Tag Archives: finance and investing

Wealth Habits: Capitalizing Luxuries and Time

Posted on by

IMG_4160Over the last year, I’ve sold two paintings and a piece of jewelry. My family had owned these items for a long time and they have given us a lot of pleasure. However, each September, an insurance bill arrived and gave me a fair amount of pain.

So now the items are gone and last week my insurance bill arrived. I noticed that my insurance savings are enough to take my wife to visit any museum in the world, annually, forever.

By getting through the pain of change (the sale)… I created a situation where we could share experiences together (future trips).

The cost of the status quo is often hidden.

+++

Similar story.

I’ve been thinking about buying a boat, a sprinter van and/or a truck.

Despite evidence to the contrary, at some level, I think these assets will make it easier to spend time with my kids.

These assets are expensive to own, depreciate and require time to maintain.

How to counter the urge to purchase?

Assume depreciable assets are free to own, lease, keep receipts and track total time/spending in a year.

Cat SailAn example for the boat:

  1. As a teenager, I spent many summers working on the water. In those years, what was the total number of days that I would spend on the water? My peak days were 60 per annum. This year was closer to 25 days.
  2. Based on my rental history for the last two years, what’s the average cost per day of renting, rather than owning? Let’s assume it is $1,000 per day.

Based on actual days on the water, how many years expenditure would I capitalize with a purchase? In my case, it is 10-25 years of expenditure based on how you slice the numbers and the size of vessel. Also, worth noting that I was on seven different vessels in 2015.

The above analysis is essential before you buy a vacation home, consider becoming a ski-family or purchase a large depreciable asset.

+++

Think back one decade, or two… have your preferences changed? Mine have changed tremendously and I have discovered that I am a lousy judge of what I’ll want in ten years’ time!

How might a large capital purchase impact the freedom you have to allocate your time?

By staying variable in the family budget, I can:

  1. free significant time in my daily schedule
  2. finance childcare
  3. budget for shared experiences
  4. immediately ratchet down spending, when required

+++

2015-09-20 17.53.02The final step is to pay attention when you are enjoying a “luxury” expenditure.

Notice the changes (if any) with your inner experience.

My benchmark is the way I feeling during a walk in the forest that’s ten minutes away from my desk.

Live where you don’t need to leave.

Family Financial Review

Posted on by

2015-09-10 11.53.28August/September is the time of year when I do my life review. I’ll be writing about the various components over the next few months.

2015-09-04 19.00.49Fear Impairs Judgement – you’ve certainly felt financial fear in the last three weeks. However, the lesson runs deeper than short-term volatility.

The financial media tempts me to:

  • frequently tweak strategy
  • aim for the perfect asset allocation
  • act impulsively to avoid future losses
  • seek superior returns

Strategically, I want to avoid all of the above.

Tactically, I want to manage family expenditure and execute a reasonable long-term financial strategy to the best of my ability.

Being good enough is good enough.

++

Sell Illiquid Assets Into Late Bull Markets – in 2014, I decided to sell land, art and jewelry.

Our illiquid assets cost money to hold and I realized that the cash would be better spent on childcare and pre-K education.

Despite selling for less than expected, the net result has cut the family’s core cost of living by 4% and enabled my wife (and me) to work less.

The question to ask yourself is not “is this my best price?”

The question to ask yourself is “are we in a late bull market?” If the answer is “yes” then it’s a good time to sell illiquid assets.

++

2015-09-06 17.06.43-1Asset Allocation is often a distraction from what matters – with good wealth habits, you can ignore the small stuff.

Here’s a post from December 2010 on asset allocation. Five years along, I’m making progress at following my own advice.

This post from April 2012 (about my future asset allocation) reminds me of the folly of forecasting.

For the benefit of my future self, here’s a snapshot from 2015.

  • 30% – investment real estate
  • 25% – low-cost, diversified equity funds
  • 25% – fixed income in home currency
  • 15% – family home
  • 5% – cash and other

There are historical and family-specific reasons for the above. Not a recommendation to your family.

++

2015-09-06 20.04.16Time and Health – Am I acting in harmony with my mortality? with my values?

If you find that a self-serving bias isn’t generating satisfaction then consider shifting your focus towards taking better care of your health.

The shift towards health will surface conflicts between your values and how you allocate your time.

