A/B Test Your Financial Life

When I first launched Deane Financial, my vision was to help Millennials in tech to be smart with their money and navigate the world of equity compensation. I admit that as a young entrepreneur, I was quickly swept up in the industry rhetoric of “grow or die” and convinced myself that I wanted to build an enterprise-level RIA. Soon enough, I realized that I had completely misread my preferences. I simply didn’t dig deep enough. 

These days, I’ve identified with the idea of being the best at what I do, as opposed to the size of the firm. I want Deane Financial to be nimble and specialized. I want to have a personal relationship with everyone I work with because this is a company that I want to run for decades. Had I not taken the time to A/B test my genuine preferences, my personal values would clash with those of my business.

A/B test your financial life

Being misaligned with our true desires can have enormous implications for our financial lives. We might think we want an early retirement, or that we prefer active investing over passive investing. But, if we don’t test these assumptions, we’ll never know our sincere preferences — with potentially significant financial consequences. 

Without getting into the weeds, A/B testing is a method of comparing two versions of a product against each other to determine which one performs better. Similar to software, we can use A/B tests to study our individual preferences, especially as they pertain to our financial decision-making. With the hope of encouraging you to A/B test your financial life, I’ve put together a few scenarios that can be useful to identify your genuine preferences.

Having a goal vs. Having a financial plan

Goals and plans are not synonymous. Similarly, setting a goal holds little to no value without a plan. Hopefully, this isn’t news to you. For me, a goal is only the tip of the iceberg, as it’s merely an end measure. Knowing where you are now and where you want to be is a good start. But without having a comprehensive plan in place — the steps you need to take to get from point A to point B — all you have is a dream. 

On the other hand, financial planning isn’t a destination; it’s an ongoing process. Similar to iterating and agile development — it involves agile planning, evolutionary development, continual improvement, and encourages rapid and flexible responses to changes in life. Sound familiar? Mainly, financial planning is about three key things: finding out where you stand financially, getting proximate to your core desires and goals, and creating a plan to achieve those goals. 

This year, I’m working on not being tied to company goals and outcomes, but instead staying diligent and consistent with my habits and systems. It’s the best decision I’ve made so far, besides launching The Equity Shop, of course. The way I see it, if I’m setting random milestones, or even worse, adopting the goals of competing firms, I’m not setting myself up to win. Instead, I’m fine-tuning my system with the potential to set me up for long-term success. 

Spoiler alert: if you don’t have a strong “why,” the “how” is going to be extremely challenging to overcome. 

Thinking about retirement vs. financial independence

In my years as a financial advisor, I’ve learned that one of the most important decisions people will make is the timing of their retirement. Believe it or not, your perspective on retirement plays a significant role as well. My dad had a pretty tough time understanding why I would start a business rather than climb the corporate ladder and retire with great benefits. We eventually chalked it to up to a difference of opinion. 

My perspective on retirement is quite different than my dad’s. Instead of choosing to build wealth through a professional career, my approach is to build wealth through entrepreneurship. The earnings that Kem and I save aren’t for retirement per se. It’s more aligned with our goal of financial independence. I’m grateful that I’ve found my calling. And so, I’m in this game for the long run. For me, I find purpose in being a financial guide for Millennials in tech who are working to live fulfilling lives. Eventually, my dad came around and saw things from my point of view. Now, he comes home from work, excited to talk about his 401(k) and retirement goals.

Just to be clear, this doesn’t mean that I’m in support of the FIRE movement. It’s not that I don’t think it can work; it just takes numerous outliers to be proven a sustainable strategy. For what it’s worth, the idea is mediocre at best. Rather than adhering to multiple constraints only to potentially still run out of money, imagine what it would be like to simply take a two-year sabbatical to do the things that bring you joy. 

Monitoring your portfolio more vs. less frequently

Technology has made it seamless for investors to access real-time investing performance. However, research suggests that more frequent updates are likely to make investors obsess over short-term losses. That is to say; this emotional response can lead to buying investments at market highs and selling at lows — a recipe for underperformance.

