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Income Diversity is Essential to Financial (and Moral) Success

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At one time or another most children are asked what it is they want to do when they grow up.  Consensus is building that the answer to that question is not a single answer anymore. 

Financial planners consistently tell us that we should have diversity in our investment portfolios.  Diversity, they say, provides a hedge against the risk of a single investment failing.  I am a strong supporter of diversity in income sources.  Multiple streams of income can provide a hedge against an interruption of a one income stream.  It is a reality of the global economy that almost everyone is vulnerable to a layoff.  If your current job is your only source of income, a layoff is potentially devastating to your family’s financial health. If you are a business owner and one sales market suffers a setback, your business can quickly fall apart.  Multiple income sources protect you and your family from financial catastrophe.

But there are other advantages to having multiple income streams.  First, not all income sources require significant active management.  Many of them are passive or semi-active, meaning that you can create them and they enrich you without significant effort.  Among all the types of income, earning from working a job is the most time consuming and often the lowest paid.  Passive income sources, such as investing in dividend producing stocks, or semi active sources, such as rental real estate or options trading, can be very lucrative with only a few hours of your time a month.  Even the most motivated person cannot work more than 2 or 3 jobs, but one can manage dozens of passive and semi-active income sources with proper care and investment.  Over time, by the mathematic force of multiplication, it is possible to eclipse your active income sources with the passive and semi-active sources.  This is the dream of the investor–becoming one who can safely afford to retire from work life with no sacrifice in lifestyle.  Indeed, with the increase in free time, you will be free to realize ever larger increases in income because you will be able to devote yourself entirely to building new income sources. 

More importantly, there is a huge difference in the type of person you can be when you have multiple sources of income.  In times of financial stress or insecurity, people often find themselves in ethical dilemmas.  Your employer may ask you to cut corners to increase the company bottom line.  You may find yourself having to choose between eating and falsifying your tax return.  You may even be tempted to steal from those closest to you.  Financial stress may drive you to do things that you would never have considered doing if you didn’t feel the stress.  Actions that you resort to in times of great stress may haunt you for the rest of your life, either physically in the case of imprisonment or psychologically with regret and shame. 

Multiple income streams, therefore, help you build a firewall to protect your moral and ethical self.  They allow you to always do things on your terms and empower you to say “No!” when your conscience tells you to do so.

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Raising interest rates is the quickest way to move the economy forward

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139445633 e2fabef491 m Raising interest rates is the quickest way to move the economy forward
Image by james.thompson via Flickr

Suppose you buy a valuable piece of art for $15,000.  Further suppose that a month later a major economic slowdown occurs and as a result, the amount of money art buyers are paying drops substantially.  Perhaps today, if you wanted to sell the art, you might be able to sell the painting for $10,000.  If you intended to sell the painting, what would you do?  Most likely, you would try to wait for the market to correct and try to recoup the initial investment.  You aren’t motivated to sell the piece of art.  It’s not costing you anything not to sell it, so why not hang on to it.

But what if you bought that piece of art on credit?  Even at a relatively good interest rate of 5 percent, you would still be losing over $60 a month in interest and spending about $300 per month in total payments.  Having that piece of art costs you money every month.  In this case, you are much more motivated to sell the art for $10,000.

However, what if you had a credit card that carried zero interest (or in the range of 0 to 0.25%) and if you can borrow money on that card at will without fees.  In this case, you are not losing substantial money to interest and you can borrow more money whenever cash flow gets tight.  In this case, your debt no longer pressures you to move the problem forward.  Although the market has priced your painting at $10,000, you are behaving as if it is still worth $15,000.  You are arguably denying or deferring reality. 

Now I don’t think there is anything particularly wrong with this delusion.  Everyone can bury their head in the sand, but these people should be penalized to clinging to delusions.  But these days, banks do not feel the pinch.

In a market correction, asset holders need to substantially mark down the price of their assets to get them sold.  In a macroeconomic sense this is called “finding the bottom” where prices come down to a point where sufficient buyers are available to meet demand.  Once the market finds its bottom, new growth occurs. 

150x103 Raising interest rates is the quickest way to move the economy forward
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For years now, banks have reaped the benefits of policy based on monetary theory.  After making loans to millions of people who couldn’t afford them, banks should have been suffering from huge cash flow issues due to the lack of payments and loss of principal on these assets.  However, since banks can borrow money at will from the Federal Reserve at essentially no cost to them, banks have plenty of cash to meet their needs.  Banks have little motivation to turn around their growing foreclosure inventories by reducing prices. 

