TSA Presentation November 6, 2008 Dr. David Porter
Where Does This Year Fit in a Historical Perspective? One of the most volatile in history One of the biggest down years in history TSA Presentation 11/06/2008 Dr. David Porter Photo by Arne Naevra 2
DJIA Early-Mid October 2008 TSA Presentation 11/06/2008 Dr. David Porter 3
Annual Returns S&P 500 1926 -2007 2006 Up Years 59 2004 Down Years 23 2000 2007 1988 2003 1997 1990 2005 1986 1999 1995 2008 down 39. 4% as of 10/24 1981 1994 1979 1998 1991 1977 1993 1972 1996 1989 1969 1992 1971 1983 1985 1962 1987 1968 1982 1980 1953 1984 1965 1976 1975 1946 1978 1964 1967 1955 2001 1940 1970 1959 1963 1950 1973 1939 1960 1952 1961 1945 2002 1966 1934 1956 1949 1951 1938 1958 1974 1957 1932 1948 1944 1943 1936 1935 1954 1931 1937 1930 1941 1929 1947 1926 1942 1927 1928 1933 -60 -50 -40 -30 -20 -10 0 10 20 30 40 50 60 70 80 Source: Ibbotson SBBI 2008 Yearbook TSA Presentation 11/06/2008 Dr. David Porter 4
Distribution of Returns S&P 500 1926 -2006 As of 10/24 the S&P 500 is down 39. 4%. Based on history, there is only about a 0. 5% chance of seeing a down year like the one we are seeing in 2008 Source: Investments: Bodie, Kane & Marcus 2008 TSA Presentation 11/06/2008 Dr. David Porter 5
What Does it Mean for Investors? Maintain a long-term focus Market timing is very difficult Stay Diversified History suggests there is light at the end of the tunnel Recheck your risk preferences Follow a disciplined investment approach TSA Presentation 11/06/2008 Dr. David Porter 6
Market Timing is Very Difficult “Trading is Hazardous to Your Wealth” (Barber and Odean: JF 2000, pp. 773 -806, data 1991 -1996 & 66, 465 trading accounts) 20% of accounts with highest portfolio turnover had average returns 7% less than 20% with lowest turnover Market timers must be incredibly nimble Period of Investment % of Time Invested Average Annual Return Full 1, 276 Trading Days 100% 26. 3% Minus the 10 Best Days 99. 2% 18. 3% Minus the 20 Best Days 98. 4% 13. 1% Minus the 30 Best Days 97. 6 8. 5% Minus the 40 Best Days 96. 9 4. 3% Source: University of Michigan, data from August 12, 1982 to August 25, 1987. TSA Presentation 11/06/2008 Dr. David Porter 7
Stock Picking is Very Difficult 21 of 37 years the index beat the professionally managed equity funds Source: Investments: Bodie, Kane & Marcus 2008 TSA Presentation 11/06/2008 Dr. David Porter 8
Stay Diversified (Indexes) Source: Callan Associates 2007 TSA Presentation 11/06/2008 Dr. David Porter 9
Stay Diversified (Sectors) Source: Wells Fargo & Company 2006 TSA Presentation 11/06/2008 Dr. David Porter 10
Stay Diversified (International) World Stock Market Capitalization (Developed Economies) 2007: 39. 1 trillion (US$) Source: Ibbotson SBBI 2008 Yearbook TSA Presentation 11/06/2008 Dr. David Porter 11
Correlation between S&P 500 and International Stocks The lower the correlation, the better the diversification possibilities. The importance of international diversification has been declining since the late 1990’s but you still need to diversify internationally. Source: Ibbotson SBBI 2008 Yearbook TSA Presentation 11/06/2008 Dr. David Porter 12
If History Repeats Itself: There is Light at the End of the Tunnel through October 10, 2008 Red indicates persistent bear markets Source: Wall Street Journal Oct 11 -12 TSA Presentation 11/06/2008 Dr. David Porter 13
Recheck Your Risk Preferences • http: //moneycentral. msn. com/investor/calcs/n_riskq/mai n. asp TSA Presentation 11/06/2008 Dr. David Porter 14
Annual Returns Comparison 60 Annual Return (%) 40 20 0 -20 -40 S&P 500 -60 1926 1936 TSA Presentation 11/06/2008 1946 1956 Dr. David Porter T-bills Intermediate Term Gov't Bonds 1966 1976 1986 1996 2006 15
Different Asset Allocations 1 My source: www. troweprice. com. Their source: Ibbotson Associates. All rights reserved. Used with permission. Based on actual performance for the 50 years ending December 31, 2006. This information is shown for illustrative purposes only and is not intended to represent an investment in any T. Rowe Price fund or banking product. Past performance cannot guarantee future results. Figures include changes in principal value and reinvested dividends and assume the same asset mix is maintained each year. The historical performance data uses the following indices to represent the 50 -year categories from 1957 to 2006: Stocks - S&P 500 Index; Bonds - U. S. Gov't Intermediate Bond Index; Cash Reserves - 30 Day U. S. Treasury Bills TSA Presentation 11/06/2008 Dr. David Porter 16
