Your Disease Risk

Your health can definitely have an impact on your finances.  For example, I recently wrote about how losing 10 pounds can save you thousands of dollars on your life insurance.  So, even though it's not directly about personal finance, I recommend taking a look at Your Disease Risk, a site developed by the Harvard Center for Cancer Prevention.  It was mentioned in an article today in the Wall Street Journal.

After answering a handful of basic questions (such as your weight, height, about your diet, exercise, smoking, etc.), it assesses your risk of developing diseases such as heart disease, diabetes, stroke, osteoperosis, and various types of cancer. The good thing is that the site doesn't leave you hanging after reporting that your at high risk of developing one of these diseases.  It also makes some general recommendations on how to decrease your risk.

Investor Returns Trail "Regular" Returns

Earlier this month, Morningstar announced that it is going to begin reporting what they call "Morningstar Investor Return" in addition to the traditional time-weighted returns of mutual funds. Time-weighted returns are the returns that you usually read about. They are the return that you would have received on your investment had you put it in at the beginning of the the period, left it alone and reinvested the dividends along the way.

This contrasts with the Morningstar Investor Return, which is their term for dollar-weighted return. This measures what investors have actually achieved in the fund. The returns are weighted by the amount of money in the fund at the time. So, if a fund did really well when it had lower assets, attracted a lot of new money, and then didn't do so hot, its dollar-weighted return would be lower than its time-weighted return.

If investors are good at timing their moves into and out of funds (piling in money before a period of good performance and bailing out before a period of bad performance), the dollar-weighted return would exceed the time-weighted return.

So, what does the evidence show?

According to an interview by Mark Hulbert of Morningstar's managing director Don Phillips:

Phillips provided the following telling statistics, which were based on dividing all mutual funds in Morningstar's database into four groups according to the volatilities of their returns relative to comparable funds. Consider first the quartile of funds with the greatest relative volatilities: On average, their dollar-weighted returns were just 62% of their time-weighted returns.

In contrast, the quartile of funds with the lowest relative volatilities exhibited dollar-weighted returns that, on average, were 98% of their time-weighted returns.

So, the lowest-performing group had dollar-weighted returns 38% below time-weighted returns. The lowest volatility funds were only 2% below their time-weighted returns.

Interestingly, in a table accompanying the article, Hulbert looked at the top 25 funds in terms of assets and picked out the ones where the dollar-weighted returns trailed the time-weighted returns by more than 1% annually. What was notable to me is that two of these eight funds were index funds from Vanguard. This suggests that despite the buy-and-hold philosphy that often accompanies index investing, many people also try to move in and out according to when they think a particular index is overvalued or undervalued. As the numbers show, investors haven't been very succesful when they try to time the market.

Need Help Choosing Online Savings Account

I've been with ING Direct for years. One of the things I like about them is the ability to easily set up subaccounts--for example, one for saving for a car, one for home repair, etc. Also, it's easy to buy CD's from the main account, without having to setup a whole new account and going through the whole setup and verification process again. One problem has been that they lag in rates (4.4% compared to 5.05% at HSBC Direct or 5.5% at E-Loan). More of a problem for me is that they've apparently changed their linking policy over the last couple of years and won't link to my Fidelity account (which is actually a United Missouri Bank account that is swept into/out of by Fidelity each day). So when I went to add a link to my main savings account at Fidelity, they rejected it.

I had written a few weeks ago that I felt that interest rates on such accounts were topping out and the 5.5% at E-Loan was likely to be the top for a while. So, I was all set to move to E-Loan. The problem there is that you have to setup a whole new account for each "subaccount" you'd like and for each CD you want to purchase. You have to go through the whole procedure of setup and verification all over again each time. Also, there's a $5,000 minimum so I can't setup that car account yet since I don't have that much saved up for it.

Any suggestions? I'd like a place where I can (in order of importance) 1.) link to my Fidelity account, 2.)easily create subaccounts or extra accounts, 3.) setup monthly transfers from a linked account to the savings account, 4.) get a decent rate, and 5.) easily buy CD's. I know I can't get that all in one place, so I'd settle for getting the first three or four.

Scorecard: Index v. Active

How are active managers doing compared to indexes this year? As cited in Sunday's New York Times article by Paul Lim, so far through September 30th of this year, only 28.5% of actively managed large cap mutual funds were beating the S&P 500 index according to a new study by Standard and Poors. When looking at the most recent quarter alone, only 20% beat the S&P 500.

