Reminder? (Robert Shiller, 2000)

“The high recent valuations in the stock market have come about for no good reasons. The market level does not, as so many imagine, represent the consensus judgment of experts who have carefully weighed the long-term evidence. The market is high because of the combined effect of indifferent thinking by millions of people, very few of whom feel the need to perform careful research on the long- term investment value of the aggregate stock market, and who are motivated substantially by their own emotions, random attentions, and perceptions of conventional wisdom.”

– Robert Shiller, Irrational Exuberance, Princeton, NJ, Princeton University Press (2000), p. 203

Velocity of Money (number of times one dollar is spent to buy goods and services per unit of time) remains at the lowest level in recent history.

GDPNow Real GDP Forecast for Q4 2015 is Now Nearing Half Consensus

China: No Bottom Yet?

"The Minxin PMIs are based on a monthly survey covering more than 4,000 companies, about 70 percent of which are smaller enterprises. The private gauges have shown a more volatile picture than the official PMIs in the past year."

China's Earliest Monthly Economic Indicators Flash Warning Sign

Baltic Dry Shipping Index AGAIN hitting new record lows - deflation has arrived?

New! St. Louis Fed Deflation Probability Index - look at that spike!

Will (unsustainable) shelter inflation ultimately follow core goods into deflation? The faster they rise, the faster they fall?

China: Issuing debt to pay interest?? A significant global trigger is getting close?

Classic example: EM rising (unproductive) debt = sinking return on equity. Nothing new under the sun...

Private sector levarage is still an uncontrolled risk, PARTICULARLY China.

U.S. CPI: Goods vs. Services. Services includes (unsustainably) surging rents.

An unsustainable trend: rent growth consistently outpaces wage growth. (Chart)

Oil & gas drilling US industrial production growth is now below 2009 bottom--the world is awash in oil?

RealtyTrac: Foreclosure starts post highest jump in more than four years. | Should the industry be concerned?

"Foreclosure filings — default notices, scheduled auctions and bank repossessions — were reported on 115,134 U.S. properties in October, up 6% from the previous month. This is still down 6% from a year ago, the latest RealtyTracForeclosure Market Report for October 2015 showed.

The rise was caused primarily by a 12% monthly jump in foreclosure starts, with 48,605 properties starting the foreclosure process for the first time in October.

This increase marks the largest month-over-month increase since August 2011, when there was a 24% month-over-month increase. Despite the month-over-month increase, foreclosure starts in October were still down 14% from a year ago.

Click to enlarge

(Source: RealtyTrac)

While this increase isn’t a giant surprise, it did exceed expectations.

“We’ve seen a seasonal increase in foreclosure starts in October for the past five consecutive years, so it’s not too surprising to see the monthly increase this October,” said Daren Blomquist, vice president at RealtyTrac.

“However, the 12% increase this October is more than double the average 5% monthly increase in the past five Octobers, and the even more dramatic monthly increases in some states is certainly a... "

RealtyTrac: Foreclosure starts post highest jump in more than four years | 2015-11-12 | HousingWire

Debt-based facade: How good do those increased earnings look when manipulated upwards through share buybacks financed with MORE debt? What happens when interest rates normalize?

Debt death knell begins ringing in Chinese central government? With corp's/local govts. over leveraged, the only way to sustain the GDP targets facade is thru growing fiscal deficits--further and further until...

CRB commodities index falls below 2009, to 2002 levels.

"Will the Fed the Hike Rates Right As the Market Collapses?"

"The Fed has now kept interest rates at zero for 82 months.

This is the longest period in the history of the Fed’s existence, lasting longer than even the 1938-1942 period of ZIRP.

And the US economy is moving back into recession. Consider that…

1)   Industrial production fell five months straight in the first half of 2015. This has never happened outside of a recession.

2)   Merchant Wholesalers’ Sales are in recession territory.

3)   The Empire Manufacturing Survey is in recession territory.

