How To Not Blow 20k

…Over a decade and a half.  I know: bad trick, using the headline that way.

But seriously, lots of people talk about how using low cost investing options is a good idea.  Put your money in index funds rather than actively managed mutual funds or with an adviser.


One word: fees.

Unfortunately, the investing world does not operate on the, “You get what you pay for principle.”

And, over the long haul, those little fees add up to be a drag on your returns.  How big of a difference?  Let me tell you a story…


When I was 18, my Dad gave me a gift that I will never forget.  He started me (now us) on the path to financial independence.

When I was 18, I had my first W-2 job working as a sales associate in the electrical section of the regional hardware store.  (I worked for years before that, but I was always a small amount and paid in cash, so it was never eligible for taxation let alone retirement savings.)  At the then-minimum wage rate of $5.15/hr, I didn’t make much.  But, the little I made was reported to the government as earned income.  “Fortunately,” my earned income was so small, I was ineligible to pay taxes.

I was using the money I earned to pay for some of  my college expenses.  So, my Dad said he would match up to my earned income and put the money into something called a Roth IRA.  Of course, this became table stakes to hold a discussion on the general topic of saving for retirement.  We talked about the differences between a Roth and a traditional IRA.  We talked about contribution limits and the difference in withdrawal rules.  Once, we made it through the lecture, we got into the fun stuff: what to do with the money.  Pretty quickly, we ruled out a down payment on a car or storing it in my sock drawer.  Instead, he suggested investing in a mutual fund, The Growth Fund of America (ticker: AGTHX).  AGTHX is, you guessed it, an actively managed fund.  Its annual expense ratio (one of several potential charges people pay to invest their money) is 0.6%.

So, why is that a problem?

If a typical index fund charges ~0.1% in fees, the observation is that actively managed mutual funds at ~.6% or a human adviser at ~1-2% don’t make you enough extra money in the long run to justify their cost.

Compare AGTHX to Vanguard’s S&P500 index fund (Admiral shares because we’re over $10,000).  The Admiral shares have an expense ratio of 0.04%.  While the Investor shares (minimum of $3000) have an expense ratio of 0.14%.  Last, I checked, 0.6% is more.

But, wait!  You say, “don’t the hotshot fund managers get a better return for their customers?”  How else can they justify charging more?



Let’s look at the numbers.

I used Morningstar’s portfolio analyzer to get a bit more information.  Note that it only looks at changes in share prices (no capital gains/dividend reinvestment included).  I simulated buying $100,000 of each fund on Jan 5 of 2001.  How have the two funds done over the past ~15 years?


If you look at a Google Finance image of the two mutual funds’ values over time, it looks kind of like this:


So, what gives?  For much of their history, AGTHX outperformed VTSAX (the blue line is higher than red line). But, something called “reversion to the mean” seems to have kicked in.  That’s fancy talk for an idea that most investments eventually delivery average performance.  They may out/under perform for years or a decade and a half, but eventually, they produce average results.  This is one of the core reasons for selecting low-cost index funds as your primary investment vehicles.  Over the long haul, if most funds perform similarly, then the lowest cost fund wins. You can read a lot more about this from John Bogle, inventor of the index fund, founder of Vanguard, and personal hero.   While AGTHX may have outperformed VTSAX for many years, in the long run, the two funds have had roughly equivalent performance for over 15 years, yet AGTHX consistently charges fees that are almost 10x higher.

By the way, those fees are pretty insidious.  If you look at your statements, you will not see actual dollar values coming out of your account.  Instead, the fund management team takes them off the top before they show up in any individual statements (I spent a few hours looking through some pretty arcane sections of both American Funds and Vanguards websites before I convinced myself of this).

So, now the conundrum.  I admit, it’s an emotional one.  Math says, roll everything from AGTHX into a lower cost fund (e.g., VTSAX).  Our goal is not to tap these funds for at least a few decades.  So, shedding the fees should be the right decision.  But emotion says maybe those über-smart folks at American will outperform the index once again.  And, what about diversification?  If hackers get into Vanguard, they may not simultaneously get into American.  And besides, my Dad is the one who got this ball rolling, even if I’ve done the vast majority of the contributions.  I feel some (totally irrational) guilt at moving away from this fund.


So, what to do?  I’d love some other perspectives…drop me a line in the comments.


