Archives For Dave Ramsey

My post a few days ago about Dave Ramsey’s “Drive Free. Retire Rich.” program received this response from Chuck:

Here is a list of US Stock Mutual Funds from Morningstar Financial with at least a 10 Year track record making annualized returns of 12% or greater. I don’t ever recall DR stating leave your money in the same fund for 40 years and play dead. But maybe it was on a show I didn’t hear.

CGMRX CGM Realty 17.64
SSGRX BlackRock Energy & Resources Inv A 17.17
CGMFX CGM Focus 16.57
PSPFX U.S. Global Investors Global Res 16.57
LEXMX ING Global Natural Resources A 15.76
PRGNX Prudential Jennison Natural Resources B 15.59
RSNRX RS Global Natural Resources A 14.87
GHAAX Van Eck Global Hard Assets A 13.96
VGENX Vanguard Energy 13.51
YAFFX Yacktman Focused 13.10
RSPFX RS Partners A 13.00
ICENX ICON Energy 12.90
FAIRX Fairholme 12.74
IGNAX Ivy Global Natural Resources A 12.49
BURKX Burnham Financial Services A 12.48
FSDPX Fidelity Select Materials 12.48
YACKX Yacktman 12.43
LMVYX Lord Abbett Micro Cap Value I 12.39
HWSIX Hotchkis and Wiley Small Cap Value I 12.22

There’s just one problem with this list…

These are all HISTORIC returns. Ten years ago, would a person have picked these funds, knowing that they would return north of 12%? I think the answer to that is a resounding, “No.”

Also, take a look at that list. Eight of those funds are in natural resources, which would have been a defensive sector ten years ago. Take a look at this Morningstar graph for Van Eck Global Hard Assets:

Notice how the fund didn’t really take off until nearly halfway through 2003. The point? Well, no one would have seen the bull market in commodities coming. Therefore, no one would have had the foresight to invest their car money (referring to the original post) in such a fund.

Now, there are a couple of funds in the list that are general stock market funds. Still, it would have been difficult to pick such funds back in 2000. The Fairholme fund was barely a year old back in 2000.

The bottom line is that although there are funds that returned 12% in the past, it would have been hard to find them 10-years ago. Dave Ramsey’s reckless to use such a hypothetical rate of return with his listeners.

If you have a few minutes, watch this slide show from Dave Ramsey: Drive Free. Retire Rich.

According to the video, a third of car buyers finance their cars for 6 years at 9.6% interest, making their monthly payment about $475.

He then presents an idea…

You want a new car. Your current car is worth $1,500. Instead of spending $475 per month on a new car note, why not save that car note amount for 10 months and add that $4,750 to your $1,500 car and buy a $6,250 car?

Of course, this requires some assumptions:

1. That your current $1,500 car can hold out for 10 months.

2. That you’ll be able to get $1,500 for your old car.

Assuming that both assumptions work out, you’ll be driving a $6,250 car that you don’t owe any money on.

The illustration then assumes that you continue to save your $475 for the next 10 months. At that point, you take your $4,750 in savings, add it to your $6,250 car (that hasn’t depreciated, btw), and purchase an $11,000 car.

So far I like the idea. It’s past this point where Dave loses me.


Because he starts talking about investing that $475 into a mutual fund that earns a “stock market average of 12%.” YEAH! TWELVE PERCENT! This is just wrong on two fronts:

1. Where you going to find a mutual fund that earns 12% in this environment? I’m not saying that a mutual fund can’t earn 12% but where does one find such a fund?

2. There’s a HUGE different between a stock market average return and an actual (geometric) return. Using a linear 12% annual rate of return on a monthly basis, overstates the actual return.

I would have respected Dave had he used the return for the S&P 500 Index rather than just some number he pulled out of thin air. According to my numbers, the geometric average return for the S&P 500 Index (going back to 1926) is .76% per month. Subtracting off .02% for expenses, we get .74% per month. That’s a far cry from the 1% per month Ramsey assumes in his illustration.