4)   All four of the Fed’s September Purchasing Manager Index (PMI) readings (Philadelphia, New York, Richmond, and Kansas City) came in at readings of sub-zero. This usually happens when you are already 4-5 months into a recession. (H/T Bill Hester)

Why do these issues matter?

Because they are happening at a time when interest rates are already at zero.

Never in history has the US entered a recession when rates were this low. And it spells serious trouble for the financial system going forward. 

Firstly, with rates at zero, the Fed has next to no ammo to combat the contraction. Some Central Banks have recently cut rates into the negative. But this is politically impossible in the US, particularly with an upcoming Presidential election.

This ultimately leaves QE as the last tool in the Fed’s arsenal to address an economic contraction.

However, at $4.5 trillion, the Fed’s balance sheet is already so monstrous that it has become a systemic risk in of itself. And the Fed knows this too… Janet Yellen, before she became Fed chair, was worried about exiting the Fed’s positions back when its balance sheet was only $1.3 trillion.

Moreover, it’s not clear that the Fed could launch another QE program at this point.

For one thing there is the upcoming Presidential election.

Regardless of one’s political affiliation, it is clear that wealth inequality has become one of the big issues for the election. With numerous media outlets catching on to the fact that QE exacerbates this, the Fed’s hands are tied unless we get a full on market meltdown.

So, the US economy is weakening at a time when the bar is set quite high for the Fed to enact any significant policy changes. With interest rates already at zero, the Fed cannot cut rates. And with Congress breathing down its neck and an election looming the Fed won’t be able to launch another QE program unless we experience a full-scale financial meltdown.

Thus, the Fed’s hands are tied… at a time when the economy is faltering and the stock market is beginning to weaken dramatically... and the Fed is planning on raising rates in DECEMBER!?!?

This will eventually result in a [serious correction/downturn, possibly within the next year]...."

Graham Summers, Phoenix Capital Research

SocGen's Albert Edwards is not the only one noting that U.S. corporate net debt now massively exceeds EBITDA due to Fed's easy money policies.

Japan in Recession Again.

Deflation: Commodities STILL Leading the Way Down

Dr. Copper: Hits 6 year low. Industrial health still waning?

Chinese steel futures hit new lows, as well.

Platinum (catalytic converters) drops below $870/oz. in spite of China's rising auto sales.

Crude oil fundamentals remain weak as inventories begin to rise again.

On top of rising inventories, U.S. crude production begins to rise again.

Smart Money vs. Government Money Purchases of U.S. Treasuries?

China Trigger Yet? ISI China Sales Index Nearing 2009 Lows.

China matters: Container Freight Index-->New Low.

China: Steel, Cement, Electricity

Global Imbalances...

What happens when aggregate demand is papered over and not allowed to go through its normal cycle (debt clearance through default of weaker corporate balance sheets)? This happens. Organic growth is substituted with buybacks, M&A (rising goodwill %), etc. ALL kinds of imbalances start warping the global economic carpet.

Machinery, Equipment, & Supplies Inventories Lowest Since 2009.

"Chinese companies have seen business confidence wane since early 2015, with optimism...falling to its LOWEST ON RECORD in October."

"If the Economy is Strong, Why Are These Assets In Full Blown Bear Markets?"

"We are often told that the global economy is strong… that fears of a contraction are overblown… that China is still an engine for economic growth… and that the US has detached from the turbulence in the Emerging Market space.

If the above claims are true, then economically sensitive assets should be rallying as global demand propels them to higher prices.

But they’re not.

In fact, they ENDED their bull markets and have erased several DECADES’ worth of gains.

Consider Coal.

In the US, Coal has become a political hot button. Consequently it is very easy to forget just how important the commodity is to global energy demand. Coal accounts for 40% of global electrical generation. It might be the single most economically sensitive commodity on the planet.

