MoneyMerc is dedicated to “little decisions” that make a big impact.  Our little decision for today is to make sure you know your financial worst case scenario.  These are uncertain times - but the time to plan for the worst case is before you are living it.  Of course everyone’s situation is different, and no one can predict the future… but the goal of this post is to get you thinking about your own situation to prepare you for the unknown.  Don’t get scared - get ready!

A short list of (probably) the worst events for your financial situation:

1. Losing your job (or spouse’s)
2. Death of a primary income earner in your family
3. Parents losing their job or income if they are retired (and start to depend on you)
4. An unforeseen immediate medical need, either of you, a family member or parent/grandparent
5. Other large expenses you didn’t plan for (a new child, natural disasters which you don’t have insurance for, etc.)

If any of these occur, in most cases the crux of the situation is cashflow.  Here are some things to consider:

What’s in your personal bailout fund?

Everyone needs a bailout sometime - unlike Wall Street, most people have to work it out for themselves.  Otherwise known as an emergency fund, your personal bailout fund should be easy to access, and 100% safe.  A bank savings account is a great place for this money, because you can walk into your bank on any given day and walk out with the cash.  Other forms of investments like stocks or funds are not good to use (you might be forced to sell when they are down) - ditto for anything that takes more than a day or so to get your money.  If you are lucky enough to have parents or family who can loan you money quickly, that is technically another option for you - IF you can look at yourself in the mirror owing them money.  But don’t relay on that if you haven’t previously discussed the possibility with them, because that wouldn’t count for knowing your worse case scenario.

How big are your bills?

Most people don’t have a full understanding of where their money goes each month.  Bills fall into two categories - those that are essential for living (mortgage payment, basic food expenses) and those that are non-essential but improve living (dinner out, starbucks, new electronics).  Make sure you know exactly what amount of money goes out each month to the essential (”non-discrentionary”) expenses.  It can be an eye-opening experience to divide your emergency fund total balance by your essential expenses.  Ideally this ratio will be 3 to 6 months.  Meaning if you lose your job, you can survive for that long.  With a job market like today, go for 6 months or more if you can.  If your ratio number is less than one, you should start worrying, and then make another little decision to start figuring out how to decrease your expenses.

If you are married and both work, then you should also ask yourselves if you can afford your required expenses on a single income.  Which leads us to…

How secure is your job?

Take step out of your cube, turn around, and look back at your empty desk.  What if you didn’t sit there anymore?  Carefully consider the likelihood of losing your job.  It’s scary to think about, but it’s also easier to work on skills and generally prepare for another job while you have a current source of income.  Think about what industry you work in, and the general stability of other companies in the same industry or of similar size.  Why is your company more secure than others, and why is your job more secure than the person next to you (or than even your boss)?  Is it really?  Keep in mind and try to avoid the human bias which makes us think we are better than we really are (watch the first few episodes of American Idol each season to understand how this works!)  And check out Get Rich Slowly’s 10 Essential Steps to take before you get laid off.

How much debt do you have?

I’m not so worried about mortgages and student loans here - but you should be well aware of how much you owe on your credit cards, and at what rates.  Paying off debt is your financial job #1.  But if you don’t have an emergency fund, it may be wise to start building one before paying off debt. But you definitely don’t want to be in a situation where you can’t afford even your minimum payment.

So what’s the next step?

Now that you’ve thought about your own situation, what is your takeaway?  What one thing can you do to make sure your worst case is a little less worse?  Do you need to get help with your debt?  Or just force yourself to remember to save by setting up an automatic savings plan?  Maybe start talking with your parents about the security of their own financial situation so you can better know how it may affect you?

photo credit - joelogon

Related posts:

1. Weekend todo list: 10 ways to improve your finances right away
2. Get Thee a Plan - Part 2
3. Mint.com just got sweeter: track your spending and investments too

(photo: Dave Malkoff)

An Exchange Traded Fund (ETF) is similar to an index fund - they are typically not actively managed and therefore (often) have low management fees.  Sometimes when you can’t find the perfect fund for your asset allocation, an ETF will fill that gap.  But ETFs aren’t good for regular automatic investments, because you pay a trading fee each time you buy or sell, just like you would in a stock.  Also, they have other supposedly good features which are useless to regular investors:  you can sell them short, and you can trade them during the day (rather than only once per day with a fund).   Because of these features (and marketing), ETFs have gained popularity in the last couple years, and the flavors available have proliferated.

