Is your emergency fund ready for the next recession?

Around this time last year, a U.S. government shutdown forced many  government workers to go into debt to pay bills and some even had to go to food banks to make ends meet. They eventually got back pay but it is a good example of why you need an emergency fund. According to a recent survey from Charles Schwab, 59% of Americans say that they are living paycheck to paycheck, despite the fact that the U.S. economy has experienced the longest expansion period in its history.

I have no idea when the good times will end. However, financial experts recommend having an emergency fund in case you lose your job. The financial rule of thumb is to cover 3 months of living expenses if you qualify for unemployment insurance and 6 months if you are self-employed. I am a bit surprised that they also recommend  the need to have funds available for unexpected car or appliance repairs. People who own homes or cars should include such repairs in their annual budgets.

I would recommend making two budgets, one for when you have a job and an emergency budget for when you lose your job. Divide your budget into needs, wants and savings. Needs are expenses you can’t avoid, like mortgage, rent, car loans, food etc. Wants are things you could do without if necessary, like clothes and entertainment. Saving for retirement, college or extra debt payments should also be excluded from your emergency budget.

Once you calculate your absolute bare bones budget, you can start to put money aside every month into an emergency saving account. With tax season just around the corner, you could jump start your savings but including any expected tax refund.

Tips for people living paycheck to paycheck or for those that can’t save fast enough

• Apply for a secured line of credit if you own your own home
• Don’t own a home, then apply for an unsecured line of credit
• Use a line of credit to pay off your credit card balances and put the interest savings into an emergency savings account.
• Worse case scenario: ask your credit card company to increase your credit limit.

Going into debt is not a great option but it is better than losing your home or having to sell your car.

 

Do you know the fable of the ant and the grasshopper? In essence, the ant spends all summer gathering food for the winter while the grasshopper sings and fiddles the summer away. When winter comes the Grasshopper has no food and found itself dying of hunger, while it saw the ants distributing corn and grain from the stores they had collected during the summer.

A recession will come, so be the ant and not the grasshopper!

How to keep your New Year’s financial resolutions for 2020

 

Nearly 70% of Americans are making a money-related New Year’s resolutions and more than half of those making one are prioritizing saving more, according to Fidelity Investments’ 2020 New Year Financial Resolutions study.

As well-meaning as we may be, around half of us failed to keep the financial resolutions we made this year. Change doesn’t come about because people want change so badly. It comes about because they plan it.

Here’s how to make a plan so you can actually accomplish three of the most popular financial resolutions for 2020.

“Save more money”

This goal won’t work for many people, because it needs to be more clearly defined.

• Make the goal as specific as possible: “Save $3,000 over 12 months,” not just “save more money.”
• The goal needs to make sense and be attainable with your skills and abilities.
• The goal should be important to you.
• You need to set a time frame for accomplishing your goal.
• The progress of your goal has to be tractable

Pay down debt

One method is call the snow ball strategy. You make at least the minimum payments on each of your debts, credit card, student loans, etc. and then put any extra money you have toward the debt with the smallest balance, regardless of interest rate or other considerations, so that you pay it off more quickly and have one fewer bill to worry about.

This method has a psychological benefit: Paying off one debt will keep you motivated to then aggressively pay off your next-highest balance and so on.

I prefer the avalanche method, where you focus on paying off the debt with the highest interest rate first. Mathematically, this method is more financially beneficial than the snowball method, because you’ll save more on interest payments. But you might lose steam if you’re not seeing quick results.

Spend Less

This resolution is probably the hardest to actually achieve because it involves making a budget so that you know how much you typically spend each month in major categories: housing, food, transportation, clothing, entertainment, etc.

Changing your spending habits can be difficult because you are pressured to spend from many different social media platforms. Seeing your family and friends post pictures of their vacations, drinking at their favorite pub or dining out with a group of friends are difficult to ignore.

I believe that in order to succeed you need to reduce but not completely eliminate your spending on things you enjoy. Step one is to breakdown areas that you spend too much money on, then make up some spending rules.