With that in mind, consider that Coal ENDED a multi-decade bull market back in 2012. In fact, not only did the bull market end… but Coal has erased ALL of the bull market’s gains (the green line represents the pre-bull market low) and fallen BELOW its pre-bull market lows.

Those who believe that the global is in an economic expansion will shrug this off as the result of the US’s shift away from Coal as an energy source. The US accounts for only 15% of global Coal demand. The collapse in Coal prices goes well beyond US changes in energy policy.

What’s happening in Coal is nothing short of “price discovery” as the commodity moves to align itself with economic reality. In short, the era of “growth” pronounced by Governments and Central Banks around the world ended. The “growth” or “recovery” that followed was nothing but illusion created by fraudulent economic data points.

We get confirmation of this from Oil.

For most of the “so called” recovery, Oil gradually moved higher, creating the illusion that the world was returning to economic growth (demand was rising, hence higher prices).

That blue line could very well represent the “false floor” for the recovery I mentioned earlier. Provided Oil remained above this trendline, the illusion of growth via higher energy demand was firmly in place.

And then Oil fell nearly 60% from top to bottom in less than six months.

As was the case for Coal, Oil’s drop was nothing short of a bubble bursting. From 2009 until 2014 Oil’s price was disconnected from economic realities. Then price discovery hit resulting in a massive collapse.

Moreover, the damage to Oil was extreme. Not only did it collapse 60% in a matter of months. It actually TOOK out the trendline going back to the beginning of the bull market in 1999.

This is a classic “ending” pattern. Breaking a critical trendline (particularly one that has been in place for several decades) is one thing. Breaking it and then failing to reclaim it during the following bounce is indicative of BEAR MARKET.

In short, the era the phony recovery narrative has come unhinged.  We have now entered a cycle of actual price discovery in which financial assets fall to more accurate values. This will eventually result in [significant asset deflation/"crash"]...."

Graham Summers, Phoenix Capital Research

Did S&P 500 Companies With Higher Global Exposure Report Lower Earnings Growth in Q3? The Answer is Yes.

Did S&P 500 Companies With Higher Global Exposure Report Lower Earnings Growth in Q3? — FactSet Research Systems

MassMutual Financial Group announces record $1.7 billion dividend payout

The MassMutual Financial Group headquarters on State Street in Springfield. The company announced Monday an estimated dividend payout of $1.7 billion for 2016. (DAVE ROBACK / THE REPUBLICAN). (Staff-Shot)

MassMutual: UNBELIEVABLE PERFORMANCE, Again & Again!

7.10% dividend, 3rd year in a row.

9th consecutive year of record growth in whole life policies. Can anyone even compete? Especially in this economy!

Slow and steady...still wins the race: 

"...whether it's through world wars, pandemics, market crashes, and most recently, a historically low interest rate environment where even three-month Treasury bills are yielding zero percent."

"SPRINGFIELD - MassMutual Financial Group announced a record dividend Monday of $1.7 billion for 2016.

The payout, which goes to eligible holders of MassMutual whole life insurance polices and some annuities, works out to a dividend interest rate of 7.10 percent, the Springfield-based company said Monday. Policy and annuity holders receive their payments on the anniversary dates of their polices and can take the money in one of four ways:as cash, to pay their insurance premiums, to buy more insurance coverage  or they can leave the money on interest with MassMutual.

Elizabeth Ward, MassMutual executive vice president, chief enterprise risk officer and chief actuary said the payment reflects MassMutual's financial health during an era of low interest rates and an up-and-down stock market. The dividend amount is based on MassMutual's operating performance not just in its insurance business but in what it calls non-participating businesses like asset management. As a mutual, MassMutual returns its profits to these eligible policy holders.

"This isn't just about looking at a simple quarter. It's about looking at who we are through time," she said.

The payout is nearly a $100 million increase over 2015, and the fourth consecutive year it has reached a new record, MassMutual said.

More than 1 million policy holders will get the dividend. The three oldest MassMutual policies were issued in 1926.

