Listen But Don't Trust: Your Instincts

 

Listen But Don't Trust: Your Instincts

 

     Sometimes we make bad decisions and when we make those decision we are rarely thinking, rather we are using past experiences to determine a future outcome on the spot. Think back to when you were a child for the first time you saw people playing pokemon, you saw them laughing and smiling. You knew that from past experiences that kids laughing and smiling signified people having a good time. Automatically you wanted to spend the next 12 months of allowance from your parents on pokemon cards.

...Flashforward 20-30 years...



    

     "Dude, you have to get a pair of these shoes?!?" said one middle aged dad to another "I don't know man, they look pretty lame." said the other middle aged dad "Not the fanciest but they are like work slippers, I can do anything in them, every other guy I know has a pair." Said the other middle aged
dad that was wearing a pair of shoes called CROCS (NASDAQ: CROX).  The third middle aged dad was standing by eves dropping and heard the name "CROCS" and "everyone is getting them" his wife just so happened to tell him that we should start thinking about investing for retirement. He googled CROCS and found out he could purchase shares in their company in hopes to build a future for his family. With the popularity of CROCS the third dad thought he was making a great buy and snagged CROCS at $27.34 on April 27th of 2007 (a bit over a year after going public).
     Middle aged dad went with his instincts, he knew from past experiences that popular things usually do quite well (Pokemon). In a split second his instincts told him that Crocs would be a great investment. However what that middle aged man didn't know was that it wasn't, or there were just better options out there. What You See Is All There Is (WYSIATI), a term created by Nobel Laureate Daniel Kahneman to explain how the human mind makes decisions. We make decisions based off of only what we know from life all the way up to that point and rarely spend the time to gather further information, this is an Instinctual Decision (gut decision). While instinctual decisions have their place for circumstances like heavy traffic or wet floors (life or death situations), they have no place in investment decisions. Investment decisions have good or bad long term consequences, but to ensure that the majority of them become good consequences you must make an Informed Decision.
     Informed decisions are exactly what they sound like, they contain information, information that you do not yet know of but need to know in order to make the correct decision. To make these decisions you must go in search of the information that will help you come to a conclusion, and not necessarily the one that you want, more so the one that you need.

Sometimes fads aren't just fads

     While he made the right decision in putting money into the stock market he made the wrong decision in which stock he chose. He based his decision off of what he knew at the time, the shoes were comfortable and everyone was getting them, he also knew that popular things usually do well so he bought into the stock. But he didn't know alot of things about Crocs as a company and it's industry of fashion retail. He didn't know that it was a fad that was growing at amazing rates but would eventually fall very hard. With a little bit of digging he would have found that fashion retail is a very poor industry to invest in when compared to others, and that CROCS was a poor company to invest in when compaired to other fashion retail companies.
     The stock market is a good neighborhood to invest in, but CROCS is not a good house to entrust your future in, there are literally about 4000 other actively traded companies that you can choose from. While you should not ignore these instinctual decisions you rather should question them. Questioning them will bring about new factual evidence that will either refute or defend your first gut feeling. And if you end up being correct (and bought the stock) then you can rejoice in earnings and almost more importantly a correct decision. But whatever you do, do your own research before you decide, because what you see (or have seen) is sometimes not all there is.



Credit: The Middle Class's Welfare

Credit: The Middle Class's Welfare

     Credit has turned into something much different than it used to be. Credit combined with modern day consumerism has created a trap for the average citizen in which they can fall into overwhelming debt. Do not be confused by "good" interest rates, reward & cash back credit cards, or any other gimmicks to get you to own one. If people could live within their means then credit would not be such an issue for so many.
     Credit started a long time ago presumably when one person did not have enough of their product to exchange for someone else's product that both parties were interested in possessing. Thankfully the party that had enough goods, the creditor was willing to give up their goods to the party with less, or the debtor, because they believed that the other party would give the agreed amount of goods back at a later date. This was more than likely done between people that knew each other in small communities. Their knowledge of each other would give them assurance that the debtor was going to pay their part of the deal and more than likely at little to no interest.  These deals were also largely based off of buying or trading goods that were needed to stay alive.

