On Investing Ethically

Two recent posts, one on Christian Personal Finance, the other on Consumerism Commentary, discuss ethical, or as it is known in the trade, socially responsible investing. For those of you blissfully unaware, this is the notion that when investing your money you avoid companies that do things you think are morally reprehensible.

Back when I was just starting out in the investment world I had some involvement in socially responsible investing. I worked for a large institutional money manager. Our clients were pension funds, endowments, and the like and each one had its own account, sort of like a mutual fund with only one shareholder. We had hundreds of them and almost all were perfectly identical, holding the same stocks in exactly the same proportions.

The non-identical ones had “client restrictions.” Most of those were prohibitions against investing in certain industries to which the client, often on religious grounds, objected. I remember we had several accounts associated with the Catholic Church. They prohibited investments in any company even vaguely involved in abortion and in, for reasons I cannot recall, for-profit hospitals. We also had a few accounts associated with the Lutherans, who prohibited us from putting their money in companies that made alcoholic beverages or were involved in gambling. They were fine with abortion and hospitals, just as the Catholics were indifferent to booze and gambling. Another set of accounts prohibited arms makers and we had several different levels of prohibitions against tobacco.

It was an administrative mess and my job (well, a small part of my job) was to simplify and automate things so that the portfolio managers would not have to spend time adjusting each account to accommodate the restrictions. I built a clever system that boiled down to finding a second-choice stock in a similarish business to substitute for a forbidden stock. So, to cite the only example I can remember, when most of the accounts bought cigarette maker Phillip Morris, the no-tobacco accounts got McDonald’s instead.

This was working well for some time when some genius in the marketing department discovered that not only did the restricted accounts have somewhat different returns than the normal account, but that on average they consistently did worse. He called me in a huff and I very patiently explained to him that of course they underperformed. They were supposed to. The normal accounts had the portfolio managers best picks in them. The restricted accounts not so much. Restrictions can only cost you money.

With utmost respect to the moral values of others, I personally think that ethical investing is bogus. To begin with, I have a lot of problems with the idea that one degree of separation from evil is evil but that two degrees of separation is okay. Investing in a company that pollutes is bad, but investing in companies that make money with the electricity made by the polluter is okay? And if it is, why isn’t investing in a mutual fund that then invests in a polluter okay? Wherever the line gets drawn it is arbitrary. We have one big global economy and cleanly excising out the dirty money is not an option.

I am also very uncomfortable with the idea that by investing in a company I am necessarily endorsing everything the company does. I own some Treasury bonds. Does that mean that I endorse everything the Federal Government does? I really hope not.

That said, if you want to invest ethically, as you personally define it, go right ahead. It’s your money and what makes capitalism work is that only you get to decide where it goes. But keep in mind that you are making a sacrifice. Your moral high ground will, over time, cost you money as you pass up unethical but profitable opportunities.

Frugal Friday 1/30

Ah, Friday again. Instead of coming up with my own content, today I pass along the very best of the many frugality tips from the past week or so in the blogosphere.

Free Money Finance has a follow-up on their controversial post from last week, Can You Pay for a Costco Membership by Eating Free Samples? This one has tips on maximizing the free samples you get on each visit. Oddly, the author says that he “debated whether or not to publish this post or not.” Apparently, he worries that “it’s a bit over-the-line” because, according to him, “there should be a limit to what we’re willing to do to save money.” I guess it takes all kinds.

And as if the frugal world needed more controversy, Living Almost Large asks if it is more frugal to take home half your restaurant meal to eat the next day, or to split that meal between two people at the restaurant. I’m not sure that this sort of debate can ever have a resolution, but it is important to provide a forum for a free and open discussion of these issues.

There is an insightful post on How I Save Money. It is #8 in a series on ways to save money on your wedding. I haven’t read the others, but this one suggests not feeding your guests so much food. The author makes clear that although she has no plans to get married, she does read bridal magazines, looking for ways to save money on a wedding. And that is not weird at all.

The group blog Queercents (The subtitle really is “We’re here, we’re queer, and we’re not going shopping without coupons.” I could never make that up.) has a post on making homemade deodorant. The results are mixed, and at $6 a stick not really a money saver, but it is more than worthwhile because of the stereotypes it shatters. I thought gay people were much more particular about personal grooming.

Real Life gives a whole list of ways to save money on groceries. The one that you haven’t seen before is to save money on beef by getting together with a few other families and buying a whole cow from a farmer. Another list of tips comes from Debt Reduction Formula. He suggests saving on toiletries by shaving only once a week and ceasing to clean your ears altogether.

