5 Steps to Stay Ahead of the New Normal
08/24/2012 7:45 am EST
This period of recovery is going to be long and sloppy, and the people that are going to get hurt the worst are those that think things will somehow go back to the way they were before the financial crisis hit. Even if it does, it's not going to be soon, and you need to out-think the new normal, writes Keith FitzGerald of Money Morning.
I hear from countless investors around the world every week. Many of them want to know what "else" they can do to protect their financial future, especially now that the markets could get ugly (again). Here are a few quick thoughts:
1. Chart Your Course
A surprising number of investors tell me that things were going along just fine, then—boom—one day they woke up and everything had turned into a disaster.
If only it were that simple. The truth is digging a hole takes time and a whole lot of effort. If you're in trouble now, it's because you haven't been paying attention for a while.
Knowing what to do is only 10% of the game. The other 90% comes from having a plan. I don't care if it's nothing more than on the back of an envelope or a Post-it like the ones that cover my desk. It's vitally important you have one.
Unfortunately, "beating the S&P 500" doesn't qualify as a plan. Neither does "retiring in style." You have to plan for real-life goals.
For some people, this may be paying for a grandchild's education. For others it might mean building up $20,000 over five years to take that once-in-a lifetime trip, accumulating $300,000 to build a vacation home, or ensuring that you have $2,000 or $10,000 a month to live on 20 years from now.
You have to be specific. That way you learn to control your money before it controls you. If you need help, find a competent financial advisor immediately and ask the right questions.
If you realize you can meet your goals by hitting singles, it makes no sense to constantly swing for the fences and risk striking out. Lower your risk and concentrate on the return of your money rather than the return on your money. Not only will you sleep better, but chances are your returns will be more consistent for having done so.
2. Refinance Your Home (And Everything Else, Too)
Interest rates have fallen for more than 30 years to near zero. They are unlikely to fall much further. If anything, they are likely to rise. Nobody knows exactly when or how high they will rise, but that's not the point.
What's important to realize (and many people have forgotten) is that the median 30-year mortgage rate is nearly 9%, or roughly 150% higher than the best rates available today. Even a minor uptick means you will lose huge amounts of purchasing power.
Obviously, you have to pay closing costs every time you refinance, but the fees can be worth it if you plan to be in your house long enough to break even.
Here's how to run the numbers: Subtract your proposed new mortgage payment from your current mortgage payment. That's the amount you'll be saving every month by refinancing. Divide the closing costs by your savings. That's the number of months it will take to break even.
While you're at it, consider refinancing car loans, credit cards, student loans, appliance plans, or anything else carrying a balance. Apply the same kind of breakeven analysis if you can.
Use the money you free up to pay down debt, pay for your children's education, or anything else you might imagine. My preference, of course, is that you invest it immediately and never look back. But I recognize that's not always possible in today's world. So do the best you can.
3. Re-Examine Your Insurance Plans
Conventional thinking is that you drop your life insurance plan once you retire, on the assumption that you don't need it anymore and can therefore save the cash.
The problem most people overlook is that when a spouse dies, his or her pension benefits go away, too. Even if that doesn't happen, it's very common to see them substantially reduced.
Check with your insurance agent to make sure you've got your bases covered. Don't wait for an unpleasant surprise that could cripple you financially.
4. Build Up an Emergency Fund
If you're retired, I think it's wise to set aside two to five years of living expenses. That way you can plan for the unexpected while also ensuring that you have enough cash set aside for insurance, medical bills, and housing.
If you're still working and have a regular paycheck, you can hold less cash on the assumption that future income will offset the risks associated with a smaller emergency fund. Common wisdom suggests it's adequate to have at least six months' worth of cash on hand, but I think 12 months is more appropriate given today's economic conditions.
Either way, the goal is to have enough cash on hand that you don't have to spend money you don't want to at an inopportune time or sell investments before you want to.
You don't have to start big. In fact, you can start as small as $5 or $10 a week. That way you'll get in the habit of setting aside money for the proverbial "rainy day." When it arrives, you'll be better prepared.
Just start. Immediately.
5. Pay Off Debt
This one seems pretty obvious, but you'd be amazed how many people I talk to who are still up to their eyeballs in other people's money.
Contrary to what the Ministry of Whitewash wants you to believe, debt is not the American way and it is not the ticket to our recovery. Not for the government, not for our nation, not for Europe, and certainly not for people like you and me.
Taking on debt does not give you more spending power. It does not create prosperity, nor is it the key to success. Debt is a quick way to dig your own grave.
Think about it. What these bastards in the "debt makes the world go round" department are saying is that they'd prefer to keep zombie banks alive and billions of credit cards out there in circulation because it will save companies...and Wall Street...and the elections.
Why else would the regulators put up with credit card companies that are allowed to charge exorbitant rates at a time when the Fed has decided to keep interest rates near zero??!!
According to BankRate.com, the average rate on balance transfer cards is 16.15%. Cashback cards are 16.41%, while rewards cards average 15.47%. Even the "low-interest" card rate is an obnoxious 10.69%.
Adding insult to injury, an estimated 75% of all credit cards have a variable rate, which means that as your debt rises, your interest rates do, too. Miss a payment or have a financial hiccup and you're pretty much screwed, even as those same companies I've just mentioned grow stronger.
No-sir-ee Bob. You can do just fine without debt if you want to.