     In the 1920's the U.S. citizen had access to all numerous manufactured goods but no way to pay for them in whole. This is where today's definition of credit begins. Modern day credit was born when a diner patron couldn't pay for his meal because he forgot his wallet and created credit cards to avoid embarassment again, eventually called The Dinners Club Card.
     Flash forward almost a seven decades and it is 2015 a midst the height (every year is the height that's how it works) of consumerism. Credit has morphed into something extraordinary, very profitable for a few, and potentially suffocating for others. There are many types of credit now, but we will focus on one, consumer credit. Consumer credit materializes itself in many forms, the most popular being credit cards (you can buy almost anything on this), auto loans, and mortgages. Consumer Credit paired with modern day consumerism has allowed millions of families and individuals to buy things that they really need (definition of needed things has changed over centuries) such as adequate housing, transportation, and household appliances. In contrast it has also allowed millions of families and individuals the opportunity to buy things that they really don't "need" at quite a cost.
     Credit is now a very one sided deal what once started as an agreement between friends or family members has shifted into an agreement between corporations and individuals with very little human interaction. Creditors make money off of consumers by loaning out money in a lump sum that will purchase a need or want of a consumer and eventually be paid back in more than full based on the interest rate the creditor will give you.  While many Americans will be able to pay back their debts in full many (surprisingly a lot) also will not be able to, an article published in U.S.A. Today outlined this. One third of all Americans have debt that is negligent meaning they are not paying their bills on time. Those debts have been moved to collection agencies that will take a debtors assets in order to pay off the debts, meaning you would lose the goods (or other assets) you took a loan out for and not get back any money you have already paid toward the debt. However the majority of people that are negligent aren't negligent on mortgage debt, which is generally regarded as good debt.


Taken from myFICO.com

      Credit has been so ingrained into our society that it is almost impossible to live life without ever taking out a loan or owning a credit card. This has led to a way to evaluate someone's ability to repay credit, behold the almighty Credit Score. It allows corporations to evaluate you as a customer, the higher the score the less risk you are of not repaying your debt/credit. You get better credit by paying all your bills on time credit, loan, rent, utilities, etc.      Should I take out loans or own a credit card even though they are "bad"? The short answer is Yes, but the longer more painful answer is no. Most people don't have the funds or the patience to pay for everything with cash which is why loans and credit are so popular today. It is also extremely hard to buy a house without a good credit score or any credit score at all, almost forcing you to build credit through loans or a credit card in order to have a score to get a mortgage. If you are unwilling to go against the norm you have to make the most out of this horrible situation. First thing is first, stop buying things you don't need, luxury is good for personnel morale but don't make it a habit. Never, I repeat NEVER carry a balance (money left unpaid on your credit card month to month) on your credit card. If you carry a balance on your credit card you will soon figure out why 1/3 of Americans can't pay their bills because of the ungodly interest rates that they hold, usually around 15%. Build up a savings of about 3-6 months of your monthly expenses in order to pay for emergency bills like car repairs or even worse, income if you lose your job.
     If you want to go the rebellious route you must be an extremely financial savvy person to buy everything in cash. This requires you to build a huge savings for surprise purchases like housing or vehicle repair or for planned things like appliances, cars, and houses. To prevent yourself from waiting till you die to buy anything, living within your means will help as well. Just ask yourself if that dryer that folds your clothes, car the drives itself, or house that has one too many bedrooms is worth it. It might be perceived as a harder life but you will own your house, car, appliance outright the moment you buy it. There is nothing better than not having a monthly debt to pay off and you can brag that you paid for your possessions in cash, most people can't do that. But don't worry with a spot on budget and patience you can accomplish all of these things.


From creditcards.com

     The concept of buying things on credit has morphed from a gesture of good will to an opportunity to make money off of someone. Reallistically it is unlikely that you will be able to live your life to a standard you deem liveable without taking on any debt, most people that own credit cards have multiple ones. The best course of action is to live without it until you truly need it to buy a house or car, pay for school, or pay any emergency bills (that your savings can't cover). And lastly live within your means and try your best to not take out a loan for frivolous things like self driving cars. Trust me, accomplishing the "American Dream" will feel much better if you do it without the "middle class welfare" that we all know too well.

     

     

     

Five Basic Financial Tips

The Top Five: 

A Few Basics For Everyone

     In order of importance here are the things you need to focus on to insure you can secure your own future: 

1. Get an education 
2. Pay off your debt quickly
3. Get insurance 
4. Save for emergencies
5. Invest your money as soon as possible

     

     Getting an education is one of the single most important things anyone can do in their life to secure their future. It is as easy as looking at this graph I found in the "College Pays 2013" 

When you acheive a higher education you are more likely to earn more money. The median income of a person with a Bachelor's Degree is more than 60% over that of a person that only received a high school diploma. This graph doesn't show you that you are also more likely to have health insurance, pension plans, lead healthier active lifestyles, and yes are more likely to have a job. 

     But college costs way too much, can't I just get a decent job right out of high school and earn money while college kids are studying? Yes you could but as the study says the average college graduate will earn enough by age 36 to compensate for the four years they were out of the workforce and the expenses of tuition & fees. To top it off the gap between high school diploma and bachelor's degree earners widens with age giving more of a long term incentive to obtain a higher education. 

