Here’s an example: You buy a house and get pre-approved for a mortgage.
Since you can handle the payments at today’s low interest rates, you willingly sign the deal.
But what if interest rates rise sharply and your income doesn’t go up at the same rate?
What if your property’s value stays the same or even (gasp) drops? Unlikely, you say?
Well, it happened in the United States. Many people took on huge debts based on their current circumstances and failed to look ahead. You could be in for a shock when borrowing money at the lowest rates in 50 years and expecting no changes in the future.
Ignorance of the big-picture economic context behind today’s rates could lead to financial disaster.
"In the early 1980s, people were locking in mortgages at 22 per cent," says Gary Rabbior, president of the Canadian Foundation for Economic Education.
"Anyone with any economic understanding would never lock in, knowing that 20-per-cent-plus interest was not sustainable."
His advice: Make sure you can handle the future. Don’t just make decisions based on the present.
Moshe Milevsky, finance professor at York University’s Schulich School of Business, makes the same point.
"Just because you can afford today’s variable rate of 3 per cent doesn’t mean you can afford it when rates go up."
In his view, financial literacy means being able to plan ahead for your whole life cycle – not just for the next few months or years.
You can use the same strategies in managing your household finances as corporate executives do, Milevsky says in his new book, Are You A Stock or a Bond? (FT Press, $28.99).
Think of yourself as You Inc. – a small, tightly controlled, privately held company with most of its assets invested in your future salary and wages cash advance. As chief executive, your goal is to maximize the shareholder value of You Inc., while minimizing the financial risks faced by the corporation.
On your personal balance sheet, you have financial assets (such as investments) and non-financial assets (such as cars and houses).
You also have liabilities (such as mortgages and credit card debt).
One thing often overlooked, however, is your human capital.
"When you’re young, broke and possibly in debt, you likely have 30 to 50 productive years of income-generating work ahead of you," he says.
This income can add up to millions of dollars. It’s the single most precious asset on your personal balance sheet – worth more than your savings account, investment portfolio, jewellery or even your house. Your human capital is the best asset you have. You can build it by investing in education, job training and networking.
Here’s Milevsky’s advice: Get into the habit of computing the value of your human capital each time you make a major financial decision. By doing this, you can get a comprehensive picture of your true worth and not just a partial view.
"Eventually, the Bank of Canada will raise rates. There’s no doubt about it," he says.
"But we have deluded ourselves into thinking that all that matters is being locked in for five years.
"Every time you make a decision that is costly or difficult to reverse, stop and talk to someone about strategic long-term financial planning."
Next week, we’ll wrap up this Money 911 series with a look at how parents can boost the financial literacy of their children.
eroseman@thestar.ca
Signaling an attempt to move forward on stalled U.S. union legislation, AFL-CIO president John Sweeney would back speedy votes by workers on whether to join a union rather than the much-attacked “card check” provision, The New York Times reported on Saturday.
Sweeney, head of the largest U.S. labor federation, told the newspaper he would accept a fast election campaign because it would help stem management interference during union organizing drives.
The card check legislation, backed by U.S. President Barack Obama, would let workers decide whether to unionize by signing a petition or holding a secret-ballot election. Employers can now require a secret ballot.
Any move away from card check would mark a victory for the business community, the Times said.
Sweeney said he “could live with” fast or snap elections “as long as there is a fair process that protects workers against anti-union intimidation by employers and eliminates the threats to workers,” the paper reported.
Critics of the legislation say unions could bully workers into signing a petition and that a secret ballot is a tenet of democracy. Backers of the bill argue companies have undermined elections with threats against workers, anti-union campaigns and lengthy delays auto loans for people with bad credit.
Richard Trumka, secretary treasurer of AFL-CIO and the likely successor to Sweeney as president, told Reuters in July he was ready to push on a card check law, which has faced stiff opposition from Republican lawmakers.
