Grownup Escapades: Handling Finances

Take the average high/low price of the S&P500 for a given day from 1970 to 2020, average those out for a given year, and calculate the percent differences year-over-year, plotting those rates out along with the compound interest graph accounting for a.) the raw/actual growth in US dollars (not taking inflation into mind) and b.) consumer-price index adjusted inflation. Hypothetically investing in total market indices like the S&P 500 and the Wilshire 5000 allows us to diversify our investments cross-sector as well as our portfolio, which in turn controls our risk in the market. The code and datasets used to generate these plots are at https://colab.research.google.com/drive/11JXwJ0FaavXNb1j_4A2j4D8Iy55jtLEf?usp=sharing

Apportioning the Paycheck: Automating cash in-flow and out-flow

Traditional Bank Accounts: A finite serving table

With the state of the majority of consumer banks today offering zero interest rates for checking accounts, the traditional debit/checking account should never be seen as a location where one should store their money for months and much less, even years. Instead, one can imagine the account as a finite serving table, with one’s fixed expenses as the diners in this proverbial serving table — this can range from monthly car payments, rent to credit card payments. Adjust for a fixed small breathing room to avoid overdraft fees in case an unexpected payment/recurring payment price hike (a “hungrier” unexpected purchase) comes in for the month. For example, one can set a rule of calculating all your predictable monthly expenses and storing an amount equal to 1.5x that amount on your account — nothing more. Just like we are taught not to leave food to waste after dinner on the dinner table, don’t leave too much of your money out on a debit/checking account, subject to rot to the ever-present inflation in our monetary system (and in essence, you providing your bank an interest-free/low-interest source of money to grow themselves).

Growth of $10K in a savings account given a 0.50% and 0.01% return savings accounts respectively, yielding more than a difference in $500 ($10,010 vs $10,511 for an initial $10,000 savings balance over 10 years). This may not seem much, but amounts to more than $5K difference for an initial savings of $100K, or $50K for an initial savings of $1,000,000. The code and datasets used to generate these plots are at https://colab.research.google.com/drive/11JXwJ0FaavXNb1j_4A2j4D8Iy55jtLEf?usp=sharing

Retirement Accounts: Roth vs Traditional 401K

Roth 401K are retirement accounts where one makes contributions post-tax, where you put in money to the account after the appropriate amount of federal/state taxes have been applied against your income. On the other hand, one makes pre-tax contributions to a traditional 401K account. Upon withdrawal from a Roth account, withdrawals are not taxed, whereas traditional 401K withdrawals are taxed as normal income, using IRS income tax brackets.

Lowering Tax Liabilities with Tax-Deductible Expenses

The American Tax system is a progressive tax system, which increases the rate of taxation as one falls into higher tax brackets. For example, the IRS’s tax rates as of 2020 for single filers, are as follows (sourced from IRS’s News Release Room — https://www.irs.gov/newsroom/irs-provides-tax-inflation-adjustments-for-tax-year-2020):

  • 32% for incomes over $163,300
  • 24% for incomes over $85,525
  • 22% for incomes over $40,125
  • 12% for incomes over $9,875

Financial Automation and Personal Surveillance

Auto-pay and staying safe online

Most services nowadays allow for the configuration of auto-pay, from your monthly internet bills to even most apartment pay portals. As discussed above, move as much of your sensible revolving monthly expenses into your credit card and anything else, on your checking account, having an adjusted buffer of money in your bank account. You can schedule your payments and pay them by yourself manually, but if you have fixed monthly costs for things like phone bills, car insurance, car payments, rent and etc, it simply is a waste of your time to do these things manually (time that could be used for other things)— just ensure that you have the appropriate allocation for these expenses, fire and forget.

Managing revolving monthly payments with Paypal. Paypal automatically detects recurring payments and lists them out on the Automatic Payments section of your Paypal account.

