Expert: Paul Henneman - 12/20/2004

Question
Hi Mr. Henneman,

I've just settled with an insurance company over a debilitating disability for $125,000. I have never received a lump sum like that. I'm in my mid 50's and would like your opinion on how to invest it? I'm not even sure where to cash it as a bank only insures up to $100,000. I'm not interested in any real risk because of my my health and age. I just want some steady income without endangering the principal. You objective opinions are much appreciated-thanks.

Answer
Dana,

Thank you for your question!
Yes, I do have some suggestions on how to begin organizing an investment plan for the future based upon your disability settlement. It is a large enough sum that you should spend some time on really researching options and planning for the future. If you are carefull and diligent, you can have a very comfortable retirement based on this sum. Keep in mind that I run a stock research firm, so we are by nature perhaps more risky than what you are looking for. For the most conservative approach, pay the closest attention to money market and mutual fund advice below.

I believe that you should think of things in terms of three different categories, and I will offer further specifics on each:  1. Debt reduction to lead to debt elimination 2. Education 3. Action

1. Debt Reduction and elimination of debt:
Start immediately with this. It is key to the financial well being of everyone in the future. People in this country has a very bad habit of running high debt in the form of credit cards, car loans, and all sorts of credit for just about anything.  Credit is so easy to get, it is difficult for many young people to resist. By the time most of us are adults, the terrible cycle of high debt is already established. The first key to a wonderful lifestyle in the second half of life is to resist this.
Most credit cards charge 15% or more in interest. If you have credit cards and/or car loans, pay them off. This usually frees up hundreds and hundreds of extra dollars each month that normally goes to these bills. This can be used to both invest further on top of your settlement, and improve your lifestyle. If you can't pay cash, you can't afford it! The exception is real estate, as that is 'appreciating asset' that increases in value.  It is a good move to purchase and own a home if it is feasible.
There is nothing worse than paying high interest on a car, then having that car decline so rapidly in value as you use it, possibly the worst of ‘depreciating assets' that exists. Of course we all need cars, but if the money is not there, don't buy an Acura when a Honda will do so to speak. Put as much down as possible, and see about a 3 year or less loan. The goal is to pay it off as quickly as possible, then drive it 'free and clear' for as long as possible. Cars are perhaps the largest things standing in the way of most people having a truly wonderful second half of life.  We are conditioned to buy the most expensive car possible and this is a huge drain on our finances.
Good investors can double their money every five years. Even a very, very conservative portfolio could double every 10 years. Take the $25,000 price tag of an average car these days, go out 20 or 30 years, and see how much that car actually costs!

2. Education
Successful investing takes discipline, education, and patience. A plan should be established and strictly followed for decades. My suggestion is to spend the next six months researching. Start with "Investing for Dummies", available at amazon.com and most major bookstores. This will give you the basics on most major forms of investment, the language definitions you will need to speak and understand information, and you can do further research on what appeals to you. In general, the higher the possible return of an investment, the more risky it is. As an example, a money market account will earn you about 2% a year; this is a very low gain. But it is perfectly safe and you would get that 2% every year without fail. However, inflation is also about 2%, so your investments would be 'treading water' year to year. The best money market I am aware of is www.NetBank.com, as it has a high yield for this type of investment, and is insured up to $100,000.
A portfolio of stocks can earn you on average 20% or more each year. But some years will be good, and others bad. Many investors lost half or more of their worth during the bad markets of 2001 and 2002. However, over a long period of time, the risk evens out and the returns are much more substantial. An average of 20% return each year would double your investment every four years. (Not every five, as you have to account for the growth in the portfolio for the next year returns).
I believe that the ultimate solution is two fold. First, move slowly. While stocks and other investments can treat you well, they can also treat you very poorly if the wrong decisions are made. Start with a money market, this is a great place to 'park' your savings while you learn more. Again I recommend checking out www.NetBank.com, and most major banks have these as well if you are more comfortable with something close to you.
Then I suggest mutual funds. Do your research. The book I mentioned above will help, and www.morningstar.com is perhaps the best-known source of mutual fund information available. Lipper is another. Branch out to several mutual funds that specialize in different areas such as real estate, technology, health care, utilities, or others. That way if a specific industry does poorly, you will not feel it too badly.
Only after a few years or whenever you feel confident should you venture into stocks. But start practicing right away. Begin researching possible stocks you would want to invest in (again the book I mentioned will help you learn what to look for).  Track your ideas on a free service such as yahoo.finance.com and see what your stock picks do. For your purposes, I would definitely look for large, stable companies that pay dividends.  Do not let anyone talk you into small, risky companies. Nothing is ever a 'sure thing', if someone tells you otherwise they have something other than your best interest on their agenda.

3. Action
When you are finally ready, my suggestion would be to have 30% of your portfolio in safe investments such as bonds and money market accounts, 20% in stocks and 50% in mutual funds.  Begin with mutual funds. If you want to buy and sell stocks and mutual funds yourself, I like www.foliofn.com and www.scottrade.com for trading services. These are discount brokerage firms that can make trades for you online for very low fees.
You could establish an account with a major brokerage firm. I do not recommend this. They charge very high fees that come out of your returns. And their so-called ‘experts' do not have your concerns as their number one priority. Instead they are looking for the fees, and often push stocks or investments according to their organizations best interests, not yours. You will be much better served if you do the research yourself.
Of course if you are not interested finance as a topic and the time needed (a few hours a week should do it), working with a full service brokerage may be more attractive. But make sure they put you in several mutual funds that specialize in different areas to protect you against dowturns in individual industries and sections of the economy, and the smallest portion of your investment portfolio should be in stocks.

The most important thing is to STICK WITH IT! Even with a minimal income everyone in this country would retire wealthy if they avoided debt and planned for the future with at least a small contribution to their investments each month. You have a large sum that can work for you for decades to come. I also believe that you should not rely on this, and if at all possible continue to add to your investments each month. The way interest compounds, it will help you greatly. I congratulate you on your interest and sincerely wish you the best. It takes work, but your finances should become a hobby, learn every chance you get. If I can be of any further service, please do not hesitate to follow up with me!

Sincerely,
Paul Henneman
President
ValuEngine, Inc.
www.ValuEngine.com
www.VEInstitutional.com
www.VEReports.com