Mutual fund

In January of 2002, the people of the United States, still reeling from the

events of September 11, 2001, began hearing of the bankruptcy of one of the

biggest blue chip companies in America. But more than the bankruptcy, the

news that sent chills through many people of my generation, the baby-boom

generation, the generation born between 1946 and 1964, was the realization

that many of the employees of Enron had lost their entire retirement savings.

For the first time, millions of baby boomers began to realize that a

401(k), IRA, and other such plans, filled with mutual funds and company

stock, were not as safe as they thought or had been told by their financial

planner. Millions of baby boomers shared something in common with the

thousands of people who worked for Enron. The demise of Enron was

sounding a personal alarm, a fear, a realization that their own retirement

might not be as secure as they may have once thought. Rich dad’s prophecy

was coming true.

“I mean this Enron disaster should be a wake-up call for people. A wakeup

call letting them know that their 401(k) is not bulletproof . . . that it is possible

to lose everything just before you retire . . . that mutual funds are not

safe . . . even if you do diversify.”

“What do you mean mutual funds are not safe? Even if you diversify?” she

asked with a hint of shocked anger. I sensed that I was now stepping on her

toes even though she did not work for Enron.

Rather than getting into a debate on mutual funds and diversification, I

said, “I retired at the age of forty-seven without a single share of stock or mutual

fund. To me, mutual funds and stocks are too risky, even if you do diversify.

There are better ways to invest for your retirement.”

“Are you saying not to invest in stocks, mutual funds, and to diversify?”

she asked.

“No,” I replied. “I am not telling anyone to do anything. I am simply saying

that I retired early in life without a single share of stock or mutual fund—

or diversification within funds. If you want to invest in stocks and mutual

funds and diversify, that might be right for you . . . but not for me.”

“The biggest stock market crash of all will be caused by millions of people

with their money tied up in mutual funds and other types of shares in the

stock market, not by those without any shares or money,” Mike added. “It’s

just common sense.”

“This change in the law will bring about many problems and one of the

problems, way off in the future, will be this giant stock market crash,” said

rich dad as our food arrived.

“Why is that? How can you be so sure?” I asked.

“Because the people putting money into the market are not investors. As

you already know, most of your workers cannot read a financial statement. So

how can you invest if you cannot read a financial statement?” asked rich dad.

“The resulting impact started by ERISA is not only leaving millions of people

without a retirement plan, it is also forcing people to trust their financial future

to the stock market . . . and we all know that all markets go up and all

markets go down.” Rich dad looked directly at me. “I’ve been training you and

Mike to be investors . . . investors who can make money in an up market and in a down market. But most employees do not have that mental and emotional

training . . . and when the big crash begins, I believe they will react as

most untrained investors react . . . they will panic and begin selling . . . selling

to save their lives . . . selling to protect their future.”

Rich dad nodded and continued, saying, “Not only are many of your

generation not contributing anything to their plans, many who are contributing

are not contributing enough, and very few are aware of how risky

stocks and mutual funds are. Mutual funds can fall all the way to zero in a

market crash. And it will happen, not to all companies or mutual funds, but

sometime in the future, your generation will get the wake-up call that their

DC retirement is not safe and their retirement sanctuary is at risk. Once

your generation realizes that, they will begin to get out of the market . . . a

panic will set in and the market will crash . . . and if the panic is large, the

crash will be the biggest in the world. The problem is, too many amateur investors

are entering the market . . . and it is these amateur investors that are

the problem . . . a problem far greater than the flaws in pension reform.

That is why I predict most of your generation will face the real world . . . the real world you are facing today. The only question is, how old will they be

when they face it?”

Personally, I have no plans on following my poor dad’s plan. I am not

counting on lifelong job security, my retirement plan, mutual funds, stocks,

Social Security, Medicare, and other forms of government charity to keep me

alive in the future. But unfortunately millions of my peers are following in

their parents’ footsteps, some only now beginning to realize that there is a

difference between a DB pension plan and a DC pension plan.