Different Asset Allocations 1 Source: www. troweprice. com. TSA Presentation 11/06/2008 Dr. David Porter 17
Different Asset Allocations 1 Source: www. troweprice. com. TSA Presentation 11/06/2008 Dr. David Porter 18
Different Asset Allocations 1 Source: www. troweprice. com. TSA Presentation 11/06/2008 Dr. David Porter 19
Different Asset Allocations 1 Source: www. troweprice. com. TSA Presentation 11/06/2008 Dr. David Porter 20
The Difference Between Average and Geometric Average Returns You invest $1, 000 You lose 10% in year 1, then gain 10% in year 2 Your average annual return is: If your average return is zero you should still have $1, 000 but you don’t – you only have $990 Your geometric average is: The larger the returns variance, the more the average return overstates your actual return TSA Presentation 11/06/2008 Dr. David Porter 21
Total Returns 1926 -2007 Geometric Mean Arithmetic Mean Standard Deviation Small Company Stocks 12. 45% 17. 1% 32. 6% S&P 500 10. 36% 12. 3% 20. 0% Long-Term Gov’t Bonds 5. 47% 5. 8% 9. 2% Intermediate. Term Gov’t Bonds 5. 3% 5. 5% 5. 7% T-Bills 3. 73% 3. 8% 3. 1% Series S&P 500 to Small Companies: for each 1% gain in return you need 6. 02% additional S&P 500 to Small Companies: risk LT Gov’t Bonds to S&P 500: for each 1% gain in return you need 2. 2% additional risk LT Gov’t Bonds to S&P 500: Source: Ibbotson SBBI 2008 Yearbook TSA Presentation 11/06/2008 Dr. David Porter 22
Inflation Adjusted T-Bill Returns $20. 19 $8. 00 Nominal Total Return Index $1. 72 Real Total Return Index $1. 00 $0. 80 1925 1935 1945 1955 1965 1975 1985 1995 2005 Source: Ibbotson SBBI 2008 Yearbook TSA Presentation 11/06/2008 Dr. David Porter 23
Follow a Disciplined Investment Approach Invest a Little at a Time Most common investment technique since most people are paid on a regular basis (weekly, bi-weekly, monthly) DCA is inferior to lump sum investing overall but It removes the “when to invest” decision It makes us save so we don’t consume our retirement money before we retire Rebalance Examine your portfolio at least annually and rebalance if necessary TSA Presentation 11/06/2008 Dr. David Porter 24
Picking Funds from TSA Offerings Lots of information and links available at the TSA’s web site Almost 400 fund choices of most risk levels The “Selected Investment Returns” file lists the top returns (based on five years) in many of the most commonly chosen categories. For example: TSA Presentation 11/06/2008 Dr. David Porter 25
Picking Funds from TSA Offerings Risk is just as important as return Matching funds by category helps match risk but it is insufficient Use the internet to further research the offerings Morningstar. com has a free website that has excellent information Morningstar uses geometric returns after expenses Morningstar uses several different risk measures Morningstar has lots of definitions for stuff you might not be familiar with (e. g. moderate allocation) TSA Presentation 11/06/2008 Dr. David Porter 26
What Looks the Same Can be Very Different Wells Fargo 2010 fund (-17. 62 YTD 10/24) STNRX Oppenheimer 2010 fund (-38. 45 YTD 10/24) OTTAX 1 Source: www. morningstar. com. TSA Presentation 11/06/2008 Dr. David Porter 27
Why Start Now? Warren Buffett wrote in the New York Times 10/17 that he is now deploying his cash hoard into US stocks. "In the near term, unemployment will rise, business activity will falter and headlines will continue to be scary, " "A simple rule dictates my buying: Be fearful when others are greedy, and be greedy when others are fearful, " said Buffett. "And most certainly, fear is now widespread, gripping even seasoned investors. " "Fears regarding the long-term prosperity of the nation's many sound companies make no sense, " wrote Buffett. "Most major companies will be setting new profit records 5, 10 and 20 years from now. ” "Bad news is an investor's best friend, " Buffett said. "It lets you buy a slice of America's future at a marked-down price. " TSA Presentation 11/06/2008 Dr. David Porter 28
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