The Wealth Project

Buy vs. Rent Calculators

2007-04-18T08:07:00.000-06:00

If you've read some of my other posts, you'll know that I hate financial truisms like "You need to be able to generate 80% of your pre-retirement income to live comfortably in retirement" or "Invest in stocks because you'll get 8% returns." Why do I hate these sayings? Because they purport to be true for all individuals when, in reality, financial planning is such an individual-specific exercise. And, as these sayings become accepted as truisms, people are effectively discouraged from challenging these ideas and thinking for themselves.

One of the most annoying financial truisms to me is the whole "renting is throwing away money" and "you should always buy instead of renting" line of thought. I accept that owning property is hardwired into our collective DNA as one of those quintessentially American ideals like mom and apple pie, but taking these truisms as the truth can result in some horribly bad financial decision-making. And, I'm not just talking about the people who took out sub-prime mortgages. The way to figure out whether this particular truism is, in fact, true for you is to sit down and crunch the numbers to accurately assess your situation. I realize for a lot of people, the joy of math probably ended somewhere in high school, if not before then, and putting a rent versus buy analysis together may be beyond the scope of their desire, ability and/or free time. One solution to this problem is to use one of the many online calculators that provide a rent versus buy analysis. The problem for me was that I found most of the online rent versus buy calculators to be overly simplistic - most contained too few variables for consideration, and as a result, I ended up spending way too many hours putting together my own rent vs buy spreadsheets.

However, just last week, the New York Times released its own online rent vs. buy calculator (registration may be required - but it's free!), and this is one of the first calculators that I've seen online that I think captures most of the major variables that should go into a rent versus buy analysis. In addition to accounting for many of the most basic variables that other calculators include (monthly rent, mortgage interest rate, etc.), it includes many other variables commonly ignored, such as annual HOA/assessment/maintenance/upkeep charges in owning and insurance/broker fees from renting. Most importantly, the calculator accounts for investment opportunity costs when you make a particular choice, and you can see the consequences of your choices depending on the rate of home price appreciation and rental price increases.

What the New York Times' calculator does is it puts you the consumer in the position of making an informed choice. That is, it doesn't just give you simplistic "buy" or "rent" answers, but rather it forces you to actively think about and consider your assumptions. The beauty of all this is that given the same set of facts for two individuals, one person might choose to buy and one person might choose to rent, and it would be the rational decision for both. For example, let's say you are looking to move to Irvine, California. Searching online, you find this beautiful new 2 bedroom, 2 bath apartment with a pool for $1850/month. You're also considering buying a home as well and find this beautiful new 2 bedroom, 2 bath townhouse for $479,900.

Going to the New York Times calculator, here are the other figures I will input (jump to the next paragraph if numbers are going to make your eyes glaze over): On the main page, I assume a 20% down payment, 6.25% mortgage rate, 1.5% annual property taxes, and annual rent increases of 2%. On the Renting tab, I assume 1 months deposit, 0% rental broker fee (this isn't New York City after all), and 1% renter's insurance. In the Buying tab, I assume $100 in condo fee/common charge with 0% deductibility, 4% buyer closing costs, 6% seller costs, 30 year mortgage, 0.5% annual renovation and maintenance costs, 0.46% homeowner's insurance, $500,000 in capital gains exclusion, and $100 in additional monthly utility charges. Finally, on the General tab, I assume 8% return on investments, a 31% effective income tax rate and 2.5% inflation rate.

So, what's the answer? Do I rent or buy? The answer is it depends because I still haven't entered in an assumed annual home appreciation rate yet! So, if I'm following all the doom and gloom in the news and think the housing bubble is upon us, I'll put in a lower home appreciation rate, say 2%, and the calculator tells me that buying is never better than renting over 30 years. Thus, I should rent. But, if I'm bullish and optimistic and believe that lots of people are going to keep moving to Southern California where the weather is perfect and there just isn't much room left to build houses, I might put in a more optimistic appreciation rate, say 6%, and the calculator tells me that buying is better than renting after just 4 years.

So, what's the lesson? The first lesson is that there is no easy buy versus rent answer and that not all renters are losers! The second lesson is that your assumptions and beliefs play a huge role in the analysis. If you're a young 30 year old couple looking to start out, you're probably also putting your investment funds into stocks expecting higher returns. If you're on the cusp of retirement, your funds may be in more conservative investments. Thus, the 30 year old and the retiree would have different assumptions to punch into the Times' calculator. So many different factors can impact the calculations.

And, all of this isn't to say that there aren't problems with the Times' calculator. A more robust calculator might take into account future effective tax rates (e.g. are you climbing the corporate ladder with annual salary raises and thus higher income tax brackets? Do you think a future President Hillary might increase taxes?), the impact of non-traditional mortgages like 80-10-10s or 80-15-5s, variable rate mortgages, expected growth in HOA/assessments as the property ages, etc. Also, more generally, who really knows what the inflation rate should be or what rate home prices will appreciate at? But, the bottom line is that going through the exercise of punching in some numbers into the buy vs. rent calculator will at least make you informed enough to know that renting isn't always throwing away money!

Hedge Funds 101

2007-04-15T15:51:00.000-06:00

What do hedge funds have to do with personal finance? Not much unless your idea of personal finance involves figuring out what to do with with the idle millions of dollars sitting in your bank account.

But, with more and more capital being managed by hedge funds and with the growing influence of hedge funds on global capital markets, it's certainly worth at least knowing what a hedge fund is and is not. Just a couple years ago, if somebody asked me what a hedge fund was, I would respond by saying that a hedge fund is basically a mutual fund that is allowed to short stock, employs quantitative PhDs who create complex trading algorithms, and charges its clients outrageous fees due to its ability to create above-market returns. I suppose those types of hedge funds still exist out there, but more and more, you see hedge funds acting like private equity shops (crude definition: an investment firm that raises money, often through highly leveraged debt, to buy out operational companies, make financial and/or operational changes to those companies, and then flip the companies back out on the market to other investors - see the Wikipedia entry on "private equity" for a slightly less crude explanation) or serving as activist insurgent shareholders. Venerable companies like Goldman Sachs, which one might use to describe as an investment banking firm, now looks more like a giant hedge fund and makes far more money in its proprietary trading than it does in banking.

So, then, what exactly is a hedge fund? Whether you're curious to know or you just want to sound smart at dinner parties, I recommend checking out this New York Magazine piece which offers a good basic introduction to hedge funds. Here are a few selected passages from the article:

It’s only a vehicle for investing, albeit one that happens to be less constrained than most. Your run-of-the-mill mutual fund, for example, buys stocks and bonds, and that’s pretty much it. Most are not even allowed to employ short selling, a way of betting that the price of a security will fall. Hedge funds can employ whatever investing tools they want, including leverage, the use of derivatives like options and futures, and short sales. The New York Times decided years ago to incessantly refer to hedge funds’ use of these instruments as “exotic and risky,” thereby adding to their aura of mystery. The funny thing: Practically all financial institutions use these “exotic” instruments.

There’s a much simpler way of putting it, offered by one of the industry’s luminaries. According to Cliff Asness of AQR Capital, “Hedge funds are investment pools that are relatively unconstrained in what they do. They are relatively unregulated (for now), charge very high fees, will not necessarily give you your money back when you want it, and will generally not tell you what they do. They are supposed to make money all the time, and when they fail at this, their investors redeem and go to someone else who has recently been making money. Every three or four years, they deliver a one-in-a-hundred-year flood.”