But this week’s winner for the best new way to save money is from Money and Values, which provides a link where you can download a printer font that is designed to use up to 20% less ink. I am such an idiot for not thinking of this myself. But why stop there? The truly frugal could save money by using shorter words. Also, why not avoid letters with big “ink footprints” such as w, e, and k, and favor eco-friendly ones like i, c, and l?

And in these times of economic and ecological stress, I think we should all do our bit by saving ink that otherwise would have gone to non-essential printing. In the UK, Birmingham City Council has voted to drop apostrophes from traffic signs. Even that small step, supported by a grassroots anti-apostrophe movement, was bitterly opposed by pro-ink pressure groups such as The Apostrophe Protection Society. Of course, in a nation where they spell color as “colour” change will come slowly. Here at home, with the new beginning of hope and change in Washington, isn’t it time that our nation’s leaders stepped up and endorsed spelling simplification and the widespread adoption of texting abbreviations in standard written English?

b/c if u cn rd ths, u cn sav $. ;)

How Much is $887 Billion, Really?

Several blogs (Such as this one, this one, and this one) have attempted recently to put the orgy of pork-barrel spending known as the stimulus package into perspective by explaining just how much $887,000,000,000 is in practical terms. The consensus winner seems to be that it’s about $3000 per American. That’s not bad as illustrations go, and does have some practical merit, as each American will owe that much more as their personal share of the national debt, but I think that as bloggers we need to do better.

How much is $887 Billion? It’s $12,770 per Obama voter. It’s every American’s mobile phone bill for the next five years. It’s 4.2 million new houses at last month’s average selling price. (That’s enough to give one to every family in Arizona, which, come to think of it, is awfully similar to how we got into this mess to begin with.) It’s more than the total value of all US currency in circulation.

Those things are all true, but they lack a certain visual element. Try this one. If it were printed in one dollar bills, $887 Billion would be enough to cover the total land area of Rhode Island, Delaware, and New York City combined. Or, if you prefer, it could cover New York in tens. Or Manhattan in hundreds.

Unfortunately, dollar bills don’t make a very practical floor/land covering, and at $9.60 a square foot for the ones, it’s kinda steep. Lowe’s has some decent looking vinyl tile at $1.08 each. It’s much more durable, and at that price for $887 Billion we can cover South Carolina.

If covering up states doesn’t help you feel how much money we are talking about, let me try and put it in terms of something you might buy. 8GB iPod Nanos go for $134 at Amazon. So the stimulus package is equivalent to ordering 6,619,402,985 of them. (Don’t forget to click on free super-saver shipping.) At a shipping weight of 1 lb. each, and assuming an average weight of 177 lbs per person, that’s more than enough to give every resident of California their weight in iPods.

Of course, iPods are relatively durable items. What about in terms of something that gets consumed by you, the average American? My local on-line grocery delivery service will sell me a 24 oz. jar of Chi-Chi’s Fiesta Salsa Thick and Chunky Medium for $4.19. So the stimulus package is equivalent to 39.7 billion gallons of the stuff. And what could we do with it? Well, this is only a suggestion, but to stem the tide of illegal immigration from Mexico, we could dig a trench 4 meters deep and 10 meters wide along the entire 1,969 mile US-Mexico border and fill it with salsa. Because there is nothing that would repel an actual Mexican more than Chi-Chi’s Fiesta Thick and Chunky Medium salsa.

But maybe this is all too impractical for you. How about something useful? For example, a 2009 Mercedes SLK55 AMG convertible? It’s got a 355hp V-8 that will take it 0-60 in 4.9 seconds. We could buy one for every one of the 14.3 million college and grad students in the US. Or all the men divorced in the last ten years.

So now you know.

Inflation, Deflation, and You

Every day, people come up to me and say things like:

Frank, what are these inflation and deflation things that I keep hearing about? Are they something I will enjoy? Do I need any special skills to participate?

Inflation is when the prices of everything go up. Put another way, it is when the value of money, US dollars for example, goes down, so it takes more of it to buy the same old stuff. Deflation is the opposite, when prices go down and the value of money goes up.

That sounds like fun for the whole family! What causes inflation and deflation? Are they something I can make at home?

Folks (by which I mean economics professors) used to think that inflation/deflation was caused by changes in things like the level of production and unemployment. Currently, the consensus is that it is a “monetary phenomenon” which means that it is really all about money itself. Inflation is caused by one of two things: an increase in the supply of money in the economy or an increase in the “velocity” of money, how fast it is changing hands in the economy. Deflation is the opposite, caused by a drop in the money supply and/or a fall in the velocity.

The money supply is what people usually watch to predict inflation/deflation because velocity is pretty constant over time. It really only drops in very extreme circumstances, such as the early 1930s and right now.

That sounds awesome. How can I spot inflation or deflation myself? What are some of the exciting things that will happen to me because of it?

