Saving Automation 101: Routine, habitual, saving

Financial Planning Dentist

At the foundation of any planning conversation is saving and saving automation can help make that easier and promote good money habits. Those that start saving early and do it throughout their entire working days are setting themselves up for a life without being employed. If you want to work until you pass away you almost can but I sure don’t. In this article I will share the best savings techniques I’ve seen and how the millionaires I work with got to where they are. Surprise, it’s not because they picked the next Apple.

Although you can swing for the fence and be the next Barry Bonds with a great stock pick, you could also be the next Clint Hartung and make the wrong pick and lose it all. To us, risk is worth taking at the right times and with the right amount. But those that stay wealthy develop strong habits early. There’s a reason that over 60% of NFL and NBA players are bankrupt or under financial stress within 5 years of leaving their sport. Making a lot of money doesn’t necessarily correlate with long term wealth. So what should you be doing now for it to be habitual? 

Here is my trick to saving: Automation

Trick one is automating your savings. There is a reason why people’s biggest investments are their home and then their 401k. Take your income and give yourself a goal. If you make less than $100,000 try to save 15%. If you make more than $100,000 save 20%-30%. Then whatever is left over is your spending for expenses. The formula is not Income-Expense=Savings. Most companies allow you to automatically take money out of your paycheck (go into your payroll system) and have it go into an investment account that is set up to automatically invest for you. If you have to invest it yourself then you’re creating a step for yourself and therefore creating an obstacle which is what makes automating your savings so valuable.

Once you’ve established how much you save then it’s a matter of where to save. The younger you’re the better it is to save in a Roth IRA and a regular brokerage account. But any savings vehicle is great! If you’re fortunate enough to have an employer that gives you a 401(k) match, meaning they will give you free money to participate in the 401(k) plan then max that out.

If you have a family, make sure you have a minimum of 3 months of expenses in cash saved to support everyone if you lose your job. If you’re the primary breadwinner then have 6 months saved. After you have that saved in a savings account, then look to contribute to your 401(k). In 2020 you can save up to $19,500 if you’re under the age of 50 and $26,500 if you’re older than 50. If you’re in a lower tax bracket, look to save in a Roth 401(k) as this money will grow tax free (read Investing 101). If you’re looking to have a diverse group of accounts you can put half into your Traditional 401(k) and half into your Roth 401(k) as this will prepare you for whatever the tax situation may be in the future.

I like maxing out my 401(k) then anything extra goes to a joint account that is invested in stocks and ETFs. Whatever the savings vehicle, especially when you’re young will do amazing things for you. The main reason why we like the Roth 401(k) over the other accounts is because you won’t be tempted to use it, it grows tax free, and with good investments you can hopefully stop working sooner. 

Don’t let the politics or the status of the global economy get in the way of savings. It doesn’t matter where the world is when you automate your savings. All that matters is that you’re dollar cost averaging over time (lowering the overall cost basis of your investment) regardless of where the markets are. If they’re high don’t try to time the market. If they’re low then try to adjust your spending down and increase your savings during that time as you’re getting great discounts that only present themselves a couple of times per year on average.

To review, saving as much as possible early is made possible through automation. Accumulating good debt (student loan, mortgage, starting a business, etc) is fine but stay away from erosive debt (credit card, expensive cars, etc). Automate your savings and investments. Income-savings=expenses. 