Ward said the interest rate reflects the investment portion of the dividend. There are three components: investment, expense and mortality.

In the release, Roger Crandall, MassMutual, chairman, president and CEO said:

"Today is a special day where the commitment we've made our policyowners is brought to life through our annual dividend payout. Through nearly our entire history, our policyowners have received an annual dividend regardless of what is happening in our world – whether it's through world wars, pandemics, market crashes, and most recently, a historically low interest rate environment where even three-month Treasury bills are yielding zero percent."

MassMutual said it had its ninth consecutive record year of growth in whole life policy sales... ."


LINK to original article

My City, America (Seattle, WA): Housing Downside Risk is 45+%?

Imagine a world in which housing prices could never form a bubble-->nothing to worry about. 

Homes required a 20% down payment and fully documented, 30-year fixed loans to make sure each new homeowner did not get him or herself into trouble, if at all possible. Mortgage interest rates were not manipulated by government intervention, and remained neat their long-term (~40 year) average of 8.38% (LINK). In this world, it would be very difficult to create a housing bubble.

Imagine an industry in which financial professionals were there to protect you and ensure, to the best of their ability, that you had a solid plan, one you could count on for your future. One that MINIMIZED the risk of financial loss and tragedy... .

"Example A)  My City, America (Seattle, Washington)

Average house price:   $514,900 (LINK) 
Average household income: $65,677 yr (LINK)
Loan Term:      30 year, 4.00% fixed (LINK)

Downpayment:  $102,980 (20%)

Homeowners Ins: $840

Prop Taxes: $4800

Car Payment:  $380

Credit Cards: $220

Other: $200

Result:  Typical, end-user, shelter buyer can “afford” a $284k house

DOWNSIDE RISK:  = $336k ($515k – $284k), or 45% loss.

Results Bottom line:   This qualified end-user, fundamental, shelter buyer profiled in the data above, can only “afford” a $284,000 house with 20% down and a mortgage loan. Yet, the average house price is $515k.

The difference between the present average price of $515k and $284k, or $336k (45%), is how far house prices can fall if all of the “unorthodox, unfundamental, incremental demand with unorthodox capital” exited the market like it did in 2008-09.  And I went easy on the car (national average $482 LINK), credit card (national avg $15,191 x 2% = 304 LINK) and other debts.

Also, what if interest rates normalized and were 8.38%, the national long term average from May 1976 to 2015 (LINK)?

Why is it, then, that everyone thinks (again) that "it's different this time"? In fact, it's exactly the same, including the fact that everyone is "absolute and resolute" in their belief that house prices always go up and could never experience another 2007-2010 type crash--not ever again[!].

In short, house prices this far above the average buyer’s qualifications is the exception and not a durable phenomenon... ."

LINK TO ORIGINAL ARTICLE

Mark Hanson, OUTSTANDING analysis: Housing's "Wile E. Coyote" Moment? "In sum, housing has gone from...more tailwinds than ever x10 to...gale-force headwinds of: an uncertain Fed; plunging foreign demand; sidelined institutional demand; and an end-user looking at house prices 30% above their ability to buy against an uncertain and weakening global economic backdrop."

"10-28 A Housing Mega-Bubble No Doubt. It’s NOT DIFFERENT THIS TIME no matter how much we all want it to be.

