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Wednesday, July 30, 2014

My New Motto

Posted by Robert on November 4, 2013

Yesterday was a snowy day at my house. On top of that, it was daylight savings, so I had an extra hour. I spent most of the day reading in my warm, cozy house. (If anyone is interested, I chose Turn the Ship Around, by L. David Marquet, which I greatly enjoyed.) I don’t read as much as I used to, mostly because I’ve been busy with other projects. But when I do read, I often discover or formulate new (to me) ideas that I could apply to my finances.

My new motto is: Instead of reacting to things that happen to me, I will make things happen.

Instead of reacting to unforeseen costs or unplanned spending, I will plan ahead to have more than enough for the monthly basics, knowing that unexpected costs seem to come up regularly, even if they come from varying sources. In my budget, I only plan uses for about 90% of my income, leaving the other 10% as a cushion for use as needed. If the money isn’t used, I allow it to accumulate, since surprises are sometimes large (eg. repairing a car, replacing a refrigerator, etc.). After about six months, however, I’ll deposit the money into an account where it is easily accessible, such as a savings account at the bank or in a TFSA.

Instead of reacting to the market, I will plan ahead and stick to my investment plan. When the market is up, I buy. When the market is down, I buy. Each month, I invest my savings in the market, knowing that it will rarely work out to be the perfect time to invest, but it’s better than not investing at all, or guessing wrong with one big deposit. Sometimes, it’s possible to see that the market is uncharacteristically low (eg. spring 2009), but that doesn’t mean that a recovery is imminent. I invested a relatively large deposit in 2009, and it has helped, but not as much as having an automatic, monthly investment plan in place.

Instead of reacting to taxes, fees and other leakages, I will create a financial plan and follow it. I was fortunate to be trained as a financial advisor. Some of the things I planned (and did) to reduce taxes, fees and future costs were: make regular RRSP deposits, direct a large portion of my RRSP deposits to my wife’s spousal RRSP, set up and fund TFSAs for each of us, set up an RESP for the children, write of interest on investment loans and claim charitable donation and education tax credits on the higher tax bill (mine). Working with a financial planner may not help your investments perform better, but there can be great benefits from organizing your finances in the most efficient way.

A lot of time and energy can be expended reacting to issues as they arise. Mistakes can also happen. Instead of reacting, taking control, looking ahead with a plan and putting the plan into action helped me to be relaxed about my money, knowing that I was well prepared and getting the greatest benefit possible. What aspect of your finances do you need to take more control over? What purpose or goal are you trying to achieve with your money?

Compensating for Bias

Posted by Robert on October 28, 2013

This is a guest post by Robert, who lives in Calgary and worked as a financial adviser before retiring at age 35. He is married, has three kids and has returned to school with the goal of eventually living and working overseas.

There has been a lot of talk among economists and investors about human biases under the heading Behavioural Economics. People aren’t nearly as rational as economists assumed in their early work at modelling transactions and decision-making. We have predictable tendencies to exaggerate losses, to overestimate our resiliency to risk and to be overconfident about our ability to predict the future.

Our biases make it more difficult for us to be successful investors. How many people, when the market drops, focus too much on their paper losses, panic and want to sell their investments? How many people, when the market crashes, sell at the bottom and swear off investing forever? I know from my experience working as a financial advisor that the (admittedly imprecise) answer is: too many. The money that many people pay for investment advice pays not only for advice on investment opportunities and asset allocation, but also babysitting to avoid selling investments at every market correction, and to avoid getting sucked into enticing investments that offer 17% guaranteed returns (seriously, I’ve seen this), but is simply too good to be true (and I’ve seen it go bankrupt).

So let’s be honest with ourselves. Saving money is hard. We’d prefer to have something now rather than delay our purchase into the unpredictable future. It’s harder for some people than for others. But as long as we’re being honest, there are ways to compensate for the difficulty. As an example, having the employer deduct a certain amount of savings from every paycheque. As an example, a friend was telling me yesterday at his work that most of his colleagues can only have 1% or 1.5% withheld for the company savings plan, despite 100% matching from the employer (free money!). It’s because they live paycheque to paycheque and $100 makes a difference. I wonder if they would be able to increase their savings by 0.5% every six months or every year, without feeling the pain. I also suggested to clients that every time they get a raise, half of it be redirected toward savings. Being realistic allows us to work around our biases.

Facing reality also means knowing that the stock market is going to be volatile and fluctuate, sometimes wildly. In my research, I have found very few good reasons to own a diversified portfolio of stocks and bonds. Sometimes stocks perform far better. Occasionally, bonds perform better, while being far safer. These two investments have different purposes, in response to different investment needs. The benefit to an individual investor of buying a portfolio that’s 60% stocks, 40% bonds is that the ride will be smoother, the individual will have less opportunity to experience “losses” and will be less likely to panic. But in some cases, that can be a very real benefit.

Being realistic and honest with yourself is likely the best way to manage investment risk. Expect a small return each year, expect bad years once in a while, and expect to have trouble saving as much as you’d like. Then find ways to compensate for those difficulties. How honest are you with yourself about your investments? What do you do to compensate for your biases?

Experiences Don’t Get Cluttered

Posted by Robert on August 26, 2013

I spent the past week on vacation with my family in Lake Louise and Jasper. In all, we spent around $500. I feel that’s not bad for a once-a-year week-long vacation. And I’d rather spend money on an experience than on stuff. An experience isn’t going to clutter up my house. It doesn’t need to be stored and I don’t feel bad if I never get it out and use it, the way I do with my stuff. In fact, I have great memories and I can always go back and look at all the photos we took while we were there.

The one part of the vacation that cost the most (after the lodging) was a trip up the Jasper Tramway. It costs $80 for the family, and we spent between two and three hours going up the tram and hiking on the peak. If I do the math, that’s really not much more than taking the family to the cinema to see a film. Making that type of comparison, it seems to me like a much better use of money. But I haven’t ever spent that much money to take the family to a cinema, so the comparison is kind of cheating. Rather, I just need to put the cost out of my mind, saying that it’s something we want to do, we can’t possibly hike up the mountain (with our four year old) and we’re not likely to get another chance in the near future.

But I didn’t simply put the cost of the experience entirely out of mind and pay it, consequences be damned. We saved money by camping the first night, rather than staying indoors. It was cold, but it was fun for the kids and it saved $70. We also saved money by going grocery shopping before leaving Calgary, and bringing our own breakfast cereal and lunch foods. We found that the prices at the grocery store in Jasper, while far cheaper than eating in restaurants, were 30% to 50% higher than at home. In the end, I felt that the savings and the splurging balanced each other out and made for an enjoyable and memorable vacation.

Do you feel that spending money for experiences is worthwhile?  What would you splurge for and where would you rather save money?