Positive Trend

·         Recently, the Federal Reserve Board released data indicating that the sharpest monthly drop, since data began to be collected, occurred in consumer credit during July 2009.

·         In February, year-to-year consumer credit card debt began to decrease for the first time in forty years.

·         Consumer Reports indicated that fully 32% of credit cardholders have paid off and closed a credit card account, since January of 2008.

One can only hope that these data indicate an decrease in consumer indebtedness and a change in the saving/borrowing habits of the American consumer.  On the other hand, it could simply be a price effect following from changes in the policies of credit card issuers. We’ll focus on these changes and what you can do about them, next week.  For now, however, let’s try to be positive, while we look at some facts.

The credit picture for the United States has not been pretty, as one can see in the chart below.  It is clear that this decade could easily be called the decade of binge-debt.  This has occurred for two reasons: consumer debt has increased and the net worth of households’ has decreased.  We’ve been borrowing to protect, perhaps increase, our consumption.

The good news, however, is that the trend appears to be turning the corner, in the midst of appeals for “stimulation” by our leadership.  I must admit that while the country needs us to stimulate the economy, by adding demand to increase employment, those of us with jobs and the ability to improve our personal balance sheets are doing just that – controlling what we can control. (The last time I looked, the only thing I can control is myself and I admit that I, too, can wonder about my effectiveness at exerting that control.)  At the national level, however, the chart below shows the trend in household net worth as a percentage of the Gross Domestic Product over “my” lifetime.  I believe that this is the primary impetus for our national reaction of decreasing our exposure to liabilities and to begin to add to our assets.  To say the last ten years have been volatile would be like saying the H1N1 flu is a runny nose.  The rapid, steep increases, beginning in the late 1990s, have been followed by two precipitous drops.  As you can see, these are unprecedented in post-WWII America.  It is enough to make the most hardened consumer/investor take notice.  And they have.

What have they noticed. 

·         They are not saving enough.

·         They are borrowing way more than they can comfortably repay, under several accepted measures of consumer indebtedness.

·         Their assumptions on returns used in their financial plan, assuming they have a financial plan, were much too optimistic.

·         Some of their goals have turned into wishes, while some of their wishes have turned toward cold realities.

·         Job security is a primary issue and, for some of my friends, they have found that it is not easy to get a new job if you are a baby boomer.  The same is true for several recent college graduates to whom I’ve spoken.

Yet, Americans are survivors, explorers, and innovators.  They can make adjustments and continue to be the most productive workforce in the world.  Americans have always been this way and we will continue to try to lead.  As an example, we’ve begun to increase our savings rate, as indicated in the chart below.  You will notice that increases in the savings rate generally appear during recessions (the blue bars) and, this time, we’ve a long way to go, in order to reach the saving rates of thirty years ago.  I cannot say with certainty that we’ll get there.  I fully expect, however, that we will try.

Financial success demands that we continue to move in the direction we’ve begun to head.  When we save, we not only protect our futures, our children’s future, and our grandchildren’s future; but the monies are productively employed by our economic system to make new capital investments in plants and equipment, thus continuing to increase our productivity.  The best source of economic growth available.

After I wrote the above and I was leaving home this morning (Thursday), CNBC reported the following:

The U.S. economy grew in the third quarter for the first time in a year as consumer spending and investment in new home-building rebounded, data showed on Thursday, unofficially ending the worst recession in 70 years.

While this is great news, do not tell your “spending ego” that the recession is over and we can return to our consumption frenzy.  Keep your money directed toward your goals and your productivity directed at the solution.

Failing to Succeed

This may come as some surprise to you but some days I am not really sure what I want to write for this week's Financial Tip.  I admit that there is plenty I could write and it is a fact that I'm not always excited about writing, don't want to think about the Tip, or issues at work are constraining my creativity.  Often, I am bailed out of my creative funk by a single incident in class, in conversation, or in observation.  Today, that occurred in my 8:00 class when I was introduced to a 1940 speech by Albert E. N. Gray called, "The Common Denominator of Success".  It was originally delivered to a group of life insurance salespersons.  I believe it applies to many aspects of life where success exists alongside of failure and, often, our failures are much less challenging than our successes.

