YouTube transcript
Video ID: Y3QHqfmCO2k
Language: en
Captions: auto-generated

[0:00] Okay, great. Okay, so personal example
[0:03] here. So, some of you know my story,
[0:05] right? I went from being really broke in
[0:08] my early 20s to finally getting my act
[0:11] together, getting to college, getting a
[0:13] good job at Deote, and getting married.
[0:15] And so, when I turned 30, I was planning
[0:18] on my first kid. Uh my daughter, we were
[0:21] planning on having her and I wanted to
[0:23] prepare to have a house for her, right?
[0:26] And I was in a fortunate situation
[0:28] because we worked hard and applied
[0:30] everything you've learned to date so
[0:31] far. It's a fortunate situation to have
[0:33] a couple hundred,000 saved up for a down
[0:35] payment on a house. And it was a
[0:37] situation that I never thought that I
[0:39] would have been on been in, right? Like
[0:41] being completely broke earlier on. And I
[0:43] felt very blessed to be in that
[0:45] situation. Um, but I wound up making a
[0:48] pretty bad decision in hindsight based
[0:51] on that decision because of some
[0:53] emotional things that happened when I
[0:54] found out that we had a kid on the way.
[0:55] So, first off, we were trying to buy a
[0:57] house. This is early 2020, late 2019.
[1:01] Does anyone remember what happened in
[1:02] 2020?
[1:04] >> Co. Yeah, exactly. Co. So, my wife and
[1:07] I, we're trying to save up some money
[1:08] for this house. And Bay Area is
[1:10] expensive and single family homes were
[1:12] all a million dollars in the
[1:13] neighborhoods we wanted. So, we decided
[1:15] to go buy a condo instead, a cheap condo
[1:18] and a kind of a worse neighborhood. And
[1:20] the idea was we're never going to be
[1:21] home, right? We're never going to be
[1:23] home. We'll be in this. We'll not stay
[1:25] at the small condo because we'll take
[1:26] the kid out and we'll go to our friends
[1:28] houses all the time. Don't worry about
[1:30] buying that small house, right? Small
[1:32] condo. We'll be okay because we're never
[1:33] home. Man, we were we were wrong, right?
[1:35] It was it was COVID. We were stuck in a
[1:37] house with an infant and my wife was
[1:39] working in a hospital at the time. So,
[1:41] we're always worried about disease and
[1:42] the small house. And we locked in that
[1:44] decision in December 2020 and we heard
[1:46] about CO in like February 2020. Uh
[1:48] December 2019 and I heard about CO in
[1:50] February 2020. Right. And so just a
[1:52] couple months later, we instantly were
[1:53] like, man, that was no one could have
[1:55] predicted that was going to happen. So
[1:57] it was a pretty bad spot to be in. And
[1:58] then we just happened to have a very
[1:59] energetic kid. So um so the small place
[2:02] was not working out that well. So there
[2:04] was this having a young kid, I was
[2:06] emotional at the time. I had quit my job
[2:09] at consulting and got a job at Google on
[2:11] the AI deals desk. So I was starting to
[2:12] make some good money. And it was a scary
[2:14] time to be a new dad. And it was a scary
[2:16] time to be in the market and finally
[2:17] have a little bit of money because the
[2:18] market was going up and down a lot,
[2:20] right? And so I was in a fortunate
[2:22] situation that when I joined Google,
[2:24] they gave me some of their stock. And a
[2:26] couple years into it, that stock was
[2:27] worth about $200,000. Again, for me was
[2:30] an unprecedented amount of money. And I
[2:32] was in a situation where do I pay off
[2:34] the condo? Like should I pay off the
[2:36] condo now? And I decided to sell all
[2:38] that Google stock in the short term to
[2:41] pay off the condo. The condo had a 3%
[2:44] interest rate on it. And that 3%
[2:48] interest rate this so this happened in
[2:50] 2022. We'll show you the math. So how
[2:52] much was my annual interest expense
[2:54] based on this condo? Anybody? 3% times
[2:57] 200,000.
[3:03] >> There you go. Yep. Right. So I had 6,000
[3:05] in annual interest expense. I felt so
[3:07] lucky to have this kind of cash. The
[3:08] market was in turmoil. The job was
[3:10] tough. Um layoffs were happening at my
[3:12] company. and I decided I'm going to pay
[3:15] this off and sell my Google stock even
[3:17] though I know I was young. I was still
[3:19] in my early 30s and there was a long
[3:21] time compounding. So like a lot of my
[3:24] friends were like why not hold on to the
[3:25] stock and keep the mortgage. But I had a
[3:28] lot of people who had said if you could
[3:30] pay off your house early, pay off the
[3:32] house early but the interest rates slow.
[3:34] So it was 6,000. I'm going to show you
[3:35] something and this is depressing for me,
[3:37] but I'm going to show you why this is
[3:39] important for you all to see and
[3:41] everything I'm teaching you actually is
[3:43] relevant and will impact your lives.
[3:47] Let's look at the time horizon. So,
[3:48] these are all real numbers, real story.
[3:50] Um, 2020 Google stock when I sold 2022
[3:55] was when I sold it. It was about $100 a
[3:57] share. All right. So, I was trying to
[3:59] save $6,000 a year in interest expense.
[4:03] is about a hundred uh dollars a share.
[4:05] What's the price now of the shares?
[4:08] >> $300.
[4:10] Okay. So, I sold the Google stock to
[4:11] save $6,000 a month. Three years later,
[4:13] it's worth $300 a share. How much would
[4:16] my $200,000 have been worth?
[4:22] >> 600,000.
[4:24] Okay. So, what was my gain on my shares?
[4:26] If I had held the shares, what would
[4:27] have been my gain? Forget about taxes.
[4:29] 600,000US 200,000 is
[4:35] I'll drop this in a second. Equals 400.
[4:39] Okay. In how many years of interest
[4:41] expense did I save? Three years of
[4:42] interest expense,
[4:44] right? What's 3 * 6?
[4:47] >> 18,000.
[4:49] Okay. This is opportunity cost, right?
[4:51] We've talked about opportunity cost a
[4:52] lot in the class. Wasn't a bad decision.
[4:54] I paid off the house. I was blessed
[4:55] enough to be able to pay off the house.
[4:56] I was very, very thankful. We w up
[4:58] selling the condo because it was too
[4:59] small anyways. And now we rent. We'll
[5:00] talk about the decision later on the
[5:02] rent versus buy and valuation theory.
[5:04] And this would have even been been
[5:06] better if I didn't decide to buy the
[5:07] place and I decided to invest in the
[5:09] market. And we'll go over why that that
[5:10] was the case as well. But you can see
[5:12] just from this decision alone, I could
[5:15] have made an extra $380,000 in my
[5:18] portfolio. I didn't. And I should have
[5:20] known better. I should have known better
[5:22] at the time, but I was emotional. I had
[5:25] a young kid. It was a tough time in the
[5:27] market. And the same things will happen
[5:28] to you when you ignore the laws that I'm
[5:31] trying to teach you in the class. The
[5:32] laws of finance. All right? So, I'm
[5:34] trying to teach you everything that I'm
[5:36] relevant. This number is going to get
[5:37] worse every year I do this lecture and
[5:38] it's going to be painful for me to do
[5:40] this, but I'm I'm exposing this so you
[5:42] all can learn how important these
[5:43] techniques are because real wealth isn't
[5:46] earned. Real wealth is accumulated
[5:49] through investments over long time
[5:50] horizons. And that's what I'm going to
[5:51] try to show you and impart on you all
[5:53] today. Again in a corporate finance text
[5:56] this also matters but I'm starting with
[5:57] personal finance so it's relevant to you
[5:58] all.
[6:01] Okay so another good example of this is
[6:03] Birkshshire Haway. So Brookshshire Haway
[6:06] in 1965 was worth $19, right? This is a
[6:10] bit cherry-picking of an example just to
[6:12] illustrate the point but S&P 500 we
[6:14] could do something similar and it would
[6:15] still have a dramatic outcome. It was
[6:17] worth $19 in 1965. I looked at the share
[6:20] price in 2025 it was approximately a
[6:22] million. Right? So if someone had there
[6:24] was this story I was reading about
[6:26] people who were finding out they had an
[6:28] old stock certificate in their safe from
[6:30] their grandparents who worked there and
[6:32] now they were suddenly millionaires. All
[6:34] right, you would have had to save
[6:36] $16,667
[6:38] every single year during that time
[6:40] horizon to make the same amount of
[6:41] money. And it's easy to go well that's
[6:44] Birkshshire Hathaway but it's not just
[6:45] Birkshshire Hathaways. That's the power
[6:47] of compounding of leaving money alone
[6:49] over long time horizons. So, I'm going
[6:51] to show this in a more relatable example
[6:52] to all of you. Who read the book and
[6:54] read about Maya and Jordan? Some of you.
