I define risk as, "the chance of loss". Surprisingly, this is NOT the financial community’s definition of risk (I will get to their definition in chapter ______). So by what authority do I discard the wisdom of the financial leadership of the nation ? Because they are, um nuts. Now maybe I am the one who is nuts, cuz someone certainly is, but you be the judge. If you think my definition of risk is off base, then read the chapter on their view of risk. I think you will agree, for all of their sophistication, something has gone awry.

“My” definition, aside from being staggeringly simple, is frighteningly intuitive, and it also just happens to be, drum roll please, the dictionary definition. I feel pretty good about the fact that Webster comes down on my side, cuz that means that maybe it actually is not I, but they who are nuts, but I am getting ahead of myself.

It is critical to never lose sight of the fact that there are two key items in that simple definition. First there is, "the chance" part. This is most easily represented by a percentage, as in “There is a 20% chance of losing money here”. The second part is the, "loss" part. With regards to financial matters, this is most easily represented by a dollar amount. For example, “The worst case scenario is that I lose 100 bucks”. Put them together and you have, “ I have a 20% chance of losing 100 dollars” (This is simplified, but will suffice for now). You need to know both the 20% part and the $100 part otherwise you have not fully described the risk. It is essentially meaningless to simply say I have a 10% chance of loss. Loss of what?! You must know what you stand to lose, and the odds or you know nothing. This is patently obvious, so why bother to point out? Because, even if everybody knows this at some level, they don't seem to incorporate this knowledge into their everyday conversation on the subject when it comes to investing, which is scary, dangerous and amazing to me. What I mean by this is that people will often describe something as, "risky". That it is about as meaningful as calling something a thing, it may be true but it doesn't really provide any useful knowledge. Do they mean I stand to lose a lot, or I will likely lose, or both? This is a very important distinction, but your average mutual fund or brokerage client will never have this distinction made for them. They are simply told an investment is high risk or low risk. I could understand laypeople using the term in such a loose manner but certainly the professional investor should not do so. Literally everything we do is risky, right down to the most basic life sustaining things like, um, breathing. So calling something risky is an essentially meaningless statement.

This is best illustrated by asking you which of two options is riskier. The 1st choice has a 90% chance of losing money and the 2nd has a 10% chance of losing money. Easy choice right? Not so fast. What if with the choice with a 90% chance of loss you stood to lose 10$ and the choice with only a 10% chance of loss you stood to lose your entire net worth plus all of you future earnings capacity? Now which would you say is riskier? Probably everyone would agree the 10% chance of losing everything you have or will make is riskier than the 90% chance of losing 10$. So you might say, well it is still easy, the chance of losing big is always riskier a big chance of losing a small amount, so the magnitude of loss is the key definer of risk. Again, not so fast. What if the chance of losing your life (presumably the biggest loss possible) were 1 in a megajabillion, and the chance of losing your entire net worth was 99.9%. Would you give up your entire net worth to prevent a 1 in a megajabillion (I made that number up, by the way)? Almost certainly not (it really depends on you net worth too, but lets forget about that for the time being). In other words, just as the dictionary (and I) say, it is the combination of chance and loss that defines risk. If I could wave a magic wand, it would be illegal for (continued...)

( continues...) a licensed investment professional to say, “That is a risky investment”. I am actually not being sarcastic here, I really think it is criminal. Professionals would have to say something like, “That has a high % risk and a low damage risk” or “That investment has a low likelihood of losing you money, but if it happens you will lose a lot”. In other words, you should not lump the two components together. It can be very misleading, and as a result it can, and does in my opinion, lead to very bad decision making.

Now that we have clarified the basic elements of risk, we now know that when we ask

“What is the risk of some event (a financial emergency for example)?”, this is really two questions rolled into one. The 1st question is what is the likelihood of the event occurring (the % risk), and the 2nd is what is the potential harm (the damage, or in this case, the $ risk).

By the way, we may only have to answer 1 of the 2 questions depending on what we learn from asking the 1st one. For example if we find that the maximum potential damage is 1 cent, we need not bother determining the likelihood. Similarly, if we determine the likelihood to be 1 in a megajabillionplex, we need not determine the maximum damage (another made up number by me)

For this reason I want to first explore the damage we may suffer by not keeping cash available, as it may preempt the need to even determine the likelihood of it occurring, which is a much tougher task.