Save Money: Passport Photos

2007-04-01T17:29:00.000-06:00

The next time you're looking to renew your passport, save the $9 or $10 that it costs to take a passport photo at your local pharmacy, and do it yourself with a digital camera. Have someone take four or five shots of you from various distances against a white background and upload those pictures to your computer to figure out the right size you need. Or, just head over to the pharmacy to print out your pictures at $0.19 each and pick the one that looks right. All in all, it shouldn't take too much more time than getting your photo taken at the pharmacy.

Real Estate: Information Overload and How to Think For Yourself

2007-03-29T20:58:00.000-06:00

Is it me or has it been just about impossible for the past several years now to go through a day without hearing or reading something about the housing market? At first, it was all about how everyone was making boatloads of money in real estate (with the implicit message that anyone not in on the action, read: renters, would get passed by in the great economic rat race), and more recently, everything has centered around the fear of housing bubbles, rising interest rates and the subprime mortgage market. Truisms that seemed to make so much sense a couple years ago (e.g. "real estate is never a bad investment because prices always go up!") have been replaced by others (e.g. "there's a giant housing bubble in our country caused by an overheated run-up in housing prices!"). With so much information overload out there, how do you separate the wheat from the chaff to figure out what is and isn't important when you're looking to buy or sell property? Some thoughts below:

Reject all the truisms - personal finance is by nature "personal" which means that no one truism applies to all inviduals. So, no matter how many times you hear a pundit repeat mantras like "renting is for losers", just because the message is loud and persistent, it doesn't mean that it's necessarily true for you. Remember, there's no help like self-help, and by thinking about issues actively and critically rather than letting others tell you what to do, you're more likely to make better informed decisions.

Don't be afraid to do the math - a lot of truisms that you'll hear on the news or read about on the Internet can be verified (or disproved) by doing a little math. For those of you who are math-phobic, there are a bunch of tools and calculators on the Internet that can help you crunch numbers. Caveat: the only problem is that some of these calculators are more reliable than others, and I could dedicate entire posts to this topic.

So, all I've told you so far is to reject everything you read and hear along with some vague notion that you should be dusting off your old Algebra books to do some math. How is that supposed to help you? Well, I admit that I certainly haven't provided any magic answers, and that's partly on purpose - I don't think there are quick and easy answers. However, I do believe that popular notions about the real estate market are rife with unjustified and oftentimes incorrect myths, mantras and exaggerations, some of which I have tried to address here and here. For now, I'll leave you with this article "What Happens When the Boom Goes Bust" from the Motley Fool, one of the rare articles about housing that I have found to be informative and well thought out:

According to the National Association of Home Builders, the average price for a new home in 1980 was $76,400. In 2005, the average was $295,100.

That's incredible! $218,700 in caaash ...
Before you get too excited thinking about investing in real estate and flipping houses, ponder this: Over a 25-year period, that $218,700 gain comes out to a 5.6% annualized return.

Think about that. If your stock investments had grown at just 5.6% annually over the past 25 years, you'd be kicking yourself. And with good reason -- during that time, the S&P 500 earned 10.3% annually -- almost double the average gains in housing....

Treat investing like you treat homeownership
During the past eight years, home prices have grown at a much faster clip, so some of you are probably accusing us of cheating. We aren't.

Instead, we're taking a long-term view -- because that's the only view that can make you super-rich.

What's a mere million
Consider that cocktail-party story about Sal from Asbury Park who made a million a few years ago flipping condos in Miami. It's a great story, and we'll go ahead and bet that bits and pieces of it are true. In fact, it might all be true.

But for every Sal from Asbury Park, there was a Jimmy from Hackensack who got in over his head and lost everything. Yeah, that happened too. That's why the subprime lending market is collapsing around HSBC (NYSE: HBC), Washington Mutual (NYSE: WM), and New Century Financial (NYSE: NEW), among others.

And even if Sal did make a million in 2003, is he set for life? Certainly not. In order to make that nest egg last, Sal can only withdraw about $40,000 per year. Our guess is that Sal wants to live better than that. So he probably kept flipping houses. Flipping and flipping until the Miami condo market came down around him. Or, if he's still holding properties, the real estate boom cycle has ended, and Sal will be lucky to eke out 5% returns over the next decade or more -- all the while servicing the debt he needed to buy those condos in the first place.

A cautionary tale
Of course, Sal's a figment of our imagination, but we invented him to make a point. One great year will not set you up for life. Even a short-lived real estate boom won't make that happen. To set yourself up for life, you need decades of good years. And the stock market is the wealth-building enterprise that has demonstrated the ability to return 10% per year for decades. In other words, buy a house for the comfort, but buy stocks for the profits.

Travel Tips from a Weary Traveler

2007-03-27T17:13:00.000-06:00

Having spent several weeks on the road shuttling through airports and hotels, I wanted to share some travel tips that I learned along the way:

Hotel Rewards Programs - Make sure you register for your hotel chain's rewards program when you book your hotel stay or at some point during your hotel stay (during check-in or check-out probably makes most sense). If you register for the rewards program after your hotel stay, you may not be able to get credit for your previous stay (something I learned the hard way).

Airline Rewards Programs - Did you know that you can get airline mileage credit for flying on other airlines? So, for example, if you happen to collect all of your mileage through U.S. Airways, if you take a flight on United, you can apply your United flight mileage to your U.S. Airways frequent flyer account. Check your favored airline's website to see its specific policies.

Getting a Better Airplane Seat - I love web check-in but find that it's hard to switch to a nicer seat online. If you have the time, even if you've done web check-in, go to one of the automated self-service machines and check-in again. You may actually be offered better seats (as has happened to me). And, of course, there's always the tried and true method of directly asking one of the airline's customer service agents.

Rental Car - Before you drive off the lot, check your car to make sure all dents, scratches and other problems have been documented. Rental car agencies in big cities are busy and are happy to send you off as quickly as possible. Taking a couple minutes to inspect your car before driving away can save you the headache of filling out an incident report when you return your car and the rental agency "discovers" scratches and dents.

Forget Your Toiletries? Many hotels will provide a complimentary toothbrush, toothpaste, razor and just about anything within reason. So, if you're annoyed by or can't figure out all those ridiculous TSA restrictions on what you can and cannot bring on the airplane, rest assured that you should be able to at least brush your teeth for free.

Airport Security Screening - Save yourself a headache by packing your belt, jewelry, watch, cell phone, Blackberry, coins, etc. in your laptop bag, purse or bookbag so that you can get through the security screening with as less hassle as possible. Also, if you happen to buy a one-way ticket at the last moment at full refundable fare, be prepared to be selected for additional security screening. And, if your name is Robert Johnson or Gary Smith, you're probably screwed.

Why Women Love Handbags

2007-03-22T20:26:00.000-06:00

Like most guys, I've always been confused by one of the great mysteries of the world: what's with women and their handbags? Part fashion accessory, part functional, most bags seem to accomplish neither. They're either way too big (read: suitcase) or way too small. And how is a $2000 bag with the Louis Vuitton symbol plastered all over it considered stylish instead of ostentatious free advertising?

In her book review of It's In the Bag in the Atlantic Monthly, fashion write Lynn Yaeger lends some insight into the mysterious female mind (to be fair, this applies to guys and their man-purses):

As a fashion writer (and, let’s face it, compulsive shopper), I’ve spent the last couple of decades looking at extravagantly priced handbags, trying to uncover their secrets: Why are women dragging veritable suitcases to work when their male counterparts make do with a billfold and a BlackBerry? Why does a frivolous bag like the coquettish Fendi Baguette, shaped as the name would indicate, cause a sensation while the Chanel 2005 (introduced in 1998), which looked like a high-tech pillow and prided itself on its ergonomic correctness, lay a tremendous egg? The answers, it turns out, lie far beyond considerations of practicality or even objective aesthetic appeal. (Sometimes a jolie laide bag will take off while a lovely purse languishes.) This much can be said with certainty: Handbags have nosed their way into a place once occupied almost exclusively by diamonds and fancy furs, functioning as badges of honor, announcements that you’ve arrived at a particular economic or social level, or at the very least, emblems of hopefulness, yearning, and optimism—I have the same bag as a movie star! I am someone to be reckoned with!—that can be brandished for all the world to see.

