The Astounding Math Behind Car Ownership with Jesse Cramer (EP.116)

0:28We all need to make smart decisions with our money. people improve their personal finances. The first time I was introduced to Jesse was back in October 2020 when he published what I felt was the most useful article a car owner could possibly read. And earlier this year, he updated that post. So I've invited him on the show to share his latest information. As always, you can find links, resources, and comprehensive show notes at thelongterminvestor.com. And now, here's my conversation with Jesse Kramer. Jesse Kramer, welcome to The Long-Term Investor. Peter, thanks for having me. I am excited.

1:06I first discovered who you were back when you wrote a blog post on the true cost of car ownership, which is a topic I've always found interesting because a lot of personal finance decisions are things that you do routinely, but there are also many where you make a couple really big choices a few times in life, and so you don't have that many opportunities to get it right. like buying a house or buying insurance. Buying a car, though, it happens a little bit more frequently. And you took such a deep dive into all the nuances of car ownership. And so I know that you recently updated that blog post that you had written originally during the pandemic.

1:45And so I was hoping today we would just walk through some of that work. And so I guess just to start at a basic level, maybe you can explain some of the key variables that you use in the analysis to think about different car ownership questions. Yeah, this is a fun conversation, Peter, because it almost is like, where exactly do we start? And maybe one of the places we can start is simply from a common misconception. The whole idea for the article, one of the places it started was at the time I was on Twitter and I would see drivers for Uber talk about the profits that they were making, not only in terms of per time spent, but then they're saying, all I have to do is pay for gas.

2:25And I'm sitting there thinking like, that's not all you're paying for. There are some hidden costs to driving a car that they're not accounting for. So I kind of scoured the internet, tried to find the article that ultimately I ended up writing, which was how do we account for all the different costs in driving a car? Some of those costs, as I kind of talk about in the article, are time-based. A very simple example of that is your registration. Once per year, Peter, you're in St. Louis, right? So you're sending the state of Missouri$100 once per year for your registration. Okay. Well, with a lot of other costs, most costs, in fact, are distance-based.

3:02Your tires don't care about how long they've been on your car. Really, they just care about how many miles they've been on there. Similar gas, it's per mile. And then you need to find a way to essentially convert dollars per unit time to dollars per unit mile. The way I ended up doing that in the article, which we can dive into a little bit deeper, is simply by saying, well, how far does the average driver drive in a year? And the answer is about 13 ,500 miles. So, okay, now we can convert from time to mileage. But maybe before we go even a second further, I should say the entire article, this entire conversation does have a pretty large asterisk on it simply because the variance that people are going to see in their own lives is pretty wide.

3:46The difference between driving a Ford F-250 and driving a Toyota Prius used, I mean, those are completely different use cases. So sure, the average driver drives 13 ,000 miles per year. You are going to be much different than that. And I think the best thing for someone to do after this conversation is take some of the thought process that we're about to talk about and apply it to your own unique car buying decision. Yeah, it's a great way to introduce the mental model and mental framework we'll go through. Not all that different than a lot of investment conversations that I have and that I'm sure you have when we talk about something like indexing.

4:23Indexing, owning the whole market gets you the average return and that's what the average investor should do. And if you're going to do something different than indexing, you have to think, how am I different than average? And you talked about the fact that the car on average gets 13 ,500 miles. I remember reading the article, I think you said the average car lasts 15 years. Is that right? Yeah, exactly. Roughly, roughly speaking. Yep. But most people don't drive their car 15 years. And so we'll get into some of those issues as well. But there are six significant costs that you outline when it comes to car ownership.

4:58We can go buy them one by one. I can read them real quickly. Depreciation costs, financing, maintenance, repair, fuel, registration, and inspection, and insurance. So maybe you could just dive into a little of those and how you talk about those impacting the value of a car over its lifetime. The biggest and most impactful one, and also the hardest one, I think, for the average person to quantify is the depreciation cost. Now, I think probably the average listener to this podcast, Peter, has some sort of financial bent to them. They're used to working with numbers. And so for the average listener right now, depreciation is probably relatively easy to conceptualize.

