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defeating your worst enemy

Last week, we talked about how your own worst enemy when it comes to investing is yourself. So how does one go about defeating an enemy so subtle, so intelligent, and so very…you? Well, here are a few systems that can help.

Have a written plan, and a regular date in your calendar for reviewing it. Whatever your plan is — whether you’re a businessman or an academic — write that plan down. If you don’t have a written, solid plan, it’s a good bet that you’re going to let your emotions change that plan whenever you feel like it. If the market crashes, it’s too late — if you sell then, you’re just buying high and selling low! So write a plan, review it once every 6-12 months, and only change the plan when it’s up for review. This will keep you from trying to chase performance and falling victim to that dreaded Behavior Gap.

In particular, have a systematic rebalancing plan. If your investing plan is asset allocation based — and I recommend that it should be — make sure you regularly check to see if it needs rebalancing. Notice that I said “check”; don’t just mindlessly rebalance every quarter, or trading costs could eat any gains you may have gotten. No, it’s better to have a concrete plan in place, with rules like “if the absolute percentage of international stocks is more than 5% from the target, rebalance” or “if any individual stock becomes more than 2% of my portfolio, rebalance”.

Stick to the Yahoo principle. William Baldwin at Forbes wrote an article in which (along with recommending fee-only advisors) he outlines the Yahoo principle: buy things that trade in large volumes with prices you can see. Read the article for his reasoning, but I only needed one story to convince me: a friend of mine, incredibly intelligent, who had been investing since before college, had money tied up in some fancy dutch-auction securities which, after 2008, simply would not sell, at any price. Sure, nothing ventured, nothing gained, but there’s such a thing as the reward not being worth the risk.

Once a year, run the Overnight Test. This gem comes from Carl Richards. The idea is simple: once a year, imagine that one night, some crazy guy took all your assets and liquidated them, but left the proceeds in your account, so you wake up and find that everything you have is in cash. What would you buy? If it’s not the securities you currently own, why do you still own them?

These are some of my favorites, but it’s by no means an exhaustive list. How about you? What are some of your favorite systems?

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your own worst enemy

There are two stories that I am tired of hearing.

One is a story of greed. I heard it a lot around the turn of the century, and again just before the 2008 crash. It took many forms: day-trading with a 401(k); dumping Oracle stock for that of a smaller company because the database giant was “only” scheduled to double; after some clever analysis, placing a disproportional bet on muni bonds. In every case, the portfolio in question became dangerously out of balance, and when the inevitable crash came, it lost far more than its share. In the cases where its owner was approaching retirement, the impact was disastrous.

The other is a story of fear, and I’m hearing it a lot now.  Retirees whose entire portfolio is in cash, and pre-retirees who are considering not bothering with their 401(k) anymore — because it seems that no matter how much they put in, the balance stays the same or goes down.

Of course, neither of these stories has a happy ending — they’re the source of the Behavior Gap that Carl Richards is so fond of talking about. It’s easy to blame them on fear or greed, but that’s really only part of the story. A more sinister villain is also at play here: recency bias, the well-known tendency of humans to believe — irrationally! — that things are going to stay the way they are, whether good or bad. In 1999, everyone knew that tech stocks were going to continue to go through the roof; in 2006, everyone knew that real estate was a sure bet; in 2008, everyone knew that the stock market was going to plummet forever. (You might ask yourself: what does everyone know now?)

Recency bias is a powerful enemy, though. It masks itself as rational behavior — why keep my money in bonds when stocks are going to continue to outperform? Why keep my money in stocks when they’re going to continue to remain volatile? And in our effort to stay informed, we expose ourselves to an amplification effect from the financial media (whose job, recall, is not to give us unbiased information, but to sell copy) that barrages us with provocative headlines like “Are Stocks Dead?” and “Is This The New Normal?” It’s enough to make even the most rational investor bail out (or jump in, as the case may be).

