Guaranteed Returns?

Posted on April 4, 2009 by Adrian

In choppy and down markets it’s natural to be nervous … so, it’s no wonder that investors start to look at funds that purport to ‘guarantee’ your initial capital, your return, or some combination of both.

I have a close friend who is a financial adviser, who works strictly on a fee basis, yet his practice is associated with the products of one major insurance and fund management company.

He was telling me of the rise of these Absolute Return funds that work on the basis of not only guaranteeing the original amount that you invested, but also lock in your returns to date …

– in other words, if you invest $1,000 this year and the market falls, the fund guarantees to pay you back at least $1,000

– then next year is a good year for the market and your fund increases by 10%; now the fund guarantees to pay you back at least $1,100

– but, next year there’s another market crash and the market drops by 15%; but, the fund STILL guarantees to pay you back at least $1,100

– if you remain with the fund and the market eventually totally recovers, as soon as the fund value rises above your new $1,100 ‘guarantee’ then so does your return.

There have been plenty of systems that have produced similar results … they usually do this by some combination of insurance and/or derivatives (e.g. stock options). In fact, you could replicate some of these results for yourself simply by buying the right type and duration of stock option along with the underlying stock (or index).

The problem is that all of these end up costing you money: the insurance premium and/or options are bought out of your initial (or ongoing) investments. The ‘cost’ of these ‘guarantees’ comes as some combination of increased fees or reduced returns when compared to a similar fund that does not offer the ‘guarantee’ …. it’s that simple.

You can provide yourself a similar – or better – result at far less cost: buy a low-cost Index Fund and wait 30 years to cash it out; I can virtually ‘guarantee‘ an 8.5% minimum return 🙂

A little rain must fall …

Posted on April 3, 2009 by Adrian

triffids1 We left Chicago just before Christmas … it was one of the coldest winters that most could remember, certainly the coldest that I have experienced. The last day of school was canceled due to the cold, so my children didn’t even get a chance to say a final goodbye to their friends.

When we packed the house, we moved into a hotel down the road for a week – for the life of me, I don’t understand why suburban-Chicago hotels don’t have underground parking lots:

In the morning, ice built up on the inside of the windshield …

… I remember, when the temperature ‘warmed up’ for a day or so back to mere freezing (circa 32 degrees) that it felt quite comfortable: no heavy coats, hats or gloves required.

When living inside a refrigerator feels ‘comfortable’ you just know that something’s screwy with the weather!

So, we arrived in Melbourne on Christmas Day to one of the hottest summers on record. Our children’s first day of school was also canceled just a few weeks later, as the hot spell continued, due to the extremely hot weather … that’s the definition of ‘irony’.

And, I got around to contemplating the various ways to water the garden in our rental house, as Melbourne has been plagued by a drought with strict water restrictions:

The house has a rainwater tank – it fills up from rainwater that lands on the roof and is funneled via the gutters – with a fancy automatic pump that starts up as soon as you squeeze the spray-fixture attached to the hose … I used up the whole tank in just one watering of the garden and it hasn’t refilled itself since (well, it is finally full again now). Needless to say, I wasted my time … without another watering, the garden looked as bad as before.

Then, I noticed that I didn’t really need to water the back garden and most of the grass, because there is a very efficient ‘water dripping system’ in the back (but, not in the front of the house … that part of the garden that now looks, well, dead) that just drips the smallest amounts of water under a timer that is only allowed to run 2 hours twice a week … that seems just enough to keep the plants and much of the grass alive.

Finally – and, this is what filled the water tanks – it rained!

In fact, we had a whole series of rainy days (surprising, since it’s summer) that finally put out all of those horrible bush-fires that you may have heard about …

… not only did it douse the fires, but the whole garden has sprung up, and in the space of just a week or so even the weeds look like something from The Day Of The Triffids … seriously!

So, what I learned it that there are two ways to water your garden that work and one that doesn’t:

– You can drip, drip, drip feed your lawn water in the most efficient way, or

– You can water more deeply, less often, but it must be done a number of times, but

– BUT, you cannot simply dump your entire water supply on the garden once and expect miracles.