And, so therein lies the rub - it's about status. A nice purse equals high status. I suppose the guy equivalent would be cars, watches and the big-screen TV. But, with the guy items, I get why the 52 incher is better than the 40 incher or why the Porsche with the super horsepower beats out the cherry red Chevy Cavalier. But, what makes the $920 Gucci bag better than an $8 Target bag? And who can really tell if the knock-off Chinatown Prada bag isn't the real thing? Anyways, pardon me while I go check out the hot new 3 series from BMW......

Is the Value of an Ivy League Education Overrated?

2007-03-12T19:35:00.000-06:00

What's the value of an Ivy League college education (or really, an education at any "elite" private university)? There's certainly a mystique in popular culture about the Ivy League, particularly among non-Ivy Leaguers, that goes something like this: Students at Ivy League schools are a bunch of eggheads different from you and me. With their smarts and prestigious gold-minted degrees, they are set for life as they ascend the upper echelons of power, business and wealth. Like all myths and stereotypes, there are some elements of truth shaded in this notion, but what is the true picture? Is an Ivy League college education superior to an education at State U or some other college? Looking at several objective factors as well as some anecdotal evidence below (which admittedly is not scientific), the answer to this question is a resounding MAYBE...

1. Exclusivity

There is no doubt that Ivy League schools are some of the most selective universities in the world. The acceptance rate at Harvard is around 10%. Contrast that with Texas Tech University and its almost 70% acceptance rate. So, we know that it's hard to get your foot in the door at the Ivy League schools, but what does that mean? I think all we can conclude from the low acceptance rates is that lots of high school seniors apply to Ivy League school because Ivy League schools are desirable.

2. High Caliber Students

Students who are accepted for admittance to Ivy League schools tend to be high achievers, at least from traditional metrics such as grade point averages and SAT scores. In addition, there is ever increasing pressure to demonstrate superlatives above and beyond academics, whether in the field of athletics, volunteer work or something else. So, when you put all these super achievers together, you get a great synergy (or at least in theory). From an anecdotal standpoint, this argument seems to have a lot of traction among the Ivy Leaguers I know. Smart kids, particularly smart kids who are motivated and driven, will push other smart kids to perform their best, share ideas and produce innovation. However, a fair number of the Ivy Leaguers also point out that the undergraduate experience at an Ivy League school is not all about intense intellectual debate and curiosity, and you may be surprised by what goes on within the student body - everything from stereotypical StateU-type binge drinking and partying to rampant cheating and plagiarism to a more than uncommon intellectual non-curiosity. So, while certain synergies come from putting a bunch of smart people together, does a driven high achiever excel because of the environment or is that same person going to excel no matter where he or she goes to school?

3. Cost

One negative aspect to Ivy League schools certainly has to be the price tag. The tuition, room and board at Dartmouth, for example, is currently $43,341 per year. Contrasting with Texas Tech again, the tuition, room and board for Texas residents at Texas Tech is an estimated $17,554. Assuming that the respective tuition, room and board figures remain the same over four years (highly improbable given the tuition increases at both public and private universities), we're talking about a $100,000 difference over four years between Dartmouth and Texas Tech. If a Dartmouth student finances his/her education solely through student loans, that's over $170,000 in debt by graduation. Now, imagine that the Dartmouth grad goes to a private graduate school and finances that education through debt. The $170k from college is some serious money, but now we're talking about some serious serious money! Don't think it ever happens? Check out the plight of two young married doctors with over a HALF MILLION dollars in student debt.

4. Quality of Faculty

So, maybe the Ivy League advantage comes from the quality of the faculty and classes. After all, some of that genius must rub off on the students, right? Again, my anecdotal evidence indicates no clear conclusion. The vast majority of Ivy Leaguers that the Honchos have spoken to felt that quite a few of their professors were uninterested in the teaching aspect of their jobs. What, you say - teachers who don't want to teach? Similar to any other major research university, Ivy League schools are in competition for grants and funding, and that comes from research and publishing. As such, professors are rewarded for their research and publishing efforts and not so much for teaching. Sure, the Ivy Leaguers found some gems here and there, and in some cases, had inspirational relationships with professors who became their mentors, but as a whole, many professors seemed to be distant from teaching (and rationally so, considering the reward scheme). One Ivy League alum who took classes with two different Nobel prize winners found the genius of the laureautes less than inspiring. The first Nobel laureaute missed more than half his classes while traveling back and forth between Europe to build a villa and put a graduate student in charge of teaching the course. The other Nobel laureaute refused to engage any points of view that differed from his own.

5. Connections

So, that brings us to connections, and this is where I think the Ivy League / elite private college advantage comes in. For certain industries and professions, investment banking and management consulting come to mind, it certainly appears that having the Ivy League degree is advantageous for getting one's foot in the door. Certain traditionally clubby professions such as finance are disproportionately populated by Ivy League alums. When these companies look to recruit each year, Ivy League schools are their major sources for talent. Similarly, Ivy League undergrads tend to serve as feeders to Ivy League law schools and business schools, and many white-shoe companies tend to hire a disproportionate number of recruits from the Ivy League professional schools.

But, this advantage does not seem to cross all industries or professions, including medicine, sales, entertainment, engineering, computers, accounting, sciences, etc. After all, is organic chemistry really that different at Harvard versus UCLA? Are Harvard students learning about special atoms that their counterparts in Westwood aren't? I don't think so, but then again, I never took organic chemistry.

6. Conclusion

It's hard to measure from objective standards whether there is an absolute rule as to whether it makes sense to go to a Princeton over a Penn State or vice versa. The Honchos know graduates of both fine institutions who have gone on to do great things, as well as graduates of both who aren't doing such great things. Ultimately, the decision is a matter of individual choice.

Bear Stearns Subprime Mortgage Analyst Called Out by NY Times

2007-03-11T10:58:00.000-06:00

In today's New York Times article "Crisis Looms in Market for Mortgages", reporter Gretchen Morgenson takes a Bear Stearns subprime mortgage company analyst to task for issuing a positive report about subprime mortgage lender, New Century Financial Corporation, whose stock subsequently dropped over 75% shortly after (for you visual ones, see the Yahoo Finance chart below).

(Note: Bear Stearns had upgraded New Century's stock on March 1)

It turns out a large number of New Century's customers were defaulting on their loans, forcing New Century to stop making new loans, leaving the company in need of an emergency cash infusion from outside sources to stay in business. The article goes on to tackle the bigger issue of the $6.5 trillion mortgage securities market and how increasing lax standards for issuing loans has created greater risk for massive defaults.

