Brett Klamer

Table Of Contents

Financial Policy Statement

A guide to personal finance.

Investing

Investment Allocation

The most important investment consideration is the asset allocation which will allow you to sleep at night. For example

  • Cash = 10%
  • Bonds/TIPS = 15%
  • Total US Stock = 50%
  • Total International Stock = 25%

Example Holdings

Cash

An investment class which will always return your dollar, but not much more. Usually loses to inflation.

  • Vanguard
    • VMMXX - Prime Money Market
  • Fidelity
    • SPAXX - Gov Money Market
    • FZFXX - Treasury Money Market
  • Other
    • Bank Savings
    • Bank CDs

Bonds

An investment class which is expected to return more than cash, but is generally more stable than stocks.

  • Mutual Funds
    • Vanguard
      • VBTLX - Total Bond
      • VWIUX - Muni intermediate term bond
      • VIPSX - Inflation-Protected Securities
    • Fidelity
      • FXNAX - Total Bond
      • FLTMX - Muni intermediate term bond
  • ETFs
    • Vanguard
      • BND - Total Bond
      • VTEB - Muni long term bond
      • VTIP - Inflation-Protected Securities
    • Fidelity
      • FBND - Total Bond
      • AGG - Total Bond
      • IUSB - Total Bond
      • MUB - Muni intermediate term bond
      • TIP - Inflation-Protected Securities
  • Other

US Stocks

An investment class which provides reasonably high reward for reasonably high risk.

  • Mutual funds
    • Vanguard
    • Fidelity:
  • ETFs
    • Vanguard
      • VTI - Total Stock
    • Fidelity
      • ITOT - Total Stock

International Stocks

An investment class which provides reasonably high reward for reasonably high risk.

  • Mutual Funds
    • Vanguard
      • VTIAX - Total International Stock
    • Fidelity
      • FTIHX - Total International Stock
      • FZILX - Total International Stock
  • ETFs
    • Vanguard
      • VXUS - Total International Stock
    • Fidelity
      • IXUS - Total International Stock

Replicating an index

How to fix your terrible employer provided investment options.

Morningstar provides market cap distributions for funds.

Let’s use OLS!

vtsax <- c(Giant = 41.18, Large = 30.42, Medium = 19.65, Small = 6.49, Micro = 2.26)
vfiax <- c(Giant = 50.12, Large = 33.81, Medium = 15.73, Small = 0.34, Micro = 0)
vexax <- c(Giant = 1.12, Large = 13.94, Medium = 37.10, Small = 34.99, Micro = 12.86)

mod <- lm(vtsax ~ vfiax + vexax)
summary(mod)
## 
## Call:
## lm(formula = vtsax ~ vfiax + vexax)
## 
## Residuals:
##    Giant    Large   Medium    Small    Micro 
## -0.12341  0.17522  0.01865 -0.09445  0.02399 
## 
## Coefficients:
##              Estimate Std. Error t value  Pr(>|t|)
## (Intercept) -0.128412   0.232845  -0.551   0.63668
## vfiax        0.822544   0.005030 163.512 0.0000374
## vexax        0.183858   0.007077  25.978   0.00148
## 
## Residual standard error: 0.167 on 2 degrees of freedom
## Multiple R-squared:  0.9999, Adjusted R-squared:  0.9999 
## F-statistic: 1.891e+04 on 2 and 2 DF,  p-value: 0.00005289
# Or, more simply
X <- cbind(vfiax, vexax)
Y <- vtsax
round(solve(t(X) %*% X) %*% t(X) %*% Y, digits = 2)
##       [,1]
## vfiax 0.82
## vexax 0.18
df <- data.frame(
  Size = factor(names(vtsax), levels = c("Giant", "Large", "Medium", "Small", "Micro")),
  vtsax,
  vfiax,
  vexax,
  replicated = round(predict(mod), 2)
)

df[c("vtsax", "replicated")]
##        vtsax replicated
## Giant  41.18      41.30
## Large  30.42      30.24
## Medium 19.65      19.63
## Small   6.49       6.58
## Micro   2.26       2.24
df <- gather(df, key = "Index", value = "Percent", vtsax, vfiax, vexax, replicated)

ggplot(df, aes(x = Size, y = Percent, color = Index, group = Index)) + 
  geom_point() + 
  geom_line()

Contribution Hierarchy

  1. HSA
  2. 457b
  3. 403b
  4. 401k
  5. Roth IRA
  6. Taxable

As long as you are not at the top of the tax bracket now, and expect to be at the bottom of the tax bracket in retirement, any Roth option should be used as the default choice. Taxes are low right now, so there is little reason to defer to a potentially higher cost.

What to do when you have a large tax deferred IRA and it’s preventing you from contributing to a Roth IRA? Roll it over to an individual 401k.

  1. Get an EIN https://www.irs.gov/businesses/small-businesses-self-employed/apply-for-an-employer-identification-number-ein-online
  2. Earn money through self-employment, report it on schedule C and schedule SE.
  3. Open an individual 401k.
    • The employer can contribute up to 25% of compensation, without going over the 58,000 limit.
    • The employee can contribute 100% of compensation, up to 19,500.
  4. Roll the IRA over to the individual 401k.
  5. Now contribute to the Roth IRA.

