Dividends. Ah! How sweet the sound! (LOUDER PLEASE)

As we’ve mentioned in these pages, we believe that the dividend tax break offered by the Bush Administration should go to the companies and not investors. As an example, in the year 2000, the S&P 500 companies paid out just a third of their reported earnings as dividends. This means that those earnings after taxes are still resting in the confines of the corporate structure. Make no mistake - we need some sort of change. Money paid out as dividends is currently taxed twice, at both the corporate and at the individual level. That has two unsavory consequences.

First, companies that need money to grow tend to borrow, rather than utilize cash. The reason, of course, is that the companies can take a tax deduction for the interest they pay, but they don’t get any tax break for paying dividends. What is really happening is that the tax code is encouraging companies to load up on debt. That’s not exactly a recipe for economic stability… And of course, the tax code also gives top executives incentive to hang onto profits and use the money to gun for faster growth in an effort to bolster their companies’ share price. Why? Under present law, if a company kicks off a dividend, both the corporation and shareholders pay taxes on the money involved. The top executives would rather increase the share price to coincide with the stock options they were given to increase the value of the companies’ stock. So what is the answer? Who knows?

Whatever the answer is, we need to stop double taxing dividends.

WHAT ELSE DO WE LOOK FOR?

Most individuals buy mutual funds based on the fund’s track record. Most brokers and advisors offer funds based on that same track record. The performance is important, but so are the people and processes behind that record. When researching money managers, we at Omega ask the following questions:

• What is the managers’ investment style and philosophy? Has it shifted with the latest trends or remained consistent?
• How do they conduct research and manage portfolios? Does the system show continuity?
• How much experience do they have? You can’t buy a track record, but you can hire experience.

Where most of our money managers have experience ranging in excess of 22 years managing money, the average fund manager out there in the market place has a little over 3 years experience. The expense ratio or annual cost of 99% of the funds we offer is less than half of what the average fund charges. And on top of that, the turnover in the portfolios that our people manage has a tendency to be lower than that of the average fund – which is 110%. This means that every year all the stocks within the portfolio and more are bought and sold. Our turnover ranges from 25% to 36%.

WHAT’S MY LINE?

Recently, we read an article by Anita Faulkner from a newsletter put out by the Sycamore Financial Group in Kokomo, Indiana. Craig Smith is the Broker/Dealer and an old acquaintance of mine. We thought we’d share it.

During the 1960’s, the popular TV show “What’s My Line?” had celebrities guess the professions of ordinary people. With the following clues, can you guess what the people below have in common?

1. These people live well below their financial means.
2. These people allocate time, energy and money in ways that build wealth.
3. These people believe that financial independence is more important than displaying high social status.
4. Their parents did not provide economic outpatient care.
5. Their adult children are economically self-sufficient.
6. These people are proficient in targeting market opportunities.
7. These people chose the right occupations.

The seven attributes listed above apply to “self-made” millionaires. In a recent survey of 1,115 millionaires in the U.S., these are the common denominators of financial independence achieved by hard work, perseverance, planning, and self-discipline. More often than not, the men and women who accumulate great wealth have one thing in common, a simple lifestyle.

The millionaires in the survey were, by and large, small business owners who had typically lived in the same town for all of their adult lives. They live next door to people with a fraction of their wealth. They don’t wear expensive clothes or drive new cars; their homes are relatively modest compared to their financial status.

In a nutshell, simple living is about choice. People who live simply are in control of their money and their lives. When we buy into Madison Avenue advertising campaigns, we spend our choices. Financial independence is a lifestyle that buys control of how and where you will spend your time.

Solo 401(k)s

If you are self-employed or know someone who is self-employed and a small business owner, with no full time employees, there may be a better way for you to set up a retirement plan other than an SEP (Simplified Employee Plan).

Under new tax laws, whether you are incorporated or unincorporated, a self-employed individual who can afford to invest upwards of $40,000 a year in retirement, should take a close look at the Solo 401(k).

