Author Topic: What's my next step?  (Read 2369 times)

Frugalman19

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What's my next step?
« on: October 16, 2016, 11:49:41 AM »
Ages: 29 me, 25 wife.
Income: Me, $110,000 gross, half self employment half wages. Wife, $50,000 state job.
Debt: 0
Assets:
        Ally bank (emergency fun): $35,200
        457 (wife): $1,000
        IRA (wife): $4,200
        IRA (me) : $3,000
        SIMPLE (me): $43,000
        TOTAL: $86,400

Savings rate: Max SIMPLE ($12,500). Wife Max 457 ($18,000) plus an additional $3,500 per month available for savings. Total savings per year $72,500.

Wife just got her first career type job and we just recently paid off her $20,000 of student loan debt. That was our goal to begin with. Now we are at the point where we have an excess of $3,500 per month that we can save. We are currently renting a house from a family friend for $750 per month (in socal, which is insane. Our neighbor is renting the same house as us and is paying $2,600 per month). Personally I dont ever want to leave this house, its amazing. One caveat to living here is that the house it totally furnished with his things, so its not like we have our own stuff and an empty house. We are like permanent house sitters. But it could go at any time, if the owners kids want to move back in it, if the owner wants to sell, or if the owner wants to move back in. We could be kicked out. My question is this. What should I do with the extra $3,500 per month.

1. Save it in an ally bank account for a downpayment on our own place
2. Save it in taxable index funds with Vanguard?
3. Combination of both?

I really have no desire to buy a home in socal, everything just seems so over priced and owning a home seems risky to me. But, I do see how they are great investments, since you have to live somewhere. In a perfect world, I would continue living here and buy a house and rent it out and keep paying my $750 per month to this landlord. We are covering all of his costs, and he is really, really cool. If we do buy a home, it would be $450,000-500,000 at least to live near work and in a decent neighborhood. Being in socal, there are some really bad neighborhoods with homes in the low $400s or even high $350s, but I would never live there. So, down payment would be $100,000.

We've had little goals since we started and that has helped us stay on track, but now that we are debt free, and have the ability to save. I dont want to get lax and start spending alot more for no reason, I want our next goal. What would a mustachian do?

pbkmaine

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Re: What's my next step?
« Reply #1 on: October 16, 2016, 12:16:57 PM »
If you do not want a house, and are not excited about being a landlord, keep things as they are. Houses are not necessarily a good investment. It sounds like you have a good situation where you are.


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Frugalman19

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Re: What's my next step?
« Reply #2 on: October 17, 2016, 07:59:19 AM »
Thanks for the response, I am more worried about being under prepared if we have to move. If we do move, I will buy. Rent in Socal is absurd, our old one bedroom apartment was $1,400 a month. There are deals out there for living, but here, that means living in a shady neighborhood, which isnt a option.

I think we have at least 2 years that we can stay here, the current owner has said we can stay as long as we want, but we do not want to wear out our welcome. In that time we should be able to save roughly $72,000. Outside of retirement.

DrF

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Re: What's my next step?
« Reply #3 on: October 17, 2016, 11:55:01 AM »
The first thing you should do is get your money working for you better. Savings accounts are for sucka's. Invest that money, when you need it for something (down payment, medical emergency, legal fees), you'll be glad you have even more money because you invested it. You've got so much excess cash right now, if stocks tank some, you will have the perfect opportunity to keep adding to your stash.

https://earlyretirementnow.com/2016/05/05/emergency-fund/
https://earlyretirementnow.com/2016/07/27/emergency-fund-bad-idea-one-chart/
https://earlyretirementnow.com/2016/09/07/debunking-emergency-funds-part1/
https://earlyretirementnow.com/2016/09/14/debunking-emergency-funds-part2/

Here're the best arguments I've come across to always have your emergency fund invested.

I don't see how this contradicts my point. If anything, you're providing evidence for it. You'd rather lock-in a loss, to avoid an admittedly small chance of an equal loss. If the opportunity cost seems nil, then so should the risk you're trying to mitigate.
Whether these "losses" are equal depends on when the emergency takes place and where the market is at that time - both unknowable.  I would rather give up a small return each year for the confidence that I'm not forced to liquidate positions when it isn't favorable to do so.  Half of my emergency fund is in VFSTX and included in my bond allocation.  It's not in a savings account, it yields 1.75%, and it also serves to mitigate sequence of returns risk - i can spend it for regular expenses if I don't want to sell equities.

