Fiscal Discipline

These days, all you have to do is read the paper or turn on your TV and you will think that your money, especially your investments, are rapidly becoming worthless.  Even many of the so-called financial gurus, such as Suze Orman, are telling you to get out of the markets, especially if you “feel” afraid of where they might be headed.  Before you act on your emotions, think about it with your emotions removed.

Leaving your emotions out of your decision making, especially when it comes to finances, is very hard to do.  However, making financial decisions using your emotions virtually guarantees that decision will be the wrong one.  Fear is the biggest emotion that gets people to make stupid financial decisions.  Love is the other big one.

Studies have shown that keeping your money in the stock market for the long run will yield a decent rate of return.  If you take any 20 year span of the S&P 500 and look at the rate of return, you will end up with over 10%, even in today’s crashing environment.  However, studies also show that if you miss just a few of those best performing days, namely the top 5, your rate of return becomes negative.  That’s right, if you miss just the top 5 trading days, you will no longer have that 10% rate of return, instead you will be losing money.

So, why would you take your money out after the market crashes?  Why would you change your investment plan.  In fact, you should actually be acting opposite of what your emotions are telling you and start investing more money as the market crashes.  Now, whether or not you invest when the market is down will depend on your strategy as well, but it does present a good opportunity.

In the current state of the economy, chances are we will see the Dow Jones Industrial Average drop significantly further.  In fact, in the traders psyche, I feel the Dow needs to get at least below 10,000 before we can get back to a bull market (one where we see the Dow making significant gains long term).

To use myself as an example, I have not changed any of my investments around even when I knew that the market was going to tank.  Since I also run a mortgage planning business, I have been following the ramifications for a long time and even forecasting some of what we have seen.  You can check out my Florida Mortgage Report for more on that if you want.  What I do is continue to contribute the same amount to my 401k and leave the rest alone since I know the market will recover in due time.

What should you do?  Chances are you should be doing the same is me…nothing.  If you have some extra discretionary money, you may even want to invest it at this time.  Everything runs in cycles, including the market.  That means that even if the market tanks significantly more, it will recover and climb higher as well, all in due time.  Remember, you do not actually “lose” money until you sell it or transfer between funds.  Knowing that will help you maintain your focus as well.

In these troubled times, it is more important than ever to maintain your investment strategies, even adding money to them, and keeping your emotions out of your decisions.  Make sure you have an emergency fund, cash available easily that is not in a HELOC (Home Equity Line of Credit) or other credit vehicle, and a financial plan in place.  Keep moving toward those financial goals and dreams and stay the course, which will likely make financial freedom a reality for you.

You have undoubtedly heard that to be financially successful, you need to establish and maintain a budget.  Maybe you even have one in place already, which is good so long as you follow it.  Therein lies the problem.

As with almost every financial and investment plan, most of us fail to maintain that plan or even adapt that plan to life changes.  Budgeting is no exception to this fact, and even I fail to follow my own budget many times.  But does it mean that not following your budget will mean you cannot be successful?

The answer to that question is very dependent on you.  For me, not following my budget has not been a major problem, though it does keep me from meeting or exceeding my goals faster.  I am fortunate in that I make enough money to be able to live beyond my budget.  At times, though, I have had to implement my budget and stick to it to survive with minimal financial impact, penny-pinching if you will.

Many of you reading this are likely facing the latter situation, especially in this economy.  If you find that you are living paycheck to paycheck, budgeting and discipline to stick with that budget are imperative.  Failure to follow that budget may lead to financial ruin, so you better do it and be very strict about it.

If you do fall into that category, may I suggest you even go as far as setting up different envelopes for different expenses, financial accounts per se.  Have an envelope for food, entertainment, car expenses, utilities, etc.  Then place the budgeted amount in the envelope, using ONLY the money in that envelope to pay those expenses.  If you run out of money in the envelope, DO NOT “steal” from another envelope, rather stick with the budgeted amount.

This type of discipline can help you improve your cash flow, even get you to save where you never thought you could before.  It will also help you tremendously in figuring out where all of your money is going, leading to revelations on where you overspend.  I recommend this approach to anyone who finds themselves ever wondering just where their money goes, especially if you do not have a program to track it, at least in Quicken or Microsoft Money.

Some of you reading this may be like me in that you earn enough money you don’t have to worry about your cash flow.  If you have done a budget before and stuck to it in recent history, budgeting may not be worth your time.  However, like almost everything, you do need to practice it from time to time or you will not be very good at it when you do need it to survive some day.  Notice I said when and not if as I am a firm believing in being prepared for whatever life throws at you.

Getting back to the question at hand, is budgeting worth it, the answer is yes, at least to some degree.  Just how worth it will depend on you and your situation, but everyone needs to be at least proficient in utilizing a budget in order to maintain fiscal discipline and ensure financial success.

Whether you have bad credit or not, this post will be of interest to you as we can all improve our credit scores.  Keeping your credit score as high as possible is a necessity as it determines interest rates on loans (car, home, credit cards), insurance rates in some cases, and can even be a determining factor in obtaining employment.  So, what must you do to keep that score up there?

Credit Check Up

The first thing your need to do is get a credit check up.  You can get your free (no strings attached) credit report at www.annualcreditreport.com where you are entitled to one free credit report from each of the three bureaus every 12 months.  You are not required to get all three at the same time, so you may want to space them out to one every four months to maximize your identity theft prevention. 

Once you get a copy of your credit report, review it for any errors, negative information, invalid data, or any other misrepresentations.  It is estimated that between 70 and 80 percent of credit reports contain erroneous information, so it is very important to stay on top of them, not to mention protecting yourself against identity theft.

