Nerd to Jock

I'm making the transition from nerd to jock. It doesn't surprise me that you don't believe me, which is why I'm presenting evidence!

A couple of years ago, I went to Microsoft Tech-Ed and got 14 t-shirts! A couple were medium-sized and so I gave them away, but I'm pretty sure I kept the rest. And added them to my collection of IBM t-shirts. That is to say, virtually all my t-shirts were related to technology companies. My mom tried her best to counteract this by buying me the occasional t-shirt that she found hilarious, but I don't think I'd go so far as to say that they made me less nerdy.

Recently, however, I've been running [I didn't end up running in this 5K due to food poisoning] some 5Ks and other benefit things that give out t-shirts. Thus, my t-shirt wardrobe is gradually transitioning from technology t-shirts to running t-shirts. Plus, I wrote recently about football, though admittedly I was on the outside of the conversation. Still, incontrovertible evidence that I am changing from being a nerd to being a jock!

To be fair, there is some evidence that this is a very slow process in its earliest stages. But only a little bit of evidence, really. And I suppose that this post kind of contradicts itself. And all but one of the fitness-related tags below are new....

Q&A: Roth Versus Traditional

I was recently asked a few interesting (to me) financial questions about 401(k)s, IRAs, and contribution strategies. I've decided to answer those questions in a few Q&A blog posts so everyone can benefit (or get screwed if my strategies aren't sound).

The primary difference of concern between Roth and traditional IRAs and 401(k)s is taxes. Traditional contributions are pre-tax (they are tax deductible), but the distributions are considered as regular income and taxed accordingly. Roth contributions are post-tax, but the distributions are tax-free. So, traditional contributions lower our tax burden now, but increase it later, and Roth contributions raise (or don't benefit) our tax burden today, but lower it later. Another way of looking at it is that traditional contributions are tax-deferred, and Roth contributions include prepaid tax. This gives us two things to think about: our tax bracket now and our expected tax bracket when we start taking distributions.

The general wisdom is that if you expect your income tax bracket to be higher in the future, you should choose Roth retirement accounts. Determining if your tax bracket will be higher can be a complicated question. Personally, I took the following items into consideration when trying to evaluate my future tax bracket:

• Current income - For IRAs, traditional contributions are only tax deductible for those earning less than $53,000 (phased out through $63,000). This made my decision for IRA contributions easy - Roth is still allowed until you make $105,000-$120,000. Traditional 401(k) vs Roth 401(k) still required the following bullet points, too.


• Future income - I've been maxing out my 401(k) and IRA contribution limits since I've been working at IBM. I am on track to have more money coming in than I really know what to do with. I expect my future income to be quite high.


• Current vs. future tax deductions - I can currently deduct mortgage interest, but when I retire, I will not have a mortgage. That's actually my only major deduction at the moment. But, does your employer only offer a traditional 401(k) plan, or have you already decided against the Roth 401(k)? Have children? Taking classes? More deductions that might not apply in retirement!


• Historical tax bracket trends - As you can see from the graph in the link, we are enjoying relatively low tax rates (especially for the rich, which we all hope to be). Does this mean tax rates will rise in the future? Not necessarily, but it wouldn't surprise me.


• National sales tax - I like a lot of the features of a national sales tax instead of an income tax. However, if we go to a national sales tax, our future tax brackets will all be zero percent. After George W. Bush got torn apart for merely suggesting that we look at the plan, I decided a national sales tax isn't too likely to happen, but it's still something to consider.


• Alternative Minimum Tax - The AMT is one of the most complicated set of tax laws out there. It was designed to ensure the wealthy can't deduct their way out of too many taxes, basically. There is some fear that an AMT-like system will be implemented to tax some ROTH distributions that are currently promised to be tax-free. As much as the government loves to tax, I think this, too, is unlikely.

Another thing to consider is how much you will contribute. When you contribute fully, there is an advantage to Roth accounts. Each dollar contributed into a Roth account is equivalent to a pretax contribution plus taxes. Thus, you can make a larger (pre-tax equivalent) retirement contribution via a Roth account. This assumes the same tax bracket now and at retirement, and is definitely not the only consideration. This same type of idea is relevant to estate planning, too. Roth accounts are more valuable, dollar for dollar, than traditional retirement accounts. Retirement accounts are assessed at their account value, not at their after-tax value. A traditional and a Roth account of the same value will be taxed the same amount as part of the estate tax, but the traditional IRA will then have additional income taxes taken out when your heirs take their mandatory distributions.

