Anyikire: Just Keeping Up

My fellow colleague Chikaod Anyikire shows his Ramsey Roots in the excellent guest post below. I hope to get him to write for us more in the future.

===

The American culture has in recent years evolved around accumulating debt. One of the reasons many people have gained so much is because of the age old adage “Just Keeping Up with the Joneses”. Now, it has become more common to file for bankruptcy and depend on credit cards to maintain a financial lifestyle. Now, after a year of bailouts and stimulus packages there is a small group of people who are saying “I just want to Keep Up”. There are many ways to get your life back on track and gaining financial peace. There are so many spokesmen and women, books, and internet sites that provide information about digging ourselves out of the hole we created.

An effective way is to become conservative when it comes to handling financial decisions. A radio host, Dave Ramsey teaches that aggressively paying off your debt, tearing up your credit cards and never using them, and “Living like no one else, so you can live like no one else” are just a few things he teaches through his books and programs. This means making some tough decisions by sitting down and creating a budget, living off of ramen noodles or rice and beans until you pay off your debt, then taking steps to saving up for retirement, education for our kids, and charities. This financial philosophy creates the foundation to live a life full of financial peace where a person has not to worry about debt collectors, garnishing of wages, and liens against where your family sleeps, your home. The benefits outweigh the future stress that would develop without taking steps to paying off your debt.

Let’s hope that this culture of paying off debt and leaving under our financial means thrives in our culture like a once wealthy Babylon, so that we all can achieve financial peace.

More information about Dave Ramsey … www.daveramsey.com

Don't Teach Financial Education? Are you crazy?

I recently read up on an interview CNN Money had with law professor Lauren Willis on the importance of teaching financial literacy, or rather the importance of not doing it. I was actually puzzled about some of the reasoning behind the idea. To wit:

Lauren Willis, an associate professor at Loyola Law School in Los Angeles who specializes in financial products regulation, says that's the wrong move. She argues that trying to teach consumers to make wise money choices is not only a waste of time and resources, it may be dangerous.

Dangerous? Let me be clear: I think we should approach the teaching of personal finance very carefully. If there are classes that focus directly on this topic, it should probably be carefully evaluated. But to not include it at all in high school or college curriculum raises concern to me. However, here is the point in the interview that concerned me the most, a back-and-forth on budgeting (and shouldn't it be taught):

Q. But aren't basics such as budgeting always applicable?

A. Teaching them is a waste of money. Studies show that sending people to either high school personal-finance classes or adult retirement seminars does not result in better financial behavior.

It may do the opposite. Financial literacy classes give people the illusion that they can successfully manage their finances. So rather than seek help, they end up making worse decisions.

Q. Then what should we do?

A. Stop trying to turn everyone into a financial planner. Instead, try to get everyone to understand that the people selling you financial products often don't have your best interests at heart.

The strange, almost contradictory language I see here is striking: You shouldn't teach people to budget because they may (heaven forbid) try to manage their own money instead of seeking (often overpriced) help, yet you should make sure to tell people seeking help is risky because they may be overcharged.



Here's how I feel about it. Teaching someone how to budget is not difficult. It's pretty simple addition and subtraction. Take out a sheet of paper (or spreadsheet), add up your income and subtract your outgo per month. If you're in the red, that's bad. Avoid that (by increasing income or decreasing spending.)

I would question the studies that determined why teaching people to manage finances don't work. Is it the way it's taught? Is it because most high school kids don't have to shoulder the burden of paying rent or a mortgage and a set of bills?

Bottom line—I think it's the lack of teaching and awareness that causes people to make risky mistakes. The biggest example being the housing debacle the country is still feeling right now. Many people signed on to risky mortgages that have affected the entire market and have caused many banks to fail (and of course, lenders were complicit in these behaviors). Now, we have the government stepping in this week and assuming the debt of big lenders Fannie Mae and Freddie Mac because they are "too big to go under."

This is all because of shady lending practices and consumers who took on the debt without being more educated on the associated risks of such loans. Education is important and counts. At minimum, I think budgeting should be a base minimum teaching for children and adults. Shoot, I still have a lot to learn.

===============================================================

Wachovia's Way2Save: 4U?

If you have a Wachovia Account, you’ve probably heard of Way2Save; if not, inquire about it. Wachovia has been quite slow about entering the high-interest savings market, but they have finally come to the table…kinda.

