I am currently reading a book titled “How I Invest My Money,” edited by Brian Portnoy and Joshua Brown. The book is a collection of short essays by successful money managers, investment advisers, financial columnists and others in the financial industry. Each essay is a personal reflection of how that person manages his or her finances.
My overwhelming takeaway from these financial professionals is that there is no one-size-fits-all way to manage finances. Although there are certain key investment tenets that financial professionals tend to follow, the implementation of a financial plan or strategy is entirely dependent on the objectives and values of the individual, and his or her family.
As a certified financial planner, I have a principal investment strategy and approach that I think is useful for investors. However, no two people are the same.
What I’ve come to realize is that trying to ascertain what money means to someone is more difficult than the implementation of a strategic plan. I can design an investment portfolio and tax-sensitive financial plan, but it is useless if I can’t understand how a person perceives money and the goal of wealth accumulation.
A concrete example is that of having a mortgage on your home.
With interest rates at historic lows, many people can currently get a 30-year mortgage that might be less than 4 percent.
From a strictly analytical standpoint, it would make little sense to pay off a mortgage early with such low rates.
An investor willing to take a little bit of risk has historically seen investment returns greater than 4 percent, so, rather than pay down this debt, it would make more sense to keep the mortgage and invest the cash.
However, in reading how investment professionals think about homeownership and mortgages, many of them have decided to pay off their mortgage early, even with total awareness of the fact that they could probably “do better” by keeping the mortgage and investing the excess.
For many people, the independence and financial freedom of having a home paid off is more valuable than the potential financial benefit of keeping a mortgage. Maybe they intend on retiring early and they don’t want to have to worry about the monthly payment, or maybe they just like the peace of mind of not owing money to the bank.
Another important consideration in this decision is risk. Having a roof over your head debt free may feel safe. On the other hand, a large share of your net worth may be tied up in the value of your home. During the financial crisis in 2008, homeowners who saw their net worth plunge along with their home equity learned that this is hardly a risk-free proposition.
I am often asked the question, “Should I pay off my mortgage?” My answer is that it depends on what you value. Are you looking to maximize financial returns over the long term, or is there a more important lifestyle objective that you want to achieve?
Few financial decisions can be made strictly on paper.
Everyone perceives money and investments through a personal lens. A family vacation is a lousy financial investment, but it would be hard to argue that bringing a family together for a bonding opportunity is a waste of money.
Likewise, a second home may be a poor financial decision, but it could end up being the place where extended family comes together.
It comes down to what you value and the objective of money.
Does money mean financial freedom for yourself and your family? Is it the ability to give back to charity? How much do you value retiring early? Is it important to put your kids through college without debt? These are all fundamental values-based questions that cannot be answered by a formula.
My advice to anyone is to take some time to consider why you invest prior to determining how to invest. This conundrum can be especially difficult for married couples that come from varied backgrounds and think about money and wealth differently.
People have ingrained money scripts based on how they were raised and their earliest memories of money. Someone who grew up in an unstable financial situation is likely going to have a very different relationship with money than someone who grew up wealthy. It is rare that two people will be completely in agreement on their financial objectives and how they think about money. Communication and common understanding become essential to a successful financial plan.
There are some fundamental investment and financial planning decisions that all investors face. Do you use individual stocks or mutual funds? Do you pick active or passive funds? How do you best avoid taxes? Should you buy U.S. companies or international companies? Do you need bonds in your portfolio? How much should you keep in cash? How much risk should you take? And many more.
But, the hardest questions start with what money means to you and how it will affect your life. Once you can answer those questions, you can start to shape an investment and financial plan that aligns with your values.
A good financial planner, who listens carefully to what you value can help by asking questions that provide a logical framework that will focus on your personal values and objectives.