Personal Finance 

Stress Test Your Financial Fortress

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Have you ever stress tested your finances? Playing hypothetical games in which you figure out what would happen if you lost your job? Or had an unexpected repair? What if you had to weather an unexpected $500 bill? How about a $2,000 one?

It turns out that nearly half of Americans are “financially fragile.” If they needed to get $2,000 in the next month, 22.2% said they probably wouldn’t be able to do it and 27.9% said they certainly wouldn’t be able to. Only 24.9% said they would certainly be able and 25.1% said they would probably be able. That’s in a paper published by the National Bureau of Economic Research, , Annamaria Lusardi of the George Washington School of Business, Daniel J. Schneider of Princeton University and Peter Tufano of Harvard Business School after they used data from a 2009 TNS Global Economic Crisis survey.

That’s scary.

A few years ago I came up with this analogy on how to view your finances from the perspective of emergencies – you live in a financial fortress. Just as how castles had invaders, your finances also has invaders. In this case, it’s a $2,000 hypothetical invader that is “stress testing” your defenses. How far that $2,000 gets will depend on a variety of factors, such as the depth of your emergency fund.

That survey essentially said that 24.9% of Americans, the ones that said certainly able, have an emergency fund. If you have a fully funded emergency fund, you could immediately draw $2,000 out of that fund in order to pay for the emergency. If a $2,000 bill came screaming over the horizon, you wouldn’t necessarily have to scramble, freak out, or make any tough decisions on how to satisfy that need. You absorb that blow and then start building that fund back up again.

Here are a few scenarios that are worth looking at:

  • Losing your job.
  • A $500 bill due in 30 days.
  • A $2,000 bill due in 30 days.
  • A $5,000 bill due in 30 days.
  • A stock market drop of 10%.
  • A stock market drop of 20%.
  • An increase in credit card interest rate of 5%.
  • Loss of work for 1 week.
  • Loss of work for 30 days.

You can start with that list but think up a few more scenarios of potential financial disasters (from the mundane, like a $50 bill, to the less likely, like your house being destroyed) you could face and consider how you and your finances will react.

{ 6 comments, please add your thoughts now! }

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6 Responses to “Stress Test Your Financial Fortress”

  1. zapeta says:

    I wasn’t that surprised when I saw the results of their study when you think of all the people who are just living paycheck to paycheck. I think most of the readers of this blog understand the importance of an emergency fund. I’m thankful that if a $2000 expense came up I would be prepared. I remember the days before I had any emergency fund and it was scary!

  2. j j peters says:

    I must be doing something right because I can handle every example you listed and I am by no means a millionaire.
    However, I can handle only 2 of the emergencies listed before going into my 401k.
    I live on less than 30k per year. retired without a job or medical insurance but with no credit card debt plus I have an adequate emergency fund. Two fully owned rentals pay the bills and increase my savings each month.
    I have been planning for emergencies for over 25 years

  3. Shirley says:

    Reading this post made me once again thankful for all the hard learned lessons we went through to reach the place we are now.

    Our emergency fund now is undoubtedly larger than we would ever need to access within one month, but it is there and affords us a great peace of mind.

  4. Scott says:

    Losing your job. Check
    A $500 bill due in 30 days. Check
    A $2,000 bill due in 30 days. Check
    A $5,000 bill due in 30 days. Check
    A stock market drop of 10%. Check
    A stock market drop of 20%. Check
    An increase in credit card interest *Don’t use em*
    Loss of work for 1 week. Check
    Loss of work for 30 days. Check (that’s called a vacation in my book)

    If you live debt free (or almost), you really don’t have these problems. Even when we first got married, we always had a simple lifestyle & saved for the rainy day. 14 years later, we’re ready for a hurricane or earthquake. Just don’t bring on hyper-inflation and we’ll be ok.

  5. Diane says:

    I am self-employed and had a 2-year emergency fund in cash. Which I needed as I was just unemployed for almost a year and a half. It was a nice break.

  6. skylog says:

    i imagined the numbers would be bad, but i didn’t think they would be this bad. this is very sobering. so much so, it will probably scare me into saving even a little more.

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