How much difference does it make? A lot. Here’s a nice little graphic for comparison’s sake (assuming a return of .74% per month and NOTHING taken out for future car purchases):

The Bottom Line…

Ramsey’s plan isn’t necessarily bad. I just don’t understand why he feels the need to use such a high expected rate of return. It seems to be a disservice to his followers because it’s not based in any sort of reality.

I think Dave should stick to his “get out of credit debt” message and leave the investment stuff to people who know what they are talking about.


My church participated in Dave Ramsey’s “The Total Money Makeover Live!” event a couple of weeks ago. I did not attend the event but did pick up a copy of the workbook that went along with the event.

I have never counted myself among the Dave Ramsey fans. Sure, his advice is better than racking up lots of debt and not saving for the future. But, he also generalizes and has a one-size-fits-all approach to the advice he offers his listeners.

What bugs me most is the math behind his assumptions.

For example…

On page 3 of the above-mentioned workbook, is this:

The American Dream

Imagine if…
A 30-year old couple made $48,000 a year and saved 15% ($7,200 per year or $600 per month) in a 401(k) at 12% growth.

At 70 years old, they will have…
$7,058,863.50 in the 401(k)”

How did Dave arrive at that number? Here’s the math:

FV = $600 × (1 + .01)480

FV = $7,058,863.51

That’s a lot of money!

But, how would this look in the real world? I summarized Dave’s information into the following graphic and used 2009″s numbers from the IRS to calculate income taxes.

Dave's Math

For my example, I assumed that this couple does not have children. If that were the case, it would probably be possible for them to sock away $7,200 per year. Their budget would be tight unless they economized.

Then comes my next question:


Seriously, WHO assumes a 12% rate of return for 40 years? Later on in the book, Dave stresses diversification. There’s not a properly diversified portfolio on earth that is going to average a 12% rate of return on a consistent basis. The ONLY way you’re going to get that kind of return is to invest ALL YOUR MONEY in small cap stocks, which are highly volatile.

I think the word “imagine” was the proper word to use for his scenario because the only way he’s going to get those numbers is with IMAGINATION!

To bring us back to REALITY, I reran Dave’s numbers using a much more conservative .77% monthly rate of return, which happens to be the geometric average return for the S&P going back to 1926. Take a wild guess at what the 401(k)’s expected value becomes with that number?


And that number’s even somewhat inflated because it assumes 100% of the money is invested in the S&P for all 40 years.


Neither of those numbers include inflation, which would eat up at least half of those accounts.

So why does Dave use such a high number for an assumed rate of return? I would have to say it’s to give people hope (a false sense of hope, but hope nonetheless). When people look at those numbers, they go, “WOW! I can do that? I had no idea!” I will admit, that those numbers are eye-popping.




Flawed Thinking…

June 9, 2009

Check out this comment that was left the other day on one of my old mortgage posts:

Two years ago we stopped investing in our 401k and we began paying thousands against the principal on our home. We only have $1,500.00 left to pay and the property is ours and we didn’t lose our a$$et$ to the stock market. We don’t have to worry about losing our home to the bank.

Our money isn’t tied up in unstable companies that could fail in a second with no warning. We are debt free and will now be able to live comfortable lives without worry. There’s something to be said about that don’t you think? If all of your money is placed in the stock market, which most likely it is. You most likely are worried that you’ll never get back what you just lost in the latest crisis. I don’t have that worry and in 11 years, I will have saved approximately $500,000.00 that I probably would have sank into the stock market and lost. Now that is a $500,000.00 gain in 11 years.

Can you beat that?

I don’t think so…

Oh, and did I mention that God was in all of this? That is right! God. If we all would just obey the Lord and keep his word, “owe no man nothing” then we wouldn’t be in the situation that were in today.


Where do I start?

1. I NEVER said that going long on your mortgage and investing the difference was without risk. I do think that over the life of a 30-year mortgage, the risk is reduced.

2. Although you own your home you still have to pay property taxes. In some areas those taxes are small, but in other areas they can be quite high. Yes, not having a mortgage payment makes paying those taxes easier but you still have taxes to contend with.

