Market Based Health Care Doesn't Work

To function correctly, free markets require information to be distributed more or less symmetrically between all the parties that are participating in a transaction. In addition, free markets assume that the parties to a transaction have an alternative to doing a deal - hence the use of the word "free". Unfortunately, when you or a loved one have a serious medical issue, you don't tend to ask many questions and you don't have much choice. You rely on your medical service provider to help you, and you will pay virtually any price to ensure a speedy recovery. This makes health care a uniquely challenging problem for those of us who believe in free markets. In recent years, I have come to the conclusion that a health care system that assumes that all health services can be freely bought and sold on the open market, is probably sub-optimal in that it cannot guarantee coverage to everyone nor can it promise efficient medical outcomes.

Several months ago we had a medical emergency and needed to take our son to the emergency room. Through a long and ridiculous turn of events which I will not recount here, we had to use two ambulances to get him there. Thankfully, our son's the medical problem was resolved within 24 hours, but in the months since that incident we have been battling a ludicrous number of medical bills. The ambulance services each billed us separately, the hospital sent us a bill, the doctors each sent us a separate bill, our medical insurance sent us a check, then demanded it back. It has been a complete and utter mess. Each one of these service providers demanded payment for an amount which we had no way to check, challenge or negotiate. As far as I am concerned the numbers on these bills were completely arbitrary. Here's further proof: yesterday we received a check in the mail for $200 from one of the ambulance services. I have no idea why they sent us the money or why they asked us to pay it to begin with. No one can explain.

Without symmetrical information or choice, free markets cannot exist. Even if the information were theoretically available to me, is anyone seriously expecting me to shop for emergency medical services when my son is having difficulty breathing? There is no real free market in emergency medical services, and acting as if we have one simply causes distorted and morally reprehensible outcomes. I don't necessarily advocate that we move to a nationalized health care system, but we should look at this option carefully and at the very least move to limit some of the excesses of the system we have today.

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MBA in a Recession? Bad Idea

Many who have recently lost their jobs are thinking about avoiding the rest of the recession by going back to school to get an MBA. It sounds like a great plan - you get to go to school, sit out much of the recession and take an important career step all at the same time. Unfortunately, reality is different. As someone who graduated from business school in 2001, during the roughest period of the dotcom bust, I can tell you that this is a very bad idea. Here's why:

Banking or Consulting? Not Likely - a large percentage of graduating MBAs turn to one of two careers: banking or consulting. However, these industries dramatically reduce their hiring during economic downturns. Moreover, newly hired MBAs are very likely to be laid off by these firms. I speak from experience. My offer with a well respected consulting firm was rescinded shortly after I graduated, and weeks before I was scheduled to start work. I wasn't alone. Every other MBA who had accepted an offer from the same firm, suffered the same fate, and our firm was far from unique. The good news? I kept a very substantial signing bonus which I received upon acceptance of the job offer. 

By the way, this situation was not confined to banking and consulting. Friends of mine had their offers rescinded by Intel, Lucent, Conagra and many other well known and respected companies.

Only One Shot - if you are shooting for a career in banking or consulting, you should be aware that you only have one shot of getting into those industries, and that is through MBA campus recruiting. Sure, there are a lucky few who are able to get into those industries after graduation, but in general they are the exception. Since recruiting for those industries declines dramatically during recessions, you are greatly reducing your chances of getting into the career path you want.

Tougher to Get In - you are not the only one with the bright idea of sitting out the recession. There are many others who plan on taking the same route. This makes it tougher to get into the school of your choice. In addition, admissions officers are trying to construct the most competitive and impressive class out of the available applicant pool. They don't typically consider out-of-work, recession refugees to be at the top of that list. Want to improve your chances of getting in next year? Why not take a year to backpack your way across Asia or join a non-profit for a year to serve your community? Besides, you might actually enjoy this little detour.

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Things are Bad, but the World is Not Ending...

With the S&P down another 3.5% yesterday to below its November 20th low of 752, and consumer confidence this morning announced to be at an all time low, the question must be asked: how bad is this economy and how much worse is it going to get? Unfortunately, as we are all painfully aware the answer is: it is pretty darn bad. Nevertheless, I truly don't believe that it is as bad as people make it out to be. The world is not coming to an end people. There are still companies out there that are making money, and while finding a new job is probably a nightmare, the vast majority of us are still employed. 

