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Are you financially savvy? Do you know how to shop for the best loan deals and handle risk in the stock market? Or are you a financial dope who's doomed to keep asking, "How can I be out of money when I have all these checks left?"

Yeah, sure, everybody thinks he or she is a financial genius, but last month's late fee on your Visa bill says different. But to settle the matter, two business professors — Olivia S. Mitchell of the University of Pennsylvania's Wharton School and Annamaria Lusardi of the George Washington University School of Business — have figured a very brief, three-question test that determines whether you're money smart or a financial fathead.

"When we first started, we thought these questions were way too simple and that the majority of respondents would get them correct without any question," Mitchell says.

Instead, a survey of Americans older than 50 found that only half could get the first two questions right and only 34 percent could correctly answer all three.

"We started with people in their 50s who've made many more financial decisions over their lifetime," Mitchell says. "We thought if anybody is going to be smart it would be people who've lived a lifetime making financial decisions, and we were chagrined that it wasn't the case."

Men were more likely than women to get all three answers right (38 percent vs. 23 percent) and education mattered, too: 31 percent of people with some college education got all three answers, but it rose to 44 percent for those with college degrees and 64 percent for respondents with postgraduate education.

The questions themselves are pretty simple: one on compound interest, one on inflation and one about financial risk in stocks. But on even the most basic questions, the results stunned the researchers.

"Only half got the stock market question right — and that was a true or false question," Mitchell says. "You had a 50-50 chance, and one-third answered 'Don't know.' "

So just how tough are these financial stumpers? Let's take a look:

1. Suppose you had $100 in a savings account and the interest rate was 2 percent per year. After five years, how much do you think you would have in the account if you left the money to grow?

All you need to understand here is the idea of compound interest, something that Einstein supposedly called, "The most powerful force in the universe." All it means is that when interest is compounded, you get interest on your interest. So the first year, you get $2, for a total of $102. In the second year, you get 2 percent interest on the full $102 — $104.04. After five years, you'd have $110.41. This brings us to what you could call "reverse interest," or inflation.

2. Imagine that the interest rate on your savings account was 1 percent per year and inflation was 2 percent per year. After one year, how much would you be able to buy with the money in this account?

At a 1 percent interest rate, you've got $101 at the end of the first year, which is nifty for you. But the 2 percent inflation rate reduces the current value of your money to $98.98, which is less than you started with. To stand pat, your earnings need to at least match the rate of inflation and, ideally outpace it to actually help your money grow. But as you seek higher rates of return, you're setting yourself up to occasionally lose money, which brings us to the question of risk.

3. Please tell me whether this statement is true or false: "Buying a single company's stock usually provides a safer return than a stock mutual fund."

If you don't know what a mutual fund is, this question could throw you. Because a mutual fund invests in several different stocks it allows you to invest in more than one company at a time, which diversifies your risk compared with owning stock in one single company.

Say the CEO of Acme Anvils Corp. absconds to Pismo Beach with all the company's money and one of the secretaries, causing shares of Acme stock to plummet. If you own just Acme stock, you bear the full brunt of the loss. But if Acme is one of just 15 stocks held in your mutual fund, the loss is reduced and possibly even offset by gains from the other 14 companies.

The take-away from this three-question test is that if you get these three concepts, you're most likely able to navigate typical financial decisions.

"We wanted questions that could be an indicator of people's financial sophistication with regard to real-world products," Mitchell says. "If you don't understand interest you're probably not going to make the right decisions when it comes to using your credit card or paying back your loans. And if you don't understand inflation, then you don't understand that a wage increase that's less than inflation is actually a wage cut."

Even if you didn't ace this simple test, there's an easy way to boost your knowledge, which is to research any new financial products or services when they come into your life. When you get a credit card, learn how it works, and do the same when you get a job that offers a 401(k) savings plan. Ask questions, hit the library or go on the Internet. Because in your real financial life, unlike this short three-question quiz, there are no do-overs.

boconnor@detroitnews.com

(313) 222-2145

1. Suppose you had $100 in a savings account and the interest rate was 2% per year. After five years, how much do you think you would have in the account if you left the money to grow?

A. More than $102

B. Exactly $102

C. Less than $102

2. Imagine that the interest rate on your savings account was 1% per year and inflation was 2% per year. After one year, how much would you be able to buy with the money in this account?

A. More than today

B. Exactly the same

C. Less than today

3. Please tell me whether this statement is true or false: "Buying a single company's stock usually provides a safer return than a stock mutual fund."

True

False

Correct answers

A.

C.

False

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