So, was this just a bad read on the part of the Bear Stearns analyst or is there a bigger issue here? For whatever it's worth, it turns out that Bear Stearns finances a portion of New Century's business. Not necessarily a problem in itself as Bear Stearns, like any large investment bank, probably does business with most of the large companies in the country, but it certainly does sniff of similarities to the Dotcom boom when Wall Street analysts were pumping up stocks of companies that their investment banks had business relationships with. And we all know what happened to the Dotcom boom:

(Nasdaq)

Tax No-No: Don't Inflate Your Deductions by 6x (duh)

2007-03-10T17:59:00.000-06:00

For those of you working on your taxes trying to figure out all of your charitable donations from the past year, keep in mind that it's probably a bad idea to try and claim deductions six times the fair value of your donation. TaxProf Blog has a post about a court case involving a Goldman Sachs investment banker who made $115k and tried to deduct $55k in used clothes donations. While the tax court found that the fair value of the clothing donation was only $9k, amazingly enough it found that the Goldman investment banker was not negligent in overestimating the value of her donation. So, how in the world do you explain $9k in used clothing? From the Tax Court's ruling:

According to [the Goldman banker], she routinely purchases designer clothing and shoes, wears the items once or twice, and then donates them to an upscale thrift shop in New York, New York.

That's terrific. My only question is how in the world she found the time to do all of this shopping, especially given the legendary hours that i-bankers are known to work.

How To Pick the Best Airplane Seats

2007-03-10T09:33:00.000-06:00

Whether you're an aisle or window person (if you're a center seat type of person, I'd love to hear why), I recommend that you check out Seat Guru the next time you're looking to book a flight. Not every aisle or window seat is equal, and Seat Guru does a terrific job of showing where the premium seats are (and sometimes this doesn't even mean exit row seats) through a nifty layout and comment interface. Pretty much every domestic and major international airline is covered, and this includes all the different types of airplanes used in the airline's fleet. If you're one of those people who fly first class, well, you stink. I'm jealous.

Personal Finance 101 - Know Your Financial Picture

2007-03-09T18:37:00.000-06:00

For many people including myself, spending one's limited free time on personal finances can feel like a major drag. After all, who wants to spend a beautiful weekend afternoon entering in receipts? The obvious response to this is that the more you know about your own financial situation, the more empowered you will be in making informed financial decisions for yourself and your family. I wish I had a more clever response than that, but I don't. In any case, here are some fundamental metrics to get you started on understanding your financial situation:

1) Net Worth

Net Worth = Assets - Liabilities; or in English, net worth is the overall snapshot of your financial situation -- it's where you stand when you line up all the "stuff" you have against all the money you owe.

To calculate net worth, I would recommend creating a spreadsheet or using commercial software such as Quicken or Microsoft Money. If that sounds like too much of a pain, check out NetWorthIQ, where you can figure out your net worth online.

You'll need to enter in two types of data: your assets and your liabilities. Assets are your "stuff", including all your bank accounts, retirement accounts (401k, IRA, 403b, etc.), stocks, bonds, mutual funds, cars, market value of your home if you own, value of your real estate holdings, and other personal property. "Other personal property" includes things like the diamond ring that grandma gave you, the Monet hanging over your fireplace and the Mickey Mantle rookie baseball card that your mom almost threw away when she was cleaning your room. On the liability side, you have items such as the principal amount of your mortgage, auto loans, student loans, and any other loans, along with your credit card debt and any other debts that you may have. Add up all your assets. Add up all your liabilities. Subtract the total liabilities from total assets, and you've got your net worth number.

2) Monthly Cash Flow

While net worth gives you an overall financial picture, you'll also want to take a snapshot of your monthly cash flow. That is, in a month, how much money do you bring in, and how much money goes out? Unfortunately, unless you have a photographic memory of all the Starbucks and McDonalds purchases, this is where entering in receipts comes into play if you want a completely accurate picture. If a month seems too long, try keeping track of cash flow for a week. After keeping track of your cash flow, you should be able to answer the following questions: What are my total fixed monthly costs ( e.g. rent, mortgage, utility bills, groceries) and, consequently, how much money do I need to bring in in order to meet those fixed costs? What does my discretionary spending look like? Am I saving money? If so, how can I save more?

And perhaps most important, figuring out your monthly cash flow will let you know what amount of emergency reserves you should have handy in order to meet your living expenses. A lot of experts will generally suggest having 3 to 6 months of living expenses as a rule of thumb. Those numbers sound about right, but again it depends on one's personal situation. If you're a DINK (double-income, no kids), one partner losing their job might not be as disastrous as a family with a single breadwinner who loses his or her job. If you're in an occupation where other comparable jobs are not readily available, it may make sense to have a bigger cushion of emergency reserves.

Dumb Purchases

2007-03-08T08:02:00.000-06:00

Most of us have made dumb purchases in our lives, especially dumb impulse purchases. Here are some of mine:

1. SiPix SC-1300 Digicam

This 1.3 megapixel special was my first (and only) foray into the digital camera world. Everything worked perfectly, except for the minor inconvenience of the battery lasting for only 3 pictures (4 on the lucky days).

2. 15 shares of Cisco stock in April 2000, back when Cisco was supposed to overtake Microsoft as the biggest and baddest company in the world. My stock's stellar performance to date.

3. Clothes that are way too big for me. It took me about a decade to learn that baggy clothes generally do not look good on most people, especially me. Unless you're a rapper.

4. Too many groceries. Perhaps it's the small things in life, but few things make me happier than seeing a packed refrigerator filled with fresh produce and other goodies. The downside is that the Honchos periodically find themselves throwing away food unnecessarily either because they forgot about the food or simply overbought groceries. Worst grocery buy ever? 20 heads of cabbage for $0.99 (from a special deal as part of the grand opening of a supermarket). Needless to say, the Honchos ate a LOT of cabbage for two weeks and that was after giving away as many heads as we could:

The Problem with HGTV

2007-03-06T22:28:00.000-06:00

We're generally fans of HGTV (the Home and Garden Television Network for those of you who do not have cable or are visiting this blog from outside the U.S.), but that isn't to say that there aren't some major problems with the network.

It's called "Home and Garden" but where is the "Garden"? Maybe the network has some garden-related shows, but I've never seen one. Residential real estate has been booming on a national scale for the past 5+ years, so I'm not surprised that the focus is currently on "Home". Maybe when the "housing bubble" pops or deflates, we'll start to see a whole lot more gardening shows.

Is it me or does pretty much every show on HGTV (especially House Hunters, Designed to Sell and What You Get For the Money) brim with unbridled optimism and good cheer about the housing market? If you watch HGTV, it's almost like the good times are still rolling (and will keep rolling) in the residential real estate market across the entire country. I can think of two reasons for this: (1) the housing market in the U.S. boomed for so long creating widespread popular interest in real estate, and HGTV capitalized on that interest and created shows to meet its audience. Now that the housing market has cooled significantly in many regions of the country, many of the shows on HGTV seem outdated, probably because of the time it takes to produce television shows and the lag in time from filming to broadcast and (2) it's a whole lot easier to sell advertising to the Home Depots of the world when you present a cheery disposition of the housing market, as opposed to "the sky is falling" stop-investing-in-real-estate atmosphere that has gripped many a housing market.

All that being said, I did stumble across a show on HGTV called "Buy Me" which appears to be produced by HGTV's Canadian operations, and it's a show that I highly recommend to all of you. Normally, I wouldn't recommend that you watch a TV show as generally TV, in my opinion, can really dull the brain. However, I make an exception for "Buy Me" because it does a great job of portraying the realities AND stresses of the home selling and home buying process. Maybe it's the Canadian sense of pragmatism and earnestness, as opposed to the American unblinding optimism, that connects with me, but I think anyone who has gone through or is thinking about buying or selling a home will really relate to the individuals in the Buy Me show. First of all, the show is realistic - along with showing the champagne celebrations when deals are closed, it shows the warts of the process, including the stress and psychology of negotiations between buyer and seller. Second, unlike the U.S. HGTV shows, gasp, deals actually fall through on Buy Me, and some shows end with unhappy buyers, sellers and real estate agents. Lastly, even when deals are consummated on the show, sometimes the camera catches seller's or buyer's remorse. For all these reasons, Buy Me is a fantastic program that really strives to depict the reality of buying and selling homes, both the good and the bad.