Don’t Confuse Brains With A Bull Market

Photo Credit: Bouncey2k (

According to the Shiller 10 Year PE, the S&P index is expensive, valued at 30.23 as of this writing (Thursday 8/03/2017).   Two US Federal Reserve Presidents have also gone on record stating that the US market is getting, “frothy.”

What does that mean?

If you read Nate Silver’s awesome book, The Signal And The Noise, he illustrates the relationship between the Shiller 10 year PE and average stock market returns.  Here’s a great summary of the chapter.  The basic premise is that while the Shiller 10 year PE is a pretty lousy predictor of short term returns, it is a very strong predictor of long term returns.  The higher the Shiller 10 year PE, the lower the expected return.  The lower the Shiller 10 year PE, the higher the expected return.  The long-term average Shiller 10 year PE  is about 16.  The take away: the market feels expensive.

I can tell you from our personal experience, it has been an outstanding ~decade.  I started tracking our net worth in early 2009, and it’s safe to say that we’ve done well.  Obviously, saving as much as we can helps.  Our net worth has doubled since mid 2015.  That’s right, in 2 years!  In those two years, a couple of pretty big things have happened for us:

  1. The S&P went from 2028 on Jan 1, 2015 to 2472 on July 21, 2017.  An aggregate gain of about 21%.  (2472-2028)/2028 = 444/2028 = 21%.
  2. We substantially increased our retirement savings rate via our 401(k)s, Roth IRAs, etc.
  3. We bought a rental property that has appreciated (in funny money dollars) and generates real positive cash flow
  4. We had a kid (probably not a net worth boost, definitely not a cash flow boost…but totally worth it nonetheless!)

Here’s the plot of our net worth over time:

Being a nerd, I keep a trend line fitted atop our net worth vs time chart.  Among other things, I can use the line equation to estimate when we’ll achieve financial milestones.  Here’s the problem though: the linear trendline doesn’t fit so well anymore.  Our R^2 (a measure of how much variation is explained by the trendline) is at 0.96 for the linear fit.  A better measure when comparing non-linear models is actually s (standard error).  For the linear model, ours is $34,690.

Here’s the same chart with an exponential trend line.

Look at the standard error… it’s less than a third of the original model.  To me that says that the exponential curve better fits our actual data.  And, that fits what folks say about saving and investing.  It takes a long time to feel the effects of building a portfolio.  But, time is one of the greatest tools we have.  And, once you get going on that exponential curve, it’s hard to get off!

Now, to connect everything.  Like most “normal” investors, we benefited from steady savings through the past decade riding the wave of rising values.  Our portfolio gains have almost nothing to do with intelligence and everything to do with time, consistent savings, and maintaining low costs.  It’s not very sexy, but it works!  We have no illusions that we are different from any other investor.

So, maybe it’s time to take some age old advice.  Maybe it’s time to rebalance our allocations, locking in some of the stock gains while shifting our hard working dollars into bonds or even cash to preserve our capital for when the inevitable downturn does come.  The trade off is the opportunity cost of keeping those dollars in the market so they could reach even higher valuations.  I think it makes sense for each person to consider their own risk tolerance, time horizon before needing to tap their investments, and asset allocation to make the best decision for themselves.  But with market valuations approaching, “frothiness” I also think the time is right to do that consideration soon.

Are you taking any action to re balance your portfolio?  Are you letting things ride?

I Have A Problem

Lunch boxes. Like the one I left at home.

I forgot my lunch the other day.

I’m cheap.

I bought the cheapest sandwich (with a side of carrot sticks) that I could find.  It was going to cost me $5.87.

While standing in line to pay for my lunch, I pulled out my cell phone and divided $5.87 by 0.04 (mental math is not my strength).

My stupid cafeteria lunch just cost me $146.75.


Upgrading Our Home … To a Duplex

We’re in the market for a new house/rental property.  A friend of ours passed along a community for us to look into.  I figured it’s worth showing our evaluation approach (OK, it’s my evaluation approach.  My wife is much more interested in the big picture rather than how the math is done).

