Save or Spend?

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Jake Spoon
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Save or Spend?

Post by Jake Spoon » Fri Feb 03, 2012 10:35 am

Like it or not, the monetary authorities have engineered an environment that is anathema to saving and investing. Interest rates for savers are well below the rate of inflation and going lower in the near future. This seems to be an effort to get folks to spend rather than save, or alternatively, to take their money out of savings and put it into riskier equities.

Through years of saving and careful investing, I have built a decent size portfolio of cash, bonds and equities. I know my risk tolerance. While I can marginally exceed my equity allocation in an effort to improve returns, I certainly cannot go 100% equities. So, I'm forced to accept vastly reduced risk adjusted returns on my overall portfolio. How long will this go on? It seems to me like it might be a more permanent condition than many of us would like.

This forum has a lot of folks on it who are managing their finances carefully and responsibly. But our economy appears to depend on, and reward, fiscal irresponsibility from the individual all the way up to it's highest institutions. The profligate are subsidized and bailed out by the frugal.

My question to this forum is - How does one mentally convince oneself to continue to save and sacrifice for the future in this environment? How does one reconcile himself with the fact that every dollar in savings becomes worth less in terms of buying power with the passing of time? Is there a time to cast aside saving in favor of consumption, taking into account possible future inflation rates? Perhaps buy a car now because it will cost twice as much a few years from now? Should people just ignore this problem and go blindly on saving and sacrificing for the future? This is a serious question. I would appreciate knowing how others have answered it for themselves.

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stevewolfe
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Re: Save or Spend?

Post by stevewolfe » Fri Feb 03, 2012 12:07 pm

This too shall pass. You can make a similar argument when stocks are going up 20% percent a year - why save? Why not spend when investments are going through the roof on their own? I save because it's what I know I need to do. When times are good and when times are bad. I also don't think it's much of a sacrifice because I don't think it hurts for me to want something that I don't have. :) And I'm being serious, often I find that after a little while the passion to have the latest and greatest passes and I sometimes buy the thing anyway, but most times do not. That said, I try to buy more experiences these days like travel, etc than just things. You have to find a happy medium that works for you.

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momar
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Re: Save or Spend?

Post by momar » Fri Feb 03, 2012 12:14 pm

I don't see why I should change my behavior to spend more. I spend money on what I need and what I really want that (I think) will make me happy. Why would I spend more than that?

If anything, lower returns makes me nervous and want to save MORE! Funny thing is, that's how most people react. People in China make very little and get very little return on their money, but they save way more (as a %) than we do. Because they have to. When you don't earn as much return, you need to save more. When you are getting 15% every year, why save much at all?

You may say, well, the US savings rate is not really changing. Maybe. But there has been a large amount of private deleveraging in the country.
"Index funds have a place in your portfolio, but you'll never beat the index with them." - Words of wisdom from a Fidelity rep

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Liquid
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Re: Save or Spend?

Post by Liquid » Fri Feb 03, 2012 12:50 pm

Jake Spoon wrote: So, I'm forced to accept vastly reduced risk adjusted returns on my overall portfolio. How long will this go on? It seems to me like it might be a more permanent condition than many of us would like.
This is pure speculation, and no different from asking in a bear market --> stocks are down, this may be permanent, should I sell and buy bonds?

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Jake Spoon
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Re: Save or Spend?

Post by Jake Spoon » Fri Feb 03, 2012 4:20 pm

Liquid: My "pure speculation" is based on pronouncements by the Fed that they will keep interest rates down far into 2013, perhaps well into 2014. Additionally, in case you haven't noticed, the Treasury is presently considering selling their notes at above par, which would be a negative interest rate from the get go. You would be paying the Treasury for the privilege of loaning your money to them.

A zero or negative interest rate on top of the Fed's stated 2%-3% inflation target spells serious trouble for anyone that has an allocation to cash or bonds. Run that scenario against your portfolio and see what happens to the purchasing power of your portfolio in 5-7 years.

You can speculate that this is going to turn around, but perhaps first you should go talk to a saver in Japan and ask him how the last 20 years have worked out for him.

Momar - your response makes a lot of sense. It is difficult to change habits that have been in place for decades (for myself). And plenty of people are de-levering, as you point out. Seems from the responses that "steady as she goes" is the strategy.

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Cloud
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Re: Save or Spend?

Post by Cloud » Fri Feb 03, 2012 4:28 pm

Jake Spoon wrote:Should people just ignore this problem and go blindly on saving and sacrificing for the future? This is a serious question. I would appreciate knowing how others have answered it for themselves.
Yes, of course you go on blindly saving.... What are the options? If you don't save where will you be in the future? I don't understand the logic of your question....

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bottlecap
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Re: Save or Spend?

