Category Archives: Personal Finance

Budgeting for Personal Financial Management


Have you ever looked at your income tax bill year at the end of the year and see that you earned “x” amount of money, but you have no idea where all that money has gone? Have you ever asked, if I earned all that money, why are my savings and investments still around the same level as last year? In this week’s post I would like to visit the very basic step of budgeting. Before anyone can think about investing they should first think about budgeting. Budgeting is simply about building a plan, very similar to a diet plan, where you can review what you are currently doing and see how you can improve your financial health.

Many people overlook this step and think that it is too technical for them or too artificial. This post will aim to give an insight on some easy steps one can take in order to become more financially responsible.

Step 1 – Record Keeping

The first step to budgeting is definitely NOT to set artificial targets on how much you would like to spend on things. That exercise is tedious, irrelevant and discouraging. The best way to start a budgeting plan is simply to start recording your monthly expenses. Thanks to internet banking and the increased use of credit and debit cards we are lucky to have most of the work done for us when it comes to the recording of our financial transactions. All you need to do is to create a simple excel file in which you record you income and expenses for each month. Since every month will have some different expenses and for some even different incomes, it makes sense to have at least a 3 month view of your income and expenses patterns.

A good way of recording your expenses is to categorise them. When it comes to budgeting it is never a one-size-fits-all science. Although certain tips can be applied across the board, each person needs to apply their own personal settings to arrive at the best plan for them. Some examples of categories could be “Utility Bills” in this category you would include items like water and electricity, phone bills, internet bills and the like. Another category could be “Eating Out” in which you would list the amounts paid for meals bought from restaurants and take-out places. So you basically keep creating categories until you cover all your expenses of the past month.

Step 2 – Analyse the Data

After listing all the expenses in their respective categories you should then get sub-totals of all the categories. This will give you a clear picture of where your money is going. Once you have this info it is much easier to see where you could realistically trim a bit of your expenditure. You might be surprised how much you are spending on clothing for example or on eating out. By analysing the data you can start to appreciate where your annual income is going and how you could spend less and save more.


Step 3 – Make a Spending Plan

Now that you have all the info, you should start setting some realistic goals. It is important that you do not try to trim too much, one has to be practical in their approach and also see what is important to them. For example, if Friday night drinks with the friends is very important to you, then do not set any high targets here but simply aim to maintain a reasonable amount of expenditure. In other areas you may find that by making some small lifestyle changes by for example buying in bulk, making less trips with your car or eating in more, you may start spending less. A lot of small changes will eventually add up to a bigger total so do not try to set large targets that are unrealistic in order to have a high goal. But rather start by making baby steps and trimming expenditure gradually in the areas where you would prefer to cut-back.

Step 4 – Review Your Plan on a Monthly Basis

A budget plan is not a static one-time thing but is something that evolves as one’s personal circumstances and priorities change. After you have made your initial plan it is important to see how you did. You should not be surprised to see that you did not meet all your targets and in fact might have spent more than the previous month rather than less in certain categories. The aim is to lower the overall spending so just as long as the total spending is less than that of the previous month you are still pretty much on track.

By reviewing your plan you can get a better understanding of where you are lacking. What you need to work more on. You could also use the review to change your cost-cutting sources – perhaps you might prefer to save money by spending less on online shopping but still go out to eat every weekend. So do not be afraid to change the parameters from month to month. Some months would have more expenditure on many of the categories, such as December. One could for example aim to spend less in October and November to have more leeway in December.

Piggybank and calculator. Isolated on white background

Step 5 – Beyond Spending Less


Once you have been actively tracking your spending habits and have found ways to better manage your financial affairs you should end up with “extra” money each month which was not spent. One may ask, what should I do with these funds which I have managed to shore up through my work and sacrifices? A prudent initial step is to set up an emergency fund. This emergency fund is nothing but money set aside into a savings account that is there to be used in the event that quick cash is needed. From time to time, we all experience unexpected events that would require a cash outflow at short notice. Therefore it is important that before one even considers doing anything else they should first set aside around 5%-10% of their annual income into an easily accessible venue. A fitting product would be a simple savings account with a reputable bank.

Once the safety net is in place then one can start considering other ventures. Again this next step will depend on the priorities of the person. Whether extra money should be used to pay down outstanding debt, to increase one’s savings or to invest the money for future returns is a personal issue. I will be tackling the issue of paying down debt vs investing the money in a separate post in 2016. The focus of this post is to first arrive at the point where one has this option by first learning how to be more financially responsible.

