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Build a High-Yield Portfolio
http://www.fool.com/investing/dividends-income/2008/08/19/build-a-high-yield-portfolio.aspx
Todd Wenning
August 19, 2008
Buy 10 to 15 high-yielding large-cap stocks today and hold them -- forever.
Yes, you read that right
This is the basic philosophy of the High-Yield Portfolio (HYP) strategy put forth by our friends at Motley Fool UK back in 2000.
At first glance, the whole idea sounds a bit crazy. I mean, buying stocks with the intention of never selling them comes off as, well, perhaps a bit naive.
After a closer look, though, there are some distinct advantages to the HYP strategy.
But first, let's take that closer look
So how does the HYP strategy choose its 10 to 15 stocks? It chooses only:
Large-cap stocks,
With a history of increasing dividends,
Relatively low debt levels, and
Sufficient dividend coverage,
That hail from diverse industries.
The original UK HYP, for example, picked fifteen stocks from the FTSE 100 index, including Rio Tinto (NYSE: RTP), Lloyds TSB, and Scottish & Newcastle.
The only permissible reasons to sell or remove a stock from the HYP portfolio are (1) the dividend is halted or cut, or (2) the company is acquired.
All about growth
Like other dividend-focused investing, the HYP strategy relies on the power of dividends to strengthen overall returns. Dividends, after all, have made up more than a third of the S&P 500's return since 1926.
But what sets the HYP strategy apart is its focus on growing dividends. By buying companies with a history of raising their dividend payouts, you're betting that they're going to continue raising those payouts -- providing you with an ever-increasing income stream.
The point of the HYP isn't capital appreciation, although that's usually an added bonus. Rather, the point is that growing dividend income -- providing an annual income that exceeds that of the current ten-year Treasury note (currently yielding 3.95%).
And that income is itself flexible. Investors far away from retirement can reinvest the dividends to increase their holdings and thus increase their payouts. Investors close to or in retirement can use the payouts as income that supports their standard of living. But because the income grows, it has the potential to beat inflation. And when you add that to the capital appreciation, you can end up sitting on a pretty penny.
OK, but do you really mean "never sell"?
Now, this idea of intentionally not selling seems counterintuitive. At some point, perhaps when the stock has reached our price target, doesn't it make sense to sell and take the capital gain?
According to the HYP's original author, Stephen Bland, the strategy demands a different perspective:
High yield portfolio (HYP) shares are not bought with the intention of selling. Quite the reverse. They are bought to hold for income and continue to be held until such time as it might very occasionally suit the investor to sell, perhaps never. Selling is not the reason for buying, unlike value trading, where selling is the only reason for buying.
It takes some getting used to, but this passive approach prevents you from overtrading and making poor valuation decisions -- while simultaneously providing you with a growing income. Best of all? You don't have to worry about daily market fluctuations.
Between November 2000, when the original HYP was started near the height of the UK market, and December 2007, it returned 68% capital appreciation without dividend reinvestment (while the FTSE 100 lost 8.3%), and included a 5.9% annual dividend yield to boot. Not only that, in just seven years the dividends grew 29%.
Now for the U.S. version
So what would a current U.S. version of the HYP portfolio look like? To come up with the list below, I followed the HYP methodology and selected a diverse group of ten S&P 500 stocks:
Capitalized above $10 billion,
With a strong history of increasing dividends,
An above-market dividend yield,
And sufficient ability to service current debt.
Company
Dividend Yield (ttm)
Pfizer (NYSE: PFE)
6.4%
AT&T (NYSE: T)
5.1%
General Electric
4.2%
Carnival
4.1%
DuPont (NYSE: DD)
3.6%
Altria (NYSE: MO)
5.4%
Chevron (NYSE: CVX)
3.1%
Bank of America (NYSE: BAC)
8.3%
ProLogis
4.4%
Southern Co.
4.5%
Average Yield
4.9%
*Source: Yahoo! Finance as of Aug. 19, 2008.
For every $10,000 invested in this portfolio, an investor could expect around $480 a year in dividends -- now. Because each of these stocks has a history of increasing their payouts every year or so, that dividend figure should continue to grow, providing the HYP investor with an ever-growing income to reinvest or live off of.
Foolish final thought
The High-Yield Portfolio strategy isn't the Dogs of the Dow, nor is it a magical formula or technical trading tool. It's simply buying strong companies with proven dividend track records and holding them for the long run -- and remaining patient to allow the dividends time to do their job.
--------------------------------------------------------------------------------
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Saving on Taxes This Year (from WSJ) and Election Economics
Use the IRS to Ease the Bear's Big Bite
By Tom Herman, The Wall Street Journal
Last update: 9:38 a.m. EDT Aug. 19, 2008
Even for many of the nation's most sophisticated investors, this has been an unusually painful year. But there are valuable tax-saving strategies to consider that may help ease the sting.
As painful as it is to lose money, investment losses can reduce taxes significantly. For example, many investors can benefit by using a technique known as "tax-loss harvesting," or selling losers in order to offset gains on their winners -- and, in some cases, regular income, too.
"In these volatile markets, we're constantly harvesting losses" for clients, says Nadine Gordon Lee, president of Prosper Advisors, a wealth-management firm based in Armonk, N.Y.
To be sure, never make any investment move exclusively for tax reasons, warns Bob Gordon, president of Twenty-First Securities and co-author of the book "Wall Street Secrets for Tax-Efficient Investing." "Don't let the tail wag the dog," he says.
But don't make important investment moves without at least considering the tax implications.
Here's a primer on the capital-gains rules, including a peek at what may lie ahead next year.
The Basics
Investors can offset capital losses against gains on a dollar-for-dollar basis, with no upper limit. Suppose you sold a stock early this year that you purchased years ago, and your profit was $5,000. Now, you sell another stock for $5,000 less than you originally paid for it. Put the two together, and your net gain is zero. That means no capital-gains tax on your earlier gain.
Now suppose you have capital losses but little or no gains. If your losses are bigger than your gains, or if you don't have any gains, you typically can deduct as much as $3,000 of your net losses from your other income, such as wages, dividends and interest. (The limit is $1,500 if you're married and filing separately from your spouse.) Additional loss amounts are carried over into future years. Thus, if you were thinking of a selling a loser anyway, this could be a good time to pull the trigger.
These rules once prompted a memorable query from a reader. He had amassed $2.1 million of stock-market losses and was searching for a woman with large capital gains who would be interested in marriage. "My CPA tells me it is not necessary to live together, and a divorce can be had after the tax loss is used up," he wrote.
Some investors assume there is only one capital-gains tax rate: 15%. Wrong.
The rate can depend on several factors. If you sell a stock or mutual fund you've owned for a year or less, that's considered a short-term gain, and it's typically subject to tax at higher ordinary income-tax rates.
