Almost as if I was drawn back into a thread over a month after I left it, and then chose to respond only to the points made that I hadn’t already addressed at length in my initial (and apparently not well received) posts.
Not a whole lot more I could do with:
“This has got to be one of the most far reaching conspiracy theories I’ve ever seen,” followed by a restatement of what seems like a really solid solution to me, followed by a “
” you know?
Yeah, I saw an interview with Shaq talking about how he blew through his first million in literally a day by buying four $250,000 sports cars. Good thing he was awesome at basketball and came to his financial senses.
I think basic financial literacy is so uncommon because people have such an emotional connection with money, wealth, and status, typically driven by how they were raised and the circumstances they grew up in. Short term pragmatic needs and wants often take precedence over longer-term financial planning.
For example, if you grew up in a family where money was an issue, you may be so conditioned living paycheck to paycheck to pay for basic needs that the concept of long term savings and financial planning might be completely foreign to you.
Similarly, if you grew up in a household that was affluent, you might have no concept of how much things actually cost or having to save, budget, and plan because the money was always there.
Even as people’s financial situation changes (ie get into a lucrative career or encounter financial hardships), their learned habits and attitudes and emotional states (and often lack of education) will often get in the way of taking a dispassionate, analytical view of their finances.
That’s what you see a lot with sports stars and lottery winners and other people who encounter a massive windfall. “A lot more money” is not “all the money in the world”. Even doing @Machine_Elf elf’s crude calculation of a burn rate and saying “I need to spend less than this each day/week/month” would be something.
Similarly, it can make people overly conservative too. Like if they have weird views on banks or whatever or don’t understand the difference between “good debt” (like a mortgage or business loan) and “bad debt” (like a car loan). So they stick their money in a plain old savings account earning almost no interest, or even worse, under a mattress.
I grew up pretty poor. Not dirt poor, and I wasn’t privy to my parent’s income statements, but I know we did qualify for WIC and fell below the federal poverty line sometimes. My mother took me to open a bank account when I was probably no older than 5, and taught me to save as much as possible.
I was conditioned to think only of long term savings. I almost never spent my own money, and that followed right up until adulthood. I’ve had to learn to spend. I make good money, and we have plenty in the bank, it really is OK if I want to buy my children overpriced hot dogs at the fair, but those habits of frugality are deeply ingrained and it makes me uncomfortable to do so.
I have to admit, I’ve never understood this one.
A friend of my wife’s was living with a sort of feast or famine, unintelligent, low income sort of guy, and he’d do all sorts of less-than-prudent behaviors w.r.t. his finances that I couldn’t wrap my head around. Long story short, his attitude was essentially that his money had a short half-life, and he’d better spend it while he could, even though that meant that he had to frequently skip meals late in the month, or would have to mooch off friends and relatives to cover unexpected expenses that were beyond the cash in his wallet.
I would have thought he’d clue in and you know, put $30 away each time he got paid, so that after a few months, he’d have a few hundred bucks that he could use if his truck broke, or a/c went out, or whatever. But nope, his dumb ass would sweat his ass off when the A/C broke, and still do the same behaviors of getting drunk, buying gold jewelry/truck accessories, and being broke as hell for the rest of the month.
Which was fine, and his choice, but what was most amazing is that my wife’s friend (someone who didn’t grow up part of that socioeconomic strata) said that ALL of his friends and relatives behaved the same way- she described it as almost like every paycheck was a lottery windfall.
Given how much I struggled when I was young, and can only apparently succeed within the constraints of a budgeting app, I have to believe Executive Function has something to do with this. Some people just aren’t strong in the planning/organizing/prioritizing part of their brains. It’s rare to find someone who completely mismanages money who isn’t also missing appointments and showing up late and generally exhibiting other signs of ADHD or executive dysfunction.
To be fair, the guy I’m talking about is probably one of the least intelligent people I’ve ever met, so in his case it was probably executive function as well as just not being able to identify that what he was doing was anything except normal. I sort of doubt he had any idea that life operated differently for other people, and if it did, I’m sure his assumption was that they made so much money that they couldn’t drink or spend it away fast enough to go hungry in the later part of the month.
Which isn’t true; most people have at least a rudimentary idea that you have to allocate your paycheck to be able to pay for the whole pay period’s worth of expenses, even if they’re not real big on saving for a rainy day.
A college student who doesn’t read their textbooks because video games are so attractive is not illiterate, they are making bad choices. The things you mention lead us to make bad financial choices, but are not signs of illiteracy. One of the finance writers in the Times wrote about how he screwed up his finances awfully, and he was hardly financially illiterate.
My father grew up very poor, and he sure knew how to save. I know people who grew up relatively rich and were always in debt. Each of us are more or less subject to economic irrationality.
Most us aren’t aware of how we are irrational, and thus don’t take steps to address it. My daughter and I taught behavioral economics to engineers as applied to my field, and it opened a lot of peoples eyes. Reading Thaler opened mine.