[6:57] Other ones, catch up on your reading.
[6:58] It's important. I think it's it's
[6:59] helpful to understand the context. I'm
[7:01] going to look at Maya and compare them
[7:03] to Jordan to show you the power of time
[7:05] when we're looking at compounding. And I
[7:07] want you to work along the examples with
[7:09] me. All right? So, Maya is more like me,
[7:12] kind of more my style person. And I know
[7:13] both of them. I'm anonymizing them for
[7:15] you all, but these are real people that
[7:17] I know. Um, she was an early starter.
[7:20] Parents didn't give her anything. At 18,
[7:22] she was kicked out of the house. She got
[7:23] a retail job at like Starbucks or H&M.
[7:26] Can think of one of those places. But
[7:28] she knew this kind of education and she
[7:31] decided she was going to take a piece
[7:33] out of every month of paycheck and
[7:35] contribute to her retirement early on.
[7:37] At least her parents gave her that
[7:38] advice and she followed it. She does it
[7:40] for eight years. All right? She does it
[7:42] for eight years and then she stops at
[7:44] age 26 because she just gets frustrated.
[7:46] She's like, "All my friends are doing
[7:48] better than me. They're spending on all
[7:49] this fun stuff. I've been hustling all
[7:51] this time. I'm just going to stop." And
[7:53] she leaves it alone until she's 42. Then
[7:56] we're going to talk about Jordan. All
[7:57] right. Jordan, opposite situation.
[8:00] Again, a friend I have, parents gave him
[8:03] money, let him stay home. He was pretty
[8:05] comfortable. Went to a good college.
[8:06] Parents paid for the college. And he
[8:09] kind of slacked off a bit with his
[8:10] investments. Not too bad. starts at a
[8:12] good age at 26, but he
[8:16] kind of liked living luxuriously. Like I
[8:18] knew him and he was this guy who he
[8:20] moved up to the Bay Area after he
[8:21] graduated college and he wanted to live
[8:22] in a nice apartment in Menllo Park even
[8:24] though it was like 70% of his income cuz
[8:26] he liked it, right? Like it was fun for
[8:27] him. He liked going on big trips. He
[8:29] liked having a nice car and he didn't
[8:32] and he would always tell me like,
[8:33] "Devon, you're stupid for investing. You
[8:34] don't want to don't invest. You got to
[8:36] enjoy your your life." 26, he realizes,
[8:39] "Hey, I don't have any investments. I
[8:40] should probably catch up. And he's going
[8:43] to invest for 15 years while Maya
[8:45] invests for 8 years. So he's going to
[8:48] invest more for longer. Who do you think
[8:50] will be richer at 42? Anyone have any
[8:54] guesses?
[8:57] >> Maya.
[8:57] >> Maya. But it's counterintuitive, right?
[9:00] So let's prove it out how much richer
[9:02] Maya will be based on this fact, these
[9:04] facts and circumstances. So we're going
[9:07] to take first. Let's do Maya. There
[9:10] going to be two steps to calculating
[9:11] MA's
[9:13] future value. We're using 10% as the
[9:16] historic market return. We're not going
[9:18] to consider inflation or dividend
[9:19] returns or anything. We're just going to
[9:20] use a 10% historic average. 10 is your
[9:24] IY. You could just put 10. You don't
[9:25] need the percent there. How many years
[9:27] is she investing?
[9:30] >> Eight. And then is she investing all at
[9:32] one time, a lump sum, or is she
[9:34] investing an annuity?
[9:36] >> Annuity. And we're going to assume at
[9:38] the end of every year. So that's called
[9:39] an ordinary annuity. And so ordinary
[9:42] annuity of
[9:45] what's 470 * 12?
[9:51] Anybody?
[9:52] >> 5,640.
[9:54] >> 5,640.
[9:56] Okay. 5,640.
[10:01] And what are we solving for? Present
[10:02] value or future value?
[10:05] >> Yeah, future value. We want to know how
[10:06] much she's going to be worth if she put
[10:08] $5,640
[10:10] in every single year at the end of every
[10:13] year at the end of these uh 8 years. So,
[10:15] how do we do this in our financial
[10:16] calculators? Let's throw it up on the
[10:17] screen. All right. 8 N 10 IY.
[10:25] What do we have? 5,640.
[10:29] We'll make that negative because it's a
[10:30] cash outflow. She's making an investment
[10:33] payment. And then we figure out the
[10:35] future value.
[10:37] We we'll round but what do you all get
[10:40] this calculation?
[10:42] Everyone's be able to do this on their
[10:43] calculators.
[10:45] If not, raise your hand and we'll go
[10:47] through it again.
[10:49] You need to be following along.
[10:51] >> Yeah, we'll go through it one more time.
[10:54] Again. 8
[10:56] N that's eight years
[11:00] 10 IY your annualized interest
[11:05] 5,640
[11:09] negative here that's your payment that's
[11:12] your annuity and then your future value
[11:14] you just press future value you able to
[11:16] get it this time
[11:17] >> great okay 65,000 is our future value.
[11:27] Okay. 65,000 our future value. We all
[11:29] agreed. So what does that mean at 8
[11:32] years? From 18 to 26. At 26, how much
[11:36] does she have approximately?
[11:39] >> 65,000. So we can understand why she's
[11:41] frustrated, right? She's been saving
[11:42] money for a while. She's has a good
[11:45] amount of money. That's still a
[11:46] meaningful amount, but it's not
[11:47] life-changing. So she gives up. But what
[11:50] happens? She leaves that money in this
[11:52] S&P 500 index fund. And how long does
[11:56] she leave it there? Well, she's got
[11:58] we're going to look at that calculation
[11:59] at 42. So what's 42 - 26? How many years
[12:02] does she leave it alone?
[12:07] 42 minus 26 is what?
[12:12] >> 16 years. So we need to go one step
[12:15] further.
[12:17] n equ= 16.
[12:21] There's no payment now.
[12:25] IY is going to stay the same.
[12:28] What's our present value now? It's our
[12:30] old future value, the 65,000 outflow.
[12:34] And we're going to solve for future
[12:36] value.
[12:38] You all following?
[12:39] >> Y.
[12:41] >> Okay. So, let's do that.
[12:45] I'll do 65,000
[12:48] present value 10 IY.
[12:53] How many years?
[12:55] 16 years.
[13:00] That doesn't seem right. 16 years
[13:01] doesn't seem right, guys. You guys give
[13:04] me the right math. 14 years, right?
[13:08] 14 years.
[13:13] Okay. 14 years.
[13:19] We'll do it again.
[13:21] 14 N 10 IY
[13:27] present value is 65,000.
[13:33] Okay. What's our future value?
[13:37] $246,000.
[13:40] Is am I doing all right now?
[13:43] That's a lot of money to have in your
[13:44] 40s, right? That's not a small in
[13:46] inconsequential amount of money, right?
[13:49] So, we'll we'll summarize that. Well,
[13:50] let's say it's $250,000. All right, just
[13:53] for rounding. So, Maya has about
[13:54] $250,000
[13:57] in her 40s. That's pretty that's sitting
[13:59] pretty nice. All right, let's look at
[14:01] Jordan now. Let's catch up with Jordan.
[14:03] So, Jordan starts a little later.
[14:08] Jordan is now, how long is he investing
[14:10] for? 15 years.
[14:13] What's his investment? What's 500 * 12?
[14:19] 500 * 12. Everyone do the math with me.
[14:22] 500 * 12 6,000, right? 6,000.
[14:28] Same yield on your investment,
[14:32] your present value.
[14:34] We don't have any no initial investment
[14:37] future value we're going to calculate.
[14:47] So 15
[14:49] N 6,000
[14:53] payment
[14:56] 10
[14:57] IY did I get the right number? 14N.