There are a couple of features that really sold Roth IRAs to me. Because Roth 401(k)s can be converted to a Roth IRA without having to pay taxes when you leave the company, these also end up applying indirectly to Roth 401(k)s! The first feature is that there are no forced distributions from a Roth IRA. You can keep compounding those returns as long as you don't need the money. This gives you a lot more flexibility in your tax and estate planning. The second feature is that Roth IRAs allow you to withdraw the contributions at any time. This makes Roth IRAs a sort of emergency fund - but definitely an emergency fund of near-last resort. Once withdrawn, there is no way of putting that money back in, and you will lose future compounding returns. A better option is probably a 401(k) loan, and a better option than that is probably a home-equity loan (HELOC). Still, it's a nice feature.

As I mentioned in the current income bullet above, only the Roth IRA made sense for me at all. For 401(k)s, there are no income limitations for the vast majority of people. When deciding between a traditional 401(k) and Roth 401(k), or a mix between the two, I looked at the above points and decided that my income is likely to be greater in the future, my tax rate is likely to be higher, and the Roth variety gives me more flexibility later. Still, it is tempting to hedge your future-tax-bracket bet by splitting 401(k) contributions between traditional and Roth 401(k)s. Splitting contributions is allowed, but I have decided against it for the time being for two reasons. First, the Roth 401(k) option has only been offered at IBM as of the beginning of 2008. This means I've already bet two years worth of contributions on traditional 401(k) being better because there was no other bet to make. This year will mark two years of Roth 401(k) betting. Second, employer match contributions have to sit in a traditional 401(k) account. I view these matching contributions as an additional bet on traditional 401(k). Even if you don't view it as a bet, it is at least going to affect your future income levels at retirement and/or when forced distributions kick in at 70.5. Thus, I am maxing out my Roth 401(k) contributions, for the time being.

[For anyone curious, as of the time of this writing, Roth contributions make up 47.19% of my 401(k), and 100% of my IRA.]

In my next post, I will take a look at how tax-advantaged accounts can affect investment choices and how I (plan to) balance my portfolio across my varying accounts to better utilize that tax advantage.

3 Years at IBM

July 10th marked my three-year anniversary at IBM. I happened to take the day off, but that was just a coincidence. I have to say, I don't feel a whole lot different. While I purchased a home, got cats, and gained other adult responsibilities/experiences, I can't point to any real personal growth. I guess that gives me a goal for the next three years.

Microsoft Tech-Ed: Friday June 6

My last day at Tech-Ed was fairly uneventful. The morning started out well with the final Data Dude session, which included the full demo of the DB2 support that was announced. Only about ten people showed up to that presentation, but that's pretty much expected for early Friday morning. Still, it was nice to have my software displayed in it's full functionality. The keynote presentation really didn't show much.

That brings up another point. I never really thought about the personal honor in having my software in the keynote presentation of one of the biggest technology conferences, and featuring Bill Gates. I had only looked at it from a task point of view - it was something to do and something to get done. One Microsoft employee commented on how it was pretty amazing to have only been working at IBM for under 2 years and already have my software in the Tech-Ed keynote. Apparently, most Microsoft employees would kill for that. I didn't know what to say, so I made some comment about watching my back.

I guess I felt like I had achieved a slightly higher level of maturity, having accomplished this. I think I felt even more mature at the airport waiting for my flight back home, though. I was able to keep up a conversation with a stranger (who had Tech-Ed in common) for a full two hours. It was fairly amazing, from my perspective.

It's time for the most important part of this post: a full cataloging of what I got in Orlando:

• 14 t-shirts
• 1 slinky
• 1 squishy basketball
• 1 flying, howling monkey
• 1 foam dart flinger
• 1, 1GB flash drive
• 1 medium-sized notepad/binder w/ pen
• 1 mechanical pencil
• 1 water bottle
• 1 backpack
• 1 LINQ pocket reference book
• 1 luggage tag
• 1 key chain compass

Microsoft Tech-Ed: Tuesday June 3

The keynote presentation was fairly enjoyable. Bill Gates had a "last full day at Microsoft" video which had some funny appearances from multiple celebrities. The demonstrations were interesting enough, too. IBM made an appearance in one, and that can be read about on an MSDN blog: DataDude goes multi-platform. It was nice to see some of my work make an appearance in front of thousands of people, but even better was that the demonstration worked!

