However, if you can boost your savings rate by $300 per month, you should reach your goal in about five years.
Being efficient with your spending is always a good financial habit, but saving faster is a necessity for nearly all prospective homebuyers. Without benevolent, loaded relatives or other sources for a financial windfall, you're going to need to accumulate money the old-fashioned way that millions of other homebuyers have done in the past: by gradually saving it.
Trim excess spending, stick to a budget, and begin saving as early as you can.
Set your sights lower. Twenty percent of a big number is a big number, so it stands to reason that 20 percent of a smaller number is a smaller number. If the down payment and closing costs needed to purchase a $150,000 home are stretching you, scale back to a $120,000 or $100,000 home, which should slash your required cash for the home purchase by about 20 to 33 percent.
Check out low-down payment loan programs. Some lenders offer low-down-payment mortgage programs where you can put down as little as 3 to 10 percent of the purchase price. To qualify for such programs, you generally must have excellent credit and purchase private mortgage insurance (PMI). In addition to the extra expense of PMI, expect to get worse loan terms — higher interest rates and more up-front fees — with such low-money-down loans. Check with local lenders and real estate agents in your area.
Unless you're champing at the bit to purchase a home, take more time and try to accumulate a larger down payment. However, if you're the type of person who has trouble saving and may never save a 20 percent down payment, buying with less money down may be your best option. Be sure to shop around for the best loan terms.
Look into seller financing. Some sellers don't need all the cash from the sale of their property when the transaction closes escrow. These sellers may be willing to offer you a second mortgage to help you buy their property. In fact, they often advertise that they're willing to assist with financing. Seller financing is usually due and payable in five to ten years. This gives you time to build up equity or save enough to refinance into a new, larger 80-percent conventional mortgage before the seller's loan comes due.
Be cautious about seller financing. Some sellers who offer property with built-in financing are trying to dump a house that has major defects. It's also possible that the house may be priced far above its fair market value. Before accepting seller financing, make sure that the property does not have fatal flaws (have a thorough inspection conducted) and is priced competitively. Also, be sure that the seller financing interest rate is as low or lower than you can obtain through a traditional mortgage lender.
The 20 percent solution
Ideally, you should purchase a home and have enough accumulated for a down payment so that your down payment represents 20 percent of the purchase price of the property. Why 20 percent and not 10 or 15 or 25 or 30 percent? For the same reason that Goldilocks, at the residence of the three bears, liked the moderately warm bowl of porridge and disliked the bowls of porridge that were very hot and stone cold.
Twenty percent down is the magic number because it's a big enough cushion to protect lenders from default. Suppose, for example, a buyer puts only 10 percent down, then property values drop 5 percent, and the buyer defaults on the loan. When the lender forecloses — after paying a real estate commission, transfer tax, and other expenses of sale — the lender will be in the hole. Lenders learned the hard way that buyers are far less likely to default on and walk away from a home on which they pay 20 percent down. Lenders don't like losing money. They found they are far less likely to lose money on mortgages where the borrower has put up at least a down payment of 20 percent of the value of the property.
If, like most people, you plan to borrow money from a bank or other mortgage lender, be aware that almost all require you to obtain (and pay for) private mortgage insurance (PMI) if your down payment is less than 20 percent of the purchase price of the property. Think of the mortgage lender as Goldilocks — the person who needs to be satisfied. Although PMI typically adds several hundred dollars annually to the cost of your loan, it protects the lender financially if you default. Should you buy an expensive home — into the hundreds-of-thousands-of-dollars price range — PMI can add $1,000 or more, annually, to your mortgage bill. (You can also expect worse loan terms such as higher up-front fees and/or a higher ongoing interest rate on a mortgage when you make a down payment of less than 20 percent.)
PMI is not a permanent cost. Your need for PMI vanishes when you can prove that you have at least 20 percent equity (home value minus loan balance outstanding) in the property. The 20 percent can come from loan paydown, appreciation, improvements that enhance the value of the property, or any combination thereof. Note also that, to remove PMI, most mortgage lenders require that an appraisal be done — at your expense.
Ways to buy with less money down
"But I can't save a 20 percent down payment plus closing costs. What do you think I am, a professional athlete?!"