by MARK on OCTOBER 29, 2015

• How do you know when you are in a real estate bubble?  That’s fairly easy.  Knowing when it will pop is the hard part.
• Air pocket between present, bubbled-out house prices driven by the “unorthodox, unfundamental, incremental demand using unorthodox capital” and fundamental, end-user, shelter-buyer affordability has never been larger.
• At peak bubble, all that it takes is a narrow and shallow stream of a few dumb money buyers to keep the prices of thousands of houses bubbled out, indefinitely.  Most everybody else is just hanging on for the ride, unable to transact due to the unaffordability.  Then one day market suddenly runs out of dumb money buyers, which is the Wile E. Coyote moment.
• SF Bay Area is not an example of a healthy, fundamentally-driven “housing market”, rather a stimulus-fueled commodities market.
• Just like in 2007/08, if the “unorthodox, unfundamental, incremental demand using unorthodox capital” suddenly went away, house prices would revert back to what end-user, fundamental, shelter buyers with traditional financing can afford, which is about half of what houses cost today.
• Why is everybody so sure that the current age of “unorthodox, unfundamental, incremental demand using unorthodox capital” is here to stay?  They were all wrong in 2007.
• Housing bubbles don’t exist in isolation;  when the known bubbles finally pop, it will take the rest with it.
• If everybody in the US had to buy real estate using the same amount down and fully documented 30-year fixed real estate loans, house prices could never detach from end-user, shelter-buyer, employment and income fundamentals in a city or region.  There would be — could be — no bubbles.  It’s when the “unorthodox, unfundamental, incremental demand using unorthdox capital” enters the market, prices quickly detach from end-user fundamentals and bubbles form swiftly, exactly like we saw from 2003 to 2007 and exactly what we are experiencing today. 
• To believe this isn’t a bubble is to believe that all of the hot momo money from insti’s, high/biotech, flipper, flappers, fraudsters, and foreigners buying houses is fundamental and here to stay, which is exactly what everybody thought in 2006.  Or, to believe that interest rates will keep falling 1% per year going forward, which would lend an element of support to prices.
• It’s not different this time. In fact, it’s exactly the same, including how everybody is absolute and resolute in their belief that house prices always go up and can’t experience another 2007-2010 type crash again.

Backing out the “unorthodox, unfundamental, incremental demand using unorthodox capital” that has driven the lion’s share of house price gains for the past four years, I look at what the fundamental, end-user, shelter buyer can afford using the typical down-payment, mortgage guidelines/terms, and mortgage rates of the period.  That’s because at the end of the day, the typical, end-user, shelter buyer must be able to support the market once the unorthodox, transitory capital (institutions, buy to rent, flippers, high/biotech bubble workers, mortgage fraudsters, foreigners with strong foreign dollars, momentum chasers et al), exits the market, which it always does for some reason or another.

House prices, based on “comparable sales”, are always worth what the last few houses in the immediate area sold for.  As such, when house prices achieve bubble status and sales volume peaks/ebbs – happening now — all that it takes is a narrow and shallow stream of a few dumb money buyers to keep the prices of thousands of houses bubbled out indefinitely.   Then one day market suddenly runs out of dumb money buyers, which is the Wile E. Coyote moment.  This is in contrast to a normal market, in which most can truly “afford” houses in the cities in which they live, and they sell and rebuy based on fundamental reasons, such as moving up due to career advancement or a larger family.

Analyzing average household income vs house prices in order to establish the “true, end-user, shelter buyer affordability”, when I throw the data in a spreadsheet — like I do for my provocative and widely misunderstood national resale and builder “affordability” comparison worksheets and charts — it’s easy to discern whether the average household income in a city or region can technically “afford”, or support, the average priced house using 20% down and a 43% DTI ratio for the mortgage.  And in most every highly populated region in the nation – the exact regions that were the most bubblicious in 2007 — house prices are significantly over-valued and absolutely reliant upon the “unorthodox, unfundamental, incremental demand using unorthodox capital” to keep the party going.

Moreover, on a post-crash basis, sales volume has gone up and down on stimulus events, rate plunges, and hangovers, but hasachieved nowhere near the growth analysts forecasted with ZIRP and QE in the background for so many years on end.

Remember, back in 2013, when volume was more-less the same as this year, sell-side predictions were for 700k new home sales in 2015 and last month we got a run-rate of 468k SAAR and have averaged only 505k SAAR ytd.   Substantial house price gains amidst surging supply and lackluster demand must always be viewed skeptically because something “unfundamental” is likely occurring.

