Wednesday, May 28, 2008

Educate thyself, part 5: Quest for inexpensive investing

In the early 2000's I had an account with one of the big brokerage houses (now gobbled up by even bigger brokerage house). It was a full-service brokerage. I could not trade by just clicking a mouse. The problem was that my significant other was working for that brokerage house, and we couldn't have a brokerage account anywhere else due to "compliance".I had to call my broker and ask him to buy or sell something for me. Usual cost of such 30-sec. conversation was $49-$53. Not that he did anything special. He would just say: "Lemme see what the ask is..." and then declared that he "put it in". That was it. He never bothered me with his sales pitches, probably because I had a minuscule account balance. But even back then I wasn't that naive to think that this broker thinks about my financial well-being first before his own.

Now, immediately after my significant other changed jobs I closed that account and moved whatever was in it into a discount brokerage house ( back then it was Ameritrade). Now the trades were $9.99. Customer service was bad, transaction cost was much better but still way too high for regular investing. I was still better off just having an account with, say, Vanguard or T. Rowe Price and buy an broad-based index fund a little bit at a time without having to pay for a transaction (those big mutual fund companies even provide postage-paid envelopes for those sending their contributions in form of checks). So I was going the mutual fund way for a while.Then I learned about ShareBuilder. It allowed you to buy regularly for about $4 per buy. ( and I think, more for sells).Better, I thought, but for some reason I didn't open an account with them.

The real opportunity came when Wells Fargo announced ( about 2 years ago) that if you hold $25,000 in combined assets with them (even including 10% of your outstanding mortgage), then they'll give you 100 trades per year free through their so-called PMA account. They also waived the IRA custodial fees and the yearly fees for maintaining the HELOC with them.Yea, that's what I'm talking about. Now I could buy very inexpensive index ETF's for free!
Then bank of America started offering something similar. Also, there's this Zecco website-they also give free trades. Now I minimized my investment expenses as much as I could. Good.

Tuesday, May 27, 2008

Perfect Cosmo

As a doctor, I know perfectly well and encourage everyone to enjoy alcoholic beverages in moderation.

However, if you do decide to have a drink, let it be a high quality drink, which is not necessarily obtained in an overpriced bar or restaurant. It can be prepared at home.

I, for one, enjoy an occasional Cosmopolitan.
For making it, you'll need:
1. 2 oz. of vodka. Don't believe those who said that the more expensive the vodka, the better your Cosmo. Price of vodka in your Cosmo has almost no bearing on the quality of your Cosmo. I select grain vodkas, though, for I never tried potato-based vodkas. You can go light on vodka and use only 1 oz. of it.
2. 1 oz. of cranberry juice. It has to be a pure cranberry juice, not those Ocean Spray cocktails.You can get it in any health food stores or Trader Joe's.
3. 1 oz. or Triple Sec or Cointreau/Grand Marnier . The latter is usually much more expensive than the former. I use Triple Sec.
4. 1/2 oz. of lime juice.- fresh is always better, but concentrate will do, too.

These ingredients needs to be shaken in a ... yes, a shaker with broken ice. You don't have to shell out a lot for a shaker- most liquor stores sell them for $5-10 ( I think they take them out of the liquor gift boxes and just sell them separately)
I take 4-5 cubes of ice and split them in halves using an ice pick (which always invokes the images from "Basic Instinct")
The whole mixture is to be shaken 10-15 times ( an English bartender guide suggests shaking until you hands are cold)
Pour it into a martini glass (again, can be obtained for a liquor store for cheap), straining the ice either through a built-in strainer, or through a separate strainer.
You'll be amazed at how different this drink tastes from an $8 drink from that hip cocktail lounge.
I think it's because a bartender has a plastic jug under the counter with all the ingredients (except vodka) premixed in it. When the day (er..night!) is over, this jug goes into a fridge, until the next night.

Educate thyself, part 4: Expenses of investing

Now, there are all kinds of expenses when it comes to investing, expenses that you have to pay no matter whether you're up or down.
Here's an incomplete list of them:
1. Expense ratios of mutual funds and ETF's- these are percentages of the money invested that are deducted by mutual fund companies to compensate themselves ( from 0.18% for Vanguard S&P 500 Index Fund to 2-3% for actively managed mutual funds, and from 0.09% for S&P 500 ETF's to... I don't really know what is the highest)
3. Additional fees on certain mutual funds ( 12b-1 fee, for instance, is paid by a mutual fund to whatever organization is selling this fund to an investor, but these fees are coming out of investor's pocket)
2. Brokerage fees. These are paid for a transaction (buy/sell) only if you have a real brokerage account.If you invest directly into certain mutual fund , those fees are not paid. ( these brokerage fees can be as low as zero, yes, nil with certain discount brokerages, esp. on a limited number of trades and as high as $50 with so-called "full -service" brokerage.)
4. Custodial fees for IRA accounts. Sometimes they're waived for accounts with higher balances.
All of the above mentioned fees are going to financial industry.
5. Taxes for taxable accounts. Sometimes taxes are due on mutual funds even though you as an investor didn't sell your shares. These are , obviously, Uncle Sam's cut.

