Risk… the word has certainly taken on new significance in 2020 as we navigate the COVID-19 pandemic. COVID-19 has killed thousands of people in Canada and over a million more around the world. Many more people have experienced the illness, and its many side-effects and related long-term complications. Others have had to deal with the societal and financial fallout of the illness and government actions to try and minimize the health effects through lockdowns and closures, resulting in the loss of employment and reductions in household income through reduced work opportunities. In fact, COVID risk is not only a threat to our health, but also to our employment and finances and to our businesses and investments. The COVID-19 pandemic we are experiencing is the single biggest global health threat in more than a hundred years and the most pronounced economic event arguably, since the great depression.
There is little question COVID-19 has sharpened our focus on risk. This said, risk must also be considered in the bigger picture of life.
In the Natural Wealth Process we break the financial life planning process into 5 elements: Vision, Wealth, Tax (and Estate), Cash (Flow) and Risk. In the next several weeks we will focus on the element of Risk. Risk is a fact of life. We take risks every day, knowingly or not, don’t we? We take risks when we leave the house to go to work or school or shopping or to participate in most any other activity. We take risks around the house when we climb a ladder or go up and down a set of stairs… We take risks if we choose to go into business for ourselves or with others. We take risks with our investments to hopefully earn a higher return than might be the case with savings accounts and GIC’s. Let’s face it, we must consider risk in most facets of life.
In the Natural Wealth Process we separate risk into three types: Person Risk, Portfolio Risk and Possession Risk.
Person Risk is made up of all the risks that can befall our person and our ability to earn an income or enjoy life. The risks can be to our physical being, such as sickness and accidents, which can result in incapacitation or death. Or, they can be to our skills and abilities, affecting our ability to earn an income. It’s important for individuals and families to have a grasp of the various Person Risks they face and a plan for managing the risk, taking care of their health, keeping their employment skills sharp and up to date and making sure they are covered if someone gets hurt or sick to the point they can’t work. Person Risk does not end at retirement. Arguably, Person Risk is an even more important consideration after retirement. Staying as physically and mentally healthy as possible is a very important part of being able to enjoy and take part in retirement lifestyle opportunities. A big financial consideration in retirement is the cost of medications and para-medical treatments. A focus on healthy living throughout our lives can help maximize our health in retirement and minimize many medically-related expenses.
Portfolio Risk is the risk associated with saving and investing and, where applicable, with our business enterprises. ALL investments come with risk. Most people understand the risk associated with investing into rental real estate, stocks and even bonds. Many do not understand the risk associated with investing too conservatively over time. Savings accounts and GIC’s interest rates are virtually all sub-2% right now (except for the odd “special-introductory high rate offer). Inflation is still a significant risk and the risk may well increase going forward with the massive liquidity infusions made by governments and central banks. If you don’t think inflation exists right now, trying buying lumber or buying a house or any one of a number of products and services that have seen shortages in the COVID-driven economy. Investing too conservatively can actually contribute to not having enough money in retirement. Mistaking short-term portfolio volatility and permanent loss of capital is one of the biggest risks associated with long term financial security. We will discuss the real risks of investing in an upcoming post.
If you own a business, your business is part of your Portfolio Risk in the Natural Wealth Process. You probably have a pretty good grasp of the risks associated with operating your business. Owning a business can be a very rewarding experience, personally and financially. Owning and operating a business can also be very risky. We invest capital and our time and energy to create business success, earn a fair income and hopefully, build long term sustainable family wealth. Sadly, the survival rate for small businesses is not great. Business risk is everywhere. Sales decline. Costs surge. Products fail. Unexpected events (like COVID-19) come out of the blue to derail our business plan. Fires, extreme weather, theft… The risks go on and on. Some risks can be managed and even avoided in a well-run business. Some can be insured for. Some cannot be avoided. Many businesses didn’t skip a beat during the current COVID pandemic crisis. Some have even enjoyed a surge. Others have been extraordinarily badly affected. In many cases, small businesses most affected by the pandemic like those in the travel, hospitality and restaurant business are just hanging on. Business risk management begins with awareness and a conscious assessment of the current situation and possible future problems. One can then develop an action plan for avoiding, managing and where appropriate, insuring risks that might lurk.
Possession Risk is the risk we have as owners of personal lifestyle property and possessions. Our homes and cottage/camp properties historically have maintained their value or even gone up in value if kept in good repair. Note that these assets could actually go down in value for a period of time if purchased in a heated market. That said, over time most residential and recreational real estate has at least kept pace with inflation over time. Outside of houses and cottages, most other possessions depreciate in value over time and in many cases require periodic replacement. Maintaining our properties and ensuring safety systems (i.e. smoke and carbon dioxide detectors in home and cottages) can help minimize possession risk. Keeping our vehicles maintained can lower major repair costs, a financial risk of possession ownership. One of the risks few people consider is the liability risk associated with owning possessions. Someone experiencing an injury while on your property or while riding in a boat or on another recreational vehicle could result in a financially crippling lawsuit. The chances of such an event might be statistically low but the impact of a lawsuit could be financially devastating. In most cases, liability insurance is not an overly expensive insurance rider to have on policies you carry on homes, cottages, cars and trucks, and recreational vehicles. We will touch on Possession Risk and ideas for minimizing and managing the risks associated with our lifestyle assets in a future post.
Risk is ever present in modern life. A solid financial life plan will consider the risks associated with the various aspects of our lives and review options for avoiding, managing and, where able and feasible, insuring the risks that are most pronounced and impactful.
We will post blogs in coming weeks focusing on each of the Risks we consider in the Natural Wealth Process. Let us know if you have stories about your experience with risk (negative and/or positive) you may not have already shared.
David J. Luke, CFP, RFP, CLU, CH.F.C., CIM | Financial Advisor
360 Private Wealth Management | Manulife Securities Incorporated
Unit 1 – 25 Scurfield Boulevard, Winnipeg, MB R3Y 1G4
Main Office 204.925.5868 | Direct 204.925.2073| Fax 204.925.2263 | Toll Free 844.688.3656