Monday, August 27, 2007

Five Questions to Consider When Naming A Trustee

The responsibilities of a trustee are often complex and time consuming. Managing trust assets often entails familiarity with tax law, real estate markets, security markets, and financial planning. Often it is the oldest or most responsible heir who is given this duty. Here are some things you should consider before deciding on a trustee.

  1. Do you trust this individual? The trustee will need to put your wishes and vision of fairness above any of their own. You must have absolute trust in their integrity.
  2. Is the person willing? You should be sure they have the time to devote to all the many details that can and surely will arise in performing the duties of trustee. If it would be a burden on their family or career let them know it is okay to decline.
  3. Would you let them handle your affairs today? If they are lacking in the knowledge and expertise now, it is doubtful they will be a suitable choice in the future.
  4. Will this choice create ill will among the surviving beneficiaries? The trustee must be able to work through disagreements with and among other beneficiaries. Sometimes family dynamics can make it nearly impossible for the trustee to effectively discharge their duties. Don't make a choice that could lead to ill will among family members.
  5. Is this person willing to accept the legal ramifications of serving as trustee? Most states have laws requiring high standards of performance by trustees. You should discuss the potential liability with any prospective trustee.
If you have a suitable relative or heir you should talk about your choice with your other heirs and beneficiaries. Let them know why and how you made your choice. This could alert you to unforeseen problems and also make sure that everyone is working from the same page.

It could be that after asking yourself these questions you may determine that a corporate trustee would be better for all. The most common reason for not naming a corporate trustee is expenses, but don't be penny wise and pound foolish. The reason you went to the trouble of setting up a trust is to protect your loved ones; a poor choice of trustee could make it all a waste.

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Understanding The Credit Crunch

Everyone has heard about the problems in the credit markets today. With all the press and airtime given to this topic I was surprised by a question from a client recently asking for an explanation. Sadly, while the problem has been discussed widely, the root of the problem has gone unexplained in the popular press.

To understand the credit problem you must first understand a little about how the bond market works. Nearly all bonds are sold out of a dealers inventory, like shirts sold at a department store. The bond dealer buys bonds, marks them up, and then resells them at a profit. Unlike stocks which trade actively everyday on the various exchanges, there are hundreds of thousands of different bond issues, and very few trade on a given day. So unlike stocks where everyone can see the value because the prices are published throughout the day, bonds are valued by using computer models. If you have bonds in your portfolio the value published each month on your statement reflects an estimate of the bonds value on that particular day. If you try to sell a bond, the price you receive could be higher or lower than the estimate your custodian provided on your statement. When dealing with bonds backed by mortgages, current and projected default rates are a factor in estimating the bonds value.

Mortgage backed bonds are created when banks and mortgage brokers pool large groups of mortgages and sell off smaller pieces to institutional and individual investors around the world. Very few mortgages are kept in house by banks, as this would tie up too much of their capital. Your mortgage has probably been sold off in this manner too. Banks and mortgage bankers make their profits from fees charged to originate the mortgage, and from fees received to service those loans. Your personal mortgage is probably part of a large group or tranche of mortgages owned by many different investors.

The current credit crunch probably began on June 20 when Merrill Lynch, a lender to a couple of Bear Stearns hedge funds investing in sub prime mortgages, asked for bids on some of the holdings held as collateral for loans made to the hedge funds. Suddenly, a large block of mortgage backed bonds had to be priced to market rather than priced to (computer) model. With a background of a weak housing market, and adjustable rate mortgages that were resetting at higher rates, the bids Merrill Lynch received from other bond dealers were significantly lower than the models had estimated. Merrill Lynch had issued a margin call, and sold the bonds off in a weak market.

This news caused others to question the value of mortgage backed bonds. Like dominoes, mortgaged backed bonds fell in value as more and more were offered for sale and bond dealers, hesitant to risk their own capital, we reluctant to buy them at any price. Suddenly awash in supply, the demand shrank to nearly nothing. It became like a run on a bank, a self fulfilling prophesy. The run was not contained to the sub prime segment of the market, it cascaded quickly to include any bond backed by any type of mortgage. Even Thornburg Mortgage, a company who specialized in jumbo mortgages, with very low default rates found it impossible to to find financing for its portfolio. The financing required to keep the mortgage market liquid suddenly ground to a halt. The only jumbo loans being issued were those that banks could afford to keep in their inventory, and they came with hefty interest rates.

