A financial plan can take many forms. Yours may be in your mind only, a single page of high-level ideas or a comprehensive analysis in a binder. Regardless of the depth, it is important to understand that financial planning is very much an imprecise and ongoing exercise.
You can define numbers, dates and goals, and still, the ultimate outcome can be significantly influenced by variables that you have little control over. How long you will live, your investment returns and actual expenses can all be modeled but not specifically known.
Even the most intellectually honest assumptions are subject to wide variance of potential outcomes. Investment performance is perpetually uncertain, your personal financial landscape is susceptible to shifts, and humans don’t behave as a documented plan might suggest. We are irrational in many ways, particularly when it comes to money management. See Richard Thaler’s new book “Misbehaving” for all the evidence you’ll ever need.
When it’s not a financial scenario that interrupts your plan, it may be a life event that reroutes your path. The plan must be adaptable at many levels because — as heavyweight champion Mike Tyson said — “everyone has a plan ’til they get punched in the mouth.”
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You will get punched. Short-term market outcomes, unexpected expenses, health, job changes and family events will deliver jabs, uppercuts and left hooks.
So, when you know that planning will be at best prove to be inaccurate, why should you place value in a financial plan? Ideally, the plan will allow you to absorb a punch and know how to respond, or dodge a punch by identifying a risk that can be managed. Of course, some inaccurate assumptions will turn out to be largely positive for you as well.
THE PURPOSE OF THE PLAN
A financial plan provides a foundation to make decisions from. Those decisions will certainly differ if you are 40, 60 or 80, but the process of identifying your options and purposefully choosing how to proceed applies to any age or financial situation.
Effective planning can model “what if?” scenarios to evaluate risk and opportunity. It enables people to design financial circumstances to fit their lives more so than fitting their living standard to whatever their unplanned finances provide. At the most basic level, you plan so that you have a better idea of what it will take to work toward preferred choices rather than settling for whatever default options are available to you at any given point in your life.
Your financial plan should go beyond “when can I afford to retire” to address how and where you want to live, your core values and how you can reflect them in your goals and your investment preferences.
When you’ve got a thorough picture of your current situation and what you are trying to work toward in the future, you will have established targets that your savings and investments can pursue. With targets in place, you’ll have indicators of when it is necessary to correct course along the way. This could mean many things. You could revise savings rates or retirement dates, whether you should invest more conservatively or aggressively, how much to support your children or charitable causes, and a deeper list that varies from one person to the next.
ONE SIZE DOES NOT FIT ALL
The plan should be personal. Your financial situation, goals and investment preferences are unlikely to be just like your peers or family. With the insight of an experienced adviser, a financial plan could identify gaps in your thinking or assumptions. It could present new opportunities to consider. It should definitely help you understand the probability of funding your goals and the margin of safety you have to withstand circumstances that don’t work out in your favor.
Your plan may start as a view of projected asset growth and retirement income resources. Knowing these possibilities, you can then become more narrowly focused on your needs, wants and wishes, prioritizing what you want your time and money to support.
With the scope of your needs, wants and wishes established, you have crucial detail to define a prudent investment strategy. Otherwise, you’ll likely end up with a collection of investments, a series of “compelling at the time” ideas with hope as the underlying strategy. This approach may yield useful results, but it will be defined more by luck than by an investment process aligned with your goals.
Amid this, you’ll arrive at the most important element of any plan — something inspiring. It’s with inspiration that the plan gains meaning and value. Finding inspiration will help your pursuit of financial security, however you choose to define it.
Gary Brooks is a certified financial planner and the president of Brooks, Hughes & Jones, a registered investment adviser in Gig Harbor. Reach him at bhjadvisors.com.