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Ripped from the Headlines: Bad Holiday Economic Mood

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Oh, look! I can overspend! Awesome!

Hey, if it works for Law and Order, “ripped from the headlines” should work for something more awesome like financial planning, right?

The headline on my local paper today reads BAD ECONOMIC MOOD ARRIVES FOR THE HOLIDAYS. That’s nothing earthshattering.

I’d like to focus on the subhead.  It reads, “ECONOMISTS SAY LACK OF CONSUMER CONFIDENCE DOESN’T ALWAYS MEAN LESS SPENDING.”

It should.

It doesn’t take a rocket scientist to understand the severity of the spending problem in America. We’re addicted to buying stuff.

It’s time to break the cycle.

Here’s three signs you’re headed for no-good this holiday season:

1)      You head to the store without a budget. Stores spend all year waiting for the holiday season. With military precision, they lay out displays and aisle end-caps to claw money from your pockets. Need proof? How about this: Walmart has already announced that they’ll meet any price, even if you’ve already purchased the item! That’s how serious companies are about you. You need to be equally serious when you hit the mall to buy gifts.

2)      You sign up for the department store credit card. I’m inundated each holiday season by “10 percent off today’s purchase if I sign up for the Kohl’s Visa!” …and other garbage promotions.  10 percent off is better than chocolate covered peanuts, but the gi-normous interest rate these store cards charge is where companies earn a monster profit.

3)      You buy the holiday season on credit. This next line may sound silly.  Ready?  Here goes:  If you can’t afford it, don’t buy it.  The shame you’ll feel in January when the card statements arrive isn’t worth the fun of picking out that special remote control airplane for your favorite financial blogger and charging it. Almost, but not quite.

I know, not rocket science, but most financial planning concepts are simple. It isn’t that you haven’t heard of a concept, it’s that you don’t practice it.

So, to prep for holiday season, here’s your homework:

a)      Determine your budget. How much are you going to spend on gifts? On parties? On ornaments and decorations?

Don’t stop there. We aren’t done with the budget yet. Check it twice, they say in the song. Can you afford these numbers and also your long term goals? Are you spending money on presents that should be placed into your retirement fund? ….that you should be spending on health insurance?

b)      Place the credit cards “on ice.” I had a client who put her credit cards in a tupperware bowl, filled the bowl with water, and stuck it in the freezer. That way, she had a credit card, but had to think long and hard before de-thawing her funds (talk about frozen assets! Oh, stop, I’m killin’ it!).

c)      Create a separate “holiday fund.” When it’s empty, holiday spending is done. Kaput. Finished.

If you want to get hardcore about it (and I know my readers are hard-core savers, aren’t you?), place the holiday fund at a separate bank with a separate ATM card. Set up direct contributions to the account each month from your primary checking account. This way, you’re filling the tank 11 months of the year and draining it one month.

You have choices around the holidays. The worst choice would be to let retailers control your spending habits. By heading into the mall with a plan and sticking to your guns, you control the economy that’s most important to you:

your own.

–          joe

The Secret “Get Rich” Equation

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My mom used to tell me, “there’s a time and place for everything,” which sounds like good, solid meat-and-potatoes mom-speak until you learn that she followed it up with “and now’s the time for gin!”

But the point holds. There is a time and place for everything, including gin, stocks, bonds and real estate.

Every investment has a proper use.

So, today, we’re going to begin the journey toward the pot o’ gold, friends. We’re going to put on our boots and hunt for the secret “get rich” equation that’ll help us choose the perfect investment.  Like a good doctor, we’ll focus on a patient with a problem.

Luckily, we happen to have one right here.  Julie is a good friend of Average Joe. She’s 32 and wants to retire at 60. She’s in the medical field, and hopes to accumulate enough to have the option to retire even earlier.  On the other hand, she currently enjoys her career and isn’t sure if she’ll even want to retire that early.  Because of this, she’s looking for flexibility.  Good for her. I like to hear stories about people loving their work.

This also helps us eliminate investments.  Hear the word “flexibility?” That immediately eliminates several investment choices, narrowing the field.