Under a provision that became effective Jan. 1, investors in the two lowest ordinary income-tax brackets may qualify for a long-term capital-gains rate of zero. (Tax-preparation software can help you figure this out.) Separately, the top rate on long-term gains from art and collectibles is 28%.
For more on this and related issues, see IRS Publications 550 and 564 ( irs.gov).
If you're planning to make a gift of stock to your favorite charity, pick your holdings with long-term gains (investments you've held for more than one year), says Tim Hanford, a tax consultant in Bethesda, Md. If you itemize your deductions, you typically can deduct the stock's fair market value -- and you won't owe capital-gains tax on the appreciation.
But don't donate a stock that's dropped in value, Ms. Lee says. Instead, consider selling it, use the loss to save taxes, and donate the proceeds to your favorite charity.
Wash Sales
A wash sale typically occurs if you sell a stock or some other security at a loss and then buy the same thing, or something "substantially identical," within 30 days of the sale. (That means 30 days before or after the sale, not just 30 days after.) Violate this rule, and you can't deduct your loss. Instead, you're supposed to add the disallowed loss to the cost of the new stock, and that becomes your basis in that stock.
To avoid trouble, don't buy the same security, or something substantially identical, within the specified period. Wait until later or pick something else. Even this can get tricky, though, since it's not always clear how to define "substantially identical."
Many readers over the years have asked me whether they could get around the wash-sale rule by selling a stock at a loss in a regular taxable account and then buying it back right away for a retirement account.
No, says the IRS. That violates the wash-sale rule.
The Outlook
Sen. Barack Obama, the Democratic candidate for president, proposes raising the top 15% capital-gains rate to 20% for families making more than $250,000, says Jason Furman, the senator's economic policy director. Mr. Furman says the higher rate would apply to only about 2% of the nation's households. Aides also say the Obama plan wouldn't raise any taxes on couples making less than $250,000 a year, nor on any single people with income under $200,000 -- not income taxes, capital-gains taxes, dividend or payroll taxes.
In contrast, Sen. John McCain, the Republican candidate, strongly opposes raising capital-gains tax rates. He also has called for retaining the current federal income-tax rates and believes that raising taxes in these troubled economic times would be exactly the wrong economic prescription.
Some investment advisers think Sen. McCain, if elected, eventually would compromise with a Democratic-controlled Congress on a higher capital-gains rate.
Should you sell winners to take advantage of this year's low rates? Several investment managers say it's premature to act now, unless you'd planned to sell those stocks anyway, because there's uncertainty about how the elections will come out -- and what the effective date of higher rates might be.
Email: forum.sunday03@wsj.com
By Tom Herman, The Wall Street Journal
Last update: 9:38 a.m. EDT Aug. 19, 2008
Even for many of the nation's most sophisticated investors, this has been an unusually painful year. But there are valuable tax-saving strategies to consider that may help ease the sting.
As painful as it is to lose money, investment losses can reduce taxes significantly. For example, many investors can benefit by using a technique known as "tax-loss harvesting," or selling losers in order to offset gains on their winners -- and, in some cases, regular income, too.
"In these volatile markets, we're constantly harvesting losses" for clients, says Nadine Gordon Lee, president of Prosper Advisors, a wealth-management firm based in Armonk, N.Y.
To be sure, never make any investment move exclusively for tax reasons, warns Bob Gordon, president of Twenty-First Securities and co-author of the book "Wall Street Secrets for Tax-Efficient Investing." "Don't let the tail wag the dog," he says.
But don't make important investment moves without at least considering the tax implications.
Here's a primer on the capital-gains rules, including a peek at what may lie ahead next year.
The Basics
Investors can offset capital losses against gains on a dollar-for-dollar basis, with no upper limit. Suppose you sold a stock early this year that you purchased years ago, and your profit was $5,000. Now, you sell another stock for $5,000 less than you originally paid for it. Put the two together, and your net gain is zero. That means no capital-gains tax on your earlier gain.
Now suppose you have capital losses but little or no gains. If your losses are bigger than your gains, or if you don't have any gains, you typically can deduct as much as $3,000 of your net losses from your other income, such as wages, dividends and interest. (The limit is $1,500 if you're married and filing separately from your spouse.) Additional loss amounts are carried over into future years. Thus, if you were thinking of a selling a loser anyway, this could be a good time to pull the trigger.
These rules once prompted a memorable query from a reader. He had amassed $2.1 million of stock-market losses and was searching for a woman with large capital gains who would be interested in marriage. "My CPA tells me it is not necessary to live together, and a divorce can be had after the tax loss is used up," he wrote.
Some investors assume there is only one capital-gains tax rate: 15%. Wrong.
The rate can depend on several factors. If you sell a stock or mutual fund you've owned for a year or less, that's considered a short-term gain, and it's typically subject to tax at higher ordinary income-tax rates.
Under a provision that became effective Jan. 1, investors in the two lowest ordinary income-tax brackets may qualify for a long-term capital-gains rate of zero. (Tax-preparation software can help you figure this out.) Separately, the top rate on long-term gains from art and collectibles is 28%.
For more on this and related issues, see IRS Publications 550 and 564 ( irs.gov).
If you're planning to make a gift of stock to your favorite charity, pick your holdings with long-term gains (investments you've held for more than one year), says Tim Hanford, a tax consultant in Bethesda, Md. If you itemize your deductions, you typically can deduct the stock's fair market value -- and you won't owe capital-gains tax on the appreciation.
But don't donate a stock that's dropped in value, Ms. Lee says. Instead, consider selling it, use the loss to save taxes, and donate the proceeds to your favorite charity.
Wash Sales
A wash sale typically occurs if you sell a stock or some other security at a loss and then buy the same thing, or something "substantially identical," within 30 days of the sale. (That means 30 days before or after the sale, not just 30 days after.) Violate this rule, and you can't deduct your loss. Instead, you're supposed to add the disallowed loss to the cost of the new stock, and that becomes your basis in that stock.
To avoid trouble, don't buy the same security, or something substantially identical, within the specified period. Wait until later or pick something else. Even this can get tricky, though, since it's not always clear how to define "substantially identical."
Many readers over the years have asked me whether they could get around the wash-sale rule by selling a stock at a loss in a regular taxable account and then buying it back right away for a retirement account.
No, says the IRS. That violates the wash-sale rule.
The Outlook
Sen. Barack Obama, the Democratic candidate for president, proposes raising the top 15% capital-gains rate to 20% for families making more than $250,000, says Jason Furman, the senator's economic policy director. Mr. Furman says the higher rate would apply to only about 2% of the nation's households. Aides also say the Obama plan wouldn't raise any taxes on couples making less than $250,000 a year, nor on any single people with income under $200,000 -- not income taxes, capital-gains taxes, dividend or payroll taxes.
In contrast, Sen. John McCain, the Republican candidate, strongly opposes raising capital-gains tax rates. He also has called for retaining the current federal income-tax rates and believes that raising taxes in these troubled economic times would be exactly the wrong economic prescription.
