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Suze Orman Money Matters

Suze Orman, Money Matters

Don't Let Your Money Yield to the Fed Rate Cuts

by Suze Orman

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Posted on Monday, May 5, 2008, 12:00AM

You don't need a Ph.D. in mathematics to understand that the numbers aren't working in your favor these days. The Fed's aggressive easing of the federal funds rate has made a mess of your cash and fixed-income strategies.

The most aggressive bank savings deals pay out little more than 2.5 percent to 3 percent right now. Given that the official inflation rate is above 4 percent, you're pretty much guaranteed a negative real rate of return. And you're probably feeling a lot more than a 1-percentage-point shortfall; the official Consumer Price Index (CPI) numbers sure don't seem to reflect the much-higher price hikes for basic food and fuel.

Do the Right Thing

That makes it extra hard to do what's right. Amid the economic slowdown, your emergency savings account becomes an important survival tool to protect against the possibility of being laid off or having your hours reduced. Yet it's hard to concede that the money you set aside in a cash account isn't protecting you against inflation, so you do what seems logical: you look for higher-yielding alternatives.

I'm hearing from more and more of you that you're shifting from CDs into 10-year Treasuries, where the yield is about double what your bank might be paying out. Please be careful when extending into longer maturities -- you're exposing yourself to locking in a low rate of return. Given the inflation rate, that's a bad place to be once the tide turns and the Fed starts to tighten.

Will that happen tomorrow? No. But it sure looks like it'll happen sooner rather than later, if you believe that the anemic dollar and rising inflation will need to be addressed. It's pretty obvious that there isn't much more room for further Fed easing; maybe another .50 basis points, but that should be that.

So now is the time to cautiously navigate the world of fixed income and yield to the desire to extend into longer maturities. Here are four key things to remember when you do:

• Keep your savings safe.

The point of your emergency cash fund is to protect you. Ideally, you don't lose out to inflation in the process, but I think the need for safety outweighs the desire to earn more in riskier investments.

The bottom line is that your eight-month emergency cash fund belongs in, well, cash. Nothing more. You don't put this money at principal risk.

That said, you want to make sure you're earning the highest possible "safe" return, so that means shopping for the best bank deal. The online banks EmigrantDirect and ING Direct continue to offer competitive deals. You might also check out iGObanking.com; it recently offered a 3.28 percent payout on its savings account.

• Don't get into a fixed-income fix.

I've always been a big believer in the laddering strategy for the fixed-income portion of your portfolio. Currently, I would own a mix of short- and medium-term maturity bonds to best address the risk/reward challenge. You get a higher yield than you would with a 100 percent short-term portfolio with lower risk than a 100 percent long-term portfolio.

But what I'm hearing from many people right now is that they're shifting out of the short-term positions and adding to their long-term holdings. Again, I think that's playing with fire. I'm not suggesting that the Fed's going to start tightening in the next month or two, but you have to believe that with continued inflation pressure tightening is on the horizon, and that's not going to bode well for those purchasing long-term bonds right now.

So stick with a laddered approach. Also, if inflation is a concern for you, and I think it should be, you should consider changing the type of bonds you own. Instead of straight Treasuries consider Treasury inflation-protected securities (TIPS). The interest rate is fixed on TIPS, but your principal is adjusted every six months in line with changes in the CPI. If inflation rises, so does your principal. That means you pocket a higher interest payout as you earn interest on your higher principal. You can buy TIPS in increments of $1,000 from TreasuryDirect.

• Check out munis.

While TIPS offer a decent inflation hedge, the fact is that anxiety over the credit crisis fallout has boosted demand (bond prices) so much that TIPS yields have been pushed lower. They're still attractive, just not as good-looking as a few months ago.

Interestingly, the same credit-crunch fears have created an investing opportunity in tax-exempt bonds. Yields remain high in part due to the flight to Treasuries and lingering concerns about the bond insurance market. If you stick with highly rated bonds, the risk remains quite low and the yield can't be beat.

The average yield for five-year AAA muni bonds was recently 3.1 percent. That's more than the 2.9 percent payout on a regular 5-year Treasury. And let's remember that Treasury income is taxed at the federal level, while munis, of course, are tax-free. So for someone in the 28 percent federal tax bracket, the 3.1 percent muni yield is the equivalent of a taxable 4.3 percent. If you're also subject to state and local income tax, munis look even better.

