Preparing and Filing Your Taxes

It's tax filing season. Here is a roundup of useful resouces for preparing and filing your taxes:

• How to File Taxes For Free: Free File and Free Tax Software (GenXFinance.com)
  Excellent advice on finding ways to avoid paying a preparation and filing charges when you e-file your taxes. In my case, I have used TaxAct.com, which gives you free federal e-filing regarding of income level (I don't qualify for income-limited tax filing products). TaxAct.com does nag you to upgrade, but you can always click "later." As someone who is leery of putting tax data online, I am glad that TaxAct.com offers free download of their tax software that you can install on your computer. No, I don't get a cent from endorsing TaxAct.com, I'm just a long-time satisfied customer. As for my state taxes, I use my state's free e-filing. It's barebones but it works.


• Open Tax Solver
  Open Tax Solver (OTS) is a free program for calculating Tax Form entries and tax-owed or refund-due, such as Federal or State personal income taxes. The complete version of OTS for the 2009 tax year has been released. It contains the updated US 1040 with Schedules A, B, C, and D. It also contains the State Tax form updates for California, New York, Pennsylvania, New Jersey, North Carolina, Massachusetts, Ohio, and Virgina.


• 10 Most Overlooked Tax Deductions (WalletPop.com)
  


• The Audit (Examination) Process - The IRS explains what triggers an audit.


• Paper Records: What to Keep, What to Toss (Kiplinger.com) -- good advice on what paperwork you need to keep, especially for the IRS


• Saving Grace Period for Flex Accounts (Kiplinger.com) -- How to make the most of money left in your flex account.

Resources for Doing A Background Check on Yourself or Others

Ever wanted to do a background check on others? Or doing one on yourself?

LifeHacker has an excellent post, Doing A Total Background Check On Yourself, with links to all the reporting bureaus that track every aspect of a person's life.

It can be scary, yet enlightening experience to find out what others are tracking about you.

Link: Doing A Total Background Check On Yourself

Resources For Monetizing Your Websites & Blogs

Roundup of resources for monetizing your websites and blogs:

• Using Google AdSense (MoolaDays.com)
  


• 9 great alternatives to Google AdSense (MoolaDays.com)
  


• Monetize Your Blog (MommySnacks.net)


• Seven Ways I Earn Money While Blogging (SingleMa)


• Monday Money (MyGoodCents.net)
  

Roundup: Interesting Financial Planning Articles

Roundup of interesting financial planning articles:

• Checking Your Free Consumer & Credit Reports (My Money Blog)
  


• Budget For Real Life (Money Magazine)
  


• 10 Things Your Funeral Director Won't Tell You (Smart Money)

You Can't Handle The Truth About Stocks

Over the Thanksgiving break, I was catching up on my backlog of magazine reading. An article in the September 2009 issue of Money Magazine caught my eye: You Can't Handle The Truth About Stocks, which profiles the economist, Zvi Bodie of Boston University School of Management, who argues against conventional financial planning:

"If you need the high return of stocks to reach your goals, then you can't afford to invest in them."

Here are some of his thoughts:

"... The standard models that are used to give investment advice to millions of Americans are fundamentally wrong. We're told that over time, stocks get less risky, but that's bull. Stocks are always risky -- whether in the short or long run. Prices dropped by 37% last year. While improbable, there's nothing to say they couldn't drop by that much again next year or the year before you retire. And diversification doesn't take away that risk. That's why retirement money belongs in truly safe assets whose value won't go down -- not in stocks..."

"... If you look at most online retirement calculators, they make two assumptions: one, that you want to retire at age 65, and two, that people will be able to save only a certain amount -- say 10%. As a result, they spit out risky portfolios to get a higher return. Well, who says we all want to retire at 65 and can save only 10%? What if I retire at 70 or 75? What if I save 30%? Suddenly, you don't need to take so much risk in your portfolio..."

"... notice what they're being told. They're being told that by investing in equities, they are going to get a higher return without extra risk. That's the problem. You have to make a sacrifice somewhere -- whether that means accepting a lower standard of living now, picking a later retirement date, or taking on risk in your portfolio..."

Professor Zvi Bodie echoes what I earlier blogged in April 2009 in a 4-part posting entitled "Frugal Living & Managing Risk" (Part 1, Part 2, Part 3, and Part 4) where I explained why I invest 100% of my 401K in a stable value fund.

