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IT’S RISKY TO LAY down hard-and-fast rules for money management because, for every rule, there will almost inevitably be exceptions.
Still, as they say, “nothing ventured, nothing gained.” Below you’ll find 18 rules. Want to quibble? Hey, that’s why HumbleDollar allows readers to comment on articles.
1. Minimize cash. With short-term interest rates so low, keeping money in savings accounts and money market funds seems especially grim right now. But the truth is, cash has always been a lousy long-term holding, pretty much guaranteeing your money will depreciate once inflation and taxes are figured in.
2. Maximize stocks. Owning a diversified stock portfolio has proven to be a remarkably simple way to build wealth over the long haul—and the only struggle is ignoring the constant temptation to focus on short-run results. No, you shouldn’t have money in the stock market that you’ll need to spend in the next five years. But it’s a great place to invest the rest of your portfolio.
3. Minimize complexity. This is advice Wall Street desperately wants you to ignore because, for the Street, complexity is the key to higher fees. Don’t understand an investment or investment strategy? Just say no.
4. Minimize trading. If athletes train harder or business owners put in longer hours, they’ll often get better results. But for investors, vigorous activity—as represented by more trading—is usually a recipe for disaster. Not only is trading costly (yes, even when commissions are zero), but also it can trigger big tax bills.
5. Maximize tax deferral. I’ve lately been hearing a fair amount of carping about traditional retirement accounts, where you get an initial tax deduction but have to pay income taxes on withdrawals. I think this is wrongheaded. Do the math and you’ll find the initial tax deduction often effectively pays for the eventual tax bill. Don’t think the math will work in your favor? You can always opt not for tax-deferred growth, but tax-free growth—by favoring Roth 401(k)s and Roth IRAs, including the so-called backdoor Roth.
6. Maximize indexing. Every dollar of your portfolio that you actively manage is a dollar that’ll likely end up earning mediocre returns, thanks to the investment expenses you incur. Want to avoid needless costs and ensure you keep pace with the market averages? Buy broad market index funds.
7. Maximize compounding. This is partly about maximizing time in the market by buying stocks early in life and by helping the next generation to get started. But it’s also about diversifying broadly and thereby avoiding the hefty losses that can come with betting on a single market sector or a handful of stocks. Such losses can devastate compounding because they’re so hard to recover from.
8. Minimize noise. By this, I mean minimize consumption of useless information and especially market information. Listening to CNBC and tracking the financial markets throughout the day will likely lead to more bad decisions than good. What if you can consume this information without acting on it? You’re still wasting great gobs of precious time.
9. Minimize unnecessary debt. You may need to take on debt to pay for college, buy a home or purchase your first car. But you should strive to avoid unnecessary debt. Yes, you might want a new wardrobe or a new TV. But will you be able to pay off the credit card bill when it arrives? Yes, you might want to remodel the kitchen. But how about saving up the necessary money rather than taking out that 401(k) loan?
10. Minimize insurance. If there’s a financial risk you can’t afford to shoulder on your own, it’s crucial to protect yourself with insurance. That said, you want to keep coverage to a minimum because money spent on insurance will usually be money lost.
Don’t have any financial dependents? Skip life insurance. Have $5,000 in emergency savings? Maybe you should opt for deductibles of that size on your auto, homeowner’s and health coverage. Have enough saved to pay long-term-care (LTC) costs out of pocket? Think twice before buying LTC insurance.
11. Maximize Social Security. Make a thoughtful decision about when to claim benefits, rather than simply applying as soon as you turn age 62 or as soon as you leave the workforce. To that end, you’ll need to consider factors like life expectancy, spousal benefits and family benefits. The upshot: You shouldn’t necessarily wait until age 70 to claim Social Security—though that’ll often be the best strategy.
12. Minimize fixed living costs. Our dollars get divvied up among four main buckets: fixed living costs like housing and car payments, discretionary “fun” spending, taxes and the savings we set aside. Want to have more money for discretionary spending and savings? Try to hold down your fixed living costs and carefully manage your annual tax bill.
13. Minimize possessions. We all need some possessions to lead a comfortable life and we all have some possessions that we treasure. But it’s the other stuff that’s the problem—the stuff that finds its way into the basement and, if it never leaves, ends up being a burden to our heirs. By contrast, money spent on experiences doesn’t turn into a burden. Instead, after an experience such as a concert, a meal out or a vacation, all that’s left is the memory—and, more often than not, it’s a fond one.
14. Minimize impulsive spending. There’s nothing wrong with spending—provided you buy stuff you truly want or need. The best way to avoid wasteful spending: Think long and hard before cracking open your wallet.
15. Maximize anticipation. An added reason to think long and hard: You’ll enjoy a lengthy period of eager anticipation—which may prove to be the most pleasurable part of any expenditure. Planning to buy a new car or take a vacation? Start thinking about these things far ahead of time, so you have months to savor your future spending.
16. Minimize hassles. When we imagine owning a boat or a second home, we tend to think only about how much fun it would be. But what about the hassles? After the initial thrill, the fun from such purchases will start to fade—and the hassles will likely loom large.
17. Minimize unhappy times. This isn’t just about avoiding purchases that come with significant hassles. It also means spending the least time possible commuting, doing disliked chores and with disagreeable people.
18. Minimize money worries. Rule No. 1 was to minimize cash. But that doesn’t mean you should hold no cash. If there’s money you’ll need to spend soon or will use to cover emergencies, it should be in cash investments. But holding cash also has another important role: If you want to reduce financial anxiety, a plump savings account can work wonders.
Jonathan Clements is the founder and editor of HumbleDollar. Follow him on Twitter @ClementsMoney and on Facebook, and check out his earlier articles.
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That’s all very well, but what if you like analyzing stocks and like having lots of possessions? It’s not a waste of time if you enjoy it, and different people have different tastes.
