Tag: investing

WEALTH

What is wrong about Housel’s investment recommendations is that his life experience sets a table that is not the same table as those who have much less to eat.

Books of Interest
 Website: chetyarbrough.blog

The Psychology of Money (Timeless Lessons on Wealth, Greed, and Happiness)

Author: Morgan Housel

Narrated By: Chris Hill

Morgan Housel (Author, two-time winner of the Best in Business Award from the Society of American Business Editors and Writers.)

“The Psychology of Money” is a plain-spoken examination of the value of wealth, how it is attained, retained or lost, and why its’ real value is independence. A superior perception of reality would certainly be ideal, but Housel implies no such thing exists, and that the presumption is too theoretical to be useful. Every human being becomes a product of their life experience. Unquestionably, all human beings have genetic inheritance, but Housel suggests personal life experience molds that genetic inheritance. All true, but it helps if your parents are upper middleclass and have a mindset for saving rather than spending their income.

Housel argues high intelligence is no guarantee of success in achieving wealth.

To achieve wealth, Housel argues one needs to be a consistent saver, a long-term thinker, an index fund investor in the stock market, and one who resists impulsive decisions to sell investments or use savings during financial instability. These guidelines are based on a wealth-seeker’s “margin of error” calculation of financial need during market weakness. One’s objective is to maintain one’s independence and freedom to live as they wish without risking that freedom by buying luxuries from short-term gains to only appear wealthier than others.

Cutting through the lessons that are listed by Housel’s suggestions is the ancient Greek recognition of the importance of “knowing thyself”.

Are you a crazy risk taker, do you think about the value of wealth, are you more interested in what others think of you than who you are to yourself, are you goal oriented or a “go along to get along” kind of person? These are clues to who you are and whether you should change to assure a life of freedom to live as you wish.

Janitor Ronald Read Leaves Behind $8,000,000 Fortune at his death

Housel gives the example of the janitor millionaire from Vermont who had no formal financial education. Ronald Read worked as a janitor and gas station attendant during his working life. He lived frugally while investing in blue-chip stocks that he held until his death. He amasses a fortune because of small savings and investments while never having high income but investing unneeded cash based on the way he chose to live. By being patient and disciplined over the course of his life, Read died in 2014 at the age of 92, donating $4.8 million to Brattleboro Memorial Hospital, $1.2 million to Brooks Memorial Library, and $2 million to his stepchildren, caregivers, and friends. Like Ben Franklin, Read lived a long life, accumulated great wealth while living the life he wanted. Just like Franklin, Read lived his life as he wanted and contributed his savings to eleemosynary institutions and people who were important to him during his lifetime.

Warren Buffett (The Oracle of Omaha.)

Warren Buffett is another example offered by Housel to explain that time and compounded returns on investment are key to one’s independence and success for living as one chooses. Buffet’s genius is not in just choosing the right stocks, but in staying with investments over the long term. Housel notes 96% of Buffett’s immense wealth came after his 65th birthday.

The discipline outlined by Housel is difficult for a young person to accept because of the tendency of human nature to impress others with their success.

When young, image is important for reasons ranging from attracting desirable partners to impressing others with one’s success by driving expensive cars, wearing elegant clothes, and living in luxurious homes. Many people believe image is as important as substance and fail to realize its folly when they are too old to do much about it. Freedom to live as we choose is a mixed blessing. Being disciplined about money and investment when one is young is an important lesson but hard to follow, particularly in a free society.

Piketty argues that the income gap widens after World War II.  He estimates 60% of 2010’s wealth is held by less than 1% of the population.

Housel comes from a family of savers who appear to have followed the path he recommends in his book. Though what he recommends makes sense, his starting point seems better than most middleclass or poor families in America. He chooses a very conservative investment strategy because of his life experience. He only invests in index funds and lives in a house without a mortgage. His story is not a typical American middleclass family story. What works for him is based on his personal life experience. What is wrong about Housel’s investment recommendations is that his life experience sets a table that is not the same table as those who have much less to eat. This is not to say Housel’s advice is wrong in recommending living within one’s means, investing for the long term, and letting wealth accumulate over time. It is good advice but where one starts in life makes a difference because your life experiences mold a large part of who you become and how you choose to save or spend your money.

INDUSTRY GREED

Sir John Anderson Kay calls for more training in ethical behavior and fiduciary responsibility in the financial industry. Kay believes “too big to fail” financial institutions should be broken up to reduce risk and encourage competition.

Books of Interest
 Website: chetyarbrough.

Other People’s Money  (The Real Business of Finance)

By: John Kay

Narrated By: Walter Dixon

Sir John Anerson Kay (Author, CBE, FRSE, FBA, FAcSS, British economist, dean of Oxford’s Said Business School.)