And, this story actually has something to do with money …

… you see, I think that there’s only two ways to make keep your ‘financial garden’ healthy, and at least one way to guarantee failure:

1. You can follow the Making Money 101 steps of drip, drip, dripping money into your savings account – being very careful not to soak up too much with excess spending – and gradually find your veggie patch bearing small fruit; enough to live on, if you have spartan needs,

2. You can regularly ‘deep soak’ your financial future by large – but, not too large (such that you are left with nothing in reserve) – and regular applications of finances into various Making Money 201 ‘income acceleration techniques – such as small businesses and/or ‘buy/hold, income-producing’ investments – some of which may actually take root and bear an abundance of fruit on their own,

but

3. You must not be foolish enough dump all of your financial resources into the One Big Thing [Insert Speculation of Choice: Lottery; Business Deal; Sports Contract; Stock Market Holding; etc.; etc.] and hope that it solves all of your financial problems in one fell swoop …

… it rarely does, and it’s no fun going back to ‘drip, drip, drip’ once you have tried and failed 🙁

7million7year's April Fools Day Joke!

Posted on April 2, 2009 by Adrian

OK, I promised myself that after my March Fools Day joke-with-a-message (you know, the horse racing system one) that I would NOT do an April Fools day post …

… apparently, promises are made to be broken 😛

So, yesterday’s April Fools Day Post was another joke-with-a-message: no matter how much you have, you can always spend more.

Yesterday’s post is actually (slightly) rooted in fact; I have made some errors recently, and the market has turned, so let me come clean:

– We bought our current home for about $1.6 Mill.; naturally, we paid cash.

But, after we cashed out on the second part of our 7m7y journey (the part that I have NOT yet written about on this blog, because it’s a business success story, not a personal finance success story like my 7 million 7 year journey), things took a turn for the ‘worse’:

– We upgraded to a $4.5 mill. home (plus $1 Mill. renovations to come: house/swimming pool/tennis court), and again paid cash … unfortunately, the market correction has probably wiped $500k – $1 mill. of value … but, this is ‘value’ that will only be realized when we sell (hopefully, we’ll be there for at least 10 to 15 years).

– We bought $300k of cars (for cash) but also managed to sell the Maserati

– I did indeed lose $600k in the stock market; this is the ‘cost’ of my experiment in letting somebody else manage a small part of my portfolio for me, and trying to time the market (bad AJC … bad boy!)

– And, I was due to receive a $3 Mill. ‘bonus’ from my ex-employer, that was to be delivered in cash, but ended up being delivered in now-reasonably-worthless stock (that 30 pence to 7 pence slide is real).

The two mistakes that we made were:

– We tried to time the market … however, $1 Mill. represents a small’ish % of our total portfolio

– We spent money on a house that we assumed that we would have, but didn’t get (i.e. the UK cash-to-stock thing).

So, right now, we have broken the 20% Rule … but, I counted cash, and after all of this (including completing the renovations) we still have a LOT of cash in the bank, plus the houses, plus equity in a number of apartments / commercial property, not to mention a ‘passive’ business or two floating around … I won’t have to ‘downgrade’ my $7 million 7 year mantle anytime soon [AJC: because, say, $3 million in 11 years just wouldn’t have the same ring to it, would it?] 🙂

Still, how are we going to ‘correct’? After all, we have broken so many Rules, it hurts me to think …

Well, exactly the same way that you would:

Some of it will come from simply waiting for the market to correct (that $600k stock loss will partially reverse, as will the 30-pence-to-7-pence UK stock slide) … some of it will come from making long-term buy/hold investments in this soft-to-recovering market over the next year or three … some of it will come from applying a large portion of the equity in the home (and selling the old one, when the market recovers) to investments (thus bringing us back within the 20% Rule).

But, the lessons are clear: always obey the Rules … do NOT speculate … and, heed Rick Francis’ Making Money 301 advice:

You really should [not] have to worry about affording needs anymore- you just have to control your wants. Also, you can afford to be more conservative in your investments. Making Money 301 should be a lot less risky as you only need to maintain your principle against your spending and inflation.