The Employee Free Choice Act has been bogged down in the Senate, opposed by a vigorous lobbying effort, and compromises had been expected.
Some key Democratic senators have told labor leaders they could not muster the 60 votes needed to assure passage of a bill that included card check, but the union officials have held fast to the idea, at least publicly, the Times said.
“If modifying that in some way or another is going to bring some more votes for the bill, I think that’s worth it,” the paper quoted Sweeney as saying.
Under Sweeney’s idea, the Times said, a secret ballot would be held within a week or so of a significant number of workers petitioning for a union — far shorter than the current period when campaigns can last for months.
(Writing by Chris Michaud; Editing by John O’Callaghan)
CIT Group Inc said it has extended the contract of Chief Executive Jeffrey Peek for one year, even though his decisions to expand into risky businesses helped to push the lender to the brink of bankruptcy.
Peek’s contract as chairman and CEO of the lender to nearly 1 million small and medium-sized businesses will expire on September 2, 2010, the company said in a regulatory filing on Friday.
Founded more than a century ago, CIT’s problems emerged in recent years following Peek’s idea to tap into potentially profitable but risky businesses such as subprime mortgages and student loans.
The company, which had been based in Livingston, New Jersey, moved to a brand new, 28-story, glass-encased tower on Manhattan’s Fifth Avenue in New York in April 2006.
But the financial meltdown triggered a sharp rise in CIT’s loan losses and credit costs, leaving the company on the verge of collapse. The lender to businesses from retailers to sport teams has lost close to $5 billion since the end of 2007.
Last month, the company completed a tender offer for $1 billion in debt, buying time to restructure its finances. Earlier this week, it deferred an interest payment on some notes.
CIT received an order in August from the Federal Reserve to submit a plan for raising capital and meeting debt obligations personal business card.
“Keeping him (Peek) on board would minimize any distractions as the company tries to complete its restructuring,” said Sameer Gokhale, an analyst at KBW.
“Getting a new CEO at this point in time wouldn’t really accomplish anything because the company is dealing with funding, liquidity and capital challenges, and that is not something a new CEO can fix easily,” Gokhale said.
Concerns over CIT’s health have grown since the lender, which became a Fed-supervised bank holding company in December and has received $2.3 billion from the U.S. government, failed to receive further government assistance under the FDIC’s Temporary Liquidity Guarantee Program.
CIT expects to begin executing a restructuring plan before October 1, and has said it needs to postpone some debts and possibly raise cash from asset sales. However, the company has acknowledged it may still be forced to seek bankruptcy relief if the restructuring plan fails.
CIT officials declined to comment beyond the Securities and Exchange Commission filing.
Shares of CIT were unchanged at $1.50 in late morning trade on the New York Stock Exchange.
(Reporting by Juan Lagorio; Editing by Lisa Von Ahn and Tim Dobbyn)
More Americans signed sales contracts to buy homes in July than in June, marking the longest streak of monthly increases on record, said a report released Tuesday.
The pending home sales index from the National Association of Realtors rose 3.2% in July after rising by 3.6% in June. That’s 12% higher than July 2008, and it marks the sixth straight increase since record-keeping began in 2001.
The reading far exceeded forecasts of economists surveyed by Briefing.com, who predicted a 1.5% increase.
Signed real estate contracts often take many weeks or months to complete, so they are considered a forward-looking indicator.
A new direction
Momentum in the housing market has clearly turned for the better, said NAR chief economist Lawrence Yun, in a written statement.
"The recovery is broad-based across many parts of the country," Yun said. "Housing affordability has been at record highs this year with the added stimulus of a first-time buyer tax credit."
The first-time home buyers tax credit, passed earlier this year as part of the economic stimulus package, is worth 10% of the home purchase price up to $8,000. People who have not owned a home in the previous three years are eligible for the credit.
However, the tax credit expires on Nov. 30 and it usually takes about 90 days to close on a house after a contract is signed. As of Sept. 1, there were only 90 days left before the credit ends.