If you look carefully, you might even be able to discern some early signs of a pending recovery: Cisco has recently raised $4 billion in debt to finance some new acquisitions - it was able to do so because the the market for high quality corporate debt seems to be coming back to life. LIBOR rates have come down dramatically in recent months, signifying that banks are no longer afraid of lending to each other. Even though international trade is expected to shrink this year, the Baltic Dry Goods Shipping Index - an index showing the cost of shipping a range of raw materials, such as iron and grains, by ship - has been rebounding recently after taking a massive nose dive in late 2008, showing more demand for shipping services. Add to that the fact that governments around the world, including our own, have taken aggressive action to mitigate the worst of the downturn, to the tune of trillions of dollars. All of this stimulus is bound to have a... stimulating effect.

Yes, things are pretty awful and they are likely to get worse in the short term. However the world is not coming to an end. I believe that the stock market is pretty close to a bottom. It may decline another 10% or 20% from here, but in the big scheme of things I think that now is a great time to buy, and this is the strategy that we are pursuing via slow and regular monthly deposits into our investment portfolio (index funds all the way, baby). 

I think that there is some degree of downside irrationality going on. Just as the market can over do things on the way up, it looks to me like it is over doing things on the way down. The only question I have is whether the market will stay irrationally negative longer than we can stay solvent... I am betting that no.

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Investing and Over-Confidence

A couple of months ago, while traveling on business, I got together with a member of my extended family, a guy in his 20's who is in the process of learning to become an investment advisor. We spent about an hour together, during which all he could talk about was how he was going to make a killing trading stocks, bonds and commodities. What struck me was that this guy was very well versed in the language of professional investing while being completely oblivious to the true risks and opportunities of his chosen profession. 

He explained to me how investing was all about discipline, but his definition of discipline was slightly different from mine. My relative's investment strategy involves doing a lot of what he calls research, making a large number of bets, and always unraveling a position if it ever lost more than 5% of its value. I was somewhat amused and more than a little horrified that this level of knowledge and over-confidence was sufficient to make one an investment advisor. I asked my relative whether he has heard of the LTCM collapse. He said that he did. For those who are unfamiliar with the story, LTCM was a hedge fund that collapsed in 2000, in spite of having some of the world's most sophisticated investors (including an Economics Nobel Laureate) leading the organization. I asked my relative what made him confident that he could avoid financial calamity when much more experienced investors evidently could not, and he responded that discipline was the answer: never holding a losing position.

Yikes. This reminds me of teenagers when they first take the wheel of a car. They think they got it all under control until the smelly stuff hits the rapidly rotating blades of a wind making machine. Of course, we don't allow teenagers to teach others how to drive, but we do let teenager equivalents tell others where to invest their hard earned assets. Do you know anybody like that?

By the way, here's a hint: if you think you are on to an investment strategy that is going to make you a millionaire, and you are not already a Nobel laureate or have reasonable hopes of becoming one, you're probably wrong.

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Economists vs. Real People

This is an old joke, but I find it both useful and amusing:

A normal person walks down the street. He sees a $100 bill laying in the street, he picks it up and continues on his merry way. An economist who sees a $100 bill laying in the street continues to walk knowing full well that the market is efficient and if it truly was a $100 bill someone would already have picked it up...

In other words: not all experts know what they are talking about; and sometimes things are really what they seem (except for when they aren't, of course...).

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Making Counterproductive Decisions

Most sales people, receive a large part of their compensation in the form of commissions. Incentives play a huge role in the success of companies, and even of entire economies, which is why I was very surprised when a few days ago I was told about the commission structure of sales people in a certain high-tech company. The sales people in this company were paid a commission of x% of sales for meeting their quota, and continued to receive the same commission rate on every dollar sold up to 200% of their quota. However, and here's the killer, once they reached 200% of their quota, they were no longer entitled to receive a commission.

Most people reading the above paragraph would immediately understand that this policy is self-defeating. It actually gives sales people a disincentive to deliver superior results. A sales person who can get a big sale but that has already reached 200% of his quota will have an incentive to delay the sale until such time as he can get compensated for it. Of course, the executive that designed this compensation policy evidently did not understand that by making this decision he was acting in contradiction to his own economic interest. His thinking probably went: "if this person sold three or four times his quota he could be making a killing at my expense" or "we can't have anyone making half a million dollars in this company". So while he is acting contrary to his own economic self-interest, he actually believes he is doing the right thing.

