Investments and Emergency Funds Dependent on Your Career

How Much Emergency Savings Should I Have? Should I invest in more stocks than bonds?

Every personal finance blogger has their own opinion about this. Most of them say you should have at least 3-6 months if you are single, and up to a year if you are married with children. The best strategy that works for me is the one from the New York Times in their story: Legacy of a Crisis: A Generation Shy of Risk.

Basically, it says that your investment risks should reflect more on what you do for a living than your risk tolerance or time horizon. If you work in a steady income, tenured field like teachers or government employees, then your investments can have more risk since you are less likely to lose your main source of income. Your raises are likely to be steady, but not earth shattering. If you work in a volatile field like a broker or technology, then your investments should be more stable. Bankers and tech workers tend to have boom and bust incomes just like the stock market - time of plenty, and time of starving.

I fall into the latter category. I have done this intuitively for some time, but the NYTimes article is the first time I've seen it explained this way. I have a higher than normal emergency fund to cover basic expenses for a year. I could stretch it out even further if I needed to. I have zero debts - no student loans, credit cards, mortgages or car payments. The reason is because the fewer liabilities I have, the less likely I am to run into trouble if I am laid off. It also affords me some mobility. If jobs dry up in Seattle, I can move where there are jobs. I save my money in cash until I can afford to buy a major purchase. This allows me to dip into the washer/dryer fund if I ran into a hardship year, instead of being saddled with a payment due for the washer and dryer.

My retirement investments are on the conservative side; index funds that are a mix of some stocks and mostly bonds. Once again, this is due to the volatility of my profession. If I end up on the wrong side of a down cycle at retirement like we're seeing now, it could be disasterous for my plans for a cabana, botox, and leisurely days in Margaritaville.

Since I make a higher than average salary now, I opt for a wealth preservation strategy while times are good. My skills could be completely obsolete in 20-30 years. If I end up in a down cycle year at retirement, I may have a very tough time even choosing to delay my retirement. Technology is an industry that favors the youthful, unfairly as it is. In order to keep my income growing, at some point I will need self sustaining income not tied to my employment. Thus, my retirement income is designed to be from more stable sources (not just 401Ks and IRAs), while my career is more volatile in my prime income years.

This is could apply to anyone, but if you work in a field with highs and lows, this is especially important. I've seen more than one tech worker surprised by a layoff with a nasty Audi payment and no savings.

Conversion to Wordpress Coming Soon

It's time for me to move my content from Blogger to Wordpress on a hosted domain. I'll be making the switch soon. Stay tuned!

Commentary on Ramit’s Book “I Will Teach You to be Rich”: What if You are Dumb Dan?

In Ramit Sethi’s new book I Will Teach You To Be Rich, he demonstrates the power of compound interest with the example of Smart Sally and Dumb Dan. (There is an error as of this writing as mentioned in Calculation Error in Book I Will teach You to be Rich, but the point and the correct calculation is still relevant). What if you are Dumb Dan? You are in your 30s, and you haven’t saved $100 monthly for the past 10 years.

The first thing to realize is if Smart Sally is out there right now doing this, barring any stupidity like getting entangled with a financially irresponsible boyfriend/spouse, she will always be younger, smarter and and probably richer than you. She has the advantage of time. You, Dan, can’t change the past, but you can change the now and the future. And you can lecture the whippersnappers like Sue not to be like you.

So congratulations, you’ve realized the error of your ways. You are going to be Smarter Dan. Download this Smarter Dan Spreadsheet. “Smartest Sally” never stops contributing every month, and increases her contributions by 5% every year until retirement. She has approximately $624,158,39 with 8% interest compounded over 40 years. (The 8% interest is a toy problem – we will discuss real world returns from index funds later.) What a nerd. <insert dripping envy here>

Dumb Dan – you blew it. You’re in the 30 something club with no real savings to speak of. The good news is you can still benefit from compound interest. You just have to put more money up front in a shorter period of time. If you start off by contributing $600 every month, then decrease your contributions every year, you can still end up near Sally’s balance at retirement. (“Decrease?! What?!” See note below.) You will have to delay buying your first home, drive a beater car, and take modest vacations. If you have a hardship year, you’ll have to sacrifice more. Yeah, $600 per month for the first year. $7200. That’s a lot of freaking money.