Cards, rewards statements and cashbacks

Keep track of your credit cards and always opt to maximize your credit limit when you can (by calling the bank to increase such limit). Over the long run for your credit score, showing 20% utilization given 2K in monthly expenses over a 10K limit credit line will push your credit score towards a better score faster than 2K in monthly expenses over a 5K limit credit line (at 40% utilization). Usually, your credit card account duration with a specific bank, your current credit score and income are useful bargaining chips to negotiating a higher credit limit, but don’t hesitate to research out in the internet and call up your bank to increase this limit on your own accord, with some appropriate justification about your ability to be a good creditor.

Transaction Notifications and Expense Management

In the age of digital transactions and practically card-centric wallets, it can be hard to keep track of all the cash flow out of our accounts when it comes to expenses. There has been 1 simple, low-tech trick that I have personally used to combat this — silencing all but the most important notifications on my smartphone and enabling email and/or SMS-based notifications for ALL transactions that charge all my bank accounts. From purchases I make at the grocery store, to digital purchases on Amazon, down to recurring monthly bills — all of them pipes through to the top of my notifications and when paired with a smartwatch or enabling buzzing on your phone, provides physiological feedback that something has charged one of my accounts. I have found that this is a decent substitute for the old physiological feedback loop we got when paying using paper bills, where I get tactile feedback that something has charged me.

Buzz, Buzz, Buzz for all those transactions

Wall Street to Main Street

As I have stated above: there are other ways one could invest — but in my experience, the stock market is one of, if not the path, that requires the least knowledge and inertia to get started. However, many looking to turn around a fortune, especially with minimal experience, have been burned by the dreams of becoming an overnight millionaire and/or siren calls of enlightened people who apparently, with Nostradamus-like omniscience, know better than the market (“Invest in this cool X company or you’re going to miss out!”, “Invest in this plaintext currency or you’ll be left behind!”, “Refinance your home now and invest in this company that no one else knows about!”). To lay down a framework, we’ll get started with more diversified asset classes, with moderate returns, better shielded from market forces as they cut across multiple companies and/or sectors.

  • Internet connection
  • Personal/Bank Info (needed so you can deposit/withdraw from your brokerage account as well as for the brokerage to report any taxes you may owe to the IRS)
  • 10–15 minutes to setup an account with any of the brokerages — simply choose from Fidelity, ETrade, Ally Invest, Charles Schwabb, Robinhood and many more

Brokerage Insurance: FDIC, SIPC and Sweep Program

Ally Invest FDIC-Insured Sweep Program Opt-in
ETrade SIPC vs FDIC Sweep Program insurance programs

What is in a name? Market indices, ETFs, Mutual Funds, Bonds, Expense Ratios and budget setup

Market indices are simply, a labeled group of holdings of securities — you have probably heard them in the news as S&P500 (representing the top 500 largest companies in the United States, weighted by their market capitalization aka a company’s entire stock market worth), Dow Jones Industrial Average, Nasdaq Top 100 Tech Sector, etc. Each index is typically used an economic benchmark and are topics of economic and academic study. One cannot buy a share of a market index out in the stock market out of the bat, but can do so through either an Exchange Traded Fund (ETF) or a mutual fund.

Efficient Frontier/Sharpe Ratio for Return/Volatility calculations on an investment portfolio — courtesy of https://towardsdatascience.com/python-markowitz-optimization-b5e1623060f5.

Preliminary Investigation: Bid and Ask Spread, PE Ratio, Market Capitalization, Dividends

Whenever you come to the decision of buying a specific security, you will come across the words bid and ask spread, P/E ratios, market cap and many more. Here they are explained:

  • P/E ratio, or the Price-to-Earnings ratio, represents the current price of a share compared to the earnings per share price of some company. A high P/E ratio is taken usually as a signal that investors in the market are willing to over-evaluate a stock, with respect to its current earnings, for a very positive future outlook while a low P/E ratio is taken usually as a signal that investors in the market have a more bleak outlook on a stock.
  • Market cap: Total dollar market value of all of the company’s shares of stock. It is calculated simply by the number of shares for a company being sold out on the market * the price per share.
  • Dividends: Some companies, not all, provide their shareowners dividends — meaning that not only can you make a potential profit by buying a stock and selling it at a higher price, but the company pays you money for holding a share of their stock as part of their earnings on a repeating basis (companies vary on this, but some pay out quarterly, some pay out annually and some pay out semi-annual dividends). Huge corporations who have enough free cash flow are typically more likely to hand out dividends than those who are smaller.