Unfortunately, none of us are immune to making self-defeating decisions: eating that extra doughnut even though we are trying to lose weight, or putting money in a savings account even though we carry 18% APR credit card debt, or procrastinating on that important project even though we know we really must get started. Why do we do this? There are probably many reasons, but here are some of the ways in which I try to avoid acting against my self-interest:

1. Game It Out - before making a decision, I try to "game out" the scenario while trying to cause the worst outcome that I can. In other words, if I am the sales person, not the executive, how can I take advantage of the compensation package I am trying to design? 

2. Keep My Interests in Mind - it is always useful to remember what it is that you are trying to achieve. For example, an executive designing a compensation package for sales people must keep in mind that he is trying to maximize profit, not to maintain a cap on salaries or fight for social justice.

3. Leave Yourself No Choice - knowing that I am a procrastinator, I try to force my future self to do the right thing by creating external forces that will help me make the right decision. For example, when I had my own business, I used to intentionally schedule customer meetings at 9:00 AM. That would help me get the day started without checking the NYTimes just one last time...

By the way, check out this article from Plonkee about folks making decisions contrary to available evidence. 

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In Honor of Darwin

Last week was Darwin's 200th birthday and many publications took this as an occasion to write about this great man and his work. Even though this has nothing to do with personal finance, I decided to also use the opportunity and celebrate the birth of one of the most creative and influential people ever born, while also telling you something about myself.

I consider myself somewhat of an empiricist and fancy myself a rationalist, someone who uses the available facts and a rational theory to make his decisions and to inform his view of the world. Where God is concerned, I am an agnostic, but only to the extent that I can't prove that God doesn't exist, much like I can't prove that fairies don't exist either (sorry for stealing that one from Richard Dawkin's recent book). Darwin's work is an inspiration to me. This is a man who single handedly developed a rational, empirical and amazingly testable theory that explains the origins of humankind and of every other living organism on the face of this planet. And he did so through hard work, brilliant deduction and inspired leaps of logic. Is there any higher honor or calling? Do you need any further proof that humans are an incredible species? By the way, did you know that the theory of evolution was also independently developed by Russel Wallace?

This is a man whose work underlies much of my own philosophy and perception of the world. It is people like Darwin, and Newton, and Watt to which we owe modern life as we know it, and science is the tool with which they have given us this bounty.

I would like to end this post with a quote from Kurt Vonnegut's "Timequake" which mirror's my own view of the world and of what I aspire to be:

"Humanists try to behave decently and honorably without any expectations of rewards or punishments in an afterlife. The creator of the universe has been to us unknowable so far. We serve as well as we can the highest abstraction of which we have some understanding, which is our community."

What have creationists done for us lately? (or ever?)

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The You Brand

Brands are not just for soft drinks and cars, you are also a brand. You may not think of yourself as a marketable product, and it may very well be that most people would never think of you as a brand, but that doesn't mean that they don't identify you with certain values, attributes or activities, in short: a brand. The key is to make sure that the "You Brand" is a valuable one and that it fits your career and personal goals. This is another post in my series about finding a job and protecting your job in a tough market (you can find even more articles on the subject here).

If asked to name a couple of top performers in my previous company, the names Paul and Ed would immediately jump to mind, even though I left this company almost a year ago. What is it about those folks that makes me remember their names in the context of top performance? The answer is somewhat different in each case, but both seemed to go out of their way to be nice, deliver results and help out, even beyond the scope of their duties. These are folks that will likely quickly find a new position if they ever find themselves out of a job, because people have been conditioned to connect these individuals with top performance. Here is how you can take control of your own brand:

You Have a Brand - you have to understand that whether you are actively building your brand or not, you do have one. The only question you have to ask is whether you are building and nurturing it to suit your purpose, or whether you are letting others define you.  

Defining the "You Brand" - before building your brand, you have to first define what you want that brand to be. In my case, I would like people to think of me as: extremely competent; skilled in multiple areas (i.e. the opposite of a narrow specialist); a people's person; someone who can help.

Understanding the Gaps - now that you understand what you would like your brand to stand for, try to be honest and identify any gaps between where you want to be and where you are currently. Understanding the gaps comes prior to taking any action.

