Personal Finance


Suppose that every day, ten men go out for beer and the bill for all ten comes to $100…

If they paid their bill the way we pay our taxes, it would go something like this…

The first four men (the poorest) would pay nothing.

The fifth would pay $1.

The sixth would pay $3.

The seventh would pay $7..

The eighth would pay $12.

The ninth would pay $18.

The tenth man (the richest) would pay $59.

So, that’s what they decided to do..

The ten men drank in the bar every day and seemed quite happy with the arrangement, until one day, the owner threw them a curve ball. “Since you are all such good customers,” he said, “I’m going to reduce the cost of your daily beer by $20”. Drinks for the ten men would now cost just $80.

The group still wanted to pay their bill the way we pay our taxes. So the first four men were unaffected. They would still drink for free. But what about the other six men? The paying customers? How could they divide the $20 windfall so that everyone would get his fair share?

They realized that $20 divided by six is $3.33. But if they subtracted that from everybody’s share, then the fifth man and the sixth man would each end up being paid to drink his beer.

So, the bar owner suggested that it would be fair to reduce each man’s bill by a higher percentage the poorer he was, to follow the principle of the tax system they had been using, and he proceeded to work out the amounts he suggested that each should now pay.

And so the fifth man, like the first four, now paid nothing (100% saving).

The sixth now paid $2 instead of $3 (33% saving).

The seventh now paid $5 instead of $7 (28% saving).

The eighth now paid $9 instead of $12 (25% saving).

The ninth now paid $14 instead of $18 (22% saving).

The tenth now paid $49 instead of $59 (16% saving).

Each of the six was better off than before. And the first four continued to drink for free. But, once outside the bar, the men began to compare their savings.

“I only got a dollar out of the $20 saving,” declared the sixth man. He pointed to the tenth man,”but he got $10!”

“Yeah, that’s right,” exclaimed the fifth man. “I only saved a dollar too. It’s unfair that he got ten times more benefit than me!”

“That’s true!” shouted the seventh man. “Why should he get $10 back, when I got only $2? The wealthy get all the breaks!”

“Wait a minute,” yelled the first four men in unison, “we didn’t get anything at all. This new tax system exploits the poor!”

The nine men surrounded the tenth and beat him up.

The next night the tenth man didn’t show up for drinks, so the nine sat down and had their beers without him. But when it came time to pay the bill, they discovered something important. They didn’t have enough money between all of them for even half of the bill!

And that, boys and girls, journalists and government ministers, is how our tax system works. The people who already pay the highest taxes will naturally get the most benefit from a tax reduction. Tax them too much, attack them for being wealthy, and they just may not show up anymore. In fact, they might start drinking overseas, where the atmosphere is somewhat friendlier.

Wouldn’t it be great to get out of credit card debt once and for all? To put an end to the ever increasing tensions that worsen insomnia and inspire fights between family members? To cut away the burdens that enslave your household budget? To be able to answer the phone without worrying that it’ll be another bill collector interrupting dinner? It honestly might be easier than you think.

1 – Make Sure You Earn More Money Than You Pay Out

Sounds simple? You’d think so – without a strict budget that ensures you won’t increase your burdens each week, how could you ever expect to get out of credit card debt – but you’d be surprised how many American heads of household start out attempting a vaguely formulated program of debt relief without ever marking down just what the family could spend.

2 – Discern Which Financial Burdens Are Acceptable And Which Are Not

This determination, too, generally seems easier said than done because of a few different issues. To take one instance that often bedevils folks trying to get out of credit card debt, it’s so ingrained among many families that the very first thing that they should do is get rid of their mortgage debt. Obviously, for home owners that have the capacity, protecting the sanctity of the family residence should be of paramount importance. At the same point, though, overly prioritizing the home loan – which will almost always have the lowest fixed Annual Percentage Rate imaginable as well as allowing tax deductions for qualified citizens – just because of the way in which you were raised does avoid the sad but unfortunate truth that your mother and father didn’t have to worry about thousands of dollars of high interest unsecured lines of credit. Auto loans are a smaller (in every way) version of the same scenario.

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What works in investing? I don’t mean that question the obvious way-that it’s a place where people buy and sell stocks through brokers. What I mean is how you think stock prices are really set. What is your mental model of how prices are decided?

