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Personal Finance Advice That Changed My Life
Today I am going to write about a topic I have never written about before: personal finance. I am writing about this not so much for you, faithful reader, as for my kids.
You can listen to a professional narration of this article below:
Article available in Spanish here.
Today I am going to write about a topic I have never written about before: personal finance. I am writing about this not so much for you, faithful reader, as for my kids. My four- and twelve-year-old girls are probably too young for this discussion, but my eighteen-year-old son, Jonah, is right on the cusp of needing to learn about it.
When I got married in 2000, one of the best gifts given to my bride Rachel and me was lunch with my friend Mark Bauer. Mark and I became friends when we studied at the University of Colorado – he was always my dependable study partner. He is ten years older than me, which at the time meant he had double my maturity (I was twenty-eight).
A few months before our wedding Mark, asked if he could have lunch with Rachel and me. At lunch Mark explained that many marriages come to ruin over money issues.
Mark told us,
A tool that has been very helpful for me is a family budget. On the surface it sounds easy – you project your “revenue” (for your family that would be your and Rachel’s salaries) and then subtract your expenses, and that gives you your net income. If you have money left over then you have savings, and then you can afford to spend money on whatever your hearts desire.
At that point I was a bit disappointed in Mark’s wisdom. I was a few months away from completing the CFA designation, and that was on top of my masters degree in finance. The simplicity of his advice was frankly a little insulting to me.
Mark read my unimpressed facial expressions but continued:
The problem with a normal budget is that though it captures well ongoing daily expenses like a mortgage, the cable bill, groceries etc., it ignores future expenses. Let’s take your car for example. It’s paid for, which is great. But in five years this car will need to be replaced and “suddenly” you’ll discover that you have a onetime $20,000 expense, which should not be sudden and is actually anything but onetime unless you are planning to drive this car for the rest of your life. But the car is just the beginning – you’ll take vacations, buy furniture, your kids will go to college, and then there’s retirement. “
Now this discussion was starting to get more interesting.
Sit down together and identify all of your expenses, current and future. Once you have identified your future major expenses, create a sinking fund for each one of them.
He explained about sinking funds:
I learned the term from my wife. She used to work for United Airlines. An airline is a very cyclical business, but United knew that they had to repaint their planes every so many years. They set a certain amount of money aside for plane repainting, during both good and bad times. When the time came for a plane to be repainted, they had money in a separate account. It didn’t matter if their business was booming or struggling, the planes got repainted.
Think of “sinking fund” as sink (synch) ronizing the future to the present.
Let’s take your car as an example. If in five years you’ll need to buy a new car for $20,000, you’ll be probably be able to get $5,000 for your present car, and thus you’ll need $15,000. That means you need to save $3,000 a year or $250 a month. This $250 a month should become a line item in your budget, and the $250 should go into a separate account. Or you can use one savings account and track sinking funds on a spreadsheet, but some banks will allow you to create separate savings accounts. You can get fancy and start assuming rates of return, but unless I am dealing with an expense that is at least five years out, I ignore compounding. Take the vaguely right approach rather than the precisely wrong one.
Once you’ve identified your future expenses, create your budget; and I guarantee that you’ll discover that your true income is much lower than you thought. Just because these expenses are going to happen in the future doesn’t make them less real.
What happens to a lot of families that don’t plan for future expenses is they get surprised by them and are forced to borrow. Borrowing makes everything exponentially more expensive, because compounding interest turns from being your friend to your enemy – you start paying interest on interest and the rat race begins.
At this point and I could not wait to go home and fire up Excel and start budgeting. As Rachel and I were guesstimating our monthly and future expenses, we had to make calls to her and my parents. We had both lived with our parents and were oblivious as to how much things cost. Once we figured out how much we’d spend on recurring items like utilities, groceries, car insurance, clothes, etc., we started to think about our future big-item expenses. Suddenly a lot of unexpected things showed up on the list: furniture, car insurance deductibles, a new TV (that was when big TVs cost a lot of money) … and this was all before we had kids.
