Undervalued Weekly
The Undervalued Reports Company’s weekly newsletter
Towson, MD
January 3, 2003
http://www.dynamicinvestors.net
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Happy New Year!
The holidays have come to an end, and so have your excuses for not getting your financial house in order. I’ve resolved to make 2004 my best year ever in terms of financial health. I think you should do the same, because it’s the one resolution that is guaranteed to make life better in the long run. Therefore, I’ve started 2004 off with an article dedicated to personal budgeting. Now is the time to create a budget for the year, and dedicate yourself to growing your personal fortune.
Now that I’m done pounding the table, I’ll move on to more pleasant thoughts. I hope that everyone had a happy and healthy New Year’s celebration. Maybe the effects are still wearing off for you, as they are for some people I know. I celebrated New Year’s in much the same way that I spent Christmas, with my wife’s family. In many respects, it was the same party, just with extended periods of sleep in between. Even to this day, after more than a decade of time spent with the family, I’m still amazed at the amount of energy they have for celebrating. It’s an incredible sight to see loved ones, some in their sixties, dancing and celebrating into the wee hours of the morning. I used to keep pace myself, but since the arrival of Josephine, your editor has become much more reserved when it comes to staying up late.
Speaking of parties, the stock market didn’t stop partying this last week of 2003. In the last three trading sessions of the year, the Dow was up 1.3% to close the year at 10,453.92. The S&P and Nasdaq were both up 1.5% to 1111.91, and 2003.37, respectively. 2003 was a great year to be a stock investor, as all the major averages scored big double-digit gains. The Dow was up 25% on the year, the S&P up 26%, and the year’s big winner was the Nasdaq, up 50%. Investors can only hope the momentum continues into the new year.
But alas, the momentum shifted on the first trading day of the 2004. The Dow was down 44 points on Friday, despite a very strong Institute for Supply Management report on manufacturing activity. Long-term bond prices fell as well Friday, sending yields to their highest levels in over a month. The stronger than expected ISM report spooked the bond market with fears of powerful economic growth leading to inflation. I think they’re right to fear inflation, but for more reasons than just strong economic growth.
I’ll be sending information about the Four for ’04 report on defensive investments very soon. In the report, I make the case for rising inflation in the United States, but for different reasons. As a subscriber to the Undervalued Weekly, you’ll be able to download the report for a special price of only $10 (a 50% savings). In the report, I’ve identified four investments that will provide some security for your portfolio in the coming year. Stay tuned for information on how to purchase it this weekend.
Here’s to the final pseudo-holiday weekend. I hope you enjoy it. The Ravens are in the playoffs, and I’ll know this evening whether I’m having a good or bad weekend. Don’t forget to stay current with the markets through the daily update on the Dynamic Investors site.
Until next week.
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Book Recommendation
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Tomorrow’s Gold lays out the case for the future through careful study of the past. As Dr. Faber points out, our world is experiencing a transformation as great as the Renaissance or the Industrial Revolution. The next couple of decades are likely to change the face of the global economy forever. Are you prepared to profit from these changes?
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Establishing a Budget
This week I thought we’d take a break from investment analysis, and focus on some personal finance. After all, what good is investment analysis if you don’t have any money to invest? And since it’s the New Year, it’s time to clean house, take stock, and resolve to improve our financial health.
Now is the time when people all across the nation make resolutions to improve themselves. The most common resolution, of course, is to lose weight. Following all the guilty indulgences of the holidays, it’s only proper for people to feel bad about overdoing it. Thankfully, these resolutions rarely last longer than a few weeks, after which we go back to enjoying good food, vowing to lose weight next year.
While weight loss is a fine resolution to break, there is one thing you should resolve to do, and never break. I’m talking about getting your financial house in order. The best way to get it together is by establishing a budget. It’s by far the most important thing you can do for your financial health.
Personal finance literature (the good kind, not the get-rich-quick stuff) emphasizes the importance of budgeting. It doesn’t matter who you are, whether you’re a student living at home, a married couple with children, or a senior citizen living on a pension. Establishing a budget is for you. If you make and spend money, you should have one.
