The financial advisors at Ruedi Wealth Management wrote 4 more “Finance 101” columns for The News Gazette’s Business Extra section in the month of April. Paul R. Ruedi, CFP® finished providing a path to financial black belt and David Ruedi, CFP® pointed out the thought process behind a lot of bad investment ideas. Make sure to look for them every Sunday, but in case you missed the columns from this past month you can read them below.
Financial Purple Belt
Paul R. Ruedi, CFP®
In my last two columns I started breaking down financial moves into martial arts belts, starting with white belt and moving up to blue belt. At white belt a person starts tracking their spending, creating a budget and starting to pay down debt. At blue belt a person has paid off all their bad debt, has established an emergency fund with 3-6 months of expenses, and started saving a fixed percentage of their income. With that foundation, today I want to cover slightly more advanced financial “purple belt” moves.
At purple belt, you can start putting together all your financial moves thus far into the game plan that helps point you towards your goals. Now that you are saving and investing, it is important to think about what exactly you want to accomplish with your money. It is important to get a financial plan that spells out those goals and shows whether or not you are on track to achieve them.
At this point it is a good idea to get rid of any medium interest rate debt, whether it be student loan debt, personal loans, etc. Don’t rush to pay off any low-interest debt like mortgages, since you can likely receive a higher return from investing.
By financial purple belt you should be trying to max out a 401(k) or IRAs and should consider contributing extra to a taxable account on the side. Contribute the maximum to retirement accounts ($19,500 for 401(k)s or $6,000 for IRAs) and if you have any leftover, invest it in a diversified stock portfolio in a traditional taxable brokerage account. A taxable brokerage account does not have the same tax advantages as retirement accounts, but it can be a great place to invest extra money that would otherwise be sitting in cash.
It is only as a high-level purple belt that I suggest people start taking a more nuanced look at their investment portfolio. Deliberately over-weight higher-risk, higher-return asset classes like small company stocks and value stocks. Research has shown that over long periods of time (2-3 decades) small-cap companies tend to outperform large-cap companies, and value stocks outperform growth stocks, though there is no guarantee that will happen in the future. As always, we must mention past performance is not an indication of future results.
At purple belt you start seeing everything you’ve done start to pay off, and you get a light at the end of the tunnel by planning for specific goals. Next week we’ll move to brown belt, where you actually start achieving those goals and rewarding yourself.
Financial Brown Belt
Paul R. Ruedi, CFP®
In my last three columns I started breaking down financial moves into martial arts belts, starting with white belt and moving up to blue belt. At white belt a person starts tracking their spending, creating a budget and starting to pay down debt. At blue belt a person has paid off all their bad debt, has established an emergency fund with 3-6 months of expenses, and started saving a fixed percentage of their income. At purple belt a person has established a financial plan and is taking a more detailed approach to managing their investments. At “brown belt” we take all that a step further.
With a financial plan in place, you’ll want to continually update the plan to track your progress towards your financial goals as the years go on. Are you on track to achieve the goals you set out to achieve? Do you need to make any adjustments? Thinking about your finances in terms of a plan designed to achieve your goals can help you make financial decisions and important adjustments throughout your life.
The savings goals at earlier belts amounted to saving as much as possible to move towards your financial goals. At brown belt, having enough saved to make working optional can provide you with the ultimate freedom in life. You can retire and spend your time doing the fun things you always meant to do, you can work a lower-paying job you may enjoy more and find more rewarding. Of course, you can continue working if you would like, usually with a completely different attitude.
If you are ahead of the game as far as your ability to fund your goals, you probably shouldn’t wait to start treating yourself. Whether it is taking that trip you always wanted or buying a sports car or jet ski, reward your discipline with something sensible.
