Jonathan Clements's Blog, page 436

Looking Bad

AS I THINK BACK over the past three decades, I have one overriding investment regret.

No, it has nothing to do with the investments I bought. For much of the past 30 years, I’ve owned a globally diversified portfolio, with 100% in stocks when I was younger and closer to 70% now that I’m in my mid-50s. Initially, I owned actively managed funds and a few individual stocks, but I substituted index funds as they became available, so my stock performance has been what you would expect—very similar to the broad market.

To be sure, I could have done better if, say, I hadn’t allocated so much to foreign stocks. But that’s the nature of a diversified portfolio. There will always be laggards, but we only know their identity with hindsight.

If my big regret isn’t the investments I bought, what is it? More than anything, I wish I hadn’t spent so much time watching the markets. Admittedly, this was partly professional necessity. I was occasionally called upon to write about the markets, so I needed to know what was going on. Still, I could have spent a lot less time looking at the daily ups and downs, and yet I didn’t. Why not? I suspect there are three reasons.

First, like a whiny child that throws the occasional tantrum, the stock market demands our attention. All the turmoil is hard to ignore—and it’s becoming harder. Today, with a quick glance at our phones or our computers, we can find out what’s happening to stocks and where things stand with our portfolio. This is not helpful: We receive far too much short-term feedback on our long-term investments, and with that comes the risk that we will act hastily.

Second, watching the markets can be entertaining, but much of the time it’s mindless entertainment. Indeed, I follow the ups and downs with the same curiosity that I follow the results of the Baltimore Orioles, Brooklyn Nets, Plymouth Argyle and Washington Redskins. It’s been years since I’ve visited a stadium to see any of these teams play or even watched an entire game on TV, and yet I feel a tad happier when they win and a little sadder when they don’t.

(For those who don’t immediately recognize the name Plymouth Argyle, it’s a minor English soccer team to which I pledged undying allegiance when I was 10 years old—and which recently brought modest joy to my 54-year-old heart by gaining promotion from League Two to League One.)

Third, and perhaps most important, watching offers the illusion of control. If the stock market plunges, I feel it’s important that I know right away—even though my awareness won’t stem the market’s losses and, indeed, I won’t do much with the information. These days, I mostly content myself with rebalancing and occasionally buying a new index fund. If the market rose or fell 10% from here, I’d rebalance yet again, but that would probably be it.

I don’t just follow market and sports results. Every day, I spend hours checking email, Twitter, Facebook, LinkedIn, my website’s traffic, my book sales, engagement with my monthly newsletter, and more.

I love the ease of communication offered by email, the interesting articles I discover through Twitter, and the news about friends and family on Facebook. Instead, what bothers me is the endless stream of numbers that grabs my attention today, but which is forgotten tomorrow, when there’s another round of meaningless numbers to ponder. It’s information without insight, and yet it gobbles up time—a loss I feel more acutely as I age. The upshot: I’m trying to train myself to look less, but it’s a struggle.

Did you know the English soccer season starts in a few weeks?

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Less Green

I WAS STAYING ON THE OUTSKIRTS of Mexico City, with no internet access. But I had my satellite radio and I was listening to CNBC. The reception wasn’t good, but the news was even worse. While bad financial news had been pouring in from every corner of the globe for months, it seemed matters had suddenly got much worse. It was September 2008.

The global financial crisis affected many companies, big and small, and the commercial landscaping company that my twin brother and I owned was no exception. That fall, as we approached contract renewal season, there were challenges awaiting us like none we had experienced since starting the company in 1992.

Properties still needed to be mowed and leaves removed, but that wasn’t where the profit was. Mulching provided a good stream of revenue to help cover costs, but it wasn’t a moneymaker. Instead, the money was in add-on services, such as seasonal flower installation, landscape installation and lawn care applications. These services could be cut out of contracts with a stroke of a pen, and they were. Our commercial customers, facing the same grim reality that we were, reduced these services to such an extent that we lost 25% of our business in one year.

In addition, customers—including our largest—were renewing late and asking that they make monthly payments starting in the spring, rather than at the beginning of 2009. This hurt, because we depended on those payments during the winter months to cover payroll and overhead expenses, and to purchase materials and equipment ahead of the spring season. And monthly payments, which would normally be paid within 30 days, were not getting paid on a timely basis.  Approaching the winter of 2008—2009, we knew we needed to take action to protect our company.