Most are hoping and praying the stock market will always go up and that

mutual funds and a diversified portfolio will save them from the real world. I

am afraid such simple unsophisticated investor strategies will not work for

most people. A major stock market crash will wipe out most mutual funds

even if they are well diversified. As we have seen, the stock market is not a place for people who seek security. The stock market is a place for those that

seek freedom . . . and unfortunately, many people who seek security do not

know the difference.

Supply and Demand

The price of shares of stocks or mutual funds, or bonds, or anything for that

matter, goes up as long as there are more buyers than sellers. Between 1990

and the year 2000, the stock market boomed because there were so many

thirty- to fifty-year-old baby boomers entering the stock market, saving for

their retirement in their DC pension plans . . . so there was a stock market

boom. There was a similar boom in the 1970s when baby boomers left

home, left college, and began buying their first home. If you are old enough

to remember those years, you may remember the mania over real estate . . .

a mania that was also followed by a panic and a bust when interest rates went

over 20 percent. Interest rates were raised in order to slow down inflation . . .

inflation caused partially because 75 million baby boomers had entered the

job market and now had money to burn. In other words, 75 million people

buying anything will cause a boom. The reverse is also true. Seventy-five million

people selling anything will cause a bust. It is the basic law of economics,

the law of supply and demand.

Now all of us who are in business want customers who buy our products

or services forever. The same is true with mutual fund managers and owners

of financial television stations. You do not have to be a genius to see that the

primary advertisers of this financial news TV station are mutual funds. So naturally

they would have a mutual fund manager comment on Alan Greenspan’s

call for financial literacy rather than Warren Buffett . . . a man who does not advertise

with that TV station simply because he does not have to. Warren Buffett’s

own mutual fund, Berkshire Hathaway, is possibly the most expensive

fund in America simply because it is so well managed and successful. His fund

is so successful and expensive that he has been known to tell his investors not

to invest in it because he believes the price of his fund is too expensive. If he

is telling people to not invest in his fund, he obviously does not need to advertise

on any financial news television station . . . which is why he probably

was not asked to comment on Greenspan’s comment. The station invites

someone who pays them ad revenues . . . a paying customer . . . and naturally

that mutual fund manager will say what is best for his mutual fund.

The facts are that, today, there are more mutual funds than there are

public companies whose shares the mutual funds buy. If this retiree could

tell which of the approximately twelve thousand mutual funds was the most

solid, and what’s the next winner, then maybe he should come out of retirement

and make a fortune advising the millions of people who are today wondering

which mutual funds are solid. I find it absurd that this planner first

assumes this retiree knows nothing about investing and in the next sentence

assumes this retiree is far more financially sophisticated than most people in

the market.

The following are the three real reasons why rich dad saw the coming of

the biggest stock market crash in history. They are:

1. There will be a market sell-off caused by baby boomers converting to

cash. Rich dad said, “Es and Ss work all their lives for money, not for financial

assets. Most Es and Ss do not trust the stock market. Once they leave the

company, all the fear and insecurity that has always been there—the fear

and insecurity that caused them to be an E or S all their lives—will only increase.

Once they leave they will cling to what they know and trust and that

is cash . . . not stocks or mutual funds.”

According to Business Week magazine, in 1990 there was $712 billion in

401(k) and similar plans. Only 45 percent of that money was in stocks. By the

end of 2000 that amount had swelled to $2.5 trillion, with 72 percent in

stocks or similar equities. In other words, as the money from retirement funds came in, a market boom was underway. As the boom increased, socalled

investors became more confident and began taking their cash and

buying equities with it, simply because they could get a much higher return

from equities instead of cash. As the boom progressed, many so-called investors

entered the party late and began taking money out of their savings

and putting it into the market, primarily into stock mutual funds, swelling

that asset class to $4 trillion. About that same time, reports came out that the

family savings rate of America had dropped to less than 1 percent. A mania

was on and people who should never have been in the market were now in

the market.

