Originally released July 20, 2020
Did you miss Part One? Check it out here.
In the last post, we talked about what kind of resources are available if you’ve been struggling to pay your bills these past few months, and the kind of help providers and lenders – like banks and insurance companies – are giving us. We also talked about smart ways to create debt, if you absolutely need to, and why it’s really important to have a plan to pay off this debt before going into debt to make sure we don’t negatively impact our credit scores. I also ran through some frankly grim stats about our future, like how around 10% of job layoffs are expected to be permanent, and that the Federal Reserve believes that the unemployment rate will remain elevated for years. I also touched on how this has especially affected women and people of color as they face higher unemployment rates.
Today, we’re going to focus on what you can do with your money if you do still have income coming in, what you should be doing with any money you have left over after paying bills, and why it’s so important to build an emergency fund. We’ll also talk about what’s been going on with the stock market these past few months and how we can all make sure we’re better prepared for any financial surprises in the future. Especially as we see companies continue to file for bankruptcy and others start or continue to lay off or furlough employees, it’s clear that we all need to be ready for anything that might still be coming our way. If there is one thing we know for sure about the rest of 2020….it’s that we cannot know for sure what’s going to happen for the rest of 2020.
Let’s dive in and start with savings.
How many of us had some savings before March? I don’t mean a retirement account, but an actual savings account or an emergency fund. How much was in there? A thousand dollars? Enough for a few months? A month? Maybe nothing at all?
If your answer was closer to the nothing at all side, don’t feel bad! Because…same. Anytime I was able to get any sort of savings started, something would always come up, and I’d end up just focusing on my retirement account instead of putting anything substantial towards an emergency fund or savings. I knew that I was supposed to have some money for emergencies, but between paying off debt, contributing to my retirement savings, and at times living paycheck to paycheck, I didn’t feel like I had room to think about an emergency fund! The good news, though, is we’re not alone in that!
For years now, the majority of Americans have had less than $1,000 in savings, and this number was actually closer to 70% last year! Almost half had no savings at all, and women were also more likely than men to have zero savings. The most common reason for this was that so many are living paycheck to paycheck, and any money that could be used for savings ends up going towards a retirement account instead of an emergency fund. Sound familiar?
This year, the importance of having an emergency fund became very clear, very quickly for a lot of us. Putting aside savings for retirement is also important, definitely, but having an emergency fund is what makes us resilient.
It’s what allows you to have some financial cushion and not have to stress – as much – if any emergencies like a car accident happens, or you need to take a pay cut or lose your job entirely when, say, a global pandemic hits. It makes us better equipped to face any potential financial emergencies.
Plus, the other thing that happens when you have no savings: You’re vulnerable. Even if you’re debt-free, if you don’t have any back up money, when something happens and you lose your income – or it gets decreased – you’re back at zero again, and you’re forced to borrow money and go into debt.
Most of the time, experts recommend having 3 months worth of living expenses stashed in an emergency fund. This means three months worth of rent, utilities, any other bills like car payments and insurance, plus money for food. Recently, some are even recommending that you have six months of funding saved up since the future remains so uncertain. That number feels…really big. Maybe even impossible. But we’ve all gotta start somewhere, let’s start setting aside a dedicated portion of our incomes for an emergency fund and building it to one month, then another, and keep going from there! We can put this money into a high-yield account, like an online savings account, that would earn interest instead of just sitting there (and discourage us from touching it) vs. leaving it in a checking account. Again, this is an emergency fund for emergencies. Not a “that handbag I wanted is on sale so I should buy it” or “Let’s go on vacation” fund!
BUT!
Before you start throwing all of your money at your shiny new high-yield savings account, make sure you don’t have any high-interest debt left. For example, if you have any credit card debt that you’re also paying interest on, pay that off first before you start your emergency fund, since the longer you keep debt on the card, the more money you’ll be throwing at interest – and the more of your hard earned money goes towards the credit card company and not you. Generally, anything with an interest rate over 10% should be a priority because that interest will get expensive really quickly – especially because the interest compounds which means you’re paying interest on your interest which is why it can get so difficult to dig yourself out of credit card debt hell. For reference, the average credit card interest rate right now is around 16%. If the interest on your debt is less than 10%, you should still work to pay it off, but it’s not as urgent and you can work towards building an emergency fund at the same time. Of course, if you’re facing an imminent lay off …even if you do have some 10+% interest debt, you might want to focus on paying that off and building an emergency fund instead so you at least know you can pay for things like rent.
