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Typically one of the first buzzwords you encounter when you first start exploring personal finance is diversification.

There are actually two schools of thought:

1. Be well diversified and have various asset classes make up your portfolio.
2. Have all of your eggs in one basket but watch that basket like a hawk.

 

The vast majority of us choose the first option because most of us do not have the time or energy to stay atop of current events that could drastically impact a one-basket portfolio.

The premise behind having a well-diversified portfolio is sound.

The Callan Periodic Table of Investments is a great visual representation of how the “winning asset class” changes almost every year.

An asset class that may be a leader in returns for a particular year may be the worst performing class in a subsequent year.

Because none of us have a working crystal ball, the best way to capture the market returns is to be well diversified and have exposure to each asset class.

So after reading countless blogs, books and listening to multiple podcasts, you come up with a diversified portfolio that is the envy of others.

You are set, right?

Wrong.

Unfortunately a well diversified portfolio does not come with an iron-clad guarantee that you will have a reliable income stream when you need it.

Just because you have your precious eggs in multiple baskets does not mean you can not experience a catastrophic “black swan” event that topples every basket over at the same time.

Weaving My Baskets.

I am still in the accumulation phase of my financial life cycle.

As such I have constructed the following financial baskets that help keep my household financially on track:

1. W-2 Income Basket.
   • This is by far the biggest financial contributor to my household, accounting for around 85-90% of total income in normal years.
     • 2019 was an anomaly due to the proceeds from selling my medical office building which made it the overwhelming biggest contributor.
2. Real Estate Income Basket.
   • Approximately 2/3 of my investment portfolio is attributable to real estate (not including REITS).
     • This is the asset class that I have been directing all my discretionary dollars towards since May 2017 (apart from my retirement vehicles which I max out each year).
     • Primarily consists of various syndications I have invested in.
3. Stock/Bond Market Basket.
   • Subdivided into Brokerage & Retirement Baskets.
   • Vast majority is in index funds.

My personal preview of a Black Swan Basket-Shattering Event.

I was quite pleased with my progress carefully constructing a diversified, multiple basket, portfolio during my accumulation phase.

I was rewarded handsomely in 2019 as the income generated by these baskets, most notably the real estate one with the above mentioned sale of my medical building, allowed me to hit my “number” a full 4 years ahead of schedule.

Yup I was Little Red Riding hood, merrily skipping my way through the financial forest with not one, not two but 3 baskets brimming full of goodies on my way to the Early Retirement House.

And then the big bad Corona Wolf came.

The world-wide phenomenon of COVID-19 wreaked havoc on the global economy.

COVID-19 did not care that I had diversified my investments into various baskets.

Nope, COVID-19 decided to topple them over all at once.

1. W-2 Income Basket.
   • It seems paradoxical that a global health scare would financially impact someone in the healthcare profession but it certainly did.
   • My previously rock-solid income as a radiologist was jeopardized as shelter-in-place orders dried up revenue sources from “bread and butter” outpatient studies and forced me to take a 60% pay cut and even do a self-imposed furlough.
2. Real Estate Income Basket.
   • The positive cashflow I was achieving with my real estate syndications with fairly reliable quarterly distributions was also in jeopardy from the economic shut down.
   • Many renters were no longer earning income and there was a risk that rents would not be collected in a timely matter.
   • One of my syndications took the cautious approach of suspending the Q1 distribution I was set to receive in April.
     • In all fairness, after analyzing rents collected from March and April, the syndicator decided that the financial impact was not as severe as feared and decided to release the full distribution one month later, at the end of May.
3. Stock/Bond Market Basket.
   • In March it truly seemed like the sky was falling as Chicken Little took over the Dow Jones, resulting in the largest 1 day drop recorded.
   • This resulted in $600k of net worth being vaporized in a single day (which was easy to keep track of thanks to the free online tool at Personal Capital).

 

Financial Disaster Averted.

This black swan event could have been crippling for me financially if I was retired and living on a fixed income.

I was incredibly fortunate that even with a markedly reduced salary draw, I was able to settle all financial obligations without going into debt.

If I was an early retiree and truly relied on portfolio generated income I would either have to tighten my belt considerably or start selling assets, and thus locking in losses, to make up the financial gap.

As an early retiree any suspended distributions from my real estate portfolio would be financially devastating as this would have been my main source of positive cashflow.

So how do you turn a black swan into a grey one?

In times when chaos is reigning supreme the one thing that can be a beacon in the darkness is cash.

It is true that cash is king.

Even though there are some negatives, such as cash drag, when sitting on a pile of money, you will be glad you have that pile as everything else is tanking.

I was quite fortunate that I had a sizeable emergency fund during the current COVID-19 crisis that helped ease my mind.

That peace of mind was far more valuable than any potential amount I lost from cash drag.

The importance of cash/cash equivalents in retirement is the principle driving force of the popular three bucket retirement system.

Having anywhere from 2-3 years of retirement living expenses in the first bucket would certainly ease my mind and make me far more comfortable when a black swan event is no longer a practice one like this current one was for me in 2020.

 

Note:

If you are in search of financial help, please consider enlisting the service of any of the sponsors of this blog who I feel are part of the “good guys and gals of finance.”

Even a steadfast DIY’er can sometimes gain benefit from the occasional professional input.

 

 

-Xrayvsn