As I see it, Americans want to have their cake and eat it. They want to retire in style but do not want to sacrifice, i.e., save, for it. If we only save 5% of our monthly income for our retirement vs. 30%, then we would have to take a lot more risk to have the 5% match up to the 30% savings rate. No wonder we take too much risk with our retirement funds. For me, the answer is clear: a simple and frugal lifestyle, with less stress and blood pressure worrying which direction my retirement savings is heading.

Seven New Rules For The First Time House Buyer

Are you a first time buyer jumping into the housing market? Confused by the conflicting advice from realtors, mortgage brokers, bankers, as well as well-meaning friends and family members?

The New York Times columnist, Ron Lieber's latest column, Seven New Rules For The First Time House Buyer sets out to debunk a long-standing but underexamined maxim of real estate, "you should always stretch financially when buying your first home," which got many first time buyers into hot soup in the first place, straight into the clutches of realtors and lenders who were only too willing to lend them the extra needed to finance that extra stretch.

It's now back to the basics, since the myth that housing prices only go up and up has been shattered by the recent financial downturn. To summarize, here the seven new rules:

1. Get a fixed rate mortgage, put 20% down and borrow 80%, and aim to spend between 35%-45% of your pretax monthly income on your monthly mortgage payment.


2. The best case for people stretching their income are those in their 20s and 30s, who are starting out in their careers, rather than those in their 40s and 50s.


3. Before buying a house, do a realistic projection of future income flow, asking oneself: what if one spouse loses a job? what if there are children? etc.


4. Too many people forget to factor in the costs of maintaining a house into their calculations on affordability.


5. Buy either the cheapest or the best, but not in the middle. Why? If you can't afford the best, buy a cheap starter home and diligently save up for the best.


6. Consider stretching out the home over time (i.e., making renovations or expansions over time) rather than stretching up to buy an expensive home


7. The 8-hour rule: can you sleep soundly at night or will you stay up worrying about monthly payments? If it's the latter, than the house isn't for you.

As a homeowner who is still living in a house that I bought 6 years ago, here are the rules that guided my own home purchase:

1. I put 20% down and borrowed 80% on a 30-year fixed mortgage.


2. I budgeted for the home based on one income (mine) instead of the combined income of my spouse and I. This turned out to be prescient because my wife chose to leave the workforce to look after our kid, making me the sole breadwinner. Our monthly mortgage payment is comfortably within 40% of my monthly income. I'm glad that we fended off bankers, mortgage brokers and realtors who suggested that we used our combined income to buy a bigger home--no income stretching for us.


3. I aim to accelerate the paydowm of the mortgage by making a 13th monthly payment.

Link: Seven New Rules For The First Time House Buyer (New York Times)
.

More on Credit Cards

Credit cards have been in the news for the past two weeks. CNN Money has a recent article that credit card satisfaction has hit a new low. I have blogged about my recent frustrations with credit card companies closing my inactive card without notice and lowering my credit on an underused card.

Because of the risks associated with debit cards, I see myself continuing to use credit cards for the foreseeable. For tips and strategies on how I use my credit cards, see: Credit Cards & Frugal Living and Careful Use of Credit Cards (My Frugal Living Tip #2).

On the one hand, if you want to swear off credit cards, you might find Walletpop's 6 ways to destroy a credit card securely very handy.

But if on the other hand, you want to continue using your credit cards, American Public Media's Marketplace (which I listen to daily on my commute home) has its list of 10 purchases not to put on credit cards.

See my other blog postings on credit cards.

Dealing with Credit Cards

Did you receive letters in the mail from credit card issuers canceling your dormant credit cards, reducing the credit limit or increasing the interest rate? If you did, you're not alone. Many folks received such letters. In my case, Bank of America summarily canceled my dormant AAA credit card, which I haven't used since they took over the MBNA, without informing me. I only found out when I did my routine login of the account (I do this to ensure no charges are posted) and discovered that I couldn't log in. Upon enquiring, I found out that the account was closed for inactivity. American Express sent me a letter raising my APR from a fixed rate to a higher floating rate and Citibank cut my credit limit by 20% on the basis that I only utilize a small percentage of my credit limit.

So what should you do? The New York Times columnist, Ron Lieber discusses the various options that you have in his recent article, Maybe It's Time To Change Credit Cards. You might find useful advice and tips that you could use. As for me, I will continue doing what I've always been doing, paying my balance in full every month and keeping an emergency fund fully funded (it is presently funded at 9-months salary replacement, my target is 12 months) and not using credit cards as an emergency fund.