As I am thinking about this almost two decades later, I see that Mark’s budgeting advice turned our spending from a mindless, often impulsive endeavor into a mindful one. It was a great prioritizing tool. Rachel and I intentionally allocated our limited income to the things that mattered to us the most, at the expense of things that mattered to us less. By bringing all current and eventual expenses into our monthly spending budget, we got rid of unwelcome surprises. Also, when unexpected things happened – a car accident, a significant repair to the house – since money had been saved in the “emergencies” sinking fund and it came out of a different savings (and mental) account, writing a check was a lot less painful.
I realized over the years what Mark saw then: that our wants are unlimited and will always exceed our income. No matter how much money you make, be it $100,000, a million, or ten million, without a system your insatiable wants (if not controlled) will always outpace out your income. You think if you double or triple your income you’ll be happy, you’ll have enough? Unless you keep your expenses the same, which most us of will not do, then you won’t have enough. As we make more money we seem to develop a taste for finer wines, more luxurious cars, and larger houses in pricier neighborhoods.
We’ll always have neighbors and friends who have fancier things than we do. If we allow our internal compass to be magnetized by them, we’re guaranteed a life of misery, as our income will always lag behind our envy and we’ll be destined for the never-ending rat race. Warren Buffett says that envy is the stupidest of all the deadly sins – at least you get some pleasure from the other ones.
As you can imagine, in the investing industry, where you rub shoulders with multi-multi-millionaires and billionaires (be it your clients or colleagues), it is very easy to let your internal compass get out whack. Over the years when our (mainly my) impulses were getting the worst of us, my wife and I would go to the budget and see what we’d have to give up if were to opt for a new car or a bigger house. Was the new house worth a winter without skiing or a Florida vacation?
We realized that material things – houses and cars, etc. – were on the lower end of our priority list. We found that four categories were important to us: health, experiences, time, and education. It’s not that we don’t have a budget for these categories, it’s just the budget is larger and much looser.
Let’s start with health. Without health nothing else matters. A personal trainer may look like an unnecessary luxury, but without him every attempt I have made to work out has failed. (I’ve been working out with a trainer consistently now for over a year). Food fits into this category as well. We simply don’t pay attention to the price of tomatoes or meat at the grocery store.
Education: On top of paying for the education of our kids and their after-school activities, we put no limits on how much money they (and we) spend on books. The same applies to our own education, be it for seminars or coaches.
Experiences: As my kids are growing up I have become acutely aware that we’ll have only a limited time with them. Family vacations, skiing in the winter, and day trips are very important to us. Whenever I travel for business I always try to take a family member with me.
And then there is time. Time is the most finite asset we have. My thinking on this topic has changed over the last five years. I was always bothered when my investment friends used assistants to schedule calls with me or their assistants replied to emails I sent them. I incorrectly perceived that it was their way of telling me that they were more important than others. However, I realized as I got older that money buys time. The time I save by not doing low-value tasks (e.g. going through my inbox, replying to emails that my assistant can respond to, scheduling calls, making doctor’s appointments, or booking airline tickets) I can spend doing research, talking to clients, and yes, hanging out with family and friends.
I am not sure if money can actually bring happiness, but I am sure that the lack of money is a source of a tremendous of unhappiness. On the surface this sentence may fail a test of logic as it lacks linearity, but it’s true just the same. Oxygen doesn’t make you happy, but a lack of oxygen will make you unhappy very quickly. So it is with money. (Although we’ll all disagree on what “a lack” means).
Happiness is reality less expectations. When you control your budget you control your expectations.
When you constantly spend more money than you earn, after you chew through your savings (if you ever had any), then you’re getting deeper into debt. Therefore, to maximize health, education, experiences, and time and still live within our means, Rachel and I had to give up things that were less important to us – a huge house and brand new cars. My wife is driving a 13-year-old car, and I would still be driving the 10-year-old car that I owned for eight years if it hadn’t been stolen. We have lived in the same, not-so-fancy house in a safe but not-fancy neighborhood for 15 years.