You can read the speech by Mr. Gray, in the above link.  However, let me try to apply it to some aspects of financial success and failure.  I'll be simple and put some thoughts in a table.  All I ask you is to think about where you fit, talk about it with your friends and/or family, or use it as basis for class discussion on choosing to fail or choosing to succeed.  I could be wrong in a few cases but here are my thoughts….

Financial Planning Principle:	Those that Succeed:	Those that Fail:
Goal Setting	Set goals with a monetary value and a time by which they plan to achieve the goal	Drift through life, following others, without thinking what grants them satisfaction
Budgeting	Control their spending with a focus on their needs and those wants that they truly desire Involve their family in the process.	Spend their money, without regard to goals and their future Dictate to others what the family is to do.  (This rarely works.)
Insurance	Recognize the risks they face and implement a plan of self-insurance and/or risk-transference to alleviate the financial risk from perils.	Buy what they are sold, without regard to their needs.  Have large risks that are uninsured or unfunded. Buy things, as opposed to having a plan to prevent financial disaster.
Education	Plan for educational expenses. Make the most of the time they are investing in education and seek experiences that improve their chance of success.	Fail to get an education. Fail to adequately invest time in the educational experience.
Retirement Income	Begin saving at least 10% of their income, as soon as possible. Understand the benefits of discipline, diversification, and time to their success. Take personal responsibility.	Fail to plan, along with her twin, Planning to fail. Pretend that retirement is a long time away. Think it is the government's responsibility.
Time management	Plan their days.  Set priorities in their activities. Set internal deadlines and meet them. Plan to get things done early.	Drift through the day, driven by impulse and by others. Always feel like their time is controlled by others.  (They are correct, if they don't control it themselves.) Go to bed late and get up later.
Better grades	Practice good time management. Come to class. Do their homework Ask questions and seek assistance. Spend time in their studies. Encourage others to do the same.	Time management? Class? Homework? Answer/ask questions in class? Study? "Who needs these?"
Greater income	See what needs to be done and then do it. Making positive suggestions to supervisor. Loyalty that is guided by integrity. Look for a way to make a contribution.	Call in sick to work. Show up late to work. Don't go to work. Complain about boss to co-workers. Do as little as possible and only what is asked.
Better health	Regular exercise plan. Reduce/eliminate bad habits. Healthy diet.	Exercise? Bad habits? Plan to start tomorrow… which never comes. Act like food high in sugar and fat are sources of nutrition.
Better government	Vote, while being informed.	Don't vote and, if they do, are not informed.

After reading the above, I fear I've used up a lot of good advice that could make future Financial Tips or that may have been in past Financial Tips.  There is no doubt that I've missed others.  I admit that I know a lot of apparently successful people that do not do everything on the "Success" list and may do some of those on the "Failure" list.  I venture to guess that there is a risk to you, if you choose incorrectly but, as Bill Allin once said, "Our greatest fear is not that we are inadequate, but that we are powerful beyond measure.  It is our light, not our darkness, that frightens us."

- Robert O. Weagley, Ph.D., CFP(r)

Chair, Personal Financial Planning

University of Missouri

Columbia, MO 65211

Kar (sic)

This morning I had a couple of "good neighbors" speak to my Financial Planning: Careers class about careers in the property and casualty insurance field.  It was very enlightening and, frankly, I still have trouble imagining a product that sells itself more easily than one that is either required by the mortgage lender, if you have a home with a mortgage, or by the state, if you own and drive a car in a state that requires automobile insurance.  In Missouri, for example, in order to register your car you must prove that you have, at least, 25/50/10 insurance.  That is, you must have at least $25,000 in liability insurance coverage per person, $50,000 minimum total liability coverage per accident, and $10,000 minimum property damage liability.  If you have this minimum insurance, you are woefully underinsured!  Adding to this peril, nationally, it is estimated that more than one out of seven drivers on our roads do not have insurance.  The number of drivers without insurance, by state, ranges from one-in-four drivers in Mississippi to only four-in-one-hundred drivers in Maine.  (They must be afraid of moose.)  Moreover, many drivers who are insured do not have uninsured or underinsured motorist protection, if they were to have property or bodily-injury losses, as a result of an uninsured or underinsured motorist.  (It is a pretty good bet that, if a driver does not have insurance, it will do you little good to sue them.)