Developing the Brand - just as Red Bull wants its brand associated with extreme sports, and consequently sponsors many of them, you need to connect yourself as tightly as possible with the values you want your brand to stand for. If I want my brand to stand for "someone who can help" - it is important that I live this value on a daily basis. For this reason, if someone in the company asks me to help edit a document or to comment on their work, I will do so, even if it's not my job. Since I want my brand to stand for extreme competence, I will never do a half-assed job. There is no such thing as too small of a project to be done well. The brand message must be consistent. Always.

Getting the Word Out - It's not enough for you take action to build your brand, others must get the message. As always, bragging is a really bad idea, and in any case, actions speak louder than words. You need to get a buzz going, and the best way to do so is to make sure that people are aware of your work. Finding high visibility projects, doing more than is asked, and finding other opportunities to shine, is key. Keep your eyes open and pounce when the right opportunities present themselves. 

Patience - building great brands is all about patience and consistency. Don't expect miracles over night. In fact, don't expect miracles at all. However, if you understand what you want people to think of you, build your plan and consistently deliver the right message, in actions rather than through words, you will be well on your way to building a positive brand that folks will remember. Next stop, career security.

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Planning for Unexpected Money

Everyone comes into some unexpected money from time to time.  Think about the times when you've received a birthday card in the mail with money; when you've receive a tax refund or rebate; or an unexpected inheritance.  Maybe you purchased something with a rebate offer, and the check finally arrives in the mail (long after you forgot you even had a rebate coming!)  Any money you receive that is outside your regular income is considered “unexpected”.  What do you usually do with unexpected money?  Deposit it into your every day bank account?  Buy yourself something? 

If unplanned, the majority of unexpected income simply gets absorbed into everyday spending.  If it's deposited into the account you use to pay your bills and withdraw money for entertainment purposes, chances are you use a little here and there and couldn't even say within a week's time where the money was spent!

Instead of letting unexpected income trickle through your budget almost unnoticed, you could create a plan to help you deal with unexpected money.  I know, you're probably thinking if it's “unexpected” how can you plan for it, but the answer is actually pretty simple:

Decide how you will use all unexpected income before you receive it.   You don't have to know when the income will come in or how much it will be if you set up a plan using percentages.  For example:

• 10% in your pocket for extra spending money
• 50% in long term savings
• 35% toward your highest interest debt

With categories and percentages decided upon before the money arrives, you'll know exactly how much of all unexpected income will go to savings, debt repayments, and spending money.  Your only other decision is to determine how much you have to receive before you follow these rules – some people will do the same with all unexpected income whether it's $5 or $500; while others choose to follow their plan only if the unexpected income is of a specified minimum amount.

The trick to making a “plan for unexpected income” work to your benefit is to create it – and then stick with it!  Consider it an extension of your budgeting (if you have a budget you’re committed to) and don't let the temptation of extra money lead you to an extra purchase or to a night on the town that you haven't financially planned for.

Trisha Wagner is a freelance writer for DepositAccounts.com, where you can compare rates from dozens of banks in one place. Trisha writes regularly on the topics of personal finance and saving money.

If you are interested in having your original article published as a guest post on Money and Such, please contact me at the e-mail address provided on the left column of this page.

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Why Real Estate is a Horrible Investment

I am not one to kick an interesting investment opportunity when it's down - in fact, I think that the best time to buy assets is when their values have been dramatically beaten down, and if that's your line of thinking, real estate should certainly qualify. However, I still think that owning real estate for investment purposes is a horrible idea. I am not talking about investing in real estate through REITs as a method of diversifying your portfolio - that is actually a good idea, we invest about 8% of our portfolio in REITs for exactly this purpose. When I am talking about real estate being a bad investment I am talking about buying residential real estate for investment purposes.

I have previously written that buying a house is a bad investment, and I stick by that original statement. However, I am not against buying a house, just as I am not against buying cars, TVs or new clothes. A house is a place you where you live in, it is not an investment. Granted, houses tend to have a good resale value and if you are fortunate, the price may even go up over time. My point is that your residence is your home, not an investment. 

So why do I think that real estate is typically a bad investment idea? My argument can be summed up in a single word: leverage. Leverage is the reason that most people think buying a house is a great investment opportunity to begin with.  Let's say you are buying a house worth $100,000, and let's assume that you have 20% to put as down payment, i.e. $20,000, and the rest you finance using a mortgage. If the value of the house goes up 10% in  the fist year, it is now worth $110,000. However, your mortgage is still only $80,000, meaning that your equity is now worth $30,000. In a single year your house went up 10% in value but you got a 50% return on your original investment. Who could turn down such a wonderful bargain? You are using other people's money to super-charge your returns. What a brilliant idea! Isn't this the perfect money making strategy?

