No need to fear the worst — diversify

Q: My wife and I are 60 and plan to retire at 62. At that time we will have $31,000 annual income from Social Security and $48,000 from a corporate pension. A 401(k)/IRA of $1 million will provide additional income from investments.

Recently I have been reading a book titled "Crash Proof" by Peter Schiff. He is expecting the value of the dollar to decline drastically in the near future.

Consequently, he advocates investing 10 to 30 percent of our overall portfolio in gold-related investments and 70 to 90 percent in conservative foreign stocks through his company Euro Pacific Capital. Until I read his book I had never heard of that company.

Do you agree with his expectations of the dollar's value decline in the years ahead and, if so, what do you recommend we should do to protect our investments?

A: I worry whenever a book is premised on catastrophic change.

I do believe we are likely to see a continued long-term decline in the value of the dollar against other currencies.

This will eventually create higher inflation in the U.S. and put pressure on interest rates.

That said, the positions recommended by Schiff are extreme.

Many investors urge owning some gold, but most limit it to an "insurance" position.

The case for having some of your investments in other countries can be supported without an apocalypse — it's just good diversification.

Putting virtually all of your money in gold and foreign stocks strikes me as a very large bet on future misery.

What you need to remember is that the world has been ending for a long time.

Rather than living in fear of the worst, I suggest diversification — and positive participation in a world of human beings who adapt.

Q: I am interested in converting a set of managed Fidelity funds to either index funds or ETFs. However, I'm not sure if it is worth it.

My funds have about $200,000 in value and $35,000 in capital gains, if I sold all of my funds today. I think the advice you give on index funds and ETFs is beneficial, but is mostly geared toward new investors.

Do the advantages of index funds and ETFs transfer when converting from managed funds with capital gains? How do I analyze the cost/benefit of lower costs vs. capital-gains taxes I would incur by converting to index funds or ETFs?

A: Changing horses is changing horses. It doesn't matter whether you are moving from one managed fund to another or to an index mutual fund or an index ETF — the issues to be addressed are the same. First, what is the expected performance benefit for making the change? Second, how much will it cost — in taxes — to make the change?

When you think about redeeming Fidelity managed funds to buy index funds, you are betting that Fidelity fund managers won't be able to provide a return greater than an index fund in the same asset category due to management expenses, the cost of portfolio turnover and lost tax efficiency.

Since the average expense ratio on Fidelity Investment domestic equity funds is 1.25 percent (according to the Morningstar database) and you can buy major domestic market index funds with expenses less than 0.10 percent, the index fund products have a significant cost advantage the Fido managers may not be able to overcome.

Capital-gains taxes should not be an impediment to decisions unless you expect to die in the very near future. (If you die, the cost basis for your fund will be its value at your death, not its value at purchase, so your estate will escape the capital-gains tax on unrealized gains.)

If you don't expect to die in the very near future, you might want to realize the gains now while the capital-gains tax rate is only 15 percent.

Questions about personal finance and investments may be sent by e-mail to scott@scottburns.com or by fax to 505-424-0938. Questions of general interest will be answered in future columns.