Additional Tips

Setting up standing orders or automatic bill payment facilities are a good step towards achieving one’s budgetary goals. These automatic payments are normally used for loans, such as your monthly home loan or car loan payment. However, they can also be used for savings. You may want to open a separate savings account for example into which you deposit automatically €100 each month. Should you afford to deposit a bit more you can make a manual transfer, but at least you know that as a minimum you would be saving €100. This new savings account can act as your emergency fund and eventually as a source of money to invest for the future.

Another good tip is to look at saving as an expense. What is meant here is that you should get into the habit of saving and investing. Just like you would save up money to buy a new car, you should also aim to save up money to place a new investment. Just as you would allocate for example €100 per month for on-line shopping you should allocate €100 per month for saving. So you should put savings into your “must-do” category. So just like you must pay your monthly loan payments, your electricity bill and so on, you also must deposit a minimum amount each month. Once you accept this psychologically it becomes much easier to save more and more.

The Bottom Line

Finding the right budget plan is something that will be different for everyone. We all have different circumstances, different priorities and different obligations. Moreover your plan will undoubtedly change as your personal circumstances change. So do not look at the budget exercise as a one-time plan for the whole of your life. If you need help in this exercise do not be afraid to seek it. Unfortunately when it comes to such personal matters it could be a bit awkward to discuss it with people you know – fortunately there are professional financial advisers that you could consult that could easily help you in this task.


The Fed Increased its Base Rate – Should You Care?

The Federal Reserve Building
The Federal Reserve Building

In this week’s post I will be focusing on the increase in interest rates that has just been announced by the US Federal reserve which is the central bank of the USA. The Fed increased its base rate from the current 0%-0.25% range to a 0.25%-0.50% range. For 7 years we had witnessed a near 0% base rate making money cheap to borrow. The post will aim to focus on how this affects Malta and the broader Euroland countries. I will first be focusing on the effects of an interest rate rise in general and then move on to focus more on how we as Maltese and other countries that use the Euro as their main currency will be affected. Should we care about what the US is doing?

First, some basic economics to help you understand better the rational for manipulating interest rates. Having low interest rates is expected to lead to cheap money that would in turn cause consumption and private sector investment to go up which would lead to a higher gross domestic product. In simpler terms this means that if households and business can borrow at cheaper rates they would be more inclined to do so. When they have access to the cheaper funds they will spend more, for example on new housing or on building a new factory. In turn this will generate more income for other economic participants and everyone is better off.

On the other hand, if too much money is present in the economy this will lead to a general increase in prices, or inflation. Thus, in order to avoid having too much inflation the central banks can increase interest rates in order to reduce spending and private investment – in technical words they would be tightening. It must be kept in mind that in the real world things are not as simple as I have just described since there are undoubtedly a lot of variables being affected at once. The following video is great to help understand better how the Fed manipulates interest rates:

Who Wins When Interest Rates Go Up?

  1. Banks

The obvious winners as a result of increased interest rates are of course the banks. For a traditional bank that is mainly concerned with taking deposits and making loans their bread-and-butter is their Net Interest Margin (NIM). This is simply the difference between how much the bank is earning from the interest rates on its loans and how much it is paying in interest rates on its deposits. So if interest rates go up the banks can start increasing the interest rates they charge on their loans and this will lead to increased income for the bank.

  1. Insurance Companies

Insurance companies typically invest their money in fixed income assets such as bonds from the higher quality end of the market. As any fixed income investors knows the yields on bonds has been low for quite a while now and hence the income insurance companies can earn on their investment will increase as interest rates go up. Of course there exists the other side to this argument that as interest rates go up the prices of bonds will go down and thus insurance companies would suffer in terms of the value of their capital. Although this is true, one must keep in mind that insurance business is long term business. So if the insurance company has bought bonds with the intention of holding them until maturity, the price drop experienced before maturity does not really affect them. Such companies would use a combination of strategies such as keeping a portion of the portfolio in short dated bonds which would be less affected by interest rates rising.

  1. The US Dollar

In simple terms since the interest rate one could earn from a US dollar investment is now going to be higher than the interest one could earn from a Euro denominated investment, the demand for the USD would increase. This would lead to a higher USD value and lower EUR. Things get a bit tricky however when you consider that the increase in the interest rate has been anticipated for months now and the USD has already appreciated quite a bit now. So one could argue, is the increase in the interest rate already priced into the USD?  

Who Loses When Interest Rates Go Up?

  1. Oil

Since the price of Oil is quoted in USD and the USD has gone up in value versus other currencies it has just become more expensive to buy oil. The oil industry itself is already suffering from a situation of over-supply, so an increase in the price of oil just because the USD got more expensive could be lead to lower demand which would in turn hurt the oil companies.

