Financial advisors often get a bad rap and it's easy to understand why. Insurance and annuity salesmen masquerading as financial advisors are one major contributor and investment managers who load up their client's portfolios with high fee investment funds are another. Both leave the client worse off while leaving the financial advisor and the firm they work for with fatter pockets.
Viewing it through the value of time lens, clients of shit advisors are literally working hours to generate an income that they then turn and give to the advisor who does almost nothing. In that sense, the clients are working for the advisor. By paying for commission ladened financial products and investing in high fee funds while receiving little to no quality financial advice, clients doing just that. Giving their hard earned money (and therefore time) to a bum who's ripping them off.
It's pretty easy to see why financial advisors get a bad rap now, isn't it?
Time is finite. If your financial advisor isn't investing their time to improve yours, then there's a huge problem.
Luckily, most of you don't even need a financial advisor. Your financial scenario simply isn't that complex. No, that's not a slight and no, I'm not running some financial advisor psyop. So stop furrowing your brow and stop puffing out your chest. STOP!
Don't believe me? Well, fine. Let me take a swing at what your financial life looks like.
This You?
Alright, so you work for someone else and it's 50/50 whether you work for a large corporation or a small business. You'll work for someone else for the duration of your career, even though you'd rather be self employed.
Your total compensation is within the $65,000 - $85,000 range, but not less than $40,000 unless you just started your career. You contribute to your company 401(k) and contribute enough to meet the company match. Your 401(k) is invested in a target date fund.
Your health insurance and life insurance are exclusively provided through your employee benefits program. You sort of understand how health insurance works but don't know if you have adequate life insurance coverage. When it comes to additional health insurance benefits, you've been offered to open a Flexible Spending Account (FSA) but don't have the option for a Health Savings Account (HSA). You probably contribute some money to your FSA, but only because HR implies it's dumb not to.
Personally, you live within your means and pay your credit cards off each month. You keep your cash in checking and savings accounts. You have some cash set aside for an unexpected expense but it's not enough to cover an abnormally large expense and certainly not enough to cover your living expenses if you were to lose your job for longer than a month.
Retirement accounts outside of a 401(k)? Eh, it’s a coinflip whether you have an Individual Retirement Account (IRA) or not. That said, you've certainly heard about them, although you don’t really know the difference between a Traditional and Roth IRA. Something about taxes?
If you’re married, your biggest asset is your home, and your biggest liability is your mortgage. You have a kid and are likely planning for another, but you haven’t begun planning for either child’s college education yet.
If you’re single, your biggest asset is your investment accounts, and your biggest liability is your student loans. If you were lucky enough (or worked hard enough) to not have student loans then your auto-loan is your largest liability. You eventually want to get married and have kids but are currently focused on your career, paying down your student loans and saving for a house while doing so.
So how'd I do? Was I close?
If so, then you probably don't need a financial advisor. You can follow some financial rules of thumb and probably be fine.
Now before I get into the rules, I have to throw up the disclaimer that these rules are for a hypothetical person and not specifically tailored toward YOU. There's no guarantee that if you follow these rules, all will be good in your financial world. Read the Disclaimer at the end of the post for the "fun" legal language.
So hypothetical person, we'll say Bob, who matches the description I earlier described, now that I've covered my ass (hopefully), lets get to the financial rules you should follow.
My Financial Rules of Thumb
Have Three-to-Six Months of Living Expenses Set Aside in Cash (Emergency Fund)
If you don't have an emergency fund already, start stashing cash away. The typical rule is three months worth of living expenses, but it really depends on the nature of your job and how quickly you could get another one if you lost your current one. Three months is probably more appropriate for an accountant. Petroleum engineer? Eh, closer to six.
Also, make sure your cash is actually yielding something! Don't keep all your emergency funds in a checking account because there are higher yielding accounts and cash-equivalent investments available. For example, the American Express High Yield Savings Account is currently yielding 4.35% and investing in The Schwab Value Advantage Money Fund (SWVXX) currently yields 5.19%.
Meet All Company Matches
Meeting your company 401(k) match is the best risk-free return you can generate, bar none. I don't care if they match dollar-for-dollar or only 25% of your contributions. It's free money. There's simply no better return on investment.
Your company matches up to 3%? You're contributing at least 3%. No negotiation. Up to 5%? Even better. UP TO 10%? MAKE IT HAPPEN!
While less common, some companies also match Health Savings Account (HSA) contributions. If your company offers this match as well, MATCH IT!
