Fixed Expense vs Variable Expense

Budgeting is the best way to get a better handle on where your money is going — which can help you get a better handle on where you’d like to see your money go.

But before you dive into the nitty-gritty of each individual line item on your ledger, you first need to understand the difference between fixed expenses and variable expenses.

As their name suggests, fixed expenses are those that are fixed, or unchanging, each month, while variable expenses are the ones with which you can expect a little more wiggle room. However, it’s possible to make cuts on items in both the fixed and variable expense category to save money toward bigger financial goals, whether that’s an epic vacation or your eventual retirement.

Let’s take a closer look.

What Is a Fixed Expense?

Fixed expenses are those costs that you pay in the same amount each month — items like your rent or mortgage payment, insurance premiums, and your gym membership. It’s all the stuff whose amounts you know ahead of time, and which don’t change.

Fixed expenses tend to make up a large percentage of a monthly budget since housing costs, typically the largest part of a household budget, are generally fixed expenses. This means that fixed expenses present a great opportunity for saving large amounts of money on a recurring basis if you can find ways to reduce their costs, though cutting costs on fixed expenses may require bigger life changes, like moving to a different apartment — or even a different city.

Keep in mind, too, that not all fixed expenses are necessities — or big budget line items. For example, an online TV streaming service subscription, which is withdrawn in the same amount every month, is a fixed expense, but it’s also a want as opposed to a need. Subscription services can seem affordable until they start accumulating and perhaps become unaffordable.

Recommended: Are Monthly Subscriptions Ruining Your Budget?

What Is a Variable Expense?

Variable expenses, on the other hand, are those whose amounts can vary each month, depending on factors like your personal choices and behaviors as well as external circumstances like the weather.
For example, in areas with cold winters, electricity or gas bills are likely to increase during the winter months because it takes more energy to keep a house comfortably warm. Grocery costs are also variable expenses since the amount you spend on groceries can vary considerably depending on what kind of items you purchase and how much you eat.

You’ll notice, though, that both of these examples of variable costs are still necessary expenses — basic utility costs and food. The amount of money you spend on other nonessential line items, like fashion or restaurant meals, is also a variable expense. In either case, variable simply means that it’s an expense that fluctuates on a month-to-month basis, as opposed to a fixed-cost bill you expect to see in the same amount each month.

To review:

•   Fixed expenses are those that cost the same amount each month, like rent or mortgage payments, insurance premiums, and subscription services.

•   Variable expenses are those that fluctuate on a month-to-month basis, like groceries, utilities, restaurant meals, and movie theater tickets.

•   Both fixed and variable utilities can be either wants or needs — you can have fixed-expense wants, like a gym membership, and variable-expense needs, like groceries.

When budgeting, it’s possible to make cuts on both fixed and variable expenses.

Recommended: Grocery Shopping on a Budget

Benefits of Saving Money on Fixed Expenses

If you’re trying to find ways to stash some cash, finding places in your budget to make cuts is a big key. And while you can make cuts on both fixed and variable expenses, lowering your fixed expenses can pack a hefty punch, since these tend to be big line items — and since the savings automatically replicate themselves each month when that bill comes due again. (Even businesses calculate the ratio of their fixed expenses to their variable expense, for this reason, yielding a measure known as operating leverage.)

Think about it this way: if you quit your morning latte habit (a variable expense), you might save a grand total of $150 over the course of a month — not too shabby, considering its just coffee. But if you recruit a roommate or move to a less trendy neighborhood, you might slash your rent (a fixed expense) in half. Those are big savings, and savings you don’t have to think about once you’ve made the adjustment: they just automatically rack up each month.

Other ways to save money on your fixed expenses include refinancing your car (or other debt) to see if you can qualify for a lower payment… or foregoing a car entirely in favor of a bicycle if your commute allows it. Can you pare down on those multiple streaming subscriptions or hit the road for a run instead of patronizing a gym? Even small savings can add up over time when they’re consistent and effort-free — it’s like automatic savings.

Of course, orchestrating it in the first place does take effort (and sometimes considerable effort, at that — pretty much no one names moving as their favorite activity). The benefits you might reap thereafter can make it all worthwhile, though.