Some investment advisers think Sen. McCain, if elected, eventually would compromise with a Democratic-controlled Congress on a higher capital-gains rate.
Should you sell winners to take advantage of this year's low rates? Several investment managers say it's premature to act now, unless you'd planned to sell those stocks anyway, because there's uncertainty about how the elections will come out -- and what the effective date of higher rates might be.
Email: forum.sunday03@wsj.com
Investing in Commodities (from WSJ)
Commodity-Based Funds Earning Favor
Corn or Oil in ETFs
Can Add Stability,
But Ratios Matter
By IAN SALISBURY
August 14, 2008; Page C13
Investors have taken to commodity exchange-traded funds, but choosing a fund isn't easy: Design hurdles mean seemingly similar funds can have quite different holdings -- and different returns.
Most stock indexes weight companies based on market capitalization, or the total value of their shares outstanding. This calculation isn't feasible for commodities, so index designers have to estimate or take an entirely different approach -- and they come up with widely varying results.
To take one example: The iShares S&P GSCI Commodity Indexed Trust has 78% of its assets in energy and just 2% in precious metals, according to a recent report by Morgan Stanley.
As a result, this ETF has shot the lights out over the past year, gaining 40% despite the recent decline in oil prices. By contrast, the Greenhaven Continuous Commodity Index ETF has 47% of its assets in agriculture and just 18% in energy. It's up 2% since hitting the market in late January.
Other commodity index funds have splits that lie between these two extremes.
Commodity ETFs and their close cousins, exchange-traded notes, have been gaining traction with investors, collecting more than $40 billion since the first one hit the market in 2004, according to Morningstar Inc.
Commodity Cushion
As events this summer have shown, prices for goods like oil and corn can surge even as stocks plunge. Many financial advisers now believe keeping a small portion of investors' assets in commodities can smooth a portfolio's overall volatility.
"Most people use commodity ETFs as part of their asset allocation" plans, says Kevin Rich, managing director at Deutsche Bank AG, one of the companies that offers commodity ETFs. "We see people with 1%, 3%, 5% in commodities."
While it's relatively easy to decide what to include in commodity indexes -- usually crude oil, agricultural goods and precious metals -- it's difficult to come up with a rationale for how much to include of each one. It's not as simple as with stock indexes, which typically go by market value of the companies.
One solution is to estimate how much of a commodity is produced a year. The purest production-oriented approach is taken by the S&P GSCI Index, which bases weightings on average production levels for 24 commodities over a five-year period.
"Commodities aren't like equities," says Eric Kolts, director of commodity indexes at Standard & Poor's. "The closest you can get to market capitalization is what we do with production."
Two Barclays PLC investments, $1.1 billion iShares S&P GSCI Commodity Indexed Trust and $292 million iPath S&P GSCI Total Return ETN, are based on this benchmark. A drawback for many investors, however, is that this method puts a big focus on oil, which represents more than 70% of the index.
Lowered Energy
For that reason, two other investments, one from Barclays and one from Deutsche Bank, have attracted more money from investors by tweaking their methods to reduce energy exposure. The $3.9 billion iPath Dow Jones-AIG Commodity Index Total Return ETN bases weightings on production and trading volumes but caps energy exposure to 33% once a year in January. It's currently drifted up to about 36%. (News Corp.'s Dow Jones & Co. publishes The Wall Street Journal.)
The $3 billion PowerShares DB Commodity Index Tracking Fund is based on production and inventory levels, but designers also "redistributed some of the exposure from energy into metals and specifically precious metals" to make it more diversified, according to a spokeswoman.
About 61% of the ETF is in energy, according to the Morgan Stanley report.
Finally, the above-mentioned $29 million Greenhaven Continuous Commodity Index ETF puts the entire focus on diversification, doing away altogether with the notion that the fund ought to reflect a commodity's role in the economy. It weights 17 commodities, including gold, orange juice, and crude oil, equally.
Because so many individual commodities are agricultural, these represent almost half the index, according to Morgan Stanley.
Write to Ian Salisbury at ian.salisbury@dowjones.com
Corn or Oil in ETFs
Can Add Stability,
But Ratios Matter
By IAN SALISBURY
August 14, 2008; Page C13
Investors have taken to commodity exchange-traded funds, but choosing a fund isn't easy: Design hurdles mean seemingly similar funds can have quite different holdings -- and different returns.
Most stock indexes weight companies based on market capitalization, or the total value of their shares outstanding. This calculation isn't feasible for commodities, so index designers have to estimate or take an entirely different approach -- and they come up with widely varying results.
To take one example: The iShares S&P GSCI Commodity Indexed Trust has 78% of its assets in energy and just 2% in precious metals, according to a recent report by Morgan Stanley.
As a result, this ETF has shot the lights out over the past year, gaining 40% despite the recent decline in oil prices. By contrast, the Greenhaven Continuous Commodity Index ETF has 47% of its assets in agriculture and just 18% in energy. It's up 2% since hitting the market in late January.
Other commodity index funds have splits that lie between these two extremes.
Commodity ETFs and their close cousins, exchange-traded notes, have been gaining traction with investors, collecting more than $40 billion since the first one hit the market in 2004, according to Morningstar Inc.
Commodity Cushion
As events this summer have shown, prices for goods like oil and corn can surge even as stocks plunge. Many financial advisers now believe keeping a small portion of investors' assets in commodities can smooth a portfolio's overall volatility.
"Most people use commodity ETFs as part of their asset allocation" plans, says Kevin Rich, managing director at Deutsche Bank AG, one of the companies that offers commodity ETFs. "We see people with 1%, 3%, 5% in commodities."
While it's relatively easy to decide what to include in commodity indexes -- usually crude oil, agricultural goods and precious metals -- it's difficult to come up with a rationale for how much to include of each one. It's not as simple as with stock indexes, which typically go by market value of the companies.
One solution is to estimate how much of a commodity is produced a year. The purest production-oriented approach is taken by the S&P GSCI Index, which bases weightings on average production levels for 24 commodities over a five-year period.
"Commodities aren't like equities," says Eric Kolts, director of commodity indexes at Standard & Poor's. "The closest you can get to market capitalization is what we do with production."
Two Barclays PLC investments, $1.1 billion iShares S&P GSCI Commodity Indexed Trust and $292 million iPath S&P GSCI Total Return ETN, are based on this benchmark. A drawback for many investors, however, is that this method puts a big focus on oil, which represents more than 70% of the index.
Lowered Energy
For that reason, two other investments, one from Barclays and one from Deutsche Bank, have attracted more money from investors by tweaking their methods to reduce energy exposure. The $3.9 billion iPath Dow Jones-AIG Commodity Index Total Return ETN bases weightings on production and trading volumes but caps energy exposure to 33% once a year in January. It's currently drifted up to about 36%. (News Corp.'s Dow Jones & Co. publishes The Wall Street Journal.)
