My wife and I celebrated our 10th anniversary with a trip to Vancouver last week. We found round-trip flights from Calgary for less than $300 and then decided to splurge by staying at a boutique hotel downtown. The location was perfect, as we could walk everywhere from Stanley Park to Granville Island.
We took a free shuttle across Lions Gate Bridge to North Vancouver and checked out the Capilano Suspension Bridge, but sadly didn’t have time to head further north and hike Grouse Mountain. Next time!
We can’t afford a million dollar house, but it’s easy to see why – when the sun in shining – Vancouver is one of the most beautiful and desirable cities in which to live. We’ll be back to visit again soon.
This week’s recap:
Quite possibly the first Monday in our six-year blogging history that we didn’t have a post scheduled. I regret nothing!
On Wednesday Marie explained how your credit score is calculated and what a higher score means for you.
And on Friday I looked at a big list of behavioural biases and pointed out a few that resonate with me an an investor.
Weekend Reading:
Well respected economist Trevor Tombe breaks down exactly how much carbon pricing will actually cost households (and what provinces can do to lessen the impact).
After one of the largest bankruptcy cases in Canadian history, Nortel executives are still drawing retention bonuses and have collected $190M US since 2009.
Canadian Real Estate Association reports that sales prices in Greater Vancouver plunged 19 percent from July to August and is down 7.5 percent from a year earlier.
With new federal measures coming into place next week to help cool the real estate market, Rob Carrick shares four things people get wrong about housing.
Interested in hearing more about what’s going on with the Canadian housing market? Preet Banerjee chats with Ben Rabidoux, one of Canada’s leading housing analysts, in this hour-long podcast.
Jamie Golombek offers a detailed explanation on converting your principal residence into a rental property (or vice-versa).
Where should I transfer my pension? Jason Heath weighs-in on options to transfer the commuted-value of a pension into a locked-in retirement account.
Vanguard founder Jack Bogle shares his portfolio breakdown and life lessons.
Alan Whitton continues his misadventures in trying to fund his son’s RDSP. It’s not as straightforward as it seems.
“I am staring to wonder just how exciting will it be to withdraw money from this system?”
Rewards Canada lists the expiry and inactivity rules for all the top Canadian loyalty programs.
Here are the real questions you need to ask – or more likely, answer – before you can decide if a credit card is the right one for you.
Saving is always good, right? Barry Choi lists five times when saving can go wrong.
How Financial Uproar buys almost anything for 50-75% off.
“Being good at personal finance is a lot about anticipating what’s ahead – long-term stuff such as retirement, and short-term annual milestones such as the holiday season.” – Rob Carrick
We’re in for the toughest three months of the year for your wallet. Here’s how to make saving more automatic, like breathing.
Finally, you can have your latte AND your money goals. Des Odjick breaks it down.
Have a great weekend, everyone!
There’s a fascinating link between psychology and money that tries to explain how we think and behave when it comes to saving, spending, and investing. It was Meir Statman’s book, What Investors Really Want, that first opened my eyes to behavioural biases and how to make smarter financial decisions.
Later, it was Carl Richards’ The Behavior Gap that showed the significant difference between investment returns and investor returns:
“It’s not that we’re dumb. We’re wired to avoid pain and pursue pleasure and security. It feels right to sell when everyone around us is scared and buy when everyone feels great. It may feel right-but it’s not rational.”
But the groundbreaking book that led me down a simpler financial path, and ultimately to my two-ETF investing solution, was Nobel Prize winning economist Daniel Kahneman’s Thinking, Fast and Slow.
The book examines heuristics and biases that affect our decisions, such as anchoring, which is a tendency to be influenced by irrelevant numbers. For example, if a stock is trading above $50 it might be deemed “expensive” but a closer look at its fundamentals might reveal that price to be a bargain.
Related: How my behavioural biases kept me from becoming an indexer
Another example is the availability heuristic, which occurs when people make judgments about the probability of events based on how easy it is to think of examples. The financial crisis of 2008 is still fresh in the minds of investors and many believe that “we’re due” for another crash of that magnitude. In reality, stocks falling by 50% or more again is an extremely low probability event.
A Big List of Behavioural Biases
I came across a big list of behavioural biases on The Psy-Fi Blog and I wanted to share some of the ones that resonated with me the most:
Ambiguity Aversion: we don’t mind risk but we hate uncertainty.
Bird in the Hand Fallacy: the idea that dividends now are more certain than capital gains later, therefore dividends are more important than capital gains.
Confirmation Bias: we interpret evidence to support our prior beliefs and, if all else fails, we ignore evidence that contradicts it.
Endowment Effect: people value stuff more because they own it.
Gambler’s Fallacy: the mistaken belief that a run of specific results in a random process must revert.