No step is too small with regard to positive self change.

 

Wealth Habits: Are we there yet?

Posted on by

2015-07-09 11.30.50A question I ask athletes is, “Why did you start?”

When sitting down with a family, I change the question slightly, “What is living well?”

Write down detailed answers.

Answering these questions honestly will surface your values and help you make better choices.

The answers will also help you understand when you’ve achieved victory, and you might discover something rather strange about winning.

You feel just the same.

Because you feel the same, you’ll be tempted to change your strategy. You will forget why you started and lose sight of what it takes to live well. You’ll strive for more.

The exact nature of your “more” will be influenced by your peers. Unsure? They will be happy to tell you. Just ask a room full of buddies… “What’s your proudest accomplishment?”

Look inside and see if you’re tempted to strive towards their goals.

With my academic, financial and athletic friends – I can feel the temptation to strive.

Striving towards another person’s answers might not fulfill you, especially as only a minority bother to consider the “why” behind their daily choices.

You may find that it takes a surprising amount of faith to stay the course. My list is exercise, write, read, love, help others and sleep.

It’s important to remember your answers. They are an effective antidote against the temptation to strive. In my case, striving is a result of desire: to buy assets, to make money, to compete against others, to go shopping and other variations of more more more.

  • In a family
  • In a marriage
  • In a company
  • In your life

How will you recognize success?

It might feel different than you expect.

 

Effective Wealth – Legal and Strategic Considerations

Posted on by

alvinIn my first piece on effective wealth, I laid out…

  • Individual wealth => 5 to 10 years cost of living
  • Generational wealth => 10 to 25 years cost of living
  • Multi-generational wealth => 25 to 40 years cost of living
  • Surplus (excess?) wealth => beyond 40 years cost of living

We hold our individual wealth in Living Trusts – these have the benefit of being fully revocable (assets in and out easily) and transparent to the IRS (easy for taxes and administration).

TIP – five years cost of living in a debt-free balance sheet will change your life and make you far less susceptible to corruption and influence. Once you hit ten years cost of living (in a debt free balance sheet) then you should consider cutting expenses and working part time. At a minimum, 5-10 years worth of wealth should trigger a sabbatical to consider personal wellness and how you allocate time.

Generational wealth is held in an irrevocable Grantor Trust that benefits my spouse and kids. I can’t get the assets back nor can any creditor or petitioner. In my lifetime, I retain the obligation to pay taxes on the trust as well as the ability to swap assets in/out for fair consideration. Admin is about the same as managing a partnership/LLC with similar assets/earnings.

TIP – once you are nearing 20 years cost of living in a debt-free balance sheet you are close to the breakout point where you can stop working, forever. Now is the time to shift towards personal wellness!

Multi-generational wealth – this is small part of my family balance sheet, because I followed my advice at each of the above segments. We use a Private Trust Company (in a state without income tax) that oversees a trust that benefits my descendants. We also use 529 (college) accounts.

TIP – the first time you realize that you might be making money for your adult children STOP and undertake a life review that focuses on how you allocate time and personal wellness.

+++

What does all this cost? Charging market rates for my work, I oversee the structure for less than $5,000 per annum. Living Trusts/Will were $5,000 to set up. Grantor Trust was $5,000. Private Trust Company and Family Trust was $10,000. These are Boulder, not New York, rates.

How does this give you peace of mind? My personal assets are the smallest of any adult in my family tree. By value, I own less than 1% of the above structure. I am free to give my family the gift of service.

I’ve said what needs to be said.

I’ve done what needs to be done.

I’m free to focus on loving those that love me.

 

The legal and tax consequences of an error in your family structure can be severe. Take expert, local advice. Nothing on this site should ever be considered professional advice.

Effective Wealth – Due Diligence Results

Posted on by

tulipsThis series started with a definition of effective wealth and a due diligence exercise for your family.

I’ll share the best tips that I received from my due diligence work:

A general liability umbrella policy can be an effective way to insure against ruin – in my life, hosting events (where athletes might die) was the source of my greatest liability. Due to my other insurance coverages, $5,000 per annum bought me $5,000,000 of coverage.

Have an expert read your insurance contract to ensure you’re covered for your key risks. I’ve reviewed draft policy documents that specifically ruled out the only reason I was buying the policy!