Isn’t this fun?

And to go faster, we can chuck any discussion about how much money Julie has already saved or which investments she’s currently using. Sure, both are important, but our goal today is to show you how to start choosing the right investment, not to oogle Julie’s assets.

Get your mind out of the gutter. You know what I mean.

Diatribe:  Countless advisors I’ve met begin this process in the wrong place, as do plenty of online helpers. This isn’t rocket science. We don’t have to start with today’s hottest investment or the perfect opportunity.  Instead, we begin with a simple equation.

I’m back off my soapbox.

The equation is this:  Money (times) Return (equals) the Goal.

It’s painfully simple. Julie is going to need so much money and have it perform to a certain specification to reach her end game. It’s math time, boys and girls. If we know two of the factors, we can solve for the third.  In this case, what do we know?  We already have the goal, and Julie knows the amount of money she currently has stashed away.  At this point, she needs to solve for the minimum return she’ll need (at this current pace) to reach her objective.

Ta-da! Once we know the return we need, it’s time to begin choosing investments.

But, before we do that, let’s not gloss over some problems.

We made some assumptions. If someone else performs an analysis on your behalf, you must understand what assumptions were used! If you don’t you’re bound to forget the entire equation.  Here are Julie’s assumptions:

–          She’s going to continue to save at the same rate until retirement. This could easily change (for better or worse).

–          The tax treatment of her assets will not lessen her return between now and retirement (we’re assuming that her return factor will be an after-tax amount).

There are others, but those are the biggies.

Tomorrow we’ll accomplish a single goal:  I’ll show you free places online where you can complete this equation.  I know, isn’t it exciting?

–          Joe

 

Read more:

The Least Funny Financial Joke Ev-Ar

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We used to tell a joke. I know, when you think “financial planner”, all you imagine is a group of suits clowning around, and general hilarity, right?  Me neither.  But, we did have a joke.  Maybe you’ve heard it.

A woman walks into a financial advisor’s office. After leading a good discussion about her goals, the advisor asks what investments she’s using toward her objectives.  She tells him she has CDs at Bank of America, Wachovia, the corner bank, and her credit union.

The advisor says, “why do you have the CDs spread around at so many banks?”

To which she answered proudly, “I’m diversified!”

Yeah, now you know why my wife never wanted to attend our work Christmas parties. We are cray-zee.

There’s a point here, though. Diversification is about much more than spreading your money around. Although there is a certain leap of faith when diversifying, that leap is far beyond where most investors begin to jump. There’s a ton of science you can perform before you throw your dart toward the target.

Many people begin with the dart. Gold sounds like a good idea. The guy at work l.o.v.e.s. small company stocks. Your boss has ridden Apple all the way to the top. Your cousin invests in rental properties and is making a killing.

These may all be fine investments, but none might reach the goal.

Different investments have performed better or worse depending on the time frame. Historically, the stock market has been a horrible place to invest for short term goals. Bonds have been wonderful during most five year periods. Still, both stocks and bonds have performed poorly over short time periods (such as a year).

One tool that advisors used well during my time in the field was an asset allocation tool. Luckily, you can find these all over the internet. With an asset allocation tool, you’ll find out what investments give you the historically least amount of risk with the greatest chance of return. These tools work very well for someone who’s new to investing, because at the least, they help you find a sensible approach to diversifying your money.

Tomorrow, I’ll have a few places for you to look for good asset allocation tools.  For now, if someone would like to be Joe’s guinea pig, how long do you have until your goal? I’d love to have a real-live person to use as an example.

– Joe

The Definition of Irony (or Why You Should Know What You’re Doing)

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I know sometimes I might sound a little cranky (like yesterday, for example).  But here’s a good reason why….I can’t make this stuff up.

Some back story:

As an advisor, one of the most common requests I’d receive was to help someone choose which funds to pick inside their workplace retirement plan.

Most companies have one – either a 401(k), 403(b), SEP, SIMPLE, or something…  Each of these plans was sold to the company owner by a salesperson financial advisor.

