Banking on Success: The Microfinance Movement

Did you know that over 1.7 billion people worldwide do not have a bank account with a financial institution? (World Bank Global Findex Database 2017) The vast majority of these unbanked people live in the developing world, and overwhelming evidence demonstrates the positive correlation between financial inclusion and development. Without access to financial services, unemployed or low-income people are far worse off. Cash can be hard to manage, loans from family, friends, and loan sharks can come at a high cost, and the ability to manage financial emergencies can be severely compromised.

Microfinance addresses this basic unmet need. The goal of microfinance is to provide people who are typically excluded from the traditional banking system access to it, in the form of savings accounts, individual and group loans, agricultural loans that can be paid back when the harvest comes in, insurance, and education, among other services. These small working capital loans are also known as microloans or microcredit. Microloans do not require collateral, and can be distributed in small amounts and paid back over long terms. Like conventional lenders, microfinance lenders charge an interest rate and establish a repayment schedule. However, there is no profit motive.

What is the global reach of the microfinance movement? In 2018 $124 billion was distributed to 140 million borrowers, of which 80% were women and 65% were rural borrowers, and it is growing every year. (Microfinance Barometer 2019) With cash infusions from microfinance programs the data shows that borrowers are better able to feed their families, send their children to school, improve their homes, reinvest in their businesses, leave farming and become entrepreneurs, and put money aside for savings goals or to serve as an emergency fund.

The impact of technological innovation in this space cannot be overstated. With increasing ownership of cell phones and access to the internet in the developing world, the fast-growing fintech industry is better able to deliver financial platforms to rural populations. These software applications remove old obstacles and create new efficiencies. For example, the ability to make digital payments or send money transfers can eliminate travel time and cost, administrative work, and also reduce corruption.

Above and beyond financial inclusion, microfinance organizations seek to promote self-sufficiency and economic justice for underserved populations. In a global pandemic our struggles are amplified and this message resonates more than ever. To find out more, check out the crowdfunding site Kiva (I have no affiliation) to see how one of the largest and most well-regarded microfinance organizations embodies this spirit.

Quarantine Dispatch #1

It is a time of tremendous contradiction in the economic world. Stocks and bonds are moving more in tandem than ever. Unemployment is at a high not seen since the Great Depression yet the market is only in correction territory, which means a drop of 10% that happens on average every 12-24 months. The level of personal savings has surged and personal income has increased, but personal spending has fallen drastically. What can account for these disconnects?

Another way to put it is, why on earth is the market doing so well when the economic forecast is so dismal? It could be that health data has leveled off and the vaccine narrative has accelerated so psychological panic has subsided. It could be the short-term effect of trillions of stimulus dollars the Federal Reserve is pumping into the economy to shore up liquidity. It could be that today’s stock market prices accurately reflect the post-Covid economic landscape. It could be the unflagging optimism that is the warp and woof of human nature.

The federal government acted swiftly and massively in their monetary and fiscal stimulus efforts and it made a difference. For now deflation is winning over inflation. The supply chain has not seized up. The Federal Reserve has indicated their willingness to provide more stimulus and Congress is currently negotiating the HEROES Act, which may include more help for state, local, and tribal governments, an extension of unemployment benefits, and more household payments. There seems to be no end in sight for relief as long as the need persists.

We know that the stock market discounts future earnings to yield today’s prices, which means that the recovery is already priced in. The Efficient Markets Hypothesis (EMH), a cornerstone of modern financial theory, states that at any given time stock market prices reflect all available information. The EMH rules out the possibility that investors can time the market or use fundamental or technical analysis to identify securities that are over- or undervalued. However, we know that EMH is inadequate if we consider Warren Buffet’s outperformance of the market over long periods of time.

Investor optimism makes things even rosier. Behavioral finance theory, which addresses the psychology of investors and how their cognitive biases affect stock market outcomes, could help to explain the gap between perception (the stock market) and reality (the economy). Behavioral finance states that investors are not rational or self-controlled and as such make emotional decisions that defy economic theory. We could be seeing hints of Alan Greenspan’s “irrational exuberance” here, although we are far from a speculative bubble.

What happens next? No one has a crystal ball and the best we can do is make educated guesses. Many financial experts predict that the stock market bottom we saw on March 23 will be retested due to increased mobility and a consequent second wave of infections. But that second wave has not yet come. With restrictions lifted across the county, people have been slow to return to past habits. We have not seen appreciable increases in TSA checkpoint travelers, hotel occupancy rates, or dine-in restaurant attendance in locations that have reopened. It is possible – and I am hopeful – that the increased mobility will be mitigated by a beneficial combination of warmer weather, differences in individual susceptibility to infection, social distancing, hygiene practices, and widespread testing and follow up.

Life Insurance for Lollygaggers

Life insurance is not a topic that the vast majority of people want to think about, but it’s an essential piece of the financial planning puzzle. Purchasing a life insurance policy can significantly ease the way for your heirs. While there are umpteen types of life insurance products on the market, there is generally only one kind that I advocate, where you are not being sold something with bells and whistles that you don’t need, and that is a term life insurance policy.

What is term life insurance? Term life insurance is exactly what it sounds like, a policy that you purchase for a certain period of time, commonly 10, 15, 20 or 30 years. There are several types of term – for example where the premiums start low but increase annually (annual renewable term) or where you pay higher premiums for the chance of outliving your policy and being refunded some of the premiums at the end of the term (return premium term). But the type that I’ve found to be most appropriate for most people is level premium term, where the premiums are fixed over the life of the policy. When any of these terms expire, the policyholder can restart coverage at a higher rate or give up coverage altogether. In essence, you are renting a life insurance policy instead of owning it, meaning there are no accumulated cash benefits that need to be paid out at the end of the term.

Life insurance policies that do have the benefit of a guaranteed payout are called permanent life insurance, and this is like being a homeowner instead of a renter. Permanent life insurance comes in several basic types, whole life, universal life, and variable universal life, and all build up a cash value and last for your lifetime.

On first glance permanent life insurance sure sounds better than term life insurance. Why rent when you can build equity as an owner? Well, permanent life insurance definitely has a place in complex estate plans or charitable giving strategies, but for most of the population, term is the best option. This is because term is by far the least expensive option as you get the most death benefit per dollar paid. While term does not bank your cash in an investment account, the money that you are not spending on more expensive permanent life insurance premiums can be invested more competitively, which means you should expect higher returns. Furthermore, in most cases I think of life insurance as an income replacement strategy, and so I advise clients to match their term policies as closely as possible to their retirement dates. Once their income turns off, so does their life insurance policy. As that point, clients should have pension, portfolio, or other supplemental income to provide for their needs comfortably in retirement.

For people with children and/or mortgages, term life insurance is a necessary consideration. To throw out some ballpark numbers – if you are in your late 30s or early 40s you should be able to get a policy for between $10-80 a month that will give you between $100,000 and $1 million in coverage. That’s a small price to pay for a big relief should the need arise.