Housing affordability has also improved, the NAR said.
The average middle-income family can now spend less than 25% of monthly income to buy a median-priced home, Yun said, adding that housing payments as a percentage of income in 2009 are at a record low.
"As long as home buyers stay within their budget, mortgage payments will be very manageable," Yun said.
Regional sales
The pending home sales index is broken down by regions. The West soared above the rest, jumping 12.1% in July, while the South saw pending home sales activity rise 3.1% for the month.
In the Northeast, activity fell 3%, and in the Midwest saw a decline of 2%.
A cluster of regional reports Monday showed business activity picking up steam in August, suggesting the U.S. economy is breaking free of its deep recession.
One report showed a nearly year-long plunge in economic activity in the Midwest came to a halt last month as new orders and production rose sharply, potentially a harbinger for the national economy.
Still, a top Federal Reserve policy-maker warned that the U.S. economy remains fragile and unemployment high.
The Institute for Supply Management-Chicago’s business barometer rose to 50.0 in August, the dividing line between growth and contraction, from 43.4 in July. Wall Street economists had expected a rise to only 48.0.
"The Chicago PMI report is a further indication that the U.S. economy is starting to improve," said Shaun Osborne, chief currency strategist at TD Securities in Toronto.
Many strategists tied the jump in new orders to the government’s "Cash for Clunkers" program, which got auto plants humming to meet demand for new vehicles to replace gas-guzzlers.
"We think the success of the clunker program is now lifting the index," said Ian Shepherdson, chief U.S. economist at High Frequency Economics in Valhalla, New York.
The auto sector plays a larger role in the Chicago region economy than it does nationally, although the Chicago area index, which covers both the service and manufacturing sectors, is often viewed as a bellwether of national trends.
"There was a strong increase in new orders, which is critical," said Pierre Ellis, senior economist at Decision Economics in New York.
A similar index covering the heavily industrialized Milwaukee region rose to 56 in August from 45 in July, while the Dallas Federal Reserve Bank said factory activity in Texas declined at a slower pace.
Meanwhile, business activity in New York City, which tends to be driven by trends in the financial sector, expanded in August for the first time in three months, thanks to increased purchases and a slowdown in layoffs.
The National Association of Purchasing Management-New York’s index of business conditions rose to 55.3 in August from 48.3 in July. Improvements in purchasing volume and employment conditions signaled the worst of the city’s downturn might be ending, the group said.
The slew of regional data failed to lift the U.S. stock market, which was bogged down by weakness in financial shares and a soft tone in overseas markets. The Dow Jones industrial average was down nearly 1% in late morning.
Jobless recovery
The regional surveys showed employment remained soft despite the brighter outlook, consistent with fears the United States could be in for a "jobless recovery." The ISM-Chicago’s employment index contracted for a 21st consecutive month.
Increased hiring is seen as critical to getting a consumer-led recovery under way. The U.S. unemployment rate was 9.4% in July. Economists expect a report on Friday to show it rose to 9.5% in August.
Still, the Conference Board said online job vacancies advertised in August rose by 169,000, or 5%, offering a glimmer of hope for job seekers.
"The August increase is good news, showing what we hope will be a continued improvement in job demand this fall," said Gad Levanon, senior economist at the industry group.
Dudley: Economy still fragile
A panel of business economists suggested factory output would help lead the economy out of recession.
After a large-scale package of tax cuts and spending to boost the economy, the government should now turn its focus to cutting spending, said respondents to a biannual survey conducted by the National Association of Business Economics.
The economists were split on whether the policies pursued by the Federal Reserve, which has cut interest rates to near zero and flooded financial markets with cash, would ultimately trigger higher inflation.
New York Federal Reserve Bank President William Dudley told CNBC television that it was too early to talk about curtailing the Fed’s long-term security purchases while the economic recovery is still so fragile.
