Perspectives

In Financial Defense of Pumpkin Spice Latte

Prepared by Jonathan Millican

It has been almost fifteen years since Starbucks introduced the Pumpkin Spice Latte, a drink which caffeine addicts and coffee lovers embrace in earnest reverence if not, at times, loyal fanaticism. It has its own Twitter account with 115,000 followers, and, proving imitation is the highest form of flattery, virtually every major restaurant and coffee manufacturer now produces their own version of the flavor. The Pumpkin Spice Latte (or PSL as diehards know it) has become as symbolic of autumn as the calendar turning to October and the search for decorative gourds to adorn our homes.

However, lattes of all flavors have seemingly been under fire since roughly the time of the introduction of the famed fall drink in late 2003. It was then, in the early 2000’s, that David Bach (bestselling author of various Finish Rich books and The Automatic Millionaire) coined a phrase that financial planners continue to be questioned about to this day. The Latte Factor®, as Bach explains:

is based on the simple idea that all you need to do to finish rich is to look at the small things you spend your money on every day and see whether you could redirect that spending to yourself. Putting aside as little as a few dollars a day for your future rather than spending it on little purchases such as lattes, bottled water, fast food, cigarettes, magazines and so on, can really make a difference between accumulating wealth and living paycheck to paycheck.

The argument, which is compelling on the surface, is bolstered by this calculator which shows spending $5 every day on a latte adds up (over 30 years) to over $54,000! Factor in the lost potential growth of having invested those dollars and the true cost soars to six figures or more ($150,000+ utilizing a 6% annual growth rate).

Over the past few years, financial nerds like myself, fueled by our own PSL and armed with pocket protectors and Excel spreadsheets, have aimed to offer a counterargument to this vicious attack on the most popular seasonal beverage of all time. And, indeed, the counterargument, which I call The Lotta Factor, is equally as strong as its adversary.

The Lotta Factor focuses, as its name implies, not on small purchases but on the largest expenditures consumers make over the course of their lifetimes, those that cost…wait for it…a “lotta” money. To determine if a relatively small reduction in those costs could have a material benefit to you over many years, the two categories to scrutinize are housing and transportation as the Bureau of Labor Statistics data shows these two areas comprise almost exactly 50% of the average consumer’s spending. A minimal reduction in the cost of these large purchases (primary residence, second home, vehicles) can make a difference while still allowing us the ability to enjoy the smaller things in life.

As you will see in this case study, The Lotta Factor serves us best as a comparison point to The Latte Factor®:

Rick purchases a latte on his way to the office each morning, five days per week for all 52 weeks per year. That $5 daily cost adds up to $1,300 annually and, when Rick retires in 30 years, he will have spent $39,000 on lattes. If we assume he had instead drunk his free office coffee over this time and invested the $1,300 per year in a diversified portfolio earning a 6% annual return, he would have retired with an investment account valued at $108,000+.

However, when reviewing his spending Rick finds other areas of opportunity to reduce expenses and increase his savings. Instead of replacing his and his wife’s vehicles every five years he decides to keep each vehicle for one more. Rick normally finances the car purchases over 5 years, meaning he has one year without car payments between purchases. During year 6 he redirects the monthly car payments ($1,000+ total, or $12,000 annually, for he and his wife) to that diversified portfolio earning a 6% annual return, resulting in the investment account growing to over $154,000 (exceeding The Latte Factor by over $36,000, or 7,000 lattes!).

As another alternative, Rick examines the strategy of reducing the cost of his upcoming house purchase by $20,000. Doing so has three benefits, (1) it reduces the amount of interest he pays over the course of a 30 year mortgage and, (2) allows him to invest the monthly payment savings in that diversified portfolio earning a 6% annual return and, (3) reduces the amount of his real estate taxes and likely homeowner insurance premiums as well. Indeed, the house with the $20,000 lower sales price allows him to accumulate $102,000 in his investment account, save over $16,000 in interest over the life of the mortgage and ultimately exceed The Latte Factor® savings by over $9,000 or seven years’ worth of lattes (all without even factoring in the real estate tax and homeowner insurance premium savings).

Not to be lost in this argument between eliminating small purchases over an extended period of time or making a larger dollar sacrifice at a single point in time, is the necessity of the “redirect” that Bach mentions. Said another way, while simply eliminating these expenses can be beneficial, the exponential benefit comes from then investing those dollars to prevent them from drifting to other spending areas and slipping through the proverbial cracks. Indeed, without pre-planning (such as an automatic investment plan drafted from a bank account, or decision to increase a monthly 401(k) contribution) it is easy to suffer the worst of both worlds: denying yourself small simple pleasures without the framework in place to be rewarded for it in the end.

So, the next time you lift your Starbucks cup rest easy, knowing you can be financially sound if you choose to sweat the big things in life, not the small ones, in order to sip your Pumpkin Spice Latte without shame or remorse.

The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual.  To determine what is appropriate for you, consult a qualified professional.

Bridgeworth, LLC is a registered investment adviser.

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