Pay Down and Avoid High Interest Debt
Avoid high interest debt altogether and if you have it, pay it off. Credit cards, which are the most common form of high-interest rate debt, often come with interest rates that exceed 20%. Paying this balance down generates a higher rate of return than you can reliably generate on any investment, especially after accounting for risk, and the added the "intangible income" from not having expensive debt looming over your head is an added bonus.
Save 20% of Your Income
This comes from the common 50-30-20 budgeting rule where you budget 50% of your income for needs, 30% for wants, and 20% for savings.
Now look. Try telling someone in LA or NYC to only spend 50% of their income on necessities (like housing) and if they're drinking something, they'll do a spit take. In reality, where you allocate 80% of your income for spending needs doesn't matter as much as ensuring that you save 20%.
Now, where should you put this 20%? Well,
Emergency Fund
Paying off High Interest Debt
Retirement Accounts (401(k), IRAs, etc.)
Near-Term Goals (House down payment, Car, etc.)
This of course begs the question, how much should I be saving for retirement?
There are reams and reams of articles on this question and answers vary widely. However, based on my research, modeling it out, and stress testing it a little bit, I would say if your in your mid-20s, at a bare minimum you should invest half of your savings (10%). This includes the company match.
By investing 10%, you should be able to cover your current lifestyle through retirement (if you're saving 20% of your income) and won't become overly reliant on a very shaky social security program or a potential inheritance that may never come.
That being said, I would highly recommend investing more than 10%. That is the bare minimum after all.
If you haven't been investing 10% of your income and are later in life, then you're obviously going to have to invest more to catch up. Enter your individual circumstance into the Vanguard Retirement Income Calculator to get a better estimate.
Open 529s for Your Kiddos
If you plan on saving for your child's college education, open up a 529 account and begin contributing to it.
A 529 allows you to contribute after-tax dollars into an account that will grow tax free and allow you to take tax-exempt distributions, as long as you use the funds for qualified educational expenses. To clarify, you have to invest the money you contribute to the 529. The money doesn't just grow. More on that in a second.
Unsure how much to save? Use the Vanguard College Savings Planner to figure this out. Simply input the type of college you envision your child attending and the amount of your child's college education you want to fund and boom, you get your answer. Plug and chug.
Unsure of where you should open up the account? If you live in a state without an income tax, opening an account through any major financial service company like Vanguard, Fidelity, and Schwab will suffice. However, if you're subject to a state income tax, it's worth checking out Vanguard's 529 Tax Benefits by State Interactive Map to see if there are state tax benefits for investing in your own state's 529 plan. Then weigh the quality of your state's 529 plan against the tax savings. SavingForCollege.com provides tools to assess 529 quality.
Invest in Target Date Funds for Retirement and College Funding
With target date funds, you get the benefits of a professional investment manager but at a fraction of the cost.
Here's how they work. These funds set an asset allocation (i.e., mix of stocks, bonds, and cash) and gradually adjust the allocation, from more risky to less risky, as you get closer to your "target date". The target date for retirement is when you plan on retiring and for college it's when your child is expected to go to college.
To illustrate how cheap they are, the Vanguard Target Retirement 2065 Fund only has an expense ratio of 0.08% and Schwab's Indexed Age-Based Portfolios for college have expense ratios around 0.20%.
Invest More or Paydown Loans?
So should you invest more for retirement or pay down loans with lower interest rates such as your mortgage? My rule is to take the 10-year treasury rate and add 5%. If that number is greater than the interest rate on your debt, consider investing. If not, consider paying down your loans.
Why 5%? Well, historically the S&P 500 has outperformed the 10-year treasury rate by an average of around 5%. Since the 10-year treasury bond is still considered a risk-free asset and paying down debt is a risk-free return, you have to be compensated for the extra return you want to generate by forgoing the risk-free option and investing in stocks (5%). Of course, if you're investing more conservatively than a 100% stock portfolio, the return you add will be lower than 5%.
I need to stress that this is a simple rule and that actual stock market returns versus the 10-year T-bond will vary widely from 5%. So, when in doubt, bias towards paying down debt.
Only Consider Term Life Insurance. Avoid Whole Life and Complex Life Insurance/Investment Hybrid Products.
For life insurance needs, only consider term life insurance. Waive off whole life policies and run away from any complex insurance/investment hybrids like variable, universal, and variable universal life policies. The don't make sense for a vast majority of the population, despite how they're marketed.
I'll write a blog post detailing common wealth traps sometime soon and, spoiler, costly life insurance policies like those just mentioned are high on that list.
