November 20, 2004
Et tu, Suze?
Just when I was beginning to hold a bit of respect for Suze Orman, she had to go and do these silly commercials for General Motors.
Maybe you've seen them: There's this great new offer from GM, which they've quaintly dubbed "Lock 'n' Roll." Suze strides toward the camera, informing us that if we step up and buy a new GM vehicle before November 30, 2004, and somehow manage to qualify for an "incredibly low interest rate," then GM will let us lock in that same rate for our next new GM vehicle in 4, 5, or 6 years, or whenever. This, Suze implies, is what the "smart money" does. And, further, such a deal is great "protection" for us and our families.
Of course there are print ads for this campaign, too. "What's better than 0% APR on your next new car?" they ask. "0% APR on your next one too."
Oh, please, don't make me hurl. Such an advertising program assumes, of course, that after driving (and repairing, and cursing, and repairing, and repairing some more) a GM vehicle for that amount of time, any Reasonably Intelligent Car Buyer would have even a single shred of desire left to purchase another one. That's a stretch.
I say that a mediocre new vehicle bought at a great interest rate is still a mediocre vehicle, and folks with half a lick of sense would be better advised to save their hard-earned money. Folks without that half-lick of sense, however, have my blessing to continue purchasing GM products unabated, safe in the thought that they are "buying American" (just buy a flag or two for your yard; it's cheaper and probably better-built) and protecting American jobs (as if the unions don't suffice). It is worth noting that these nearly-lickless people will need to keep their service department and/or roadside service number in their cellphones' memory dial. Failing that . . . well, OnStar will come in handy. If you have the bucks to pay for it. And if it's working.
But I digress. Flimsy GM products notwithstanding, I still must take issue with Suze on this murky idea of how "buying a new vehicle at a great interest rate" comprises an intelligent financial decision. I've read three of Orman's books, and after a quick search, the only references I could find for her thoughts on automobiles and auto loans were in her 1999 / 2002 book The Courage to Be Rich. From my edition, page 92:
|If you have taken out a car loan, assuming you need a car and can afford the payments, then your debt is worthwhile, because a car is a necessity for most of us, and to pay for it all at once is beyond the means of most of us.|
I don't entirely agree with that. Just because you have to have a car does not mean you must necessarily also have a car loan. Our culture today has the two things irreversibly linked, it seems, because that's "just how everybody does it." Where Suze is concerned, we can move a few pages over, and more details emerge:
|Now it's true that most of us need a car, but even a modest car is a big-ticket item, one of the biggest purchases we will make, not just in terms of today's dollars but also — especially — in terms of tomorrow's. I am asking you here not to let what you drive today drive your destiny tomorrow. I am asking you to value money over things. I am asking you to value money over your car.|
Value money over your car? Now that deserves applause and a few rounds of fireworks. Oh, but it gets weird again: Orman suggests that we think of our cars as investments. (I unequivocally state that this is a really stupid idea, and elaborate here. But I do understand what she's getting at.) She writes:
|An investment is something you nurture, care for, and expect to grow in value on your behalf in the years to come. Shouldn't something as important and expensive as a car, any car, be accorded that respect? Instead, we tend to treat our cars like junk, forget to change the oil, neglect to keep them clean so they won't rust . . .. What kind of a way is this to treat such a big investment? Is this showing respect for your money? You are not what you drive.|
I'm with you, Suze: We are not what we drive. Orman follows that up with a suggestion, and one that's worth pondering.
|Let's say the car you decide to buy costs $25,000. You make a down payment, take out a loan, and pay it off, at $350 a month, in 5 years. You will end up having spent $26,172 for your car. Now for the next 5 years, you keep that same car, and keep investing that payment money of $350 each month at, say, 8 percent. At the end of 10 years when you decide it's time to buy a new car, you will have nearly enough invested with which to buy a new car outright — over $25,000. From then on, taking this approach throughout your lifetime, you can have a new car every 10 years in effect for "free."|
Some of you kids should be getting antsy here, raising your hands and squinting at the chalkboard and wondering what in the heck is going on at the front of the room. Yes, given past and current circumstances, Ms. Orman's math is pretty darn shaky.