In 2020, the importance of having an emergency fund became very clear. This makes us better equipped to face financial emergencies. Plus, the other thing that happens when you have no savings: You’re vulnerable. Let's work towards building 6 months worth of savings!
Speaking of credit cards, there are things we can do with our credit cards to make sure we’re better prepared for any financial surprises in the future. I talked about this a little bit during the last episode as well but, as most of us know, our credit card spending has an effect on our credit scores. The bottom line is this: having a good credit score is important and can, amongst other things, help you get better rates on things like mortgages and car loans in the future, so we want to do what we can to make sure we don’t ding our scores. You can check out this post on credit scores here.
One way to make sure you keep a high credit score – or to start rebuilding your credit – is by paying off your credit card in full each month and not using up a lot of your credit. As I mentioned last week, using more than 30% of your credit limit can negatively impact your credit score, so definitely don’t spend the credit just because you have it! Then, even if you’re not making a lot of money or able to save a lot of money, by making sure you’re paying off your credit card fully every month, you can make sure you’re in better financial standing and better prepared for the future by increasing your credit limit while not increasing your spending!
If you’ve been successfully paying off your card in full for at least three months, you can call the bank and ask for an increase in your credit limit. Again, this doesn’t mean you should spend more but, because your limit is increased, your credit utilization would decrease, so your credit score could improve! Plus, worst case scenario, if you do find yourself in an emergency situation in the future, having a higher limit means you can put more money on your card while keeping credit utilization relatively lower. Again. Not recommended, but something that could help you if you’re in a total bind. By setting up these healthy practices and building up your credit score and credit limit now, this could help you in the future.
Okay. So, you’ve strapped down and paid off your credit cards, you have months worth of savings in a high-yield account, you’ve looked at your budget, and you’ve still got money to burn! One way to put that towards good use is by donating it to a charity of your choice, or spending it with a small or local or minority owned business. Or, you might want to boost your retirement account. Or you might be thinking about using your friend’s referral link to download Robinhood and start investing that money. But maybe, like me, the stock market makes absolutely no sense right now. Okay, to be fair, I’ve always been pretty confused about the stock market, but I have been even more confused about what has been happening in the stock market recently since it seems to be completely ignoring what’s going on in real life. So, I asked my friend over at Sharescoops, a great source of stock market and financial information, to fill me in on what is going on.
First, let’s talk about what the stock market actually is. It’s not a singular entity, but a market of stocks where people trade ownership shares of thousands of different public companies. Hence, the stock market. You can group and track these stocks in different ways, and these groups are called indexes. For example, you might have heard of the Dow Jones Industrial Average, the Nasdaq, or the S&P 500 – all examples of indexes. You might have heard a lot about the S&P 500, the cool kids’ favorite. This index tracks 500 large, public U.S. companies, like Microsoft, Visa, Coca-Cola, and Walmart. It’s essentially a weighted average of the value of these 500 companies and although the absolute value of it isn’t all that important, the direction and amount of growth is.
Now that we have a better understanding of the stock market as…well, as a marketplace with supply and demand, it’s a bit easier to understand why it moves separately from the more tangible economy. Take the S&P 500 for example. Those 500 big companies don’t represent the economy, much less all of the thousands of other major public companies. Plus, 99% of US companies are small businesses, and those also make up almost half of the U.S. workforce! That’s why, for most of us, our day to day lives and what we’re seeing around us don’t feel all that connected to the S&P 500 index at any point, unless maybe we work for one of those companies.