All true. The buzzphrase “financial (il)literacy” has taken on the umbrella meaning of all things financially (in)competent.
Whether that’s lack of knowledge, lack of ability to apply the knowledge to reach a decision, or lack of willingness to implement the decision are three different individual problems with three different individual solutions. And probably deserve three different agreed-upon terms.
But from a public policy perspective they all come down to the reality that a large fraction of the public is financially incompetent and somewhere between ill-suited and disinclined to change.
I’d argue that if society had standardized on “financial (in)competence” as the buzzphrase there’d be less confusion. More anger, resentment, and claims of victim-blaming, but also less confusion.
Well sure. We are all subject to financial irrationality because we often make choices based on emotion. And that causes them to poorly assess risk and make bad decisions.
I don’t know that I would take 100% of my wages in stock. I think there are capital gains tax implications for selling off your shares that soon.
Also I worked for a tech company in the late 90s that encouraged everyone to buy stock. Like many companies during that era, the stock tanked in the early 2000s. I learned later that the CEO was investigated by the SEC and eventually fired for options back-dating.
But to your point, yeah, it’s free money. You’d have to be foolish not to sign up for it.
Any increase in share price over the course of 60 days would be taxed at the short-term capital gains tax rate, which means those gains just get added to your income and taxed at whatever your highest income tax bracket is. But the share price is not likely to go up or down very much over the course of just 60 days, so I think the value of the pile of shares that the company pays you (in lieu of an actual paycheck) would just get taxed as ordinary income.
Certainly emotion plays a part in some bad decisions, but not all. We demonstrated the effect of anchoring to statistical significance in a class of 20 engineers - I can’t imagine how emotion was involved. The endowment effect experiment was done with a class of MBA students, half of whom got a mug and half didn’t, and the question about how much they’d want to sell the mug and buy the mugs was asked just minutes after the mug owners got them, before they could form an emotional attachment to them.
We seem to have economic irrationality hardwired into us.
My objection to calling it financial illiteracy (or even incompetence) is that people who know they are financially literate will think these things don’t apply to them. They do. There is nothing wrong with us for falling for optical illusions, and this is the same kind of thing.
As to the tax side, I think it will simply amount to paying ordinary income taxes on both the 50% instant gain upon issue, and on the 60-days hence price delta plus or minus. And of course paying ordinary income taxes on the W-2 money used to buy the shares at that 50% discount. So tax-wise the difference between that and receiving the total share sale proceeds as W-2 wages is zero. From a purely tax POV my pal converted his e.g. $150K of W-2 income into $300K of W-2 income. Net of minor timing differences across year-end.
For sure if the employee believes that the stock is a reasonably safe investment, even net of the non-diversification risk, then selling none or only some at the 60-day unlock point and holding more / all of it until the 365-day LT capital gains kicks in would be much more tax-efficient. At the cost of lost cashflow during the 3rd-12th month post-hire while you’re loading the pipeline.
Given the tax rate delta between ordinary marginal rates on ~$300K and LT capital gains rate, the wait-365-days play would be superior unless the shares were losing >~15% per year. Again assuming you can meet your expenses while loading that pipeline. If one intended a career at that company it would be a no-brainer to load the 1-year pipeline to 100% of wages even if it took multiple years to do so gradually.
As to your tech company story …
Yeah. Although I was never in that position, stories are legion of start-ups that paid in as-yet untradeable shares that later proved valueless or had value only during a brief window where the insiders gleefully cashed out and the workers were left holding a huge taxable gain and no actual money to pay for it. And those were the honest companies. Active C-suite fraud was rampant too.
In the case of my pal, he was working for one of the larger US regional phone companies that decades prior had been part of Ma Bell. By then it was a well-established stodgy blue chip utility. Its alpha vs the Dow was effectively negligible.
Now that is a good point.
In medicine “incompetence” is not pejorative and refers in a value-neutral manner to how well some particular bodily function is or isn’t working. Conversely, in normal parlance, “incompetence” carries connotations of blame or shame or … . As if that incompetence is both purely the fault of the person, and is fully fixable by that person.
I was aiming more in the former sense. But as you point out, the latter sense is what’s going to be heard.
“Financial Aptitude” may not be far off the mark.
All humans have built-in cognitive / emotional obstacles to being naturally skilled at this stuff. Some of us have more or less aptitude. And each of us can be trained to achieve close to our aptitudinal limits, or half that, or we can simply wallow in untrained incapability.
But overall, humans have objectively poor aptitude for this. As much as we are not Homo Economicus, we’re really not Homo Financialus.
It’s kinda like swimming. The best human swimmers are far better than the worst. But the best of us pale to abject uselessness compared to, e.g. dolphins who have inherently high aptitude for swimming. Unlike dolphins, we inherently suck at swimming. But the best swimmers bring home all the gold. Ditto the best financiers.