Conduct an A/B test on your financial life and record how these new habits emotionally impact you. Condition A could involve checking your investments multiple times a day on a mobile app. How do you feel? Does it affect your mood or the outlook of your future? Conversely, the condition B could involve checking your investment performance annually using paper account statements. Does less feedback make you less stressed? Or are you missing out on pertinent information? If it helps, create a journal. Perhaps this is useful data for identifying your relationship with money.

Timing the market vs. systematic investing

Unless you have a crystal ball and can predict stock market activity, there’s no reason you should attempt to time the market. Even the best active managers fail to beat market returns consistently. I’ve repeated this time and time — nothing does the job like dollar-cost averaging. It’s a sure proof way to build wealth slowly by prudent investing. While diversification does not guarantee a profit or protect against loss in a declining market, it can help smooth out volatility, so don’t chase performance. Remember, investing isn’t the goal; we invest for your goals. 

Instead of trying to pick the next hot stock, you should stay invested in a globally diversified portfolio specifically customized for your situation and goals. Those who display faith, focus on their goals, and ignore the noise, will see it through. Long-term thinking is a superpower, and you will come out on top. 

Spending on material things vs. experiences 

If there’s one thing I find annoying, it’s those financial pundits who shame Millennials into thinking every purchase is a poor decision. They find it easier to say “no” than trying to understand our unique needs and circumstances to help us make the best financial decisions. In my advisory firm, one of my priority goals is assisting clients in finding a balance between enjoying experiences now vs. delayed gratification. I’ll admit it’s not easy. 

When you’re on the grind, and there’s only so much money left after your regular savings and expenses, you have to ensure it’s well spent. I suggest spending it on the experiences that will make you happy. Experiences become a part of our identity. We are not our possessions, but we are the accumulation of everything we’ve seen, the things we’ve done, and the places we’ve been. 

Similarly, if you’re going to spend money on a material item, try to link the purchase to an accomplishment, so it holds sentimental value. As for me, I have a few goals of my own that are within reach, along with an online shopping cart with a Movado watch and podcast equipment. 

DIY vs. Hiring a financial planner

With the technology available today, most Millennials can be DIY investors through most of their accumulation phase. If you have a simple tax situation, can control your behavior, and is prudent with financial planning, a generalist adviser adds cost while adding little to no value. 

Personal finance is full of one size fits all rules and oversimplifications. Unfortunately, these rules don’t always work. The reality is that many people either can’t or won’t manage their money competently. Believe me, this stuff requires a ton of time and pristine attention to detail.

“Wild success requires aggressive elimination. You can’t be great at everything”. 

– James Clear 

To be more productive and successful, you should be looking for someone you trust to serve as your financial guide. Think of us as an accountability partner. And because life happens, we can also help you make any changes to your plan along the way. Even better, we can design a plan in a way that prepares you for turbulent moments and provides the comfort desired to weather the storm. 

At the very least, interviewing financial planners can provide reassurance that they’re legitimately worth the extra money. The good ones, at least. And by good, I mean those you vibe with and possess the specialized knowledge needed to address your specific pain points as a Millennial in tech 😉

Tips for Millennials in Tech to Survive a Recession

In last week’s issue of The Equity Shop Newsletter, I dropped a few gems that Millennials can act on now to survive a recession. For this blog post, I want to dive a little deeper into those tips to help Millennials in tech prepare for what appears to be the next economic downturn. So let’s get into it.

1. Understand the economics of the company you work for

Educate yourself on the business model of your employer. How does the company make money? How will an economic downturn impact them? These questions are especially crucial for startup employees and even those anticipating IPOs. A loss of income represents the most significant risk for Millennials, and it illustrates the need to maintain an emergency fund. Think of it as your personal runway. All in all, understanding the risks that your company faces will provide insight into how a change in the economy could affect your job security. 

2. Diversify your income

When we think of diversification, we often focus on investment allocations. When, in fact, it can be applied to sources of income as well. Because the loss of income is one of the biggest threats in a recession, having multiple streams of income can mitigate that threat. We live in an age where information spreads at zero-marginal cost, and you can reach anyone with an Internet connection — 24/7. As a Millennial in tech, there’s plenty of ways to monetize your demanding skillset and experience. I highlighted a few of them in a post on LinkedIn a few weeks ago. 

