Wednesday, July 29, 2009

Saving for College, Part I

As requested by Luba, we will now delve into the complicated world of college savings. She asked about 529 plans, and is probably interested in an analysis of the different available tax shelters and investment products. We'll get into that, but first we need to discuss when you should be thinking about saving for you child's college education.

The sooner you can start putting money aside to help your children get a higher education, the better; for your children, that is. Certainly, if you plan to pay for the while bill anyway, then it probably also benefits you, but chances are you aren't planning on paying the whole bill by yourself. You also have other future expenses to think about: medical expenses as you get older, retirement, etc.

Here's where I might get a bit controversial: if you can't afford to save as I outlined in Saving and ALSO max out the amount you can put into a retirement tax shelter every year (IRA, 401k), then you have no business saving for your child's college education. Here's why:

-Your kid might not go to college. You will retire (or die, and then the account goes to your next of kin).
-Your child can get scholarships, subsidized loans, and other cheap financing for college. Let me know when you can get that sort of stuff for your expenses when you're 75.

This is like when you're flying and learning about using those oxygen masks: put your mask on first before assisting others. Like many finance decisions, it pays to think about the long-term.

Look for Saving for College Part II later...

Monday, July 6, 2009

Points are for Sports, Pay Attention to Percentage in Finance

The next time you are watching, listening, or reading the financial news, pay attention to how the stock market numbers are reported. Chances are, Carl Kasell will say something like "The Dow was up 80 points today to 7,752; the S&P 500 was up 17 points today to 835."

All right, Quiz Time! You have three seconds to answer the following questions (no calculators).
Which index did better today?
By how much?

Let's find the answer together. Imagine you had a little over $15,000 that you could invest in these two indexes. You invest about half in the Dow and the rest in the S&P 500. You bought one share of the Dow yesterday for $7672 and have $7,752 in that investment today; an $80 increase. You bought nine shares of the S&P 500 yesterday for $7362 ($818 each) and have $7515 today; a $153 increase. You invested less money in the S&P 500, but made almost twice as much! Answer the quiz question again.

The important measure for change in the value of an index (or any other security) is the percentage change, not the dollar or point change. A lower priced security going up 10% is better than a higher priced security going up 5%. You can just buy more shares of the lower priced security to gain the same numbers of dollars invested.

Understandably, a news anchor only has so many seconds to report on the markets. They should use this little amount of time to report the current price and the percentage change, but they could drop the point change. Someday I hope you will hear Carl say something like, "The Dow is currently at 8246, down 0.42%." Isn't that information more clear, and less sensational, than 35 points?