Paris, Personal Finance 101 for Freshmen and an Issue Brief

Yesterday's news cycle was dominated by the Trump administration's decision to leave the Paris climate agreement. The treaty, a non-binding document signed by nearly every country in the world, committed the US to reducing CO2 emissions to 27% less than 2005 levels. Here at the Accountable Update, we worry less about what the government will do for us and more about what we can do. For instance, what would you be willing to sacrifice in the name of saving the planet?

Be honest, what would you sacrifice to reduce CO2?#ActOnClimate

— Jeff Weeks, CFP® (@ATXAdvisor) June 1, 2017

Of course, you can also consider allocating your portfolio in a more environmentally conscious way. The Dimensional Sustainability Core portfolios are alternative funds we can use in the Accountable Portfolios that shift your capital from companies with the highest greenhouse gas emissions to those with the least.

This week also marks the end of high school for The Class of '17. Leaving home and becoming independent is a right of passage for graduates, but all lessons don't need to be learned the hard way. Just because most of our children in the Westlake bubble have grown up surrounded by affluence, there are many gaps in their knowledge of personal finance. My new guide, Personal Finance 101 for College Freshmen, may help some of our bright progeny avoid some of the money mistakes that proliferate on campuses today.

The last part of this week's Update is the latest Issue Brief from Dimensional Funds. In it, they discuss if investors should be worried about potential rising interest rates.

As always, if these issues have you concerned about your plans, get in touch.

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Personal Finance 101 for College Freshmen

1. Debt is indentured servitude and should be avoided if possible. The average undergraduate walks out of college with over $30,000 in student loans. There is no question that completing your education can lead to higher lifetime earnings, but borrowing from your future to pay for the present should be your last alternative, not the first. See additional details on the growing student debt problem in this 2016 report, Student Debt and the Class of 2015.
2. Get ONE good credit card. Establishing credit and using it responsibly is an important life skill. The temptation to accept point of sale discounts for establishing credit accounts or accepting 0% balance transfer offers to delay paying off balances are slippery slopes to financial ruin. Getting cash advances or choosing to pay less than your full balance due are also common mistakes, with finance charges running as high as 20%! One example is the  Journey® Student Rewards from Capital One®. It has no annual fee, 1% cash back on all purchases, and .25% back for timely payments each month.
3. Don’t Pay Stupid “Taxes”. Late fees, penalties, and parking tickets are frequently the result of laziness, inattention, or let’s face it, stupidity. You were smart enough to get into college, you are smart enough to avoid these “taxes”.
4. Find a bank with free checking and ATM withdrawals. Local credit unions are always worth a look. One online option that is attractive is The Summit Account from Aspiration. They pay interest on your balance, offer unlimited ATM reimbursements, and have no monthly maintenance fee or minimum balance requirement. 
5. Shop around for books. College textbooks are a racket that cost the average student over $1200 each year, according to The College Board. Shop around and don’t overlook the campus library. Amazon, Chegg, and eBay are also worth a look. A more creative alternative is to go in with several other students to hack a book by scanning it to PDF files for sharing.
6. Take a bike instead of car. If you live on campus, consider leaving the car at home. Not only will you avoid “stupid taxes” like parking tickets, you won’t have to pay for insurance or gasoline.
7. Aggressively apply for scholarships. Unless you are a world class athlete or at the top of your class, colleges may not be aggressively recruiting you but that shouldn’t deter you from going after every scholarship dollar you can find. Start by checking out the Department of Labor’s Scholarship Finder. Other sites to check out are Cappex,  Collegeboard.com,  CollegeNET.com,  Fastweb.com, moolahSPOT.com, Peterson’s, Scholarships.com, Scholarship Monkey, and Unigo.
8. Graduate in 4 years or less. A year of college can cost up to $70,000. Taking Advanced Placement tests, dual credit courses, or classes at the local community college can get you credit for many of the huge lecture classes than many freshman struggle with while potentially saving thousands of dollars.
9. Start looking for internships your freshman year. High paying internships for juniors are competitive. Give yourself a leg up by seeking internships at companies in your field of study as early as possible. Reach out to smaller companies or startups where hiring managers may be happy to hire a lower paid resource than they would have to pay for in the open market. The experience you gain will make you a more attractive candidate for higher paying gigs later on.
10. Pay Yourself First. If you follow the previous advice, you may find that instead of graduating college with a monthly obligation that you can pay yourself instead. A dollar invested when you’re are 20 years old will grow to over $45 by age 60 if you can average a 10% return, which is roughly what US stocks have done long term. Even better, put the savings in a Roth IRA and it will grow tax free!