The consideration the OP needs to make is what happens if the market tanks next year and an emergency requiring $10K arises.  This is the basic rationale for maintaining an emergency fund.  Weigh that against opportunity cost, not projected returns for >10 years.

Seriously, it's just math. I choose 10 years to keep the math easy, but here's the year 2000-current. A historically bad time for stocks. Left side is 100% stocks, right side is a 1% savings account:



Scenario A: We put $100 in our Emergency Fund, and have a $50 emergency in 2008.
Balance during emergency: $26 for stocks, $59 for savings account. A relative difference of $33 in favor of the savings account.
Balance today: $70 for stocks, $64 for savings account. A relative difference of $6 in favor of stocks.



Scenario B: We put $100 in our Emergency Fund, and have no emergencies.
Balance today: $207 for stocks, $117 for savings account. A relative difference of $90 in favor of stocks.



Scenario C: We put $100 in our Emergency Fund, and have a $50 emergency in 2002, and another $50 emergency in 2008.
Balance during 2002 emergency: $13 for stocks, $53 for savings account. A relative difference of $40 in favor of the savings account.
Balance during 2008 emergency: -$34 for stocks, $6 for savings account. A relative difference of $40 in favor of the savings account.
We remove $100 from our portfolio to replenish the Emergency Fund.
Balance today: $118 for stocks, $113 for savings account. A relative difference of $5 in favor of stocks.

"You'd rather lock-in a 50% loss (by going with the savings account in the almost-certain Scenario B), to avoid an admittedly small chance of only earning 5% (worst-case scenario C with stocks)?"

Even if we only look at the balance during an emergency, the savings account is only up $40. So you're locking in an almost certain loss of $90, so you can avoid the temporary loss of $40? There is no mathematical justification I can see. Only an emotional one.



And here's another one he posted.



I keep just enough in the bank to pay next month's bills. After that, everything is invested. Here's a fun chart I made in another thread to explain why I'm 100% stocks:

Emergency fund - break even calculation

After 7 years, you hit the break-even point. After that point, even if stocks crash 50%, you'll still be ahead by investing it vs keeping it in cash. In that sense, a cash emergency fund really has a limited shelf-life of usefulness:



(Green means you were better off investing the money, even after the crash)

Frugalman19

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Re: What's my next step?
« Reply #4 on: October 17, 2016, 12:11:23 PM »
Very interesting.

That does make sense if the emergency is only half of the initial balance. Our emergency fund is specifically for 6-9 months of expenses. If I invested it and the market tanked, I would no longer have the 6-9 months worth of expenses, and the fund would be pointless. I do know that $35,000 is alot to have in an emergency fund, and if we did have an emergency im sure the wife and I could go bare bones and only need about $20k for 9 months of living, but she wants it to be $35,000 and likes the cushion.

This is intentionally high for her satisfaction and her ability to be comfortable. I have toyed with dropping it down to $20,000. I will move that over to our investment account once our net worth is a little more healthy. I feel like we are at a vulnerable spot right now, being relatively young in our careers and making decent money, this might not always be the case.


DrF

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Re: What's my next step?
« Reply #5 on: October 17, 2016, 01:08:40 PM »
What's the difference between having $30k in a savings and $50k invested versus $80k invested? The difference is, you're locking in a guaranteed lower return on your money if you keep it in a savings account.
https://www.betterment.com/resources/investment-strategy/the-real-cost-of-cash-drag/
Ignore the betterment sales pitch.

It's like this, you (or your wife) sees that your balance is $80k, the market tanks and now you have $50k.

The reality is this, you kept $30k in a savings (probably before you even invested much elsewhere), and so you were only able to save and grow $40k in your brokerage account. As in scenario 1, the market tanks and your investments take a hit, down to $25k (same % as above). Now you have $55k, only $5k more than if you just had invested everything.

