I’m curious as to what you think is wrong with **jacobsta811’s **advice. It may not be applicable and I’m not sure which part you’re referring to, but any decent adviser will tell you that if you have 18% credit card debt, you’re much better paying that off than worrying about where to invest money at 5 or even 10%.
I’m vaguely in the same boat as the OP: young adult with debt under control and finally starting to accumulate five figure quantities of money to figure out what to do with. I’ve read a bit, but what really seems to be missing from all of the “intro to how investing works” articles I’ve read is a rigorous definition of risk. Most of what I see are qualitative statements of risk along with the standard boilerplate disclaimers about “past performance is not blah blah…”. Short of digging into the primary economics literature, is there a good place for the statistically literate to read more about risk?
Still, I’d like to see some sort of statistical approach to figuring out investment strategies. I.e. let’s say I’m saving for a medium-term goal like buying a house in 10 years, and putting a few hundred per month into some sort of investment. What is the probability that investing in a stock market index fund will leave me worse off than just sticking the money in CDs? Sure there are a tremendous amount of unknowns, but I’m more comfortable with some sort of normal approximation of a fund’s performance, or boot-strap simulations of historical data, than with a happy little icon telling me that the risk is “high”.
(I’m definitely not interested in stock picking, which seems like a chumps’ game for anyone in my position, and also for an awful lot of the experts. Gambling with a positive expected value, really.)
The idea that it’s necessarily sound to avoid the “cost of not having money”, or as everybody else calls it, debt.
Whiteknight is in his mid-thirties. If he has a 3.5% fixed rate 15 year mortgage on his home, he’s going to do much better off investing aggressively in his retirement than he is paying off the mortgage and hoping he has enough money in the future to save for retirement. Even if he is able to invest that extra free cash in the future, there will be less time for his investments to grow because he wasted his youth paying off low rate tax-deductible debt.
I could be reading too much into jacobsta811’s advice but in my opinion if you combine credit card balances and mortgages into a single thought, it’s a pretty good sign that you’re fixated on the idea that debt is inherently bad and not on what the best return on your cash is.
An 18% credit card? Yeah, get rid of that real fast.
A 3% home or auto loan? I’d rethink that. Being able to borrow at that low of a rate allows you to invest and get some decent returns out of typical index funds (dependant on you leaving them there long term).
Look at one of the typical big ones like Vanguard Institutional Index VIIIX.
YTD it’s returning almost 19%. It’s 5-year return almost 9%. 10 years at 7%.
Yes, and I can point to many funds with negative returns for any period of time you’d like to look at too - as I’m sure you well know, or at least I hope so.
The idea of paying off debt is a sound one if you think there is a chance that your future income is less than guaranteed. And by the way, as long as you’re working for a living, who can really say otherwise?
Of course it’s never a question of absolutes, so if you think you’re future employment prospects are relatively secure and you have investment options that are likely to exceed the cost of debt repayment, then it’s an obvious choice. But that wasn’t what I hypothesized.
I should also have mentioned that depending on the investment, that prospective return probably won’t be guaranteed, so you really need to look at from a probability weighted perspective.
IOW, if your debt service rate is 4% say and your investment return could vary from -10% to +20%, you need to take that into consideration and realize there is the very real possibility that you could either be up 16% or down 24%
down 14% :smack: :smack:
Sorry for the triple post but I just saw this.
Probably the single most common statistic used for gauging risk is beta. If you look for this for a give fund or ETF, it should give a much better idea of what the relative risk of an investment is. As the investopedia entry explains, a beta of more than 1 means the stock will move more than the general market, both going up and going down. A beta of less means the opposite. The relative deviation from 1.0 tells you how much greater this difference in risk is. So a beta of 2 means twice the risk/reward of the over all market while .5 means half the risk.
But this is based on regression analysis so ideally you want to use beta for securities with a substantial track record.
Costs of “not having money” aren’t just debt, or at least not just loans - they include non-obvious things like monthly payments instead of yearly but for services you haven’t yet consumed (unearned insurance premiums, many others), being over insured for non-catastrophic risks that you wouldn’t be able to pay for without a decent amount of savings. Buying things in smaller sizes and not investing in preventative maintenance and just maintenance in general for houses, cars, etc.
It is true that it may be possible to beat mortgage interest rates, but not without risk, whereas paying off the mortgage essentially provides a return risk free. There is also the issue that you have to get a higher rate of return on a taxable investment than the mortgage interest % because of tax issues (yes, mortgage interest is tax deductible, but the standard deduction means that essentially the first ~10k often doesn’t count). Even then, most people probably have a 30 year mortgage at what, 5%+ on average ? So the advice at the minimum should probably be to refinance the mortgage into a 15 year or even an ARM rather than just keep paying and invest it all.
That’s also a good point. In business school I did some work on workers comp and found that the biggest companies self-insure. IOW, they set up their own insurance funds since they have enough people and it’s so much cheaper for them to do it that way. By increasing your deductibles, what you’re doing in a sense is moving along the spectrum towards self-insurance.
Also people may not realize this but except maybe for tax bills, most installment payment bills charge a fee for the privilege of paying in installments. If you don’t factor that into the cost and look at that as a percentage, you’re not seeing the full picture.
