Stocks — Part XXIV: RMDs, the ugly surprise at the end of the tax-deferred rainbow

 rising from bed

 Illustration courtesy of The Hindu

Someday, if all goes well and you haven’t already, you’ll wake up to find you’ve reached the ripe old age of 70 1/2. Hopefully in good health, you’ll rise from bed, stretch and greet the new day happy to be alive. You’ve worked hard, saved and invested, and now are  contentedly wealthy and secure. Since you’ve diligently maxed out your tax-advantaged accounts, much of that wealth might well be in those, tax deferred for all these years. On this day, if you haven’t already, you’ll begin to fully appreciate the “deferred” part of that phrase. Because your Uncle Sam is waiting for his cut and he figures he’s waited long enough.

Except for the Roth IRA, all of the tax-advantaged buckets discussed in Part VIII of this series have RMDs (required minimum distributions) as part of the deal and these begin at age 70 1/2. This includes Roth 401k and 403(b) plans. Those you can and should roll into your Roth IRA the moment you get a chance anyway.

Basically this is the Feds saying “OK.  We’ve been patient but now, pay us our money!”  Fair enough.  But for the readers of this blog who are building wealth over the decades, there may well be a very large amount of money in these accounts when the time comes. Pulling it out in the required amounts on the government’s time schedule could easily push us into the very highest tax brackets.

Make no mistake, once you reach 70 1/2 these withdrawals from your IRAs, 401Ks, 403(b)s and the like are no longer optional. Fail to take your full distribution and you’ll be hit with a 50% penalty. Fail to withdraw enough and the government will take 50% of however much your short fall is. That’s right, they will take half of your money. This is not something you want to overlook.

The good news is that if you hold your accounts with a company like Vanguard, they will make setting up and taking these distributions easy and automatic, if not painless. They will calculate the correct amount and transfer it to your bank, money market, taxable fund or just about anyplace else you chose and on the schedule you chose. Just be sure to get the full RMD required each year out of the tax-advantaged account on time.

Just how bad a hit will this be? Well, there are any number of calculators on-line and you can plug-in your exact numbers for an accurate read of your situation. Vanguard has their own, but so do companies like Fidelity and T. Rowe Price. To give you an idea of what the damage might look like, I plugged into Fidelity’s to provide the following example.

You’ll be asked your birth date, the amount of money in your account as of a certain date they specify (12/31/13 when I did it) and to select an estimated rate of return. I chose January 1, 1945, $1,000,000 and 8%. No, those are not my real numbers. In a flash the calculator gave me the results year by year. Here’s a sample:

Year        RMD       Age       Balance 

2015        $39,416       70        $1,127,000

2020       $57,611       75         $1,367,000

2025       $82,836     80         $1,590,000

2030      $116,271     85         $1,742,000

2035       $154,719    90         $1,750,000

The good news is that even with these substantial withdrawals, the total of our account will continue to grow. Of course, as we’ve discussed before, these are estimated projections. The market might do better or worse than 8% and it most certainly won’t deliver 8% reliably each year on schedule.

The bad news is, not only do we have to pay tax on these withdrawals, the amounts could push us into a higher tax bracket. Or two. This, of course, will depend on how much income you have rolling in from your other investments, social security, pensions and the like.

To give you a frame of reference, here are the tax brackets for 2014:

    • 0 to $18,150 — 10%
    • $18,150 to $73,800 — 15%
    • $73,800 to $148,850 — 25%
    • $148,850 to $226,850 — 28%
    • $226,850 to $405,100 — 33%
    • $405,100 to $457,600 — 35%
    • over $457,600 — 39.6%

Based on this we can see that, even with no other income, by age 90 our taxpayer’s RMD of $154,719 will put him in the 28% tax bracket even without considering any other income.

And that’s based on starting with only $1,000,000. Many readers applying the principles on this blog and starting in their 20s, 30s, 40s and maybe even 50s can easily expect to have several multiples of that by the time they reach 70 1/2.

Something important to note here, and that confuses many people, is that this doesn’t mean he pays 28% of the full $154,719 in taxes. Rather he pays 28% only on the amount over the $148,850 threshold of the bracket. The rest is taxed at the lower brackets on down. Should his other income bump him over the $226,850 threshold for the 33% bracket by, say, one dollar, he will only pay 33% in tax on that one dollar.

Of course, if you think of the RMD as the last money added, that is the money taxed at the highest rate. For instance, if he has $73,800 in other income, taking him right up to the 25% bracket line, any amount of RMD will be taxed at 25% or more.

It is worth noting that all of this is before any other deductions and exemptions, and those serve to reduce your taxable income. While looking at all the possible variations is a discussion beyond the scope of this post, we can consider an example. For 2014 a married couple gets a standard deduction of $12,400 and personal exemptions of $7900 ($3950 each). In effect this means they don’t reach the 25% bracket until their AGI (adjusted gross income) reaches $94,100. ($94,100 – $7900 – $12,400 = $73,800)

shrugging-shoulders girl

So is there anything to be done?

Possibly.

Assuming when you retire your tax bracket drops, you have a window of opportunity between that moment and age 70 1/2.  Let’s consider the example of a couple who retires at 60 years old, using the numbers above. They have a 10 year window until 70 1/2 to reduce their 401k/IRA holdings. They are married and filing jointly. For 2014:

  • The 15% tax bracket is good up to $73,800.
  • The personal exemption is $3950 per person or $7900 for our couple.
  • The standard deduction is good for another $12,400.
  • Add all this together and they have up to $94,100 in income before they get pushed into the 25% bracket.

If their income is below this $94,100 they might seriously consider moving the difference out of their IRA and/or 401k and taking the 15% tax hit.  15% is a very low rate and worth locking in, especially if 10 years from now their tax bracket could be twice that or more.  True they lose the money they pay in taxes and what it could have earned (as we saw with the Roth v. deductible IRA discussion in Part VIII), but we are now only talking about ten years instead of decades of lost growth.

So, if they have $50,000 in taxable income they could withdraw $43,700. They could put it in their Roth, their ordinary bucket investments or just spend it. Rolling it into a Roth would be my suggestion and is in fact what I am personally doing.

You don’t have to wait until you are 60 or even until you are fully retired to do this. Anytime you step away from paid work and your income drops, this is a strategy to consider. Especially if you find yourself in the 0%-10% tax brackets. This is a variation of the Roth Conversion Ladder the Mad Fientist shared with us in Part XX. However, remember the further away from age 70 1/2 you are, the more time you give up during which any money you pay in tax today could have been earning for you over the years.

There is no one solution. If as you approach age 70 1/2, your 401k/IRA amounts are low, you can just leave them alone. If they are very high however, starting to pull them out even at a 25% tax bracket might make sense. The key is to be aware of this looming required minimum distribution hit so you can take it on your own terms.

One final note. We’ve touched a bit on tax laws in this post. While the numbers and information is current as of 2014, should you be reading this a few years after publication, they are sure to have changed. The basic principles should hold up for some time, but be sure to look up the specific numbers that are applicable for the year in which you are reading.

 

Addendum 1: 

In the comments below, Kenneth points out that Roth 401k and 403(b) plans DO have RMDs, unlike Roth IRAs. The solution is to roll your Roth 401k into your Roth IRA as soon as the opportunity presents itself. One more, of many, reasons to move from your employer based plans as soon as you are able.

Addendum 2:

Also in the comments, Mr. Frugalwoods wonders if there isn’t a charitable giving option/solution to dealing with RMDs. How to Give Like a Billionaire

Addendum 3:

Reader Sean points out in the comments an exception to the age requirement, and his explanation is much clearer than the IRS FAQ he cites as his source:

Hi Mr. Collins – just thought I would point out that there is a way to defer taking RMDs out of your employer’s 401(k) plan.

The IRS code allows someone who is over 70.5 to defer taking RMDs if he or she is not a 5% (or greater) owner of the employer and still a current employee. Note that the plan’s legal document must allow for this (it is an employer option to write this into the plan’s legal document, and most do this – but it is always good to check with this much money, taxes, and a potential for 50% penalty on the line.)

So if you continue to work for an employer past age 70.5, and you have no ownership in the employer, you could choose not to have these withdrawals, if you plan allows.

See http://1.usa.gov/1v7brrI for RMD FAQs. FAQ #1 states this exception.

So theoretically, this could open up the possibility of rolling over all of your tax deferred monies into that employer’s plan, and continue to work, and defer RMDs into the future…

 

Posted in Money, Stock Investing Series | 37 Responses

Summer travels, writing, reading and other amusements

 

deer hugging

Katerina Plotnikova Photographs

Lake Michigan

The beach just steps out side the Shamba door

Summer is full upon us and so are the jlcollinsnh annual travels. This year we are headed back to our in-laws beach house on Lake Michigan in Wisconsin. It is a drop dead gorgeous setting with sandy beach stretching for miles in both directions. We call it Shamba, a Swahili word meaning, near as I can figure, a remote rural place. It is one of my favorite places in the world and we are fortunate that they graciously allow us its use.

In addition to walks on the beach, I’ll have some serious downtime to spend on the book. I’m about half way through the first major rewrite and with any luck will have rough manuscript completed by the time we leave. From there it is a process of polish, polish, polish.

Hacienda Cusin 2

Looking over the rooftops of Hacienda Cusin

We’ll have about a week back in New Hampshire before I head down to Ecuador for this year’s Chautauqua. We had an absolute blast last year and I am really looking forward to it. Plus being up in the Andes, it will be a welcome break from summer’s heat. While this event sold out in less than two weeks, word is due to cancellations we now have two spots open. If you are interested: Above the Clouds Retreats.

In my own post, Travels with “Esperando un Camino”, I talk about our prefered style of travel. This is what Somerset Maugham has to say:

“I admire the strenuous tourist who sets out in the morning with his well-thumbed Baedecker to examine the curiosities of a foreign town, but I do not follow in his steps; his eagerness after knowledge, his devotion to duty, compel my respect, but excite me to no imitation. I prefer to wander in old streets at random without a guidebook, trusting fortune will bring me across things worth seeing; and if occasionally I miss some monument that is world-famous, more often I discover some little dainty piece of architecture, some scrap of decoration, that repays me for all else I lose. I am relieved now and again to visit a place that has no obvious claims on my admiration; it throws me back on the peculiarities of the people, on the stray incidents of the street, on the contents of the shops.”

From The Skeptical Romancer

Same concept. He just says it more succinctly, with greater style and much more elegantly.

Meanwhile, here’s some random stuff that caught my eye and educated or amused me. Sometimes both.

aquascaping-4[2]

Charm of Light, designed by Timucin Sagel of Istanbul, Turkey

The landscape above is entirely underwater. As are these.

Urban Agroecoloy: 6,000 lbs of food on 1/10th acre

How talking about frogs leads to internet porn:  Explaining sex to an eight-year-old

Imagine you are a Martian sitting on your front porch sipping your morning coffee when this comes bouncing past:

How to get to Mars

Ever wonder what the journey to financial independence might look like in real-time? My pal the Mad Fientist is putting his Guinea Pig thru it right now:

Image

The Guinea Pig Experiment

Do you hate thinking, talking, reading about insurance? Especially life insurance? Me too. Might be why I never wrote about it for the blog. Now I don’t have to:

No one wears a bulletproof vest hoping to get shot

Yeah, it’s about insurance, but an easy and useful read anyway. Cool title, too.

How about taxes? Curious as to what your taxes might look like in retirement? While everybody’s situation will vary, here are two excellent posts from my pal Jeremy detailing his own tax strategy as he travels the world as an early retiree: Never pay taxes again and his actual 2013 tax return.

Space X falcon9-hero-1024x368

Reminiscing about the glory days of 2008 and losing 400k in the stock market

cat-canoe-gif

More on why VTSAX is the cat’s meow from:

Budgets are sexy and Thrifty Gal

Image

Sunk Costs: how to look forward not backward.

Here’s why jlcollinsnh.com can enjoy such a large European readership:

english speeaking -eu

Courtesy of Jakub Marian

  earth map on hands

What country fits you best?

The results say India for me. Well, I’ve been there a couple of times, but that was back in the ’80s. Might be time to go again!

World languages

Itchy Feet

Mad man philospher

Words of Wisdom from a (possibly) mad man

Selling Puppets in Manhattan

flower hooker's lips

“Hooker’s Lips” and other bizarre flowers

Coca-Cola magazine ads from 1960s (5)

See that thing on the guy’s finger. That’s a pull-tab, the way cans were opened once upon a time. They found their way onto the ground everywhere. People used to speculate as to what archeologists would make of these things in the distant future. I haven’t seen one in decades.

Here are more Coke ads from the 1960s. Slices of life back in the day.

In my Manifesto I end by saying: Read.

There is nothing you can’t learn, no place you can’t go, if you read.