Post by bottlecap » Fri Feb 03, 2012 5:22 pm

Cloud wrote:
Jake Spoon wrote:Should people just ignore this problem and go blindly on saving and sacrificing for the future? This is a serious question. I would appreciate knowing how others have answered it for themselves.
Yes, of course you go on blindly saving.... What are the options? If you don't save where will you be in the future? I don't understand the logic of your question....
Although I understand the logic of the question, I agree with this sentiment. Yes, politicians and monetary authorities often favor spenders at the expense of savers, but a responsible adult has no other option but to save, even if the purchasing power of your savings is being eroded. It is a nest egg to take care of you when you can't work anymore.

Think of it in these terms. If you had $10 million in a savings account and were about to retire, you wouldn't spend it all because it was losing ground to inflation. And you wouldn't be better off having consumed that $10 million during your lifetime and having zero savings. You would say, yes, I'm losing to inflation, but I can still make that money last for the remaining portion of my life. So you wouldn't panic and wouldn't spend it all and be destitute for the remaining 30 years of your life. What sense would that make?

It simply means that you may have to work harder, longer and/or save more to build a large enough nest egg to meet your expected needs. It stinks, but life is not always fair, especially if you work hard and save.

But it is also likely that sometime over the next 10 years, "this too will pass."

JT

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cheese_breath
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Re: Save or Spend?

Post by cheese_breath » Fri Feb 03, 2012 11:50 pm

Jake Spoon wrote:My question to this forum is - How does one mentally convince oneself to continue to save and sacrifice for the future in this environment? How does one reconcile himself with the fact that every dollar in savings becomes worth less in terms of buying power with the passing of time? Is there a time to cast aside saving in favor of consumption, taking into account possible future inflation rates? Perhaps buy a car now because it will cost twice as much a few years from now? Should people just ignore this problem and go blindly on saving and sacrificing for the future? This is a serious question. I would appreciate knowing how others have answered it for themselves.
There are always TV features and articles in the papers and on the Internet about people who didn't plan and save for the future. Maybe you even know one or two personally. Read boards like this one where Boggleheads are enjoying happy, prosperous retirements. Then ask yourself which kind of retirement you would rather have.
The surest way to know the future is when it becomes the past.

madbrain
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Re: Save or Spend?

Post by madbrain » Sat Feb 04, 2012 12:13 am

The fed policy has the effect of discouraging savers and investors from buying more short-term treasury bonds. Short-term treasury bonds are so expensive - ie. they yield so little now, and are so far below the rate of inflation, that there is really no reason to buy any more at these levels. I don't have a good enough crystal ball to speak about the long-term bonds vs future inflation. But I'm personally staying clear of the long-term bonds as well.

Consumption is what the fed wants you to do. Spend those dollars instead of keeping them in the bank.

Spending is not the only alternative. You mention equities. You don't want to go 100% equities. But I think it is still a time that warrants increasing your allocation somewhat. Particularly international equities.

You might want to find other asset classes that are not as directly affected by the fed short-term interest rate policy.
Personally, I like high-yield corporate bonds.

Municipal bonds are an option. Their yields are better than the treasuries. Both for short-term and long-term. Though their yields have gone down too. I am waiting for a little bit of bad budget news from California to buy some CA muni funds at a reasonable price.

I think foreign bonds warrant consideration too. I am still not sure what a good foreign bond index would be. European bonds yield more, due to higher risk. I think emerging market bonds too.

Then there are of course the gold / precious metals / commodity bugs. I am not going there personally. When they crash, they will crash hard, like the last bubble.

Hard assets like real estate also make sense if you hold long-term. REITs or an rental property if you inclined to run a business.
Those are a good way to benefit from the currently low interest rates.

Of course, all these other investments will be riskier than treasuries. But I don't see too many other alternatives.

exeunt
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Re: Save or Spend?

Post by exeunt » Sat Feb 04, 2012 12:42 am

Liquid wrote:
Jake Spoon wrote: So, I'm forced to accept vastly reduced risk adjusted returns on my overall portfolio. How long will this go on? It seems to me like it might be a more permanent condition than many of us would like.
This is pure speculation, and no different from asking in a bear market --> stocks are down, this may be permanent, should I sell and buy bonds?
I disagree. Expected returns are knowable--how else could the market set prices on stocks and bonds? Right now the market is signalling low expected returns. You'd have to be irrational to ignore expected return information in setting your consumption preferences.

yobria
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Re: Save or Spend?

Post by yobria » Sat Feb 04, 2012 12:56 am

The spend/save decision is made by comparing the utility of spending now vs spending (including real growth) in the future. Thus if interest rates decline, and you're behaving rationally, you should increase current consuption at the expense of future consumption.

However, am I increasing consumption? Nope. For one, the future is unknown so I can't accurately make the utility comparison. For another, my marginal utility of consuption is quite small (I have everything I need and want), so I'm not induced to spend more. Finally, I just like saving - it's lots of fun. And yes, you can in fact keep up with expected inflation. Buy a five year CD.

Nick

lexie2000
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Re: Save or Spend?

Post by lexie2000 » Sat Feb 04, 2012 1:17 am

We will still be saving for a little while, but DH will be retiring this year(age 55) so the draw-down will soon begin. It does make me a little nervous.

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cheese_breath
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Re: Save or Spend?

