Enough Cash For A Cadillac
My great aunt Irma was quite well off, living in a small grove in Orange, California next door to entertainer José Feliciano. We visited her every few years and she took us to nice restaurants, always picking up the tab. As I got older, I was more a part of the adult conversations going on during those visits. One day, Aunt Irma mentioned that she always kept enough in her checking account to pay cash for a new Cadillac. In today’s dollars, that’d be around $60,000 perhaps a bit more than we’d normally recommend for our clients.
As I’ve said before, we can almost always find a way to make the numbers work for our clients regardless of their goals. However, there’s more to planning than figuring out a sensible strategy. In fact, how people feel about their money is frequently more important than the numbers themselves. Most of our clients prefer to keep at least a couple months’ living expenses in their checking accounts. Depending on their situation, we usually keep around a year’s worth in their investment accounts. Is that the right amount? Unfortunately, we simply don’t know because there is never one ‘right’ answer.
Assuming choices are available (and I well remember living paycheck to paycheck when my wife and I were first married), what’s the best way to determine how much cash to keep on hand? A perfect answer would require the ability to forecast future events with absolute accuracy – an impossible task. That said, it’s the financial planner’s job to deal with this sort of uncertainty and recommend a well-coordinated strategy for our clients: appropriate levels of cash on hand, a suitable investment approach and a reasonable level of insurance protection. We must make these and other choices not knowing exactly what the future will bring. And, of course, we must do so for each client’s unique situation.
One way we approach this task is to try to measure our clients’ tolerance for risk. We have been using a system called FinaMetrica for more than twenty years. While it is the most-normed such process in the world, we understand that there is more to our clients’ lives than just their risk tolerance. After several years of research, we’re rolling out a more robust approach to understanding risk. We are now trying to estimate people’s perception of risk, made up of three components:
• capacity for risk – the ability to withstand a financial setback
• composure with risk – how they understand risk
• tolerance for risk – how emotionally comfortable a person with risk (still using FinaMetrica)
No matter how carefully we approach risk management, our clients are bound to experience situations which they find uncomfortable. Cash on hand, investments, health or property might each become a problem at one time or another. Helping clients deal with this range of issues is part of our job as their planners.
As philosopher Thomas Hobbes once said, The best prophet is the best guesser. We’re not interested in guessing on our clients’ behalf but we still must advise them. That’s why risk management is where we prefer to begin when working on someone’s financial plan. TV ads ask: ‘What’s in your wallet?’ That can be an important question but we’re searching for a much deeper level of information.