The Advisor Insights question and answers can be found on Investopedia here.

Question Headline:

How does an investor make money when entering a Futures Contract?

Question Body:

I am very new to futures and options. I have been watching videos here on Investopedia in order to learn, but have hit a bit of a snag. On the Futures Contract page, the video states at the end, that the Investor takes on both the risks and rewards by creating this contract. If the milk price goes up, the investor breaks even by gaining money from Tim’s Dairy and losing money from Al’s Ice Cream. Again, when the milk price goes down, the Investor loses money with Tim’s Diary and gains money with Al’s Ice Cream. In every situation, the investor breaks even. So why would the investor waste his time? The only one who is seeming to benefit are Tim’s Dairy and Al’s Ice Cream. What am I missing?

Answer:

When entering a futures contract, an investor is not guaranteed to break even. It is very likely that the investor will gain, or lose money in relative terms. The reason behind this is because, a futures contract obligates the people involved to abide by the contract.

For example, let’s say Joe and Dan enter into a futures contract where Joe plans to sell Dan 100 phones one year from now, for $150 per phone. However, in one year the current market price of phones is $100. Dan is obligated to pay the higher price of $150, due to the futures contract. From this particular futures contract, Joe just made a profit of $5,000 in relative terms, an extra $50 per phone.

Futures contracts can be dangerous, due to the lack of flexibility in the contract. The investor must be confident on the agreed upon price, in order receive higher profits in the future.

In general, I do not recommend the typical retail investor use futures contracts within their investment portfolios. Your average retail investor would be better served focusing on having the appropriate asset allocation (mix of stocks, bonds, and cash) based on their goals, time horizon, and cash flow needs.

— Wyatt Swartz

— Contributions by Caitlin Lammers

— 6/8/2017

A recent contribution to the Investopedia “Advisor Insights” page can be found here.

Question Headline:
Should I invest my extra income in a 401(k), a Roth IRA, or spit the investments evenly into both?

Question Body:
I will be investing 15% of $27,000 a year into a retirement fund. This money is additional income from a new job. My new job offers a 401(k) with a match of 3%. I have also heard that a Roth IRA is a good choice. Should I do 15% in one or the other, or split it half and half? What do you think?

My Response:
You should take full advantage of your company 3% match, so you should be contributing at least 3% of your extra income into your 401(k). To decide where to invest the rest of your income, you need to understand the key differences between a traditional 401(k) and a Roth IRA.

401(k) contributions are tax-deductible reducing your current taxable income and therefore reducing how much you pay in taxes today. The funds within the account grow tax-deferred meaning there are no tax consequences as long as the funds remain in the account until retirement. In retirement (after age 59 ½) distributions from the 401(k) will be taxed as ordinary income.

Roth IRA contributions are “after-tax” meaning there is no reduction in the participant’s tax liability today. Funds within the account grow tax-free, and distributions made in retirement (after age 59 1/2) are tax-free.

In conclusion, you should contribute 3% into your 401(k) account. Where to contribute retirement savings beyond the 3% is going to be based on whether you prefer “to pay more in taxes today, but never again, or reduce your taxes today and pay in the future.” I typically recommend people with a long time horizon (20+ years) to take advantage of the Roth IRA option as much as possible as long as they are eligible. Investing in capital markets over the long-term can and should provide tremendous growth of assets. It is very powerful to never pay taxes on that growth.

— Wyatt Swartz

— Contributions by Eli Perlmutter

— 5/22/2017

“Public’s out there throwing darts at a board, sport. I don’t throw darts at a board. I bet on sure things. Read Sun-Tzu, The Art of War. Every battle is won before it is ever fought.” — Gordon Gekko

Let’s set aside the unethical and illegal practices of the Gordon Gekko character in the 1987 film Wall Street and just dissect the above quote for the words.

“Public’s out there throwing darts at a board.” Most investors professional and lay alike do not have a clearly defined investment process, set up principles/beliefs, strategy, or identity as an investor. Most investors are making it up as they go along. Whether it’s business, sports, fitness goals, you name it, having an identity and process greatly increases the probability of success.

“Read Sun-Tzu, The Art of War. Every battle is won before it is ever fought.” Be prepared, preparation is crucial for determining favorable outcomes. Having great preparation can drastically improve your chances of success almost to the point of a sure thing. This is especially true when investing in capital markets. Without the preparation you are with the public, “throwing darts at a board.”

As investors we must define our core beliefs about investing in capital markets. Those core principles should be paramount when developing an investment process and in influencing every investing decision we make. My investing principles can be found here.

– Wyatt Swartz

– 5/13/17