Because of this false support of overvalued properties, real estate property values continue to fall, not in a quick fashion, but a slow laborious multi-year fashion. When the correction could have taken a year or two, real estate values are still falling.  Wise potential home buyers see this and are choosing not to buy.  It is important to note that record low mortgage rates also played a huge role in driving home sale prices up.  Home buyers realize that once interest prices do rise, there will be even more downward pressure on home prices. 

These phenomena add up to one conclusion, sellers are hesitant to sell and buyers are hesitant to buy.  Raising interest rates, though painful in the short term, may offer the best hope for escaping the economic holding pattern we’ve been in for years.

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Asked and Answered: How are Middle Class Americans Going to Survive?

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I ran across this question on LinkedIn and felt I had to respond.

How are middle class Americans supposed to survive these economic times? With high prices on everything, health insurance, gasoline and the salaries not going up as high as they used to, it seems that for the middle class, single parents and other Americans is getting harder and harder to save. How are we supposed to overcome this period?

My response:

Your question contains within it a solution.

If you think about it, what are the things that even the strained middle class, continue to struggle to pay despite the difficulty. Why do people continue to pay for health insurance, food, gasoline, etc. Simply put, these things are valuable to everyone.

Americans live in a freer market than nearly anywhere else of the planet, which means that people spend their money on items which they find to be of value. People who struggle right now are having difficulty in showing their potential customers (including employers) that they are valuable. Every day wealth is being created. Productive energy is constantly creating wealth. This means that money and wealth are NOT dwindling resources. Our task is just to find the ways we can encourage others to share it us. This is only going to happen when we convince those that have or those who make that we are of value to them.

Too many of us walk through life focusing on what we do. We have been paid in the past by doing what we have done, so we think that by continuing to do these things, we will continue to be paid for doing them. But the world is always changing.

Consider the world of tax preparation, H&R Block and Jackson Hewitt have been hit very hard by TaxCut and TurboTax. Many people no longer see $100 to $300 of value in tax preparation. They see $0 to $25 of value in these activities due to the prevalence of cheap, easy to use software. The world is changing for all of us and what may have been valuable in the past may be of lessor or no value now and in the future.

Our task is to look inward to see how we can use our own individual strengths, experiences, resources and talents to generate value for others. By marrying that value to a business case, each of us can find personal wealth and prosperity.

 

 Asked and Answered: How are Middle Class Americans Going to Survive?
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Supply, Demand and the Higher Education Bubble

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In the mid 2000’s, our society saw the largest asset bubble in modern history.  Low interest rates spurred loosening of credit which propelled home sale prices upward.  Operating by simple laws of supply and demand, the abundance of cheap and loose credit meant that there was an abundance of money.  Without a strong constraint on the availability of funds with which to buy homes, there price of homes increases to match the supply.  The crash that began in 2008 was driven in large part of the well of credit drying up.  This caused the supply of money to shrink rapidly.  Again, operating under the simple laws of supply and demand, home prices plummeted. 

For decades, we have been seeing the same process at work in education.  Driven by easy access to low interest credit in the form of Federally backed student loans, the prices of post-secondary education has risen unchecked.  According to inflationdata.com, in 1986, average costs of a 4-year degree was $10,000.  By 2015, costs of a 4-year degree is anticipated to be $120,000.   Between 1985 and 2010, the total cost of education increased more than 485 percent, while the average of all consumer prices increased about 107 percent.

Based on this information, it is apparent to me that higher education costs are a major bubble.  The only reason that bubble hadn’t burst years ago is because the Federal Government has been willing  to continue to lend with reckless abandon.  In 2010, in the wake of ever increasing student loan defaults, combined with a widespread cry for fiscal accountability in government, there finally started some discussions about limited the pool of government funds to be used for new loans.  If and when that pool dries up, finally, there will be a reversal in the cost of a college education.

Unfortunately, this will come too late for those students who will be laboring for decades under the load of loans that in many cases will not result in a large enough income stream to pay them off in a reasonable period of time.

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We are the Choices We Make – Where am I Living?

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Some of you know of my recent move from the big city to the middle market of Omaha, Nebraska.  Personal changes and challenges aside, I was very surprised to see how much cheaper things were.  My wife went to the grocery store and we were delighted to find that a shopping cart full of groceries which would normally cost $160 to $170 where we lived recently only cost us $116.  On top of that the sales tax was only 14 cents.  We are very excited to know we can feed our family even better than before but still increase our savings.

One of the biggest choices one makes is where one makes a life.  I recall several years ago, I was urged to move to New York where my salary would be much higher for a similar job.  However, after quickly reviewing the cost of living comparison, it was clear that although I would be making a big mistake.  When the new opportunity came to me in Omaha, analysis of the cost of living showed that I would feel better off even though I wouldn’t be making as much as I would have been in other locales.

