How to Be Ready for Your Major Life Goals

Did you know that there’s a phrase that describes your major life goals – like sending your child to college, buying a second home, launching your own business and retiring on a tropical beach?

The term is “liquidity event.” It refers to anything that might happen down the road that will require a significant outlay of funds, like the examples we gave above. Liquidity events usually represent significant moments in your life.

How do you plan for liquidity events so that you won’t come up short?

How Much Will They Cost?

It’s hard to predict how much something will cost ten years or more down the road. Many variables can affect price trends over the long term. Will we see another period of extreme inflation like the 1970s, when investment returns didn’t keep up with the cost of goods and services? How can we estimate education or medical bills, where price increases seem to surpass the inflation rate?

We don’t have a crystal ball. We can’t make long-term price predictions with any accuracy. The best thing we can do is set up a best-case, worst-case and most-likely case scenario.

A period of sustained high inflation — like the kind in the 1970s – might represent a worst-case. A period of low inflation coupled with high market returns might represent a base-case (although an unlikely one).

How do you set up these scenarios? First of all you need data sources, since most of us can’t recall inflation rates off the top of our heads. The Bureau of Labor Statistics and the Department of Commerce, to name just two, provide access to the historical data you need. Based on this data you can also make assumptions about your potential investment returns in alternative scenario outcomes (best, worst and average/median).

Remember, these are just supposed to establish reasonable boundaries, not accurately predict the future. So look at how poorly investments did in a high inflation scenario – and how well they did in more stable environments – and set your best and worst case scenarios accordingly. Your “most likely case” should fall somewhere in between.

Single Goal or Multi Goal Portfolios?

Each liquidity event has a different time horizon and amount needed. So some investors prefer to set up individual portfolios for each event – for example, “Megan’s College Fund,” or “Our Dream Vacation House Fund” and so forth.

Others prefer the simplicity of maintaining two portfolios: one for retirement, and the other for everything else. Retirement planning should be your number one goal. And because of the tax incentives that come with retirement plan vehicles like 401(k)s and IRAs, you should save for this goal separately from the others.

Once you choose between single-goal or multi-goal portfolios, you’ll move to the really important decision: how to allocate assets. The general rule of thumb is that the farther out the event occurs, the more weight you can give to equities (stocks). Since equities are generally more volatile than fixed income (bonds), you should reduce your equity exposure as your “goal date” draws near. This lowers the potential for short-term volatility spikes to leave you short.

Liquidity events are a big part of our lives. They reflect the things we hold important for ourselves and our loved ones. Make sure you’re prepared for the liquidity events waiting in your future.

What are your liquidity events? Tell us what you think.