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When Rates Go Up, Do Stocks Go Down?

June 2017

Should stock investors worry about changes in interest rates?

Research shows that, like stock prices, changes in interest rates and bond prices are largely unpredictable.[1] It follows that an investment strategy based upon attempting to exploit these sorts of changes isn’t likely to be a fruitful endeavor. Despite the unpredictable nature of interest rate changes, investors may still be curious about what might happen to stocks if interest rates go up.

Unlike bond prices, which tend to go down when yields go up, stock prices might rise or fall with changes in interest rates. For stocks, it can go either way because a stock’s price depends on both future cash flows to investors and the discount rate they apply to those expected cash flows. When interest rates rise, the discount rate may increase, which in turn could cause the price of the stock to fall. However, it is also possible that when interest rates change, expectations about future cash flows expected from holding a stock also change. So, if theory doesn’t tell us what the overall effect should be, the next question is what does the data say?

Recent Research

Recent research performed by Dimensional Fund Advisors helps provide insight into this question.[2] The research examines the correlation between monthly US stock returns and changes in interest rates.[3] Exhibit 1 shows that while there is a lot of noise in stock returns and no clear pattern, not much of that variation appears to be related to changes in the effective federal funds rate.[4]

Exhibit 1. 
Monthly US Stock Returns against Monthly Changes in Effective Federal Funds Rate, August 1954–December 2016

Monthly US stock returns are defined as the monthly return of the Fama/French Total US Market Index and are compared to contemporaneous monthly changes in the effective federal funds rate. Bond yield changes are obtained from the Federal Reserve Bank of St. Louis.

For example, in months when the federal funds rate rose, stock returns were as low as –15.56% and as high as 14.27%. In months when rates fell, returns ranged from –22.41% to 16.52%. Given that there are many other interest rates besides just the federal funds rate, Dai also examined longer-term interest rates and found similar results.

So to address our initial question: when rates go up, do stock prices go down? The answer is yes, but only about 40% of the time. In the remaining 60% of months, stock returns were positive. This split between positive and negative returns was about the same when examining all months, not just those in which rates went up. In other words, there is not a clear link between stock returns and interest rate changes.

Conclusion

There’s no evidence that investors can reliably predict changes in interest rates. Even with perfect knowledge of what will happen with future interest rate changes, this information provides little guidance about subsequent stock returns. Instead, staying invested and avoiding the temptation to make changes based on short-term predictions may increase the likelihood of consistently capturing what the stock market has to offer.

Glossary

Discount Rate: Also known as the “required rate of return,” this is the expected return investors demand for holding a stock.

Correlation: A statistical measure that indicates the extent to which two variables are related or move together. Correlation is positive when two variables tend to move in the same direction and negative when they tend to move in opposite directions.

Index Descriptions

Fama/French Total US Market Index: Provided by Fama/French from CRSP securities data. Includes all US operating companies trading on the NYSE, AMEX, or Nasdaq NMS. Excludes ADRs, investment companies, tracking stocks, non-US incorporated companies, closed-end funds, certificates, shares of beneficial interests, and Berkshire Hathaway Inc. (Permco 540).

Source: Dimensional Fund Advisors LP.

Results shown during periods prior to each Index’s index inception date do not represent actual returns of the respective index. Other periods selected may have different results, including losses. Backtested index performance is hypothetical and is provided for informational purposes only to indicate historical performance had the index been calculated over the relevant time periods. Backtested performance results assume the reinvestment of dividends and capital gains.