     Paying off your debt comes in at a close second in the realm of intelligent financial decisions. First, avoid debt at all costs! I can't stress this enough because debt comes with interest and that means you are actually paying more for the money you borrowed. For example, you buy a house worth $200,000 at a 3.7% interest rate with a 30  year term. If you pay off your house in that 30 year period and pay your exact amount monthly of $920.57 you will have paid $331,405.20 for that original $200,000. I am not saying you shouldn't take out mortgages, credit cards, or student loans. What I am saying is you should pay for the things you want in cash if you can, if not then Pay off your debt as quickly as possible!
     This brings me into the second part of this debt portion. Focus all of your financial ability on paying off your loan as soon as possible without neglecting other necessary things. The sooner you pay off loans the less money you are losing. Take a look at that loan again from the last paragraph, same principal (original money borrowed),  same interest rate, same term, same minimum payments. But you decide to pay more than the minimum by $300, which is called pre-paying a loan. If for the rest of the life of the loan you pay $1,220.57 you will save $52,425.12 and pay the loan off almost 11 years early. While this is a bit of an extreme case it applies to all types of debt and in special cases like credit cards you can get away with 0% if you pay off your monthly balance.

     The worst part of insurance is that it is usually quite expensive and you don't get much out of it, a part from housing and loans it will probably be your third largest expense overall (vehicle, property, health, etc.). One common example is insuring a vehicle. In 2015 it cost on average $1,403 to insure one of the most popular vehicles, the F-150. That coverage gave you $100,000 single injury, $300,000 multiple injury, and $50,000 property damage.But some may decide insurance is too expensive and you would rather save the money. If you don't get pulled over or get in any accidents you will save money. If you get pulled over you face a list of legal actions possibly including losing your licence (could lead to losing your job), registration, traffic tickets, and other fines. If you get in an accident you may possibly become liable for injuries and property damage that occurred in the accident. Check out these statistics from Rocky Mountain Insurance Information Association:

"In 2013, the average auto liability claim for property damage was $3,231; the average auto liability claim for bodily injury was $15,443. In 2013, the average collision claim was $3,144; the average comprehensive claim was $1,621"

     While the average amount of coverage people buy may seem outrageous it isn't when you realize what might happen in a serious accident that was caused by you. If you cause a crash in which a vehicle was totaled, say that vehicle was a 2015 Ford F-150 it would cost you almost $35,000 if you weren't insured to buy them a new vehicle. If that person was seriously injured say a fracture in their lower body you would be liable from almost $6,000 (single) to almost $40,000 (multiple fractures). If you don't have cash to cover that they will come after your assets like cars, house, or any valuables.
     This information is just for one car in one accident! What if you are the sole cause for multiple cars being totaled? That would equal your finances being totaled, that is if you were uninsured. Bottom line, get insured, and not just automotive, purchase health, dental, vision, property, etc. as well.

     You can usually buy insurance for just about anything, but sometimes it just isn't cost effective to do so. That is why you save for emergencies. Think of it as paying yourself for an insurance policy. These emergencies include things like home repairs not caused by natural disasters (average of 1-4% of homes value per year), vehicle repairs not caused by accidents (average of almost $400), and the loss of a job to cover monthly expenses while job searching. The average emergency savings you should have on hand at one time is 3-6 months of your current monthly income.

Average Vehicle Repair Cost

     The last thing I would like to talk about is investing your money. This is a pretty scary decision for most since there is risk involved in it, the risk of losing your money that you invested. This is especially so for young people that have entered the work force and don't understand the concept of saving for retirement. For those that don't really understand it simply look at the following example. This graph will

show how much money can be amassed  if you start contributing the maximum of $5,500 (about $458 montly) to an individual retirement account at the age of 22 and didn't take it out until the age of 65.

I would like to point out that the average mutual fund will return about 8-12% annually. This will give you according to the graph anywhere from $1.8 million to well over $3.2 million. This however is very dependent on the stock market and the risk you are willing to accept in your investment portfolio.
     The next question would be, will that money last me through my retirement? This is very dependent upon your lifestyle, however either of those numbers should be more than enough to live comfortably baring financial disaster. Here is why, when you finally hit your retirement your investment portfolio will be converted into something that is much more risk averse and easily liquidated for income purposes. These types of portfolios only give returns of about 3-5%. While this return rate is low it serves the purpose of not having to withdraw any money from the principal (money you started with at retirement) and living off of the interest you will receive. To get a better picture of how your $1.8-$+3.2 million will serve you in retirement take a look at this next graph. Note that this graph is based off of retiring with 30 years left to live in life at an annual rate of return of 3%. The bottom axis will tell you what your monthly income would be based off of the the amount of money you have saved at retirement.

     Right off the bat you might notice that our minimum return ($1.8 million) that we had figured would bring us a monthly income of $8000 ($96000 annual) in retirement. Our top range of $3.2 million which isn't even on our retirement graph would last us 32 years at a monthly income of $13000 ($156000 annual). While these incomes are all fine and dandy I would not recommend drawing the maximum that you can while being able to live 30 years on the money. This will give you a buffer for financial disasters and if all goes well give your children a nice inheritance.

     It all starts with an education, paying off that education as quickly as possible, purchasing insurance for the things you buy in life, saving for the uninsured things, and investing in your retirement. Balancing the top five is difficult at times and they are not the only things in life that will matter financially, however if you follow them to the best of your abilities you should end up in a secure position once you would like to retire.