3. Pay Down Your Debts

While I understand the idea behind using credit cards for travel and Uber eats points, be mindful not to carry any outstanding balances. If you don’t pay off your balance every month, interest charges will keep eating away at your income. Remember, it’s your spending, not your income that determines financial success. So, pay down as much debt as you can. It will help free up money that you can use in the future. 

4. Save as much as you can

The best opportunities come when you are one of the few with cash. If you have cash sitting on the sideline, this is the moment you’ve been waiting for. The stock market is the only market where things go on sale, and people run out of the store. Ironic, isn’t it? Having the wherewithal to invest when the market is down, and prices are low, is advantageous, because you could get a bargain. Generally, during recessions, even the most sustainable companies can be affected and suffer earnings hiccups. Accordingly, you can take this opportunity to buy a few winners for the long term. For DIY investors, it’s advisable to set buy-limit orders to ensure owning stocks on your terms. 

5. Increase retirement contributions and equity exposure

If your financial situation allows, now is as good time as any to increase your contributions to your 401(k), or any other employer-sponsored plan. If you’re a young investor, it’s safe to say that you are in this for the long run, and it’s likely you wouldn’t need this money until retirement. In that case, it might benefit you to increase your equity exposure as well. Doing these two things will help ensure you reap the benefits of participating in the next bull market. 

6. Set up a systematic investing plan

Investing is simple, but it’s not easy. While I don’t agree that a single best strategy exists, I do believe in the efficiency of the market. For that reason, my personal approach is to continuously buy globally diversified assets while paying low fees through passive investment vehicles. In other words, I believe time in the market outperforms timing the market. This strategy is known as dollar-cost averaging. It’s a perfect recipe for young investors and Millennials in tech seeking to turn income into wealth. It is also a way for investors to mitigate short-term volatility in the broader equity market.

Here’s how you can get started:

  • Decide on a fixed dollar amount that you are comfortable investing every month or every pay period. 
  • Select investments that align with your risk tolerance and time horizon. If you’re new to investing, index funds are a great start.
  • Set up automatic contributions from your checking account to your investment account. 

Believe it or not, setting up automatic contributions is arguably the most crucial step of the process. Why? Simply because each habit or task that we hand over to the authority of technology frees up time and energy to pour into the next stage of our growth. Kem and I have been using this strategy to save toward our joint goals and have recently increased the amount we’re investing each month to take advantage of low prices.

7. Start an automatic dividend reinvestment plan

For those Millennials in tech already investing, make sure your ETFs, mutual funds, and stocks are set to reinvest dividends automatically. Otherwise, dividend payments will be sitting in a money market fund earning next to nothing. If you want to turn your income into wealth, you must put your money to work. 

8. Take advantage of low interest rates

The Federal Reserve, aka the Fed, is the US central banking system that is tasked with influencing monetary policy, supervising and regulating banks, and maintaining financial stability. On Sunday, the Fed lowered interest rates to 0% as a means of dampening the effects of COVID-19. This is the lowest interest rate we’ve seen since 2008-2015 when the financial crisis occurred. With talks of a recession looming, interest rates will likely be at an all-time low. That being the case, it may be a good time to start shopping around for your first home if you’ve spent the necessary time saving and planning. 

Similarly, refinancing or consolidating your loans may position you to take advantage of the lower rates offered by lenders. In the end, you’ll spend less in repayment over the term of the loan. Keep in mind that refinancing your student loans largely depends on the type of loan (federal vs. private). For instance, certain protections, like the student loan forgiveness program or payment plans based on income, only exist with federal loans. You should know the specifics of your student loan to assess whether or not it is beneficial to refinance. 

9. Don’t let fear drive your decisions

For many Millennials who graduated into the worst job market in modern times, recessions can be frightening to deal with emotionally. And that’s 100% normal. When your emotions get the best of you, you’re susceptible to making costly mistakes. Don’t let panic or fear get the best of you in these times. Instead, prepare for it now by putting together a comprehensive financial plan. 

Types of Employee Equity Compensation Plans

The various ways equity can be granted to employees as compensation are notoriously complex. Please don’t take it lightly when I say it takes some know-how to develop a pragmatic approach to managing equity compensation. For starters, there are a few common types of employee equity compensation plans: stock options, restricted stock and restricted stock units (RSUs), and employee stock purchase plans. Each type of equity compensation vehicle has unique characteristics. With this in mind, it’s essential to identify your equity compensation type so you can understand the potential challenges and take advantage of the benefits. 

