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TODAY’S FINANCIAL lesson: We can manage risk—but terrible stuff can still happen. This thought, of course, was prompted by my recent cancer diagnosis. But the notion is also all too relevant to money management.
But let’s start with health matters. In 1995, I began training for my first marathon, which I ran in May 1996 in Pittsburgh and finished in just under three hours. Ever since, I’ve been a bit of an exercise nut. Even today, I work out for an hour every morning and take a walk every afternoon.
Despite that, my cholesterol is a tad higher than it should be and I’m considered prediabetic, so I eat a high-fiber diet, and I strictly limit processed meats and fried foods. I also try to hold the line on vino, typically limiting myself to a single glass with dinner. These are the sort of health issues I’ve been focused on for years, and which I worried would come back to haunt me.
Instead, I got cancer.
It strikes me that managing money isn’t so different. We’re laser-focused on certain risks. Stock market crashes. Auto accidents. Our home burning down. Big medical bills. Losing our job. Hefty home repairs. All this drives the size of our emergency fund, the insurance we carry, and the sum we allocate to bonds and cash investments. But what if the risks we’re trying to contain aren’t the risks we get hit with?
I’ve long argued that, to build wealth, we should avoid chasing investment performance and instead focus on three less-exciting endeavors: saving diligently, keeping a tight lid on investment and other costs, and managing risk. This three-part approach is at the core of the frugal index-fund investor’s playbook—one I’ve followed for decades—and it’s also good advice for the rest of our financial life.
To me, of these three dimensions, risk management is easily the most fascinating, but it’s also the trickiest. Consider:
It’s easy to dismiss layoffs, disability, pandemics and long bear markets as low-probability events. But spare a thought for Pascal’s Wager. As 17th century French philosopher Blaise Pascal saw it, it was logical to believe in God. If you believed and God didn’t exist, your religious devotion might cause you to miss out on a little earthly fun. But if God does exist and you don’t believe, the price is considerably higher: an eternity roasting in hell. In other words, we should focus less on the odds of something happening and more on the consequences.
I don’t want readers to obsess about risk. But I would encourage folks to build financially resilient lives and to avoid big assumptions about the future. Risk has now arrived for me, and it’s taken a form I never imagined. Fortunately, I’m well-prepared financially, thanks to health insurance and a plump nest egg.
But what if my fate instead had been, say, decades of dementia? Would my nest egg have held up? I’m not sure there would be any way I could have reasonably prepared. Still, there’s an important lesson here: While we have only one past, we face all kinds of possible futures—and it’s worth asking whether there are futures we aren’t even considering.
Jonathan Clements is the founder and editor of HumbleDollar. Follow him on X @ClementsMoney and on Facebook, and check out his earlier articles.
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Risk is something I’ve thought about since 9/11, when so many people left the Twin Tower buildings, but returned when given the ok. What gets me is that moment where you recognize the risk and stop or take action. I have a different life than most who reply here as I was a SAHM and then divorced without alimony. I did keep a sum of money, which I put with a financial advisor, and never spent. Remarried and have had several transitions, but never quite enough to not live some skinny years. Good things came, though. In 2007, I landed a state job, with a pension. I was able to add time from a college job I had while in school. My husband had a five year certain (oops) but it paid off our townhouse. Then, came 2011 and we bought a house for a little more than the townhouse value–paid it off in 2021. Same with a used car in 2018. Lucky us! But, being prepared for the next transition is tricky, and we may not have an easy shift. Husband, besides other conditions, is beginning down the path of dementia. Medical expenses on Medicare exceed $10k/year. No way I can also cover caregiving with the current income, and parttime work does not seem likely. It is lovely knowing we are in with many who are in the same boat, living well, but without resources for older age. Selling the house would mean we are at the markets’ mercy of raising rents, even if we could find an ADA style place. Assisted living is also well beyond our means. The lesson has been, for me, to keep my antenna out for options and to be prepared to adapt by having skills at hand.
One more risk to consider is getting married. If you are told of an investment in a stock that has 50% chance of a total loss, you will never invest. But people do get married when the risk of failure is well known to be 40-50%.