Wachovia’s Way2Save (W2S) is somewhat similar to Bank Of America’s “Keep the Change” program. Bank Of America has a program that rounds up any purchases you have to the nearest dollar and they transfer that money into a high-yield savings account. With Wachovia’s W2S, every time you make a debit/check card purchase, $1 is transferred into a high-yield savings account. In addition, you are allowed to transfer $100 a month into this account, which gains an APY of 5%, which is the probably near top in the market right now. To up the ante Wachovia is also offering an additional 5% for money you hold in the account for up to one year, meaning you can pull some serious interest.

That’s the good news.

Here are some of the challenges you should be aware of if you’re interested. First, the 5% APY is for one year only; after that if will fall to about 2%, far below the rates offered by the likes on ING Direct, Emigrant Direct, and E*Trade. Also, the account transferring money does depend on your heavy use of your check card—as long as you don’t run the risk of losing track of how you spend your money and your account doesn’t go into the red, you’ll be in good shape. As we’ve said before, it’s pretty easy to lose track of $10 here, $5 there when there’s no real cash exchanging hands. Studies show that consumers make about 23 debit purchases a month. That’s $23 you have to be aware of that’s going into you new account (and OUT OF your base checking account).

I’m always a fan of finding ways to encourage Americans to save money. Because we have a relatively large safety net, many of us don’t bother saving for the future; so it’s no surprise that we have a small savings rate. If you’re responsible enough and are willing to move your money from your current savings vehicle, then this may be a rewarding step to take. I set my account up (as an existing customer) and it took about 7 minutes. I’ll give this account a spin and let you know how it’s going. If any of you have already tried it out, let us know how it’s working for you.

Spending More Makes You Feel Good?

So I saw this on CNN recently:

Researchers in California have uncovered that Americans are more satisfied by a wine's taste if they "know" it's more expensive. Antonio Rangel, associate professor of economics at the California Institute of Technology, has analyzed the reactions of 21 volunteers who were presented 15 wines in a random manner, the only information being the price.

Unbeknownst to them, two of the wines were repeated, but presented with different price tags. The researchers also carefully observed changes in a part of the brain known as the medial orbitofrontal cortex, which plays a central role in many types of pleasure.

They found out that test subjects were more pleased by the taste of wines they thought were expensive.

Well, there you go. Although the sample size in this study was small, I still think it is an important study. This is not dissimilar to the not-as-scientific study performed by the libertarian comedians Penn and Teller, who tried to see how patrons reacted in an upscale, high-end restaurant when they were served very cheaply-prepared food. See the clip in my September article here. But wait! There’s more:

As part of the test, a pricey $90 wine was provided marked with its real price and again marked $10, while another wine was presented at its real price of $5 and also marked with a $45 price tag. In both cases, the volunteers thought that the wine was better when the higher price tag was presented.

This should be no secret to most people; however, most consumers still fall prey to it because they are convinced that more expensive products are “better” and “cheaper” is somehow less in quality. For consumer goods, not just wine, this is just false. But why do people behave this way? From the study:

The results showed that the way in which the brain works is that it mixes pleasure with expectation as to how good the wine should be. Since the expensive wine was supposed to be better, their brains perceived it as the superior drink.

This means that no matter how good a cheap wine may taste, consumers will still likely buy the more expensive wine and believe it tates better.

Again, not all that surprising. But it’s usually the “well duh” stuff that trips up the average consumer in restaurants, in the electronics store, the grocery aisle, and even the car salesman’s lot. I’ve had countless people try to justify why one particular shoe “wears better,” how no mp3 player’s sound quality can rival the iPod, or the name brand grape soda taste better than the store brand. To be fair, sometimes these conclusions are true, usually though its hard to objectively prove. Marketing departments at major companies know this, and it usually works in their favor. People buy more expensive goods with the expectation (feeling) that it should be better, and their brain’s logic center loses out and confirms this “feeling.”

There are times though, when it doesn’t work. Witness the sales race between the PlayStation 3, Microsoft’s Xbox 360, and Nintendo’s Wii. On paper, the PS3 looks as if it should be “better” by a long run, and it is of course more expensive. The same occurs for the Xbox 360. The consumer market however, bucked the trend and opted for the cheaper Wii, and demand continues to outpace supply for the device.

But let this be a warning that you should always consider—never underestimate the power of marketing, and don’t ever think that paying more for something makes it better. Moving forward, you should be aware (and more careful) of your spending decisions.

CNN Finance - Rules to Grow Rich By...

Besides the convoluted title, I read with interest some of CNN Finance's "25 Rules to Grow Rich By." I will post a couple of them here (with comments) but you should click the link for the full list.