I have discussed my views on credit card in two earlier blog postings: Credit Cards & Frugal Living and Careful Use of Credit Cards (My Frugal Living Tip #2). At the end of the day, credit cards cannot replace personal savings that you accummulate through disciplined monthly saving. For me, credit cards function best as a float, allowing you to earn interest on money you have to pay your credit card bills in full in a high-yield online savings account. That's the only way for credit cards to work to your advantage. Carrying a balance at high interest rates will turn into a burden that would take years to overcome.

For further reading: More New York Times' articles on credit and debit cards.

Saving During Tough Times

This week, ABC World News is running a series entitled, The New Normal, where ordinary Americans share their struggles, hopes and dreams about coping with the severe economic downturn. Highlights of this series include:

• Are you a good saver? Five things to ask
  

• Suze Orman: Tough Talk, Pink Lemonade
  

• No More Job Security?
  

• Embrace Your Inner Cheapskate

• No More Maternity Leave?

• Fantasy Mortgages

10 Things Your Bank Won't Tell You

SmartMoney's 10 Things Your Bank Won't Tell You is hilariously funny but hits the nail on its head.

Link: 10 Things Your Bank Won't Tell You

Enjoy!

Dilemmas of Debt: Suze Orman, Edmund Andrews & Credit Card Issuers

This weekend's New York Times Magazine (May 17, 2009), with Suze Orman on its cover, focuses on a theme that is at the forefront of the American national financial psyche: "Dilemmas of Debt."

As the magazine cover indicates, Suze Orman and her approach to debt anchors the various discussions in this issue. The lead article Suze Orman is Having a Moment, focuses on Orman and her financial philosophy: "Track your spending. Stay out of debt. Take care of your car. Look (sic) into a Roth I.R.A." Notwithstanding the quibbles I have about her endorsement of certain companies and products, her fundamental message about frugality resonates very well with my own too, viz., living a frugal yet balanced and healthy life.

The piece about Orman is juxtaposed with the New York Times economics reporter, Edmund L. Andrews' reflections on his own subprime mortgage mess: My Personal Credit Crisis. This article is a summary of his forthcoming book, Busted: Life Inside the Great Mortgage Meltdown (W.W. Norton), which is scheduled for publication in June 2009.

Reading the article about Orman's financial philosophy and Andrews' ruminations of his own financial missteps reminded me about a news article that appeared earlier last week: Thriving Norway Provides an Economic Lesson. The underlying theme of this article is how Norway's frugal and contrarian spirit places it in a position to thrive while others, like Britain and the U.S., are strugling to stay afloat in an ocean of debt:

The global financial crisis has brought low the economies of just about every country on earth. But not Norway.

With a quirky contrariness as deeply etched in the national character as the fjords carved into its rugged landscape, Norway has thrived by going its own way. When others splurged, it saved. When others sought to limit the role of government, Norway strengthened its cradle-to-grave welfare state.

By far, the most fascinating article in this issue is What Does Your Credit Card Company Know About You? This article describes how credit card companies are looking to human psychology to not only understand the motivations behind spending and paying, but also using those insights to squeeze as much as possible from their debtors.

See also other articles in this blog on:

• Suze Orman
• frugal living
• credit cards
  

Frugal Living & Planning for College

One of the biggest bill a family will face, besides buying a home, is college education. The average price of college education in the U.S. has risen well above the average rate of inflation. For the longest time, families cope with the ever rising cost of college by drawing equity from their homes or borrowing ever larger amounts of student loans, especially from private lenders. But with the collapse of the housing and financial sectors, many families are being forced to rethink their college planning strategies.

What if you are the frugal sort with no intention of going into massive debt to finance your offspring's education? What if you are heading to college and not wanting to graduate with a heavy debt load?

It comes as no surprise that many families and their kids are looking more and more toward the public university as an affordable choice that offers value-for-money college education. But as a recent Money Magazine article warns us, with soaring applications and diminishing state budgets, public universities may not be the panacea to college tuition sticker shock.