One reason why the percentage has been low lately is that it tends to be more difficult to beat the index when market leadership changes. Energy and small cap stocks have been outperforming for years, but that changed lately and active managers haven't kept pace. However, it's not just over the short-term that the index has been outperforming actively managed funds, however. Over the last five years, only 29.1% of large-cap funds have managed to beat the S&P 500.

What I found a little surprising was that even a smaller percentage (19.5%) of actively managed small-cap funds managed to beat their benchmark, the S&P 600 (an index of small-cap stocks, not the S&P 500 plus the next 100 stocks). This goes against the argument that it's easier to outperform the market in small-caps due to less competition and less institutional research coverage of smaller cap stocks.

Getting back to large-cap stocks, Lim writes that even though the S&P 500 index surged in popularity in the late 90's (when mega-cap stocks like Microsoft and Cisco were driving impressive gains of more than 20% a year) indexing advocates like John Bogle (founder of Vanguard) point out that indexing is even more valuable when returns are more modest. During a period in which returns average 6-7% a year, for example, transaction fees, taxes, and investment management fees of actively managed funds will eat up a proportionately larger share of the returns.

Judging by the numbers, it's hard to make a case for actively managed funds either in the short or long term.

Percent of Actively Managed Large-Cap Funds that Beat the S&P 500

Staples' Not So Easy $250 Rebate

I don't want to make this blog an outlet for consumer complaints, but I recently had a problem with Staples.

The other day I saw that HP had a 50% off rebate on a LaserJet 3055 All-In-One.  The rebate was for $250.  Being a fan of Staples, and having just tried out their EasyRebate online submission for the first time for another purchase the other day, I figured I'd buy the printer from Staples so I wouldn't have to go through the usual hassles of sending in barcodes, forms, and hoping they'd pay the rebate, especially since it was going to be for $250.

I ended up buying it through staples.com and received the printer the next day.  Then, when I went to submit the "EasyRebate" online, it said that I'd need the product's serial number and to come back when I had it.  Even though I had it already, there was no way to continue and put in the serial number.  I waited a couple of more days and tried again.  Still no luck.  After contacting rebate support through an online form, I received an email saying to try it again and if it still doesn't work, to call the number on the rebate form.  Well, it still didn't work, and since there isn't a rebate form for EasyRebates, I didn't have the number, either.  After digging up one up through the website, going through the interactive phone maze, reaching a live person, getting transferred, and then waiting on hold for about 5 minutes, they then played a message that they were sorry and weren't able to take the call at this time, and hung up.

After calling through the maze again, I reached someone who basically said they think the problem was because the printer was sent from a different warehouse so the item number they use is coded differently.  My only solution would be to call another 800 number, this time at HP to find out how to submit a rebate to them directly, since they're the ones that ultimately handle the rebate (well, I guess more correctly, they're the ones that hire the company to process the rebates) or to Google "HP rebate" to see if I could find a form.  I tried the latter and finally found the form and will end up submitting it the old fashioned way.  That's OK with me, but my frustration was that it took a half an hour of my time for them to tell me, we can't help you, Google it yourself.  This was made more frustrating by the way they promote EasyRebates as an easier alternative to regular rebates.  If it was for a $10 rebate, it definitely wouldn't have been worth my time and I would have given up.  Since it's $250, I'll stick it through and have to hope that the rebate doesn't get rejected for some reason.  I'll report back what happens.

My New Credit Card

Thanks to Jonathan at MyMoneyBlog, I finally decided to switch my main rewards credit card (used for business purchases) to the Starwoods Preferred Guest Business American Express Card (the personal version of the card basically has the same features). I had been using a United MileagePlus Visa Card, which gave me 1 mile/dollar spent.  There are a few advantages of the SPG Amex card:

1. I can use the Starwood points (earned at 1 point/dollar spending other than at Starwood properties (you'll get a bonus there)) to transfer to a number of different airlines, most at 1:1 (United is a notable exception at 2 points:1 mile).


2. You get a bonus 5,000 miles when you transfer 20,000 points, so you really get 1.25 miles/point.


3. You could instead use the Starpoints for their original intended purpose, staying at a Starwood hotel (like Sheraton, West, St. Regis, Four Points by Sheraton, or W Hotel).  There's 6 different categories, which require different amounts of Starpoints.  The nice thing is there are no blackout dates, so if they have a room available, you can book it using your Starpoints.  Since hotel rates have been rising, so has the value of a Starpoint.


