Correct me if I'm wrong, but doesn't this contradict your theory that since your purchase price is already spent, that you can actually look at the cost of the cruise in terms of the cost of the maintenance fees?
That's not my theory, so if that's the way you took it I can see why you didn't like it.
Before buying something like this, you can look at it a variety of ways. You can amortize the whole buy-in, on the theory that you'll never sell it and accounting for sunk cost just complicates things. That's what I did. It would be better to cost it using net present value, but I started down that road and it got complicated to explain. I think the amortization example is easier to conceptualize.
Note that I have never and would never say you can ignore the sale value of your points when calculating costs, except when you're figuring out what your brother-in-law should pay to use your points.
Unless you don't like your brother-in-law, and then you should use double your cost as the buy-in factor.
Once you've actually bought something like DVC, you *should* choose to acknowledge sunk costs. The difference between what you paid for something and what you could realize from selling it is a sunk cost. So if the OP actually bought 240 points so she could go on a 480-point cruise every other year, she should account for, let's say, $60 per point as sunk cost and amortize the remaining realizable value of $70 (after broker commissions and fees) that she could get by selling the points.
So if she did that, the amortized cost is now $2.12 per point for the first year, which added to the $4.81 dues means the ongoing cost is only $6.93. To me, this makes the key points just as well.
So yes, by accounting for sunk cost she's getting a tiny discount on the cruise of about $1.35 per point, but she had to pay an eye-popping $14,400 of non-recoupable cost in order to get access to that discount. Perhaps needless to say, the net present value calculation for this whole scenario is negative, because in 41 years she will never realize $14,400 in present value of discounts unless the ratios change to be wildly in her favor. I'm sure you agree that buying with the expectation that the discounts in the program will get better would not be a prudent approach.
If you already own points, accounting for the original cost of the points as the actual amortizable value is just perverse. You don't own something that valuable any more - you threw away a bunch of money when you bought in, and now you own something that's worth a lot less. Recognize it and move on. Pretending your ongoing costs are higher than they really are is just beating yourself up about your past financial mistakes. Fine, beat yourself up, promise yourself not to do it again, and then write off the sunk costs and move on.
I have two problems with this analysis. The first is that you are using a 41 year horizon, which is incredibly unrealistic and opens the door for a significant margin of error.
Sure, you could use a shorter horizon just to add a measure of safety. There are lots of things you could do to get a higher safety factor. The life of the points is 41 years, so that's the obvious period to use. But since it's already a bad deal at a 41-year horizon, it's an
awful deal with a 20-year horizon. The shorter the horizon, the worse it looks.
The second problem I have is that you are assuming a 4.5% rate of return each year as if it were constant and guaranteed. However, if there's one thing we know about investments is that they contain risk and fluctuations in rates of return.
Well, I sort of agree. It's a fundamental problem with financial analysis of any future value - there is no guaranteed return. However, 4.5% is quite conservative. Vanguard's Lifestrategy Income or Inflation-protected bond fund, or several others have a long-term average that is higher than 4.5%, and really low volatility. The idea is that you account for the expected volatility by projecting a lower return than you think is actually likely, to give yourself some cushion.
For a long time, long-term US government bonds, which are pretty much the definition of risk-free, were paying 5% or more. For that reason it's not uncommon to use 5% as an interest rate for generic time value of money calculations. I thought I was being extra conservative by using 4.5%. You can use 3% if you want to have extra cushion. It doesn't change the analysis that much.
So while you might deem my straight division method of calculating the cost of points as being overly simplistic, I view it as being immune to many of the variables that can destroy your analysis, including the assumption that one will actually invest the money they would have spent on DVC in the first place. The opportunity cost is zero if one is going to spend the money elsewhere.
I can't help but see using an implied zero interest rate as ignoring opportunity costs, which lets folks believe they're saving money when they aren't. If someone owed you $100, you would not think that $5/year for 20 years was a reasonable payment, so you shouldn't pay yourself that way.
I think it's totally reasonable to lower the interest rate if you want to be conservative, just not all the way to 0 (though keep in mind that lowering the interest rate makes timeshares look more attractive, not less). You can use a shorter time horizon, so you have some extra wiggle room. But straight division of the cost by the number of years does not seem prudent to me. It's miles better than ignoring the value of the contract entirely, which I agree is the much more serious and much more common error. So we're really actually very close on this. We both agree you have to account for the cost of the buy-in. We have a slight difference of opinion about the best way to do that accounting, but in the grand scheme of things at least we agree on the important stuff.
Bill