Going into the Great Recession, our company was in sound financial condition. We carried very little debt and there was a decent amount of cash in the bank. We operated the company efficiently. There was little waste. Production man hours were closely monitored and employee overtime kept to a minimum. Running a lean operation was my obsession. This was a good thing, but it left little room for savings. To keep the company in good financial shape, we needed to make changes that would hit each of our employees where it hurt the most—in their paychecks.

Initially, the plan was to lay off some of our winter employees. But after meeting with them, it was decided that each employee would take one week off without pay, so that the pain was spread out evenly among them. My brother and I withheld our salaries for two months. No contributions were made to our retirement plans. Prices and terms were renegotiated with our vendors. We went to a four-day workweek, working ten hours each day. This would reduce our travel expenses and keep our employees in the field longer each day. To reduce payroll processing expenses, we went to a biweekly pay schedule.

Our expectations in late 2008—that the upcoming year would be a challenge—did indeed become reality. With the cash we had on hand, we were able to get through the spring months, covering payroll and the hefty expenses of mulch and equipment. Without the cash, I believe the financial condition of our company would have deteriorated rapidly. We stayed on top of customers, urging timely payments. Production was tracked more keenly than ever before.

Over the years that followed, our company was able to increase annual revenue. But when we sold the company at year-end 2012, we still hadn’t reached the levels of pre-2008. Those existing customers who cut back on additional services eventually started to invest in landscaping again. We continued to work a four-day work week, a change that was initially difficult for our employees to grasp, but they soon embraced it. Contract negotiations remained a challenge with many customers still demanding that we keep prices at levels that left little room for profit. My brother and I continued to collect salaries that were 40% below where they were prior to 2009.

And so, years later, the impact of the Great Recession was still evident. Nonetheless, when it came time to sell our company, we could show the buyer that we had a company that—despite the turbulence of those years—remained on a strong financial footing and operated more efficiently than ever before. We had survived the Great Recession.

Nicholas Clements is one of Jonathan’s older brothers. He is retired and lives just outside Washington, DC. His previous blogs include Not a Good Time and  Opening My Wallet .

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Housing: 10 Questions to Ask

HOUSING IS THE BIGGEST EXPENSE for most American families, typically devouring a third of their budget. Are those dollars getting spent wisely? Here are 10 questions to ask yourself:

Should you buy? If you play around with the mortgage calculator at Bankrate.com, you can figure out how big a mortgage you could support with your monthly rent payments. That will give you a sense for whether homeownership is within reach. Even if it is, don’t buy unless you can see staying put for at least five years, and preferably seven years or longer.
Should you wait to buy? While purchasing a home early in adult life can be a great idea, because you lock in your housing costs and start to build home equity, there’s a potential downside: You may not currently have the wherewithal to buy the sort of house you really want. That means you could quickly find yourself trading up to a larger, better place and incurring the hefty cost of selling one home and purchasing another—an expense you might have avoided if you’d continued renting for a year or two.
Will you appear creditworthy to mortgage lenders? A few months before you start searching for homes, check your credit reports and credit score to make sure there’s nothing that’ll scare off lenders.
Are you remodeling for the right reasons? Home improvements are typically money losers, so remodeling projects should be motivated by the desire for a nicer home—and not by some wrongheaded notion that the upgrades will be a good investment.
Should you refinance? Even if you can lower your monthly mortgage payment, it may not make sense, depending on how much it’ll cost to refinance—and if the lower payments are driven largely by adding extra years to the length of your loan.
Is your home fit to be sold? With the need to clear out clutter, touch up the paint, spruce up the yard and more, it can take many months to get a home ready for sale. Want to put your house on the market by year-end? You should probably start the prep work now.
Should you make extra-principal payments? By adding a little money to each monthly check, you can pay off your mortgage years earlier—and earn a pretax return equal to your mortgage rate.
Are you on track to pay off your mortgage by retirement? Making that final mortgage payment can sharply reduce your cost of living, making retirement more affordable.
Are there rooms in your house, besides any bedroom set aside for guests, that you rarely or never use? That may be a sign you own more house than you really need—and perhaps you ought to trade down.
Should you tap into your home ‘s equity to pay for retirement? To turn home equity into spending money, you might downsize, remortgage your home or take out a reverse mortgage.

This is the second in a series of blogs devoted to key questions you ought to ask. The first blog focused on retirement.