4. The card has no fee for the first year and just $30 annually after that.

Also, there's a 10,000 point bonus after your first purchase.  I'm not signed up as an affiliate or anything so I don't get anything if you apply for the card, I just think it is one of the better travel reward cards out there and definitely better than my old United MileagePlus Visa card.  If you do apply, you might as well do so through MyMoneyBlog's post since I assume he gets a referral fee, or you can do directly through Amex here.  One caveat is that the points expire after a year of inactivity (you don't have to redeem them with a hotel stay, just have some activity, such as earning points through purchases on the card).

Two Money Tricks

Most of the time we know what we have to do to save money. The problem is lack of knowledge, it's lack of discipline. When the money's in our checking account, we spend it. That's what it's there for, isn't it? Sometimes we just have to trick ourselves into saving.

Kiplinger.com recently posted an article on Ten Financial Tricks and Treats. Here's two of them that I've either found helpful or plan to try:

1. Use cash for all your expenses. Right now, I try to minimize the amount of cash I use and use a credit card for most expenses. I reason that it's easier to track since I can download my credit card transactions right into Quicken and I also get a 1% rebate from my credit card company. The problem is that it makes it harder to stick to a set amount each month. Next month I plan on taking out the amount of cash I need for the month (not including things I'd normally pay by check or online such as cell phone bills, utility bills, etc.) and not using my credit card. I'm sure it will help me make my spending more conscious. Right now, it's too easy to just put it on the card and not realize how much it adds up until I get the monthly statement.

2. Save regularly for recurring expenses, too. I do a pretty good job of "paying myself first" by having my paycheck broken up into two direct deposits, one for savings at my brokerage account, the other for monthly spending in my checking account. The problem is when I receive bills like my semi-annual car insurance bills. I sometimes have to cheat a little bit by "borrowing" from savings. The problem is that I don't always get around to paying myself back (good thing I don't report myself to a credit bureau). To avoid this, I'm going to add up such expenses for a year, divide it by 12 and set aside that amount in a separate account each month. I'm also setting aside a set amount each month in a separate account for our next car purchase in about 4 years. Otherwise, I'll find it's too easy to blow any savings from scrimping by going over budget on that next trim level.

None of these steps are really necessary if you can just set a budget and stick to it. For those of us who can't commit to that 100%, at least there's tricks that can help us overcome our shortfalls and help us on our way.

Will Hybrids Solve Our Oil Problems?

The EPA and DOE yesterday released the 2007 Top Fuel Economy List which featured the Toyota Prius hybrid as the car with the best fuel economy at 60 mpg city/51 mpg highway (at least based on current official EPA reported mileage, which is higher than real world mileage according to most tests). This brought to mind a recent report I received from AllianceBernstein entitled Ending Oil’s Stranglehold on Transportation and the Economy: The Emergence of Hybrid Vehicles, which makes the case that hybrids will greatly reduce our dependency on oil in the coming decades.

Today, transportation accounts for about 50% of oil demand. Of that, 45% is accounted for by light-duty vehicles (cars, SUV's, minivans, and light trucks). AllianceBernstein figures that light-duty vehicles will use less oil by 2030 than they do today. After reaching 21.5 million barrels a day in 2010, close to what the International Energy Agency projects, they figure demand will fall to 16.1 million barrels a day (half of what the IEA predicts). This is despite the increase in number of vehicles. The difference: better fuel economy due primarily to hybrids.

Hybrids are predicted to gain mass acceptance not only due to lower costs due to fuel efficiency gains, but also due to superior features, including faster acceleration and lower emissions. They also don't face some of the hurdles that alternative fuel (such as ethanol) vehicles do--you can use them just like you use a "regular" car now, you don't need a new infrastructure to deliver an alternative fuel. Their main drawback right now is the price premium, which is expected to drop rapidly since a large component of the cost is electronics and batteries.