Too often we are lured irrationally by talk of better salaries.  But wealth is not built based solely upon what we earn.  Wealth is built based upon how much of that salary is ours to keep after paying everyone else.  For if we experience a 10% salary increase, but our expenses increase 15%, we have gone net negative 5%.  This is akin to someone buying the penthouse of a 15 story building for the view only to find that his building is surrounded by 20 story buildings.  How disappointing.

It costs a great deal to living “in the city” or even in their surrounding suburbs.  Keep this in mind as you evaluate opportunities.  Know that really, prices are generally correlated with how much money is available from buyers.  When an opportunity comes your way, always evaluate the new salary relative to the median salary in that area.  If the salary is at or below the median, you may need to closely watch your expenses and sacrifice some luxuries to get ahead.  However, if you find you are making significantly above the median salary, you may be surprised how comfortable your life can become financially.

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56,000 Broken Promises

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“Things fall apart.  The center cannot hold.”  ~ William Butler Yeats

The economic downturn of 2008 through 2010 hit many people hard.  I would like to share with you a story of one way I was hurt through the downturn.

I have worked closely with real estate investors since 2005.  One of the tools real estate investors use frequently is private money, where one investor or pool of investors lends to others for the purpose of acquiring or fix up a new property.  Instead of going to a bank, these private loans are very useful in jumping on opportunities quickly.  In 2006 and 2007, I made three such loans.  For two of these loans I took advances from credit lines to increase my gains to partially fund the loans.  The third loan came from my individual retirement account.  All told, I lent a total of $56,000 of my and other people’s money.  Each of these investments are no longer performing.  The interest in one loan was exchange for property interest which may never pay me back any part of my investment.  The second loan was put into a business property.  A few months after the loan was made, the business owner started having difficulty and eventually turned over operation of the business to our investment group.  Unfortunately, the owner had eroded much of the value of the business prior to turning it over.  The business no longer has the necessary earnings to make loan payments to me.  It is unknown when this investment may ever start paying dividends.  Today, I learned that my third loan will be lost when the investor declares bankruptcy.

In each of these cases, I had chosen to lend to individuals with great reputations and in deals which looked to be fantastic based on reasonable assumptions.  Unfortunately, this downturn has been exceptional.  Each of these individuals has been either ruined or are treading water.  Each individual has broken a promise to me.  I have lost over $56,000 in principal, several thousands of dollars more in lost interest, and have been left with over $30,000 in debts that became my responsibility.

I cannot blame the others for the debts I had to assume.  I knew the risks involved.  But I am a man who knows statistics.  What are the odds that all of the investments go belly up?  The problem is that when the world goes upside down, chances are, all of them will go belly up and they do.

An unpaid debt is a broken promise.  Whenever such a promise is broken it often leads to the breaking of further promises.  When the income that was promised to me did not pan out, I was no longer able to keep the promises I made.  I have to live with that.  For a person who values integrity, few things hurt more than breaking your word.  It caused me untold amounts of personal pain and problems in my personal relationships.

Learning the lessons of financial responsibility too late put me in a position that I felt I had to put myself in a vulnerable position in order for me to get out from the mountain of debt and obligation that I had built for myself.    My poor decisions early in life set me up for unjustified financial risk taking later in life.  It took losing everything to give me a chance to start over.  I will do it right this time.   I have dedicated myself to help others avoid the challenges I made for myself.  As you read and follow my comments, know that the comments have been fashioned by hard times and difficult experiences.

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Book Review: Rich Dad, Poor Dad

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51Dt6NylXOL. SL160  Book Review: Rich Dad, Poor Dad

For this review, I discuss another great book on financial education.  The first book Robert Kiyosaki wrote, Rich Dad, Poor Dad, presents simple, but powerful lessons on managing personal financial affairs using simple stories and easy to follow concepts.

Rich Dad Poor Dad: What the Rich Teach Their Kids About Money-That the Poor and the Middle Class Do Not!

This book does the wonderful task of explaining such dry accounting concepts of income statements and balance sheets in a very readable and understandable format.  It shows the cash flow patterns of poor people, middle class people and rich people.  It also shows how from a strictly financial standpoint that it is the middle class cash flow pattern that is the absolute worst one to have.

But more than the accounting concepts, it discusses that rich people just think differently about money, how to use it, the powers of it and virtues of it.  I have long observed that the United States is a country which craves success, but hates successful people.  Too often, I have seen people vilified whose only crime is that they worked hard and achieved success and wealth.  When I was younger, I, too, shared many of these opinions.

