Feeling hot, hot, hot (June 2022)
I'm certainly not referring to our economy, I'm talking about the 3 H's coming our way: hazy, hot, and humid. With summer about to launch into full swing this 4th of July weekend and the stock market swooning, it's a good time to review the basics of a successful financial plan. Remember: We can't control the economic environment, but we can control how we set up our model, our behavior, and our decisions.
I’ve always preached about being in a position of strength no matter what happens in your own personal life or the world around you. It is precisely for these the times that we build and maintain a strong financial defense. The defense of your model is the protection component and the first 6 drawers of the savings component (vehicles like checking, savings, money markets, CD’s), i.e. safe, liquid money. We can also include the cash value of whole life insurance in that bucket, which resides in the 7th drawer of the Savings component (but not variable life as that is subject to market risk). Why do we recommend full replacement protection? Because when an event occurs that is a human/emotional disaster (think car accident, house burns down, medical emergency, premature death, etc.), having full replacement protection will prevent that event from being a financial disaster on top of everything else. Most financial plans we see when new clients come to us have minimum protection. Do we recommend keeping more cash on hand than most planners? Absolutely. Not even close. Three months of living expenses is what I often hear as a good emergency fund. How far will that get you if you lose your job, your car is totaled, and you need to replace your roof? Life never throws us one curveball at a time. These things usually happen in 3’s, don’t they? And what about opportunity cash? When asset prices are down, rather than ‘heading for the exits’ like everyone else, this may be the time to ‘go running into the building’. Panicking and selling your risk assets when they’ve declined significantly is a losing strategy. Our guideline is 6 months of gross income, not living expenses, in cash.
Every drawer on your model works in conjunction with the others. We do not plan in a vacuum. What you do (or don’t do) in one area will impact the other areas. It will impact the available choices you have when life happens to you. Defense supports your offense and vice versa. This is not a matter of either or. You must have both and they must be in balance. This is even more critical for retirees because they are not adding new money to their model from working income. What they have is what they have. And they do not have 5, 10, 20 years for the market to come back. The mantra: “we’re in it for the long haul!” doesn’t help me if I need income next month and the only income sources I have are risk assets.
We haven’t seen inflation like this since the late 70’s/early 80’s. And now interest rates are being raised in earnest. A few years ago, I caught myself saying “when interest rates get back to normal” to someone under 40. They looked at me funny b/c to them having a mortgage rate of 3, 4, or 5% was normal. They’ve never seen mortgage rates of 8% or 10% or a CD rate of 6% for that matter, which was typical when I started my practice in the 90’s. How will they behave in this new (old) economy? Time will tell. What is needed is education, not sales hype. The only way to overcome inflation is to have more money. The only way to have more money is to be sure the dollars on our model are working efficiently. Inflation is the most devastating economic eroding factor. It makes taxes look like tinker toys as to the negative impact on our wealth over time. Strategies like compounding interest in a taxable account, max contributing to 401k’s with no or low match, 20 or 30 year term insurance, and 15 year mortgages are all good, but they’re not the most efficient strategies. Our approach for the last 20+ years has been: how can we create more wealth & more protection benefits with the same money going into our plan and with the same level of risk? Inflation hasn’t been a big part of our conversations during this time period, but I’m happy to talk about it with you anytime in conjunction with the planning we’re doing for you.
For now, just remember that balancing risk & safety is the key. If you’re going to go out into the sun, bring the sunblock. If you plan on eating a lot of hot dogs, bring the Tums. You get the idea. Have a safe & happy 4th of July weekend!