Failed marriages cause significant financial damage to both partners for a long time. So take the time to prepare and choose well to mitigate such a high risk.
I always liked this quote on risk by Captain Kirk on Star Trek.
“Risk… risk is our business. That’s what this starship is all about. That’s why we’re aboard her.”
Jonathan,
Born in England and 61 years old this year are two things we have in common with you, but a financial guru I am not.
The more I try to educate myself about finances and retirement, the less it seems I know. It was was easier to contribute to my 401k every month, rinse and repeat for three decades, than now trying to plan for retirement. But I’m not complaining.
In my professional life I have always been a ‘problem solver’. To that end I understand that we can control some things, but not all. My personal preference is to try and distill ‘problems’ so they are easily explained, which your articles do very well, and understand that it is unlikely I will account for all the variables / eventualities. Risk is a complex subject, and simplistically for me comes down to:
What I know (or think I know):
If you had asked me ‘what I know’ in this context a few years ago, before reading Humble Dollar, the above list would have been shorter.
From a risk perspective our plans anticipate a lower rate of return from the market and we have sufficient funds in cash and fixed income to ride out a storm. If the storm goes on longer than most we will adjust our spending habits accordingly.
and what I don’t know:
From a risk perspective I am not going to lose sleep over the first three or the last one on the list as they are out of my control.
Going through the process of thinking this through (writing this comment) it seems, from our vantage point, that real risks we need to address are:
I can certainly tell from your comment that you have been reading Humble Dollar. This is a great summary of what many of us have wrestled with over time.
Thanks Jonathan!
For those who missed it, there was an article about Jonathan in Saturday’s NY Times.
A Money Guru Bet Big on a Very Long Life. Then He Got Cancer.
https://www.nytimes.com/2024/07/13/your-money/jonathan-clements-cancer.html?smid=nytcore-ios-share&referringSource=articleShare
I always say that the future you plan for is the one mostly likely not to happen, and unexpected events can sometimes be better than what you’ve planned.
Plan for rain, take your umbrella, and the sun may shine.
I work with folks who suffer health problems that it seems they might have avoided, or at least forestalled, had they taken some precautions. But others experience tragedies they had no way of knowing were on the way. We’re all given different genes, brainpower, emotional strength to carry us through life, and we have to try to do our best. And those of us who make it through many risky years should be thankful every day for each day.
Jonathan – It would be awesome to see you rotate your photo with ones from different stages of your life. Preschool Jonathan, middle school Jonathan, teenage Jonathan etc.. You feel like a dear friend even though we have never met and I and perhaps others would like to see photos of you from your early life.
Life in itself is one big risk. My philosophy has always been that, if you’re born to drown you won’t hang.
I just read Taleb’s snarky book on randomness. In it, he talks about putting all one’s assets in treasuries because they are secure. But he also refers to a relative who lost all his wealth because it was denominated in a currency which collapsed. He did not connect these stories, but I did thinking about Taleb’s skewering of induction and how I never understood it; it made no sense because of its disconnection from reality when I was first introduced to it in 11th grade precalc. My point being that we’re all assuming that both the dollar and the laws which underpin the retirement system, or the whole financial system, will survive whatever the election in November deals us or whatever else we haven’t considered, such as regulations no longer being considered law.
Taleb’s book did have elements of snark, but it also contained a ton of wisdom. For finances and for life. Especially his idea of a barbell approach to investing. 80-90% safe bets, and 10-20% bets that are riskier and might have a tail. Because a portfolio with any stocks that had tail events is a lousy portfolio.
Before I retired I was a surgeon. About 20 years ago I had a patient who developed severe postoperative complications. He was hospitalized for 6-8 weeks. Near the time of his discharge, I talked with him about his hospitalization and how close he had come to not surviving. He brought up his experience in World War II. ” When we were fighting, we always felt that if there was a bullet with our name on it, that was just the way it was going to be.” “But we always kept our heads down because we never knew when one might show up addressed ‘To Whom It May Concern’.” We do our best to prepare, but sometimes things just happen.