Of course, that's not the case, as our current economic meltdown has made abundantly clear. The cold logic of leverage, which does phenomenal things to your returns on the market upswing, has an evil twin that emerges when the market heads south. Same example: a 20% down payment used to buy a $100,000 house, only this time the house value goes down 10% in the first year. Now the house is worth $90,000 so your original $20,000 investment has been cut in half when the mortgage is accounted for. If the value of the house declines by 20% your investment is wiped out completely.

The bottom line is this: investing in real estate by financing the acquisition through mortgage, is exactly the same as investing in the stock market using borrowed money (investing on margin). While the market goes up, your returns are turbo charged, you feel on top of the world, but when the market starts to fall, the value of your investments quickly goes up in smoke. Now here is the crazy thing: the government would never consider encouraging people to buy stocks on margin, but they have made many policy decisions aimed to do just that in the case of the real estate market. Millions of Americans have allowed themselves to be duped by the fallacy of a real estate market that folks claimed could never go down. "All real estate is local" the saying went. Even the most naive real estate investors and home buyers no longer believe that there is any asset in the world that only appreciates in value without ever falling.

Remember this lesson when the next bubble starts to inflate.

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Dismal 401K Results. A Great Opportunity!

A colleague came to me earlier this week and commiserated that when he got his 401K statement for 2008, he found out that his 401K lost 9% in the last quarter of the year. He asked how my 401K was doing, and I admitted that I didn't know but that I could check on the spot and tell him. I logged onto the Fidelity website and checked the numbers: down 22% between October and December. My friend was shocked. How could I have lost 22% in the last quarter alone? I explained that since I have about 30 years left to retirement, I am aggressively invested and don't mind taking some risk for a chance at a higher return. My friend, who is much closer to retirement than I, was aghast.

I believe that my 401K asset allocation is appropriate for my age and risk tolerance, and besides, I manage our investment portfolio as a whole, not considering my 401K independently. My asset allocation in the plan is as follows: 70% S&P 500 index fund (this is a good fund with a 0.1% expense ratio - pretty impressive); 10% in a real estate fund; 10% in a bond fund; and 10% in an international fund. Normally my international allocation is closer to 30%, but the international fund offered by my plan is actively managed (I typically invest only in index funds) and charges a hefty expense ratio to boot.

As you would expect, all of my 401K funds have taken major hits over the past year, with the international and real-estate funds showing the biggest declines, as similar investments did in the rest of our portfolio. Nevertheless, I am unfazed. Retirement savings are the very definition of long term savings and with retirement approximately 30 years away, now is the time to take some investment risk in an attempt to grow a sizable asset cushion. It's not that I enjoy looking at these losses, but as I have previously written these declines represent an investment gold mine for those of us who will be net savers over the next couple of decades.

Hey, don't listen to me. Listen to Warren Buffet - supposedly he thinks now is a good time to be in equities.

What does your 401K look like these days?

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Enough with the Hypocracy

I don't normally write about these subjects, but I just have to comment about the whole Michael Phelps story. So the guy smoked some pot, so what? So did the President of the US once upon a time. Clearly, the "drug" didn't hurt Phelp's physical performance...  I don't smoke, cigarettes or other stuff, but I think it's time to stop this insane and self-defeating witch hunt against people who choose to pursue habits that do not harm others. At this point any half-objective observer has to admit that alcohol and tobacco are far more dangerous than pot, yet the former two are available legally on every street corner.

Yes, he broke the law. Big deal. If you never exceed the speed limit, stand up. You're looking for folks who break the law? Go after Tom Daschle and Tim Geithner, both of which did not pay taxes on substantial income for years, but that's not going to happen because those two made an "honest mistake".

What prompted me to write this brief post is Kellogg's recent announcement that they were going to drop their advertising contract with Phelps. You know what, someone needs to stand up and say: hypocrites, stop this useless, self righteous crusade. From now on, I think i'll buy General Mills cereal instead.