[15:00] Sorry.
[15:03] Oh, 15N. 15. Got to make sure I did it
[15:05] right. 15 N 10 IY
[15:11] 6,000
[15:14] payment.
[15:17] Is that what you all get?
[15:23] So about 190,000. We'll round it.
[15:27] Who's richer?
[15:30] Maya.
[15:31] >> Maya. Who saved more? Who actually saved
[15:34] more money over the time? Jordan
[15:36] contributed $96,000
[15:40] over his time horizon. $96,000. Right.
[15:44] How much did Mia contribute? $45,000.
[15:47] Ma contributed less than half of what he
[15:48] did. How long did Jordan do it for? 15
[15:51] years. Maya did it for eight. Almost
[15:52] half. Who's richer?
[15:55] >> Maya. Why? Why is Mia richer?
[16:00] her investment compounded more over
[16:01] time.
[16:02] >> Exactly. She started earlier. So, first
[16:04] big takeaway for all of you when you're
[16:05] taking this finance class. Why does this
[16:08] apply to you? Even if you're not in
[16:09] finance, it matters more than probably
[16:11] any of your other classes, right? You if
[16:13] you start now, if you any of you start
[16:15] now, that's going to have a huge
[16:17] financial impact on your later life. All
[16:19] right? So, make sure if you're
[16:20] investing, the earlier you start, the
[16:22] better. She just started earlier. Even
[16:24] though she had less and had less time to
[16:26] invest, she started earlier. Let's look
[16:28] at what that means for retirement.
[16:30] All right. So Maya
[16:32] ended with 250,000.
[16:35] Let's make that the new present value.
[16:38] And she's in her 40s. What's a good
[16:40] retirement age for Maya? Maybe 62. Is
[16:43] that good? Still still pretty young to
[16:46] retire, right? It's it's not a bad time.
[16:47] So we'll give it her 20 more years for
[16:49] that to compound. She never saves
[16:50] another day in her life. 10 IY.
[16:54] Now my has almost 200 two million bucks,
[16:59] right? Jordan's going to have less.
[17:03] We all see the power of this. Can
[17:06] everyone do these calculations?
[17:07] >> Just just pay is negative because it's
[17:10] the money you're using to like
[17:13] >> Yeah. So when we're looking at cash
[17:15] flows, outflows are always going to be
[17:17] negative. So if you're taking the money
[17:18] and you're investing it, I know it's
[17:20] complicated because you're investing in
[17:22] yourself. You still own those assets.
[17:23] You can think if you're investing it,
[17:25] that's your outflow. And then when you
[17:26] have access to it, it's your inflow.
[17:27] That's when it's positive.
[17:29] >> Good question. Any other questions?
[17:31] We're all able to get these numbers. So,
[17:33] we can see just by Maya doing this for 8
[17:36] years, she sets herself up for a
[17:38] comfortable retirement for the rest of
[17:39] her life, right? So, starting early, if
[17:42] you all could start early, that's going
[17:43] to be have a huge impact to you all. So,
[17:45] Maya contributes half has double the
[17:47] wealth because of the power of N and IY.
[17:51] So any of you while you're going through
[17:53] all of this, think of it through these
[17:55] levers.
[17:57] How long is your biggest lever to
[17:59] impacting how much wealth a business or
[18:03] how much value a business or a person
[18:05] will accumulate over time? You start
[18:07] earlier and we're going to use some big
[18:08] numbers soon. Start earlier and
[18:10] unfathomable things become imaginable
[18:13] be just by using time. How much is the
[18:16] next piece? higher savings rates earlier
[18:20] and when we're gonna have a bigger
[18:22] impact. If you invest on day one, it's
[18:24] going to have a much bigger impact on
[18:26] your last day, which has no time for
[18:27] compounding. And lastly, we have our
[18:29] rate of return. And we're going to have
[18:31] a whole class on rate of return and risk
[18:34] and reward and the trade-offs. But for
[18:36] this section, we're just going to talk
[18:37] about 10% average yields because that's
[18:40] a historical return of the marketplace.
[18:42] And then we're going to talk a little
[18:43] bit about inflation today and interest
[18:45] rates just so you have a baseline. But
[18:47] we're going to get more into uh risk and
[18:49] return. But that's less in your control
[18:51] and you have to take on risk to get
[18:52] greater return.
[18:54] So we're going to use some cooler
[18:55] numbers. Now
[18:58] let's imagine you want to retire. How
[19:00] many people in this class want to retire
[19:01] and have a million bucks in retirement?
[19:03] You'd be like, I'm pretty happy with a
[19:04] million bucks. I'm even happy with a
[19:06] million bucks. A lot of money. Million
[19:07] bucks is a lot of money, right? How
[19:09] about 10? Who wants 10 million?
[19:11] Okay, we got our higher achievers here.
[19:14] You want to What are you doing with the
[19:16] 10 million? Maybe I live in a
[19:18] driving some nice cars or something.
[19:20] Going on first class flights. What about
[19:21] 100 million? Who's who's aiming for the
[19:23] 100 million? Mabula. I like it. Good
[19:25] job. Okay, we got a few hundred million
[19:28] um years. If we look at just what it
[19:31] would take if you're going to spend 30
[19:33] years to accumulate this amount of
[19:34] wealth without investing, we can see how
[19:37] challenging this might be. So $33,000 a
[19:40] year. We're assuming that they're just
[19:42] keeping this under the pillow or a
[19:43] checking account. No interest. All
[19:44] right. 33,000 a year savings to get to a
[19:48] million dollars if you don't invest.
[19:49] That's a lot of money. Okay, for anybody
[19:51] that's like your maximum 401k
[19:53] contribution limits beyond that for
[19:56] after tax, that's going to be a good
[19:58] chunk. Even if you're making 100,000 a
[19:59] year, that's really hard to do. You can
[20:01] see the 10 million becomes nearly
[20:03] impossible. You'd have to save a top 2%
[20:06] top 1% income, all of it, in order to
[20:09] get 10 million, 100 million, three
[20:11] million a year. It's not going to happen
[20:13] through earnings alone. You can't earn
[20:16] your way to $100 million unless you're
[20:18] like Brad Pitt or something, right?
[20:19] You're like some rock star movie star
[20:23] and even them, they're going to really
[20:24] have challenges doing that, right? Um
[20:27] you can through we'll talk about
[20:29] business valuation and business exits.
[20:31] That's another potential, but that's
[20:32] also just another style of investing
[20:34] that we're going to talk about through
[20:35] this class.
[20:37] But what if we were to try to look at
[20:39] that from a lens of investing? And so
[20:42] this is where the rate of return has a
[20:43] larger impact. If we were to look at it
[20:46] at $33,000 a year, but instead we're
[20:49] going to invest those returns,
[20:52] we can play around with it. So 33,000
[20:57] payment 30 years. So we're maxing out
[20:59] our 401k or retirement 401k or
[21:02] retirement accounts. 10IY.
[21:05] If you invest that money instead of
[21:07] having a million at the end, you get 5.5
[21:10] million. 5.4 4 million in 30 years. Take
[21:13] in mind that's an early retirement. If
[21:15] you start in 25, start your career and
[21:17] can do this, that means at 55 you have
[21:20] you're halfway to a deca millionaire.
[21:22] It's a pretty big deal, right? For a
[21:24] $33,000 investment. I know it seems
[21:26] high, but that's a huge return on your
[21:29] life. You're going to be in the top 1%
[21:32] of net worth um for people or in the top
[21:36] 5% for families probably. Okay. If you
[21:41] only keep it in a checkings account or a
[21:43] savings account that's getting a 4%
[21:44] return,
[21:48] you'll see a drastically different
[21:49] outcome.
[21:53] Only about 1.85 million. And we'll talk
[21:56] more about risk and reward, but you can
[21:58] see just by escalating our risk in
[22:01] investments can have a huge
[22:04] disproportionate impact on our future
[22:06] outcomes. Similar to my situation,
[22:08] right? In the last three years, I lost
[22:10] out on almost $400,000
[22:12] because of this logic, right? I took a
[22:16] 4% return instead of a 10 or 20%
[22:18] annualized return for the risk. Does it
[22:21] make sense? Yes, Jacob.
[22:25] >> When you're at the age of retirement,
[22:27] then sell all this at once when you're
[22:29] ready to retire
[22:31] as you gradually need it.