Where were you when I needed you, Rick? 😛

PS: In case you didn’t get to see the masthead that went with yesterday’s post, here it is … I’m particularly ‘proud’ of the by-line (something to do with noses, white powder, fast cars/girls) … unfortunately, all-too-true for too many people (but, definitely NOT me! Well, the fast car – singular – maybe). I don’t even know who the photo is of? Do you?

My 7 million dollar skid off the rails ….

Posted on April 1, 2009 by Adrian

richard-gal-400 I wrote a post showing my journey up the steep hill from $30k in debt to over $7 million in the bank in just 7 years …

… but, there’s no amount of money that you can have in the bank that protects you from excess and market corrections; just check out what’s happened to me over the last 12 or so months:

– I bought $8 Mill of property (my current $2 Mill. house plus my new $6 Mill. home) at the peak of the market using the 110% finance available to me (because of my status as a high net worth individual).

– I bought $300k of new cars (the BMW and the Lexus), again on finance

– I stuck most of the rest of my money in the stock market:

=> Gave $1 mill to my accountant to invest … lost $600k in a few weeks

=> Bought $3 mill of stock in my former employer’s company on the UK stock exchange at 30 pence per share … now worth 7 pence per share … lost 70%+

– Spent excessively on trips to Tuscany, around the world, around the US

– Bought expensive jewelery (that’s me in the picture) … also for my wife

– Picked up a nasty poker gambling habit and lost over $3 Mill to Joe Hachem (the Aussie who won the World Series of Poker a couple of years back) over a series of highly publicized heads up matches

Let this be a lesson that there’s NO AMOUNT OF MONEY THAT YOU CAN EARN/FIND/STEAL/MAKE/WIN/INHERIT/PRINT THAT CAN’T BE SPENT QUICKER THAN YOU GOT IT …

… got it?!

Let my pain be your gain …. read my new Net Worth IQ Profile and weep:

https://www.networthiq.com/people/7m7yApril1/

Good luck to you and your families … I quit!

What's your exit strategy?

Posted on March 31, 2009 by Adrian

My Dollar Plan asks: “What’s Your Exit Strategy?” giving the example of his father’s business:

My dad has been sick this week, and I’ve been spending a considerable amount of time with him at the hospital. Since he’s a successful small business owner for 30 years, we’ve spent some time discussing his plans for the future.

Since I’m in a very ‘anecdotal’ mood at the moment [AJC: Don’t worry, I’m sure it will wear off soon. Who could possibly be interested in my boring life? ;)], My Dollar Plan’s brief mention of his sick father reminds me of how I started in business:

I think that I’ve mentioned before about my father who started a little finance company in his 60’s after being unceremoniously ‘booted’ by his former partners, and for some unknown reason, we mutually decided that I should join him in that business as a 1/3 partner [whoohoo!].

A couple of years later, just as I realized that the business was in serious financial trouble, my father fell terminally ill. He was also unfortunate in that I wasn’t able to save the business, but I guess by bringing me in – had things not already been so screwed up (initially, well hidden from my view) – my father was creating the classic family business ‘exit plan’: bring in the children …

… bring one, bring all!

You see, my father’s Grand Plan, unbeknown to be when I joined, was to bring in both of my sisters as well … and, we had a wonderful 6 month period where he actually hired my younger sister and I would fire her the same day, then we would repeat the farce a week or two later, until he eventually gave up. Before you judge me too harshly, let me share two small snippets:

1. The business – as I found out all too late – could not afford me, let alone my sister, and

2. I would sit at my desk in the afternoon working at feverish pace trying to catch up on all the paperwork and phone calls (at the same time, naturally; who has time to ‘single task’ in their own business?!) having been ‘on the road’ all morning rushing from appointment to appointment; only to watch my sister working at snail’s pace on some basic task (I wish I could have taken a video of her very slowly and deliberately unstapling some papers sheet by sheet, by sheet, by …. [yawn] …. and, taking a minute’s rest between each sheet!), which drove me absolutely bonkers given the absolutely frenetic pace that I had to work at.