3. Your money may not be tied up in “unstable companies” but it is tied up in your house and is quite illiquid. According to Jonathan Clements’ new book, The Little Book of Main Street Money, (review to follow soon) housing prices have increased an average of 4.7% over the last 30 years (through 2008). Inflation has averaged 3.8% per year during that same time period.

Chew on this…

EVEN WITH LAST YEAR’S -37% return for the S&P 500 Index, the index had a compound annual return over the last 30 years of 11%!

To put that in perspective, if you started 30 years ago with $100,000 invested in a house that appreciated 4.7% per year and $100,000 in the S&P 500 Index (minus 1% per year for fees), the house would be worth $396,644 at the end of 2008 and the S&P 500 Index account would be worth $1,744,940. And those numbers include some pretty dismal years for the S&P 500 Index. Even if you paid taxes at 28%, cutting your annual rate of return on the S&P 500 Index to 7.2% over the 30 years, you would have still had over $800,000 at the end of 2008—roughly TWICE what the house was worth.

4. I’m not sure where you’re getting the $500,000 in savings. Not including interest, you’re looking at having to save over $45,000 per year for the next 11 years to meet that goal. Surely I’m missing something here.

5. Lastly, you say:

“Oh, and did I mention that God was in all of this? That is right! God. If we all would just obey the Lord and keep his word, “owe no man nothing” then we wouldn’t be in the situation that were in today.”

If you truly believed that then why did you have a mortgage in the first place?

Seriously though, I think you are referring to Romans 13:8, which reads: “Owe no one anything except to love on another…” The notes in my Bible say that this is not a scripture against borrowing money, which the Bible does regulate and permit (Exodus 22:25; Leviticus 25:35-37; Deuteronomy 15:7-9; Nehemiah 5:7; Psalms 15:5, 37:21, 26; Ezekiel 22:12; Matthew 5:42; Luke 6:34). I think the virtue from the Bible that would have been more beneficial in preventing today’s circumstances would be not to love money (greed). Borrowing is both a tool and is necessary for an economy to function properly. It’s when the borrowing gets out of hand (usually due to greed) that we get into trouble.

Bottom line: you have to do what works for you. If the thought of owning your home is important to you, then by all means, own your home. But, that does not mean that it’s the best or most prudent decision for everyone else.


Also see: Flawed Thinking (Part 2)

Jesse over at You Need a Budget sent me an email this evening asking my opinion of Dave Ramsey’s 3-step plan for fixing the credit crisis. Here’s the plan (which you can also download as a PDF here):

Years of bad decisions and stupid mistakes have created an economic nightmare in this country, but $700 billion in new debt is not the answer. As a tax-paying American citizen, I will not support any congressperson who votes to implement such a policy. Instead, I submit the following three steps:

Common Sense Plan.


A. Insure the subprime bonds/mortgages with an underlying FHA-type insurance. Government-insured and backed loans would have an instant market all over the world, creating immediate and needed liquidity.

B. In order for a company to accept the government-backed insurance, they must do two things:

1. Rewrite any mortgage that is more than three months delinquent to a 6% fixed-rate mortgage.

a. Roll all back payments with no late fees or legal costs into the balance. This brings homeowners current and allows them a chance to keep their homes.

b. Cancel all prepayment penalties to encourage refinancing or the sale of the property to pay off the bad loan. In the event of foreclosure or short sale, the borrower will not be held liable for any deficit balance. FHA does this now, and that encourages mortgage companies to go the extra mile while working with the borrower—again limiting foreclosures and ruined lives.

2. Cancel ALL golden parachutes of EXISTING and FUTURE CEOs and executive team members as long as the company holds these government-insured bonds/mortgages. This keeps underperforming executives from being paid when they don’t do their jobs.

C. This backstop will cost less than $50 billion—a small fraction of the current proposal.


A. Remove mark to market accounting rules for two years on only subprime Tier III bonds/mortgages. This keeps companies from being forced to artificially mark down bonds/mortgages below the value of the underlying mortgages and real estate.

B. This move creates patience in the market and has an immediate stabilizing effect on failing and ailing banks—and it costs the taxpayer nothing.