Digging out from consumer debt and saving 20 percent of a property's purchase price as a down payment plus closing costs can seem like a financial mountain —especially if you're just starting to save or are still paying off student loans or worse.
Don't panic and don't give up. Here's a grab bag filled with time-tested ways to overcome this seemingly gargantuan obstacle:
Boost your savings rate. Say that you want to accumulate $30,000 for your home purchase, and you're saving just $100 per month. At this rate, it will take you nearly two decades to reach your savings goal! However, if you can boost your savings rate by $300 per month, you should reach your goal in about five years.
Being efficient with your spending is always a good financial habit, but saving faster is a necessity for nearly all prospective homebuyers. Without benevolent, loaded relatives or other sources for a financial windfall, you're going to need to accumulate money the old-fashioned way that millions of other homebuyers have done in the past: by gradually saving it.
Trim excess spending, stick to a budget, and begin saving as early as you can.
Set your sights lower. Twenty percent of a big number is a big number, so it stands to reason that 20 percent of a smaller number is a smaller number. If the down payment and closing costs needed to purchase a $150,000 home are stretching you, scale back to a $120,000 or $100,000 home, which should slash your required cash for the home purchase by about 20 to 33 percent.
Check out low-down payment loan programs. Some lenders offer low-down-payment mortgage programs where you can put down as little as 3 to 10 percent of the purchase price. To qualify for such programs, you generally must have excellent credit and purchase private mortgage insurance (PMI). In addition to the extra expense of PMI, expect to get worse loan terms — higher interest rates and more up-front fees — with such low-money-down loans. Check with local lenders and real estate agents in your area.
Unless you're champing at the bit to purchase a home, take more time and try to accumulate a larger down payment. However, if you're the type of person who has trouble saving and may never save a 20 percent down payment, buying with less money down may be your best option. Be sure to shop around for the best loan terms.
Look into seller financing. Some sellers don't need all the cash from the sale of their property when the transaction closes escrow. These sellers may be willing to offer you a second mortgage to help you buy their property. In fact, they often advertise that they're willing to assist with financing. Seller financing is usually due and payable in five to ten years. This gives you time to build up equity or save enough to refinance into a new, larger 80-percent conventional mortgage before the seller's loan comes due.
Be cautious about seller financing. Some sellers who offer property with built-in financing are trying to dump a house that has major defects. It's also possible that the house may be priced far above its fair market value. Before accepting seller financing, make sure that the property does not have fatal flaws (have a thorough inspection conducted) and is priced competitively. Also, be sure that the seller financing interest rate is as low or lower than you can obtain through a traditional mortgage lender.
6.11.2008
Covering Top Ways to Invest in Commodities
Because the commodities markets are so wide and deep, you have a number of investment vehicles to access these markets. A common misconception among investors is that you can only trade commodities by opening a futures account. While the futures markets certainly provide an avenue into the commodities markets, you have other tools at your disposal.
Futures Commission Merchant
Opening an account with a Futures Commission Merchant (FCM) is the most direct way for you to invest in commodities through the futures markets. An FCM is registered with the National Futures Association (NFA) and its activities are monitored by the Commodity Futures Trading Commission (CFTC). When you open an account with an FCM, you can actually trade futures contracts, options, and other derivative products directly through the main commodity exchanges. Your orders are sometimes routed electronically or are placed during the open outcry trading session. However, you should only open an account with an FCM if you have a solid grasp of trading futures and options.
Commodity Trading Advisor
A Commodity Trading Advisor (CTA) is authorized by the CFTC and the NFA to trade on behalf of individual clients in the futures markets. The CTA is a registered investment professional who has a good grasp of the concepts in the futures markets. However, before you invest through a CTA, you should research their track record and investment philosophy.
Commodity Pool Operator
The Commodity Pool Operator (CPO) is similar to the CTA in that she has the authority to invest on behalf of clients in the futures markets. The biggest difference is that CPOs are allowed to "pool" client accounts under one giant account and enter the markets en masse. The pooling of client funds offers two advantages: It increases the purchasing power of the fund and it provides additional leverage. In addition, because a CPO is usually registered as a company, you can only lose your principal (in case things go wrong). In other words, you won't get any margin calls and owe the exchange money.
