A Way To Reduce Poor Financial Decisions And Build More Wealth

Sleeping man next to water fountainThings sure felt great at the top of the market in 2007. Stocks were on fire. Real estate could do no wrong. Turning 30 was only slightly depressing for several days. I even remember being surprised at how little then President George Bush was making vs. a third year VP in finance. Then the bottom fell out of in 2008 as Bear Sterns and Lehman Brothers went buh-bye. Friends were getting fired left and right and all of a sudden nobody wanted to spend money anymore.

Things got so bad that I finally stopped feeling sorry for myself as my net worth took a plunge and started Financial Samurai in the summer of 2009. I had been putting it off for a couple years since work was so busy. Writing was a cathartic way of easing the financial pain. Reaching out to others online helped me put things in perspective that the world was still turning despite what the media constantly reported. Eventually the worst passed and we began to recover.

The events of 2008-2009 serve to remind me how incredibly naive and stupid I was to think the good times would last forever. Up until 2008, nothing noticeably bad had happened to me. I got into a decent college, miraculously passed seven rounds of 55 interviews to land my first job, was able to get a promotion to a new firm in SF two years later, made VP in 2005, and finished up my MBA the very next year. What could go wrong but everything.

Remembering poor financial decisions is a great way to counteract frivolous spending as well as minimize greed when it comes to investing. The method I use is called “Financial Mean Reversion,” which states that in order to justify spending unnecessary money, I’ve got to first make up for my spending errors.

SOME DUMB FINANCIAL MISTAKES OVER THE PAST 10 YEARS

1) Stubbornly averaged down on stocks well below a 20% stop limit. When I was 28, I lost over $30,000 in one stock named Gastar (GST) because I was sure gas prices would rebound. They never did in my 6 month holding period and I was taken to the cleaners.

2) Going way outside my risk tolerance by buying stocks on margin and not being able to hold on long enough due to margin calls. Online investing makes it so easy to leverage up on margin, be careful! I would frequently trade up to 3X exposure on my equity balance.

3) Not being able to walk away from poker games up, leading to losing everything due to overconfidence. One time I was up over $2,000 but started playing reckless because I kept thinking it was “the house’s money.” I should have just quit and come again another day with $200 as a starting limit.

4) Bought a vacation property for a 13% discount to the previous purchase price only to see prices go down another 15-20%. Getting a property for $100,000 cheaper than what the previous owner bought it for was a thrill until it went down another $100,000 thanks to foreclosures! I don’t plan to ever sell the place, but it sure would have been smart to have waited a couple more years until purchase.

5) Purchased a $78,000 automobile at the age of 25 only to sell the car back to the dealer for $59,000 a year later because it wouldn’t fit in the garage of a property I wanted to purchase. I should have just stuck with a $20,000-$30,000 car and invested the remaining ~$50,000 in the market or in real estate that would have gained conservatively 50%-100% in a 12 year time period. That’s a negative $45,000 to negative $75,000 loss.

Collectively, these spending errors probably amount to roughly $300,000 in lost wealth. Hence, in order for me to justify spending any more money, I’ve got to make $300,000 in positive wealth decisions to get back to even.

The idea is akin to my mental to physical connection for a healthier lifestyle where I exercise a set amount after a certain amount of time working in front of the computer. This way, I should never get too out of shape no matter how much I work. Being a big blogger is nice, but not in the physical way!

HARD TO COME EASY TO GO

If you lose 50% of your money, it takes a 100% gain to get back to even. Always remember this simple math whenever asset classes are going nuts. When you realize your money has gone *POOF*, it’s one of the worst feelings ever. But instead of ignoring this feeling I sometimes masochistically try to re-live it every time I’m about to spend an unusually large amount of money on anything, including investing.

With my Financial Mean Reversion thought process, I’ve managed to curb my spending habits on things such as:

* Cars. I still drive my 13 year old truck I bought eights years ago for $8,000. Moose has 121,000 miles on it and runs just fine. I used to go through a new or used car every single year for eight years. As a result, I wasted a lot of time going to the DMV and paid a lot of taxes and registration fees. At least I became an expert at understanding everything about auto insurance because I had to keep on adjusting the policy!

* Electronics. I haven’t bought any electronic devices in five years except for an iPhone 5 as a business expense in 2012 – no iPad, no new laptop, no nothing. By delaying gratification, I’m able to maximize the use of my electronics, pay a discount, and not have to be the guinea pig for all sorts of bugs that go along with new product launches.