This also reminds me of the country’s richest families; the business empire was started by two brothers who opened a butcher’s shop together and parlayed that into a multi-billion steel and manufacturing conglomerate: realizing the family issues that would eventually be created upon succession (who would get/run what?), they deliberately broke up their huge conglomerate while they were still alive and in-charge and gave one division of the conglomerate to each child to own and run as their own.

Very clever exit plan: exit while still willing and able to handle the ensuing family ‘issues’ …

So, the point 0f all of this is that I am not a fan of family businesses; some run very well, but others don’t run at all.

Oh, and every business needs to have a ‘succession plan’ before you even go into it (i.e. before you either start it or buy it): work out how much you will need to sell it for, and by when, in order to achieve your Number/Date and go out and find that buyer as soon as you reach that predetermined profit/date target.

My balance sheet doesn't …

Posted on March 30, 2009 by Adrian

There’s an old accounting joke:

Q: What do you call a balance sheet that doesn’t balance?

A: An expensive sheet of paper! 😛

I don’t know if that really is an old joke because I think that I just made it up (actually, I just modified a really old joke about boomerangs) … but, the point is that balance sheets always DO balance; they have to, so once your accountant fiddles the numbers to produce the desired result what do you do with it?

If you’re anything like me, you file it under “who cares?” …

When I ran my businesses, I really struggled with understanding the numbers – as represented by the Profit and Loss (or Income) Statement and the Balance Sheet. My accountant didn’t even bother to run cashflow statements or forecasts for me, and I would have had no idea what to do with them if he did!

Yet, that opened me up to ‘success [or failure] by luck’ rather than by design …

My friend, Andee over at onesherpa.com, being a former Big Business bean-counter-type, understands the problem all too well and has developed a much better way of looking at the numbers in your business – or your life – called The Financial Fence.

Here’s what Andee has to say about the dreaded balance sheet:

You may have seen a balance sheet that shows; Assets minus liabilities equals Equity … [but] here’s how we do balance sheets in the 21st Century.
Working Capital Plus Fixed Capital equals Debt plus Equity.

Think about buying your first home. Probably looked like this:

Home (which equals Capital).
Paid for by:
Debt (borrowed from the banks),
Plus
Equity (contributed by you).

That’s how we do balance sheets because they make sense to the average person who has bought a home. It’s very easy for them to understand.

Think about your business for a minute:
You will have working capital (Inventory, accounts receivable, accounts payable, employee provisions etc.

You will have fixed capital (plant & equipment, motor vehicles etc).
And these will be paid for by:

Debt (borrowed from a bank) and
Equity (which is your wealth tied up in the business).

When you do balance sheets like this it becomes easier to understand what you’re accumulating and how you can use this to help you run your business.

This is a surprisingly simple yet powerful way to rethink your business/personal finances and I suggest that you learn everything that you can about it … to get you started, Andee has a great game, which I feel is a worthy rival to Robert Kiyosaki’s CashFlow series of games and which will really help you in your personal financial life.

15 seconds to say what took me three posts …

Posted on March 29, 2009 by Adrian

Scroll to about the 3.5 minute mark and listen for 30 seconds: that’s all it takes Warren Buffett to tell you what I’ve been trying to tell you in post-after-post about the folly of buying so-called ‘dividend stocks’ …

… why is he so quick?

First of all, Warren Buffett has credibility; secondly, he has a knack for summarizing things very neatly.

Now, Warren didn’t teach me how to think about dividends – to me, it’s just such clear common sense I can’t even understand the “pro-dividend for dividend’s sake lobby” – but, it’s nice to see that “The World’s Greatest Investor” puts his shareholders’ money where his mouth is 🙂

#1 reason to be rich?

Posted on March 28, 2009 by Adrian

moneyworries2 If you ask people why they want to be rich, the most common answer will be “so that I don’t have to worry about money any more” …

Think about it, no more money worries!

So, let me pop that little bubble for you:

MICRO

I went to the supermarket on Friday and duly handed over my credit card to the attendant who swiped it for me … only to find the TRANSACTION DECLINED.