[22:32] >> Okay. Okay, so question was how what's
[22:34] the retirement strategy for pulling this
[22:38] money out at that point in time, right?
[22:39] We're going to talk about that. That's
[22:40] coming up on the future slides. So, it's
[22:41] a good question. I'll hold off. But
[22:43] there's a few things we'll consider
[22:44] today. Perpetuity math, annuity math,
[22:47] and sequence of return risk. We're going
[22:49] to try to cover all that today if we
[22:50] have time. It's a good question, so hold
[22:52] on to it. All right.
[22:57] Other ways to do this is that's annuity
[23:00] math. What if we were to do lump sum
[23:02] math? So lump sum time value of money
[23:05] means we're discounting that future
[23:06] value and instead we're going to find a
[23:08] rich uncle or aunt who's going to give
[23:10] us the gift today or we're going to
[23:12] hustle really hard this year to save up
[23:14] that money and then put that all in our
[23:15] retirement. This is also known as
[23:16] coastfi or coast retirement. You just
[23:19] try to work really hard to get a lump
[23:20] sum into your account and let it grow
[23:22] over time. What does that look like?
[23:26] If I want a million dollars
[23:30] in 30 years, 30 and do this along with
[23:33] me at a 10% return,
[23:37] we need a $57,000 investment today.
[23:40] All right? So, if you're able to hustle
[23:42] really hard one year, stock away all the
[23:44] money for one year, you never need to
[23:46] save for retirement again if your
[23:47] million-doll retirement is your goal.
[23:50] Right? And again, this is caveed with
[23:52] volatility risk and whatnot, but still,
[23:55] isn't that amazing? That's a huge impact
[23:58] if you're able to hustle and just work
[24:00] really hard for one year and then you
[24:01] don't have to worry about saving for
[24:02] retirement if that's your retirement
[24:03] goal.
[24:07] Now, let's take this one step further.
[24:09] Here's a game I'd like to play with you
[24:11] all. Who
[24:13] name some billionaires you know
[24:17] personally? No, you don't have to know
[24:18] them personally. If you do, introduce
[24:19] me, but name some billionaires that you
[24:22] just public billionaires that you're
[24:23] aware of. I want to hear a few examples
[24:25] and just shout them out.
[24:26] >> Jensen Wong.
[24:27] >> Jensen Wong. Okay, so that's Nvidia's
[24:29] CEO. Who else?
[24:33] >> Bezos. That's in every class, man. Say
[24:35] Bezos has been the most popular so far.
[24:37] Who else?
[24:39] I want five. Come on, guys.
[24:41] >> Arnold Schwarzenegger.
[24:42] >> Oh, I wonder is Arnold Schwarzenegger a
[24:44] billionaire?
[24:44] >> Yeah, he is.
[24:45] >> Oh, that's pretty cool. I didn't know
[24:46] that. That's a new one. Thanks for the
[24:48] curve ball. Who else?
[24:50] >> You.
[24:51] >> Elon Musk. All right. And then let's do
[24:53] a fifth one. Who's the fifth famous one?
[24:59] No, we don't know any other
[25:00] billionaires.
[25:01] I'll say Bill Gates or Warren Buffett
[25:03] tend to be the common other ones that
[25:04] come up, right? Bill Gates or Warren
[25:05] Buffett. Do we know a common theme? Do
[25:08] we have a common theme with all of these
[25:09] people other than them being old white
[25:10] guys?
[25:12] What's a common theme? There's one
[25:14] thing. Let's ignore the gender and the
[25:17] and the race for a minute. What's a
[25:19] common theme there?
[25:21] Age. I think none of them maybe Elon,
[25:24] how old is Elon? Maybe in his late 40s.
[25:27] None of them are young. The
[25:29] billionaires, the people have hundreds
[25:31] of millions of dollars. Most of them
[25:33] accumulate their wealth in their late
[25:34] 40s or post that. Many of them also had
[25:39] early starts, meaning their family gave
[25:41] them something to start off with. All
[25:43] right? And that's a tough reality, but
[25:45] it's not something that you have to work
[25:46] against. It's something that can work
[25:47] for you by changing out your time
[25:49] horizon, which is tough when you're
[25:51] young. It was tough for me when I was
[25:52] young. Like someone breaks up with you
[25:54] and then your world's over and you're
[25:55] never like I remember never thinking I'm
[25:56] going to find get married after a
[25:58] breakup and then you're only 21. Right?
[26:00] It's like you have your whole life ahead
[26:01] of you. I heard someone else in my other
[26:03] class today being like, "Oh, I had the
[26:04] roughest week ever. My life's over."
[26:05] It's like you're 21. It's okay. There's
[26:07] a lot of life left to live. Your time
[26:09] horizon. And as you live more life,
[26:11] you're going to realize that time moves
[26:12] faster than you'd expect and that you
[26:14] can tolerate longer durations of time.
[26:18] And you don't have to play the game with
[26:19] just your own retirement. Even though 50
[26:21] years would all be within your own
[26:22] retirement age. You can play the game
[26:24] multigeneration. Many of the people that
[26:26] I've known su successful very wealthy
[26:29] CEOs and CFOs that I've worked with in
[26:31] my career have trusts either given to
[26:34] them or trusts given to their kids where
[26:36] they're planning out multigeneration.
[26:38] like I'm gonna give a $100,000 gift to
[26:41] my unborn grandchild that they'll get
[26:43] access to when they're 30 or 40. So they
[26:46] have many many years of compounding to
[26:48] build up that trust so that they're
[26:50] succeeded for their retirement. So you
[26:51] can play these games on I'll fund
[26:53] someone's future retirement, an unborn
[26:55] person's future retirement, and you can
[26:57] imagine how compounding can work in your
[26:58] favor. So I'll use an example here.
[27:02] If you have a goal of hitting $100
[27:04] million,
[27:08] which is an that's a we can agree that's
[27:10] an obscene amount of money. That's a lot
[27:11] of money, right? If any of you have
[27:13] that, please talk to me. I need more
[27:15] friends. All right. 10 10 interest.
[27:19] We'll do 50 years.
[27:23] That's $850,000 today.
[27:26] All right. Now, that's still a lot of
[27:28] money, but this becomes manageable. If
[27:30] you think about the retirement games we
[27:31] played, we taught you how to get to 5
[27:33] million. If you don't need that money in
[27:35] your retirement, you can carve that out,
[27:37] give it to your grandkid, and they, your
[27:39] family now has a chance at
[27:41] multigenerational wealth. And that's
[27:42] what many people actually do. Benjamin
[27:44] Franklin was famous for this for setting
[27:46] up I think it was the University of
[27:47] Pennsylvania someone can correct me if
[27:48] I'm wrong setting up their entire
[27:50] endowment by doing something like this
[27:52] putting up a small initial endowment and
[27:54] then setting it up that they'd access it
[27:57] after 100 years of compounding and it's
[27:58] become like their largest endowment
[28:00] right the power of compounding is a
[28:02] wonder of the world
[28:04] we could even go further and say what if
[28:07] it was 70 years
[28:10] $und00 million
[28:18] 100,000 bucks.
[28:21] That's a much more manageable amount of
[28:22] money.
[28:24] Do we all see? I know it's hard for you
[28:26] to think out 70 years, but if you have
[28:28] the ability through this class to plan
[28:30] that far ahead, you can start having a
[28:32] drastic impact not just on your life,
[28:34] but the generations of lives that happen
[28:36] after you. Right? And if you don't if
[28:38] you're not thinking about kids, I know I
[28:39] talked about kids. I have a friend who
[28:41] really loves cats. They're a Deca
[28:43] millionaire and they have a trust set up
[28:45] for a cat shelter, an animal shelter. I
[28:47] regularly tell them like, "Hey, you
[28:49] know, you could maybe we could classify
[28:51] my daughter as a cat or some way that
[28:52] she could get some access to that." But
[28:54] no, but that's all good. You could do it
[28:56] for any type of generosity to set up
[28:57] your future, right? So, so it doesn't
[29:01] have to be just if you want kids or
[29:02] thinking multiple generations, but you
[29:03] could have an impact for many
[29:04] generations if that's the way you're
[29:06] thinking. Now, we're going back to your
[29:07] question over here. So, so my main goal
[29:10] of that was to show you the power of
[29:11] time is can can let all your dreams come
[29:14] true if you just let it. If you just let
[29:16] it, right? All right.