The next step beyond our current hybrids is plug-ins. While today's production hybrids cannot use electrical power alone for significant distances, that changes once higher capacity batteries (which will be charged by plugging in, rather than solely through regenerative braking and the gas engine) become more affordable. According to AllianceBernstein, 40% of Americans travel 20 miles or less a day and 60% travel 30 miles or less. If a plug-in hybrid could go just 20-30 miles on a charge, many people would never have to use gas for routine driving, but still have it available anytime they needed it for longer trips. You can see how that would greatly increase MPG. There are already some people who have modified their Prius' in this way (albeit at a high cost).
The report considers the implications:

If most consumers recharge the batteries in their plug-in vehicles from the electrical grid, the fuel ultimately powering their vehicle is likely to be coal, natural gas or uranium, rather than oil...This could reshape the foreign policies of such oil-importing countries and regions as the US, Japan, Western Europe, China and India. The economic and political implications for the few oil-rich exporting nations, by contrast, are likely to be grim. Indeed, the transition to hybrid power could change the world!

That would be great news for us. I'm wondering, though, if there's a self-limiting mechanism in this march towards hybrids. As the recent volatility in gas prices have shown, we seem to worry only when the prices are high and quickly forget about the long-term when prices are low and oil is plentiful. If hybrids do help to keep a cap on gas prices by lowering demand, that would make hybrids themselves less attractive, slowing the development of economies of scale.

Maybe an increase in gas taxes would help? I'm sure that would be politically impossible right now but perhaps concerns about security in the Middle East will be enough to tip the balance in the near future.

Retraction: Costco Doesn't Save Me Money

I've only been blogging for about a month, but it looks like I'll have to retract something I posted recently. In my post on 25 Ways I Save Money, one of the ways I mentioned was using Costco. It looks like I'll have to retract, or at least amend, that statement. The problem is that when shopping for stuff like eggs and milk (which are usually a great deal cheaper at Costco than our regular grocery store), I end up being tempted by the big screen flat panel TVs, the books, the tools, and all the other stuff that I didn't go there intending to buy.

The problem isn't that these things aren't a good deal at Costco. They usually are. I think Costco almost always offers a great value and I love their selection. The problem is that I didn't really need these things to begin with. I'm not saying that I've bought a flat panel TV from there on impulse, just that everytime I go in there, I think "Hmm, that's a great deal on that TV, maybe we should get a new one since the price is so good." Or, I end up picking up a cool flashlight or a book or a software package, just because it's a good deal.

It happened yesterday when I went there to get some groceries and ended up buying a two pack of those windup flashlights with built-in radios. I wiped out any savings from the eggs, milk, and groceries that we bought by buying those flashlights. I reasoned that Costco always has good prices and that I could leave these flashlights in the cars without having to worry about the batteries running out. Still, if I hadn't of seen them there, I wouldn't have gone out of my way to buy them and I would have been $23 richer.

Do you ever encounter the same "problem" at Costco?

A Free House Can Be Too Expensive

A recent post at PFAdvice on 10 Hidden Costs People Fail to Consider reminded me of the dangers of determining affordability of a home by just focusing on the mortgage payments which have been faciliated by easy credit, low interest rates, and "innovations" like interest-only mortgages. Even if a house is affordable--that is, the bank says it will lend you the money--doesn't mean that it's not too expensive for you. In addition to costs like maintenance, there's also the cost of furnishing, upkeep, etc. which tend to go up with the price of the home. Often overlooked, there's also the additional cost of ratcheting up our lifestyle.

An extreme example of this is a family who won a gigantic, well-equipped, house, plus $250,000 and a big SUV, in the HGTV Dream Home Sweepstakes. An article in Money magazine describes the 6,000 square foot house:

Each feature seemed more fantastic than the one before: the massive great room with its 30-foot ceilings and six-foot-wide fireplace; the master bedroom suite--in effect, a separate cottage connected to the main house by a breezeway, replete with a hot tub; the indoor elevator and the outdoor pool and fireplace; the guest house by the lake...The house is really three structures: a main building, a separate master bedroom suite and a lakefront guest cottage. Some 550 tons of limestone went into the construction of the main house, much of it used to build the 30-foot fireplace in the great room. Ten cedar trees were used to support the beamed ceiling, the trunks shaved down to square posts around the perimeter. Six sets of glass french doors let in sweeping views of the yard and lake.

You get the picture. The problem is that even though they were given the house and $250,000, they still can't afford it.

