Narrow Bridge

If you ever watch CNBC or read about investing, you have undoubtedly heard about risk.  This post focuses on what investment risk means and how you should look at risk when investing.

Investment risk is generally measured with beta.  If a stock has a beta of one, the risk is equal to that over the overall market.  Higher beta means higher risk.  If you look up any stock on Google Finance, the beta is given at the top of the page.  Toyota, for example, has a beta of .72.  That means it is a low risk stock.  Ford Motor Company has a beta of 2.57, which means it is more volatile and more risky.

But how does that impact you?  If a stock has low risk, it will probably not go up or down very much.  If a stock has a high risk it could take a big swing either way.  There are two major reasons investors have to look at risk.  First, investors have to know how risk averse they are.  Second, that have to match that risk with return.

I am a little risk averse, but I am still young so I can afford a big swing in my portfolio.  My stocks have a beta of .20, 1.43, .98, and .64.  If weighted evenly, I have a portfolio risk of .81.  That means my portfolio will be slightly less volatile than the overall stock market.  With that level of risk, I would expect my gains, or losses, to be a little less than the overall market.

What does risk have to do with return?  As I said in the previous paragraph, risk should be proportionate to return.  If you invest in treasury bills, you have virtually no risk, and will get a little return.  US government securities are considered the closest investment in the world to “risk free.”  That is why US t-bill interest rates are considered the “risk free rate.”

Large corporate securities for established companies, called blue chips, are the second least risky investments, not including foreign treasury securities.  Blue chip stocks, such as those included in the Dow Jones average, generally have low risk.  One major measure of corporate risk is the bond rating system.  AAA, AA, A, or BBB bonds, are investment grade.  BB and below are considered junk bonds.  Like with other investments, high grades are less risky and give lower returns.  Moody’s and Standard and Poor’s are the most well known bond rating agencies.

Rather than keep rambling on, I will open up the floor (comments) for questions.

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While most of the readers of this blog (I think) are in their twenties and thirties, this story is a valuable lesson on why we need to plan for the future.  Remember the good old days when gas was under a dollar a gallon?  Remember when we were kids and a candy bar was 25 cents, then 50 cents, then 75.  I used to send thank you notes with a 28 cent stamp, now they are 42 cents and rising.

Seniors today may not have expected those dramatic changes in price.  Look at how much has changed in the last twenty years, let alone seventy.  The cost of living is on the rise, and there is no end in sight.  That is what inflation is for the most part, a rise in the cost of living.

Fortunately for us working age types, our pay increases every year at the rate of inflation, or a little more if we are lucky.  Our cost of living pay increase helps us to cover that extra four cents for a stamp or increase in grocery prices.  When you are in retirement, you do not get a raise anymore.

When you plan out what you need to have in the bank to retire, remember that costs are going to go up.  Food, travel, gas, clothes, and entertainment are going to cost you more the day you retire than they do today and will cost even more ten and twenty years after you retire.  Don’t forget that you will be spending more time at the doctor when you are nearing 80 than you do today.

While we are still working, we can make an adjustment on how we live to ensure we can cover our costs, be they needs or wants, once we stop working.  Today you can increase your 401(k) or IRA contribution.  Plan for the future so when it comes around you don’t have to worry.

For now, many seniors are stuck in a bad situation.  Costs have gone up and they have little opportunity to make up the gap.  This has impacted the lifestyle of many retirees and their families.  Remind your parents to think about this so you don’t get stuck with the bill later on in life.

What can you do today?  Increase what you put into your 401(k) by 2%.  After a few months I am sure you won’t miss it.

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Here is my Net Worth update for July 1st.  I wrote a check for about $8000 for summer tuition.  Yesterday I gave them a check for nearly $4000 more.  School is expensive.

I had a little extra income this month that helped to offset come of the cost of school, but not all of it.  In all, my NI was down about $1,100, or about 6%, in June.

I did make some dents in by student loan and car loan.  In all, nothing too exciting this time around.

In July I expect my Net Worth to be down again.  I figure it will be down $1,000-$2,000.

I took a big check to the bank yesterday and was worried that the bank would put a hold on my funds.  I had to pay tuition this week, so I needed access to the funds right away.  I was given $100 right away, but that left thousands still out of reach until the bank decided to give it to me.

I decided to look into the laws about holding funds, and thought you might appreciate a quick breakdown on Regulation CC, the Federal regulation on bank holds.

Regulation CC is the Federal Reserve rule created to enforce the Expedited Funds Availability Act of 1987.  Banks allowed to put a hold on personal bank accounts for one of several reasons.  The idea is to protect the bank from a loss if you withdraw the money and the check bounces.