[29:19] And now, how do you use the money once
[29:22] you want to access it? Again, this is
[29:23] all going to go into business valuation
[29:25] soon, but I'm just doing this because
[29:26] it's a little more relatable for you all
[29:28] to understand time value of money.
[29:30] There's a concept called perpetuity and
[29:33] annuity. What's a perpetuity? Can anyone
[29:36] explain?
[29:38] you're taking out only the interest rate
[29:42] that you gain from your
[29:43] >> Well said. You're only taking out your
[29:46] gains. The idea is that you'd want to be
[29:48] able to do a fixed amount forever.
[29:50] That's perpetuity. Annuity is you're
[29:53] drawing out and after a certain time
[29:55] horizon, you run out of money. If you're
[29:57] having trouble remembering that, for
[29:58] some of you, those are technical terms.
[30:00] Perpetuity, I like to think of it as
[30:02] perpetuity, I'm leaving something to my
[30:03] kids, right? I'm leaving something for
[30:05] the next generation. annuity.
[30:09] Screw the next generation. I'm It's all
[30:10] for me, right? We're taking all the
[30:12] money for myself. Okay, let's look at
[30:15] how that would be different for
[30:16] different maths. So, something we're
[30:17] going to teach teach about a few times
[30:18] in this class, do perpetuity and
[30:20] annuity,
[30:22] per
[30:24] and annuity is the 4% rule.
[30:29] Most markets and most history, most
[30:31] market history, if you withdraw 4%,
[30:33] that's known as a safe withdrawal rate
[30:35] from your portfolio, your your principal
[30:38] balance will remain over time horizon.
[30:40] Oh, over any any multiple periods of
[30:42] historical time horizons when you back
[30:43] test. What does that mean? That means
[30:46] and it makes sense like what what's our
[30:48] interest rates today like between 3 and
[30:49] 4%. You could draw 4% forever against an
[30:52] account and you'll always keep the
[30:54] principal balance.
[30:56] So that's called the rule of 4%. It
[30:58] changes over time, but that that idea
[31:00] here would be if you have 500 $5
[31:02] million,
[31:04] you have a 4% rate,
[31:07] how much could you pull out? You can
[31:09] pull out 200,000 a year. And so 5
[31:12] million, you made 4%, you pull out
[31:14] two,000. At the end of the year, you
[31:16] have still have 5 million. You can do
[31:17] that forever. Again, we're ignoring
[31:19] inflation here, but there's some
[31:21] inflation considerations there as well.
[31:23] Well, what if we didn't want to die with
[31:25] $5 million because you can't take it
[31:26] with you. you want to use it all. We use
[31:29] annuity math. So, let's say someone's
[31:31] 65, they want to live to 95. I know
[31:34] that's dark, but you got to choose your
[31:35] death date to do this stuff, right? So,
[31:37] 5 million present value, we're going to
[31:40] say they're 65, they're going to live
[31:41] till 95.
[31:43] Um, IY
[31:45] is going to say the 10%.
[31:48] And we are going to calculate out now
[31:52] payment. We're going to calculate the
[31:54] fixed income you can draw down in order
[31:56] to live off of that amount the rest of
[31:58] your life. So again, 5 million is your
[32:01] present value.
[32:04] 10 IY
[32:07] 30N
[32:10] payment.
[32:12] Oh, is that right? Let me do that again.
[32:14] Did I wrong? Seems high. 30 N
[32:18] 10
[32:19] IY
[32:25] 5 million
[32:28] present value. Okay. 530,000 a year.
[32:39] Okay. So, you get to live a much more
[32:41] luxurious lifestyle over this time
[32:43] horizon. We all got the same number.
[32:46] You get to pull an extra $230,000 a
[32:48] year. At the end of that first year,
[32:50] this goes down. You you Oh, it's because
[32:53] I did a 10% IY. So, we did a higher
[32:56] return rate here so they can live off
[32:58] more. Let me change this to 4%. So,
[33:01] we're on equal terms. So, you can see.
[33:03] So, we'll assume they'll just do the
[33:04] savings accounts.
[33:07] Generally, Jacob, this goes to your
[33:09] question earlier. Generally, when you
[33:11] hit retirement age, you are going to
[33:13] start diversifying away from high-risisk
[33:15] investments. Again, we'll talk about
[33:16] risk and reward later, like the S&P 500
[33:18] or stocks. And you're going to go more
[33:20] towards CDs and bonds that are going to
[33:22] give you a steady return, which means
[33:24] your total return is going to drop. And
[33:27] we'll explain that in sequence of return
[33:28] risk eventually. So 4%
[33:33] here go
[33:36] 30 years
[33:39] 5 million present value
[33:43] that sounds more right 289,000
[33:51] and 150 bucks.
[33:54] So you get about an extra $90,000 a year
[33:57] to spend at a 4% return rate. So that
[34:01] that you can see how the return rates
[34:02] have drastic changes on your modeling.
[34:05] What does this mean? At the end of year
[34:07] 1, this would reduce about $89,000 and
[34:10] now you have a smaller base that would
[34:12] grow. Eventually that's going to hit
[34:13] zero by the end of the 30 years. Any
[34:16] questions so far?
[34:19] >> Yes. Um, I'm kind of curious how you got
[34:21] the 200,000 on productivity. So, it's 5
[34:24] million divided by 4%
[34:26] >> times 4%.
[34:27] >> Multiply by 4%.
[34:30] >> Got it.
[34:31] >> Any other questions?
[34:33] So, you get a little more this way, but
[34:35] you don't leave anything at the end. All
[34:36] right.
[34:38] Cool.
[34:42] Last major piece to talk through here is
[34:44] inflation. When we're talking through
[34:46] inflation, we haven't built that into
[34:48] our returns right yet. So, we've been
[34:50] talking what's known as nominal returns.
[34:53] Nominal returns means we're not
[34:54] considering inflation. Story I like to
[34:56] say is like my my wife's my
[34:58] parents-in-law, my family-in-law, my
[35:00] wife's parents, we go to this f place
[35:02] that was around when they first moved
[35:03] here, before my daughter was before
[35:05] before my wife was born, right? So, this
[35:07] is like 40 years ago. The f place used
[35:09] to sell bowls of f for $4. Now their
[35:12] cost $20 for the same bowl of fur. They
[35:15] always complain. They're like, "We'll ne
[35:16] we never understand why you go here.
[35:19] Only a good deal is $4 for the bowl of
[35:20] f." We're like, "Come on, guys. It's
[35:22] that's everything costs $20 now for a
[35:24] bowl of fa, right? Like that's the
[35:25] reasonable price to all of us. $15 to
[35:27] $20. What is that? That's inflation.
[35:31] They are looking at their money in
[35:33] present value terms back then. We look
[35:36] at our money in present value now. What
[35:38] does that mean? your kids one day or the
[35:40] next generation 30 40 years from now,
[35:42] that bowl of f is probably going to be
[35:43] $50 to $100. It's going to be very hard
[35:46] for us to imagine what that feels like
[35:48] at that point in time until that
[35:50] happens. But for them, it's just going
[35:52] to be the regular amount of money,
[35:53] right? So, how do we adjust for that?
[35:56] Well, what you do is if you take
[35:58] inflation out of our return rates, so
[35:59] when we're using 10%, you take it to 8%,
[36:02] you reduce it by 2%. Or if you're
[36:04] looking at 4%, you reduce it by 2%.
[36:06] You're going to understand what that
[36:08] would feel like in today's dollars.
[36:10] Okay? That's what doing a real return
[36:11] adjusted real adjusted return is going
[36:14] to show you what that purchasing power
[36:15] will feel like. It's not going to be
[36:17] exact. We have periods where higher
[36:18] inflation and lower inflation. We've
[36:20] been in a period of higher inflation for
[36:21] a while. And certain assets and certain
[36:23] costs change over time. Like housing's
[36:26] inflated more, education's inflated
[36:27] more, food has actually been really low
[36:29] inflation over the last 15, 20 years. So
[36:32] things change over time, but it's just a
[36:34] general convention we take to make sure
[36:37] that we understand the math that we're
[36:38] using and playing on more fair terms.
[36:40] Does that make sense? Any question on
[36:42] real versus inflation? Inflation versus
[36:44] nominal, real versus nominal.
