The National Endowment for Financial Education (NEFE) found in a recent survey that 88% of Americans say the Covid-19 crisis is causing stress on their personal finances. It may be tempting to put your head in the sand and ignore your personal finances during this stressful time. While managing your finances during this crisis can be one of the biggest challenges of your lifetime, it can also help you develop the key skills for financial success in both the short and long-term.
Resilience is a prime example of an important skill in the current climate—the ability to withstand life events that impact your income and assets is crucial in reaching financial success. No one’s financial life is perfect, but success comes with the ability to navigate both the ups and downs of your personal finances.
Even in the current crisis, there are opportunities to make your financial life stronger and more resilient. The key is to make sure that you are looking at your entire financial picture. You want to mitigate potential risks that you have in your asset base as well as maximize opportunities.
Here is a step-by-step process to help your finances perform well during a crisis.
A key element during a crisis is liquidity, which is defined as the ease to which an asset can be converted to cash. Cash provides security in uncertain times and the right amount in your reserve can be a great advantage. In the present crisis, NEFE found that 41% of Americans feel that not having enough in a cash reserve is causing financial stress.
In financial planning, the rule of thumb is to have at least six to nine months’ worth of living expenses in a cash reserve. For many, this is a long-term goal. When you go into a crisis, a top priority is to review your cash holdings and identify what you can do to increase them to a level which provides you comfort. Think of this as your ‘sleep at night’ money. You should keep it in an FDIC insured account at the bank.
For those who do not have a sufficient cash reserve, the best course of action is to look at your overall budget, since budgets are something that we can actually control.
Most budgets have both fixed and variable expenses. Fixed expenses will include areas like your mortgage or rent, insurance, and car payment. These items are much easier to budget for as they are typically the same every month. On the other hand, variable expenses can fluctuate based on your current lifestyle choices. These expenses can include dining at restaurants and buying clothes.
In a crisis, you should be aware of what bills are fixed and must be paid versus those that are variable and non-essential. In reviewing your budget, try reducing (or eliminating) costs for things that are not necessary for survival. This will allow additional cash to accrue, enabling you to add to your cash reserve as well as to your savings account.
Establishing a cash reserve is only half the battle. You also need to be strategic in how you use your cash and debt management is often a good choice.
First, consider whether using part of your cash reserve to pay down debt would alleviate your financial stress. For many, the answer is yes. A recent Bankrate study found that households with increased emergency savings were more than three times as likely to have paid down debt.
In building your budget, list and prioritize debt by the balance due date and interest rate. Whenever possible, consider paying down (or paying off entirely) the most expensive debt, to provide financial relief.
It is interesting to note that the Chinese character for crisis is a combination of ‘danger’ and ‘opportunity’. So, you can think of this moment as a chance to take advantage of potential opportunities in the market.
Retirement plans are a normal part of most financial lives. In crisis, it is often difficult to know what to do with your retirement plan, especially as you watch your accounts drop in value. Remember, though, that despite market turmoil, you want to make sure that you continue to stick to your overall investment strategy. Times of volatility are not an appropriate time to make any major investment changes. In fact, holding steady and taking no action may be the best decision.
During a period of volatility there can be opportunities in the market, especially for those who have a cash reserve and low levels of debt. If you have excess cash, you may want to continue investing in the markets by increasing your retirement plan contribution. If you do not have a retirement plan, you could take this as an opportunity to open an IRA or Roth IRA, depending on your income level.
As you invest, keep in mind that it is better to dollar cost average over time to take advantage of the volatility (i.e., invest incremental amounts weekly or monthly rather than a lump sum all at once). Over the long term, these investments will likely pay off and provide you with greater return.
Ultimately, times of financial challenges can teach us the right steps to achieve financial resiliency and it is important to embrace these moments. By building a cash reserve, working on your budget, and paying down debt, you create a situation where you can make choices to take advantage of market opportunities. Making these decisions now will help you learn critical financial skills for a post-Covid-19 world.
Another key piece of your financial foundation is life insurance. If something were to happen to you—would your loved ones be prepared to weather your loss from a financial perspective? If the answer is no or you’re unsure, life insurance may be worth considering. It can provide much needed peace of mind in these uncertain times knowing those around you would be financially covered in the event of your death. You can take the first step by getting an instant, personalized quote here.