"I think it’s a little premature … the economy still isn’t growing very fast and we do have a very high unemployment rate," he said.
Use any metaphor you want: the ticking clock, sands running through the hourglass or pages falling away from the calendar. The fact is, time is running out to claim the $8,000 first-time homebuyers tax credit.
Passed earlier this year as part of the economic stimulus package, the credit is good for up to $8,000, or 10% of the purchase price, and applies to people who have not owned a home in the previous three years. (There are some income restrictions.) The best part: Unlike a similar program from 2008, the credit does not have to be repaid.
The bad part: It ends on Dec. 1.
Because it usually takes around 90 days to close on a house after a contract is signed, buyers have very little time left to act. As of Thurs., Aug. 27, there were only 96 days left before the credit ends.
"Buyers have to get a home under contract very, very soon," said Tom Kunz, CEO of Century 21. "They probably should get out looking."
Sense of urgency
What they will find may surprise them: Many of the prime properties have already been snapped up. Home sales have been on the upswing, and inventories are so depleted in hot markets that first-time buyers are struggling to find homes in their price range. (Check prices in your city.)
In Whittier, Calif., for example, there are few repossessed homes for sale. Those are easy to buy because there isn’t a lot of red tape and the bank wants to get rid of them as quickly as possible. Instead, most of the properties are short sales, where the sellers have to convince their lender to let them sell the house for less than they owe.
"That’s why there’s such a sense of urgency now," said Irma Tapper, a Century 21 real estate agent in Whittier. "The banks have to approve short sales, and they’re taking three to six months to do that."
That means a first timer putting a bid on a short-sale might not get an answer form the bank until well after the Dec. 1 deadline for the tax credit. So when an actual repossession listing hits the markets, it creates a feeding frenzy.
Chuck Whitehead, who runs the Coldwell Banker agency in Temecula, Calif., said one recent listing hit the market on a Friday and by Monday there were 57 bids.
The National Association of Realtors attributes much of this activity to the first-time buyer tax credit. It estimates that 1.8 million buyers will file for the credit, and 350,000 of them wouldn’t have been able to buy without it paydayloans.
"It makes a big difference because most of these clients are in a lower price range," said Michelle Edmunds, an agent with Coldwell Banker in Temecula, Calf., who has closed sales for six first-time buyers. "The houses they buy need work and normally they wouldn’t want to move in because of the [less than perfect] conditions the homes are in."
That is true for Wesley Forsythe. This June, the 30-year-old computer consultant and his girlfriend bought a row house in the Fishtown section of Philadelphia. Since he paid just $80,000 for the three-bedroom, two-bath place, the credit acted like a 10% discount.
"It allowed us to expand our price range and plan additional renovations," he said. "My mortgage is several hundred dollars less than what my new rent would have been."
Forsythe applied for the credit immediately after closing, filing an amended 2008 tax return. The IRS cut him a check in less than seven weeks. He’s spending it now on new hardwood floors, repainting most of the interior and renovating a bathroom. He’s stretching the cash by doing much of the work himself.
Cash for Clunkers effect
Of course, analysts worry that this frenzy will dry up once the tax credit expires. They argue that without the incentive, much of the pressure on homebuyers to act quickly will vanish, and the nascent housing recovery could slump.
In many ways the tax credit is similar to the Cash for Clunkers program that ended this week. Already, auto dealers are anticipating that car sales will evaporate after accelerating during the program.
"It’s just like Cash for Clunkers," said Robert Dye, a senior economist for PNC Financial Services Group. "It runs the risk of a let-down as the program runs its course."
Johnny Isakson, R-Ga., who is a former real estate broker, is pushing legislation to extend the tax credit through next year, increase it to $15,000, include non-first-time homebuyers, and remove income restrictions.
The effort has drawn strong industry support.
"We need to stimulate the move-up buyer," said Century 21’s Kunz, "so it works its way up the pricing food chain. That’s what we need to get inventory moving again."
