Startup Q&A #17: Investment Asset Allocation for the Entrepreneur

Hey, everybody. Matthew Paulson here. Today we are going to continue our three part series on investing for entrepreneurs. Today we are going to talk about how entrepreneurs should invest differently than normal people. What type of assets you should have in your retirement account if you're an entrepreneur, and what type of investments you should buy after you max out your retirement accounts. Let's do this. This is officially episode 17 of Startup Q and A, the online video that helps entrepreneurs, startup founders and small business owners achieve their dreams of financial freedom through the power of entrepreneurship. So whether you're just getting started or if you have a hundred employees, this is the show that is going to give you actionable ideas and advice that you can implement in your own business. So we are going to continue our discussion of investing this week. Last week we talked about when you should transition from investing in your business to investing in your retirement accounts. We talked about what other personal financial priorities you should take care of before you begin investing. And we talked about the top three investing priorities, which are the Roth IRA, the 401K and the health Savings account. Together, those make up what I call the tax advantage investing triad, which is not a great name because it's really long, but those are your top three investing priorities. So we are going to continue on that discussion today. We're going to talk about what you should invest in outside of your retirement accounts and how entrepreneurs should invest differently than normal people. So again, these aren't questions that have been asked by anybody in particular, but they are the questions that tend to come up over and over and over again about investing when it comes to entrepreneurs. So hopefully the answers to these questions will be helpful to you. Before we dive into the questions, I'm going to share with you the tip of the week, which is basically a tip or trick or idea that will help you grow your business faster or achieve financial freedom. So this week's tip is to give yourself a basic education on investing entrepreneurs. We think we're smart people and that gets us in trouble when it comes to investing because we always look for a bigger, better deal. And sometimes the bigger, better deal is really only a bigger, better deal for the person trying to sell you the investment in terms of fees and the money they make off you and not the money you make off the investment. So the way that you can get around this is to avoid these mistakes is to give yourself a basic investing education. So if you really know how things work and how people make money and what fees do, and different types of asset allocations, different asset classes, how they perform. You can really avoid a lot of the mistakes people make by buying insurance based products or paying too much in fees. And just a lot of the ways that wealthy entrepreneurs or doctors and lawyers and people that think they're smart get sold a bad investment. It happens really frequently. And by giving yourself a basic investing education, you can avoid a lot of these things. The way that I recommend you do this, there are five good introductory level, maybe not introductory level books that are about investing and personal finance that I really think that just about every entrepreneur should read. I posted these on my blog last summer and you know, they're just as relevant now or a year from now as they were when they were written. So I'm going to put the link to that in the show notes. But if you just want to find them on Amazon, the five books are the Millionaire Next Door by the late great Thomas Stanley. It's just a good book about how real millionaires spend their money and manage their money. The Ultimate Dividend Playbook by Josh Peters. That is a great book on dividend investing. The Bogglehead's Guide to Investing by I can't pronounce these guys names, I'm just going to skip that. But these are basically followers of John Boggle, the guy that created Vanguard. They talk about fees and the impact that paying an advisory fee or different types of investment management fees can really have on your portfolio and ways to get around those. It's a really good book. The Education of a Value Investor by Guy Spiers, that's a great book. And I Will Teach youh to Be Rich by Ramit Sethi is another classic. I like Ramit Sethi's stuff because it's not skip the latte and do all the standard piece of financial advice that people get and you know, it's really not helpful. So this is a good kind of response to that. Of course I've written a couple books on personal finance and investing. There's the 10 year turnaround, which is my guidebook to build wealth and achieve financial freedom. My thesis in that book is that I think anyone can achieve financial freedom in a 10 year period. If you're going to work hard enough and work on the right things and invest in the right things, then I've also written a book on dividend investing called Automatic Income. You can grab that@automaticincomebook.com so what I like about all of these five books really is that they're all written by really smart people and they don't 100% agree with each other on everything. So by reading all five, you'll get five different viewpoints on investing and you'll be able to really see what the issues are and what people disagree on things. There are