Granted, there are a few people, who act as leeches and make a living sucking the financial marrow out of the lives of others (pay day loan people and many sellers of financial product come to mind), but by and large, most people who have achieved wealth have done so through hard work and being of service to others.

One of the most powerful concepts is the fact that you will only earn so much by working for a paycheck.  It is possible to get rich working for others if you start early and manage your cash flow well.  However, if you open your own business on the side, the potential for reward is much higher as a business owner.  In addition, as an employee, you serve the employer in a designed role.  This means that, most likely, the role was not designed specifically for you and consequently, wasn’t designed to take advantage of your unique gifts and talents.  It is only when you have the opportunity to craft a role just for you, will you have the best opportunity for success.  Finally, when you work for a paycheck instead of profit and you can count on a safe and steady stream of income, you often subconsciously turn off part of your creative centers of your brain.  When your financial well-being is tied to generating new ideas, you will be surprised how much more you can dream up and give life to.  Unless you are trained to look for opportunities, you will pass them by.

The most vital learning to gain from this book is a realization that the employee mindset is a limiting one. The employee as is largely understood today is a relic from the industrial era and the factory culture.  Prior to the industrial era, money was generally earned by farmers and tradespeople buying and selling the fruits of their labor.  In effect, everyone was self-employed.  In the 1800’s and much of the 1900’s, roles were designed for people to act as cogs in the manufacturing process.  Tasks were developed by managers into established procedures and the last thing the managers wanted was for an employee to use their brains to redesign the system or dream up ways to change things.  In exchange for doing things exactly the way the managers told you to do them, the employee was paid a wage.  The belief in the infallibility of management decision making has thankfully gone away in most workplaces, modern management thinking is moving much more in the employee designed workplace that is paid based on performance and production.  But the factory/employee mindset is still alive and well.  It is very dangerous to have in economic climate of the 2000’s.  To remain competitive in a global economy, you need to be able to leverage the talents and creativity of your people and the employee mindset is a real obstacle businesses need to overcome.

By rejecting the employee mindset and adopting a self-employed mindset (even if you are an employee) you are not only going to distinguish yourself to your employer, you are also going to continue to exercise and grow your creative muscles and your ability to identify and capitalize on opportunities.

Rich Dad, Poor Dad is a great book that brings you several great lessons.

If I have inspired you to pick up Rich Dad, Poor Dad, I encourage you to click on the links in this post or on my page.  YouthFinancialEducation.com is not only a great place to learn how to succeed financially, it is also a place that I am constantly leveraging my creativity and skills to bring you value.  By clicking on links from here, you help reward me for bringing that value to you.

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Making Monopoly Better!

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monopoly Making Monopoly Better!From an early age, we are taught the wrong things about money and business. Consider the very popular board game Monopoly(R). The game was developed by an engineer at the beginning of the 20th century. In a world of Robber Barons and at the genesis of Scientific Management as a management science, it is possible that a strictly win-lose game is an accurate teaching tool about business. To me, this is a grossly inaccurate way to teach young people about business in a Knowledge Economy, where success is much more about fostering cooperation, sharing ideas and mutual success. Today's business environment is all about win-win. It's a great time to be running a business. I love Monopoly(R) but I have found a few minor rule changes can make it much more accurate depiction about business today. It also makes the game move more quickly and allows for teaching lessons of negotiation and the art of creating win-win solutions in business.

Rule 1) All rents are paid by the bank Rents are not paid by other players. When a player lands on another players property, this just simulates the market buying from the owning player.

Rule 2) Making Payroll Every time a player passes "Go", the player must pay 10% of the purchase price of all owned properties (both mortgaged and unmortgaged). This simulates making monthly payroll and teaches the player the importance of cash-flow management.

Rule 3) Partnered Ownership. Players can partner to form monopolies and divide the proceeds as agreed. Property ownership is no longer an attrition game. Deal making is encouraged much earlier in the game. In the traditional game, many players wait until nearly all the properties are acquired to begin making deals, which draws the game out. In business, jumping on opportunities quickly is vital to success.

Rule 4) Private Lending Players may lend money to other players under whatever terms mutually agreed upon. Successful business people know that a lack of money is rarely an obstacle when the opportunity is great. Part of the art of deal making is assembling the team that has all the necessary resources. Often, one party brings funding.

Rule 5) Ending the Game The game ends when the last hotel is sold and therefore, the market has achieved "saturation". This teaches the importance of taking action quickly and encourage deal making as soon as possible.

A few simple rule changes like these can reinvent Monopoly(R) and make it a much better learning tool. Youth Financial Education is dedicated to finding fun and creative ways to teach young people tools that will place them on the road to financial success. We do so using a combination of lessons and games. In the weeks to come, we'll show you new ways to help young people get ahead.

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