Last Word on Money: September 2018

Friday, September 28, 2018

Being Smart Rather than Greedy

I should be accustomed to it by now—the contradictory financial advice we get from newspapers, television, radio talk shows, books, and the buddy at work. It’s not all bad advice, necessarily. In fact, it might all be right (sometimes), but only for certain people.

This week I read an article lamenting the fact that people are taking so much money out of stocks and putting it into bonds. Stocks, in fact, had a net outflow of money while bonds had a significant influx of investment dollars over the last calendar quarter. The authors pointed out that people investing in, or transferring their money into, bonds were losing out on the money to be made in the current, record-breaking rise in the stock market.

Well, yeah, that’s probably true. But on the other hand, isn’t that exactly what financial experts have preached at us to do? When stocks are flying high, it probably means two things: investors’ have accumulated a lot of money in their accounts, and their portfolios are out of balance, with too much money in equities (stocks) because of the outsized growth in their value. So what should these people do? This is exactly the scenario in which they should harvest some of those stock gains and put it in safer investments to protect against the next downturn. It’s called selling high, and it’s a good sight better than selling an investment when it’s low and you don’t make as much on it.

What the authors of that article are forgetting is that no one can reliably predict when the market has reached its peak and stocks are at what will be their highest price before beginning to fall. That would theoretically be the best time to sell and make the most off your investment. But that is called market timing, and it’s impossible to master. I suspect that many people—the ones putting their money into bonds now—are betting that the stock market is going to start falling soon, so instead of waiting for the mad rush to sell later as prices drop precipitously, they are moving out of the high-priced stocks and buying low-priced bonds. It’s smart investing and in this case the opposite of greed.

Bonds generally have a reputation as a safe, revenue-generating investment during retirement years. That, in fact, might be another reason for the rush to bonds: more people are retiring. What’s the figure I heard quoted: 10,000 Baby Boomers retire every day? If they are investing in bonds to reduce their risk of losing a ton of money just as they are entering retirement, aren’t they just being wise? After all, a severe market downturn in the first few years of one’s retirement can, if not planned against, increase the odds of running out of money late in life.

That is exactly the strategy I’m following. I’ve gradually been moving more money into short-term bonds. They make me only very modest gains in value, but they also give me diversity in my investments and a small measure of financial protection. (I keep remembering that even bond funds took a big hit during the last recession.) And it’s a strategy that I’d bet a lot of others who are not at retirement’s door are following. They are rebalancing their portfolios so they are not too heavily into one market segment but have a balanced diversity. Financial gurus have been telling them for years to at least annually rebalance their portfolios, especially in a rising market like this one. Now they are doing it. They’ve been listening. Maybe they learned something from the recession, which was largely caused by stupidity and greed. That would be an encouraging sign for the future. Now if only the financial talking heads will leave them alone.

Until next time,

Roger

“Invest in seven ventures, yes, in eight; you do not know what disaster may come upon the land.” Ecclesiastes 11:2 NIV®*

*Scripture quotations taken from the Holy Bible, New International Version® NIV®

Sunday, September 16, 2018

Torching the FIRE Philosophy

Last week I wrote about FIRE, the “financial independence, retire early” philosophy embraced by tens of thousands of people in a type of financial subculture. I enumerated a handful of commendable methods and aims of its adherents, including living simply and below one’s means, saving, and investing reasonably instead of pursuing quirky or suspect get-rich-quick schemes. But I have a couple of problems with FIRE.

Money magazine, which ran a feature on the movement this month, pointed out that many of its followers are young, mostly millennials, the majority of whom have never weathered a real recession or bear market during their adult years, or at least during their investing years. They are probably getting giddy over the heights to which they’re riding with the stock market soaring. Hopefully they are sticking to the advice to invest simply and are not chasing too-risky investments. But even if they stay in low-cost stock index funds, what goes up must come down. The stock market will come back down eventually, account balances will fall, and it may become harder to live on the proceeds of investments without touching the principle amount.

That, in fact, is what I perceive to be the fundamental weakness of FIRE. Vicki Robin, who wrote the FIRE “textbook”, Your Money or Your Life, says the magic moment for “FIRE walkers” comes when they can live on what their investments earn (interest, dividends, growth in value). At that point they can fulfill the “retire early” part of the dream because then they are financially secure.