So let me end this post with a few of the books I’ve read of late and highly recommend:
While out in New Mexico this past May, my friend Trish handed me a book of short stories by Somerset Maugham. She had marked three for me. I had heard of Maugham of course, but somehow never got around to reading him. I finished those three stories that night and was hooked. Returning home I picked up this one:

Maugham’s The Razor’s Edge might now be my all time favorite novel, although I still love Cold Mountain. Written in 1943 and set in the 1920s, it is the story of engaged Larry and Isabel. One who wants the free-spirit life of roaming and learning and the other who craves the luxuries and status wealth can provide. The dialog that leads to them to take their separate ways is stunning. Fun, but also an important read for those walking a different path.

In my luggage as we head to Shamba are two more of his novels, a collection of short stories and a collection of his travel writings. I’m not sure if these will inspire me in my work on my own book, distract me from it completely or leave me too discouraged in the face of such superb writing to continue with it. But I know I’ll enjoy the reading of them.

The 100 Year Old Man is laugh out loud funny and the story of an amazing life that unfolds simply by following fate where it leads.

Wash is a beautifully written and constructed novel set in the early 1800s. It is about slavery without all the clichés to which books about slavery typically fall prey.

Back in March while in Antigua, Guatemala more than once I’d stop by Sobremesa for a late dinner. The crowds had cleared by then and what was left was always an interesting mix of characters. One traveler was carrying Shantaram. Alex, the joint’s owner, reached below his counter and produced his own copy. At some 900 pages it is an intense travel adventure that will have you literally tasting the flavor of India as you read. Perfect book for your travels, exotic or home based.

One last thing. Sometime this winter I’m thinking of traveling to Uruguay and/or Argentina. If you happen to live there and/or have a connection and might be interested in meeting and offering some suggestions, please let me know.

Enjoy your summer!

Addendum – Ethical InvestingOverall I am not a fan of ethical investing. Not because, I hope, I’m not ethical but because anytime you ask investments to do more than make money for you, you begin to ask too much. Plus what is ethical is subject to very wide interpretation. Still it is a question that is important to many people and it comes up around here on a regular basis. My friend, FF, just published this excellent post both describing ethical investing and making the case for it. When the question comes up in the future I’ll just link to it. :)

Posted in Life, Random cool things that catch my eye | 35 Responses

Moto X, my new Republic Wireless Phone

moto s

Moto X, my new phone

Long-term readers might recall my original review of Republic Wireless and their dreadful Defy XT phone last October. In short, I said great company to deal with, but wait until they make the Moto X phone available before you sign up. Having dealt with the Defy XT since then, that was excellent advice.

The good, no make that great, news is the Moto X has been on the market for a while now and I just got mine a couple of weeks ago. It is light-years better and a piece of technology that actually has made my life better and cheaper.

Better because the Moto X is far more user-friendly and cheaper because now I can switch between plans. With the new Moto X phone they are now offering four different plans. Here they are, as described by RW and cribbed directly from their website:

$5 Wi-Fi only plan
This is the most powerful tool in your arsenal of options. Why? You can drop your smart phone bill —at will— to $5. If you’re interested in getting serious about cutting costs, you can use this tool to best leverage the Wi-Fi in your life to reduce your phone bill. It’s also the ultimate plan for home base stickers and kids who don’t need a cellular plan. It’s fully unlimited data, talk and text —on Wi-Fi only.

 $10 Wi-Fi + Cell Talk & Text
One of our members, 10thdoctor said :  “I use WiFi for everything, except when I’m traveling and for voice at my school.” Yep, this is the perfect plan for that. Our members are around Wi-Fi about 90% of the time. During that 10% of the time where you’re away from Wi-Fi, this plan gives you cellular backup for communicating when you need to. This plan both cuts costs and accommodates what’s quickly becoming the norm: a day filled with Wi-Fi.

$25 Wi-Fi + Cell (3G) Talk, Text & Data
Lots of people are on 3G plans today and are paying upwards of $100 a month on their smart phone bills. That’s nuts. This plan is here for you during the times when you need the backup of cell data. For folks who want to surf Facebook and check email in the car (as a passenger!) or who travel regularly for work, this option lets them enjoy all the benefits of Wi-Fi with the luxury of 3G cellular data. You may find you only want this cellular back up part of the month —no problem! Switching during the month to the $5 or $10 plan is easy, and is a great way to keep more money in your wallet.

 $40 Wi-Fi + Cell (4G) Talk, Text & Data
We heard you tell us that you wanted a super fast option, so we added this arrow to your quiver. This plan is here for you when you’ve got a road warrior kind of month, and you’ve got a serious need for speed. Have to get work done on a long train ride? And need to work fast? This is your guy. Just like the other plans, it’s just a few clicks away.

Will I be able to switch between plans?
Yes! When you purchase a new Moto X phone, you’ll be able to choose whatever plan you like—and you can also switch plans up to twice per month as your needs change. For example, if you know you’ll be taking a vacation and might require more cell data one week, you can switch to a cell data plan right from your phone and then switch back to a Wi-Fi “friendlier” plan once you return home.

That ability to switch as your needs dictate has been pretty sweet for me. Mostly the $10 Plan serves my needs just fine, and that’s half the cost of the $20 per month I was paying with the Defy XT. When I travel domestically, I’ll bump up to the $25 plan so I can pick up the internet on the road. For my international trips I’ll drop down to the $5 Wi-Fi only plan since that’s all that works overseas anyway.

My wife picked up the new and less expensive Moto G phone and she likes it just fine. In fact, I’m hard pressed to tell the difference, although I’m told the X takes better pictures. But then our needs are modest.

So now, unlike my review last Fall,  I can recommend both Republic and their phones without reservation. If you’d like to give it a try yourself, just click on the ad below. By way of full disclosure if you sign up, this blog will earn a commission.

Since the Deft XT is my only other smart phone experience, I also asked my more tech-savvy pal Lito what he thinks of his new Moto X. You might recall Lito from the cool guest post he wrote: Cafe No Se. Here are his comments:

    • Big screen
    • Great graphics
    • Quite fast with in-phone processing (not including surfing the web)
    • Surfing is still quite good for $25/mo but it’s no I-Phone and depends on service
    • Surfing on wi-fi is pretty damn fast
    • The phone has a really cool operating system. It walks you through tons of features that it has. It really personalizes with you, and helps you get there. This was helpful since I haven’t used fancy technology in a long time (Lito has spent the last few years in Guatemala, where I met him) and feel like I missed the gap. I think this would be spectacular for an older audience that is intimidated by technology.
  • I love the company. I’ve had only the fastest/friendliest/best service. It feels so much more personal than any other company I’ve had before.
  • Call quality isn’t amazing, but it’s pretty good.
  • The speakers are really, really good for listening to music. Super loud, clear, and with a great range. This phone is nice if you want mobile music.
  • I really like the swipe texting. It’s a lot more intuitive than you’d think. It’s almost always spot on. Truly incredible.
  • 8GB seems like plenty of room for photos and a little music and some games.
  • I like how google links up lots of my things together without me paying attention. For example it gave me an update on my flight status even though all it must have had for info was an email somewhere. I programmed nothing as a reminder.
  • Even though the only change I made was upgrade from $10 to $25 I love the feeling that there’s no contract. You already know that, though.
  • Short battery life, but charges fast, too. Dead to 100% in about an hour and a half. (Battery life has been fine for me, but then I’m coming from the Defy XT where it was a real issue.)
  • It sounds weird, but I don’t like that when I set it down on the counter or whatever that the screen almost always auto rotates to widescreen. I realize I can set it to lock, but I like the rotate option. I think it’s just too sensitive. (Ha! I had never noticed this, but yep it does. Not an issue for me.)
  • The phone screen is confusing and I often call people accidentally just by holding the phone. If part of my hand wraps around the screen I touch a contact and it dials. I really don’t like that. It’s annoying.
  • The “Ok, Google NOW” touchless control is a little disappointing. I thought I was going to be able to have a sort of dialogue with the phone by giving it direct commands like “search my email for bla bla bla” but the majority of things I want to accomplish just end up as a search in a google bar.
  • Sometimes I feel like the phone is really hot in my pocket and I think  it’s plotting to take over the world or something. It’s obviously running programs or something and I know it’s burning battery. This may be a factor of its “always on” mode. At any time if you say “Ok, Google now” it’ll respond. That must cost a lot of battery. These things can be turned off, though.

If you have experience with Republic and any of their phones, please share your thoughts in the comments. Thanks!

Posted in Life, Stuff I recommend | 40 Responses

Stocks — Part XXIII: Selecting your asset allocation

ying yang

Life is balance and choice. Add more of this, lose a little of that. When it comes to investing, that balance and choice is informed by your temperament and goals.

If I had it to do over, this blog would be likely named The Simple Path to Wealth after one of my very earliest posts and currently the working title of my upcoming book.

Financial geeks like me are the aberration.  Sane people don’t want to be bothered.  My daughter helped me understand this at just about the same time I was finally understanding that the most effective investing is also the simplest.

Complex and expensive investments are not only unnecessary, they under-perform.  Relentlessly fiddling with your investments almost always leads to worse results. Making a few sound choices and letting them run is the essence of success, and the soul of the simple path to wealth.

If you’ve read this far in the Stock Series you already know this. You also know that, with simplicity as our guide, we look at our investing lives in two broad stages using just two funds:

The Wealth Acquisition Stage and the Wealth Preservation Stage.  Or, perhaps, a blend of the two.

VTSAX (Vanguard Total Stock Market Index Fund) and VBTLX (Vanguard Total Bond Market Index Fund)

The wealth acquisition stage is when you are working and have earned income to save and invest. For this stage I favor 100% stocks and VTSAX is the fund I prefer. If financial independence is your goal, your savings rate in these years should be high. As you invest that money each month it serves to smooth out the market’s wild ride.

You enter the wealth preservation stage once you step away from your job and regular paychecks and begin living on income from your investments. At this point I recommend adding bonds to the portfolio. Like the fresh cash you were investing while working, bonds help smooth the ride.

Of course, in the real world the divisions might not always be so clear. You might find yourself making some money in retirement. Or over the years you might move from one stage to the other and back again more than once. You might leave a high-paying job to work for less at something you love. For instance, in my own career it was never about retirement and there were many times when I stepped away from working for months or even years.

But using this framework of two stages and two funds, you have all the tools you need to find your own balance. In determining that balance you’ll also want to consider two additional factors: How much effort you are willing to apply and your risk tolerance.

Effort

For the wealth acquisition stage an allocation of 100% stocks using VTSAX is the soul of simplicity. Further, most studies have shown that this allocation provides the best return over time. But not all. Some studies suggest that adding a small percentage of bonds, say 10-20%, actually outperforms 100% stocks. You can see this effect by playing with this calculator: Vanguard Retirement Nest Egg Calculator You’ll also see that adding too great a percentage of bonds begins to hurt results.

Now remember that these studies are not carved in stone and like all calculators this one relies on making certain assumptions about the future. The difference in projected results between 100% stocks and an 80/20 mix is tiny. How those results actually unfold over the decades is likely to be equally close and the ultimate winner is basically unpredictable. For this reason, and favoring simplicity, I recommend 100% stocks using VTSAX.

That said, if you are willing to do a bit more work, you could slightly smooth out the wild ride and possibly outperform over time by adding 10-25% bonds. If you do, about once a year you will want to rebalance your funds to maintain your chosen allocation. You might also want to rebalance anytime the market makes a major move (20%+) up or down. This means you will sell shares in whichever asset class has performed better and buy shares in the one that has lagged.

Ideally you will do this in a tax-advantaged account like an IRA or 401k so you don’t have to pay tax on any capital gains. Having to pay capital gains taxes would be a major drawback and another reason to focus on holding just VTSAX. This rebalancing is simple and can be done online with Vanguard. It should only take a couple of hours a year. But like changing the oil in your car, it is critical that you actually do it. If you like this idea but are unsure you’ll remember to rebalance or simply don’t want to be bothered, here are two fine options:

Betterment

Target Retirement Funds

Both allow you to choose your allocation and then they will automatically rebalance for you. They cost a bit more than the simple index funds you’d use doing it yourself — you are paying for that extra service — but they are still low-cost.

Risk

Basically, bonds smooth the ride and stocks power the returns. The more you hold in stocks the better your results and the more gut wrenching the volatility you’ll be required to endure. The more bonds, the smoother the ride and the lighter the results. If you are going to hold stocks you need to be mentally tough enough not to panic when they plunge. And make no mistake, over the decades you own them, plunge they will. Usually at the most unexpected times.

There is a major crash coming and you’ve got to…

tougher up cupcake

…because nobody can predict when, despite all those claiming they can.

Let’s be clear. Everybody makes money when, as it has now since 2009, the market is on the rise. But what determines whether it will make you wealthy or leave you broken and bloody at the side of the road, is your ability to stay the course and ride out the storms. If you have any doubt as to your ability in this regard, you will be better off avoiding stocks. Regardless of what the calculators say.

Factors to consider in assessing your risk tolerance.