The $3 billion PowerShares DB Commodity Index Tracking Fund is based on production and inventory levels, but designers also "redistributed some of the exposure from energy into metals and specifically precious metals" to make it more diversified, according to a spokeswoman.
About 61% of the ETF is in energy, according to the Morgan Stanley report.
Finally, the above-mentioned $29 million Greenhaven Continuous Commodity Index ETF puts the entire focus on diversification, doing away altogether with the notion that the fund ought to reflect a commodity's role in the economy. It weights 17 commodities, including gold, orange juice, and crude oil, equally.
Because so many individual commodities are agricultural, these represent almost half the index, according to Morgan Stanley.
Write to Ian Salisbury at ian.salisbury@dowjones.com
Dividend Stocks - International (from WSJ)
The Dividends From Far, Far Away
By Shefali Anand, The Wall Street Journal
Last update: 11:08 a.m. EDT Aug. 18, 2008Dividend-seeking investors should cast their gaze abroad.
Foreign stocks have much more attractive yields these days. A leading index of big-cap stocks in developed overseas markets yielded a 3.7% payout as of July 31, compared with a 2.4% rate for similar U.S. stocks.
As aging baby-boomers in the U.S. look for ways to get income, a number of mutual funds and exchange-traded funds have been launched with a focus on dividend-paying foreign stocks. Most recently, fund giant American Funds, which rarely trots out new funds, filed for an income-oriented foreign-stock fund to be introduced this fall.
Dividend-paying funds and stocks are traditionally safer bets in difficult markets such as the current one. But many of the highest yielding stocks in the U.S. are financials, which have been hurt by the turmoil in the mortgage market.
No one knows when companies such as Citigroup
will dig their way out of the current mess, so buying their shares is hardly a conservative bet right now. A number of banks including Citigroup, Wachovia Corp. and National City Corp. have chopped their dividends to conserve capital.
Overseas too, a lot of the high-yielding stocks are financials. Some, such as UBS AG are embroiled in the U.S. mortgage-market rout. But others stocks, such as HSBC Holdings PLC, which yields 5.4%, Lloyds TSB Group PLC, with a 12% yield, and Barclays PLC, with a 9.8% yield, have been hurt less by the U.S. mortgage market.
•
The News: When it comes to dividends, foreign stocks have better yields than U.S. ones.
•
Investors' Call: There are several mutual funds and exchange-traded funds that focus on dividend-paying foreign stocks, and could be worth a look.
•
Caveats: High-yielding foreign stocks have risks. If foreign banks get slammed it could be a problem. And foreign stocks won't be as tasty if the dollar keeps rising.
Glenn Zannotti, a 45-year-old account manager for a nonprofit in Tulsa, Okla., holds a portfolio of U.S.-traded shares of 10 foreign companies, all of which yield more than 4%. Recently, he has been buying financial stocks, such as Barclays, Deutsche Bank AG and Royal Bank of Scotland Group PLC, which he considers "good long-term value" and a complement to his U.S.-stock holdings.
Of course, high-yielding foreign stocks bring their own risks. Foreign banks will be hit hard if the global slowdown intensifies. These firms could get swept up if housing prices get worse in their home markets.
What's more, any U.S. investor owning a foreign stock faces currency risks. In the past few years, foreign currencies have been rising against the dollar, pushing up the value of foreign shares held by U.S. investors. But the dollar has made a comeback in recent weeks, and if this continues, foreign shares could hurt returns for Americans.
Why do foreign companies pay higher dividends? There was a time when U.S. companies had much higher payouts. But over recent decades, U.S. companies have retained more earnings to plow them back into the business. They also have done a lot of share buybacks in recent years.
Meanwhile, many foreign companies take more a traditional approach to dividends: the money they earn belongs to their shareholders, and they return it to investors in the form of rising dividends. Also, earnings growth in some Asian countries such as Taiwan is spurring their companies to start paying dividends or increase the dividends they already pay.
According to calculations by Jesper Madsen, manager of Matthews Asia Pacific Equity Income Fund, dividends from companies included in the MSCI AC Asia Pacific Index have grown at an average of 18% annually between 2003 and 2007, as compared with 6% for companies in the Standard & Poor's 500-stock index, on an equal-weighted basis.
Mr. Madsen notes that in some countries such as Taiwan, some of the highest-dividend-yielding companies are technology companies. That is quite different from the situation in the U.S. where many tech companies don't pay dividends at all.
Vincent McBride, manager of the recently launched Lord Abbett International Dividend Income Fund, says he has been finding gems in foreign companies that are subsidiaries of large multinationals. An example is Telefonica O2 Czech Republic, a unit of one of the world's leading phone companies, Telefónica SA. It yields about 9.8%.
The Morningstar Inc. data base has about two dozen foreign mutual funds that seek out dividend-paying stocks; a third of them are "global," meaning they can invest in the U.S if the manager so wants. Pure foreign dividend funds go by "International Equity Dividend" or "Equity Income" in their titles, while funds that have income only as a secondary objective go by names like "Growth & Income."
The largest fund by assets is the T. Rowe Price International Growth and Income, at $2.9 billion, and is also among the oldest with a 1998 inception. The fund is down 19% this year, thanks partly to its 24% stake in financials, but has a 14% annualized return over the past five years, according to Morningstar. Its 12-month yield is 2.26%.
In addition, there are 22 foreign dividend-oriented exchange-traded funds, mostly launched since 2006. Sixteen of these are from WisdomTree Investments Inc., a company which subscribes to the research of Jeremy Siegel, a professor at the University of Pennsylvania, who believes that dividends are the most objective way to value a company.
The ETFs go from broad ones, such as the PowerShares International Dividend Achievers Porfolio, launched in 2005 and yielding 4.1%, to specialized ones such as the WisdomTree International SmallCap Dividend, which currently yields 2.6%. These are two of the largest such ETFs, with slightly more than $460 million in assets.
The foreign-focused fund with the highest yield currently is Henderson Global Equity Income, with a 12-month yield of 8.8%, followed by the iShares Dow Jones EPAC Select Dividend ETF with an 8.3% yield. The highest-yielding fund may not be suitable for all investors. For instance, the iShares DJ EPAC ETF has 50% of its assets in financials.
Most investors are advised to pick a broadly diversified fund, across countries and sectors. Steve Janachowski, a financial adviser in Tiburon, Calif., suggests looking at a "global" fund, such as the Tweedy, Browne Worldwide High Dividend Yield Value Fund, which was launched last year.
"I would use that as part of my overall foreign and global strategy," Mr. Janachowski says.
Write to Shefali Anand at shefali.anand@wsj.com
By Shefali Anand, The Wall Street Journal
Last update: 11:08 a.m. EDT Aug. 18, 2008Dividend-seeking investors should cast their gaze abroad.