certainly other great investing books too. I'm not saying these are the only five you should ever read, but these are five that I found particularly helpful through kind of the last decade of my life. And they're kind of a good place to start for anybody that wants to invest a serious amount of money. So that is the tip of the week. Let's dive into the questions. So every week we take a few questions that are submitted through Facebook or through our website, or questions that I just make up because I want to answer them. So if you'd like to have your question answered on a future episode of Startup Q and A, go to the domainstartupqa.co. that will take you over to my website. There you can fill out the form on the website. So it's under the Start Q and A show menu. There's a link to ask a question. You can do that there. Then every now and then on Facebook I will just post, say, hey, does anybody have any questions for Startup Q and A? And then you can post on there and I'll try to answer it in an episode of the podcast or the show. Okay, the first question is what type of assets should I invest in through my retirement accounts? So IRAs, 401ks, HSAs, they're all kind of retirement savings tax advantage investing vehicles. They are special types of investing accounts that let you invest in a taxed favored manner. But you also really have to decide what kind of investments am I going to buy in these accounts? The accounts are just kind of a safe deposit box for your investment. You still have to decide, am I going to buy stocks? US International? Am I going to buy bonds? Corporate Municipal International? Am I going to buy a real estate investment trust? Am I going to invest in a utilities company? Am I going to do who knows what? What am I going to buy in these accounts? There are so many different things with different risk profiles, different geographies you can invest in. So really the age old question is, okay, what do I put my money in? What asset allocation should I have? How should I allocate the assets inside my investing accounts to these different asset classes? How do you do that? And unfortunately, the truth is we don't know because we don't know what the future is going to do. If I had a crystal ball and I knew that these five stocks were going to triple in the next five years I would just put all my money in those. But we don't know that. So I can't tell you that bonds are going to be great or stocks are going to be great because frankly, we don't know. And that's all right. So really what we have to do is look back at history and see how historically different asset classes have done and have performed in different times. When you go back and kind of look, there is what is referred to as the efficient yield frontier or something like that, where there is a certain kind of mix of stocks and bonds and other kind of investments that you can take on for the level of risk that you want to have to maximize returns. So for a given amount of risk, how do you maximize returns? Some really smart academic people figured that out. I can't say that I fully understand it, but really it's a mix of stocks and bonds. And kind of a good rule of thumb to do this is take your age and that's the percentage of your portfolio that should be in bonds. So if I say I'm 31, that means I might have 70% of my investments in stocks, 30% in bonds. That would put me on that efficient yield kind of frontier or whatever they call it, that would give me probably about the best returns that you can do for that amount of risk. When I look at the numbers, when I see the results, when I see the amount of risk I'm taking, when I see what the returns have, that age in bonds rule, it's really simple. But. And there are ways to get more complicated retirement asset allocations that really smart people have thought of. But as something simple to get started, having, say, 70% of your stuff as a 30 year old, 70% stocks, 30% bonds, and then having a similar mix of US and international will give you a really good diverse portfolio of investments, different types of investments, and then in different geographies. So, you know, for my retirement accounts, it's really not any more complicated than 70, 30 stocks, bonds, and then a mix of domestic, international, you know, domestic stocks, international stocks, domestic bonds, international bonds. So that, you know, I have exposure, you know, to both kind of major asset class types that do well over the long term. And then I have access to, you know, companies in Europe and Asia and other kind of parts of the world that aren't the United States, because really the United States is as great of a country as it is. I love it. I love living here. We're a more mature, developed country and we're just not going to grow as fast as some other parts of the world that are having children much faster than we are and just are growing much faster than we are. That is where the big returns are going to be in the future. So you definitely want to have some international exposure. Now that's kind of a good rule of thumb for these account types where you don't have unlimited investment choices. You know, really, you know, in an IRA or a 401k, you might have 10, you know, mutual funds to choose from. So if that's kind of where you're at, go ahead and just follow that age and bonds rule. I think it works out really well. If you want to get more personalized approach, maybe go talk to a financial advisor. But that is an okay place to start. If you do