Book Review: The 5 Fundamentals of Building a Retirement Portfolio by The Financial Lexicon


The 5 Fundamentals of Building a Retirement PortfolioI have been a fan of The Financial Lexicon for quite some time, so I was excited to read his new book, The 5 Fundamentals of Building a Retirement Portfolio.

There are plenty of good books out there that focus on a specific component of investing such as picking stocks. However, the books I have seen that try to cover retirement investing from a holistic standpoint are all too basic to use as a complete guide.

The 5 Fundamentals of Building a Retirement Portfolio stands out from the crowd by giving a complete step-by-step framework for each of the important concepts investors should consider. The Financial Lexicon understands that each investor has unique financial considerations, risk tolerances, and views on the world.  Because of this, instead of giving “one size fits all” advice, he gives information in a manner that any investor can use and mold to their specific situation. To tie everything together, the final chapter includes a checklist you can use to design a portfolio tailored to your unique situation.

Perhaps most impressively, he gives us the full framework in an easily digestible 200 pages.

Here are 10 things I learned from the book:

1. Most financial calculators get the taxable-equivalent yield for municipal bonds wrong.  The reason why is that they use your federal tax bracket rather than your federal tax rate.  This is a problem because if your tax bracket is 25%, for example, that does not mean that you are taxed at 25% on your entire income.  You are instead taxed at 25% on income above a certain amount.

2. Stock market sell-offs tend to happen much more quickly and violently than stock market rallies.  Because of this, if you buy stocks on a pre-programmed regular basis, you are likely to be investing most of your money when stocks are going up (and are therefore expensive) rather than when stocks are going down (and are therefore cheaper). Over time, this gives you fewer opportunities to accumulate stocks at lower prices and ultimately results in a higher cost basis on your investment. As The Financial Lexicon illustrates in his book, this can become a problem for buy and hold investors.

3. The long term average return on equities depends greatly on the start and end date that you pick.  For example, from the 1929 high on the Dow to the August 9th, 1982 low, the Dow returned just 1.34% annually on a capital appreciation basis.  Dividends juiced the returns significantly, but over that time dividends were much higher on average than they are today.

4. You should think of gold not as an inflation hedge but as a store of value.  Throughout history, sometimes gold moves up with inflation and sometimes it does not.  What it has always done, however, is act as a store of value. And that’s why you should consider owning gold.

5. If you are looking for an inflation hedge, you may want to consider high-yield bonds.  If you believe your personal inflation rate will remain in the 0 to 5% range over an extended period of time, and you can create a diversified portfolio of bonds yielding 7% or higher, then there is a very good chance you will maintain the purchasing power of your money.

6. If you are looking to hedge against inflation using stocks, it is important to differentiate between companies with pricing power and those without pricing power.

7. Just because a company increases its dividend every year does not mean that you should ignore the starting point for the dividend yield.  When you start with a yield below the rate of inflation, it could take a long time to get your yield above the inflation rate by an amount that begins to offset the years your yield was below the inflation rate.

8. Just because preferred stocks are further down the capital structure, does not mean that they always pay a higher yield than that same company’s bonds, which are higher up the capital structure.  If you can find higher yields further up the capital structure, that is something to seriously consider.

9. If you are sitting out of the market waiting for higher interest rates, don’t forget to factor in the interest you are missing out on while you wait for those higher rates.  If you sit out long enough, then even if rates go substantially higher, you could end up worse off than if you had stayed invested at lower rates.

10. Although preferred stocks work a lot like bonds, dividends on preferred stocks are typically eligible for qualified dividend tax rates, which for most people are much lower than their ordinary income tax rates (the rate at which interest from bonds is taxed).

If you are looking for a book that will greatly improve your chances of being where you want to be financially at retirement, then I highly recommend The 5 Fundamentals of Building a Retirement Portfolio by The Financial Lexicon.

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