Wanted!

I think i just want to share a story that just really stuck to me over the years.. I cant really recall who told me to it already but the idea behind it still amazes me no less.

A rich businessman drives this car right up to the front porch of the banking hall. Walks up to the banker and says:

"Hey, I want to borrow $1000 for 3days."

Well, his banker, knowing how rich he is and all is befuddled by the fact that he wants to borrow $1000 when he has millions in his cash account alone. But doesn't ask anything and proceeds to do the paperwork.

"The customer is always right." he thought.

Rich man goes on to say,
" I want to put my car as collateral for the loan."

Now the banker was really really curious! But being a banker, he had to respect his customer's wishes.

"The customer is always right." he thought.

So the Dodge Viper SRT210 was put down as collateral for the $1000 loan.

Come Monday when the businessman came in to settle his loan,
The banker, who spent the whole weekend trying to make sense of putting down the car as collateral for a $1K loan that he didn't need finally asked him why...

The businessman replied,

"Where else could i park my car for 3 days and not worry about it being stolen? For $15 dollar interest paid over the weekend, I was able to ensure that my car would be safely kept, and not worry about it while i went overseas for my business trip."

"The customer is right."


btw: do catch "Wanted", watched it last night, it was an entertaining movie! And yes, a dodge viper was in it! oooh....
As to why i think this story is amazing is because of the complete turnaround of use of the services provided by a bank!
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Financing a car

Financing a car depends on many factors. Your current assets(your house, cash, stocks, unit trusts etc), you liabilities( existing loans, girlfriend/s!(haha... joking!)), your monthly income VS your monthly expenditure; so in essence, your liquidity and available funds. And also to a large extent how much would you be willing to pay a month to service the loan for the car should you choose to take out a loan.

For me I think it boils down to being able to pay for it without over committing myself such that servicing the monthly repayments would leave me with very little cash for other essential expenses, such as Johny walker's or Chivas fund and all... If you are over-commited, you might not be able to pay it should any short term unforeseen expenses that may crop up, which would lead to default and a rollover of interest(think sub prime crisis).

A good idea learnt from many financial speakers is to have a crisis fund to take care of any unexpected things that happen in life to hedge the impact of such event occurrence .

Of course, the most important thing would be the choice of car itself would'nt it? Is it suitable for what you'd be using it for? Do you need a car of that size? Is the PRICE right?

Well, when you have decided what car to get, you have to decide if you want to pay in full or get a loan. Few points to consider, compare the interest rates of the loan versus comparable investment vehicles of similiar type. Such as would it be better to pay more upfront versus taking the loan and letting your money sit in the bank at a 0.05%? interest rate? or more if you put it into a FD or Unit Trust or some other investment.

Then it'd come down to what kind of financing you'd like, a hire purchase of a flexi-term loan kinda arrangement.
Would your capital gains offset your interest payments?
How would that affect your monthly cash position?
Are you comfortable with that level of liquidity?

From my point of view, as a new entrant to the workforce, I would be seeking to reduce my monthly repayment to a minimum and to be liquid as I am just starting out with work and would not have substantial savings to fall back upon should something unexpected occur.

So my parting words would be to...
live within your means = D

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Forex- money money money

Don't these graphs just scare you? Well... I think they are pretty scary to me... Because you never know when its going to go up or down! BEARish or BULLish... Well, anyhows, I managed to make BIG BIG money today in a forex transaction today! HAHAHA...

The above graph represents the exchange rate movement between the Malaysian Ringgit and the Aussie Dollar for the past 120 days.For those of you who do not know what the term forex refers to, well, it is an amalgamation of the words foreign exchange aka FX! Bet most of you knew it already! The relevant segments of the graph are from January 1st 2008 when I first entered the market till April 4th 2008 when I made an exit.

The lowest market rate was 2.836RM to 1AUD and today, the rate was 2.941 (the closing rate on 4th Apr). This translates into a 3.702% return in the span of 3 months (Jan-Mar) which is equivalent to an annualised rate of 13%.

WOW? Impressed? Don't be. It was speculation. The stuff that brings giants to their feets, like Mr Jerome and Societe Generale bank in France. It was a totally risk exposed position where I would have lost everything( or a significant amount) had the market not turned in my favour. View the article about third part ink for a better insight regarding risks and returns.

No doubt I had garnered an 13% return, but risks of the returns was not factored in! No doubt, the upside potential was huge! But so was the downside! And everytime the rate took a dive, my heart rate would increase, which reminds me of the relationship between interest rates and inflation!

