Level 5 Financial Blog
This is a common question and certainly varies with individual circumstances. The most common purpose for owning life insurance is to protect those that depend on one’s income. With that in mind, a potential purchaser might be able to estimate the coverage needed, but it is noteworthy that life insurance is also used for other purposes. Businesses often incorporate life insurance into buy-sell agreements between owners or to protect against the untimely death of a key person. Estate plans for wealthy households often utilize life insurance policies to provide liquidity after the death of the insured. Needless to say, knowledgeable, licensed life insurance agents can be a good source for recommendations, particularly in these special applications.
This week we’ll discuss the first risk categories mentioned in last week’s general introduction to personal risk. The risk of premature death and longevity risk are distinctly different uncertainties but both can be addressed with insurance products. We transfer (or share) some of these risks with the insurer by purchasing an insurance product specifically designed for the particular issue.
Personal financial risk is anything that exposes a person to the possibility of losing something of value. These risks can take many forms including loss of employment/income, losses on investments, theft as well as many others.
Our final personal finance bias is known as status quo bias. As the name suggests, this bias causes an investor to prefer the current state of affairs. Also known as “investment inertia”, this psychological trap can allow investing mistakes to perpetuate and losses to mount. This behavior is closely aligned with loss aversion, the bias we discussed on July 6. Our preoccupation with avoiding losses and not admitting mistakes causes us to do nothing when corrective actions may clearly be warranted.
Our next personal finance bias is a behavior that is very subtle and insidious. Familiarity bias causes investors to underestimate the risks associated with investing in the securities of an organization that is well known to them. This is very prevalent with employer stock in 401k retirement plans.