Saving Money on Variable Expenses

Of course, as valuable as it is to make cuts to fixed expenses, saving money on variable expenses is still useful — and depending on your habits, it could be fairly easy to make significant slashes. For example, by adjusting your grocery shopping behaviors and aiming at fresh, bulk ingredients over-packaged convenience foods, you might decrease your monthly food bill. You could even get really serious and spend a few hours each weekend scoping out the weekly flyer for sales.

If you have a spendy habit like eating out regularly or shopping for clothes frequently, it can also be possible to find places to make cuts in your variable expenses. You can also find frugal alternatives for your favorite spendy activities, whether that means DIYing your biweekly manicure to learning to whip up that gourmet pizza at home. (Or maybe you’ll find a way to save enough on fixed expenses that you won’t have to worry as much about these habits!)

The Takeaway

Fixed expenses are those costs that are in the same amount each month, whereas variable expenses can vary. Both can be trimmed if you’re trying to save money in your budget, but cutting from fixed expenses can yield bigger savings for less ongoing effort.

Great budgeting starts with a great money management platform — and a SoFi Money® cash management account can give you a bird’s-eye view that puts everything into perspective. You’ll also have access to the Vaults feature, which helps you set aside money for specific savings purposes, no matter which goals are the most important to you, all in one account.

Check out SoFi Money and how it can help you manage your financial goals.

Photo credit: iStock/LaylaBird


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Source: sofi.com

What Our Dream Job Winner Learned from a Month of No Spending

Robert Bruce

Updated November 16, 2021

This is a photo of the Dream Job Winner Brittany Cantu. The quote says,

Brittany Cantu saved $621 during the Dream Job challenge. Photo courtesy of Brittany Cantu

Brittany Cantu was in shock when she found out she was chosen for The Penny Hoarder’s “Dream Job” challenge in October.

To earn her $5,000 paycheck, Cantu had to kick one of her most persistent spending habits and save money for 30 days — all in an effort to find new and healthier ways to manage her money.

Cantu was up for the job: She saved an impressive $621 simply by not buying stuff online during the course of the month.

As a registered nurse, wife, and mother of three, Cantu stays busy. In her free time, she had built a habit of online spending.

“I definitely have a shopping problem,” she said. “I use a deal website that gives me deals at places like Target and Amazon. It’s easy to overspend because my 10-month-old son doesn’t like to nap by himself so I get really bored when he’s sleeping on me.”

Her growing kids also factored into her online buying habit. “The kids grow out of their clothes constantly, so kids’ clothes is a huge item that we usually need to buy,” she said. And, shoes, don’t forget about the shoes. “Shoes are a big one for me. I have way too many shoes. I just like shoes.”

She was excited about the challenge because of the progress her family wanted to make toward their financial goals. “We want to buy a house in the next year or two, so it really helped us to get going on that a little quicker,” she said.

Not only will her newfound habit of spending less help toward that goal, but her $5,000 paycheck will as well. “We’ll probably use that toward a down payment,” she added.

She said the month-long experience helped her be more content with what her family already has — and actually provided an opportunity to make even more cash by selling some of that stuff.

I definitely felt like I built more of a habit of saving, rather than spending.

“I still browsed a little bit to see if there was anything I really needed, but honestly we have everything we need,” she said. “So I started going through some old stuff that we have and getting rid of it and making money that way too.”

She sold $200 worth of stuff during the month. Add that to the $621 she saved and that’s an $821 turnaround. Pretty impressive!

Did she find the challenge to stop online spending difficult?

“It definitely feels rewarding when you buy stuff and you get packages every other day. It was kind of hard the first week or two because I had such a habit of spending,” she said. “But it got easier as I went. I was actually surprised that it got much easier. I definitely felt like I built more of a habit of saving, rather than spending.”

She says she only gave in once because of a deal she couldn’t pass up. “I saw a sale on snow boots, and the kids definitely needed snow boots this year.”

The key, Cantu learned, is to remember how small purchases add up over time.

“Most of my purchases were around $30. That doesn’t seem like a lot, but when you keep buying that $30 stuff it becomes hundreds to thousands of dollars,” she said. “At the end of the month, I’m thinking, ‘Where did this money go?’ And then we don’t even use these things that we’re buying that often. So it’s definitely a habit you can break.”