The main holds are outlined below.  Information can be found at the Federal Reserve, though I found the chart below (from Wikipedia) to be the best explanation.  Remember, these are your rights.  If a bank violates the rules outlined below, they have committed a violation of law and should be held liable by the Federal Reserve.  If you think you have been wronged, or are being wronged, contact your bank first.  If that does not work, contact the Federal Reserve.

I just finished writing my book on Friday. I still have a bit of formatting to do and will be asking around to see if a couple of friends and maybe a couple of other bloggers will give me feedback. Expect it to be available in the next couple of months. No text was copied from the blog, everything is original and intended to be an in depth guide to simplifying your financial life.

For the first time, I am going to give exact details on my loan balances and how I am paying them off.  I will also discuss the popular “snowball effect” for paying off your own debt.

I have three loans with balances.  My car loan has a balance of $4,175.51 at 5.95%.  My unsubsidized student loan has a current balance of $2,698.57 at 6.8%.  The subsidized portion has a balance of $8,500 with no interest until after I graduate.  I have been paying far above what I need to for each of those loans to have them paid off quickly.

I pay my loans automatically.  According to the snowball theory, which I will describe in more detail shortly, I should be paying as much as possible into the 6.8% loan and a minimum payment in the others.  I am not.  I built my own plan.  I make payments into the two interest bearing loans automatically twice every month.  I don’t even have to think about it anymore, my bank does it for me.

I pay $150 every two weeks into the student loan, which is still growing quarterly.  That $300 per month is well above the interest only recommended payment of just under $20 per month.  I am not required to make any payment until six months after graduation, but I would rather pay as I go and graduate with less debt.

I automatically pay $170 per month into the car loan for a total of $340 per month.  I picked this number because, at that rate, I will have the five year loan paid off in three.  The initial loan was for $10,995 in August 2007.  I was paying double the $210 monthly payment until I started school.  I lowered my payment to ensure I had enough cash to make significant progress on the student loan while in school.

At the rate of payment above, I will have my car paid off when I graduate and will have the entire non-subsidized portion of my student loan paid off when the subsidized portion kicks in.  That will leave me with one loan requiring about $200 per month minimum payments.  I hope to pay it off twice as fast and be done with it 5 years after I graduate.

So, how does the snowball effect work and why am I not exactly using it?  I am so glad you asked!  Here goes:

Lets say you have 3 loans.  One has a balance of $5000 at 4.9% (minimum payment is $150), the second has a balance of $1000 at 5.9% (minimum payment $50), and the third has a balance of $3000 at 7% (minimum payment $100).  Which do you pay first.  (Please take this time to formulate an answer before reading on.)

If you said the third loan, you are right.  The smartest strategy is to pay for the highest interest rate loan first.  It doesn’t matter what the minimum payment is.  It doesn’t matter what the balance is.  All that matter is how much interest you pay per dollar.  There are psychological reasons to pay the 5.9% loan down faster, as it will be paid off quicker.  However, in reality, we should pay for the highest interest rate first.

Why am I not doing that?  The psychological reason.  My student loan is growing and will keep growing until I graduate.  My car loan is fixed and shrinking.  I want it to be over.  That is why I pay more into a lower rate loan.

The snowball effect is, surprisingly, not related to that famous scene in Clerks. (Rated R)

Snowballing, for loans, means you pay the minimum payment on all of your loans except for the highest interest. You pay as much as possible into that loan. Once it is paid off, rather than just lowering how much you put into loan payments, you put all of that into the next highest interest rate.  In the example above, you make the $50 and $150 minimum payments while putting $200 into the highest interest loan.  Once it is paid off, you just start putting that $200, in addition to the $50 minimum payment you were already making, into the 5.9% loan.  Once it is paid, you put the whole $400 into the 4.9% loan.  That is the fastest way to pay down all of your debt.

I am happy to give you one on one help if you are trying to set up a plan like this.  If you send me your details through the contact form, I will put your plan together, in a spreadsheet, for free.  I just ask that you let me share it, anonymously if needed, on this blog as a feature about how one real live person is going to do it.  Most financial advisers would charge $100 or more an hour for this.  Remember, I have a finance degree and I am working on an MBA, so I do really know what I am doing.

If you were confused by any of this, please let me know in the newly fixed comments.  I can answer any questions, about my situation or snowballing, in the comments.  And no, I don’t like what they talk about in the video.

Photo Credit [1]

While I was approved for a new credit card this week, I have pristine credit.  Most credit card companies, including Schwab, are looking for excuses to turn people down.  Credit used to be easy to get.  Anyone with a credit history that was not too bad could get a credit card.

