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What's Going To Happen?

What's Going To Happen?

September 15, 2020
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What’s Going To Happen?

I get questions from people asking, should I get out of the stock market?  What do you think the market will do if Biden or Trump wins?  What’s better, a Roth IRA or a traditional IRA?  When do you think we will get back to normal?  Etc., etc., etc.

Basically all of these questions are asking, what’s going to happen?  There are legions of prognosticators, economists, fund managers and talking heads on networks like CNBC that confidently tell you, what’s going to happen.  Here’s the thing, nobody knows for sure.  They talk and write with great confidence and give compelling arguments for their beliefs but in reality they cannot accurately predict the future.

It’s sort of like the Super Bowl pregame show.  The announcers spend the entire day telling you who is going to win and why.  They evaluate the quarterback, the offense, the defense, the coaches, the cheerleaders and the best barbecue from each town.  At the end of the show, each of the experts gives their pick.  Then, they play the game and you get to see who really wins the game.

I was listening to a webinar that featured a writer named Morgan Housel.  He just wrote a book called, “The Psychology of Money”.  One of the things he pointed out was, it’s not what people anticipate or think about that cause disruption, it’s the ones that come out of the blue that really blow things up.  The economists and others talk about interest rates, who’s going to win the election, what will happen to tax rates and how that will affect your portfolio. 

Here’s another example.  At the end of January we held a client dinner event and had one of our portfolio managers give their 2020 outlook.  This group manages over $45,000,000,000 in client assets, has years and years of experience and hundreds of employees.  They put out a tool every month that gives a 3 - 6 month outlook based on various economic indicators. 

The one thing that wasn’t in the 2020 outlook was the coronavirus.  The portfolio manager was aware of it and mentioned it in her remarks but she didn’t say the coronavirus was going to spread all over the world and disrupt the entire world economy.  She also had no idea that Saudi Arabia and Russia were going to have a meeting over a weekend in March and the oil market would be in turmoil as the result of a price war. 

In the past when viruses like SARS, swine flu, bird flu and the Ebola virus appeared, the stock market went down a bit but quickly recovered and we moved on.  I saw lots of charts and graphs put out that showed how the markets were affected by these diseases and how the economy moved on after the initial shock. 

I’m writing this on Saturday, 9/12/2020.  Yesterday was the 19th anniversary of the 9/11 attacks.  On 9/10/2001, nobody knew a group of terrorists was going to hijack planes the next morning and fly them into the Twin Towers and the Pentagon. 

You get the point.  We spend lots of time watching, reading and worrying about what’s going to happen.  We spend a lot of our energy focusing on things that don’t really affect the outcome that much.  It’s the unanticipated events that can have the biggest effect.  Nassim Taleb wrote an entire book about the impact of the highly improbable called, “The Black Swan”. 

How to Prepare for the Black Swan

 

How can you prepare for the Black Swan?  You just said, it’s not the things that we anticipate that mess our lives up.  It’s the unseen, the unexpected, the highly improbable events that cause the big problems.  Okay, Mr. Financial Planner guy, how do you fix that?  Here are a few ideas that might help.

1.       Buy Insurance 

One of the things I have read says, we buy insurance against what can go wrong so we can invest for what can go right.  When you buy insurance, any kind of insurance, you are transferring risk.  You can’t transfer every risk, but you can insure against some big ones.  What kind of risks are we talking about?  I think the big ones are your health, your ability to earn an income, property and casualty risks and the risk you might get sued. 

So, you buy health insurance, disability and life insurance, make sure your car and homeowner’s insurance are sound and get some kind of umbrella policy that protects your personal liability.  Insurance should be a bedrock of any financial plan and can definitely shield you from the black swan.

2.      Cash is King

One of the tenets of financial planning is to have some kind of savings account with 3 to 6 months of your monthly expenses available.  The pandemic exposed the value of that advice.  Nobody anticipated the economy getting shut down and the tremendous amount of unemployment that was the result. 

So now the question is, how do you accumulate 3 to 6 months of your expenses.  40% of Americans can’t handle a $400.00 emergency, so having a big enough savings account for 3 to 6 months of expenses seems impossible.  I agree!  Here’s a way to do this. 

  1. Figure out how much you are spending each month. We use a budgeting program called YNAB.  The key is to see where your money is going.
  2. Have a goal of getting to $1000.00 or so in your savings account. That’s not 3 to 6 months of expenses, but it will handle a lot of emergencies that derail people.
  3. Pay yourself first. Put a small percent, say 1-3% of each paycheck into your savings account.  You might even think about having your savings account at a separate bank or online bank so you’re not tempted to spend it.
  4. Try to cut back on spending by saving on services like T.V., cell phone bills, car insurance, dining out, Starbucks coffee, etc.
  5. One last thought. The largest expenditures for most people are their houses and their cars.  If it is necessary, you might need to make changes here.  A lot of people’s car payments are anywhere from $500.00 - $1000.00 per month.  Even after going over your budget and saving money on some of the items in number 4, it might be necessary to take a hard look at what you are spending on cars and housing.

You can sell your expensive car and get something that is less expensive.  If push comes to shove you can rent out a room in your house or perhaps use part of the house for an AirBnB rental. 

     

3.      Ignore the Black Swan

One of Morgan Housel’s blog posts was titled, “Save like a Pessimist, Invest like an Optimist”.  You can read it here:  https://www.collaborativefund.com/blog/save-like-a-pessimist-invest-like-an-optimist/

Basically he says, in the short term, bad things, unexpected things, Black Swan events happen all of the time.  Because of that, we need to have cash to weather any storm.  When you look long term, it’s a different story.  Here’s a sentence from Morgan’s post:  Since progress is cumulative (we don’t forget past innovations) but setbacks are temporary (we rebuild), the long-term odds tilt towards growth.

One of the representatives from American Funds used to come to our office at Northwestern Mutual.  He would always say, picture the stock market as somebody walking up a flight of stairs while using a yoyo.  The yoyo going up and down represented the short term volatility of the market, yet, the stairs represented the long term growth trajectory. 

When you think in the long term, the only logical conclusion is to be an outrageous optimist.  As a species, humans are always figuring out ways to make life and the economy better.

So….. What’s Going to Happen?  Who knows?  But, having some insurance and a cash cushion to protect against the inevitable, improbable, short term events can reduce their impact on you, your portfolio and your life.  And investing like an optimist for the long term not only makes sense logically, it can have an amazing effect on your future self and even future generations of your family. 

As always, if you have any questions or want to talk, feel free to reach out to me.  Thanks for reading!  KB