5:37But one of the reasons why I wrote this article in the first place is I was talking, like I said, to people on social media. And I said, well, by the way, your car is depreciating from beneath you. So you should account for that. And they said, well, no, it's not. It's a sunk cost. I already paid for the car. Well, right. But the resale value of the car is declining over time as you drive it, as you add more miles to it, as it grows older. You need to quantify for that cost in some way. And the most accurate way to do it isn't to say, well, I spent$40 ,000 upfront and now the resale value of my car is zero.

6:10So there's a$40 ,000 sunk cost. You have to find the delta between your$40 ,000 cost upfront and whatever the resale value is right now. So you have to account for a depreciation. And uniquely for depreciation, you need to understand how the rate of depreciation changes over time. We're probably all familiar with this apocryphal anecdotal story that your Uncle Jim probably once told you, you drive a car off the lot, it immediately drops 15 % in value. That's more or less true. The 15 % might be a little bit off, but you immediately lose a large amount of value on a vehicle the instant you drive it off a lot.

6:49That's depreciation. The first few years, year one, two, and three, your car also depreciates at a relatively high rate. Later on in the car's life, it tends to depreciate at a slightly slower rate. So if we're trying to find this lifelong quantitative value for the cost of driving a car, we need to account for that. How does depreciation work? And then how does it change over time? Some other ones, Peter, I mean, fuel is relatively simple to understand and also relatively stable. It's just a function of miles per gallon and the cost of gas. Registration, inspection, insurance are pretty similar.

7:26They're stable and easy to understand. Maintenance and repair, that's probably another one that is highly variable with time and with miles, simply because cars do tend to break down more as they get older. It's the entropy of the universe that none of us can avoid. But then also some cars are simply easier to repair than others, are cheaper to repair than others. If you want to drive that German sports car, it's probably going to cost you more to maintain and repair than the American-made car that has parts and garages all over the place. That makes a lot of sense. And we're kind of talking in broad strokes about the cost of a car over its lifetime.

8:05And obviously, we're going to get into some of the differences in timing of when you purchase a car, how long you own it. But just broadly speaking, when we're thinking about the lifetime cost of a car, how did you come in? What did you arrive at as the total cost of car ownership? The easiest way I think to think about it is in whole numbers rounding up. The number that I tell people is about 50 cents per mile. The exact number I think in that 2023 update was maybe 47 or 48 cents per mile. But to make it easier to remember, 50 cents per mile. And that accounts for all those costs that we just talked about in the kind of the last little section, Peter, and that amortizes those costs over the entire life of the car.

8:45Earlier in a car's life, it's typically more expensive to drive. It might be 60 or 70 cents per mile. And then later on in life, it actually does get cheaper to drive simply because it's depreciating less and less every year. It might only be 40 or 45 cents per mile to drive. And one interesting thing I think from this, the analysis and some of the numbers that I crunched is that new cars versus used cars actually have a surprisingly similar cost to drive. In other words, if we want to put it in investing terms, and it's actually a really accurate metaphor, the used car market is getting more and more efficiently priced.

9:21There was a time probably when our parents were growing up, there was this information asymmetry when it came to the used car market. And you were more likely to find an amazing deal on the used car market. You were also more likely to find terrible deals, lemons on the used car market. But over time, with things like factory refurb and dealerships putting their stamp of approval on used cars, the more information that we've gathered that used cars can be reliable, they've also become priced more efficiently, more accurately in such a way that the cost per mile of the average used car with a factory stamp of approval on it is basically the same as the cost per mile of a brand new car.

10:04There might be anecdotal data from people in your life that say otherwise. And I'm sure those anecdotes are true. But if we look at the sum total of the data set, there really isn't a big pricing difference between used cars and new cars. I'm so glad that you brought that up. It was certainly something I had intended to ask you. And even in the introduction to a chapter within my book on how markets work, I use that example exactly because my father-in-law seemingly is the king of buying and selling used cars and he has a decorated history of coming out ahead. But over the years, that advantage has shrunk as information has gotten incorporated into market prices.