Career Profile: Wall Street Equity Research Analyst

2007-03-04T16:09:00.000-06:00

Want to know what a Equity Research analyst on Wall Street does? Me too. I had the good fortune of interviewing one of these analysts. Check out the interview below:

The Skinny

Title: Equity Research Associate
Length of time in field/profession: 4 years
Location: NYC

Details

Mr. Honcho: So, what do you do for a living?
Wall Street Guy: I work for a brokerage firm where I write research analyzing companies and forecasting stock prices.

Mr. Honcho: You're a stock picker?
Wall Street Guy: Sort of. My company manages assets for high net-worth individuals. I don't actually sell products or manage any client's particular portfolio. Rather, I research individual companies and generate investment ideas and recommendations.

Mr. Honcho: What kind of companies do you research?
Wall Street Guy: Gas utilities and specifically natural gas distribution companies.

Mr. Honcho: Why gas utilities?
Wall Street Guy: I'm interested in the energy sector, especially new developments that will help promote the conservation of natural gas. Energy is an important aspect of our economy, and at the same time, the generation of electricity accounts for 1/3 of our country's greenhouse gas production.

Mr. Honcho: What kind of skills do you need to do your job?
Wall Street Guy: Accounting and finance, particularly an understanding of financial ratios. Also, I read a lot, and careful reasoning skills are important.

Mr. Honcho: What type of education do you have? Is that where you developed the formal skills to become an equity research analyst?
Wall Street Guy: I went to an Ivy League college where I studied economics. College was helpful for developing a certain mindset, getting the background for how the economy and stock market work. For my day-to-day work, it's mainly important to be analytical - both mathematically and verbally.

Mr. Honcho: So, what do you think about the big drop in the stock market this past week?
Wall Street Guy: Well, I lost a lot on my investments, especially because I'm in a China exhange traded fund (FXI).

Mr. Honcho: Was the fall in stock prices justified or was this an aberration?
Wall Street Guy: A significant protion of the financial community thinks that stock prices have been way too high and a correction was necessary and in order. Part of how stocks trade is based on fundamentals and part is based on psychology. The high stock prices we have seen have not been justified by the fundamentals, but the prices stayed high as long as investors were optimistic.

Mr. Honcho: Do you have any predictions moving forward?
Wall Street Guy: My guess is that investors are going to wait for prices to come down further before they're ready to buy. The world economy is currently enjoying healthy growth, and continued growth is forecasted for 2007. I don't expect stock prices in China to return back to levels from before this week for at least several months.

Mr. Honcho: What do you think about the Efficient Markets Hypthosis?
Wall Street Guy: It's nonsense. The general public is on a certain playing level, but then there are the elites who are on a whole other level. The elites are elite in that they have access to all kinds of information that the general public doesn't or if they do, don't know how to use the information.

Mr. Honcho: What kind of information or resources do you have that the general public doesn't?
Wall Street Guy: The average person relies on the news to get their financial information. To be a good investor, you have to have a strong background in accounting and finance. Also, as part of an institution, I have access to all industry publications, which for my coverage area is about a dozen publications. The general public does not have access to these types of publications unless they pay top dollar. At my company, we have access to extensive databases of information that the average individual can't access unless they're willing to pay thousands of dollars a month.

Mr. Honcho: Maybe the average investor like myself doesn't have the research capabilities that you have, but what about the mutual funds that average folks can invest in? By pooling our resources with the mutual funds, don't the mutual funds even out the playing field for average folks?
Wall Street Guy: Maybe, maybe not. Most mutual fund managers are generalists - they know a little about everything.

Mr. Honcho: Why should I invest money with an asset manager or actively-managed mutual fund when I could be putting my money in an index fund or ETF?
Wall Street Guy: For the average investor, you want to go with a passive fund since most actively-managed mutual funds do not beat the market after accounting for expenses.

Mr. Honcho: Ok, last question. What do you think about last year's record Wall Street bonuses?
Wall Street Guy: Well, it reflects the M&A (mergers and acquisitions) boom, which most of my banker colleagues believe will probably continue for a while.

How To Find A Good Attorney (really!)

2007-03-01T10:28:00.000-06:00

There are few things harder than finding a good competent attorney (some would say it's impossible; insert your favorite lawyer joke here). Unless you deal with lawyers on a frequent basis, you probably have little exposure to the legal profession. And, usually if you find yourself in the position of looking to hire a lawyer, it probably means that something bad has happened - either you're looking to sue someone or someone is suing (or worse, prosecuting) you, and you need help STAT. So, how in the world do you find a good lawyer? Here are some tips:

Make sure the attorney is admitted to the Bar in the state in which that lawyer practices. However, keep in mind that being a member of the Bar is by no means an indicator of the lawyer's quality - it is merely a minimum gate necessary to practicing law.

Check the lawyer's disciplinary record. Most states have public databases maintained by the states' respective supreme courts and can provide information about whether the lawyer has ever faced any disciplinary actions or sanctions.

Check with your network. Because law is a service profession, nothing is more important than reputation. Talk to your friends, family, business associates, etc. to get recommendations.

TV and print ads tell you little about an attorney's quality other than the fact that the attorney paid money for that advertising. Because most states have ethics rules limiting what lawyers can say in advertising, there's little that can be gleaned from those ads. That's why you never see anything more than some guy in a suit sitting in front of an imposing bookshelf of fancy-looking tomes (most of which are there for decoration as most legal research is now done online).

Look for the right specialist for your situation. If you're looking for a divorce attorney, it makes no sense to hire a criminal defense attorney, even if that person is the second coming of Johnny Cochran.

If all else fails and you're forced to cold-call attorneys, look for someone who appears diligent and responsive. If the attorney doesn't return messages promptly, it's probably an indicator of things to come.

Stocks, Drops and a Fear of Money

2007-02-28T08:36:00.000-06:00

Obviously the news of the day (and perhaps moving forward, the weeks to come) is the broad-based sell-off of stocks throughout global financial markets on Tuesday. According to a large swath of the popular press, the consensus culprit appears to be the sudden unexplained drop in the Shanghai and Shenzhen stock market indices exacerbated by technical glitches from Dow Jones and the NYSE. And, just like that, presto, the economy becomes front page news with warnings of doomsday and gloom.

With no obvious sudden macroecomic shock (like 9/11), how does one explain this sudden fear and panic? If the market supposedly is "efficient" and all information is known and reflected in stock prices, why do these sudden gyrations happen if no big external event has happened? I don't have any definitive answers to these questions. If I did, the Honchos would be sitting on a beach somewhere sipping pina coladas. However, it does seem like herd mentality and chrematophobia have taken place. Yes, chrematophobia, or the fear of money. While a 3.5% one-day drop in the Dow is nothing to sniff at, as an isolated event, it's really no big deal. One has to go back to this day to really feel the hurt. If the 3.5% drop is a sign of things to come, an omen for the future, we're probably all in for a world of hurt. But for all the people who've been happily watching their stock returns increase for the past one, two, and more years, all also for no apparent reason other than vague notions of "increased profitability", it's probably good to see a drop here and there to chase out some of the weaker money from the markets.