Integrated Commodity Companies
The equity markets offer a way for you to get exposure to commodities by investing in companies that process these natural resources. Some of these companies include large, integrated commodity-processing companies. In the energy space, these are companies like ExxonMobil (NYSE: XOM) and Total (NYSE: TOT) that have exposure to crude oil and natural gas in both the exploration and distribution phase of the supply chain. In the metals complex, companies like Rio Tinto (NYSE: TRP) and BHP Billiton (NYSE: BHP) mine minerals and metals as varied as palladium and nickel.
Specialized Commodity Companies
If you want to get exposure to a specific commodity through the equity markets, you can always invest in specialized commodity companies. These companies focus on either one commodity or on one aspect of the supply chain. For example, oil tanker operators focus on transporting crude oil from Point A to Point B — that's the extent of their activities. Other such companies include Starbucks (NASDAQ: SBUX), which focuses strictly on selling and marketing coffee-related products. These are good companies to invest in if you want exposure to a specific commodity through the equity markets.
Master Limited Partnerships
Master Limited Partnerships (MLPs) are hybrid investment vehicles that invest in energy infrastructure. They are in fact private partnerships that trade on public exchanges, just like stocks. This unique combination provides several advantages. First, because the MLP is a partnership, it has tremendous tax advantages because it does not pay taxes on the corporate level, only on the individual level. It's therefore not subject to the double taxation that many corporations are subject to. Second, its mandate is to distribute practically all its cash flow directly to shareholders. It's therefore not uncommon to have an MLP return $3 or $4 per unit owned.
Exchange Traded Funds
Since they first emerged on the scene a few years ago, the popularity of Exchange Traded Funds (ETFs) has soared. And for good reason. They're privately run funds that trade on a public exchange, just like stocks. This ease-of-use has directly contributed to their popularity among investors. A number of ETFs have been introduced in recent years, which track the performance of commodity-related assets, such as gold, silver, and crude oil. But it's not just individual commodities that are now tracked by ETFs. Commodity indexes, such as the Deutsche Bank Liquid Commodity Index (AMEX: DBC), also has an ETF that tracks its performance.
Commodity Mutual Funds
Investors who are used to investing in mutual funds will enjoy knowing that a number of mutual funds invest directly in commodities. Two of the biggest such mutual funds are the PIMCO commodity fund and the Oppenheimer fund. Some funds seek to mirror the performance of various commodity benchmarks, while others invest in companies that process commodities.
Commodity Indexes
A commodity index acts a lot like a stock index: It tracks a group of securities for benchmarking and investing purposes. Commodity indexes are constructed and offered by different financial institutions, such as Goldman Sachs and Standard & Poor's, and they follow different construction methodologies. As such, the performance of the indexes — there are currently five — is different across the board. Most of these indexes can be tracked either through the futures markets or through ETFs.
Emerging Market Funds
Due to geographical happenstance, commodities are scattered across the globe. No single country dominates all commodities across the board. However, a few countries do dominate specific commodities. South Africa, for instance, has the largest reserves of gold in the world, Saudi Arabia has the largest oil reserves, and Russia has the biggest palladium reserves. As the demand for commodities increases, the economies of these emerging markets have been soaring. One way to play the commodities boom is by opening up your portfolio to emerging market funds.
Futures Commission Merchant
Opening an account with a Futures Commission Merchant (FCM) is the most direct way for you to invest in commodities through the futures markets. An FCM is registered with the National Futures Association (NFA) and its activities are monitored by the Commodity Futures Trading Commission (CFTC). When you open an account with an FCM, you can actually trade futures contracts, options, and other derivative products directly through the main commodity exchanges. Your orders are sometimes routed electronically or are placed during the open outcry trading session. However, you should only open an account with an FCM if you have a solid grasp of trading futures and options.
Commodity Trading Advisor
A Commodity Trading Advisor (CTA) is authorized by the CFTC and the NFA to trade on behalf of individual clients in the futures markets. The CTA is a registered investment professional who has a good grasp of the concepts in the futures markets. However, before you invest through a CTA, you should research their track record and investment philosophy.