Continuing the swimming analogy, yes, being a sound financial decision-maker is inherently hard and unnatural for a human. It’s an artificial task ill-suited to most of our circuitry. But at least in principal, most folks can be trained up to swim well enough to not drown in benign conditions.
But as @Llama_Llogophile explained earlier, our society doesn’t provide those benign conditions. Nor the swimming lessons. It’s almost as if the skilled motivated swimmers beat the water to a froth hoping to drown the unskilled and take their wallets. Nah, couldn’t be. Could it?
Less cynically, its seems much more like the bulk of people are choosing to suck at walking rather than at swimming. Financial stuff applies to everyone every day. Whether they’re a fatcat or a minimum wage worker struggling to feed & house themselves. Every time you do or don’t spend or save or invest or …, you’re exercising financial decision-making.
A well-managed society with an economy that serves all its members would be designed with bulk human limitations in mind, and would also have people wanting to achieve at least basic walking & jogging competence in these tasks. It is a source of both individual and societal frustration that a) we can’t and b) we won’t do either of those things; upgrade individual capability nor design a society suitable to our collective inherent limitations.
That’s a tough one.
Agreed with all of your post, but I’d say that a better analogy would be that they have yachts. They don’t need to be skilled to swamp the rest of us treading water.
Given this discussion, here is a timely article from a Bloomberg writer:
More than 11,000 respondents to that poll. What caught my eye is this:
“Overall, 56% of respondents said they had such an expense in the prior month, with the most frequent cause being vehicle-related costs, followed by medical bills.”
If these $400+ hits happen that frequently, I am not surprised that some people really can’t ever get ahead. But it also points to two public policy actions that would certainly help: decent public transportation so people don’t have to rely on cars; and decent health insurance.
Being able to afford non-jalopies on their last legs would help a lot too. Which goes back to income / asset inequality as the root cause of so much of this stuff.
I think the sharks are looking for those who struggle, they don’t cause them to struggle.
The first step, as we’ve already discussed, is basic financial literacy, which involves math and it seems math is hard for some people. (I, my daughter and my grandson all love playing with numbers, so this is hard for me to fathom.) But the second step, and I’m fine with financial aptitude, requires self-examination, which is even harder. How many people are going to listen to people who tell them that they are not going to be able to beat the market, or that startup with no hopes of ever making money is a bad investment, or too good to be true means it isn’t true.
Educating people about these flaws, and showing them through experiments, might help some. But the sharks aren’t going to go hungry any time soon.
My wife signed up for a ‘free financial planner investment call’. We had that this morning. It was a guy working for an insurance company trying to sell us a segregated fund. He prepared a special report just for us, which had questions like,
“Do you value a guaranteed income?”
“Do you value enjoying your retirement more than nerve-wracking investment decisions?”
“Do you value being protected from market downturns?”
“Do you value your spouse not having to worry about income if you die?”
This is timeshare-level bullshit. Every question he asked was worded in a way to make you say yes.
Then he showed us a graph of potential returns, using two mutual funds “Canada II” and “Canada V” which showed a 25% and 18% rate of return, respectively. This was to show how much more money we’d make if we went with them (my five year rate of return on my self-directed RRSP was about 11%).
My first thought was, “Canada II and V, eh? What happened with Canada I,III, and IV”? It looked cherry-picked to me. After the call I looked up their funds, which have an average rate of return over five years from 0.37% to 2.1% Which makes sense, because insurance investments are generally more consevative and have super high fees.
He also tried to convince us that we needed a guaranteed income (give them all our money and have them pay us a guaranteed momthly amount), even though I patiently explained that we both had pensions which combined more than pay all our bills, and we had survivor benefits that pay the spouse if the other dies. Apparently we still could use a healthy dose of death coverage plus ‘illness insurance’ to pay all our medical bills. This for seniors in Canada, who get almost everything covered anyway. And he knew we both had health coverage through our pensions.
Anyway, I can see how predators like this can hook people into transferring all their assets into high-fee insurance schemes they don’t need.
Also, my wife has an RRSP through work that was managed by a large group pension. She just found out her five-year return was less than 1% because of high management fees, and pulled all her momey out into a self-directed RRSP. Again, a lot of employees who think they are getting good investments through their employer savings program might just be losing all their gains to management fees.
The basics of financial management are simple: Invest in no-load or low fee mutuals and ETFs. Strike a balance between risk and return depending on your financial situation. As an individual investor, stay away from stock tips and individual stocks unless you really know what you are doing and believe you have domain kmowledge the market lacks (good luck).
Max out your tax deferred savings (401k or RRSP) to the best of your ability, because the absolute best investment you can make is the 30-50% return you’ll get by deferring your taxes into retirement.
Only buy insurance to cover things you absolutely can’t live without and can’t afford to replace. Most people over-insure, and it costs them a lot.
And don’t fall for ‘free financial advice’. Free advice always comes with a sales pitch. Tanstaafl. Assume you aren’t hearing the unvarnished truth from your ‘financial advisor’.