The community is in Fulton, MD.  (Montgomery county for those of you that read my last post on growing counties in MD). Fulton is a planned community under construction.  It has a Town Center with a community area complete with exercise facilities, a pool, and common spaces.  There’s a mix of neighborhoods, ranging from apartments, condos, and townhouses to single family “estates”.  The community is in the southern part of Howard County MD, so it definitely checks our box for good schools.

In a previous post, I talked a bit more about our requirements.  So, I’ll talk more about the math of evaluating a mixed use rental property where we live in one part, and rent out another.  While we’re not explicitly looking for a duplex, that’s essentially how I’m approaching this topic. Here’s two of my favorite bloggers weighing in on general rental property evaluation: Afford Anything, and Financial Samurai.  Finally, here’s an article specifically about duplex investing on bigger pockets, one of the biggest real estate blogs out there.

Let’s start with cash flow.  For a typical owner un-occupied property, cash flow must be positive to even think about moving forward (rents must be higher than expected costs).  For your personal residence, total costs should be less than some % of your gross income.  For better or worse, we’re looking to blend the two.  See how this seems different: we’re looking to buy a place with a portion of the costs offset by a renter.  If it was a classic duplex, we’d likely want to “live for free” such that the renter covers not only their portion of the costs but 100% of ours as well.  Somewhere between “live for free” and rents subsidize our lifestyle is the trade space we’re looking into.

With that said, the math ends up being pretty straightforward.  Here’s a link to the spreadsheet I’ll be using to evaluate potential properties that fit into this kinda-sorta-duplex.

  1. We can estimate what an individual property will cost us to own and operate/maintain as our primary residence.
  2. We can estimate market price point for a rental property that looks like ours.
  3. We can subtract the two to find out what our net cost of living will be.

Next, appreciation.  Zero (this one is easy).  I never assume we’ll benefit from any appreciation on a rental property.  There’s some good reasons for this: real estate tends to appreciate with inflation.  This keeps the math simple when evaluating prospective properties, and keeps me conservative.

Finally, taxes.  I figure out what the estimated property taxes will be so I can factor them into cash flow.  The source foe the tax information is either based on the listing (if available) or the historical tax records…You know those are all public records, right?  Here’s the MD website.  And, here’s a link to an online public records search site so you could look start your search anywhere in the US.  After that, any deductions, expenses, etc are all gravy.  I would never advocate buying a rental property just because of the tax benefit.  The underlying investment needs to be sound first.
So, how does Fulton stand up?

Here’s a nice 4 br/2.5ba single family home in this area.  It’s not built yet, so there’s some opportunity to increase costs.  Let’s just assume we stick to the builders “vanilla” house and get all 2894 sqft for ~750k (yowza)!  Median rents for a 1br/1ba are ~$1,900/mo.  Let’s assume that the HOA will take kindly to us turning this into a duplex.  Then, let’s run the numbers based on the information in the listing:

Fulton MD 4br/2.5ba single family purchase and recurring financials

Let’s start with the biggest red number on the sheet: $168,747.75.  Say it with me: one hundred sixty eight thousand, seven hundred forty seven and seventy cents.  If we were to put 20% down, that’s the amount of cash we would need for the down payment and for estimated closing costs.  Ouch!  Next, that big number to the right of Monthly Recurring Costs: $5,612.19.  Every month for ~30 years we would owe, escrow, insure, or maintain this sum in order to afford this lovely home.

Now the good news.  A 1 br/1ba in this neighborhood is also a pricey affair.  I saw $1,900/mo as the nominal rent for such an apartment.  So long as we don’t mind neighbors downstairs indefinitely, we could end with a net monthly cost of $3,468.19.  That’s still a big number, but it helps to illustrate why I’m so keen on having a rental property baked into whatever becomes our next home.  Note that I took a wild guess to arrive at ~20k to convert part of the basement into a rental unit.  Here’s hoping that’s in the realm of reasonable!  Because these numbers are still pretty big for us, I’m leery of making this kind of commitment without doing some serious homework.

What do you think?  Would you ever accept a long-term rental situation in order to afford a big honkin’ house?  Is there another way to make this kind of move and keep it affordable?

Create Exponential Growth As Quickly As You Can

Mind the gap.

Everyone in the personal finance world has some version of this sentiment, including the folks that run the London Underground.  There are hyper savers and Uber earners.  There are some that are cool with both.  I definitely fall into the third category. I don’t really care how you build a gap between your income and expenses; just make it as big of a gap as possible!