[36:48] So on a test question, I might ask you
[36:51] what a real return is, but I will always
[36:53] give you the inflation rate if I do
[36:54] that. All right. All right.
[36:58] So this is for all of you personally
[36:59] before we get into more technical
[37:00] topics. Early mistakes cost fortunes. I
[37:03] hope you learned from my mistake of I
[37:05] should have kept the money in the market
[37:07] even though um it was a good decision to
[37:09] pay off the house. There was much better
[37:11] decisions to make. Time beats effort. So
[37:13] many of you will work the rest of your
[37:16] lives and then wonder why you're not as
[37:18] rich as a friend who didn't. We talked
[37:19] about May and Jordan, right? So if you
[37:21] invest early, that's going to have a
[37:22] disproportionate impact over a long time
[37:24] horizon. If you're making a decision,
[37:26] work backwards on how that's going to
[37:28] impact your life. Like if you're ever
[37:30] thinking of right now, if I was if this
[37:32] was a personal finance class, I'd ask
[37:34] you all to make a decision on if you
[37:36] invested today versus waited five years
[37:38] to start investing, what would that look
[37:40] like? Start playing with those numbers
[37:41] so you can understand the impact they're
[37:43] going to have on your future. And then
[37:45] that know what your goals are at the
[37:47] end. Like having a perpetuity versus an
[37:48] annuity, figuring out what age you want
[37:50] to retire, figuring out what kind of
[37:52] life you want to live, it's all very
[37:53] important. We baseline that in other
[37:54] classes. And then I have an exercise
[37:56] here. We won't do it here, but it's just
[37:58] a helpful exercise if you want to do it
[37:59] yourself.
[38:01] Now, we're going to go into more
[38:02] technical topics. Is there any questions
[38:04] on the more soft conceptual topics?
[38:09] In the exam, I'll just be going over
[38:11] present value, future value, annuities.
[38:14] You'll be able to you'll have to do
[38:15] problems like we did on the board on the
[38:17] exam for multiple choice or fill in the
[38:19] blank. All right. Okay. Next,
[38:24] we talked through this. There's a few
[38:26] technical nuances you need to understand
[38:27] as a finance professional. So far, we've
[38:30] only been talking about annuity dues. I
[38:33] mean, ordinary annuities.
[38:37] I'm going to use an example up here.
[38:39] Okay.
[38:43] Ordinary annuities. We think about it
[38:45] this way.
[38:48] I like these little boxes when we're
[38:49] doing years. One, two, three, four, five
[38:52] years. I'm going to look at investing
[38:57] $30,000 a year. What have we been doing
[39:00] in this class so far?
[39:03] We're taking that 30 and we're saying
[39:05] we're contributing those are looking at
[39:06] them at the end of each year. You
[39:09] following?
[39:11] When we are saying an ordinary annuity,
[39:12] we're saying it happening at the end of
[39:14] each year. What does that mean for this
[39:17] cash flow? When we're using an ordinary
[39:19] annuity, how many compounding periods
[39:22] does this cash flow get? annual
[39:23] compounding periods. We just count how
[39:26] many? One,
[39:29] two,
[39:31] >> four. That's different, right? Many
[39:34] students mess this up.
[39:36] In ordinary annuity, your first cash
[39:38] flow only gets four years. In a 5year
[39:41] time horizon, only compounds four times.
[39:44] It's funky, right? That's an ordinary
[39:46] annuity. How many does your last cash
[39:48] flow get?
[39:55] How many does your last cash flow get?
[39:58] >> How many compounding periods?
[40:04] >> Zero.
[40:05] >> Zero. Thank you. Who said zero? Good
[40:08] job. Zero. You get it on the day that
[40:10] you're doing your analysis. This is your
[40:12] present day.
[40:13] All right. So, you always want to think
[40:16] about in compounding periods. or
[40:18] discounting these flows
[40:21] or or ex or looking at the future value
[40:23] or present value of these flows based
[40:25] off of the amount of time periods left.
[40:28] Okay, that's an ordinary annuity. An
[40:30] annuity do is a little different.
[40:33] Annuity due,
[40:35] see,
[40:37] we assume they're happening at the
[40:38] beginning.
[40:43] Still five cash flows, right? But they
[40:46] happen in the beginning. How much does
[40:47] cash flow one? How many periods does it
[40:49] get?
[40:51] 1 2 3 4
[40:53] >> five.
[40:53] >> Five.
[40:55] Which balance will be bigger? Annuity
[40:57] due or ordinary annuity?
[41:00] >> Annuity due.
[41:01] >> Annuity due because you have more
[41:02] compounding periods associated with it.
[41:05] All right. I want you to start thinking
[41:07] in these terms. I use a calculator so
[41:09] you can get comfortable and familiar
[41:10] with the terms. I want you to start
[41:12] thinking of these terms because cash
[41:14] flows will start to differ in future
[41:15] sections when we talk about capital
[41:17] budgeting where you aren't always going
[41:18] to have annuities. Sometimes you'll have
[41:20] payments that go like 30 10 15 20 and
[41:23] you're going to have to understand the
[41:24] timing of those cash payments. Is it
[41:25] today, at the beginning of the year, or
[41:27] at the end of the year? Also, in other
[41:30] classes, not this class, we don't
[41:33] necessarily compound annually.
[41:35] Like if you're saving for retirement out
[41:37] of your 401k,
[41:39] you're generally going to be doing that
[41:40] each paycheck. That's normally twice a
[41:43] month. So there's ways to compound
[41:46] within these periods and the periods
[41:48] monthly, weekly, daily,
[41:52] but the general rule is
[41:54] the earlier the compounding happens, the
[41:57] more time or impact you'll have over
[41:59] those periods. All right? There's other
[42:01] concepts of why it might be better to
[42:04] diversify over time which is called
[42:07] dollar cost averaging which we'll go
[42:09] through that eventually but for but
[42:11] we're not going to cover that in this
[42:12] section. All right. So there are some
[42:14] advantages to
[42:15] investing over time rather than
[42:17] investing at a point in time but they're
[42:19] mainly risk diversification strategies.
[42:24] In
[42:25] the workbook there are the case studies
[42:28] with answer sheets. There are your
[42:30] Google sheet examples. So make sure you
[42:32] use those if you want to learn the
[42:33] Google Sheets or the Excel versions of
[42:35] the spreadsheet functions.
[42:38] So again, we've already talked about
[42:40] this lump sum investing. That's
[42:42] investing at a point in time either in
[42:43] the future, looking at the future and
[42:45] discounting it today or looking at today
[42:47] and extrapolating into the future.
[42:49] That's called lumpsum investing.
[42:52] And then we can reverse that. We've
[42:53] talked through that. Ordinary annuities
[42:55] looking at a fixed value over time. So
[42:58] making it a fixed payment annually or
[43:02] monthly or whatever it is in this class
[43:03] will always be ordinary annuities
[43:04] annually
[43:07] talking about nudity dues
[43:10] and
[43:13] we've talked about inflation
[43:15] there's two more topics I see you all
[43:17] this is pretty technical a lot of you
[43:18] are starting to look a little dry on
[43:21] this one I know so I'm not going to go
[43:23] the full section today we'll cover we'll
[43:24] stop by 1:30 uh 11:30 but I have two
[43:27] more important important topics. So
[43:28] please stay with me because these are
[43:29] both impactful to you. First is the
[43:31] concept of interest rates and how
[43:33] they're established. If I had a full day
[43:35] to cover this, I would. I think it's
[43:36] extremely important for you to
[43:37] understand. But when we're looking at
[43:39] rates of return, it's important to
[43:41] understand how interest rates are
[43:42] established. Does anyone here know the
[43:44] governing governing body used to
[43:46] establish interest rates in the US
[43:48] government?
[43:51] >> Who said it?
[43:53] What is it?
[43:54] >> Federal Reserve.
[43:56] >> Well said. Federal Reserve. The Federal
[43:58] Reserve helps establish interest rates
[44:00] in our country. What are the two
[44:02] mandates of the Federal Reserve? They
[44:04] have two mandates.
[44:10] Does anyone know? It's important. This
[44:12] this dictates the cost of money in your
[44:15] life and dictates inflation. They have
[44:17] two concepts. One is to stabilize
[44:20] inflation. I believe it's at around a 2%
[44:22] rate.