We can take a myriad of risks into account, yet ironically suffer from one not anticipated. Still, I say a flawed plan is preferable to no plan at all. None of us can avoid or eliminate risk, and simply worrying is counterproductive. Planning how to mitigate risk, however, is wise. Most people, including me, are not wired to easily grasp things like probability. Too often the focus is on the probability of being right or wrong. Many confuse a low probability of occurrence with “it will not happen”. (See Bernstein’s discussion of calculating the probability of extreme tail events using a power log graph rather than the number of standard deviations in his 2nd edition of “Four Pillars”). And, Pascal’s wager reminds us to consider not merely the chance of being wrong, but the cost of being wrong. This article is clearly written, succinct, and easy to grasp, which everyone would benefit from reading!
I have several friends and patients who are going to benefit from this article.
Jonathan, as always a superb piece of writing. I would offer what might be considered a competing perspective.
There is no risk. Not really. We are 100% certain to die, all of us. The only real risk in life is not sufficiently enjoying the time we have before it’s done.
I certainly haven’t lived my life by this philosophy — like everyone here I have stressed over a falling stock and spent hours comparing insurance policies in a devotion to risk reduction — but I’ve kept it in my mind in recent years since my own ironic cancer experience.
I considered my lifelong passion for soccer to be health-promoting. Instead, 40 years of playing in the sunshine (before they invented sweat-proof sunblock) gave me stage 4 melanoma. So the best thing in my life produced terminal illness.
That the miracle of immunotherapy reversed that verdict was also not a function of risk management — it just happened that way. And if it hadn’t, and I had departed six or seven years ago as expected, I think my only regret would have been the time I spent worrying about the bad things that could happen. Especially since the worst one was something I would never have seen coming in a thousand years. Like you, I suppose.
A good friend used to say, “the bullet that gets you, you never see coming.”
As I gotten older, I’ve seen lots of “bullets” fired at me and my family, but I refuse to live my life in fear. My faith says it is a sin to fear the unknown if I believe in the Creator and His Son.
Life is full of risks. Everyone has to decide whether they are low-impact risks or high-impact risks – balancing the probability they wll occur with the magnitude of the consequences. I’d bet that the accuracy of the decisions – correctly avoiding big risks and correctly exploiting big opportunities – would squarely fit a standard normal distribution. That is, 50% of the people would be wrong, and 50% would be right. A small percentage would be cataclysmically wrong and an equally small percentage would be correct and hit the jackpot. And those excellent or terrible outcomes no doubt often occur for people through no fault of their own – it is just the law of large numbers at work among the population. Once in a while, people actually do roll snake-eyes eight or ten times in a row. Somehow when we have suffered from some event, we usually endure, and regroup, and make our way through the world, always trying to make the best of what we have been dealt. (I think that distribution would lean toward the positive.) That is all we can do. And it helps to be surrounded by something completely unrelated to money, like love.
“Focus on the consequences.” A phrase I plan to put on my bulletin board. Love this article and the one in The Wall Street Journal. So glad they did such a fine one.
I really enjoyed this Ron Lieber NYTimes column on you this morning, Jonathan. I hope it brings a lot more people to your wonderful, helpful blog.
https://www.nytimes.com/2024/07/13/your-money/jonathan-clements-cancer.html?unlocked_article_code=1.600.XWxg.vPPl6IeKNVC8&smid=url-share
And thanks for today’s wise article. The ambiguities of the future (and trying to control them) are the things that keep me up at night. Can hedge the risks, I guess, but not control them.
Laura, Thanks for sharing. It is a good article.
Loved the article in NYT. Thanks for the link.
Thanks, Laura!
Thanks for the link Laura. Nice article.
Laura, thanks much for posting the link.
Thank you for the link to Ron Leiber’s column. Yep, low risk does not mean no risk.
Another great article. I would like to mention Earthquake as a peril than many who have real exposure from ignore and don’t purchase the coverage. I have lived most of my life in either CA or WA, both of which have enormous earthquake exposure. The source of risk in California is the San Andreas Fault while Western Washington must deal with the Cascadia Subduction Zone.