John Kay explains how the world’s finance system was designed to support national economies and international trade. However, he argues the world’s financial system, though designed to improve the lives of everyone, has evolved into a system that primarily benefits those within the financial industry, not everyone.

Kay offers the example of Ponzi schemes like that created by Bernie Madoff, and mortgage derivatives created by financial quants. Unlike Madoff’s personal enrichment, the financial industry’s’ mortgage derivatives enriched mortgage lenders, banks and brokers who sold them to other financial institutions like hedge funds, investment banks, mutual funds, foreign and retail investors. Mortgage derivatives were a national Ponzi scheme, greater than Madoff’s, that only enriched the financial industry. In 2008, the financial industry nearly bankrupted the world. The finance managers served no jail time while poorly qualified homeowners were thrown into the street because they could not afford their home mortgages.

What is puzzling is how so many people lost their homes in 2008 despite government regulation of the financial industry, which was ostensibly designed to protect consumers and stabilize the housing market.

“Other People’s Money” is managed by financial institutions that have nothing to lose if other people’s money is lost. A poor finance industry manager might lose his/her job because of poor sales received for selling financial products to other financial companies. However, if their sales are good, huge bonuses are given to top earners. Kay notes three faults in this system. One, it is a closed system that primarily feeds on itself as an industry. Two, the product of sale can as easily be worthless as valuable. And three, the money that is being used is primarily the public’s money, not the financial industries’ money. Mortgage derivatives became weapons of mass financial destruction. The public suffered more than the financial industry for the obvious reason that it was the public’s money.

In theory client funds are kept separate from a firm’s own assets. Though that may be true, the equity of lenders is small in relation to the loans made to others because the loan actually comes from “Other People’s Money”, i.e., those who deposit their paychecks in a financial institution. There are government entities like the SEC in the US that enforce separation of a lender’s equity from other people’s money but so what? Other people’s money is the bulk of what is lent out to others.

An example of the perfidy of the financial industry is the creation of mortgage derivatives that resulted in big bonuses to financial industry employees while many American citizens lost their homes.

Government regulations require record-keeping, transparency and risk management. So why did so many people lose their homes in 2008 while lenders were bailed out? If the Government regulated how other people’s money was being invested, how did the 2008 mortgage crises occur? It occurred because of the way the financial industry is regulated and the greed of financial institutions in selling a product that had less value than realized until it was too late. The fault within the industry grew bigger based on the packaging and resale of other people’s money in a product that became worthless.

The point is that there is little equity from money lenders that use “Other People’s Money” to invest in the economy. Financial institutions are required to have as little as 4.5 percent to 6 percent equity in loans for what they lend to others. The remainder is “Other People’s Money”. Most of the risk of institutionally loaned money is born by the public. Of course, there are insurance guarantees from the government, but they are limited.

Kay notes financial industries are motivated to expand their businesses by capitalizing on short-term gains for profit rather than long-term stability and growth.

Kay goes on to explain that financial institutions are the biggest contributors to candidates for public office. Just as the Supreme Court’s decision to give corporations personhood, the influence of corporate America distorts the influence of American citizens. Naturally, financial institutions push for favorable regulations designed to benefit owners and managers of the finance industry. He explains how financial risk is designed to fall back on taxpayers and less informed investors. Because financing institution managers are using other people’s money, they are more concerned about lender profit and their bonuses than loan default. Kay suggests there is a lack of transparency that hides the exploitive nature of lending that has minimal personal risk to lending institutions, its managers, and loan officers.

Kay argues financial products and services need to be simplified and made more transparent so consumers can understand how lending institutions and insiders are benefiting from their transactions.

Kay explains the primary functions of the financial industry should be focused on making payments simple with clearer explanations of risks so that capital is efficiently and wisely allocated. Government oversight should be exercised to promote transparency, accountability and long-term stability of the economy. Training in ethical behavior and financial responsibility is needed for agents of the financial industry so that incentives and rewards balance with the needs of the economy.

Kay notes there is nothing in the way of another financial crises like the 2008 debacle.

Kay suggests regulatory reform is necessary with greater transparency, and accountability for long term financial stability. He calls for more training in ethical behavior and fiduciary responsibility in the financial industry. Kay believes “too big to fail” financial institutions should be broken up to reduce risk and encourage competition.

FINANCIAL LITERACY

What Professor Fullenkamp makes clear is information is key to understanding financial markets, but human judgement is the difference between investor’ success or failure.

Books of Interest
 Website: chetyarbrough.blog

Financial Literacy (Finding Your Way in the Financial Markets)

By: The Great Courses

Lectures By: Professor Connel Fullenkamp

Professor Connel Fullenkamp (Lecturer at Duke University, economist and director of undergraduate studies in economics.)