So what can you do about the ever rising college tuition bill? An earlier Money Magazine article, Ease the Tuition Squeeze offers six tips for dealing with this dilemma:

1. use your savings strategically
2. apply higher - and lower
3. play it safer
4. borrow smart
5. make tuition less taxing
6. stop worrying (at least for now)
   

Links:

• The Trouble With Public Colleges
• Ease the Tuition Squeeze

Changing Values: From Borrow/Spend to Save/Being Frugal

Here is another recent article from the folks at Money magazine that talks about frugality and saving money: How the Crisis is Changing You. This article makes the case that frugality and saving money are in, debt and plastic are out, and bling is bad. The author, Dan Kadlec claims that the financial crisis and its ensuing economic meltdown have engendered a major shift in the financial values of Americans that he thinks will persist over time.

Do you agree?

Article Link: How the Crisis is Changing You

11 Ways to Save Money Now

Here's the latest online piece from the Money magazine team that touches on a subject that is dear to my heart: 11 Ways to Save Money Now. My favorites are:

#3: Accept the new norm and set realistic investment goals
How true! In other words, we have to accept the reality that we won't see the kind of outlandish returns of the 1990s and early 2000s for a long, long time, and therefore we have to plan accordingly.

#4: Lose Rate By Refinancing Your Mortgage
My take: But this works only if you are (1) gainfully employed with a real full time job (i.e., "no job, no loan" is the new banking mantra), and (2) you have real equity in your house (i.e., your house is now under water). If you are the lucky few, take advantage of it. Otherwise, blame your mortgage broker for tempting you into a loan that is way too much for your finances.

#5: Juice your credit score an extra 20 points
Easy steps, but require discipline to pay down that revolving balance though...

#6: Go cold turkey on monthly services...
#7: Turn off the TV...
This advice really works. I save a bundle by not having cable (since 2003), no Netflick, Blockbuster, etc. As for #7, I watch over-the-air digital HD broadcast with rabbit ears antenna on my digital LCD TV, borrow DVDs from my neighborhood public library and use hulu.com, boxee.tv, etc., to watch older full-length movies on a netbook that is hooked up to my LCD TV). Cutting a few dollars here and there and we're talking about real, cold hard cash being saved!

#8: Reorganize your insurance drawer
I did that in 2008 and save several hundred dollars by raising the deductible on my car insurance to $1,000/- and my home fire insurance to 2% instead of $500.00. Think about it: you don't want to claim insurance on small claims to avoid insurance companies jacking up your premiums. It makes more sense to save money by having the highest possible deductible and be disciplined enough to put that money saved into your emergency fund in a high yield online savings account. That way, the money and interest earned go to you and not to the insurance company.

11. Start your own "working capital" fund
Very good advice (my 12-month emergency fund also covers job search expenses, in case I'm laid off).

Article Link: 11 Ways to Save Money Now

Free 49-page Personal Finance E-book from The Simple Dollar

The Simple Dollar is offering a free 49-page personal finance e-book (in PDF format), Everything You Need to Know About Personal Finance on Just One Page, which collects and discusses Trent Hamm's favorite ideas and strategies about good financial planning and frugal living in one highly readable book. Here you will find Trent discussing in detail, his five-point plan for personal finance success:

1. Spend less than you earn (My comment: how true! Frugality and saving is still the best way to personal finance success, and not leveraging and gambling).


2. Earn more (Trent offers lots of strategies to increase your income and earning potential)


3. Life Frugal! (My comment: my sentiments exactly!). In this section, Trent outlines 100 great tips for frugal living, as well as things to avoid.


4. Manage your Money! Here Trent outlines all the steps you can take to manage your money well, e.g., pay off high interest debts, build emergency fund, etc.


5. Control your own destiny! How true.
   

In addition, Trent also includes his recommendations of personal finance books and blogs that you could read or follow.

In short, this free e-book is worth your time, not only because Trent has so generously shared it for free under the Creative Commons license, but his ideas and strategies are commonsensical yet ignored by many folks who fall prey to shortcuts that only lead to financial ruin.

Suze Orman's Recession Rescue Plan

If you are one of those who follow Oprah's daily TV show, you might have caught Oprah's favorite financial guru, Suze Orman expounding on her Five-Step Recession Rescue Plan. Her five-step plan is simple but requires a fair measure of discipline:

1. Learn to live on half what you're used to and save the other half.


2. Stash your cash, especially since credit card companies are becoming less generous.


3. Make the Federal Stimulus Package work for you.


4. Make your home affordable.


5. Look at what you have and not what you had.

In other words, Suze is saying the things I have practiced all my life: be frugal. Save. Plan for unforeseen circumstances, e.g., losing one's job or getting a pay cut.