Rollin' with Random Walk Investing

2007-02-25T10:47:00.000-06:00

If you've taken a finance class in the past 10 years or have any interest in investment theory, you'e probably learned or heard about the efficient markets hypothesis. The efficient markets hypothesis essentially says that prices of assets in financial markets reflect all known information about those assets and are thus "efficient" or properly priced. Burton Malkiel's A Random Walk Down Wall Street is perhaps one of the most accessible and readable (i.e. you get to skip all the math and formulas and get right to the conclusions) books about this theory. The following is a copy/paste of UCLA law professor Steven Bainbridge's Amazon review/summary of Malkiel's Random Walk:

Two basic theories are expounded here. First, modern portfolio theory (MPT), which elucidates the relationship between risk and diversification. Because investors are risk averse, they must be paid for bearing risk, which is done through a higher expected rate of return. As such, we speak of a risk premium: the difference in the rate of return paid on a risky investment and the rate of return on a risk-free investment. In the real world, we measure the risk premium associated with a particular investment by subtracting the short-term Treasury bill interest rate from the risky investment's rate of return. The risk premium, however, will only reflect certain risks. MPT differentiates between two types of risk: unsystematic and systematic. Unsystematic risk might be regarded as firm-specific risk: The risk that the CEO will have a heart attack; the risk that the firm's workers will go out on strike; the risk that the plant will burn down. These are all firm-specific risks. Systematic risk might be regarded as market risk: risks that affect all firms to one degree or another: changes in market interest rates; election results; recessions; and so forth. MPT acknowledges that risk and return are related: investors will demand a higher rate of return from riskier investments. In other words, a corporation issuing junk bonds must pay a higher rate of return than a company issuing investment grade bonds. Yet, portfolio theory claims that issuers of securities need not compensate investors for unsystematic risk. In other words, investors will not demand a risk premium to reflect firm-specific risks. Why? There is a mathematical proof, which relates to variance and standard deviation, but Malkiel explains it in a way that is quite intuitive. Investors can eliminate unsystematic risk by diversifying their portfolio. Diversification eliminates unsystematic risk, because things tend to come out in the wash. One firm's plant burns down, but another hit oil. Thus, even though the actual rate of return earned on a particular investment is likely to diverge from the expected return, the actual return on a well-diversified portfolio is less likely to diverge from the expected return. Bottom line? If you hold a nondiversified portfolio (say all Internet stocks), you are bearing risks for which the market will not compensate you. You may do well for a while, but it will eventually catch up to you (as it has recently for tech stocks).
The second pillar of Malkiel's analysis is the efficient capital markets theory (ECMH). The fundamental thesis of the ECMH is that, in an efficient market, current prices always and fully reflect all relevant information about the commodities being traded. In other words, in an efficient market, commodities are never overpriced or underpriced: the current price will be an accurate reflection of the market's consensus as to the commodity's value. Of course, there is no real world condition like this, but the securities markets are widely believed to be close to this ideal. There are three forms of ECMH, each of which has relevance for investors: **Weak form: All information concerning historical prices is fully reflected in the current price. Price changes in securities are serially independent or random. What do I mean by "random"? Suppose the company makes a major oil find. Do I mean that we can't predict whether the stock will go up or down? No: obviously stock prices generally go up on good news and down on bad news. What randomness means is that investors can not profit by using past prices to predict future prices. If the Weak Form of the hypothesis is true, technical analysis (a/k/a charting)-the attempt to predict future prices by looking at the past history of stock prices-can not be a profitable trading strategy over time. And, indeed, empirical studies have demonstrated that securities prices do move randomly and, moreover, have shown that charting is not a long-term profitable trading strategy. ** Semi-Strong Form: Current prices incorporate not only all historical information but also all current public information. As such, investors can not expect to profit from studying available information because the market will have already incorporated the information accurately into the price. As Malkiel demonstrates, this version of the ECMH also has been well established by empirical studies. Implication: if you spend time and effort studying stocks and companies, you are wasting your time. If you pay somebody to do it for you, you are wasting your money. ** Strong Form holds that prices incorporate all information, publicly available or not. This version must be (and is) false, or insider trading would be profitable.
In the last section of RANDOM WALK, Malkiel distills all this theory into an eminently practical life-cycle guide to investing. As one may infer, it has two basic principles. First, diversification. Second, no one systematically earns positive abnormal returns from trading in securities; in other words, over time nobody outperforms the market. Mutual funds may outperform the market in 1 year, but they may falter in another. Once adjustment is made for risks, every reputable empirical study finds that mutual funds generally don't outperform the market over time. Malkiel's recommendation: put your money into no-load passively managed index mutual funds. You will see lots of anonymous reviews of RANDOM WALK claiming Malkiel is wrong. Odds are, most of those folks are have either been misled by the long bull market or, even more likely, are brokers or other market professionals who make a living selling active portfolio management. In sum, buy it, read it, believe it, and practice it.

So, basically, if you believe in Malkiel's analyses as I do, all you technical analysis guys out there looking at double tops, head and shoulders, wedge formations and what not are kidding yourselves. And, so are you fundamental value guys figuring out which P/E's are low. But, what about the Warren Buffets and Peter Lynchs of the world who have proven track records of consistently beating the market? There's no doubt that there are a certain number (a small number, by the way) who have had amazing performances over time - is it a matter of skill and abilities or are these individuals outliers, the guys who are several standard deviations above the mean in the distribution of the universe of investors? With the number of people out there playing the markets, probability theory predicts a certain number of Warren Buffets will make it out of the fray.

So, why do I embrace the Random Walk school of thought? One, because I think the theory is right, and two, it's expedient for me to do so (I understand the latter is not much of a justification). For starters, as smart and talented as I like to think I am (Mrs. Honcho's protestations notwithstanding), there are lots of much smarter folks out there working in finance and trading in the markets who are unable to consistently beat the market. And because I have limited time and resources to devote to research, the chances of me being one of the Warren Buffet multi-standard deviation outliers is about none to none. Sure, there's probably some genius holed up in an apartment in the likes of Brooklyn who has figured out a computer program to calculate and find temporary arbitrage opportunities in the market and make profits from that, but overall it's hard to see how markets aren't efficient. Do you really think Jim Cramer or Money Magazine is providing you information that isn't already known or readily accessible?

So what do the Honchos generally invest in? Index funds (including large, mid and small cap equities as well as exposure in foreign markets - e.g, SPY, QQQ, IWM, EEM) and retirement age-based fund of funds (e.g., VTIVX, VFIFX). Not only can you get a diversified holding of stocks and bonds through these holdings, investing in index funds and fund of funds takes away a lot of the thinking involved in picking individual stocks. This isn't to say that Mr. Honcho doesn't delve in the occasional small-cap stock here and there. Irrational you say? Absolutely. More thoughts on this as well as the first part of Malkiel's analysis (modern portfolio theory) at a later date.

A Financial Tip from Ali G

2007-02-25T10:36:00.000-06:00

Don't make financial decisions when you're high. Seriously.

Along those lines, a corollary: make contingency plans for how your financial matters are handled in case you become incapacitated. Most people know about wills, the legal documents which determine the legal disposition of the deceased's estate. There are a lot of do-it-yourself solutions both on the Internet and books, but there's no substitute for having a good attorney (not the emphasis on good), particularly if your personal and financial situation is anything more than straightforward. As we've been reminded this week via the tabloids and popular press regarding Anna Nicole Smith, estate law can be extremely complex.

What about for those situations where you're incapaciated but not deceased? A Power of Attorney is a legal document that can be drafted to grant someone of your choice the power to make financial decisions for you should you become incapacitated or incompetent.

