November 13, 2013


Investment risk can be defined as the potential that actual returns will differ from those expected. Generally speaking, the greater the variation in potential gains or losses, the greater the investment risk. Therefore, low-risk investments, such as savings and money market deposit accounts, usually mean lower expected returns than high-risk investments such as commodities and financial futures.

It is important that investors understand that the risk associated with any investment is directly related to its expected return and its expected holding period. Investors should also understand the relationship between the return they can expect on an investment and the amount of risk that they must take to earn that return. In general, investors seeking higher returns must be prepared to assume higher risks or reduced liquidity. Failure to understand this risk-return tradeoff is the primary reason many investors choose the wrong investments and face catastrophic results.

A fundamental principle of investing is that most things come at an opportunity cost. If the investor uses money or other resources in a particular way, those resources cannot be used for anything else at the same time. Every investment choice must be made at some cost. For example, if an investor uses available capital to purchase a mutual fund, that capital cannot be used at the same time to purchase commodities.

There are a number of risks that an individual must weigh when selecting an investment. The most important of these risks, that widen an investment's range of possible return, are:

  • Purchasing power risk – Inflation, the general rise in prices over a period of time, tends to reduce purchasing power. As prices increase, the purchasing power of fixed amounts of principal declines. In other words, if investment doesn't grow faster than the rate of inflation, the investor is losing money. Therefore, investors must seek investments that produce a rate of return that compensates for lost purchasing power.
  • Interest rate risk - These are often caused by a fluctuation in the supply of, or demand for, money. Interest rates seldom remain stationary for long periods. As they rise and fall, they affect the value of fixed value investments, such as bonds.
  • Liquidity risk - Liquidity risk is the possibility that the seller will not find a ready, willing and able buyer for an asset. An individual's investment strategies should include an estimate of the time period over which the assets will be held.
  • Market risk - Market risk, using the price of real estate, mutual funds and other investments, may fluctuate because of economic, social or political conditions. For example, investors who are interested in purchasing stocks in multinational corporations, such as IBM or Nestle, should carefully consider the political climate in various countries in which the corporations do business. An unstable government's civil war creates volatile investment environments.

Risk Management; How to Handle Risk?

Risk is unavoidable. By doing nothing, one has chosen a strategy; one that entails risk. By doing nothing (e.g., spending everything) opportunity cost risk is elevated. By failing to put money to work, the effects of inflation are increased. For example, if a dollar buys a certain amount of food today, but buys less 10 years from now, individuals have lost realpurchasing power if they don't act. Additionally, by spending everything, one is exposed to the risks of disability, death or excess longevity.

Just as there are many ways to define risk, there are many ways to deal effectively with
it. There are three basic methods for handling risk.

1. Avoid it. For the same reason some people don't play cards for money, others avoid various risks by choice. By choosing not to purchase stocks, the risk of losing capital if the price of stocks falls is eliminated. It is, however, impossible to avoid simultaneously all forms of risk.

2. Accept it. Before any investment is made, an individual can estimate what the risk might be in relation to the potential return.

3. Minimize it. Risk can be reduced or eliminated by transferring it to another party. Insurance, for example, is a business tool for handling risk by spreading it among a sufficiently large number of similar exposures to predict the individual chance of loss. Hedging, used by commodity futures traders, is an investment strategy to offset or minimize potential damage caused by adverse price changes. Another way to minimize or offset risk is diversification, which is the inclusion of a variety of investment products in one's portfolio.

August 9, 2013

Foreclosure Scam Prevention

In the United States people are willing to do almost anything for the "American Dream". For some, it may take many years of hard work to fill their homes with beautiful memories and treasures. However, it only takes a few missed payments to lose it. Foreclosure is the worst nightmare for every homeowner with a mortgage.

Foreclosure could happen to the best of us. Sometimes unanticipated financial troubles can affect our ability to meet our obligations. Sometimes foreclosure is being caused by the devaluation and/or lack of demand for real estate, thus even though you are trying to sell your property to meet your obligation you can't because the property is worth less than the total amount owed to the lender. This may complicate things, as it allows your lender to pursue a deficiency judgment against you, which represents the difference between the sold price of the property and the amount owed to the lender. If this happens to you then not only do you lose your home, you are also liable to the bank for the difference (deficiency).

