Spiritual Financial Planning
The Power of Long Term Saving, Or, Seeing the End in the Beginning
Sustainability, environmental or financial, is all about thinking for the long term. Investing is no different. In this second installment, Lindsey shines a light on the long term power of saving and what happens when you see the end in the beginning.

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The Power of Saving
Saving is a powerful tool—most obviously for emergencies, trips, new must-have items, and retirement. There’s even a key spiritual principle involved, to “see the beginning and the end as one.” *

The power of saving lies in compound interest and what it can do for you over time. Compound interest accumulates like a snowball, as interest is added to your initial investment and you get paid interest on that total amount. To give you an example, let's say for 4 summers between the ages of 16 - 20 you get a summer job and save $2000 each summer, and that’s all you invest for the rest of your life. You invest this money in an index fund that returns the stock market average every year (that's 10%). By the time you are 65 you will have $1 million - a huge return on your initial $8000 investment!

Long-term
Things become really interesting when you can look into saving and investing your money for a minimum of two years. Often this money is being set aside for a car, down payment of a home, pilgrimage, vacation, graduate school, your child's education or pioneering. The first thing you have to do is decide on your goal.

Let's say you want to go on pilgrimage in 5 years and want to begin saving a little now. That means you want your money to grow but you might not really want to ride the ups and downs of the stock market. A bond or CD (Certificate of Deposit) might work for you because they usually have a good interest rate and are pretty stable. Let's look at some of these investment vehicles or options, each of which have pluses and minuses associated with them. You just have to decide on your goals and what you're comfortable with.

There are three major investing vehicles: CD tiers, bonds and stocks.

• CD Tiers: This process is best if your money is earmarked for a special purpose (down payment for a home) but you would like it to grow modestly. If you have a set amount of $5,000 to invest, for example, one option is for you to divide your money into $1,000 chunks and place each amount in different time-specified CDs. One of the reasons many people suggest this option is that it allows you to lock in high interest rates for longer term CDs yet always have a continual supply of cash as each CD reaches maturity. It is possible to withdraw your money at any time from a CD but for a stiff penalty. You can buy CDs from your local bank or an online bank - there are several sites where you can check on national interest rates!

• Bonds: Bonds offer a guaranteed interest rate and are usually very safe. Bonds are rated on a scale from AAA to F depending on the credit-worthiness of the borrower. It is possible to purchase bonds directly from the US government (at a post office), issuing company, or though an investing company in what’s called a bond fund, which is basically a collection of bonds from various companies.

• Stocks: Even though CD-tiers and bonds have their purpose, for money that needs to grow in the short to medium term future they offer relatively low rates of return. Many money management experts say that more profit, if you do it right, can usually be made in the stock market. However, I am not talking about quick money like the dot-com phase; I am talking about serious long-term growth. Around 30 years is the time-span for a bear-bull market and over the past 150 years the stock market has returned an average of 10% a year (that's overall, not on every individual stock). Since you're young, time is on your side and you'll be able to ride the turns in the market to reap a handsome return.

The Stock Market
The first thing most experts say people should know about the stock market: Invest and hold your investment for the long term. Investments can vary widely from day to day, but like was mentioned above, over the long term the stock market has had an average return of 10% since the early 1900s.

Second:  All that stuff you see on television about get rich-quick schemes from stocks is usually bogus. 85% of actively-managed mutual funds under-perform the industry average. Yes, under-performs the average! And this includes professionals who are actively trying to beat the market! Therefore, many investment advisers suggest that most people, especially people just starting out, would benefit from simply trying to hit the industry average or investing in a fund that is not actively managed.

Third: Know your risk profile. Some actively managed mutual funds post fabulous returns yet also take heavy risks (if there were no risks everyone's money would be in that fund!). Before signing up to the next-best-fund-since-Buffet's ask yourself - Could you handle a 28% (as what happened in 1994) decrease in your stock in a single day? Could you keep your money in the fund afterwards?

In the next installment, let’s talk about one thing we all have to start thinking about now but few of us do - retirement.

* Baha'u'llah, The Seven Valleys, p. 15

Comments

[Julia]

I like this website. This website helped me with prayer learning. Good job. Thank you. Please provide more French prayers. Bye-bye.7

[Alex]

A fantastic site, and brilliant effort. A great piece of work.t

[mona]

Over a year after this article was posted, it seems more apparent that the stock market perhaps shouldn't be trusted so much anymore. The diseased mode of action and ideology that produces "the economy" in the United States is beginning to show its fundamental flaws. Bailout, anyone?

[Lindsey - Da Writer of the Article]

Ryan,

Wow - That's an excellent response. I couldn't have done better myself :-)

I am a major fan of index funds. However, as my portifolo has grown I do dabble in some stocks that I research myself. I've picked one winner and three losers. . . luckily the winner was a big one!

[Ryan]

To respond to the last comment: by “industry average” I think the article refers to the underlying index (i.e. the S&P 500 Index, NASDAQ composite index, Russell Indexes and many others) by which mutual funds and overall market increases/decreases are benchmarked for performance.

There have been many studies done debating the merits of actively managed mutual funds versus index funds and other indexing type investments such as ETF’s. For those who may not know the difference: An actively managed mutual fund has a manger who buys and sells investments which he/she thinks will outperform the fund’s benchmark index. An index fund basically invests in the securities contained in the underlying index (i.e. an S&P 500 index fund basically invests in the stocks contained in the S&P 500 index) and thus, has a predetermined performance objective to closely mimic the return of the index.

The article mentions 85% of actively managed funds underperforming [their benchmark index]. Various studies reviewing performance of specific types of actively managed mutual funds have resulted in statistics such as these. One such recent study conducted by Vanguard found that in 2006: 83% of large-cap value actively managed funds underperformed a blended large-cap value index benchmark, 94% of mid-cap value actively managed funds underperformed the index, and 77% of small-cap value actively managed funds underperformed. (Performance varies and there have been times where the underperformance has not been as high.)

Studies such as these have led to increased use of index-type investments. Some investors and financial advisors suggest only investing in index funds; they know they will at least meet the return of the market. Others invest only in actively managed mutual funds; they attempt to beat the return of the market. No one approach is necessarily correct. A diversified portfolio following an overall asset allocation plan might consist of several index funds as well as several actively managed funds. Everyone’s individual circumstances, goals, and risk tolerances are different, and thus warrant different investment approaches.

The link to the Vanguard article I mentioned is below. Click on “PDF View” to read the article. The statistics I cited are from the table on page 10.

http://institutional.vanguard.com/VGApp/iip/Research?Path=PUBIR&File=InvResTheCaseForIndexing.jsp&FW_Activity=ArticleDetailActivity&FW_Event=articleDetail&IIP_INF=ZZInvResTheCaseForIndexing.jsp#

[Amir E.]

I wasn't aware that 85% of actively-managed mutual funds under-perform the industry average. What do you mean by industry average and where did you get the 85% figure?