#13 and #14 bring to mind the importance of maximizing your sense of belonging.
A concert with other music lovers, a meal with family, a vacation to maintain a longtime friendship or memories of earlier times.
As for impulsive spending, few things are more fun than impulsively spending small amounts on a kid or grandkid. Does either of you really need a ball park hot dog? Nope. But if it’s not what you eat at home, it creates another detail for your memory of the day together.
(Premise being that invoking all five senses creates a stronger memory. Plus the “thrill” of breaking everyday healthy habits… in moderation.)
Jonathan,
I’d quibble a bit with #6. Index funds, regardless of how inexpensive they are, still charge annual fees. Buying 10, 100 or 1000 shares of Apple or dozens of well known, stable companies costs nothing. Nothing to buy them, nothing to hold (forever) & nothing when it’s time to sell.
I’m not recommending anyone risk their retirement on “Uncle Bob’s Fancy Chicken Shack”, but there are plenty of obviously well run companies out there. (In fact, those index funds are full of them.)
Great article, totally agree on most points. Quibble a bit with the cash portion, especially those of us who are retired or on the cusp of it. My preference is to use the 3 buckets, with bucket 1 holding cash (yes 0.40% interest and all) for 5-8 years, accounting for inflation. Bucket 2 with a 60 (bonds) – 40 (stocks) that would cover another 6 or so years. Anything beyond in the longer than 12 years (bucket 3) in 80/20 stock/bond mix.
Do you not agree?
It seems like a reasonable strategy, though my tolerance for risk is somewhat higher, so I’d allocate more to stocks.
With minimize cash you mean even the emergency fund or the money left after your have a few months of expenses in cash?
thank you, great article as always!
You should have enough in cash investments and high-quality short-term bonds to cover emergencies and, if retired, perhaps the next five years of portfolio withdrawals. Beyond that, I’d be looking to make a healthy real return — which means allocating heavily to stocks.
Great list, and I will admit that it feeds my confirmation bias. From a practicality standpoint “cashless” payment systems have truly minimized the need to carry cash on hand, and I’ve greatly appreciated minimizing and simplifying both investing decisions (ETFs, index funds) and possessions (minimizing, rent/lease over buy). Difficult to quantify just how much better my life has been with implementing what are seemingly simple strategies outlined in this list, but I’m a strong advocate, and truly have never felt “deprived” with this approach.
#1 and #2 are a bit at odds with keeping things simple. The simplest way to manage an investment portfolio is to use a lazy portfolio comprising 2-4 index funds representing a pre-determined allocation of stocks and bonds. Cash is considered a “short term” asset class which puts it in the same bucket as bonds.
So keeping some funds in cash is not a lot different than keeping some portion of your portfolio in bonds – neither one of them is yielding much right now. But both have historically been inversely correlated with the stock market provide, thus providing “ballast” when the market experiences a big drop, or we enter bear market territory.
The idea of partitioning off a chunk of your portfolio and putting it into cash is simply a mind trick – your asset allocation is mathematically whatever is, regardless of how many buckets you have that you use to artificially segment portions of it off.
Great list. The only principle that I sneak around a little bit with is #6–maximize index funds. There are a few low-cost active funds that have outperformed the S&P 500 over the long-term, though, only slightly: Vanguard’s Primecap has generated an average of 14% per year over 35 years; Vanguard Capital Opportunity does well too. With success, however, comes limits—both are closed to new investors. Nearly all the stock heavy Vanguard index target funds have averaged 10% over 10 yrs; the balanced Star active fund made 10% over 10 years, so maybe it is a wash even with low cost active funds?
First time I’ve read a post that confirmed my financial life was on the right path. Sure a lot of advice to buy your dream 2rd home, purchase more long-term health insurance, double up on with umbrella insurance, buy Roth IRAs, annuities, when winning the game stop investing, minimize social security and invest in stocks and same with paying off a house mortgage. I immediately switched to HSA health insurance when available and was amazed at the cautionary tales offered by friends. The account is set to 100% stock VTI ETF fund with hands-off trading. The account is set to assist in long-term health care needs, maybe 20+ years from now. I did invest in rental homes and found they eliminated the concern of life insurance needs, saving for large investments such as a new business, eliminated the concerns of early retirement financial needs and boredom. I will get rid of them before taking social security at 70. Your posts and all of Humble Dollar are my go-to site for advice.
Regarding #5. Maximize tax deferral–
I am currently paying some taxes long before I have to by converting some regular IRA assets to a Roth. I discovered that doing this before beginning social security fills up the 22% bracket, and saves taxes on social security once that starts. Even if I stay in the 22% bracket, the tax on the SS is thousands less because the “Provisional Income” is lower thanks to the tax-free Roth money.
I find renting things helps avoid the pitfalls of 13-possessions and 16-hassles. Renting kayaks, skis, mountain bikes, and vacation homes have always seemed a good deal especially if you think of cost per use.
Thanks. On the complexity question, it applies to more than just investments you don’t understand. It also applies to juggling a bunch of asset classes because you are an amateur asset allocator (like me). I’m always tempted, “Hey, put 3% in long Treasurys, 2% in gold mining shares, it will be fun to watch and rebalance as needed.” Those may be good moves if you have the discipline to maintain those allocation targets. But that approach also requires you to pay more attention to the markets and make more rebalancing moves. Probably not worth it for most of us.
Great list with number 13 certainly being my favourite.
A supper list – but the tension between 1&18 (with 2 in the mix) is a bit tough to negotiate without some kind of personal guideline. For me, the rule would be stick to an asset allocation that makes personal sense. Mine is 60-30-10. I’ve currently drifted to 64-31-5, but that’s within the bounds I’m comfortable with.
As always, wonderful advice.