I would like to use this post to explore why it is so important.

Image from Go Curry Cracker. Check out their excellent post on how to achieve financial freedom.

A friend shared this savings curve from the awesome team of Winnie and Jeremy over at gocurrycracker.  I did some additional tracing, and Mr. Money Moustache has a similar post.  He also linked to networthify (not https) which may be the original source for this set of bloggers.  So, let’s dig into this a bit more. First, the graphic itself.
The idea is that if you save x % of your gross income every year (and maintain your current expenses indefinitely), after y years, you will achieve Financial Independence.

  • Mr. and Mrs. Money Mustache completed their journey to financial independence in about 9 years by saving 66%+ (and making a few mis-steps along the way)
  • Jeremy and Winnie completed theirs in 10 years and a day by saving north of 75% of their take home pay (and making some pretty big oopsies of their own)

This was eye-opening for me!  I fancy myself pretty good with money.  Let’s see how we’re doing by this standard.  Here’s our 2016 expenses Paretoed out into big buckets.

And the answer to how well we’re doing is: pretty crappy!  …although, not relative to the average US person, actually.  Turns out on average, Americans only save ~6% of their after tax income.  We’re putting away just over 30% (with a 1 yr old).

Relative to how we were doing pre-kid and compared to other extreme early retirement bloggers, we’re not socking away as much as I would like.  And, you know what?  That’s OK.  We’re parents.   And, this early retirement thing is just creeping into our consciousness.

For another post, I’ll have to dig into what our numbers were leading up to the purchase of the rental property.  Speaking of the rental property, I’m actually a bit more bullish on our ability to retire early because of our real-estate portfolio.  Let’s quote George Box again, “All models are wrong.  Some are useful.”  These models strictly look at investments as having a fixed percent (5%) growth.  They also assume a fixed 4% withdrawal rate in retirement based on your current expenses.  Both are conservative and your expenses may vary quite a bit…I hope we’re not still paying for child care when we retire!

Last thing before I sign off: see how the relationship between savings and time is curved?  That’s because of two basic factors:

  1. Compound growth
  2. Constant expenses

The more you can do to save early, the more your best savings tool gets to work for you.  By the way, it’s the tool that anyone selling you something doesn’t mention: time.  In case you missed it from school, compound growth follows an exponential growth curve.  Practically, that means the more time you give your money to grow, the more it works for you.  Here’s $1000 invested for 20 years at 7% (compounding monthly).

Point two is where this gets exciting.  If your investment grows at an exponential rate and you withdraw at a constant rate, your investment will continue to grow even as it supports your retirement.  There’s some caveats to that, but at it’s core, that’s why the 4% withdrawal rate is such a nice way to plan for retirement.

Think on that for a while.  Then, think about what structural changes you might be willing to make in order to bring retirement closer to today.

Panning For Rental Property

MD new housing starts 2000-2011Gullgraver_1850_California

I know.  In today’s modern world, that’s a pretty goofy mental image: some old-timer crouching over a stream and sifting for that one gold nugget.  And yet, that’s kind of what we did when we looked for our first rental property.  I estimated that we spent ~200 hours screening properties to find The One.

Now that we’re officially on the hunt again, I figured I would detail the process we’ve used previously and are planning to use (and evolve) again.  Although, this time we’re looking for something a bit different.

So let’s start with the master plan:

  1. We have a 2br/2ba condo that is a pure investment property.
  2. We live in a 4br/2.5ba townhouse with a low enough cost structure and in a very desirable neighborhood that it should also make for a good rental.
  3. We want a single family house close to my wife’s employer, in a neighborhood with good public schools, and with a dedicated rental space.

So, the goal is to keep house #2, rent it out, and add a third rental to offset the cost of our next place.  As always, our general philosophy is buy and hold.  I guess that means we have some pretty specific requirements.  Perhaps some of these characteristics reflect others’:

  • “Class A” (lots of folks have different definitions; this is close enough for my purpose)
  • Good k-12 public schools (7+ on
  • Close (<2 miles) to public transit (for us that means trains into DC)
  • Close (<1/2 miles) to a community park, ideally with running/biking trails
  • Because we’re looking to use part of our house as a rental (e.g. a big chunk of a finished basement), we need to be near our target tenants’ desired location, have a separate access, and have utilities available for the rental space
  • We’re looking to offer our tenants a studio or 1br space for between $750 and $1000 a month
  • Modest appreciation, at least keeping up with inflation.  We’re in the buy and hold space, so we’re not looking for anything that requires huge increases in value to make our investment pay off.