For example:

1. One common area of over spending may be going out for lunch every day. New Rule: Bring a lunch to work three days a week and only go out twice a week.
2. Another common area of over spending maybe ordering takeout meals. New Rule: Assign every other Friday for ordering a takeout meal.

Another concrete tactic for spending less: Institute “no spend” rules for yourself. If there are certain things you spend too much money on like books, clothes or entertainment, then set strict rules for yourself for a manageable amount of time, say a month or season. (i.e. no new purchases of summer clothes)

It takes a lot of will power and discipline to be successful in keeping any of these three financial resolutions. However, paying down debt and spending less will automatically lead to saving more.  To be really successful, you want to make sure your goals are attainable, but also that they make sense with the life you want to lead.

Some recommendations for new investors with not allot of capital

 

 

One Size Doesn’t Fit All

 

It has been a long time since one of my readers posed a question that could be answered in a blog post.

Do you have any recommendations for new investors with not allot of capital to start with? $5000 – $10000. Just wondering if there are any things you wish you knew when you started or good resources you would recommend for learning some important basics. Maybe even specific to Canada, allot of the books I have been reading are by American authors.

Before choosing what to invest in, you have to think about your time frame. Is this money going to be tied up short term (1 to 5 years) or long term?  Next you have to decide on a savings goal. For example; are you saving to get married, buying a home or saving for retirement. Finally, you have measure your risk tolerance.

Some short term investment ideas

Low risk investments are usually recommend for a short term saving goals. You don’t want to risk having less money then what you started with. Unfortunately, low risk means low returns. I personally like Exchange Traded Funds (ETFs) because the management fees are lower than mutual funds and they still offer the safely of diversification. Since this blog request came from a Canadian, I will use examples from a list of BMO’s Exchange Traded Funds

• Low risk – BMO (ZGB) Government bond ETFs – offers 2.5 return
• Medium risk – BMO (ZLC) Long Corporate bond – offers 4% return
• Medium risk – BMO (ZWC) Canadian Dividend covered call – offers 6.9% return
• High risk – BMO (ZJK) Corporate high yield bond ETFs – 7.25 % return

Some Long term investment ideas

• Low risk – BMO (ZBAL) Balance ETF – 61% equities, 39% bonds
• Medium risk – BMO (ZGRO) Growth – 81% equities, 19% bonds
• High Risk – BMO (ZNQ) Nasdaq 100 – 100% U.S. equities

When it comes to investing, Canadians have some flexible options. One of the best options is opening a Tax Free Savings Account (TFSA) with a discount broker; very low trading commissions and no tax payable on income or capital gains. It can be used for both short term and long term savings goals.

Another option for people who are in a high tax bracket is a retirement account as long as you take the tax refund and reinvest it. For example: Someone in the 35% tax bracket would get a refund of $3,500 with a $10,000 contribution into a retirement account. (RRSP- Registered Retirement Savings Plan for Canadians)

For small investors, I highly recommend using a Dividend Reinvesting Plan (DRIP). Most EFTs offer the ability to reinvest the income into additional shares with no trading costs. DRIPs use a technique called dollar cost averaging which allows the investor to buy stock as it moves up and down. A great way to compound your returns.

Finally some reading resources for learning some important basics:

1. The Wealthy Barber Returns
2. The Good, Bad and the Downright Awful in Canadian Investments
3. Canadian Securities Text Book ( buy it used on Kijiji )

Please do your own research, examples in this post are not recommendations.  

Merry Christmas!!!

Happy Father’s Day to all the dads in heaven

My dad left us way too soon. He was far from perfect, in fact his was quite ordinary. I didn’t really appreciated him until I became a dad myself. Traditionally the dad’s job is to put food on the table, clothes on your back and a roof over your head. It is an important job that is often taken for granted.

I never realized how difficult it was for my dad to provide life’s bare necessities until I went back to Italy, his homeland. I can’t imagine leaving all your family and friends behind and moving to a foreign country. He was uneducated with no marketable skills, couldn’t speak English, hoping to provide a better life for his children.

So thanks Dad for coming to Canada, giving me, your grandchildren and your great grandchildren the opportunity for a better life.

Job well done!

