Personal Finance 101 Posts of the Day 5/28/07

• Money Smart Life gives suggestions about how to use credit cards to simplify your finances.
• Rock Your Stock lists his picks for the top 5 investment books of all time.
• The Digerati Life lists 12 cheap ways to stay healthy. (your health is your most valuable asset - protect it)
• The Money Mythos thinks people need more than index funds for investments. (I'm not sure this is the case for most people but you can make your own decision)
• Money, Matter and More posts an open letter to high school graduates.
• Blunt Money lists 10 common financial mistakes.
• No Credit Needed gives 10 ideas for creating a budget.
• Young Professional Finance Blog talks about financial education - or the lack thereof.
  

Who's your favorite/least favorite finance guru?

JLP over at All Financial Matters asked today who everyone's favorite/least favorite financial guru's are.

My votes:

Least: Kiyosaki. The man is dangerous. He is a marketing guru with zero financial knowledge and the things he writes in his Yahoo posts are shameful. Really. I'm tempted to start a letter writing campaign to yahoo to request that he be fired. Anyone with me?

Most: Bogle. The man is an icon and provides a great service. Sure, I may be biased by the fact that I used to work at Vanguard, but I was an investor long before I was an employee.

My 2nd choice of favorite is probably David Bach. I like the common sense, down to earth way he has of delivering info. I think it's great for people who are just starting out. His book The Automatic Millionaire is one I recommend that everyone read and his book Smart Couples Finish Rich is one that I give to/suggest that all couples read before they get married.

10 Reasons You Aren’t Rich

From The Street, 10 Reasons You Aren't Rich covers some of the traps that people fall into that hold them back. (My comments in italics)

1. You Care What Your Neighbors Think This is huge! One of the reasons I'm leaving Washington, DC is that so many people around this area care about things like what you drive, where you work, etc. It gets old and really, the people worth knowing aren't the ones who care about what kind of car you drive or what kind of shoes you wear. Live your life in a way that makes you happy and comfortable and who cares what others think!
2. You Aren't Patient In today's world of easy credit and instant gratification it can be hard to wait to buy something until you have the cash. But, the advantages of waiting are: 1 - you save money in interest, 2 - you tend to appreciate things you have to work hard to get instead of those that come easily, 3 - waiting gives you time to decide if you *really* want something rather than just following your impulse, 4 - saving up gives you time to do your homework and find the best deal on whatever it is that you want.
3. You Have Bad Habits This includes your "Latte Factor." The three hardest things to give up are: coffee, alcohol and cigarettes. It's not a coincidence that they're also the most expensive and the worst for your health. Cutting back on those vices not only saves you money today but also in the future on health care costs.
4. You Have No Goals My Goal Setting 101 class is my least popular class but it's the one that I think people get the most from. The first question I ask is: "If you don't know where you're going, how will you know when you get there?" The answer to that question is: You don't. Without goals you're just floating along rather than moving forward with a purpose. IMO, goal setting is the most important part of financial planning but is also the most overlooked.
5. You Haven't Prepared This is why you need an emergency fund. It's a fact of life: Stuff happens. No matter how prepared you are, you aren't prepared for everything. But, you can do your best. The easiest thing you can do is establish an emergency fund. This fund should be in a cash account (or equivalent) that can be accessed quickly and without penalty. You should aim to have at least 3 months worth of expenses in your account though some people like to keep much more. When you figure out how much you need, take an honest look at your life. Is your job steady? Do you have dependents? Do you own a house? Do you have adequate insurance? The answers to those questions will help you figure out how much (or how little) you need to have in your account to be secure.
   
6. You Try to Make a Quick Buck When people approach me about the best way to turn $1,000 into $10,000 in a week I have 2 standard responses: 1 - go to Vegas. At least there you get free drinks while you gamble with your money. 2 - Re-read The Tortise and the Hare but this time, learn the lesson. When it comes to investing, the vast majority of the time slow and steady will win over the long run. Set your investment up, make it automatic and then forget about it except for when you re-balance twice a year.
7. You Rely on Others to Take Care of Your Money I'm a huge proponent of DIY. It's why I started Personal Finance 101. I saw the aftereffects of too many people who had gotten screwed by investment advisors who sold them bad products. There is no reason why someone can't manage their own money, particularly now that Target Retirement Funds exist. If you're just starting out, there are 2 books I recommend that every newbie read. The biggest thing to keep in mind: You are the only person who cares about your money!
8. You Invest in Things You Don't Understand I did this when I first started investing. I started buying stocks without knowing what I was doing. I just listened to what others were buying and followed the herd. Not only did I lose a *ton* of money to transaction fees, I lost a ton in the investment itself. Since then, I've sold off the losers, held on to the winners (I did get a couple right) and have stuck to funds. I have realized that not only do I not have the knowledge to pick stocks, I don't have the desire to learn the skill so funds are the way to go.
9. You're Financially Afraid I see this all the time, especially in those who lost a lot of money in the dot bomb. So many people who lost money during that time are too scared to invest in stocks again. Every time I ask them about their experience, they were always almost 100% in tech stocks and freaked and sold when stocks went down. When I explain to them what would have happened had they A - been diversified and B - stuck to an investment plan instead of freaking out they start to calm down. For those who are worried about investing in anything risky I usually suggest starting with a balanced fund like the Vanguard STAR fund. That fund is 60/40 stocks/bonds so, while it earns more than bonds it's not as volatile as stocks. I then suggest they start adding small amounts into more agressive funds once they're used to being a bit more agressive. I also forbid them from checking their accounts more than once every 6 months. Frequent account reviews are the worst thing people who are risk averse can do. Any little dip will freak them out and trigger a panic reaction.
10. You Ignore Your Finances I'm a big supporter of a hands-off money management style. But, that's very different from ignoring your money. To have a hands-off style, you first have to have a plan. Then, you can implement that plan, make it automatic and just check back a few times a year to make sure you're on track. Find the balance that works for you - somewhere between checking every day and checking once a year is good.
    