So, what is my tip to you?  First, liability coverage is crucial to protect your long-run goals.  If you are responsible for an accident – say your car spins out of control on an ice patch and it hits a semi-truck that rolls and badly injures, even kills, a passenger and totally devastates their Mercedes – your $50,000 in liability coverage is not going to pay the bills and the claims from the lawsuit.  You say, "So what?  I do not have any money."  Maybe not now, but the other person will be able to garnish your wages for as long as it takes to recover their damages.  For an extreme case, this could forever ruin your chance for financial success.  Hence, your liability coverage should be at least equal to $500,000 or $1,000,000.  Most, in fact, recommend that it equal the present value of all your human and non-human assets – everything you could lose – which could amount to much more than that.

Second, purchase uninsured and underinsured motorist coverage.  Do you think those that are without insurance are better drivers?  Do you think you do not have to worry about them?  If so, get realistic in your evaluation of others.  Don't risk the loss of your future earnings, in this case by being disabled in a car accident that is the fault of a loser, uninsured driver.  It is not worth the risk.

Again, here I am spending your money and giving it to the insurance company.  So, let's take some away from them.  With your insurance you probably have collision, to protect your car in the event of an accident that is your fault, and comprehensive, to protect your car and its contents from perils other than collision.  For these insurances, you should see how much lower your premiums would be if your increased your deductibles to a higher dollar amount.  The more you self-insure, the lower will be your insurance premiums and, if you own a clunker with little value, stop your collision and comprehensive coverage all together.  The most that they will pay you, regardless, is the market value of your car.

Ok, I agree with you that if you don't have the money to cover the deductible you could be in a real fix.  That is precisely why you must have an established emergency fund.  I consider an emergency fund, next to a good education that prepares you for a career, the cornerstone of a plan that leads to financial success. 

(For more on emergency funds see our archived "Tips" from September 21, 2006 or last week's for ideas on how to manage your cash.)

- Robert O. Weagley, Ph.D., CFP(r)

Chair, Personal Financial Planning

University of Missouri

Columbia, MO 65211

Cash is Queen

Over the past six months, we’ve heard a lot about how important cash is to one’s portfolio. Cash provides liquidity, in order to cover emergency expenses, as well as money to take advantage of market opportunities as they become available. Realistically, how much cash should you have and how do you manage your cash?

The answer to the first question is easy. You should have a minimum of three to six months living expenses readily available to cover any emergency situation; such as being laid-off from your job, to pay for medical or property loss deductibles, to provide a disability income while you recover from an injury, or whatever financial disaster comes your way. You know by now that the greater your ability to self-insure (having a larger deductible); the lower will be your insurance premiums. These savings provide money for you to save and invest toward your future. Moreover, I did hear, earlier this morning on television, that a characteristic of the current health reform debate is to have people with a greater risk of health claims to be expected to carry a larger deductible on their health insurance. Now, whether or not this truly comes to pass, it is always true that the ability to self-insure some of your losses is a key to savings and wealth accumulation. Thus, establish your emergency fund as soon as possible. It is a goal that dwarfs most others.

The second question is less clear. How do you hold your cash, once you’ve accumulated a balance? We will discuss a few options.

A likely source for cash is in your checking account or share-draft account. These accounts are very liquid, yet their annual percentage yield, if any, is very low. Regardless, a month, or two, of living expenses is not uncommon to be found in these accounts. Let’s assume we’ve a month and one-half in these accounts to allow us to pay a budget busting bill, should one come due.