While Detroit has benefited from Cash for Clunkers, foreign automakers have gained even more.
Some critics of the program warned that because it let consumers buy domestic or foreign cars, Clunkers could end up spending more American tax dollars to help foreign companies than American ones.
And in fact, foreign automakers — and foreign auto factories — have gained somewhat more from the program than domestic automakers have.
The differences aren’t enormous, but Cash for Clunker buyers have tended, more than auto buyers ordinarily do, to prefer foreign-made cars.
Domestic automakers usually account for about 47% of all cars and trucks sold in the U.S, according to data from J.D. Power and Assoc. But they sold just 38.5% of vehicles in the Clunkers program.
That’s in part because companies like Toyota (TM), Honda (HMC) and Hyundai are still perceived as making cheaper, more fuel-efficient cars, experts said.
Factories, not just brands
Even taking into account the fact that some foreign brands are manufactured in the U.S. and vice versa, Cash for Clunker buyers were more likely to buy a car made in another country.
The DOT recently said that roughly 52% of cars being bought under the Clunker program were made in America. According to J.D. Power, about 63% of the cars usually sold in America are made here.
Not that the domestic automakers are complaining about any of this. Even if foreign automakers saw a somewhat bigger lift in sales, domestic automakers still got significant benefits from the program. Ford (F, Fortune 500) and General Motors have restarted factories to deal with the added demand and Chrysler says it’s already making new cars and trucks as fast as it can.
The shift towards foreign cars also reflects changes that were already underway in the auto market, with or without Clunkers, said Jeff Schuster, an analyst with J.D. Power and Associates. Bankruptcies, bail-outs and factory shutdowns put U.S. automakers at even more of a disadvantage in 2009.
In the first half of 2009, domestic manufacturers sold only 45% of all vehicles. In the same period last year, the figure was 48%.
Product shift
For the most part buyers in the Clunker program were focused on maximizing fuel efficiency, said Tom Libby, president of the Society of Automotive Analysts. When the goal is gas mileage, consumers turn more often to import brands, since they’re thought to make better small cars and foreign makers offer more options in that category.
"You look at the product portfolios and it explains it completely," he said.
But when it comes to trucks, domestic automakers generally sell more of them. And the Clunker fuel economy requirements for truck purchases were much less stringent than they were for cars.
That should have helped boost U.S. Clunker sales, but most buyers were still focused on making big fuel economy gains.
That’s probably not because of their concern for the environment, said Libby. More likely, he said, it’s because most car shoppers didn’t bother to read the rules closely enough to understand they didn’t have to buy small cars.
"The general impression is that the program is designed to sell more fuel-efficient vehicles," said Libby, "so the buyer who is the market for a larger vehicle is probably dismissing the program."
Compact cars come out ahead
John McDonald, a spokesman for GM, has a different explanation for all of this. He argues that Toyota outsold GM at least in part because GM dealers simply ran out of cars.
He points out that, until recently, GM’s share of Clunker sales closely mirrored its share of the general auto market. It dropped off because GM, like other domestic automakers, was struggling with "historically low" inventory.
"It’s probably the fact that the domestics [were] running out of cars on their lots," he said.
But McDonald does agree that lower price points on foreign cars also hurt domestic sales. Many Clunker buyers are only in the market because they smell a deal, he said, and Japanese and Korean automakers have more to offer the customer who just wants a dirt cheap set of wheels McDonald said. He cited one advertisement he’d seen offering a new small car for $5,500 after the Clunker rebate.
"That’s motorcycle or snowmobile money," he said.
Jeff Schuster, an analyst with J.D. Power and Associates, agreed with that assessment. His statistics show a big spike in sales of so-called "compact basic" cars, a term that translates to "econo-boxes."
"Things do tend to skew toward the imports if you’re looking at how low you can get the vehicles price down to," he said.
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