Little tweaks vs. titanic decisions
I enjoy personal finance blogs a lot. Admittedly, some of the time, what they cover can get a bit redundant. A lot redundant. Mind-numbingly redundant. But hey, the best personal finance advice is timeless. It’s the clever repackaging that makes or breaks someone new who steps into the field.
But of all the disorders that personal finance blogs suffer from, there’s one that’s the worst. And I’m sad to say, I suffer from it too. About 90% of what I’ve written about investing, real estate, the economy, and everything else doesn’t matter nearly as much as how much you earn. It’s not even close. The decision to add gold to a portfolio—which I derided in March—will ultimately only affect a small percentage of your wealth. Refinancing a mortgage when interest rates are only 5% instead of 8% will save you a few thousand dollars until you sell the home. And on, and on. Meanwhile, increasing your income by 10% will affect your savings by a huge amount for the rest of your career.
I haven’t found any research to back this up—which is unlike me—but I’m pretty sure that we focus so heavily on frugality and investing because it’s relatively easy to draw connections between what you do and what you gain. You don’t buy a flat-screen T.V., so you save $800. You move from a mutual fund with a 1% expense ratio to one with a 0.25% expense ratio, so you save $2,000 per year or whatever.
In the meantime, the steps you’d take to earn more money, like asking for a raise or promotion or taking the first steps to starting a side business, are either uncomfortable or don’t have a direct link to the end result. I know how to cut my expenses by 20%. Move to a cheaper place. Cut travel. Don’t eat out. Easy peasy, Japanesey (quoting the Shawshank Redemption).
And yet, how would I increase my income by 20%? Blank page. Vague idea of starting a personal economics blog that rises to must-read. Freelancing as a…? I’ve had a blank page for a while and am just getting off my ass to change that. I think it’s extremely important that you do it too.
Your job as an investment.
Imagine your investment portfolio. You’ve been reading personal finance stuff for a while. So you’re probably in a bunch of low-cost index funds that own literally hundreds of stocks. You would laugh at me and leave derisive comments if I said you should stick it all into one equity.
But that’s basically the approach most of us take to our jobs. We have one source of income. If the job disappears, the income disappears. Sometimes, you get lucky, and sink your skills into a company like Google or an SAS, which rarely has layoffs and compensates employees well. Other people don’t get lucky, and sink their skills into a BP, automaker, or, more recently, a cash-strapped public government. They’re finding out the drawbacks of undiversified income right now.
This idea of viewing yourself as a valuable investment isn’t new. Moshe Milevsky, a finance professor at York University in Canada, has been telling people to include themselves in their investment portfolios for a while and invest in other assets accordingly.
Think of it this way. Imagine being a mortgage broker in 2004. Pretty sweet gig, right? You get commissions based on every mortgage you arrange and get even bigger payments if it’s an expensive house or if you push the buyers into adjustable mortgages. Real estate is brisk, and you’re making more than $100,000 per year.
Fast forward to 2009, and you’re making nothing. Maybe $40,000, if your job included a base salary. Your firm has likely cut down on the number of brokers it employs. You might be out of a job.
Now imagine being a tenured economics professor in 2004. Nice job, nice hours, and making $70,000 to $100,000, depending on your tenure and what university you’re at. Now fast forward to 2009, and you’re making…the same. Maybe a little more if you got a cost of living adjustment. You still have a job, because that’s the deal. No peaks or valleys in income.
Milevsky would argue that the unstable but high potential broker income is “stock-like” while the professor income is bond-like. His book, Are You a Stock or a Bond?, is a fascinating look at the subject. The general summary: Young people should treat their future earnings potential as part of their portfolios. In a high risk profession? Balance that with more conservative investments. Are you a tenured professor? Take a risk on stocks.
So how do you protect and grow the most valuable piece of your wealth?
1. Diversify. — As mentioned above, the only way to truly diversify your earnings power is to have more than one source you can draw on for money. Sure, at its most advanced stage, this can take the form of a side business. But anything you can do to generate income, such as freelancing or transforming a fun hobby into a fun hobby for profit, helps to keep your income from going to zero.
Easier said than done, I know. Luckily, Ramit Sethi one of the best bloggers on the subject of earning more money, happens to be running a series on starting a freelancing business, right now.
2. Increase your earnings. — This is something I’m going to address at much greater length soon. But just keep this word of advice: Your success will increase in direct proportion to the number of uncomfortable conversations you’re willing to have.
We introverts (extroverts can skip to the next point) have a tendency to sit at our desks and hope our hard work will get noticed. That does happen every once in a while, but simple asking for a raise or a promotion after a success at work will bring the raises and promotions much more quickly. And even if asking doesn’t bring it immediately, it at least opens the conversation with your boss about what you can do to advance. That’s much better than stabbing in the dark.
3. Reduce your risk. — Although I know quite a few commission-based salespeople who didn’t follow this advice, that mortgage broker I referenced above could have smoothed out his income. Earnings made in one year don’t have to be spent in the same year. If you have a job in a volatile industry, keep on hand at least a year’s worth of living expenses in an emergency fund. On top of that, especially if you have dependents, consider getting disability insurance. Your work probably only gives you coverage for a few years. Meanwhile, a disability could cripple your most valuable financial asset for your entire life.
Anyway, something to think about.