Commodity Pool Operator
The Commodity Pool Operator (CPO) is similar to the CTA in that she has the authority to invest on behalf of clients in the futures markets. The biggest difference is that CPOs are allowed to "pool" client accounts under one giant account and enter the markets en masse. The pooling of client funds offers two advantages: It increases the purchasing power of the fund and it provides additional leverage. In addition, because a CPO is usually registered as a company, you can only lose your principal (in case things go wrong). In other words, you won't get any margin calls and owe the exchange money.
Integrated Commodity Companies
The equity markets offer a way for you to get exposure to commodities by investing in companies that process these natural resources. Some of these companies include large, integrated commodity-processing companies. In the energy space, these are companies like ExxonMobil (NYSE: XOM) and Total (NYSE: TOT) that have exposure to crude oil and natural gas in both the exploration and distribution phase of the supply chain. In the metals complex, companies like Rio Tinto (NYSE: TRP) and BHP Billiton (NYSE: BHP) mine minerals and metals as varied as palladium and nickel.
Specialized Commodity Companies
If you want to get exposure to a specific commodity through the equity markets, you can always invest in specialized commodity companies. These companies focus on either one commodity or on one aspect of the supply chain. For example, oil tanker operators focus on transporting crude oil from Point A to Point B — that's the extent of their activities. Other such companies include Starbucks (NASDAQ: SBUX), which focuses strictly on selling and marketing coffee-related products. These are good companies to invest in if you want exposure to a specific commodity through the equity markets.
Master Limited Partnerships
Master Limited Partnerships (MLPs) are hybrid investment vehicles that invest in energy infrastructure. They are in fact private partnerships that trade on public exchanges, just like stocks. This unique combination provides several advantages. First, because the MLP is a partnership, it has tremendous tax advantages because it does not pay taxes on the corporate level, only on the individual level. It's therefore not subject to the double taxation that many corporations are subject to. Second, its mandate is to distribute practically all its cash flow directly to shareholders. It's therefore not uncommon to have an MLP return $3 or $4 per unit owned.
Exchange Traded Funds
Since they first emerged on the scene a few years ago, the popularity of Exchange Traded Funds (ETFs) has soared. And for good reason. They're privately run funds that trade on a public exchange, just like stocks. This ease-of-use has directly contributed to their popularity among investors. A number of ETFs have been introduced in recent years, which track the performance of commodity-related assets, such as gold, silver, and crude oil. But it's not just individual commodities that are now tracked by ETFs. Commodity indexes, such as the Deutsche Bank Liquid Commodity Index (AMEX: DBC), also has an ETF that tracks its performance.
Commodity Mutual Funds
Investors who are used to investing in mutual funds will enjoy knowing that a number of mutual funds invest directly in commodities. Two of the biggest such mutual funds are the PIMCO commodity fund and the Oppenheimer fund. Some funds seek to mirror the performance of various commodity benchmarks, while others invest in companies that process commodities.
Commodity Indexes
A commodity index acts a lot like a stock index: It tracks a group of securities for benchmarking and investing purposes. Commodity indexes are constructed and offered by different financial institutions, such as Goldman Sachs and Standard & Poor's, and they follow different construction methodologies. As such, the performance of the indexes — there are currently five — is different across the board. Most of these indexes can be tracked either through the futures markets or through ETFs.
Emerging Market Funds
Due to geographical happenstance, commodities are scattered across the globe. No single country dominates all commodities across the board. However, a few countries do dominate specific commodities. South Africa, for instance, has the largest reserves of gold in the world, Saudi Arabia has the largest oil reserves, and Russia has the biggest palladium reserves. As the demand for commodities increases, the economies of these emerging markets have been soaring. One way to play the commodities boom is by opening up your portfolio to emerging market funds.
5.24.2008
Trading or Investing: Technical Analysis
Technical analysis is the study of how securities prices behave and how to exploit that information to make money while avoiding losses. The technical style of trading is opportunistic. Your immediate goal is to forecast the price of the security over some future time horizon in order to buy and sell the security to make a cash profit. The future time frame is unknown at the beginning of a trade, but it's not "forever" — as it may be with buy-and-hold investing. The emphasis in technical analysis is to make profits from trading, not to consider owning a security as some kind of savings vehicle. Therefore, technical analysis dictates a more active trading style than you may be used to.