In watching your portfolio drop in the last year, if you are like most people you are wondering where you can invest your money so it’ll go UP, not DOWN.  Check out the finance.google.com page on most recent days, and you’ll see on the “Top Movers” list is the “ProShares Ultrashort Financials ETF”.  On 3/13 it gained 10% when the Dow was down 1.7%, and I’ve seen it gaining 30% or even 50% in a single day.  So you’re thinking, wow, I need to get a piece of THAT!  It’s a perfect hedge for your portfolio, since when the rest goes down, this goes up… right?

Not so fast.  This ETF is part of a certain class of ETFs which are very risky, volatile investments and shouldn’t be purchased by regular investors like you.  These ETFs have words in the name like: “ultrashort, double, triple, 2x, 3x, bear, bull”.  Something that is “2x”, for example, is designed to return 2x what regular investors would get in the underlying investment (e.g. a “2x S&P500″ ETF will gain 2x the S&P on up days, and lose 2X the S&P on down days.)  How do they do it?  All of these ETFs employ “leverage” to give the prescribed return profile, which means they borrow money so they can invest more.  It’s like investing on margin for regular investors - say you have $1000 to invest, but can borrow another $1000, allowing you to invest $2000.  So that when it goes up 10% to $2200, you give back the $1000, and made $200 or 20% (minus borrow cost) on an investment that only went up 10%.  On the flip side, if the investment goes down 10% to $1800, you still have to give back $1000 and now lost 20% (plus borrow cost) on an investment that only lost 10%. (Lesson: don’t invest on margin.)

Okay you say, but what if I use one of these as a small PART of my portfolio, as a hedge (like owning stocks and bonds together - one goes up, the other down)?  As Jason Zweig from the Wall Street Journal writes, this strategy can (will) backfire.  Due to the large swings in daily holdings values, leveraged ETFs are not designed as long-term investments.  They are for day traders, not investors.  For one example, on Friday the lovely ProShares UltraShort Financials had 31.92million shares traded - but it only has 6.8 million shares outstanding!  This implies an average hold time of 86 minutes.  The article quotes Andy O’Rourke, marketing chief of Direxion Funds, an ETF manager - holding a leveraged ETF longer than a day is “like using a toaster to cook a turkey.”

As usual in investing, you will be rewarded by sticking with the basics and not experiementing.  Reducing ‘oops’ moments will make you richer.

Have any thoughts on ETFs?  Please tell us about it in the comments.

Related posts:

1. Considering a new investing position: fetal and 100% in cash?
2. What’s your risk tolerance?
3. Stay the course - tips for navigating in a tough market

Your credit score really just measures the chance you’ll pay someone - essentially how much of a financial risk you are.  They are used for everything from apply for a credit card or mortgage to getting auto insurance or even a job.  A high score means (the credit agency thinks) you have a high chance of paying your bills/loans.

The FICO score, created by Fair Isaac Corp in 1958, is the leading credit score metric.  Here’s what different scores mean:

Fair Isaac’s website has an education section about credit scores and how to improve them, which is really useful, and a must-read.

Here are the components of your score:

• 35% payment history
• 30% amounts owed
• 15% length of credit history
• 10% new credit (lots of new accounts lowers your score)
• 10% types of credit used (not using multiple types lowers your score)

Seven Credit Score Truths

• Missed payments on even 1 card can cause increased interest rates on all of your cards
• “Installment” debt owed (e.g. mortgages, auto payments) does not reduce credit score
• Late mortgage or credit card payments and collection accounts (if paid up) can be removed from your credit report by calling the creditor (credit agencies cannot make these changes)
• Late payment history is removed from the credit report after 7 years
• In general, credit report inquiries drop your credit score - BUT, multiple queries within 30 days do not cause your score to drop (i.e. it’s not bad to shop around your mortgage)
• Paying off student loan doesn’t improve credit score if the loan is current
• Your highest credit balance (ever) is what matters, rather than max credit (your credit card limit)  e.g. a credit card with a 30k limit, but the most you ever charged in a month was 5k, if you charge 5k again in another month it is considered “maxed out” at that point, since you never had a higher balance.  The 30k means nothing.