Temperament. This is your personal ability to handle risk. Only you can decide, but if ever there was a time to be brutally honest with yourself this is it.

FlexibilityHow willing and able are you to adjust your spending? Can you tighten your belt if needed? Are you willing to move to a less expensive part of the country? Of the world? Are you able to return to work? Create additional sources of income? The more rigid your lifestyle requirements, the less risk you can handle.

How much do you have? As we’ve discussed, the basic 4% rule is a good guideline in deciding how much income your assets can reasonably be expected to provide over time. If you need every penny of that just to make ends meet, your ability to handle risk drops. If, on the other hand, you are spending 4% but a big chunk of it goes towards optional hobbies like travel you can handle more risk.

Taking all these considerations into account, here’s what we do personally:

Our daughter is just beginning her career and her wealth acquisition stage. She wants things to be a simple as possible. She is 100% in VTSAX and likely will be for decades to come.

I am retired and my wife will be shortly. Assessing the three risk factors above our personal tolerance is very high. We hold an aggressive allocation of 75/25 stocks/bonds. The more common and conservative recommendation for our age would be 60/40 or even 50/50.

Our allocations very well might not fit your needs. But this post should give you an idea of how to approach the question and reading the Stock Series will help you understand just what you are dealing with when investing in the market. After that, you have to know yourself.

FAQ:

What if I can’t buy VTSAX, or even Vanguard?

What if I live in Europe?

What would the bursting of the bond bubble look like? (Thanks to Kenneth in the comments for this one)

When should I make the shift into bonds?

This is very much a function of your tolerance for risk and your personal situation.

For the smoothest transition you might start slowly shifting into your bond allocation 5 or 10 years before you are fully retired. Especially if you have a fixed date firmly in mind.

But if you are flexible as to your retirement date and more risk tolerant, you might stay fully in stocks right up until you make the change. In doing so the stronger potential of stocks could get you there sooner. But if the market moves against you, you’ll have to be willing to push your retirement date back a bit.

Of course, anytime you shift between the acquisition and preservation stages, you’ll want to reassess and possibility adjust your allocation.

Balance and choice. Yin and yang

Does age matter?

As you’ll note from above, I’ve divided investment stages by life stages rather than using the more typical tool of age.

This is an acknowledgment of the fact that people are living much more diverse lives these days. Especially the readers of this blog. Some are retiring very early. Others are retiring from higher paid positions into lower paid work that more closely reflects their values and interests. Still others, like I did, are stepping in and out of working as it suits them, their stages fluidly shifting.

So age seems not to matter. At least not as much as it once did.

But that said, age does begin to limit your options as it advances. Age discrimination is a very real thing, especially in the corporate world. As you get older you may not have all the same options readily available as in your youth. If your life journey involves stepping away from highly paid work occasionally, you’ll do well to consider this.

Further, as you age you steadily have less time for the compounding growth of your investments to work.

Both these considerations will influence your risk profile and you might well want to consider adding bonds a bit earlier if that’s the case.

Is there an optimal time of year to rebalance?

Not really. I’ve yet to see any credible research indicating a particular time of year works best. Even if someone were to figure it out, everybody would rush to it negating the effect.

I do suggest avoiding the very end/beginning of the year. It is a popular time for rebalancing and many are engaged in tax selling and new buying. I prefer to avoid the possible short-term market distortions might cause. Personally, we rebalance once a year on my wife’s birthday. Random and easy to remember.

I have some of my investments in tax-advantaged accounts and some in regular accounts. How can I rebalance across those?

This can be cumbersome and you’ll just have to work with what you have. While it is best to hold bonds in tax-advantaged accounts, it does complicate rebalancing.

First, you should be considering all your investments as a whole when figuring your allocation.

Next, as a rule it is better to buy and sell in tax advantaged accounts to avoid creating taxable events.

Unless you happen to have capital loses in a given year. Then it is best to take them in your taxable accounts when possible.

For instance, you might own VTSAX in both an IRA and in a taxable account. Should you need to sell to rebalance that year, sell in the taxable account to capture the loss. You can deduct it against any other gain you happen to have, including any capital gain distributions. You can also deduct up to $3000 against your earned income. Any loss leftover you can carry forward to use in future years.

Does more frequent reallocation improve performance?

Some contend it can over time. Betterment makes this case. I’m not sure I fully buy the premise, but I do like the way they use your new contributions and any dividends to make it happen efficiently. It is a bit more work, but if you like you can also do this yourself with your index funds.

What might my taxes look like in the Wealth Preservation/retirement stage?

While everybody’s situation will vary, here are two excellent posts from my pal Jeremy detailing his own tax strategy as he travels the world as an early retiree: Never pay taxes again and his actual 2013 tax return.

There you have it: The considerations you’ll need to review and the tools you’ll need to use to create the asset allocation that best fits your situation. I’d be very curious to hear what your asset allocation looks like and why. Please leave a comment if you are willing to share. Oh, and let me know if I missed anything that belongs in the FAQ.

Posted in Money, Stock Investing Series | 84 Responses

Stocks — Part XXII: Stepping away from REITs

Image

Samsara

An original painting by Alex Ferrar*

Last week I received a comment from a reader named Paul. In it he asked this very provocative question: “Curious why you view REITs as an inflation hedge any more than stocks are an inflation hedge.”

As it happens, that’s a question I’d been pondering a lot of late. Regular readers will know, as described in the posts What we own and why we own it and Stocks Part VI: Portfolio ideas to build and keep your wealth, I personally keep 25% of our portfolio in REITs. Specifically VGSLX (Vanguard REIT Index Fund).

Real Estate Investment Trusts (REITs) are mutual funds that invest in real estate. My thinking was they would serve as an inflation hedge. The idea being in times of inflation people flee cash and buy tangible assets, like real estate. The fact that VGSLX pays about a 3.5% dividend was a bonus.

Now while I like to receive dividends as much as the next guy, for reasons I lay out in the post Dividend Growth Investing I am not a fan of pursuing them as a portfolio strategy. Suffice to say the dividends were a very distant secondary consideration. Still, they provided a stark advantage over, say, gold.

The point Paul was correctly making is that stocks also serve well as an inflation hedge. It is a point I’ve also made, for instance in the first of those posts linked to above:

Stocks are, over time, a fine inflation hedge. People forget that stocks are not just pieces of paper.  Stocks are pieces of ownership in operating businesses. Sales, inventory, plants, equipment, brands et al.  All of which rise in value with inflation.”

My concern was that during periods of intense hyper-inflation that might not hold true and the damage to the economy would overwhelm the ability of businesses to deal with it. Real estate as a tangible asset held by my REITs, would hopefully do better.

For inflation of modest to modestly severe levels this might well be true. Although, upon further reflection, not so much as I might have hoped. Worse, should the problem ever reach hyper-inflationary levels, REITs would very likely fair no better than the broad portfolio of stocks held in an index fund like VTSAX.

The problem is that REITs are made up primarily of companies that hold office buildings, apartment buildings and the like. Once you put a building on a piece of land it effectively becomes a business with the same potential and shortcomings of other businesses. That’s fine in times of normal to high inflation. In times of hyper-inflation we’re asking too much of it.

Here, with some editing for space, is the rest of my conversation with Paul starting with my initial reply. If you are interested in the unedited version you can read it in its entirety on Ask jlcollinsnh starting on May 21, 2014.

jlcollinsnh:

Inflation is, of course, the process of prices increasing. For the last several years the Federal Reserve has been trying hard to ignite a bit of it into the economy. Mostly to stave off the prospect of deflation and collapsing prices, but also because modest inflation, as you suggest, is good for businesses. It allows them to raise prices and wages while posting greater profits.

The problem comes when inflation rages out of control. In that scenario, business finds it far more difficult to keep up. Credit becomes tight and extremely expensive. Lenders demand huge interest rates to compensate for the increased risk of being paid back with currency rapidly dropping in value, perhaps to the point of worthlessness, as in Germany in the 1930s.

All of this combines to overwhelm a company’s business and in the process destroys the value inflation would have otherwise created.

In times like these, money flees into tangibles and real estate is perhaps the most favored.

Of course, REITs are made up of real estate businesses like office and apartment buildings. These are also not immune to serious hyper-inflation.

I confess that sometimes I wonder if I really need the REITS and holding just stocks and bonds appeals to my preference for simplicity. But each time I review it the value of the extra (if not perfect) hedge wins out. The higher dividends don’t hurt either.

As you might be able to tell, I wasn’t entirely comfortable with this explanation. Since I had the sense that Paul is an astute guy, I asked him for more on his perspective.

Paul:

So this will be somewhat a whacky economist’s point of view (both my job and education).

I guess part of my reluctance to buy into REITs is from looking at the fundamentals. Land itself is not a productive asset. Therefore, unlike stocks which are based on companies, it cannot increase in productivity. Any capital gains on real estate is due to some other factor.

Now, this can be for legitimate reasons (I live in Houston and houses are getting more expensive due to an influx of people), but it can also be for silly reasons. Up until the late 90′s when we as a country decided everyone should own a home and incentivized it, housing prices essentially tracked inflation. There were no capital gains.

http://cdn.uncommonwisdomdaily.com/wp-content/uploads/moneyandmarkets.com/UWD/104/housing-prices.gif

That means if I am hoping for anything in excess of the high dividend I have to assume the REIT owns property where demand is increasing, or rely on the government to continue to incentivize or boost real estate sales somehow. I suspect (and this is my wild guess) that the latter is not sustainable indefinitely. I already rent on a 6 figure salary because housing is a poor deal and I live in one of the cheaper big US cities.

Now, the higher dividends are nice, but the economist in me is doing some NPV (net present value) discounting and wondering if that’s not just trading dollars now for higher dollars in the future. That’s not to say that’s a bad decision if my time value of money is lower than most people. I suspect that is a true statement for most people on this website.

To get back to my original question, as far as why REITs for an inflation hedge, the problem I still have is this:
At best, they will beat stocks when we are incentivizing home ownership. At worst, they are likely (on average) to match inflation from a capital gains point of view and provide a healthy dividend. Now, neither of those is bad, but neither captures the value of increasing productivity like the stock market does.

The reason I’m asking here is because I can’t find good data on the historical returns of real estate vs stocks. Most of it is focused from 2000 onward.

As far as the potential for hyperinflation, I’m not sure either asset will do great in those cases. I can’t imagine selling a house is much more fun than selling a burger in a time of hyperinflation.

Essentially I still kind of see REITs as similar to investing in gold. Any capital gains rely on changes in demand and supply rather than fundamental increase in productivity. Caveat here that real estate is at least far more useful than gold, which is why you see the higher stability in prices.

Anyway, thanks for your thoughts. I don’t disagree with any particular point, but like you I wonder if REITs are needed. Right now I own none, and I am leaning toward staying with just stocks and bonds.

As you can see Paul not only reinforced my growing misgivings as the the usefulness of REITs during times of hyper-inflation, he also points out several of their other short comings. My reply:

jlcollinsnh: 

Thanks, Paul, for the great and well thought out analysis. Very helpful as I re-evaluate my thinking on these things.

I’ve held them for the hedge against high to hyper inflation and to a much lesser extent for the income. While something like land might serve this role, it occurs to me once you start adding buildings RE has really become a business like any other and as such it is just as susceptible to the ravishes of hyperinflation as any other.

REITs, of course, hold mostly apartments and commercial buildings. I’m very close to changing my position on this. With that in mind, any further REIT thoughts? Also, what would your choice be for a hedge against hyperinflation? My guess is most would say gold. But I gather that, like me, you are not a fan of the metal….

Paul

You’re correct that it wouldn’t be gold for me.

Honestly, I take MMM’s wild optimism here. I assume it’s not going to happen. There’s a few reasons for this.

Primarily, hyperinflation is just hard to plan for and to truly be protected from it I think you’d have to allocate a huge amount of resources that will then otherwise underperform.

Secondly, if the US goes in to hyperinflation I think the saying “You can run, but you can’t hide” would become painfully clear to the whole world. The US economy is such a central feature to the world economy that I think it would be hard to avoid the consequences with any typical assets.

Thirdly, if we look at the German stock market performance during their hyperinflation, it’s really not that bad, even in USD terms.http://www.businessinsider.com/heres-what-happened-to-stocks-during-the-german-hyperinflation-2011-11
Not bad as far as hedging a black swan.

Lastly, I think it’s something you could somewhat see coming. Once you know hyperinflation has arrived, I’d do things like hold foreign currency and/or say, cattle. I’d still avoid gold because foreign currency is a better medium of exchange and a steak is way more useful to someone on a monthly basis than a gold brick. In basically every hyperinflation situation we see that people are remarkably flexible. Barter systems spring up, so goods that are useful short-term (food, gas, clothes, etc) are going to maintain similar relative values.

Due to all of that, I just don’t really think it’s a situation worth hedging against. Ultimately, going back to MMM’s optimism, the most important asset during hyperinflation is me. If I can maintain my usefulness, I can make my way through hyperinflation. I’m sure it’d set financial independence back for me (or mess up plans for those already in it) but long run, we’ll be okay.

