Dealing With Risk
Written by Jim Stovall
Most of us naturally like to avoid risks when we can; however, risk is a part of life. There are some risks we should avoid completely. Others we should prepare for, and there are risks that should actually be embraced.
Risks such as trying to beat the yellow light through an intersection, smoking cigarettes, or not locking your doors should be eliminated from our lives. It costs nothing to eliminate these risks, and there is virtually no reward for accepting the risk. You can only evaluate a risk against the possible upside potential for taking the risk.
If you are a prudent investor, you are accepting a certain amount of risk. As long as the potential profit is in line with the risk you're taking, it is the mark of a quality investment. If you do not accept any investment risk, you are risking the fact that inflation throughout your working life will not erode your savings. As this is a virtual certainty, the riskiest thing you can do is to not accept a certain amount of investment risk.
Once you've eliminated all the risks from your life that do not reward you, you must look at preparing for the risks you cannot avoid. In the modern world, we generally handle this type of risk with insurance. Most people cannot afford a lengthy hospital stay, a house fire, or having their car totaled. To handle these situations, we share the risk with other people in the form of insurance.
You should never insure a risk that you can bear to take without insurance. For example, many extended warranties on appliances and electronics are simply insurance against a product failure. If you can afford to repair or replace an item, paying for warranties-in most cases-is an overpriced form of insurance. In much the same way, many people are driving a two- or three-thousand dollar car while they're trying to get out of debt or build savings. If this is you, I applaud your sacrifice and would encourage you to evaluate your insurance needs. While you're required to have liability insurance, it is probably not prudent to insure the value of your car because after you account for the deductible, and after the insurance company gives you the value remaining from your $2,000 car, you'll find that the insurance probably wasn't worth it.
I consult for and coach a number of extremely wealthy families. In many cases, these people own life insurance they should not have. I've always believed that life insurance is misnamed because it doesn't insure your life. The only valid use of life insurance is to pay off debt and replace income. If you have no debt, and your family would not suffer if your income were lost, there may be no reason to carry life insurance.
In much the same way, you may want to consider raising the deductible on your car, health, and homeowner's insurance. You may be paying an exorbitant amount of money to insure the first few hundred or few thousand dollars of a potential loss.
We must learn to avoid the risks we can, embrace the ones we should, and properly manage the rest.
As you go through your day today, remember risk is not your friend or your enemy. It's a reality of life.
Today's the day!