 

I like to share my last years father’s day post for my new followers and my daughter’s reply :

what-money-lessons-did-you-learn-from-your-father

my-daughters-reply-what-money-lessons-did-you-learn-from-your-father

 

Happy Father’s Day!

Robo-advisor vs. human advisor

The robo-advisor platforms offered by companies like Wealthfront and Betterment are gaining in popularity. The low cost of investment management services is very attractive when compared to fees charged by human financial advisors. It leaves me wondering if financial advice from humans is on its way out.

Advances in artificial intelligence has already replaced some money managers at companies like Blackrock. Last October marked the debut of an AI powered equity ETF. The exchanged traded fund is run by IBM’s Watson, in other words, the new portfolio manager is a computer program. Most ETFs are passively managed and follow indexes or specific sectors in the S&P 500. The AIEQ ETF is an actively managed security that seeks to beat the market.

Here are four advantages that traditional advisors have over robo-advisors.

1. Human emotions

Robo-advisors only have one job, to use algorithms to manage your investment portfolio. They are not designed to manage the emotional component of investing and building wealth. For traditional advisors, this is a daily role they fulfill. When markets decline or clients experience an important financial event, the traditional advisor is there to talk them down off the proverbial ledge and help them make a rational decision void of strong emotions.

2. Accountability

Many people are capable of holding themselves accountable on their own but having someone else committed to helping you in the endeavor only ups your chances of success. Computers are certainly capable of creating tasks and sending you reminders but they have little to no flexibility in helping you devise an accountability system that truly works for you and is tailored towards your specific goals.

3. Flexibility

Let’s face it; over time our lives can change quite drastically. You get married, have kids, buy a house or become unemployed. The list goes on and on. Each of these events creates what we call “money in motion.” When money is in motion, planning, adjusting and taking thoughtful action needs to occur in order to ensure a positive outcome. Over time, many discussions are required during this process and having a human expert helps you adjust and adapt as needed.

4. One-size-fits-all vs. tailored service

Part of why robo-advisors are cheap, relative to financial advisors, is due to the fact that they are a streamlined, automated service. As great as this can be, it also creates a lot of limitations. Rather than being built and catered specifically to you and your current financial situation, robo-advisors are designed to serve the masses. This means a somewhat cookie-cutter, one-size-fits-all approach in their offerings.

Traditional advisors, on the other hand, can tailor the services and investment management style they provide according to your unique financial situation. (Insurance coverage, debt reduction, tax plan & estate planning)

Having worked as a financial advisor, I am somewhat bias and prefer the traditional advisor over the robo-advisor. However, a robo-advisor provides a service to a select group of clients and financial advisors provide services to a different group. Each cater to the preferences of their unique clientele.

 

 

Both young & old should make a budget

Contrary to popular belief, money has no value what so ever until you spend it. It is what you spend it on that has value. The value we place on money is dependent on what we think we can buy with it. The money you are paid as a salary is just a number written on a pay slip or is deposited directly into your bank account in exchange for the service you provided to your employer.

Why is budgeting so important

Since the value of money comes from its buying power, planning your spending ensures that you have enough money for things that you need and for things that are important to you. A spending plan will also keep you from spending money that you don’t have or help you get rid of unwanted debt. (Not all debt is bad)

The buying power of money is determined by the supply and demand for goods in the economy. Inflation in the economy causes the future value of money to reduce its purchasing power. A budget helps you figure out your short and long term goals plus measures your progress.

Budget Categories

1. Shelter – rent, mortgage, property taxes
2. Utilities – heat, hydro, water, cable, internet, cell phone
3. Food
4. Transportation – bus pass, car payments, gasoline, repairs
5. Clothes & Accessories
6. Gifts
7. Insurance – car, home and life
8. Entertainment – including vacations
9. Emergency fund
10. General savings – major purchases, debt repayments, retirement

It is really important for seniors to have a budget. You don’t want to outlive your money and be a financial burden to your children. There are three stages of retirement, “go go”, “slow go” and “no go”.

You tend to spend more money in the “go go” stage since today’s seniors are healthier than previous generations. Plus, life expectancy has increased so seniors will also have more leisure time.