Post by cheese_breath » Sat Feb 04, 2012 7:48 am

lexie2000 wrote:We will still be saving for a little while, but DH will be retiring this year(age 55) so the draw-down will soon begin. It does make me a little nervous.
Have you developed any kind of projections comparing income requirements to likely investments growth over the next 40 or so years? They may help to ease your concerns some. Or they may indicate 55 is too early to retire.
The surest way to know the future is when it becomes the past.

MrMiyagi
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Re: Save or Spend?

Post by MrMiyagi » Sat Feb 04, 2012 8:41 am

I came to this sad realization myself and decreased my savings last year. I still make my Roth IRA contribution and my 403b match (so probably still ahead of most Americans), but the rest I have been spending eating out (nothing too crazy), probably on a new car soon. I think when it all comes crashing down, I would rather be a ward of the state in my old age when I'm demented, rather than scrimping and saving during my youth. I will probably go ahead and start making maximum contributions when my income increases after my residency though.

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cheese_breath
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Re: Save or Spend?

Post by cheese_breath » Sat Feb 04, 2012 8:51 am

MrMiyagi wrote:I think when it all comes crashing down, I would rather be a ward of the state in my old age when I'm demented, rather than scrimping and saving during my youth.
What if it all comes crashing down before you become demented?
The surest way to know the future is when it becomes the past.

Dandy
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Re: Save or Spend?

Post by Dandy » Sat Feb 04, 2012 10:57 am

We are coming out of a major recession so things look especially gloomy. Yes the low interest rates and the prospect of them being here for a few more years is discouraging. Even if your savings doesn't generate much growth and may currently be behind inflation - will not continued saving put you in a better position in 5 to 10 years??

The low interest rate does stimulate the economy (ok it isn't raging) and the stock market. So the stock portion of your portfolio should be doing well and hopefully this will help offset your fixed income shortage. One way or the other the US economy should improve and interest rates will go back to a more of an historical norm. At least I hope so since I am a relatively conservative investor with lots of money in bond funds.

jridger2011
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Re: Save or Spend?

Post by jridger2011 » Sat Feb 04, 2012 11:10 am

Cloud wrote:
Jake Spoon wrote:Should people just ignore this problem and go blindly on saving and sacrificing for the future? This is a serious question. I would appreciate knowing how others have answered it for themselves.
Yes, of course you go on blindly saving.... What are the options? If you don't save where will you be in the future? I don't understand the logic of your question....
This is actually a good question. If you're middle income like most Americans and saved a bit during good and bad times to see other forces reward non-savers in some way, it feels like you're the crazy one.

Think of it as the absolute worse case: If you didn't save at all, what would happen? (Probably all the bad stuff you imagined)
Best case: You saved a ton but really suffered in your youth, what would happen? (Bitterness, probably if you were ill in old age)

Middle of the Road: Save some, spend some! Choose areas in your life that could use the balance, keep re-balancing over time to adjust to changing lifestyle

I'm still working on the balance.

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CaliJim
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Re: Save or Spend?

Post by CaliJim » Sun Feb 05, 2012 1:15 am

When expected returns of stocks and bonds are low - you need to save more, not less. (Or take up unhealthy habits so you can decrease longevity risk. :wink: )

The Fed has more impact over short term rates than they do over long term rates. Longer term bond rates reflect the market's opinion WRT future inflation, credit risk vs return requirements. So don't go too short with bond durations and the fed will have less of an impact on you.

All the boglehead principles still apply, even in these times. Don't throw the baby out with the bath water.

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Kevin M
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Re: Save or Spend?

Post by Kevin M » Sun Feb 05, 2012 1:26 am

exeunt wrote: I disagree. Expected returns are knowable--how else could the market set prices on stocks and bonds?
As repeated multiple times in the very interesting book "Expected Returns", expected returns are not observable. Not sure what you mean by "knowable", but it doesn't seem to me that expected returns are knowable. Different people can make different estimates of expected returns, but no one really knows them. There are too many variables and unknowns about the future to really know the distribution of possible future returns, which is required to calculate expected returns.
Right now the market is signalling low expected returns.
Really? Which market? How do you assess that? Seems to me that expected returns in European stocks, for example, might be somewhat high now.
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Goldfinger
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Re: Save or Spend?

Post by Goldfinger » Sun Feb 05, 2012 9:51 am

I didn't see any mention of paying down debt (if you have any). As a mortgage could be considered a negative bond, one might focus on getting a guaranteed return by paying down the mortgage over a period of several years.

I like to focus on share accumulation when it's not beneficial to focus on dollar value. For example, if I have 5,000 shares of VGTSX (TISM) and 10,000 shares of VBIIX (Int term bond index) in my 403(b), I like to set short term goals and see how fast I can knock down the next hurdle. "By XYZ date, I'll have 6,000 and 11,000 shares..."

Just my way of distracting myself. :dollar

--Goldfinger
"At cocktail parties lovely ladies would corner me and ask my opinion of the market, but alas, when they learned I was a bond man, they would quietly drift away." -- Sidney Homer/Salomon Bros

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