Many families are still battling to protect their homes and families from foreclosure. It is during these difficult times that some people lurk around the darkness to take advantage and pray on the weak. There are predators out there who look at homeowners in poor financial situations as easy prey, devising a number of scams and fraud attempts to take advantage of people who are already on a heck of a financial roller-coaster. It is important that you protect yourself by staying current on the foreclosure fraud and scams that are circulating, so that you do not get taken by one of these fraudsters. Here are some of the more prevalent scams that people are trying to pull over on homeowners and families buying homes or facing foreclosure.

- Sales Leaseback - People often tout this as an easy deal, requiring that the homeowner hand his or her deed over to an "investor" for little or no money, on the basis that the homeowner can continue to live in the home, leasing it back with the option of repurchasing within a year. This may sound like an excellent concept, but there is a serious catch involved. Even if you sign the deed over to someone else, you are still legally responsible for the mortgage, meaning that you would be paying both the original mortgage and the lease amount to the investor. Paying twice what you were already having difficulty paying will be close to impossible and one missed or late payment will have you evicted from the home, and the home sold out from under you. 

Read More.

- Predatory Lending - Unfortunately, there are a large number of lenders out there who offer loans with the specific intention of taking advantage of borrowers who cannot afford to make the payments. If there is any equity in the home at all, these lenders will attempt to take it all in the form of incredible fees, exorbitant interest rates, and nightmare prepayment penalties. While new laws are being passed that prohibit many of these predatory practices from occurring, it is still quite easy for lenders to take advantage of homeowners in bad financial situations. 

Here are some of the predatory lending practices that you need to steer clear of:

- Frequent Refinancing - The frequent refinancing of loans without offering any real benefits to the homeowner or borrower, or frequent refinancing of loans simply so that the lender may generate additional fees for him or herself.

- Equity Switching - Equity stripping, by persuading an owner in dire financial straights to take out a loan far beyond his or her ability to repay it.

- Bait and Switch - Attempts at bait and switch, where lenders advertise a specific set of 'teaser' fees and interest rates, then the rates and fees skyrocket suddenly at the point of closing, reaching points that are beyond the homeowner's means.

- Appraisal Inflation - Inflating appraisals up front, forcing the homeowner to take on much larger loans with much higher interest rates. Homeowners lose the opportunity to refinance the amount of the loan at a later time, because the value of the home is no longer enough to cover the full amount of the loan.

- Loss Mitigation - This practice is regularly referred to as "I can prevent your foreclosure, but only if you pay a fee". People who try to force this type of a process on unsuspecting people tout it as the ability to stop or prevent foreclosure, but only for a fee paid up front. The problem with this type of service is that the "rescuer" cannot guarantee that they will actually prevent your foreclosure from occurring, yet they still collect your fee up front. If you want to protect yourself as a homeowner in a bad financial situation, there are much easier ways to do it without paying exorbitant fees to "rescuers" who more than likely will not be able to help you.

- List and Sell - This is a scheme that is becoming quite popular among real estate agents and brokers looking for additional income streams. The concept is simple: The real estate agent convinces a homeowner in default to allow the agent to list the home in an attempt to sell it. The real estate agent promises that if the home is not sold within the period before the foreclosure auction, which is typically around sixty days away, he or she will purchase it.

But here is the catch: In too many cases, the real estate agent will drastically overprice the property when listing it in the MLS or Multiple Listing Service, so that nobody expresses any interest in purchasing it. Then when it does not sell, the agent is able to purchase it for substantially less than what it was listed for.

- Hiding things in the contract - Some scammers and predatory lenders like to hide a variety of different bombshells right in the contract where they cannot be found. They wait until the absolute last minute, and then make these hidden terms known. By now, it is too late for the homeowner to renegotiate the contract, and he or she is trapped dealing with the true intentions of the contract.

Homeowners who are caught in situations like these are very rarely capable of seeking legal advice. They suddenly find out that there are costs behind their resources, but if they fight the contract at closing they could potentially lose their home in the foreclosure process.