Who picks which funds are appropriate to include in the account?  Who makes the (hopefully) long list of choices you and I can oogle while we decide which is best for your retirement?  The owner chooses, but she is handed a list by the  salesperson financial advisor.  99 percent of the time, the owner doesn’t hav the time or inclination to second guess the choices, so they accept the “professional” recommendation.  If you work for a large corporation…then who picks the funds?  A committee…combined with the salesperson financial advisor.

What happens when your 401(k) fund choices just plain suck?  Do you have any repercussions? 

Apparently, you do.  And this is where our story begins……

At Ameriprise Financial, (they’re a middle-of-the-road financial “planning” firm) employees are eligible for their own 401(k) plan.  One of the nice bonuses for those working in the industry, is that you may happen to have an in-house mutual fund department.  Ameriprise does.  Awesome!  And, you may have your very own retirement plan operation.  Ameriprise does.  Cool beans! 

When you sell funds for a living, you would suspect there’d be awesome choices in your plan…right?  You’d skip to work every day, whistling with joy and pinching yourself that you work for the company that knows how to deliver the bacon when it comes to retirement plans.  It’s kind of like owning the golden goose.

But it isn’t.

According to Nathan Hale at CBS MoneyWatch, Ameriprise funds inside of the Ameriprise 401(k) suck SO BAD that employees are SUING the company to get out.

Wait.  Did I read that correctly?

Financial advisors are suing their own company for forcing them to eat their own cooking?  HA HA HA HA.

That, folks, is the definition of irony.

It may also be why Joe’s had a case of the crankies.

This is specifically why planning your own future is non-negotiable.  If you want to achieve your goal, know what you’re doing yourself.  It’s okay if you need to hire an advisor, but don’t just hand them the keys to your car, jump in the back and expect to reach the place you want to go! 

Do your own homework.  In this case, the stuff that’s peddled by these salespersons financial advisors is so atrocious, they wouldn’t own it themselves (the cynical part of me thinks they might still sell it to their mother, though, if there’s a bonus in it).

Don’t let a salesperson tell you to “stay the course, Mr. Smith.  It’ll be OK”  if it clearly isn’t the case. Over the next several weeks, I’m going to show you some of the cool tools you can use for FREE on the internet to do your own homework. Even if you have an advisor, you should know how to double-check her work. 

That should be exciting, huh?  For now, I’m going to keep giggling to myself about this story.

Why Junior’s Education Might Be Cheaper Than You Thought

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My son went to a private school for a year. If we hadn’t moved from the region, I think I may have had to start selling plasma on the side to afford tuition.

It’s that expensive.

But you can’t deny the value of a good education. In fact, Dr. Jeffrey Sachs presents a horrifying case in his new book, The Price of Civilization. I don’t want to devolve this blog into the politics of this book. This blog, which refuses to stand for anything, doesn’t endorse any politics associated with the piece (enough disclaimers for ya’?).

My only point:  the statistics in the tome don’t lie: the key to life isn’t in getting an advanced degree, but there’s a more-than-high probability that your quality of life is seriously screwed if you don’t have one.

You’re still going to have to work hard and secure a job, two factors that ain’t gonna come easy, even with the degree in-hand.

So, you being the amazing parent that you are, decide to begin saving for junior’s education.

And that’s where the fun begins.

Most people start from square 10, rather than square 1.  That’s because the silly marketing departments for investment companies encourage you to start from the middle, with their emphasis on whether you should use a 529 plan or a pre-paid tuition option. How about mutual funds?  Coverdell?  Decide what you want to save into already?

Remember the moldy financial advice to look at the map before starting your car?  It’s advice that’s been rolled out often because it’s true.  Start with your goal.

Of course, it’s impossible to ask a two year old where she wants to attend college.  I take that back. You can ask, but the answer won’t be very accurate. So, as a financial planner, I had to get creative. We had to start with affordability.  My question became “what can a parent afford?’

Good News on the Affordable Front

You can probably afford more education than you believe. I know that scholarship opportunities are overrated. It’s actually the calculation most financial planners use that are inaccurate.

