Kids grow up so fast. One moment they’re in our arms, the next they’re on our nerves (but we love them dearly anyway) and getting set for college. Emotions are rarely stronger than when you leave your child after moving her in to face freshmen year.
I can remember my parents paying the tidy sum of approximately $450 per semester for me to attend Rutgers University back in 1974. How times have changed! Remember chapter 9, “It Lives,” where I jokingly discussed how a stock seems to know what you paid for it just as you’re about to break even, and often has no intention of accommodating your desires? Let’s apply this rule to investing for college.
Just because your kid is going to attend college in some future year does not automatically mean that the stocks or mutual funds you own will appreciate by enough to achieve your monetary goals. In fact, there’s a distinct possibility that they won’t. They may even post a loss. Some will reason that the number of years remaining until their child reaches college age somehow assures a favorable investment outcome or insulates their portfolio from losses. Besides, they argue, the stock market generally rises over time.
That’s a bold assumption to make when investing for college, however, because you’re dealing with a specific time period in which that appreciation will need to occur. You’re basically saying to the investment vehicle you’re counting on to help you pay that college tuition that it needs to appreciate by a certain amount by a certain time. But the market doesn’t take orders well. It’s the boss, not you. Remember, the stock market does not know your personal status, nor does it care.
While I’m well aware that many equity instruments have performed well enough to assist parents with paying the high (to put it mildly) costs associated with college these days, that isn’t always the case. And in those instances where sums earmarked for college were held in technology shares in early 2000, in an assortment of equity-related instruments during the major market setback of late 2007 to early 2009, or in most energy-related equity vehicles from their 2008 or 2014 peaks, funds destined for higher education declined. Just look at the monetary evaporation in gold and silver mining shares (whose peaks generally date back to 2011) through 2016’s first-quarter troughs. Even the widely watched Standard & Poor’s 500 Index took more than thirteen years to move convincingly above its March 2000 peak of 1552 (it temporarily topped that mark in October 2007 before collapsing). It took more than fifteen years for the NASDAQ Composite Index to better its March 2000 peak of 5132—from which it proceeded to tumble by 78 percent over the next thirty-one months ending in October 2002.
Simply because college considerations are years away is no guarantee that your investments, which have slid in value in the meantime, will recover in time. In many cases, even getting back to a break-even result will be a tall order by the time the tuition bill comes due. True, in many cases the market does recover—eventually. Will it be in time to cover those educational costs though?
However well known or highly regarded a company may be is not indicative of whether its underlying shares will appreciate by enough (or at all) to have a positive effect on your kids’ educational funds. Despite having years left before being college bound, many equity-based kids’ accounts haven’t performed nearly as well as planned. That’s why a risk management strategy needs to implemented—yes, even with funds earmarked for your child’s education. Bear markets don’t spare those funds, either. Your personal status, as I’ve already remarked, is of no concern to the market.
In no way do I want you to think that I’m a perpetual investment “glass is half empty” person. Brokers who know me from my career at some of the major Wall Street wire houses can tell you about my bullish market stances for lengthy periods during that span. I can remember having the honor of being the featured guest on Wall Street Week with Louis Rukeyser in May 1992. I wouldn’t put a lid on how high I thought the market could eventually travel. I described the primary market trend for part of the 1990s as a Buzz Lightyear market with stop orders, taken from the popular Toy Story character who uttered the phrase “to infinity and beyond.” The stop orders part was my own, of course, as I have never ceased (no matter how favorably disposed I was to the stock market) to emphasize my unwavering risk management beliefs and downside market warnings time and time again. One must never, ever forget that the stock market is a two-way street and that it sinks faster than it rises. And in case you do, you’ll be reminded—often in the harshest of financial terms. Always remember, as I’ve already said, that it only takes one bear market for which you’re unprepared to inflict lasting financial damage. Let’s remember that logo: IOTO—it only takes one.
So what would I suggest considering? As soon as my kids were born, I started buying them “zero coupon” Treasury bonds. These are usually highly liquid debt instruments, backed by the full faith and credit of the United States government. Prices vary depending on factors including the length of time they have until maturity and the interest rate at which your money will be compounding. As the name implies, you receive no interest payments, but rather a lump sum ($1,000 per bond) at the end of the investment period. In the interim they fluctuate; the longer the time period until maturity, the more volatile the “zero” will be in relation to interest rate fluctuations. So if you sell them before maturity, you could have either a profit or a loss. Unlike investing in stocks, you’ll know right off the bat what your funds will be worth if held to maturity. For a newborn, you’d probably want to consider buying zero coupon Treasury bonds (also referred to as strips) maturing in seventeen to twenty-one years—the period when your child will be attending college. (By the way, it’s often not a good idea to tell your kids about money you’ve saved or invested for them until you can assess their monetary habits. Being satisfied with the way my kids have turned out—thanks totally to my wife—I mentioned the subject to them at a relatively early age.)
After telling my story at a public speaking appearance in Worcester, Massachusetts, some years back on a snowy April evening, a nicely attired man in the audience stood up and remarked that his kid would never have enough money to go to an Ivy League school by investing only in zero coupon bonds (because the yield wasn’t high enough to produce the necessary funds with the amount he had to invest). In response, I replied that “at least you won’t lose a good state school education” by taking this relatively conservative investment route. The answer seemed to satisfy him.
I’m not suggesting that you necessarily do the same as I. Times change. At this writing, interest rates on zero coupon bonds are visibly lower than where they stood when my kids were born, and there are investment options available today that weren’t when I invested for my children. Additionally, we’re all in different circumstances with varying financial considerations. And as I emphasize below, you’ll want to speak to your financial advisor and accountant before investing in these or other investment vehicles to understand their particulars from varying angles.
I often tell people that the reason I put a healthy percentage (meaning most) of my kids’ investable funds into zero coupon bonds was to protect them from my own genius. It wasn’t a market-based decision. I wanted to give my kids at least that state school education. It’s the same concept in life; we don’t want to sacrifice what we’ve already worked so hard to build by trying to stretch for that little bit extra. At least that was my thought process with my kids’ funds. Remember, going for more reward entails more risk. You need to determine your own balance between the two.
Speaking for myself, if I were a proud new parent today, I’d probably still purchase some zeros for my kid’s account, even at today’s low-looking rates. It’s always nice to know beforehand that you’ll have some funds available for that state school education, and there’s nothing wrong with getting a good night’s sleep besides while dreaming happy thoughts about your Ivy League college–bound youngster.
Moral: Time is not automatically on your side simply because your children are in their grade school years and college expenses are a distant consideration. Don’t take on so much added risk trying to make extra funds to keep pace with those college costs that you jeopardize the money you’ve already saved for that purpose. Remember, our “capital preservation comes before capital appreciation” philosophy is easily applied to investing for college as well. One suggestion is to buy enough zeros (or similarly safe vehicle) to ensure a reasonable amount of funds for college and take the stock market’s movements out of the equation. Then you can decide whether to purchase equities to have an opportunity to turbocharge your portfolio. Be sure to consult with your accountant and financial consultant prior to doing so due to considerations relating to the types of accounts that zeros should be purchased in. They may have other investment avenues for you to consider as well.
(To be continued...)
This excerpt is taken from “Relationship Investing: Stock Market Therapy for Your Money” by Jeffrey S. Weiss. To read other articles of this book, click here. To buy this book, click here.
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