Err. No.

Once the money (or time or effort) is gone, then it’s gone. There’s no point in worrying about this.

I was on a great forum the other day for people who are interested in playing classical music. In the UK, you can take exams in playing instruments, the most commonly know are the grade exams. Distinction at grade 8 is the minimum standard required for acceptance at a conservatoire (don’t need the exam, just the standard). They aren’t free to take, and there was a post on the forum from a girl stating that she didn’t want to take her Grade 7 Flute exam, but was concerned because if she didn’t the entry money her parents paid would be wasted. The right way to think of it is that whether she takes the exam or not, the money is gone. She may as well do whatever is best for her in the long run.

If you’ve spent money on something that you regret, one way to get over sunk cost fallacy is to consider what you would do now, if you were given (or won) that same object for free.

If you buy a delightful pair of shoes that turn out not to fit, instead of bemoaning the money that was spent on them, ask yourself whether you would wear them if you had been given them for free. If not, don’t wear them just because you spent money on them. If prettiness is more important to you, then by all means, ruin your feet. (I stole this example from blunt money, but it’s good! and I admit that I’ve done it myself.)

If you have an investment that you think was a mistake. Ask yourself what you would do with it if you say, inherited it now (imagine the mistake was someone else’s). Woud you keep it, or sell it?

My buying a house that has dropped in value might have been a mistake. But if I were given the house plus mortgage now, I would just keep paying out on the mortgage, rather than sell and take the loss that I can’t afford. But if I couldn’t afford the mortgage payments, it would be a different matter.

The only time you should take into account sunk costs, is when you’re learning from previous mistakes. Then it’s ok to remember that you spent a fortune on shoes that didn’t fit when you’re in the shoe shop choosing a new pair, and to take that into account by trying them out more carefully. Similarly, if your investment picking was rubbish then bear that in mind when it comes to pick new investments. Or if your house dropped in price a lot, take that possiblity more explicitly into account when you next buy (or firmly resolve never to move again, whichever).

Don’t make the mistake of considering money that’s been spent and can’t be got back when you make your decisions.

a good book teaches a lot

It reminded me that nearly everything I know about pre-20th century finance, I know from reading literature. In Jane Austen’s Pride and Prejudice, Mr Bingley and Mr Darcy are extremely wealthy men - with incomes of several thousand pounds a year. Of course, nowadays several thousand pounds will go nowhere. I have also surmised that trade (business) was looked down upon, and that investors were fairly cautious in the early nineteenth century - investing in joint stock companies was considered speculative.

A bit more of my knowledge comes from Jayne Eyre (the wealth of Mr. Rochester was built on the work of freed slaves) and North and South (which covers the cotton mill recession of the mid nineteenth century).

inflation is omnipresent?

When I read about incomes and prices from one or two centuries ago, the long term effects of inflation become very clear. If Miss Darcy’s £20,000 had been solely used to generate an income for her to live on, and none of it reinvested that money would still be providing around say £1,000 a year, but that’s not enough to live on, let alone enough to be considered a catch by a fortune hunter.

It’s interesting to read, then, that inflation was not a major factor during the nineteenth century. A report by the House of Commons into the value of the pound since the beginning of the Georgian era in 1750 (pre-dating the American Revolution) shows that although during the Napoleonic Wars, inflation was high, and this was then followed by a period of deflation, for much of the nineteenth century when Britain was the most industrialised nation (and certainly the major superpower) inflation didn’t really exist. Prices in 1870 were not very much different from prices in 1830, compare that to the twentieth century where inflation is an important influence and prices have tended upwards throughout as a result.

stocks and shares

Although inflation wasn’t of great importance to the Victorians, they did still invest in equity, but they generally looked for preservation of capital and provision of an income, rather than capital growth. Stocks and shares didn’t experience all that much capital growth in this period - this table of historic FTSE index returns from 1800 onwards doesn’t show much in the way of share price increases during the nineteenth century. However, dividend income was much more important - making up around twice as much of returns as they have done in the twentieth century (more than 60% down to around 30%). Returns in the UK were higher than the US at this time.

An article from Vox (an economic thinktank) suggests that the reasons that returns were higher in the UK were the relative hegemony that the British Empire possessed during the first phase of the industrial revolution, and barriers to entry for companies at this time - particularly illiquidity (much money was tied up in land, and financial institutions were more local).

Sometimes it’s interesting to take the very long term view, and see what can be learned from the lessons of history. It’s definitely true that past performance is no indicator of future performance, but also I think that some things don’t change so much. Innovation drives business and wealth, and humans being what they are, I’m fairly certain that ingenuity will continue long into the distant future. It’s hard to tell what’s likely to be the dominant factor in twenty-first century financially, but sensible investing probably isn’t going to hurt.