Credit Score Components

Your credit score is derived from several components, each of which you need to be aware of.  Here is a breakdown of the components and there percentage impact in determining your score:

• 35%  Payment History
• 30%  Amount Owed
• 15%  Length of Credit
• 10%  New Credit
• 10%  Type of Credit

One incorrect belief of many is that closing a credit card will always help your score.  Since a fairly large component of your score is determined based on a ratio of amount owed to credit limit and length of credit, closing that credit card (or line) can actually destroy your credit.  In fact, using a credit card once every few months, paying off its balance each time, is one way to improve your score.

Good Habits

One of the most obvious things you need to do is pay your bills on time every month.  Many creditors are willing to work with you, so if you run into an inability to pay a bill, contact the creditor and see if you can work out an alternative to protect your credit. 

You may want to open new accounts, paying as agreed of course.  Carrying several credit cards, rotating them on a regular basis, of course paying them off each month, can prove highly beneficial to your credit score.  The best accounts to open are those that are unsecured, but you can start with a secured account if needed.  Mortgages and car loans are also big credit score builders, just don’t overextend yourself.

Many of you need to carry balances because you already ran up your balances.  That’s OK, but you do need to work hard to lower those balances.  You may also benefit greatly by asking for an increase in your credit limit.  If approved for the increase, that lowers your balance to limit ratio and can increase your score.  Spreading balances across multiple accounts can also be beneficial, but again, don’t get carried away with the fact you have room on your credit.  If you cannot control your spending, lower your balances if you need to to protect yourself, even if it destroys your credit score.

Credit cards can be a great tool to track spending, use them wisely and you can not only build your credit score, you can use them to budget more effectively.  Not knowing where you need to cut back in spending creates plenty of other financial problems, so keep track of your spending.

Let me say it again, everything is 100% financed.  Another way of saying it, you have to finance everything that you buy.  I repeat this over and over and restate it to drive home a point, most of you do not understand this concept and it is killing your finances.

Why is it that everything is financed?  Simply put, you have two choices when you purchase something.  First, you could pay cash for it.  Second, you could finance it. 

But wait, you just differentiated a cash payment and financing, so how can you say everything is financed 100%?  When you pay cash for something, you are still financing it in a sense, and this is where most of you fail in your understanding. 

Paying cash for something is a form of financing.  Why?  Because every dollar you pay means you cannot earn money elsewhere.  If you decide to pay cash for a car, you are still financing it because you give up the opportunity to earn money elsewhere, which could prove more costly over time than actually financing the car with an auto loan.

Sure, buying something like a car, or even your home, with cash is nice because it means you are not obligated with a monthly payment.  But what is the impact of paying cash versus financing in the long run if you could have earned more money elsewhere, or simply had the cash on hand to seize an opportunity you wouldn’t have been able to since you paid cash?

Let’s say you bought a car for $20,000.  You decided to pay cash because you could.  Then came an opportunity to earn 10% on your money for the next five years.  You don’t have enough cash to act on the opportunity because you bought the car.  Guess what?  You essentially financed the car at 10%.

OK, what if you were able to secure a loan for the car at 5% for the full amount?  Same opportunity comes along, only now you can act on it.  You now made 5% on the money as opposed to 0%.

Let’s look at another viewpoint.  You finance the car still, placing the $20,000 instead in a safe investment vehicle, making 3%.  You are now losing about 2% a year.  Sucks, doesn’t it?  But now you have $20,000 in an emergency fund, which you didn’t before and guess what, you needed it.  Had you paid cash for the car, you would have had to run up credit cards at high interest rates, but since you got an auto loan, you have the cash on hand to work through the crisis, even paying your auto loan for months before depleting your funds.

Are you getting the picture?  There are certainly times when you should pay cash, just as there are times when you need to finance.  Carrying debt is not a problem, just don’t become a slave to it.  A healthy balance is needed in everyone’s financial plan.

The Fiscal Discipline Blog has been a long time coming, having been pent up in my mind for several months.  Alas, it is finally starting in what I hope to be at least one post daily that can be used by all Americans to strengthen their financial future, using today’s rules of money.

To get the blog started, I thought long and hard about what topic to start with.  I know many who read this will not believe in the Bible, and many who do probably don’t follow it anyway.  Nevertheless, the Bible is full of great wisdom, whether you believe it or not, so I chose some verses on money as the topic.

1 Tim 6:6-10

6 But godliness with contentment is great gain. 7 For we brought nothing into the world, and we can take nothing out of it. 8 But if we have food and clothing, we will be content with that. 9 People who want to get rich fall into temptation and a trap and into many foolish and harmful desires that plunge men into ruin and destruction. 10 For the love of money is a root of all kinds of evil. Some people, eager for money, have wandered from the faith and pierced themselves with many griefs.
NIV

The Bible is not saying to not get rich, but rather check your motives behind that desire.  Many rich will tell you they are not happy with how they got there because they did so with the wrong motives and had many “sufferings” along the way, such as divorce, alienated children, etc.  Sometimes, being rich just isn’t worth it, after all, all we really need is what is required to survive each day.

So, that points to why this blog has started, to provide some guidance from my own experiences and education.  My goal with this blog is to help you attain the level of financial freedom you desire, it is up to you to make sure your motives are in check. 

Some things I mention may be counterintuitive, but they do work.  Some things may not be suitable for you and your family, so make sure you don’t take what I say as a “catch all”.  These are mere explanations on how money works and suggestions on how you can make it work better for you.

Feel free to email, comment, etc. because your question may be the same one someone else wants to know but has failed to ask.  This is to be a truly interactive blog and, for that reason, your inputs are essential.