As more people are living longer, the “no go” stage in retirement can become very costly due to the increasing risk of health problems. The risk of developing a cognitive disease like Dementia or Alzheimer increases with age. Costs for caregivers, assistance living and nursing homes are not cheap. (The cost for my elderly mother’s caregiver is about $20,000 per year)

Why people don’t budget

1. They’ve got the wrong idea. Budgeting’s got a reputation for being too restrictive; you work hard for your money, why shouldn’t you be able to spend it as you see fit? But it isn’t as terrible as it seems. In fact, when you stick to a budget, you’re likely to have even more money left over to do with as you please. Budgets shouldn’t be about making big restrictive changes. Rather, when you examine your finances, you see small ways to make changes that will have big effects.

2. It is intimidating. Got a vice that you don’t want to give up? Scared that if you make a budget you won’t be able to stick to it? There are tons of reasons you might fear drawing up a budget, but that shouldn’t keep you from trying! When you create a budget, you’re enabling yourself to find and fix the financial mistakes you make, rather than ignoring them and hoping they’ll go away by themselves.

3. It is time-consuming & boring.Unless you have a passion for spreadsheets, chances are that budgets bore you to tears. You might not want to budget because the actual act of budgeting just seems like row upon row and column upon column of money that’s no longer yours.

4. They think they don’t need to. In today’s economy, not many people can say that they don’t need to budget because they have enough money. Even if this is the case for you, a budget can always help you to save more.

5. They think a budget can’t help. Most of us have heard the adage ‘the first step to recovery is admitting there’s a problem.’ Debt is a very personal issue and it can be difficult to admit, even to yourself. There are a variety of ways to help clear your debt and drawing up a comprehensive budget is the best way to start doing this.

I just put the finishing touches to my 2018 budget, how about you?

My daughter’s reply: What money lessons did you learn from your father?

“Enjoyed the article, thought I would write one of my own.” 

What money lessons did you learn from your father?

By Deanna Di Lello

 

When I was seven or eight years old my father took me to the bank to open my first savings account. I had been given ten dollars as a birthday present and it was going in the bank to earn interest!

When the account was set up I was handed my very first bank book. Whenever I had Christmas or Birthday money – in the bank it went and I watched the number in my book go up and up. My father taught me to save, but that’s not all he taught me.

The value of money

I earned an allowance as a kid and when I was old enough I got a paper route. Buying a toy with the money I had earned was much more satisfying than having it bought for me. Plus, I learned how much things cost compared to what I had earned. (I think I asked for my allowance to be raised on more than one occasion…)

Things really were better “back in his day”

When my brother and I were in high school we were told that when my dad was in university the money he earned from his summer job paid for his tuition. Those days were long gone. He asked us to work part time during the year and during the summer to earn money for school. He would cover the rest of our tuitions so we didn’t end up with student debt. We were extremely fortunate in this case as many of our peers did not have that luxury.

Pay the full amount on your credit card, not just the minimum

When I was nineteen and about to enter university I received my first credit card. I was told to use it to build up a good credit rating… but not to use it too much and to definitely pay off the full balance. I know many people drowning in credit card debit because they did not follow this advance.

Choose a partner who is good with money

The number one argument couples have is about money. My parents bicker sometimes, but not about how they spend. My mother’s values are in line with my father’s.

My husband had student debit from both his undergrad and post graduate degrees. As he changed jobs and earned more money, he would increase his payments. It was always a priority for him and as a result of his dedication, it has now been paid off.

It is better to give than to receive

For my parents’ twenty-fifth wedding anniversary, my father contacted my mother’s favourite charity and organized an award in her honour. This prize is awarded annually to a lucky recipient and my parents often attend the ceremony. It wasn’t the cash prize that moved my mother, brother and I to tears. It was the thoughtfulness of the gift. It was the knowledge that someone else’s life would be made just a little bit better thanks to his love.

Money doesn’t buy happiness… but neither does poverty

My father didn’t say this, but it’s true. His financial success was never motivated by the lure of bigger houses and more expensive cars. He only wanted to make sure that his wife and children were provided for.  That if there was ever an emergency that required a last minute financial expense, he could cover it.

 

My father taught me this and so much more.

 

“Thanks, Dad.”