Once again, the Emergency Fund supporters do not make the downside entirely clear. I have heard different things from different sources. Putting them all together, there are, apparently, four things an emergency fund does for you. 1st is that it allows you to get access to money ‘fast’ in the case of an emergency. 2nd is that it protects you from the possibility of having to sell your investment[s] at a loss by being forced to sell, due to the emergency, at an inopportune time. The 3rd, almost identical to the 2nd, it keeps you from selling off your investment portfolio [aka your future well being] if something unexpected comes up. The 4th is that it keeps you from missing out on a great investment

Lets take a look at each of these.

Regarding the idea that you need to get access to money ‘fast’ in the case of an emergency I would have thought this was a joke if it hadn’t come from so many reputable sources of financial advice. What ‘emergency’ could possibly require that you get money in less than a week? I can't think of one. I really can’t, I am not joking. Certainly not the things the advocates of an emergency fund mention. Lets run through the list. Loss of Job…no. Major repair on the house…no. Major auto repair…no. Medical emergency…no. The need to take advantage of, as the Wall St Journal puts it, the “great opportunity for new investing”,…no. So, if fast access is the reason for an emergency fund, it is not a valid reason. In our modern society you never, realistically, need to get money “fast”.

What makes the advice even worse is that even if quick access were a concern, the solution you are advised to take is to put the money in a ‘money market’ account! This is silly. So silly in fact, that if my kids are sad I tell them the story of the big bad financial planner’s money market advice and that always laugh and laugh and laugh. If you want money fast (which we just determined you will never want), you may want to avoid things like real estate (probably not –I may get to that later, depending on my mood) which can take months, but you can get your money very quickly from liquid investments. Stocks, bonds, and mutual funds all qualify. You can literally (Please note that I am not using “literally” to mean “figuratively”, as is almost always the case nowadays – this drives me nuts, as in “I literally jumped out of my skin” and other such literal impossibilities) sell a stock or mutual fund in a matter of seconds, it is hard to beat that for speed. In other words you can get access to your money very quickly, (continued...)

( continues...) more quickly than you need. In fact there are even some brokerage accts that have check writing, so the money is as available as your checking account. In short, the investment gurus, as they have done with the larger emergency fund problem, they have done with this sub-problem - they first incorrectly isolated a problem (you don’t really ever need money fast), and then have provided an illogical solution (even if you did need it fast you don’t need to put it in the lowest returning asset class). I love those guys.

So to directly answer the question of “what is the maximum potential damage” of not having a emergency fund for this item is $0.00.

Now we move to the 2nd risk, the risk that you “may have to sell at a loss”. Let me start by saying this is true, you really may have to sell investments at a loss if you don’t have an emergency fund.. However, there are a number of problems with this. First, whenever I am told something may happen, it literally makes me jump out of my skin, and drives me absolutely unequivocally nuts. Why? Because as with calling something risky, it provides essentially zero information, despite the fact that it is an unquestionably true statement. This is probably why you hear it so much from paid advisors. Because despite seeming to have given helpful information, they have avoided giving any information at all and therefore they can't be wrong. So whenever I am given such non-information disguised as information, I ask for at least some real information. For example in this instance, “When you say I may have to sell at a loss, is it 1 in a million or 50-50 chance that I “may” have to sell a loss due to a financial emergency? Furthermore, what is the potential size of the loss. Throw me a freakin bone here….literally.

I am not suggesting you need precision either. You don’t have to nail it down to “there is a 22.7% chance you will have to sell at a loss”. Such exactitude is almost always impossible. But even saying simple things like “almost always impossible” vs. “may not be possible” is a huge difference. All sorts of vague statements like “It is likely”, “It is unlikely, but possible”, “More often than not”, while not perfect due to their vagueness, they are infinitely (literally) better than the overly vague, “it may happen”. These other statements at least provide information, and therefore have a chance of being helpful, and to be more helpful in this sentence I would say they have a good chance of being helpful, literally.

So what is the case in this instance? Sure I may have to sell, but I may get abducted by tin-foil fearing aliens, so should I set up an emergency fund, and sleep in tin-foil sheets? Or should I laugh at those who do either? As I will show below, when you do the math here it is clear that the potential loss from a forced sale is far far far far far far far (I may have used “far” 3 too many times) outweighed (literally) by the essentially guaranteed loss of not investing the money. In other words, laugh at those who feel secure with a tin foil security blanket, and those who fee secure with an emergency fund security blanket. They are both deluding themselves. But I digress I will address the % chances later. This part is about the max potential damages.