• Lock in high yield return elsewhere in balance sheet.

Many of you are so focused on how to wring out an extra half-percentage point on your cash and fixed income that you're overlooking the potential for big risk-free returns lurking on the debit side of your financial statement.

Once you build a sufficient cash stash, don't unnecessarily hoard more dollars in it. As adamant as I am about the need for an emergency cash fund, in this low-rate environment it makes sense to only keep the minimum in cash. Once you have your eight-month to one-year cushion, use your extra dollars to pay off any higher-rate debt.

Credit card debt is a no-brainer. In fact, if you're dealing with high-rate card debt of 18 percent to 20 percent or more, I would even suggest you dip into your emergency cash position (I know I'm making an assumption you have one) to get the balance paid off. When you have high-rate card debt, the "security" of a large emergency cash fund is a bit illusory; you won't have complete security until you pare down that costly debt.

Your car loan is more debt to tackle. And for those of you who intend to stay put in your home, I recommend using any extra cash to speed up your principal payments. Taking money out of a 2 percent to 3 percent taxable cash account to pay off a 6 percent mortgage can make a lot of sense. The end result is that you'll own your home outright a lot faster -- and that's just the sort of security that makes sense in any market environment, but especially this one

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  • Yahoo! Finance User - Monday, May 19, 2008, 3:21PM ET  Report Abuse

    • Overall: 1/5

    Weak article, people should be getting out of debt, instead of making one or two percent on their savings. We set up a Mortgage Savings Account which allows our savings to offset the principal balance on the mortgage. We still have access to our emergency cash but now it will save us over $200,000 in mortgage interest. Much better than earning a measly 2%!

  • Yahoo! Finance User - Monday, May 19, 2008, 3:13PM ET  Report Abuse

    • Overall: 5/5

    I thought it was great advice. It's very important not to make quick decisions and move your money into places where you don't understand the risk. Awesome.

  • Logical - Wednesday, May 14, 2008, 4:46PM ET  Report Abuse

    • Overall: 4/5

    Good article. It is important for people to take deep breath before moving emergency cash to get better returns. When people make decisions based on fear, they end up geting into situations where they don't understand the risks and end up following the lemmings off the cliff time after time. No one wants a sub par return on their money, but chasing the higher returns usually hurts more people than it helps. Get in the habit of studying the past and understanding the cycles, then make your decisons based on what comes next in the cycle instead of what is currently happening. Most people jumped into the market at its high point because they saw others getting great returns and they arrived just in time to take the losses, then they saw people making a killing in Real Estate so they moved into that just in time to get slaughtered. Now they are taking what they have left and buying gold, silver and other commodities while they are at record HIGHS. The key is to buy low and sell high not to buy high and hope it goes higher. The real problem with most people is they are present thinking, not forward thinking. Then you have the "buy and hold" crowd who preach to the masses to hold on through the bloodbath because the market will come back and you will be better off. Great advice for your advisor who keeps getting paid for managing your money into oblivion. Why take the loss. Look forward. Buy things when they are low and sell when they are high then take your profits and buy something else that is low. The market, although lower, has a long way to go as does Real Estate before this current debacle is over. Bide your time and you will be grateful you did. Gold, silver, oil and other commodities could go higher but could fall sharply and eventually will. So what do I recommend? I recommend that you quit following the so called gurus and get your own financial education. Study the economic cycles in the past and what went up and down at each stage. Understand what current government policies have done in the past when idiots have tried to fix the system and end up making the problems much worse. Learn to rely on your instincts that you develop through learning and doing. Trust me. You will profit much more by learning to chart your own course than by following the lemmings off cliff after cliff.