 

Still doing tax returns for my adult children & their spouses

Every year I ask myself, should I continue to offer to do tax returns for my adult children and their spouses? All of them have university degrees and are smart enough to file their own tax returns. My daughter was willing to do it one year using tax preparation software with only a little help from me.

Part of my problem is Canadians are not even aware of how much tax they pay. Plus we keep voting for governments that buy votes using our tax dollars. The average Canadian family will pay 42.9% of their income in taxes imposed by all three levels of government in 2016. (Federal, provincial and local) Tax freedom day was June 7, 2016 if Canadians paid their total tax bill up front. Our U.S. neighbours tax freedom day was April 24^th and they will only pay 31% of their income in taxes.

There are a number of reasons why I continue to offer to do tax returns for the whole family. Having worked as a financial advisor, tax planning is a key element when putting a financial plan together. My tax knowledge and skill comes from working many years with accountants and tax lawyers ensuring that my whole family pays the least amount of tax.

Plus, the Canadian tax system is very complicated and is constantly changing with every federal and provincial budget. For example: many tax credits that were given by the Conservative government have been taken away completely by a new Liberal government.

For the 2015 tax year, the Liberals cancelled income splitting for families, a maximum tax credit of $2,000 for transferring up to $50,000 of income to a spouse with a lower income if they had a child under 18 years of age.

Some changes for 2017 include the elimination of the following credits:

1. Education and textbooks credit
2. Children’s fitness credit
3. Children’s arts credit
4. Public transit tax credit

Now, most retired Canadian seniors who don’t have a pension from their former employer are not even aware of a $2,000 pension credit. It requires opening a RRIF account, transferring $2,000 from their RRSP and then taking it out. They don’t have to wait until they reach the age of 71 in order to open a RRIF account. Plus, RRIF income can be split with your spouse if both of you are 65 years of age which could potentially add up to $4,000 of income tax free per year.

The Federal Liberal government will introduce a new budget on March 22 and there are rumors of more tax increases. Three things that Canadians should worry about;

1. Higher capital gains inclusion rate from 50% to 75%
2. Reducing the dividend tax credit
3. Taxing your principal residency 

I will end this post with two well known proverbs. ” In this world nothing can be said to be certain, except death and taxes.” & “A penny saved is a penny earned.”

 

Two questions from a blogger regarding mandatory retirement withdrawals by boomers

It has been awhile since I receive any questions from fellow bloggers that could be answered in a post. I thought that since I am a baby boomer, these questions might make an interesting post. This is what he wrote:

“I’ve seen more than one article regarding baby boomers starting to take mandatory retirement withdraws this year. This is the start of some significant money leaving tax deferred accounts for many years.”

1. Do you see this significantly affecting asset management companies?
2. Do you see this money going back into investments or going into daily living expenses and recreational “retirement” stuff?

 

Background and Research

Having worked as a financial advisor, the majority of my clients had little interest in saving for retirement. It was at the bottom of their priority list. It comes to no surprise that nearly half of U.S. families have no retirement account savings at all.

A 2015 Government Accountability Office study found that show that 29% of Americans 55 and older don’t have any retirement nest egg or even a traditional pension plan. Those who do have retirement funds don’t have enough money: 55 to 64-year-olds have an average of $104,000 and those 65 to 74 have $148,000 in savings

Aside from this lone anomaly, we see pretty well-defined growth in average IRA balances as age increases. Pre-retirees generally have well over $100,000 in their IRA, while Americans in the 65-69 age range have over $212,000.

Now these averages are not the most accurate gage because of the amount of wealth held by the super-rich, see the chart below.

 

 

The simple answer to question number 1 is boomer’s mandatory retirement withdrawals should have little effect on asset management companies. In fact, they could be a good long-term investment. One factor that has clause Generation X and millennials to delay purchasing a home was due to the housing crisis, perhaps they will save more for retirement after watching their parents delay or struggle in retirement.

Some additional research

Social Security benefits are much more modest than many people realize; the average Social Security retirement benefit in June 2016 was about $1,350 a month, or a bit over $16,000 a year.