The question here is how damaging is it to sell at a loss. Well, you might be saying “duh” right back at me here. Isn’t the damage of the loss equal to the loss? If I invested 100 and lost 25 haven’t I been damaged to the tune of 25? This is another in the long line of specious reasoning that helps to perpetuate misinformitude (I made that word up). It sounds so obvious why would any question it, I mean I can see that the ground is flat ergo…duh. Well the damage is not necessarily equal to the loss. Why? Because there is a huge assumption that is being made. Everyone is assuming that selling at a loss is bad. This is a huge assumption. Think about it for a second. If you made a bad investment and you are forced to sell at a loss, only to have the investment become worthless after you sold it, you have benefited by having to endure the “misfortune” of having to sell at a loss! In other words, the pundits are right when they say you may lose out by having to sell at a loss, but the leave out the fact that you may benefit by having to sell at a loss. To continue with my example above, you invest 100, sell at 75 for a loss of 25 then the stock goes to 0. You are 75 richer by losing 25 in the short term. No damage despite a loss of 25.

But if I left it at that, saying you may benefit from such a sale, I would be as guilty as them for making a true statement that was meaningless. So lets think about it a bit (continued...)

( continues...) more. We may lose or we may benefit, so what are the chances you made a bad investment and are being saved? Impossible to say, but I would venture a guess that if an investment was down significantly there is a reasonably good likelihood (I would guess greater than 50%) that the investment was bad one to begin with, and selling it now is saving you money. So if you had to sell at a small loss, that is obviously not a big problem (small loss = small problem), and if you had to sell at a big loss you are likely benefiting. In other words, you don’t really care about this, it is at worst a small problem and on average a fair chance that it is a benefit. Hmm.. once again, the % side of risk has snuck in darn it all. How did that happen? I don't know, but what we have learned from it is that the damage does not necessarily equal the loss. The damage is entirely dependant upon what the investment does after you have to sell it, as shown in the example in the preceding paragraph. Therefore I will put off answering the question directly, until I walk through a more detailed example below.

Regarding the 3rd problem it is essentially identical to the 2nd but implies that you are having to sell anything - whether losers or winners. I just addressed the idea of selling losers, and will not repeat that. Regarding keeping some money in cash cuz you don’t want to sell a winner, well I hope the absurdity of that is obvious, but I will make the case for its absurdity. “Gee I would hate to put all this money into a good investment and then have to sell some of it at a profit in order to pay my big emergency expense. It would really suck to not be able to get all of the appreciation, just part of it”. Get it? The potential damage is $0.00.

Finally regarding the 4th issue. This is the “keeping some powder dry” argument. If you are unfamiliar, I will get into this moronic thinking in more detail later as it is related to a number of issues, but for now suffice it to say, it is essentially impossible to miss out on a “great opportunity for new investing” by not having cash available. In fact, if forgoing a great investment cuz you don’t have cash laying around is something you would do, you have much more serious money management problems than an emergency fund can solve. The reason that you can't miss out on a great investment is that if it is great you simply sell something that isn’t great and buy the great one. Duh. The potential damage is $0.00. Keeping cash un-invested to keep you from “missing” a great investment is nonsensical. Anyone making a blanket recommending like that to clients is should not be allowed to practice financial advisory.

In summary, for 3 of the 4 supposed risks are not real. There is no downside to not having an Emergency Fund. The only issue we must address is the risk (% and $) of selling at a loss vs. the cost of insuring against that.

The one remaining item is the risk of selling at a loss that hurts you. Lets look at this a bit more closely than saying “you may have to sell at a loss”, and implying/assuming that is a bad thing. As I have said above, knowing you “may have to sell at a loss” is worthless information, despite being true. We need to know how likely, and how damaging. As we look at this, remember three things must all occur in a sort of “perfect storm” in order for you to experience this loss that the emergency fund is purporting to protect you from. You must 1) experience an emergency 2) this must happen when your investments are down, and 3) these must be good investments despite having lost a presumably significant amount of money. As you will see, if I ever get to the part that outlines the % risk, the chances of this are very slim. As I am about to show, the loss you would incur is small, no matter what the emergency. Remember that if you experience an emergency and you investments are up, you have benefited by not having an emergency fund.