But are they? If companies start reducing or skipping dividend payments, income drops. Ditto if interest rates take a dive during a recession or corporations—or even municipalities—start failing and default on their bonds, a supposedly safer investment for retirees that generates regular income. If a retiree has to dip into principle to meet his income needs, there is that much less principle to generate income the next year, meaning he will have to withdraw more.

There is nothing wrong with drawing down principle. I expect to do that most years during my retirement because I doubt stock growth will outpace my spending, especially in the down-market years I expect after I retire. But then, I am not retiring early. The 3% to 4% annual savings withdrawal rate (regularly adjusted for inflation) that is recommended by many retirement planners has been shown to be a pretty safe way to make savings last 30 years or more.

But what if a FIRE walker retired at 35? Touching the principle amount becomes a risky proposition for him. He needs his savings to last beyond age 65, maybe to age 95 or older. Can investment earnings and principle keep pace with market fluctuations and inflation for sixty years? Yeah, inflation is another stranger to millennials. The earnings that investments brought the investor this year to cover expenses might not be enough in five years. FIRE, as a practical philosophy of investing/saving/living, has not been thoroughly tested by the whole range of market conditions over a long period of time.

I would point out, too, that some of the strongest proponents of FIRE are not themselves good examples of how FIRE can work long-term. These folks, in their forties and fifties and long after they supposedly retired, are out there promoting the philosophy and telling how they did it at seminars that cost hundreds of dollars to attend. These FIRE teachers, then, are not really retired early at all, but are making money off the people who do want to retire early.

Finally, I am not comfortable with the notion of early retirement—not in the sense of retiring in one’s thirties, or even forties. Being healthy and having loads of free time usually adds up to spending more money, whether for hobbies, traveling, eating out….whatever. It would take a great deal of discipline to hold that in check for several decades. Even more fundamentally, though, I think people can too easily lose their direction and purpose in retirement. Employment, for all its hassles and stress, does tend to give us direction, meaning, and goals to which to work. It also provides a social outlet of sorts. These are things that actually contribute to a longer and healthier life, assuming the employment is not dangerous or dangerously stressful. Can a 40-year-old retiree maintain anything other than a hedonistic purpose in life? If he can retire and devote his life to a higher purpose than himself, that is commendable and, in my opinion, the only good reason to retire early.

I am not a FIRE walker. I want to enjoy now the things I like—in moderation. So living on an extreme budget for the purpose of retiring early does not appeal to me. I save, I give, but I also spend, and not always grudgingly and for just the essentials of life. I will retire—not early but hopefully while healthy enough to enjoy the time and be able to devote some energy to higher causes.

Choose wisely, and be careful what you wish for.

Until next time,

Roger

“I know the best thing we can do is to always enjoy life, because God’s gift to us is the happiness we get from our food and drink and from the work we do.” Proverbs 3:12, 13 CEV

Friday, September 7, 2018

FIRE is Spreading. Is that Good?

According to Money magazine, the 1992 best-selling book, Your Money or Your Life, has found a new and enthusiastic readership among millennials. That age cohort comprises the heart of a movement known now as FIRE, for “financial independence, retire early”.

I have to admit, that is an appealing concept. Who doesn’t want to be free of money worries or of being dependent on a job that brings no joy or fulfillment just to be able to pay the bills? And retire early while you’re still young enough and healthy enough to enjoy the free time—what could be wrong with that?

There is plenty right with FIRE. Adherents make a habit of evaluating potential purchases in terms of “real cost”, i.e. not just dollars and cents but the amount of time or life energy it took to earn those dollars and cents. I’ve done that—still do sometimes. Early in my career it was an exercise in anxiety and stress as I counted up the bills against the time I had to work to earn the money to pay them. Lots of people complain of running out of money before the month is over. Imagine running out of time each month. It was frightening. But for someone in a reasonably secure financial state this technique can be an excellent way to stop impulse buying and encourage wise shopping.

FIRE also encourages simple living. The goal is to live on less and invest the savings. So the more diehard FIRE fans scorn eating out, grow their own vegetables, hunt for their own food, repair their own cars (if they even own one), and re-use everything they can. If this sounds to you like a hippie community (forgive me if the term sounds derogatory or anachronistic), you would not be far from the truth. But we should not stereotype “FIRE walkers”, as some call them. As with any group of human beings brought together under a common cause, there is wide diversity in motivation and technique. Not all of them eat homegrown garden salad in their own kitchen every night by candlelight. They will go to a nice restaurant; take consulting jobs; drive a car every day. You may be well acquainted with a FIRE walker and not even know it.