Investment Considerations

  • Expense ratios should be 0-0.2%. Anything outside of this range needs to be avoided almost always. If actively managed funds with reasonable fees are a good option, then they can be considered.
  • Utilize new contributions to rebalance the allocations.
  • Rebalance quarterly/yearly/as necessary by adjusting the tax-deferred holdings or taxable holdings (if losses or long-term gains are available). A common rebalancing point is when allocations break the 5% absolute or 25% relative boundaries.
  • Utilize cash and bonds as necessary to purchase on short term panic drops 10%+ or longer bear markets.

Tax Considerations

  • Hold tax free bonds in taxable accounts. Or, even better, just keep all bonds in retirement savings accounts.
  • Tax efficient index funds (no capital gains) in taxable accounts makes life easier during tax time.
  • A small number of invested index funds makes life easier during tax time (and general record keeping).
  • Convert traditional holdings to Roth when marginal tax rate is low (<~22%).

Financial independence

  • When investments are equal to at least 33x expected annual spending in retirement (i.e. 3%), your income generating method is no longer relevant :)
    • Expected annual spending is calculated as the average annual spending of the previous ~five years. You should multiply this by a safety factor (1.5x, 2x) to cover unexpected events in the financial system and your spending.
    • Does this seem unreasonable? Fix that by spending less.
# psave = proportion of salary saved and invested
# swr = safe withdrawal rate
# return = expected investment return
# years = years until financial independence
years <- function(psave, swr, return) {
  expense <- 1 - psave
  log(((expense * (1 / swr) * return) / psave) + 1) / log(1 + return)
}

df <- data.frame(psave = seq(from = .1, to = .9, by = .1))
df$years <- years(psave = df$psave, swr = 0.03, return = 0.05)

df
##   psave     years
## 1   0.1 56.826796
## 2   0.2 41.747798
## 3   0.3 32.526332
## 4   0.4 25.676548
## 5   0.5 20.103012
## 6   0.6 15.314857
## 7   0.7 11.047237
## 8   0.8  7.138871
## 9   0.9  3.482239
ggplot(df, aes(x = psave, y = years)) + 
  geom_line() + 
  scale_y_continuous(breaks = seq(0, 50, 10), limits = c(0, 60))

Insurance

Protect your assets with insurance.

  • Term life insurance
    1. Hold term life insurance when you have dependents and are not financially independent.
    2. Many jobs provide term life insurance. Keep a personal policy as you don’t want this tied to the job.
    3. If traveling, and while during transport, credit cards often offer automatic term life insurance if used to purchase travel method (airlines).
    4. If you are young and the insurance amount is less than one million, most insurance providers do not require physical health checks before approval.
  • Renters or Home insurance
    1. Be sure your homeowners policy includes extended dwelling coverage as it will replace or rebuild your property even if the cost exceeds your policy’s coverage
  • Car insurance
    1. Liability coverage: If you’re responsible for an accident, your liability coverage will cover the costs of any injuries or property damage caused in the collision. If the other person is responsible, and they have liability coverage, then they will pay for your damage. Most states require you to carry a minimum amount of coverage. Minimum you should have is $100,000.
    2. Collision coverage: No matter who is at fault, collision coverage pays to repair or replace your car if you’re in an accident with another vehicle, object, or even yourself. Can be useful for filing a claim with your personal insurance company so that they are the ones who get you money from other insurance company when someone else is at fault. Is quite expensive. Only needed if your car is worth more than 3x your deductible?
    3. Comprehensive coverage: This level of insurance covers your losses that aren’t caused by a wreck such as theft, vandalism, flood, fire and hail. Usually pretty cheap. Only needed if your car is worth more than 2x your deductible?
    4. Ask them if you are covered/need to purchase uninsured/underinsured coverage. It seems that having collision coverage is also a form of uninsured/underinsured coverage, so only necessary if you don’t have collision? It seems to be cheaper than collision.
    5. If renting, credit cards often offer automatic rental insurance if used for purchase.
  • Health insurance
    1. Unfortunately health insurance has little to do with covering unexpected costs. It’s more of a middle-man payment system that, in combination with healthcare providers, means the market for healthcare is not a service/good to be purchased, but rather a rent to be extracted.
    2. If not supplied by your employer, use the ACA marketplace at healthcare.gov to search for policies.
    3. Alternative healthcare sharing accounts through faith based companies are also available. These contracts are often not as robust as traditional insurance and can have maximum payouts ($150,000) or drop clauses for who knows what (smoking, no support from pastor, etc.). They generally operate by expecting you to pay cash for all bills. After submitting these receipts, they will provide partial refunds.
  • Long-term care insurance
    1. Purchase in 50s
    2. Reassess as needed as they are currently very expensive or no longer reasonable with current healthcare inflation?
  • Umbrella insurance
    1. This insurance gives protection for you and your assets when you need coverage that exceeds the limits of your homeowners or auto insurance. You want an additional buffer between traditional insurance limits (~500K) and your at-risk assets (anything held outside of ERISA-qualified plans, e.g. 401k or other non-governmental retirement savings accounts) when they become large enough to be enticing.

Family Planning

  • Create a will once you have dependents. Update the will and beneficiaries of all accounts with each new dependent.
    • Last Will and Testament with Testamentary Trust
    • Durable Power of Attorney
    • Health Care Surrogate Designation
    • Living Will