Financial Hurricanes
I grew up in Southern California, where most of our natural disasters struck with little to no warning: earthquakes have a nasty habit of coming out of nowhere. Living in North Carolina has been a different story. Here we get a heads-up in advance of every major storm – both tropical and of the snow/ice variety – to the point where most people ridicule the mad dash for gas, milk, bread and bourbon.
Until Hurricanes Florence and Michael last year, my family hadn’t truly experienced huge and destructive storms. As we approach the one-year anniversaries of both storms – and as we keep those impacted by this year’s Hurricane Dorian in our thoughts – it’s helpful to think about any potential lessons or insights we can take from our storm experience and apply to our financial lives.
We Have a Really Good Idea Where the Hurricane Will Be Tomorrow. But We’re Not So Sure About Three Days from Now.
The path of the storm can change seemingly on a whim. Meteorologists have tons of information at their fingertips, from satellite images to sensor data, and still can’t tell us much about the exact path of a hurricane until it happens. Instead, we get models and “spaghetti charts” that illustrate possible courses, including the path that experts think is the most likely. Weather forecasts are really good at describing what’s happening today, tomorrow, and even the day after that. But once you go too far out, accuracy drops off quickly.
Similarly, we can estimate within some range how much money a client may have a year from now, based on their current balance, anticipated spending/saving, and an estimate of investment return. But compounding that over the next 3, 5, 10 and 20 years? Next to impossible. There are too many variables. So we run our own “spaghetti chart” exercise and try to get a sense of what’s more and less likely by modeling different sequences of investment returns. The goal isn’t to try to get the exact answer, but rather to have an understanding of the range of possibilities and to talk about our comfort level with that range.
It’s Important to be Prepared…
Back home in California, we were advised to always have an earthquake kit of water, emergency blankets, flashlights, etc. ready to go, since we never knew if/when The Big One was going to hit. The same is true – but with more warning – for major storms: better to have those items than need to scramble at the last minute. And if hurricane-force winds are headed your way and you have patio furniture, grills or outdoor hanging light fixtures you care about, those things need to get inside.
The same is true with our financial lives. We prepare for “disasters” using life/disability insurance, property/casualty insurance, updated estate planning documents, and emergency funds. While it’s possible to get through life without these things, it’s a much more harrowing and anxiety-inducing experience when adversity pops up.
…But It’s Possible to be TOO Prepared
Last year, I was ridiculed both in my house and in the office for filling up all the bathtubs with water and freezing Tupperware containers to make sure we didn’t run out of ice. And rightly so. We didn’t need any of that stuff, and it’s incredibly unlikely that we ever would have, given how the water system operates in our part of our county. I was freaking out and over-preparing. I might have modestly reduced my anxiety, but at a cost that exceeded the benefit.
On the financial front, we sometimes encounter folks who hold onto far too much cash; over-insure their old vehicles; and worry about every market downturn or economic blip, however small. This is human nature and it’s not easy to overcome. Rather than trying to guilt or shame, I’m suggesting that it’s important to step back and understand what we’re really trying to protect against by any of these actions and gauge if the cost of being overprepared is worth it.
It’s Equally Important To Adapt and Be Flexible
We can hope that the power doesn’t go out in a storm. But building a storm-prep plan with that in mind is incredibly risky. Alternatively, we can anticipate that it’s likely that we’ll lose power for a bit and have some candles, flashlights and board games ready to keep kids occupied, and then be pleasantly surprised when it stays on.
A corollary with personal finance is with portfolio construction. When we build investment portfolios, we anticipate positive expected returns for stocks that outpace bonds and cash. But we can’t realistically expect that to happen every year, because history tells us otherwise. So even though stocks will likely produce better returns than bonds and cash over long periods of time, we include the latter for those brief periods when stocks aren’t holding up their end of the bargain.
Don’t Be Foolish
Like clockwork, every news article about a storm includes some quotes from people who should evacuate an area but choose to stay behind. It’s true that some people can’t leave due to illness, infirmity or some other reasons. But inevitably, there’s an able-bodied person who chooses to stay (because that’s what they’ve always done) that then needs to be airlifted to safety at tremendous cost to everyone.
Financially, we regularly cause self-inflicted wounds due to psychological biases that are hard to overcome. We chase winners. We ignore information that runs counter to our pre-set beliefs. We extrapolate the recent past forever into the future. We put too much faith (and money) in our employer’s stock via options, stock purchase plans, and vested restricted stock units. Again, it’s not easy to combat these things. They are hardwired in our brains. But with the help of a trusted advisor, we can sometimes start to move in a more rational direction.
Please make sure your family is prepared during this storm season. And if you’re interested in how we might be able to help your financial preparedness in any way, please let us know.