For both of these areas, there are many small events which do no damage, a few larger events that can do moderate damage, and very rarely, giant events which devastate large areas.
The last large event on the Southern half of the San Andreas occurred in 1857. You can read about it here: https://en.wikipedia.org/wiki/1857_Fort_Tejon_earthquake. The average slip between the two plates seen at the surface was 4.5 meters. So that, a person on one side of the fault would see the land on the other side move away that much. This large event didn’t affect the fault in the Los Angeles/San Diego area which has not moved since 1680.
The last great event on the Cascadian Subduction Zone was in 1700. This was a giant 9.0 magnitude event.
There are other areas outside of the West Coast with large EQ risk as well, such as the area affected by the New Madrid events in 1812.
After every moderate event, there is a significant increase in the purchase of EQ insurance, but as memories fade people drop the coverage. I am paying around $1000 annually to cover my home for EQ. Although this comes with a 10% deductible, when/if my home were to come off of its foundation, that 10% would be a small portion of the loss.
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I’ve lived in the same two states, plus a beach house in Oregon, which we sold because my wife was convinced that if we stayed too long we would be swept away by a tsunami.
Personally I considered it an excellent way to go.
As always a great read. I find in fascinating that you consider the Japanese bear market such a pivotal event. I read the link and it was enlightening. As an American I didn’t follow or an invest in the Japanese market, probably because the bubble had burst when I began investing.
It is painful to imagine seeing a market go down in value then go nowhere for so long.
It is the deep risks as explained by William Bernstein that are so hard to protect against. You are absolutely correct, that it is usually the unanticipated events that harm us the most.
Well said AGAIN!. Thanks
Jonathan,
So well written.
Wow.
Thank-you
Excellent article Jonathan. Every complex aerospace project I worked on had a Risk Management Plan, that defined a RM process. A board of experienced professionals would meet regularly to evaluate risks, assign them to certain categories, and put plans in place to eliminate, mitigate, monitor, or accept the risk. Properly done, this can help make a program more successful.
But, as one senior colleague taught me early on, it’s not the risks. He told me that once a week he would go into our clean room and stare at the spacecraft we were assembling, looking for things that he hadn’t considered, or were different from his initial assumptions. It was a great lesson – just take a few minutes and think about what could go wrong that you haven’t considered. Occasionally you find a big miss.
My wife is excellent at this type of assessment with regards to health. She can smell a sinus infection coming on, notice the change in a person’s gait, or their skin coloring. I try to do this, albeit informally, in our financial plan. Too much fretting isn’t healthy. I think a simple plan, with an ample margin of safety, works best.
Rick – I was working with an air filtration company as a structural consultant. The end user came in for an inspection and asked a question that neither the manufacture nor I had considered: Why aren’t you manufacturing your HEPA filters in a clean room environment? That was a lightbulb moment for me, and illustrates your comment about looking for things not previously considered. The manufacturer set up a clean room assembly area very quickly as this was a very valuable contract.
Owning the right insurance is paramount in controlling risk. But for certain brutal occupations you can forget about disability coverage as it will be either too expensive or not available at any price. Conventional long term care insurance has very strict underwriting to get past.
As for an umbrella policy, anyone can buy it and everyone should, the premium is totally affordable.
Conflicted by this article. I understand the need to prepare for the future and anticipate possibilities, but at the same time, I don’t think it’s healthy to spend our lives worrying about things that may never happen. Where is the balance?
Matt you make a good point. I think the balance is somewhere between having ones head up their butt about possible perils and being obsessive about what might be lurking around every corner.
Thanks, Dan. The right balance is somewhere in between those extremes for sure.:) I guess life is all about finding that right balance in many areas.
Fabulous article as always Jonathan, thank you.
“Purportedly low-probability events seem to happen with surprising frequency.”
Indeed. That’s the lesson I took from reading Benoit Mandelbrot’s “The (Mis)Behavior of Markets.” I’m not smart enough to really understand everything in the book, but his point that markets are riskier than we think is worth contemplating.