Let’s visit a reliable website and view the college costs.  We’ll focus on Kentucky University. Mostly because I’ve never been accused of being a fan of this school for no greater reason than I always want their basketball team to lose.  I know. I’m petty.  Let’s move on.

We’ll begin by finding reliable third-party information:  Peterson’s College Search. At thefreefinancialadvisor, we like to use websites which don’t have an axe to grind. Petersons is a great site because they only want to be your go-to place for education statistics and information.  (and no, thank you, I’m not being paid by Petersons, either.)

So, let’s start here:  http://www.petersons.com/college-search/university-of-kentucky-cost-and-financial-aid-000_10001934_10003.aspx

We’ll pretend you’re in-state for this exercise.  See the bottom line?  No?  You’re right.  We’re going to have to perform some math.

First, there’s tuition at $7,656.  Then we skip down to fees, which are $954 for full-time students.  Finally, gaze a paragraph down to room and board.  That’s an additional $9,439.

The total cost of education, per year, is going to be $7656 + $954 + 9,439 = $ 18,049. 

For this exercise, we’ll assume that you plan to pay all of these costs without scholarship aid. At least for planning purposes with your two year old, you shouldn’t count on aid. What happens if you plan on aid and don’t receive a package?

At this point you should be asking yourself, what about this number is affordable? 

The good news is that the $9,439 number for room in board is correct. However, you may discount a portion of this price from your family budget.

In many financial planning meetings, the advisor will neglect to back down your costs associated with junior living at home. If your little-pride-and-joy moves away to college, you’ll no longer be responsible for food at home, and if your child leaves lights on as much as mine does, your utility bills will drop.

Why doesn’t an advisor back down these costs?

There are possible two reasons:  either she isn’t very good at her job, or the much more malicious reason.

She is hoping to jack up the cost of education to raise the amount you’ll need to save. This amount will go into a fund she receives a commission for.

Now you’re thinking to yourself, there’s no way this really happens.

Sadly, you probably aren’t thinking that. So much for imagining our readers are all happy-go-lucky, believe-everything-you-read people. Nope.

Whether malicious or not, when you’re ready to start saving for college (and based on these numbers above, you should have started yesterday), be sure and discount the room and board numbers to factor in the savings you’ll find when junior is no longer eating you out of house and home.

Happy Education Planning,

Joe

5 Biggest Refinance Concerns

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This will end up in the toolbox, but because only yesterday I posted an exciting post on the reasons why you should consider NOT refinancing, today I think it’s appropriate to post some of the concerns a good advisor might have when a client is considering changing a home loan.

There are so, so many variables to consider—to cliché this article as quickly as possible—your head will spin.

Let’s forget the smart-talk and just jump into the list:

1)      Cash flow. This is the primary hook mortgage companies use to secure your signature on the bottom line.  Like a fish to the worm, all a lender has to say is that “you’re gonna save $300 per month!” and we’re all lining up drooling for debt.

(Apparently the only offer credit card companies need to bait the hook is a free NASCAR blanket, but that’s another story.)

Comparing cash flow isn’t as important as knowing how you’re going to use your new free cash each month. If you plan to use the funds for a boat down payment, you may wish to reconsider. However, if you can set up an automatic payment to alleviate some other debt or save into your child’s college fund, I’m on board.

Final analysis:  Just like you shouldn’t eat hamburgers every day just because they tastes good (lesson learned!), you shouldn’t choose to refinance based on cash flow alone.

2)      Length of loan.  If you’re close to paying off your mortgage, why would you sign up to start over again?  I’ve seen people refinance to a lower rate and smaller payments, only to be in debt for 27 years longer than necessary.  If you’re craving cash flow, are there other areas of your life that can be cut to avoid a mortgage refinance.  

Final analysis:  Compare terms before signing on the dotted line.  Dying with debt isn’t as fun as your weird brother-in-law makes it sound.