I have found over the years that I absolutely hate the feeling of being helpless – a feeling you get when you have no control over life or circumstances. I know that control is an illusion, but I don’t give it up voluntarily.
By living within our budget (and, I am sure, thanks to plenty of good luck), Rachel and I have never had to argue about money (we had plenty of other topics), because we were on the same page, since we both created that budget.
I was lucky to have Mark as a friend who, with just one lunch, made my life richer and easier. I hope that with this article I’ll do the same for others – and Jonah, I hope you’re reading this!
Louis-Hector Berlioz (1803-1869) was not a child prodigy; at age 12 he was a latecomer to music (by that age Mozart had already completed his first performance tour). His father discouraged him from studying piano, so he did not. His parents wanted him to be a doctor (every Jewish mother wants her son to be a doctor), and Berlioz was sent to Paris to study medicine. At the age of 23, despite his parents’ objections, he formally abandoned the study of medicine and focused solely on music. Berlioz never received classical musical training, and thus it was easy for him to break the rules of music composition since he didn’t know them.
It’s hard to say whether Berlioz’s musical adventure would have amounted to much if he hadn’t fallen in love. When he was 27 he attended a performance of Hamlet. There he saw her: Harriet Smithson, Irish Shakespearean actress. He was fatally smitten. He wrote her love letters, but his love went unrequited. He rented an apartment across the street from her and then wrote her the ultimate love letter: Symphony Fantastique.
Fantastique was written in the pain of unreturned love. Berlioz wrote:
Oh, if only I did not suffer so much!… So many musical ideas are seething within me.… Now that I have broken the chains of routine, I see an immense territory stretching before me, which academic rules forbade me to enter.
In another letter he wrote:
Sometimes I can scarcely endure this mental or physical pain (I can’t separate the two) … I see that wide horizon and the sun, and I suffer so much, so much, that if I did not take a grip of myself, I should shout and roll on the ground. I have found only one way of completely satisfying this immense appetite for emotion, and this is music.
As a side note, the topic of pain and creativity is very dear to me. I strongly believe most creativity in the world is unleashed by pain. If it was not for pain we would not have Rachmaninoff’s Piano Concerto No. 2, which he wrote after suffering a three-year depression from the failure of his first symphony. Or think about this: Beethoven was deaf the last ten years of his life, and this is when he composed his best work.
Back to Berlioz. Either Berlioz could not take the pain or he needed additional stimulants to access his newfound creativity; in any case, he consumed a lot of opium in the course of writing Fantastique. Fantastique premiered to incredible success in 1830 and turned Berlioz into a huge star. Harriett was unfortunately not at the premier and only heard the symphony two years later. By then Berlioz is famous, and she recognizes his genius. They get married and … are unhappy and separate.
Nevertheless, we should all thank Harriet for this incredible masterpiece.
Here is how Leonard Bernstein summarized this symphony: “Berlioz tells it like it is. You take a trip, you wind up screaming at your own funeral.”
Final point. Fantastique is a five-movement program symphony. (Program music means that the symphony follows written program notes; think of them as silent opera.) It’s the love story of Berlioz’s unrequited love for Harriet – on psychedelics. There is a glittering ball, a lonely idyll in the countryside, and other visions induced by opium. (I kid you not; here is what Berlioz wrote in his program notes: “The Artist, knowing beyond all doubt that his love is not returned, poisons himself with opium. The narcotic plunges him into sleep, accompanied by the most horrible visions.”) The symphony continues with the murder of the artist’s love interest, the execution of the artist after a stirring march to the gallows, the artist’s funeral, and the artist’s love interest’s reappearance as a witch). You can read the whole fantastical story here.
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Vitaliy Katsenelson is the CEO at IMA, a value investing firm in Denver. He has written two books on investing, which were published by John Wiley & Sons and have been translated into eight languages. Soul in the Game: The Art of a Meaningful Life (Harriman House, 2022) is his first non-investing book. You can get unpublished bonus chapters by forwarding your purchase receipt to firstname.lastname@example.org.