So the easiest and the surest thing in investing is to minimize all these multiple fees so it will be more left for us to really invest.
In the next posts I'll try to describe what I did to cut these costs.

Wednesday, May 21, 2008

Building wealth part 4: educate thyself, part 3

Now, since the stock market is the way to go if I was to achieve my goal of being financially independent, while learning basics of investing, i came across the book of renowned John Bogle ( I quoted him and provided a link to his interview in one of my previous posts) called The Little Book of Commonsense Investing. The first most interesting thing I learned is that, per John Bogle, it's close to impossible to control your rate of return on your investments, since you can't control the market. But what you CAN do is to control your expenses, that is, the expense ratios of your mutual funds, if you have them, brokers' commissions, annual custodial fees for IRA's etc.
That made sense to me since if fell into this frugality category, which can bring substantial benefits whether you're investing or simply saving.
So I embarked on the search for minimum expenditures while investing, which I'll try to describe in my next posts.

Thursday, May 15, 2008

Living rich without BEING rich

Now, foreclosures hit the Hamptons' properties. People face foreclosures on their $1-10 million houses. As it turns out, these people are (or were?) living like rich without being rich.
The Wall Streeters mentioned in the article might not have any wealth built during all these years of financial boom( the same Wall Streeters serve as financial advisers for lots and lots of people!)
Instead, they had a lifestyle of the rich.

Wednesday, May 14, 2008

Educate thyself: mutual fund mechanics

Mutual fund was first created back in 1924, 5 years prior to the worst stock market crash (so far) in history. The idea was truly ingenuous- collect the money from investors, invest them in all kinds of securities, and issue the mutual fund shares to those investors in exchange for their money. What securities the investors' money will be invested into is entirely up to the management team of the mutual fund.

The upside of this idea was that all of a sudden, the average investor gained access to the very broad spectrum of securities-stocks, bonds, real estate etc., and all for a relatively small initial investment. Before this invention, you've got to buy individual securities to achieve diversification of this kind.
Now, the downside: the expenses. In an actively managed mutual fund, the expense ratio (percentage of the money under management that is deducted each year) can be as high as 2% annually (we're talking about mutual funds bought outside retirement vehicles like 401k, where you can find even more "expensive" funds). It means that no matter whether your investment goes up or goes down in price, you've got to keep paying these percentages to the mutual fund company. Billions of dollars each year are collected that way from investors.

How do they use all these money collected from investors? At least 70% of it goes toward managers’ salaries.

Saturday, May 10, 2008

Taxpayers are likely to pick up the tab for bad mortgages

In my post from May 5 I stated that private debt of banks, mortgage companies etc. will likely become socialized, i.e. will become that of taxpayers. This is the confirmation of this statement:
Federal Housing Administration will guarantee( if this bill becomes a law) $300 billion in highly risky mortgages, those that no private institution in the right state of mind would guarantee.

Friday, May 9, 2008

Building wealth part 4: educate thyself

Complete lack of even basic financial knowledge among doctors is nothing new. There's no better way of killing an otherwise lively conversation than mentioning the choices of mutual funds by a particular 401k provider.
However, what truly amazes me that despite of adverse economic conditions, increasing pressures from insurance companies and HMO's, diminishing wages and growing pessimism and dissatisfaction among many doctors and other professionals ( here's a link to a recent NY Times article titled "The Falling Down Professions" to illustrate the matter), they continue to be oblivious about their own financial matters. And we're talking about some of the most educated people in our society!
So for me, my journey to financial freedom started with education. Surprisingly, the good literature on the matter is not advertised on TV or radio. I had to really search for books, articles and blogs that would be useful for my financial knowledge.(I forgone the glossy booklets from major brokerage houses and 401k providers.)
Since the mutual funds are the main investment vehicle created for the middle class ( and we are the new middle class), I decided first to look into the mechanics of an average mutual fund. I'll describe my understanding of it in my next post.

Wednesday, May 7, 2008

Building wealth part 3: got some money saved,now what?

