Issue #13

Build wealth. That’s the goal, how do we get there? The first rule of investing is this: Don’t lose money. They say, the surest way to a small fortune is to start with a large one. Losing money is just not acceptable once you have acquired some savings, because it takes twice as much effort to make 20% as it does to lose 20%. Why? It’s the mathematics. If your investment declines 50%, then you need a 100% return get even. If your investment declines 80%, you need a 400% return to get even.

Four hundred percent returns are hard to come by, but that’s what Nasdaq technology investors needed in order to get even after the internet bubble burst (hint, they are not there yet).

The second rule of investing is to compound your returns. The reason portfolios can grow magically to the sky is all to be found in the magic of compounding interest tables. Some of you may have seen this power in an IRA table before. Take two twins: Lisa and John. Lisa starts investing right out of college, $2000 a year for 10 years. At age 32 she exits the work force and never invests in her IRA again. Her brother John goes to graduate school, and then chooses to not fund an IRA his first five working years. When John is 32 he finally starts funding his IRA and contributes $2,000 for each of the next 33 years. Guess who has the larger portfolio at age 65, assuming an 8% compounded return: that’s right, Lisa. Her initial $20,000 in retirement contributions increased 21x, to $428,378. Her brother’s 33 years of contributions, $66,000, grew only 5x, to $342,634. John’s portfolio is $86,000 less than Lisa’s portfolio, despite the fact that he contributed $46,000 more to his retirement plan than his sister. That’s the power of compounding.

So to recap: the rules to successful investing are:

1. Don’t lose money.
2. Compound returns

Let’s recap our basic philosophy at Barnes Capital.

Equities
We believe that equities can fail to achieve returns commensurate with their risk for long periods of time (10 years +). We call these periods secular bear markets and they occur every other decade or so. This is why we are very selective in investing client money in equities.

Dividends
We prefer that companies paying steady growing dividends. We prefer dividends to share buy backs. One of the reasons we prefer companies that grow their dividends consistently, is that growing dividends lead to capital appreciation through higher stock prices. There is a 93% correlation between the growth of a divided and the growth of a stock price.
Growth versus Value
We prefer value to growth. It is easier to make mistakes in the world of “growth stock” investing. Value stocks tend to be less volatile, and pay dividends. They also can surprise to the upside.

Asset Allocation
Asset Allocation plays the biggest role in investment returns. We spend much of our research on tweaking the standard allocation in order to achieve better returns. An example of this is our overweighting of precious metals which we have maintained since 2002.

Diversified Low-Volatility Portfolios
High Net-Worth families have already won the risk game. For them, we develop lower volatility portfolios with less-correlated assets including alternative investments and conservative hedge funds through our partnership with an alternative investment specialist.

Fixed Income
Bonds play a vital role, particularly in retirement income accounts. Our partners at RB Capital Management excel at building bond portfolios that outperform bond funds, are tax efficient, and provide a source of consistent income and higher returns than equivalent portfolios of large brokerages.

At Barnes Capital, we build client wealth by adhering to the above tenets; We add value in a half dozen other different ways including business financial services and wealth counseling for individuals.

We will be holding classes this spring in investing basics. Some of the topics will include: Retirement Income strategies, Defined Benefit Plans for business owners, All about Bonds, & Building diversified portfolios. Please let us know what other topics you that you are interested in.

Oh, and about that down 500 point day today: we may have hit an inflection point as the crisis in sub-prime lending works its way through the credit markets. China also hinted they may begin to tax capital gains. The resulting 9% loss in the Chinese markets sparked today’s sell off. It remains to be seen if the good market is gone. In all likelihood, we think, not yet. It doesn’t feel like the top yet, but we are in the later innings. Anyway a correction was certainly overdue, as the market had galloped up for the last 8 months.

Blessings,
Daniel Barnes, CFA

Barnes Capital is a Registered Investment Advisor located at in downtown Lafayette. With RB Capital Management, Barnes Capital develops custom tailored portfolios for its clients. Specialized in retirement income portfolios, financial planning in an integral part of our process. Call 925-284-3503.

This entry was posted on Tuesday, February 27th, 2007 at 2:03 pm and is filed under Insight Newsletter. You can follow any responses to this entry through the RSS 2.0 feed. You can leave a response, or trackback from your own site.