So what’s a poor human to do? Well, you know my answer: systems. In the case of investing and saving for retirement, there are some handy weapons in your arsenal for dealing with your own worst enemy (yourself); stay tuned for next week’s post, when I’ll introduce you to some of them!

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systematically solve your financial problems, part 4

So: you’ve identified the problem, chosen a system, and established criteria for success. Now all that’s left is to implement the system and wait for success to find you, right? Well…no. As I mentioned last week, every system is an experiment, so as with all experiments, you need to periodically review and tweak your system.

This is what trips most people up. Once a plan is in place, they feel this rush of relief, almost as if they’ve already beaten whatever problem they’ve come to solve. So they go on their merry way…and are completely blindsided when their system blows a gasket or simply fails to start. No, every system needs regular care and feeding, whether it’s weekly, monthly, or even yearly.

Example: a budget. You get tired of not knowing how much money you have to spend, so you sit down one day, go through your receipts, and come up with one. All the numbers add up, everything looks great…until next month rolls around. You find that you overspent on eating out, so you grit your teeth and resolve to underspend by that much the following month. But that month you have friends in town, so of course you eat out even more, and find yourself hundreds of dollars in the hole…and you give up. It just wasn’t working for you.

Well, of course it wasn’t! Remember: every system is a continual experiment. Instead of just throwing up your hands, tweak your system. Maybe you need to allocate more money to eating out. Maybe you need to switch to the envelope method. Whatever it is, it’s almost guaranteed that you won’t get it right the first try…and what works today may not work a year from now. No budget is ever exactly on target, and there is no such thing as a “normal” month; what makes budgets work is when you sit down each month and adapt your budget to Real Life. (By the way, YNAB is excellent at this sort of “rolling with the punches”.)

Or maybe you decided that making a budget was exactly what you and your spouse needed to see eye-to-eye. So you sit down, make a budget, explain it to your spouse, they agree…and then promptly blow it out of the water the next time they see a sale. You could give up…or you could tweak your system. A “monthly money date” is an excellent way to make sure you and your spouse are on the same page re: finances. (Oh, and the system of “just not talking about money at all”? That won’t work. I promise.)

Now, this sort of thing doesn’t come easy to most; we’ve got lots of other things to worry about, and taking time out for our finances doesn’t often make the priority list, even when we know it should. This is where financial coaches really shine. I’m not talking about normal financial advisors, who are mainly interested in selling you insurance and investment products; I’m talking about the ones who work with you to create and maintain your financial systems. Like a personal trainer, they not only give you the information you need, but they also guide your development as you grow, regularly reminding you to tweak your systems — from budgeting to investing — and giving you ideas on how to do so.

Unfortunately, while you can’t throw a rock without hitting a financial advisor, the kind of financial coach I’m talking about (who often does financial advising and then some) is a bit trickier to find. There is my own practice, of course, and I’d be delighted to work with you; also, I highly recommend my friend Jennifer Jaime, a CPA and excellent financial coach.

Whether you get an expert to help you or no, remember this: financial success — or failure! — rarely comes from a single decision. Rather, it comes from your systems, and the day in, day out decisions that come from them. Care for them consistently, and you’ll get where you want to go.

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systematically solve your financial problems, part 3

We’re in week three of talking about using systems to solve your financial problems, and before we dive into this week’s step, I want to step back and take stock of what is we’re actually doing.  “How to create a system” seems awfully vague, doesn’t it? Can this possibly be useful?

Of course, the answer is “yes”, but it’s important to understand why. Think about your financial situation for a moment. How did you get here? (Insert obligatory Talking Heads reference.) If you’re like most people, the answer isn’t that all your money fell on you out of the sky, nor is it that it was all taken away in a single day. No, most people are where they are as a result of many choices: from larger ones, like going to Vanderbilt, getting a job as a professional clown, or starting a family, all the way down to how many times you choose to eat out each week. None of these choices by themselves is going to make or break you — rather, it’s the sum of them, the direction you’re heading, the path you’re walking, that determines where you will go. Creating a system is simply plotting out that path, so that in the end, you get where you want to go. You’re not going to get out of debt or save up for your retirement in a day or a even a month — you need a system to gradually take you there, over months or even years.