A. Remove the capital gains tax completely. Investors will flood the real estate and stock market in search of tax-free profits, creating tremendous—and immediate—liquidity in the markets. Again, this costs the taxpayer nothing.

B. This move will be seen as a lightning rod politically because many will say it is helping the rich. The truth is the rich will benefit, but it will be their money that stimulates the economy. This will enable all Americans to have more stable jobs and retirement investments that go up instead of down. This is not a time for envy, and it’s not a time for politics. It’s time for all of us, as Americans, to
stand up, speak out, and fix this mess.

I think think this plan makes sense. Still, even under this plan we’re still going to see a lot of foreclosures. Those who purchased homes using interest-only mortgages and then only paid the interest-portion of the payment will never be able to afford a regular mortgage payment.

Dave’s also not quite clear on how we pay for the insurance program. Is this something paid for with tax dollars or is it something charged to the homeowner? I’m assuming it is taxpayer-funded. Regardless, I think this is a lot more tolerable than the massive $700 billion bailout that’s being discussed. What do you think?

If you like Dave’s plan, go check out his website to learn how you can help spread the word.

I was just over reading The Happy Rock’s analysis of his cash only spending experiment that he started back in July. He and his wife (or girlfriend, I’m not sure which) went the entire month of July without using any plastic. Why? Because he was testing Dave Ramsey’s argument that people can save 12 – 18% by spending only cash. How Dave came up with that number is anyone’s guess (the same thing can be said for his “personal finance is 80% behavior and 20% head knowledge” saying*).

So did The Happy Rock save 12 – 18% during July? We don’t know because he never finished his analysis. Why? Here’s what he had to say about it:

The truth is that the no cash month [I think he meant “no plastic month”] was such a radical change in my habits that I was beat down by the end of the month. I didn’t have the energy to stay on top of things during the month and I was so discouraged at the end of the month that didn’t complete the analysis. I think part of me didn’t want to see that it saved money, because I wasn’t ready for the change. Another part of me wasn’t sure that I had been diligent enough in my record keeping to make the data meaningful.

I gotta say, I respect his honesty. Anyway, I have to hand it to The Happy Rock for giving it a try.

Personally, I think going all cash would be a pain in the butt. You can still cut your spending, you just have to be more diligent about doing it. For those who have SEVERE problems with overspending, then the cash-only option might be best as long as they stick to it.

*Incidentally, I asked one of Dave’s associates about Dave’s soundbite and this was his response:

“JLP, this is not really a quote that can be attributed. Dave never says “You know what they say…” or “Studies show that…” prior to making that statement. This is something that Dave has learned after decades of helping people with their personal finances. The point is that a lot of people can know the math of personal finances and still be broke if they can’t control the person in the mirror.

BTW, this is not an official statement on behalf of our company. It’s simply me answering a question that you asked.”

Dave Ramsey is notorious for saying that personal finance is 80% behavior and 20% head knowledge. It’s a neat little soundbite but does it make any sense?

I wonder how he came up with it? I was thinking it was 70% behavior and 30% head knowledge. Or, maybe it’s 40% behavior and 60% head knowledge? I joke, I joke. But, I’m curious to know if any of you Dave Ramsey fans know how Dave came up with this little tidbit. If you know, please share.

Perhaps it’s related to the 80/20 principle (also known as the Pareto Principle). According to Wikipedia:

The Pareto Principle states that, for many events, 80% of the effects comes from 20% of the causes. Business management thinker Joseph M. Juran suggested the principle and named it after Italian economist Vilfredo Pareto, who observed that 80% of income in Italy went to 20% of the population. It is a common rule of thumb in business; e.g., “80% of your sales comes from 20% of your clients.”

I don’t think the Pareto Principal applies here because it doesn’t fit this scenario. Dave is saying that 100% of personal finance success is the result of 80% behavior + 20% head knowledge, while the Pereto Principal would say that 80% of personal finance success comes from 20% of something else (behavior or head knowledge).

Obviously you can have all the personal finance knowledge in the world but if you can’t control your behavior you’ll never get anywhere. So, you do have to have both ingredients. I just want to know how Dave Ramsey came up with his soundbite.