  • Chris - Monday, May 12, 2008, 12:07AM ET  Report Abuse

    • Overall: 2/5

    Totally agree on the MSA junk being offered. I have a buddy who signed on to that because of the equity accellerator program where you send your paycheck in and use it like a checking account. Only problem is, life gets in the way and, as has been pointed out, you can save the same on a regular mortgage if you can do without that money. The lure is that you are earning money on your excess money until you need it. Think about it though, if your net pay is $6,000 after your mortgage payment, taxes etc. and you use that 6k during the month, your average balance is $3,000 at any given time. Even at a 7% mortgage, which is likely because these products are sold to people with poor credit scores, your "savings" are only $210 per year. Compare that to the cost of signing up for the program and consider that you can, if you save money like they claim, do the same thing through a conventional mortgage. I have done an similar type program at no sign-up cost with the interest rate tied to prime 0 and it worked great. However, these MSA's are marketed to people as if they will pay off their mortgage quicker, which they can, but most of the people targetted are more likely to utilize their access to the equity and only increase their interest expense. Unless you have good credit already, the MSA product will come at a higher rate than you can get a fixed rate mortgage at, or it will be tied to the highly variable prime rate. I disagree with Suze on the paying off your mortgage early as well. If you are at 6% or better, and are in a tax bracket where you deduct 1/3 or so, you can do better with tax free munis or even some utility stocks without totally exposing yourself to too much risk. As far as the claim that you shouldn't waste too much time quibbling over small returns on small money, just remember "If you watch out for the pennies, the dollars will take care of themselves". Good luck, think before you invest and stay away from the snake oil that is an "MSA" unless you are certain you can make it work for you.

  • Yahoo! Finance User - Sunday, May 11, 2008, 10:52PM ET  Report Abuse

    • Overall: 2/5

    The clown talking about the MSA should be banned, or be exposed what he is a mortgage broker trying to make a quick buck. Say what an MSA really is, a HELOC used to float all additional monthly income you have into paying off your house faster. Funny thing is you can pretty much achieve the same results by simply sending in additional money without shelling out $3500 in software which is effectively Quicken. Couple of other problems: 1) you lose your job heaven forbid, then all the sudden you could be stuck with a significant balance in your MSA (HELOC) at a much higher rate then your conventional mortgage. 2) You get your HELOC frozen like thousands of people around the country. Then you could be stuck with no extra money that you could have put away in more liquid assets and you have $3500 Quicken that is financed in your HELOC...oh sorry MSA at a higher rate than your conventional mortgage. Before you go preaching to the world about MSA talk about the benefits AND RISKS (something that the person trying to sell me this never did) and review other avenues of investments. I can promise you, if you took all this extra money you pump into paying off your mortgage in say 10-12 years in investments earning 7-8% you are sure to come out ahead rather than pumping it into your mortgage and then trying to play catch up after the fact. At the end of 30 years you would end up owning your house either way. At worst you would come out even in your retirement account, or @ 8% come out with a few hundred thousands extra in retirement savings…..and by the way under this scenario if you did need emergency money (and I’m not preaching taking penalized draws out of a 401K or IRA), but if you had to….you could.

  • Yahoo! Finance User - Sunday, May 11, 2008, 1:09AM ET  Report Abuse

    • Overall: 2/5

    I was with Suze until she started putting liquid assets into an illiquid asset like your home. The only reason to pay down your owed principal is to get out from under PMI. Go with TIPS or Munis, if a Dem goes into the WH you will see the nation heading for Jimmy Carter's interest rates again. CD's will be above 6% with in a year and 9% in another year. All the money locked up in your residence paying down the principal won't be available to use as interest rates zoom.

  • Yahoo! Finance User - Friday, May 9, 2008, 8:16AM ET  Report Abuse

    • Overall: 1/5

    I put money in RIO last year and I am up 160%. I guess I could have bought something Suzie suggests and only be up 3 percent. Wonderful advice Suzie. If you follow her advice you will be living in a cardboard box when you grow old.

  • Christopher - Thursday, May 8, 2008, 6:34PM ET  Report Abuse

    • Overall: 1/5

    When the so-called "experts" wake up to the fact that the only real way to protect yourself from inflation is not through these bogus ideas, but in GOLD/SILVER, then the real bull-market in precious metals will be underway. Get in before the masses for the opportunity of a lifetime.

  • Timothy - Thursday, May 8, 2008, 12:10PM ET  Report Abuse

    • Overall: 1/5

    Suze Orman offers advice for the house frau. You know the type: married but bored, not too good looking anymore after squeezing out a couple of puppies, not well educated, emotionally driven decision making skills, never satisfied no matter how many things she buys...No real investors take Orman seriously and this article is a good example why --her grasp of the obvious is one which ONLY a house frau could get excited about so she can yak about her investment guru "discovery" at the next bunko night.

