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Financial Directives for a New Graduate

Tags: finance • Categories: Off Topic

Table of Contents

Writing creates clarity, and defining directives for various areas of your life is an interesting exercise. I first ran into this idea via Derek Sivers: "It’s just a succinct and powerful way to communicate an idea. Focus on the action." I’ve tried distilling my personal investing principles as a series of directives.

My siblings and other younger people I know also ask for my financial advice. This post is partly an effort to make it easy to share my thinking with others when it comes up so I don’t need to repeat myself.

Obviously, I’m not a financial advisor, lawyer, CPA, etc. I’ve simply written down my personal opinions. Don’t trust anything you read here; always consult your advisors. 

Alright, with that said, here are my thoughts on investing/financial management.

  • Create an emergency fund first. Before contributing to retirement or aggressively paying off debt, create an emergency fund with 6mo of expenses. Determine your average expenses over the year by using  CoPilot or LunchMoney (copilot is more user friendly, lunch money is more powerful).
  • Pretend your income has never changed. When you increase your income, pretend like you didn’t. If you still have debt, act like you don’t have a dollar and pay it off as quickly as possible. However, don’t focus on debt at the cost of other important aspects of your financial life (investments, emergency funds, etc). Invest everything else. Beware of the hedonic treadmill and realize that things generally don’t make you happy but increased freedom with your time probably will.
  • Analytical people don’t need a financial advisor. Financial advisors don’t offer much value if you are naturally inclined to have a moderate knowledge of your investments / financial strategy and are not prone to emotional decision-making. Advisors seem to offer the most value for people who don’t have an aptitude for managing a budget, don’t have the interest in understanding more-than-basic investment principles, and need someone to prevent emotional decisions (i.e., selling when the market drops).
    • In other words, if you don’t have any retirement accounts setup and can’t bring yourself to spend the time to setup a WealthFront account, you should get a financial advisor.
  • Automate your financials. This means setting up automatic transfers for your IRAs, 401ks, taxable accounts, etc and automatic bill payment for all expenses.
  • Invest in low-cost funds-of-funds. Investing in lifecycle/target date funds is the best way to maximize returns without having to worry about the details / look at stocks. You might lose a couple of basis points, but the peace of mind and time saved by not actively managing/worrying about investments is worth it. Additionally, picking a fund with a low administrative fee will most likely net more in the long run since you won’t be paying fees to a CPA or stock brokerage.
    • Which fund? Determine when you’ll turn 60 (retirement age) and plug that date into google with "vanguard retirement fund".
    • Example: "vanguard retirement fund 2060" will yield the VTTSX fund.
  • Don’t bet on individual stocks. Similar to the above statement: buy index or target date funds with low administrative fee (Vanguard or Fidelity are the best options here). In the long run, you (or a financial advisor) will never outsmart the best-of-the-best in investing. Trying to beat them is a losing game and not worth your time.
  • Max out your HSA before an IRA. It’s the only tax-sheltered account that can be used for expenses but also double up as a retirement account. Just make sure your HSA allows you to control your investments (or, at least invest in low-cost funds).
  • Max out your 401k & IRA accounts for tax savings. Until you do this, don’t put any money in taxable investments. Vanguard IRAs are easy to setup and low cost.
    • I would argue that individuals with low net worth (less than 500k) should not put money into taxable investments even if they’ve maxed out their qualified accounts. Instead, invest that cash in yourself via education, time off from your day job to build a business, etc.
    • This depends on your goals and personality. Not everyone should start a business, and if you are already a high earner, returns on investment in human capital won’t be high. You may be better served to bank all your extra cash in an index fund and retire early.
  • Prioritize your Traditional IRA over a Roth IRA. As long as you invest more because of the tax deduction associated with the traditional IRA, you’ll probably win out. Here’s the detailed analysis.
    • By "invest more" I mean calculate the tax savings by contributing to a traditional IRA and contribute that savings directly back into the IRA or a taxable investment account.
  • Max out after-tax 401k contributions. This allows you to take advantage of the mega backdoor roth IRA. Many employeers don’t allow after-tax contributions, but if yours does, take advantage of it. Obviously do this after you’ve maxed out your traditional IRA or traditional 401k contributions.
  • Don’t change your strategy in a downturn. If market values drop, don’t stop investing. If anything, increase your contributions. If you have trouble with this idea, get a financial advisor who can just prevent you from doing something dumb when the market drops.
  • Save now, spend later. Live way below your means and "pay yourself first" by automating retirement contributions that can’t be reversed. The most expensive time to buy things is when you are young (that money has a lot of time to grow before you retire).
  • Make a risky bet when you have an extreme unfair information advantage. These are rare, don’t trick yourself. For example: you don’t have an advantage if you’d read a lot about something (other people have too). Only "bet big" on something that most people think is counter intuitive that you have an insiders look at because of your unique skill set.
    • Another way to look at this is buying yourself time to invest in yourself. The easiest way to make wild returns on investment is give yourself the time and resources necessary to succeed at something you are exceptional at. I would argue that’s probably better to keep a nice stash of cash that provides enough capital to invest in your own idea or product as opposed to choosing other semi-risky investments. You should be your own angle investor.
    • For example, buying BitCoin or buying an index fund of startups might be a good move if you have studied startups/crypto (or, because you understand the details of the underlying asset, you might decide these are terrible bets).
    • Another example: peer to peer lending (LendingClub, PeerStreet, Prosper) is new enough that it wouldn’t normally be included in a "standard" investment portfolio. Jumping on board with LendingClub, or other "new" and yet-unproven investments might be a way to beat the market by being an early adopter. Or, you could lose your money a lot more quickly (which si exactlky what happened with PeerStreet).
  • Don’t be too fancy. When I was younger, I spent time finding weird alternative investments that I thought would generate increased yield. However, the overhead and complexity of managing these investments were not worth it. KISS.
  • Buy low-end, high-cost purchases. It’s often much cheaper. For instance, by buying a used low-cost car (ex Toyota Corolla), you can avoid buying comprehensive insurance (the car is so cheap you can easily self-insure), and your collision insurance will be much less expensive. Similary, insurance, repairs, taxes, and HOA fees will be less on a low-end house.
  • Buy the low-end of the high-end range for medium or low-cost purchases. Examples include an office chair, salt, wifi router, kitchen knives, coffee grinder, office desk, kitchen appliances, etc. Often getting a high-quality (but not the highest-quality or most expensive) will last longer (saving you money on a replacement) and improve your experience using the thing.
  • Buy specific insurance for low-probability catastrophes and self-insure whenever possible. Also, use the highest deductibles on home and auto insurance and avoid riders for insurance that you can self-insure (home theft insurance, comprehensive auto, jewelry insurance, etc.). If you have anyone who is depending on you, buy term life insurance. If you’ve saved a good bundle of cash, get umbrella insurance. For many insurances, increasing the liability caps barely increases your premiums and sends a signal to insurance companies that you are responsible, which may decrease your premium costs in the long-term.
    • Quick example: adding comprehensive to my auto insurance adds over ~1k/year to my premiums. My car’s KBB value is ~3k. In three years, I will have saved the entire value of my car. Additionally, since the chance of getting into an accident where it is my fault is low, I can increase my deductibles considerably and further decrease my auto insurance costs. The value of these savings compounds very quickly if you assume you’ll throw the entire savings directly into investments.
    • Unless you get very unlucky, the yearly premium savings will easily fund your self-insurance fund, and after the fund is established, premium savings are simply extra cash you get to keep each year.
    • There are some market efficiencies where this strategy may not make sense. For instance, if you have specific laws in your state which create certain requirements on insurance companies to ‘over insure’ in certain cases. Health insurance also has some very weird edge cases which sometimes make it better to choose a low-deductible PPO plan over a high-deductible plan with a HSA.