Suze advocates a 8-month emergency fund. I am planning for 12 months. She says, "no credit card usage, everybody, Pay for things in cash." As I explained in an earlier blog, I use credit card to leverage a monthly interest float and get rewards points. But Suze has a point: if you aren't disciplined enough to budget with a credit card and keep track of your daily credit card expenses, you are better off using cold, hard cash.

Credit Cards & Frugal Living

Credit cards issuers have gotten a very bad rap for their aggressive tactics. Even President Obama has gotten into the act, pressuring credit card issuers on rates. As far as I am concerned, credit cards are like guns, i.e., you can either use them to your benefit or abuse them at your peril. In the industry parlance, I am what the credit card issuers call a "deadbeat," i.e., someone who pays the entire monthly credit card bill on time, i.e., I do not carry a monthly balance. In my opinion, carrying a credit card balance is like entering Hotel California, you can enter but you can't leave :-)

Having said that, let me share my ground rules on my credit card usage:

1. I draw up a monthly budget for my expenses, allocating funds for recurring expenses (e.g., utility bills, groceries, etc.) and giving myself a reasonable allowance for unexpected expenses.


2. I divide up my monthly income to cover my expenses. If I don't have enough funds for a specific expense, I either postpone that expense until I have saved enough funds, or I cut my discretionary spending to cover that.


3. I keep my funds in my ING online high yield savings and use my credit cards to pay those bills.


4. In other words, my credit cards function like a monthly float, allowing me to earn some interest, albeit a pittance as a result of the Fed's generous bailouts to banks.


5. I keep track of all my daily credit card expenses in my Excel spreadsheet. If I made any unexpected credit card expense on a specific day, I immediately readjust my monthly budget in my Excel spreadsheet accordingly. This way, I never spend more than what I allocate. In other words, I have trained myself to treat my credit cards as if they were like cash. It requires discipline and over the years I have gotten better at it.
   


6. When the time comes to pay my monthly credit bills, I transfer the funds from my ING online high yield savings to my ING Electric Orange checking account and arrange for payment of my credit cards.


7. This way, I not only avoid carrying cash but also earn a monthly interest float and also the purchase protection that credit cards issuers offer.


8. In addition, I use only fee-free premium credit cards, aka rewards cards. I avoid all credit cards that require me to pay an annual fee or credit cards with no rewards. In addition, I have no use for credit cards with low interest rates, since I pay off my monthly credit card bill in full.
   


9. Currently, I am using Citibank's Diamond Preferred Mastercard with Thank You Rewards and American Express' Blue Card with Membership Rewards. My Citibank Diamond Preferred Mastercard is my principal credit card. I normally redeem the Thank You points for statement credit. For a long time, I used this card regularly because it offered me 5 Thank You points for gas, drugstores and supermarkets. This would mean that I not only earn interest on my monthly float, I also get regular and bonus points that I redeem for statement credit, thereby lowering my monthly credit bill even further.
   


10. A few years ago, Citibank reduced that to double Thank You points for those categories. Early this year, Citibank eliminated those bonus points. If I get a better credit card deal, I would definitely consider switching to a different credit card.


11. I used to have a AAA Visa with Gas Rebate (then issued by MBNA). After Bank of America took over and got rid of the gas rebates, I stopped using my card and last year Bank of America unilaterally closed that card without notifying me. I only found out when I did a routine quarterly check on all my various dormant account and discovered that Bank of America closed my AAA credit card.


12. My Amex Blue card is my oldest credit card, dating all the way from my college days. This card started out as an Amex Blue credit card for students that Amex upgraded to a standard card once I graduated from college. I keep it alive to maintain my FICO credit score, since a portion of a person's FICO score is determined by length of credit history. After my bad experience with Bank of America closing my AAA credit card unilaterally without prior notice, I use my Amex Blue card once or twice a month to keep it alive.

If you have any good credit card tips, please let me know.

Frugal Living & Managing Risk, IV

In response to the e-mails that I received with regard to my "Frugal Living & Managing Risk" series:

1. Aren't you a bit too conservative in your strategy? How would you ensure that you do not outlive your retirement savings?
   This is a good question. What most people forget is that stocks are inherently risky investments. There is no such thing as risk-free stocks. While stocks offer the potential of good returns, I would also argue that stocks carry significant risks that people ignore at their own peril. Those who focus on the fact that the long term average return of stocks beat other investments often forget that historical figures indicative of future performance. When investments dropped 30%-40% in 2008, it is really painful and will take a long time to recover. The stock market cannot guarantee an annual 10%-20% return to make up for a 30%-40% drop in 2008. Hence, I stand by my decision to invest in stable-value funds, a decision I made in 2006.