As far as last thoughts on REITs, after our discussion I’d have to say this. I think they have their place in more active portfolio (say someone who does growth, value, small cap type break downs). I think there they can make sense so long as you are following market conditions and keeping up with potential legislation as far as home ownership. Otherwise, in a fire and forget type portfolio, I have to agree with your conclusion, they’re essentially a specific business, and I think they won’t offer any substantial difference compared to a stock/bond portfolio.

I think international exposure would give more diversification although even that seems to correlate more and more with US performance. I lean toward the keep it simple approach. I enjoy talking about this stuff, but I don’t enjoy tracking finance news to the level required for anything beyond a big dumb stock/bond index portfolio.

If you want real estate as a hedge to hyperinflation (along the lines of my cattle ownership) I think you’d have to physically own the land with all the joys that entails.

So, there you have it. While the REITs have been a solid performer for us, they really aren’t well suited for the serious inflation protection role for which they were bought. For these reasons,

later today I’ll be entering an order to

sell our REIT fund VGSLX and roll it into VTSAX.

Since these are mutual funds rather than ETFs, this trade will execute at the market’s close. When the dust settles our allocation will be 75% stocks/25% bonds. (It had been ~50% VTSAX, 25% Bonds and 25% REITs) Since REITs are a form of stocks, essentially our allocation remains the same.

But what about an inflation hedge?

Well, first remember that stocks serve that function well in all but the worst hyper-inflationary times. Then take a look at that last link Paul provided on how the German market performed during the 1930 when they went thru perhaps the most famous hyper-inflation in the developed world’s history. Pretty encouraging, especially considering that true hyper-inflation is a pretty rare thing and, as Paul suggests, something that we should be able to see coming. But I am pondering some alternatives, some along the lines Paul mentions.

Harry Browne wrote one of my all-time favorite books:

But I am not a fan of his “Permanent Portfolio,” the idea that by holding 25% of your money in each of four simple asset classes — stocks, long-term treasury bonds, gold and cash — you are set for most any disaster. No matter what should happen, one of these assets should be a winner:  prosperity (stocks), inflation (gold), deflation (long bonds), and recessions (cash).

The problem with this, as I see it, is that financial disasters are actually rare events. Structuring a portfolio focused on disaster carries a very high cost in lost opportunities when times, as they most often are, are more normal and prosperous.

The value of cash is relentlessly eroded over time by even modest levels of inflation. Gold, Browne’s inflation hedge, has no earning potential. In fact some, like William Bernstein (from this Forbes article) suggest that gold isn’t all that good an inflation hedge anyway:

“Commodity producers, it turns out, have worked better.  The cheapest solution is to hold an internationally diversified stock portfolio, so that rampant inflation in the U.S. can be offset by more stable returns from foreign stocks.  A long-term, fixed rate mortgage tied to a house not purchased in a bubble will also offer an offset.  Finally, there are inflation-protected bonds (TIPS) for those who want them.”

Well we already own the commodity producers in VTSAX and TIPS are paying well under 1% in interest, making them very expensive inflation insurance.

A long-term mortgage is an interesting idea as in effect you are shorting the US dollar. The major drawback being the inflation protection is heavily weighted toward the early years and disappears completely as it is paid off. As Brett Doyle says in his comment on my post Why your house is a terrible investment (See Addendum #3):

“Having a mortgage is a great way to short the US dollar because of the long maturity and low rates…make sure to constantly take all of the equity out…because our society has decided that homes are the “chosen” asset class and distorts the market by redirecting resources into mortgages it makes sense to buy a home. I would never even consider buy a home with my own money, but hey, if the US taxpayer and a bank is dumb enough to loan me several hundred grand at 3% for 30 years and give me a tax deduction sure why the hell not.”

But what really caught my eye was this suggestion: “an internationally diversified stock portfolio.” Very intriguing. Even more so when in the same article it is claimed this is also a sound deflationary hedge (along with gold – better than for inflation actually – cash and long-term Treasuries).

Mmmm. Adding an international stock index fund might serve as a hedge against both inflation and deflation? Very interesting concept indeed!

For reasons I describe here, I don’t see the need to hold an additional international position once you have VTSAX. Those reasons still hold true, but this new angle just might change my thinking. I’ll need to ponder and research it a bit more.

Of course, this is also similar to Paul’s suggestion of holding foreign currencies, and for the same reason. At least until we have a meltdown when you’ll want food, gas, clothes and cattle to barter.

Or as Rich added, somewhat tongue-in-cheek, to that May ’14  Ask jlcollinsnh conversation:

“In prison cigarettes are always worth something, Buy them now and hold for future resale. Now that’s an inflation hedge. Maybe sugar too.”

A final thought. As of last Friday, May 23rd, VGSLX (my REIT fund) is up ~15% year-to-date and has still not reached its high set back in February 2007. On the other hand VTSAX (my stock fund) is only up ~2.5% so far this year and is right at its all time high; as is the stock market (S&P 500) itself, having just closed over 1900 for a record. So why sell the better performer to move into the laggard, especially with that laggard at all time highs?

Simple. I only buy or sell for strategic purposes such as this change in our approach. Never as an attempt to time the market. That’s a fool’s game. I have no way to know if the recent trend for these two funds will continue. No one does. For more on why see: Investing in a raging bull written almost exactly one year ago.

Importantly, since we hold VGSLX in our IRAs, we can sell with no capital gain tax concerns.

This post is only sharing a change in what we are doing and why. It is not meant to suggest that if you own REITs you should also sell them.  That is a decision that depends on why you own them and the role they play in your portfolio. They can be fine additions to a portfolio and were to ours for many years.

 

*Note concerning the painting:

When I asked my pal Alex to suggest one of his paintings to illustrate “stepping away” he sent me Samsara, along with this note:

“…this is as stepping away as you can get. Buddhists believe that there is a ladder of sorts that we ascend (or descend) during the cycle of life, death, and rebirth. We are rewarded for good works in one life by ascension to another life with better circumstances. The eventual destination is Nirvana, or Oneness with all things. This painting illustrates the passage of a soul from one vessel to the next, and for a moment is noticing that there is something else and is hesitating.”

 

Note 2:

This move from REITs is a fairly big step and it has required going thru editing and/or adding notes and addendum to the posts where references to REITs and VGSLX appear. Seems there are many more than I realized. I think I got most, if not all. But if you see one I’ve missed, please call it out in the comments below and I’ll get it taken care of. Thanks!

 

Posted in Guest Posts, Stock Investing Series | 65 Responses

Q&A III: Vamos

 

Image

Vamos

An original painting by Alex Ferrar

On display at his restaurant Sobremesa, Antigua, Guatemala

Welcome to the third in this series of posts featuring questions and answers from the comments that have accumulated during my recent travels. As with the first two, it is named after the featured painting above.

As described in the last two posts, Q&A I: Gaijin Shogun and Q&A II: Salamat , traveling without a computer, as I do, provides a wonderful break from the relentless onslaught of non-stop connectivity that is the mark of our modern world. For a brief few weeks it gives me the chance to return to the more peaceful time of not so long ago when our days were more fully our own. But this leads to a backlog of great comments and questions waiting for a response.

So in this series of Q&A posts as I work thru all these comment/questions, answering them in the posts where they were made, I’m also going to select a sample of the most interesting and reproduce them as posts in their own right. I see four benefits:

  • It will get responses to readers who were kind enough to comment.
  • It will get the flow of new posts started.
  • It will introduce readers who don’t currently bother reading the comments to some of the content to be found there.
  • It might even introduce you to some older posts you’ve missed so far.

Hope you enjoy them!

From:

girls-whispering

Why I can’t pick winning stocks and you can’t either

VK:

Hello Jim,

I love your articles and agree with most of them. I’m on the fence on this particular one.

I’m currently following AAII’s model shadow stock portfolio which has worked great for me since I started following it in the past couple of years.

I’m young and have been investing only a few years in the market and I’ve been seeking the answer to this question – should I invest in individual stocks or index funds.

AAII’s shadow stock portfolio’s return since inception in 1995 has been 17.9% vs S&P 500′s 9.43% for the same period. It seems to me that their model certainly seems to be working. I would like to know your thoughts as well. Do you still believe it’s better to invest in VTSAX vs just shadowing AAII’s model stock portfolio?

jlcollinsnh:
Hi VK…

Glad you love what you are finding here and hope you continue to read more.

This post is really at the core of what I believe and discuss here. It is not just my opinion, but the conclusion of an ever increasing body of research. Even Warren Buffett, perhaps the best stock picker of all time, is on board with the concept of indexing.

I am unfamiliar with the AAII model you mention, but there are countless investments out there striving to out perform the market. Some do for some periods of time, and they are endlessly creative in presenting their track records in the most favorable light.

But every prospectus carries this warning: “Past performance is not a guarantee of future results.”

The are both the truest words in these documents and the most ignored.

It is easy to look back and find the funds and portfolios that have outperformed in the past. It is impossible to predict which will do so in the future.

That said, it is great AAII has worked well for you so far and I completely understand the temptation to continue. It just seems so reasonable. It took me years to accept how vanishingly difficult it is to outperform the market and how rare and fleeting those that seem to are.

For more, check out my story of CGMFX at the end of this post: What we own and why we own it

Good luck!

From:

cat food eating

Social Security: How secure and when to take it.

John:

Excellent article.

I have heard that if the income limit on SS taxes was removed, the cash in/cash out future problem with the SS trust fund would go away.

Of course the “richer folks” would get socked with a big tax increase that they have not had to bear for years and years and years, as the “poorer” folks have been doing since the “poorer” have been paying the SS tax on all of their earnings in most cases.

Another plus for the SS fund would be that since there are fewer “richer folks”, there won’t be a rich-baby-boom bubble to deal with.

Two other points, SS is also a disability insurance program, and pays survivor benefits to children and widows if the worker dies. So, it is more than just a retirement fund. It’s a mixed bag with heavy social overtones.

And it still is a financial floor on which one can build on with their own savings plan.

Secondly, as to early retirement, another reason to take the money and run, is that you may still be “young” enough to want to do and enjoy many things that down the road ten years or so, you won’t care so much about doing. Or your physical situation will have gone down hill as is the case with older folks (two heart attacks + for me), and as such, doing some things will be out of the question. For example, it’s hard to paint or do needlepoint with shaking hands. And doing most things requires the ability to be able to walk, and walk a lot, and go up and down stairs or pathways. So, if you can’t walk much, or you get dizzy, etc., plan to stay home a lot.

Lastly, SS is an insurance system by which workers save for their future via the SS tax on their earnings, so that if or when they die, get disabled, or get old, society won’t have to pick up the tab for their or their family’s full support.

I used to work for SS many years ago, and have no work connection with SS anymore. My views and opinions are mine alone.

jlcollinsnh: 
Thanks John…

Glad you liked it, especially as someone who used to work there. I appreciate you adding your perspective. Great points!

Since SS payments are at least somewhat tied to contributions made, I wonder how that would be handled if the income limit were removed. If the payouts were still capped at the current levels, SS would become more of a simple income redistribution scheme.

Depending on one’s viewpoint, that may or may not be a good thing. But I think it should be part of the discussion.

As for SS and early retirees, check out: Go Curry Cracker: Social Security and Early Retirement

I think you and my other readers will find it interesting and useful.

From:

walk_away

The College Conundrum

Meghan:

This is an old thread, but I’m hoping my question will get answered!

Of course I’ve read a lot about the subject, but I’m wondering your personal belief regarding student loan debt and investing. Unfortunately my parents didn’t school me in the “value” of education, nor did they school me in the (EEK!) terrible side of debt.

Anyways, I have no other debt except student loans and live very frugally. I also make a decent salary and have a good retirement fund going. Should I focus on paying off my student loans before building up anymore retirement funds? What are your thoughts? Or does anyone else have opinions/experience in this situation?

Super big thanks!

jlcollinsnh:
Hi Meghan…
And I’m hoping you are still tuned in for an answer!

Basically, I would apply my rule of thumb for paying off a home mortgage. If the interest rate is:

6% or more, focus on paying off the loan.
4% or less, focus on building your investments.
In between, follow your heart.

Since I despise debt that last for me would mean focusing on paying off the loan.

If you do decide to focus on the loan, pay the absolute maximum you can each month.

The good news is, by the time you’re done, you’ll have a very strong habit of sending that money off. So it will be easy to then channel it into your investments and watch them build! You’ll be amazed at the progress.

Good luck and please keep us posted!

From:

eye of god

How not to drown in the sea of assholes

m:

I’d add a third thing to this list…

3. Empathy/Perspective. Unfortunately, some days for one reason or another I am the asshole.

jlcollinsnh:
Good point m!

While this was written from the point of view of dealing with the assholes around us it is worth remembering that we are all, at times, the asshole in question. :)

From:

  thought experiment

What Poker, Basketball and Mike Whitaker taught me about luck

Scott W:

Great article Jim. I’m a big believer that people create some of their luck but I think its important if you are doing well to be appreciative for some of the good fortune you may have had along the way.