Anyway, breakfast was pretty decent. The bacon needed to be crisper in order to be really enjoyable, but luckily, I only grabbed 7 pieces. I spent the rest of the day attending talks on LINQ, data binding in Windows Presentation Framework, DataDude, and parallel programming.

Probably the coolest part of the day was the dinner/party thing for the various sponsors. There was good food all around the booths and most booths were giving away some cool stuff. I got 6 new t-shirts, so I don't have to go shopping for shirts this year, plus a key chain compass, a squishy basketball, a noisy monkey toy, a LINQ pocket reference book, and a slinky! Free stuff rocks!

Managing debt

I grew up thinking that debt was a bad thing. Why buy a car when you can't afford it outright? I understood that houses required mortgages, but why put things on credit cards when you can pay cash? Managed properly, debt, even in credit card form, can be a good thing.

Spending

A lot of proper debt management depends on a realistic assessment of your spending habits. I, for example, don't tend to buy things. Or, I didn't until I bought a house and needed to put things in it. I have no expensive hobbies (compared to my brother who buys guitars and related equipment quite often) and I keep my monthly spending constant within a couple hundred dollars, in general.

In short, my spending habits are well defined and I track them informally. I also have a pretty stable job. IBM is a $160B company and people seem to like what I do there. Thus, I have a demonstrated discipline when it comes to spending and a pretty solid income. The risk of me not being able to pay my monthly bills is fairly low, so debt shouldn't be an undue emotional burden.

Interest Rates

The rest of debt management is interest rates. Most debt is pretty simple, actually. The interest rate is advertised directly. Some interest is tax deductible, though, in which case you need to multiply the advertised interest rate by (1 - your tax rate). For example, if you're in the 25% tax bracket and have a 6% mortgage, you're effectively only paying 4.5%.

If you can beat the interest rate determined above through investing, you can actually make money by going into debt. Even with the recent downturn, The S&P500 index has seen annualized growth of 9.516% over the last 5 years. That pesky tax rate works against us a bit, here, though. Interest income and short term capital gains are taxed as regular income, while long term capital gains are taxed at a 15% flat rate. For a worst case scenario, we can assume everything will be taxed as regular income. We need to now divide our effective interest rate from above by (1 - your tax rate) to get an rate of return goal. That 4.5% becomes 6% again. An 18% credit card interest rate becomes a 24% goal. Whatever we invest in, we need to beat this final rate in order for the debt to be profitable.

Over the long term, an 8% annualized return is fairly achievable. If you can invest money borrowed at 6% (effective) or lower, it is likely that you will be able to make money on money you don't actually have. This whole argument only applies if you have the money available to invest, though. If you borrow money to buy things, then that money isn't working for you.

Credit Cards

When there is something you need to buy, credit card debt can still be a good thing (even a card with an 18% interest rate!). The key is to not keep an interest-bearing balance. Pay the credit card off completely each month and you've basically borrowed money for 30-50 days interest free. You can keep that money in a high interest savings account and earn an extra few dollars by using a credit card instead of cash. Even better, you can get a credit card with additional cash back like the Chase Freedom card and/or Citi Dividends card.

Keep in mind that interest-free financing isn't a free pass to go on a spending spree. You still have to pay the purchase price. However, a store's 0% financing credit line can actually be better than cash back credit cards. I'll leave it as an exercise for the reader to determine a formula based on bank account savings rate, b, financing period, t, and cash back bonus, c, that calculates the break-even surface.

Small Company Earnings

HYTM was listed as releasing it's earnings yesterday, November 5. Instead, their expected earnings release date was pushed back until November 12. I think this is a phenomenon pretty much unique to small companies. I can't imagine Google, IBM, or Apple getting away with a week's delay in releasing financial information.

In fact, HYTM hasn't really gotten away with it. The past couple of days have seen HYTM drop down to $4.71 so far. Incidentally, this puts me fairly deep in the red. We'll just have to see what the implied volatility does after earnings. It may still be worth holding on to if I can still get >5% a month in options premiums. Or perhaps earnings will beat analyst estimates and I'll get my shares called away after all.