Spotting inflation/deflation is easy. Look for prices of the things you buy to go up/down.

Under inflation, what will probably most concern you is that although the prices you pay have gone up, what you get paid may not go up as quickly.

In the long-run, the more significant effect is on the value of dollar-denominated assets you own and debts you owe. Since the value of dollars is decreasing, the value of bank deposits you have and bonds you own will decrease, possibly faster than the interest paid is growing them. On the other hand, the value of your debt also goes down in the same way. In principle, the value of “real” assets, such as your house and shares of stock in companies, do not decline under inflation. In practice, this is not so easy to see because periods of inflation are also often bad times for the economy so the value of assets tends to go down.

Deflation is similar but worse. You will notice things getting cheaper and the amount you get paid may not immediately go down, which will be fun while it lasts. But it is hard for companies to cut salaries. The last time we had meaningful deflation, at the start of the Great Depression, instead of cutting everybody’s salary companies laid off some people and stopped hiring. If you were one of the lucky who still had a job, then things were fairly good since you could buy more with your salary. If you were one of the one third of Americans out of work, things were not good.

The same effect on dollar denominated assets happens under deflation as inflation, but backwards. The value of your bank deposits and bonds increases, but so does the value of your debts. If you have money in the bank you should be rooting for deflation, if you owe money you should be rooting for inflation.

They both sound like a blast. Is there a reason to pick one over the other?

Go with inflation. Deflation has really nasty effects on the economy. If the value of your dollars is increasing every day, you have less incentive to spend or invest them. And if today’s dollars are worth a lot less than the dollars of a few years from now, borrowing money becomes expensive, even at zero percent interest. This can lead to a vicious spiral, with people hoarding money because of deflation, which causes a drop in velocity, which causes more deflation.

Okay, I’m ready to play. What should I expect first, inflation or deflation?

For the moment, we appear to be in a period of deflation. The fiasco in the financial system has caused a lot of people and companies in the economy to hold on to their cash, which has greatly reduced the velocity of money. But the Fed and the government have made it clear that they will go to whatever extremes necessary to keep deflation from setting in for long. Fed Chairman Bernanke has hinted that if he has to he will fly over cities in helicopters dropping cash. Bernanke believes that the Fed caused the Great Depression by not increasing the money supply when it should have (in fact it decreased it) and he has made it his life’s mission that that particular debacle not be repeated.

The medium- and long-term effect of the massive increase in the money supply now under way should be obvious. Velocity will stabilize and/or rise and we will get inflation. Lots of it. Inflation is good news for debtors, those that owe dollar-denominated debts. And who is the largest dollar-denominated debtor in the world? Not at all coincidentally, the US Federal Government. Runner up are American homeowners, who could use a break.

Getting Rich and Losing Weight

There’s a post today on WiseBread entitled “6 Ways that Dieting and Budgeting are Exactly the Same.” This money-food analogy is remarkably common. It’s in the title of the blog. Several personal finance books (e.g. Dave Ramsey’s Total Money Makeover) are openly modelled on weight-loss books. And there’s that old quip that you can’t be too rich or too thin. (Which, let us remember, was once meant as a joke.)

To an extent, it is a valid analogy. A generic instruction for losing weight might be “Eat less, exercise more” which could easily be translated into “Spend less, earn more.” Neither is likely to inspire a fat/poor person, but the inescapable underlying truth is there in both cases.

That said, the analogy is far from perfect and can lead to some unfortunate money behaviors.

The biggest difference between dieting and increasing wealth is that successful dieting comes from winning most, but not all, of many small battles, and successful personal financial management comes from winning a few big ones.

If you fall off the wagon one afternoon and have a big meal, you may feel terrible about it but it’s still only one meal. It will not sink your weight-loss program. The goal is to keep from eating big meals almost all the time. On the other hand, if you succumb to temptation and buy that hot new convertible instead of the used sedan that you went into the dealership to look at, you really have done damage to your get-rich program. You can maintain a frugal lifestyle for a very long time and still not make up for one big financial sin.

The other big difference is that eating is a biological imperative. When you are hungry, your body creates hormones that have a physical effect on your brain and your judgement. You may feel that you desire the latest iPod in the same irrational way as you wanted that slice of pie, but it’s really not the same thing.

Both of these differences, if ignored, can lead to serious problems. Living a frugal lifestyle but then making mistakes in the handful of financial decisions that really count is a tragic waste of effort. (Although you do get to feel good about yourself as you wash your Hummer with bucket and hose instead of taking it to the car wash.) And treating spending as an uncontrollable compulsion just makes the problem worse. The truth is that not spending is not exactly like not eating. It’s easier.

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