Paying $5,000 per annum got me thinking that there might be a better way to structure my life. There is a better way and I’ll share my family legal structure in a future post.

Hosting athletes is a low-margin business and my need for multiple insurance policies greatly reduced the profitability of the events. So I handed the events off and removed myself from their promotion and management.

In speaking with successful families, three things stood out.

#1 – the advice to share information widely and control the structure narrowly. As much as possible the family is involved and consulted on family matters. However, not more than two individuals from each generation are involved in governance. Write out the process for a family member to become a fiduciary, or trustee.

#2 – each generation must decide their own values. It’s impossible for elders of the past to influence third and fourth generation family members. The best tip here is a reminder that no matter what you do, what you decide, what you structure… there will be aspects of life that you find disappointing – in yourself, in your spouse and in your kids.

#3 – young family members should be given the opportunity to learn from mistakes early in life. No family member should be given the opportunity to bring down the entire family and individuals should experience the impact of their poor decisions.

How To Make Money At Real Estate

Posted on by

taxiEffective last month, my family owns a house in North Boulder for a net cash cost of US$100,000. It took me a decade to get that deal done. I did a similar one in New Zealand in 2001.

When I buy, I look for a good asset, at a fair price, with built-in options that can create upside.

If you’re going to make superior returns then it will be due to an option embedded in the deal.

For example:

  • Excess land gives the option to subdivide (Boulder 2010)
  • Buying outside my “home” currency of US dollars gives the ability for international arbitrage (New Zealand 2001)
  • Buy homes for less than their cost to build (Tucson 2010)

The goal is not having a property that you would be proud to show off to your friends. Until recently, I owned a “pride” property. A 6,000 sq. ft home that earned my family nothing for the time we lived in it. Truly fantastic house, mediocre investment.

Likewise, the option should not be created by using a ton of leverage. High leverage is appropriate only when you’re using other people’s money in a non-recourse vehicle. More here.

When should you buy?

#1 – Buy when you need the asset. You rarely need the asset! Be patient.

#2 – Buy when the cost to own is FAR less than the cost to rent – see my free ebook for how to do this calculation.

#3 – Buy when banks are foreclosing – banks, governments and trustees often sell for less than fair value.

#4 – Buy when the local debt market has collapsed – a cash buyer in a liquidity crisis will receive favorable terms.

Note, these tips apply to every asset and you’re going to need substantial liquid assets to take advantage.

All of the above, imply that you should study your target market for a decade before you buy. I also recommend that you limit your equity investment to 15% of your family’s balance sheet.

Right now, we’re in a bull market and you probably feel like you will never get another chance to buy at distressed prices.

You’re wrong.

In my working life, I remember bear markets in 1990 (UK), 1997 (Asia), 2000 (US) and 2009 (Global).

Take your time and remember you don’t need to do the deal.

Once a decade, the patient investor will be sent a fat pitch.

 

Effective Wealth and Diversification

Posted on by

2015-03-18 07.31.56I was asked to update thoughts on family legal structuring. Before jumping into that topic, I want to define effective wealth.

If you remember one thing from this post…

Your effective wealth is most closely linked to your spending, not your balance sheet.

Consider US$1,000,000. Depending on where you live, this money could support:

  • a CEO for a year
  • a family for a decade
  • a village forever

The first thing to understand is your core cost of living. It’s going to contain:

  • Housing / Property Taxes / Insurance / Maintenance
  • Groceries
  • Income Tax
  • Health Care & Dental
  • Utilities / Mobile / IT
  • Transport

My family’s total approaches $100,000, which is a big number. However, on a per person basis we’re under $20,000, which is less than I’ve been able to live on my own.

Next comes discretionary spending (mine in descending order):

  • School Fees & Childcare
  • Gifting
  • Club Fees, Subscriptions & Kids Activities
  • Date Nights
  • Cleaning

Before parenthood, I missed the step change in expenditure, and associated wealth effect, of kids. Note that kids increase human capital, are sources of love and have tremendous option value!

Finally comes luxury spending – travel and vacations. With five in my household, luxury spending has been on a rapid downward trend since my second child was born.

Pulling all of that together, you’ll be able to consider your financial wealth relative to your spending.