Building Credit History (can’t get a credit card?)

Building credit can sometimes be a chicken-and-egg problem - you can’t get a credit card without credit history, but you can’t build credit history without a card!  One of the best ways to improve your credit score is to have a long history of always paying off your debt on time.  To start building your history, here’s some ways to get it going if you can’t otherwise get a card:

• Secured credit cards - you pay a certain balance up front, say $500, and then get a $500 limit.  Doesn’t sound all that great, but it is if you can’t get a card elsewhere.  Find one that will send your collateral back after a certain period of time.
• Local bank credit cards - often times local banks or credit unions are more willing to issue cards to ‘new’ chargers

Credit Score Optimization Strategies for Home Buyers

If your score is decent, little ups and downs caused by fluctuating credit card balances, new accounts, inquires, etc aren’t a big deal.  But if you are shopping for a mortgage, your current credit score is very important because it affects an interest rate which can in turn affect your finances for another 30 years or so.  You should do the following:

• Do not open or close accounts (including credit cards)
• Check your revolving accounts balance, keep it low
• Check your credit limits, and your highest balance (based on card history) - make sure cards (including Amex ‘charge cards’) have not been charged near their highest balance limits in the last 1-2 months
• Do not pay off accounts in collection

Remember that shopping around a mortgage doesn’t lower your score!

Fraud and ID Theft

Sometimes you can’t help it - wallets get stolen, cards get left a bars… most times you can just cancel the cards, kick yourself in the shin and get on with life.  But if there are unauthorized charges, here’s what to do:

• File a police report (very important)
• File an affidavit with the creditor
• Get the creditor to delete your name from the account (reporting agency can’t help here)

If you are worried about future stolen cards or your credit report in general, you can use a credit score monitoring service - it costs money, but can be worth it if your credit is fragile.  Check out myfico.com.  Personally, I just order a report from one of the 3 agencies every 4 months on a rolling basis so I always have a pretty up-to-date view of my report.

Any rumors you’ve heard about cards?  Stories about your credit?  Leave it in the comments!

Related posts:

1. Weekend todo list: 10 ways to improve your finances right away
2. Automate your financial life
3. Don’t go broke saving money (or getting your piece of the stimulus package)

On home ownership:

Home ownership is a wonderful thing. My family and I have enjoyed my present home for 50 years, with more to come. But enjoyment and utility should be the primary motives for purchase, not profit or refi possibilities. And the home purchased ought to fit the income of the purchaser.

This backs up a belief I’ve developed over the last couple years - a home is a place you live, and not an investment.  Investing should be done objectively; very rarely are home’s bought and sold objectively.  Investments are purchased only the time is right (cheaply priced, hopefully); Houses are purchased when they are needed (e.g. a family grows to large for the space, or a new job is in a new location.)  Investments are (supposed to be) sold as soon as the required gain is attained, or loss threshold is reached - but it’s not possible to do this with your house, due to the emotion and inability to sell at a moment’s notice, not to mention you still need a place to live.

Remember: It’s always best to separate emotions and investing.

Related posts:

1. Wisdom from the Oracle - Part 2 (retake!)
2. Wisdom from the Oracle - Part 1: a look at Warren Buffett’s annual Letter to Shareholders

This is the second post in a series reviewing Warren Buffett’s letter to shareholders, which I think holds good lessons for us all.  [See Part 1].

On investing:

When investing, pessimism is your friend, euphoria the enemy.

If you take only one thing away from everything you learn this year, make this your mantra.  Treat everything related to your finances with pessimism.  The basic things to frown at are stock tips, great new funds, and anything that sounds too good to be true.  When everyone is smiling and patting themselves on the back for how good they’ve done, run the other way.

Long ago, Ben Graham taught me that “Price is what you pay; value is what you get.” Whether we’re talking about socks or stocks, I like buying quality merchandise when it is marked down.

Once again… my view is that the stock market is on a super-sale right now.  Stay the course and keep on socking your money away!

When forced to choose, I will not trade even a night’s sleep for the chance of extra profits.

… Beware the investment activity that produces applause; the great moves are usually greeted by yawns.