What has happened to cause this credit crunch began with sub-prime mortgages, but the sub prime segment is not very important to where we are now. The challenge facing the credit markets now is how to restore faith and liquidity to this huge part of our economy. Without mortgage availability the housing market will plunge, taking along with it all the appliance sales, furnishing sales, legal services, etc that are part of this important sector of our economy. Without a housing industry our economy will surely slip into a recession or worse. The cries for an interest rate cut have been loud and often, yet when the federal reserve acted it was with a cut at the discount window not the fed funds rate.

The reason for this could be two fold. The Federal Reserve does not want to be seen as bailing out Wall Street. With the beginnings of this credit crunch so closely tied to predatory lending practices and hedge funds, the public perception is that the problem is contained there and it would be inappropriate for the government to in any way bail out bad business practices. Secondly, the federal reserve may believe that lowering interest rates will not solve the problem. Lower rates can make housing more affordable and even save some unfortunate individuals from foreclosure, but until the root problem of liquidity in mortgage backed securities is solved the specter of a housing collapse is more than just a nightmare scenario.

The stock market seems to be pricing in a rate cut from the Fed. So we are set up for a major disappointment should the fed forgo a cut at its September meeting. Again, this may be what chairman Bernanke wants. He does not want to bail out Wall Street, but if a stock market decline is unavoidable, he certainly wants that decline to be orderly in nature and not a fear driven plunge like we witnessed in the weeks preceding the latest Fed action. The Fed has been injecting liquidity into the banking system on an almost daily basis. More probably should be done. Allowing Fannie Mae and Freddie Mac to purchase mortgage securities over the current $417,000 limit should be a first step. This would allow banks to begin selling jumbo loans from their in- house portfolio and provide further liquidity. Yet, so far the politicians who could make this happen have failed to grasp the true nature of the problem, instead referring to such a move as a bail out.

Update

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Thursday, August 23, 2007

Your Ethical Will

When you first think about estate planning it is often only about dollars and cents. Who gets what, how to minimize taxes, how to avoid probate. We often forget that the people we love will be facing one of the most emotionally trying times of their life. Yes you need to take care of the financial aspects of your estate but you should also try to incorporate the emotional needs of your loved ones.

Something you should consider is writing an "ethical will". An ethical will is not a legal document, it is like a final chance to communicate with you loved ones. Ethical wills are a way of sharing some of the wisdom you have accumulated over your lifetime. It can be a short letter to your heirs or a long document that includes things like your family history, a statement of your beliefs, and stories about your life that shaped the way you lived. You can include things like where the money your leaving came from, what it meant to you, and how you would like to see it used. If your children or grandchildren are very young, writing an ethical will can provide a link that can reach through the years.

The hardest part is always where to begin. Some ideas that can get you going might be:
  • I am most grateful for..
  • The most important gift I ever received..
  • My parents taught me..
  • From my grandparents I learned..
  • What mattered the most in my life..
Look at an ethical will as an opportunity to connect your life with future generations, it can be a satisfying experience.

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Monday, August 20, 2007

Investment Wisdom

With the stock market in a late summer swoon, I thought some pearls of wisdom on the art of investing might take your mind off the non stop "the sky is falling" gibberish on CNBC. I hope you enjoy these.

  • If you see a bandwagon its too late. - James Goldsmith
  • You only see who's swimming naked when the tide goes out. - Warren Buffet
  • Individuals who cannot master their emotions are ill-suited to the investment process. - Benjamin Graham
  • The long run is a misleading guide to current affairs. In the long run we are all dead. - John Maynard Keynes
  • If investing is entertaining, if your having fun, your probably not making any money. Good investing is boring. - George Soros
  • It's not the bulls and bears your need to avoid - it's the bum steers. - Chuck Hillis
  • Sometimes your best investments are the ones you don't make. - Donald Trump
  • I made my money by selling too soon. - Bernard Baruch
  • We are all wrong so often that it amazes me that we can have any conviction at all over the direction of things to come. but we must. - Jim Cramer
  • Don't bottom fish - Peter Lynch
  • I measure what is going on and I adapt to it. I try to get my ego out of the way. The market is smarter than I am so I bend. - Martin Zweig

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