  • Yahoo! Finance User - Thursday, May 8, 2008, 7:10AM ET  Report Abuse

    • Overall: 1/5

    lol. "don't get into a fixed income fix" and then recommend TIPS! "lock in high yield return" lol. whoopey! yee haw boyz! were gonna ride that gravy train all the way to.....uh, er, well all the way to 4%. seriously, no way she is legit advisor.

  • Yahoo! Finance User - Wednesday, May 7, 2008, 11:51PM ET  Report Abuse

    • Overall: 1/5

    This type of article is why Suze cannot be taken seriously as a financial expert. First of all, she can't even articulate in proper financial terminology. Case in point: "the debit side of your personal financial statement". Uh, Suze, a debit can mean two completely things depending on what statement you're referring to! Secondly, Suze is under the impression that the federal reserve controls long term interest rates. Case in point. Her comment about inflation and looming Fed tightening. If we know for a fact that THAT is going to happen, you'd have to be an idiot NOT to go into bonds right now. When the fed raises short term rates to fight inflation, longer term interest rates will tend to fall, not rise. Therefore, bond prices will rise, allowing the bondholder to sell and collect the unamortized spread between the coupon rate and the market rate. In other words, cash in all that unamortized interest now, and reaping a huge gain. Suze, please, do your homework. You have no idea what you are talking about. From now on, let the experts handle it. You are no expert.

  • punch_drunk_13 - Wednesday, May 7, 2008, 11:27PM ET  Report Abuse

    • Overall: 3/5

    Don't forget regulated utility stocks - many have dividend yields of 5-6% right now, and the stock price is about as volatile as all the bonds and instruments mentioned in the article.

  • Yahoo! Finance User - Wednesday, May 7, 2008, 8:03PM ET  Report Abuse

    • Overall: 5/5

    I think Suze is right on target by saying that people should pay off their mortgages asap! If you look at your Truth-in-Lending document signed at closing you will see how much interest you are paying your mortgage company over the life of the loan. Pay it off and invest in something that returns money to you!

  • Yahoo! Finance User - Wednesday, May 7, 2008, 5:40PM ET  Report Abuse

    • Overall: 2/5

    I recommend www.bankrate.com to find rates. Does anyone know of any good competition to this site or any specific additional banks that might not be included for some reason? Search for "Checkings/Savings" and choose High Rate Savings/MMA and also choose "above $10,000" (I can't imagine anyone who's emergency savings aren't at least that much). I just got a 3.75% APY with CapitalOne. CountryWide is offering 4.00% APY, but I'm not confident about them, sorry to say that, but they are still in serious financial trouble! And if you aren't comfortable with online banking yet then you are resigning yourself to higher fees, lower rates on savings and investments and higher rates on loans for the rest of your life. Of course double check that the company is reputable and confirm their FDIC status for savings, but refusing to take advantage of "online only" accounts is liking saying you'll only save in your mattress. Good luck getting a good rate.

  • Yahoo! Finance User - Wednesday, May 7, 2008, 4:42PM ET  Report Abuse

    • Overall: 2/5

    Suze does not provide very impressive investment advice, but in this market if anyone has good alternatives please feel free to post them. So far this calendar year, my market investments are in negative territory. However, I see this as a buying opportunity. She mentioned that the Fed may start raising rates after perhaps a .5% downtick, I kind of agree with her. Consider what this will do to a 5 yr maturity muni that the holder does not promptly dispose off when market bias anticipates higher Fed rates. I'd put my money in index funds and forget it for a few years. I'm quite confident it'll yield better returns than tax effected 5%.

  • Samwise - Wednesday, May 7, 2008, 2:02PM ET  Report Abuse

    • Overall: 1/5

    Another piss poor article by Suze. She talks about principal protection, then offers as advice to buy munis?!?! She says shorten your investment horizon, and offers 5 yr maturity instruments?!? Saving up some money for rainy day fund, but paying off the principal in your mortgage?!? Interest rates are still low, if anything refinance and save your principal for that rainy day. If you have extra cash, put that sucker in a CD, which is still, in this current market, the best principal risk free return. Why would you even have a rainy day fund if you have credit card debt?!? I'd doubt ANY investment can beat the 17-20% interest you're paying on your CC debt. I truly hope no one follows any of your "advice" in this particular article.