Eugene Fama and Ken French are members of the Board of Directors for and provide consulting services to Dimensional Fund Advisors LP.

There is no guarantee investment strategies will be successful. Investing involves risks including possible loss of principal.

All expressions of opinion are subject to change. This article is distributed for informational purposes, and it is not to be construed as an offer, solicitation, recommendation, or endorsement of any particular security, products, or services.

[1]. See, for example, Fama 1976, Fama 1984, Fama and Bliss 1987, Campbell and Shiller 1991, and Duffee 2002.

[2]. Wei Dai, “Interest Rates and Equity Returns” (Dimensional Fund Advisors, April 2017).

[3]. US stock market defined as Fama/French Total US Market Index.

[4]. The federal funds rate is the interest rate at which depository institutions lend funds maintained at the Federal Reserve to another depository institution overnight.

Are We Heading for a Bitcoin Bloodbath?

Before the speculative bubbles in housing in the mid-2000’s and .com stocks in the late 1990’s, there was an emu craze around here. If you're not familiar with the national bird of Australia, they are five-foot-tall flightless birds, weighing as much as 100 pounds. Billed as the “next red meat”, emus were high fliers in the Lone Star State before many had even heard of things like the internet or sub-prime mortgages.

How high did they fly? According to this 1997 LA Times Article, eggs were going for thousands of dollars and breeding pairs for up to $50,000! Also detailed in the article, the literal bloodbath that resulted from investors that didn’t understand what they were buying. WARNING: The description of how two Colleyville, TX doctors tried to cut their losses may be disturbing.

Lately, headlines about bitcoin have echoed back to some of those frenzies. Bitcoin, the most popular blockchain technology, got a further boost this week when Fidelity Investments announced that they are adding the ability to track your holdings on their website, right beside your 401(k) and IRA.

The hype has reached a fever pitch recently as the price has doubled in the past month. One example this week was a news story discussing the anniversary of Bitcoin Pizza Day, where a programmer bought a couple of pizzas with 10,000 Bitcoins on May 22, 2010. Today, that amount of bitcoin would be worth about $25,000,000.

Eye popping stuff, to be sure. Perhaps, though, we should remember advice from a former Fidelity fund manager. Among his many famous quips, Peter Lynch offered, “Never buy anything that you can’t illustrate on the back of a napkin”.

Do you understand what bitcoin is? If not, you’re probably not alone. Below is a “napkin like” one page description of the underlying blockchain technology from Autonomous Research.

Simple, right?

A longer (about 6 minute read) explanation that made a little more sense to me was in this Medium.com article by Nik Custodio, “Explain Bitcoin Like I’m Five”. His use of an apple analogy demystifies some elements of the cryptocurrency, but it still leaves a lot of unanswered questions.

It is potentially revolutionary technology that could change the way we do business in the not too distant future. But is bitcoin going to be the ultimate winner? Or will it be the next Betamax or MySpace?

Risks include careless folks inadvertently losing them, bad guys figuring out how to steal them, or the market preferring an emerging alternative, such as Ether (up 2300% this year).

Some have even touted bitcoin as being “better at being gold than gold”. I’m not sure what that means, but I do know that if the lights all go out, an inert hard drive probably won’t pay the tolls to cross many of the bridges heading out of town. On the other hand, an ounce of gold will likely still buy a lot of emus.

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Updates from Dimensional

ATX Portfolio Advisors utilizes Dimensional Funds in most of our portfolios. Any time there is significant change at Dimensional, I pay close attention to try and insure that your interests are being met first and foremost. As you may have heard earlier this year, Dimensional Founder and Executive Chairman, David Booth, stepped away from his Co-CEO role.

Longtime Dimensional executive, David Butler, was promoted to take on the role vacated by Booth. Earlier this month, he sat down for a Q&A session that was initially meant for an internal audience, but has now been made available for broader consumption.

Even though Booth has stepped away from some of his day to day management duties, he is still involved in strategic initiatives and leadership of the firm. In his Letter From The Chairman, 2017, he shares lessons from his 35 years in the industry, as well as compelling evidence that the Dimensional approach works.

