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We just saved $42,000 by not switching to Betterment

There is a popular car insurance commercial featuring someone who “just saved a ton of money by switching to GEICO.” How much is a ton of money? $400? Well, by that measure we just saved more than “100 tons of money” or a whole century worth of car insurance savings. And we didn’t do so by switching, but by not switching our brokerage account. Ka-Ching, how easy was that?Read More »

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The Great Bond Diversification Myth

Bonds diversify your equity portfolio risk. Everybody knows that, right? Well, how much diversification potential is there, really? Much less than we thought! (For full disclosure, though, bonds still serve a purpose, but it has nothing to do with diversification!)

Pop Quiz: Over the last 10 years, a portfolio of 80% stocks (U.S. Broad Equity Market) and 20% bonds (U.S. Aggregate Bond Market) had what correlation with the stock market?

A: 0.998

B: 0.857

C: 0.800

D: 0.683

The correct answer is A: the correlation was +0.998, so an 80/20 Stock/Bond portfolio would have been extremely highly correlated with the stock market. We might as well round it up all the way to 1.0 because from a statistical, financial and economic perspective that’s pretty much a perfect correlation. This correlation coefficient is for a broad U.S. stock market ETF (use Vanguard’s US Total Market VTI) vs. a portfolio made up of 80% Vanguard’s VTI and 20% Barclays Aggregate bond index (we used the iShares AGG total returns). Monthly returns are from 07/2006 to 07/2016.Read More »

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Beat Behavioral Bias: Mental Accounting

A lot of economic and financial research deals with behavioral biases, those occasions where the mind plays tricks with us and leads even very intelligent people down the path of irrational and sub-optimal decisions. Other bloggers have pointed out some of these biases before, see Plan Invest Escape on cognitive biases. Also, Northern Expenditure wrote an interesting post on the temptation of instant gratification over saving for the future. Among all the different biases, Mental Accounting is not that well-known but it’s one of the most fascinating. Mental accounting, sometimes called Framing, shows up in human behavior in the following ways:

Intentionally or unintentionally creating different buckets of money and ignoring the fact that money is fungible; displaying different degrees of risk aversion and/or different propensities to consume out of different buckets.

Quite intriguingly, in personal finance the mental accounting bias is not only committed frequently, sometimes it’s even celebrated as a great innovation. It’s not a defect, it’s a feature! Some of the well-known financial gurus fall for this fallacy and are not even ashamed!Read More »

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Lower risk through leverage

You heard that right! You can use leverage the smart way and reduce risk, all the while keeping the expected returns the same as in an unleveraged portfolio. Leverage has gotten a bad reputation, sometimes for a good reason, think Global Financial Crisis in 2008/9 or the LTCM debacle that almost sank the financial system in 1998. But every force can be used for good or bad, think Star Wars. So how do we change leverage from a Darth Vader to a Luke Skywalker?Read More »

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That sneaky 30% Federal Income Tax Bracket

Running some income tax scenarios for when we finally retire in 2018, we ran into a situation where our ordinary income would be taxed at a whopping 30% marginal rate on our federal return, despite having a total income of “only” around $100,000 (married filing jointly). How is that possible? There is no 30% bracket, only 10, 15, 25, 28, 33, 35, and 39.6%. Moreover, the 30%+ rates don’t even start until $231,450 taxable income for married joint filers, right?

Wrong! Read More »

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Happy Birthday, USA

Every year around this time, when Americans celebrate Independence Day we gather with friends and family, get the BBQ going and watch fireworks at night. We celebrate Independence Day on July 4, but of course every single day of the year we celebrate independence. Just like we celebrate diversity, tolerance, hard work, innovation,… you name it. But Independence has always been particularly dear to our hearts. All of us in the FIRE (Financial Independence/Retire Early) community must have that Independence bug in us, too. We think outside the box, we are nonconformist and declare Independence from paychecks, rush hour traffic and out-of-control consumerism. While we don’t want to draw any parallels between Mr. ERN’s boss and King George III, we will certainly not miss leaving behind all the nonsense of work life, least of which the excessive taxation.

Incidentally, excessive taxation was one of the sparks that set off the American Revolution. Moving to a state with no income tax and getting into a much lower federal income tax bracket, hopefully within the next two years, will be our way of sticking it to the tax-man. It’s a little bit like one mini Boston Tea Party for everyone of us achieving FIRE. Obviously not as violent and risky as facing his majesty’s well-armed and trained soldiers centuries ago but nevertheless quite revolutionary.Read More »

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Gold vs. Paper Money: a rant

Have you ever seen these TV commercials:

“Governments are trillions of dollars in debt and are printing paper money at record pace. So, don’t invest your retirement in paper money. Transfer your IRA to a Gold IRA at XYZ Capital. Call now for your free IRA transfer kit.”

I have to cringe every time I see or hear that. What deceptive marketing! Our financial assets (equity ETFs and Mutual Funds mostly) are not invested in paper money, they are merely denominated in paper money. In fact, if people are so troubled by measuring their equity portfolio in USD paper money, they are free to measure it any way they want: ounces of gold, metric tons of copper, bushels of wheat, gummy bears, the choices are endless. And by the way, don’t forget that gold is denominated in paper money USD as well!Read More »

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The ultimate retirement account comparison in one single Google Sheet

Some people argue that there is a rule of thumb for which account is more attractive when saving for retirement (both early retirement and “normal” retirement). Go Curry Cracker like the 401(k) and are skeptical about Roth IRAs, while someone on Kiplinger recently recommended the Roth and trash-talked the regular 401(k) in light of higher projected future tax rates. Who is right? Nobody. There are likely no universally true answers to the following (and many other) questions:

  1. Taxable account vs. Roth IRA?
  2. Roth 401(k) vs. regular 401(k)?
  3. After-tax 401(k) contributions or taxable account?
  4. Should I invest in a high-fee 401(k) at work or a low fee taxable account?
  5. What is the drag in after-tax returns from having to pay taxes on dividends throughout the accumulation phase?
  6. If you have a lot of money to invest and already max out the regular 401(k), should you shift more money into a Roth 401(k), to get more “bang for the buck?”
  7. Should I roll over an IRA to a Roth IRA?
  8. Should I use a deferred variable annuity to boost tax-deferrals?
  9. Pay down credit card debt first before saving for retirement?

It all depends on the individual situation, tax rates, expected return assumptions, account fees/expense ratios, etc. The only way to tell which account is more attractive is to get out the spreadsheet, punch in your particular parameters and compare. But how do you do that? Others did it before but sometimes we have the feeling they compare apples and oranges. A Roth 401(k) is best because you can withdraw tax-free? Not necessarily because you have to take into account the taxes you pay upfront when contributing to the Roth IRA.

We came up with an easy way to make sure you compare apples to apples to gauge the relative attractiveness of different accounts. Read More »