Unfortunately many people who make bad decision after bad decision blame their lot in life on bad luck. I have a good friend who has a terrible attitude and he is convinced his lack of success is 100% bad luck when it is actually his attitude holding him back.

jlcollinsnh:
Thanks Scott…
Sorry to hear about your friend, but all too many people seem to fall into that trap. It becomes a vicious cycle and a self-fulfilling prophecy. Help if you can, but be sure not to get drawn into the vortex.

From:

spitfire

The. Worst. Used. Car. Ever.

Cline:

I had an illness in the late 70′s and early 80′s that caused me to use my student loan money to purchase a TR3A ( a lot of it in boxes), then I traded a perfectly good Pontiac for a Spitfire with the rocker panels completely rusted out because it looked so cool. Of course it had the identical self destructive engine as yours.

Then, during my first job out of college I bought at TR6 with a credit card. (Still had TR3 in the yard not running) It broke in two one day while driving over a railroad track. I had paid 2300 for it, 400 in welding the frame back, and sold for $4500. I guess that financed my losses on the other two.

Moral of the story, you need to buy a couple more Triumphs, kind of a dollar cost averaging thing. (What I learned in college with the rest of the student loan money)

jlcollinsnh:
“It broke in two one day while driving over a railroad track.” 

Ha! That got coffee sprayed all over my keyboard!

Too damn funny! And I’ll bet those reading who have never owned a Triumph (lucky devils) think you exaggerate. Ha, again!

So, I should DCA into a couple more, you say? Mmmmm. Spoken like a man who has a couple to unload…

From:

Princess Diana BB

Beanie Babies, Naked Barbie, American Pickers and Old Coots

Jen:

This post sent some shivers down my spine, because my husband just started collecting bank notes – hey, this stuff will be worth millions some day, and yes, we will send our kids to college on them.

Shipments from ebay arrive daily to our home – some with old notes costing several thousand $$ per pop. Sad thing is that I am sure the ebay value of these things already has taken into account the note appreciation (if any) and they are selling at net present value.

Just hoping we can resell those notes some day for what he paid for them.

jlcollinsnh:
And your comment sent shivers down mine, Jen.

Hope you have a plan “B” :)

If not, it will be character building for your kids to pay their own way… ;)

From:

eggs

Stocks Part XIII: Withdrawal rates — How much can I spend anyway?

Elisabeth:

Hi Jim. I’ve spent the past week reading almost all your blogs and it’s been wonderful! A friend helped me find MMM and he lead me to you. I thank all of you for posting all this great advice to help me achieve freedom as soon as possible! And for free!

I understand the principles of 4% and calculating what I need my net worth to be but I’m struggling with details. Based on our current spending I’d like our retirement expenses to be about $40k. That means I need to save $1m before we are free. But, how is inflation calculated? I understand I need $1m in today dollars but if we can get there in 10 years do I keep tracking to $1m, or will this number go up as the years go by? Because in 10 years we will need more than $40k due to inflation.

My husband and I are in our early 30s and while we have saved a lot over the past 10 years it all hasn’t been invested, earning maximum returns for us. We’ve stepped up the rate and I hope to get there in 10 years I’m just struggling with the details of calculating what my “freedom fund” needs to be.

Thanks for the help!!!
Elisabeth

jlcollinsnh:
Welcome Elisabeth…
Glad you found your way here.

There are a couple of ways to approach your question.

You could estimate the rate of inflation and plug it into one of the many on-line calculators and let it figure how much you’ll need to replicate the spending power of 40k when you retire. The problem, of course, is that inflation will likely not unfold as you predict.

Better, it seems to me, to simply aggressively build your freedom fund and track how much it can throw off at 4% each year as it grows. At the same time you can assess each year how much you’ll need/want when you retire.

Over the years, those numbers will come together. When they intersect, you’re there!

That’s what I did anyway! :)

But if you want to get a bit more technical, Eric Bahn also just put up a nice post you might find helpful: Calculating when you can say: F-you

Good luck!

From:

esperando un camino

Travels with Esperando un Camino

ak907:

I am a bit late to the party with this comment but I have been reading through your site and loved this post. It describes very well how I would like to travel the world.

I recently traveled to Thailand, it was fun and a great learning experience as my first international trip. But the trip, taken with and largely planned by friends, suffered from some of the very issues you describe. I had small bits of experiences as you describe, but I would enjoy having even more genuine travel experiences.

How do you do it? From my little bit of experience I can tell it will take a lot of research and planning. Unlike your daughter I traveled little as a kid and am not sure how to go about travel and having experiences like those you describe. Simply flying to a foreign location and going from there does not seem like it would lead to experience such as you describe.

Sites/sources such as lonelyplanet seem have been ruined by commercialism/tourism. Any recommendations? Perhaps the answer is simply experience.

How do mesh the competing goals of f-you money/financial independence and expensive travel?

AJ:
To the last commenter… I would say that the lack of planning is what makes the types of experiences Jim describes most likely. 
jlcollinsnh:
Hi ak907…

No worries being late, glad you made it!

I think AJ nailed it, a lack of planning is the key and it sounds like your trip to Thailand suffered from a bit of over-planning. I tend to just show up, wander around and see what happens.

Now that I’m older and have gone soft,  I do book the hotel for the first night or few  before I arrive and I like to arrange for a driver and car to meet me at the airport. There is nothing like stepping off a plane after a long, tiring flight and finding someone there with a smile holding up a sign with your name on it.

If I know someone who has been, I’ll ask for their recommendations for a hotel. And since I like my hotel centrally located and an easy walk from places, I’ll check the location on their website. This is exactly how I found the place where I stayed in Guatemala last month.

For what it is worth, I don’t use the travel guides like Lonely Planet or sites like Trip Advisor. Nothing against them, just never felt the need. And, as I think about, I guess I’ve always kinda figured they’d be out of date by the time I got there and would lead me to places that were by then overrun.

Once there, I just ask people where to go and what restaurants are good. Other travelers are easy to talk to and happy to help. When I find a good place to eat, I’ll also ask the owners where else they’d recommend. Figuring this stuff out gives you a reason to engage people in conversations. Which is one of my key goals.

But mostly it just takes showing up, not being tied to a schedule and going with the flow. This can take a few days, so it’s good to have more than a week to play with. Even now it is not unusual for me to hit a bit of a depression in the early days before things begin to come together. So, if this happens to you, don’t be overly concerned.

As for the FI/travel balance, it is a matter of choosing what you want to spend your money on. It is a fallacy, it seems to me, that pursuing FI means you can’t spend money on anything else. You just can;t spend money on everything else. Most people can afford both FI and travel assuming, of course, that they are not also indulging in fancy cars, homes, wardrobes and the like.

Plus, traveling this way can be surprisingly cheap. My hotel in Antigua was about $18 a night. Not fancy, but spotlessly clean, well located and run by incredibly friendly folks.

For more check out: So what does a month in Ecuador cost anyway?

Here’s another great source on the hows and costs: Go Curry Cracker

Oh, and it helps to travel alone. When you are with other people you are less approachable and less likely to approach others.

Good luck and safe journeys!

From: 

Rukeyser

1st annual Louis Rukeyser memorial Market Prediction contest results

Bryon:

Sorry to be a detail Nazi, but it drives the math nerd inside me wild. You say that your prediction of the high was .013% off. It was 1.3% off or off by a factor of .013. Adding in the percent sign moves the decimal place. Your point still stands, and I greatly appreciate the fantastic content on this site.

jlcollinsnh:

No worries, Bryon…

…your correction is very much appreciated

I operate this little blog with no help. No proofreaders or fact checkers. But I am very concerned that what appears is as technically accurate as possible.

So I am always grateful to readers who care enough to point out any errors.

That said, I am not enough of a mathematician to fully understand your correction here. Could you elaborate?

Thanks!

From:

girl-shrugging-shoulders

Stocks Part XXI: Investing in Vanguard for Europeans

If you’ve read this far and have concluded that only I have answers around here, it’s understandable. But wrong. Click on the link above for a remarkable guest post and equally remarkable conversations, all in an area where I have little to nothing to offer.

From:

Einstien

Stocks — Part XX: Early retirement withdrawal strategies and Roth conversion ladders

from a Mad Fientist

Kurt:

“It’s possible though, due to a low amount of income during early retirement, that he won’t have to pay any tax at all on the conversion”

How is this done? Anywhere I have read it is taxed as ordinary income when you do the conversion. Oh, unless you mean his Personal Deduction/Exemption take care of the tax due on the conversion??

That’s pretty much how you do it. Standard deduction and personal exemption = $20k per year tax free for a married couple with zero kids.

With our 3 kids, we can actually convert $31,700 totally tax free. And even more than that since we get the child tax credit (x3). Needless to say, the Root of Good household won’t be paying federal taxes in retirement either.

Posted in Money | 11 Responses

Q&A II: Salamat

Image

Salamat

An original painting by Alex Ferrar

On display at his restaurant Sobremesa, Antigua, Guatemala

Welcome to the second in this series of posts featuring questions and answers from the comments that have accumulated during my recent travels. As before, the post is named after the featured painting above.

As described in the last post, Q&A, traveling without a computer, as I do, provides a wonderful break from the relentless onslaught of non-stop connectivity that is the mark of our modern world. For a brief few weeks it gives me the chance to return to the more peaceful time of not so long ago when our days were more fully our own. But this leads to a backlog of great comments and questions waiting for a response.

So in this series of Q&A posts as I work thru all these comment/questions, answering them in the posts where they were made, I’m also going to select a sample of the most interesting and reproduce them as posts in their own right. I see four benefits:

  • It will get responses to readers who were kind enough to comment.
  • It will get the flow of new posts started.
  • It will introduce readers who don’t currently bother reading the comments to some of the content to be found there.
  • It might even introduce you to some older posts you’ve missed so far.

Hope you enjoy them!

From:

no fun

Stocks Part VI: Portfolio Ideas to Build and Keep your Wealth

Scott:

Hi Jim,

I’m loving your posts referred by MMM, thanks so much for all the great info.

A long time ago, I kinda fell into the conventional wisdom trap of 60/40 allocation of stocks/bonds; but I have to say that I am comfortable with a bit more risk (even at my advanced age :).

I’m 56 and retired 3 years ago, and left my 401k in my company’s plan because it’s cheap and easy. 58% is mostly in 3 funds, S&P Index (.06 fees), BlackRock US Equity (.09) and BlackRock Extended Equity (also 9 cents). The 42% is in PIMCO’s biggie, the Total Return Fund, but the expense here is significant — 0.46 %.

The past 10 yrs has been great, but the last 2 PIMCO has suffered. So I guess I have 3 questions for you, if you care to opine:

  1. I’m happy with the stock fund returns and think the expense is low, am I right?
  2. Am I crazy to want to change the allocation by 10 pts, to 68/32?
  3. Even if PIMCO’s expense is high, I think it has performed much better than Vanguard’s — do you still think it’s a bad idea to stay with it?

You should know that I’ve got a separate 50k invested in REIT’s outside the retirement fund, as well as 50k in a Colombian coffee farm! And I’m considering Lending Club as well… so I feel like I’m doing pretty well as far as diversification goes.

Thanks! Scott

jlcollinsnh:

Welcome Scott!

Glad you found your way here.

You certainly sound well diversified and I bet there is a great story behind your Columbian coffee farm! If you care to share it, I also bet I’m not the only one who’d be interested. ;)

As to your questions:

1. Your S&P index fund and the two BlackRock funds have nice low ERs. While it is good you’re happy with the returns, don’t forget we’ve been in a powerful Bull market for the last few years. At some point the Bear will revisit for a while. This won’t mean the funds stopped working. Just a heads up.

2. Not crazy at all, especially with your other diverse investments and as long as you recognize that you will be adding some risk in seeking greater returns. Balancing risk/reward and smoothing the ride is what asset allocation is all about. But don’t be tempted to try to time the market in doing this. See: Investing in a Raging Bull

3. Jack Bogle is fond of saying “performance comes and goes, but expenses are forever.” Or something like that. Many actively managed funds will outperform the index for a year or two or even several. But ultimately they underperform as apparently PIMCO is now. If, as I suspect, your BlackRock funds are also actively managed I would have the same concern about them even though it sounds like they’ve done well for you of late. This is why my money is only in index funds as described in the post.

Hope this helps!

Scott:

It DOES help, thanks Jim.

So… the story on the Colombian Coffee Farm, it’s interesting. When my last company offered me a generous early-out pkg a few years ago, at 53, I could have walked across the virtual street to Apple or Google etc., but I was already in the mindset of escaping the cubicle.Since I had saved pretty well and they literally GAVE ME the F-you money (how ironic), my wife decided to take a sabbatical and we hit the road, living in several places in Mexico for the past year, then Florida’s “Space Coast” for a few months, and I write to you now from our current temporary home in S Africa, right next to Kruger Nat’l Park, where zebras and giraffe regularly block our driveway and hang out on the porch. We are so thrilled to be able to do this, and it is definitely on a tight budget.

