The current economic crisis is replete with almost nonstop headlines of the worsening credit crunch, banking failures and job losses. The recent collapse of several stalwart iconic American companies such as Bear Stearns only magnify the bleak economic picture.
For decades, financial planning in the United States rested on a few guiding caveats such as “buy and hold”, “have an emergency fund to cover 3-8 months of living expenses” and “practice dollar-cost-averaging even during bear markets”.
Unfortunately, the last decade has been anything but kind to millions of investors. The bursting of the stock market bubble in 2000 wiped out the portfolios of millions of investors while others suffered a significant decline in the monetary value of their holdings. The current financial meltdown and stock market turmoil combined with a rapidly changing global economic dynamics has propelled a significant number of individuals to re-evaluate their current lifestyle and money management strategies
What specific principles need to be re-evaluated to meet the new set of economic and financial challenges that we are confronting? What money strategies should we employ?
1. Emergency Funds: Financial planners have historically recommended that a person should have an emergency fund to cover 3-8 months of living expenses. However, the shrinking job market, stagnant wage growth, lack of job security, higher cost of living and continuing volatility of the stock market necessitate a significantly larger financial cushion consisting of secure liquid assets. For many older unemployed individuals, the job search is not only becoming more difficult, it is also taking longer, often a year or more! Have safe liquid funds that can see you through at least 2 years.
2. Buy And Hold: This strategy which enjoyed a fair amount of success during the past few decades and through the nearly 20 year bull market which ended in 2000 needs to be reassessed in view of today’s competitive global economy. There are quite a few individual investors who even in 2008 are stuck with a 1990s portfolio. Even as recently as 2004, many individuals continued to hold stocks in companies that had yet to partially recover from the bursting of the stock market bubble in 2000. In quite a few cases, these stocks were not speculative and in fact, rather conservative but their “heyday” has long since passed; totally inappropriate for the economic climate of today. As a result, the monetary value of these investments has greatly eroded over time. Being successful requires being alert and flexible. Manage your greed and fear. Even selling half of your holdings at a moderate profit is better than sitting and watching your investment steadily decline in value. There is no such thing as a “safe” stock or company. Review your portfolio regularly and learn about the companies in which you invest and contemporary economic trends.
3. Financial Goals In Stages: Establish your goals for achieving financial wealth in ten year increments. Every decade should count for something! For every decade that has passed, have you reached your savings and investing goals? After we turn 40, we often find ourselves reassessing our financial and personal achievements. Many people in their forties or early fifties are often dismayed when confronted with the realization of actually how little in the way of financial assets they have accumulated. It is shocking but true that a person who at age 26 obtains a $35,000 yearly salary and works forty years with perhaps only marginal wage increases will have earned more than 1 million dollars during the course of his or her working life and have practically nothing to show for it.
4. Frugality: Living below our means requires us to be proactive; thinking for ourselves and seeking out new opportunities. Practicing prudent money habits is not easy but it compels us to reflect on the impact of every financial decision on our present lifestyle and future plans.
5. Keep It Simple: Don’t overcomplicate your life. Review the principle of “diversification”. Diversification without purpose is useless. Consider that the larger your stock portfolio, the more time you expend monitoring it. Do you have the time to go through 35 annual reports and monitor your stock portfolio on a daily basis? Evaluate your holdings. Most people may not need 50 stocks. Never invest in anything you don’t understand and don’t need! Investment companies are always marketing new gimmicky products.
6. Own Your Home Outright: Your goal should be to own your home outright before retirement! The earlier, the better! Buy a home you can afford. Try to make as large a down payment as you possibly can. The money you save can fund other financial goals.