My response is that boy am I glad that I spend less than I earn. I imagine that there will be some redundancies, somewhere in the company although I should be safe until at least October, probably April 2010 by which times things will have lightened up somewhat we all hope. My emergency fund is in place, and I’ve worked out (including statutory redundancy pay) that I could go nearly 12 months without having earning any money at all before being bankrupt - I’d have to cut expenses very close to the bone though. Fairly scary stuff, but I have to keep telling myself that it will probably be ok, and if it’s not, it’s not - it’s certainly not the end of the world.

I’ve been spending a bit of my mental effort trying to work out whether we’re heading towards deflation or not. Because I’m the sort of geek that finds it interesting you understand. According to our CEO there is some wage deflation. Meh. It’s in his interests to say that, and I’m not really sure that it’s true exactly, more a function of supply and demand. I know most manufacturing companies are operating on partial weeks. I guess it’s a sort of wage deflation.

Also, when you look at *stuff* pretty much everything is on sale at the minute. Full prices haven’t shifted, but not many people are going to be paying them. I’m sure that’s more than the regular January sales and is basically deflation by another name - it’s the price you pay that’s important, isn’t it? Not the sticker price. On the other hand, 500ml of Pepsi Max went up 11.5% over the weekend. Food prices have been really jumpy for the last few months. I don’t know if they’re always like that though, I only notice the prices of things that I buy regularly (cheese, orange squash, pepsi/coke, fruit, sausage rolls - yes I know that’s a really weird mix, I have no excuses).

The next set of council tax increases is going to average 3.5% - that’s really quite low. But public transport fares have gone up quite a bit more than inflation (as usual), catching the bus costs me 13% more than it did a month ago. Gas and electricity prices are going up, but I’m not sure by how much.

I guess that estimating deflation is pretty hard, and it’s not going to be uniform, just like inflation isn’t normally uniform. As my increase in net pay is going to be around the £10 mark for the 2009-2010 financial year (new tax and NI bands), it’d be helpful to me if inflation was low. I’m guessing that there’s going to be a £50 per month increase in my costs this year, which I could attempt to mitigate for with my discretionary spending. I’m planning on putting spare money into my short term savings anyway because I can, and upping my charitable donations slightly because I should.

If there’s deflation, then that’s definitely a bad thing. Particularly for suckers like me with a mortgage. It’s a negative spiral, and generally means a deeper recession, more job losses, and greater insecurity. It’s normally considered to be worse than high inflation (although I bet it’s a wash with hyperinflation) because there’s very little central banks can do about deflation - they can’t reduce interest rates below 0%.

Anyway, what do you think? Do you think we’re in deflation yet, or am I just not paying attention to some price increases?

Question everything.

I often do rough calculations on all sorts of personal finance topics. Most of these require some assumptions, and I tend to use the same assumptions all the time. But you should never take anything for granted, maybe my assumptions need to be questioned.

inflation

If I need to use an actual figure, I generally choose to assume that inflation will be at or around 3% indefinitely. I pick 3% because that’s the target rate that has been set for all of my adult life. This figure is more a guess than anything that I firmly believe in, because I my other assumptions tend to be explicitly dependent on inflation.

savings interest rate

If I’m doing a normal calculation, I assume that the current *best* savings rates will continue for the forseeable future. I don’t think this is actually accurate, but I think that it’s good enough for the short term, and its not normally a major issue if it is slightly out.

In a more abstract way, I always assume that savings interest rates will never really fall below the inflation rate. Or rather, that it will always be possible to earn interest on cash that beats inflation, although it may take a little work to find the best deal, especially when tax is taken into account. Part of the reason that I think this is as a kind of loose interpretation of efficient market theory.

wage inflation

For the last 30+ years wages have gone up at around 2% above the rate inflation (we really are better off than we used to be). Technology improves and processes get more efficient. I think this is likely to continue in the long term, but I’m perfectly willing to accept this may turn out to be wrong. I more firmly hold that my own wages will be increasing at around 2%-5% above the rate of inflation for the first 10-15 years of my career, and fully expect them to stagnate more after that point.

house price inflation

I live in the UK which has been experiencing cyclical boom-bust housing market nationwide for years. I assume this will continue for the rest of my natural life. But the UK is also one of the most crowded countries on the planet, we have restrictive planning laws, and the increase in the number of households is greater than the increase in the population - I also assume that this will continue into the very long term.