Foreign stocks have much more attractive yields these days. A leading index of big-cap stocks in developed overseas markets yielded a 3.7% payout as of July 31, compared with a 2.4% rate for similar U.S. stocks.
As aging baby-boomers in the U.S. look for ways to get income, a number of mutual funds and exchange-traded funds have been launched with a focus on dividend-paying foreign stocks. Most recently, fund giant American Funds, which rarely trots out new funds, filed for an income-oriented foreign-stock fund to be introduced this fall.
Dividend-paying funds and stocks are traditionally safer bets in difficult markets such as the current one. But many of the highest yielding stocks in the U.S. are financials, which have been hurt by the turmoil in the mortgage market.
No one knows when companies such as Citigroup
will dig their way out of the current mess, so buying their shares is hardly a conservative bet right now. A number of banks including Citigroup, Wachovia Corp. and National City Corp. have chopped their dividends to conserve capital.
Overseas too, a lot of the high-yielding stocks are financials. Some, such as UBS AG are embroiled in the U.S. mortgage-market rout. But others stocks, such as HSBC Holdings PLC, which yields 5.4%, Lloyds TSB Group PLC, with a 12% yield, and Barclays PLC, with a 9.8% yield, have been hurt less by the U.S. mortgage market.
•
The News: When it comes to dividends, foreign stocks have better yields than U.S. ones.
•
Investors' Call: There are several mutual funds and exchange-traded funds that focus on dividend-paying foreign stocks, and could be worth a look.
•
Caveats: High-yielding foreign stocks have risks. If foreign banks get slammed it could be a problem. And foreign stocks won't be as tasty if the dollar keeps rising.
Glenn Zannotti, a 45-year-old account manager for a nonprofit in Tulsa, Okla., holds a portfolio of U.S.-traded shares of 10 foreign companies, all of which yield more than 4%. Recently, he has been buying financial stocks, such as Barclays, Deutsche Bank AG and Royal Bank of Scotland Group PLC, which he considers "good long-term value" and a complement to his U.S.-stock holdings.
Of course, high-yielding foreign stocks bring their own risks. Foreign banks will be hit hard if the global slowdown intensifies. These firms could get swept up if housing prices get worse in their home markets.
What's more, any U.S. investor owning a foreign stock faces currency risks. In the past few years, foreign currencies have been rising against the dollar, pushing up the value of foreign shares held by U.S. investors. But the dollar has made a comeback in recent weeks, and if this continues, foreign shares could hurt returns for Americans.
Why do foreign companies pay higher dividends? There was a time when U.S. companies had much higher payouts. But over recent decades, U.S. companies have retained more earnings to plow them back into the business. They also have done a lot of share buybacks in recent years.
Meanwhile, many foreign companies take more a traditional approach to dividends: the money they earn belongs to their shareholders, and they return it to investors in the form of rising dividends. Also, earnings growth in some Asian countries such as Taiwan is spurring their companies to start paying dividends or increase the dividends they already pay.
According to calculations by Jesper Madsen, manager of Matthews Asia Pacific Equity Income Fund, dividends from companies included in the MSCI AC Asia Pacific Index have grown at an average of 18% annually between 2003 and 2007, as compared with 6% for companies in the Standard & Poor's 500-stock index, on an equal-weighted basis.
Mr. Madsen notes that in some countries such as Taiwan, some of the highest-dividend-yielding companies are technology companies. That is quite different from the situation in the U.S. where many tech companies don't pay dividends at all.
Vincent McBride, manager of the recently launched Lord Abbett International Dividend Income Fund, says he has been finding gems in foreign companies that are subsidiaries of large multinationals. An example is Telefonica O2 Czech Republic, a unit of one of the world's leading phone companies, Telefónica SA. It yields about 9.8%.
The Morningstar Inc. data base has about two dozen foreign mutual funds that seek out dividend-paying stocks; a third of them are "global," meaning they can invest in the U.S if the manager so wants. Pure foreign dividend funds go by "International Equity Dividend" or "Equity Income" in their titles, while funds that have income only as a secondary objective go by names like "Growth & Income."
The largest fund by assets is the T. Rowe Price International Growth and Income, at $2.9 billion, and is also among the oldest with a 1998 inception. The fund is down 19% this year, thanks partly to its 24% stake in financials, but has a 14% annualized return over the past five years, according to Morningstar. Its 12-month yield is 2.26%.
In addition, there are 22 foreign dividend-oriented exchange-traded funds, mostly launched since 2006. Sixteen of these are from WisdomTree Investments Inc., a company which subscribes to the research of Jeremy Siegel, a professor at the University of Pennsylvania, who believes that dividends are the most objective way to value a company.
The ETFs go from broad ones, such as the PowerShares International Dividend Achievers Porfolio, launched in 2005 and yielding 4.1%, to specialized ones such as the WisdomTree International SmallCap Dividend, which currently yields 2.6%. These are two of the largest such ETFs, with slightly more than $460 million in assets.
The foreign-focused fund with the highest yield currently is Henderson Global Equity Income, with a 12-month yield of 8.8%, followed by the iShares Dow Jones EPAC Select Dividend ETF with an 8.3% yield. The highest-yielding fund may not be suitable for all investors. For instance, the iShares DJ EPAC ETF has 50% of its assets in financials.
Most investors are advised to pick a broadly diversified fund, across countries and sectors. Steve Janachowski, a financial adviser in Tiburon, Calif., suggests looking at a "global" fund, such as the Tweedy, Browne Worldwide High Dividend Yield Value Fund, which was launched last year.
"I would use that as part of my overall foreign and global strategy," Mr. Janachowski says.
Write to Shefali Anand at shefali.anand@wsj.com
When 401k Investing Goes Bad -- from WSJ
August 4, 2008
INVESTING IN FUNDS
When 401(k) Investing Goes Bad
Teachers in West Virginia offer a valuable lesson for what not to do
By JENNIFER LEVITZ
August 4, 2008; Page R1
Seventeen years ago, West Virginia school employees joined millions of workers nationwide in a shift from a pension plan that guaranteed a monthly check, to a retirement-savings plan that would make the teachers, bus drivers, custodians and other staff responsible for their own investment accounts.
LEARNING A LESSON
."It was horrible," says Judy Hale, president of the West Virginia Federation of Teachers union. Most felt poorly informed, and they invested too conservatively, putting the largest sums of money into a fixed-rate annuity, a safe but low-yielding option that typically is inadequate for building a nest egg.
As employees began to retire, most balances were pitifully small. So on July 1, after a vote authorized by the state legislature, 14,871 school employees, or 78%, switched to the old-fashioned pension plan.
After the vote, teachers were "jumping up and down and crying in the halls," Ms. Hale says.
The school employees put their mistakes behind them, but their experience stands as a cautionary tale for employers and employees across the country. As large numbers of workers are starting to retire with 401(k) or 401(k)-like plans to support them, what happened in West Virginia is a window into exactly how things can fall apart for workers, and it serves as a wake-up call for figuring out how to avoid having plans go as badly off track as this one did.