She had a great experience meeting The Penny Hoarder Dream Job challenge, and she’s learned a lot over the course of the month.

“I was happy to be picked and challenged, and I think I really needed it. It was eye opening.”

What spending habit could you give up for a month to make progress toward your financial goals?

Robert Bruce is a Senior Writer for The Penny Hoarder.

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Source: thepennyhoarder.com

The Monte Carlo Simulation & Its Use in Finance

A Monte Carlo simulation is a mathematical technique used by investors and others to estimate the probability of different outcomes given a situation where multiple variables may come into play.

Monte Carlo simulations are used in such a wide range of industries — e.g., physics, engineering, meteorology, finance, and more — that the term doesn’t refer to a single formula, but rather a type of multivariate modeling technique. Multivariate modeling is a statistical method that uses multiple variables to forecast outcomes. A Monte Carlo simulation is an example of this type of calculation, which provides a range of potential outcomes using a probability distribution.

Keep reading to learn more about the Monte Carlo method and how a Monte Carlo analysis can be used in investing and portfolio management.

What Is Monte Carlo Simulation?

Applying mathematics to investment or business scenarios is difficult precisely because there are so many random variables involved in any single decision or any single investment or portfolio of investments. That’s why a Monte Carlo analysis can be more informative compared with predictive models that use fixed inputs.

A Monte Carlo simulation calculates a probability distribution for any variable that has inherent uncertainty. It then recalculates the results thousands of times over, each time using a different set of random numbers pertaining to each variable, to produce a vast array of outcomes that are then averaged together. In this way, a Monte Carlo analysis enables researchers from many industries to run multiple trials, and thus to define the potential outcome or risk of an event or a decision.

The ability to apply mathematics to situations where many elements are probable, and then rank the likelihood of possible outcomes in order to gauge the potential for risk, is a chief advantage of Monte Carlo simulations. Money managers might use a Monte Carlo analysis to estimate risk levels for different investments when constructing a portfolio. Corporate finance managers might use a Monte Carlo simulation to assess the impact of variables like future sales, commodities prices, interest rates, currency fluctuations, and so on. Brokers might use a Monte Carlo analysis to calculate the risks of stock options.

Monte Carlo Simulation History

Using simulations to solve problems dates back to the 19th century or even earlier, when simulations were an experimental way to test theories, analyze data, or support scientific intuition using statistics. But these simulations typically dealt with established deterministic problems. A modern Monte Carlo analysis, however, inverts that structure by using probabilities to solve the problem.

One of the first known uses of a modern Monte Carlo simulation dates back to the 1930s, when physicist Enrico Fermi experimented with an early form of the method to understand the diffusion of neutrons.

Physicists Stanislaw Ulam and John von Neumann are credited with developing and refining the current Monte Carlo method while working at the Los Alamos National Laboratory on nuclear weapons in the 1940s. Of course the technique needed a code name, and Monte Carlo was chosen because the element of chance also drives the games at a casino (the Monte Carlo region of Monaco is renowned for its gambling).

Soon the simulation method gained traction in the fields of physics, chemistry, and operations research, thanks to its adoption by the Rand Corporation and the U.S. Air Force. From there, it spread to many of the natural sciences, and eventually found its way to finance.

Monte Carlo Simulation Method

The Monte Carlo simulation works by constructing a model of possible outcomes based on an estimated range of possible conditions. It does this by creating a curve of different variables for each unknown variable, and inserting random numbers between the minimum and maximum value for each variable, and running the calculation over and over again. A Monte Carlo experiment will run the calculation thousands upon thousands of times. Along the way, it will produce a large number of possible outcomes.

But even for a simple investment, there are a host of factors that will affect its outcome. There are interest rates, regulations, market swings, as well as factors innate to that investment, such as the sales and revenue of the underlying business, or its competitive landscape, or disruptive technology, and so on. And as an investor seeks to peer further into the future, more possible variables emerge. Using a Monte Carlo simulation to understand those risks requires using a growing number of inputs as the time horizon grows longer.

After an investor runs a Monte Carlo simulation, the calculation will deliver a range of possible outcomes, with a probability score assigned to each outcome. By weighing the probability scores of different outcomes, an investor can proceed with a better sense of the risks and possible rewards of a given investment decision.