Beginning in 2002, incorporated employers of solo business can make tax deferred contributions of up to 25% of employee’s pay to a plan. The percentage is effectively less than 25% for the unincorporated because of self-employment tax adjustment. However, what is more important is that the employee’s contribution (a maximum of $11,202) goes up to $15,000 by 2006. This amount is no longer counted as part of the employer’s 25% contribution limit.

The bottom line is that these contributions can’t exceed $40,000 or 100% of compensation. Additionally an employee age 50 and over can kick in another $1000 in 2002, rising to $5000 extra by 2006.

Here’s an example:
An incorporated business owner earns $80,000. First, the owner can set aside 25% of pay as an employer – in this case $20,000. In addition, the “employee” contribution can go up to $11,000, plus another $1000 if the owner is age 50 or over. That’s a grand total of $32,000. For an unincorporated business, the total would be $26,870. And remember, everything that’s invested is deductible.

This one operates like a profit sharing plan in that you don’t have to contribute the maximum each year. The fact of the matter is you do not have to contribute anything if you don’t want to. If you or someone you know is interested in this sort of retirement program, give us a call. We can arrange the administration of the plan as well as the investments.

UPS AND DOWNS

We’ve had a bear market that started on March 24, 2000, and at this writing, the bottom was on October 9, 2002. This is a 49.1% downturn in the S&P 500 Index. There have been six other bear markets that were similar, but not quite as severe as this one. Each one of those bear markets was followed by an upturn in excess of the downturn. If you want to get an idea of what this means, simply stand up, walk across the floor – taking two steps forward and one step backward. Two steps forward one step backward – this is exactly how it works. The only difference is that we’re spoiled because we’ve had an eighteen year bull market. Interestingly enough, the average duration of all bull markets between 1929 and 2002 have lasted 2.05 years - considerably shorter than the eighteen years we’ve gone through since 1982.

"HISTORY MAY NOT REPEAT ITSELF, BUT IT RHYMES"

There are a few things I’ve discovered over the years which mayserve to put these perilous times in perspective. One of the things that we’ve found is that the only way to succeed in investing is to go against what you feel. Most people make financial decisions based on emotion rather than logic. During good times of a Bull Market, the elation leads us to believe that a tree really does “grow to the sky”. And in Bear Markets the emotion of fear causes us to miss some potentially rewarding investment opportunities.

Take a look at these classic investment mistakes that all of us make at one time or another during our lifetime:

• We either over diversify or contrarily, under diversify.
• Euphoria in bull markets leads to panic in bear markets.
• We carry too much debt.
• We look for yield instead of total return.
• We speculate, which is a sure sign of the end of bull markets.
• We make investments based solely on tax considerations.

Our Opinion

As evidenced by many former employees of Enron and WorldCom, you can definitely get rich by not diversifying, but we’ve also found out that you can’t stay rich by not diversifying. Almost every client we have asks us, “What do you think the market will do?” - - or, better still, “What is the market doing now?” These, of course, are questions that we can’t answer because not only do we not know, but we’re really not as interested in markets as we are in companies. We also become highly cognizant of people who manage the money that our clients entrust to us.

Many investment advisors, without core beliefs, simply sell the client what makes the client feel good. For example, the Charles Schwab Co. has changed its advertising schemes three or four times in the last 6 months. This is caused from a basic lack of core belief. It is very difficult on us as advisors not to yield to the temptation of instant gratification as opposed to investing for the future.

There are Really Only Two Ways to Look at Investing When it Comes to Anticipating the Future…

The first way is to be convinced that the future financing of American Industry and the free enterprise system will be based on bonds (borrowing) rather than equities (owning). If you believe that people will no longer be willing to take some sort of risk for future returns, then you should probably become a bond investor. However, if you believe as we do, that American markets will grow because entrepreneurs are willing to take risks – then you should have a portion of your portfolio in common stocks.

That’s our take, yours is welcome.