* Vacation properties. One or no vacation property is enough. Vacation properties are an absolute luxury expenditure that hurts wealth creation more than it helps. Unless you plan to spend at least 30 days a year at your vacation property and have gobs of money oozing out of your ears, it’s more economical to just stay at hotels or rent villas. Time shares are probably even worse. I thought my income was going to just keep on going up in 2007, and if 2008-2009 didn’t happen I probably would have kept buying random properties to my financial and mental demise. Instead of overloading on property, I spent my energy developing the X Factor portion of my net worth, which is my online business.

* Clothing.  Designer clothing and accessories have the highest margins of any product. As soon as you study the financial statements of designer brands such as LVMH, you will never buy anything designer again! Furthermore, the main reason why designer clothing looks good is because the people modeling their clothing are fit and look good. Instead of spending money on expensive clothes, I just go simple and try and stay as fit as possible instead. Luckily, I cut out my desire for things expensive clothes by the 10th grade.

* Stocks. After being burned one too many times, I’ve adapted a long-term investment style that’s not on margin. I set aside at least 35% of every dollar earned into an index or mutual fund in good times and bad times. I’m no longer wigged out by short term movements, which has significantly reduced stress associated with investing. I will still chase unicorns with a small portion of my wealth because taking risks is in my blood, especially since I spent my entire career investing in the markets.

RECOVERING FROM LOSS

Have I recovered from the $300,000 in bad decisions I’ve made over the past 10 years? I think so given the recovery in the stock market and housing market as well as some profitable new investments since. By following the 1/10th rule of car buying, I’ve been able to invest the extra money which has grown in value. By minimizing spending on clothing and electronics, I’ve learned to better appreciate what I have and simplify my belongings. By focusing on rental properties to build wealth instead of vacation properties, cash flow has drastically improved. Finally, by staying committed to this site I’ve surprised myself with a revenue stream that is both viable and life changing.

So long as we keep our losses and mistakes in the front of our mind, I strongly believe we will minimize poor financial decisions. We will do more in-depth analysis before making an investment. We’ll think twice about borrowing money to buy something we don’t necessarily need. Most of all, we won’t let ourselves get so delusional into thinking we are the second coming of Warren Buffett.

I do fear there is currently a major disconnect with where some of our younger friends are thinking about wealth given all they’ve ever experienced is a bull market. A large correction may not come this year, or even next year. But trust me, it will come one day. And when it does, just remember that everybody takes it on the chin if they invest long enough. The hope is that you will learn from your mistakes and get better all the time.

Readers, what type of poor financial mistakes have you made? What are some ways in which you minimize poor financial decisions to build long-term wealth? Do you know of anybody who thought they could do no wrong financially and blew themselves up?

Photo: Sleepy fella in Frankfurt, 2013.

Regards,

Sam

 

Sam started Financial Samurai in 2009 during the depths of the financial crisis as a way to make sense of chaos. After 13 years working on Wall Street, Sam decided to retire in 2012 to utilize everything he learned in business school to focus on online entrepreneurship.

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Comments

  1. says

    Considering the poor decisions made previously and focusing on making up for them is a great way to reduce further mistakes. My biggest mistake has been investing small amounts in the stock market short term as opposed to putting in larger amounts with long term holding periods (ideally forever). When I realised the percentage of profits I wasted between brokerage and taxes, I quickly realised it wasn’t worth it. Sure, making 5% in a fortnight works out to be the equivalent of a 130% annual profit, but if you’ve only invested $2,000 and paid $15 brokerage each way and then pay 32% tax it quickly becomes not worth it.

    To make up for some of the money wasted in brokerage, I purchased my car second hand. 20% below new price for a car which was 12 months old with 1700km on the odometer. It had spent it’s whole life garaged by an old lady who was too ill to drive.

  2. says

    Oh poor financial decisions, I know thee well.

    If there’s consolation at all, maybe it’s that we were “young” when we dropped the ball and have had time to recover.

    There’s stills a scar, but it takes some pain away, for me at least.

  3. B says

    I think my biggest financial mistake so far was not being more aggressive during the recession. I wish I had borrowed money and bought more real estate. I bought quite a bit, but was so meek about it in retrospect. If I could go back in time, I would have quit my job and begged and borrowed from every bank, friend and family member I could, buying as much real estate as possible in Arizona. And right now I’d be sitting on a beach watching the sunrise, enjoying rents until the market almost inevitably gets too hot, at which point I’d sell and wait a few years to re-enter during another glich. This is my plan for the next round, and now at least I have a track record to show the banks.

    • says

      Being not as wealthy as you could have been is not that bad a mistake. It’s like saying in an interview your biggest weakness is that you are so organized.