Reader question: How do I open an IRA?

Hi Mandy,

How are you? A quick question..I plan to contribute 4000 to IRA this year (I believe this is the max)...Can I contribute anything additional to Roth IRA?

Would you suggest that I put in Roth IRA or traditional IRA?

Also what is the yield I get out of this account?

I am planning to open it with Citibank, since it is close by

Thanks,

ANSWER

Hi,

You can only contribute $4k total to both accounts. Since I believe you have a 401k at your job, odds are very good that you cannot deduct your traditional IRA contribution so I'd strongly suggest you do the Roth instead. And even if you can deduct it, typically a Roth is a much better investment in the long run. See my article: What's so great about a Roth IRA?

Also, you should never invest through a bank. They are the worst places for investments since they typically offer loaded funds that have high annual expenses and underperform. Instead you should open your account with Vanguard or Fidelity.

As for what kind of yield you can expect, that is completely dependent upon what you invest in. IRAs are only accounts within which you buy an investment. You can choose almost any investment. Considering your age, you should be as aggressive as you are comfortable with. Since your balance in this account will only be $4k to start (assuming you don't have an existing IRA that you could add to) you probably don't want to invest in more than one fund (to minimize fees). If you're ok being very aggressive, or it's balanced out with your other investments, you could choose a total stock market index fund as it will give you great diversification and be 100% stock. If you prefer to be a bit more conservative and/or you just don't want to think about it again besides to put more money in, you should consider a Target Retirement Fund.

Target Retirement Funds are funds that hold a basket of funds that ensure that you are completely diversified and have an appropriate asset allocation based on your expected retirement date. They are a one-stop investment and you can put your money in and never think about it again because it automatically gets more conservative as you get older.

Final thing, assuming you didn't make a contribution in 2006 (otherwise you'd just add to it right?) when you open this account you should identify this money as 2006 money. You have until tax day to do this. Then you still have all of 2007 to contribute another $4k.

Let me know if you have any questions and unless I hear differently from you I'm going to post this (with your name removed) onto the meetin forums since it's a great question that lots of people probably have.

Have a great day!
Mandy

FOLLOWUP QUESTION

thanks Mandy,

I was planning on Citibank since some of my friends have opened accounts there...they don't charge any fees too.

Does Vanguard charge any fees?

However the trick is to find the mutual funds that I should be investing in.

I do not mind being aggressive...but i need to know how and what to look for in mutual funds...Any pointers on links, details that i should look for?

and no, I do not have a 401K account, since my company does not contribute...

thanks,

FOLLOWUP ANSWER

Ok. Well, since your company offers a 401k and you just choose not to participate you still may not be able to take the deduction. Check your tax form and see if there's a mark on it that indicates you're covered by a retirement plan. If that box is checked then you can't take the deduction.

Even if you can take the deduction you should still probably consider the Roth. The advantages are much better with a Roth than a Traditional IRA.

Regarding Citibank, they may not charge fees up front, but odds are great that the products they offer are loaded funds (means you have to pay a sales charge to buy them) and have high annual expenses (anything over .5% is too high unless it's a very specialized fund).

Vanguard charges $10/year/fund for investments under $10k which is why you only want to do one fund at a time. $10 may sound like a lot compared to Citibank's $0, but when you take into account that a load is typically 5%, that means on a $4k investment you're paying $200 just to buy the fund. That doesn't even include the difference that a .25% expense ratio will make over one that's 1%.

The main things you should look for in a fund are: Load (never pay a sales load. They're a waste of money), ER (stands for annual expense ratio) and should definitely be below 1% and ideally below .5%. You also want to look at what the fund is invested in. Funds can invest in almost anything so you want to make sure that whatever it is invested in meets your needs.

As a younger person you want your investment to be much more heavily weighed towards stocks than bonds. You also want to make sure that you have a little bit of everything (small, mid, large-cap and international) which will keep you diversified and boost returns and lower risk.

Since you're just learning how to pick funds, I would definitely recommend the Target Retirement fund. I would choose the 2050 fund which is the most agressive. I would do this just to get the account set up and then you can spend some time learning more about how to choose funds. After learning more you may decide to just stick to the target fund (they are great investments) or take a more active hand in your investment choices.

On my book recommendation page I list 2 books which I think are must reads for everyone. The first is The Automatic Millionaire and the second is Investing for Dummies. I'd recommend reading both since they'll give you a great educational foundation to get you started.

Mandy