You must know the rules before you play the game. Understanding the structure of equity compensation does not guarantee you a fortune. Still, it will help you make better decisions for your personal life, and avoid some common and costly mistakes. So let’s jump right into it. 

Employee Stock Purchase Plans (ESPPs)

Some people may argue that ESPPs are a more attractive benefit than stock options. It’s me. I’m some people. I’ll be honest, of all the types of employee equity compensation, ESPPs are my favorite. Why? Because it allows you to purchase company stock easily and on favorable terms. Particularly, ESPPs enables employees to buy company stock at a discount from the market price. The most significant discount the IRS allows is 15%. That doesn’t beat Saks 5th Ave discount I had back in the day, but hey, it’s definitely something worth talking about. 

Anyway, so you can better understand the features of ESPPs, let’s dive into their life cycle: 

  • Offering period – the period during which your rights to purchase company stock are available. You will need to establish your after-tax payroll contributions to participate.
  • Offering date – the first day of the offering period, and usually follows the enrollment deadline. For tax purposes, this is the date of the grant. It will determine how long you held onto the stock before selling. It’s also called your holding period. 
  • Purchase period – generally, when an offering period is longer than six months, there will be interim purchase periods within an offering period. For example, a 12 month offering period can have two 6 month purchase periods.
  • Purchase date – your accumulated payroll contributions will buy shares of company stock at the discount price at the end of the purchase period.
  • Lookback feature – allows flexibility in the purchase price.

How It Works

Let’s say you have $1,000 deducted from your paychecks to invest at the end of every purchase period. The price at the beginning of the period was $10 and increased to $15 by the purchase date. Because of the lookback feature, your purchase price will be the 15% discount from the market price at either the beginning or the end of the purchase period — whichever is less. In theory, employees could buy and sell company stock at a built-in profit of at least 17.6%. Talk about easy money 🤑

The icing on the cake: If you hold on to your shares for two years from the grant date and one year purchase date before selling, it is known as a qualifying disposition, and a portion of your gains will be taxed at the favorable long-term capital gains rate. 

Restricted Stock and Restricted Stock Units (RSUs)

Restricted and RSUs represent minimal market risks, relatively speaking. Unlike stock options, which can lose all practical value, restricted stock and RSUs are always worth something, even if the stock price drops dramatically. The stock is “restricted” because it is usually subject to a vesting schedule, which is based on length of employment or performance goals. While the vesting rules are similar for RSUs, no actual stock is granted. RSUs are simply a promise to issue a specific number of shares when employees meet vesting requirements.

With restricted stock and RSUs, employees are taxed at the time the shares vest and become yours wholly. The market value of your shares will be taxable income. Subsequently, your company will likely withhold taxes at vesting. They generally elect to do so by holding onto some shares to cover the taxes. Some companies also have the flexibility to withhold taxes using salary deductions or payment by check.

Section 83(b) Election

Alternatively, the 83(b) election permits employees to pay taxes at grant, rather than at vesting. This is especially beneficial if you have good reason to believe that the stock price will be significantly higher on the vesting date than it is on the grant date. If the price at vesting is higher, the taxes you pay on the lower grant price through the 83(b) election will be less than the taxes you would have paid at vesting.

One caveat: The 83(b) election can only be used with restricted stock, not RSUs.

Employee Stock Options

A popular type of employee equity compensation plans among Silicon Valley and startups is stock options. Fundamentally, a stock option is a contractual agreement that gives employees the right to purchase a stated number of shares of the company at a fixed price. Typically, it’s required for employees to work at the company for a specified length of time before you are allowed to exercise your right to buy any of the stock options. This is known as the vesting period. Any employee who terminates employment will forfeit all unvested stock options. 

Beware: employee stock options will expire if they are not exercised. 

Employees usually have ten years from the grant date to exercise stock options, if still employed with the company. Since the purchase price is often the company’s stock price on the grant date, stock options become valuable only if the stock price increases. Ultimately, this creates a discount between the market price and your lower exercise or purchase price. Nonetheless, any value in stock options is entirely theoretical until you exercise them. This is what people mean when they say you’re only rich on paper. 

