How much does uncertainty cost, or How valuable is confidence?

Economists disagree about how much uncertainty Washington, Europe and other factors have cost the US economy in potential, but most would agree the cost has been significant. As the Federal Reserve has all but exhausted its stimulus measures, Ben Bernanke, Simpson and Bowles, and so many others continue to plead with Washington to strike a bargain and help ignite this economy, only to be answered with mere band aid solutions.

Most anyone in business will tell you that there is tremendous untapped potential in their marketplaces. Companies have taken advantage of low rates to significantly increase the strength of their balance sheets. Their productivity is exceptionally high as they employ the latest technologies while asking more of their employees. Businesses seem ready to explode with growth, but uncertainty among their customers keeps the lid on it.

The chart below reveals that the US economy has been a full 6% below its non-inflationary potential since the recession of 2007-09 ended. Given last year’s US GDP of $15.1 trillion, the measurable cost of lost potential (6% for three years) is $2.7 trillion. Further, if 70% of our economy is consumer driven, then that $2.7 trillion increase could have translated into a 5.9% increase in consumer spending; that’s THREE times the recent annual rate of consumer spending growth. And the cash-starved government could have collected an additional $410 billion in taxes.


It’s measurably clear that economic uncertainty is expensive for our country, but what about individuals and families? Over the past four years jobs have evaporated, home prices have plummeted, and food and gas prices have surged. People have learned to live with uncertainty by cutting back, making do, and sacrificing. They’ve stopped dreaming or worse, given up on their dreams entirely.

People address uncertainty in many ways. They can also be taken advantage of by opportunists. One of the more egregious we frequently encounter is the perceived ‘safety’ of annuities. There is an army of eager insurance agents, bankers, and brokers ready to pounce on the frightened and lock them into a guarantee of 2% or 3% on their money. The army is eager because they get up to a 10% commission for their trouble. The poor client believes he has contracted for a great long-term rate, but in reality has shackled himself to a guarantee of less spending power every year for seven, ten, or even 20 years.

A month ago, Dave Loeper of Wealthcare Capital Management quantified the cost of uncertainty for those who abandon the stock market when they can no longer take its poundings. He took the case of a 64-year old with $1 million who chose to cash out of the stock market for just one year. Dave showed that after just a one year market hiatus our retiree would have to give up $1,900 annually in inflation-adjusted spending in order to maintain the same historical chances of exceeding his goal. Note, that’s not just a one-year hit, but a lifetime reduction of his income – of his lifestyle.

In the months during and after the Great Recession, we experienced uncertainty unlike any we have seen since the Great Depression. I had conversations with friends (not clients) who were worried sick and losing sleep on the one hand or defiantly resigned to working the rest of their lives on the other. But in all cases, they were more rattled than at any time I had seen during my career (27 years at that point); including the horrific crashes of 1987 and 2000.

As I recall that dark period of uncertainty and doubt, a wonderful story of phoenix-from-the-ashes leaps to mind. It was early 2010. The economy was beginning to show signs of life to those who watch for those signs, though the average guy-in-the-street certainly didn’t sense it.

On one of these days a friend approached me seeking my services. His face and body language revealed his deep anguish and frustration before he told his sad story. He had been fired after 20 years of accomplished service along with a third of the company’s workforce as it struggled to survive in a rapidly shrinking market.

Steve, we’ll call him, had sought work in his field for two full years with one painful rejection after another. The long string of no’s had clearly taken a toll as had his mounting financial and family pressures. To make ends meet he had borrowed monthly from his home equity line to cover expenses and the growing balance was reaching levels that compromised his sleep and concentration. To make matters worse, his son would be starting college in the fall.

During our first meeting I encouraged Steve to share the things he thought most important. He told me about his broker, a good and longtime friend. He told me that he had always tried to save the maximum allowable into his 401K and Roth, spending frugally to make it possible. He showed me his brokerage statements for the previous three years, 2006-2009. At first glance they revealed the typical fare of a brokerage relationship. The funds were divided among 13 THIRTEEN mutual funds, all in one popular mutual fund family.

On closer examination, the statements provided an eerie reflection, in numerical terms, of the Steve’s life the past two years. It was at once clear that his investment experience had brutally compounded the uncertainty and frustration he was living with in most every other aspect of his daily existence. His life savings had suffered a 50% decline in 2008 and remained down 30% from pre-crash levels as of our meeting.

There was no time to lose. We met again, this time with Steve’s wife Connie. By design, the meeting was considerably different than the first. My purpose was to learn all I could about their hopes and dreams for their future and for their son. This information was vital because one cannot know whether a family’s journey is in jeopardy or is abundantly achievable without knowing in detail the waypoints (goals) they wish to visit along the way.

As they both were firmly in the grip of uncertainty and in survival mode, they expressed their goals in the most conservative of terms. It proved quite challenging for them to express those same goals at levels they deemed ideal. Logic, frustration, and uncertainty had beaten down their capacity to think big. But with some time and gentle nudging, they eventually got the hang of it. We discussed the importance of each goal as it related to the others as well as their priorities for risk, giving, savings, spending, estate and others. We concluded and agreed on a date for our next meeting to review the plan I would prepare for them.

When the time came for our next meeting Steve and Connie seemed more than a little apprehensive. They began by thanking me for the time I had spent with them and the interest I had shown in their lives. It was almost as if they expected the news to be so bad that they would not be able to be as generous later.

As I put the plan in front of them I commended them for building an impressive retirement fund, for their excellent savings, and for their frugal lifestyle that made it possible. As we turned each page, I reviewed their assets, their goals, and their priorities for accuracy gaining their confirmation of each point. I reminded them that each goal had an acceptable level and an ideal level and that it was my goal to meet as many of their important goals at their ideal as possible within their tolerance for risk and our tolerance for statistical confidence. With accuracy and understanding assured, I turned the page.

Steve, Connie, I understand that you have been frustrated for two years as Steve has failed to find work in his field. I understand that your work is very important to you and that you want to continue your search. However, I am delighted to tell you nonetheless that you could stop your search immediately and retire with Connie this very day. What’s more, if you continue with your plans to downsize your home, you could reduce your portfolio risk by two thirds its current level of risk and have statistical confidence of 83% of meeting or exceeding every goal you value a its ideal level. With those words the tears flowed and months of bitter disappointment and uncertainty began to wash away.

When the astonishment of the news began to ebb and they became more collected, Steve spoke up to reiterate that he was not ready to retire and believed he had some of his best years ahead. We both encouraged his search and I assured him that our plan was dynamic and capable of adapting to the many changes they would certainly encounter in their life’s journey.

Four days later, I remember it was today, a phone call came in. It was Steve. He could barely contain himself. He said he had just gotten off the line with Connie to give her the good news. He had come from a meeting with the CEO, CFO, and Division manager of a company he really liked. On the spot, the trio had hired him, with better salary and benefits than he had expected. Steve said, “Sam, I felt so confident in that office. I think they clearly saw I didn’t need that job, but that I wanted it. Thank you so much for helping restore my confidence.”

Steve and Connie are like so many today who are under the weight of uncertainty. Unfortunately our investment industry too often responds with band aid products (high yield dividend of bond funds) at best or ‘bleeding’ products (annuities) at worst. All of them subtly, but surely and persistently drain them of lifestyle. There is so much more to life planning than products and asset managers. Without a plan and its valued waypoints, how can anyone know if they are at risk, on track, or already there? Short of winning the lottery, its the only way to replace financial uncertainty with confidence.

Have a great weekend