Upkeep is $2,900 a month. Homeowners insurance runs $7,000 annually. The insurance and gas bill on the Cruz fleet (they own seven vehicles, including the SUV they won in the contest) costs $1,000 a month...Then there are the incidentals. Fixing up the family boat, which got little use in Illinois, cost $11,000. A dog run for their three dogs was $6,000. Between family and friends eager to see the Dream Home, the Cruzes have company nearly every weekend. The tab: about $1,000 a pop. They've donated $40,000 to charity. And then there have been the splurges--$5,000 on Christmas presents; $2,000 for scuba lessons; an $1,800 go-kart.

So now, after a year in the big house, they're down to $36,000 and have put the home on the market. This example may be extreme, but it does remind us that we also have to factor in the associated costs (like upkeep, maintenance, etc.) AND the other costs that are rarely factored into the equation: lifestyle costs. Call it the "keeping up with the Jones'" factor.

We tend to judge our standard of living in comparison with our peers (such as our neighbors). If we move into a neighborhood that we can barely afford we're going to subconsciously feel the need to spend even more to have the same type of vacations as our neighbors or drive the same types of cars. The end result: we're either less happy or have less money, or both. If we don't factor in all of these costs, even a free house can be too expensive.

Clements' Nine Tips for Investing in Happiness

Jonathan Clements at the Wall Street Journal on Sunday pointed out that academic studies suggest that having more stuff doesn't equate to a permanent increase in happiness (while we may get a temporary boost from acquiring something new, the boost generally doesn't last). Based on his review of some studies, he suggests the following nine tips for investing in happiness:

1. Make time for friends. According to a 2006 report by the Pew Research Center in Washington, 43% of married people say they are "very happy," versus 24% for those who aren't. Seeing good friends regularly can also increase happiness.


2. Foget the pay raise. "Soon enough, you are taking the extra money for granted and you're feeling dissatisfied again. Experts refer to this as 'hedonic adaptation' or the 'hedonic treadmill.'" Now, I don't think he means that you should turn down any pay raises you're offered, just that you shouldn't focus on the extra money as a source of happiness.


3. Don't trade up. If you move to a neighborhood where those around you are wealthier than you, you'll be reminded of your relative financial standing. Being around those who have more makes us less happy with what we have.


4. Keep your commute short. In addition to being unpleasureable, a long commute can also be unpredictable, making it harder to adapt to the hardship. It also gives us less time for leisure.


5. Count your blessings. "Instead of obsessing over your neighbors' riches, try focusing on the riches you have -- and that will likely make you feel happier."


6. Enjoy a good meal. Eating a good meal is one of those activities that brings us pleasure.


7. Challenge yourself. Be more active, maybe starting an exercise routine, instead of vegging in front of the TV.


8. Volunteer. Not only does volunteering make you feel good, it also helps to be around others who do good.


9. Give it time. Surveys have shown that we tend to get unhappier as we approach our 40's but then rebound from there.

I think these tips for investing in happiness can have just as much of an impact on whether we have enough than tips on investing in stocks, bonds, etc. Since in some sense what we really want out of money is the happiness it gives us, by being happier without spending more, we increase our wealth.

Carnival of Personal Finance #69

The latest edition of the Carnival of Personal Finance is up at Carnival of Personal Finance.
My favorite posts include:

• The Benefits of Living Like a College Student by 2Million.


• Financial Checklist for Disaster Preparedness at Experiements in Finance.

I hope you'll also take the time to look at my post on my prediction for interest rates on online savings accounts.

Investing Advice from the Best Performer Among Endowments, Pensions, and Foundations

David Swensen has been investment manager of Yale's endowment for 21 years. Over that time he's averaged a 16% annual return, better than any other endowment, pension, or foundation over that time period. Yale's $18 billion endowment is noted for including investments in many alternative areas, such as private equity, venture capital, timber, and oil and gas. So, it's worth noting that his advice to us as individual investors in his book Unconventional Success is . . . to buy index funds.

The article accompanying his recent NPR interview lays out his basic advice:

• Beware of the Mutual Fund Myth. Swensen is especially critical of actively managed mutual funds run by for profit companies. He points out that they have an inherent conflict of interest. Basically they make money by charging us fees which take away from our profits. Most mutual funds are also far too big and own too many stocks. When you add in commissions and the effect of market impact from all the trading to the fees and taxes incurred, he figures you only have a 1 in 100 chance of beating the market with an actively managed mutual fund.


