Invest your savings!

This post was prompted by a recent exchange with some friends – and judging by articles I’ve read, it’s a pretty common situation. Many folks are simply keeping their savings as cash in their bank accounts or paying off their student loans with it. Maybe the recession made them more cautious or maybe they just never thought about investing.

I feel folks are missing out here, so here are my thoughts:

  1. Don’t pay off your low-interest debt early. There’s no point in paying low interest debt early, especially if you have student loans in the <3% APR range – unless you plan to keep your cash under the mattress, which leads me to my second point;
  2. Don’t keep your cash under the mattress. I mean it both figuratively and literally. Let your money work for you.
  3. Figure out the risk level you’re comfortable with. That means both the “liquidity” that you want at hand, and risk tolerance (i.e. willingness to risk losing your money). You can then devise an investment strategy to manage for those constraints. For example, if your only concern is to have at least 50% of your savings on hand in case of need – you can still put ALL your cash into a stock and be 100% certain you’ll have cash if needed.
  4. Figure out how active / involved you want to be. Do you want to do your own research on companies to invest in, are you going to track your investments regularly, or just want to put your money into an account, and then check up on it a year later.
  5. Invest. Make a strategy that fits your needs, and let your money work for you.

Now, let me explain:

The richest people in this country make $$$ by borrowing money at a lower rate, and then investing it for higher returns – keeping the difference. A lot of people (especially from certain cultures) hate the idea of debt, and like to pay-off loans just to feel better – but the reality is that if you can manage your money, and put it to a good use, debt is no different than a wrench – it’s just a tool to get the job done.

Keeping money in a no interest bank account does nothing for you – in fact it just deflates. (It does help the bank do what I mentioned above – get free money from you, and lend it to others at a premium.) Considering the returns on bonds, CDs and such, I would highly recommend investing in stocks, especially if you’re in it for the long run. Commodities and such are an option too, but I would advise against that as your first step into investing. Low load Exchange Traded Funds (ETFs) are probably your best bet, unless you have a set of companies that you really believe in or just want to hand-pick your stocks. Either way, stocks (or equity based investment funds) are a better option than bonds in the long run – over any 10-year historical period, stocks have outperformed bonds. That is, if you buy at the market high, right before a crash – you’re still ahead 10-years later.

Stocks and ETFs are very liquid, so if you need the money out, you can close out any position(s) and have the funds in your checking account within a few days. So if liquidity is your only concern, this shouldn’t stop you from investing 100% of your savings in the market. I’m not necessarily recommending that, but it’s what I’ve been doing for a few years now. Last year’s 40% gains were surely a nice reward for that view. The main question however is whether you expect a forced sale event: e.g. what if you get laid off at the same time your investments take a (temporary) dive? If you buy high and sell low, you’re not winning. In my case, I just assume that between unemployment benefits and credit cards, I’d have some slack to manage through the thick of such a double-whammy.  As Warren Buffett said, the risks of being out of the market are higher than risks of being in it. =)

Speaking of buying high and selling low – you may hear folks say that right now is not a good time to move into the market because it’s had such a good run, and it’s due for a downward “correction”. Well, whoever can accurately predict that, will most certainly make tons of cash. For us mere mortals however, I would not worry about market timing (in fact, most commoners get it wrong).  You can start moving money into stocks in tranches – for example you could invest $50,000 by buying $5,000 of stocks per week for 10 weeks. You’ll buy some high, buy some low, and hopefully get the benefits of “dollar cost averaging”. The downside of not moving in at once is that you’re further delaying your investment, and missing out on earnings.

So now, the question is where to put your money? Certain stocks have done well for me lately: AMC, BAC (Bank of America), MSFT (Microsoft), QCOM (Qualcomm), AAPL (Apple) and even F (Ford). I am happy to make my picks… and enjoy (or suffer) the resulting volatility and performance. The implied statement there is that I know how to pick stocks that will outperform the market, which may or may not be true. (And by definition, half the people are bound to get below average earnings.) So, if you think you can pick well – go for it! Maybe it’s a tech firm you think has potential, or an old stalwart that’s weathered many storms… or a smart pick from a professional newsletter. You can go for growth stocks, dividend yielding ones, etc.