Trading or investing: The many faces of technical analysis
Both traders and investors use technical analysis. What's the difference between a traderand an investor?
A trader holds securities for a short period of time.
An investor holds securities for a long time.
Okay, what's the difference between these holding periods?
A short holding period is anywhere from one minute to one year.
A long holding period is anywhere from six months to forever, depending on who you ask.
Notice that the holding period of the trader and the investor overlap. Actually, the dividing line between trader and investor isn't fixed (except for purposes of taxation).
You can use technical methods over any investment horizon, including the long-term. If you're an expert in Blue Widget stock, for example, you can add to your holdings when the price is relatively low, take some partial profit when the price is relatively high, and dump it all if the stock crashes. Technical analysis has a tool for identifying each of these situations. You can also use technical tools to rotate your capital among a number of securities depending on which ones are delivering the highest gains these days. At the other end of the investment horizon spectrum, you can use technical analysis to spot a high-probability trade, and execute the purchase and sale in the space of an hour.
Setting new rules
You may have the idea that because technical analysis entails an active trading style, you're about to embark on a wild and risk-laden adventure. Nothing could be further from the truth. Executing the one-hour trade has less inherent risk of loss than buying and holding a security indefinitely, without an exit plan, based on some expert's judgment of its value.
Preventing and controlling losses is more important to practically every technical trader you meet than outright profit-seeking. The technical analysis approach is demonstrably more risk-averse than the value-investing approach.
That's because to embrace technical analysis is to embrace a way of thinking that's always sensitive to risk. Technical trading means to trade with a plan that identifies the potential gain and the potential loss of every trade ahead of time. The technical trader devises rules for dealing with price developments as they occur in order to realize the plan. In fact, you select your technical tools (from the many available) specifically to match your trading style with your sensitivity to risk.
Using rules, especially rules to control losses, is the key feature of long-term success in trading. Anybody can get lucky — once. To make profits consistently requires you not only to identify the trading opportunity, but also to manage the risk of the trade. Most of the "trading rules" that you hear about, such as "Cut your losses and let your winners run," arise from the experience of technical traders.
Making the case for managing the trade
To buy and hold securities for a very long period of time is a well-documented path to accumulating capital, but only if your timing is good — you're lucky enough to buy the security when its price is rising. If your timing isn't so hot or you're unlucky, it's a different story all together. Consider the following:
If you had bought U.S. stocks at the price peak just ahead of the 1929 Crash, it would've taken you 22 years to get back your initial capital.
Since the end of World War II, the Dow Jones Industrial Average has fallen by more than 20 percent on 11 occasions.
More recently, from January 2000 to October 2002, the S&P 500 fell by 50 percent. If you owned all the stocks in the S&P 500 and held them throughout the entire period, you lost 50 percent of your stake, which means you now need to make a gain equivalent to 100 percent of your starting capital to get your money back, as Table 1 shows. Ask yourself how often anyone makes a 100 percent return on investment.
Table 1: Recovering a Loss
Loss
Gain Needed to Recover Loss
10%
11.1%
20%
25.0%
30%
42.9%
40%
66.7%
50%
100.0%
60%
150.0%
75%
300.0%
Timing your entry and exit from the market is critical to making money and controlling losses
Trading or investing: The many faces of technical analysis
Both traders and investors use technical analysis. What's the difference between a traderand an investor?
A trader holds securities for a short period of time.
An investor holds securities for a long time.
Okay, what's the difference between these holding periods?
A short holding period is anywhere from one minute to one year.
A long holding period is anywhere from six months to forever, depending on who you ask.
Notice that the holding period of the trader and the investor overlap. Actually, the dividing line between trader and investor isn't fixed (except for purposes of taxation).
You can use technical methods over any investment horizon, including the long-term. If you're an expert in Blue Widget stock, for example, you can add to your holdings when the price is relatively low, take some partial profit when the price is relatively high, and dump it all if the stock crashes. Technical analysis has a tool for identifying each of these situations. You can also use technical tools to rotate your capital among a number of securities depending on which ones are delivering the highest gains these days. At the other end of the investment horizon spectrum, you can use technical analysis to spot a high-probability trade, and execute the purchase and sale in the space of an hour.