2. Would you ever invest in stocks or mutual/index funds?
   I don't rule out investing in stocks, index funds or mutual funds. My strategy comprises keeping my 401K and emergency fund in conservative investments (stable value funds for my 401K and high yield savings/CDs for emergency fund). Once I fully fund my 401K (to its annual tax-free limit) and emergency funds (to 1 year's worth of expenses), then I would invest in stocks, index funds, mutual funds, etc.., which I would consider as my "extra investments." If I lose any money in my "extra investments," the losses would be limited to the "extra" money that I could afford to lose. Retirement and emergency funds are money that I cannot afford to lose. In other words, I have deliberately adopted a conservative investment strategy that requires me to save more, rather than to take higher risks. The 2008 financial crash is a reminder to us that an aggressive investment strategy is no antidote to inadequate savings.
   

Previous postings in this series:
Frugal Living & Managing Risk, I
Frugal Living & Managing Risk, II
Frugal Living & Managing Risk, III

Frugal Living & Managing Risk, III

Two days ago, I wrote about the issue of long term risk and how two academics are suggesting that the long run may be riskier than the short run. Yesterday, I shared my own experiences with balancing my goal of frugal living and risk. Today, I'll discuss my understanding of risk and how this influences my savings and investment strategies.

Managing risk is a big topic in many financial planning magazines, sites and blogs. I am particularly intrigued by the lead article in April 2009 issue of Money Magazine, The 7 New Rules of Financial Security, which seeks to "examine the flaws in the conventional wisdom" about money management and "propose some new rules for the road ahead." Here are the 7 Rules, as excerpted from the online article:

RULE 1: RISK
Old Thinking: If you can stomach the ups and downs that come with risk, you'll be rewarded.
New Rule: Risk isn't about your stomach. It's about making or missing an important goal.

RULE 2: CASH
Old Thinking: Keeping enough money in ultrasafe accounts to cover life's emergencies, but no more
New Rule: Rely more on cash can rescue you in an "asset emergency."

RULE 3: HUMAN CAPITAL
Old Thinking: The longer your time horizon, the more stocks you should own.
New Rule: Time isn't everything. You must also consider your earnings potential.

RULE 4: BORROWING
Old Thinking: Borrowing sensibly is a good way to build wealth.
New Rule: Borrow cautiously. You have to worry about the other guy's debt too.

RULE 5: HOUSING
Old Thinking: You can expect your house to appreciate handsomely over the long run.
New Rule: Your home won't make you rich. But it is an important savings tool.

RULE 6: DIVERSIFICATION
Old Thinking: A diversified portfolio lowers your risk.
New Rule: Diversification won't always save you - and you need more of it than you think.

RULE 7: RETIREMENT
Old Thinking: Retiring early is a prize.
New Rule: Retiring early is a problem.

Like the Money magazine article, I have also articulated my own rules for frugal living and managing risk. As I mentioned in Part II, my frugal nature and understanding of risk management have been shaped by the collapse of my parents' finances in the 1980-1982 recession. My dad was gungho and wanted to build up the family's financial wealth in a get-rick-quick approach by putting 100% of the family's investments in aggressive growth stocks. My family middle-class wealth was wiped out by the 1980 recession, and my parents have been very cautious ever since. Unlike some of my uncles and aunts, who lost a huge chunk of their investments in the 2008 crash, my parents, now comfortably retired, actually came out unscatched, since the bulk of their investments are in FDIC-insured CDs and high yield savings.

My own views for managing risks are as follow:

1. My overriding life goal is to live frugally and save sufficiently for my retirement especially since I no longer have the safety net of a traditional defined-pension.


2. I do not count on job security and work on the assumption that I can be laid off any time. In view of the deep-seated nature of the 2008 recession, I expect that I will take longer than normal to get a new job or may have to accept a job with lower pay and benefits.


3. My views on risk management are shaped by #1 and #2 above. If I know that my own job is not secure, then I should not take on unnecessary debt and make risky moves.


4. I argue that traditional financial planning advice assumes job security, so that one could ride out the swings in one's stocks and property investments by relying on one's regular salary. But what if there is a triple whammy: huge losses in stocks, property values and jobs?