So: next step! First, you identified the exact problem you were going to solve, then you identified a system to try. The key word here is “try” — there is no One Perfect System. Once you realize that every system is an experiment, then you’ll realize that failure is not only okay, it’s expected! First, though, you need to set up criteria for success — how will you know the system is working? — and make a special note of it. If it’s obvious — I’ll know that my system for handling debt is working because my debt will decrease — then great. Make a note of it anyway; this will be important in step 4. If it’s not obvious, take some time to figure out your criteria for success. Things are tense between you and your spouse when it comes to money? Start tracking how many times you fight about money, or how many times you get that sinking feeling in your gut when talking about it, or some other arbitrary-but-meaningful measurement. Even if it’s entirely arbitrary and in your head, it’s vital to identify criteria for success before continuing.

Why? We’ll go into detail on this next week, when we get to the final — and arguably most important and least followed — step to creating a system.

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systematically solve your financial problems, part 2

Last week, we talked about a crucial step in creating a financial system: identifying the correct problem. Now, in some cases this is dirt simple: “I’m in credit card debt and I want to get out” or “I need to start saving for retirement but I never seem to have any money left over.” Maybe they’re more complicated — “my spouse and I always fight about money” — but you’ve sat down, talked it over, and figured out that you each just need a little money that you can call Mine Not Theirs. Now that the problem is identified, we can start looking at possible systems.

Good news: generally, there’s no need to come up with a system out of thin air. Money — even credit cards — have been around long enough that people who geek out about finances have come up with some good systems for handling it. Credit card debt? It’s really hard to beat the envelope method. Need to save for retirement? Pay yourself first, start slow and ramp up. Need money that’s yours and not your spouse’s? Check out Yours/Mine/Ours. Find a financial expert, blog, or book, and talk/read until you find something that resonates.

Alright — so you’ve found a system, or maybe a few systems, and you’re trying to figure out what to do. You’re probably hesitating — will this system work? For me? Is it the best system? What if I don’t like it? What if it’s hard?

STOP.

That’s lizard brain talking. It’s natural for it to resist change — after all, back in the early days of homo sapiens, foolish change might mean death. In the case of money, though, it’s your lizard brain that’s being foolish.

True, the system might not work. It might need tweaking, or it might not be the right system. So it’s fine to do a little research, maybe ask a financial geek with experience. The key to remember, though, is this: every system is an experiment. Nothing is permanent. You don’t have to make a choice and then follow through forever. Rather, pick a system and get started. Not sure if it will work for you? Well, there’s only one sure way to find out! Once you’ve got some experience with a system, you’ll have a much better idea of what kind of tweaks it needs or whether you need to try something completely different.

Picked a system? Great. Stay tuned next week for the next step.

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systematically solve your financial problems

A while back, I wrote a post on “working the system”, where I talked about how systems are a great way to solve your financial problems. (It’s worth going back and reading, if you haven’t recently.) “Great,” you say. “But…how do I do it? How do I know which system will work for me? How do I even know where to start?” These are good questions, and I’ll be covering them over the next few weeks.

First, identify the problem you want to solve. This seems obvious, but it’s critical. Don’t run off and start building a system until you’re sure it’s solving the right problem! If you’re stressed about money, sit down and think about why. Is it because you never know whether you’ll have enough money to pay the bills? Or can you generally pay the bills, but the credit card debt seems to be piling up? Or is it because you haven’t started saving for your child’s education, and you don’t know where to start? The systems for solving each of these problems will look very different! If you’re not quite sure (and believe me, it’s not uncommon to be stressed out without immediately knowing why!), then sit and think about each of the things that *could* be stressing you out — you know, all those things you’ve been trying to avoid. The one that gives you a sick feeling in your stomach? That’s the one you want to tackle first.

