"A very sad story illustrates the crucial need for investors to diversify their investment holdings. It concerns a secretary who worked for the Enron Corporation during its heyday in the late 1990s and early 2000s. Enron was one of the new-age companies that formed to revolutionize the market for electric power and mass communications. Two charismatic masterminds, Kenneth Lay and Jeff Skilling, ran Enron and were regularly lionized by the press for their skill and daring. Enron stock was the darling of Wall Street, and it seemed to defy gravity by rising steadily into the stratosphere.
Like most major companies, Enron had established a 401(k) retirement plan for its employees, offering a range of options for the regular savings contributions that would be automatically deducted in each pay period. One of the investment options in the plan was to put those contributions into Enron stock. The chief executive officer, Ken Lay, strongly recommended that employees use Enron stock as their preferred retirement vehicle. Enron was likened to Elvis Presley revolutionizing the music scene. The old power companies were like old fogies dancing to the music of Lawrence Welk. And so the secretary put all of her retirement savings into Enron stock, and how glad she was that she did. As the stock soared, while she had never earned more than a modest secretary’s pay, her retirement kitty was worth almost $3 million. During the next year, she looked forward to retirement and a life of leisure and world travel.
Well, she got her wish for more “leisure.” As we now know, Enron had been built on a mosaic of phony accounting and fraudulent trading schemes. Jeff Skilling went to jail, and Ken Lay died while awaiting trial. The stock price collapsed, and the secretary’s entire retirement kitty vaporized. She lost not only her job, but also her life savings. She had made the mistake of putting all her investments in one basket. Not only did she fail to diversify her investments, but she put herself in double jeopardy because she took exactly the same risks with her portfolio as she did with her income from employment. She failed to heed one of the few absolute rules of investing: Diversify, Diversify, Diversify."
- Burton Malkiel (Professor at Princeton) and Charles D. Ellis (Ph.D. New York University)
At Moraya Consulting, we understand that you may truly believe in your company or even that they may offer some perks to buy their shares (like 10%-15% discount). However, the financial success of a company is many times tied to factors that are external, such as government policies or foreign countries' economic performance, not to mention a myriad of domestic problems that can happen within a company. For most people, their work salary represents more than 50% of their income. Therefore, by further emphasizing the importance of that company, e.g. buying many shares of the company you work on, you are often taking unnecessary risks. As we already saw in "Investing Abroad," income diversification can increase your returns and decrease your risks. Even the purchase of riskier assets can decrease your overall risk given that the new investments are not well correlated to your portfolio. In this case, your own company stock is highly correlated with your chances of promotion or getting fired. Hence, you are putting all your eggs in one basket by not diversifying your income and taking high amounts of risk.
The same diversification rule goes for all your investments. For example, if all your work income is in pounds, you probably want to invest in assets denominated in other currencies because if the value of the pounds falls you are still going to be protected by your investments denominated in foreign currencies. If your company depends heavily on your national market, e.g. you work in a Brazilian company that sells its products mostly to Brazilians, you probably want to invest in a non-Brazilian market. Because if Brazil goes into a deep recession your company will most likely pass through a hard period and so are your job prospects, but your investments that are not correlated to the Brazilian market are likely to have much higher returns. If you work for the government, you probably do not want to invest heavily in your own government bonds.
Thus, diversification is the name of the game. How diversified is your income right now? At Moraya Consulting we offer guaranteed returns for long term investors on major stock indexes, such as the S&P 500 (which follows the US market) and the MSCI EAFE Index (which follows 21 developed countries' markets), U.S. bonds for short term investors, among many other products!
"It is appalling what people do. They put, you know, half or more of their retirement savings in the stock of their own company. So, if you work [in a company that seriously struggles like General Motors], well I have bad news for you. You have lost your job, you will never find another one, and the other bad news is your retirement savings are worth nothing. That is crazy. That is nuts." - William Sharpe, the 1990 Nobel Prize Winner
"[The perfect portfolio] needs to deal with your own vulnerabilities. If you work in the automotive industry you shouldn't put in a lot in automotive stocks. You may want to short them." - Robert Shiller, the 2013 Nobel Prize Winner
"Cross-sectional diversification, not putting all your eggs in one basket, is a good model." - Myron Scholes, The 1997 Nobel Prize Winner
- Malkiel, Burton Gordon., and Charles D. Ellis (2013). The Elements of Investing: Easy Lessons for Every Investor. Hoboken, NJ: John Wiley & Son Inc.
IMPORTANT: THERE IS NO ONE BEST TAX OR INVESTMENT STRATEGY. IT ALL DEPENDS ON YOUR GOALS, RESOURCES, AND CITIZENSHIP.
For example, are you willing to move abroad? If so, where? How long do want to stay in each place? What is your annual income? How much money are you willing to invest? Do you want short term gains or long-term investments? What is (are) the source(s) of your income? How much taxes do you pay annually? Do you want to decrease your tax duties or completely remove them? Do you feel like you want to pay some taxes even if you do not need to? What is your citizenship? Do you have multiple citizenships? Depending on each of these answers the best investment/tax strategy for you will differ. In order to see what option is best for you and to help with the implementation of the strategy feel free to reach out to us. You do not need to be rich to create a global investment portfolio. Most of the bank and brokerage accounts we open do not have minimum initial deposit or maintenance fee. Thus, you can invest as much as you want or even leave the accounts empty until you have enough capital or interest to invest abroad.