10:44And it's something that I still see people think about in terms of how their parents were able to do it when they were children or how they themselves have been able to do it. Maybe they're in retirement or nearing retirement. They've done it several times themselves. First of all, the process of buying a car is frustrating, regardless if you're buying new or used. But at a certain point, if the cost is similar, there's almost a little bit more certainty with a new car, in my opinion. How do you feel about that? I feel the same exact way as what you just described, that if the cost itself, if you were to sit down and build out a little spreadsheet, which if you're math minded, if you're used to a spreadsheet, it's only going to take you an hour to do this analysis.

11:22If you find out that, sure, you might save 5 % by buying used, you really do have to ask yourself, Is that worth the uncertainty of not having that long-term warranty and just simply not having a car that you know is brand new only for you? For me, I'd rather just pay that 5 % premium and buy the new car. And as we kind of discussed, that 5 % premium is shrinking if it's even there in the first place. My argument, my stance is that premium is very close to zero. And if it was only a 3 % or 5 % premium, that still isn't quite worth it. So you talked about your dad's stories. And sure, when you're in the used car market, things like negotiations might play a slightly bigger role than it does in the new car market.

12:08You can negotiate with car salespeople in any circumstance. But if you're negotiating with another third party owner, sure, maybe a good negotiator will have more success in the used car market. But we have to think about things like the Kelley Blue Book. Kelley Blue Book is this amazing compendium of car knowledge that will tell you, oh, you drive a 2012 RAV4 with 142 ,000 miles on it. It is worth X. And that is essentially market efficiency in the car market. That's like looking at the stock market and saying, you want to sell a share of Apple? It is 175.12 today. It's just this public information that everybody gets to see and everybody's working off that same price.

12:51So if you really want to find a premium value in the used car market, you have to be aware that everybody has access to a lot of information about these cars. And that's one of the reasons why the premium is disappearing before us. And maybe you can still find a deal, but the amount of time that you have to put into it, whether it's seeking out an underpriced car relative to a market value or going through a very extensive negotiation process and maybe even failing in some negotiations where you don't end up getting the car, that time has a cost. If you enjoy it, sure. But here's what I would tell listeners.

13:30Jesse and I clearly agree that if all you've ever bought is used cars your whole life, maybe you should go out and live a little, buy a new car. The cost of ownership isn't that different. And you mentioned the cost of ownership when rounding up is about 50 cents per mile, pretty close to the government calculation in terms of what you get reimbursed from a tax perspective. And you'd mentioned how people used to say Uber driving is effectively free. They're just paying me for my miles. But no, they're just paying you what you're owed effectively. I mean, how do you think about the fact that what you've come to estimate and what the government tax reimbursement for mileage used for work is.

14:08I largely agree with what you just said. You have to put yourself in the government's shoes and the IRS's shoes. And you have to ask, well, where did this number, is it 58 and a half or 60 cents per mile in 2023? I think 58 and a half might've been 2022, but it's somewhere around there. 60 cents per mile or so is what the government reimburses. And they're not pulling that figure out of thin air. I mean, they are compiling some sort of data set on consumer costs and driving habits and wear and tear and maintenance and the same kind of factors that I looked at. And so it's an admission by the government that driving is not free.

14:45And if you're driving specifically for work, you should get reimbursed at some sort of uniform rate based on quantifiable objective figures. So, right. I think anybody out there who is simply saying, well, my car gets 30 miles to the gallon. Gas up here in New York is about$3 a gallon. Therefore, my cost of driving a car is 10 cents a mile. I'm just going to drive all day and just shear the sheep that is the IRS for giving me the 60 cent rebate. There's a fundamental problem with that analysis. It's kind of the point of my article and what we're talking about here today. Now, we've been talking about a gas driven car.

15:23Does the cost of owning an electric vehicle differ any in your mind? It does. And it's changing really rapidly, actually. I almost struggle to call it research for what it's worth. My background is in mechanical engineering before segwaying into finance. But by no means do I have a PhD and my data sets are a little bit limited in nature. This is more of a educated guess that I think has some realism to it. But what I will say about electric cars is that that area is changing so much faster than internal combustion cars. Prices are coming down, which is phenomenal. And even back a couple years ago, when I really dug into the data initially, even then, you could make a really strong argument that electric vehicles were cheaper than gas vehicles.