In other news, Garmin (GRMN) is down below $100 again. I think if I had $10,000 or multiples thereof, I would buy some GRMN shares and write more out of the money covered calls. Garmin seems to be down on fears of a TeleAtlas bidding war with TomTom (TOM2.as). However, I see this as both a good move and temporary. Garmin has about $1B cash on hand and is worth >$20B, while TomTom probably has less on hand and is worth ~$6.3B.

Garmin used to be in a position of having TeleAtlas in the hands of TomTom and Navteq in the hands of Nokia, meaning they might face an increase in mapping costs. Garmin has either put TomTom in this position, or forced them to go deeper in debt by upping the price of TeleAtlas. If Garmin gets stuck buying the company, they at least have the advantage of being able to afford it, and they have a longer history of acquisitions, which implies to me a better ability to integrate TeleAtlas. It will be interesting to see how this develops. Unfortunately, I'll be watching from the sidelines.

Limit Orders

Similar to my previous post on the financial-benefits-to-homeownership, I am now making a list of the benefits of limit orders:

• The market sometimes behaves irrationally - a large institution buying or selling stock can significantly affect the price in the short term. You can place buy limit orders to take advantage of spikes downward in the market and sell limit orders to take advantage of upward spikes in the market. For regular purchasing or selling, this also makes sure you don't get taken for a ride between the time you get a stock quote and the time you press the 'Place Order' button.
  
• Options are priced based on the underlying stock value, but they tend to move in $0.10 increments. A buy limit order of $3.50/share will theoretically be executed as soon as that jump takes place, meaning the stock has to move back a smaller amount before it rises to $3.60 (again, theoretically. Also, this doesn't equate to profitability, as there is the ask/bid price spread). A sell limit order has the opposite property, but is still a good thing due to the previous point.
  
• Limit vs Trailing Stop: a trailing stop order can result in higher profits if the stop price rises above the limit price. However, the actual execution of the order is a market order, which means it could execute at any price. For instance, I tried a trailing stop on some Google options. The stop value got up to $9.50, but when it finally executed, I only got $9.33. A limit order may miss more profits than a trailing stop order, but the profits are more predictable.
• Limit orders may not execute, which can be both bad and good. First, you may not have your order execute and your money will sit idle (or you will still own a stock you may not want). But, this makes them ideally suited to conditional orders like one-cancels-all. For example, let's say I have $10,000 to invest. I can place a one-cancels-all order on three different stocks - 20 shares of GOOG @ $500, 133 shares of GRMN @ 75, or 100 shares of IBM @ $100. Given today's closing prices of $544.47, $79.69, and $109.10, none of these are likely to execute - I chose the prices for easy calculations in my head. But, if any of these stocks suddenly (even if only briefly!) becomes an amazing deal, I'd be able to take advantage.

Fewer points here compared to the homeownership post, but they're longer. I have a couple options/earnings strategies I want to flesh out, too, so be looking for that. Hopefully I get around to it soon.

Thoughts on IBM

A couple days ago, I had a thought about my job at IBM. It was a pleasant thought that went like this: Even though I'm stressed out about work and insanely busy, I genuinely enjoy my job!

Now, I know people rarely keep loving their job after the initial novelty period, but for now, I'm going to enjoy it. Even better? I actually feel like I'm good at my job! I'm getting progressively more responsibility. Unfortunately, I haven't actually gotten everything done on time that I was supposed to, but because I've been taking time out to fix some other very important stuff, no one blames me.

Which brings up another good thing: I found the cause of a bug that's been nagging me for the past while! I think this should make next week just manageable enough that I can get some more moving done.

Unfortunately, this post can't be all happy.

This Slashdot article and the article linked therein (Lean and Mean: 150,000 U.S. layoffs for IBM?) talks about possible upcoming layoffs in IBM's Global Services division. The consensus at Slashdot is that Cringely have overly speculative columns, and that 150,000 layoffs would be 40% of IBM worldwide, not IBM's US workforce.

Still, it does make me a bit nervous. I don't know which comments are fully truthful, but there are some good points in general. Global Services consultants are who customers deal with. When they get laid off, customers don't appreciate having to walk a new person through their setup. If it's also true that our sales force has been making unprofitable contracts to up their numbers, then we have a bigger problem than Global Services having slow growth.

Software, though, is amazingly profitable for IBM. Thus, I'm not directly concerned about my job. I'm more concerned about the future of IBM as a whole. At this stage, though, I don't have enough information to really comment intelligently. So, I will wait to worry about this until more information is released. And in 10 years, when I'm CEO, I'll see what I can do.