3)      Know thyself.  Mortgages aren’t always about math and the “logical move.” I’ve met some pretty broke professors during my time advising families. Instead, often taking on new debt is about knowing yourself.  Can you handle flexibility?  Will you pay extra Here are some options:

–          Use a portion of your savings to shorten the loan terms. Ask the lender if they’ll complete a rate-and-term mortgage, where your payment drops but the length of the loan stays the same. If not, ask what shorter terms are available. You may be surprised that the lender will offer you a lower rate on shorter-term loans.

–          Throw your savings toward larger payments to pay the loan down early. Personally, I like this option. But once again, know theyself.  This would have been the worst option for many of my clients.

Here’s why I like the last option: things happen. When you’re in financial trouble, I like the flexibility of being able to stop paying extra on the mortgage. I have a built-in safety net when times are tough…and over the next several years, who knows what’s going to happen?

I also trust myself to pay extra on the loan.  Can you say the same?  If not, lock yourself in on a shorter term to force yourself to pay more.  You’ll be thankful you did.

Final analysis:  What is your money personality? Are you desperately seeking boundaries or do you prefer long walks in the rain hand-in-hand with flexibility?

4)      Terms. Mortgages, friends, aren’t free. I know. Before you swoon you may wish to sit down. But before you flip out and rush the refinance train, let’s compare costs with benefits. Does it make sense to save a few bucks if you’re going to spend much of your savings in expenses.

Here’s an easy, worthwhile math problem.  If you’re going to save $200 per month and the refinance expenses are $2,400, it’s going to take a whopping two years before you realize a dime of cash flow savings.  Additionally, you won’t wrap your arms around any interest rate savings until much later in the mortgage.  For more on that topic, read this post.

There are no-point, no-cost mortgages available, but they aren’t free either. When a mortgage company agrees to let you off the hook on fees, they’ll recoup the money they lose by jacking up your interest rate a little. Many advisors prefer this again—although they know it’s a higher rate–for flexibility reasons.  For me, it always depended on the client and how high the fees would have been if we’d just paid them.

In this market, I kind of like paying fees up-front. Knowing that historically rates haven’t bumped this low often, there’s a great chance I’ll never refinance again. By getting the fees out of the way now and maybe even paying points to get them even lower, I can save a ton of money now.

Final analysis: Fees are a reality. Decide where you’d rather get hit instead of letting the bank just smack you!

5)      Total debt scenario. Many families separate their credit card debt, car payment and home loan from each other. My brother doesn’t like the different foods on his plate to touch. I’ve never understood either of these.

Think of yourself as a company. All that your board of directors is worried about is the bottom line. Create a total debt repayment strategy. Now you’ll analyze your home debt more wisely:

–          Can I take care of some credit card balances while refinancing?  Note:  remember rule #3 above?  If you’re just going to keep using the credit card, all you’re doing is taking short-term consumer debt and turning it into long-term debt against your house.  If you can’t control your credit card spending you don’t want to lose your home. 

–          What is the refinanced loan going to do to my debt picture long term?  Will I now have a mortgage in retirement? While my kids are in college? Are there ways to restructure your debt to avoid these upcoming cash flow crunches?

Final analysis:  You read the entire map when headed on vacation, not just the next few miles. Include all the variables in your analysis and view your family financial picture as a business to make better decisions.

One area some may be surprised I didn’t include with these five factors.  Don’t try to guess the future direction of interest rates. That’s betting, which is a losing game. Evaluate the current opportunity and whether changing course will help your family or not. Don’t get too interested in your refinance market horoscope.

Joe

Share your refinance fun stories in our comment section!

Federal Reserve Report: Hang On For Rough Ride…

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Here’s a depressing recent headline. Today the Federal Reserve Bank of San Francisco released a report predicting that the financial markets are unlikely to be strong for the next…drum roll please…16 years!

Can this be accurate?

The report, titled “Boomer Retirement: Headwind for U.S. Equity Markets?” illustrates long-range, historical data which suggests that as the boomer generation moves into retirement, they’ll pull an increasing amount of money out of equity funds.  This can only mean increased pressure on stocks for years to come.

