Jonathan Clements's Blog, page 449

Prosperity’s Pitfalls

IS IT POSSIBLE to have too much money? This falls firmly into the “nice problems to have” category. Still, imagine you’re the lucky recipient of a winning Powerball ticket or a rich aunt’s bequest. You might find yourself grappling with three threats to your happiness.

First, you could quickly get used to the finest things in life, with no prospect of ever enjoying anything better. If you’re occasionally upgraded to first class, it’s a treat, because you can easily recall the indignities of economy. But if you always fly first class, you’ll take it for granted and it won’t seem special. Gone from your life will be the pleasure of an improving standard of living.

That brings us to a second, related problem: Because you could afford pretty much anything your heart desires, each item you possess will likely have less perceived value. Let’s say you own a single piece of art. Each day, you might catch a glimpse and feel a surge of appreciation. But if you have fine art on every wall, each painting will receive only a sliver of your attention, if you notice them at all—and the abundance may downgrade the joy you receive from the entire collection. Admittedly, modest pleasure from lots of art could be worth more than great pleasure from one or two pieces, but I wouldn’t bank on it.

Third, all that money will give you endless choice. But too much choice could leave you with a gnawing sense of uncertainty. Am I squandering the financial freedom that I have? Would I be happier if I were doing something else? As you wrestle with these questions, you may discover that instead of enjoying life, you’re agonizing over how best to live it.

Related: Nine Simple Strategies for a Happier Life

Related: Jonathan’s Story: Five Takeaways from Happiness Research

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Unexpected but Predictable

WHEN THE AXLE OF MY 2006 HONDA broke in the middle of a North Philly thoroughfare in December and I needed $500 to fix it, I knew where to turn: my family’s “life reserve” fund.

Every year, there are articles about how most Americans have little or no emergency money. Whether the unexpected cost is a car bill or an unanticipated job layoff, it’s critical to save for expenses that aren’t accounted for in your normal budget. Losing your job may come as a surprise. But many of these expenses are predictable: We can assume that each year someone in our family will need dental work, a vet bill will be higher than expected or our heating system will need repairs.

So how do we prepare for these unexpected but predictable costs? As I mentioned in an earlier blog, my wife and I manage our budget through various categories—a strategy I highly recommend. One of our essential categories is a life reserve fund. Each month, we contribute a fixed amount to the reserve fund for big ticket repairs on our house and cars, as well as other random but common life events. Then, when the air-conditioning dies or a pothole wreaks havoc with our car, we don’t find ourselves making tough choices between covering these costs and maintaining our lifestyle. We know and expect to use our life reserve fund throughout the year. Although we don’t know when a precipitating event will occur, we want to be ready when it does.

If you’re considering building a similar reserve fund, I’d recommend starting with the end in mind. How much did you spend last year on the vet, home repairs and other “emergencies,” and what would that look like as a monthly contribution? Then, find a good interest-bearing online savings account and set up automatic deposits from your paycheck or checking account.

It’s helpful to distinguish a life reserve fund from a true emergency fund, which we’ve also built up over the last 10 years. Our emergency fund has nine months of household expenses and is meant for costs we hope never to face, such as mortgage payments if one of us lost our job or medical expenses if we suffered major health problems.

Both a life reserve fund and an emergency fund are important. But for those new to long-term savings, creating a life reserve fund is a first—and more attainable—step in preparing yourself to withstand the ebbs and flows of financial life.

Zach Blattner is a former teacher and school leader who now teaches teachers across the Philly/Camden region as a faculty member at Relay GSE. He is a self-taught finance nerd who dispenses advice to his wife, friends, family and anyone else willing to listen.

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Reemerging Markets

IF YOU WANT INTELLECTUAL investment stimulation, you’d be hard pressed to do better than ResearchAffiliates.com, the site for Rob Arnott’s money management firm. Rob is one of the smartest guys I’ve met during my three decades bouncing around the financial world. Over the years, he’s offered intriguing insights on topics such as tax management, share dilution and indexing.

Are you confident U.S. stocks will continue to shine? Check out Research Affiliates’ 10-year expected returns. The firm expects small U.S. stocks to lag behind inflation and larger-cap U.S. stocks to eke out the slimmest of gains, while emerging markets and developed foreign markets roar ahead.

Intrigued? Read the firm’s recent article on emerging markets. They’re arguably the world’s most attractive asset class, with modest valuations, depressed currencies and favorable demographics, plus upward price momentum from 2016 that could signal the beginning of a long-awaited rebound. Then ask yourself whether you have enough exposure in your own portfolio. Emerging markets account for 9% of global stock market valuation, based on the FTSE Global All Cap Index, and 19% of non-U.S. market capitalization, as measured by the FTSE All-World ex-U.S. Index. I’m a believer: In recent weeks, I’ve been adding to my emerging markets index fund.

How does Research Affiliates forecast stock returns? You can get a plain English explanation by heading to the site’s resources section and reading the white paper on the firm’s equities methodology.