What!? I thought that I put those days well past me? I called my wife who said that we must have max’ed out that card (it has a $17k credit limit!) that month and the scheduled payment hadn’t been processed yet, but didn’t I have another?

Well, I did have a ‘business’ credit card on me, as well, but that wasn’t the point … it appears that even rich people have credit card issues from time to time.

Not to worry, I just whipped out the old debit card and trotted off to the ATM, to find …. INSUFFICIENT FUNDS.

Now, I was confused … how could our bank account be empty? To be sure, it’s only a daily money needs account (not The Big One with all the zeros) but didn’t I just pop $15k in it, ‘to be safe’?!

Turns out that the debit card that I’ve been using is attached to an old bank account that we now just use to manage one of our properties … and, I’d unknowingly been using the wrong debit card and draining it with my day-to-day cash needs …. oops.

So, there I was shopping without any cash or credit cards; I solved the problem by rifling through the parking change sitting in my car (fortunately, there was about $50 or $60 just sitting in my center console) and even managed to lend $2 to a another ‘rich’ friend whom I happened to bump into the street as she was rifling through her purse for some cash to buy a loaf of bread from the bakery that I had just stepped out of.

Seems like she can afford a $3 house and $1 mill. renovations, but was equally ‘cash poor’ (on that particular day) as me …

… oh, the irony!

MACRO

Some people go through their wallets, handbags, coin jars, and various bank accounts adding up the bits and pieces to see if they have enough in the ‘kitty’ to buy that nice [insert discretionary item of choice: clothing; car accessory; concert ticket; etc.; etc.].

If my experience is anything to go by, it doesn’t stop when you become ‘rich’ … you see we suffer from budgeting problems, too.

It seems that a combination of market shifts and various stock market and housing market collapses and we have (relatively speaking) overspent on our house; not to mention, we haven’t yet sold our old house, and we have a complete ‘rehab’ of the newbie about to begin …

… and, herein lies the problem:

We provided our architect with a brief to draw up plans for renovations to fit a $450k renovation budget, which he assured us was not only possible but eminently achievable given the modest (if you can call adding a room, updating a kitchen, and refitting 7 bathrooms ‘modest’), mainly cosmetic, renovations that we had in mind

Well, when the quantity surveyor came in with an estimate of $890,000 for the renovations to the house – – this not including the costs to rehab the pool, tennis court, and redo the gardens etc. – I found myself doing what everybody else does:

In a panic I went through my “wallets, handbags, coin jars” – by way of checking all of the statements on my various bank accounts – adding up the ‘bits and pieces’ to see if we have enough in the ‘kitty’ to handle the cost blow out … thankfully, we do [AJC: you know, sometimes a mill. or two just seems to ‘slip through the cracks’, but when you add it all up, it’s still there after all … phew!].

So, if you need to find a reason to be rich, it had better be a very, very good one, because money ‘issues’ NEVER go away …

Paying down debt … an instant Net Worth fix?

Posted on March 27, 2009 by Adrian

I think we’ve covered this in brief before, but it’s a common – and, easy to make – mistake, so I thought that I should cover it again, here …

… Diane asks:

I’m withdrawing the funds in the IRA to pay [some of my] debt. So, is my Net Worth actually decreasing?

Unfortunately, that’s not the case; simply moving money between accounts (such as using some spare cash to pay down your home mortgage) doesn’t do anything to change your Net Worth, at least not on its own …

… it seems counter-intuitive, so try updating your NWiQ profile by, say, taking $10k from your retirement account and reducing one of your debts by the same amount … you’ll quickly see that your Net Worth does not change.

Here’s an example:

picture-5

Let’s assume that Diane currently has a Net Worth of $66k because she has some assets (including a $93k ‘retirement account’) totaling $259,500 but she has to pay debts (liabilities) of $193,000 (including a $33k credit card debt).

Now, let’s see what happens if she takes $10k out of her Retirement Account to help knock a hole in her expensive credit card debt (let’s also assume there are no taxes or other penalties involved):

picture-6

All that’s happened – from a purely Net Worth perspective – is that the Retirement Account has gone down $10k (to $83,000), but so has the credit card debt (from $33,000 down to ‘only’ $22,000). Do the math and it’s clear:

Diane’s Net Worth hasn’t changed … it’s still $66,000!