Setting new rules
You may have the idea that because technical analysis entails an active trading style, you're about to embark on a wild and risk-laden adventure. Nothing could be further from the truth. Executing the one-hour trade has less inherent risk of loss than buying and holding a security indefinitely, without an exit plan, based on some expert's judgment of its value.
Preventing and controlling losses is more important to practically every technical trader you meet than outright profit-seeking. The technical analysis approach is demonstrably more risk-averse than the value-investing approach.
That's because to embrace technical analysis is to embrace a way of thinking that's always sensitive to risk. Technical trading means to trade with a plan that identifies the potential gain and the potential loss of every trade ahead of time. The technical trader devises rules for dealing with price developments as they occur in order to realize the plan. In fact, you select your technical tools (from the many available) specifically to match your trading style with your sensitivity to risk.
Using rules, especially rules to control losses, is the key feature of long-term success in trading. Anybody can get lucky — once. To make profits consistently requires you not only to identify the trading opportunity, but also to manage the risk of the trade. Most of the "trading rules" that you hear about, such as "Cut your losses and let your winners run," arise from the experience of technical traders.
Making the case for managing the trade
To buy and hold securities for a very long period of time is a well-documented path to accumulating capital, but only if your timing is good — you're lucky enough to buy the security when its price is rising. If your timing isn't so hot or you're unlucky, it's a different story all together. Consider the following:
If you had bought U.S. stocks at the price peak just ahead of the 1929 Crash, it would've taken you 22 years to get back your initial capital.
Since the end of World War II, the Dow Jones Industrial Average has fallen by more than 20 percent on 11 occasions.
More recently, from January 2000 to October 2002, the S&P 500 fell by 50 percent. If you owned all the stocks in the S&P 500 and held them throughout the entire period, you lost 50 percent of your stake, which means you now need to make a gain equivalent to 100 percent of your starting capital to get your money back, as Table 1 shows. Ask yourself how often anyone makes a 100 percent return on investment.
Table 1: Recovering a Loss
Loss
Gain Needed to Recover Loss
10%
11.1%
20%
25.0%
30%
42.9%
40%
66.7%
50%
100.0%
60%
150.0%
75%
300.0%
Timing your entry and exit from the market is critical to making money and controlling losses
5.23.2008
Getting Loans
Sometimes, it may seem as though lenders are trying to give away money by making credit so easily available. But this is a dangerous illusion. When it comes to consumer debt (credit cards, auto loans, and the like), lenders aren't giving away anything except the opportunity for you to get in over your head, rack up high interest charges, and delay your progress toward your financial and personal goals.
Credit is most dangerous when you make consumption purchases that you couldn't afford in the first place.
Nevertheless, there are times when you need to borrow: to buy a house, to pay for college, to start your own business, to pay unexpected medical expenses, and sometimes to give in to the temptation to purchase something you've always wanted. The way you get a loan is by establishing creditworthiness. You are deemed worthy of credit if you have sufficient assets to repay the loan and if you have a good history of loan-repayment, based on your credit report. If your record of repayment is poor, you'll either be denied the loan, have to pay higher-than-normal interest charges (interest rates vary depending on the nature of the loan, the loan agency, and the health of the nation's economy), or, depending on the purpose of the loan, you may qualify for government assistance.
All loans are either secured or unsecured.
The most common items purchased by a secured loan are houses, cars, household furnishings, and jewelry. Unsecured loans include loans to pay credit card debt, college expenses, vacation costs, and medical bills. Because unsecured loans are riskier for lenders, most of these loans have higher interest rates than secured loans do, usually representing the biggest drain on your finances.
Before you ask for a loan, be sure that your loan payments won't strain your budget. Try to make extra payments on the loan or pay it off early if there are no penalties to do so. If practical, consider a home equity loan as you can usually get a lower interest rate and the interest is tax deductible. Just be certain you can make the payments, as your home is at risk if you can't.
You can get loans from your bank, savings and loan, credit union, and a host of vendors and other agencies with money to lend.
Credit is most dangerous when you make consumption purchases that you couldn't afford in the first place.