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Mock Interviews: an Excellent Preparation Technique

A friend of mine is about to finish her Ph.D. in economics at Stanford University. She is a highly talented individual that is coming into the job market at a particularly bad time. On the plus side, folks with her credentials and experience are always in strong demand, but this lady is leaving nothing to chance. She has taken aggressive action to prepare for her many job interviews, and among these steps, she has asked me and other business executives, academics and other friends to conduct mock job interviews with her. 

She explained her objectives to me: 

1. Get back in the game - she has been a Ph.D. student for several years now, and it has been a while since she had to interview for anything. Just like any other skill, interviewing is something that requires practice. You may be naturally talented at being interviewed, but if you haven't practiced your skill for a while, chances are you have lost some of your edge.

2. Clarify the story - my friend knows that as part of her interviews she will be asked about her academic research, and since this is a highly technical and complex subject, she wants to test the story on some of us non-academics, to make sure that her explanation is jargon free and easily understood by an intelligent, non-expert audience.

3. Get Feedback - getting input on your performance from multiple sources is always a good idea. As much as you can prepare on your own, you never truly have an objective view of your interview performance, and asking a friendly audience to interview you seriously and to later provide honest feedback, is a great way to get information that you can get in no other way.

If you are looking for more ideas about how to prepare for job interviews, take a look at this excellent post on Digerati Life. 

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Executive Salary Caps? Asinine

As far as I am concerned, President Obama has made his first major policy error yesterday by announcing  a salary cap of $500K per year for executives in companies that have received "exceptional assistance" from the government. Sure, $500K is a huge amount of money and many of us would love to earn much smaller amounts. Nevertheless, President Obama's decision is simply asinine. No, it's not that I feel bad for fat wall-street cats who have managed their companies into the ground. Not at all. But Obama's policy is a populist, over-reaction that is bound to have some serious adverse consequences. 

Wall street pays its employees outrageous amounts of money. You can argue about whether these sums are well deserved or even rational. Personally I think that if someone brings in a deal worth hundreds of millions of dollars for his firm he should be VERY handsomely compensated. Compensation should be tied to the value that you create for your firm. Be that as it may, this has nothing to do with the argument at hand - the real problem with the salary cap is that it hobbles firms that have received government assistance and puts them at a disadvantage compared to firms that did not receive such assistance.

For example, assume for a minute that I am a killer rain-maker for Citigroup. I bring in deals worth hundreds of millions of dollars a year, and I have been accustomed to getting obscene amounts of money for my services. Now, due to no fault of my own, my firm is in tough shape and has asked for government assistance. It is now subject to salary caps and cannot pay me those crazy amounts. As a rational employee - who is trying to protect his own interests - the first thing I do is pick up the phone and call recruiters at competing banks that did not receive such government assistance. I ask for a job, explaining that I could bring in huge deals with me. Do you think that Citigroup will be able to retain fictitious me for a "paltry" $500K when Credit Swiss, HSBC or some boutique bank somewhere will pay me 10 times that amount? Nope. Obama's populist decision has just doomed banks that have received government assistance to mass defection of all top talent. It's like telling only one NBA team that they must recruit no-one over 5'10". 

Well, "damn those banks" you say. They deserve to lose their talent. They deserve to go out of business. That may very well be the case - but if so, why bail them out in the first place? What's more, here something truly stupid: we are dooming these banks to further loses AFTER we have put tax payer money at risk to save them. Could there be a more counter-productive policy?! We are now large shareholders in these banks and we have just decided to handicap only our team...

I am as outraged as the next guy at the mess we're in. However, policy of this nature creates much bigger problems than it pretends to solve. If you want salary caps, they have to be implemented industry-wide, or else you are simply squeezing a balloon: you press one end and the air escapes your hands and flows to other parts. You want real results? Let shareholders, rather than the board of directors, have the authority to approve the compensation packages of senior executives. You want to punish poor performance? Outlaw golden parachutes for executives fired from corporations that took government aid. Don't penalize tax payers by screwing up companies we just spent billions of dollars to rescue. This is exactly why government should not be running businesses. There's no common sense there, only pandering to rightfully outraged voters. 

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A Move into Municipal Bonds

We have been making regular investments into the stock market throughout this downturn, both by maxing out my 401(k) - my wife no longer has a 401(k) since she has gone part-time - and through monthly scheduled investments in our portfolio. However, late last year we got some cash that we were not expecting, and this money has been laying in a money market account ever since. Sure, money markets are a safe investment, currently insured by the government, but with interest rates practically at zero, there can be no meaningful talk of yield. It is also clear to me that this is not a long term solution.

