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The Color of Money|Michelle Singletary

You may not be able to control Wall Street events, but you can diversify now

September 21, 2008
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If your stock portfolio has been hit hard because you were too heavily invested in the financial sector, sob. If you acquired more debt than you can handle, holler. Go ahead and get it out of your system. Then learn from all this mess. What we are seeing was badly needed and inevitable. And really, where did it all start?

It began when just about everybody and their mama - banks, brokerages, and individuals - forgot one basic principle of money management: diversify.

"Investing is often thought of separately from the other components of one's financial life, such as a mortgage, insurance, credit cards, but they all should be looked at as a whole," said Don Blandin, chief executive of the Investor Protection Trust, a nonprofit investor education organization. "If one part is not working, it can hurt your entire financial situation."

Blandin said financial companies, such as Lehman Brothers, are failing because of too much debt and insufficient cash. "Many Americans are in similar positions," he added.

AIG, the insurance giant, is in federal hands now because it couldn't sell assets fast enough or borrow - from private sources - to raise cash to pay its debts.

When you diversify, all you're really doing is hedging against a future unknown. It's like if you break your leg and have to use crutches. You have to distribute your weight to keep from falling or putting too much pressure on one side of your body. The same is true with your money. You have to be strategic about accumulating cash, debt, and assets. If the distribution of any one of those areas is off, you can fall. Here's how you hedge against financial risk in the future:

  • Maintain a cash reserve. How much cash you should have depends on your situation. For instance, if you're a highly compensated individual and you might lose your job, you might save six months or more of living expenses.

  • Make sure you have enough insurance. Insurance hedges your bet against an expense you can't possibly save for in the short term, such as a disability.

  • Buy appreciating assets. You want assets such as property that have the potential to grow over time.

  • Diversify your assets. You can find some basic information about asset allocation at the Securities and Exchange Commission's site at www.sec.gov/ investor/pubs/assetallocation.htm.

  • Don't borrow to invest. If you do, you better have the cash to cover that bet if the investment tanks or have enough money to make the loan payments.

  • Borrow strategically. If you have to take on debt, keep it to a minimum. Think about how much of your net income is going toward debt payments.

    I'm a worrier, so I understand if you're in a panic from the fall of Wall Street firms. But as my husband tells me, worrying over things you can't change is a waste. The best you can do to get through this is not worry but diversify.

    Michelle Singletary is a columnist for The Washington Post. She can be reached at singletarym@washpost.com.

  • SOURCE: Bloomberg News

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