Obviously creating the budget is just the beginning. The value of budgeting is only evident if you then stick to the budget. If you create a budget for the year in January, then file it away never to look at it, you’ve defeated the purpose. A budget is a living document, which you should update as your financial situation changes. It should represent your best estimate at any given time, but it doesn’t have to remain static. I update my budget at least every month, and sometimes twice. It’s my financial guide for the year, and it’s an invaluable tool.
It’s never too late (or too early) to start budgeting, but what if you’ve never done a budget? It may seem a bit overwhelming trying to predict every penny you’ll earn, and how much you’ll spend throughout the year. Don’t let it overwhelm you. If you can’t predict exactly, use rough estimates. Nobody can realistically predict 12 months ahead, but you can set goals and update them as you get closer.
So how do you get started? First, take stock of your weekly spending. Do you even know where you spend your money? You will probably be surprised at how little you know about where your money goes. As long as the bills are paid (or not, in some cases), there’s little need to worry, right? Wrong.
Go back through last year’s bills and start listing your required monthly expenses. What’s that? You don’t save your billing statements every month? Start. Not only do they come in handy for budgeting purposes but you never know what you may need for tax purposes or to dispute charges on a credit report. Get yourself a filing system immediately and start saving every billing statement you receive. This includes the utility, cable, phone, and especially credit card bills. I’ve found a very unique online system for managing expenses called Mvelopes, that keeps all your budgeting records online. It’s fairly easy to use, and they offer a free trial.
The next step is to figure out how much money will be coming in. If you’re married, include both spouses’ income. I like to figure this number before tax, and then lay out all the various taxes I’ll be paying directly out of each paycheck. I’m very particular, and you don’t have to do it that way. You can use after-tax income, just don’t forget about deductions from your check that go to your retirement or savings accounts. These are good things that you want to show separately in your budget.
The next step may seem a little strange to you, but it’s very important for establishing proper financial discipline. After you’ve determined the total level of income you’ll generate, you need to establish a savings goal that you commit to before you pay any bills. This is commonly referred to as “paying yourself first”. Saving before spending puts your own financial success ahead of your creditors, and it’s a mindset you should develop. I think a good savings goal is 10% of your gross income, not including your 401k or IRA deductions.
Some people would tell you to pile on your savings early to build up an emergency fund. I’m one of those people. I define an emergency fund as 6 months of living expenses you can fall back on in the event that you lose your job. Some people prefer 3 months, others will save up to 12 months. It’s up to you whether you want to build the fund quickly, or let it develop over time. Either way, it’s important that you build the emergency fund before using your savings for any purchases. And only use the fund for emergencies. You can do this in your regular savings account, but if you don’t trust yourself, you can put it in a separate savings account, maybe at a different bank.
Having established your base savings goal, the next step is to list out your required expenses for each month. These required expenses would include:
· Mortgage or rent
· Electric bills
· Water bills
· Telephone Bill
· Insurance payments
· Minimum credit card and loan payments
· Any other fixed expenses required for you to live and work.
This list should be fairly small, and won’t include anything that could be considered a luxury. Total this amount, which I usually call “non-discretionary” spending, indicating you have no choice but to pay it.
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The next category of expenses is what I like to call “necessary discretionary” expenses, because you need some amount of these items, but you can control how much you spend on them. This group includes:
· Groceries
· Gas
· Minor household expenses
· Other controllable but necessary expenses.
Total this group, and add it to the “non-discretionary” spending. The combination of the two groups is the minimum monthly spending you should use to calculate your six months of living expenses. Of course, if you save against this minimum and you lose your job, you have to cut your expenses to match this total. Otherwise your emergency fund will run out sooner than you expect.
Now you’re ready to look at the final spending category, which I call “discretionary” spending. This category is where you list your monthly spending that you could do without, but don’t. Items you would include in this category:
· Cable / Satellite TV (Yes, a gazillion channels is a luxury, not a necessity.)