Based on all these things I generally assume that house prices will (only on average) increase at above the rate of inflation and generally hover around the rate of wage inflation in the medium to long term.

stock market returns

I usually use a reasonable estimate of 4% above the rate of inflation, because this is the figure that official estimates for pensions and the like use. I have absolutely no other rationale for this, other than that I expect it to be generally at or above the rate of inflation. Stock market returns are always assumed to be average annualised returns over a suitable long term.

Zimbabwe is not the worlds best run economy. Official inflation runs at the millions of percents per annum and unofficial estimates put it in the billions. A teachers monthly salary would struggle to buy five loaves and two fishes, which still requires a miracle to make large numbers if meals from. Not that it matters because there’s nothing to buy in the shops anyway. A lack of paper money means people are restricted to withdrawing a daily amount that’s about as useful as a penny in purchasing whatever goods there are.

Still, there are always ways to make money if you look hard enough. Many Zimbabweans are economic migrants in neighbouring South Africa, and they send all sorts of things back to relatives, including parcels of food, clothing and hard currency.

How does it get back? People with minibuses take it there for a not so small fee. They also charge pretty high commission on hard currency. But there’s a real market for it and most Zimbabweans in SA want to send stuff back regularly, which means that anyone who’s in the transporting business needs to be as trustworthy or customers will dry up. It might be expensive, but so is driving back and forth crossing borders,

At the end of the day, even in the worst economic conditions there can be ways to make a living. They usually require access to capital of some kind and not everyone can take advantage of them.

None of us are likely to face the situation that currently exists in Zimbabwe. There the government is in disarray because Robert Mugabe has created a dictatorship and sent the economy to hell in a hand basket, getting away with it by trading on his liberation struggle credentials.

In contrast Britain - whose economy is heavily weighted towards the financial sector - is probably going to have a bad recession, but there are still functioning schools and hospitals, everyone will need to buy food, most people still need petrol and other goods. Even banks still need customer service advisors and investment funds need to be managed.

We’re going to be ok as long as we can keep our wits about us. Maybe it’s going to be harder to make money, save and invest, but it’s still going to be the only path to a comfortable, rich enough future.

Apparently, there’s a credit crisis on at the moment. Banks are finding it difficult to raise money on the markets, and (as they do) they are passing on that difficulty to us. Or in other words, banks are finding it harder to borrow money, and so in turn they are making it harder for businesses and people to borrow money.

It’s supposed to be a major deal, and I know that people are talking about it a lot, but I seem to have missed the memo about the effect it should have on me.

My day job is in a growth area, so there hasn’t been any slowdown in workload, and currently we’re enjoying relative job security. So, I’ve got no more worries than usual on the employment front. Also, despite a lot of talk of recession, I haven’t actually noticed more major redundancies than normal.

Prices, are apparently going up. I don’t keep a price book (I probably should, but I’m too lazy) and so I haven’t noticed whether this is true or not. I know that the price of petrol (gas, for those that don’t speak the Queen’s English) has increased lately as the price of oil continues to rise, but as I don’t own a car, I felt the direct pain of that. In a country where you can buy a T-Shirt for less than half an hour’s work at minimum wage, I think prices would have to increase a lot for there to be real hardship for the majority of people.

I think the biggest obvious impact that the credit crisis has is in the availability and cost (in the form of interest rates) of credit. I only have two debts - a student loan, and a mortgage. The interest rate on my student loan is tied to inflation, and is paid back via the tax system, so as long as my salary continues to increase at least in line with inflation it shouldn’t cause me any reduction in net income.

My mortgage is a two year fixed rate deal (typical first time buyer mortgage) and I’ve got another year to go before the end of the fixed rate. So there’s no problem there. Of course, I will want to remortgage in a years time which could be interesting if house prices drop too much (currently I’m about 10.3% above negative equity) the latest prediction are for a 5%-10% drop so I may not be able to remortgage on good terms, or at all. In which case, I’m almost certain to see an increased mortgage payment. But, as the last year has shown, a lot can happen in the financial markets in twelve months.

In short, I’m not worred about the credit crisis, it honestly doesn’t seem to have had much effect on me. But maybe I’m missing something. Let me know about your experiences, and what you think of the credit crisis in the comments.