      Not bad! Congratulate yourself for not making self inflicting financial errors like I did.

      • B says

        I disagree (respectfully) :) I would tell an interviewer that my biggest weakness is that I suffer from analysis/paralysis, and I also think that is the root cause of my biggest financial mistake. Not following my ‘gut’ when it was almost a no brainer arguably cost me 10-20 more years of billing away at a law firm. I think the inability to follow your instincts or heart can be the most costly mistake of all – arguably even more financially expensive than buying a fancy car and selling it at a loss.

  4. says

    I biggest mistake has been not taking more more risk. There are times when I know I should be buying aggressively, but then things go against me a bit and I end up taking a small loss instead of holding for a large gain. I need to commit to intelligent risk more, and have been working hard to put a system in place to help me do that. I think you’ve written about that in the not too distant past.

    • says

      Like I mention to “B” above, you should congratulate yourself for not making self inflicting financial mistakes like I did if you don’t error is to not be more aggressive. Makes me bullish on America that so many people are doing well.

  5. says

    The real slap in the face is when you think you’ve made a smart financial decision only to see it go sour. For me, that happened in real estate when, as a first time home-owner, I purchased a house that ended up being a “lemon.” That situation is tougher to swallow than poor decisions in certain stocks or when buying “toys” like cars (although I don’t mean to diminish the poor decisions you’ve highlighted, Sam).

    • says

      That was a crazy rough foreclosure story. It was mentally disturbing to see my vacay property decline in value as people stopped paying their mortgages. But during this time I got to enjoy the property and also received an out of the blue loan mod from BOA that lowered my rate by a whopping 1.5% for free. Gotta look on the bright side of things!

      • says

        That’s awesome about the loan mod especially since it was unsolicited. You’re right, about looking at the bright side of things although in some situations the brightness is rather dim! For my situation, other than some intrinsic lessons learned, there wasn’t much radiance going around.

  6. says

    Fortunately I haven’t made any giant financial errors. I did make a bunch of smaller ones though, especially in my early 20s when I got the taste of spending with plastic. I also didn’t start saving money for my retirement for several years after I started working so I lost out on all those returns and tax breaks. I don’t have a desire for luxury goods really so I’ve been able to save pretty well. I really like your points about your Financial Mean Reversion methods!

  7. says

    I made a number of similar mistakes. We purchased our condo during the boom year and the value still haven’t recovered. At least it’s not underwater at this point. I also invested on the margin, but that was pretty early on in my investing life (dot com.) After that I learned and don’t invest with margin anymore.
    Now, I think I’m getting a little too conservative. I should have loaded up on even more properties during the housing crisis. Oh well…

  8. says

    Not the worst but one of the bad financial decisions I ever made:

    After a night of $1 drink nights in Davis, California, we headed back to Elk Grove (25 minutes). I wasn’t driving and we had a DD. When we got back to the house we all met at to start the night, I decided I needed to wait to drive as I didn’t feel safe to drive. With everyone asleep and me wide awake, I go for a walk around the block. Sure enough, a car pulls up and two guys get out and mug me. After they got my wallet, keys, small amount of cash, and brand new digital camera, one guy showed a gun and told the other guy to shoot me. This is when I ran. They were idiots and couldn’t catch nor find me.

    As to the poor financial decision…A week later I walked into a Best Buy, opened a credit card and replaced the digital camera. Why? Because I felt like I deserved it. Those muggers weren’t getting over on me. What an idiot i was in 2005. I paid way more than I should have and really didn’t need it.

    So the guys who mugged me were idiots but I was probably a bigger one for continuing the horrible financial approach I was by buying what was not needed for a poor college student.

    Good times…

    The Warrior
    NetWorthWarrior.com

    • says

      Ehhh, I’m glad you didn’t got SHOT! Damn… you musta bolted. Who in their right minds mugs a fella, and then decides to risk shooting them? Hope you are living in a safer place now. That is scary. I’ve got a post in my queue talking about my own mugging as well.

      I hear you on not wanting to let the muggers get the best of you and buying a camera.

      • says

        What I think was the one guy driving the car who stayed in the car was already a gang member or something and the two that mugged me were just part of some initiation thing and were too scared to shoot me. Trust me, they could have shot me right away if they really wanted to. Once they second guessed shooting me, I was already quite a way down the street and hid.

        Good times…much safer area now, but it could happen anywhere.