Profile of a Scammer: What to Look For

The people and companies that prey upon homeowners in foreclosure use many tactics to gain the homeowner's trust. Here are some examples:

  •     The scammer contacts you by telephone, mail, or even knocks on your door (legitimate foreclosure consultants don't seek you out, you must go to them). 
  •     The scammer is smooth-talking and preys upon your desperation. 
  •     He provides little or no information about the foreclosure process.
  •     Many scammers claim government affiliation. 
  •     They often use "affinity marketing" -- Spanish-speakers marketing to Spanish-speakers, Christians to Christians, senior citizens to senior citizens, and so on. 
  •     They claim the process will be quick and easy (dealing with foreclosure is never quick and easy) and use messages such as: "Stop foreclosure with just one phone call" or "I'd like to $ buy $ your house" or "Do you need instant debt relief and CASH?" 
  •     They tell the homeowner to cease all contact with the mortgage lender.
Source: Nolo's Law for All; Don't Lose Your Home to Foreclosure "Rescue" Scammers

Reccomended Reading:The Foreclosure Survival Guide: Keep Your House or Walk Away With Money in Your Pocket

August 5, 2013

More About Labor Statistics

Friday I blogged about the recent unemployment information released by the Bureau of Labor Statistics. My concern with the information released is how it can be manipulated to cause certain reaction in us individually and collectively.

The unemployment data released last week does not make sense. While news were released about the decrease in unemployment rate, information was also being released that employers in the United States has slowed down their hiring pace in July which produces a pair of mixed signals. This contradicting information only casts doubt over our "economic recovery".

Lets keep in mind that the drop in unemployment rate was in part due to the decline in the workforce size (people with jobs or looking for work). The US workforce size is reduced by those who retire, go to school and give up looking for work. Another important piece of information is that in the month of July Americans worked shorter weeks on average.

You may be wondering what does this information has to do with wealth building and the answer is everything. The financial data, including labor statistics, released by the government is intended for one reason; to cause a reaction on us. It is intended to cause you to divert some of your hard earned funds into the stock market, real estate, etc. It is important to study the information being presented to us, ask questions, and not to react to it.

August 2, 2013

Great News: Unemployment Rate is down to 7.4%

According to a report issued by the Bureau of Labor Statistics (BLS) –The Employment Situation July 2013, “Total nonfarm payroll employment increased by 162,000 in July, and the unemployment rate edged down to 7.4 percent, the U.S. Bureau of Labor Statistics reported today.” This is the lowest level for the unemployment rate since November 2008!

The news even though seems to be positive, I must question the information. The unemployment rate varies in accordance with the Household Survey, not the reported headline jobs number, and not in accordance with the weekly claims data. For example:
  1. After the employment gains for the months of May and June, the information was revised. The change in total nonfarm payroll employment for May was revised from +195,000 to +176,000, and the change for June was revised from +195,000 to +188,000. With these revisions, employment gains in May and June combined were 26,000 less than previously reported. Therefore, it is likely that the employment information for the month of July will be adjusted most likely downward. See the employment report by BLS.
  2. Even though the news focuses on the amount of jobs added, it fails to tells us that economists were looking for 185,000 new payrolls in this report. However, despite missing the mark, the unemployment rate still managed to decrease to 7.4% in July from 7.6% in June. How can that be? One reason is “the labor force participation rate”, which fell to 63.4% last month from 63.5% the month before. This is the percentage of the working age population in the labor force. Note: The US participation rate has decreased from 66.1% in August 2003 to 63.4% in 2013.
  3. 8,245,000 workers who are working part-time but want full-time work. A year ago there were 8,245,000. There is improvement in the creation of full-time employment.
  4. There has been a shift from full-time employment to part-time employment and underemployment, which distorts the reality of our employment situation in the United States. This does not require government surveys, just look around you and ask your friends and family and find out for yourself how many are underemployed and underpaid. Read the New York Times “Lost in Recession, Toll on Underemployed and Underpaid”.
We need to carefully read and question the data presented to us by the government before we act on that information.