Another slightly complicated brown belt investing move would be to optimize your tax location, which is a fancy way of saying make sure you are holding the appropriate investments in the appropriate types off accounts. It may make sense to hold less tax-efficient investments like bonds and REITs (real estate investment trusts) in your tax-advantaged accounts like IRA’s and 401(k)’s, and more tax-efficient investments like stocks and stock mutual funds in a taxable account.
At brown belt you really start seeing everything you’ve done start to pay off, and in many cases you can start rewarding yourself for your hard work and discipline as a saver. Next week we finally move on to financial black belt.
Financial Black Belt
Paul R. Ruedi, CFP®
In my last four columns I started breaking down financial moves into martial arts belts, starting with white belt and moving up to black belt. At white belt a person starts tracking their spending, creating a budget and starting to pay down debt. At blue belt a person has paid off all their bad debt, has established an emergency fund with 3-6 months of expenses, and started saving a fixed percentage of their income.
At purple belt a person has established a financial plan and is taking a more detailed approach to managing their investments. At “brown belt” we took all that a step further and started achieving the goals in a financial plan. Today we finally arrive at financial “black belt.”
At financial black belt you should have the freedom to quit your job and do what you want, or at least switch to a job you find more rewarding. If you love your job you don’t have to quit, but perhaps you could explore having more flexibility or reduced hours in your current role.
At black belt you will likely have achieved some or all your financial goals. When that happens, consider making new goals. You may be surprised at what you can achieve after years of setting up the perfect financial foundation.
At this stage you may also want to establish legacy goals. With your personal financial goals achieved it is a great idea to think about the impact you can have beyond your lifetime. Whether that means leaving money to relatives or perhaps a charity, your finances can have an impact that outlives you.
Most people who achieve black belt in a martial art end up teaching what they have learned in one form or another. Find a white belt who is struggling with the same things you did and help them out.
To wrap up this series, I want to emphasize a few things. Though we would all like to jump straight to the financial black belt, everyone needs to start with the basics and work their way towards a personal financial situation that is beyond anything they thought possible. There will be bumps in the road, financial “injuries,” or years you save nothing or don’t make any progress. Do not get discouraged; just keep your focus on moving towards your next financial milestone. Your only opponent is yourself, and if you put in the effort and keep moving forward, you will inevitably improve your financial situation beyond what you ever thought was possible.
Am I the Only One Who Knows?
David Ruedi, CFP®
Many bad investment ideas start with the premise of acting on special information “the market” as a whole doesn’t recognize. “I heard about (fill in the blank) in the news and I’m really worried about it.” Or “I’m thinking about investing in XYZ company because of (fill in the blank). What should I do?” The answer to these questions is almost always some variation of “you should do nothing.” The reason is simple – by the time you know a piece of information it has already been incorporated into market prices!
In this age of hyper-connectivity, the millions of investors across the world (many who trade full time) pick up on new information and trade based upon that information rapidly. That creates a stock market that moves up or down quickly to reflect any new information that comes out. If good news comes out, market prices go up to reflect that. If bad news comes out, market prices go down to reflect that.
By the time you hear about something, markets have already reacted and it’s too late to do anything about it. Remember how quickly the market dropped and recovered in response to the Coronavirus Pandemic? Nearly anyone who tried to sell out of stocks in response to that was too late and sold after the market had already declined. That’s like piling sandbags after a flood – it doesn’t do you much good.
I was talking to the passenger next to me on a plane a while ago who took the opportunity to tell me all about his stock picking. He works in artificial intelligence and thus was very focused on a handful of tech stocks because he knew all about how fast they were growing and changing the industry as we know it. I said this is no doubt the case, but what information do you know that the millions of informed investors buying and selling in the market do not? The stock market not only instantly includes all available information about a company, but also investors’ expectations about future prospects. What information or expectations about the stock do you have that aren’t already incorporated into the price of the stock today?
Next time you are tempted to change your investment portfolio based on something you heard on the news or read in a financial journal, ask yourself the following question, “Am I the only one who knows this?” The answer is most likely no, and you probably should leave your portfolio as it is.