So yesterday, when I pointed out the free download that was available of Suze Orman’s book Women and Money, I said that I’d explain how some of her ideas relate to British personal finance products

checking accounts = current accounts

You probably know that what are called checking accounts in the US, are called current accounts in the UK. Suze recommends that you open a new checking account with the following features:

• no monthly fee
• a low balance to qualify for free checking
• free checks and check writing
• online access and free online bill pay
• insurance coverage

In the UK, you should actually be able to do a lot better than that. Every single bank in the UK offers at least one (and sometimes many) current accounts with those features. To that list you can also add:

• high interest
• FSA registered
• telephone banking
• the ability to set up direct debits and standing orders
• free cash machine transactions at all banks

Currently the best accounts if you are in credit are with First Direct (it’s a high cash bonus rather than a high interest rate) or Alliance and Leicester or Cahoot . Which one you should get depends on how much you earn and deposit each month .

FDIC = FSCS

Just like the Yanks have insurance on bank deposits, so do us Brits. Every bank, building society or credit union regulated by the FSA is insured by the Financial Services Compensation Scheme (FSCS). In the event of a bank or building society failing, the first £35k that you hold in all your accounts combined at the bank will definitely be returned to you.

401(k) = direct benefit (money purchase) pension

A 401(k) scheme or similar is an employment based retirement account. The exact equivalent in the UK is a direct benefit pension, often called a money purchase pension. As in the US, these usually come with employer contributions, which may or may not be dependent on your own contributions.

There are more generous limits on contributions. You may contribute up to the lower of your annual earnings and £215k over all your pensions, including private pensions.

roth IRA = stocks and shares ISA, sort of

The closest thing that we have in the UK to a Roth IRA is a stocks and shares ISA . Stocks and shares ISAs are more flexible than Roth IRAs, which has it’s own disadvantages. You can contribute up to £7000 per year (increasing to £7200 in April) to a stocks and shares ISA, but this limit is dependant on whether you have a cash ISA as well.

Anyone over the age of 18 may hold a stocks and shares ISA, regardless of their earnings.

traditional IRA = private pension, sort of

A traditional IRA in the US, is much the same as a British personal pension, but the limits on making tax-free contributions are much more generous. They are the same as those for an employment based defined benefit pension.

In addition, you can contribute up to £2,808 before tax (which HMRC will top up to £3600) even if you don’t have any earnings, there is no age limit on this.

advance directive / healthcare DPOA = living will: advance statement and advance directive

In the UK, the way to specify in advance what you would like to have happen to you should you become incapacitated is through a living will with an advance statement and/or an advance directive.

An advance statement describes treatment that you would be happy to have, want to have or prefer not to have. It also indicates who you would like to be consulted over your treatment. It is not legally binding, but healthcare professionals must take it into account.

An advance directive is a refusal in advance of certain types of treatment. It is legally binding and must be followed except in a few cases .

anything else?

I’ve given equivalents all the American financial products that I noticed featuring heavily, but if you spot any others, let me know. I’m always happy to try to translate from yank speak to the Queen’s English.

Image by jennifrog

In case you’re not familiar with the concept, a loan shark is someone who will lend you money, unregulated and therefore illegally, and which you then pay back in weekly instalments. The interest rate is literally extortionate, and the results of non-payment is traditionally threats of, and actual, violence.

You know, I’ve never really considered that loan sharks actually exist in this day and age. I’ve seen them in tv dramas and so on, but (presumably) because I’ve lived a reasonably sheltered lower middle class existence all my life, I haven’t interacted with this end of personal finance. I wonder what else I’m missing out on, and I hope I don’t need to find out.

Image by alq666 

It should be no news to anyone that there is currently a sub-prime mortgage crisis in the good old United States of America. It’s been on the news, and in the papers for months already.

But, does it really matter to non-Americans? And if so, how?

what is a sub-prime mortgage?

In order to persuade a bank to lend an extremely large sum of money to buy a house, you generally used to need a few things:

1. A sizeable deposit
2. A verified income
3. A house in mind, in fit condition
4. A good credit score

In the olden days, it used to be almost impossible to get a mortgage without these things. But then, someone realised that there were likely to be people with deposits, incomes and satisfactory houses in mind, who just didn’t quite have a good credit score.

The idea was that you could offer them a mortgage at a higher interest rate than normal, to offset the greater risk of default. Then people who could afford to buy houses (they had enough income) wouldn’t be cut off from the mortgages they required. The sub-prime mortgage industry was born.

what went wrong?

Quite simply, more sub-prime mortgages holders defaulted than expected. There are various structural reasons for this, to do with mortgage backed securities and other financial products (for more information check out this explanation).

As mortgage holders defaulted, the people they owed money to had to write off lots of debt. This included British banks such as HSBC, who had a sub-prime mortgage unit Decision One Mortgage. They lost in the region of $945m and last February made their first ever profits warning (that they wouldn’t make as much money as expected).

Although the defaults had an impact, they haven’t directly had much effect over here as US sub-prime arms of British banks were generally small.

what happened next?