Many people who were investing in their DC pension plans saw their

plans increasing in value. Immediately they believed that they were now

real investors, and began taking their savings and putting it all into the market.

Most of these people came from the E and S quadrants. People who

should have remained savers suddenly starting investing. But they were not


Rich dad believes that the biggest stock market crash in history will be

caused when millions of people begin to sell financial assets they do not understand

and do not trust. Rich dad said, “People in the E quadrant love security.

If they feel their security threatened, they will not hold on to their

financial assets. If they feel insecure, there will not be any systematic withdrawal

as pension reform calls for . . . Instead, there will be a wholesale

panic . . . a panic caused by baby boomers converting financial assets back

to cash . . . cash for their savings accounts . . . as fast as possible.”

At first I did not understand what rich dad was getting at. Now that I am

older I am more aware of that subtle difference. Today, I am very aware of that

difference whenever I hear people saying, “I am saving for my retirement.”

Or they say, “I am saving for my child’s education.” Rarely do I ever hear people

saying “I am investing for my retirement.” Or “I am investing for my

child’s education.” As rich dad said, “Savers and investors are not the same

people. Savers feel secure with money, not with mutual funds. When push

comes to shove they will sell, and when millions of them begin to sell . . . the

market will crash. There will be no systematic withdrawal.”

Japan has teetered on the brink of a banking and financial disaster for

some years now. At the same time, Japan’s banks are bursting with money

because most Japanese are employees and savers. In fact, Japan has the high- est savings rate in the world. Because the banks are so flush with money, the

interest rate paid on those savings is nearly 0 percent. Even though the banks

pay the Japanese nothing for their savings, the money sits in the banks. Why?

The reason is because employees and savers would rather have money earning

nothing than take a risk. I predict in a few years U.S. banks will also be

flush with money. If banks are filled with money, it’s going to be tough for

them to pay 10 percent interest to savers on that money. As I write, the U.S.

banks are paying 2 percent interest on savings. Two percent is not a very good

return on your investment.

So the primary reason for the coming crash is that most people today do

not naturally feel secure with mutual funds and stocks. Once they begin to

retire, millions of baby boomers will cash in their stocks and mutual funds

and return to what they have spent their lives working for . . . cash. As rich

dad said, “You can change the law but you cannot change people.”

2. The cost of living and medical costs will go up. As stated earlier, with

many DB pension plans, there was a cost-of-living adjustment. With a DC pension

plan, after retirement, when the cost of living goes up and medical costs

go up, the retiree will sell their assets to pay for these life expenses. Again this

will blow the systematic withdrawal theory out the window. These slight differences

between a DB plan and a DC plan will also add to the coming market

crash. People have to have money to live on, not mutual funds. So the

mutual funds will be sold for cash.

3. The number of fools will increase. Quoting Warren Buffett: “The fact

that people will be full of greed, fear, or folly is predictable. The sequence is

not predictable.”

Most of us know that any market is run on greed and fear. The reason the

market went up in the 1990s was because of greed, and the reason it will go

down is because of fear. In the near future, one more reason people will turn

their retirement account into cash is because of folly.

I will give you an example of investment folly. During the 1990s, I happened

to meet many rich employees who thought they became rich because

they were investors . . . but in reality, they were lucky employees. One person

I met was an employee of Intel. In 1997, just as the market was climbing,

he cashed in his options for nearly $35 million. He thought for sure he was

an investor rather than just a lucky employee, and was soon out investing in investments only reserved for what the Securities and Exchange Commission

classifies as an accredited investor. By definition, an accredited investor

is a person with over $1 million net worth or a high paying job. Now, how

that qualifies a person to be an accredited investor is beyond me, but those

are the rules. I have a better way of a person proving they are an accredited

investor, but the SEC has not called to ask me for my opinion.

Retirement Plans That Glitter … to be continued

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