Make Some, Save & Invest, Live on the Rest

For the initial blog post on Mark’s Money Mind, I thought it would best to give a quick introduction. My name is Mark Trautman and I live in Crested Butte, Colorado with my wife and daughter. I retired from full-time employment at the end of 2015 after a 28 year career in the financial services industry. During the latter 24 years, I was an equity mutual fund portfolio manager for a small closely held company. My passion has always been personal finance and I received my Certified Financial Planner™ (CFP®) certification after my retirement as I pursued my desire to further expand my knowledge on the subject.

As my daughter approaches her 18th birthday at the end of this year, my intention was to give her a brief outline of the details behind our family motto Make Some, Save & Invest, Live on the Rest that my wife and I have developed over our lifetime. However, I have recently been teaching a financial literacy course at our local high school as well as volunteering my time at a financial literacy series held at our local library and have realized that many people have a desire to learn these same principles. Therefore, I have decided to launch this blog as a platform for discussion of various aspects of personal finance and the pursuit of financial security and independence.

To start things off, here is the letter to my daughter outlining our financial motto:

Dear Katie,

This letter is intended to put in writing many of the lessons I have learned during my lifetime to help guide you in your financial future:

Make Some, Save & Invest, Live on the Rest

Your Guide to Financial Security and Independence

“Make Some” (Invest in Yourself)

In order to maximize the Make Some element of the plan, focus on increasing your human capital capabilities. Continuing education is very important, but be sure to be mindful of the cost. With the advent of prevalent internet access, nearly everyone can learn almost anything for little or no cost. A high-priced college education does not necessarily lead to a well paying career. In-state universities should be highly considered over private colleges or universities. Think in terms of return on investment (ROI) on your education dollars. Avoid paying a high price for a low paying career path.

“Save” (Pay Yourself First)

Institute the 20% Rule: Direct a minimum of 20% of gross income toward savings and investments.

Target at least 15% of gross income (not including any employer matching) toward long-term (retirement) investments. These are your “Financial Independence” accounts.

The remaining amount of your savings target (5%+) can be directed toward medium-term / non-retirement investments. These should include establishing and maintaining an emergency fund with 3-6 months of average expenditures (your safety net). Once your safety net is established, savings can be directed toward medium-term goals such as a house down payment, auto replacement, or other large potential purchase goals.

Automate the savings process. Have these amounts automatically deducted from your paycheck and directed to the appropriate savings and investment accounts. If that is not an option, set up a direct transfer from your checking account on the day after your paycheck is deposited.

Shorter-term discretionary items (i.e. vacation, recreation equipment, appliances, etc.) should be saved for with funding outside of the 20% Rule amount outlined above. Consider setting up separate savings accounts for these goals, such as a “Vacation Savings” account.

Consider establishing higher education (college) savings / investment accounts when a child is a newborn with steady contributions to take advantage of compounding. 529 College Savings accounts are a very useful savings vehicle for this purpose. Automatic investment contributions can put this on auto-pilot.

“Invest” (For the Long-Term)

For your long-term / retirement investment bucket, seriously consider low cost index funds. Vanguard has been our preferred source for these investment vehicles.

There is no need to over-diversify. A total stock market index fund and a total bond market index fund are often all that are necessary to create a well diversified portfolio. You may also consider adding a total international stock market index fund if you desire more international exposure. While you are in your working / accumulation years, you may want to consider allocating a majority of your investment mix towards stocks versus bonds. One way to eliminate the need to create and maintain your own asset allocation is to use Target Retirement Date funds which take care of the asset allocation and rebalancing for you.

Most importantly – Keep it Simple and Keep Costs to a Minimum.

Never cash out retirement plans when changing employers. Consider rolling retirement plans from old employers into a Rollover IRA (Individual Retirement Account) at a low cost investment company, such as Vanguard. Also, do not take a loan from your employer retirement plan.

“Live on the Rest” (Live Within Your Means)

Base your lifestyle within the amount available after Paying Yourself First. Track your expenditures to identify ways to control expenses. Consider using tracking software such as Quicken or Mint. Utilize the cash flow projection functionality to ensure you are staying on track.

Do not borrow for everyday purchases. If you choose to use a credit card for convenience or rewards, be sure to track all spending at the time of purchase and pay all balances in full every month.

Only consider borrowing money for “good assets”, those that have the potential to appreciate in value over time. The only major asset that may fall into this category is housing. Consider purchasing only after you have accumulated 20% of the purchase price for a down payment and use a fixed rate 15-year or 30-year mortgage. Target to spend no more than 15-20% of your gross income on PITI (principal, interest, taxes and insurance). Housing should be approached as providing basic shelter and not something to impress others. Housing should be considered primarily an expense, not an investment. Its value may keep pace with inflation, but don’t expect more than that. Remember, the larger the house, the more it costs to maintain, insure and furnish.

