Uncertainty in life is a certainty

As we experience this most recent dip in the market due to the uncertainty surrounding the COVID19 virus, I wonder why people are so surprised. By both. The pandemic and the market.

First, the pandemic. We’ve been warned for years that some type of virus would likely be the biggest threat to large chunks of humanity. We’ve seen it play out several other times, first with the HIV-AIDS virus, then SARS, then MERS, and Ebola. In all these cases, we’ve managed to dodge a lot of bullets; more luck than skill, in my estimation. The world is just too interconnected to believe borders or even border walls will keep us safe.

Although we did get proactive and create a pandemic response team in DHS and the CDC, both of those were disbanded in 2018, and expansive cuts to the CDC budget have further crippled our ability to respond. Perhaps we should go back and revisit that policy, if it isn’t too late. I anticipate I will be accused of being political, but that’s not my objective. I simply want to state the facts.

The market was also predictable. We are 12 years into the longest-running bull market in history. The stock market is sitting at record highs and keeps going up despite troubling economic indicators. It was only a matter of time before something knocked it down, and this may do the trick. It makes sense, really. As China becomes more and more a hollowed-out ghost town, supply chains are beginning to dry up. Much of this country’s manufacturing is reliant on these Chinese supply chains, and without them the ability to maintain our economy will be weakened. If this really does turn into the pandemic we’ve been warned about for years, the economies of many countries could be devastated.

Are there things that can be done? Yes. Medical experts indicate this virus is passed primarily by sneezing, coughing, and germs on surfaces we touch. I am getting on a plane in a couple of moments, and the first thing I am going to do is wipe down all the surfaces around me. Cover your mouth and nose when you cough or sneeze, with the inside of your elbow, not your hand. Practice good handwashing practices. Remember, this virus does not present symptoms for 12 days or so; that’s a long time to be interacting with others before knowing if you are infected. Health experts suggest “self-quarantining” if you come in contact with it. In other words, be smart and considerate of others.

There are also things you can do to protect your investments in times like this. In fact, whenever we put together a plan it automatically addresses the certainty that a “Black Swan” event such as COVID19 will occur, probably more than once during your lifetime.

The first thing we do is create an “ABC Plan” for our clients. An ABC plan structures your money based on your desired results, not on the accounts you put it in. Over the years we have identified three specific high-level objectives most people want from their money: liquidity, growth, and dependable income. The big fallacy of financial planning is that it’s possible to get more than one of those with any reliability from a single type of account. Each of those aspects of money require a very specific asset class.

A: Liquidity, for example, would require safety and easy availability without constraints. An example of constraints would be penalties for early withdrawals or depleted resources due to market volatility. This is important because liquid assets are relied on for emergencies. A few years ago, we had severe issues with our septic system at home. This is not something you delay on! So, if you are relying on market assets for liquidity and it’s 2008, you would find yourself having to liquidate assets at a reduced rate in order to take care of the emergency. This can have severe long-term negative impacts on your financial well-being. First, it means you are spending more than necessary on your emergency, and second, you liquidate shares you would rely on for recover with the market. It’s a lose-lose.

Knowing this, you elect easily liquidated, risk-free assets such as savings accounts and CDs for your liquid assets. You understand you are giving up growth, but you also understand that liquidity, not growth, is what this money is for.

B: By the same token, it’s impossible to get reliable income from market-based assets. You need predictable income every month in order to cover your expenses and obligations. If, like in the liquidity example above, you go through a significant drawdown of assets, you still need that income. Again, you will be depleting your supply of shares due to the need to sell more for the same income, and when the market recovers, you’ve already locked in your losses, thereby threatening your future income. This is the reason behind the “4% Rule.” Even though the market should average 7%-8% over time, planners urge their clients to limit spending to 4% of investments due to market volatility and something called “Sequence of Returns.” In the same way market volatility is toxic to liquidity, it’s even more so with regards to income, as that’s a routine and permanent need. So again, we need to eschew risk in favor of safety and reliability.

C: Growth, on the other hand, is fine with risk. It’s market risk that can propel the types of gains we’ve had over the past 12 years. No one in their right mind would want to pass that up. So, you do want to put your money in the market, at least the money you want to grow. And since you have provided for liquidity and reliable and predictable income through other asset types, drawdowns of the kind we experienced this week tend not to create undue stress, since you know it’s not going to impact your income or liquidity. As you can see, a good ABC plan is a great foundation for every retirement income plan.

Stephen Kelley is a recognized leader in retirement income planning. Located in Nashua, NH, he services Greater Boston and the New England areas. He is author of five books, including “Tell Me When You’re Going to Die,” which deals with the problem unknown lifespans create for retirement planning. It and his other books are available on Amazon.com. He can be heard every weekend on “The Free Money Guys Radio Hour” on WCAP and WFEA, and he conducts planning workshops at his New England Adult Learning Center, located in Nashua. Initial consultations are always free. You can reach Steve at 603-881-8811 or at www.FreeToRetireRadio.com.