How to Think About Debt

Debt get a little trickier to talk about. What’s best is so contextual based on your specific situation, interest rates, what you are taking debt on for, and most importantly your personality.

  • Buying a house isn’t always the right decision. A house is not always an investment. By default, doesn’t generate income and actually takes a decent amount of time and money to manage (when the water heater breaks you need to fix it).
    • Compare the fully-loaded cost of a house purchase against the cost of renting. Can you rent a apartment or small house for less than the fully-loaded cost of a house you would purchase? Will investing the difference help you achieve other financial goals?
    • I live in Denver and we’ve seen double-digital housing appreciation. Most folks I talk to think this will continue. Things don’t always go up.
    • If you do purchase a home, figure out to make it a revenue generating asset. Can you rent out the garage? The basement? Can you share the house with friends?
    • Make sure you purchase a home below your means and avoid constantly trying to make it perfect or keep up with your friends. Be ok having the least-awesome house out of your peer group.
    • Another way of thinking about renting is paying for someone else to manage the home for you. If your monthly principle payment on a 30yr mortgage is ~$500/mo, with $1,000/month of interest, it may make sense to rent an equivalent home for $2,000/mo if you never have to worry about the cost and time of managing repairs.
    • That being said, the home interest deductions and tax-free gains on a personal residence are great benefits of owning your primary residence, especially if you are in a higher tax bracket. Here’s an interesting modelwhich compares renting vs buying.
  • Consider deductible interest when allocating your cashflow. Notably, home and student loan interest is deductible. If you are in a high tax bracket, this can mean there’s a significant discount on your interest and it may make sense to avoid paying down your loans quickly and instead save or invest the extra money.
    • Remember (as of 2020) that the standard deduction amount is much higher than it used to be, so there’s a good chance that you won’t actually be able to claim the deduction even if it is deductible. Do the math (and possibly use a DAF to itemize)!
  • Don’t always pay off loans first. Creating emergency funds is critical to ensuring you don’t make poor short-term life choices (like taking a job that isn’t great for your long-term career).
  • Pay off high-interest debt immediately. If you have a $1,000 loan at 7% interest and you go out to a $50 dinner, guess what, that dinner actually just costed you $53.50 (7% more). Even if you don’t have any loans, you could invest that $50 in the market and expect it to double within 10 years. This doesn’t mean that you shouldn’t ever have fun, but because of the magic of compounding interest it pays to be crazy frugal when you are young.
  • If you have high-interest debt, consolidate it. If you have high-interest debt try to refinance the debt (or consolidate) at a lower interest rate. For instance, if you have a home equity line of credit, and interest rates dropped, try refinancing and cash out enough to pay off your home equity line of credit.
  • Don’t carry credit card debt. Do everything possible to avoid carrying a balance on your credit card, the interest rates are truly insane and you’ll end up spending way more for the same thing.