What will change is that Diane will earn less in her retirement account, but she will save more interest on her debts. I’m betting that paying the debt down (thus saving, what, 10% – 20% interest p.a.?) will put more money into her pocket than the 6% – 10% that she is ‘losing’ in long-term mutual fund returns (after fees and charges) …

… and, it’s what Diane does with THAT ‘found money’ that will dictate what happens to her future Net Worth 🙂

Building a better retirement account …

Posted on March 26, 2009 by Adrian

If I say “retirement account” what do you say?

“401k”?

Or, is there a better way …

MoneyMonk thinks that there may be, but only once you’re a millionaire:

If you can achieve your investment goals, at the same time taking advantage of the legitimate tax-shelters available to you (e.g. 401k, self-directed IRA, etc.), then you would be a fool not to do so

Agree, 401k is the best way I can shelter tax

Once you are a millionaire, I see why a person like yourself Adrian have no need for it.

Essentially, Money Monk is saying two things:

1. You would be a fool not to have a 401k if you can achieve your investment goals, and

2. You probably don’t need one once you are a millionaire

I’ll turn this over to Scott, who addresses both of these issues very nicely:

I think that’s the big point that many people are somehow still missing. The point is that you did not BECOME a multimillionaire by putting money in your retirement accounts. You BECAME a multimillionaire by focusing on building successful businesses(which required you to put all your available cash into developing those business, not stacking it away in 401k’s, Roth IRA’s etc..), as well as buying stocks and real estate.

I think many folks keep forgetting that the purpose here is to learn how to make 7 million in 7 years, not 2 million in 40 years and then get taxed on it anyhow when you withdraw it at ‘government declared’ retirement age.

And, Scott is right: if I had put money away into my 401k instead of investing it back in the businesses and in real-estate (I invested in stocks, at that time, mainly with what little was in my 401k-equivalents, which were self-directed), I’m pretty sure the blog that I would be writing today would be Frugal Living Until You Are Just On Broke … and, I WOULD be advertising: I’d need the extra $4 a week 😛

But, pursuing tax-savings – as part of a Making Money 201 wealth building program – is a noble, worthy …. and MANDATORY … goal if you truly want to become rich(er) quick(er) … it’s just that the 401k is typically not the right vehicle to foster an ‘early retirement strategy’, and the other government-sponsored programs also have their limitations (how long your money is tied up; what you can invest in them; and, more importantly for the BIG Number / SOON Date brigade: how MUCH you can invest in each) …

… so, by now, we know what NOT to do … but, what should we do to manage our tax expense (after all, if we pay less tax, we have more to invest)?

Well, let’s turn back to Scott who was your typical 35%+ tax bracket high-income earner:

As far as using retirement accounts to shelter tax,just to help the readers understand a little better, after my wife and I did our taxes at the beginning of the year, we realized that after all business deductions, real estate depreciation deductions and rental mortgage interest deductions, we only paid around 25% tax for the year on our income, which is substantial. This was about 10% LESS in taxes than we paid the previous year when we didn’t own such investments. Needless to say, that 10% savings over last year equals approximately the savings we would have made by putting money into a retirement account, but instead, we now have multiple business ownership and extra real estate. This was simply from our first year of dipping our foot into investing and being part of the 7 millionaires in training.

And this is only the beginning. I wonder how much less in tax we’ll pay next year by buying up appreciating assets and/or small business ventures?

No matter how much tax you pay next year, Scott, by investing in income-producing, appreciating assets – and, holding for the long-term in the right types of structures (trusts or companies) – I have absolutely no doubt that you will (a) pay less tax and, (b) return more than the average Doctor on the same salary who doesn’t …

… and, since you are one of the 7 Millionaires … In Training! I will show you exactly how to do it … and, anybody who wants to be a fly on the wall (better yet, participate in the open discussion) will be able to learn some valuable lessons, as well.

And, you can take that to the piggy-bank!

7million7years

How to make 7 million in 7 years …