Although it is generally a rule of thumb that the percentage of stocks invested in bonds should be equivalent to your age (i.e., a 70 year old would have 30% other assets such as stocks and 70% bonds), that is just a broad outline and doesn’t take into consideration the individual finances of people. Many seniors continue to have significant equity exposure if they have substantial assets, no need to live on them other than the dividends, and maintain a comfortable lifestyle. There are members of my own family that are around the same age that have near total equity exposure because they don’t need the funds for day-to-day expenses as a result of their pension income and social security checks so they focus on the long-term to maximize the value of the estate for those who will inherit after they’ve passed away.

The bigger concern is your focus on short-term market fluctuations. You are confusing volatility with value. Yes, Dow stocks have been hit hard this year. But time and time again, for more than one hundred and fifty years, blue chip equities, when bought on a diversified basis with dividends reinvested, have crushed every other asset class. In fact, at these lower prices, a very strong argument can be made for those who hold their stocks because the dividends that are being reinvested are purchasing far more shares due to depressed stock prices. You need to get a copy of Ivy League Wharton Professor Jeremy Siegel’s book, The Future for Investors: Why the Tried and True Beat the Bold and New. It will open your eyes. His research is magnificent. Stock prices are the greatest asset class for building wealth for the average man but the gains don’t come in gradually upward sloping markets. They are jagged ups, downs, sideways, drops, skyrockets, and more. Find a chart of the Dow over the past 100 years, though, and you’ll see even the Great Depression was a blip on the chart (when you factor in reinvested dividends, it was even smaller). Despite war, famine, the threat of nuclear annihilation, a Presidential assassination and resignation, the advent of the Internet, space travel, planes, trains, and automobiles, biomedicine, civil rights movements, and more, ownership of businesses has proven to be the most lucrative long-term proposition from someone looking to grow their capital. The ride is bumpy so it requires you to stick to your guns, buy quality, and ignore fluctuations! Otherwise, you’ll just be handing your hard earned money to professional traders and business men / women who buy for their own brokerage accounts.

Please understand that in most cases, when I get these types of letters, they seem to come from adult children with parents that have built up substantially more assets than they currently have. Many times, the sons and daughters are legitimately concerned about their parents, but equally as concerned about the value of any potential assets they will inherit. Yet they fail to realize that the very reason their parents often have money and they don’t is because mom and dad have diligently invested in high quality stocks for decades, ignoring market fluctuations and profiting from the well documented real growth in equity valuations on an after-inflation basis. What’s especially frustrating is that people often look at the high water mark of their portfolio and say they need to “get back to there.” Instead, they fail to realize that if they’ve been investing for long enough (say, 20 years), they already have many, many times (literally multiples) the money they would have had by parking it in bonds or the bank. Yet, even though they are richer on a net basis, they feel the psychological sting of a perceived paper loss. For professionals, it’s baffling because you’re still better off than you would have been. It’s like the people that sue a doctor who broke one of their ribs despite saving their life in a restaurant by performing the Heimlich maneuver.

What do you propose now? You seem to be suggesting that they sell out of their stocks and switch into more conservative investments at the very time when stocks appear to be the most attractively priced in many, many decades. I can’t offer you financial advice or give you any recommendations. All I can tell you is that the “super investors” such as Warren Buffett are pouring their personal resources into American stocks at this time, even going so far as to publicly declare it. Much of my personal capital came in the aftermath of the September 11th stock market crash when people panicked after massive drops, allowing me to buy up shares that I had been watching for years. I’ve invested more money in the past six months than I have in my entire life.

1. Continue to hold the blue chip stocks, reinvest the dividends, and let America, Inc. get stronger and more profitable just like it has for the past two hundred plus years. The stock market will eventually follow but when we get back to break even dow 14,000+/-, the portfolio value could be higher due to reinvested dividends. In fact, the longer the market stays at these levels, the better for both them and whoever will inherit their money. Dividend reinvestment is currently adding 7% to many top-name firms! That’s just unbelievable. Even if the stocks go nowhere for three years, you could have a compounded annual rate of return of roughly 22.5% over that time!