You could also invest in actively managed mutual funds – betting that the fund manager can beat the market. If you read “A random walk down Wall Street”, you’d be persuaded otherwise… but there are plenty of pros making the big bucks for their clients. Again, the key is in picking which one to put your money in. This is a bit like picking stocks to invest in, but you’re likely to reduce your volatility.

The more humble approach is to get into an ETF (say like an S&P 500 one) and just ride the market. You will be making the market returns (historically ~10%), minus a small fee. Chances are you’ll do better with an ETF than with options above, especially if you don’t want to micromanage your investment. You also have a certain level of security, if history is any indicator of future performance. Let me explain that by showing the S&P 500 best and worst five years:

Five Best One Year Performances (in %)

1954       +45.02%

1958       +38.06%

1995       +34.11%

1975       +31.55%

1997       +31.01%

Five Worst One Year Performances (in %)

2008       -38.49%

1974       -29.72%

2002       -23.37%

1973       -17.37%

1957       -14.31%

You can see two points above: shocks up are bigger than shocks down (on a yearly basis) and it would have to be the worst year ever for you to lose 40% of your cash. I am making this second point as people are often too conservative with their investments – even if you’re retired and living off your savings, you should still have a portion of your money in stocks.

Hope this helps!

Taxed vs. Withheld Income – What’s the Difference?

This is an area of common confusion, and not just among the “laymen” and employees at a company, but even among the HR professionals. I have heard many folks complain how their bonus is taxed at a higher rate, and it’s barely worth anything. I have seen numerous HR e-mails about supplemental payments, such as bonuses, vacation cash-outs and similar, being taxed at a higher (40%) rate. This is simply incorrect.

What many people are confusing is the withholding rate versus the tax rate, which are quite different. Withholding is just that – an amount withheld by the employer and paid to the government, until the tax bill is settled. The tax rate is the amount we actually pay, based on the full picture, including total income, deductions and other tax considerations.

While withholding aims to match the tax rate, it is simply an advance payment toward our year-end tax liability.  For employment income, it’s a rough calculation dependent on the projected yearly income and filing status (single or married, number of exemptions) as reported on the W-4 form.  This simplification is why virtually everyone either owes taxes or gets a refund at the end of the year.

For supplemental payments, which are currently withheld at the higher rate of 40%, many people think that they are actually paying a higher tax rate. The reality is that IRS doesn’t really know if you got $50,000 in salary and $20,000 in bonuses or $69,000 in salary and $1,000 in bonuses. All they see on the W-2 form is that you received a total of $70,000 from your employer. You will pay the same tax on it, whatever the distribution between the base pay and supplemental payments is. Therefore, the tax rate on supplemental payments is the same as on the rest of your employment income.

One thing to note is that as your income goes up, your tax rate will increase too (all else held equal) – so effectively a bonus or a pay rise does have somewhat diminishing returns. The exact impact of course depends on your specific tax situation.

How to Get Time Back!

I was reading an older issue of the Harvard Business Review and found this article titled “Stop Wasting Valuable Time”.

It had a great list of things we can do to be more efficient at work and make better use of the most limiting resource we have: time. I spend a lot of time in meetings, managing a fair amount of them, and I thought this was a good refresher on things to keep in mind:

  1. Deal with operations separately from strategy
  2. Focus on decisions, not on discussions
  3. Measure the real value of every item on the agenda
  4. Get issues off the agenda as quickly as possible
  5. Put real choices on the table
  6. Adopt common decision-making processes and standards
  7. Make decisions stick

This list addresses a common issue with meetings, where agenda setting is unfocused and undisciplined, often being a hodge-podge of items that different participants wanted to bring up. When we stop and think about it, I think we can all realize that meeting agendas need to be thought though, and prioritized accordingly. Some items simply don’t need the full team’s attention, while others may be urgent.

This leads me to the next point – urgency often seems to set the agenda, which may be good for an operations focused meeting, but this may come at a cost to planning and strategic decision making. If we are always focused on the hot potatoe, we may not leave enough meeting time to preventing the future issues from occuring. Allocating time among these is key.

Another issue I’ve noticed has to do with making sure everyone in the room agrees on what was agreed on. At times, this may be due to the team simply going off-course in the discussion, and never formally giving thumbs-up or down to a proposal, even though everybody agrees on what the decision oughta be. At other times, no decision was ever actually made. Or, as I’ve often seen, as the meeting time expires and people start getting up to leave, somebody we’ll make a statement “ok, so we have decided that.. “.