What about the “retire early” part? Vicki Robin, author of Your Money or Your Life, outlines a nine-step process to achieve this goal. It is not a get-rich scheme. It is to live on less and save until you reach the so-called crossover point at which your investments generate enough income to sustain that simple lifestyle without having to touch the principle amount. This offers the opportunity to retire early. To her credit, she does not recommend high-risk investments or unproven financial strategies to get to that point. Low-cost mutual funds and exchange-traded funds (ETF’s) along with simple real estate strategies are her favorite vehicles for saving/investing. As I said, there’s lots to like about FIRE.

Is FIRE for you? Don’t get fired up too quickly. Think about the pitfalls, and in my next post I’ll share what I don’t like about this movement.

Until then,

Roger

“Therefore I tell you, do not worry about your life, what you will eat or drink; or about your body, what you will wear. Is not life more than food, and the body more than clothes?” Matthew 6:25 NIV®*

*Scripture quotations taken from the Holy Bible, New International Version® NIV®

Monday, September 3, 2018

Another Government Program Too Good to be True

After writing in my last post what a bad idea it is for seniors to go into debt to pay for a child’s or grandchild’s education, I’m going to go a step farther and encourage even the student to shun student loans, or at least minimize what is borrowed to fund college attendance.

Being awash in debt, even for a good cause like obtaining higher education, saddles the borrower with years of payments, with no guarantee of a high-paying job to meet the payments and still maintain even a modest lifestyle. Countless students fell into this debt trap in the early 2000’s and then found themselves graduating into the beginning of one of the nation’s worst recessions where they were unable to find decent-paying jobs. I believe it’s happening again. We’ve been riding high for over nine years in the recovery from the last recession. Students (and not just students) are mortgaging their future with the debt they are incurring.

But the truth is, it doesn’t take a recession to do the students in. The labyrinth that is the federal student loan program is enough to do that. I’ve read or heard stories in the last month on CNBC, Mother Jones magazine, and NPR about students who graduate with relatively modest loan balances but by accepting loan forbearance offers to get them through a financially lean time end up owing much more than was actually borrowed. The plans that cap monthly payments at a certain percentage of the borrower’s income are no better. One former student, now age 61, had borrowed $55,000. Several times he went into a period of forbearance. The accruing interest was tacked onto the loan, and today he owes $300,000. This may be an extraordinary case, but only in degree. Similar stories abound.

The Public Service Loan Forgiveness program is no better, and might even be worse. It holds out the carrot for borrowers that go into government or non-profit public service jobs of having their balances forgiven after ten years of payments. But the rules for the program, the many exceptions and “gotcha” fine print that can disqualify someone from participating—even after making years of payments—have brought financial disappointment and grief to many others.

What’s the lesson here? Besides eschewing debt, students and their parents need to be wary of government programs and fast-talking college financial aid officers. The latter clearly have an incentive to paint a rosier picture of the repayment period to get you to borrow and enroll in their school. But even upon graduating, they may continue to do you financial harm by encouraging wrong decisions. You see, schools can lose their ability to participate in federal aid programs if too many of their graduates default on their loans within the first three years of repayment. But a student in forbearance during that period of time cannot be counted against the school’s record. This incentivizes the school to recommend that route over wiser courses of action. In the end, the borrower will owe much more and likely find repayment harder; but by then his misery will not be the school’s problem.

And the design of the student loan program? Like so many government plans, it sounds good on paper and maybe even came with lofty aims by the originators. But it is still, in the end, a government program. It is nearly impossible to navigate it safely these days except by the most savvy (and fortunate) of borrowers. And this cannot be blamed on one political party over another, one administration over another, or even one Department of Education secretary more than another. This is a mess decades in the making. Steer clear of it if you are approaching college years, for yourself or a loved one.

Until next time,

Roger

“When that servant went out, he found one of his fellow servants who owed him a hundred silver coins. He grabbed him and began to choke him. ‘Pay back what you owe me!’ he demanded. His fellow servant fell to his knees and begged him, ‘Be patient with me, and I will pay it back.’ But he refused. Instead, he went off and had the man thrown into prison until he could pay the debt.” Matthew 18:28-30 NIV®*