2. Suck up the loss, sell the portfolio holdings, and move to more conservative assets. When things calm down, you have no chance of recovering that money, however, because certificates of deposits and Treasury bills cannot keep pace with equity ownership over the long-run. It may be three months, it may be five years, but you will have to watch the value of stocks skyrocket as your account stays at the lower, permanent level you forced it into as a result of your asset sales. For some people, this is still the right call due to their emotional disposition and financial position. (If this were my aunt or grandmother asking, to sell out now – and park the money in accounts paying only 0.01% interest – especially when the United States is printing dollars to try to stave off the credit crisis (which will eventually lead to inflation) seems idiotic to me, but honestly if they need the money to live on, you don’t have a choice.)

I’m not a lawyer. What I can say is that based on my own opinion and the information you gave me, your parents would be wrong for claiming that the broker was at fault on a layman’s common-sense test. Could you get a settlement? I don’t know – maybe? But it seems like a fairly immoral thing to do given that you were willing to take all of the upside of the market yet when the inevitable volatility happens, want to lay blame off on a third party. It’s not like the broker was having them write naked puts or something (which would almost certainly be irresponsible for the situation you described).

My response, however, is predicated on your statement that they own high quality Dow Jones type stocks. If they are well-off, can live comfortably on their social security checks, and have a long history of investing in the stock market, all equity exposure could have been a perfectly reasonable and rational portfolio allocation. Stocks are not like a savings account. You can’t tell “how you’re doing” by looking at the statement each month. Instead, you take a 3-5 year rolling basis and, frankly, we are just now at the 2004 stock levels meaning that your family is just as well off now as they were a few years ago, plus they have the benefits of reinvested dividends so it’s highly likely that they are better off than if the money had been parked in a savings account. After all – what would have happened if your parents had sold out during the crash just before the original Gulf War in the 1990′s? Or the 1987 stock market crash? They’d be much, much poorer than they are today. You’re effectively suggesting they do the same thing now.

Take it for what it’s worth.

The SIPC does not protect investors against losses from their investments. All it does is replace many of the investments held in their account if their broker or financial institution goes bankrupt. That’s it. If you owned 500 shares of General Electric prior to a bankruptcy, all you’re going to get is 500 shares of General Electric in a new brokerage account at the institution of your choice after the bankruptcy is sorted out by the SIPC staff. It’s that simple. In the meantime, GE might be up, it might be down, or it might have gone nowhere.

It’s important to understand what the SIPC does not cover. According to the official web site, “SIPC does not cover individuals who are sold worthless stocks and other securities. SIPC helps individuals whose money, stocks and other securities are stolen by a broker or put at risk when a brokerage fails for other reasons,” They also go on to say:

When SIPC gets involved. When a brokerage firm fails owing customers cash and securities that are missing from customer accounts, SIPC usually asks a federal court to appoint a trustee to liquidate the firm and protect its customers. With smaller brokerage firm failures, SIPC sometimes deals directly with customers.

Investors eligible for SIPC help. SIPC aids most customers of failed brokerage firms when assets are missing from customer accounts. (A list of ineligible investors may be found in the fourth question in the next section of this brochure).

Investments protected by SIPC. The cash and securities – such as stocks and bonds – held by a customer at a financially troubled brokerage firm are protected by SIPC. Among the investments that are ineligible for SIPC protection are commodity futures contracts and currency, as well investment contracts (such as limited partnerships) that are not registered with the U.S. Securities and Exchange Commission under the Securities Act of 1933.

Terms of SIPC help. Customers of a failed brokerage firm get back all securities (such as stocks and bonds) that already are registered in their name or are in the process of being registered. After this first step, the firm’s remaining customer assets are then divided on a pro rata basis with funds shared in proportion to the size of claims. If sufficient funds are not available in the firm’s customer accounts to satisfy claims within these limits, the reserve funds of SIPC are used to supplement the distribution, up to a ceiling of $500,000 per customer, including a maximum of $100,000 for cash claims. Additional funds may be available to satisfy the remainder of customer claims after the cost of liquidating the brokerage firm is taken into account.

How account transfers work. In a failed brokerage firm with accurate records, the court-appointed trustee and SIPC may arrange to have some or all customer accounts transferred to another brokerage firm. Customers whose accounts are transferred are notified promptly and then have the option of staying at the new firm or moving to another brokerage of their choosing.