Here I was thinking about index funds.  Not sexy, not complex, and not keeping you up at night.  I like sleep.

Clinging to cash equivalents or long-term government bonds at present yields is almost certainly a terrible policy if continued for long. Holders of these instruments, of course, have felt increasingly comfortable – in fact, almost smug – in following this policy as financial turmoil has mounted. They regard their judgment confirmed when they hear commentators proclaim “cash is king,” even though that wonderful cash is earning close to nothing and will surely find its purchasing power eroded over time.

Ah yes, here is the eternal reminder that inflation is constantly making us poorer.  It’s any easy point to forget in times like these (”3% less spending power?  WHO CARES because I’m 40% down!!).  But it’s like that little step-cousin who just will not go away.  Stocks go up and down, but inflation keeps beating you over your head, year after year.  Maybe you are allocated defensively right now (I’m personally having a little trouble putting newly saved money into stocks rather than just a money market for ‘just another week’).  When you get over that, hopefully soon, don’t forget about inflation and the need to beat it by investing in stocks.

Related posts:

1. Wisdom from the Oracle - Part 1: a look at Warren Buffett’s annual Letter to Shareholders
2. Considering a new investing position: fetal and 100% in cash?
3. Wisdom from the Oracle - Part 3

The letter is long, but an enjoyable read - I was cracking up during lot’s of it - Buffett can be hilarious.  I’ll share some comments on parts that I think readers will find particularly interesting.  There are tidbits here that speak to our economy, investing in index funds, and owning a home.  As usual, I urge you to think for yourself and to draw your own conclusions - yes he’s Warren Buffett, but even he makes mistakes (many of which he covers in the letter - including his 89% loss recently in ConocoPhillips.) I am going to break this post up into parts, to separate topics and make the posts shorter.

The first part is on our economy, which is most likely one of the foremost topics in reader’s minds.

On the present state of our economy:

Amid this bad news, however, never forget that our country has faced far worse travails in the past. In the 20th Century alone, we dealt with two great wars (one of which we initially appeared to be losing); a dozen or so panics and recessions; virulent inflation that led to a 211⁄2% prime rate in 1980; and the Great Depression of the 1930s, when unemployment ranged between 15% and 25% for many years. America has had no shortage of challenges.

Without fail, however, we’ve overcome them. In the face of those obstacles – and many others – the real standard of living for Americans improved nearly seven-fold during the 1900s, while the Dow Jones Industrials rose from 66 to 11,497. Compare the record of this period with the dozens of centuries during which humans secured only tiny gains, if any, in how they lived. Though the path has not been smooth, our economic system has worked extraordinarily well over time. It has unleashed human potential as no other system has, and it will continue to do so. America’s best days lie ahead.

I think the major message here is:  keep thinking long-term.  If you are not following my advice and are paying attention to CNN, then you probably think the world is going to end tomorrow.  But look at your situation -you are alive.  You still have your family and friends.  Your investments are probably worth a lot less, but you are still surviving.  Maybe you lost your job for the time being, but the search isn’t over any you have lot’s of options that don’t involve dying.  You are finding some way to eat, and some place to live.  In the words of my wise mother - “this too shall pass.”

Related posts:

1. Wisdom from the Oracle - Part 2 (retake!)
2. Wisdom from the Oracle - Part 3

1. Open an online savings account.  If you don’t have one already, you are missing out on interest (aka LOST MUH-NEE, which we don’t like)  Yes, rates are falling, but they are still higher than the 0.25% you get in say, your Chase checking account.  I use ING Direct, which isn’t the highest anymore but since I have checking there as well it’s easier for me.  Here’s a review of the best online savings accounts at Consumerism Commentary.
2. Use a rewards card and get cash back. Of course this only applies if you’ve paid off your credit card debt, as rewards cards usually don’t have the best interest rates.  But if you always pay off your bill, you should at least get some perks.  If you fly a lot, concentrate purchase on a single airline’s card - we love the Amex JetBlue card - for us, the $40 annual fee is well worth it because we use JetBlue’s routes a ton.  I’ve also used the Amex BlueCash card, and also like that one.  Here’s a really useful site to help pick one.
3. Use 0% interest. If you MUST carry a balance (but are working it down, of course), pick a card that gives you 0% interest (again, see site above).  Watch the fine print - often times these deals expire.  You’ll still want to pay off your debt as fast as you can, since jumping cards too often lowers your credit score, and improves the chances you’ll mess up the balancing act and get hit with tons of fees.
4. Pay down debt with your tax refund. It might feel like you could be impulse shopping if you get a windfall refund in 6 weeks, but resist the urge if you have credit card debt.  Use your refund to pay it off as soon as possible.
5. Don’t pay ATM fees. Pick a bank that has lots of ATMs, and only use them.  In NYC, Chase is really the best, they have the most ATMs of any bank (see how my automated finances allow me to use online checking to improve interest rates, but still use Chase).  Or, choose an online checking account that credits you the ATM fees.
6. Go to the gym and get paid. Many health insurance plans will credit you cash if you go to the gym a certain number of times per year.  How’s that for motivation??  Call up your health insurance provider and see if they offer this (I heard Oxford does).
7. Order your credit report, and check for errors. Did you know 76% of Americans have an error on their credit report?  The accuracy of your credit report is important, because anything that tarnishes it can affect your ability to get loans (credit card, auto, home) and also affects the rates you are offered.  By law you are entitled to 1 free credit report each year from EACH of the 3 reporting agencies (Experian, Equifax and Transunion).  I order one from each agency every 4 months on a rolling basis, so I can see my report more often than annually.  Make sure you use annualcreditreport.com and NOT (stupid)freecreditreport .com (the commercials may be funny, but they are a for-profit company offering a service you probably don’t need).  If you find any errors, make sure you call all 3 agencies to have it fixed right away.
8. Roll over past employer 401(k)s and 403(b)s into IRAs. You can’t roll over your current account (if you still work there) but if you left a job a while ago, chances are you are paying too much in fees in that old account, and the choices might be limited.  An IRA has the same tax status and can be invested in almost anything, so you can roll over the old account and then buy low-cost index funds, your best bet for investing, says the New York Times this week (thanks Adam!).
9. Use Online Statments. This is a quick and easy way to save the environment, save time and save space.
10. Setup automatic investments. Even if the markets have you in a tizzy and you are still deciding how to invest new money, setup an automatic amount to transfer into your brokerage account each month.  Most brokerages offer this (it takes 2 seconds to setup on Fidelity), and you can just sideline the money in a money market until you decide what to do.  The point is it gets they money out of spending territory, one step closer to making you rich. (OK you got me, I added this one - their last point was a non-starter)

Do you have other tips that are dead easy and we can do this weekend?  Tell us about ‘em in the comments!

Related posts:

1. How and why to improve your credit score
2. Automate your financial life
3. Worried about your finances? Know your worst case scenario

I promise to respond as soon as I can, usually in a week or less (so don’t ask me a tax question on April 13th!)

A little disclaimer: I am offering this service for free, and by submitting your question you agree to let me use it in future posts.  Of course any use will be anonymous, and I may change the situation a bit if that makes sense for a wider audience.  So ask away, knowing that you are benefiting all the readers at MoneyMerc!

To ask, click on the “Ask me a question” link at the top of the blog.

No related posts.

[Photo: QuintanaRoo]

I’ve written previously about the usefulness of Mint.com for tracking spending.  Recently they’ve released a whole bunch of investment-tracking features that allow you to see all your money, investments and assets in one place.  This eliminates the need for Fidelity’s Full View, which does pretty much the same thing, but requires that you have a Fidelity account.  It still leaves a couple things to be desired for the financial planner in me, but for most it will do very well, and I highly recommend it.

What is Mint?

For those who haven’t tried it yet, Mint.com is a financial management web site which you put in all your log-in details of accounts, and it automatically logs into all of them for you every day and downloads the activity.  Then it takes each transaction and categorizes it for you.  This is insanely useful if you “don’t know where all the money goes.”  It gives you all kinds of fancy pie-charts on your spending, integrates budgets into each category, and even sends reminders to pay bills (if you don’t have them automated already).

OK, yeah that sounds a little scary to give out all those log-in details.  To make you feel better, they go to extreme lengths to keep all your info safe.  Good enough for me…

If you tried Mint a year ago and weren’t happy with it, I recommend trying it again.  The categorization and other features have gotten much better since the initial version.