one of those target date retirement funds, they'll do something very similar where they'll give you a mix of stocks, bonds based on your age. And then as you get closer to retirement accounts, they'll automatically adjust your percentage of stocks and bonds. So that's an okay way to go as well. Now for other stuff. I'm a really big fan of income investing. So like after your retirement accounts, what I like about investments that pay me income, so these are dividend stocks, municipal bonds, real estate, stuff like that is I get paid money to own that investment. I'm not just hoping that the investment will gain in value over time, that I can sell it for more than I bought it for. Regardless, if that investment goes up, down, who knows where. I get paid to own it for as long as I have it. I really like that kind of investing style. I've got a very bent toward that. Really what I like about it is that I know that the income will probably always be there. So if I can just live off my investment income, I don't really have to worry about capital appreciation. I don't have to worry about the price of my stocks going up because I've got that dividend income. I've got income from municipal bonds, I've got income from real estate. I'm not banking on the market going up a lot. It's just, here's the income, live off of it. It's really simple. You always know how much income you're getting from your investments because that money will actually show up in your brokerage account and you can live off that and it's just great. The next question is, how should entrepreneurs invest differently than normal people with normal jobs? So now the investments that I recommend, municipal bonds, dividend stocks, real estate, they're Going to be more conservative choices than what you might choose otherwise. So as an entrepreneur, I like to invest more conservatively in my investments because my business, my day job has. Being an entrepreneur has risks that people with a normal job don't have. If you lose your job, you lose your job. If I lose my business, maybe I get sued, maybe I owe money to the irs. A lot of really bad things can happen if my business goes under. So there are definitely more. I really think being an entrepreneur is just more of a risky source of income than maybe having a day job. If you work for a big company, you work for the government or whatever, there are forces unique to every business that will make or break your company. You don't have control over all of them. So because I'm taking more risk in my primary source of income, I like to take less risk with my secondary source of income, which is my investment. I think really that is the difference. I don't do a lot of small cap stocks. I don't do penny stocks. Things that are really risky just because, let's say the market happens to tank. And when stock market goes down, there's a recession, the economy's tanking. Maybe your business fails. So if your business fails during a recession, do you want your investments to be down 10% during that time, or do you want them to be down 25% because you're taking more risk? You can kind of get the double whammy. If your business fails and your investments are down during a recession, you can't really take the money out because you're essentially locking in losses. So I'd rather have my investments be a little bit less volatile, knowing that the income from my business is probably more volatile. That way, if my business fails during a recession, I can take the money out without signing up, guaranteeing huge capital losses. Hopefully that explains that a little bit well. But just because being an entrepreneur is kind of a riskier and general source of income, I like to take just a little bit less risk on my investments so that if I need to take the money out at some point, I can do that without having to worry that I'm at the bottom of a huge swing. Second, as an entrepreneur, maybe you'll make a lot more money and you just don't need to take the risk. So if you're living a $50,000 a year lifestyle and you need to make $50,000 a year by retirement and investment income, it's a lot. You don't have to take as much risk if you're sticking away $20,000 a year versus $10,000 a year. You just don't need big juicy returns by investing in some really high risk stuff because you're putting away more money from the get go so you don't need those returns. So if I'm putting away a lot more money, I can choose safer, more secure investments and not have to take that wild ride of the stock market as much because I'm just throwing more money in from the get go because I make more money. That's kind of nice. Nice benefit of being a successful entrepreneur is that you know your retirement is going to be okay because you've got money to put away. You're putting a lot of it away and you're putting it in slow and steady investments. You're not putting in higher risk, small mid cap stocks that are going to go up and down, you know, quite a bit and you don't really know where you're going to land in retirement. So there's that as well. Next question is where should I put money after I've maxed out my tax free or my tax advantaged investing triad? Still horrible. And I'm looking for something better for that. So after you max out your Roth IRA, your 401, your health savings account, where do you put your money next? As an entrepreneur that's had some success, there are going to be plenty of people that volunteer to invest your money for you. There are going to be financial advisors