Estimating Risk Using the Monte Carlo Method

Using a Monte Carlo simulation is a complicated process that requires a background in mathematics, though some investors have created Monte-Carlo-like models using Excel or a similar spreadsheet program. Some of those homespun programs can be used to try to project possible price trajectories of a given asset.

In Monte Carlo fashion, the user will repeatedly run the equation an arbitrary number of times, to see how often each outcome occurs. The frequency of each outcome will reflect the likelihood of each outcome. The results will most likely form a bell curve, with the most likely result in the middle of the curve. But as with any bell curve, those results also indicate that there is an equal chance that the actual result will be either higher or lower than the number in the middle.

But a Monte Carlo simulation is only as good as the data that’s programmed into it. No matter how well the simulation is run, its predictive powers can easily be undone by factors that haven’t been added into the equation. For example, when using a Monte Carlo simulation to decide whether or not to buy a given stock, the model could seem to deliver a clear picture of the risks and rewards of the investment.

In that example, the problems arise if the programmer or investor leaves out one single factor, such as macro trends, the effectiveness of company leadership, cyclical factors, political changes, and so on. There’s a chance that factor could be the one that completely subverts the simulation. And those variables are potentially without limit.

Who Uses Monte Carlo Simulations and How

Nonetheless, large institutional investors might use Monte Carlo simulations as a tool in their projections and decision making. And its use for investors isn’t limited to hedge fund managers and spreadsheet wizards. There are even online Monte Carlo simulators to help people save for retirement.

Those tools are designed for the average investor to input some basic information like their savings, and years until retirement to help them understand the likelihood that they will be able to reach their financial goals, and whether they will have enough income in retirement. Those calculators use a generic set of parameters for their calculations, with inputs such as interest rates, and a generic portfolio allocation.

The Takeaway

A Monte Carlo simulation is a mathematical technique used to estimate possible outcomes of an uncertain event, such as the movement of securities.

The basis of this analysis is that the probability of different outcomes cannot be determined because random variables cannot be predicted. Therefore, a Monte Carlo simulation will constantly repeat random samples to achieve certain results that can be used to gauge the likelihood of various outcomes, and therefore different risk levels associated with different choices.

So although investing always involves risk and many unknown factors, using a calculator or tool based on the Monte Carlo method can help provide a more sophisticated use of probabilities to make investment choices. You could get started investing today by opening a brokerage account with the SoFi Invest® investment app. SoFi Invest offers an active investing solution that allows you to trade stocks, ETFs, and cryptocurrencies without paying SoFi management fees.

Photo credit: iStock/PeopleImages


SoFi Invest®
The information provided is not meant to provide investment or financial advice. Investment decisions should be based on an individual’s specific financial needs, goals and risk profile. SoFi can’t guarantee future financial performance. Advisory services offered through SoFi Wealth, LLC. SoFi Securities, LLC, member FINRA / SIPC . SoFi Invest refers to the three investment and trading platforms operated by Social Finance, Inc. and its affiliates (described below). Individual customer accounts may be subject to the terms applicable to one or more of the platforms below.
1) Automated Investing—The Automated Investing platform is owned by SoFi Wealth LLC, an SEC Registered Investment Advisor (“Sofi Wealth“). Brokerage services are provided to SoFi Wealth LLC by SoFi Securities LLC, an affiliated SEC registered broker dealer and member FINRA/SIPC, (“Sofi Securities).

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For additional disclosures related to the SoFi Invest platforms described above, including state licensure of Sofi Digital Assets, LLC, please visit www.sofi.com/legal.
Neither the Investment Advisor Representatives of SoFi Wealth, nor the Registered Representatives of SoFi Securities are compensated for the sale of any product or service sold through any SoFi Invest platform. Information related to lending products contained herein should not be construed as an offer or pre-qualification for any loan product offered by SoFi Lending Corp and/or its affiliates.
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Crypto: Bitcoin and other cryptocurrencies aren’t endorsed or guaranteed by any government, are volatile, and involve a high degree of risk. Consumer protection and securities laws don’t regulate cryptocurrencies to the same degree as traditional brokerage and investment products. Research and knowledge are essential prerequisites before engaging with any cryptocurrency. US regulators, including FINRA , the SEC , and the CFPB , have issued public advisories concerning digital asset risk. Cryptocurrency purchases should not be made with funds drawn from financial products including student loans, personal loans, mortgage refinancing, savings, retirement funds or traditional investments. Limitations apply to trading certain crypto assets and may not be available to residents of all states.
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Source: sofi.com

What Are Corporate Bonds?