Renting can often be a better alternative, especially when you are young, likely to move for employment or other reason in the near future, or living in a high cost area. It is often easier to accumulate wealth by renting during your early accumulation years. Rent should also not exceed 15-20% of your gross income.

Other items, such as a car, are depreciating assets and should be saved up for prior to purchase using the medium-term savings bucket. Since a car is a depreciating asset, do not buy more than necessary for ample transportation. Buying a car that is 3-5 years old typically offers the best value. Maintain it well and drive it for a long time.

Avoid impulse purchases – create a wish list for discretionary purchases. If after a few weeks you still want to purchase the item (provided you have the money to do so), you can buy it knowing that you weighed the purchase carefully. Often you may find you really didn’t need it or desire it after all.

Don’t try to Keep Up with the Jones’. There will always be people who appear to have more than you or are living on higher incomes. Many are not saving or investing and are often living beyond their means. Be content with your lifestyle and living within your means while building your wealth.

Other Important Items

Be the Chief Financial Officer (CFO) of You, Inc. Keep a laser focus on your financial picture just as a CFO would. Your income statement is a snapshot of your income and spending history during a given time period. Your balance sheet (Statement of Net Worth) is a picture of your assets, liabilities and net worth at a point in time. (What you Own minus what you Owe is what you are Worth.) Track your Net Worth progress over time – quarterly or annually. Understand how all of your financial activity affects these two statements. A basic understanding of accounting is extremely valuable.

Don’t be Penny-Wise and Pound-Foolish. Look for ways to save on the biggest expenditures, but don’t forget about the little things that add up too. Keeping track of and reviewing all expenditures will greatly aid in this process.

Understand the power of Compounding. Remember the Magic Penny example: A penny that doubles everyday for 30 days equals only $5.12 after 10 days, $5,243 after 20 days, but turns into $5.4 million after 30 days. The benefits of compounding accrue greatest in the later periods. The graph is exponential.

Understand the history of Stocks, Bonds, Bills, and Inflation and their historical relative returns. The highest inflation adjusted return over the long-term has come from Stocks. Bonds and Bills typically offer little to no return on an inflation adjusted basis. It is important to focus on future purchasing power using inflation adjusted returns.

Volatility is associated with investing in common stocks. It is important to understand that this comes with the territory and history is full of examples for reflection. Human behavior is often irrational and a major cause of market volatility. It is best to block out this noise and focus on the end objective. It is very important to control your emotions and not deviate from the long-term path.

Recommended resource: Stocks, Bonds, Bills, and Inflation by Roger G. Ibbotson [Note: this book is expensive and updated yearly, consider borrowing it from your library.]

Recommended reading: Extraordinary Popular Delusions and the Madness of Crowds by Charles Mackay

Choose your partner wisely. Look for a like-minded person, one who also adheres to a similar mantra of Make Some, Save & Invest, Live on the Rest or one that can learn and embrace its merits.

Instill Make Some, Save & Invest, Live on the Rest in your children so they become self-sufficient and do not require “economic outpatient care”.

High income does not equate to great wealth. In fact, many times it’s just the opposite. Also, consider living in a neighborhood with people of moderate income and wealth. There will be no need to feel pressure to Keep Up with the Jones’.

Recommended reading: The Millionaire Next Door by Thomas J. Stanley & William D. Danko

Make sure to have a Last Will and Testament, a Living Will, a Health Care Power of Attorney, and a Durable Power of Attorney. (The basic estate planning documents.) Also, be sure to have the correct beneficiaries identified on your retirement, investment, and bank accounts.

Be sure to have ample term life insurance, auto insurance, and homeowners or renters insurance as well as an umbrella policy.

I know this doesn’t apply to you now, but what if you were in debt? (Credit Cards, Student Loans, Auto Loans, Consumer Loans, etc.) Cut spending, establish a small emergency fund (2-4 weeks of expenses), then use Pay Yourself First savings to eliminate debt (highest interest rate item first for the most efficient method – or alternatively, the lowest balance first for more emotional satisfaction of accomplishment). Once debt-free, redirect the amount to fully fund your emergency fund and then to savings and investments. Even when debt exists, it is often advantageous to contribute enough to receive any matching that your employer’s retirement plan offers.

When can you spend long-term / retirement investment balances? When a small annual draw (i.e. 3-4%) will cover your living expenses and not deplete your principal before the end of your life expectancy. This is when you are truly Financially Independent. As long as you are able to generate income and continue to save, it is wise to do so.

Lastly, we all make mistakes! (I certainly have!) Try to identify them early, don’t panic, and get back on track as soon as possible.

If you follow the majority of these concepts, you will be well on your way to financial security and independence. I hope you find this guide helpful. (I wish someone had shared these ideas with me at your age.)

Love, Dad

The contents of this letter to my daughter should give you a taste of what’s to come on this blog. Please join me on this journey to expand our Money Minds.

– Mark –