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Chasing Points

I HAVE BOOKED EIGHT one-way domestic flights this year, as well as multiple hotel nights—and I’ve done it all with the rewards points from my three Chase credit cards.

For those interested in earning rewards, you can’t go wrong with the dependable duo of Chase Sapphire Reserve and Chase Freedom Unlimited. Small business owners might also pick up Chase Ink Business Preferred.

The Chase Sapphire Reserve, the “premium” card of the trio, first made waves in August 2016 when it offered a 100,000-point signup bonus for those who spent $4,000 in the first three months. While that bonus has since dropped to 50,000 points, it’s still a worthwhile card. The annual fee is $450, but there’s a $300 annual travel credit that is automatically applied to your account, effectively reducing the fee to $150.

On top of the signup bonus, Sapphire Reserve offers other benefits. You earn triple points on all travel and dining spending. When redeeming points on Chase’s rewards portal, you also get 50% more value for each point. For example, your 50,000 point bonus would technically be worth $750 when redeemed through Chase’s Ultimate Rewards portal. Sapphire Reserve also offers a $100 credit when you apply for TSA PreCheck or Global Entry.

The Points Guy, a popular website, generally values Chase Ultimate Rewards points at 2.1 cents each. That means 300 points from a $100 travel or dining purchase is valued at $6.30. Not bad. Ignoring the signup bonus, that means you’d have to spend about $2,380 on travel and dining a year, or $198 per month, to cover the $150 annual fee. Everything beyond that is gravy.

The next card you should pick up is Chase Freedom Unlimited. While Sapphire Reserve gets triple points on travel and dining spending, and one point per dollar on all other spending, Freedom Unlimited gives you 1.5 points on every purchase. Result: You’ll want to use Freedom Unlimited for all spending, except travel and dining.

One added benefit of coupling Freedom Unlimited with Sapphire Reserve: You can transfer your Freedom Unlimited points to your Sapphire Reserve card, earning that 50% bonus when redeeming points through the Ultimate Rewards portal. Chase Freedom Unlimited has no annual fee, and also offers a $150 signup bonus after spending $500 in your first three months.

The last card of the trio, Chase Ink Business Preferred, only applies to small business owners. Since freelancers now account for 35% of workers, I think it’s worth mentioning. Ink Business Preferred comes with a whopping 80,000 point bonus when you spend $5,000 in the first three months. The card also offers triple points on a range of business purchases, including travel, shipping purchases, internet, cable, phone services, and advertising spends on social media and search engine sites. The card has a $95 annual fee, but the signup bonus and rewards quickly cover the cost.

What can you do with all these Chase points? You could either use them to book hotel rooms and flights directly through Chase’s rewards portal or transfer them to a long list of partners. Generally, transferring to rewards partners like British Airways, Hyatt or United Airlines is considered the best way to maximize value, according to The Points Guy. But with the 50% bonus when redeeming through the Ultimate Rewards portal, I’d recommend shopping around before deciding how to redeem points.

After picking up these three cards, you can take your rewards strategy in whatever direction makes sense for you. The Points Guy has plenty of lists of top credit cards, depending on whether you prefer cash back, hotel nights or airline tickets. Signup bonuses are the biggest opportunity to pile up points, so consider signing up for one or two new credit cards each year to keep your rewards points topped up.

Steven Aguiar’s previous blogs include Site Seeing (Part I) and  Small Changes, Big Dollars . Steve is the founder of  BlueWing,  a B2B digital marketing agency. He majored in Economics and Hispanic Studies at Brown, and is a big fan of compounding interest.

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This Week/July 16-22

PONDER WHEN TO CLAIM SOCIAL SECURITY. Start with the calculator offered by United Capital. Many folks are inclined to claim benefits as soon as they retire, but often it makes sense to delay. To understand why, learn more about Social Security, including the advantages of delaying and the different strategies that couples might use.

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Fooled You

WANT TO EARN the derision of the so-called smart money? Here are 12 ways to get yourself labeled a financial rube:

Express optimism about the stock market.
Stick with capitalization-weighted total market index funds.
Pay off your mortgage early.
 “Arnott vs. Asness? Missed that one. Was it on pay per view?”
Shun alternative investments.
Buy and hold.
Have no opinion on the economy and market valuations.
Dollar-cost average.
Own a target-date retirement fund.
Never cite Ben Graham, John Maynard Keynes or Warren Buffett.
Favor stocks that pay dividends.
Buy on dips.

