Wednesday, February 29, 2012

WW: Price

Welcome to Word Wednesday. The word of the week is Price.

Price is the upfront cost of something, for example the price tag. This is what is paid. To many people, this is the sole indicator of value. They will buy their meals off the value menus. They'll shop the dollar stores. While you can get a lot of stuff for less money, price should not be the sole indicator.

Some people prize price over value so much that when presented with a "deal" they will buy something they would not normally buy. Advertisers count on this. Author Robert Kiyosaki calls this turning your cash into trash.

As an example, say you can get a cell phone plan that gives you 700 minutes a month for $40 per month. The next tier gives you 1,500 minutes a month for $50. Some people would say that the first plan is almost 6 cents a minute and the second is a little over 3 cents a minute. The price per minute does not tell you the value. If you only use 500 minutes a month, you are really are paying 6 cents a minute for the first and 8 cents a minute for the second. I've heard people say that for $10 a month more they don't have to worry about going over. That's their value judgement, just don't use price as the reason for the purchase.

Bulk buying is another way many are tricked into spending more money. This is somewhat related to the 1,500 minutes. The more you have of something, the more you tend to use. We used to buy little cinnamon containers. They were more expensive per ounce than the big bulk containers so we switched. Then we noticed that we were using more cinnamon, because we had more. We didn't have to worry about running out. Kind of like no one wanting to drink the last of the milk in the fridge. When you get low, you tend to ration more (ie use less). When you buy in bulk, you get low less often and tend to use more. Also, if it is perishable you run the risk of throwing out (wasting) more. Add on top of that that sellers know that the mentality is that bulk costs less per unit, they will actually sell bulk at more per unit. Few people actually validate that bulk costs less per unit and will end up paying a lot more.

What is a cynic? A man who knows the price of everything and the value of nothing. 
Oscar Wilde 


 [prahys]   Origin


  [prahys]  Show IPA noun, verb, priced, pric·ing.
the sum or amount of money or its equivalent forwhich anything is bought, sold, or offered for sale.
a sum offered for the capture of a person alive or dead: Theauthorities put a price on his head.
the sum of money, or other consideration, for which aperson's support, consent, etc., may be obtained, especiallyin cases involving sacrifice of integrity: They claimed that everypolitician has a price.
that which must be given, done, or undergone in order toobtain a thing: He gained the victory, but at a heavy price.
odds def. 2 .

verb (used with object)
to fix the price of.
to ask or determine the price of: We spent the day pricingfurniture at various stores.

at any price, at any cost, no matter how great: Their orderswere to capture the town at any price.
beyond without price, of incalculable value; priceless:The crown jewels are beyond price.
1175–1225;  (noun) Middle English pris e ) < Old French  < Latinpretium  price, value, worth ( compare precious); (v.) late MiddleEnglish prisen  < Middle French prisier,  derivative of pris, OldFrench  as above; see prize2 praise

Monday, February 27, 2012

Wednesday, February 22, 2012

Why You Should Invest in the Stock Market

I've heard that everyone should be in the stock market because it gets, over the long haul, 12% returns. I've also heard that instead of trying to time the market and play games, you should get into an Index fund and just ride it out. Instead of just taking that advice at face value, I delved into it to see what is really going on.

I took the value of the Dow Jones Industrial Average as the basis for my investigation. I downloaded the full history available from Yahoo!.
I took the closing value of the Dow on the first of January of each year. The average gain from one year to the next was 6.55%. Not the 12% I've heard, but better than the around 1% rate on savings. The average inflation during that period was 3.23%, leaving our actual gains to be around 3.27%. Still, better than stuffing your mattress or putting the money in a savings account.

However, most of us do not have the luxury of going back 85 years to put our money in the stock market. This is why the phrase "past performance is not a guarantee of future returns" was invented. If we take a closer look at the average gains in each decade we can get a clearer picture of what might be going on.

Imagine if you picked the 70's to get started investing in the stock market. By the 90's you'd be pretty impressed with yourself as an investing guru. So it really depends on when you get in and when you get out, timing the market.

Let's take another look at the Dow. Compare the chart below to the Dow chart I started out with.
Notice any similarities? The first chart was the entire history I got of the Dow from Yahoo!. This chart is the same data, just up to 1982. So what do the mid 60's and early 2000's have in common? War, specifically Vietnam and the War on Terror. If you look for the pre-Vietnam run up and the flatline afterwards on the first graph you'll notice that it doesn't even register. The ramp up in the early 80's and even more so the late 90's dwarf the "problems" in the 70's.