But lets assume the worst case scenario happens. Assume you have to sell at a loss that is (continued...)

( continues...) hurting rather than helping you avoid greater loss. Lets assume a big emergency. In fact lets assume 2 big emergencies happen at the same time, and lets assume that each of these emergencies is so big that the each would entirely drain your emergency fund (NOTE TO ME: Remember that I have to show that if an emergency is too big the emergency fund dn help either, in other words the size of the emergency has to be just right). Furthermore, lets assume that it happens at the worst possible time – the day after you decide to forgo an emergency fund and invest that money. Even worse in that 1 day all of your investments have lost 20% of their value. On that day, that you lose you job and are out of work for four months, your car’s engine seizes making it worthless. Ouch a quadruple whammy, 2 catastrophes, both at the worst time possible and both as big as you can handle. You need a new car (lets forget for the moment that buying a new car in this situation is a very bad financial decision – a topic I will explore later), and you need four months of living expenses. The new car costs 20k and the living expenses come to 20k. The 20k you put into the mkt instead of in your emergency fund is now only worth 16k. So you sell all of that plus 24k more that you have invested, and you buy your new car and all the stuff you need to live for the next 4 months. The next day the market turns around and continues straight up for the rest of your working life (40 more years) averaging 10% per year tax deferred. At the end of the year you lost out on 10% appreciation on the 4k you had to take out of your investment portfolio. Your total loss for the year is 400dollars. But that is specious. You lost that appreciation for ever (I am assuming you are 25 yrs old and have saved 40k). 10% compounded for 40 years is 177k. 260,000. This also assumes that you do nothing to replace the 4k in your folio, which is the real cost. In other words you would cut back on your expenditures to the tune of 4k over say the next four years (1k per year). If you do that, the cost to you is 4k compounded for 4 years, which we can expect to be in the area of 1,600 dollars. If you tighten the belt a bit more and can replace the 4k in 1 year, you are out 400 bucks on avg (but you may even be ahead of the game if the market was down in that time period). In other words, with a very small amount of effort, your maximum damage is essentially zero (I know some people will say that 400 dollars is not zero, but it certainly is not typically a risk that one must insure against. Also remember that this is the absolute ridiculously worst case scenario! In fact it is an unrealistically catastrophic situation (note I know one could paint a more grim scenario, but the true “worst case” scenario is always utter destitution for the rest of you life. So we must use the most realistic worst case scenario). The vast majority of the time even if 2 huge emergencies befall at the worst possible time, you will lose less than 400 dollars.

David, I'm not sure what your friend is getting at about relative ease of access. I have more credit card credit than I could ever pay off if I actually used it. If I used it all, I would have a hard time paying the interest payments. However, I could take some of the money that I'm not paying to someone else in interest payments and save it, so for me, savings is easier and less risky than credit.

On top of this, like many, I'm not the greatest at tracking my finances. I have, upon occasion, made late payments, lost track of how much I have in my checking and savings accounts, and made various other errors of the like. If I make errors with credit card debt, I get dinged with huge fees and rising interest rates. If I make mistakes with my own money, I may not get the interest I should get, but I won't get dinged right and left.

I fully accept that I'm not financially astute, but combining what I know of finances with what I know of human nature, credit seems risky to me. I do think that house credit is different, because it allows you to build equity. Alas, with houses costing what they do here and with the relatively low wages of my chosen profession, I don't see that happening any time soon.

And Trudes, hie thee to a recruiter!

ION, Jack Chick comic on the evils of homosexuality: [link]

Catholic costumes for children: [link]

I'm down with having 7,500 in savings and having it available in credit too. Especially if the $7,500 in savings is making little babies. Because that would make it unnecessary for $7,500 in debt to make its own bigger babies.

I'm watching a bunch of Mission: Impossibles. Apart from stoking the Nimoy love, it's made me wonder: how is the premise best pitched? I find it doesn't really generate any tension for me. This may be because of a certain snobbishness I retain towards late 60s TV. I do find the plots pretty hard to follow, since I'm used to a more audience-friendly setup of the protagonist's plans. Perhaps I should get over the afore-mentioned snobbishness.

What fruits other than apple have lots of water and lots of fibre?