How claims are valued. Typically, when SIPC asks a court to put a troubled brokerage firm in liquidation, the financial worth of a customer’s account is calculated as of the “filing date.” Wherever possible, the actual stocks and other securities owned by a customer are returned to him or her. To accomplish this, SIPC’s reserve funds will be used, if necessary, to purchase replacement securities (such as stocks) in the open market. It is always possible that market changes or fraud at the failed brokerage firm (or elsewhere) will result in the returned securities having lost some – or even all – of their value. In other cases, the securities may have increased in value.

How Long Will It Take to Get Your Investments Back?

The SIPC goes on to say, “Most customers can expect to receive their property in one to three months. When the records of the brokerage firm are accurate, deliveries of some securities and cash to customers may begin shortly after the trustee receives the completed claim forms from customers, or even earlier if the trustee can transfer customer accounts to another broker-dealer. Delays of several months usually arise when the failed brokerage firm’s records are not accurate. It also is not uncommon for delays to take place when the troubled brokerage firm or its principals were involved in fraud.”

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What you get when you pay for a full service broker

With a discount broker, you are simply paying to get your trades executed. For those with experience, the ability to analyze financial statements, and an understanding of businesses, this is an ideal arrangement. You just need someone to place the trades you order. For those without any financial experience or who want the comfort and security of handholding – and just as importantly, don’t mind paying for it – a full service broker can be worth the cost.

Although services and products are not fully uniform and costs will vary from firm to firm, typically you should want some or all of the following from your full service broker:

Perhaps the biggest benefit for someone without experience is the opportunity to have a reputable firm guide you through the process. Although it is highly probable that the fees will cut into your returns, you may be better off in the long run because a good broker can hold your hand through turbulent markets, helping you to avoid mistakes such as selling at market bottoms or buying during speculative bubbles.

That is, of course, if you can resist the temptation to bail. It’s amazing how many investors, who are the first to admit they don’t know hide nor hare about the market, will call their broker and complain about a few percentage points drop. Just last week, I was chatting with a financial representative from a major U.S. bank in his office and he confessed that when his client accounts were up more than 20% last year, no one called. Yet, a 4% drop in the broader markets caused, no joke, what he estimated were 250 calls to his office. That is madness. As long as you have a reputable firm with a proven history of good, long-term results, stay the course.

An alternative to full service brokerage firms

There is one alternative to full service brokers that is particularly attractive if you don’t have a lot of capital to invest or you are primarily interested in buying and holding stocks for the long term (ten years or more). You aren’t likely to hear about them because there really isn’t a motivation as they don’t produce profits for any brokerage house.

It’s called a direct stock purchase plan or a dividend reinvestment plan. Basically, these low-cost plans allow you to buy shares directly from a company, paying only $1 or $2 in commissions through optional cash payments or regular, recurring withdrawals from a checking or savings account. Every quarter, you’ll likely receive a statement detailing the reinvested dividends, purchases, sales, stock splits, or any other information that resulted in changes to your account.

Put together enough of these plans, and you have a simple, cheap way to build equity in some of the biggest names in the world – Coca-Cola, General Electric, Bank of America, Home Depot, Wal-Mart, etc.

Now that we are in an age where stock certificates are rare, there is virtually no effort involved with a broker keeping track of the companies in which you hold shares. For an investor with, say, $50,000 in assets, this represents a frictional expense of 1/2 of 1%! Add on the management fees that are taken out of mutual funds that you never see directly, and it’s not hard to understand why so many investors have a difficult time matching, much less beating, the market.

To add insult to injury, if you wanted to avoid these fees and request a paper certificate, the same firm would likely charge you $25 to $50 to get what rightfully belongs to you! Even more salt in the wound? Many companies offer direct stock purchase plans and dividend reinvestment plans that won’t charge you a penny for having stocks safely held with the transfer agent.
The bottom line is this: You should not be paying custodial or safe keeping fees for the right to hold stocks in your account. This is simply a way for hidden charges to ring the cash register at the broker, banks, or wealth management firm at your expense. Demand these fees be waived or you might just need to consider taking your business elsewhere.