Sally will still be ahead of you. She will have earned more money that she didn’t have to put into her retirement funds and could invest the excess elsewhere, bought her first home with 20% down at 28, paid for her new $18,000 car in cash, and vacations in the Bahamas. If she had a hardship year, she had more money to fall back on.

I agree with Ramit’s point. If you’re a 20 something, be Smart Sally. If you’re Dumb Dan, be Smarter Dan. You’re just going to have to put in about 6 times as much upfront. It may not be possible depending on your income potential and obligations, and you’ll just have to adjust to realistic levels for you. If you missed out on your youthful compound interest years, it doesn’t mean that you can’t have a wonderful and meaningful retirement. Don’t compare your success with Sally’s. Be proud of your own accomplishments, the wisdom to recognize your past failings, and the smart decisions you’ve made moving forward.

Note: The point of this toy spreadsheet exercise is to show that even if you are starting late, it is possible for you to ‘catch up’. You just have to put a lot more upfront into it. The point remains the same – Sally benefits from compound interest with less upfront and lets time do its magic.

Update 3/23/2009: Corrected spreadsheet formula in C row.

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Rainy Day Pennies

Calculation Error in the book “I Will Teach You to be Rich”

I have the privilege of being a part of Ramit Sethi’s private book launch community for his newest upcoming book, I Will Teach You To Be Rich. The first chapter is available for free at SlideShare: First Chapter of I Will Teach You to be Rich book. As pointed out on Lifehacker: Read the First Chapter of I Will Teach You to be Rich for free, and the book launch community, there is an error on the section demonstrating the power of compound interest on page 5. There is a mistake in the calculations matching the story.

The story says Smart Sally contributes $100 every month to a retirement account with 8% interest for 10 years, then stops contributing. She lets it compound for another 30 years until she retires. Dumb Dan starts contributing $100 every month for 30 years. The end result is supposed to show that Smart Sally still ends up with more money than Dumb Dan because of compound interest.

Here is Ramit’s table with the error:

The error is this. The compound calculation for Smart Sally never stops contributing $100 every month after 10 years. The total $349,856 is the approximate total if she had continued to contribute $100 every month for 40 years. The error for Dumb Dan is a little odd. The value $271,879 matches if the contributions for 30 years is adjusted to $182 per month, or $100 per month for 37 years.

I’ve attached a spreadsheet that shows the error calculation and what the numbers should be. Smart Sally should have $200,065 and Dumb Dan $149,036 if you follow the story.

Smart Sally vs Dumb Dan Spreadsheet

Read the full Review of Ramit Sethi's Book: I Will Teach You to be Rich.

Update 3/23/2009: Corrected error in spreadsheet where Sally was still contributing $100 in the first month after year 10. Corrected formula in C row for consistency.

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Rainy Day Pennies

Decluttering by Selling Stuff to Replace Stuff

For the past year, I’ve been trying to follow the one-in one-out rule.  If I buy something, I have to take something old and throw it out or donate.  Pair of shoes in, old pair of shoes out.  An area that I make the most progress on is books. 

I used to be proud of filling my bookshelves with as many books as possible.  I dreamed of having a study/library packed with books.  Then I had to move across the country.  Packing and moving my books became the most dreaded part.  There were so many heavy boxes to move!  Especially the tech books.  How many of those books have I gone back and reread?  Very few.

I very rarely buy brand new books anymore.  I have a rule for movies and books:

if read/watched more than twice, buy (used if possible);

else rent/borrow

I still have stacks and stacks of fiction books from my past.  There are specialty books that are hard to find at the library or used book store, and have to be bought new.   Current programming and technology books, for example, are rotated in and out most frequently.

Thus, if I want to buy a new book, I try to sell my old ones on Amazon.  This usually works out to about a 3 to 1 ratio.  At that rate, I make rapid progress on decluttering my bookshelf.

I’m not quite there yet.  My goal is to fit only the essential books that I need in a couple of book boxes.  I try not to buy fiction books anymore, and opt for the library when I can.

I doubt I could be a true monetary monk minimalist, but I’m sure I can have a neat desk and bookshelf with items that I truly need.