My savings started to accumulate bit by bit. But without some more powerful money growth solution financial independence was nowhere in sight. I did some "investing" in 2000-01( I use parentheses here because it was far from real investing-investing as I understand now) during the Internet stocks' boom(and bust!), and , sure enough, lost money . Back then, I was still in the fellowship, so by virtue of being a "subspecialty resident" I didn't have enough money to lose. However, stock market returns are about 8-10% annually( that is, obviously, over long stretches of time), so I saw it as a main vehicle to get to my financial independence, regardless of my prior painful experience.
Back then I was enrolled in the Master's of Science program in biostatistics. So as I was learning all these bivariate, multivariate and survival analyses , I was getting better at my recognition of quality from junk research papers and articles. But I needed financial education 101, too! Little by little I started using my new statistical knowledge to help me distinguish what I call a "financial propaganda" (the bulk of financial info unloaded into our ears/eyes every day) from the statements based on some real scientific financial studies.

Tuesday, May 6, 2008

Wealth ≠ earnings: vivid example

This is sort of a follow up post on current real estate problems, but not only that: it illustrates that your true wealth has very little to do with how much you make.
This very well known professional athlete who made millions of dollars a year had to foreclose on his $2.5 mil. house. Unbelievable? Well, how about some well compensated doctors ( orthopedic and plastic surgeons, some ENT docs, etc.) who despite their OK income are in debt (credit cards, HELOCs) up to their eyes? How do you explain that?
All the usual evils are to blame, it seems: complete lack of even basic financial education, conspicuous consumption (I'm sure that above mentioned professional athlete didn't really lead a frugal life) and mental substitution of true wealth by high income. Very much applicable to all of us.

Here's a link to this article

Monday, May 5, 2008

Media vs. my take on current mortgage problems

CNN yesterday broadcasted their Special Investigations Unit program on mortgage meltdown.I'm not a big fan of all those TV "talking heads" and self-proclaimed financial (or, like in this case, mortgage) experts, but one thing I couldn't help noticing: CNN, like many other major media outlets, portrayed the borrowers posed to lose their houses in foreclosures as unquestionable victims, and financial institutions as , obviously, villains.
It seems to me that these somewhat simplistic views are quite far from reality( although, as a doctor and a researcher I should now better that it's close to impossible to define reality!)
Sure enough, financial institutions (banks, brokerages, mortgage companies etc.) are there only with one thing in mind: profit. They'll try to extract it from whatever they do.They couldn't care less about all those political promises of affordable housing. Left unchecked, this drive for profit ( or "greed" as per Gordon Gecco, the famous character of Michael Douglas from "Wall Street") can wreck a havoc on everyone and everything.

Now, the borrowers' part: their greed, it seems , was in trying to obtain what they could not possibly have. It was hard to comprehend how a lady, a truck driver, interviewed for this program, was realistically planning to afford a 6-bedroom house for $180,000 when our family with 2 relatively high income earners couldn't afford an apartment for more than $280,000( on the emotional level, I sympathize people like her) Now her house is in foreclosure, and , obviously , there was no equity in that house, and the bank has to take losses when they auctioned off her house. So the people left holding the bag at this point, in my view, are this bank's investors (which included our own 401k, our own pension funds and IRA's, so the taxpayer started getting hit at this stage), who took possession of a lot of loans like this, thinking that they're high grade because their rating by those bond insurance agencies.

Now, the fun part: we are now entering the era of socializing the private debt. Institutions like Countrywide are about to collapse without federal government bailing them out for the sake of the "economy at large". So their(now almost worthless) private debt will now become a public debt. Taxpayers, at this point, will get another punch in the form of high taxes-overt and hidden to pay for this debt.

The only people left holding the bag at the end will be taxpayers.

So at the end, we have conspicuous consumerism (desire to possess, "everyone has it so I deserve it, too" etc.) on one hand, and greed of financial institutions who couldn't care less about true interests of their clients, having their interest as the only thing to be considered.

Both of these forces are equally destructive.

Saturday, May 3, 2008

Building wealth part 2: tiny bit of money

So now I had maybe $250 or $300 dollars a month that we were not using. Back then I discovered ING( which was giving $25 for just opening an account, I don't think they're doing it anymore). I started transferring these money into savings account, thinking that I always can get them if I needed. Funny thing was I DID NOT need them. Whatever purchases we were making, I was able to pay for at the end of the month. ( after ING dropped their interest rate, I found other internet banks, like, and a few others)
Good, I thought, but these savings don't really bring you that much in terms of real appreciation.I saw gallon of milk ( and ,obviously, a gallon of gas!) going up steadily in price without interst rate increases in my savings account.