My Favorite Mint Features

Spending Trends

This is the most obvious one, and is the real reason to use a tool like this in the first place.  It allows you to look at spending categories over chosen time periods, and to drill down and see the details of what make up those categories (for example, my “Lunch at Work” category shows that I spend more at “Dishes” than at Subway.  But I go to Dishes way less often!  Something I will now consider when deciding where to eat…)

I especially like the ‘SpendSpace’ area, where you can compare your spending to others in your area.  For example, here’s how much we spend on food and dining compared to others in NYC (yikes!):

Net Income

Here’s an easy way to spot a big problem - do you spend more than you earn?  How often? This bar graph in the lower left of the Overview page gives you a quick look.

Of course, if your income or expenses are uneven, this might have less value to you.  But the income/spend/net numbers at the bottom are good ones to be constantly aware of.

“Quick” Budgets

Mint automatically recognizes about how much you spend on certain categories and adds these budgets to the main screen.  This makes it easy to see where you are off track in a given month - spent $50 more on groceries than usual?  wow, why is that?  So if you hate budgets, this is a good way to still get a handle on your spending trends.

Investments

The biggest benefit to this is I can see all my accounts in one place.  This includes assets (my car) and liabilities (my mortgage).  So I can get a total picture of my net worth in seconds.

Comparison - You can easily compare the performance of your portfolio to S&P500 and other indicies.  Be careful though - your risk profile and asset allocation might not be expected to match one of these indicies.  But it’s good to get an idea of how to compare.

Best Performers/Worst Performers - this view let’s me see what’s working and what’s really stinking in my portfolio.  If I’m looking to get rid of something, I come here first.

Some issues. The investments tool still has some things to be desired.  On the Allocation screen, it would be great if it was broken up by actual asset type, as this would help you with your asset allocation.  For example, a bond mutual fund contains bonds, while a stock mutual fund contains stocks.  These are very different investments, and fall into two of the biggest asset-allocation categories.  However, in Mint both show up as “mutual funds”.

Another problem with the investment feature is it doesn’t grab historical transactions.  So you should add accounts asap, and then as time passes the features will become more useful.

Ways to Save

Mint is free.  The way they make money is by making you offers that will save you money (but make money for their partners), like increasing your bank interest rate, or decreasing the rate on your credit card.  The offers are very unobtrusive.  But I have yet to use one, mainly because I already spend a lot of time finding the best savings rates and because I never have a credit card balance.   But it might be useful for you.

Are you using Mint?  What do you think of it?  Are you using it in a cool way I haven’t talked about?  Share it with us in the comments!

Related posts:

1. Get Thee a Plan - Part 3
2. Stay the course - tips for navigating in a tough market

photo by emdot

These are tough times.  Everyone seems to be trying to save a little more, and spend a little less.  Watch out though, sometimes that ‘deal’ ends up costing you more than you think.

“Save money faster with double cash back.” ~HSBC credit card rewards ad

“It’s ok, it’s a tax deduction!” ~stupid person

“Buy two, get one free.” ~Walmart

Do you really need two?  or three?  Do you realize that a tax deduction is only a small discount? (at most equal to your marginal tax rate, and often much lower, as in the case of meals)  Are you starting to look for houses so you can get your $15,000 piece of the stimulus package?  Do you spend on credit cards more freely because you know you are getting rewards?

I call all of this “going broke saving money”. It’s very easy to fall into this trap.  I saw the HSBC ad above walking home from work today - man that pisses me off.  Credit card companies can really be vultures sometimes.  Always try to make purchasing decisions based on need, and then evaluate prices accordingly to get the best deal.  Think of the money saved or rewards earned as a bonus.  I guarantee you’ll be spending less money overall.

And please don’t buy a house unless you need a house, you find a good deal, and you have the money. Something is very wrong with your math if an extra $15,000 makes a house affordable.

Seen any other idiotic ads or have a story when you spent too much but didn’t realize your mistake after?  Leave it in the comments!

Related posts:

1. Weekend todo list: 10 ways to improve your finances right away
2. Mint.com just got sweeter: track your spending and investments too
3. How and why to improve your credit score