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In Growth Funds, Risk and Potential
By: Roy Furchgott, August 11, 1996
With a master’s degree in finance from Johns Hopkins University, Pam Williams thought she was well prepared to invest the savings that she and her husband, Andrew, were accumulating. She was in for a shock.
Last October, counting on the auspicious history of technology stocks and bold water-cooler tales of success, Mrs. Williams in vested 40 percent of the money in her employee retirement plan in two volatile Fidelity funds – Select Developing communications and Select Computers – and waited for a big return.
“Everyone was in tech stocks and they were doing great, and we just jumped on the bandwagon,” said Mrs. Williams, 30. Then she received her first quarterly statement. “You see a negative return,” she said. “You wonder if you are doing the right thing.”
The realization was a bit unnerving for Mrs. Williams, a meticulous sort who is director of finance and international business for the School of Continuing Studies at Johns Hopkins. “It made us realize we needed more diversity,” she said. “Plus, we were out of debt so we really needed to look at the big picture – insurance, investing, everything.”
Being clear of debt attests to Mrs. Williams’s financial discipline. When she and her husband were married, almost two years ago, four years after meeting at a party for her swim team, the couple were saddled with about $10,000 in credit-card debt, mostly his.
“When I was in between jobs, I got into that credit-card crunch,” said Mr. Williams, 32, a job recruiter since 1992 and a marketing manager before that. “For about two years I wasn’t real smart about how I handled it.”
After they married, Mrs. Williams took their finances in hand. They scrimped where possible and reduced debt, paying off the cards with the highest interest rates first, then throwing them away. At the bottom of the real estate market, with the help of Mr. William’s parents, the couple bought a $143,000 house with a view of a marina in the downtown Baltimore neighborhood of Canton. Cash not devoted to reducing credit-card debt went toward basic home furnishings.
Now, in just two years, the house is stocked, the cred0card debt gone and the couple’s earning power has jumped. Mrs. Williams’s salary at Johns Hopkins has leapt from $35,000 to $49,000. And Mr. Williams’s salary as a self-employed corporate headhunter – now under contract to find computer professionals for Lockheed Martin – climbed from $40,000 to $60,000. “After we got out of the hole, we realized, man, we should be able to save a lot of money,” Mr. Williams said.
And save they did. Mrs. Williams invests primarily thought the Johns Hopkins 403(b) plan – basically, a 401(k) for nonprofit companies – in which she can contribute up to $9,500 a year, according to the university’s human resources representative. To participate in the plan, she must contribute at least 6 percent of the portion of her salary over $30,000. Then the university will contribute an additional 6 percent of her total salary, which would be $2,940. Currently, Mrs. Williams is investing about $6,500 a year in equity funds through the plan. Mr. Williams has put about $2,600 into a retirement fund, “mostly for the current tax advantage.”
On top of that, the pair has amassed $12,000 in a bank savings account, earning 2.5 percent interest, and $2,000 in checking, and they believed they could save $1,500 to $2,000 a month.
Mrs. Williams continues to watch expenses and is an inveterate discount shopper.
“I am very lucky,” Mr. Williams said. “You hear these horror stories about wives who buy out the stores, but Pam’s spending is very conservative. Except for shoes.”
The couple acknowledges two other weaknesses: One is dining out at the numerous neighborhood restaurants, for which they budget $2,000 yearly, and the other is vacations. “We are into cheap vacations,” Mr. Williams said. “We will probably just drive down to the Outer Banks for a week, and that will cost about $1,000.”
Mrs. Williams replied, “We can do it for $600.”
They plan to spend $5,000 a year for vacations and other recreation, which includes membership at a swim club where Mrs. Williams trains for the annual 4.4-mile Chesapeake Bay Bridge Swim. Mr. Williams, a basketball devotee, has recently taken up swimming with his wife.
For the big-picture planning, the Williamses visited Horan & Associates, certified financial planners in Glen Arm, MD. The couple’s goals are to start a family in the next two to three years and to lay the groundwork for Mrs. Williams to retire at age 55 and for Mr. Williams to retire at 65.
Patrick J. Horan and Damian J. Gallina, two financial planners at the firm, started by suggesting that the couple be fully insured. Predictably, the couple’s health plan, a Blue Cross-Blue Shield family plan, was through Johns Hopkins, and the planners advised the Williamses to stay with it. But the couple lacked disability insurance.
“Your ability to save money each month is without question your single greatest asset,” the planners wrote in their analysis. “You would have difficulty meeting living expenses in disability on just one income.” The university will soon offer Mrs. Williams disability insurance of 60 percent of basic income through age 65, but Mr. Williams needed his own policy, so the planners recommended one from the Paul Revere Life Insurance Company. It would provide up to $3,400 a month until Mr. Williams reached 65, a t a cost of $1,108.78 a year.
Horan & Associates also suggested that the couple take out life insurance, but only a term policy for 20 years, by which time they should have saved enough not to need insurance.
Because Mr. and Mrs. Williams are in their early 30’s, they can invest in riskier funds – much as Mrs. Williams did initially. “Investors who maintain a long-term investment horizon can be more aggressive and are generally rewarded for their patience,” said the Horan report, which suggested that the couple take $2,000 from savings to invest in a mutual fund, then make regular monthly investments together.
The planners suggested that the Williamses choose a risk level they will be comfortable with – aggressive growth, growth or moderate growth – and then pick one or both of the two funds the planners recommended for that level. For aggressive growth, the Horan firm liked the Van Wagoner Emerging Growth fund and PBHG Growth. For growth, the planners suggested Mutual Discovery and Oakmark, and for moderate growth, Mutual Qualified and T. Rowe Price Mid-Cap Growth.
Horan noted that some of the couple’s current investments were weak and should be moved into the recommended mutual funds. One of these is Mr. Williams’s I.R.A. of $2,600, invested in two fixed annuities earning 5 percent. The surrender charge for cashing out of the annuity would be offset by the expected higher gains from rolling over the retirement money into stock fund investments. Mrs. Williams has $4,300 in an I.R.A. invested in the CGM Mutual fund, a conservative balanced fund, which Horan said should also go into the more aggressive mutual funds.
For her 403(b) investment, which allows Mrs. Williams to choose from a number of funds from Fidelity, Vanguard, Twentieth Century and several other groups, the planners recommended that she get out of the two technology funds whose volatility unnerved her, as well as the Fidelity Asset Manager Growth fund that made up the rest of her original 403(b) investment. She should maximize her contribution, they said, and, as with the couple’s other investments, stress growth.
They suggested putting 40 percent in Fidelity Magellan because they like the new management; 40 percent in Fidelity Low-Priced Stock fund because it is a value fund, and 20 percent in Fidelity Overseas, creating a pool of money that would be insulated from a severe decline in the domestic market. If there is such a plunge, cash could be taken from the foreign fund to buy undervalued United States stocks.
Finally, the couple’s reserves are completely in cash, earning 2.5 percent interest. The Williamses want three months’ worth of expenses - $22,000, including their taxes – for emergencies. But Horan suggested keeping no more than $12,000 in cash because the mutual funds could be sold quickly if needed. The $12,000 cash, for immediate needs like a car down payment or home repair, should be moved from the bank savings account into a money market fund to earn about 4.8 percent, Horan said.
Although the suggested program leans completely on equities, the Williamses say they will adopt it because it achieves the diversification they want. “We are in mutuals, not single stocks, so I feel protected,” Mrs. Williams said. “And we are young enough that it would be foolish not to be aggressive.”
From here, the couple plan to invest and hold, and hope that their investing will, like their courtship, go swimmingly.
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