16:09There's a higher upfront cost, but then you really start saving money over the long run simply because in most places, electricity is significantly, significantly cheaper than gasoline or diesel. So it is that kind of classic, do you want to pay more upfront to save more in the long run? Electric vehicles provide that value proposition. When I think of value proposition, particularly as prices have risen in the past year associated with travel, I go to Chicago from St. Louis pretty frequently for both personal reasons, because my sister and her family live there, as well as work reasons. We have a lot of clients there.

16:46There's some fund managers that I'll meet with in the area. And I used to fly all the time. It's a quote unquote, quick 40 minute flight. But by the time you have to go to the airport and sit on the tarmac and deal with all this stuff, I've just decided I'd rather do the five hour drive. I have total flexibility, maybe door to door. I'm losing an hour of time, but I've just decided to drive more often. Now that's a convenience choice. But my family's also, since the pandemic, taken on more 12 plus hour drives to different destinations. You did some analysis comparing the cost of flying to driving.

17:22Can you share some of your thoughts on that? Totally. That one, Peter, it really comes down to, it does make a difference. And these two examples that you talked about, if you're going on a trip by yourself, I think that's fundamentally different than if you're going on a trip with your family. And here's a quick example. So I live here in Rochester, New York, upstate New York. It's probably 700 miles round trip, maybe 600 miles round trip from here to New York City, a very common destination for me. Let's say it is 600 miles round trip at 50 cents per mile. That's$300 just of driving costs, plus roughly 10 hours of driving time.

18:00Now I can compare that to round trip flights, which might only cost me about$200. It's a very short flight. from Rochester to New York City. So I can save money just straight up on flying. And then do I save time? Most of the time I would. By the time I check into Rochester Airport, land in LaGuardia or JFK and take an Uber into the city, whatever, I'm probably saving time. And so in that particular case, if I'm going to New York by myself and I'm comfortable with getting around the city without a car, which I am because I'm leaving my car at home. In that case, flying absolutely makes sense. In most cases, I believe that flying makes sense, especially if you're flying alone.

18:40But if you're going to pack up a car with a family of five, as opposed to buying five plane tickets, needing a way to get around your destination with your family of five while you're there on vacation. Okay, the math changes in that case. So I think it is kind of a case by case basis. One of my mantras is follow the math. Let the data be thy guide. One of my mantras is follow the math. They say, in God we trust, all others bring data. I just think, Peter, that we should let the math be our guide. And so if you're planning, Peter, you're in St. Louis and you plan on a family trip to Florida, I think it's worth punching out what are flights going to cost?

19:20What's the time of the flight's going to be? If you're going to have to get a rental car once you get to Florida, what's that cost going to be to you? And then you can juxtapose that against, you know what the round trip distance is. You know, depending on your vehicle type, you're probably spending 40 to 70 cents per mile. And you can actually get to an objective numerical based answer to support your decision, as opposed to what the typical person does, which is they say something like, well, I already own the car, so I might as well just drive it to Florida. That's more subjective than anything else.

19:54And one of my goals is let's try to apply some numbers to this scenario. You know, I might have to do that exercise for my next family trip where notice I say vacation, not trip. I have a 10, six year old who are great in the car now. But when you drive 12, 14, 16 hours with them, there is some sort of mental toll that you might be willing to pay a premium for the flight plus rental car. But I'll do the math just to understand what sort of premium next time I'm assigning to all of that. And again, it's all personal preference. I think in general, you talked even in the article about how do you even measure utility when you're purchasing a car?

20:32So if you have a family of six, obviously a small sedan isn't going to work. But I will say like I have a family of four and we went back and forth a number of times on whether we wanted a third row and thinking, oh gosh, maybe we'll use that third row a couple times a year. But the few times we use it a year, wow, it's really convenient. Or do we get something that ends up saving us a little bit of money and doesn't have a third row? And so I think you kind of explored this a little bit on thinking about the utility. Maybe that's something you could share some thoughts on. This is one of those things where there's lies, damn lies, and then there are statistics.

