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Archive for June, 2011

Emergency Fund FAIL!

I was hoping to write a post in the near future on how my next goal was to establish a real emergency fund in order to have cash set aside for car repairs, home appliance repairs, or medical emergencies.  Having six kids means lots of potential emergencies so it would really pay to be prepared.  Plus with the credit crunch, it really isn’t a good idea to depend on credit for an emergency fund.

Of course, I bet you can see exactly what is coming.  It is just like any overworked plot on television.  The air conditioning stopped working yesterday morning.  I woke up, and it seemed awfully hot in the house.  I checked the thermostat.  It was reading 83 degrees at 5 am.  Not good!  The air coming out of the vent was lukewarm and my heart sank.  I just knew what the writing on the wall said.  It said, “Your air conditioner is 10 years old.  Major appliances will only last about ten years.  You will need a new one.  (Evil laugh).”

Of course, the repairman that came out could read the same writing and suggested that I could get a new compressor for $2500 or a new unit for $4050.  Well, it only made sense to spend a few extra dollars and replace the unit that will need replacing anyway.  Why spend $2500 this summer only to need a new one in the next year or two because something else goes?

While I don’t have an emergency fund per se, I do like to keep a month ahead on my fixed bill checking account.  I do this since I only get paid once per month on the 5th and have most bills due in the early part of the month.  Without the cushion, the due dates and time it takes for funds to clear can be cutting it dangerously close.  Well, the money has been transferred, and we will be getting a new air conditioner on Friday right as the weather starts to heat up a little more.  In the meantime, fans and the basement are OK.  Of course for me, being at work is COOL (literally)!

Despite this temporary and ill-timed set back, I still need to put together a true emergency fund.  Initially, I was thinking about $5000 which seems just about right for a major household appliance like the furnace.  I also know that having a transmission rebuilt on a minivan is about $2200, but I have already done that.

I have been reading lots of posts about emergency funds and Dave Ramsey’s $1000 start.  While that might be good for a baby step, I really think it needs to be more.  Squirrelers makes a great case for a bigger emergency fund, and I would have to wholeheartedly agree given my recent experience.  So rather than be able to share that I accomplished my goal of creating an emergency fund, I will have to lament my lack thereof and save that post for another day.  You can bet I will be working on it, though.

Any comments or sympathy would be appreciated (wimper).

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18 comments - What do you think?  Posted by Cash Flow Mantra - June 29, 2011 at 12:48 pm

Categories: Spending, Saving   Tags: , , ,

Analyzing the Real Return on Real Estate

In doing research for a post that I want to write on the inflation adjusted returns of various investments, I ran across some interesting data on real estate.  One of the most widely touted pieces of information that I am running across is the graph of nominal vs real home prices from 1890 to present made famous by the research of Yale economist, Robert Shiller.

This data indicates a real rate of return of about 0.4-0.5% annually since 1890 and is being used as an argument to invest in stocks which have historically returned about 7% on average after adjusting for inflation.  But is this a fair comparison?  If you think logically about what this information is saying, I think you will agree that the fundamental conclusions made about real estate investing when using this data is flawed.

What Does the Data Actually Tell Us?

First, let me say that I am not disputing the accuracy of the data one bit.  I can’t accurately comment on how it was collected or whether it was the right information to collect, but my understanding is that data looks at sales data for existing homes from 1890 to the present.  Assuming the data is correct, what is this saying?  It is saying that the inflation adjusted capital gains for real estate over the last 120 years is about one-half percentage point per year.  That’s it.

But who in their right mind would invest in real estate solely for capital gains?  Not a true real estate investor.  There are four ways to make money in real estate, and capital gains represent only one of them.  I would also suggest that capital gains (ie real appreciation) are not the most important.

The Purpose of Investing in Real Estate

Investing in real estate should primarily be about cash flow and the rents that the real estate can generate.  In this respect, a piece of rent producing property is more like a stock that pays out a dividend.  So if we want to compare our real estate investment, which just manages to maintain its value after inflation, to stocks, then we need to know if real estate will yield 7% after inflation.

That means we check out the capitalization rate.  If the capitalization rate of a piece of property is about 6.5-7%, then real estate makes sense compared to stocks.  Realistically, the capitalization rate is about 8-10% for most real estate investments in my area of the Midwest.  Now you could do all sorts of sophisticated analysis to account for inflation of maintenance costs, inflation of rents, etc to adjust the cap rate over time, but the bottom line is that real estate investing compares favorably to stock investing provided the purpose is to rent out that real estate.

Of course, that doesn’t hold true with a personal residence.  In that case, over the long term, you shouldn’t gain or lose all that much provided you don’t initially overpay.  At least, this information should offer some comfort knowing that wealth should be maintained when placed in a personal residence.  This is as it should be since the primary purpose of a personal house is to live in it.

So, what do you think?  Have you seen the data by Shiller and written off real estate?  Do you know anyone who has?  Real estate investing when operated as a business is just like any other business in the stock market so it makes sense that the inflation adjusted returns would be similar.  Do you believe this?  I would love to hear your comments.

4 comments - What do you think?  Posted by Cash Flow Mantra - June 27, 2011 at 11:45 am

Categories: Investing   Tags: , , , , ,

How We Got Free Satellite Radio

With our most recent vehicle purchase, we received a one year free trial of XM satellite radio.  This free trial will end in the next two months so I have been preparing the family especially the teenagers for this eventuality since I refuse to pay for this service.  Well, it turns out that they really don’t care since they have their own way of getting free satellite radio.  This is just one of those ways of finding a cheaper alternative to achieve a similar lifestyle without adding additional cost.

It turns out that my college age daughter has been listening to Pandora on her smart phone and is able to run it through the speaker system of the car.  She has several “stations” set up through Pandora’s service and can really live without the satellite radio.  Pandora’s service is just as good anyway.  You don’t have to worry about getting out of range on a long drive and the occasional ads which allow the service to be free are certainly tolerable.

I used my Droid phone this weekend to listen to the station that I set up while driving in a section of Illinois that had five radio stations, four of which were country music.  It worked out very well and provided some needed entertainment on a long, solitary drive.  The ads appeared every five or six songs.  It was really only one ad for Living Social which ended up being pretty short.  Mostly, I was able to listen to music from the 80’s which I hadn’t heard in a long time.

I am actually enjoying the concept of Pandora although I would never pay money for the service.  Not that it wouldn’t necessarily be worth it, but why pay for something that I can get for free.  I would revert to the regular radio rather than pay.  That is why I wonder whether the business model of Pandora is really worth all that much.  They will have to depend on advertising, but could do OK if they get enough market share of listeners.  As far as investing in Pandora stock, that is a post for another day.

Thanks for reading all of my free content and feel free to comment.

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9 comments - What do you think?  Posted by Cash Flow Mantra - June 23, 2011 at 5:41 pm

Categories: Spending, Saving   Tags: , , , ,

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