Market Timing & Automated Investing

It’s impossible to tell if it’s a good time to buy any investment—the investment you are considering could drop, or skyrocket—no one knows. If you start to think you are smarter than all of the folks on Wall Street, you are in dangerous territory.

I had a fascinating conversation with a very smart engineer who used to work at a high-frequency trading startup. He mentioned that they had to run their software on custom servers that were located in a specific data center for these sorts of companies. The data center literally measured the length of the ethernet cables and ensured that all companies had an equal length of wire (the length of the wire affected your connection speed to the trading servers by some insanely small number).

This wasn’t even the most surprising part. The company ended up shutting down because their competitors built custom hardware, literally hardwiring certain trading operations in on the chip level, to gain a couple of extra nanoseconds of speed.

This is all to say: you’ll never be as smart as these folks, so don’t pretend you are. Don’t time the market. There’s someone out there thinking about being a couple of nanoseconds faster at making a decision than you are.

So, what should you do?

Ignore the current price of stocks and instead in a diversified portfolio by dollar cost averaging your investment.

For instance, to max out your IRA ($5.5k/year) split that investment into a weekly automated investment amount ($110) that is automatically invested. This is called dollar cost averaging.

Here’s why:

  1. Helps you manage my cash flow more easily (big chunks of money aren’t being withdrawn from checking on a monthly/quarterly basis)
  2. Eliminates the risk of "timing the market" that I detailed above
  3. After it’s setup, you don’t think about it and the decision is made automatically for me. If you get busy, get scared about prices dropping

You can easily set this up with Vanguard’s IRA, or any other modern-ish brokerage account. If you want to be even more hands-off and pay a fee (0.25%), you could use something like WealthFront.

Owning Your Own Business: Solo 401k

If you own your own LLC, you should setup a Solo 401k. You can contribute a significant amount from the employeer-side of the equation and skip the entire tax stack (FICA + state + federal). That’s a huge savings. There are lots of gotchas here with employees, etc, so do your research.

The Vanguard solo-k is very cheap (~$20/year) and super easy to setup. The web interface is horrible though. There’s probably some nice venture-funded alternative at this point.

If you are really aggressive you might run into this problem:

Suppose someone has exhausted his/her 401k and IRA investment options for a given year. What is available after that? Does the person just do it all after-tax, and then get taxed on it further when he/she withdraws the money?

In most cases, yes.

However, if your wife is a contractor for a company (or you can convince her employer to convert her into a contractor) you can route her income through the LLC and contribute even more tax-free to retirement.


"There’s actively managed funds that have a higher yield compared to passively managed funds!"

You could be right! So many folks are in passively managed funds this could create market risk which is not taken into account in asset pricing because we’ve never seen the negative effects of it.

Everyone has a different opinion on this; I don’t think it’s possible to really know the outcome.

"I can’t use funds that are added to qualified (tax deductible) accounts!"

In most cases that’s true. However, the tax savings of contributing to these funds are considerable and any tax savings will help offset the lack of liquid cash you have. Additionally, there are some provisions to allow you take funds out penalty-free if you need them (financial hardship, first time homebuyer, etc).

Additionally, by putting funds into these accounts you eliminate the possibility of spending this cash on something you don’t really need to enforce a certain level of frugality in your budget.


Here are some books/blogs I’ve found helpful:

Thanks to David Laprade, Patrick Nagurny, and Jack Maguire for reviewing this post and challenging my thinking.