In order to get results in the neighborhood of hers, the car loan would have to be a 5-year term at 2.5% interest (not likely for most people), with a down payment of $5,200 (yeah, right) on a vehicle sale amount of roughly $25,000. Doing this would give us those delightful $350/month payments, and including interest, would tally up to a net vehicle cost of around $26,200. Not common terms in any way, shape, or form, but let's face it — we're lodged firmly in the realm of fiction here. After all, where else could you presuppose 8 percent annual returns on a 5-year savings / investment? (Besides, Bankrate.com tells me that today's average new-car, 5-year loan rate is 6.07 percent. Which is practically the same as 2.5 percent, right? Only if $384 monthly payments are the same as $350 monthly payments, and if a $28,206 total cost is the same as a $26,200 total cost.)
Still, Orman's "keep making payments to yourself" idea has merit. Except in the real world, of course, where (1) everyone is already upside-down in one or more current cars; (2) no one has anything near $5,200 for a down payment to make a 5-year, $25k, $350-per-month loan feasible; (3) any money freed up from car payments is just waiting to be directed to our 19 other obligations or liabilities; (4) any 2.5 percent auto loans are reserved for those folks with golden credit and tropical-island lush bank accounts; and (5) the number of people with the diamond-hard discipline to save $350 or more per month for 5 years toward their next vehicle could have their collective thirst quenched with a single six-pack of Pepsi.
But, if you are one of those three shining, savings-minded souls, I will note here some encouragement: Firstly, you deserve that Pepsi. Secondly, even if your 5 years of saving $350 per month earned you a more realistic 3 percent annually, you'd still have an impressive $22,911 at the end of the period. Drop that to a 2.2 percent annual return, and you'd tally up $22,387. Add that to whatever value you could get for your old car, trade-in or otherwise, and your next vehicle might not even require a loan. Of course, auto prices won't be tethered to a fence during that time. You can probably assume they'll be rising at least 2 or 3 percent per year, if not more, effectively negating most if not all of your investment return. (From 1984 to 2002, government-indexed transportation costs rose at an annual rate of 2.181 percent per year, according to my hasty calculations. Seems a tad low, but that's what the spreadsheet tells me.)
But back to the "Lock 'n' Roll" ads. Since when is "buying new" what the "smart money" does? And just how does a low-interest-rate lock-in offer anything more than tangential "protection" when depreciation lops off probably 20 to 30 percent of a new car's value the first year, and at least 50 to 60 percent of its value by the third year? (Here's a good article at USATODAY.com about this.) Like Dave Ramsey says — buy a new vehicle, and you might as well drive down the street throwing $100 bills out your window.
Suze Bar the Door — Millionaires Coming Through!
Pick up your trusty copy of The Millionaire Next Door [ reading list / book review ], flip to the chapter entitled "You Aren't What You Drive," and go for a refresher. No, really. It'll be fun.
The chapter contains a lot of interesting information about the vehicles driven by individuals with net worths of at least $1 million. Those with inherited wealth are generally excluded from the data; the theory is that the rest of these uber-rich folks got there on their own merits, and probably not by making stupid decisions with their money.
About 81 percent purchase their vehicles, rather than lease. In the book, the authors note that 57.7 percent of millionaires drove U.S.-made vehicles, 23.5 percent drove Japanese models, and 18.8 percent drove European models. Why the proliferation of American vehicles? "These people are not into status," the authors surmise. "They buy vehicles by the pound!" (According to them, a good number of American millionaires tend to purchase full-size autos with a low cost-per-pound.)
But what about buying new versus used?