“Financial Literacy” may put some listeners to sleep but there is a lot to be learned from Connel Fullenkamp’s lectures. He gives a lengthy description of financial markets extending from Stocks to Bonds, Forex, Commodity, and Derivative Markets. He offers information about how money is used and made in financial markets. Fullenkamp addresses banks, stocks, selling and buying securities, expected returns on investments, how they are priced, controlled, and how information about them is important for personal financial decisions.

It is no surprise to find that banks play a critical role in financial markets.

They provide personal banking services by accepting deposits and providing loans to individuals and businesses. They smooth the flow of money in the economy. Banks can help companies raise capital by offering advice and services for the issuance of stocks and bonds to finance businesses. They offer advisory services for mergers, acquisitions, and other financial strategies. Banks can act as market makers by buying and selling securities for their clients. They can provide asset management services, research and analysis, and ensure legal regulation and compliance with government and international laws. Banks are the backbone of financial markets when they provide efficient allocation of resources and ensure the smooth functioning of the financial system. All of this is true in concept.

However, banks, savings and loan companies, and mortgage lenders are run by human beings who are subject to all the risks of human nature that can lead to catastrophic financial collapse as it almost did in the 2007-2010 mortgage derivative crises.

To be fair to the professor’s presentation, the 2007-2010 crises is not only because of the bad mortgages generated by financial institutions like Countrywide, New Century and Ameriquest. Goldman Sachs, Lehman Brothers, Bear Stearns, and Merrill Lynch investment banks are equally guilty. They packaged bad mortgages with high-risk mortgages to be sold to the public as safe collateralized securities that were far from safe and ultimately unsound. The result was a near worldwide financial collapse.

The government compounded the failure of 2007-2010 by guaranteeing poorly justified mortgages that were included in the packaged securities.

Rating agencies like Moody’s Standard & Poor’s, and Fitch ratings misled investors about the risks of the packaged mortgage securities. Government oversight organizations like the Federal Reserve and Department of the Treasury did not adequately do their job. Ironically, banks like Wells Fargo resisted the mortgage derivatives while banks like JPMorgan Chase bought and sold them but was too big to fail. Ironically, both banks became vehicles for recovery by taking over some of the lenders that had to0 many mortgage derivatives in their portfolios. (As noted in earlier book reviews, many families lost their homes because of foreclosures caused by lenders who originated the mortgages in these securities.) Fullenkamp explains financial markets are based on information. However, as noted by information computer geeks, “garbage in, garbage out” sunk lenders and victimized many investors, lenders, and homebuyers.

In explaining the stock market, Fullenkamp notes an investor becomes a partial owner of a company which gives them a stake in a company’s future profits, either from dividends or market performance.

Stocks have a dual identity. The difficulty for the investor is in understanding the information provided by the company to predict company performance and reap the benefits of stock appreciation. Fullenkamp gives some insight on assessment of that information, but most listeners seem most likely to pay less attention to professors of finance than to their own judgement.

Fullenkamp goes on to discuss Forex (Foreign Exchange). This is a global marketplace for trading national currencies.

Unlike stock and bond markets, a Forex market operates 24 hours a day because currency is an international trading market with centers in different cities like New York, Tokyo, and London. In the case of Europe and the U.S., the trade would be in Euros and US Dollars or in Japan and the U.S., the trade would be in Dollars and Yen. Exchange Rates fluctuated based on nation-state events. Strategic buying and selling based on those events can create profits and losses for exchange traders. Unlike a singular centralized stock market, Forex is decentralized and conducted electronically over the counter (OTC) by a network of banks, brokers, and dealers.

Fullenkamp also defines commodities markets. There are hard and soft commodities. Hard are like gold, oil, and other naturally produced materials. Soft are agricultural products like wheat, coffee, or cotton.

Most commonly, trading in these products is done with futures contracts. Futures are agreements to buy or sell a commodity at a predetermined price on a future date. The investor is gambling on the commodity to be either worth more or less than what the product is expected to cost at the actual time of purchase or sale. There are several exchanges around the world. The participants are speculators that either take the commodities at the agreed upon price or simply gain or lose money based on the actual price of the commodity when it is deliverable.

There is a great deal to absorb from Fullenkamp’s lectures. The last lecture is on “The Future of Finance”.

He suggests the technology of mobile phones has expanded the lending industry to individuals from institutions. It has already begun in less successful economic societies. Mobile money platforms and digital financial services are being used in Africa. Users of these platforms store, send and receive money by mobile phone owners because traditional banking services are not available. Fintech companies are formed to assess creditworthiness of individuals and small businesses. The vast amount of personal information becoming available with the internet becomes a source of customer approval or rejection of small companies and individuals seeking loans.

What Professor Fullenkamp makes clear is information is key to understanding financial markets, but human judgement is the difference between investor’ success or failure.