Bonds can make up an important part of a diversified portfolio, but you can find diversity within bonds as well. Corporate bonds are one type of debt security that may offer higher returns than government bonds, but they may also come with higher risk.

What Is a Corporate Bond?

A bond is a debt security that functions much like an IOU. Governments and companies issue these obligations as a way to raise capital. For example, a state might issue bonds to build a new bridge, and the U.S. Treasury issues Treasyry Bills (T-Bills) to cover its expenses.

Corporations also sell bonds to raise capital. They might use the money raised through the financial securities to reinvest in their business, pay down debts, or even buy other companies.

When investors buy corporate bonds, they are loaning a company money for a set period of time. In exchange, the company agrees to pay interest throughout the agreed upon period. When this time is up and the bond reaches “maturity” the issuer will return the principal. If a company can’t make interest payments or return the principal at the end of the period, they default on the bond.

How Do Corporate Bonds Work?

Bonds are a huge part of the broader securities markets. U.S. fixed income markets comprise nearly 40% of global securities. To understand bond market and how bonds work, you need to know a few important terms:

•   Issuer: The entity using bonds to raise money.

•   Par Value: Also known as the nominal or face value of the bond or the principal, the par value is the amount the bond issuers promise to repay when the bond reaches maturity. This amount does not fluctuate over the life of the bond.

•   Price: A bond’s price is the amount an investor pays for a bond in the market. This amount can change based on market factors.

•   Coupon rate: Also known as coupon yield, the coupon rate is the annual interest rate paid by the bond issuers based on the bond’s par value.

•   Maturity: The date at which a bond’s issuer must repay the original bond value to the bondholder.

Benefits and Drawbacks of Corporate Bonds

While corporate bonds can add a lot of benefits to a portfolio, before investing it’s important to consider the drawbacks, as well.

Benefits Drawbacks
Bonds, including corporate bonds, can be an important part of a diversified portfolio. Bonds may offer lower returns than other securities, such as stocks.
Many investors consider corporate bonds as a riskier investment than government bonds, such as U.S. Treasuries. As a result, they tend to offer higher interest rates. If the issuer cannot make interest payments or repay the par value when the bond reaches maturity, the bond will go into default. If an issuer goes bankrupt, bondholders may have some claim on the company’s assets and be able to recoup some of their losses.
Bonds are relatively liquid, meaning it is easy to buy and sell them on the market. Some bonds are “callable”, which means issuers can choose to pay them back early. When that happens, bond holders won’t earn as much interest and will have to find a new place to reinvest.

Types of Corporate Bonds

There are three main ways to categorize corporate bonds:

Duration

This category reflects the bond’s maturity, which may range from one to 30 years. There are three maturity lengths:

•   Short-term: Maturity of less than three years.

•   Medium-term: Maturity of four to 10 years.

•   Long-term: Maturity of more than 10 years. Longer-term bonds typically offer the highest interest rates.

Risk

Every once in a while, a corporation defaults its bonds. The likeliness of default impacts a company’s creditworthiness and investors should consider it before purchasing a bond. Bond ratings, assigned by credit rating agencies, can help investors understand this risk.

Bonds can be rated as:

•   Investment grade: Companies and bonds rated investment grade are unlikely to default. High-rated corporate bonds typically pay a slightly higher rate than government securities.

•   Non-investment grade: Non-investment grade bonds are more likely to default. Because they are riskier, non-investment grade bonds tend to offer a higher interest rate and are often known as high-yield bonds.

Interest Payment

Investors may also categorize bonds based on the type of interest rate they offer.

•   Fixed rate: With a fixed rate bond, the coupon rate stays the same over the life of the bond.