If you and your spouse are fighting about money, it’s doubly important to identify the right problem. This will take some effort, because you’re going to need to sit down with them and figure out exactly why you’re fighting — and it may have nothing to do with money at all! Oh, you may think you know (She can’t follow a budget! He won’t let me spend any of our money!), but I guarantee that unless you take the time to really understand your spouse, you’re going to end up running around in circles trying systems that don’t work.

Next up: finding the right system! In the meantime, though — have you ever spent time barking up the wrong tree because you didn’t properly identify the problem, whether in relationships or money? Tell your story in the comments below, and I’ll tell you mine! 

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psa: another source of financial geekery

While this blog is a great source of financial info and discussion, I feel that it’s my duty to inform you of another: our facebook page! If you Like it, not only will you get links to articles from this blog, but you’ll get excellent micro-posts with links to other news sources, like:

A great review of the Nest: A thermostat that learns? Three months with the Nest

Tips on using Google Calendar for personal finance: Manage Your Money with Google Calendar

Another review of the Ooma (curiously, published just after ours was): Frugal VOIP Home Phone Service

Exactly how much money it takes to be happy: Don’t Indulge. Be Happy

And more. Hey, if you’re going to take a Facebook break, why not use it to enrich yourself? So head on over there — and while you’re at it, post a question! I guarantee you’ll get an answer, whether from me or one of the other financial geeks that like to visit.

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a paradoxical key to money happiness

In this week’s final session of my summer workshop series, we took the 50,000 foot view and asked ourselves the big questions — what is money? What is value? Where is God in all of this? We even came up with a few answers, one of which is this: paradoxically, one of the best things you can do with your money is this: give it away. 

As it happens, there’s scientific backing for this one. Some oft-quoted research by Elizabeth Dunn and others at the University of British Columbia shows that giving money away increases one’s (self-rated) happiness level, while spending it on yourself generally doesn’t, or perhaps at least not for long enough to be measurable. Yes, Virginia, money can buy happiness. But why? Well, there are a few thoughts on that one.

Relationships, not material goods, are what make people truly happy. You might have all the stuff (or experiences) that money can buy, but with no one to share it with, how happy is that going to really make you? The scientists hypothesized that in giving money away, you’re spending money on relationships, which create a more long-lasting happiness.

Conversely, not sharing your money can be stressful. Another study by these scientists showed increased levels of reported shame (and measured stress hormone) in participants who did not share their money when given the opportunity. It seems that we’re physically hardwired to share, and when we let our fear or greed override that impulse, we suffer for it.

Finally, it’s about freedom. As we discussed in the workshop, all too often our money ends up controlling us, rather than the other way around. We don’t want to give our money away, though many of us can’t even articulate the deep, nameless fear that drives us. When we do share, however, we are breaking free of that fear and showing our willingness to rely more on each other.

And is so often the case, breaking free of fear — stepping out in faith — gives us a joy and peace that cannot be matched by anything (else) money can buy.

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my favorite budgeting programs, part 2: YNAB

“You Need A Budget”. No, I don’t mean you personally — that’s what YNAB stands for, and that’s what we’ll be talking about today. Got your attention? Good — let’s go.

The basics. In a sense, YNAB is more traditional than mint.com: rather than being free and online-only, it’s a standard, non-free piece of software that runs on your PC. Rather than feeding it your bank information, you have to regularly download your transactions yourself (though you can still teach it to auto-categorize and -rename your transactions). YNAB is very non-traditional, however, in its approach to budgeting itself.

“You haven’t budgeted like this.” That’s founder Jesse Mecham’s tagline for YNAB, and he’s not wrong. Rather than setting up a standard “monthly budget”, his program is built around the “Four Rules”, Rule One of which is “give every dollar a job”. That’s not “every dollar of average monthly income”; rather, it’s “every dollar you have, right now”. You don’t budget for an average month; you budget for this month, or until you get your next paycheck, whatever your situation calls for. People used to Quicken or mint.com often scratch their heads when first faced with this mindset, but once the lightbulb goes off, it can feel like Budgeting Done Right for the first time. (Among other things, this forces you to review your budget each month, which is vital to creating one that doesn’t break on contact with Real Life.)