What if you persist with such foolishness? Contrary to what the smart money would have you believe, there’s every chance you’ll end up wealthy. And, no, it wouldn’t be dumb luck.

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Retirement: 10 Questions to Ask

SAVING ENOUGH FOR RETIREMENT, and then turning those savings into a reliable stream of retirement income, together constitute our life’s great financial task. Want to make sure you’re on track? Here are 10 questions to ask:

Are you shortchanging your retirement by devoting too much of your income to other goals? For instance, can you truly afford private school for the kids? Do you really have the financial wherewithal to buy a second home?
Are you putting enough in your employer’s 401(k) or 403(b) plan to earn the full matching contribution? Failing to collect the full match ranks as one of the most foolish financial mistakes.
If you’re in the workforce, are you socking away at least 12% of your pretax income toward retirement? Add up how much you’re saving, including any matching employer contributions to a 401(k) or similar plan.
How much income will your savings generate? First, use an online calculator to project how much you might amass by the time you quit the workforce. Then divide the resulting sum by 25 to see how much income your nest egg might generate each year.
Do you have enough in stocks? Even after you quit the workforce, you could easily live 25 or 30 years in retirement, which is plenty of time to earn healthy stock market gains. You will likely need those gains, because 25 or 30 years is also plenty of time for inflation to do hefty damage.
If you are retired and we got a repeat of the 2007–09 stock market collapse, when the S&P 500-stock index fell 57%, how would you cope financially? This is a reason to keep at least five years of portfolio withdrawals in short-term bonds and cash investments, so you can ride out a long bear market.
Does your retirement plan reflect how long you might live? Find out your life expectancy using the calculator at SocialSecurity.gov. Keep in mind that as you grow older, the average age to which you’re expected to live also rises—and, of course, there’s a 50% chance you’ll live longer than this average.
When will you claim Social Security? If you answered, “when I retire,” think again. Social Security is a hugely valuable income stream, so it often makes sense to delay benefits to get a larger monthly check, especially if you were the family’s main breadwinner.
Should you buy an immediate fixed annuity once you retire? Annuities aren’t a popular product—but they can be a good choice if you’re looking to squeeze a healthy amount of income out of your retirement nest egg.
Once you quit the workforce, what will get you out of bed in the morning and give a sense of purpose to your retirement? You should view retirement not as an endless vacation, but as a chance to take on new challenges.

This is the first in a series of blogs devoted to major financial topics and the key questions you ought to ask.

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Getting Schooled

SETTING OUT INTO THE BUSINESS WORLD, I was age 27 with a negative net worth. Among life lessons, there are many strong contenders, but nothing introduced me to “adulting” like debt. For that, I had undergraduate and graduate school expenses to thank.

Having secured a good job out of business school, I started to rebuild my finances. My grad loans had a relatively high principal amount and an interest rate of 6.8%, so I prioritized that debt over my undergrad loans, which were much lower in principal and charged just 3%.

I was acutely aware of the dangers of increasing my living standards overnight. Going from ramen to sushi wasn’t in my best interest. I continued to live like a grad student.

These choices gave me more cash to deploy toward three goals—debt reduction, retirement and building a cash reserve. Not wanting my debts to derail my other goals, I decided on a hybrid approach. I contributed the amount needed to get my full employer 401(k) match, and also set up a monthly automatic contribution to a Roth IRA. After I paid myself via my 401(k) and Roth investments, I focused on developing an emergency fund. My goal was to build this up aggressively until I hit $10,000.

With this bit of liquidity to fall back on, I felt better about directing more toward my graduate loans. I set my retirement contributions to increase annually in conjunction with my annual raises. My bonuses went toward grad debt, retirement and everyday savings. My life wasn’t exactly sexy in materialism, but it was rich in discipline.

My strategy of not letting the perfect get in the way of good worked for me. I managed to pay off more than $65,000 of graduate student loans in two years, while slowly inching toward my other goals. Those small, deliberate actions compounded nicely.

Anika Hedstrom’s previous blogs were Site Seeing (Part IV),   Upping the Ante   and   Home Economics. Anika is a financial planner with  Vista Capital Partners  in Portland, Ore. She loves to nerd-out and, when given a dollar, will save 96 cents.

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This Week/July 9-15

SUPPOSE YOU LOST YOUR JOB. How long could you go before your financial life unraveled? This isn’t an issue for retirees—which is why they need little or no emergency money. But if you’re working, your plan for unemployment might include a cash reserve, slashing discretionary spending, a home-equity line of credit and withdrawing Roth contributions.