The markets are a reflection of life, ever changing and unstoppable. 10 years ago everyone would have looked at you funny if you mentioned that companies will be able to harvest every aspect of your identity.
Nowadays it’s agreed upon that billions of identities are laid bare to algorithms attempting(successfully even) to separate us from our cash efficiently. Within our lifetimes it’s all too common to have revolutions that flip our understanding of the world on its head.
I retired in December, and 5 weeks later began a “C word” saga with my wife that has put her in the hospital 5 times with at least one more to come. I spent WAY more time than I anticipated before that figuring out how to transition from work insurance, whether to do COBRA or ACA, and, for fun she turned 65 this month so we’re now finding out if we chose wisely on medicare plans (supplement, part g). I THINK we’ve managed that risk as well as we can. I would not have had half the clues I needed to do so without HumbleDollar, thanks Jonathan, et al. You’ve had a huge positive impact.
One reason we try to manage risk I think is to retain as much control as possible, but, “death and taxes” … unmanageable risks will find us.
I think there is purpose in suffering/the bad things we can’t control. Sometimes we get to see it (I think I do in our current saga), more often (think the book of Job), we don’t. Hang in there.
Eludom, I agree there is purpose in suffering; sometimes we find out/figure out the purpose, and other times we don’t. The book of Job is a prime example of someone (Job) not knowing why he was suffering. Job did not sin or do anything wrong, so why did he suffer? Ultimately, he suffered because God allowed Satan to test Job’s faith. In the end, Job did not get a definite answer to his suffering, but Job continued to have faith in God. It is a great story and one that I led a discussion on. It is a story that I refer to when I go through difficult times, especially when I cannot understand why “this is happening to me.” Job was a rich young farmer, who according to God was blameless and upright, which some translate blameless and upright to mean “a man of integrity”. Life was going well for him. He was rich, had servants, was blessed with 10 children, and so forth. Then Satan comes along and tells God that the only reason Job is faithful is because you (talking to God) have blessed him so richly and that Job would curse you (talking to God) if everything Job had was taken away. Thus, God allowed Satan to take everything away. A long story short, Job lost his servants, oxen, camels, all 10 children, and finally, his health. His wife even told him that he should “curse God”. Three good friends of Job’s came to mourn with him, but eventually (I think it was 7 days later), all three accused him of sinning and told him that is why he was suffering. When I go through hardships, I think of this story because all my hardships up to this point have been far less than what Job experienced. If you read the story in the Book of Job, you will get much more from it then what I mentioned above. For instance, towards the end of the Book, chapter 42, God restores most of Job’s fortunes. As other’s here have hinted about, there is a balance to preparing and having faith. We need to prepare for a long, healthy life by doing things that can help us, as Jonathan pointed out (i.e., exercising regularly, avoiding certain foods, and building a nice financial nest egg). Even though doing these things helps the majority of people live a long, healthy, financially secure life, sometimes things happen (e.g., God has other plans, as was the case for Job). As a person of faith, this is when I tell myself that even though I did all these things (regular exercise, avoid certain foods, prepared financially) that lead to a long, quality, and financially secure life, things happen and if something happens, to have faith there is a purpose in the suffering even if I don’t know that purpose.
One of my favorite lines in the book is Job’s wife, with immortal word of encouragement she says “Job, do you still hold to your integrity (deny it’s all your own fault)? Curse God and die”.
That’s an option. Give up, be bitter and die. Too many go that way.
But we also get Job’s alternate take (queue Handels Messiah):
“For I know that my redeemer liveth, and that he shall stand at the latter day upon the earth:
26 And though after my skin worms destroy this body, yet in my flesh shall I see God:”
Those last eight words are a candidate for my tombstone. Ya gotta take the long view.
We have 14 years and hundreds of thousands of dollars in medical care experience using traditional Medicare and Medigap Plan G. In all those years, our out of pocket costs never exceeded the Medicare Part B deductible in a year. We have also been free to use any medical care provider we wanted.
You chose wisely.