Also check out the site’s demographic data. The chart at the bottom of the screen, which shows the shrinking number of workers per retiree, starkly illustrates why growth is so sluggish in the developed world and why we need the typical retirement age to rise. But it also explains why emerging markets remain a compelling investment—though even they will face potential demographic headwinds later this century.

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Friendly Fire

IN AUGUST, I began a PhD in history at Yale. My scholarship falls just short of $30,000 a year. While not exactly commensurate with the university’s $25 billion endowment, it’s a generous stipend compared to those at similar programs. Compare it to what most of my friends are making, however, and my financial situation looks somewhat less favorable.

I graduated two-and-a-half years ago from Washington University in St. Louis. Many of my friends are now working in New York City, with salaries approaching six figures. Even those friends accruing vast debt in law school have such high expected future income that they feel justified splurging on this and that.

This has serious ramifications for my social life—both what I do and with whom I do it. In New Haven, my fellow graduate students are similarly strapped for cash. Friday night plans generally consist of a double-size bottle of Yellow Tail and a card game. Nights out with friends in New York look rather different. The $35 roundtrip train ticket to Manhattan alone puts a sizable dent in my disposable income. Add that to subway rides, dinners out and overpriced cocktails, and I begin to realize that I simply can’t afford to hang out with certain people.

This isn’t likely to change anytime soon. My PhD will probably take seven years to finish, and Yale rarely adjusts stipends for inflation. I’ve already had to forgo vacations with friends and, if my sister’s experience is any indication, I won’t be able to attend many weddings, either. I, of course, wish all my friends the best in their financial lives. But maybe I’d see them more often if they weren’t quite so successful.

Henry Clements, Jonathan’s son, is a PhD student at Yale. Back in the U.S. after two years in Cairo, he studies modern Middle East history and is considering taking up the banjo.

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This Week/Jan. 8-14

PLAN NEXT SUMMER’S VACATION. By starting now, you’ll have a long stretch of eager anticipation—which may prove to be the best part of the vacation. Let your imagination roam, pondering lots of possible trips. In the end, you might take just one summer vacation, but in your daydreams you can visit all kinds of places—at no cost.

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The Marriage-Industrial Complex

LAST YEAR, I READ Aziz Ansari’s Modern Romance, a book where he explores millennials’ experience with finding love. Ansari writes: “In 1932 a sociologist at the University of Pennsylvania named James Bossard looked through five thousand consecutive marriage licenses on file for people who lived in the city of Philadelphia. Whoa: One-third of the couples who got married had lived within a five-block radius of each other before they got married. One out of six had lived within the same block. Most amazingly, one of every eight married couples had lived in the same building before they got married.”

Ansari finds things to be very different today: The majority of his friends “married people they’d met during their postcollege years, when they were exposed to folks from all over the country and in some cases all over the world.”

This modern reality has had serious implications for my wallet.

In the past four years, I have attended weddings in New Orleans, Nashville, Austin, Baltimore, Washington, DC, Hoboken, NJ, and Columbia, Md. Some friends’ nuptials have brought me to even more remote locations, including Sioux Falls, SD, the Pocono Mountains in Pennsylvania, Deep Creek Lake, Md, Amherst, NH, Las Cruces, NM, and Bluemont, Va. In 2017, weddings will take me to Charleston, Memphis, and Tarrytown, NY.

American Express recently reported that the average millennial wedding guest spends $893 per “big day.” On a month when I have a wedding, that is 27% of my take-home pay. Wondering how a guest could possibly spend $893? Look up the cost of a flight from my home in Philadelphia to Las Cruces, a hotel in Hoboken or pretty much anything from the Williams-Sonoma registry, and you will quickly see how. Getting to Sioux Falls was my real-life version of the movie Planes, Trains and Automobiles.

The simple solution is to respectfully decline the engagement parties, bridal showers, bachelorettes and weddings. But as someone who values family and friendship above everything else, it pains me to miss out on such significant events. And, if the situation were reversed, I would be crushed if no one came to celebrate with me. So what’s my solution to the insane millennial wedding culture? Re-wear dresses, split hotel rooms with five people and, this February, drive ten hours to Charleston to avoid the airfare.

Hannah Clements is a former teacher who now runs STEM programming for an education non-profit in North Philadelphia. She likes protein shakes, cleaning her house and, most of all, being Jonathan Clements’s daughter.

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Honey, I Shrunk the Portfolio

AN 80-YEAR-OLD WRITES, “We spend a substantial sum each year for travel, which eats up a good share of our retirement accounts’ required minimum distribution. That means our total nest egg decreases even when the portfolio shows a gain. We could stop traveling so much. But that’s no fun. So we are relegated to the facts: Our portfolio will show a decrease as long as we insist on traveling.”

My response: “You shouldn’t necessarily be concerned that your portfolio shrinks a little each year. If I were in your shoes, I would pick a target life expectancy. Let’s say it’s age 100—20 years from now. As long as your portfolio doesn’t shrink by more than 1/20th this year—or 5%—I wouldn’t be too worried. Next year, your threshold would be 1/19th, and so on.”