Conspicuous Consumption: I-Banker Style

2007-02-24T10:45:00.000-06:00

The most popular article from the online version of Friday's Wall Street Journal was "The Wealth Report" piece (paid log-in may be required) about a survey conducted on how 200 investment bankers who received bonuses of $2 million or more spent their recently-announced record bonuses. For most bankers and particularly even more so for senior bankers, the vast majority of compensation comes from their bonus, with just a small fraction coming in salary. So, what is a banker to do when he or she has slogged away for 364 days out of the year on just merely a salary (these "mere" salaries still dwarf salary and wages in almost any other industry or service field) and on that 365th day a windfall falls in their lap? According to the survey in the WSJ article, bankers did some of the following with their bonuses:

16.5% was put into savings or investments
16.1% was spent on real estate
11.9% was spent on art
11.2% was spent on jewelry or watches
4.2% was spent on charity
3.4% was spent on debt reduction (hey, even a banker has to keep up with the Joneses down the (Wall) Street - get it? Ok, that was corny)
2.8% was spent on luxury cars

No huge surprises here. What people choose to do with their money is very personal by nature, and the Honchos are completely neutral as to what others want to do with their coin. We'll leave the arguments over optimal saving vs. consumption arguments up to the eggheads in the ivory towers. Given that little caveat, we're not surprised that those with greater means to save more choose to spend (although, we should point out that the 16.5% put into savings is higher than the negative personal savings rate of Americans). The 16.1% (or $322k of a $2m bonus) on real estate is a little surprising in that we would have thought that number would be a little higher, particularly given the high cost of real estate in Manhattan. But, overall, just an interesting snapshot on what those top 1 percenters in the income world choose to do with their money.

Real Estate: Myths and Exaggerations II

2007-02-22T01:00:00.000-06:00

Myth: Buying a home is a great investment.
Reality: Maybe

One of the most common reasons given for buying a home is that owning property is a great investment. The correlations don't lie - the average net worth of a homeowner in our country is much higher than the average net worth of a renter. But, is correlation equal to causation here? Should we put all of our money into real estate?

Let's compare real estate with another asset class - stocks. According the U.S. Census Bureau, in 1990, the median price of a home in the U.S. was $122,900. By 2006, the median price was $245,300, an impressive gain of $122,400 or 99.6%. Contrast that with the S&P 500, which on January of 1990 was at 329.08 and by June 1, 2006 was at 1285.71. That's a 291% gain. Or put it another way, invest that same $245, 300 in the S&P 500 in January 1990, and your investment would be worth $713,083. What if we go back further in time? Thirty-one years ago in 1976, the median price of a home in the U.S. was $44,200, the equivalent of a 455% gain by 2006. The S&P 500 was at 90.9 on January 1, 1976. That's a 1314% gain.

Some of you will say - hey, wait a minute. Most homeowners didn't pay for their homes outright - most people make a down payment and take out a mortgage. When housing prices increase, their return on investment is much higher because they're using the bank's money to fund the purchase of the home. If I put a $10,000 down payment on a $100,000 home and the price of my home appreciates to $150,000, I've made $50K just off a $10K investment. Those suckers who invested in stock had to spend $100K of his (because suckers are usually men) own money to buy the stock, and when the value of his holdings go to $150K, he's made the same $50K but had to put up $100K to get there! Perhaps, but how is this really different than buying stock on margin?

Others of you will say - hey, what about all those people who made a killing off of real estate in California, Boston, Manhattan and DC - even better than stock market index returns? More power to anyone who can figure out which markets are hot and can time the market (or maybe they're just lucky that they picked the *right* place to live), but if you've really got those Nostradamus skills, why not use those prescient powers and pick some great stocks (and let me know your picks, please). Sure, you could have doubled, tripled, quadrupled or quintupled your money in your Bay Area condo over the past ten years, but you also could have put your money in Yahoo ten years ago and 20x your investment.

What I Want to Be When I Grow Up

2007-02-19T21:27:00.000-06:00

For those of you looking for a change in careers, there's an article in the Business section of today's New York Times about a company named VocationVacations. For a fee of anywhere between $399 and $1999, VocationVacations will put together a personalized two to three day dream job experience allowing the customer to test-drive a potential career change or live out a long-desired experience.

I don't know about you, but when I was growing up, I had lots of different aspirations for what I wanted to do when I grew up. Topping the list was professional tennis player followed by professional football player and professional basketball player (why tennis? less chance of injury). Astronaut and mad scientist figured prominently in there somwhere too. Sadly, none of those worked out for me and none of those vocations/professions are available at VocationVacations. However, for those of you looking to make a change, there are some pretty neat ones, including:

Brew Master
Chocolatier
Golf Pro (I assume this one takes some natural talent)
Music Producer
Restauranteur
Sports Announcer
Sword Maker
Voice-over Artist

Real Estate: Myths and Exaggerations

2007-02-19T15:54:00.000-06:00

Myth: Buying real estate will save you a lot of money on your income taxes.
Reality: Maybe

The interest that you pay on your mortgage and property taxes will save you money only to the extent that the interest, property taxes and your other itemized deductions exceeds the standard deduction you are eligible to take times your marginal income tax rate.

Example: Let's assume the ~~Bush~~ ~~Cheney~~ Average Joe family has a household income of $46,326 (median U.S. household income in 2005), putting them in the 15% marginal federal income tax bracket if they file married with a joint return. The Joes have their eye on a house like this 2500 sq. ft. beauty in Dallas listed on the market for $245,300 (median U.S. home price in 2006). The Joes put down a 20% down payment, leaving them with a $196,240 30-year mortgage and a total payment of $11,708.85 in interest in the first year of their mortgage. The Joes will pay another $4943.33 in property taxes. Assuming the Joes have no other deductions to itemize, their tax savings from buying this home is 15% x (11,708.85+4943.33-10,300) or $952.83. Not too shabby at all, but not exactly a bonanza either.

Some additional notes:

If the Joes can itemize additional deductions, their tax savings will go up even higher. Of course, additional deductions also means a greater risk of running into AMT country.
Another way the Joes can "save" more money on taxes is if they take out a bigger mortgage, allowing them to deduct the higher interest amounts. Of course, this begs the question of whether the Joes are actually saving any money if they are plowing their money into a bigger mortgage and, thus, bigger interest payments.
As the Joes' mortgage amortizes over time, the interest component of the mortgage payments will decrease. Assuming (1) property taxes increase 1% a year to go along with Dallas home appreciation, (2) no other deductions are taken and (3) the standard deduction for those filing married with a joint return increases 3.8% per year (as it did from 2006 to 2007) , the tax savings of owning decreases by about one-half after just 5 years and becomes non-existant after an additional 5 years.

Unsolicited Credit Card Offers

2007-02-17T11:33:00.000-06:00

Everybody gets a lot of unsolicited credit card offers in the mail. If you're like most normal people, you deal with the offers by either throwing them away or applying for the credit card.

As you can clearly see below, I am not a normal person. Mr. Honcho derives a very odd joy from taking the prepaid envelopes in these unsolicited credit card offers, stuffing them with other junk mail, and mailing the junk back to the credit card companies. Why do I do this? No doubt, it has something to do with my deep-seated mental imbalances. But, apart from the obvious, I like to think that my actions will cost these credit card-issuing banks something more than just a metaphysical impact to their bottom line. Because the postage for the envelopes are paid by the credit card companies and the cost of postage is determined by the weight of the envelope, I stuff the envelopes as full as possible. My masterpiece below:

Mrs. Honcho doesn't approve of this "waste of time." But, I am comforted by my discovery that I am not alone in this world.