Having said this, while I am very optimistic about the long term prospects of the stock market, I have no intention of jumping into the market with a large amount of cash in a lump sum. We are moving into the stock market slowly and in a measured way that will hopefully blunt the trauma of any sudden or dramatic additional decline in stock values. With that in mind, I have decided to make a move into municipal bonds, and I have done so by investing about 25% of the windfall Vanguard's VCAIX. Here is a description of the fund's investment strategy:

"The fund invests primarily in high-quality municipal bonds issued by California state and local governments and regional governmental authorities. It may invest at least 80% of assets in securities that are exempt from federal and California taxes."

California bonds? Isn't California's credit rating really crappy and isn't the state in a huge deficit? Yes, to both questions. However, I don't believe that California will default on its loans. At the end of the day, this is a state with the power to tax the population or to cut services to balance the budget. I think that muni bonds are a pretty safe investment, well in this environment nothing is really safe, but you understand what I mean. Besides, we live in California.

There is also the important matter of the tax exemption. This fund invests in bonds that are tax exempt federally as well as at the state level. And since our account is not a tax sheltered account (such as a 401K or IRA), a regular bond fund would generate a substantial and recurring tax hit. We are in a high tax bracket, so a regular bond fund would need to generate much better taxable returns to match the net yield that is likely with this tax exempt investment.

The way I look at it, munis are a pretty safe investment which offer a substantially better return compared to money market funds, CDs and such. Hopefully, I don't come to regret this decision, but no risk - no reward, right? Right?  :-) 

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The REAL Cause for the Economic Crisis

Much has been written about the causes for the nasty economic downturn we are living through. The popular suspect is irresponsible sub prime lending leading to a real estate bubble, but some have blamed the Fed's past interest rate policies, while others have blamed deregulation or capitalism itself, still others place the blame on "Wall Street greed". The supposed causes are legion, but while all of these may have contributed to the downturn, none of these is the true underlying cause of the crisis. The ultimate cause is much more prosaic: misaligned incentives.

Incentives are the very foundation of capitalism. Capitalism is built on the assumption that when people act in their own self economic interest, a greater public good emerges from the chaos, and generally this is true. However it is only sustainable so long as people's own economic incentives are aligned with those of society as a whole. For example, getting an education improves my chances for economic success, while also allowing me to contribute more to society by paying more taxes and enabling me to use newly acquired skills to benefit myself and the company I work for. Society benefits from my actions because our incentives are aligned. 

The trouble starts when my economic incentives are not aligned, or are even opposed to the public good. For example, I have an economic incentive to rob banks - if I do, I can get a lot of money for very little work. Of course, society will be greatly harmed by my actions, therefore our economic incentives are opposed. Government exists to resolve such economic conflict and to realign incentives - in the example I gave above, government legislates and enforces a penal code to ensure that if I decide to rob a bank, I get sent to jail. The threat of punishment realigns my interest with that of society at large - it is now no longer a winning proposition for me to turn into a masked bandit.

The example I gave above is an extreme one, but the take away is simple: as long as an individual's own economic incentives are aligned with society's interests, capitalism will generate prosperity. If economic incentives are out of whack things will turn sub-optimal, and if they are seriously misaligned, and given enough scale and time, really bad things will start to happen. Now let me show you how incentives are to blame for the current economic crisis:

Take mortgage bankers. In the past, mortgage bankers' interests were aligned with those of society as a whole: they made a loan decision and they would make or lose money based on the success of their mortgage. In recent years, however, these folks' had no economic incentives to ensure the stability of their loans - their incentives were to get as many loans as possible and sell them to a third party, perhaps to an investment bank. This meant that the banker had an economic incentive to accept loans even if he doubted their economic value. A completely different example: government regulators are poorly paid. However, there is never a shortage of folks who want to work for the SEC, the FCC, the IRS or any other three letter agency you can think of. Why? Because those folks know that their pay-day will arrive, it is simply delayed. While they are not highly compensated currently, they will be in extreme demand if they decide to go to work for the companies they once regulated or to become lobbyists. This means that while on the job as regulators, they have an incentive to cozy up to future employers rather than to ensure the economic interests of the public at large. Incentives are misaligned. In the case of bank regulators, could they have had an economic incentive to under regulate at the request of industry and at the expense of the public? 