As always, if you have questions or would like to discuss if your plan is working, get in touch.

Want to Be Smarter? Disagree!

As most readers of the Accountable Update probably know, I’m a Fightin’ Texas Aggie. Like many of my fellow farmers, I’m proud to have attended one of the two flagship universities in the Great State of Texas. As a resident of Austin for the last decade or so, however, I have met many graduates and fans of that other school, the University of Texas (t.u.).

When I first moved to ATX in 2007, the Longhorns (tsips) were riding high. They had recently won national championships in football and baseball in 2005. On my daily slog from Westlake up to the Arboretum, it was hard to find respite from all things related to The Forty Acres as they more or less dominate the local news and talk radio. The sports channels that I favor spent the majority of their air time discussing when the next Longhorn team would light up that God forsaken tower with another #1.

One evening in early January 2010, as I was creeping home on Loop 360, one local sports radio personality almost caused me to drive off the Pennybacker Bridge when he posed the question, “Has there ever been a better time to be a Texas Longhorn in Austin, Texas?” He went on to remind listeners that Mack Brown was about to lead his team back to the Rose Bowl for what could be their second championship in five years, the baseball team had just finished second in the previous season’s College World Series and were ranked #1 leading into the 2010 campaign, and the basketball team had also just been ranked #1 for the first time ever.

While it was a great time to be a Longhorn in Austin, maybe it wasn’t quite so awesome to be an Aggie marooned here. I turned off the radio and swore to never listen to any tsip themed sports show again. We Aggies are known for our steadfastness and resolve. We’re also very fond of our traditions and history, even if we have to go back a while to find things to celebrate. (Did you know our 1917 football team was unbeaten and unscored upon?)

We enjoy commiserating to one another about being ranked too low, t.u. being ranked too high, some perceived snub in the reporting of a big win or positive story, or a commentary that is considered unflattering. It’s probably not a lot different than being a Chicago Cubs fan prior to 2016.

Perhaps nowhere is this phenomenon more prevalent than the message boards on Texags.com. A search of their site using Google’s Advanced Search for the term “disrespect” returned 10,700 results. I couldn’t find any other college site that registered more than 2,500. Aggies really have a hard time understanding why others don’t like us as much as we like ourselves. On second thought, we’re probably less like the Cubs and more like Sally Fields before the 1985 Oscars.

Eventually I tuned back into the local channels, though, because I missed hearing the orange tinted version of the world, no matter how misguided. Gradually, I’ve come to realize that being unranked in the preseason is less about the BOMC (Burnt Orange Media Conspiracy) keeping the Aggie man down and more a reflection of the market’s sentiment. Last year, for instance, the Ags football team began unranked but rose to the top 10 in most polls after winning their first 6 games. The 2-4 finish, on the other hand, only served to reinforce that at least the sum of media pollsters knew what they are talking about. 

While I frequently find myself disagreeing with the opinions of my many bovine aficionado friends & acquaintances, I have found that my own expectations and beliefs wind up more grounded as a result of engaging in conversations with them about both our similarities and our differences. I’ve also found this to be the case with politics, religion, and even finance.

The modern world has made it easy to create our own personal echo chambers. With a click of the mouse, we can ignore a “friend” on social media that offers different world views. If we don’t like the spin on a news story, we just change the channel to a more liberal or conservative alternative. But by limiting our exposure to sources or audiences that we only agree with, we may be missing an opportunity to make ourselves smarter, as discussed in this 2014 Scientific American® article.

If we allow this tendency to extend into our investment opinions, the results can be costly. So, if you tend to read glass half empty perspectives such as Zero Hedge or Nouriel Roubini, you should also take in some more optimistic points of view from folks like Jeremy Siegel or even Jim Cramer. The views and perspectives may vary widely, but that’s the point. Get more information and then make informed decisions.

That’s how markets work. They take all the available information, knowledge, and opinions and integrate that into prices. Together, we know more than we do alone.

At the end of the day, broadening your circle may help you wind up with more money. You’ll almost certainly have more friends, which is probably worth even more.

Want to discuss or debate?

Get in touch.