DIY Packaging When Selling Your Stuff

If you’ve ever sold anything on Amazon.com, Half.Ebay.com, or Ebay.com, you know that one of the biggest overheads to sink your profits is packaging and shipping costs. You buy the box, the packaging popcorn, then finally ship it. Who knows how much extra you’re paying to ship air and excess packaging.

I save money on packaging by custom fitting a box to my item using an old box. Here’s how I do it without a lot of measurements or an advanced engineering degree.

Step 1: Get an old box you have lying around from your last Amazon.com order.
Step 2: I just sold one of my old books and have it ready to pack.
Step 3: Unfold the box completely.
Step 4: Lay the book inside. Looks like it should fit nicely with a few cuts.
Step 5: Push the book’s spine against the box’s fold, then make a crease and fold on the opposite edge.
Step 6: Fold the box against the top cover.
Step 7: Make a crease and fold the box so that it is enclosed except on the top and bottom edge. Note I haven’t made any cuts in the box yet.
Here’s the book with its folds and creases. See? No cuts yet. The creases will give us some guides to follow when cutting.
Step 8: It’s time to start cutting. Fold the box’s existing flap and trim it to the width of the book.
Step 9: Cut vertical lines at the corner approximately the same width of the book.
You should end up with a flap that folds along the bottom of the book.
Step 10: Repeat the cuts on the remaining 3 corners so you have 4 flaps.
Step 11: Cut off excess from the flaps. I have approximately 1/2 inch flaps here.
Step 12: Fold the top and bottom edges over the flaps.
Step 13: Repeat on the other side. Fold all your edges over and cut off any excess.
Step 14: I taped the bottom edges together once I had them folded over the flaps to hold them tight. The box is almost done. Just pop the book in and fold the top flaps and edges. Tape all edges tightly with good quality packing tape.
Step 15: The finished product! Just need to put the shipping address on, and drop it off at the Post Office on my way to coffee in the morning.

I consider the cost of this negligible since I’m using a box and tape I already had lying around the house. It’s a sturdy box with no excess packing materials. In the past when I bought envelopes from the Post Office, it would typically cost me about $2.30 to ship the book, then another $1.35 on the bubble wrapped envelope. If I had $5 profit after Amazon took their cut, that would leave me with $1.35. Lame. I could buy a short Americano with that; barely enough to annoy David Bach with. I need a real latte. Now with my custom box, I get to keep $2.70. Yay! Double tall mocha, please!

I learned this method from Instructables.com: Build a Cardboard Box. Try reading there if my instructions seem confusing.

Update 3/17/2009: Fixed numbering problems – oops. Reformatted steps for easier reading.

Saving on Beauty: Do it Yourself Eyebrows

One of the most important aspects of defining your ‘look’ is your eyebrows. Like many girls, though, trying to do it myself is intimidating. I’ve had many moment of “oh sh*t – I overtweezed!” followed by weeks of attempting to patch it with eyebrow pencils. For a while, I was paying about $28 including tip every other month to keep my eyebrows neatly trimmed. However, when I found the Sephora Brand Arch It Brow Kit, I thought I would give it a try.

The Sephora Arch Brow kit comes in a leather case with 3 stencils (natural, sophisticate, and glamour), clear mascara, tweezers, and eyebrow powder. I use a dark eyebrow pencil in addition to this. I hold the stencil to my eyebrow, then fill it in with the eyebrow pencil. Tweezing then becomes as simple as plucking outside the eyebrow pencil line.

I’m probably not doing it right – I have no idea what the clear mascara is for. I just read on the Amazon review that it’s supposed to hold your hairs down. I’ve never done this – I just use the eyebrow pencil and fill in the stencil. It works fine for me.

Does it give me the highly stylized brows the eyebrow artiste at the salon used to give me? Definitely not. But it is actually very good, and keeps my brows well maintained and groomed. I’ve been using this for about a year now, and am happy enough with the results. No one has ever commented on my eyebrows looking odd – they don’t seem to notice. I no longer run into panicked accidents that lead to filling in with the eyebrow pencil.

My savings:

$35 eyebrow kit used monthly for a year = $2.91 per month

$28 including tip with salon stylist every other month for a year = $14 per month

In addition to the money savings, my eyebrows are better maintained because I do it monthly with stencils, instead of every other month with the stylist.