A second source is a money market mutual fund (MMMF), as compared to a money market deposit account (MMDA). A money market mutual fund is where your cash balance is mixed with the cash of others to purchase a diversified portfolio of short-term debt obligations of federal and state governments and larger companies. As these securities are short-term, they do not experience interest-rate risk (the risk of increasing interest rates lowering the value of outstanding fixed-rate securities, or vice versa). MMMFs are purchased from brokerage firms, as opposed to MMDAs which are purchased from banks. MMDAs, however, are FDIC insured, thus they pay a little lower rate of interest. Finally, if you’re in a relatively high tax bracket, MMMFs can be found that contain tax-free, short-term municipal securities. We’ll plan on putting one and one-half to four and one-half months of living expenses here.

This takes care of your emergency fund but what about other cash you may want to hold? Consider bank certificates of deposit, or CDs. CDs require you to lock up your money for a period of time, typically 3, 6, 9, 12, 18, or 24 months, with a penalty if you withdraw the money before maturity. Typically, the longer the term of the promise you make to the bank to let them use your money, the greater will be the rate of interest you receive. Given this, an often employed practice is to ladder ones’ CDs.

Assume you have $20,000 to put in CDs. Laddering would imply that you pick a time interval, say six-months, and put ¼ of $20,000 (or, $5,000) in a six-month CD, ¼ in a one-year CD, ¼ in an eighteen month CD, and ¼ in a two-year CD. Then, when the six-month CD matures, you put the principal in a two-year CD. In this way, you are always investing your money at the higher, two-year rate, while always having ¼ of your money coming due in six months, which you can reinvest at higher rates, should CD rates increase. While, recently, the difference between short- and long-term rates has been very small, this method is widely used for fixed income investments. As of today, for Columbia, MO the published rates on CDs are:

Term	Annual Percentage Yield
6 months	0.80%
12 months	0.92%
18 months	1.26%
24 months	2.15%

I won’t go into the details, but these rates imply that rates are heading higher. (Recently, this was also indicated as a choice of the Chair of the Kansas City Federal Reserve Bank.) If they do, you are fine. In six-months, you’ll be able to reinvest ¼ of your money at the higher two-year rate, while having ¼ of your money coming due, again, in six-months. If we’re wrong and rates stay low, you will reinvest at the 2.15% rate for two years. Soon, you are always investing your money long-term, for higher rates, while always having CDs maturing in the short-term, to allow you to take advantage of changing markets or to provide liquidity for your living expenses.

While this doesn’t guarantee financial success, it does take the guess work out of one aspect of your financial plan, while providing a source of liquidity. Liquidity may not be as important over the long-run but, when compared to other characteristics of investments such as return, in the short-run, it can make the difference between eating well - while making the mortgage payments - and eating less-well - while losing your home. If you don’t believe me, ask a friend who is among the 9.8% of our workforce who is unemployed.

- Robert O. Weagley, Ph.D., CFP(r)
Chair, Personal Financial Planning
University of Missouri
Columbia, MO 65211

Chinese Impressionists

I am wonderfully jet-lagged. That feeling you get when you realize how fortunate you are to have just spent a few days on the other side of the planet. I know that I have been blessed with a wonderful experience and, frankly, I have never been treated with such respect and honor. It was incredible and I’d like to share a few impressions of the wonderful country and people of the People’s Republic of China.

· Beijing airport is huge. It is, literally, spacious beyond imagination.

· When I am asked my destination on the “Immigration and Customs” card, do not write both my hotel name and Tsinghua University. It confuses the immigration officer. I do not want to confuse Chinese immigration officers.

· Do not walk into the bank, to check on Dr. Yao (my traveling colleague), with a camera in my hands. And, if I do, make sure it is turned off. I failed the first test but, luckily, not the second, when I had my only encounter with a People’s Republic police officer.

· My hotel room was wonderful. I had to put my door “card-key” in a slot inside the door, when I unlocked the door, in order for electricity to turn on the lights. In this way, when I left and took my key, the lights would automatically turn off after a few seconds. This is a simple, yet great, idea.