  • Individual wealth => 5 to 10 years cost of living
  • Generational wealth => 10 to 25 years cost of living
  • Multi-generational wealth => 25 to 40 years cost of living
  • Surplus (excess?) wealth => beyond 40 years cost of living

The appropriate legal structure changes as your family wealth changes.

To understand effective diversification, express your asset allocation relative to your spending. Consider these categories in years spending:

  • Family home
  • Business investments
  • Real estate investments
  • Retirement accounts
  • Education accounts
  • Taxable investment accounts
  • Cash equivalents
  • Non-yielding luxury assets (art, jewelry, vacation homes)
  • Depreciable assets (boats, RVs, vehicles)

Also write out your sources of income and make your cash flow concentration visible.

Looking at asset, income and cash flow concentration should make your key financial risks more obvious.

Be aware of the human tendency to look away from things that make us uncomfortable.

Micromanaging the “little” will make you miserable – remember to focus on the big things.

Change slowly.

Intro To Margin Finance

Posted on by

snow_mtnBDC asked for an example for my post How Leverage Kills.

If you don’t understand debt then assume that the only time it might make sense to borrow is when your 30-year fixed-rate mortgage payment (including taxes & insurance) is less than your cost to rent. Assume that all other forms of debt will hold you back, prolong being a wage slave and reduce your retirement income.

The people that take issue with the generalizations above are probably trying to sell you something, and working on commission.

My family’s only borrowing is a 30-year fixed rate mortgage. Our mortgage payment is 60% of what it would cost us to rent. I made a calculated bet that our mortgage debt would provide a hedge against rental inflation.

Homeownership isn’t necessary for financial freedom. I bought the house because:

  • I have a young family
  • Don’t mind being geographically restricted
  • Live in a great public school district
  • My youngest won’t graduate high school until 2030
  • Our city is likely to experience above average real economic growth
  • I’m in a better part of town

++

Let’s assume our investor has $100,000 and owns an asset that yields 2% after expenses ($2,000 net income).

  • Along comes her investment adviser and offers a portfolio loan – rates are low right now so the loan will cost her 3% per annum.
  • Our investor decides to borrow $50,000 and purchase more of the same type of asset.
  • Now she has $150,000 of assets, still yielding 2%, so $3,000 of income each year.
  • The loan is interest only and costs her $1,500 per annum (3% of $50,000).

Where things get wonky is if the asset’s yield disappears — for example if a rental property is vacant — OR — if the capital value drops significantly — for example if a portfolio of stocks falls 50% in a bear market.

Let’s look at the 50% asset value decline.

  • The value of the asset falls from $150,000 to $75,000.
  • The value of the debt stays the same $50,000.
  • Therefore the net equity value falls to $25,000.
  • The net cash flows stay the same $3,000 from the asset, $1,500 interest to pay, $1,500 net after interest.

If you generate enough cash to pay your interest then you can ride out the bear market and wait for asset values to return to pre-crash highs.

However… a common feature of margin lending is the bank can ask for their money back… ….and they have a habit of asking at the worst time.

Sometimes, they don’t ask, under the terms of your loan they have rights to sell you out of your position.

Let’s have a look at what happens if the bank asks for their money back at the bottom of the market.

In that case, you crystallize a 75% equity loss ($100,000 to $25,000). You are left with $25,000, which will be worth $50,000 (earning $1,000 per annum) when the market recovers to pre-crash levels.

If you didn’t borrow, you earn your 2% per annum through the bear market and end up with $100,000 (earning $2,000 per annum) when the market recovers.

Market Moves

The chart shows major bull and bear markets.

Using your own money, a habit of margin finance could wipe your investment out every 10-25 years.

Some risks aren’t worth taking, especially with money that you can’t afford to lose.

So Why Borrow?

In a bull market, it’s tempting to borrow a much higher percentage of the total investment. Hedge funds, and investment banks, can get over 90% leveraged, against shareholders funds (also known as other people’s money).

When you guess right with other people’s money, the “house” will get rich quick. I worked in a business that received 20% of the profits generated.

When you guess wrong, the clients take the losses.

More on leverage in Part Four of my free eBook Live Long & Prosper – specifically pages 46 to 51.

Structuring A Family Pension

Posted on by

Ax_iglooThree questions for your next family meeting, or your financial adviser:

  1. How long of a retirement should we plan to fund?
  2. As a couple, what is our joint life expectancy?
  3. As a family, how do we invest considering our collective life expectancy?