  • RodA - Wednesday, May 7, 2008, 12:29PM ET  Report Abuse

    • Overall: 1/5

    Could this piece be any more simplistic? Suze is bright, alright. She bright enough to get paid to write this fluff

  • BJ9736 - Wednesday, May 7, 2008, 10:31AM ET  Report Abuse

    • Overall: 3/5

    The post below from the person who has done everything right is excellent! Well done!! Now the crazies want to take your tax dollars to bail out the idiots who gambled and lost by buying more than they could afford. It was a gamble and would they be sharing their profits with you if their gamble had paid off -- I think not. Well done - I live my life in a similar manner.

  • Yahoo! Finance User - Wednesday, May 7, 2008, 7:03AM ET  Report Abuse

    • Overall: 5/5

    Yeah, Suze Baby, you tell 'em! Life is good if you are not an idiot that wants a newer car every other year and buy too much other useless crap. My wife and I have $221,000 combined in our 401k(s), she gives 18% which maxes her to the limit of $15,500 and I give 28% which adds a little more than $11,000. We have $21,000 in an online bank earning 3.05%, down from 5.05% just last year and $7,500 in our brick and mortar bank. We lived in an old 1980 double-wide on our 5 acres for the first seven years of our marriage while we saved for the current 2750sqft home that we now have on our property. Our mortgage is $247,000 at 7%(due to construction loan) and will be soon refinancing at 15yr fixed at 5.375%, which will make our total monthly payment about $2300. We OWN a 2002 Ford Windstar we bought used in 2003 and it runs like a dream, getting 24mpg and has never needed a repair yet. A 1991 3/4 Chevy Pickup for hauling our horses, hay, wood, etc. A 1996 Plymouth Breeze for my commute car which gets 28-31mpg. We keep our vehicles long-term and maintained. Did I mention she is a 35yr old nurse and I am 40yr old medical secretary? We also have 3 children ages 6,4 and 2. We pay our credit cards in full each month! If you are buying a home and lose your job and don't have enough money to cover your payments for 6 months, plus food, utilities, and other essentials.....you are in for an ASS-Whooping just like all those other fools who bought too much house and are now getting foreclosed on. You need to pay your bills but you had better set some aside for that emergency that doesn't qualify for FEMA to bail you out! Life is sweet!

  • Yahoo! Finance User - Tuesday, May 6, 2008, 10:01PM ET  Report Abuse

    • Overall: 1/5

    After these yahoo finance EXPERTS put together a string of crap articles they have to come back and put out the finance 101 basic crap that everybody can nod their head in agreement with to regain what little credibility they have. These yahoo experts are full of 20/20 hindsight, super basic stuff, or they can do what Bobby Kyosaiki does and just post an endless argument like rich vs poor, repub vs democrat, stocks vs real estate etc. to make sure he gets as many hits as possible. Laura R. and Charles W. are the only experts worth a darn.

  • warren - Tuesday, May 6, 2008, 7:44PM ET  Report Abuse

    • Overall: 5/5

    I think you need more than 18 mounth cash.

  • Yahoo! Finance User - Tuesday, May 6, 2008, 7:02PM ET  Report Abuse

    • Overall: 1/5

    i dont need a phd to learn about fuzzy math...it used to be a dollar saved is a dollar earned....i guess you get a handsome salary writing vague financial advice.....you should add a crystal ball to your picture suzie....it would make your advice more believable

  • Dog - Tuesday, May 6, 2008, 11:37AM ET  Report Abuse

    • Overall: 1/5

    All this "advise" about how to earn small fractions of one percent from one investment over another, is totally silly.... muni's over 5-yr treasuries, for example. I mean really ..... is your typical Yahoo reader REALLY someone who has anywhere CLOSE to the amt's of $'s it takes to make .1% or .2% MEAN anything? Let's say you have $10,000 to invest in some fixed-income bucket. 1% of 10k = $100; .1% = $10 ! WOW .... that's something to get excited about. It's most important to just protect your reserved cash from LOSS ... i.e., stupid spending and bad investment. Want to save some REAL $'s?? Buy a Corolla instead of that silly-ass BMW you've got your eye on. Want to "earn" that extra $10 ?? Eat at HOME next Friday. If you avoid just ONE single bad purchase over the next year, you'll make up far MORE than raking your brain over how best to "invest" your cash. This article is just plain silly.