Order Types

You will find yourself coming across couple of different types of orders whenever placing an order out on the market to buy a security. These order types undergo through 2 typical durations — day orders and GTC orders. Day orders are cancelled/expired if not satisfied by market close around 4PM EST when ordering through the American stock markets like NASDAQ and NSYE. GTC (good till cancelled) orders keep running until are satisfied, cancelled or expired (with most brokerages expiring such orders within 2 to 3 months). The most common types of orders are:

Ally Invest Order Preview Screen, with the Market, Limit, Stop, Stop Limit
  • Limit orders: orders that are executed only if the requested price or better, is met. For example, in the case of you buying a stock, this means that the stock will be purchased for you at a price at or lower than your set limit price (a guarantee that the purchase will only be executed at the requested price or lower). In the case of you selling a stock, this means that the stock will be sold for you at a price at or higher than your set limit price (a guarantee that the sale will only be executed at the requested price or higher). Limit orders are configurable to be good
  • Stop-loss/Stop orders: orders that upon the arrival of the configured stop price, gets converted into a market order (stated above). This allows a pattern-based trader to start a market order when a desired price is hit. Unlike a stop-limit order, though the order is triggered when a desired stop price is hit, a stop-loss order prioritizes the fulfillment of purchasing the requested amount of securities rather than the price of the actual order itself.
  • Stop Limit orders: orders that upon the arrival of the configured stop price, gets converted into a limit order (stated above). This allows a pattern-based trader to start a limit order when a desired price is hit. This is usually desired when the price of the actual executed order is of higher/highest priority rather than the fulfillment of the order itself, provided that a stop price is hit.

Tax liabilities

There are 2 main tax configurations for investments in securities (stocks/bonds/etc) in the stock market — short-term capital gains (the purchase and sale of a stock under a year) and long-term capital gains (the purchase and sale of a stock for more than a year). It is quick to note in these 2 tax tables that the long-term capital gains rate, irregardless of your income level, is more forgiving (as low as 0% and as high as 20% of a tax on your net earnings in investments) compared to the short-term capital gains tax rate (as low as 10% and as high as 35% on your net earnings in investments). Also ensure that your brokerage accounts are configured correctly for tax purposes, with FIFO (first-in/first-out) as a good default option for your security purchase/sale — which means that whenever you sell a certain amount of a specific security (stock/bond/fund/etc), those that were bought chronologically earlier are sold first, which is great for the purpose of long-term/short-term capital gains tax rates.

Short-term capital gains tax rates, 2020 — IRS Schedule D: https://www.irs.gov/instructions/i1040sd#idm140312989632848
Long-term capital gains tax rates, 2020 — IRS Schedule D: https://www.irs.gov/instructions/i1040sd#idm140312989632848

In closing

It is important to implore upon here the concept of laying down a financial framework on your professional life, which should involve investing, should you have the capacity to do so. Should you not — do not gun it by refinancing your house mortgage to enter in a crazed gold rush with the stock market. Stick with the basics — find ways to cut down your costs if possible, strategically prioritize your debts, especially high-interest ones and when you have that breathing room, lay down the tracks for your emergency fund and investments to follow. Especially with real-life responsibilities like managing a family — do not be attracted by siren calls of single-company/cryptocurrency stocks/“next stock poised to explode” videos on the internet, unless you know what you are doing and have the capacity to take the risk. Diversify your portfolio cross-sector, markets and asset classes. Chase long-term growth and slower but less volatile returns.

Image courtesy of the Gallup — https://news.gallup.com/poll/266807/percentage-americans-owns-stock.aspx

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Alastair Paragas

Alastair Paragas

79 Followers

Machine Learning Platform, Apple. Physics, UW. IA, Georgia Tech. I build apps/systems with Scala, Java, Javascript, Python, GoLang and many more. aparagas.com