Money Obedience

Any list of 4, 7, 10, or more things is popular among writers – not just among journalists, but also among bloggers. But lists themselves don’t do that much. (1)They are most likely incomplete. (2)They may be deeply flawed. (3)They may be outright wrong. (Now, for a self-effacing question, “How many of the three problems in my lists apply to this list itself?”)

Two days ago MSNBC published an article entitled “Seven lessons from the financial meltdown.” Among these seven lessons, there were two that are really not lessons, and if they are lessons I say they are teaching us the wrong thing.

First they said that this is wrong: “A house is a great way to save money for the long term.” Nope, they’re wrong. This idea has held true for generations before this one and it will hold true for generations to come, no matter that this article wants to convince us otherwise. The underlying problem is that we have grown to view a house as a financial asset rather than a home. Those previous-generation parents who were lucky enough to buy property bought a house and made it into a home. They paid off the mortgage over time and owned it outright in retirement. The house had indeed grown into a major asset by the usual means – they accumulated their wealth one mortgage payment at a time. There were no refinancings, there were no second mortgages, there were no cash-out mortgages; there were only plain vanilla mortgages that were paid off dutifully month after month. That is how previous generations accumulated wealth with their houses. We just stopped doing that. But that does not mean that a house is not a great investment for most families anymore. We just have to go back to basics.

MSNBC also tried also to convince me that this one is false: “Asset allocation is a good defense against losses.” – This, too, has held true for generations and will also hold true in the future. Sure, the best asset allocation cannot ensure that you never have to look at any losses when you invest in risky assets, but that is not the point of asset allocation. The point is that asset allocation allows you to accumulate wealth over time in a way that fits your personal risk attitudes and that balances all financial risks against each other. There will always be up and downs with risky assets. But that does not mean that asset allocation is a silly and useless exercise. As a matter of fact, as soon as you own any assets, you have made a decision to allocate them, even if you decide to put all your assets into a savings account. If your assets are somewhere, you’ve allocated them! If they’re in a savings account, you may not face big losses like many of us faced during the decline of the stock market, but instead, you will face a steady and relentless erosion of your spending power that will make you relatively poor over time because savings interest surely never keeps up with inflation. Therefore, no matter what you decide, you are contending with economic risk. So, you should think hard about asset allocation if you want to hold onto your hard earned money.

As far as I am concerned, there is only one lesson that we can take away from the financial crisis and it’s this lesson I’m standing by: “Time honored financial principles work no matter what the circumstances.” There is no get-rich-quick scheme. There is only sound financial planning and financial management that keeps you financially safe in the long run. Oh yes, that also implies another lesson, so sorry, I have to add one more. It’s: “Don’t believe the hype,” like the hype fuelled by media companies like MSNBC, CNBC, and others during the housing bubble.