  1. Gold

Gold also stands to lose value with an increased USD value, like many other precious metals gold is quoted in USD. Just like with oil, the cost to buy gold would have just gone up simply because the USD went up. This could in turn lead to a fall in the price of gold to counter the increased cost of acquiring it. What makes it even worse is that gold does not earn any interest and in fact it cost money the longer you hold gold since insurance costs and storage costs have to be considered.

  1. Home Buyers

With increased interest rates new home buyers will face higher home loan rates and thus will be able to borrow less or will have to pay more for the same level of borrowing. Even existing home owners who have variable rate home loans will have to start paying more in interest, thus increasing their monthly loan payment and thus decreasing their disposable income.

  1. Issuers of USD debt that operate outside the US

Many countries and companies which do not use the USD as their base currency also issue many bonds denominated in USD. With an interest rate increase this means that if they want to borrow new funds in USD they would also have to offer higher rates since the base rate on which all other rates are built has gone up. Furthermore, their outstanding debt has just become more expensive to service. Although the majority of bonds are issued with a fixed interest rate, since the USD would have appreciate against the currency the issuer uses as its base currency it would cost them more to pay the same amount of USD in the form of interest payments and eventually capital repayment.


How are You affected as a person living in Malta/Europe?

One may argue that the above is all well and good, but it does not affect him/her since we are situated in Malta and our interest rates are determined by the European Central Bank (ECB) and not the Fed. Although this last point is true that our interest rates are determined by the ECB which does not plan to raise interest rates anytime soon, this does not mean that we are immune to what is happening abroad.

The biggest effect that Malta will have from the increase in the Fed rate is the effect on the currency, specifically the USD/EUR exchange rate. So if the USD has gone up and is expected to go up even further this will have an effect on individuals as well as businesses. Let us take a look at some specific areas where we will be affected:

  • Traveling abroad

The cost to travel to the USA will now be higher. So even though you might still have to pay $1,000 for a few days of accommodation in a New York hotel that $1,000 which used to cost you around €715 in 2011 will now cost you around €915. That is close to a 30% increase in the cost. When you consider the total cost of a holiday in the USA this difference would add up to quite a bit of change. This will be true not just for travelling to the USA of course, but to anywhere that prices in US Dollars as a main currency. So for example going on a cruise that accepts only US Dollars would become more expensive as well.

  • Fuel Costs

As previously discussed, the price of oil is denominated in USD. So any other derivative of oil such as diesel and petrol for motors, fuel for airplanes and so on will also be affected by the price of the USD. Luckily for us we are in a situation where oil prices are very low due to oversupply. Hence, the increase that one would expect in the oil price is being counterweighed by the supply side keeping the price down. But if the supply had to be reduced or the demand would somehow increase the price of oil would in fact go up.

  • Cost of Precious Metals

Like oil, the prices of precious metals is denominated in USD. So the cost to acquire these precious metals will be higher, even if the prices had to remain unchanged.

  • Importing of goods in USD

Besides oil, many other items are bought in USD. Anything we import in USD will now be more expensive than it was just a few years ago. So importers will be negatively affected by the fall in the EUR which came about as a result of increased interest rates in the US. This also affects individuals who are used to buying items online for example.

  • Exporting of Good to the USA

It is not all bad news however, the exporters will benefit, specifically the ones that export to the USA. Since in dollar terms EUR items will cost less, the items that are exported to the US would be considered cheaper and be more competitive versus other US made items. So for example the European car manufacturers will now be able to price their vehicles more competitively against their US counterparties. Unfortunately for Malta we do not export many goods to the US. But we do compete with the US in certain services industries. So the higher USD would mean that it would be cheaper to do business through Malta (and other Euroland countries) rather than through the USA.

The Bottom Line

At the end of the day, how we are going to be affected by the Fed rate cut will take quite a while to be seen. Although there will be an immediate effect, the total effect of the move will take months to come to fruition. It all boils down to expectation and real economic indicators in the end, although the Fed said that it will continue to increase interest rates it also said that this will be gradual and it did not commit to any hard target. Jobless rates in the US are still not at desired levels so if we should have weak economic indicators in 2016 the pace of the internet rate hikes will be very slow or stopped completely. What is certain is that whatever happens in the USA will definitely affect us in Euro-land, and not just on the investments side.


Personal Debt – Should it be Avoided?


This week I would like to dedicate my post to a concept that many might have a misconception on. Locally, and especially with the older generation of clients, there is the conception that debt is bad and should be avoided – to be used only as a very last resort. Here I am talking about personal debt not business loans. What I would like to convey with this post is that debt is not evil and is one of the tools that, if used properly, can lead to improve one’s financial position.

Types of Debt

First of all let us go through the types of personal debt that exist. Not all debt is of the same nature and different debt instruments are used for different financing requirements.