Nevertheless, there are times when you need to borrow: to buy a house, to pay for college, to start your own business, to pay unexpected medical expenses, and sometimes to give in to the temptation to purchase something you've always wanted. The way you get a loan is by establishing creditworthiness. You are deemed worthy of credit if you have sufficient assets to repay the loan and if you have a good history of loan-repayment, based on your credit report. If your record of repayment is poor, you'll either be denied the loan, have to pay higher-than-normal interest charges (interest rates vary depending on the nature of the loan, the loan agency, and the health of the nation's economy), or, depending on the purpose of the loan, you may qualify for government assistance.
All loans are either secured or unsecured.
The most common items purchased by a secured loan are houses, cars, household furnishings, and jewelry. Unsecured loans include loans to pay credit card debt, college expenses, vacation costs, and medical bills. Because unsecured loans are riskier for lenders, most of these loans have higher interest rates than secured loans do, usually representing the biggest drain on your finances.
Before you ask for a loan, be sure that your loan payments won't strain your budget. Try to make extra payments on the loan or pay it off early if there are no penalties to do so. If practical, consider a home equity loan as you can usually get a lower interest rate and the interest is tax deductible. Just be certain you can make the payments, as your home is at risk if you can't.
You can get loans from your bank, savings and loan, credit union, and a host of vendors and other agencies with money to lend.
5.19.2008
The Ins and Outs of Figuring Loan Interest
Pretty much everyone knows that interest is the extra amount you have to pay to a lender in addition to paying back the amount you borrow. But most people (even some experienced business managers) are not entirely clear regarding how interest is figured. When you borrow money, you agree to a method of interest accounting, whether you understand the method or not.
Suppose someone offers to loan you $100,000 for one year, and he tells you that he will charge you 6 percent interest. How much will you have to pay him one year from today? He does mean 6 percent per year, right? Certainly he doesn't mean 6 percent per month. Whatever agreement he's offering, get it in writing.
When you take out a loan, the lender should ask you to sign a legal instrument called a note. This document states the principal of the loan ($100,000), the maturity date (one year from the present date), the interest rate per period (6 percent per year), and other provisions concerning my rights as a lender in the event that you default — that is, if you don't comply fully with the conditions of the loan. The lender may ask for collateral, or security for the loan, which generally is an asset you own that the lender could take possession of and sell to pay off your debt in the event you default. Or he may ask for a lien to be filed on property you own as security for the loan (which is done in mortgage loans). The lender may require a co-signer — a second person who signs the note and is liable for the debt if you default.
How much do you owe on this loan one year later? The lender wants his money back ($100,000) plus 6 percent of the principal, which is $6,000 interest. So you owe him $106,000 at the maturity date of the loan. You had the use of $100,000 for one year and pay $6,000 in interest for that privilege. The lender gave up the use of the money for one year and earned $6,000 interest income.
Say that you need the money for two years instead of one. Because of the longer time period, the lender might demand a higher interest rate, say 6.5 percent. At the end of the first year you pay him $6,500 interest, and at the end of the second year you pay him $106,500, which consists of $6,500 interest for the second year and the $100,000 payoff of the principal.
Changing the example ever so slightly can have profound implications. Suppose that you need to borrow $100,000 for two years and you agree to pay 6.5 percent annual interest. However, you don't want to make any interest payment until the maturity date, which is two years later. How much do you owe then? The 6.5 percent interest rate is based on the premise that the lender receive interest at the end of each year. If that doesn't happen the first year, the nonpayment of interest becomes a loan within a loan; you have to pay 6.5 percent interest on this "second loan" in addition to the original $100,000 loan principal. The principal balance at the start of the second year, therefore, is $106,500. The lender's entitled to 6.5 percent interest on the $106,500 principal balance during the second year. Obviously, the interest for the second year will be more than the interest owed for the first year.