Anyhow, while living in Mexico with a lot of free time to read, I stumbled into various excellent blogs, like MMM and Live and Invest Overseas and now yours.

Live and Invest Overseas is where I learned about the coffee farm, and so I took a week-long “due diligence” trip last August to Medellin to investigate. It seems that Colombia has the POTENTIAL to grow some of the very finest coffee in the world, yet their multiple layers of profit-grabbing, price-dictating middlemen have not only impoverished the coffee farmers, they have indirectly forced the production of mediocre coffee.

Along came a company called Coffee Latin America and its sisters Logistics Latin America and Tierra Cafetera (now Cima), which bought a few very large farms that were in distress, and created a new model by inviting investors to share in the land ownership and the profits from coffee production.

By cutting out the middlemen, they are able to focus on high-quality coffee only, return to the old ways of production (mono-crop to multi-crop), stop using chemical pesticides, and rewarding the farmers with higher pay, incentive bonuses, and health & pension benefits (never seen before).

So, I can’t vouch for the results yet, because I’ve only been invested a half-year, but the 5-year projections show profit growing steadily from 3% to 19%, and continue on indefinitely at 19. Plus I physically own my 3 acres of the 120-acre farm, and am free to sell it, but the company has first right of purchase.

So in a nutshell, I bought 3 acres of a Colombian coffee farm that is now dedicated to replanting high-quality beans in a sustainable, organic manner, with socially responsible practices, for $50,000 US, and I lease it back to the coffee farm in return for 2.5% (my share of the farm) of 80% of the profits. (The 20% goes to the farmers as incentive bonus.)

I think it’s a win-win-win and I’d rather have it there than where it was, in employee stock shares that were going up, down, and nowhere. I can only hope that the returns will be as promised, but I know 19% is a lot to ask for; I’d be happy with 10.

If anyone is interested, I can pass along the website for the company, I’m hesitant to do it now because it may appear that I’m promulgating or shilling for them. That’s not my intention…but you asked! :)

jlcollinsnh:

Wow Scott!

By all means, post the link if you’d like.

Great story, on many levels.

Perfect example of how new vistas open up when we lift our noses from the grindstone.

Right now I have a question in Ask jlcollinsnh concerning ethical investments. Your coffee plantation will be part of my response.

And I love how they gave you the F-you money to fund a chuck of your escape. Ha!

Now I want to hear about living in South Africa! My wife is from Zanzibar and ever since our last visit we’ve talked about return to explore more of that continent.

Thanks!

Clint:

Two questions regarding small cap stocks:

1. If small caps historically tend to outperform large caps (over the long-term and provided you don’t panic), why do you not recommend overweighting small caps? Or being only invested in a small cap index?

2. More practically, if one only has a choice of an S&P-tracking index fund in a 401K, would you see any problem with balancing it out with the addition of a small cap fund?

3. If one were to look to tilt toward small caps, would you recommend VISVX (small value) or VSMAX (small cap index)?

As always, thank you. Hope you’re having a good vacation.

jlcollinsnh:

Great questions, Clint…

and thanks for the kind wishes on my travels and you patience in waiting tim my return for this response! It was a wonderful trip!

OK….

 1. Your premise is correct and that could be a fine strategy.

But you have two considerations. First, the small caps will give you an even more volatile ride, along with long periods of underperformance. Second, you’ll want to consider adding an international fund, and the extra risk these entail, as you won’t have this covered as with VTSAX. For more:  International Funds

 2. That would work. Just remember, if your aim is to duplicate VTSAX, that index holds only about 20% in small caps. So 80/20 would be your S&P 500/SC allocation.

 3. I’d go with VSMAX for the broader sweep of small cap stocks it holds.

Hope that helps!

From:

 journey path

What we own and why we own it

Alan:

Hi Jim, hope all is well. I’ve been absorbing your blog like a sponge absorbs water. I just finished reading the entire stock series… really great stuff you’ve got here, it’s enlightening to say the least. Thank you!

I have a question for you regarding Vanguard’s money market fund (VMMXX). Since it is a money market account, Vanguard allows for checkwriting services… my question is, are there any tax implications for writing checks? Vanguard states on their website that “for tax purposes, checks are considered redemptions”.

Here is a link:
https://personal.vanguard.com/us/whatweoffer/accountservices/checkwriting

 jlcollinsnh:

Thanks Alan…

Glad you’re enjoying it and I appreciate the kind words!

Money Market funds strive to maintain share value at exactly $1, so typically there is no capital gain or loss when you sell shares. So, no taxable event — even though checks written on them are redemptions.

I say typically because on rare occasions an MM fund will “break the buck” — that is the share value will drop below $1. This is a very big and negative deal. It last happened in the financial crisis of 2008, but only with a couple of MM funds. None were Vanguard’s.

So for all practical purposes, you have nothing to worry about here.

But, with interest rates so low, MM funds are no longer a very profitable place to keep cash. Banks, especially on-line banks, pay more these days and enjoy the benefit of FDIC insurance. My checking account actually pays more interest than VMMXX. But both are vanishingly small percentages.

I still use the MM fund, but mostly now just for convenience.

From:

Old wooden buckets

Stocks Part VIII: The 401k, 403b, IRA and Roth Buckets

Jonathan:

Hey Jim,

Just wanted to tell you I’m so glad I came across your blog!!

I’ve always found the stock market to be so interesting and wanted to become a broker but in the end I’m majoring in accounting. Turned out to be one of the best things I’ve done because I’m already working for a firm making about 25k a year (after taxes).

Anyway, I’m 19 and just opened a Roth and invested my first few paychecks – 3k (enough for VTSMX). I’m extremely lucky at the opportunity I’ve been given.

I still live at home and only have my phone payment; saving about 90%. I’m currently working to get my AA, while it’s not easy being a FT student and maintaining a FT job, I know it’ll be worth it in the end.

Can’t say how grateful I am at the plethora of information I’ve devoured on your site, One step closer to having my FU Money.

Thanks – Jonathan

 jlcollinsnh:

Hey Jonathan…

Congratulations on what sounds like a splendid start. Would that I were as wise when I was 19!

As you might well already know, once your VTSMX account hits 10k Vanguard will automatically roll it into the lower cost VTSAX for you.

Finally, thanks for the kind words. You made my day!

From:

 sailing ship

Stocks Part XVII: What if you can’t buy VTSAX, or even Vanguard?

Ali Clark:

Newbie here! Trying to make sense of all this.

I’m looking for your Vanguard recommendations in my freshly started 401K.
Are these index funds?

Vanguard LifeStrategy® Conservative Growth 0.70%
Vanguard LifeStrategy® Moderate Growth 0.70%
Vanguard LifeStrategy® Growth 0.70%
LVIP Vanguard International Equity ETF 1.20%

What about this guy?
LVIP SSgA S&P 500 Index 0.54%

jlcollinsnh:

Welcome Ali…

Always nice to have another newbie join in!

Only the last one is an index fund.

However, the first three are each what are known as a “fund of funds.” That is, they are made up of other funds and each of these are made up of index funds.

The idea is that you get diversification and automatic rebalancing, but the ER (expense ratio) is a bit higher.

For instance, Vanguard LifeStrategy® Growth –https://personal.vanguard.com/us/funds/snapshot?FundId=0122&FundIntExt=INT — is made up of:

–Vanguard Total Stock Market Index Fund Investor Shares 56.1%
–Vanguard Total International Stock Index Fund Investor Shares 24.1%
–Vanguard Total Bond Market II Index Fund Investor Shares† 15.9%
–Vanguard Total International Bond Index Fund 3.9%

Basically an 80/20 stock/bond split using a nice selection of funds.

Were I young and planning a few more years of work, of those you listed that’s the one that would be my choice.

From:

walking the dog

Case Study #7: What it looks like when everything financial goes wrong

Deacon:

Great story and some very worthwhile advice from all involved. I love the points about living with less and focusing on relationships over “stuff”. I’m also amazed by Tom’s ability to live such a mobile life with a family in tow. Hard to do that with lots of unnecessary possessions on hand. Reminds me of the wisdom in one of David Cain’s recent posts on raptitude.com (“Everything In It ‘s Place, Now and Forever.” )

So as not to armchair quarterback Tom’s decisions in an effort to apply lessons to my own life, I’d love to hear what advice he has based on his story. Above and beyond his very wise comment about the value of relationships over material desires, that is. With all the forks in the road that he faced, I’m sure he developed at least an unconscious list of rules to live by that have helped him maintain such a positive outlook and ability to attract quality people in his life. I say this based on both his successes and his failures, as lessons obviously can be learned from both.

 Tom:

Hey, Tom here. In response to Deacon’s request, I have a few rules I live by …

#1. Seek the truth; there is a lot of deception in the world. Learn to find out what is true and what is false. It takes some effort, but it’s worth it.

#2. Get outside everyday and breath fresh air, get some exercise, even if it’s just a nice long walk.

#3. Look everyone in the eyes when you talk to them; it will instill trust in both parties and you will learn to read others’ responses.

#4. Tell the ones you love (family and partner) that you love them.

#5. Simplify, simplify … Thoreau was right. We sure can’t take all this stuff with us.

#6. Work at a job you love and put your all into your work. That being said, don’t take your work home with you. Take time to unwind.

#7. Eat healthy, have a drink daily, but don’t overdo either.

#8. Be thankful for the things money can’t buy.

#9. If you have kids, take them fishing, camping, whatever. Show them there is another world out there that has nothing to do with electronics or stuff.

#10. Take the back roads in life, stay off the freeways.

Deacon:

Thanks for the response Tom, and to jlcollinsnh for the addendum. Very wise words to live by. I have to say that my #1 and #2 would be exactly the same. Interesting how certain life events will cause me to remember or re-evaluate certain of my own ‘rules’, but these two (and maybe a couple others) are constantly in focus. Thanks again for the words to live by.

Tom Kemper:

You will end up a wealthy man Deacon … like me. :)

From:

flux capacitor

Stocks Part III: Most people lose money in the market

Chris:

One thing I don’t get: How is it that supposedly MOST people perform worse than the corresponding index share market?

Let’s say you are right and one can not predict shares that outperform the market, – is it then not that by pure chance 50 % of us would perform better, 50 % would perform worse, – i.e. would there not a normal bell curve type distribution around the mean?

This is of course different if I pay fees for a managed fund, or if I pay lots of fees for trading, – but if we take that out of the equation for this question, – if it just came to me deciding to pick my own stocks out of a basked (let’s say the Dow Jones), – would my chances not have to be 50 : 50?

Thanks for clarifying!

 jlcollinsnh:
Hi Chris…

Sorry for the delay. I was actually hoping to get the Mad Fientist to weigh in on this as I’m curious as to what his take might be.

In any event, my answer is simply that people have an almost endless array of ways to repeatedly lose money in the market:

  • Trying to time it
  • Trading
  • Stock picking
  • Bad managers
  • High fees

..and a bunch more I’m not thinking of just now. So it is not just one event with a 50/50 chance but an endless stream of events, each stunningly easy to get wrong.

But you are right in this way: If you and I were to choose a given stock and you went long while I went short, we would each have a 50/50 chance of being right.

In fact this is exactly what happens with each specific trade in the market. For every buyer who thinks the time is now, there is a seller happy to unload. At that moment, only one can be right.

Index funds, on the other hand, rise relentlessly (although not smoothly) and are self cleansing. as described in this series.

Make sense?

Mad Fientist:

Hey Chris, Jim emailed me to ask if I’d take a stab at replying to your comment.

Luckily, Jim chimed in with a great response (no big surprise there) so hopefully that answered your question.

I wrote an article about some of the cognitive biases that cause us to make bad investing decisions so feel to check that out for a few more reasons why most people underperform the market.

From: Stock Series

Mike P:

Hi Jim,

I recently found your site along with MMM and the Mad Fientist and I am loving everything I have read. I have implemented most of the stuff you teach here in my own finances.

My question is about a traditional IRA vs a Roth IRA. I am 24 with a $50K salary. I noticed you are a big proponent of the Roth IRA however in Part XX, Mad Fientist contradicts this and suggests it’s better for someone in my position to use a traditional IRA.

Just wanted to get your thoughts on this and if you actually recommend the traditional or Roth for someone in my position.

Thanks for creating this amazing blog and I look forward to anything you might post in the future!

jlcollinsnh:

Hi Mike…
…and welcome!

Thanks for the kind words. Glad you like it here.

Astute observation and great question.

Indeed MF’s analysis has altered my thinking. Go with the ideas in Part XX.

 Mike P:

Thanks for the quick response! I was hoping you would say that since I already maxed out my Traditional IRA for 2014 haha!

From:

tougher up cupcake

Stocks Part I: There is a major crash coming!!!