12. If you're not saving 10% of your salary, you aren't saving enough.
The earlier you start saving, the less you'll need to set aside every year to meet your goals. That's because you allow your money more time to grow -- the gains on your invested savings will build on the prior year's gains. That's the power of compounding, and it's the best way to accumulate wealth.

Saving at least 10% of your annual salary for retirement is recommended, but the older you start saving, the more you'll need to save. If you start at 50, you may need to put away 30% a year and still postpone retirement by a few years.

From site stats, it appears most of the readers here are well under 50 and can probably meet this one, although I can see how it can be pretty tough starting out. I personally am saving 8% because I'm setting aside a good bit of my savings for shorter-term endeavors (house down-payment, and Other Things).

7. To figure out what percentage of your money should be in stocks, subtract your age from 120.
Since 1926, stocks have returned an annual average of 10.5 percent, long-term government bonds returned 5.1 percent, and "cash," measured by Treasury bills and other short-term investments, has returned just 3.1 percent. In other words, if you're investing for the long-term, stocks are the place to be. But in the short term, the stock market can be downright dangerous, with much more severe drops than the bond market has.

That's where this rule comes in - the younger you are, the more time you have to recover from stock-market crashes. As you get older, you should gradually move money out of stocks and into bonds.

Note that these returns are over a long-term period. If you are looking for short-term (less than 5 years) place to park your money, I wouldn't advise you to place it in the stock market. Over longer periods though, there's no better place to put it--even real estate returns about 4-6% on average. And to get that market average, the best place to be invested is probably a market-tracking index fund.

13. Keep three months' worth of living expenses in a bank savings account or a high-yield money-market fund for emergencies. If you have kids or rely on one income, make it six months'.
An emergency fund is a hassle to build, but you'll be glad you did next time your transmission sputters or your boss hands you a pink slip.

I was talking to some mentees of mine and made sure they were aware of this rule at a young age. You won't be able to build six months of income in a month or two (unless you're very good.. Nah, I don't think anyone is that good.) It will take probably 4-6 months to get a secure account unless you spend much less than you earn. Nevertheless, it's a very important step. And don't use just any old "bank saving account." Loook for a high-yield savings or checking online.


Next time I want to tackle this myth I keep hearing that you have to be rich to invest. We'll try to convince you that you should look at that the other way around. Take Care.

From YCA: Common Personal Finance Myths (Excerpt)

YCA: Personal Finance Myths (Excerpt) – Post week of Jan 22

Some of the following PF Myths appear on the Your Credit Advisor blog page. He has a set of 25 Myths, all of them very good. I've chosen a few here to elaborate on because he hits on some common myths we all do every day. Hat tip again to the Your Credit Advisor blog, which you can access here[].

Those with obvious material wealth must be rich.
Experience suggests we humans get jealous or resentful for so many reasons, and witnessing someone's material wealth is often one of them. But don't be so sure that the neighbor with all the cool ATVs, skidoos, swimming pool, and latest car is actually wealthy (has liquid assets), or even happy. He/She could be deep in debt to maintain the facade.

Of course jealousy is an unfortunate by-product of success. And at some time in our lives, we have been on both ends of said success. We usually like to acquire as many (or more) possessions than The Folks Next Door or to improve your status among the opposite sex. In the end, it's a zero-sum game. Spend wisely and independently of your friends and neighbors, because you really don't know how they got what they have.

Working hard and saving your money makes you rich.
These are components of becoming wealthy, but not by themselves sufficient. Saving is linear; investing increases your wealth. Jesus said to "multiply talents." This has been interpreted to mean that you should multiply your wealth. Do more than save. Start by having a small sum automatically deducted from your paycheck each pay period and deposited into a 401(K) or Roth IRA.

As much as you see me play it up on this site, your ING (or other online savings accounts) aren't going to get you through to the end. Savings interest of 4.5% is not sufficient to retire on unless you're putting away $50,000/yr until you retire. So as mentioned above, sock away as much as you can to your company's retirement plan—even if they offer a pension.

Earning lots of money makes you rich.
Only if you actually save and invest it. If you spend it all, like some high-earning individuals, then you are not rich. Wealth is defined by liquid assets and investments, not how much you earn from a job…

Pretty obvious, but many "average Americans" don't realize it. I saw an article a few weeks back of a family earning 150,000/yr and was "scraping by" trying to make ends meet. Now before you turn up your nose and cue the violins, understand that this may be an "extreme case" of sorts. However, many two-income households could easily move into this bracket and because of the MPC factor (which pretty much states that you will spend the money you earn no matter how much you earn) you can easily find yourself in a similar situation.