Anywho, many companies provide complimentary term life insurance policies for their employees with the option to purchase additional coverage. Since your employer's offering pools the risk of any given employee dying in any given year, you can often get better insurance rates through your employee benefits program versus purchasing it on your own.
Yes, there are merits to getting life insurance that's not tied to your employment (e.g., you get fired and immediately hit by a bus, what a day). However, these merits are generally overblown and overexaggerated by (surprise) insurance salesmen cosplaying as financial advisors.
So how much life insurance do you need? Well,
add up all of your household debts,
add up future household expenses and goals you want funded,
add any additional money you want to leave for your beneficiaries,
and subtract your assets.
Whatever number that comes out to is how much life insurance coverage you need. If that amount feels low, you can always purchase a few additional hundred thousands worth of coverage at an affordable price to give you peace of mind.
Only Consider Annuities when Nearing Retirement (55+) and Avoid Investment-Linked Annuity Products.
Costly complex life insurance products are one wealth trap, and costly complex annuities are another.
An annuity is a financial product that's designed to provide a steady stream of income during retirement. The annuity types you should consider transfer the investment risk from you to the annuity company, allowing you to essentially collect a steady paycheck for the duration of the annuity (the length and amount depends on the annuity contract terms and how much you invest).
Any annuity product that's directly linked to an investment index defeats the purpose of an annuity. You can get compensated for taking investment risk far cheaper by keeping your money in a low-cost target date fund.
If You Plan on Living Longer than 83, Claim Social Security at 70
Death is never a fun topic to discuss but it's something you have to consider as you reach retirement age.
The average American has a coinflips chance of making it to 83. If you're a non-smoker in excellent health, those odds go up considerably and if you're a smoker in poor health...well.
Simply put, and as the title clearly states, if you plan on living longer than 83, try to claim social security at 70. That way you maximize the lifetime social security income you'll receive.
Quick note. It's worth checking your family's health history for any hereditary risk factors that could cut your life short (like heart disease). In which case it may make sense to claim social security before 70.
I performed a little sensitivity analysis to help visualize when it makes sense to claim social security based on life expectancy. See below:
If you expect to die before or at 73, claim immediately when you hit 62 and if you expect to live longer than 83, claim at 70. Anything in between that see below:
There You Go! (Yikes This Post is Getting Long)
There you go hypothetical person, follow those rules and you'll probably be fine financially.
Of course and as mentioned earlier, if you're starting later in life, you'll have to play catch-up, specifically as it relates to retirement. Starting to invest 10% of your income at 35 just won't cut it. You'll need to invest more to get back on track financially. Again, play with the Vanguard Retirement Income Calculator to get a rough estimate for how much you need save given your individual circumstance.
So yeah, a lot of words for some very basic principals. Start early, avoid costly debt, save more, avoid costly traps, and invest aggressively.
If you follow these rules, hypothetical person, you probably don't need a financial advisor.
I originally visualized this post discussing when you DO need a financial advisor and the value a quality financial professional adds. I may be biased (lol), but hiring a quality financial advisor can add HUGE VALUE to your life! However, this blog ended up pretty lengthy, so I'll discuss all of this in the next time.
As an aside, I'm already anticipating the numerous "WELL ACTUALLLLLY!" comments from the dorks when I post this. These are simply rules of thumb dorks, of course there's nuance.
Props to you for making it to the end. Extra reading below champ.
Post Disclaimer:
The information provided in this blog post represents the personal views and opinions of the author and is intended for educational purposes only. It is not intended as personalized investment advice or as a recommendation to buy, sell, or hold any specific securities or financial products.
Educational Content: This content is provided for educational purposes only and should not be construed as financial advice. It is important to consult with a qualified financial advisor or planner, such as EID Capital, before making any investment decisions.
No Guarantees: While the author believes the rules of thumb outlined in this post can be helpful, there is no guarantee that following them will lead to financial success or security. Individual financial situations vary, and factors beyond the scope of this post may influence outcomes.
Products and Services: Any mention of specific products, services, or tools is for illustrative purposes only and does not constitute a recommendation or endorsement by EID Capital. The firm does not attest to the quality or suitability of any mentioned products, services, or tools.
Hypothetical Scenarios: Any scenarios or examples provided in this post are hypothetical and for illustrative purposes only. They do not reflect actual investment results or guarantee future performance.
Additional Disclaimer Language:
Past performance is not indicative of future results.
Investing involves risk, including the potential loss of principal.
All investment strategies have the potential for profit or loss.
EID Capital disclaims any liability for any direct or incidental loss incurred by applying the information provided in this blog post. By reading this content, you acknowledge and accept the terms of this disclaimer.
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