Today, I’m going to take you into the future of your retirement, your children’s retirement and your grandchildren’s retirement.

++

Retirement

If I make it to 63 then my wife will be 55. At that point, there is a 50% chance that at least once of us will last another 31 years. Here’s a calculator that you can use.

It’s worth repeating – as a couple we have a joint life expectancy of 31 years when I reach 63 years old (17 years from now). Today, my wife and I have a joint life expectancy of 47 years.

That’s a heck of a long time for inflation to act on our cost of living.

Inflation of 2.5% for 47 years brings each $10,000 of current expenditure up to $31,917.

In other words, despite being middle aged, our core cost of living is likely to triple across our lifetime.

++

Children

The joint life expectancy of my daughters (6 and 2) is 90 years. Their cost of living is going up 8-10x over their lives.

Can I insure against the risk that my surviving children run out of money late in life?

Let’s look at a case study.

At the end of last year, I was considering an expensive vacation. I couldn’t justify spending the money on myself and the calculation that follows is part of the reason.

As a family, we can make the decision to invest $10,000 per annum. There would be no impact on my quality of life.

What could it do for my children?

  • $10,000 per annum, invested for 47 years, 5% rate of return is $1,781,194
  • $1,781,194 invested for an additional 13 years at 5% is $3,358,707
  • Over $3 million in 60 years from redirecting my vacation budget

Let’s talk in 2015 dollars. I have no idea about future inflation, let’s assume 2.5%.

  • The $3.4 million will be worth a lot less in 2075 than today
  • $3,358,707 discounted back to 2015 at 2.5% is $763,379

In case I’ve lost you.

  • The cost is foregoing $10,000 of annual expenditure for the rest of my marriage.
  • The benefit is my survivors share a 30-year retirement income with a current purchasing power of $49,658 per annum.

The payment is calculated with 5% rate of return, over 30 years, with $763,379 starting value.

It’s never “too late” for compounding to work for your family. I’m closing in on 50 and can leave a valuable form of insurance to my children by changing my current habits.

++

Grandkids

Run the exact same scenario except I have 85 years to grow the capital.

  • Invest $10,000 per annum for 47 years
  • Roll up for another 38 years (85 years total)
  • Discount back 85 years at 2.5%
  • How much income for the surviving grandkids (in retirement)?

30 years of $90,705 per annum in 2015 dollars ($1.4 million of present value, 5% rate of return).

It’s worth the effort to learn finance and tweak your wealth behaviors.

++

This post inspired by Nick Murray’s book, Behavioral Investment Counseling

Link to a google doc that let’s you tinker with my assumptions. Make a copy before editing.

Quarterly Update – Q1 2015

Posted on by

winterFebruary contained the most (winter) laughter since my kids were born.

Much better than a gradual slump into seasonally-maladjusted depression!

Rebalancing & Asset Sales

  • No changes in asset allocation.
  • Small purchases to rebalance to target allocation.
  • No year-end tinkering for tax purposes.
  • Cash and short-term treasuries will fall to 6% of our family balance sheet once we make 2014 retirement purchases before April 15th.

We decided to take three non-yielding assets and put them on the market => a vacant lot, a piece of jewelry and a painting.

  • These sales could free 10-15% of the family balance sheet.
  • We expect to save 5-8% of our core cost of living by reducing taxes payable and insurance expenses.
  • A low tax basis on the vacant lot means there will be capital gains payable. However, we own the house next door and the capital increase on the house (as the neighborhood is upgraded) will mitigate the tax bill from the sale.

Simplification

The biggest change is with my working life. I’ve cut way back with non-family work.

Six years ago, I had over 60 third-party clients. Currently, I work with 3 families. The result is a significant change in weekly time allocation:

  • Kids/Spouse => 35 hours
  • Third-party Work => 5 hours
  • Family Work => 5 hours
  • House Work => 5 hours
  • Exercise => 15 hours
  • Open => 20 hours

The “open” time has been transformative.

I have time to read, write, think and unwind => none of these focus on external achievement, another change.

I also have a lot of flexibility for quick trips and short-term projects. My working life is bursts of focused effort with most projects being 2-10 days long.

Kids

2011-2013 were tough. I’ll write more in a separate post – 2014 was a transformative year for the family.