Mingtian:

I am so happy I have found your blog. It is slowly changing my thinking.

Have you ever watched/read anything from Michael Maloney such as his series Hidden Secrets of Money?

These are extremely well produced and (I think and would love to hear why you think not) very persuasive. I understand he is someone who could be just selling something (precious metals) but he doesn’t come across that way at all.

So I am torn. Is what he says right or is it more unreasonable to bet against this country and its economy?

I would love to hear your thoughts!

Thanks so much for your blog!

 jlcollinsnh:

Welcome Mingtian…

Glad you are finding value here.

I am not familiar with Mr. Maloney or his series and unfortunately don’t have the time, or candidly the inclination, to spend with it.

I will say that one of the reasons I started this blog is because there is so much nonsense out there. Some is simply bad advice. Much is bad advice design to sell you crap.

I will also say that there are no “Hidden Secrets of Money.” ;)

As you read thru the blog here you’ll have a clear idea of how I see things. It then shouldn’t be hard then to contrast my ideas with others and decide for yourself.

Just be careful. And you might want to read this: You, too, can be conned

From: Disclaimers

Farmboy:

Love to read here.

Just a thought . . . not that I’m a lawyer…

Looking at the following text “…By leaving a comment on this blog it becomes the property of jlcollinsnh.com and it may be used in another post, article or book. …”

I wonder if you might be better served by adjusting a portion of that from “…becomes the property of jlcollinsnh.com…” to something along the lines of “…becomes licensed to jlcollinsnh.com in an ulimited fashion, though the material itself is solely the product and property of the posting entity…”

My thought may be obvious, though if not, I suspect it’s a better liability to have an unlimited license to use the product rather than becoming the owner of the product, with whatever liability the ownership may carry.

If you happen to read this comment and find it way off base, I look forward to finding out how/why.

Cheers
Farmboy

Often willing to “pay it forward” & encourage others to do the same . . .

jlcollinsnh:

Thanks Farmboy…

Glad you like it!

Thanks, too, for your suggested phrasing. It may well be better than what I’m using, or not. Thanks for giving me a chance to reconsider it.

I’m not a lawyer either and am just trying to let people know what to expect when they post comments and questions and I respond.

I know we have lawyers out there reading. Any thoughts?

Posted in Money | 8 Responses

Q&A I: Gaijin Shogun

Image

Gaijin Shogun

An original painting by Alex Ferrar

On display at his restaurant Sobremesa, Antigua, Guatemala

Traveling without a computer, as I do, provides a wonderful break from the relentless onslaught of non-stop connectivity that is the mark of our modern world. For a brief few weeks it gives me the chance to return to the more peaceful time of not so long ago when our days were more fully our own. But there is a price to be paid.

Returning from this latest trip to Mexico and Guatemala I have over 100 comments and questions waiting for a response here on this blog. That’s just counting the ones that actually require a response.

I love getting questions and comments here and, when I’m around, look forward to them each day. On a daily basis, it is relatively easy to keep up. But left to build for a few weeks they become an intimidating task. Catching up can easily overwhelm the time normally allocated to writing new posts. And, of course, new posts are also thin and rare while I travel.

When readers take the time to comment I am very appreciative and if they ask a question or two I very much like to be able to respond. But buried in the comments section of whatever post they’ve chosen, our conversation is unlikely to be seen and enjoyed by other readers. In fact, when answering I can’t really even be sure the original commentator has subscribed to the comments and will see the response. It is tempting to blow off these questions and simply move on to writing new posts more readers will see.

But the calibre of most of the questions I get here is excellent and, as I’ve often contended, the comment section on this blog has some of the best, most interesting content. So here’s my plan. I’m going to start working thru all these comment/questions, answering them in the posts where they were made. In addition, I’m going to select several of the most interesting and reproduce them in a series of posts — starting with this one. I see three benefits:

  • It will get responses to readers who were kind enough to comment.
  • It will get the flow of new posts started.
  • It will introduce readers who don’t currently bother reading the comments to some of the content to be found there.
  • It might even introduce you to some older posts you’ve missed so far.

OK, that’s four. Works for me! Hope it works for you, too.

Oh, and I’ve named this post after the featured painting above. Enjoy!

From:

gates foundation building

How to give like a Billionaire 

Workinghard:

I don’t know how many times I’ve thought about a charitable trust fund. It’s been on my someday wish list. However, it’s my understanding that any money in the fund can only go to qualified non-profit or tax exempt organizations. Is that correct? Or can the money be used to help individuals in need? We give 10-12k a year to people rather than churches or organizations. I also prefer giving anonymously which calls for some creativity and using people out-of-state to help. It would be nice to have some of the advantages of a charitable trust fund.

Thanks for addressing this topic! Now to read your other blogs.

jlcollinsnh:

Welcome WH…

Correct. Your fund can only contribute to qualified, established charities. I suspect this is because, since it is tax-deductible, the same rules for IRS charitable tax deductions apply.

As it happens, like you, I frequently prefer to give directly to individuals and small organizations that may not qualify.

So what I do is occasionally fund my charitable trust with larger donations that get me over the IRS standard deduction for the tax benefit. This money is then distributed over the next several years.

At the same time the money I choose to give anonymously and to places not qualified I give randomly and without concern for the tax break.

Hope that helps.

Workinghard:

Thanks for replying and everything you’re doing to help us (me)!

I don’t care about the tax advantages per se of a charitable trust but the anonymity would be great.

bookaunt:

Just to let you know that you can open a charitable gift account at Fidelity for $5000 while you are waiting to build a bigger stake

jlcollinsnh:

Good to know, bookaunt.

But for smaller sums like $5000 I would just distribute the cash directly to the charities of my choice without bothering with a charitable trust.

Such trusts, in my view, are better at providing an immediate tax advantage for a larger donation that will be distributed over time.

For instance, unless you have other deductions $5000 will be under the standard deduction amount and no tax benefit will be realized.

But if you fund your trust with 25k and then distribute the money over five years at 5k per year, you get a very valuable 25k deduction in the year you fund your trust.

Make sense?

bookaunt:

There are times when even a $5k charitable fund can be useful. It worked for us a couple of years ago when we wanted to sell some stock that had a significant capital gain. By funding our gift fund with that stock, we were able to shield the profit from taxes – worthwhile to us even though the amount was not much over $5k (but we did have other deductions).

Also – when looking at setting up one of these funds, note that both Vanguard and Fidelity charge an annual cost/maintenance fee.

  From:

simple

Stocks — Part V: Keeping it simple, considerations and tools

Stephen:

I love this blog and am making my way through this series avidly.

I was wondering how much of this applies to international investors? I live in Australia. Does “the market always goes up” still apply to the Australian market? It seems to historically, however since it’s such a small slice of the international market I was doubtful it was as secure.

I would like to simply invest in VTSAX, but the vanguard situation is different over here.

https://www.vanguardinvestments.com.au/adviser/adv/investments/overview.jsp

Most of those charge a fee of 0.70% or .090%, and they track the Australian share market, not the US.

However there are also ETFs listed at Vanguard Australia – these appear to have much lower pa fees. There is one which is the “total US market” for 0.05% pa! Is buying such an ETF the same as buying VTSAX in the US, or am I missing something?

https://www.vanguardinvestments.com.au/adviser/jsp/investments/etfs.jsp#etfstab

I’m sorry if this is confusing, I guess I’m just wondering the best way to attempt to emulate your strategy of buying the total US stock market whilst living in Australia

jlcollinsnh:
Welcome Stephen…
Sorry for the delay in responding. Hopefully you read the part about my disappearing to Central America for a few weeks.
“The market always goes up” refers to the US stock market, which has the advantage of being such a large and dominant player on the world stage. The same would apply to the world markets overall. I would be hesitant applying the idea to Australia as the economy there is far smaller. I encourage investors outside the USA to consider investing in World Index Funds that include the US market.

VTS, in the second link you provided, is indeed the equivalent of VTSAX and the ER of .05% is great. Be careful, however. Since it is an ETF you might well face commission charges when you buy or sell.

Since you’ve been working your way thru the blog, perhaps you’ve already come across these two posts:

http://jlcollinsnh.com/2013/05/02/stocks-part-xvii-what-if-you-cant-buy-vtsax-or-even-vanguard/

http://jlcollinsnh.com/2014/01/27/stocks-part-xxi-investing-with-vanguard-for-europeans/

You’ll especially want to read the comments in both those posts. Several Aussies have weighed in with their ideas and experiences.

Cheers, mate and good luck!

Rich:
Hi Jim,

Great information and thank you for sharing all this.

I can tell you that with all the career emphasis most folks have, we just don’t seem to wrap our minds around the investing logic until it’s late in the game.

I’m retiring in May this year when I turn 62. I have a pension that will “just cover” my monthly expenses. I plan to ‘not’ take my social security benefit until I reach full 66yr status. I also have an employer 401K with sufficient funds that is managed by Vanguard. I will likely need to tap into earnings to bridge the gap until I reach age 66. 81% of my holdings are currently invested in company stock (oil) and I’m considering utilizing your “4 tools” advice.

Any advice on how to arrange dividend/earnings income withdrawals and whether to roll into an IRA?

Also I notice you state the rule of thumb for Stock/Bond ratios, but then you say…doesn’t matter. Can you explain why?

Thanks, Rich

jlcollinsnh:

Hi Rich…

Thanks and glad you find it useful.

Were I in your position I would be VERY concerned about having 81% of my assets in just one stock. Even if I loved that stock.

If this holding is in a tax advantaged account I’d promptly shift it into the broad-based index funds discussed in the post. If not and assuming you have a large capital gain, I’d begin shifting as rapidly as possible consistent with limiting the tax hit as best you can. This, of course, will take a careful analysis of your full tax picture; something well beyond the scope of this blog.

Structuring withdrawals can be almost anything you choose. For us, we first spent down the various investment “mistakes” I’d accumulated. Now we pull what we need each month from our joint VTSAX fund in our non-tax-advantaged account. In our IRAs we have more VTSAX along with the bond and REIT funds described above. The dividends from these I have reinvested. We also shift some each year to our Roth IRAs to reduce the amount we have once we hit age 70 and the Minimum Required Distributions (MDRs) kick in. The idea is I’d prefer to pay up to 15% now than 25%+ later.

Once I have to take the MDRs, those will provide our living expenses and our joint VTSAX fund in our non-tax-advantaged account will be left alone to grow again.

As you can see, this is all unique to our situation and needs. It may or may not be useful to others.

But I would suggest not worrying about just spending your dividends and interest. Better to look at all your investments as a whole, limit yourself to total withdrawals of 4% or less and take those withdrawals from wherever it makes sense at the time.

I don’t recall saying stock/bond ratios don’t matter. They are a tool for smoothing the ride. Once you stop working and start drawing on your investments, this is important. But while you are still working and adding money to your investments, I suggest toughening up and accepting the wild ride for the greater return stocks provide over time.

Brian Boatman:

I LOVE YOUR BLOG! I have a question for you. I’m 37 years old and work for a Governmental Agency with a Pension. On the side, I contribute some money into a 457(b) plan. I currently have $67,000 in there in a Vanguard Target Date Fund, 2045. The Expense Ration is .18. Now, I understand that this ER is great, but I had a thought…can’t I invest in each of the three index funds that make up the 2045 Target Date Fund and save some on the ER? Am I missing something here!?

Thanks for your blog and for your willingness to share your wisdom with us young, dumb people!

Brian

jlcollinsnh:

Thanks Brian!

And no one who asks questions is dumb. I wish I’d been smart enough to ask more back in the day.

Anyway, your thinking is spot on. You can absolutely replicate any target date fund using a selection of index funds, and with lower ERs (expense ratios) to boot. You’ll just have to remember to do the rebalancing on your own, something the TDF does automatically for you.

In fact, I just did our annual rebalancing of the three funds described in the post last week. Easy peasy! And fun. At least for me.

 From:

Hacienda Cusin

Chautauqua 2014 Preview

Justin:
Man, that chautaqua sounds sweet. We’ll be somewhere in central America but I don’t know if we’ll make it that far south to Ecuador. Maybe I can rearrange our itinerary some. I’d love to meet some of you guys (well, all of you guys). I think we’ll be somewhere in the Caribbean during the FinCon this year so 2015 might be the earliest I’ll meet all these other online personalities I’ve interacted with. Salud!
 jlcollinsnh:

It would be great to meet you one of these days, Justin. Enjoy your travels and who knows what little dive we might stumble across each other in?

From:  
house in iowa

Walt:

I’m actually in much the same boat as Jim was, but without the $300 rent coming in.

We bought my mother-in-law a condo and pay the HOA for it to the tune of $350 a month plus debt service of course. We also pay for cleaners to come in once a month, because she is an awful housekeeper.

She, of course, has zero savings, doesn’t work, and lives on social security of around $750 a month.