Many workers with retirement accounts have built nest eggs far bigger than they ever imagined possible. But unknowledgeable ones often are far short of comfortable retirements -- and they don't have the option the West Virginia teachers did of appealing to state legislators to get them out of their investing mistakes. On top of all this is the havoc that the current bear market may be wreaking on older workers' accounts if they are too aggressively invested in stocks.
Around the country, a few big employers have ditched retirement-savings plans and returned to traditional pensions. The pace of big companies abandoning pension plans appears to be slowing as well. In 2007, 54 of the 100 largest U.S. employers offered an old-fashioned pension plan to new workers, down from 58 in 2006, according to Watson Wyatt Worldwide, a management-consulting firm in Arlington, Va. That 7% decline compares with a 14% drop as recently as 2005.
Debra Elmore
But there is little question that retirement-savings plans, which have proliferated since the 1980s, are here to stay. Only 21% of full-time employees had an old-fashioned pension plan in 2007, down from 54% in 2004, according to Transamerica Center for Retirement Studies, a nonprofit corporation funded by Aegon NV's Transamerica Life Insurance Co.
"A 401(k) gets employees to the right place if they're using it right," says Pam Hess, director of retirement research at Hewitt Associates a Lincolnshire, Ill., consulting firm, adding: "We still have work to do." Improvements ushered in by the 2006 Pension Protection Act are still being put into place by many employers, such as automatically enrolling new workers and providing investment advice. More employers also are offering account-management services, annual rebalancing of accounts to keep investments in line with designated asset-allocation targets and target-date funds that adjust their holdings from an aggressive to a conservative mix as workers age.
Challenges clearly remain: At the end of 2007, the median 401(k) account balance for people age 60 and above was $34,420, according to Hewitt, meaning half of the group had balances even lower. To be sure, some retirees have other savings, including money rolled into individual retirement accounts from 401(k)s at prior employers.
But studies are starting to document that traditional pension plans, which typically are overseen by professional money managers, outperform programs in which workers control an investment account, like 401(k)s. Between 1995 and 2006, "defined benefit" pension plans, so-named because they give retirees a specified monthly benefit, outperformed defined-contribution plans, in which the employer makes a specified contribution to the worker's account, by about one percentage point a year, for a cumulative dollar difference of nearly 14%, according to a June report by Watson Wyatt.
A Church's Change
The United Methodist Church last year moved its 36,000 clergy and lay employees back to a traditional pension, realizing that "with ministers, really their talents are in creative areas, and often not in investment areas," says Ron Gebhardtsbauer, an actuary in University Park, Pa., and a former trustee with the church's pension board. Barbara Boigegrain, general secretary of the church's Evanston, Ill.-based pension board, adds that the church didn't believe it was fair that its employees "were at the whim of the markets." Those who retired in the bull market of 1999, for instance, generally had a better nest egg than those who retired as a three-year bear market ended in 2002. "We care desperately that they have an adequate income in retirement -- and income that they cannot outlive," she says.
Beginning in the early 1970s, school employees in West Virginia were enrolled in an old-fashioned plan, with benefits calculated by a formula that took into account compensation and years of service. But after the pension plan faced funding shortfalls, it was closed to new enrollments as of June 30, 1991. The defined-contribution plan was set up to take care of new hires, and existing employees were given the option of sticking with the old plan or transferring into the new one.
Under the defined-contribution plan, the state contributes 7.5% of each employee's annual eligible gross pay, according to the Web site of the state's retirement board. Employees have flexibility in terms of their contributions: While the state requires those in the pension plan to contribute 6% of pay into the state fund, those in the savings plan can contribute as little as 4.5% -- a selling point to those who want greater take-home pay.
Of course, a smaller contribution has the effect of holding down the account balance. As for the state's 7.5% contribution, it is more generous than in the average private-sector 401(k), where the most common fixed match is 50 cents per dollar of an employee's contribution up to the first 6%, according to the Profit Sharing/401k Council of America, a nonprofit organization in Chicago. In contrast, to fund the defined-benefit plan for the teachers, the state of West Virginia aims to contribute 15% of annual gross pay for people hired before July 2005 and 7.5% for those hired after. In general, a typical payout in the West Virginia pension plan is an amount equal to 2% of an employee's peak salary multiplied by years of service.
Sales at Lunch
The West Virginia plan initially offered stock and bond mutual funds, a money-market fund, and an annuity, in this case from Variable Annuity Life Insurance Co., or Valic, a unit of American International Group Inc. In addition to the Valic annuity, current offerings include funds from Capital Group Cos.' American Funds unit, Federated Investors Inc., Fidelity Investments and Franklin Resources Inc.
Illustrations by Yan Nascimbene
From the start, most employees favored the annuity. Some say they were swayed by Valic's sales force, which included former educators and school employees who went into the schools during the workday to talk about the option. "These people came during your lunch or during your planning period basically to sell the program," says Debra Elmore, a third-grade teacher in Ansted, W.Va.
Ms. Elmore acknowledges knowing little about investing. "Oh, Lord no," she says. "I had no idea." She set up her account so that 85% of her contributions would go into the fixed-rate annuity. "I just thought, 'Well, these are safe. Let's stay there.' "
AIG spokesman John Pluhowski says the insurance company hires former school employees to sell its products to schools "because the education market is important to us; educators know the needs and concerns of educators." He says the representatives were "not authorized or directed to give investment advice; they were only authorized to sell a fixed-annuity contract."
Anne Lambright, executive director of the state's retirement board, says that the board offered "some general education" about investing to employees, but that "not everyone took advantage of it." She acknowledges that advice was limited and that much of the information employees received was probably from the companies selling the products. "I'm not sure how much information they got in terms of comparison between products or stocks and bonds," she says.
At one point, about two-thirds of all assets in the plan were invested in the fixed-rate annuity, according to the board's annual reports. For the first two years, the annuity offered an annual return of 8.5%, but then it dropped to 4.5%, according to a state official. Mr. Pluhowski says the 4.5% is the guaranteed minimum return, while the higher percentage was based on then-market conditions.
By 2005, complaints from employees and the union about low balances in the defined-contribution plan had mounted. State officials closed the plan to new participants and reopened the pension plan to new hires. The following year, school employees voted on whether to end the defined-contribution plan, but a state court later deemed the vote unconstitutional because those satisfied with the plan would have been forced to return to the old-fashioned pension plan. This spring's election was couched differently: Workers voluntarily could elect to transfer their account into the old pension plan, provided that at least 65% of current employees wanted the transfers to be permitted.
The threshold easily was cleared -- in part because as of April 30 the average account balance in the defined-contribution plan was $41,478, and of the 1,767 employees over the age of 60, only 105 had balances of more than $100,000. "Our members were going to run out of money five or six years into retirement," says Ms. Hale of the teachers union.