So is the trend that following a war flatline there are two decades of growth followed by incredible growth? I think it is more of a warning about government spending, especially war spending, and what it does to the economy.

There were three events I think led to the 80's (mild compared to the 90's) boom. The first is the baby boomers (those born between 1946 and 1964). They have changed the rules at every stage of life. In the mid 80's baby boomers started turning 40. They were past the arrogant years and starting to worry about retirement. That alone would not have had that much of an impact on the stock market if it had not been for the other two events, women entering the workforce and the invention of the 401(k).

From 1970 to 1990 the percent of women working jumped over 30%. In 1970 around 1/3 of the female potential workforce was employed. By 1990 over half of the female potential workforce was employed. This increased the household income (but was in large part needed to keep up with inflation, but that is another story entirely) and added to the 401(k) boom.

The 401(k) gave companies an incentive to help their employees invest in the stock market with pre-tax money. Given that baby boomers were starting to think about retirement and taxes and companies were given incentives to help them put their money in the stock market, this led to a large cash infusion in the stock market. This is what I think led to us leaving the post-Vietnam stock slump.

The 90's also had two events that helped accelerate the stock boom, the internet (and online trading) and more available housing. I am not referring to the dot-com bubble when  I am referring to the internet, but the availability of information about companies and the ease with which the internet afforded stock trading (eTrade went public in 1996). Like the roaring 20's when the people caught the stock bug when they saw the large returns, more individuals had access to the stock market and it became popular to trade stocks online. This provided another infusion of cash into the market.

The changes to the Community Reinvestment Act in 1995 made housing available to more people. This increased the demand for housing, thus raising the prices (more people could buy homes but the number of homes did not increase as fast). This combined with the ease of online trading increased the cash available to infuse the market.

So now we look into our crystal ball to see what the future has for us. Just like the period around the Vietnam war we have a boom in the stock market, followed by some bouncy but overall flat years. Where are we going to get the cash infusion to the market for the next ride? Here are a couple of things to think about.

  1. Baby boomers are going to start retiring (turning 65 in 2011 - 2030) and start pulling money out of the market instead of putting money in. Again, they are going to change the rules. If their investing started a minor boom, what will their withdrawals do?
  2. Is there some new mechanism (tax law like 401(k) or new invention like online trading) that will encourage more people to invest in the market? Given that our economy is hurting and people are paying more attention to immediate needs than investing I don't know how we are going to squeeze more money out of people to put in the market.

So, why do I think you should invest in the stock market? Here are my reasons:

  1. You want to support baby boomers with money you'll probably never see again (kind of like Social Security)
  2. You live in a warm climate and will not need the cash to burn to keep you warm
  3. Your Investment Advisor's children are getting ready to go through college
  4. You have more money than you know what to do with
  5. You'd rather pay 22% on your credit cards and throw your money down the stock market drain
What should you do instead of invest in the stock market? I'm not going to tell you. Go out and figure it out for yourself. Learning is your best defense against poverty.

WW: Expense

Welcome to Word Wednesday. The word of the week is Expense.

Last week we discussed income, which is basically increase, usually financial. Expense, on the other hand, is decrease. While income increases your resources, expenses decrease your income.

There are a few ways to look at expenses. One is to look at them as passive versus active, like income. Active Expenses are expenses where you actually do the work to decide to purchase. Active expenses have some amount of thought that goes into them, and so they are usually of more benefit.

Passive Expenses are expenses that you set up the purchase once and then continually pay for them. This would be things like cell phones, cable TV, magazine subscriptions, insurances and utilities like water, electric and gas. These expenses are a continual drain on your resources, without much thought given to how much they are needed. In comparison to active expenses, passive expenses need to be scrutinized on a regular basis to ensure that the value you are getting is still worth the money.

You can break down passive expenses into fixed and variable. Fixed expenses tend to be things like cable, cell phone, etc. They don't vary much (except for things like overage charges) and are great for budgeting because you can plan on them. Variable expenses can be a bit trickier. These are often utilities, like electric, gas and water. These vary, usually seasonally, and can wreak havoc depending on the weather. You can somewhat compensate for the variance by determining what the yearly average is, adding some for rate hikes and paying the higher of your balance or the average. If you reevaluate every six months or so the average and you add some to account for price hikes, you'll have turned a variable expense into a nearly fixed expense.