Hindsight Bias: we’re unable to stop ourselves thinking we predicted events, even though we’re woefully bad at predicting the future.
Home Bias: investors prefer to invest in their own, local markets, rather than seeking wider diversification.
Mental Accounting: we divide our money into different pots and then treat them all separately.
Myopic Loss Aversion: the tendency to check your portfolio every five minutes, and sell as soon as you think you might lose money.
Overconfidence: we’re way too confident in our abilities, which seems to be an in-built bias that we’re unable to overcome without excessive effort.
Risk Aversion: people prefer certain outcomes to uncertain ones, even when the returns on the latter are expected to be better.
Sunk Cost Fallacy: future investment is justified because lots of prior investment has occurred.
Zero-risk bias: we often prefer the total elimination of minor risks to the significant reduction of large ones
Final thoughts
Kahneman describes our thought process in two different ways. The first is system 1, the fast, instinctive, and emotional thinking that we use most often. The second is system 2, the slower, deliberate, and more logical way of thinking that requires real effort.
A good example he used is to imagine yourself driving on the highway with barely any traffic around you and you’re having a conversation with the passengers in the car. System 1 is at work. Now you find yourself behind a slower moving semi-truck that you wish to pass. Suddenly, as you pull out into the other lane, both hands are on the wheel and the conversation stops – you don’t want any distractions while you concentrate on making the pass. That’s system 2.
The key is knowing when and in what situations you should slow down and let system 2 take over. A better understanding of behavioural biases might not always prevent a lapse in judgement, but it can lead to smarter decisions, especially when it comes to your finances.
One way to determine your financial creditworthiness is to know your credit score and how it is calculated.
You can get free credit reports from Canadian credit reporting agencies such as Equifax and TransUnion once a year, but they do not include a credit score.
Until recently, you either had to pay for this information (Equifax charges $23.95) or sign-up for a paid service such as TransUnion’s subscription-based credit monitoring service ($16.95 per month). Now, online lending companies such as Borrowell and Mogo offer free credit scores when you sign up for an account.
What is a credit score?
A credit score is a three-digit number from 300 to 900 which is calculated using your credit history from your credit report. Your score will change over time as your credit report is updated.
Your credit score is used to predict your future risk of default and can affect the rate of interest you will pay. Users can quickly come to a decision.
The higher your score, the better – but just up to a point. Over 70% of Canadians have a credit score over 725 (very good to excellent). Less than 13% have scores over 850.
A very good rating (and up) would be considered a very low risk. You may qualify for a variety of loan and credit offers at the lowest rates available (saving you thousands of dollars), higher limits on credit cards, and special incentives and rewards.
But not only lenders are checking. Landlords will determine if they will rent to you, utility companies see whether you should pay a security deposit, car insurance providers consider it when setting your insurance rate, and cell phone companies check before offering a new contract. Even some employers are checking your score.
It is important to know your credit score well in advance of shopping for a mortgage or loan so you can take steps to increase your score if necessary.
Are you hurting your credit score?
Even if you make your loan payments on time and pay off your credit cards in full each month, you may be unknowingly hurting your credit score.
- Not checking your statement. An outstanding balance of even less than $5 that you don’t notice – and don’t pay.
- Closing old credit cards, especially those without a balance.
- Signing up for multiple retail and department store credit cards to receive their discounts.
- Some credit card issuers do a “hard” enquiry when you request a credit limit increase.
- Multiple enquiries by landlords and utility companies.
Knowing how the score is determined can help you increase it
The specific algorithm used to calculate your credit score is proprietary information. Each credit bureau and lender uses their own specific data and each score can be different. Generally, this is how various factors are weighted.
Payment history – 35%
Do you pay your bills on time? More recent delinquencies hurt your credit score more than those in the past.
Debt level – 30%
The amount of debt you have in comparison to your credit limits is known as credit utilization. Keep your credit card balances below 70% of your credit limit, even if you pay in full each month.
Length of credit history – 15%
Many of us switch credit cards to take advantage of more favourable terms and rewards. If you do this leave at least one long-term account open. Having a longer credit history is favourable because it gives more information about your payment habits.
Enquiries – 10%
Too many enquiries will reduce your score temporarily. Check interest rates online rather than going from lender to lender to apply for your mortgage or loan. Each one will do a credit enquiry, lowering your score each time.
Mix of credit – 10%
Having different kinds of accounts shows that you have experience managing a mix of credit types.
However, only open new accounts as you need them, not simply to have what seems like a better mix.
Final thoughts
Lenders and other third parties will consider many factors in addition to your credit score when evaluating your creditworthiness and coming to a decision. Lenders use the 5 C’s of credit (Capacity, Capital, Collateral, Conditions, and Character).
Your credit score isn’t the only factor, but it is hugely important. Make sure yours is very good or excellent.