Some have dubbed 2020 the year of “black swans,” a reference to statistician and philosopher Nassim Nicolas Taleb’s theory about events that exist outside of mathematical models because they are so extreme. In his 2007 book, The Black Swan, Professor Taleb looked at financial markets and modeling and found that significant events happen that are so rare they are not conceived of before they come to pass, they have a catastrophic effect, and they can be explained in hindsight but could not have been forecast ahead of time.

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Whether the events of 2020 are black swans or merely unusual, the theory reminds us of the idiom used reflecting on what could have been: hindsight is always 20-20.

We continuously feel as though we’ll be able to forecast the future because we are able to explain the past. Then the rug is pulled out from under our feet, because the future isn’t the past. The future has different extreme events in store for us than the ones we’ve experienced already.

If we can’t predict the future perfectly, can we do something to create what Taleb calls a “black swan robust” society, meaning a society that can withstand difficult-to-predict events?

In other words, can we use our 20-20 hindsight and avoid the fate prescribed by American philosopher George Santayana: “Those who cannot remember the past are condemned to repeat it.“?

Hope for the best, plan for the worst.

Utilizing financial planning strategies may help families create financial stability, creating their own safety net for specific potentialities, or for the completely unexpected. For increased family financial security, one could consider these risk-mitigation strategies:

  • Creating an emergency fund
  • More insurance (life, long-term care, or disability insurance)
  • More savings in tax-preferred retirement accounts to protect against running out money
  • Portfolio changes to reduce investment risk

Where do I start?

Before addressing potential risks, it’s helpful to understand your assets and liabilities. You need to gain a clear grasp of your income and expenses to determine your cashflow and how much can be allocated toward addressing different types of risks. Many free resources, including mobile apps, are available that help track spending habits and can create a base approximation of a family budget.

Savings could be allocated toward insurance for catastrophic risk, or for a “rainy day” or “emergency fund” that could be drawn upon. Even putting that savings to use by investing in a 401(k) creates a fund that could be borrowed against without incurring high-interest debt.

How much should my “rainy day” fund be?

“Enough” is relative to your needs and situation. Some have reliable job security and need to protect against one-time expenditures, others don’t and need to protect against an extended loss of income.

For a comparative look, consider this recent Federal Reserve Survey* that showed that only half of Americans have dedicated emergency savings or “rainy day” funds. Even if they do have an emergency fund, only one-fifth say they could cover three months of expenses. As an example – If you earn $5000 a month and your expenses are $4000, you could contribute a maximum of $1000 a month to meet the $12,000 emergency savings goal. One year later, you would be in the top 20%.

Is cash savings the best way to mitigate risk?

Cash savings may not be sufficient to cover losses in catastrophic scenarios. The most popular risk-mitigation strategy for extreme scenarios, such as disability, medical costs for aging, or even passing away is insurance. More information on those strategies can be found here.

Cash savings is also likely to earn very little, compared to investing alternatives, but has the advantage of immediate liquidity without any reduction in value. On the other hand, a tax-preferred retirement account can substantially increase the growth of assets over a long-time horizon, but accessing it before retirement age would subject its value to penalties.

What should I expect from a client advisor?

When your goals include balancing a personal financial safety net with meeting longer-term investment objectives, a client advisor will be a crucial resource.

As your investing co-pilot, the client advisor provides a second opinion and experienced insights to assess whether or not your current investment portfolio matches your stated goals and risk profile. The advisor can:

  • Help prevent hasty decisions by providing a historical perspective, which may keep you focused on your long-term goals.
  • Revisit your risk tolerance as life events cause your situation to change, and rebalance your portfolio accordingly.
  • Provide diversification, through asset allocation, to mitigate some of the risks of investing.
  • Review your cashflow needs, and provide guidance for how liquid your investments need to be for “just in case” scenarios, and whether tax-efficient investment accounts such as IRAs that are less liquid might be appropriate.

A client advisor, such as those at Arvest Wealth Management, can’t remove all investment risks, just as they can’t predict the future. They can help bring clarity to your choices, helping you to understand how your time horizon, liquidity requirements, and dependent’s needs may be harmonized.


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This content has been provided by Merrill Anderson and is intended to serve as a general guideline.

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