A second way you can break down passive expenses is into how often it is paid. Utilities, cell phones and cable bills usually come monthly (as does most income). Expenses like insurances and taxes can be paid less often, usually for a discount. Or, said another way, you can pay some expenses monthly for a fee. If you set up a separate bank account to store off the monthly amount for these (kind of your own escrow) expenses, you can reduce your overall expenses by eliminating the fee for monthly payments.

Another view of expenses in general is small versus large. Small expenses are the expenses that most people don't even think about. A dollar here a few bucks there. Small expenses are not thought to be a big deal. However, like passive expenses, there is little thought put into the value received. Each expenses seems like no big deal. However, when added up, these could be the small leak that are sinking your financial ship.

Large Expenses can also sink your ship. Large expenses are usually not bought on impulse. There is some thought put in as to the perceived value. However the financial drain is often underestimated, and often large expenses are turned into passive expenses though financing (although small expenses can be to with credit cards that are not paid off monthly). This would be the houses, cars, boats, televisions, furniture, etc. You may need some of these large expenses but the problem is that you do not deal with expenses this large on a regular basis. This leads many to buy more or bigger than they really should. They'll buy the perfect house because the bank says they qualify. After a credit check the dealer tells them the payments, which seem like minor additions to their budgets. The new flat big screen televisions are on huge discount right now, so they run out and get one (or maybe two since its such a great deal). Then we come to the next categorization of expenses.

The next view of expenses would be Expected Expenses versus Unexpected Expenses. It seems that it never fails that once you make that big purchase, an Unexpected Expense comes along and puts you even further in the hole. It could be that you had a income tax refund that you used to buy that big screen television, and then the air conditioner stops working or your car breaks down. Planning for unexpected expenses is a lost art. I've heard it recommended that we have anywhere from three months to a years worth of expected expenses stashed away. This gives us the freedom and peace of mind that we don't have to worry about these unforeseen expenses sinking our financial ship.

Beware of little expenses. A small leak will sink a great ship. 
Benjamin Franklin 


 [ik-spens]   Origin


  [ik-spens]  Show IPA noun, verb, -pensed, -pens·ing.
cost or charge: the expense of a good meal.
a cause or occasion of spending: A car can be a great expense.
the act of expending; expenditure.
charges incurred during a business assignment or trip.
money paid as reimbursement for such charges: toreceive a salary and expenses.
verb (used with object)
to charge or write off as an expense.

Wednesday, February 15, 2012

WW: Income

 Welcome to Word Wednesday. The word of the week is Income.

Income is a very straightforward idea. You have an increase. This is usually measured in dollars. Most people consider their paycheck as their income. There are different types of income. Two main categories of income are Active Income and Passive Income.

Active Income is income that you actively participated in producing. This would be an hourly or salaried job, most business owners, day traders, etc. Active income is any source of income that would stop if you stopped. This is the most common source of income.

Passive Income is income that you do the activity once and get paid continually afterwards. This would include dividend stocks, royalties, rental properties, and systems based businesses. The benefit of passive income over active income is that you can do the work once, be paid for it over a period of time, all the while working on the next passive income. So instead of trading time for money you are trading time for raises.

There is another type of income that is often forgotten, unexpected income. This can be from birthday presents, tax refunds, etc. People usually treat this money completely separate from regular income. They will usually go out and spend it on something they would normally not spend money on. This gets them no further ahead financially, and the high you get from the new purchase quickly wears off. Do not waste the gift of unexpected income.

A large income is the best recipe for happiness I ever heard of. 
Jane Austen 


 [in-kuhm]   Origin


  [in-kuhm]  Show IPA
the monetary payment received for goods or services, orfrom other sources, as rents or investments.
something that comes in as an addition or increase,especially by chance.
Archaic a coming in.
1250–1300; Middle English:  literally, that which has come in,noun use of incomen  (past participle of incomen  to come in), OldEnglish incuman; see income

in·come·less, adjective

1.  interest, salary, wages, annuity, gain, return, earnings. 

1.  outgo, expenditure.