The concept of human capital is an interesting one. A young person may have no significant assets other than the potential to earn money over his or her lifetime. This potential is called human capital. Over time, we turn our human capital into actual assets. Moshe Milevsky does a good job explaining the idea of human capital in his book, Your Money Milestones . He gets his students to create a personal balance sheet. The first versions they produce are usually depressing; they are full of student loans and few assets. Then he teaches them about human capital. They work out their expected income over their working lives and add that to the balance sheet. Presto! Now they are millionaires. Human capital is definitely a worthwhile concept in personal financial decisions. However, it is misleading to include future income without considering future needs. We all need water, food, clothing, and shelter. Even the most basic versions of these things have a cost. Nobody wants...

The abbreviation ETF stands for exchange-traded fund. It used to mean a basket of equities making up some broad index where the annual fees charged were very low. As investors came to understand that ETFs were good, the name “ETF” began to be used for just about any type of investment. At first it was very narrowly-focused exchange-traded funds that got in on the ETF name. It’s hard to argue that this was really an abuse of the name, though, because these funds were, in fact, exchange-traded. But they were different from the original ETFs in important ways. Firstly, they had higher fees, and secondly, they did not represent a broad index (as Preet observed recently ). For a while I tried to use the cumbersome term “low-cost broad-index ETF” to get at the original meaning of ETF, but that’s not a very catchy name. Lately, the name ETF has been attached to index mutual funds as well. Because mutual funds aren’t exchange-traded, this is hard to justify other than with the we-w...

Moshe Milevsky thinks that many homeowners should have rented. In his book, Your Money Milestones , he makes many good points to support his conclusion. However, there is a compromise choice that may be better than either typical home ownership or renting. One of Milevsky’s arguments comes down to a correlation between wage risk and the investment risk in owning a house. If a big local employer leaves town, people lose their jobs and at the same time see the value of their houses drop. Another of Milevsky’s arguments is that houses represent too high a percentage of the typical homeowner’s net worth. Having all your money tied up in one house is similar to having your entire portfolio tied up in one stock. Milevsky does discuss some of the benefits of home ownership. There can be social benefits to having stable neighbours who help each other. To this I would add the benefit of not having to interact with a landlord. I don’t see this as a binary choice. A compromise that...

1. Preet takes BMO to task for trying to add “ETF” to their index mutual fund names to cash in on the popularity of ETFs . 2. Big Cajun Man is fretting about his huge cash outlays for his kids’ schooling .

Most investment analysis is based on the assumption that returns follow a Gaussian or Normal distribution. However, examinations of available data show that returns don’t exactly follow this pattern. Benoit Mandelbrot of fractal fame suggested the Cauchy distribution as an alternative that may agree better with real-life investment data. To illustrate the difference between these two theories, suppose that you invest money over a period of time, and based on historical data, you expect to have $1 million on a certain date. Suppose further that historical data suggests there is a one in ten chance that you'll actually have $750,000 or less. What is the chance that you'll actually end up with $250,000 or less? The Gaussian distribution says that the odds of this bad outcome are less than one in a billion. However, the Cauchy distribution says that the odds of this bad outcome are just over 2%! This is an enormous difference. The available evidence shows that real lif...

With the skyrocketing veterinary costs for pets, many insurance companies are offering pet insurance. However, it's hard to find a good reason why pet owners should buy such insurance. The main idea behind insurance is to reduce risk. Suppose that you are forced to do a random draw of one ball out of 1000 lottery balls. If you pull the one bad ball, you have to pay $100,000. If you pull any of the other 999 balls, you pay nothing. It would be nice to buy insurance to cover the case where you pull the bad ball. In a simple analysis, this insurance premium should be $100. Out of 1000 people, we expect only one to pull the bad ball, and then the total premiums of $100,000 would exactly cover the required payment of $100,000. However, insurance companies have overhead and expect to make profits. They are more likely to charge $200 for this coverage. This illustrates an important point. The total of insurance premiums that you pay is expected to be more than the amount th...

A reader, Bill in Albuquerque, asks the following question (lightly edited): I have $1 million in a retirement account that I can’t get at yet (and don't need for another 10 years or so—I'm 59). The equity firm that has this IRA account now (not my employer—I retired 5 years ago) has been doing a lousy job, IMHO, for their 1%/year expense. Do you have any suggestions as to what other options might be available to me as a place to invest that money? I've thought of Max Advisor and have talked with the manager. I have also thought of managing an ETF portfolio based on Kiplinger recommendations. Thoughts? My starting point for financial matters is always personal education. You are unhappy with your current money manager, but why? Perhaps you have good reasons. To assess a money manager, you should make sure you understand your current investments. What is the breakdown of stocks, bonds, real estate and other asset categories? Are the percentages appropriate fo...