Some retirement experts say another problem that surfaces in 401(k) plans is the "red-truck syndrome": Plan participants use some of their nest egg at retirement to buy something they always dreamed of having. Teresa Ghilarducci, an economist at the New School for Social Research in New York, says many workers take their 401(k) in a lump sum and have difficulty making it last. She says the West Virginia case "shows the nation what is wrong with everyone's 401(k)," including a lack of investment knowledge and fiscal discipline.
State Investigation
Meanwhile, West Virginia's state auditor and attorney general have announced that they are looking into whether Valic made misrepresentations to induce employees to invest in its annuity, with the attorney general appointing four prominent state lawyers as special assistant attorneys general to help with the investigation. Also, Valic and AIG are co-defendants in a civil lawsuit seeking class-action status in county court in Moundsville, W.Va. The lead plaintiff, a teacher, accuses Valic of fraud, alleging the company misled employees to get them to invest in a "commission-driven" product.
AIG denies wrongdoing. Mr. Pluhowski declined to specifically discuss the lawsuit or the current state investigation, but says, "We are confident we met the obligations we were contracted to provide." He declined to say how much employees were paid for sales of the annuities, but says that "no plan contributions were used to pay commissions." West Virginia's insurance commissioner investigated Valic's sales practices in 2002 and cleared the company, saying it had found no misrepresentations by Valic agents.
Teachers returning to the pension plan will receive reduced benefits to reflect that they've contributed less than other state workers over the years. But they will have the option to make catch-up contributions to "buy back" the full benefits.
Ms. Elmore, 46, says she realized her disappointment in the defined-contribution plan when she received a letter from the state's retirement board in April projecting that, at age 60, she would have a big-enough nest egg to provide her with $1,571 per month for her life. By contrast, the letter projected, if she voted to go back to the defined-benefit plan, she would receive a projected monthly payment between $2,656 and as much as $3,050.
"I jumped on it," she says. "I was just worried."
--Ms. Levitz is a staff reporter in Boston for The Wall Street Journal.
Write to Jennifer Levitz at jennifer.levitz@wsj.com7
URL for this article:
http://online.wsj.com/article/SB121744530152197819.html
Hyperlinks in this Article:
(1) http://podcast.mktw.net/wsj/audio/20080801/pod-wsjlevitz/pod-wsjlevitz.mp3
(2) http://podcast.mktw.net/wsj/audio/20080801/pod-wsjlevitz/pod-wsjlevitz.mp3
(3) http://online.wsj.com/public/resources/documents/info-quiz06.html
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INVESTING IN FUNDS
When 401(k) Investing Goes Bad
Teachers in West Virginia offer a valuable lesson for what not to do
By JENNIFER LEVITZ
August 4, 2008; Page R1
Seventeen years ago, West Virginia school employees joined millions of workers nationwide in a shift from a pension plan that guaranteed a monthly check, to a retirement-savings plan that would make the teachers, bus drivers, custodians and other staff responsible for their own investment accounts.
LEARNING A LESSON
."It was horrible," says Judy Hale, president of the West Virginia Federation of Teachers union. Most felt poorly informed, and they invested too conservatively, putting the largest sums of money into a fixed-rate annuity, a safe but low-yielding option that typically is inadequate for building a nest egg.
As employees began to retire, most balances were pitifully small. So on July 1, after a vote authorized by the state legislature, 14,871 school employees, or 78%, switched to the old-fashioned pension plan.
After the vote, teachers were "jumping up and down and crying in the halls," Ms. Hale says.
The school employees put their mistakes behind them, but their experience stands as a cautionary tale for employers and employees across the country. As large numbers of workers are starting to retire with 401(k) or 401(k)-like plans to support them, what happened in West Virginia is a window into exactly how things can fall apart for workers, and it serves as a wake-up call for figuring out how to avoid having plans go as badly off track as this one did.
Many workers with retirement accounts have built nest eggs far bigger than they ever imagined possible. But unknowledgeable ones often are far short of comfortable retirements -- and they don't have the option the West Virginia teachers did of appealing to state legislators to get them out of their investing mistakes. On top of all this is the havoc that the current bear market may be wreaking on older workers' accounts if they are too aggressively invested in stocks.
Around the country, a few big employers have ditched retirement-savings plans and returned to traditional pensions. The pace of big companies abandoning pension plans appears to be slowing as well. In 2007, 54 of the 100 largest U.S. employers offered an old-fashioned pension plan to new workers, down from 58 in 2006, according to Watson Wyatt Worldwide, a management-consulting firm in Arlington, Va. That 7% decline compares with a 14% drop as recently as 2005.
Debra Elmore
But there is little question that retirement-savings plans, which have proliferated since the 1980s, are here to stay. Only 21% of full-time employees had an old-fashioned pension plan in 2007, down from 54% in 2004, according to Transamerica Center for Retirement Studies, a nonprofit corporation funded by Aegon NV's Transamerica Life Insurance Co.
"A 401(k) gets employees to the right place if they're using it right," says Pam Hess, director of retirement research at Hewitt Associates a Lincolnshire, Ill., consulting firm, adding: "We still have work to do." Improvements ushered in by the 2006 Pension Protection Act are still being put into place by many employers, such as automatically enrolling new workers and providing investment advice. More employers also are offering account-management services, annual rebalancing of accounts to keep investments in line with designated asset-allocation targets and target-date funds that adjust their holdings from an aggressive to a conservative mix as workers age.
Challenges clearly remain: At the end of 2007, the median 401(k) account balance for people age 60 and above was $34,420, according to Hewitt, meaning half of the group had balances even lower. To be sure, some retirees have other savings, including money rolled into individual retirement accounts from 401(k)s at prior employers.
But studies are starting to document that traditional pension plans, which typically are overseen by professional money managers, outperform programs in which workers control an investment account, like 401(k)s. Between 1995 and 2006, "defined benefit" pension plans, so-named because they give retirees a specified monthly benefit, outperformed defined-contribution plans, in which the employer makes a specified contribution to the worker's account, by about one percentage point a year, for a cumulative dollar difference of nearly 14%, according to a June report by Watson Wyatt.
A Church's Change
The United Methodist Church last year moved its 36,000 clergy and lay employees back to a traditional pension, realizing that "with ministers, really their talents are in creative areas, and often not in investment areas," says Ron Gebhardtsbauer, an actuary in University Park, Pa., and a former trustee with the church's pension board. Barbara Boigegrain, general secretary of the church's Evanston, Ill.-based pension board, adds that the church didn't believe it was fair that its employees "were at the whim of the markets." Those who retired in the bull market of 1999, for instance, generally had a better nest egg than those who retired as a three-year bear market ended in 2002. "We care desperately that they have an adequate income in retirement -- and income that they cannot outlive," she says.