[44:24] Now, first off, pause there for a
[44:26] second. That's a little weird. We have a
[44:28] government agency that's trying to
[44:30] dictate that things should get more
[44:31] expensive over time economically. Why do
[44:34] we do that? Your economics should have
[44:36] cover this. If not, why do they do that?
[44:39] So, you spend money. They don't want you
[44:41] to accumulate wealth over time. They
[44:43] want you to spend money. It's a
[44:45] consumption-based economy. All right?
[44:47] It's a little funky. So, recognize
[44:48] that's not in your best interest
[44:49] necessarily. The second thing that they
[44:52] try to do is full employment to minimize
[44:54] unemployment. Now you can look at that
[44:56] as a benefit like yeah of course
[44:57] everyone wants jobs but you can also
[44:59] look at it as the job of this entity is
[45:03] to make human the the people in America
[45:05] as productive as possible. Right? They
[45:07] want to increase the cost of goods. So
[45:09] you have to keep working and they want
[45:11] to keep you working. That might necess
[45:13] not necessarily be aligned with you. You
[45:15] might not want full employment your
[45:16] whole life, right? You might want to get
[45:17] retired eventually. So you need to be
[45:18] aware of this. How do they establish the
[45:21] interest rates that are paid and how do
[45:23] how does that impact the economic goals
[45:25] that you the government has? Well,
[45:28] there's a few things and it's important
[45:29] to know this because this is how you
[45:30] should establish how we establish the
[45:32] cost of mortgages and loans and
[45:34] everything else in our economy. So,
[45:36] first we have the risk-free rate. This
[45:39] is a concept of what would it be like if
[45:42] I had a rate
[45:44] that I an asset that I could buy that
[45:46] would pay a return that had no risk
[45:48] associated with it.
[45:50] So it'd be like,
[45:53] hey, I'm going to lend you $100 and I'm
[45:57] going to give a guaranteed return next
[45:59] year. I still have an opportunity cost
[46:01] associated with that return. I could
[46:02] have invested in something else even if
[46:04] there's zero risk. So that opportunity
[46:07] cost is our risk-free rate of return at
[46:09] the most guaranteed rate that we're
[46:12] going to get it back. There's no risk
[46:13] associated with it. So if you think
[46:14] about this in government, that's like
[46:15] government bonds. Even though there's
[46:17] some risk with government bonds, like
[46:19] the US government might default, the US
[46:21] government might get attacked. So
[46:22] there's some risk there. There's other
[46:24] ways like called tips and other things
[46:26] that have lower risk, but we'll we won't
[46:28] talk about that. So just know that
[46:29] there's a cost of everything even if
[46:31] there's no risk. Then we have an
[46:33] inflation premium. If I lend money to
[46:35] you, I want my opportunity cost, my
[46:39] baseline opportunity cost for no risk.
[46:41] Plus, I want to not lose value of my
[46:44] money over time from inflation.
[46:46] Fair, right? So, that should be my
[46:48] interest. Default risk. There's a risk
[46:50] that you don't pay me. If you have a bad
[46:52] credit score, your interest goes up,
[46:54] right?
[46:56] That's what it is. If you don't pay me,
[46:57] there's a risk I'm taking on. I should
[46:58] be compensated for that. All of that is
[47:02] helped establish by the Federal Reserve.
[47:04] They help establish those that rate and
[47:06] the Fed rate. Then we add on to it
[47:10] concepts like liquidity risk, my ability
[47:13] to use that capital or to sell that
[47:15] loan, and the maturity risk. If I give
[47:17] you a 30-year loan, it's a long time
[47:20] where interest rates might go down up or
[47:21] down and the market might change, but I
[47:24] need to be compensated for that that
[47:25] risk. Those five components make up your
[47:28] interest rate.
[47:30] when you're looking at buying a house or
[47:32] buying a mortgage or anything. So, it's
[47:34] important to know these. And so, on the
[47:36] test, I might just ask you what is an
[47:38] interest rate if I give you variables to
[47:40] all of these and I might throw some
[47:41] misnomers on it. Okay? The examples are
[47:44] on your workbooks. But you need to
[47:46] understand as an educated citizen how
[47:47] these are established and how the
[47:49] federal government influences these
[47:51] decisions. Now, why why might the
[47:54] federal government want higher inflation
[47:55] rates or higher interest rates?
[48:02] If I increase interest, what happens?
[48:06] >> Things get more expensive.
[48:08] >> Things get more expensive. I buy a
[48:09] house, it costs 10% interest, I'm paying
[48:12] a million dollar home, I'm or a million
[48:14] dollar loan, I'm paying $100,000 in
[48:15] interest. Compared to a 3%, I'm only
[48:17] paying $30,000. Right? It's much more
[48:19] expensive. So, what does that do? It
[48:22] slows down consumption, which decreases
[48:24] inflation.
[48:26] All right? So that's the idea there is
[48:28] like hey when COVID happened what did
[48:29] they do first the economy stopped. So
[48:33] what did they do? They dropped interest
[48:34] rates to next to zero. Why did they do
[48:36] that? So people borrow money and spend
[48:38] money. That was great, right? Like
[48:40] everyone got free money. Well, not so
[48:42] much. Because what happened a year or
[48:43] two afterwards?
[48:46] Hyperinflation. We had a bunch of
[48:48] inflation, right? Why did that inflation
[48:51] happen? Because they dropped the
[48:53] interest rates. They knew that was a
[48:55] consequence of dropping the interest
[48:56] rates.
[48:58] How did they manage the inflation when
[49:00] it started going when it was up too
[49:01] high? They rose the interest rates. So
[49:03] everything got more expensive. So people
[49:04] bought stuff less. But what happens when
[49:06] they raise the interest rates? What
[49:07] happened to the job market?
[49:10] Jobs go down because companies no longer
[49:11] borrow to hire people. When jobs go
[49:14] down, it infects the prices of things
[49:17] again and they have to change the
[49:18] interest rates. So the interest rates
[49:20] are like a fundamental aspect of the
[49:22] economy and the job market. And so
[49:23] understanding when interest rates are
[49:25] going up or down and why Trump or the
[49:26] administration is so impactful like so
[49:29] honed in on interest rates all the time
[49:32] is is because it has such an impact on
[49:34] the economy and how our purchasing
[49:36] behavior. All right. I remember co you
[49:38] could get a 0% interest loan for cars.
[49:41] You can't do that anymore. Right? People
[49:43] bought a lot of cars when it was 0%
[49:44] interest.
[49:46] Any question on interest rates?
[49:51] This is a fun little rule. the rule of
[49:53] 72. If you're having trouble with your
[49:55] financial calculator, if you ever want
[49:57] to figure out how fast money will
[49:58] double, you just take 72 divided by your
[50:00] interest rate and you'll get your
[50:01] doubling rate. So, that's just a helpful
[50:04] hack for whenever you're trying to do
[50:05] your exams or figure out math in your
[50:07] head.
[50:09] Let's see, the last piece I want to talk
[50:11] about is sequence of return risk.
[50:19] Because at this point in time, a lot of
[50:22] you have seen how how powerful
[50:24] compounding is, right? Can we all agree
[50:26] compounding is a real way to generate
[50:28] wealth other than maybe getting lucky
[50:31] with investments or business assets,
[50:33] right?
[50:33] >> Compounding is that's how most people
[50:35] get really wealthy. All right,
[50:38] but there's a risk there. We've been
[50:40] looking at 10% averages, 10% average
[50:43] returns. We know that the market I'll
[50:46] pull it up.
[50:52] We'll do five years. The market
[50:56] doesn't just go up. There's lots of down
[50:58] troughs
[51:00] like 6,000 to
[51:04] 10% decreases here. There's there's huge
[51:07] times. And during COVID, what was it? It
[51:10] went was this co here. CO it went down
[51:12] like 50% or 40%, there's huge down
[51:15] troughs. So it's obviously not 10% every
[51:20] any given point in time. 10% is the
[51:22] average historical return.
[51:25] So what happens in real life when you
[51:27] make investment decisions? Well, this is
[51:30] called your sequence of returns. So, I'm
[51:32] going to look at two people
[51:35] that have average 10% returns that have
[51:38] drastically different outcomes over a
[51:40] three-year time horizon. So, this goes
[51:42] back to your question earlier about how
[51:45] do we manage sequence of return risk or
[51:47] how do we look at retirement?