I could continue dishing out examples all day long, but let me get to the point. Incentives in our economy were and still are severely misaligned: industry groups, unions, individual workers and business owners have a built-in economic incentive to... not cheat, that would be too strong a word. They have an economic incentive to be persuaded that practices that might not seem too smart need to be allowed to continue... it pays to look the other way. misaligned economic incentives are the dynamite which makes the economic crisis go BOOM, regardless of what specific match or event lit the actual fuse.

Economic incentives are the key and the foundation for capitalism. Laws, regulations, work rules and, indeed, culture itself, should work together to ensure that economic incentives are aligned. Your success should be my success, and your failure should lead to mine. Shared incentives lead to mutual success, while misaligned ones encourage predatory or irresponsible behavior. Don't get me wrong, economic incentives could not stop the occasional Barney Madoff from initiating the odd ponzi scheme. However, if incentives are carefully controlled, the Madoffs of the world will not be able to bring economic calamity on the rest of us. Sure, it's easy to blame Wall-Street's greed for the problems we're in, but economically minded people understand that it is that very greed on which the capitalist system is built. Greed in itself is not a bad force, it is to be encouraged, it is part of human nature. Suppressing greed is simply impossible, but channeling it in ways that benefit society as a whole is the way to guarantee economic stability and long term prosperity. 

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Signs that You May be About to Lose Your Job

Pretty much every manager has in his head a list of people in his team that he or she would release if there was a need to lay people off. To find out if you are on this black-list and to potentially do something about it, you need to watch out for telltale signs that you may be about to lose your job:

No New or Important Projects - if your boss knows that he is about to let you go, he will not want you on any new projects. After all, why would you want someone to start a job that you know they will not be allowed to finish. Similarly, if you are still getting new projects, but they seem less important than the ones you are typically assigned, or even seem like busy work, you have cause for concern.

Low Work-Load - At a time when many businesses are seeing a decline in activity, it is not unusual for many workers to see their workload diminish and that in itself is not sufficient cause for concern. Of Course, in the long run management is more likely to reduce staffing levels if employees are not working at capacity. However, you should be more concerned if you notice that your work load is diminished to a greater extent than that of your colleagues. It can be a sign that you are being "phased out".

Unusual Interest in Your Work - In many cases, your boss will make arrangements for someone else to take over your projects and duties once you are no longer with the company, and such preparations may give you an early indication that something is afoot. Anything that can be taken as preparations for a smooth transition should set-off some alarms. For example, if your boss is asking you to put him in touch with customers or vendors that normally only interface with the company through you, you should be paying close attention to developments. 

Verbal Clues - laying people off is an emotionally charged and difficult responsibility for managers, and many of them don't take it well. Such managers may try to soften the blow by giving small or large clues that should alert you that your job may be at risk. Statements like "we are going to have a tough week next week", or "be sure to be in the office early on Friday" which are not followed by more detail, may be indications that bad stuff is about to happen. If you think you spot a clue, try to follow up on it - tactfully - to get more information.

Non-Verbal Clues - some people feel so uncomfortable about laying people off that they do anything they can to avoid contact with the team members that are about to be released. I have known some managers who would leave a room when the team member in question joined a meeting. If your boss has been avoiding you, you definitely have cause for concern.

What to Do If You Think You Are on the Black List

First of all, don't panic. If a mass lay-off is under way, there may be little that you will be able to to do to change your fate, however, here are some of the actions that I would take:

Talk to the Boss - be direct, respectful and to the point. Don't whine. Don't beg. Get as much information as you can. For example: "I may be completely off base here, but I have an uneasy feeling about my position in the company. Is my job at risk?" Who knows, your boss may completely explain away your concerns, or she may confirm them. Either way, trying to find out more information is always a good idea.

Listen to the Grapevine - many people know many things. I don't suggest you become an office gossip, but listen to what people have to say. In my previous company, long before a business unit was cut, many people were discussing the possible timing and implications of such a move. If you spoke to the right people you knew that things were in motion.

Maneuver Internally - think about trying to find a safer position in the same company while there is still time. Maybe a different business unit? Maybe a different position? It's never too early to network or to search for options.

Get a Jump on the Job Search - if you think that there is a significant risk of job loss, start searching for a new job immediately. In this economy, chances are that finding a new position will take longer than it would take you otherwise. No sense in wasting time.

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