A good example of a region with many mega-bubbled cities is the San Francisco Bay Area where only a fraction of the population — the incremental buyer;  high/bio tech professional with record high stock prices, institutional or private speculator, foreigners with strong dollars, flippers, fraudsters — can afford to pay whatever they want.  The problem is that most “everybody else” is simply hanging on for the ride, mostly stuck in place, unable to sell and rebuy in the same city, or region, because house prices are out of their reach.  This is not an example of a healthy “housing market”, rather an example of a commodities market.

Just like in 2007/08, if all of the “unorthodox, unfundamental, incremental demand using unorthodox capital” suddenly went away today, house prices would revert back to what end-user, fundamental, shelter buyers with traditional financing can afford, which is about half of what houses cost today.

And just like sheep, when “something” happens that kicks-off the selling wave, they will all sell at the same time.   And at this time, the small cohort of “unorthodox, unfundamental, incremental buyers using unorthodox capital” will be overwhelmed with supply.

Everybody knows that the 2003 to 2007 housing bubble was an era of high-leverage, unorthodox financing, which super charged affordability making houses always affordable to everybody all of the time.  Why is everybody so sure that the current age of “unorthodox, unfundamental, incremental demand using unorthodox capital” is here to stay?   I am old enough and lived in the SF Bay Area long enough to know that the current conditions driving house prices are the exception and not the rule.  I saw the same thing in late 90’s, which jump-started and bled into 2003 through 2007.

On a national basis, it’s consensus that certain regions are “isolated” from bubbles popping.  It doesn’t work like that. Conditions that create regional real estate bubbles float all boats.  In other words, when the known bubbles finally pop, it will take the rest with it. Just look how cheap houses got in 2010, below replacement cost.

Some will say, “you are full of crap, based on rents house prices are cheap”.  Well, that’s of course, unless, rents are in a bubble too.  I believe they are.  It’s obvious in major metros.  But, look at Phoenix Arizona, for example, where over 50% of households can’t afford the average rent on a two bedroom apartment, based pm data put out by ARMLS in Q2’15.

Item 1)  Example of the massive air pocket under house prices in two bedroom communities outside of San Francisco. 

Example A)  My City, Bay Area, NorCal

Average house price:   $1.45mm  
Average household income: $180,000 yr
Loan Term:      30 year
Downpayment:  $290,000
Homeowners Ins: $1000
Prop Taxes: $14,500
Car Payment:  $700
Credit Cards: $400
Other: $500
Result:  Typical, end-user, shelter buyer can “afford” a $778k house
DOWNSIDE RISK:  = $672k ($1.45mm – $778k), or 46%

Results Bottom line:   This very qualified end-user, fundamental, shelter buyer profiled in the data above, can only “afford” a $778,000 house with 20% down and a mortgage loan. Yet, the average house price is $1.45mm.

The difference between the present average price of $1.45mm and $778k, or $672k (46%), is how far house prices can fall if all of the “unorthodox, unfundamental, incremental demand with unorthodox capital” exited the market like it did in 2008-09.  And I went easy on the car, credit card and other debts.

In short, house prices this far above the average buyer’s qualifications is the exception and not a durable phenomenon... ."

ORIGINAL ARTICLE LINK

Buy Term, Whole Life Insurance, or Both? Part 4: Behavioral Limitations to Buy Term & Invest the Difference: Adverse Selection & Mental Accounting in Budgeting

Photo: Werner Elmker, Fairfield, Iowa

This is the fourth in a series of articles summarizing a preeminent, recent study examining the intersection of insurance and personal savings.

In “Buy Term and Invest the Difference Revisited,” finance professors David F. Babbel from The Wharton School of the University of Pennsylvania and Oliver D. Hahl from Tepper School of Business, Carnegie Mellon University examine in detail term vs. whole life insurance in a paper published in May of this year in the Journal of Financial Service Professionals[1].