A flawed mental model can lead to some interesting conclusions. For example, in the early days of email, a friend of a mine believed that if you reduced the font size in an email message, then the message would become smaller and therefore easier to send. It was a flawed mental model, or rather, was the fax mental model being applied to email.

I believe one of the fundamental reasons why so many people have trouble investing in the stock markets is that they have severely flawed mental models of what determines a stock price. While there are many mental models of how the stock markets work, some are more common than others.

This is the most widespread one: ‘There are people who know when a stock’s price is about to rise. If one of them tells me, then I can make money.’ This is the ‘tip’ model of the stock markets. It isn’t so much a mental model as the lack of one. Unfortunately, this is a very common one. There seem to be a lot of people who believe that someone out there knows which way things will move and everything depends on somehow getting to know these secrets.

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Boaters run aground by not paying attention to tides, charts, navigation tools and their GPSes. Investors get swamped with information, media noise, breaking news, politicians, gurus, and derivatives — so much so that they can’t see the oncoming fog banks and tsunamis of cyclical change.

Most investment mistakes are caused by basic misunderstandings of the securities markets and by invalid performance expectations. Losing money on an investment may not be the result of an investment sandbar and not all mistakes in judgment result in broken propellers.

Errors occur most frequently when judgment is rocked out of the boat by emotion, hindsight, and misconceptions about how securities react to waves of varying economic, political, and hysterical circumstances. You are the commander of your investment fleet. Use these ten risk-minimizers as lifeboats:

1. Identify realistic goals that include time, risk-tolerance, and future income requirements — chart your course before you leave the pier. A well thought out plan will minimize tacking maneuvers. A well-captained plan will not need trendy hardware or exotic rigging.

2. Learn to distinguish between asset allocation and diversification. Asset allocation divides the portfolio between equity and income securities. Diversification limits the size of individual holdings in several ways. Both hedge against the risk of loss. Both are done best using a cost based approach.

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Most investors incorrectly think of “risk” as the possibility that the market value of a financial asset might fall below the amount that he or she has invested in the asset. OMG, how could this be happening!

Think about it. The harboring of these misconceptions (that lower market price = loss or bad and/or that higher market price = profit or good) is the greatest risk creator of all. It invariably causes inappropriate actions within the large mass of individuals who are uninitiated in the ways of the investment gods.

Risk is the reality of financial assets and financial markets: the current value of all securities will change, from “real” property through time-restrained futures speculations. Anything that is “marketable” is subject to changes in market value. It is as the gods intended, and portfolios can be designed so that it just doesn’t matter quite so much as you’ve been brainwashed into thinking.

What is abnormal is the hype surrounding market value changes and the hysteria such hype causes among investors. No way should a weak real estate market translate into near zero bank balance sheet entries — it just doesn’t compute, except when it is popular politics.
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Weekend Humor

What is the first thing that almost any personal finance blogger that tends to align themselves in “Camp Frugal” will tell you when it comes to saving money? Most likely it is a variation of the mantra, “Spend less! Save, save, save! Quit spending money!” Is this really the best way? It seems that many people, myself included, can leave an important variable out of the cost saving and wealth maximizing formula. This “missing variable” is opportunity cost.

Opportunity Cost Explained

What exactly is opportunity cost? Let’s say that you have two different things that you could do with an hour of your time: Activity A or Activity B. You can only choose one of them but not both. If you choose to do Activity A then you cannot do Activity B and vice versa. If Activity A is your #1 choice for what you would choose to do for that particular hour and Activity B is your #2 choice then when you choose to do Activity A, and are therefore excluded from doing Activity B as well because remember you can only choose one or the other, your opportunity cost is the cost to you in not being able to partake in Activity B.

The technical definition of opportunity cost is therefore the cost of the next best alternative (the thing that you have given up) whenever you are making a decision between two or more mutually exclusive choices.

It’s important to remember that opportunity cost is not necessarily always measured in financial terms (although it is a smart thing to do to ultimately convert all opportunity costs into a financial measurement so that you can better compare options).

Let’s take a look at some different scenarios to see if strictly adhering to the “Spend Less” rule in all circumstances is the best way to go or if there are times when taking a closer look at the opportunity costs involved might help us to improve upon our cost savings and wealth maximizing “formula” and ultimately create wealth and skyrocket our net worth even faster.
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Try a budget to keep yourself out of financial trouble!

Draw up a budget? What a mad suggestion. The average reader will find his eyes glazing over at the mere thought of something as hideous as drawing up a budget. That’s surely an activity reserved for geeks and weirdos.