Beginning in the early 1970s, school employees in West Virginia were enrolled in an old-fashioned plan, with benefits calculated by a formula that took into account compensation and years of service. But after the pension plan faced funding shortfalls, it was closed to new enrollments as of June 30, 1991. The defined-contribution plan was set up to take care of new hires, and existing employees were given the option of sticking with the old plan or transferring into the new one.
Under the defined-contribution plan, the state contributes 7.5% of each employee's annual eligible gross pay, according to the Web site of the state's retirement board. Employees have flexibility in terms of their contributions: While the state requires those in the pension plan to contribute 6% of pay into the state fund, those in the savings plan can contribute as little as 4.5% -- a selling point to those who want greater take-home pay.
Of course, a smaller contribution has the effect of holding down the account balance. As for the state's 7.5% contribution, it is more generous than in the average private-sector 401(k), where the most common fixed match is 50 cents per dollar of an employee's contribution up to the first 6%, according to the Profit Sharing/401k Council of America, a nonprofit organization in Chicago. In contrast, to fund the defined-benefit plan for the teachers, the state of West Virginia aims to contribute 15% of annual gross pay for people hired before July 2005 and 7.5% for those hired after. In general, a typical payout in the West Virginia pension plan is an amount equal to 2% of an employee's peak salary multiplied by years of service.
Sales at Lunch
The West Virginia plan initially offered stock and bond mutual funds, a money-market fund, and an annuity, in this case from Variable Annuity Life Insurance Co., or Valic, a unit of American International Group Inc. In addition to the Valic annuity, current offerings include funds from Capital Group Cos.' American Funds unit, Federated Investors Inc., Fidelity Investments and Franklin Resources Inc.
Illustrations by Yan Nascimbene
From the start, most employees favored the annuity. Some say they were swayed by Valic's sales force, which included former educators and school employees who went into the schools during the workday to talk about the option. "These people came during your lunch or during your planning period basically to sell the program," says Debra Elmore, a third-grade teacher in Ansted, W.Va.
Ms. Elmore acknowledges knowing little about investing. "Oh, Lord no," she says. "I had no idea." She set up her account so that 85% of her contributions would go into the fixed-rate annuity. "I just thought, 'Well, these are safe. Let's stay there.' "
AIG spokesman John Pluhowski says the insurance company hires former school employees to sell its products to schools "because the education market is important to us; educators know the needs and concerns of educators." He says the representatives were "not authorized or directed to give investment advice; they were only authorized to sell a fixed-annuity contract."
Anne Lambright, executive director of the state's retirement board, says that the board offered "some general education" about investing to employees, but that "not everyone took advantage of it." She acknowledges that advice was limited and that much of the information employees received was probably from the companies selling the products. "I'm not sure how much information they got in terms of comparison between products or stocks and bonds," she says.
At one point, about two-thirds of all assets in the plan were invested in the fixed-rate annuity, according to the board's annual reports. For the first two years, the annuity offered an annual return of 8.5%, but then it dropped to 4.5%, according to a state official. Mr. Pluhowski says the 4.5% is the guaranteed minimum return, while the higher percentage was based on then-market conditions.
By 2005, complaints from employees and the union about low balances in the defined-contribution plan had mounted. State officials closed the plan to new participants and reopened the pension plan to new hires. The following year, school employees voted on whether to end the defined-contribution plan, but a state court later deemed the vote unconstitutional because those satisfied with the plan would have been forced to return to the old-fashioned pension plan. This spring's election was couched differently: Workers voluntarily could elect to transfer their account into the old pension plan, provided that at least 65% of current employees wanted the transfers to be permitted.
The threshold easily was cleared -- in part because as of April 30 the average account balance in the defined-contribution plan was $41,478, and of the 1,767 employees over the age of 60, only 105 had balances of more than $100,000. "Our members were going to run out of money five or six years into retirement," says Ms. Hale of the teachers union.
Some retirement experts say another problem that surfaces in 401(k) plans is the "red-truck syndrome": Plan participants use some of their nest egg at retirement to buy something they always dreamed of having. Teresa Ghilarducci, an economist at the New School for Social Research in New York, says many workers take their 401(k) in a lump sum and have difficulty making it last. She says the West Virginia case "shows the nation what is wrong with everyone's 401(k)," including a lack of investment knowledge and fiscal discipline.
State Investigation
Meanwhile, West Virginia's state auditor and attorney general have announced that they are looking into whether Valic made misrepresentations to induce employees to invest in its annuity, with the attorney general appointing four prominent state lawyers as special assistant attorneys general to help with the investigation. Also, Valic and AIG are co-defendants in a civil lawsuit seeking class-action status in county court in Moundsville, W.Va. The lead plaintiff, a teacher, accuses Valic of fraud, alleging the company misled employees to get them to invest in a "commission-driven" product.
AIG denies wrongdoing. Mr. Pluhowski declined to specifically discuss the lawsuit or the current state investigation, but says, "We are confident we met the obligations we were contracted to provide." He declined to say how much employees were paid for sales of the annuities, but says that "no plan contributions were used to pay commissions." West Virginia's insurance commissioner investigated Valic's sales practices in 2002 and cleared the company, saying it had found no misrepresentations by Valic agents.
Teachers returning to the pension plan will receive reduced benefits to reflect that they've contributed less than other state workers over the years. But they will have the option to make catch-up contributions to "buy back" the full benefits.
Ms. Elmore, 46, says she realized her disappointment in the defined-contribution plan when she received a letter from the state's retirement board in April projecting that, at age 60, she would have a big-enough nest egg to provide her with $1,571 per month for her life. By contrast, the letter projected, if she voted to go back to the defined-benefit plan, she would receive a projected monthly payment between $2,656 and as much as $3,050.
"I jumped on it," she says. "I was just worried."
--Ms. Levitz is a staff reporter in Boston for The Wall Street Journal.
Write to Jennifer Levitz at jennifer.levitz@wsj.com7
URL for this article:
http://online.wsj.com/article/SB121744530152197819.html
Hyperlinks in this Article:
(1) http://podcast.mktw.net/wsj/audio/20080801/pod-wsjlevitz/pod-wsjlevitz.mp3
(2) http://podcast.mktw.net/wsj/audio/20080801/pod-wsjlevitz/pod-wsjlevitz.mp3
(3) http://online.wsj.com/public/resources/documents/info-quiz06.html
(4) http://online.wsj.com/public/resources/documents/info-quiz06.html
(5) http://online.wsj.com/public/page/2_1596.html
(6) http://online.wsj.com/public/page/2_1596.html
(7) mailto:jennifer.levitz@wsj.com
Copyright 2008 Dow Jones & Company, Inc. All Rights Reserved This copy is for your personal, non-commercial use only. Distribution and use of this material are governed by our Subscriber Agreement and by copyright law. For non-personal use or to order multiple copies, please contact Dow Jones Reprints at 1-800-843-0008 or visit www.djreprints.com.
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