Retirement Goals and a Sleep-Well Strategy

12/15/2014 10:00 am EST

Focus: FUNDS

Frank Holmes

CEO and CIO, U.S. Global Investors, Inc.

Frank Holmes offers an intriguing look back to the year 2000, when two hypothetical investors—one conservative and one aggressive—discussed their long-term retirement plans. Here, the CEO of US Global Investors outlines the experiences these two investors would have faced over the ensuring years.

Steven Halpern:  Our guest today is Frank Holmes, CEO of the leading fund management company, US Global Investors.  How are you doing today, Frank?

Frank Holmes:  Outstanding.

Steven Halpern:  Well, thank you for joining us.  In your latest commentary, you begin with a rather shocking question, asking investors if they could handle the stress of losing 40% in the market.  Could you expand on that warning?

Frank Holmes:  Well, I remember so vividly what took place in 1998 and 1999, and the largest amount of retirement dollars, people 55 years or over were plowing into the stock market with their retirement money. Looking back and then trying to look forward, it was really shocking to see how much money went in and then the markets fell 40%.  

Now we’ve had another great run in the stock market, the market in the past five years has more than doubled, and everyone said they jumped in the stock market, and the question we want to ask people is, should you put all your money into the stock market? Should you put it into the index?

Because this is the math of volatility and it fell 40%.  It rose and it fell again before it finally surpassed short-term tax-free fund.

Steven Halpern:  After the market has been rising for a few years, people tend to forget that there’s that much downside risk, potentially.

Frank Holmes:  Correct.

Steven Halpern:  Now, to illustrate your point, you offer a hypothetical story about two investors who are both in their mid-50s, and they meet on the golf course sometime during the year 2000 to discuss their retirement plans.  Could you tell us about this hypothetical situation and the two investors and the decision they made about how to invest?

Frank Holmes:  Well, there’s research that shows that people actually do a lot of talking about their investing at the golf range and on the greens.

They’re driving that ball, and then they want to chitchat, and we try to relate to the investors that are in the marketplace today that are in our funds, and this sort of story line of two people is real, and It’s real today as much as it was in 2000.  

It’s not to be negative on the stock market, but really—because we have stock equity in funds—but it’s really trying to highlight this volatility that investors have to be aware of, and you’re 55, you want to retire at 65, you may have some real emotionally-challenging times, and it’s the emotions, the swings.  

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We try to characterize ulcers and people like this.  This is real when you talk to people that lived and they resourced in investing for the past four years, which has been a challenging time for people.  Should you put all your money in one asset class?  Absolutely not.  You should diversify and that’s what we try to point out here.

Steven Halpern:  In this hypothetical story, turning the time back to the year 2000, could you tell us who are these two investors and what specific investment decisions they each made in terms of looking forward to their retirement?

Frank Holmes:  Well, one looked at the fantastic 90s, 18.5% compounded rates of return, meaning every three and a half years, your wealth doubled, and thought that—with the Internet—that everything would just continue.  

The other investor was just more cautious and prudent, could the past performance be guaranteed for future results, and said, “You know what, I’m going to be just a little more reserved and cautious regarding this lump sum of $100,000.  I’m going to go put it in short-term tax-free to lower that volatility, and there’s a significant difference in returns.”

Steven Halpern:  Now, as time passes, let’s see what happened with these two specific investors.  Could you walk us through what happened to the more aggressive investor who expected the experience of the 90s to continue for the next ten years?

Frank Holmes:  Well, there are many things that took place in these capital markets, Steven, and one of the biggest and the most significant factors is that the market fell and it fell 40% from having the events of September 11, which no one expected, to have Sarbanes Oxley ushered in to deal with the Enrons of the world.  

All these things are so unexpected and disruptive to the capital markets, and the markets took it on the chin.  They fell dramatically and then the investors who put all their money—as we try to point out—they put most of their capital into the S&P had to wait for the market to slowly claw back to break even.  They lost 40% in only a couple of years, and then it basically took almost five years to climb back to where they were break even.

And then it fell again in 2008 and then it started its climb again, so trying to guess what exactly would be the top or the bottom is extremely challenging and the best way is to make sure you’re diversified, and we try to show to investors the ‘no-drama asset class’ with short-term tax-free.

Steven Halpern:  In comparison to the aggressive investor, could you explain what would’ve happened to the more conservative investor who, back in 2000, decided instead to focus on near-term tax-free funds?

Frank Holmes:  Well, they would’ve enjoyed—touch wood—14 consecutive years of conservative returns, that is, not one down year, and some years, they were double digits or they were up only 1% or 2%, but there were no down years, and the income was able to go back into the fund and buy more, and so they enjoyed these 14 consecutive years of conservative returns.

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Steven Halpern:  Now, for conservative investors today, you’re referring specifically to the US Global Investors Near-Term Tax-Free Fund (NEARX), which is what you used in your example.  Could you explain a little about the makeup of that fund and how an investor today might consider using that as part of their longer-term portfolio in retirement planning?

Frank Holmes:  Sure.  Well, first of all, it’s a 5-star overall fund.  To do that, we basically look at A-rated paper.  It has to be high-quality paper, municipal paper, and it has to be diversified, and then after we’ve done our fundamental screens, we then use a quantitative approach to the volatility of capital markets in the bond space, so they become overbought, oversold.  

That volatility at times will build the cash.  The money is flowing in.  We’ll wait for the volatility to be more favorable and that’s helped to generate these 5-star returns.

I think the other part is that we’re a bit of a scavenger and that is that we will look to go and buy odd lots, and a lot of the big fund groups have to buy big size, $10 million or $20 million bond size issues, and we’ll be in odd lot there, but they will pick up the $350,000 piece of, I think it’s basically triple-A rated quality paper that meets our criteria.  

A broker wants to sell it.  He just wants to get rid of it that day that he’s got a sell ticket in and we could turn around and sort of eek out a little extra return for the investors because we’re a natural buyer of odd lots.  I think that that helps us get that overall return.

Steven Halpern:  Now, you also point out that an investor doesn’t have to go all in one direction or the other, and that a fund like US Global Investors Near-Term Tax-Free Fund could be a part of somebody’s portfolio, so they could have a more conservative portion in that, and also, combined that with more aggressive investing.

Frank Holmes:  I agree with you, and I think the other part, Steven, that’s interesting regarding this particular fund pricing is it’s priced at $2, not $10.  Why $2?  What happens at $2 is that you have less penny volatility.  

The overall market volatility will always be there, but how often does it move a penny up and down, and that’s very important for investors if they want to park their cash and wait for an opportunity for an aggressive investment.  

They’ll want to see that big volatility in that place, and that’s what happens when you have a $2 NAV, so, basically, it has to move five times that to move a penny from a $10 price fund, and that’s what’s also unique because I’m not aware of anyone else who has a low volatility when money rates, basically, offer you next to nothing.  This is a perfect place to step up for that extra higher yield with much lower penny volatility than you would experience anywhere else.

Steven Halpern:  Well, we really appreciate you taking the time to join us. Thank you so much, Frank.

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