I’ve been doing some digging on this topic since I listened to a podcast by Paula Pant over at Afford Anything where she outlined some of the key factors she uses to invest in real estate:

  • Price to rent ratios
  • Building permits (new starts and renovations)
  • Job creation
  • Infrastructure development

Over the next few posts, I’d like to dig into some of these factors a bit as I’ll be exploring them in more depth as part of our own search.  I know there’s lots of discussion out there about “big” data.  My goal isn’t to make this into a science project, but I do believe there’s some useful data available for real estate investors, and it is not limited to subscription only sources.

Let’s start with an example.  We currently live in MD, and we’re looking for our next property in MD.  So, I started at Maryland’s open data site.  There’s a bunch of data sets to geek out with.

I’ll pick the new residential housing units data set to start.  In theory, a county with lots of growth, would be likely to offer a good opportunity.  Here’s a quick snapshot of the 24 MD counties, their total new residential housing starts from 2000 through 2011 (I couldn’t find a more recent data source).  I also included a line chart view of each county over that time period to illustrate any trends.

It looks like the top three counties from this time period were Montgomery, Prince George’s, and Anne Arundel.  On each of their trendlines, you can see upticks in the last 3-4 years.   Thinking back to that era, the 2005 BRAC was in full swing.  While it may have caused significant challenges around the country, the Ft. Meade area and it’s surrounding counties (those three) benefited from a significant influx of DOD related jobs.

What do you think?  Do new residential starts portend a good rental real estate market?  Will this trend continue in the future?  There’s always talk of the DC “bubble,” although with the current president working to limit federal government employees, the real estate sector may be in for another shake-up in this area.  Drop me a line and let me know.

Self Directed Retirement

I’ve read more than a few passing mentions of so-called self directed retirement accounts.  I never really understood what that meant.  But the message was usually delivered with lots of exclamation points:

  • As a self employed business owner, you can reduce your taxable income, save for retirement, and increase your capital for investment!
  • As a full time employee with a side hustle, you can direct your retirement savings into your side business!

See!?  Why are you still reading these words?  Who wouldn’t want to have a self directed retirement account?  Why haven’t you called a broker yet?


Not so fast. Let’s dig into this a bit further.

Disclaimer.  Keep in mind: I’ve never formally studied retirement planning or financial advising.  Any decisions you make are your own. 

Let’s start with my motivation: with a potential opportunity to acquire our second (and maybe third!) on the horizon and a need for more cash, I figured it was time to figure out how we could afford our next opportunity.  And, a self-directed IRA represents a way to get cash without selling a kidney.  Here’s what I found:



What is a self directed IRA? 

It is a tax-advantaged (tax deferred) account offered by the US Government (IRS).  The account requires a custodian and allows for investment into alternatives (e.g., real estate, notes, or private companies). The account is funded with pre (traditional-IRA) or post (Roth-IRA) tax dollars.  The account then grows or shrinks as your investment choices grow or shrink and is subject to similar tax rules with a few extras.  For example, a self-directed IRA is prohibited from a bunch of transactions with “disqualified persons,” namely anyone closely related to you or businesses where “disqualified persons” have more than a 50% stake.

Honestly, It’s a bit tough to find details on the IRS’s website in one place (odd, right?).  I found that the fine folks at Cornell Law publish the internal revenue code  from which all the retirement accounts are authorized.  And, there’s an innumerable set of documents that the IRS publishes on all manner of arcane tax rules.  I also found IRC 4975(c)(1) and IRS Publication 590 to be the most referenced ones.

I did find a bunch of company websites that are selling their services as custodians.  Note: I’m not affiliated with any of these companies, nor am I receiving any compensation for mentioning them.  Some of these have pretty thorough documentation of the ins/outs of a self-directed account.

OK.  Enough overview.  I want to buy real-estate with my retirement dollars already.



Why is a self-directed IRA useful?

You can invest your retirement dollars into a wider variety of investment types.