  • Bryan - Tuesday, May 6, 2008, 10:49AM ET  Report Abuse

    • Overall: 4/5

    Even if you don't like the specific advice this gets you thinking in the right direction. Look at a short or intermediate bond mutual fund. With some you can even write checks out of them, current yield is above 4%. Very liquid, very easy.

  • Yahoo! Finance User - Tuesday, May 6, 2008, 9:57AM ET  Report Abuse

    • Overall: 2/5

    "Will that happen tomorrow? No. But it sure looks like it'll happen sooner rather than later," Too funny!! Can she predict? No. But her predictions will be sooner than later.

  • xkrebstarx - Tuesday, May 6, 2008, 9:54AM ET  Report Abuse

    • Overall: 5/5

    I believe that you can buy TIPS in increments of $100, now. Am I mistaken?

  • Yahoo! Finance User - Tuesday, May 6, 2008, 8:35AM ET  Report Abuse

    • Overall: 3/5

    I'm fascinated by the psychology of whether these experts like Suze provide any value. If this article gets 100,000 hits, how many people read this article and actually follow her advice? I've never seen anyone write that they actually followed Suze's advice. People write that they agree with her advice. It appears that these columns help confirm people's thought processes. People feel empowered because an "expert' agrees with them. So Suze never really gives anyone anything they can use. It's more about making someone feel "special" because a woman who sells books and is on TV agrees with them on how to handle their money. She has so many "ideas" that many people feel like they have someone who agrees with them which is why she sells so many books. It's truly fascinating that someone could help no one but become a millionaire by making her audience feel like they have someone who understands them.

  • Yahoo! Finance User - Tuesday, May 6, 2008, 6:43AM ET  Report Abuse

    • Overall: 3/5

    Demand deposit accounts are paying very very low interest rates these days. But, depending on your age, you may not need to sit on too much cash. If you are younger and suddenly lose your job, you can go back to the proverbial nest and live with mom and dad for awhile. Most parents are happy to see their YOUNG children return. And, there's nothing like some good home cooked meals. Just be willing to take out the trash, wash the cars and cut the grass. If you are older, you SHOULD be sitting on many other assets (collectables, real estate, 401K plan, stocks), or at the very least have good credit. Again, you can be fully invested and if you suddenly find yourself jobless, chances are, you can take-out a short term loan against a piece of real estate (interest rates are also low for borrowing), or you can sell your coin collection or simply rely on credit for some short-term financing. Suze often ASSUMES that people have nothing outside of savings to keep them afloat. I've got news for Suze Orman - not everyone feels the need to invest (if you call it that) in low yielding, super-duper safe Treasury Bills that have historically underperformed stocks in any 7 year time frame (or longer). http://www.creditmanagementworld.com

  • Yahoo! Finance User - Monday, May 5, 2008, 11:46PM ET  Report Abuse

    • Overall: 1/5

    This woman should be listened too for general advice, but not specifics. If you really want a true "emergency fund", then you need it in case of a monetary emergency, like the dollar tanking. Buy gold and silver, there is a great investment(high yield, if you like triple digit returns), and its the PERFECT emergency fund. I suggest small silver and gold coins , easy to transport, and accepted as real money, at its real value.

  • Yahoo! Finance User - Monday, May 5, 2008, 11:25PM ET  Report Abuse

    • Overall: 2/5

    I don't want to give a poor rating without at least offering some suggestions. I think there needs to be some clarification on the definition of an emergency fund. There is nothing wrong with having an emergency fund in something other than just cash. I keep a home equity line open as an emergency fund as well as three months worth of living expenses in cash. If I'm missing out on a percentage point on my cash savings, I'm not losing that much because it's a quarter of the amount Suze is recommending in cash. I have a credit line to tap into if needed (for emergencies only) and that credit line costs nothing to have it just sitting there. You have to be disciplined and fiscally responsible to take this approach though. The extra nine months of cash goes into investments like dividend paying stocks of good companies where I can get the dividend and more than likely an increase in principal when the stock markets turns back around.

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