Last Friday, LinkedIn had it’s monthly “InDay”, an event where the company encourages employees to pursue research, ideas & interests outside of their day-to-day responsibilities. (This is the same day that I run the regular LinkedIn Hackdays for the company.) This month, the theme was “personal finance” as a brief nod to the ominous due date for income taxes in the United States.
For fun, I volunteered to give a talk based on material that I’ve put together over the years called “Personal Finance for Engineers”
I cover the most obvious two questions up front:
- Why Personal Finance? Personal finance is a bit of a passion of mine, and has been for almost twenty years. It’s both amazing and shocking to me that you can attend some of the finest secondary schools and universities in this country, and still not get a basic grounding in personal finance. More importantly, it happens to be an area with a huge signal-to-noise problem: there is far more “bad” advice and content out there than good content. And lastly, I believe that money matters are deeply important to the long term success and happiness of most people. The fact remains that when I’m experiencing a health complication and need money to expedite my EHIC application, money suddenly matters a lot! (Let’s face it, money happens to be one of the top three causes of marital problems)
- Why Engineers? The talk isn’t purely for engineers, per se, so this reflects a personal bias (I just empathize more with engineers more than other people). That being said, engineers tend to make higher incomes earlier in life than most people, and thus face some of these questions earlier. They also tend to have stock options, a fairly advanced financial instrument, as part of their standard compensation. Probably most troubling, engineers also consider themselves exceptionally rational, which makes them more prone to human weaknesses when it comes to money.
It was very hard to decide how to condense personal finance into a 60 minute talk (I leave 30 minutes for advanced topics). I decided to focus on five topics:
- You Are Not Rational (Behavioral Finance)
- Liquidity is Undervalued (Emergency Fund)
- Cash Flow Matters (Spend less than you Earn)
- The Magic of Compounding (Investment Returns & Debt Disasters)
- Good Investing is Boring (Asset Allocation)
The deck is not perfect by any stretch, and I have a number of ideas on how to improve it. There are some great topics / examples I missed, and there are some points that I could emphasize more. I spend literally half the time on behavioral finance, which may or may not be the right balance.
The talk went extremely well. We had well over 100 people attend, and stay through the full 90 minutes. Surprisingly, I got more thank yous and follow up questions from this talk than any other that I’ve given at LinkedIn. I’m strongly considering giving it again, perhaps at other venues, depending on the level of interest.
Let me know what you think.
Psychohistory 
It’s a very good deck. I came at this from a slightly different angle a while ago – http://erehweb.wordpress.com/2011/03/31/financial-planning-for-hackers/
giving thoughts on how standard financial rules should be tweaked for those in tech. Would be very interested to see your thoughts on that in a sequel.
Adam-
Another great post on a very important topic. Most of your counsel is spot on but I think there are a few real-world factors you need to mention that can have significant impact on the numbers.
Let’s start off with the power of compounding. While the arithmetic of that concept is undeniable, how it actually plays out in the real world may be quite different. First of all, the compounding concept generally applies to interest-bearing products such as a CD, money market fund, or a bond. There, you’re pretty much guaranteed a rate of return of x number of years where compounding effects will absolutely work. But these vehicles generally pay in low single digit yields.
To get higher yields, you need to invest in riskier asset classes such as stocks or mutual funds. But here, the gains come mostly through capital appreciation which we all know can fluctuate greatly from year to year. In other words, your assets are growing from capital appreciation (usually in a few spectacular years) and not from the effects of reinvested earnings compounding annually. For example, if you invested in the DJIA in 2000, you’re essentially break even after ten years, with zero compounding benefits. Investing early didn’t help.
Two other important factors to consider are taxes and inflation. Assuming your investments earn an average gross annualized return of 8% (which is really hard), a quarter of that may disappear to taxes and you lose a few other percentage points due to inflation. Your real return will be closer to 4%. So when people use these power of compounding calculators and figure they’re all set based on their current savings levels, they need to think again.
Finally, I think any discussion of personal finance has to mention health insurance and long term disability. I speak from experience. When my mother was going through cancer treatments, I was just blown away by the medical bills. Thankfully, she had just turned 65 and was covered by Medicare and supplemental private insurance. But if she was a year younger, her private insurance policy would have capped out, leaving huge bills. So when you get older, all your hard-earned savings over the decades can be wiped out overnight if your health insurance coverage isn’t sufficient. It’s the #1 cause of bankruptcies in the U.S.
It may not come across in the deck, but when I discuss compounding it was purely to understand how the numbers work, rather than any expectation of return. In many ways, I left all topics related to expected returns on planning for goals out of the deck as a future topic. To be honest, however, I do not think that the problem you are discussing here is the dominant problem for most people. For most people, the issue isn’t that they are using calculators and basing plans on bad numbers. The issue is that they don’t save or plan *at all*.
Good points, of course, but had no way to cover everything in such a short time. 🙂
Congratulations! I looked at the presentation and it looks really interesting. Any chance of having it on video as well?
Ola! Blog,
Thanks for your thoughts, Feeling financially secure in your future is a comforting thought. Learning how to manage your personal finances is a goal everyone should strive to as it brings about rewards rather than despair.
Great Job!