[51:50] We'll look at give me a boy's name.
[51:54] >> Ryan.
[51:55] >> Ryan and a girl's name.
[52:00] >> Kelly.
[52:00] >> Okay, cool.
[52:02] Ryan and Kelly, thank you. Both are
[52:05] going to start with $5 million
[52:08] and ret 65. They're retired. They're
[52:10] going to retire for 30 years. Both of
[52:12] them are going to go in the same
[52:14] markets. Kelly's going to start one year
[52:16] later. All right. Plus one year.
[52:23] 20% downturn is the first year. 30%
[52:27] upturn is the next year.
[52:29] 40% downturn is the year after that. All
[52:33] right.
[52:36] Both of them start with the same amount
[52:37] of money. Ryan's gonna start here.
[52:39] Kelly's going to start here.
[52:42] So Ryan starts in a and this would be
[52:46] this is counterintuitive to most of you.
[52:48] All right. This would be like Ryan is
[52:50] starting here
[52:52] at the top of this little market and
[52:55] Kelly starting at the bottom. When I ask
[52:57] most people when you retire, would you
[53:00] rather be at the top of a market or the
[53:01] bottom of a market?
[53:04] Most of you going to say top. That's a
[53:06] wrong answer.
[53:08] You don't want to be at the top of the
[53:09] market when you retire. You want to be
[53:11] in a bottom of the market. Most of the
[53:14] time throughout your investing career,
[53:15] you want to be in the bottom of the
[53:17] market. You want the top of the market
[53:18] to be later in your retirement always.
[53:20] So, whenever things are bad right now,
[53:22] that's good for you all because you have
[53:23] a lot of time. Buy things when they're
[53:25] low. buy things when it's bad. I'll give
[53:27] you an example here and you see it all
[53:29] the time. I see it all the time where
[53:30] like
[53:32] people start bragging about I'm retiring
[53:34] early when the market's at all-time
[53:35] highs. That happened during co a lot. A
[53:37] lot of people did this like I'm retiring
[53:38] early. All those people are back at
[53:40] work. All those people I knew that said
[53:42] that are back at work because they
[53:44] retired when the market was very high
[53:45] and then when the market dropped they
[53:47] got surprised by how little they
[53:48] actually had. So I'll walk through what
[53:50] that means. Ryan starts 5 million. He's
[53:54] at at the top of the market. It goes
[53:56] down. What happens to Ryan's 5 million?
[53:58] What's at the end of the year? Assume
[53:59] he's not taking out any money. How much
[54:01] money does Ryan have?
[54:07] What's 80% of 4 million? 5 million.
[54:13] You all following along? What is it?
[54:16] >> What?
[54:17] >> Yeah. Four.
[54:20] Ryan lost a million bucks. That's a
[54:22] rough year for Ryan in retirement.
[54:25] Right. Kelly hasn't retired yet, so she
[54:27] still has her 5 million
[54:30] now. The market goes up 30%. How much
[54:34] does Ryan have?
[54:36] Five.
[54:39] So, he's kind of back where he started.
[54:42] What does Kelly have?
[54:48] Okay, now they have a really bad market.
[54:50] What happens? 40% decline. How much does
[54:53] Ryan have?
[55:00] >> What?
[55:05] >> Louder.
[55:09] >> Okay,
[55:10] so around three million bucks. That
[55:13] seems right. $2 million decrease. How
[55:16] much does Kelly have?
[55:19] Anybody?
[55:22] >> What?
[55:23] >> 3.9
[55:27] and not checking the math here. We can
[55:29] see they start with the same thing. If
[55:31] they have a bad year in the first year
[55:37] after the retirement, so they start at
[55:38] the top, they went down. They're going
[55:39] to be in a much worse position. He's
[55:41] almost a million dollars poorer than
[55:44] Kelly. And not it has nothing to do with
[55:46] his drawout. It's just by the time that
[55:48] he retired. So generally when people ask
[55:50] me about retirement and ages, I tell
[55:53] them like many people are like I want to
[55:55] retire at 65. My advice to them and same
[55:59] thing with businesses is you don't want
[56:00] to retire at 65. You want to hire in
[56:04] your 60s. You want you to sell your
[56:06] business in your 60s or when it's been
[56:08] around for 20 years because you want to
[56:10] time the market a bit there. If the
[56:11] market's been bad for a while, then
[56:13] maybe it's okay because the market will
[56:15] likely go up over time. If you're in a
[56:17] very hot market and it's been a hot
[56:18] market for three or four years, maybe
[56:20] hold on and make sure or make sure that
[56:21] you do some stress tests. What happens
[56:22] if the market drops 20%. What's that
[56:24] going to happen to your net worth?
[56:25] Right? So, it's counterintuitive,
[56:27] but generally when markets are good,
[56:31] that's the time to work harder. When
[56:34] markets are bad, that's the time that
[56:37] you can actually enjoy that your
[56:38] accumulation. It's counterintuitive, but
[56:40] that's why I teach this class. If it was
[56:41] intuitive, then you wouldn't need the
[56:42] class, right? Okay. Okay, let's do it
[56:44] one more year so you can see. Let's see.
[56:46] So 30 40
[56:49] 50% gain here. Can someone do it? And
[56:51] then we'll take the average here. We'll
[56:53] see that the average here is a what? 10%
[56:55] annualized probably. 30 that's -10.
[56:58] Yeah. Or 40. So we'll do 40. 40% here.
[57:01] Sorry. We'll do a 40% increase again.
[57:03] What does this get to?
[57:08] What?
[57:10] What's 1.4* 3.12?
[57:14] Someone give me the math.
[57:17] >> What? 4.368.
[57:19] >> Okay. And then how about this one?
[57:23] 3.9 times 1.4.
[57:33] Anybody
[57:36] make sure you can do the math?
[57:39] >> Does everyone get 5460?
[57:42] Another
[57:46] important lesson here. It's an elevator
[57:48] down. It's a staircase up. All right.
[57:51] They went 40% down from the 6.5 million.
[57:54] Then he went back the 40%.
[57:57] Right? This is a 10% annualized return
[57:59] annually over the 3 years. I could show
[58:02] you a lot of different 10% annualized
[58:04] returns that have drastically different
[58:06] outcomes depending on what time
[58:10] the declines and inclines happened.
[58:13] Okay, but you can see they have a
[58:14] million dollar difference from this and
[58:16] then she Kelly doesn't get back up to
[58:18] 6.5 million even though the return
[58:20] stabilized because she had the drop.
[58:22] It's an elevator down a staircase up.
[58:25] All right. So, even though we're talking
[58:27] about annualized returns throughout this
[58:29] class, it's just important to realize
[58:31] that there's a sequence of return risk.
[58:33] So, what's this called?
[58:35] Sequence of return. All right. Can you
[58:37] all remember that? Okay.
[58:41] Let's see.
[58:47] So, again, with the class,
[58:50] make sure we've already gone through
[58:52] this is a section of clarifying goals.
[58:53] Like we've already talked about where
[58:54] you are now as accounting, understanding
[58:57] your budgeting, your basics,
[58:58] understanding financial statement
[59:00] analysis and ratio analysis. Then we're
[59:01] moving to now to setting goals. And so
[59:05] once you've set your goals using the
[59:06] marks framework, you work backwards
[59:08] after you've chosen your assumptions to
[59:10] make sure that your plan of action is
[59:12] going to meet that goal. And this is a
[59:14] very helpful tool to make sure that you
[59:16] meet the goals in your life. All right.
[59:17] So are there any questions about the
[59:19] lecture today? This is a lot. I normally
[59:22] would go over workbook problems, but I
[59:23] don't want to kill all your brains after
[59:25] so much math,
[59:28] but any questions about the content
[59:30] today. Was that helpful? Interesting.
[59:33] All right. So, for next class, please
[59:35] work on your workbooks and the case
[59:37] studies. We're going to practice this in
[59:39] detail. It's going to ramp quickly
[59:41] because the next lecture is going to be
[59:42] going over valuation theory, how this
[59:44] applies to stocks, bonds, and
[59:46] businesses. All right. Okay. I
[59:49] appreciate you all. You all have an
[59:50] excellent day. Thanks for being in
[59:51] class. Bye-bye.