So... My forex transaction... Why did i left it unhedged/fully exposed to market movements? Well mainly because I was taking a wait and see approach and was being bullish about the rates, thus not locking in my position early on! Secondly, because I could afford to take up the risk.

Or was it because it was a small over the counter transaction at the corner shop with Muthu's Money Exchange, where a guy was trying to get his aussie dollars changed to local currency? Definitely maybe.

So yes! A 13% annualised return. Well... I made a big gain amounting to a great grand total of a whopping..... wait for it.... hundred and five ringit malaysia! RM105! Small change for you, but I'm still laughing all the way to the bank~

Having such a personal experience with forex allowed me to better understand about exchange rates, market conditions which affect them and also about the international economy in general. I hope that from this post, you can pick up my enthusiasm for finance too!

Related readings:
Third Party Ink
Bear-sale!
Time value of Money Read more ...

Inflation and Interest Rates

Think of a balloon. A hot air balloon. Rise in inflation causes it to ascend, and to keep it in check, interest rates have to be increased to cool things down and to bring back the balloon(economy) into a "safe" altitude. This is the very basic relationship between inflation and interest rates.

So what causes the rate of inflation to increase? Truth is, I could spend a page and a half discussing it from the point of view of classical or Keynesian viewpoints of economics and still not finish. But i think I'd just put a general summary found on wiki for you:

• Demand-pull inflation: caused by increases in aggregate demand due to increased private and government spending, etc.
• Cost-push inflation: AKA "supply shock inflation," caused by drops in aggregate supply due to increased prices of inputs, E.g, a sudden decrease in the supply of oil, which would increase oil prices. Producers for whom oil is a part of their costs could then pass this on to consumers in the form of increased prices.
• Built-in inflation: induced by adaptive expectations, often linked to the "price/wage spiral" as it involves workers trying to keep their wages up with prices and then employers passing higher costs on to consumers as higher prices as part of a "vicious circle." Built-in inflation reflects events in the past, and so might be seen as hangover inflation.

In general, I would say that an increase in the rate of inflation would be due to more than one of the above mention factors.
So how do governments deal with inflation? There are basically two methods, a Fiscal policy and Monetary policy.

Fiscal is about injecting money into the economy and creating demand for consumption by way of handouts and tax rebates, by printing more money or borrowing from the people.

Monetary policy is about controlling the amount of money in the market. Buying back government bonds causes an increase the money supply leading to lower interest whereas bond issues decrease money supply which increases the interest rate.

Okay.. I think I've covered the very bare minimum of inflation and interest rates. Though it seems really boring, I feel that it is a post that has to be written before I go on to write more in depth stuff.

So to reiterate the hot air balloon imagery... if the balloon goes too high, the bubble will burst! And it will come spiralling down.

Brain teaser which I had to think about recently:
The hot air balloon you are in has a hole and is sinking fast towards shark infested waters. There are ten people in a hot air balloon:
A policeman with a gun with live bullets
A couple with a 10mth old baby
A pregnant lady
A pilot
An engineer
A businessman with $100m cash
An artifacts dealer with a painting worth $5m

One person has to jump so as to ensure the survival of the rest. Who would you pick? why?
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Time value of money

To try to explain how financial instruments/institutions work, we have to cover one of the cornerstone of finance, Time value of money! Ever recalled how your parents nagged at you about how precious time was? Well, that basic principle applies here to investment and business... Warren Buffet fundamental investment relies on this too!

When you invest your money and gain dividends/interest payouts, risk factor aside, essentially these financial institutions are paying you for the time value of your money, ie, the lost opportunity of not being able to spend your money today.

The principal behind Time value is that one dollar received today is not the same as one dollar received some time in the future. A simple example would be putting your money in a bank for one month at an interest rate of 5%, if it is compounded monthly, your dollar savings would grow to a $1.05!

So the present value of that $1.05 future value, based on a 5% monthly interest would be $1.00. Assuming that is the only rate of interest in the market, and if someone were to offer to pay you back $1.04 in a month's time or $1 now, you would choose to have $1 today because you can put it into the bank and invest it at 5%.

You must be thinking.. "Ha! captain Obvious! This guy is nuts, anyone knows that!" How true! But putting some theory behind intuition, this very basic idea is the rationale behind all investments. Stocks valued using the dividend discount model and even options pricing model all require analyst to find the present value of all future forecasted dividends to perpetuity or the risk neutral value of options; which we will save for another discussion...

So for Mr Warren Buffet,a high powered investing mogul, he has a high opportunity cost because at any one time he would have lots of investment options to choose from and choosing one means having to forgo the next best.

Acknowledgement: image courtesy of Ernest von Rosen, www.amgmedia.com Read more ...