Your Investments: How to become financially literate

In recent years, much emphasis has been placed on educating young adults about managing their own finances.

By BY AARON KATSMAN
February 17, 2010 22:19
3 minute read.
Your Investments: How to become financially literate

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In recent years, much emphasis has been placed on educating young adults about managing their own finances. In fact, some of the most well-known Ivy League universities have been offering courses on this topic. Two professors put together a quiz as the introduction to the course. Answer the three sample questions below, and see how well you do:

Quiz

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1) Imagine that the interest rate on your savings account was 1 percent per year and inflation was 2% per year. After one year, would you be able to buy more than, exactly the same as, or less than today with the money in the account?

2) Do you think that the following statement is true or false: “Buying a single-company stock usually provides a safer return than a stock mutual fund.”

3) Suppose you had $100 in a savings account and the interest rate was 2% per year. After five years, how much do you think you would have in the account if you left the money to grow: More than $102, exactly $102, or less than $102?

Answers

1) Less than today.

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2) False.

3) More than $102.

How did you do? If you didn’t score well, you are not alone. Researchers found that only 34% of adults in their fifties answered all three of the above questions correctly.

You’re on your own

While large financial companies hire the best mathematicians, actuaries and programmers to manage pension and retirement money, ordinary individuals are left on their own to perform many of these same tasks.

“There is nothing easy about finance,” says Annamaria Lusardi, a Dartmouth economist and visiting scholar at Harvard who studies financial literacy. “These are often difficult decisions for people who don’t have a lot of financial sophistication. My research shows over and over that financial illiteracy is widespread – not only among the poor or uneducated, but even people with college degrees.”

What should you do?

Even if you don’t have the time to learn about these subjects, there are some basic things that can be done to help ensure that you don’t end up in financial hot water.

First of all, it’s a good idea to try to keep track of your spending over a month or two. Attempt to leave your fixed expenses at 50%-60% of your income. This achieves two goals. First of all, if some kind of sudden, large expenditure arises, you will have the money to pay for it. Many personal finance experts believe that you should keep four to six months of monthly expenses in an emergency fund.

Second, this gives you the chance to start saving. Although it is not always easy to save on an Israeli salary, if you work for a company, this can be done through the firm’s Kupat Gemmel and Keren Hishtalmut. If you are an American citizen, you can also use the child tax credit that you receive from the US government for this purpose.

If you have neither advantage, but you can still save even a couple of hundred shekels per salary, this will only improve your financial situation. The moral of all this: Save, save, save.

If you are starting to save, or even if you have already been in the savings mode for years, or if you suddenly came into some funds, it’s important to save and invest your money correctly.

As stated in one of the aforementioned questions, simply putting your money into the bank means that in the long run it may possibly be worth less than its current value due to inflation. If you don’t know how to “invest correctly,” then it may pay to speak with a financial professional to make sure that your money works for you and not against you.

aaron@lighthousecapital.co.il

Aaron Katsman, a licensed financial adviser in the United States and Israel, helps people who open investment accounts in the US.

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