that are knocking on your door. If you're like me and you're well known, you might get one every month that wants to have a coffee meeting with you. It just gets really old. These people will be knocking on your door. There will be insurance people knocking on your door trying to sell you annuities. There will be people with startups that want to take your money and build a business with it, with who knows what their likelihood of success will be. There will be venture capitalists that will offer to take your money and invest it. There will be no shortage of people that are knocking on your door asking for money if it is apparent that you are a wealthy individual. So you got to be really careful about this types of stuff. Brokers selling you hot stock ticks, exotic strategies you might hear about in cnbc. There's not going to be a shortage of people telling you what to put your money in or offering to invest it for you. You really have to be careful because more often than not it's just not a good deal to let somebody else take your money and invest it for you the one exception of that is maybe like a fee only financial advisor. And even then that can get really expensive. So before investing in anything after your tax advantage investing triad, be very careful and do a ton of research. Read what everybody has to say on the topic before kind of taking a dive. Don't just read the sales material of somebody trying to sell you something. Find the most critical people that hate what that person is selling and read their opinion to. That way you can really know what the pros and cons of any investment are. So many of the opportunities available to successful investors not a good deal. And they are largely designed to take management fees from you. So you should really understand the things that you invest in in great detail and understand why they make money. You should know exactly what fees you're paying toward the person managing the investment. If you don't know what you're paying in fees, you're probably paying too much. Now I'm not saying that you should avoid fees altogether, but if somebody is charging you 1%, 2% annual management fee on your money just to manage your money for you, you're probably getting ripped off. So don't do that. So there, after you've kind of maxed out those three accounts, you're tax advantaged investing triad, the Roth IRA, the 401k and the HSA. There are kind of three investments that I look to personally that I'm putting my money in. First is dividend stocks. The reason I like dividend stocks, which are basically big blue chip boring companies like General Electric and Wells Fargo and Walmart and a whole bunch of others like this. Spectra Energy Partners, I own some of these by the way. Wowtower, I think so. REIT that invest in healthcare stuff, Maer Gas partners, some of those. Some of these types of companies are big boring companies that pay dividends. They grow their dividends over a long period of time. So the money that you get is going up every year. It's slow, steady, stable income. These companies are less volatile than a broader market. So stock market goes down by 40% in 2009. Dividend stocks may only go down by 30% because they're just boring, less risky stocks. You get the income, the income goes up over time. It's just a really great way to invest in stocks because dividend stocks have historically outperformed the market. The tax treatment on income from dividend stocks is a little bit better than your ordinary income rates. And there's just a lot of good reasons to love dividends after dividend stocks. I like real Estate as well. Some people do well buying single family homes, commercial properties. There's lots of different ways to do it. I'm personally not the type of guy that wants to be a landlord and wants to take phone calls from people that a pipe is burst or the toilet's broken or anything like that. Those are phone calls that I don't want to get. So I don't buy single family homes. But that doesn't mean that I don't invest in real estate. There are some great ways to invest in real estate where you're not the person that's taking phone calls or identifying properties. Even one thing I did maybe six months ago, maybe more like a year now, I invested in a company that was buying up hotels and I get an 8% preferred return on my money. So the first 8% of profit I get and then I split it with the people that are running the deal, 50, 50. And that has worked out very well for me because the guys managing the deal are just very sharp and are really down to earth and people are not taking my money. So I own parts of hotels and I get checks every quarter from the income that they generate. Very happy with that. I just got one on Friday for $800 for, you know, as part of my 8%. So that's really nice to have that. I also invest in real estate investment trusts. Now REITs. These are REITs. So real estate investment trust R E I T REITs. These don't have as great a tax treatment as dividend stocks because the income from them is considered ordinary income. So if you're in your top tax bracket with the net investment income tax, it's 42.8% or something like that. No, it's 43 and change, we'll call it. So with these, I might hold them in my 401 plan because I'd rather not pay tax on 43% than 20%. So kind of some of those least taxed favor real estate investments, you know, stick inside my 401k plan. You can't buy a house and put it in a 401k plan. You can in IRA. I wouldn't recommend you actually do