Revolving Credit Facilities

Credit cards and overdrafts are two forms of debt that are normally the most expensive. They are referred to as a revolving credit facility since you can pay back part of it and get more credit to use. This form of debt is the most convenient type and is ideal for short term financing of small balances. Most common uses are shopping, on-line payments, car rentals, holiday expenses and the like. Most credit cards only charge an interest after a certain amount of days have elapsed and hence if used well can be a low cost method of getting temporary credit. If left unpaid credit card and overdraft expenses can rack up quite a bill, so as with any form of debt they must be used wisely.

Unsecured Loans

This form of debt is more suited for medium term projects such as the purchase of a car, a loan for further studies or the purchase of a boat for example. Here we are looking at a term of 5-7 years and an expense of 5,000 to around €40,000 for example (amounts depend on the personal circumstances of each individual, the figures used are just indicative examples).

Things to keep in mind with this form of debt is that the shorter the maturity that one chooses, the higher the monthly repayments will be. So one must not automatically choose the shortest duration possible, but must also consider his/her affordability in good and in bad times.

Another thing to keep in mind with unsecured loans is that they are going to be more expensive than secured loans such as a home loan, since the bank granting you the loan is taking on more risk by granting it unsecured. So another thing that one might consider is, should I offer a form of security for my medium term loan in order to get a better rate? Forms of security can be money in the bank itself, money invested in other financial instruments or property. It might make sense to take out a (or use an existing) life insurance policy that would be tied to this particular loan. So just because it is offered unsecured, it does not mean that you have to take it as unsecured.

Of course one also needs to keep in mind the use of the funds. Just because the bank has offered me a €5,000 loan facility does not mean I should use it to go buy the latest UHD Television. Just because my neighbour went on a dream holiday it does not mean I should go take a loan to have an even better holiday. When I say that debt can be used to better one’s standard of living it still needs to be used responsibly.

Secured Debt

Secured debt is basically any loan that has some form of security pledged against it. The most common form would be the home loan or mortgage whereby the bank will normally grant you a maximum of 90% (local custom) of the value of a property you intend to purchase. Most likely the bank would also require the borrower to take out and pledge some form of life insurance policy. This form of debt is normally offered at the cheapest rate since it presents less risk to the bank (within certain parameters).

However, even though in percentage terms it is the cheapest, in absolute terms it is still quite expensive since the amounts tend to be larger. The concept is easy to understand with two simple examples. Would you prefer paying 5% on €10,000 for 5 years, or would you prefer paying just 2%, but on €100,000 and for 35 years? The cost is even larger when you consider that interest is normally calculated on a daily basis and in the first years a larger amount of the monthly payment goes towards interest payment rather than capital repayment.


Risks of taking on too little debt.

We all know that a lot of debt is dangerous and biting off more than you can chew is a risky thing. But can one also be increasing risk by not taking on enough debt?

For the majority, it is inevitable that a home loan would be needed when buying a property. There are some who have the conception that taking out as small a loan as possible is the goal. In reality it definitely is not. Referring back to my description of the types of loan facilities available, a home loan is one of the cheapest forms of loan available. So if you are going to try to stretch your budget as far as possible in order to have as little a loan as possible you will likely end up being in a worse financial position than if you take out a larger loan.

One must keep in mind that investing/saving money is not done simply to make money quickly and cash out. One of the main goals is to make money and if it comes quickly, all the better. But investments also act as a form of buffer for the bad times. So a store of value if you will. Therefore, if you intend to use up all your savings and investment to buy one property and take the smallest home loan possible you are going to end up risking not having enough savings set aside for a rainy day. Besides the fact that mostly everyone who has ever bought a property for personal use ends up going over-budget with the finishes they choose. This means that you will need more money to complete the project.

It is a good thing to save up before buying a property in order to be able to take out a smaller loan. As a minimum you still need to pay around 10% of the property value and the taxes and expenses involved in purchasing a property. However one should not stretch his/her budget too thin that one has to end up sacrificing a better standard of living for a long time simply because they do not want the burden of more debt. This is not to say that one should borrow the maximum possible that the bank will lend them, The larger the loan, the higher the monthly payments and once interest rates increase the variable rate mortgages will have even higher monthly payments. So it is more about finding a balance between what one could comfortably afford in monthly payments and how much one needs to finance his project.

The Bottom Line

Debt in itself is not evil and should not be avoided at all costs. As with any other financial instrument it should be used wisely and it must be kept in mind that avoiding debt too much can be as risky as much as taking on too much debt. Using up all your savings and investments in order to buy a property is the same concept of selling all your current investments to buy just one investment. It is the opposite of diversification and leaves you exposed to not having enough money set aside for the bad times.