Thursday, April 16, 2015

Avoiding budget exhaustion

I have been trying to get our family on a consistent budget for something like two years, and it has never really worked. My wife and I fell into a nasty little pattern in which I became the designated grinch and she the designated spendthrift. I think we broke through the past couple of months, finally.

Every couple - or indeed, person! - has to negotiate these things with/for themselves. But I have a couple of observations which perhaps generalize.

  1. If you think somewhat analytically about money, you may have internalized the idea that one of money's main purposes is to make more money. I think this is a good framing, but realize that although it seems obvious once you see things that way, most folks are more goal-oriented. For them, budgeting is best expressed in terms like "How soon can we move into a 3-bedroom house at this savings rate?" Just saving money to maximize utility is not intrinsically motivating for such folks, even if it is for you or me, the kind of person who reads personal finance blogs.
  2. Narrow the budget down to "elastic" items, i.e., things you have some control over. For us, that means: food, shopping (catch-all for most optional purchases), gifts, kid stuff, entertainment, utilities, and of course savings. Mint records all other transactions, and I categorize them, but I don't see the point of a separate budget line item for, say, our (flat monthly) internet bill. The only reason utilities is in there is so we do worry a little about saving electricity. Don't overload the non-budgeter in your family with non-actionable information about insurance premiums etc. (These things are worth discussing maybe twice yearly or something, but the rest of the time they should be invisible from your budget.)

Thursday, April 9, 2015

Savings rate versus return

If you have unlimited attention to learn about both budgeting and investing, you have plenty of time to optimize both your savings rate and the returns your money is getting.

For the rest of us, it probably makes sense to prioritize one or the other first, attention being finite.

I bring this up because smart folks I know tend to focus excessively on returns, when their budget is lower-hanging fruit. I do this.

I'm not sure how to quantify the tradeoff. It's complicated because savings has a clear opportunity cost ($1 saved is $1 not spent on chariot races), whereas if you're investing with money in, say, an RRSP it's already "written off" as not spendable until retirement.

Anyway, the imprecise way I think about it is:

(1) How elastic is your savings rate? Would saving an extra 10% of your paycheque per month be fairly easy to accomplish (e.g., by spending less on luxuries or cutting down electricity usage), or are you already about at the limit of how stingy you want your budget to be?

(2) How much money do you already have saved? If you have a fair bit saved (say, $100k and up), each 1% per annum of return is an extra $83 per month of income (albeit some may be in an RRSP, so untouchable for now). Compare that to the most you could hope to pare away from your budget.

As I begin this blog, I find myself in the regime where budgeting offers tons of low-hanging fruit. I only have about $10k of liquid investments. Annual return of 1% on that is only $8/mo, so it's pretty obvious I should focus on putting more away, especially when my electricity bill is inexplicably high (more on that another time perhaps). The budget is the leakiest part of the ship, for now.

Don't optimize for mote removal when you've got beams to worry about.