This is classic ‘supply & demand’ economics at work here, folks. 

Roughly 10,000 baby-boomers turn 60 EVERY DAY, a trend that will continue for the foreseeable future.  As each of these 10,000 individuals leaves the workforce, they need money to spend in retirement.  Where will their meals come from?  That’s right.  Their spending money will come, in part, from investment portfolios.

As the report points out “…to finance retirement, they are likely to sell off acquired assets, especially risky assets.  A looming concern is that this massive sell-off might depress equity values.”

Take a look at this projection:

According to the research in this report, P/E ratios, an indicator of potential stock prices, is slated to continue downward through the early 2020s before rebounding in the latter half of that decade.

“Figure 2 shows that P/E should decline persistently from about 15 in 2010 to about 8.4 in 2025, before recovering to 9.14 in 2030.”

The report continues: “The model-generated path for real stock prices implied by demographic trends is quite bearish.  Real stock prices follow a downward trend until 2021, cumulatively declining 13% relative to 2010…real stock prices are not expected to return to their 2010 levels until 2027.”

Ouch.  That could sting a little.

So what does this data imply?

Should we all be in bonds until 2030?  Quite the contrary.  There will likely still be bullish trends throughout the upcoming cycle, so it pays to be vigilant. 

Instead, I believe this heralds the end of “buy and hold and you’ll be fine” investing.

This mean you’ll need to be cognizant of market trends and invest accordingly.  What does your advisor think about this report?  In all likelihood, he’s never heard of it, and will probably say something like “Just invest and stick with the plan, and you’ll be OK.”

You can do better.  If you just pay attention to the signs, you can profit from both sides of the market, both the ups and downs.  You just have to pay attention.

If you’d like to read this report for yourself, it’s available here or type in http://www.frbsf.org/publications/economics/letter/2011/el2011-26.html to read for yourself.

I’m interested in your thoughts…post your comments below.

Vacation Without Breaking the Bank

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Summer vacation season. Normally it’s a time of relaxation, family trips, creating enjoyable memories with friends.

Not this year.

With gas prices are through the roof, it’s impossible to think about vacation season without worrying about the cost. Even flying to your destination is painful; airlines recently raised fares to compensate for higher fuel costs. How do you enjoy your summer vacation when getting there might swallow the entire budget? Here are some tips to re-examine your summer travel plans:

1)  Scour the internet for deals. A couple years ago we were in Indianapolis for a swim meet. We stayed at the Crowne Plaza, and thought we had a good deal. A friend staying next door paid half our price by shopping on Hotwire. After that, Hotwire was my first choice for travel expenses.

Then, I spoke with a woman at a hotel in Dallas. She said that if we called the hotel, they will often match the Hotwire or Priceline rate. Why is this important? If the hotel has a reward system, such as Marriott, Holiday Inn, or even budget LaQuinta or Red Roof, you’ll still qualify for points. If you use a cut-rate site, you won’t be eligible for reward points.

If you fly, set alerts at popular flight websites such as Orbitz, Expedia, or Travelocity. You’ll be automatically informed when prices drop. If you aren’t picky about your destination, book late. Airlines and travel agencies often run spur-of-the-moment deals to fill unused seats or hotel beds.

2)  Balance travel against your long-term goals. If it’s going to cost a fortune to reach your destination, consider downgrading your accommodations or rental car. Use websites such as Hotwire or Priceline to compare many different companies. Rather than eat dinner at expensive restaurants, try a nice lunch, where menu items are usually less expensive. For dinner, find a grocery store and have a picnic enjoying the scenery at a park.

3)  Ever try a “stay-cation?” Instead of leaving town, explore local sports teams, the museums, a beach, and friends? Visit local restaurants you haven’t explored. Play board games. Camp out at a local campground. By staying close to home you’ll spend less on fuel and more on fun activities with the family.

Vacations don’t have to require you to spend your retirement savings to be meaningful. By hunting for discounts or exploring options close to home, you can have a both great summer and lots of memories without breaking the bank.