But…it still feels weird that those 500 companies, and the stock market in general, have been so optimistic in the past month. Which is fair. Let’s keep in mind though, that some of the huge return percentages quoted by the news that sound WILD are partly because that’s the media’s job. It’s also true that this massive rally (or consistent upward appreciation) has been one of the largest and fastest of all time. But that’s also because it’s following one of the deepest, quickest, and severe sell-offs (and steep depreciation) of all time. And remember, if you lose 50% of your value, you have to then increase your value by 100% just to get back to where you started. Keeping that in mind makes some of those big numbers we’ve been seeing look a little bit more reasonable-ish. And, a lot of these stocks still aren’t anywhere near where they started the year. For example, through July 14th, almost 80% of the S&P 500 is still down off of their peak values! Or take American Airlines. Although they jumped as much as 40% in a single day in June, it’s still less than half as valuable as it was at the beginning of the year which is a huge loss of value!
So who’s “winning,” so to speak? Big Tech. Microsoft, Amazon, Apple, Alphabet (Google’s parent company), and Facebook alone make up almost a quarter of the value of the S&P 500 and they’re all passing or nearing all-time highs! The other 495 companies only account for about 77% of the value. These tech companies are so large that they can move the market all by themselves.
Okay. So. That still doesn’t really explain why they all seem to be so optimistic and rallying when the world seems to be falling apart. Again, we have to remember that this is a market, so people are involved and this movement is in anticipation of what they think is going to happen. They sold off dramatically at the end of February and early March, way before anything actually started happening in the economy. Things didn’t start shutting down until later in March, and markets bottomed on March 23rd. And, as bad as the future looks right now…no one had any idea what was going to happen in the middle of March. We didn’t know what the virus was capable of, how long things would be locked down, and how drastic things would change or for how long. And while I still don’t think we really have an answer to any of those questions, economies are reopening around the world and showing that we will not be in 100% lockdown forever. Data on spending, travel, consumption and job losses all seem to have bottomed and are now trending back upward, and even though we’re still at an unemployment rate a lot worse than the Great Recession, everyone’s surprised that there were more people who went back to work than lost jobs in May and June. This means that investors are feeling like they have some basis to guess how things might change in the future and aren’t expecting the worst case scenario anymore, which is why you’re seeing some of these stocks making gigantic gains. Basically, the stock market is a bunch of people buying and selling things based on how they believe things will shake out for companies in the future. Buyers feel more confident now, and prices are going up accordingly.
There is a lot more to the stock market and to investing that I’ll be talking more about in the future over multiple episodes, but hopefully this provides a better understanding of why it’s a.) not reflecting the economy and b.) ultimately unpredictable.
With all that said, to answer your question: Should we be investing now or not?
Sharescoops says yes – the only question is how, and how much.
As we’ve seen, the stock market is on a rollercoaster at the moment but over the long term, the average does tend to go up! The key thing is to have a timeline of 3-5 years in mind before you put money into the stock market. Any money you think you’ll need before that time period is probably better off in that high-yield savings account we talked about earlier. Investing in stocks can be a gamble. Again, remember that it’s unpredictable, so two things you need to remember when investing are diversification and patience.
If you put all of your money into a single company, you could of course win big, but you could also lose big. If you instead bet on multiple companies, you lower the risk of losing. Like how you wouldn’t want to bet all of your money on one hand in Vegas.
For example, there are funds called ETFs, which stands for Exchange-Traded Funds. These are also called “Index Funds” or “Passive Investments ”. These funds pool together millions of dollars from a bunch of different investors to buy all of the stocks in, for instance, an index like the S&P 500. You’re able to buy a share of this pool, so that your money gets spread around and invested in a lot of companies instead of just one for a smaller amount of money.
Patience is also important because, as I’ll mention once again, investing is unpredictable and there is definitely risk! Remember, the S&P 500 fell almost 30% in just one month this year! It came back, but that doesn’t mean that it will always come back that quickly. You will lose money sometimes. But, even with all of the volatility, it has on average always gone up. The average return rate is around 7-10% in the long term, and there’s something called the Rule of 72 which I won’t get into right now, but it’s basically a simple way to estimate how long it takes for you to double your investment, and the Rule of 72 means that at that 7-10% rate, you’d double your money every 7-10 years.
All of that is to say….yes, there are definitely risks. We’re watching in real-time that no one can predict the stock market! But, if you are patient, invest systematically and smartly instead of emotionally, are prepared for volatility and, again, patient, yes, you should always be investing!
….If you’ve paid off your high interest debt. And have an emergency fund.