What'll really kill you is what will happen with the invested money when stocks rebound.

Heroes821

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Re: What's my next step?
« Reply #6 on: October 17, 2016, 01:27:04 PM »
Very interesting.

That does make sense if the emergency is only half of the initial balance. Our emergency fund is specifically for 6-9 months of expenses. If I invested it and the market tanked, I would no longer have the 6-9 months worth of expenses, and the fund would be pointless. I do know that $35,000 is alot to have in an emergency fund, and if we did have an emergency im sure the wife and I could go bare bones and only need about $20k for 9 months of living, but she wants it to be $35,000 and likes the cushion.

This is intentionally high for her satisfaction and her ability to be comfortable. I have toyed with dropping it down to $20,000. I will move that over to our investment account once our net worth is a little more healthy. I feel like we are at a vulnerable spot right now, being relatively young in our careers and making decent money, this might not always be the case.



I don't think you are in a vulnerable spot right now, because you're both young and with desirable skill sets for employment, if the worst happened and all your savings was gone and you both lost your jobs you would probably have an easy time landing new jobs, potentially at an even higher pay rate than you have now because the time at your job will now be on your resume.  This might not be true when you are 15+ years into a career where companies are leery of hiring older employees for more money.

Frugalman19

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Re: What's my next step?
« Reply #7 on: October 17, 2016, 02:34:48 PM »

[/quote]

I don't think you are in a vulnerable spot right now, because you're both young and with desirable skill sets for employment, if the worst happened and all your savings was gone and you both lost your jobs you would probably have an easy time landing new jobs, potentially at an even higher pay rate than you have now because the time at your job will now be on your resume.  This might not be true when you are 15+ years into a career where companies are leery of hiring older employees for more money.
[/quote]

Another great point. I had not thought about that. I think I am still at that young phase where I still cant believe we are grossing over $13,000 per month. Its like I feel like it can all stop at any moment.


What's the difference between having $30k in a savings and $50k invested versus $80k invested? The difference is, you're locking in a guaranteed lower return on your money if you keep it in a savings account.
https://www.betterment.com/resources/investment-strategy/the-real-cost-of-cash-drag/
Ignore the betterment sales pitch.

It's like this, you (or your wife) sees that your balance is $80k, the market tanks and now you have $50k.

The reality is this, you kept $30k in a savings (probably before you even invested much elsewhere), and so you were only able to save and grow $40k in your brokerage account. As in scenario 1, the market tanks and your investments take a hit, down to $25k (same % as above). Now you have $55k, only $5k more than if you just had invested everything.

What'll really kill you is what will happen with the invested money when stocks rebound.


Not sure what you mean here. The $50k we have invested is all in retirement accounts that would be difficult to get to and very costly. I hear what you're saying about investing and not keeping the money in cash. But that would defeat the purpose of having an emergency fund that is specifically meant to cover 6-months of living expenses. That's the point of the account, if it was invested and it drops in half, then it no longer is fulfilling its need. I also believe it is like an insurance policy, there are costs to having insurance, that loss of growth is something I am ok with accepting at this point. Dave Ramsey calls it 401(K) insurance, it will prevent you from attacking your retirement assets.

Thank you for showing me the illustration it really drive home the point that it is pointless to have cash. I think that as your taxable assets increase you can decrease you emergency fund on a scale. For example, once I have $70,000 in taxable assets, even if they drop in half, they are still enough to cover my 6 months of expenses. Thus, making the emergency fund almost useless.

Side note, if I do end up using the funds for a down payment I will have to restore the emergency fund with cash until my taxable assets are about $70,000 again.

frugaliknowit

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Re: What's my next step?
« Reply #8 on: October 17, 2016, 02:56:28 PM »
Awgolfer, I appreciate your concerns.

I have a similar concern:  I live in Chicago, currently do not own a car as I can bike to work.  If I lost my job and found the right opportunity in the suburbs, I would like to have one available.  I have a car fund.  This fund should exceed the inflation rate (some growth), but be lowER in risk.  This is what I use for that purpose:  https://personal.vanguard.com/us/funds/snapshot?FundId=0103&FundIntExt=INT