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Kevin Taylor

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That’s right, with the exception of three small windows in the last 20 years investors have been “overpaying” for their exposure to the market. Long-term investors might see the next window opening before their eyes right now.  If you’re regularly adding funds to a long-term account, such as a 401(k) or IRA, don’t stop during a recession. That’s huge! If you place most of your money in stocks, don’t “chase performance” and sell out of them. They may be falling in price while bonds are rising in price. Don’t chase bonds, don’t chase life insurance schemes, and don’t try to buy and sell rapidly. Don’t change what you are buying for the long term, in favor of what you see in the short term. Take advantage of the discount in prices – and keep saving.  Short-Term Investors and Retirees Although you may be uncomfortable during a bear market, don’t be tempted to sell your stocks or stock mutual funds at a loss across the board. Make two things a priority, lower your risk, and focus on cash flow. This is a time to focus on quality investments, and pair down the speculative portions of the portfolio – this isn’t the market for moonshots. Begin by accepting that speculative bets might be lost forever and start looking for investments that will survive economic contraction.  If you need income right away, it would be best to have money set aside in cash and bonds before the downturn. That way, you can withdraw from your cash while you wait for stock prices to recover. Then look for investments that can safely replace the cash you need on an annual basis – bonds, real estate, and dividend stalwarts are the keys here. If you can create a cash balance, then you can keep your more speculative investments grinding through the economic slowdown. Ideally, if you are retired, you and your CFP® know what your annual need for cash is, and what investments and institutions are working to replace that cash as fast as it is used. Investing Before and During a Recession It’s easy to go wrong during a recession if you forget or don’t understand how certain investments perform during a downturn. Or how they are related to each other. The stock market is a forward-looking vehicle. Stocks represent your right to a company’s future cash flows. So when warning signs of a recession “hit” these are the most skittish assets and will react the most violently. This doesn’t necessarily mean these companies won’t survive the recession or even become better as a result. What it means is that the amount that other people are willing to pay for a company’s future earnings is lower. When the recession becomes a thing of the past, people will begin to overpay for earnings again, and this is where you want to be in a position to sell shares to those people.  Stock prices often fall months before a recession begins, which also means that they often bounce back up before the recession is declared over. You can miss an entire downturn if you only follow the news. That is why it is vital to know the signs of a recession and recovery, and how assets perform during those periods.  These are our general expectations of asset behavior during a recession: Stocks: Prices for stocks tend to fall before the downturn begins, often selling off even at the scent of a recession. Stocks are the most volatile and skittish, during a recession. But they also have the most to gain. Good companies buy back their own stock during a recession, smart investors buy more shares at lower prices, and recessions make good companies leaner, and more financially fit for the next business cycle.  Real Estate: After stocks, Real Estate is the second most appetizing asset in a recession. And for some, it might be the most appropriate risk. Real Estate investors get the luxury of not having the mark-to-market value of their portfolio put in front of their face. During a recession, they make known their real estate is “down” but they are rarely bombarded with the daily and hourly reminders of the real estate market. This does two things, it reinforces patience for the investor and shifts their focus to the income the property produces. Both of these are things we noted above that stock investors need to learn in a recession.  Bonds: Prices for bonds tend to rise during a recession which means their yield declines. Good bonds (that is to say Bond from good companies) will often be over pursued their security – leading to an opportunity to sell overpriced bonds to scared or unprepared investors. Historically, The Federal Reserve (the Fed) stimulates the economy by lowering interest rates and purchasing Treasury bonds. But for the coming recession, this may not be the expectation as the Fed is in the first innings of raising its rates. This might be the macroeconomic element that causes this

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Large savings account but not ready to buy a home yet, options?

This may be the most difficult time for savers looking to buy a home. As interest rates have plummeted making it more affordable to buy your home, it has decreased what you can earn in a savings account to pretty much 0%.  With that being said, depending on your time frame you have a couple of options. If you’re planning on buying a home within the next 1-2 years the best option you have is buying a US Treasury (.9% as I write this) or an investment-grade corporate bond (1.3%). You cannot afford to start investing and lose 10-30% of your savings for the hope of a small increase in a good investment. So understanding risk vs. reward is key.  If you’re planning on purchasing a home in more than 2-3 years then you could theoretically invest this money in a more passive way either by investing some money again in a corporate bond or US Treasury and complement it with a total stock market ETF. How much you invest in both depends on your timeframe but the more you invest in equities the more volatility your savings will become.  Alternatively, you could invest in a bond ladder. For example, buy a 1-year bond, a 2-year bond, and a 3-year bond. As interest rates potentially increase, your bonds will mature and you will have cash available to reinvest in a bond with maybe a higher interest rate that matures when you need it to purchase your home.  If you’re looking to buy a home in 3-5 years then you can invest a little more aggressively; however, it will be important to reduce your equity exposure as you get about 1 year out.

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