While it may not be always easy to manage a meeting room, it’s important to leave enough time on the agenda for the actual decision making, and ensure the final decisions are clear and documented. I believe that managing the meeting time effectively, can both reduce the time we spend in conference rooms, and improve a company’s information sharing and decision making processes.

Save on Auto Insurance: Pay in Full!

I have noticed that many folks I know pay their auto insurance on a monthly basis. This seems as a convenient option, allowing for budgeting and spreading out your cost accross the year. They can also auto-deduct the amount from your account, so there are no bills to think about, checks to send or stamps to buy – as long as you have the available balance in your account, you’re good to go.

The question though is, does this make financial sense? While the terms may change from insurer to insurer, my auto policy is as follows: I can pay in full upfront, or get billed monthly for my premium plus a 16% APR interest charge. It’s this last piece that changes things – it’s a ridiculously high interest rate for anyone with a decent credit.  If you have the cash to pay for this upfront, do it. It’s unlikely that you can get a better after-tax return on you rmoney somewhere else.

If you don’t have the money to pay in full upfront, pay what you can as early as possible. You can consider getting a balance transfer, and pay much less in interest. For example, if your insurance premium is $1800, you can end up paying about $145 in interest.  A recent balance transfer offer I got was 0% APR for almost a year with a 4% balance transfer fee, resulting in an effective finance charge of $72. This is a quick way to save about $70 – by simply paying off your insurance bill with a balance transfer check, and then making the monthly payments to your credit card.

My advice is simple: pay off your highest interest debt first. Monthly insurance bills carrying a finance charge are no different than credit card bills, even though you’re technically paying as you go.

A Simple Rule for Lottery Pools

A few weeks back I wrote about buying lottery tickets and whether it was a good investment or not. Well, turns out that low odds are not the only thing working against you!

In the historic Mega Million jackpot last month, over $600 million was awarded to lucky folks, although not without any controversy. One of the alleged winners was actually part of an office pool, however she claimed that she bought the winning ticket separately, and therefore the winnings were all her’s!

I’ve read a few blogs and articles discussing this, and whether she should have been a part of the pool if she was buying her own tickets (or vice-versa), whether she should share the $$ with the pool, etc.

While I don’t have the answer to these questions, I do have a simple rule to avoid getting into this type of situation in first place: Scan the lottery tickets, and e-mail them to all pool participants! Ok, some folks may not have a scanner ready – but there’s plenty of options here. Photocopiers are everywhere, digital cameras are very common, and let’s not even mention camera phones and smart phones.

Just like with any potentially important transaction, make a record of it, and keep it just in case.


Biggest Cyber-Security Risk?

A recent Wall Street Journal article focuses on an important issue – cyber security, and specifically what puts companies at risk: employee behavior! I would consider this claim as common sense. Just like with physical security, one could have the safest fort in the world, but if someone opens a door from inside, you have a problem.

So what are the top “no-no’s” for employees?

  1. Clicking on phishing links: You’d think that people would know better by now, but this is still an issue. Part of the problem is that scammers have gotten better about this: spell-checkers are everywhere (even here in WordPress!), a lot of company or employee information can be easily gained online, and the stakes are bigger. While their targets (us) have wisened up, we are also doing so much business via e-mail while frequently multitasking, that it can be hard to keep your guard up 100% of the time. The trouble is, sometime you need just one employee out of thousands to make just one mistake, and you could possibly compromise your network & data.
  2. Over-sharing information: So much information is posted online these days, making it easier to create more targeted social engineering attacks. (OK, now this got me thinking how much detail do I want to post here.. hmm…)
  3. Using personal e-mail accounts: I’m not sure how much it is that these accounts are inherently less safe (i.e. can be accessed with any equipment from anywhere in the world, with a simple password), versus people just being less careful (i.e. checking e-mail on questionable machines and networks, using less safe passwords, etc.) but the article cites a few notable cases of account hacking.

So, the bottom line is – don’t open the metaphorical door to strangers, or tell them what the secret knock is.