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Underwater Overseas

THE U.S. ECONOMY REMAINS ROBUST, with unemployment at a nine-year low and real GDP growing at an annualized 3.5% in the latest quarter. Meanwhile, overseas markets are confronting the double whammy of political upheaval and economic malaise. So why own foreign stocks? That’s the topic I tackle in my latest client letter for Creative Planning.

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Why I Invest With a Robo-Advisor

ALGORITHMS, those fancy computer calculations that can help you find the closest slice of pizza, are upending entire industries, including money management: They have given rise to a new generation of robo-advisors such as Wealthfront—the company I use to manage my investments.

Why do I trust a computer with my savings? The truth is, humans aren’t very good at choosing investments. Exchange traded funds (ETFs)—low-cost passive funds that own a broad collection of stocks—have emerged as an attractive alternative to actively managed mutual funds. Index funds are eating the financial world, with the savings being passed along to everyday investors.

Wealthfront systematically evaluates the landscape of over 1,400 ETFs and spreads my money across nine primary recommendations, based on an assessment of my investment goals and risk tolerance. This is the sort of task algorithms are perfect for.

Wealthfront also takes care of three basic account maintenance activities. The first is rebalancing, which is the buying and selling of funds to maintain a desired balance between different asset classes. Let’s say your optimal balance is 60% stocks and 40% bonds. Because different investments will grow at different rates, over time your account’s ratio will get out of whack. Wealthfront takes care of the buying and selling of assets to keep an optimal balance.

Second, Wealthfront automatically reinvests dividends. This makes sure you’re maximizing the long-term growth of your account. Finally, Wealthfront takes care of tax-loss harvesting on all taxable investment accounts. When you own different assets, some will go up and some will go down. Tax-loss harvesting is the process of writing off investment losses to minimize your tax bill and maximize your earnings. It’s a strategy—previously reserved for millionaire investors—that Wealthfront has democratized. Just send the 1099 Wealthfront generates to your tax advisor and you’re set.

Of course, these investment goodies aren’t free. Wealthfront charges a flat 0.25% fee per year. That is significantly less than the average human financial advisor, who typically charges about 1% a year. Your first $10,000 is managed for free, and you can get an additional $5,000 managed for free for every friend you invite to the platform. It’s an effective “growth hack.” I’ve invited two friends, and have up to $20,000 managed for free.

As much as I’m a fan of Wealthfront, especially because of the free management bonuses, it might not be the best solution for me once my investments reach a certain size. At the moment, I’m happy paying 0.25% to not spend time managing my account. Once my account is larger, that fee could mean thousands of dollars per year—and it would be worth it to spend my time manually rebalancing my account and reinvesting dividends. But until then, I’m sticking with the algorithm.

Steven Aguiar 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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Why I Invest With a Robo

ALGORITHMS, those fancy computer calculations that can help you find the closest slice of pizza, are upending entire industries, including money management: They have given rise to a new generation of robo-advisors such as Wealthfront—the company I use to manage my investments.

Why do I trust a computer with my savings? The truth is, humans aren’t very good at choosing investments. Exchange traded funds (ETFs)—low-cost passive funds that own a broad collection of stocks—have emerged as an attractive alternative to actively managed mutual funds. Index funds are eating the financial world, with the savings being passed along to everyday investors.

Wealthfront systematically evaluates the landscape of over 1,400 ETFs and spreads my money across nine primary recommendations, based on an assessment of my investment goals and risk tolerance. This is the sort of task algorithms are perfect for.

Wealthfront also takes care of three basic account maintenance activities. The first is rebalancing, which is the buying and selling of funds to maintain a desired balance between different asset classes. Let’s say your optimal balance is 60% stocks and 40% bonds. Because different investments will grow at different rates, over time your account’s ratio will get out of whack. Wealthfront takes care of the buying and selling of assets to keep an optimal balance.

Second, Wealthfront automatically reinvests dividends. This makes sure you’re maximizing the long-term growth of your account. Finally, Wealthfront takes care of tax-loss harvesting on all taxable investment accounts. When you own different assets, some will go up and some will go down. Tax-loss harvesting is the process of writing off investment losses to minimize your tax bill and maximize your earnings. It’s a strategy—previously reserved for millionaire investors—that Wealthfront has democratized. Just send the 1099 Wealthfront generates to your tax advisor and you’re set.

Of course, these investment goodies aren’t free. Wealthfront charges a flat 0.25% fee per year. That is significantly less than the average human financial advisor, who typically charges about 1% a year. Your first $10,000 is managed for free, and you can get an additional $5,000 managed for free for every friend you invite to the platform. It’s an effective growth “hack.” I’ve invited two friend, and have up to $20,000 managed for free.

As much as I’m a fan of Wealthfront, especially because of the free management bonuses, it might not be the best solution for me once my investments reach a certain size. At the moment, I’m happy paying 0.25% to not spend time managing my account. Once my account is larger, that fee could mean thousands of dollars per year—and it would be worth it to spend my time manually rebalancing my account and reinvesting dividends. But until then, I’m sticking with the algorithm.

Steven Aguiar is the founder of BlueWing, a B2B digital marketing agency. He majored in Economics and Spanish at Brown, and is a big fan of compounding interest.

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