        Looking forward to your post on getting mugged. It’s like a (proud?!) fraternity. ;)

  9. says

    I don’t have too many *large* financial mistakes, but the one I most regret is buying myself a brand new car as soon as I got my first job out of college. I love the car and still drive it today, but it cost about 60% of my annual salary at the time. Every time I think about what else I could have been doing with all that money I want to go back in time and slap myself in the face over that.

  10. nbsdmp says

    too funny…I think we’ve all made very similar mistakes financially over the years. I’m still making the car mistake, but I call it a hobby and live within your 1/10th rule so maybe its not that terrible. Luckily for me, my ability to earn has out paced my ability to make mistakes…the older I get the more old-fashioned I’ve become in my approach. I’m not a trained financial analyst or Stanford MBA, so my philosophy is if I can’t understand the investment well enough to explain it to a fifth grader, I take a pass. I’ll definitely miss out on some exciting opportunities, but slow and steady is fine for me.

      • nbsdmp says

        Most of my mistakes are thinking that I could out smart the market, usually with individual stock picks. A company that had a self heating beverage container comes to mind that I did business with & thought it would shoot to the moon because everybody wants to drag around a huge self heating container the size of a thermos to drink 12oz of coffee right? Wrong! The other was thinking that you can NEVER lose money when buying property on the water right? Oh yeah, it’s possible! Thankfully I’ve learned from silliness…I don’t buy individual stocks anymore (even though I “knew” Ford stock when it was less than $1 was going to go up 1200%). I’ll probably do a little more gambling on individual stocks in the future, but I think of it as just that…I leave the actual money management to the professionals who know what they are doing!

  11. Ryan says

    I’m only asking this question here as it is the latest article (the previous article is somewhat more relevant).

    If you were in your mid-late twenties, married, no kids, and knew someone who was trustworthy (they are a friend to us and my in-laws) and a little younger than you, would you consider letting them rent a room in your house?

    Obviously I’d draw up the proper paperwork (financially it would be a great decision), etc, but I’m more-so trying to gauge people’s opinions from the non-financial side.

    • nbsdmp says

      Unless this person is your best friend and there is a VERY finite amount of time they will live there I highly recommend against it. I am actually letting my best friend and his wife live in my guest quarters (free) until their new house is complete (about 2 months) it is totally cool because I have separate kitchens and living areas so there is total privacy, but unless this person is super close to you like in my case there will absolutely come a day when you resent not having your complete privacy and want them out. Don’t do it, it will cause stress in your marriage and not worth any extra $ you might gain.

  12. K says

    My biggest financial mistake has been FOOD. I’ve always had a crazy metabolism and have always been that skinny girl (size 0 or 00 at 5’6.5″) who never gets fat, so I can literally eat what I want even and even after two kids, but I’m also a super taster so I appreciate and LOVE good food. No matter what my income was, even as broke college student, I still was willing to spend a good chunk of money on good food. As an adult with a family I continued that, and when I decided it was time to start cutting back on expenses I was shocked to find that we were routinely spending thousands per month on food. I shudder to think about it because it’s one thing that you literally cannot get your money back on and you have nothing to show for it. I mean, at least money wasted on designer items can still be recouped to some extent by selling on ebay or consignment shops or whatever, but money spent on food literally goes into the toilet.

    My second biggest financial mistake was spoiling my family in the first years that I started making good money. I had it in my head that since I had the means to do it, I should get them the most expensive clothes, toys, gear you name it (because I didn’t have any of that as a kid). I was addicted to seeing their face light up when I got them a new toy or piece of clothing or tech they wanted. Or their excitement and happiness when they would ask and I would say “yes”. It’s different now of course but it was before I got it under control it was very bad.

      • K says

        REALLY!!?!?!? I felt so bad spending thousands per month on food though. You sure it’s no excessive to spend over $3K on food per month? I feel so embarrassed saying it! Last time I said that someone told me that’s how much their mortgage payment is. I hear of families sending only $500 per month on food. Lowest I could get it to is $1500.00 and I still think feel like that’s a lot but I’d feel really guilty cutting it any lower than that. I just don’t buy name brand or eat out as much anymore but it still feels like always adds up at the end of the month now that I’m keeping track.

  13. says

    Waiting around for electronics when they’re needed is the best option. By waiting, you can either buy one second hand from someone who was too broke to buy it in the first place and is desperate to sell or wait until the price comes down which it always does.

  14. Omar Little says

    My recent regrets have been a few pairs of premium denim that don’t fit well enough anymore. I paid over $100 for each one too.

    • says

      Just gotta get motivated to lose some pounds. Tight clothes is one of my biggest motivations to stay in shape bc they are so uncomfortable and I dislike shopping. I’ve had my same jeans from 2000, Disel jeans I spent way too much for in NYC.