The number of defaulting mortgages was unexpected, and by this time, the money was owed to many different investors - particularly banks - forming part of their assets (a bit like buying a bond). They realised that they didn’t quite know how much liability they were likely to have, and what the return would be on their investments.

It is thought that this the caused banks to be more wary of making loans to each other, or make them at higher rates, as they were unsure of both there own and everyone else’s true financial position. In any case, credit is in short supply - a credit crunch.

has the credit crunch had an impact?

Yes. Most British banks raise their money for loans from the deposits of their customers, but not all do so. Some, instead borrow the money on the credit markets (effectively from other banks) and then re-lend it to members of the public.

As you can imagine, if it is harder or more expensive to buy money, but you are still lending it out, you’ve got something of a problem on your hands. Which is exactly what Northern Rock realised in September. They were forced to borrow from the Bank of England, which led to a short run on Northern Rock branches as lots of people queued up to withdraw their savings.

In order to prevent a panic (or something) the government announced that they would guarantee the deposits - Northern Rock pretty much had enough money to cover it all, but it would have been the end of the bank. This mess is still in the process of being fixed.

The other important but less obvious impact of the credit crunch is the general impact on the economy. Developed economies are somewhat linked together, and with increasing globalisation, if something effects one of the biggest world economies, it tends to affect everyone to a certain extent, especially if they are a major trade partner.

In addition, the financial sector is one of the powerhouses of the British economy, and this crisis directly affects them. This is probably one of the causes of the recent stock market slides.

any more bad news?

In a bid not to get caught out in the same way that the Americans have been, British banks and building societies are tightening their criteria for mortgage lending. People on the margins are finding it harder to get new financing. Having a good financial footing with low or no consumer debt is more important than ever, if you are trying to qualify for a mortgage. But then, it’s good practice to get rid of as much debt as possible before taking on a mortgage.

Image by yananine.

A personal finance and life blogger from metropolitan New York, bripblap is extremely well travelled. Enjoy his tips below and subscribe to his excellent feed.
American Express - don’t leave home without it! That may be one of the most famous phrases in advertising history, but it tapped into a deep fear for most travelers: the fear of being stranded in the distant unknown parts of the world without ready access to their money. What are some simple tricks to use to safeguard access to your money when traveling?

1. If you are traveling to very remote areas, make sure you have plenty of cash. The parts of the world that don’t accept credit cards or debit cards are dwindling, but there are still places. Keep plenty of cash, but keep it spread amongst your wallet, your luggage and even a bit hidden somewhere else. I used to prefer to keep some spare money hidden in my toiletry bag on the theory that nobody is going to check there.

2. Carry dollars. Despite the fact that the dollar is terribly weak right now, it is still the most accepted currency in the world. Carry $100 bills; these are far easier to exchange, ironically enough, overseas than in the US. If you are coming from another country (you’re a European traveler, etc.) I would still recommend carrying US dollars. Don’t count on your drachmas or forints being accepted everywhere.

3. Keep a list of your credit card numbers and customer service - and give a copy to someone at home. There is nothing like having your wallet stolen overseas. However, you want to be able to quickly cancel them if you do lose them or have them stolen, and the easiest way is to have a separate “panic card” ready. Give one to a friend at home in case your panic card is stolen, too.

4. Debit cards are convenient, but pricey. When I started traveling in the early 90s, debit cards were almost worthless when traveling. As time has passed, though, they have become far more useful. Be careful when changing money, though - you may pay a fee to your bank and the local bank. In addition, you may get hit with an exceptionally unfriendly exchange rate.

5. Go gray. I can’t emphasize enough that you should stay in compliance with the laws of the countries you visit, which often prohibit individual currency exchanges. Depending on the country you visit, though, you may find significantly better exchange rates dealing with individuals than with banks or exchanges. In developing countries with high inflation rates local people will often be willing to give you better rates simply to protect their earnings by converting them to dollars. I would not recommend exchanging with locals, however, unless laws (and safety) permit.

6. Get rid of change. Spend your change as fast as you get it, and small bills, too. These are often difficult - if not impossible - to exchange on your return. Try to spend all of your local currency before you leave the country. Exchanging your money to local money and then back to your money is a terrible waste. Try to spend down to 0 before you leave; put your last few expenses on a credit card.

7. The most important money tip when traveling, of course, is to keep it and yourself safe. Never flash large sums, never discuss how much you have, keep it well hidden and ensure you know how you could get ‘emergency money’ if you needed it (for example, where ATMs are that accept your bank’s ATM network).

Fun (and safe) travels!