· Cell Phone
· Internet
· Dining out
· Lunch (This is where people spend the most money without realizing it.)
Be honest about your discretionary spending. If you spend $5 bucks a day at Starbucks, then put it down. You can always adjust your estimate downward later, but you want to get a good feel for where you are right now. You’ll also be surprised how much you spend on lunches during the workweek. I expect that you’ll find plenty of spending you can cut from discretionary expenses.
Okay, now subtract the three expense categories from your net income to determine your “free cash flow”. The free cash flow is money you will use to pay down your credit cards, go on vacation, save, pay for home improvements, etc. You will probably find the number you’ve calculated is higher than what you’re used to seeing in your pocket every month. Now is when you ask yourself the question all first time budgeters ask: “Where is all this cash coming from, and why don’t I ever see it?”
You don’t see it, because it’s probably not there. The difference between what you should have based on your free cash flow, and what you have in your pocket is called “leakage”. This is the money that goes to buy that morning Starbucks, or that magazine you had to have. It’s tough to account for all leakage, and you probably estimated your discretionary spending too low.
This is where attention to detail comes into play. As I stated a few paragraphs up, for at least a week (preferably longer) you should make a note of every penny you spend. You’ll be surprised how much you spend that’s forgotten by the end of the day. This spending adds up over time, and will have a serious affect on your ability to save. Cut this leakage down to the bare minimum, and put it in your budget.
Okay, now that you’ve identified the free cash flow you’ll have each month, it’s time to get serious about paying down your debts. If you have credit card debt, you should apply all your free cash flow each month to paying it down. I would recommend that you find ways to eliminate discretionary spending, so you can pay more on your credit card balances.
The point is, the sooner you get out of credit card debt the better your life is going to be. I know this for a fact, because when I got married I had a heavy load of credit card debt, and every month I worried about how to pay it off. I can remember sitting at my desk, sick to my stomach because I had no savings and could barely afford to pay the bills. When I finally paid that last credit card bill, after two years of struggling, I felt a huge weight lift off my shoulders. I have vowed never to go back into credit card debt again.
It doesn’t matter what age you are, or how heavily indebted you are, paying off your credit card debt is the best thing for your financial health. Our society is so addicted to debt that most Americans can’t envision living without some form of it hanging over them. What they fail to realize is that debt is the surest way to destroy your own wealth. Every dollar you pay in interest is a dollar that doesn’t go to increasing your wealth. Sometimes it’s good to borrow money, like taking a mortgage to buy a house, but you should pay the money back as soon as possible.
This may sound cliché, but paying off your credit cards is like guaranteeing yourself an investment return equal to the interest rate on your credit card. If you’re carrying a balance at 18% interest, and you pay that balance off, the interest you were paying can now go into your savings. So instead of paying the bank, you can increase the amount you pay yourself.
A budget is simply a plan for saving money. Don’t ever forget that saving money is the same as building wealth. If you compare your budget to an income statement, your savings is comparable to a company’s net income, which in turn becomes retained earnings. That’s your goal: to retain as much of your earnings as possible. To do that, you need to know how much is coming in and how much is going out, just like any good business manager. Businesses make budgets and set earnings goals. Why shouldn’t you do the same?
Remember the old saying “a penny saved is a penny earned”? Well, a lot of pennies saved can be a nice little nest egg when you get older. The best way to save those pennies is to make a budget and stick to it.
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Quotes of the Week
"Moderation in temper is always a virtue, but moderation in principle is always a vice.”
-Thomas Paine
"Good things come to those who hustle while they wait."
-Anonymous
Until next week my friends, happy investing. Don’t forget to forward this newsletter to a friend.
Sincerely,
Christopher M. Mallon
P.S. – If you’d like to learn more about budgeting, I’ve set up a link to the e-book, Money 4 Life, published by the Mvelopes service. It’s free and you can download it directly from the Dynamic Investors website.
Have you checked out the Dynamic Investors Marketplace?
How about the Required Reading?
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