Millions of people are being turned down for credit.  I was given a lower limit than ever before on my card, and I have never had a late payment or missed payment.  Credit companies are looking for the smallest problems on credit histories.  A 30 day late payment used to be looked over without a thought.  Now it is a reason to turn down unsecured credit.

It is important to note the difference between secured and unsecured credit when looking at this issue.  Unsecured credit includes credit cards and “personal loans.”  If you stop paying these, the bank has no recourse to collect the money outside of damaging your credit report.  Secured loans, such as car loans and mortgages, give the bank the option of taking the property.  That gives the bank the opportunity to recoup their costs in the event someone stops paying.

What can you do to avoid the shared fate of millions of applicants?  Keep paying your credit card and loans on time.  If you are 18 and have never had a credit card, it is time to get a student card, but use it responsibly, to establish credit.  If you have negative information on your credit report that is inaccurate, dispute it.  If you really did screw up, pay off that card and close it.  Credit history is only good if you have a good one.

This issue is also impacting current credit holders.  Banks are looking for ways to make more money and cut losses sustained from bad loans.  As a result, people are getting credit lines slashed and seeing fees and rates increase.  If you are a regular reader, you saw that I was given a new $30 annual fee on my Chase card (which led to me closing the account).

If you are denied, don’t be discouraged.  The credit crunch is not over and people around the world are suffering as a result.  Just do the right thing with your current credit and things will slowly start to turn around.

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Whenever I put something in the dryer, I clean the lint trap.  I figured everyone did that.  However, I can easily tell if my roommate was the last to do laundry if the lint trap has an inch thick layer on the screen in our dryer.

I didn’t think much of this, but I started to do a bit of digging.  This is targeted to the guys out there, as (I know it is profiling but I don’t care) most girls seem to know how to do laundry already.

I did a little research on what can go wrong if you don’t clean the lint trap.  It turns out quite a lot can go bad.  There are two main issues with leaving the lint in the trap.  First, the dryer uses more electricity to run and is not as good at drying clothes, often leading to a second run through.  Second, the dryer can easily light on fire if the lint trap is full.

So, to recap (just like on MANswers).  Clean the lint trap because it will save you cash and keep your house from burning down!

I just wanted to write a quick update. I was called by a Charles Schwab bank representative to discuss my income and outstanding debt.

She said that everything looked like it is well handled and under control, but I have a fairly short credit history. I agree with that. I got my first credit card about five years ago, so I don’t have the long payment history most adults have.

I was given a $2,500 limit. I was hoping for $5,000 to cover what I am replacing, but I will not complain. I don’t spend all that much and will keep my balance low to keep my debt ratio in check.

I have a story for you.  A “perfect storm” of vacation credit card problems left my sister in Greece with only 100 Euros in her pocket.  The issues sprouted from another trip thousands of miles away.  Here is the rundown, and the lesson learned, from the experience.

About a month ago, my younger sister left on a trip to Greece.  Yes, I am jealous too.  She brought two cards with her, thinking she would be fine.  Her debit card was stolen, due to her stupidity, early on in the trip.  This left her with only a Visa card tied to my parents account.  Lucky her?  Not quite.

About three weeks into her month long trip, I took a vacation with my mom.  We each had multiple cards with us.  I had my main credit card, the same Visa as my sister in case my mom wanted me to buy something on her behalf, and my ATM/Visa Debit card.  She had one of the family Visas and a backup card.

On the fourth day of my trip with my Mom, she asked me to buy a present for my Dad using the family Visa.  Declined.

What happened?  Why was it declined?  I had cash and another card, so there was no problem on that front.  My mom tried hers.  Same story.  We called my Dad, who called Visa.  The card was stolen in Alaska, where I was on vacation with my Mom.  At some point, someone skimmed my Mom’s credit card number and tried to buy a plane ticket.

As I said, we were fine in Alaska.  We had cash and cards on hand to get us through.  My sister, though, lost her only remaining card.  I didn’t feel that bad for her, as she lost her first card on her own.  It was a bad situation though.

It took us about a week to get her a replacement card.  Visa sent it priority to her hotel on a little island of about 3,000 people.  They were very helpful, but you have to know to ask.  Visa will get a card into your hands in 24 hours most places in the world with little or no charge.

Because we were locked out of the account, we could not pinpoint where the number was stolen.  We had the card, so it was not like my Mom was careless and lost it.  Someone was sly about it and stole the number.  It is that simple.

What did we learn?  1. Always have a good backup, or two backups if you are across the world on little islands.  2. Call Visa right away and ask for a replacement card to be expedited to you if you are away for an extended period.  3. Be careful when using your cards of vacation.  You never know where the number will be stolen.  It happens in the United States too.