Subscribe and Save

Subscription type purchases have been common for ages, so it’s no wonder that Amazon has a “Subscribe and Save” service where you can.. well.. subscribe, and save. (quite self explanatory). My question though is what the true benefit to the consumer here is. An advocate could bring up several points:

  1. Savings: If you already need to purchase this product, why not subscribe and get a discount for doing so?
  2. Convenience: Stuff you need shows up at your door, you just need to receive and open the package. Assuming you select the right frequency and quantity, you won’t run out of the desired item, and can save yourself an emergency trip or two to the local store.
  3. Support your favorite store (if you care to do so).

I can surely see items that require regular orders – groceries, pet food & supplies, etc. However, there are certain items that I am not sure why you’d want a regular deliver for – like this Headlight Restoration System deal! I have nothing against this product, but I am a bit confused here – would I really need this product every month and if so, wouldn’t that imply that it’s not really good quality? In all fairness, I could set the deliveries to be less frequent, and even manually skip a few, but still… this is just not an item I envision needing to purchase in regular intervals.

The good part is that Amazon has really great and easy to use setup for the “Subscribe and Save” feature, allowing painless subscription management. You can cancel at any time, or change the delivery frequency, and they even send you a reminder email before shipping the product out! So no harm in signing up, checking the product out, and then adjusting your future orders accordingly.

Saving on Auto Insurance

Every time I hear one of those Insurance ads claiming “people who switch to [..] on average save $x” I chuckle a little bit. Of course that people that do switch insurers save money – that’s why most people switch in first place! The statistic they provide is useless to most people, as you have no idea what your actual saving, if any, would be. What they’re telling you is that of all those people that get a quote from them, some (maybe a majority, maybe a small minority) will switch insurers, and on average save x amount of money. The only valuable piece of information that a consumer is getting here is that shopping around, be it for insurance or any other service or product, is usually a good idea, and you may find a cheaper provider.

I just find it funny how numbers are used in advertising to suggest things. The message that they are trying to imply is that if YOU switch to THEIR company, YOU will save money. Now, they can’t say this outright, as there will be some percentage of folks who won’t save by switching. What would be useful is if they provided a statistic, saying “20% of folks who call us switch, and save $400 on average”. Now I know that my expected “ROI” for calling them to get a quote, and spending 10-15 minutes with their agent is 20% x $400 = $80 / year. Assuming I don’t earn more than $320 / hour, this is now a valuable use of my time (for simplicity, I’m ignoring future years’ savings). However, if only 5% of people save the quoted amount, and I expect to spend 30 minutes for the quote, my expected ROI is only $20 / year – so $40 / hour of my time, ignoring future years’ savings. Not bad, especially if you assume future year savings, but not nearly as attractive as the first scenario.

Now, while the premium paid is likely the top concern to most folks when choosing an insurance company, I am almost concerned switching to a lower cost provider. While there is no guarantee that a higher cost company will provide me with a better service or value, I am curious to know how they can afford to charge me less. Where is it that they’re saving money on? They could have better actuaries, or at least be able to better assess your “risk level”. That said, they could also be undervaluing your risk level, and giving you a break by mistake. (This works for the individual consumer, as long as it’s not a widespread problem which would cause the insurer to default.) What I’m concerned with thought is that you just may be getting a worse value – and get short changed when an accident happens. How will the insurer treat you when you need them is just as important as what you pay upfront!

Smart Grid Forum

Yesterday I attended a pretty interesting forum at UCLA, titled “Smart Grid Thought Leadership forum”. The program included several speakers form the industry, government / regulatory agencies and academia and has refreshed my view of the field.

There were a few memorable quotes and comments that I remember:

Commissioner Peevey was the keynote speaker and made some interesting remarks. Unfortunately, I missed most of his speech (thank you LA Traffic), but the few bits I heard cought my attention. The most interesting one was about the current rate design, and how it needs to be changed. This is a big deal – the changes, if significant, will not only impact the end customers (obviously) but they will shape the incentives for the industry as a whole, at least in California. Rate design changes can decide whether your solar panel installation is cost-effective or not, and what the savings are of buying a plug-in hybrid or an EV. (note to self: I can probably write a whole post just about this…)

A gentlement from Schneider Electric, who’s name escapes me, had an interesting speech, and really got me thinking. I guess his title of “Smart Grid Evangelist” was appropriate.

