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Personal Finance Rule #3

25 July 2011 13 Comments

Continuing our series of the 20smoney Personal Finance rules, we get to big number three.  This rule has more to do with investing and retirement saving versus the traditional personal finance topics of budgeting, saving, getting out of debt, etc.

The rule is two parts: a) Only you care about your money and b) Wall Street cares about making Wall Street money, not you.

There are a number of ideas that we have bought into dramatically that have been pushed repeatedly by Wall Street and the financial sector.  These ideas for the most part benefit Wall Street more than anyone else. Let’s look at a few examples.

  1. Mortgage debt is good debt
  2. You should always buy stocks because over a long enough period they will always go up
  3. Renting is throwing your money away
  4. Gold has no real value
  5. Diversification means the removal of risk

We could go on, but you get the idea. You could sum up the statements above with the idea that Wall Street wants you and me to put as much money into stocks as possible and to have as large a mortgage as possible. Why? Because our portfolios will generate fees for Wall Street and our mortgage guarantees decades of cash flow to Wall Street and the financial sector. We are their money makers.

So, does this mean you shouldn’t buy stocks, have a mortgage and do anything that Wall Street suggests?  No, but it means you should understand their point of view and how you result in making them money.  Then, make your decisions with that in mind.

Only you care about your money. You need to get up to speed enough on investing and other areas of finance to make your own, objective decisions and filter out the nonsensical axioms of American finance. All advice out there usually comes with an agenda attached, so make sure you understand how that agenda is influencing that advice.

Read everything you can get your hands on.  Learn the markets.  Learn how various investments react in different economic times.  Read some more.  Make your own decisions.  Be objective.

 

13 Comments »

  • @BillyJoeMills said:

    Good post. Thanks for sharing. I agree with you and here's why…

    Playing the stock market is like going to Las Vegas in the sense that the House always wins. The stock market is set up such that brokers take commissions and money managers (like mutual fund managers) earn expenses. A casino in Vegas either has a rake at the poker table or a guaranteed percentage win in craps, blackjack, etc. The more trades you make in the market, the more commissions are earned on Wall St. Commissions have gone from about $100 per trade to about $10 per trade because of the Internet, but volumes have also gone way up, so Wall St. still makes big money. This leads to one of my personal rules which is to NOT actively trade the market. The more trades you make, the more you give to the House and the more you lose. Some insanely huge percentage of day traders fail horribly because commissions destroy them and it's tax inefficient to hold a stock for a short period of time. This leads to why I suggest holding low-expense ETFs that have $0 commissions for trades, which you can get through Vanguard (I think it is the best option).

    As for #5, it's true that diversification does not remove 100% of risk. However, it does remove the idiosyncratic risk that comes along with owning individual stocks…you never know when BP will have a huge oil spill or when Enron will have bullshitted their accounting books, so you should never concentrate too much money (more than 1% of your portfolio) in any individual stock…unless of course you want to make a conscious gamble…however, I personally feel that gambling on the stock market and investing in the stock market are two very different things.

    Renting v. Owning is tricky. When you add up taxes, maintenance costs, possible lowering of your home's value, opportunity cost of the money you tied up in the mortgage, etc., it is often better to rent than to own. The calculation is somewhat complex…I think the general rule is that if you plan to live somewhere for 7+ years then you should buy, otherwise you should rent. The NY Times has a great tool to help with the calculation: http://www.nytimes.com/interactive/business/buy-r

    /ramble

    <3illy

  • ratesConverter said:

    Good rule! That needs to be a tattoo somewhere on me. and i dont even like tattoos haha. I need to seriously re-examine my shopping habits. June is the last month of extreme shopping.

  • Felix said:

    #2 is not necessarily untrue. If there were index funds back in the early 1900s and you bought some, you’d be sitting on a lot of cash right now. Data across the board have shown that equities have also outperformed other asset classes over the long term. Obviously, the fallacy is in believing that EVERY stock will so well over the long term…

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  • Paul said:

    As Felix has posted equities have outperformed but the trick is your no 5 diversification. 10 stocks are far less risky than one stock and by adding property, gold etc to the overall investment portfolio the risks are further reduced.

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  • Kevin@RothIRA said:

    On the mortgage side, they want us to be in deep on this one because it locks us into a pattern of perpetual consumption. A McMansion, in particular, has a lot of space to fill, and eventually will need a lot of work to keep up, and that means even more consumption.

    I do think that despite challenging the assumptions of mortgages and perpetual stock investment, we do need to be in a savings pattern, accumulating cash for the times when opportunity will be there. This is especially true for the long term, like retirement. Savings mean options–even if the savings aren't invested in stocks or property. And there will be times when those investments will present outstanding investment opportunities. Perhaps the conventional thinking is flawed mostly from it's assumption that you should be "in" all the time. That can't be true.

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