Rule Two: Save For a Rainy Day. When you budget, your money goes into “buckets”, in a manner extremely reminiscent of the Envelope Method. And when next month rolls around, any money in a bucket that hasn’t been spent is still there. In this way, you can easily save for non-monthly expenses, like insurance, car repairs, or Christmas, and at a glance can tell exactly how much you have saved up — without having to open a separate account!

Rule Three: Roll With The Punches. On the flip side, if you spend more than what you have budgeted in every given category, YNAB handles it gracefully: the sum of all overspending is taken out of the money available for next month’s budget. So, effectively, instead of it all being taken away from that one category (“great, now I’m supposed to try and underspend on groceries by $100 next month?”), it’s spread out over all of your categories, making things much more manageable.

Rule Four: Live On Last Month’s Paycheck. This Rule is more of a goal than a law, but YNAB is built to guide you towards living on last month’s paycheck, which gives you a buffer for the inevitable hiccups that will occur in life.

Bottom line? If you’re committed to budgeting, I highly recommend YNAB. It’s clean, it’s functional, it does what a budgeting program is supposed to do. However, it’s going to take some work on your part — you can’t get away with not being mindful of your finances, the way you can with mint.com.

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my favorite budgeting programs, part 1: mint.com

Speaking personally, I can’t imagine what budgeting was like in the Pre-Computing Dark Ages. As it is, though, we now have plenty of tools to help keep us on track (though how well we use them is another matter entirely). For this week and next, I’m going to talk about my two favorite budgeting programs: mint.com and YNAB. (Yes, I’m quite familiar with Quicken, but it didn’t make the cut. If I ever get a reason to upgrade to the latest version, I may do a review on it; in the meantime, though, I’ll take a pass.)

So, what’s this mint.com thing? Mint.com is a completely online, free budgeting program. You visit the site through your web browser, give it your bank and credit card access information, and it automatically sucks in your transactions and balance information and presents it all to you in a very pretty format. You can then use it to track your spending, set goals, and otherwise get a handle on your finances.

The key word with mint.com is “automatic”. It was designed from the ground up to make personal finance as easy as possible: it automatically keeps up-to-date with your spending, auto-categorizes transactions as best as it can, sends you e-mails if your spending in a certain category goes over a specified amount, etc. etc. If you hate with a fiery passion the busywork of dealing with personal finances, you’re mint.com’s target audience.

It’s pretty awesome. The aforementioned good design and automation can make personal finance almost enjoyable; when I first got started with mint.com, I would pull it up just to look at the pretties. Automatically downloading transactions makes it less of a chore to actually track your spending, and the automated warnings you can set up can go a long way towards keeping you on your chosen path.

That said, every rose has its thorns. Automation comes with a price: the lack of mindfulness can keep you from really paying attention to where your money is going. All of your bank account information is stored on mint.com’s servers; while mint.com is extremely secure (like, a hacker would have to pull off a Mission Impossible or Sneakers-style break-in to get access), I understand if it makes you nervous for someone else to have that sort of info. Finally, mint.com is (now) owned by Intuit, makers of Quicken; this can be good or bad, depending on your opinion of Intuit, but the general consensus (and my personal experience) is that customer service isn’t quite at the level it was before the acquisition. So if a transaction goes missing or something else goes wrong…good luck. (That said, they’ve got tons of experience in dealing with extremely sensitive data, so there’s that.)

Bottom line? It’s a great program, especially if you’re in a good place financially and just want a program to do the dirty work of monitoring things. Plus, it’s free! However, if you need or want to pay closer attention to where your money goes, and are willing to be a bit more type-A about it, I’ll be talking about another program next week called YNAB (You Need A Budget).

How about you? Have you used mint.com, and if so, what has your experience been with it?