that, but you could if you wanted to. So for real estate, you know, I look at kind of local private equity deals to buy commercial buildings or hotels or stuff like that. I do that and then real estate investment trust as well inside my 401k. So I like real estate as an asset class. As my friend Jason Hartman says, it is the most historically proven asset class. I just don't want to have a bunch of houses or anything like that attached to me that I've got to go and sell someday. So I don't do that. But there's lots of ways to do that. Some people like doing that, but that's just not me, so I don't do that. If you want to kind of learn about real estate, I really do like Jason Hartman's podcast. He has a great show called the Creating Wealth Show. If you're thinking about getting into real estate, that is a really good place to start. He has some really good content there. And then closed and municipal bonds, these are a type of bond mutual fund. So a mutual fund is just a bunch of people putting their money together and investing in something. A municipal bond mutual fund is just a mutual fund that invests in municipal bonds. And a closed end municipal bond fund is a special type of municipal bond fund that is basically the money was put up once to create the fund and then that pool of money is going to exist as long as the fund exists. So they're not creating new shares every time somebody puts money in. It's just a fixed amount of assets. And then if you're going to buy a share, you've got to buy one from somebody who already has one. And that's not what's particularly special about these closed end municipal bond funds. What's really cool about them is that they use leverage to kind of juice the returns that you get. So for every dollar that investors have in a closed end municipal bond fund, they'll borrow a little bit of money at really low interest rates and buy more municipal bonds so that you can get a higher rate of return on your money. So a couple that I like, there's nzf, it's a nuveen, excuse me, the nuveen Municipal Credit Opportunities Fund. I own some of that. Bfk, which is a blackrock Municipal Income Trust, owns some of that as well. These are two closed end municipal bond funds that do 6% per year on your money. That income is tax free. So it is kind of the equivalent of a 10.5% bond on a taxable basis. And then you have 6% on a tax free basis. You have 6% tax free bond backed by some really solid loans to municipalities. Just a really secure investment that throws off a decent amount of money. I like closed and municipal bond funds as well. So those are kind of the three things that I personally invest my money in. I can't say that they're the absolute best investments for the next five or 10 years. Because who knows what asset classes are going to do well and which ones aren't. Just nobody's got a crystal ball. But I do know that these investments have historically done very well and that they pay me income. So that even if the market for any of these investment goes up or down, I still got the income coming in. I can still live off of it on a monthly basis. I can take that income, use it to pay my utility bills or whatever, buy groceries. That money's always coming in if the market tanks or not or goes up or not. These three asset classes I'm a fan of. So those are the questions that is kind of part two of our three part series about investing. So today we kind of covered how entrepreneurs should invest differently. What types of investments I happen to like. I'm not saying these are perfect, but we talked about those, talked about what you should do after you're done with your retirement accounts. So hopefully this will kind of further your education on investing. Next week we're going to finish this kind of three of a three part series and we're going to talk about financial advisors and a few other topics that are good for an entrepreneur to understand. So those are the questions for today. If you'd like to get the next episode of Startup Q and A delivered, you automatically go to the DomainStartup Q&A co and there are links to subscription via our website, email, Facebook, YouTube, stitcher, carrier pigeon, whatever. You can use that to subscribe to the show. We really try to be everywhere you want it on itunes, you can do that. You want it somewhere else, you can do that. We make it available as video and audio. If you want to look at me, don't know why you would, but you can if you want to. So video, audio, whichever is best for you, maybe transcripts at some point in the future. Let me know if you want that, by the way. Yeah, so you can follow me on Facebook, facebook.com MatthewPaulsonpage My personal Facebook account is facebook.com MatthewPulsen My Twitter ID is MatthewDP. My MySpace is MatthewPaulsen. Is MySpace still a thing? I don't know. Anyway, if you like the show, go on itunes. Leave us a review. Search for Startup Q and A with Matthew Paulson on itunes. Leave us a five star review that will help us spread the message of financial freedom through the power of entrepreneurship. Further, faster, wider, stronger. Who knows? I'm doing this show for you guys. I really want to help you out, want to help you grow your businesses and achieve financial freedom and get some of the same kind of cool lifestyle benefits that I've gotten throughout the years. So I'm doing this show for you, and if you want to help me help other people, please leave us a review on itunes. That's it for today. We'll continue this next week.