For someone who worked all of his or her adult life at average earnings and retires at age 65 in 2016, Social Security benefits replace about 39 percent of past earnings. For 61 percent of elderly beneficiaries, Social Security provides the majority of their cash income. For 33 percent of them, it provides 90 percent or more of their income.

Social Security is a particularly important source of income for groups with low earnings and less opportunity to save and earn pensions, including African-Americans and Latinos. Social Security represents 90 percent or more of income for 41 percent of Asian Americans, 45 percent of African-Americans, and 52 percent of Latinos, compared with 32 percent of whites.

The answer to question number 2, the majority of retirement funds in North America will be used to cover living expenses.

In my humble opinion, a retirement crisis is coming because we are living longer and saving less. Social Security is funded by two trust funds, one for retiree benefits and one for disability benefits. The 2034 date is the exhaustion date for both funds when combined. But if considered separately, the old-age fund will be exhausted by 2035, after which it would be able to pay just 77% of benefits.

Two ways to get answers to your financial questions: send me an email (ricodilello@rogers.com) or post a comment on my Financial Question and Answer page.

 

Dollar-cost averaging using an option strategy

Most investors are familiar with dollar–cost averaging as a wealth building strategy. It involves investing a fixed amount of money at regular intervals over a long period of time. This type of systematic investment program is commonly used in company sponsored pension plans.

I use a similar approach by selling call & put options to build a stock portfolio. At first glance it sounds really complicated, but the math is simple as long as you can subtract and divide.

The two types of options: calls and puts (Investopedia)

A call gives the holder the right to buy an asset at a certain price within a specific period of time. Calls are similar to having a long position on a stock. Buyers of calls hope that the stock will increase substantially before the option expires.

A put gives the holder the right to sell an asset at a certain price within a specific period of time. Puts are very similar to having a short position on a stock. Buyers of puts hope that the price of the stock will fall before the option expires.

My strategy involves selling options and collecting a premium which will hopefully reduce the cost of buying a stock. For example: I recently wanted to add 200 shares of Royal Caribbean Cruises (RCL) to my stock portfolio.

Here is the math: I bought 100 shares at $72.22 on Oct 11th

Sold 1 call option Nov $72.50 for $3.40

Sold 1 put option Nov $72.50 for $3.65

Now both these options expire on Nov 18^th, so the buyer of the call option can force me to sell my 100 shares for $72.50 and the buyer of the put option can force me to buy 100 more shares at $72.50 depending upon the share price on Nov 18^th.

Scenario (1): What happens if the shares of Royal Caribbean are trading below $72.50 on Nov 18^th?

The call option expires worthless and I will buy 100 shares that will cost me $72.50 – $3.40 (the call premium) – $3.65 (the put premium) for a total share cost of $64.45. If you add the cost of the 100 shares that I bought for $72.22 to the 100 shares for $64.65 and divide be 2, my dollar cost average per share is $68.84

Scenario (2): What happens if the shares of Royal Caribbean are trading above $72.50 on Nov 18^th?

The put option expires worthless and I have to sell my 100 shares for $72.50 but the cost of my 100 shares that I bought for 72.22 have been reduce to $65.17 ( $72.22 – $3.40 call premium – $3.65 put premium), my net profit on the trade would $7.33 divide by $65.17 or 11.2 % in just  38 days. (Excluding trading commissions)

In order to use this strategy, you need to have a margin account with a discount broker and be approved for cash secured put option trading. The added bonus of this strategy is you can use it to buy most index funds and some EFTs, you don’t have to buy individual stocks. However, the option premiums on index funds & ETFs will be much lower because they are less volatile than individual stocks.

I like this strategy because it removes some of the emotion out of investing. In the past, I would take half a position in a stock but I found it hard to commit to buying the other half when the share price fell. Plus I would kick myself for not taking a full position when the share priced increased in value. I found averaging down or up was very difficult. In reality the decision of buying or selling is sold to the purchasers of the options for a fee. An additional benefit, option premiums are taxed as capital gains, as long as you are not making a living as a day trader.

Stay tune; I will post the results of this trade next month plus an additional trade based on which scenario unfolds.

Disclaimer: This post is for educational proposes and not an investment recommendation.