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Stocking Up

IT’S ANECDOTAL EVIDENCE, so take it with a grain of salt. Still, I’m once again hearing a dangerous argument—that you should always carry the largest mortgage possible, so you have extra money to stash in stocks.

During the roaring bull market of the late 1990s, and during the booming market for stocks and real estate in 2005 and 2006, readers regularly wrote to me, making the same argument. The strategy isn’t without logic—and it isn’t necessarily a sign that stocks are about to crash. Nonetheless, I consider it wrongheaded, for three reasons:

1. You’re making a leveraged bet on stocks. To be sure, it isn’t like buying stocks in a margin account, where you could get a margin call if stocks fall far enough, possibly compelling you to sell shares at fire-sale prices. Still, the mortgage-to-buy-stocks strategy makes your finances far more perilous.

Imagine two choices. With option A, you have $100,000 in stocks and a mortgage-free $100,000 home. With option B, you have $180,000 in stocks, plus a $100,000 house saddled with an $80,000 mortgage. In both cases, your initial net worth would be $200,000. But if stocks fell 50%, your net worth would drop to $150,000 with option A—and plunge to $110,000 with option B.

I readily concede option B will likely generate greater wealth over the long haul, provided you diversify broadly, keep investment costs low and stay the course. But how many folks really would stay the course? Even if you don’t panic and sell when your stocks are down 50%, you might be forced to sell—because you lose your job during the accompanying recession and need to cash in stocks to pay the mortgage.

2. Paying down a mortgage offers a guaranteed return—one that will likely outperform high-quality bonds. Today, you can get a 30-year fixed rate mortgage at 4.1%, which seems like cheap money. Who wouldn’t want the largest mortgage possible? Problem is, paying 4.1% to others doesn’t seem so cheap when you can only earn 2.4% by buying 10-year Treasury notes or just 2.8% with intermediate-term corporate bonds.

Yes, your mortgage interest should be tax-deductible. But Treasury bond interest is taxable at the federal level, and corporate bond interest is taxable at both the federal and state level, so the tax argument is pretty much a wash.

What if you bought your bonds in a tax-deductible or Roth retirement account? Your tax-adjusted return might be higher than your gain from mortgage prepayments. But remember, you’re limited in how much you can invest in tax-deductible and Roth accounts each year. If you’re an aggressive investor, you will likely want to use those tax-favored dollars to buy your highest-returning investment, which should be stocks.

A digression: It’s been argued that, if you buy stocks in a traditional retirement account, you convert gains—which would have been taxed at the lower long-term capital gains rate—into retirement account withdrawals that will be taxed at the higher ordinary income tax rate. But there’s another—and, I believe, more accurate—way to think about the tax issue: No matter what you buy, your gain should be effectively tax-free. With a Roth, that tax-free growth comes as part of the package. But with a tax-deductible retirement account, you can also end up with tax-free growth, because the initial tax deduction pays for the final tax bill. I explain the math in HumbleDollar’s online money guide.

The bottom line: Maintaining the largest mortgage possible might make sense if you have nerves of steel and you’re fully committed to a leveraged 100% stock portfolio. But if you have any inkling to hold bonds along with your stocks, you’ll likely find a better combo is paying down your mortgage with taxable account savings, while using your tax-favored accounts to buy stocks. Eventually, with the approach of retirement and the need for a more conservative portfolio, you may want to hold some bonds in your retirement accounts. But until then, your top priority with your conservative dollars should probably be paying down debt, including mortgage debt.

3. Buying a home locks in housing costs—and paying off the mortgage dramatically reduces them. Housing is the single biggest expense for most American families. Indeed, lenders will typically allow you to take on mortgage payments, including homeowner’s insurance and property taxes, equal to as much as 28% of pretax income.

But once you’ve bought a house, that percentage should shrink over time, if only because your income is driven higher by inflation. Arguably, that’s the big advantage of homeownership. While renters often see their monthly payments climb as quickly as their paychecks, the housing costs incurred by owners should slowly decline as a percentage of their income—and, once the mortgage is paid off, those costs will fall sharply.

That’s a magical moment. Suddenly, your fixed living costs are so low that it becomes much easier to pay the kids’ college bills and save for retirement—and you might even discover you can quit the workforce entirely. Indeed, for many folks, making that final mortgage payment is the signal that retirement is finally affordable.

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