  15. says

    I’ve certainly wasted my share of money on new cars and other stuff I didn’t need. Lifestyle inflation struck hard and I don’t even live in an expensive area. Thank God we avoided the vacation home!

  16. says

    Oh man. I hear ya on the electronics front! I’ve done my best to not buy the iPad or any other devices. So far I’ve been able to resist. However, I still find other ways to spend money on a daily basis.

    One thing I don’t regret is going out. My friends and experiences have made me the person that I am today.

  17. says

    I first bought 400 shares of Netflix at $9 a share when I was living in the Bay Area because everyone was using it. I sold it at $24 and thought I did well, only to watch it go up to nearly $300. I invested a lot of my proceeds in satellite radio which lost me a big chunk

  18. Babets says

    Sam, if everybody would think like you do, with little to no consumption of cars, clothes, etc, the global retail spending would sink and drag down the entire economy! Please note, I am like you BTW….

    My biggest mistake was to panic when stock sinked and sell or avoid buying when they were very low. I think fear is what prevent people to make money.
    Not buying Apple at 30$ when they came up with the i pod was a huge mistake. Not buying Tesla after I spoke to a sales agent and he said waiting list was 6 months was a mistake. Not buy a boat load of Bank of America at 5$ was a non sense.

    Personally I regret more what I should have done and did not than what I did and was successfull.

    Make sense?

    Keep up the good work!

    • says

      Tesla… I was totally going to buy the stock this spring and didn’t either. Darnit!

      I do want the rest of the world outside our community to spend to oblivion so our investments can continue to go up. Just need a heads up when folks decide to spend within their means so we can cash out! :)

  19. Mike says

    Came out of college with 20k and a bachelor in science. Couldn’t find a job that I wanted in 2008. I was a previous agency recruiter and was not getting phone calls to do any work other than agency recruit which I did not want.

    Between dating and drinking, lost all of it until 2009 when i started my career over as an intern.

    • says

      Sorry to hear that. On the bright side, with only one year out of school it’s better to lose that amount than 20 years worth of savings after school!

      Dating and alcohol. Not so bad. Things you will reminisce.

  20. KeithR says

    Yes indeed – keep the losses and the and experiences at the front of our minds – I’m doing that right now after some really terrible decisions, which I kept making to an advanced age! Amongst these was being so risk averse I couldn’t see opportunity when it landed on my head! Now I’m trying to catch up with rather more than three years! More than ever, I think investing has become a long-term game, as the computers gobble up all the short term opportunities in micro-seconds!

  21. says

    The best time to make mistakes financially or otherwise is when you are young! You have the time to recover or counter the mistakes. I think it is the single most important factor of building wealth because time can counter mistakes and bad judgment. My financial “mistakes” were mainly selling too soon. I have changed that habit to buying smarter and better and holding during the very volatile period we are going through. As I get closer to retirement, I cannot recover mistakes as easily because of the time factor. I am only aggressive with about 5-10% of my portfolio.

  22. says

    I can absolutely relate to consistently getting new cars…no more. The wife and I paid off both cars almost a year ago and have every intention of putting another 100,000 miles (both are at ~ 60,000 now) on both before even thinking about new (used) cars.

  23. says

    Insurance.

    Just graduated college, so no college health plan, still working part time, so no work-related health insurance. College student, so basic car insurance, but no uninsured motorist insurance. Got run over on my motorcycle, and she was uninsured. Got let go from work 2 days later once I finally made it back to the office. So there I was, savings wiped out by medical bills and still owing another $10K, no job, no transportation.

    Lesson learned: always keep your insurance coverage. Health insurance, liability insurance, uninsured motorist insurance. You’ve worked hard to earn what you have, so take the trouble to protect it from accidents, and malice.

  24. says

    Giving them money would only “enable” their poor financial decision-making, postponing the pain associated with their decisions. Listening to their problems is also enabling them, especially if you give the impression that you agree with how they feel about their situation or their former spouse. The best thing you can do is to distance yourself, if only for a few months. You are putting yourself in the middle of a fight that is not yours and which you cannot resolve.

  25. Sam says

    My mistakes are buying a renovation job of a house at greater than market value – spending too much to fix it up – selling it 2 years later and not covering costs – new house deciding to renovate again which although nice hasn’t increased its value. Spent inheritance on nearly paying off mortgage, borrowed against house as asset and bought rental property where rental doesn’t cover costs / will I ever learn! Can only hope for capital gains I think.

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