  • Smart Grid is like a Frankenstein“. Essentially, a lot of pieces of the grid were build independently. Some were installed decades ago, if not a century ago, and now we’re calling it all one thing. To me, this is not a statement meant to knock on what we have, but just to recognize that we’ve been building the US electric grid for over a century. We can’t just plug in a few smart meters and say it’s transformed (nice unintended pun there). It will take quite a bit of infrastructure investment, technology development, user engagement etc. to get it all working right.
  • “Angry Birds is activated (played) 500 million times a day”, while very few people check their energy usage daily. Obviously, there is something a game has (fun factor?) that doing a small bit to save $$ and environment doesn’t. This really zeroed in on the customer engagement piece for me, an issue commissioner Peevey highlighted as well. Maybe a good business idea would be to make energy saving / management into a game? I’m not sure how to tie Angry Birds into it, but maybe some sort of Sims game could? Make it more competitive and social, and challenge your friends on who can save more? The “social” part brings me to the next point:
  • People want recognition for being “green”. The example this speaker brought up was the Toyota Prius sales vs. Honda Civic hybrid. I didn’t fact-check his statement, but he mentioned that the two vehicles have virtually identical specs and features, yet the Prius outsold the Civic hybrid by 9 to 1!! Even if there are some performance and price differences, this discrepancy is hard to explain – so the explanation he offered is that a Prius makes a clear statement that you are different. You have a car that is obviously a hybrid, and therefore you get the “green” credit for it from your peers, neighbors and fellow drivers. A Civic hybrid has a small sticker on the back, which most people don’t notice. I think this recognition piece could be leveraged by making energy management (i.e. changing your use based on price signals and/or grid conditions) more of a social activity, if not exactly a game. Maybe creating a fundraiser type program, where a portion of your energy savings goes to a school or charity of your choice – and they in turn recognize the top donors.

My overall impression is that while we’ve come a long way, there are numerous technological, business and regulatory challenges ahead – and things are not going to get any simpler soon.

Lottery Tickets – bad investment, just fun, or is there more to it?

As of last Friday, Mega Millions lottery was at almost 300 Million, and it’s currently at 356 Million! This has a lot of folks buying the tickets, hoping for early retirement and dreaming of what a dollar can buy – but is this just a bad investment, good fun or just a voluntary tax payment?

I’m sure many of you have heard the adage saying “lottery is a tax for people with poor math skills” and similar statements. These are based on the fact that the expected return on investment (ROI) for a lottery ticket purchase is at best 50 cents on a dollar, as that is the percent returned in form of player prizes. Per California laws, administrative expenses can be up to 16%, and the rest (“profits”) are given out to educational institutions. Based on these numbers alone, buying lottery tickets is a very poor personal investment choice, especially considering that any winnings are taxed as income – further lowering your expected “ROI”.

A more favorable view is to look at it as an entertainment expense. For example, last Friday a dozen of us pooled $2 each and got a stack of tickets. This probably led to at least 15 minutes of “what if we hit it” fun chatter, and maybe a bit of a thrill checking the tickets once the numbers came out. To me, $8/hour sounds like a fair entertainment expense rate – on par with movie ticket prices these days. (To be exact, it’s $4/hour, as 50% would be our expected “ROI”)

Also, while I’m not in the “please tax me more” crowd, I do feel good that part of that money is going to support public education – this is where most of my charitable contributions go anyway.

All this summed up, I would argue that limited purchase of lottery tickets is actually an excellent investment, as long as it fits your entertainment budget.The last statement is key – if you’re purchasing the tickets with money that otherwise would not be in your entertainment budget, you are indeed throwing away 50 cents on the dollar. However, if your trade-off is with another entertainment expense, you are ahead here – as you actually have a chance of a positive payout. Think of it as choosing to see a movie in your usual local movie theater, or in the special lottery theater, where you have just as much fun, but on average you end up getting half your money back after the show. As long as you value the two “shows” the same, it’s an easy choice to make.

I also emphasize the “limited purchase” part. While each person may give different entertainment value to things they do, I would argue that buying $2, $20 or $200 worth of lottery tickets gives most people essentially the same entertainment value. Sure, higher stakes may get your adrenaline flowing, but I consider checking 200 tickets a bit of a drag.. and I’m not going to dream of being a millionaire 100 times more. Basically, I see diminishing marginal (entertainment value) returns with incremental ticket purchase, which is why I would encourage everyone to think twice before buying more than a few dollars worth of tickets.