· When I opened my presentation with a quote from Adam Smith, the father of capitalism, the Chinese audience applauded. I used the theories of Duesenberry, Ando, Modigliani, and Friedman to motivate my conclusions about the need for personal financial planning and education in China. They applauded. Several writers asked for permission to put my PowerPoint on their website. I was interviewed by Money Talks, their Money magazine. I won’t know what they print. I can’t read Chinese. Nor do I understand Chinese when it is spoken. I had little idea about what was said at the conference, until a wonderful local, Citibank employee offer to be my interpreter. She was born in Argentina to Chinese parents and currently lives in Beijing with her Danish husband. She is a saint.

· Many people drive luxury cars. Many more ride bicycles. Regardless of their mode of transportation, almost all of them pay cash for their ride.

· I was told that the average house in Beijing sells for $250,000, or about Y1,500,000 and that eighty-five percent of the homeowners pay cash for their homes. The lack of credit use, in contrast to the US, is actually an issue to the Chinese government. They realize that US credit use cannot indefinitely sustain the world’s economy. (They’ve got that right!)

· The ten young women students I met with at Tsinghua University on Monday were the brightest ten people I’ve ever engaged in conversation at the same time. I was and I continue to be humbled by their dedication to academics, the future, and their country. They wore me out in the most beautiful way.

· Pedestrians do not have the right-of-way. The walk signal, green like a shamrock, refers to the luck you need to successfully navigate the crossing.

· Driving rules are scant. Have you ever seen someone make a left hand U-turn from the center lane of a three lane, in each direction, road? If you travel more than a couple of kilometers on non-limited access roads, you will likely see it happen. I suspect that the hearing impaired have many more accidents than those with hearing. If you don’t honk your horn, or hear the honking of others, you are likely doomed. Yet, I saw only one accident and it was a lone car on the “interstate” that hit a wall - apparently at high speed. I suspect the wall did not hear the driver honk for it to get out of the way.

· Beijing has over 17,000,000 people in a city of 16411 square kilometers. That is 1,036 people per square kilometer. In contrast, New York City has 789 per square kilometer or 24% less. That is a lot of people.

· Tsinghua University paid for my trip. I turned in my expenses and they gave me an envelope with Y35,000+ in cash. The law would not allow them to write me a check in US dollars. Since I am not a Chinese national, I could not exchange the Yuan into dollars at the bank, yet I did get a graduate student to do this for me. Hence, I came home with over $5,000 in $100 bills in my book bag. I felt like Bugsy Siegel.

· The food is incredible and I ate well, too well. Peking duck at the original Peking duck restaurant was good but it was the least enjoyable meal of my trip. (Note to self: Ask the locals first, before you do culinary tourist ventures.) Speaking of food, we had wine at dinner the first night. They kept ordering wine. As I was cautious about the water, I kept drinking wine. I wondered why they kept ordering wine, so I asked why they were ordering so much wine. I learned their custom is that, as long as the honored-guest (myself) was drinking, they keep ordering. (Note to self: The brand of Great Wall Cabernet is pretty good wine.)

· The Forbidden City is no longer forbidden. The 9,999 rooms that were used by the Emperors, their wives, and staff are incredibly beautiful – as are the gardens, the museum pieces, and the history. (Have you ever noticed that when Chinese lion statues are guarding an entrance that the one on the left is a female, with a lion cub under her foot, while the one on the right is male with the world under his foot? I had not either, until it was pointed out to me. My wife did not appreciate this story.)

· The Great Wall is truly great. I walked sections of it, uphill in both directions, with my tour guide, Miller. He worried about my health, given my aggressive hiking. He said his boss – my host – would be “mad at me Dr. Weagley, if you died”. One sign along the way read: “If you have heart or brain disease, please ascend the Great Wall according to your capability.” My doctor has indicated that I’m fine on the first criteria.

Well, I’ve got to get some rest. I am sorry that I am writing more like a travel writer than a financial success writer. Or, at least that is my impression.

- Robert O. Weagley, Ph.D., CFP(r)

Chair, Personal Financial Planning

University of Missouri

Columbia, MO 65211