Fortunately our association is the opposite of the one he describes – the HOA hasn’t gone up in three years, and there are no special assessments. As with many condo boards they’re a bunch of kooks, but they’re very careful with the money. One of them wanders the pool area over the summer yelling at people who leave the outdoor shower running too long.

I look at the condo when I’m visiting, though, and I wonder how long until she starts complaining about the ancient carpet and other things – but the carpet was in very good shape when she moved in. Add in a woman who flat out doesn’t clean, her piggy 12-year-old grandson and two cats who pee everywhere, and things don’t stay nice for long.

She has occasionally said things that make me think she believes this arrangement is somehow to our financial advantage. Of course, she hasn’t made a sound financial decision in her whole entire life, so there’s that…

My strong suggestion is to NOT buy your parents’ housing. Go ahead and subsidize it if needed but it’s not a comfortable place to be.

jlcollinsnh:

Yikes!

Your situation sounds much worse than mine!

David:

Next time she suggest the condo is to your financial advantage, suggest she move somewhere else if she can find a better deal. And if she can’t find a better deal, you expect a sincere “Thank you” or she can move out anyway.

My mom and dad taught me not to put up with passive-aggressive excrement (or any other kind!) from anyone.

From:  

pickpocketduckPickpocket at work

Stocks Part VIII-b: Should you avoid your company’s 401k?

Ally:

HI Jim, GREAT post, GREAT video. I am really enjoying having my eyes opened. I always thought I was good at watching the fees in my 401k.

I am lucky enough to have Vanguard options in my 401K which I utilize. My boyfriend on the other hand has an awful 401K (in my opinion). I tried picking the “best” of the options available but I feel lost.

He has JP Morgan and Putnam funds available to him and all have annual expense ratios of 1.04%-1.38% and all are Actively Managed accounts so the Load Charge is anywhere from 5.25% to 5.75% per fund. I think this is just outrageous.

My question is, is it best to just pick one fund with an outrageous fee or spread the money and diversify? Does it cost more to have all your money in one bad fund or many bad funds?

Thanks,

Ally

jlcollinsnh:

Holy crap, Ally….

Those options he has really do sound ugly. “Outrageous” doesn’t seem strong enough a term. pastedGraphic.pdf

Are there no choices without the loads?

As for your question: The only reason it would cost more to have the money spread around is that some of those funds are even worse than the others. Other than that, more funds are just more hassle in keeping your allocation choices in balance. Given those loads, he should be sure to do that with new money rather than buying and selling shares.

Personally, I’d look for the lowest cost fund offered. It is likely to be the index fund if they offer one, and that’s what you’d want anyway.

But if all the funds have fees as intense as what you describe, I’d be tempted to skip it all together. I’d certainly hesitate before funding it beyond the company match. (Please tell me there is a company match!)

If he is feeling ambitious, he might also campaign for better choices with his HR department.

Read Addendum #1 very carefully and walk thru the Mad Fientist’s math as it applies to your boyfriend’s situation, and then decide.

Good luck and please keep us posted!

Jeff:

My 401k includes the following Vanguard funds – is there any reason to choose something other than the mid-cap index fund? Just want to make sure I’m navigating these correctly!

Mid-Cap Index (VIMSX) Prime Money Market (VMMXX) Target Retirement 2010 (VTENX) Target Retirement 2020 (VTWNX) Target Retirement 2030 (VTHRX) Target Retirement 2040 (VFORX) Target Retirement Income (VTINX) Total Bond Market Index (VBMFX)

jlcollinsnh:

Hi Jeff…

The mid-cap index fund is likely your lowest cost fund choice, but it is also very focused on one type of stock: Mid-sized companies.

If you have other investments outside your 401k you can balance this with large cap and small cap index funds. I’d shoot for about 70% large and 15% in each of the small and mid cap funds. This will roughly duplicate the Total Stock Market Index fund like VTSAX.

If you don’t have other investments, one of the better diversified Target Retirement funds would likely be a better choice for you, even with the bit higher expense ratio.

From:

tar--feather-1794-granger

Why your house is a terrible investment

Jon:

Mr. Collins:

Another terrific article where you provide a compelling argument mixed in with a “single finger salute” ( f-u money’s second cousin, twice removed) to tired conventional wisdom.

Of course, many of these “experts” that dispense this advice are broke and/or leveraged. I wish I would have “met” you years ago but sure enjoy your work now. Thanks for what you do.

By the way…I’m a satisfied homeowner yet don’t claim be a real estate baron by any means.

jlcollinsnh:

Thanks Jon…

Glad you liked it and glad we’ve “met” now. Also glad to meet someone who can be both a satisfied homeowner and still appreciate the concepts in the post. I’ve owned them myself for 28 years.  

Nickster:

I don’t mind renting, but I don’t know how much is my “F-You Rent.” That is to say, how much money do I need to:

1) Rent in pretty much any area I like2) Rent as much space as I need3) Have the option to renovate or decorate as I please4) Not worry about getting evicted

jlcollinsnh:

Welcome Nickster….

The best way is to simply take your annual rent and multiple it by 25. That is, if your monthly rent is $1000, you’d multiple 12k x 25 = $300,000. In turn, 4% of 300k = $12,000. It is the same formula as for figuring your FI number: http://jlcollinsnh.com/2012/12/07/stocks-part-xiii-withdrawal-rates-how-much-can-i-spend-anyway/

Only you can answer your questions 1 & 2. Once you do you should be able to figure the rent needed.

As for #3, most landlords will limit your ability to move walls or paint the place in the exotic colors of your choice. At the very least, you’ll be expected to return the place to it’s original and presumably more rentable condition.

It is the same as if you owned the place. Come time to sell you’ll need/want to walk back any exotic renovations you’ve made. Even the most tasteful updates can simply go out of fashion by the time you chose to sell. Unless, of course, resale value is not a concern.

As for #4, most landlords are looking to keep good tenants not evict them. But if you plan on behaving badly, owning might be the better choice. It is much tougher for your neighboring owners to get rid of you than a responsible landlord.

Posted in Money, Stock Investing Series, Travels | 6 Responses

Top 10 posts

Image 17

With any luck at all, by the time you read this I should be sitting in the cafe in Antigua that affords this view

Since I’ve learned how to schedule posts to publish automatically (at least I think I have), I thought I’d put this one together to appear while I’m gone. Maybe it will give you something to read here until my return and new posts begin to flow. Something perhaps you might have missed.

Compiling it proved a bit more interesting than I might have guessed. For me, anyway.

Here is the Top Ten over the last year:

  1. The Stock Series
  2. What we own and why we own it
  3. How I failed my daughter and a simple path to wealth
  4. Why your house is a terrible investment
  5. Stocks Part I: There’s a major market crash coming and Dr. Lo can’t save you
  6. Stocks Part VI: Portfolio ideas to build and keep your wealth
  7. Why you need F-you money
  8. Rent v Owning your home: Opportunity cost and running some numbers
  9. Stocks Part II: The market always goes up
  10. Stocks Part V: Keeping it simple — Considerations and tools

As you can see The Stock Series and posts from it dominate, snagging half of the top ten. In fact, if we stretched this out to the top 20, stock series posts would take six of the next ten slots too. Not surprising as this series has become what the blog is most famous for. So what does it look like if we strip those out?

Here’s the Top Ten sans the Stock Series:

  1. What we own and why we own it
  2. How I failed my daughter and a simple path to wealth
  3. Why your house is a terrible investment
  4. Why you need F-you money
  5. Rent v Owning your home: Opportunity cost and running some numbers
  6. Manifesto
  7. About
  8. Ask jlcollinsnh
  9. The bashing of Index Funds, Jack Bogle and a Jedi dog trick
  10. The Smoother Path to Wealth

What is interesting to me here, and that I would not have expected, is that 6, 7 and 8 are all what are called “Pages,” those buttons found across the top of each page.

With 6 & 7 it seems before investing too much time folks want to get idea of what this is all about around here. Makes sense.

As for Ask jlcollinsnh, this is basically a collection of mini-case studies that illustrate the principles discussed in action. No surprise it draws readers.

But what about if we pull those three?

Here’s the Top Ten sans the Stock Series and “Pages”:

  1. What we own and why we own it
  2. How I failed my daughter and a simple path to wealth
  3. Why your house is a terrible investment
  4. Why you need F-you money
  5. Rent v Owning your home: Opportunity cost and running some numbers
  6. The bashing of Index Funds, Jack Bogle and a Jedi dog trick
  7. The Smoother Path to Wealth
  8. Dividend Growth Investing
  9. My path for my kid: The first ten years
  10. The Monk and the Minister

That last one is my very first post!

In addition to all these, at the top of the right hand column on this (and every) page you’ll find a list of some of my personal favorites. Several are on these lists, but some are not.

If you are a regular reader here, there is a good chance you’ve read many, maybe even all, of these. For you, here’s my final list. None are on the lists above; they’ve been far less popular for reasons that escape me. But I like ‘em. You might too.

In no particular order:

Ok, that’s enough. I’m off to have una cerveza.

Posted in Random cool things that catch my eye | 10 Responses

Cafe No Se

Magical Antigua, Guatemala


So I am here in Antigua, Guatemala hanging out in one of my favorite dives, Travel Menu, drinking beer and eating some awesome food and talking to my new pal Lito.

The talk turns, as talk will do, to other worthy dives here in town and he asks if I’ve made it to Cafe No Se yet. Of course I have. I’ve been here six days after all.

Anyway, this is a unique and tough to describe place. Fortunately, I don’t have to — Lito already has. Here’s his piece on it. I think he’s a hell a writer, but be warned. Stop here if you are easily offended.

The Medicine Man

Guest post by Lito Croy:

You Don’t Se?

Well you certainly should.

Cafe No Se. It’s the first Antiguan bar you could hope to stumble into and the last one you’ll want to stagger out of. Tuck yourself into this hole in the wall, fill up on some free popcorn and soak in the live music jammin’ every single night.

Pushing this creaky door aside sinks you straight into what I like to call “The Real Deal.” You took the red pill, hombre. If what you’re looking for is the back alley cultural melting pot, then this is it. No Se is the real deal; like the bastard child of a Wild West saloon and an old pirate hideout. It’s dark. It’s dingy. And it’s exactly where I want to be.

Simmer down, saddle up and step on in. You won’t have to search for the blasphemy here. It’ll bite you in the face. It’s the kind of stuff you couldn’t buy in Vegas and can’t burn off once you’ve gone. It’s hanging on the walls, it’s etched on the tables, and it’s served hot on a plate: Grilled Cheesus sandwiches. Only Q15… Or your eternal soul. Either way, it’s pocket change.

Bow under the halfling door and you’re on sacred soil, now. Welcome to The Mezcal Bar. Time to pay the piper. But only the penitent man will pass. So drop your elbows to the bar and PRAY, brother! Grab an Oferta for Q44 and Randy will swing you a Vicky and a shot of the Joven. A quick glance at the sign: “Two Shot Minimum” and you reevaluate. Better make it two.

Mezcal. Some call it the Mexican Scotch. I call it delicious. “Ilegal” brand Mezcal is served from what appear to be funny looking shot glasses. But a second nip, a double take down the barrel and the joke is out. There’s a cross on the bottom. On all of them. They’re sacramental candle holders. Add this to the photos of lusty nudes and it’s the kind of sacrilegious irony I could only dream of in Catholic school. Will this be the bite-sized evil that keeps me out of Heaven… Or am I already there? I still have half a shot left. So I take another swig to find out. Waste not. And oh yeah – Amen.

Take a look around. There are some real characters here. It’s the kind of place you’d hope to see Tom Waites growl or Kerouac scribbling away. Sometimes I scan the flame-lit faces, just to check. If you get the chance, buy one of the regulars a drink. I chose Pete. He’s a part-time wordsmith, full-time Mezcal worshiper. Fill his glass and he’ll fill your head. Stories, sonnets, shamanic songs; he knows them all. Make sure to check out his latest literary work, available in the sober hours at the adjoining bookstore.

But he’s not alone. Drinking here are intense personalities from all over the world. The cream of the grime. And they’re not all pretty. Most of them are dreamers, and a few of them are real assholes. This ain’t Applebee’s. And no, we don’t all have to get along. This is the black sheep herd, and they’re chewing up the moonlight.

But there’s no reason to get your panties in a bunch. There’s no need to wear panties at all. No Se is a place for everyone. Where anyone can show up, drink, and say exactly what they feel. Even the walls speak their mind. Ask them and they’ll dish out their favorite one-line philosophy. There’s plenty of fading Sharpie to write the book, but one quote says it all. And it’s enough to throw you tits first into their boiling brains.

“Today is not for thinking.”

I can drink to that.

Chewing up the moonlight.

In this bar, your sins are never forgiven, they’re only forgotten. Until the next nearest moment of clarity, that is. Old dreams wither and new ones are drunk away. It’s Cafe No Se. It’s the bottom of the barrel. It’s the end of the road. It all drops off from here. But that’s all right. It’s okay. Because every dive needs a town.

Posted in Travels | 21 Responses