Saving in Turbulent TimesSeptember 21, 2008
I got a call from one of my relatives this week. She was concerned about all the gyrations in the markets, talk of government bailouts, and the near-constant premonitions of market soothsayers that say the sky really is falling — that the financial markets are a very dangerous place right now. Her concern was completely understandable. She holds some assets the proceeds of which are used to care for her elderly mother. If those assets suddenly disappeared or shrank considerably the consequences to her family would be severe.
I don’t have any advice to offer you if your goal is to make a lot of money in the market right now. My belief is that there are only two types of people who claim to be able to predict short-term movements in the stock market, fools and liars. But there are some things you can do to storm-proof your savings, to minimize the chance that you will experience the kinds of huge losses that some investors inevitably suffer when companies collapse and markets respond. Nothing you can do with your money is perfectly safe. Even if you stuff it under your bed it might be stolen. Here are four steps that I take with my own money to reduce its overall exposure to risk.
- Do not hold any money in equities (stock market) if there is a reasonable chance you will need to use that money in the next three years. If you are very risk averse, push that period out to five years.
- Don’t hold all of your savings assets, retirement and non-retirement, with a single financial services provider. In general, money that you have invested in mutual funds with a given financial service provider (Fidelity, Vanguard etc.) is highly insulated from the financial fortunes of that company. For example, even if Fidelity loses money as a company they cannot touch your investment assets. Short of outright fraud of the most egregious sort, you are not at risk if your mutual fund company goes broke. With that said, strange things do happen and outright fraud, while in my view very unlikely, cannot be completely eliminated as a possibility. I have most of my retirement savings with TIAA-CREF, and I think the risks associated with having them manage most of my retirement assets is very small. Yet, for the reasons I mention above I don’t hold all of my retirement money with them. If you hold money with a life insurance company, for example an annuity, you do have some small exposure to risk if their financials suddenly take a turn for the worse. The same advice applies.
- Check to make sure that you have not inadvertently concentrated your assets in one asset class. Many people mistakenly believe they have a diversified portfolio because they hold several different mutual funds. These mutual funds may hold many of the same types of securities, and in this case diversification is just an illusion. For an example, if you hold 50% of your assets in a stock mutual fund and 50% of your assets in a “balanced” fund which itself holds half of its assets in stocks then you really have 75% of your money in equities (stocks). Make sure you understand what your mutual funds invest in and what your overall exposure is to different asset classes.
- You might consider holding some of your money in Treasury Inflation Protected bonds (TIPS). I do. The interest rate is lousy, but if inflation suddenly goes crazy these bonds interest rates adjust for inflation in a way that provides a nice hedge (risk reduction) for your overall savings.