Typical retirement accounts (401(k), 403(b), IRA, Roth IRA) are set up through an investment company like Vanguard, Fidelity, etc.  In a typical account, you can choose to put your money into stocks, bonds, mutual funds or other publicly trade-able assets.

I don’t want to do that. I want to buy a building or a note or shares of Tesla before they went public, and I want to do it with my retirement dollars.  This site lists a bunch of different types of assets (some of which you can invest in through traditional IRAs):

    • Real Estate
    • Private Company Stock
    • Tax Liens & Deeds
    • Oil, Gas & Mineral Rights
    • Crowdfunded Ventures
    • Trust Deeds & Mortgages
    • Private Loans to Businesses or Individuals
    • Venture Capital
    • Precious Metals
    • Traditional Stocks, Bonds & Funds
    • Anything the IRS rules allow for

Here’s one of the exciting benefits of using retirement dollars this way: your self directed IRA can get a non-recourse loan to finance the purchase of a property.  What!?  Well, yes.  You have to find a lender comfortable with this, and at typical loan to value ratio is closer to 50% but, it sure looks like you can leverage your retirement dollars.

One of the biggest reasons to look into a self directed IRA is if you are self-employed.  Lets say I decide to “retire” early from my day job to manage my real estate portfolio.  The self-directed approach allows me to continue putting aside retirement dollars, and I could elect to simultaneously supercharge my real-estate holdings.

There’s a few different flavors of self directed accounts: a solo 401(k), a self directed LLC (typically with “checkbook control”), or a business funding IRA.  I’ll leave the detailed overview to you to click through the links.  Suffice to say that each has minor differences in rules and benefits.

How to get started?

Think of setting up a self-directed IRA as starting a business.  That looks closer to the level of complexity to expect.
First, you need a custodian company that does this sort of thing.  Vanguard, Fidelity, Charles Schwab aren’t the go-to places for this kind of investment.  Some of the linked companies in this post are a good place to start your research.  Here they are:

How to fund a self-directed account?

Once you have your account set up, there are two basic ways to add funds into the account

  1. You can convert an existing retirement account into a self directed one.  This will of course require the support of your custodian company. And, all the IRS rules about taking possession of the funds apply.
  2.  Once the account is set up, you can start contributing much as you would a regular IRA.  The specifics will vary depending on which account custodian you’ve chosen.

How do you get your money out?

The short answer is just like any other retirement account: you cannot.   The longer answer is that you cannot until you reach the minimum age to begin distributions without paying a penalty (all the usual IRS rules apply regarding early withdrawals).

So you’ve invested in a nice little rental property.  You’re earning a great return on your investment.  What do you do with the proceeds?  You can either re-invest in the existing property (e.g., pay down any non-recourse loan balance) or save the cash to buy your next property!  Either way, don’t just take a distribution without ensuring you understand the rules or you may end up paying a penalty and income taxes.

Some other pitfalls of a self-directed account:

  • Cannot use money to interact with “disqualified parties.”  For reference, here’s the list of folks who cannot interact with the funds in the plan:
    • The IRA owner (don’t think you’ll buy a beach rental for your family this way!)
    • The IRA owner’s spouse
    • Ancestors (Mom, Dad, Grandparents)
    • Lineal Descendents (daughters, sons, grandchildren)
    • Spouses of Lineal Descendents (son or daughter-in-law)
    • Investment advisors
    • Fiduciaries – those providing services to the plan
    • Any business entity i.e., LLC, Corp, Trust or Partnership in which any of the disqualified persons mentioned above has a 50% or greater interest.
  • You likely won’t get any advice from the custodian on the tax implications, investment soundness, or legality of any moves you make.  Make sure you know what you’re doing or that you’ve hired a team who can give you good advice!
  • Variable costs.  I’ve not seen many published values, but Clint Coons suggests setup fees run $1500-$2000 and $300-$700 annually.  Depending on your asset base, a self-direct IRA will likely cost more than typical IRAs that limit your investment options to stocks and bonds.


What am I planning to do?

For now I’m focusing on more traditional approaches:

  1. I don’t have enough cash in my non-401(k) retirement accounts to justify the transaction costs of a self-directed IRA…and I’m not quite ready to quit my day job!
  2. I still believe in diversification, and real estate makes up a slightly out sized portion of our total net worth.