Behavioral Limitations to Buy Term and Invest the Difference

While the Buy Term and Invest the Difference ("BTID") campaign matched the financial “innovation” revolution from the 1960s through the 1990s by attempting to deconstruct whole life insurance into its "assumed" component parts (term insurance and a savings plan), it has both behavioral and financial limitations. The behavioral limitations come in two forms:  1) adverse selection of consumers and 2) mental accounting in budgeting.

Adverse Customer Selection

 

“It is important to note that the additional freedom of not being forced to save assumes that people will be willing and able to save on their own. Note that the marketing plan and appeal of this product are primarily targeted to those in middle- and lower-income brackets. This means that the very people who have limited capacity to save and limited access to investment instruments are expected to save on their own… .”[1]

“Term life insurance allows individuals to put off savings until they can more easily afford it later in life. Note that planning to defer savings in this way eliminates the largest chunk of interest they would otherwise accrue, meaning later investments must be larger to make up for the difference. However,the BTID alternative assumes that people will change their behavior in ways that they never have previously by deferring consumption until later in life—easier said than done[!]”[1][Emphasis added]

Mental Accounting in Budgeting

The second behavioral limitation comes from work by behavioral economists and contradicts innate tendencies in almost all people:

“…the assumed model of behavior in the BTID alternative contradicts some very important and innate tendencies for almost all people, regardless of economic class.  In prefacing this issue, it is important to remember that the assumed behavior in BTID is that people will be able to save the additional amount that otherwise would have been allotted to a whole life premium and invest it on their own. Studies in behavioral economics on people’s tendency to budget have found that people are limited in their ability to perform such for two interrelated reasons.

The first reason is what researchers call mental accounting. Research has found that people tend to place money in “buckets” in their heads and are oftenunwilling to shift these amounts.[2] The following stylized example illustrates how this affects people’s ability to save.

 If someone has allotted a certain sum of money for lunch in the week, but on Monday sees that lunch will be cheaper during the week, instead of saving the difference between what was budgeted and what will be spent, because that person has mentally allotted the whole amount in the lunch or food bucket, he or she tends to either buy more lunch or splurge on a more expensive dinner later in the week.

People’s tendency to consume what could be saved is further enhanced by a second related issue known as hyperbolic discounting. Hyperbolic discounting is the tendency for people to discount by large amounts the utility of something that could be purchased later, thus making almost any purchase today seem more valuable than putting it off for later and saving for tomorrow.[3] This means that even if people can overcome the mental accounting constraint to savings, when they evaluate what they could purchase later from savings, they are more likely to overstate their utility for purchasing something now. In everyday terms, these two concepts combined are a formal way of noting that people tend towards impatience.” [Emphasis added.]

Hence, as applied to Buy Term and Invest the Difference:

“When people buy term life insurance, they often frame the difference between the premiums for term life insurance and the whole life insurance alternative as money gained by the transaction. For the two reasons cited above, it would take an extraordinary amount of discipline to allot money toward savings when that money is framed as gained. If left to their own devices, individuals choosing term life insurance are less likely to invest the whole difference as is assumed under the BTID alternative…it is true some companies sell products that combat this by providing investment vehicle options to the insured, but in doing so they reduce the “freedom” associated with this option.”

In the next installment, PART 5, we will begin dicussing: 

What Do Consumers Actually Buy? Voting with Their Feet…or Their Wallets

                                                                                

[1] David F. Babbel and Oliver D. Hahl, “Buy Term and Invest the Difference Revisited.” Journal of Financial Service Professionals 69, No. 3 (2015), 92-103. (LINK)

[2] Richard H. Thaler, “Mental Accounting Matters,” Journal of Behavioral Decision Making 12, No. 3 (1999): 183-206.

[3] David I. Laibson, Hyperbolic Discount Functions, Undersaving, and Savings Policy, Working Paper (National Bureau of Economic Research, June 1996); accessed at: http://www.nber.org/papers/w5635.

LINK TO ORIGINAL ARTICLE ON LINKEDIN