The Necessaries of Financial Planning
It's good to understand both the necessary and the unnecessary in your retirement plan
Happy Wednesday!
Just last week I had a phone interview with an industry research firm.
One of the first questions they asked me was, “How do you describe what you do for a potential client.”
I replied, “I help women and their families get clarity on what living a great life means to them. Then I help them align their current and future financial resources to support them in living their great life while stripping away any unnecessary cost, complexity, and risk.”
Reflecting on this conversation, I realized that implicit in my response above is the idea of necessary cost, complexity, and risk.
If we can remove the unnecessary, what’s left behind must be the necessary.
So, when it comes to your retirement planning, what are some examples of these “necessaries?”
Things that are difficult - if not impossible - to avoid or eliminate…
I apologize in advance for the industry jargon, but let’s begin with an example from my finance classes back in college:
In finance and investing, “systematic risk” refers to the risk that’s inherent to the market.
If you invest in the market, whether you own a single stock or a total market index fund, you’re going to be exposed to systematic risk.
On the other hand “unsystematic risk” is associated with a specific company or individual investment.
Unsystematic risk is the unique set of risks associated with a specific investment vehicle. And this risk can be quite different from one investment to the next.
You cannot avoid or eliminate systematic risk.
However, you can all but eliminate unsystematic risk through properly diversifying your investment portfolio.
Systematic risk is a necessity . The “cost of doing business” in the investment markets.
Unsystematic risk is something we can - and absolutely should - reduce through smart, diversified portfolio management. It’s unnecessary and should be minimized as much as possible.
When it comes to taxes, no one escapes the IRS and Uncle Sam’s reach.
But you don’t need to “leave a tip” for the IRS by paying a penny more than you legally owe.
Along with investment costs, advisor fees, and other expenses, your taxes are a great example of an expense where some thoughtful planning could help you reduce your tax liability - either now or in the future.
Saving you unnecessary costs in the form of taxes.
Speaking of costs, check this out:
Above is an S&P 500 index fund. But it costs 2.36% per year.
Below, you’ll see you can invest in the exact same S&P 500 index via a different fund for 0.095% per year or almost 1/25th of the cost of the fund above:
Egregious and completely unnecessary investment costs are rampant in the financial services industry. The relatively expensive fund above is just one example of many I can easily dig up.
I also find that complexity often goes hand in hand with higher costs.
Many firms and advisors seem to believe unnecessary complexity makes them come across as smarter or more sophisticated. Yet I’ve never had a client ask me to make their finances - or their lives - more complex.
Quite the opposite…
Complexity in this context can take many forms, but in my experience it often looks like difficult-to-understand financial products, complex investment portfolios with too many - and often redundant - holdings, or complex planning strategies.
Often all together in the same financial plan and portfolio.
But I believe one of the hallmarks of good advice is simplicity.
Like Da Vinci said,
Simplicity is the ultimate sophistication.
Of course, you can avoid many expenses by simply putting all your money in a bank account. Or burying it in the back yard.
But while maybe saving some money on current expenses, you’re not avoiding all costs.
Inflation will literally destroy the purchasing power of your money over time.
And as maintaining your lifestyle gets more expensive in the future, you need to make sure your money can keep pace with or stay ahead of inflation.
While putting all your money in your bank savings account might also reduce complexity, a simple life that runs out of money isn’t so simple after all.
Other necessaries in your retirement planning include things like:
Time - financial planning takes time
Skill - financial planning takes skill
Behavior - financial planning is more about your behavior than your balance sheet
Clarity - “if you don’t know where you’re going, any road will get you there” (said the Cheshire Cat from Lewis Carroll’s Alice in Wonderland)
As I’ve written before, many of my clients don’t need to hire an advisor like myself.
While I’ll never refer to myself as a “necessity,” my clients have determined that the fees they pay me to help them with their ongoing financial planning is less expensive than the time they save.
Time they can spend with family, with friends, doing the things they most enjoy, and more.
Yet many people choose to take on the responsibility of their family financial planning themselves.
And that’s great!
As I’ve written and talked about many times before, it all boils down to trade-offs:
Some “costs” are unavoidable and if you’re unwilling to pay them now, you’ll pay them eventually.
Other “costs” - whether taxes, time, complexity, risk or something else - can and should be addressed and minimized as much as possible.
If you don’t need to take more risk or bear more cost, why would you?
Sure, there are absolutely some “necessaries” in financial planning, but they’re not problematic once you understand what they are and take steps to reduce all of the unnecessary from your finances.
What do you think?
Hit reply and share your thoughts…
Thank You!
I’m glad you’re here. And I’m grateful to have you as a reader.
If you have any questions or an idea for a future email letter, blog post, or YouTube video, I'd love your input.
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Until next Wednesday,
Russ