I’d be very careful about ARM’s in this environment though. I think it’s pretty much universally recognized that interest rates will be going up. By how much and when is subject to debate but here is a very good article you should read from Martin Feldstein (Professor of Economics at Harvard University and President Emeritus of the National Bureau of Economic Research)
edit: also, I don’t know if it’s still true, but traditionally ARM’s have been notorious for luring people in at artificially low teaser rates.
Not just big companies. In earthquake zones most people are effectively self-insured, since saving the premium money (which is high with a big deductible) is almost always a better bet than buying earthquake insurance. There may be a high probability of a quake, but a much lower probability it will get your house.
Deltasigma, can I ask what line of work you’re in?
I don’t ask to challenge but to express a bit of frustration on my part. You’re making recommendations in the tread nd I can’t. You see, I am a registered investment rep and providing investment advice in this forum - without a more extensive knowledge of the client AND speaking in clear on a message board would have the SEC and FINRA and my an compliance officer landing on my ass so hard my license would be suspended until we have a colony on Mars.
I’m retired but I’m an active investor.
What investment advise do you think I’ve given exactly that isn’t plain vanilla?
How many young children do you have? Look into the 529 plans for their college. A 529 plan is a special type of account geared toward education. The money grows tax free and you can take it out tax free when used for education expenses. You can put a lot in each year. I think you and your wife could put in 20k per child per year into their account. It would be like your grandparents were paying for their college education.
Each state has their own 529 plan, but you can invest in any state’s program. Vanguard offers a 529 with low fees which is worth checking out.
Jonathan Chance: I should have added that I understand your concern about people giving investment advise online. I’ve been on a few forums where some very dangerous and misguided advice was dispensed and people lost very real and allegedly substantial sums of money as a result. So should people take what I have to say with a pound of salt - obviously. That goes w/o saying I would hope. No matter what opinion you may form as to a person’s bona fides or knowledge, people are fallible and one needs to become well informed enough to make one’s own decisions - at least to the point of knowing what sorts of investment vehicles are suited to one’s risk tolerance as well as knowing how to allocate money across those vehicles.
That said, it’s impossible to discuss the topic at all without *some *information sounding like advice. If you think some sort of disclaimer is appropriate, I’ll be happy to include whatever you have in mind in future threads.
This is one of the things that just doesn’t seem right in a way. If past performance is not indicative of future results (with a risk tolerance level), then all of the stock market statistics mean nothing. Beta? That’s calculated from past performance. P/E ratio? Based on past performance. Moving averages? Past performance.
You’re right of course, but the idea is that certain relationships tend remain constant even if the underlying variables you use to calculate them don’t.
Now ‘constant’ there isn’t to be taken literally. In this context it’s more of a relative concept and context dependent. The best example to use though is probably beta.
For example if you go to google finance and enter the the symbol for AFLAC and let it draw the chart then tick of the box for the S&P 500 and click where it says 1y in the upper left of the chart, you’ll see that AFL, which has a beta of 2 has been up about 24% over the year while the S&P has been up around 17%.
But this isn’t etched in stone. Now enter GILD for Gilead Sciences to add it to the chart. This has a beta of .5 which technically means it should have moved by half what the market did. But it’s up over 100% over the same period.
So the moral of the story is that it is in fact true that past performance really isn’t a guide to future performance. That’s why you if you can’t be well informed about each investment, and you can’t as an individual, you diversify with low fee mutual funds.
The problem though is that even there, you have so many choices that you still need to do some homework. For example, if you had put most of your money into emerging market funds, you could be taking a beating right now depending on what countries those funds were invested in. The Indian rupee and Indonesian rupiah have been getting crushed lately due to the anticipated changes in fed policy (long story).
For mutual funds, in addition to beta, you can also look at r-squared and alpha. Morning Star reports both of these in addition to beta and if you use a broker that has a mutual fund screener, you should be able to enter these as search criteria.
R-squared is important since it highlights whether a low beta stock has that status because it is truly low risk or because it moves more in concert with other variables not correlated with market movements.
I understand. But I’m in a position of not being able to say ANYTHING that might sound like advice.
The real issue here isn’t the discussion, it’s that it’s not abstract. Because there’s an actual potential investor out there (the OP) the discussion does become advise, especially when actual investments are mentioned.
What I can say is that on first meeting I never discuss actual investments. Instead the first step is to get a feel for the client. Where they are financially - in all aspects - and where they are in their lives. It’s far more important to determine goals and hopes and investments can be brought up at another time.
For example, earlier you mention fee-based investing vs transaction-based investing. You come down - I believe - on the side of fee-based. Well and good. I offer both services at the clients discretion but to say that one or the other is uniformly best for the client is unwise in the extreme without a separate discussion.
Another point is that you consider yourself an ‘active investor’. I certainly won’t disagree with your own self-definition, but that phrase admits of wide interpretation. There are active investors who make changes each week - I have a few clients like that - and there are active investors who rarely make moves but instead take the time to keep themselves informed about where their investments are each week.
I’m not seeing your point.
First though I should point out that I never said anything about fee vs. other types of compensation for advisers. I’m not really familiar with the financial planning ‘landscape’ as it exists these days so I doubt I would hazard a comment on such things.
As for being an active investor, I mostly trade options but I only do that with my brokerage account which is something I mostly play with. I follow my own advice and don’t attempt to manage my own investments. 