And that’s the problem isn’t it. Most people don’t consider budgets a big issue. They will gladly perform a myriad of tasks daily that bring structure to their lives. Set the alarm clock. Munch through some horrid tasting cereal because it’s good for the digestion.

Get to work to perform boring and monotonous tasks. Live daily life in a totally structured manner until very few minutes in the day are available for spontaneous experiences. Yet, something as structured and necessary as a budget is frowned upon.

A budget provides the basic information to allow spending decisions to be made. Most people have a set income with which to work. It is only the monthly expenses where some control may need to be enforced.

It seems an almost impossible task for the average person to be able to work out what is left over after all set expenses have been deducted. Yet it is hardly a skill requiring an Einstein type of mind.

Fill in the amount coming in every month and deduct all expenses that come off every month such as mortgage repayments or rent, motor vehicle instalments or transport costs, costs of services such as electricity and gas and an allowance for food.

Don’t forget to allow for annual deductions such as licenses and memberships or pleasurable items such as holidays. The rest is available for arbitrary spending or saving.

This calculation seems to be beyond most people’s capability. In fact women in particular seem to roll their eyes in despair, fish out their credit card for some retail therapy and leave the bank account to look after itself.

So for the New Year’s Resolution number 2 in 2010 compiling a budget every month could be a novel experience. For those who find self-discipline a problem, putting away those credit cards, cancelling the bank overdraft could be a method.

Stop spending money when it runs out during the month. During the first few months it might even be necessary to eat with parents and friends. Making the drawing up of budgets a habit could be the best Resolution anybody could bring on board.

For those people with complex income structures and diverse expenditures a budget might need to be prepared by an accountant. Whatever the set-up, it is not an impossibility. It could certainly have helped such celebrities as entertainers Burt Reynolds and Mickey Rooney, Willie Nelson and Jerry Lee Lewis.

Industrialists such as Henry Ford and Henry John Heinz has similar fate befall them. Even Donald Trump mismanaged his budgets. Mind you, Donald Trump would probably not have been helped with a budget!

For Joe Average though a budget is a great tool to help with keeping their financial boat on an even keel. Try it in NOW.

Living in mansions and driving BMWs was never my passion. But right from my childhood I wanted to be rich enough to fulfill my small but expensive desires like having a Rolex watch on my hand or drive in a Toyota Camry. But as I grew and saw the world advancing, I slowly began to understand the meaning of a very old saying that “only if you aim for the sky, you will land among the stars.” And that applies for almost every living soul on earth.

Becoming a millionaire is one dream that people see with open eyes and spend their life toiling to reach their goal of being counted amongst the rich people of the world. There are those who succeed, but many are pulled back by the others in the race. But there is an interesting intermediary class of people who the world calls the ‘pretenders’. Any guesses why? Because no matter how hefty their debts are, they never compromise on their social status. But here is a piece of advice for such people, “Stop Acting Rich . . . and Start Living Like a Real Millionaire.”

A former university professor and the co-author finance books like “The Millionaire Next Door”, Thomas J. Stanley has once again shared his experience of examining the truly rich people in his book, “Stop Acting Rich . . . and Start Living Like a Real Millionaire.” (Wiley, $17.79). The author highlights that the credit, recession and crisis have presented us with the opportunity to treat and cure the pretenders.

“For the treatment to work, you must take a cold hard look at your balance sheet and at your life, and determine if you would be wealthier if you would stop acting rich,” he writes.

Stanley has bought very interesting facets of the life of real millionaires and the ones trying to emulate them. He points out at the major difference between the income and net worth and explains what counts to be a true millionaire. Some quite intriguing findings of his study include:

• 86% percent of all prestige or luxury makes of motor vehicles are driven by people who are not millionaires.
• Typically, millionaires pay about $16 (including tip) for a haircut.
• Nearly four in 10 millionaires buy wine that costs about $10.

His only aim behind the research is to make people aware of a very simple truth of life that only if people stop acting rich, they would be able to achieve the kind of happiness money can’t buy.

“For the treatment to work, you must take a cold hard look at your balance sheet and at your life, and determine if you would be wealthier if you would stop acting rich,” he writes.

The realistic book will help people get closer to reality, that pretending will never bring contentment or the real joy. Only accepting the fact that acting rich is far away from actually being truly wealthy will help them find the bliss of happiness.

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