Thoughts on a Flat Tax Proposal

2007-02-15T21:35:00.000-06:00

A recent post from someone named 'popoman' on John Edwards' blog (note eerie resemblance to the Walmart website; second note: Barack Obama's website designed to look like MySpace?; third note: this is NOT John Edwards' plan or proposal):

Is there some reason we can't take [sic] tax the trillions of dollars hidden away from taxation (stock and bond property) of the Multi-Billion dollar companies and wealthy individuals? Why not take total wealth of all people and companies and tax them 30% per year and tax the people making less then $200,000 dollars a year 25%. No deductions for those above $200,000. Take the money and re-invest into society. Eliminate Poverty, Homelessness, Un-education, Sickness (mental and physical)!

A modern-day Robin Hood. Let's TAKE, er tax, from the rich and give to the poor. Why don't we take a look at this proposal a little more closely and see it means.

If you read this proposal literally, the plan would tax 30% of the total wealth of all individuals making more than $200k and 25% of the total wealth of everyone making less than $200k, and he would do this every single year. Or, to translate this into plain English: the greatest destruction of wealth in the history of the world. Consider:

According to this Forbes article, the Congressional Research Service found that as of 2001, the median net worth of U.S. households where the head of household was between 55 and 64 was $181,500. Under a best-case scenario, let's assume one of these households retires with their $181,500 nest egg, collect $10,000 a year from Social Security and enjoy an 8% return on their entire net worth (highly unlikely unless each household's net worth is invested in the stock market) per year. Under the Edwards redistribution plan, each of these households would have approximately $91K left after 5 years, or roughly half of what they started out with. Oh wait, did we forget to mention that my calculations assumed ZERO spending by each of our households? Factor in food and other basic necessities, let alone vacations and Bingo trips to the casino, and you're talking about some very impoverished retirees.

Moving to the other end of the spectrum, let's take Bill Gates and his 25 billion dollar net worth. There's no doubt that a 30% tax, or 7.5 billion dollars, would go a long way to helping fight poverty, homelessness, un-education and sickness. But, what happens when that money dries out? It's not exactly easy to create 288 billion dollar companies. And, do you really trust our fine politicians in Washington to spend this money wisely? Six B-2 stealth bombers and Bill's contribution is gone forever.

And what about these companies who have to pay 30% of their total value each year? This would require every company to grow 42%! each year just to keep the status quo. Stock tip: if Edwards becomes President, it's time to short the US stock market.

But maybe we're reading the proposal all wrong here. Maybe popoman means a flat tax on incomes, not net worth. Putting aside the politics of a flat tax and whether it is morally or socially responsible, could someone please explain to me how such a flat tax on income would work? How would you define income? The Honchos know a whole lot of smart people, but we don't know too many who know what this stuffmeans. When we live in a country where our former President doesn't even know the definition of "is", how are we supposed to come to agreement on what is "income" or "compensation" or "benefit"?

Of course, the Honchos understand that this is all academic and serves no purpose other than to let Mr. Honcho rant a little bit. But, be forewarned - many a downfall of great societies have come from failed tax policy - see Qing Dynasty China.

An Oldie but a Goodie

2007-02-12T21:22:00.000-06:00

In 2004, the PBS program Frontline ran an hour-long documentary entitled the "Secret History of the Credit Card" discussing the rise and proliferation of what is now the ubiquitous use of plastic in the United States. An excerpt from the introduction to the program:

The industry's most profitable customers, the ones being sought by creative marketing tactics, are the "revolvers:" the estimated 115 million Americans who carry monthly credit card debt.
Ed Yingling, incoming president of the American Bankers Association, tells FRONTLINE that revolvers are "the sweet spot" of the banking industry. This "sweet spot" continues to grow as the average credit card debt among American households has more than doubled over the past decade. Today, the average family owes roughly $8,000 on their credit cards. This debt has helped generate record profits for the credit card industry -- last year, more than $30 billion before taxes.

To watch the entire program for FREE online and to learn about things like why all those unsolicited credit card offers seem to come from South Dakota, go to Frontline: The Secret History of the Credit Card.

For those of you who want the Cliff Note's version, below are selections from the 8 Things a Credit Card User Should Know on Frontline's website, along with some limited commentary from this honcho:

Even if you make your credit card payments on time, the credit card bank can raise your interest rate automatically if you're late on payments elsewhere -- such as on another credit card or on a phone, car, or house payment -- or simply because the bank feels you have taken on too much debt.

Your credit score -- known as a FICO score -- has become a vital statistic for many Americans and can be widely shared. It is used to determine how much you can borrow, how much you pay for life insurance, if you can rent a home, and ... it can be a factor in determining the interest rate you pay on a credit card.

Get free estimates of your FICO score here and here

There is no limit on the amount a credit card company can charge a cardholder for being even an hour late with a payment.

It's important to read the fine print on your credit card agreement.

Who are we kidding? Let's just say the Honchos know a lot of lawyers out there, and we can't think of a single one who is willing (certainly not one who's willing to do it for free) to sit down and read through a credit card membership agreement. And, if you do actually manage to sit down and read the fine print drafted by the credit card bank's army of lawyers, good luck trying to negotiate the fine print of your credit card agreement with your bank. We're talking about as close to a contract of adhesion as it gets.

Many Americans are inattentive about their credit card accounts.

You can add me to that list. Thank goodness Mrs. Honcho is the anal, er attentive, one in this household.

There is no federal limit on the interest rate a credit card company can charge.

Significant credit card debt can put you at a markedly higher risk of bankruptcy.

This deserves its own topic, but for the time being, you bookish ones should go here and then to your local public library. For you less bookish ones, try this one out.

Rate Chasing - What's Your Cash Doing for You?

2007-02-11T22:46:00.000-06:00

What is your bank paying you for the privilege of holding your money? Well, if you're living in New York City, Washington Mutual is paying you a whopping APY of 0.15% on a savings account. That's 15 cents for every 100 dollars of deposits.

What can you do to make your dollars work harder for you? Check out the best rates at Bankrate.com. Not comfortable with depositing your money with some bank called BankUnited in the financial powerhouse city of Miami Lakes, Florida, 5.35% notwithstanding? You can always go with one of the big boys like Citibank E-Savings (currently 4.75% APY), ING Direct (currently 4.5% APY), or HSBC Direct (introductory 6% APY for new deposits through April 30, 5.05% APY thereafter).

Think it's too much of a pain to open up a new bank account? Maybe, but consider that your $10,000 sitting in the Washington Mutual savings account at 0.15% APY will have netted you $460 less in interest than if that same $10,000 had been parked in the Citi E-Savings account. I don't know what Mrs. Honcho would do with an extra $460 in her pocket, but I'd have my eyes on one of these.

"There's No Such Thing As a Free Lunch"

2007-02-11T16:21:00.000-06:00

We've all heard about those wonderful free vacations....where ALL YOU HAVE TO DO is sit through a daily 3 hour timeshare presentation with the good ol' friendly salesperson pressuring you to buy buy buy! But, believe it or not, there are a lot of free lunches out there requiring little or no effort just waiting for you to act. Ok, maybe on a metaphysical level, nothing is free because there's an opportunity cost to everything. But, with little more than a click of the mouse while you're watching those Everybody Loves Raymond re-runs, you can pick up some great swag:

Fatwallet Free Stuff: Just off the tops of our heads, Fatwallet's Free Stuff forum has led us to all sorts of free swag including calendars, cigars, books and cookbooks, cat food, address labels, movie tickets, toothpaste, DVDs and subscriptions to over 10 magazines.

Craigslist: One man's trash is another's treasure. If the city you live in has a Craigslist presence, check out the free stuff link. Free space heater any one?

Freecycle: Similar to Craigslist except you have to give something away first before getting invited to the party.