"Among the affluent," they report, "63.4 percent prefer and buy new cars. The balance, 36.6 percent, have a very strong proclivity to purchase used vehicles only." So about 2 of every 3 millionaires buy new. Think this blows my argument for used vehicles out of the water? Not so fast, my friend.
The typical millionaire paid $24,800 for his most recent vehicle. Thirty percent spent $19,500 or less. Fully fifty percent never spent more than $29,000 in their entire lives for a motor vehicle. By contrast, the typical American buyer of a new motor vehicle (whose net worth is likely quite tame) paid more than $21,000 for his most recent vehicle. Now do some important math:
On average, the truly affluent folks are spending less than 2.4 percent of their net worth for their vehicles. The average American new-car buyer, on the other hand, is spending much more of their net worth, percentage-wise.
Using the Federal Reserve's 2001 Survey of Consumer Finances, we find that as of October, 2002, American consumers' mean (average) net worth was estimated at $341,300. Their median net worth (i.e., half the surveyed group were above this number, and half below), however, was only $80,700. Look again at the difference this makes in the "important math" chart above. There is a monstrous difference in dumping 2 percent of your net worth into a severely-depreciating item, versus dumping 26 percent of your net worth into one.
So what does all this boil down to? Yes, there are people who can, should, and do consider buying new vehicles. They are the "smart money" only because they are the ones who can make the purchase — and take the subsequent depreciation hit — without it making so much as a scratch in their net worth.
Just a guess, but somehow I bet that rules out most of Suze Orman's primetime commercial viewers.
The Kind of Math I Love
Because I am sick enough to do things like this, I built an Excel spreadsheet to show me how much it would cost (estimation, obviously) if someone were to purchase a new car every five years ... for the next 25 years. Here are my assumptions:
1) The first (and only) down payment is $1,000. Five-year loans are assumed.
2) When the loan is retired, the old vehicle is traded in (at residual value) on the new one.
3) The first new vehicle has a purchase price of $25,000.
4) Auto purchase and repair prices will rise 2 percent annually.
5) Each vehicle will retain 31 percent residual value at the end of five years. (If we're talking GM vehicles, I'm likely being too generous here.)
6) Vehicles will have 3-year warranties. Repairs for years 4 and 5 are estimated to total $1,750 and are also adjusted for inflation in subsequent years.
7) No allowance is made for "buying up;" e.g., purchasing higher-end, higher-price vehicles in the future. (Although plugging this into the spreadsheet would be easy.)
Lacking a dependable crystal ball, I mostly guessed at loan interest rates, auto and repair inflation rates, and repair dollars. Precise calculations? No, but at least they get things moving. I set interest rates at 3%, 3% (getting that "Lock 'n' Roll" protection), 7%, 9%, and 8%, respectively. You can get the spreadsheet and see all the specifics (and play around with it if you want). You can also view a chart here.
At the end of the 25-year period, our Repeat Five-Year New Car Buyer will have spent approximately $172,224. For that, at the end of that period, he will have the satisfaction of knowing that he drove some pretty nice cars for the last 25 years of his life, and that he did his part to keep the auto manufacturers' plants open. But to show for it, after 25 years and at least five visits to the dealership finance office, he has nothing but a single 5-year-old vehicle, worth maybe $10,121. So account for the residual value of that last car, and the real cumulative cost would be $162,103. Or $6,484 per year. Or $541 per month.
Hope he enjoyed that new-car-smell . . . times five.
And Finally . . .
Just for funsies, I phoned the comptroller of my dealership's accounting department. "Judging from all the car deals that hit your desk," I asked, "what percentage of car buyers here are upside down in their current vehicles, and end up rolling that remaining loan balance into the new car loan from us?"
"About eighty," she replied.
See? It's apparent that Americans love their vehicles only to the degree that they can dump piles of cash into Chase Automotive Finance and GMAC payment plans.
And now we can sleep more soundly knowing that we have luminaries like Suze Orman urging us on.
November 20, 2004
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