Manage your personal finances like a CEO

Posted by Tad Johnson - Mar 15th, 2008 at 6:03

Google vs Costco. Two giant businesses, both very profitable, (both from California) but with a fundamental difference in strategy. Google is all about revenue growth–they release many new products each year and add customers to drive top line growth. Costco, while also focused on growing revenue, places a larger emphasis on driving down cost for bottom line growth.

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Each strategy has its benefits and constraints, but both produce results. As a vicenarian, you too should be thinking about both strategies. As CEO of your personal finance, you need to manage both revenue (your paycheck) and cost (your expenses). You’ll never achieve your financial goals unless you take both into account.

Most of us like to think of the revenue side of the equation first. Everyone dreams of the big fat paycheck coming at the end of the month. The problem is, that’s only half of the equation. Ask the hundreds of movie stars, pro athletes, and rock stars who’ve gone from million dollar paydays to broke–when your expenses exceed your income, you’ve got a problem.

Borrowing another term from corporate finance, consider your personal margin–the difference between income and expenses. If you can arrange your lifestyle to provide a healthy margin, you should consider yourself rich, regardless of your income. Since you have more direct control over your expenses than your income, it’s easy to see where to start. A unifying theme among all the get-rich books and blogs out there is to live below your means. To put it a different way, focus on maximizing your margin, not maximizing your income.

T.W Hanson discovered this in his first year out of college, working in an industry that paid well but required high personal expenses as well (emphasis mine) :

When picking out my New York apartment after undergrad, I had heard that approximately 1/3 of your income should go to rent. Rules of thumb like this do not account for student loans. I unfortunately took the 1/3 advice, and my first 12 months in the city were difficult. I was in more debt after twelve months of work than before I arrived.

You’re the CEO of your personal finance and you’ve got shareholders to satisfy (which, conveniently, are also you). Don’t blind yourself by thinking only about growing your income–it’s the margin that’s most important.

Distinguish yourself at work : write!

Posted by Tad Johnson - Mar 14th, 2008 at 8:03

In college, I was shocked and dismayed by the range of writing abilities in my classes. Some students could crank out a well structured essay in their sleep; others struggled with basic grammar. Due in large part to the years of top-notch instruction offered at my Minnesota public high school, my skills marked towards the higher end of the spectrum. Assuming the university process would run its course, I didn’t dwell too much on this writing ability disparity–until now.technical_writing-1.jpg

My current employer (a very large, global corporation) is in the process of updating its quality policies and procedures. We’re operating in an FDA-regulated industry, so there’s a strong emphasis on written documentation. Therein lies the irony: by and large, the quality documentation we’re creating is low quality. As an organization, we love tracking schedules and cost, but there’s very little emphasis placed on good quality writing.

Just this week, I read through about 200 pages of documentation and found hundreds of errors. Some are benign–spelling errors, stray punctuation, etc. while others reveal a deeper problem: tenses that change mid paragraph (or mid sentence), adjectives that don’t agree with their nouns, over-use of the passive voice, fragmented and run-on sentences. The very documents that are required (by law) to spell out our quality systems and procedures are written such that they’re extremely hard to understand. This is a problem!

Fortunately, there is a very healthy industry built up around technical writers (mostly English majors who decide to seek a pay check). Unfortunately, my company does not seem to recognize or value the skill of clear writing so we aren’t hiring them.

My takeaway from this experience is a redoubled appreciation for strong writing skills. If you’re still in college (or high school), please take more English classes. If you’re early in your career like me, please take writing seriously. Read books (lots of them!) to study the work of other good writers (no, blogs do not count). Write your emails, documentation, and other correspondence with your favorite English professor in mind. Better yet, write a blog–and practice, practice, practice.

We live in an age of information abundance. Sharing that information through writing is a skill that will only increase in value. Do yourself, your colleagues, and our culture the favor of demanding quality writing from yourself and those around you.

Confused Crisscrossing Markets

Posted by T.W. Hanson - Mar 12th, 2008 at 21:03

 directions

Since the current financial trouble started in the summer of 2007, stock, credit, currency and commodity markets have moved severely.  Interesting is the lack of coordination.  The past 48 hours are a good illustration of this phenomenon.  Equity markets found the $200 billion in lending from the Fed to be fabulous news while the bonds of some of the very same equities didn’t really move.  Traders in the currency markets were convinced early today that the Fed action would fail in its purpose, and pummeled the dollar.  It took the equity market until the end of the day to react in a seemingly similar fashion.  What is the cause of this confusion?