• Invest in Non-Profit Index Funds. Since you're unlikely to beat the market in an actively managed fund, he suggests investing in low-cost index funds from a non-profit company. I guess Vanguard's the one that comes to mind. I don't know of any other non-profit mutual fund companies. There are other index funds and ETFs that also have very low costs, so those might be appropriate as well, although I don't know if Swensen has reasons for recommending a non-profit other than cost.


• Pick the Right Investment Mix and Keep Your Money There. Don't try to to time the market and increase your bets on bonds, for example, at the expense of U.S. stocks. In doing so, you're effectively saying that you're going to beat the professionals who manage billions of dollars. As noted in the NPR interview, "Swensen has a team of 20 analysts -- and a small army of boutique investment houses -- working long hours to predict which way certain market segments or individual stocks will move. Who do you think is going to buy and sell at the right time? Remember: If somebody buys low and sells high, somebody else is buying high from them. You don't want to be that person."


• Rebalance Your Portfolio Regularly. This means selling funds that have done well and buying ones that haven't to bring them back to your initial allocation. In doing so, you'll have bought more shares of the ones that had been down and can take advantage of that as they come back.

Of course, each individual's situation is different so it's impossible to define an appropriate asset allocation for everyone, but Swensen at least makes a suggestion that would be appropriate for many long term investors. He suggests (along with a Vanguard suggestion for the each allocation):

• 30% in Domestic Equity.  Vanguard Total Stock Market Index Fund (VTSMX).


• 5% in Emerging Markets Equity.  Vanguard Emerging Markets Stock Index Fund (VEIEX).


• 15% in Foreign Developed Equity.  Vanguard Total International Stock Index Fund (VGTSX).


• 20% in REITs.  Vanguard REIT Index Fund (VGSIX).


• 15% in U.S. Treasury Notes and Bonds.  Vanguard Short-Term Treasury Fund (VFISX), Vanguard Intermediate-Term Treasury Fund (VFITX), and Vanguard Long-Term Treasury Fund (VUSTX)


• 15% in U.S. Treasury Inflation-Protection Securities (TIPS). Vanguard Inflation-Protected Securities Fund (VIPSX)

That's it.  In 6-8 funds, he lays out a low-cost portfolio that he expects would beat the vast majority of portfolios out there, whether professionally managed or not.  I think it's a great starting point.  If you're not already well diversified across the above categories, it's definitely worth taking a look at this as a basis for a sound portfolio.

Will We Treat Future Generations Fairly?

That's the subtitle of Fed Chairman Ben Bernanke's speech at the Washington Economic Club on Wednesday this week. In it he discusses the implications of the aging of the baby boomers and the ongoing increases in life expectancy. Economically, it's not a pretty picture, but it'll only get worse if we keep putting off doing anything about it.

...the broader perspective shows clearly that adequate preparation for the coming demographic transition may well involve significant adjustments in our patterns of consumption, work effort, and saving. Ultimately, the extent of these adjustments depends on how we choose--either explicitly or implicitly--to distribute the economic burdens of the aging of our population across generations. Inherent in that choice are questions of intergenerational equity and economic efficiency, questions that are difficult to answer definitively but are nevertheless among the most critical that we face as a nation...the fiscal consequences of these trends are large and unavoidable. As the population ages, the nation will have to choose among higher taxes, less non-entitlement spending, a reduction in outlays for entitlement programs, a sharply higher budget deficit, or some combination thereof.

He points out that if we tried to finance projected entitlement spending (Social Security and Medicare) entirely by revenue increases, our tax burden would have to go up by one-third over the next 25 years. If we tried to address it by cutting non-entitlement spending, we would have to cut the federal budget by $700 billion in today's terms. If we increase the federal budget deficit to pay for it, we shift the burden of paying for government spending to future generations.

In addition, Bernanke points out that the aging of the population is likely to lead to lower average living standards, all other things being equal. As the population ages, the share of working age (and employed) population decreases. Basically, this implies that the level of output per person must be lower since each worker's output will have to be shared among more people.

Bernanke argues that one way to mitigate these affects would be to increase our national savings rate, which could be used to increase our nation's capital stock which would make future workers more productive. The problem is that saving more now means that we need to consume less or work more. The tradeoff: "We can mitigate the adverse effect of the aging population on future generations but only by foregoing consumption or leisure today."