This adding on, or bumping up, of the principal balance of a loan because of the nonpayment of interest at the end of the period is called compounding, or compound interest. The balance owed is compounded by the amount of the unpaid interest, and this higher balance is the basis for computing interest during the next period. (This term also applies when you are on the receiving end of interest, such as when you invest money in a savings account.) In the example of the two-year loan, the interest for the second year, based on the compounded balance brought forward from the end of the first year, is:
$106,500 Principal Balance x 6.5% Interest Rate = $6,922.50 Second Year Interest
What if you borrowed the money for five years, with no interest payments along the way? How much would you owe at the end of five years (assuming the lender's willing to make the loan for five years with no interest payments until maturity)? You would owe $137,000 (rounded off a little) at the end of the fifth year, for a total of $37,000 interest. How do you know whether this is correct? You could trust the lender; after all, he's in the business of loaning money and he ought to know what he's doing. But it may be better to calculate whether the amount of interest seems in the ballpark. Without compounding, the interest would be $6,500 per year (based on the original $100,000 borrowed), and for five years this would be $32,500 total interest. The extra $4,500 interest that the lender says that you owe at the end of five years because of compounding seems reasonable. Of course, you could ask your accountant to double-check the number, or you could use a handheld calculator to do so.
Suppose someone offers to loan you $100,000 for one year, and he tells you that he will charge you 6 percent interest. How much will you have to pay him one year from today? He does mean 6 percent per year, right? Certainly he doesn't mean 6 percent per month. Whatever agreement he's offering, get it in writing.
When you take out a loan, the lender should ask you to sign a legal instrument called a note. This document states the principal of the loan ($100,000), the maturity date (one year from the present date), the interest rate per period (6 percent per year), and other provisions concerning my rights as a lender in the event that you default — that is, if you don't comply fully with the conditions of the loan. The lender may ask for collateral, or security for the loan, which generally is an asset you own that the lender could take possession of and sell to pay off your debt in the event you default. Or he may ask for a lien to be filed on property you own as security for the loan (which is done in mortgage loans). The lender may require a co-signer — a second person who signs the note and is liable for the debt if you default.
How much do you owe on this loan one year later? The lender wants his money back ($100,000) plus 6 percent of the principal, which is $6,000 interest. So you owe him $106,000 at the maturity date of the loan. You had the use of $100,000 for one year and pay $6,000 in interest for that privilege. The lender gave up the use of the money for one year and earned $6,000 interest income.
Say that you need the money for two years instead of one. Because of the longer time period, the lender might demand a higher interest rate, say 6.5 percent. At the end of the first year you pay him $6,500 interest, and at the end of the second year you pay him $106,500, which consists of $6,500 interest for the second year and the $100,000 payoff of the principal.
Changing the example ever so slightly can have profound implications. Suppose that you need to borrow $100,000 for two years and you agree to pay 6.5 percent annual interest. However, you don't want to make any interest payment until the maturity date, which is two years later. How much do you owe then? The 6.5 percent interest rate is based on the premise that the lender receive interest at the end of each year. If that doesn't happen the first year, the nonpayment of interest becomes a loan within a loan; you have to pay 6.5 percent interest on this "second loan" in addition to the original $100,000 loan principal. The principal balance at the start of the second year, therefore, is $106,500. The lender's entitled to 6.5 percent interest on the $106,500 principal balance during the second year. Obviously, the interest for the second year will be more than the interest owed for the first year.
This adding on, or bumping up, of the principal balance of a loan because of the nonpayment of interest at the end of the period is called compounding, or compound interest. The balance owed is compounded by the amount of the unpaid interest, and this higher balance is the basis for computing interest during the next period. (This term also applies when you are on the receiving end of interest, such as when you invest money in a savings account.) In the example of the two-year loan, the interest for the second year, based on the compounded balance brought forward from the end of the first year, is:
$106,500 Principal Balance x 6.5% Interest Rate = $6,922.50 Second Year Interest
What if you borrowed the money for five years, with no interest payments along the way? How much would you owe at the end of five years (assuming the lender's willing to make the loan for five years with no interest payments until maturity)? You would owe $137,000 (rounded off a little) at the end of the fifth year, for a total of $37,000 interest. How do you know whether this is correct? You could trust the lender; after all, he's in the business of loaning money and he ought to know what he's doing. But it may be better to calculate whether the amount of interest seems in the ballpark. Without compounding, the interest would be $6,500 per year (based on the original $100,000 borrowed), and for five years this would be $32,500 total interest. The extra $4,500 interest that the lender says that you owe at the end of five years because of compounding seems reasonable. Of course, you could ask your accountant to double-check the number, or you could use a handheld calculator to do so.
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