Analytics and quantitative models have lost the faith of the market.  Tools used to value everything from the value of a mortgage to probabilities of corporate defaults are coming scrutiny.   The equations, machines and historical correlations that have typically governed market behavior broke down over the summer.  The variations of models used to value everything from bonds to mortgages to credit default swaps are more disjoint, leaving traders with less uniform valuation techniques.  Think of a heard of buffalo all losing their sight while barreling across the Serengeti.  One example was the lack was the lack of any consolidation of opinions on what the quantitative impact of the Fed’s $200 billion infusion will be.

Without the unifying models and historical correlations, specialization in training on Wall Street becomes another force decoupling the markets.  As my former superiors in investment banking liked to say, “The days of the generalist are over.”  Foreign exchange, corporate credit and equity people work on separate floors; it is even rare to see them at the same social functions.  With all of the current turmoil, each of these worlds is interpreting data differently.  For example, credit analysis often focuses on the past performance of a company while equity markets usually value securities based on future cash flows.  The equity world is much more likely to forgive big write downs and look to the future while credit investors have their attentions squarely on the trauma of the past half year.  We have seen more than a handful of days in 2008 where equities have traded higher while bond spreads have increased, truly irreconcilable moves in “efficient markets.”

What this will bring in the weeks ahead is volatility.  Until it is somewhat clear in what direction the economy is moving or at least what the general effect of Fed policy will be, the markets will continue to move in confounding directions.  Rumors will continue to fly, which have already almost brought down institutions like Bear Stearns.

Tomorrow, we get to see how the markets will interpret retail sales numbers.  Consumer spending makes up over 2/3 of the economy.  The number isn’t likely to be pretty, but how much of that is already priced in to the market?  Wait, how much of that is priced into which market?

What Happened?

Posted by T.W. Hanson - Mar 11th, 2008 at 20:03

buy

The Dow finished the day up 416.66 points or 3.5%. The rally began before the market opened and continued through the day. These moves weren’t echoed in the larger credit market, but we will get to that in a later post. What did happen was that the Federal Reserve decided to make available $200 billion to banks, and what is unique is what the banks can post as collateral.

The banks can now borrow that $200 billion using the highest rated pools of defaulting mortgages as collateral. This is intended to free up capital to help the markets function properly.

Many analysts were pointing to a negative feedback loop in the credit markets last weeks as cause for real concern. Hedge funds like Carlyle and Peloton and institutions holding mortgages like Thornburg were receiving margin calls from banks. This forced them to liquidate securities for which there wasn’t a robust market. This depressed prices in those markets. Other holders of the these securities were facing margin calls, and these events threatened a serious melt down in the capital markets. This infusion by the Fed should help ameliorate some of these issues.

That being said Bear Stearns was down approximately 10% at times during today’s trade on fears that it doesn’t have adequate liquidity to operate. And, it cannot be stated enough, the credit markets moved in a very muted fashion compared to equities today.

The question is what has the Fed done. Have they lanced the boil, provided adequate antiseptic and bandaged the wound properly or given the wound a third shot of cortisone and left the rest to the audacity of hope?

A penny saved

Posted by Tad Johnson - Mar 11th, 2008 at 19:03

I believe it was Benjamin Franklin who coined the phrase “a penny saved is a penny earned”. In today’s economy, this isn’t quite true. A more accurate version is “a penny saved is a little more than a penny earned”. This extra, of course, is interest.

penny savedCompound interest is a pretty magical thing–it turns a little bit of money into a lot of money over a long period of time. This is why we all save money in Roth IRAs, 401(k)s, and the like. There’s just one little problem–saving money is no fun.

Sadly, I don’t have anything to offer that somehow makes saving as much fun as, say, a weekend in Vegas. What I do have is human psychology that affirms spending money isn’t nearly as fun as we think. I read about this most recently in the books Stumbling on Happiness and Deep Economy.

The thesis goes like this : we think that buying that new car, or new computer, or new pair of jeans will make us happy. More so, we think that the really expensive car/computer/jeans will make us really happy. But once we buy them and the initial glow has worn off, we discover that even a Porshe is just another car. And that brand new iMac is just a vehicle to the same old internet. And those designer jeans feel about the same as the less expensive pair.

For the vicenarian, understanding this psychology can be a powerful tool in happily saving money. Since you know (once you’ve read the above books) that buying stuff doesn’t make you as happy as you expect, you can more comfortably choose not to spend. Or, to be more precise, you’ll spend your money on the things that really make you happy (dinner with friends) and less on the stuff that won’t (expensive gadgets).

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