•   Floating rate: Bonds that offer floating rates readjust interest rates periodically, such as every six months. The floating rate depends on market interest rates.

•   Zero-coupon bonds: These bonds have no interest rate. Instead, when a bond reaches maturity, the issuer makes a single payment that’s higher than purchase price.

•   Convertible bonds: Convertible bonds act like regular bonds with a coupon payment and a promise to repay the principal. However, they also give bondholders the option to convert their bonds into company stock according to a given ratio.

Difference Between Corporate Bonds and Stocks

Bonds differ from other types of investments in a number of important ways. When investors buy stocks, they are buying ownership shares in the company. Share prices may fluctuate depending on the markets and the health of the company. If the company does well, the stock price may rise, and the investor can sell their shares at a profit. Additionally, some companies share profits with their shareholders in the form of dividends.

When an investor purchases a corporate bond, on the other hand, they do not own a piece of the company. The bondholder is only entitled to interest and the principal. Those amounts don’t change based on company profits or the stock price. When a company goes bankrupt, bondholders have priority over stockholders when it comes to claims on the issuer’s assets.

How to Buy Corporate Bonds

Investors can buy individual bonds through brokerage firms or banks. Corporations typically issue them in increments of $1,000. Much like investing in an initial public offering, it can be tricky for retail investors to get in on newly issued bonds. Investors may need a relationship with the organization that’s managing the offering. However, investors can also purchase individual bonds on the secondary market.

Another way to gain access to the bond market is by purchasing bond funds, including mutual funds and exchange-traded funds that invest in bonds. These funds can be a good way to diversify a bond portfolio as they typically hold a diverse basket of bonds that tracks a bond index or a certain sector.

Investors can purchase bonds through a traditional brokerage account or an Individual Retirement Account. They may be able to purchase bond funds through their 401(k), and possibly individual bonds through a brokerage window within the 401(k).

Recommended: IRA vs 401(k) – What is the Difference?

More sophisticated traders may choose to invest in bond options, which allow them to bet on the direction in which a bond price may go without actually purchasing the bond itself.

The Takeaway

Before buying bonds, it’s important that individuals consider how they’ll fit in with their financial goals, risk tolerance, and time horizon. For example, if you’re working toward retirement and have decades to save, you may want a portfolio that’s mostly stocks since stocks tend to outperform bonds in the long run. If you’re close to your goal — or have a low appetite for risk — you may want to stick with bonds.

Stocks are also typically more volatile, but those with a long time horizon may have ample time to ride out the ups and downs of the market. If you’re interested in using stocks to build your portfolio, a good way to start is by opening a brokerage account on the SoFi Invest® investment app.

Photo credit: iStock/Prostock-Studio


SoFi Invest®
The information provided is not meant to provide investment or financial advice. Investment decisions should be based on an individual’s specific financial needs, goals and risk profile. SoFi can’t guarantee future financial performance. Advisory services offered through SoFi Wealth, LLC. SoFi Securities, LLC, member FINRA / SIPC . SoFi Invest refers to the three investment and trading platforms operated by Social Finance, Inc. and its affiliates (described below). Individual customer accounts may be subject to the terms applicable to one or more of the platforms below.
1) Automated Investing—The Automated Investing platform is owned by SoFi Wealth LLC, an SEC Registered Investment Advisor (“Sofi Wealth“). Brokerage services are provided to SoFi Wealth LLC by SoFi Securities LLC, an affiliated SEC registered broker dealer and member FINRA/SIPC, (“Sofi Securities).

2) Active Investing—The Active Investing platform is owned by SoFi Securities LLC. Clearing and custody of all securities are provided by APEX Clearing Corporation.

3) Cryptocurrency is offered by SoFi Digital Assets, LLC, a FinCEN registered Money Service Business.

For additional disclosures related to the SoFi Invest platforms described above, including state licensure of Sofi Digital Assets, LLC, please visit www.sofi.com/legal.
Neither the Investment Advisor Representatives of SoFi Wealth, nor the Registered Representatives of SoFi Securities are compensated for the sale of any product or service sold through any SoFi Invest platform. Information related to lending products contained herein should not be construed as an offer or pre-qualification for any loan product offered by SoFi Lending Corp and/or its affiliates.
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Source: sofi.com