And this folks, is your introduction to the most common types of employee equity compensation plans.

P.S. If you find these blog posts helpful, subscribe to our weekly newsletter, The Equity Shop, where we’ll keep you in-the-know about all things personal finance and equity compensation.

The Impact of Stock Options on Cash Flow

Turning stock option contracts into real money takes some know-how. I’ll be the first to admit, managing your stock options involves a long list of financial goals, opportunities, and even constraints. Be that as it may, understanding how the fundamentals of stock options mesh with other aspects of financial planning is paramount to achieving your goals. I’ve written about the basics of stock options, including the ins and outs of taxation — but for this post, I want to highlight the not-so-apparent impact of stock options on cash flow. 

Stock Options Are An Expense

As you might recall, stock options have the potential to be a wealth-building tool due to the growth of the underlying company stock. This ongoing buildup of equity proves to be a viable resource to meet both short and long term financial goals. On the other hand, stock options don’t come without a price. When you exercise the right to buy your employee stock options, you must pay the exercise price via a cash exercise or cashless exercise. 

Knowing your options may seem easy in theory, but evaluating which strategy to employ significantly depend on your unique circumstances. Not only can the math behind the scenes of a cash or cashless exercise get tricky, but the decision to exercise stock options also have an impact on cash flow, and how many shares you will own after the exercise is complete. 

As Millennials, a considerable portion of your net worth is likely associated with your equity compensation, so you owe it to yourself to assess and act on the strategy that yields the most value as it pertains to your goals. 

Option 1: Cash Exercise

If your goal is to own as many shares as possible, a cash exercise may be the best choice. Compared to a cashless exercise, a cash exercise is quite simple:

  1. You purchase shares of company stock using the agreed-upon exercise price per share. 
  2. The total price you pay is the exercise price per share multiplied by the number of shares you want to exercise. 
  3. Send your company or your custodian (the financial institution where your stock is held) the cash amount equal to the total price of the options exercised. It is also common to write a check.

Considering this process, a cash exercise is an out-of-pocket cost, where funds will need to be readily available. Depending on the number of options exercised and the exercise price, you can end up with out-of-pocket costs into the hundreds of thousands of dollars. Needless to say, financial planning is critical here.

Unfortunately, many startup employees may not have that type of cash laying around, making the cash exercise somewhat obsolete. In turn, this often causes employees to be priced out of the stock options, electing for a cashless exercise. And if you need me to say it, yes, it’s a bad idea to take out loans to cover the costs of the shares. 

If you’re lucky and forward-thinking, you’ll likely take the initiative to devise a plan to accumulate the amount of cash needed to exercise your stock options.

Here are some things to know before you perform a cash exercise:

  • A cash exercise maximizes the number of shares you will own after the transaction, thus effecting your portfolio. 
  • The shares you own may lead to a more concentration position.
  • A cash exercise requires liquidity for the up-front cost of shares.
  • If you have ISOs, a cash exercise may trigger the Alternative Minimum Tax.

Option 2: Cashless Exercise

A cashless exercise is frequently the default option if you don’t have the actual funds to pay for the shares. Primarily, with this alternative, you are exercising and selling the shares simultaneously. In doing so, you are covering the costs of exercising the shares with the proceeds of the sale. 

Here are some focal points of a cashless exercise:

  1. You purchase shares of company stock using the agreed-upon exercise price per share. 
  2. The total price you pay is the exercise price per share multiplied by the number of shares you wish to exercise. 
  3. Instead of paying in cash, you’ll immediately exercise and sell some of your shares. You’ll also exercise and hold some of your shares.
  4. The amount you exercise and sell will depend on the total cost to exercise the shares.

Under these circumstances, you can design cashless exercises to cover the costs of purchasing the shares, the tax liability you incur when exercising the shares, or both. 

Develop a Plan

Planning strategies for stock compensation begin with a “financial plan first” mindset. Always keep in mind that your stock option strategy must integrate with every other part of your financial picture, specifically your cash flow, investing plan, and tax strategy. Decisions about your equity compensation can only be optimized through the lens of your current circumstances and hopes for the future. Get proximate with your true desires, and the role stock options can play in building your wealth to achieve your life goals. After all, if you don’t plan for it, who will?