21:09The way I think about it is we can try to apply objective numbers-based analysis to certain things in life. It's not always going to work out perfectly. And I think utility is really getting into this muddy, murky area of the conversation where we can try to think about it in a numbers-based way, but ultimately, we also need to think about it subjectively. A good example here, Peter, is my brother lives here in Rochester, and he's a contractor, remodels kitchens and remodels bathrooms. So he owns a Chevy truck that he uses every single day for work. He could not do his job without some sort of utility vehicle, a truck or one of those big sprinter vans, something like that.

21:49So for him, I mean, he obviously needs that truck. It's probably like a$50 ,000 truck. However, I think that the average truck owner in America very rarely uses the truck for its true utility need. I think the average truck owner in America, I'm going to pull a number out of thin air here, but probably 90 % of the time or 90 % of the miles they put on that truck are simply driving the kids to soccer practice, getting themselves to work, going to the grocery store. Maybe once in a while on a weekend, they do tow the boat to the dock. They do go to Home Depot and grab some lumber. And that's fine.

22:25That's totally their prerogative. But I think it's worth in some of those extreme cases, especially, let's say the only thing you really use your truck for is four weekends a summer, you take the boat down to the lake. I would ask myself, should I get a sedan instead and then four weekends of summer rent a truck? I think it's worth understanding simply because one thing we haven't dove into yet, Peter, is that the lifetime cost of a car, sure, it's 50 cents per mile. But if you actually expand that out to the roughly 200 ,000 miles that you can drive a car for, typically 200 to 250, what you find is that the total cost of a car ends up being about three times its sticker price.

23:05You buy a$40 ,000 car, you're probably going to spend about$120 ,000 total over the life of the car. So if I have a$50 ,000 truck or a$30 ,000 sedan, there might be a$60 ,000 difference in the lifetime cost of those cars. $150 ,000 for the truck,$90 ,000 for the sedan. And$60 ,000 is a big difference. it's worth thinking about. Is the$60 ,000 premium for that truck really worth it for my four trips to the lake per summertime? For some people, maybe it is. For them, maybe that's an opportunity cost that they don't mind paying. But I think for many people, that might just give them a little bit of pause and might change their minds in a really beneficial way.

23:49And what you're describing sounds a little bit like the metric that you maybe coined. I think this was your own doing value over replacement car, which if you're into sports, like baseball wins above replacement. Basketball has similar statistics. I love the concept. Can you maybe explain a little bit of that? Yeah. One of my favorite things to do on the blog is make up my own statistics. Don't we all love doing that? But yeah, I mean, that is essentially that scenario with the vehicle I just described is a good example of that kind of value over replacement car, where on the one hand, we have a truck that can ostensibly do it all.

24:27It can get you to work. It can also tow your car to the lake. But on the other hand, we have, well, what's the replacement for that truck? And the answer is, well, conceivably, you could buy a reasonably priced sedan that gets you to work and goes, picks up groceries and drops off the kid at soccer practice. But then you would need, say, like a three-day rental for a truck to go on your four summertime boating trips. and there's a cost for every one of those trips. But now you have the sum of two costs against the cost of the truck. And you can apply real numbers to that in some way to at least go into a decision with eyes wide open and say, yeah, I know the truck is gonna cost me about$1 ,000 per year more than the replacement option of a sedan plus a rental truck.

25:13Is that$1 ,000 per year cost worth it to me personally? Start with some numbers, spice in some personal finance. It is personal, so it's really up to what you think. But at least if you're coming from a place with numbers up front, you can use this idea of value over replacement car to kind of guide you into what's ultimately the right decision for you and your family and your vehicular needs. And you could do this analysis with any type of purchase. I mean, you could do it with shoes, but it's such a small dollar amount relative to the cost of a car, that doing such an analysis probably doesn't net you a whole lot of financial gain over the long term.

25:55And at a certain point, you can afford to buy nicer shoes, just like at some point people can afford to buy nicer cars. I would agree with you that when you really, regardless of what you can and can't afford, well, particularly if you can't afford the very, very nice cars is just like you said, being eyes wide open to the decision, having it be more mindful spending than just doing it without a thought. Now, I will say a lot of people who are just super into cars, they choose to lease instead. And I know we talked about buying new versus used, which I feel like is one of the huge questions people have.