Citing a stylized model (i.e. a model that's not realistic, but illustrates the implications of changing saving and consumption now versus later) that the Fed has created (see the speech itself for more details), he points out

...the decisions that we make over the next few decades will matter greatly for the living standards of our children and grandchildren. If we don’t begin soon to provide for the coming demographic transition, the relative burden on future generations may be significantly greater than it otherwise could have been. At the heart of the choices our elected representatives will have to make regarding the distribution of these costs across generations will be an issue of fairness: What responsibility do we, who are alive today, have to future generations? What will constitute ethical and fair treatment of those generations, who are not present today to speak for themselves?

I think Bernanke brings up some important points. By not doing anything to address these issues now, we're really putting the issue on future generations by default. As the father of three young children, that would be like me saying I'm going to keep spending and not worry about the bill because I'll make them pay for it when they grow up. We really owe it to our children to educate ourselves about the hard choices that we'll collectively have to make and to push our elected officials to look beyond their next election. Since our children (or our future children) don't have any voice, we'll have to speak for them.

Dow Hits Record High. Uh, What is the Dow?

You may have heard in yesterday's news that the Dow closed at a record high, but what is the Dow really?

When people refer to the Dow, they are talking about the Dow Jones Industrial Average (DJIA). It is an index of just 30 U.S. stocks, picked by the editors of the Wall Street Journal. Despite the word Industrial in the name, it actually can include any company except for transportation companies and utilities. It's currently made up of:

3M
Alcoa
Altria Group
American Express
American International Group
AT&T
Boeing
Caterpillar
Citigroup
Coca-Cola
E.I. DuPont
Exxon Mobil
General Electric
General Motors
Hewlett-Packard
Home Depot
Honeywell International
Intel
International Business Machines
Johnson & Johnson
JPMorgan CHase
McDonald's
Merck & Co.
Microsoft
Pfizer
Procter & Gamble
United Technologies
Verizon Communications
Wal-Mart Stores
Walt Disney

A unique feature of the Dow is that it is a price-weighted index. Basically, when it was first started in 1896, they took the prices of the original 12 stocks, added them up, and divided by 12 to get the average. Since then, they have changed the divisor so that things like stock splits don't change the average, but it is still price weighted. So a $1 movement in a $20 stock has the same impact as a $1 in a $80 stock, even though the percentage change in the $20 stock is much higher. This is one of the main criticisms of the index. Most popular indexes, such as the S&P 500, are capitalization weighted, which means that the weight of the components in the index are determined by the market cap (you can think of it as the number of shares x the price).

So what's the significance of the Dow hitting a high? Not much, really. Since it's only 30 stocks, it's not necessarily representative of the market as a whole, especially smaller cap and international stocks. Since it's price-weighted, it's not even necessarily representative of the fortunes of the 30 stocks in the index as a whole. Really the main reason that it is mentioned so often in the media is force of habit. It's the oldest U.S. stock index and has been quoted for over a century. So, the next time you hear that it's hit a record high, take note of it for trivia's sake, but don't change your investing plans.

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The Beginning of the End . . . of Rate Hikes on Online Savings Accounts

Last week, I mentioned that E-Loan just came out with its version of the online savings account, offering 5.50% APY. At the end of the week, Emigrant Direct LOWERED its rate to 5.05%, matching HSBC Direct's current rate. It's the first time in recent memory that a major online savings bank lowered its rate. Based on the this--plus the fact that the Fed maintained its target for the federal funds rate at 5.25% for the last two open market committee meetings--may mean that we are near the top of the rates for online savings accounts for a while.

In fact, I'll go out on a limb and say that we won't see anything higher than E-Loan's 5.50% at another major online bank for at least a couple of years. Fortunately, if I'm wrong, you can always switch accounts since doing so wouldn't cost you money like it would if rates went up and you sold a bond.

I'm sure ING Direct is glad to hear this. Since they were the ones who started this niche and probably have the largest base of deposits, it was hard for them to keep up with newer entrants, since newers entrants didn't have as many deposits on which to pay a higher rate.

I'm planning on switching over to E-Loan from ING Direct, since I think they'll be leading the pack for a while (partly since they're the newest) and I don't think anyone will surpass them for a while. I hadn't switched to Emigrant Direct or HSBC Direct in the past, mainly because I kept thinking that someone would always come along and outdo each other for the highest rates.