5. First, I manage my risk by having a sufficient emergency fund in case I am laid off tomorrow. My goal is to have an emergency fund that is sufficient to cover 12 months' worth of expenses (much higher than the 6-9 months advocated by financial planning experts, who in my opinion, never anticipated the Great Recession of 2008). As I mentioned previously, I keep my emergency fund in an HSBC High Yield Online Savings. While I'm not happy about an annual interest rate of 1.65%, the main goal of my emergency account is liquidity.


6. Second, I manage my risk by investing my 401k in a stable value fund that is offered by my plan administrator. I contribute the maximum amount to get the employer matching contributions. As far as I am concerned, this is free money that my employer is giving me. Management is discussing the possibility of temporarily ending the employer match, in addition to other options like pay freeze, etc. Hence, the preservation of principal is important. I don't mind a 5% compound interest on my retirement investment, rather than seeing a 40%-50% plunge that my colleagues have seen, when they invested aggressively with the goal of early retirement.


7. Third, I manage my risk by living frugally and not taking on unnecessary debt. The only debt I have is a 30-year fixed mortgage on my home and student loans. I have no credit card debt, as I pay off the balance in full every month. I'll blog more about my credit card strategies in a future post. I have no car loan, since I bought my car with cash. In other words, if I want something, e.g., a car, I save up in full and then go out to buy the car. This is not just being frugal on my part, but it also forces me to think whether I truly need something, thereby avoiding impulse purchases that I would regret later.


8. Finally, I manage risk by investing cautiously. At this moment, I put my money in high-yield online savings and online CDs. As I mentioned yesterday, I would rather be the cautious and plodding tortoise that wins the race rather than the overconfident high speed hare that falls asleep and is left behind.
   

Frugal Living & Managing Risk, II

Yesterday, I wrote about the issue of long term risk and how two academics are suggesting that the long run may be riskier than the short run. My own, decidedly non-academic views are shaped primarily by my parents' experiences in the 1980-1982 recession. My dad decided to invest 100% of the family emergency's fund in aggressive growth stocks. Not surprisingly, the 1980-1982 recession took a toll on my family's emergency fund. I remembered my parents talking about it and my mom grumbling about how the family lost at least $20,000, if not more. That was a pivotal moment in my parents' financial planning, as my mom decided that all future investments would be in FDIC-guaranteed CDs and bank instruments.

My parents' 1980s financial turmoil struck a nerve in me. I was in elementary school at that time and my brothers and I had to make significant financial sacrifices. It was my first introduction to frugal living and something that really made a significant impact on me. When I finished graduate school and started working in 2002, life was great. Pay was good and I opened my 401k with a 50-50 (stocks/bonds) mix. The stock market shot through the roof and my quarterly statements look great. However, some time in 2006 I was beginning to feel uneasy. I thought that the property bubble was unsustainable, especially when several extended family members quit their jobs to get into the mortgage broking business because it was minting money. In mid-2006, I told my 401k administrator to switch my entire retirement holdings to a stable-value fund. That's right. Everyone thought I was out of my mind. Inflation would out-run the guaranteed interest. I was in my 30s and should be able to take on greater risk. I have cousins who thought that I was losing out.

After the 2008 crash, it appears that my 2006 decision is prescient. If I had switched in 2007, I could have made even more money. But nevertheless, my retirement portfolio grows at a reasonable 4.5% pace. Hopefully AIG or whoever the insurer that is insuring my stable value fund will not go bankrupt. It really does feel good that my 401k is growing at a respectable pace (with low inflation) while my colleagues are looking at 30%-50% losses, depending on how aggressive they have invested.

I'm not saying that everyone should turn to stable-value funds. But it works for me. When I read about would-be retirees who have invested for 30-40 years and hoping to retire around this time, but now having to postpone their retirement because their 401k have dropped by 30%-40% in value, I realize that the "long run" is meaningless if you need the money now. Many of my colleagues scoffed at stable value funds, saying they are stodgy and plodding in its "stable" growth. After the 2008 crash, I realize the forgotten wisdom in the old Aesop fable of the hare and the tortoise, i.e., "slow and steady wins the race." And when I read about academics who suggest that the long run may be riskier than assumed, I think I made the right decision to opt for steady unspectacular growth that result in intact principal + reasonable growth.

In the next part, I'll discuss my understanding of risk and how this influences my savings and investment strategies.